Qiyang Ltd and Others v. Mei Li New Energy Ltd and Others

HCA 420/2011

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO 420 OF 2011

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REASONS FOR DECISION

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Background

1.This is the hearing of the summons of the 3^rd Plaintiff (“Listco”) seeking to challenge the authority of Messrs CL Chow & Macksion Chan (“CLCMC”) to represent the 1^st Defendant (“Mei Li”) in this action (the “Authority Summons”).

2.The 1^st Plaintiff (“Listco”) is a company listed on the Stock Exchange of Hong Kong. 

3.The 1^st Defendant (“Mei Li”) is a company incorporated in the British Virgin Islands (“BVI”).  The 2^nd Defendant (“Chung”) was its only shareholder and sole director.

4.In January 2010, Listco and the other two plaintiffs in this action acquired certain assets from Chung, Mei Li and other vendors.  Then dispute arose in respect of that sale and purchase.  The plaintiffs commenced the present action against Mei Li, Chung and the other vendors.  On 28 September 2011, shortly after the defendants had filed their defence and counterclaim, Chung transferred his only share in Mei Li to Rare Earth Battery International Holdings Co Ltd (“Rare Earth”) for US$1, but retained his sole directorship in Mei Li.

5.The other vendors also commenced action against Chung in HCA 1283/2011 and obtained judgment against him in excess of HK$210 million.  On 20 June 2012, they presented a petition for Chung’s bankruptcy in HCB 4005/2012.  A bankruptcy order was issued against Chung on 27 February 2013.  On 28 March 2013, Beryl Yu and Sammy Choi of Messrs TK Choi & Co (the “Trustees”) were appointed joint and several trustees of the property of Chung.

6.As the bankruptcy proceedings were progressing, Chung caused Mei Li to commence a fresh action against Listco under HCA 1071/2012, the subject matter of which was identical to its counterclaim in the present action.  On 9 July 2012, Mei Li applied for summary judgment.  That application was dismissed by Deputy High Court Judge Le Pichon and the action was struck out on the ground of abuse of process of the court.  Then, on 7 August 2012, Mei Li took out a summons seeking summary judgment on its counterclaim against Listco, pursuant to Order 14 of the Rules of the High Court.  That application was heard before me on 7 February 2013.

7.On 27 February 2013, i.e. the date of issue of the bankruptcy order, Chung resigned as the sole director of Mei Li.  His niece, Huang, on behalf of Rare Earth as the sole shareholder of Mei Li, passed a resolution in writing appointing herself as the sole director of Mei Li.

8.Six days later, i.e. on 5 March 2013, I handed down my decision (the “Decision”) dismissing Mei Li’s application for summary judgment on its counterclaim. 

9.On 19 March 2013, Messrs DS Cheung & Co (“DSC”) issued a summons on behalf of Mei Li applying for leave to appeal my Decision dismissing its application for summary judgment (the “Leave to Appeal Summons”). 

10.On 9 April 2013, after ascertaining from the Official Receiver that she was unaware of the filing of the Leave to Appeal Summons and had not instructed DSC to issue the same, Listco’s former solicitors, Messrs Sidley Austin (“SA”) questioned DSC’s authority in issuing the Leave to Appeal Summons or in continuing to act for Mei Li.  DSC did not respond.

11.On 16 April 2013, CLCMC, who is Chung’s solicitors in the proceedings following his bankruptcy, filed a notice of change of solicitors for Mei Li and the 3^rd to 7^th Defendants in place of DSC.

12.On 7 May 2013, Listco issued the Authority Summons applying to set aside the Leave to Appeal Summons and notice of change of solicitors filed by CLCMC on the ground of DSC’s & CLCMC’s want of authority. 

13.In an affirmation dated 9 May 2013, Huang produced a resolution purportedly passed on 8 May 2013 ratifying the action taken by DSC in issuing the Leave to Appeal Summons and in instructing CLCMC to proceed with that application for and on behalf of Mei Li.

14.The hearing of these two summonses was then deferred, principally to enable the Trustees to make known their views, in particular, whether they would proceed with Mei Li’s intended appeal.  In the meantime, Chung left the jurisdiction to reside in the People’s Republic of China and the United States where he continued his business.

15.Three years having lapsed, these summonses are now restored for hearing.  The Trustees’ position is that neither DSC nor CLCMC has authority to act on behalf of Mei Li.  They are in support of the Authority Summons; but are unable to form a position as regards the Leave to Appeal Summons due to lack of sufficient information and co-operation from Chung and CLCMC.  The Trustees ask for an adjournment of the hearing of the Leave to Appeal Summons.  I refused that application and proceeded to hear the Authority Summons.  At the conclusion of the hearing, I allowed the application which resulted in the automatic setting aside of the Leave to Appeal Summons.  Hereunder are the reasons for my decision.

The parties’ case and issues

16.Counsel have no dispute that where a solicitor’s authority to act for a party is in question, the burden of proof rests on the solicitor asserting that authority to prove that he has been duly authorised: see Shanghai Land Holdings Limited (In Receivership) v Chau Ching Ngai[1] and Shing Hai Doing v Shing Ho Yung[2]. 

17.The factual and legal basis of the case advanced by Mei Li of CLCMC’s authority is as follows:

(1)  Chung had transferred the only issued share in Mei Li to Rare Earth on 28 September 2011, making Rare Earth the sole shareholder in Mei Li;

(2)  on 27 February 2013, the date the bankruptcy order was made, Chung resigned as the sole director of Mei Li; and Huang as the representative of Rare Earth signed a written member’s resolution appointing herself as the sole director of Mei Li with effect from the same date;

(3)  on 15 April 2013, Huang as the sole director of Mei Li signed a written board resolution, appointing CLCMC as solicitors for Mei Li in this action;

(4)  on 8 May 2013, Huang as the sole director of Mei Li signed another board written resolution, ratifying DSC’s action in issuing the Leave to Appeal Summons and resolving that CLCMC be instructed to proceed with the application; and

(5)  while admitting Chung’s beneficial ownership in Mei Li, Mei Li argues that Chung’s beneficial ownership is irrelevant because of two principles of company law.

18.Simply put, Mei Li’s case is that according to its register of members and register of directors, Rare Earth is the sole shareholder of Mei Li entitled to vote for Huang’s appointment as Mei Li’s director, and Huang was duly appointed as the sole director of Mei Li in place of Chung upon Chung’s bankruptcy.  Thus, Huang has power to ratify the action taken by DSC and to authorise CLCMC to act in the Leave to Appeal Summons.

19.Listco disputes the facts set out in paragraph 17(1) to (4) above and the authenticity of the documents relied on by Mei Li as proof of the same.  Listco argues that Chung remains as the sole registered member of Mei Li and his interest in the share in Mei Li is vested in the Trustees upon his bankruptcy by virtue of sections 12 and 58 of the Bankruptcy Ordinance. Thus Mei Li cannot act unless with the consent and direction of the Trustees and the Trustees have not consented to Mei Li taking out the Leave to Appeal Summons or retaining CLCMC.  In the alternative, Listco argues that if Chung had transferred his share in Mei Li to Rare Earth, Rare Earth holds the share in Mei Li beneficially for Chung.  Rare Earth’s interest in Mei Li comes within the meaning of “property” as defined in section 2 of the Bankruptcy Ordinance which have become vested in the Trustees by operation of sections 12 and 58 of the Bankruptcy Ordinance.  It was Chung who caused the appointment of Huang as the sole director of Mei Li and the board resolution passed by her to retain DSC and CLCMC.  As these resolutions were passed without the consent of the Trustees, they are invalidated by sections 12 and 58.

20.The Trustees support Listco’s application in the Authority Summons.  In addition, the Trustees argue that section 43(5) extends the definition of “property” to include the power exercisable by the bankrupt to require Huang to cause CLCMC to cease to act for Mei Li.  As Huang ignored the Trustees’ direction to cause CLCMC to cease acting for Mei Li, she was in breach of duty owed to the Trustees. The Trustees seek to invoke the court’s inherent jurisdiction to debar CLCMC from continuing to act for Mei Li.

21.Mei Li accepts that Chung was the indirect beneficial owner of the share in Mei Li.  It does not dispute the well established principle that a registered shareholder who is not also the beneficial owner of the share must vote at the instruction of the beneficial owner or the trustee in bankruptcy in the event of his bankruptcy.  There is also no argument that sections 12 and 58 do not have the effect of vesting a bankrupt’s equitable interest in shares in the trustee in bankruptcy.  Mei Li’s case is run solely on the basis that by reason of two well established company law principles Chung’s beneficial ownership of Mei Li is irrelevant or that sections 12 and 58 are rendered inapplicable to equitable interest in shares held by the bankrupt.  The first of the two company law principles relied on by Mei Li is that a company does not take notice of the beneficial interest behind the share register.  The second principle is that the management powers of a company are vested in the board of directors and where there is an effective board, the shareholders cannot in general meeting usurp the powers of the board. 

22.The issues raised by the Authority Summons are:

(1)  whether Chung had transferred his share in Mei Li to Rare Earth;

(2)  if yes, whether Rare Earth and Mei Li are beneficially owned by Chung;

(3)  if yes, whether Huang and Mei Li had knowledge of Chung’s bankruptcy and beneficial interest in Rare Earth and Mei Li;

(4)  whether the two company law principles has the effect of rendering sections 12 and 58 of the Bankruptcy Ordinance inapplicable to the interest, legal or equitable, in shares held by the bankrupt; and

(5)  whether the court has inherent jurisdiction to debar solicitors from acting for their client and, if it has, whether that jurisdiction should be exercised in the present case.

The transfer of the share in Mei Li to Rare Earth

23.Listco disputes the transfer of Chung’s share in Mei Li to Rare Earth on 28 September 2011. Its argument is rested on the Disclosure of Interest Form filed by Chung with the Stock Exchange of Hong Kong dated 13 April 2012.  In his then capacity as a substantial shareholder of Listco, Chung declared in relation to a relevant event that Mei Li was 100% owned and controlled by him.  However, as pointed out by Mr Dawes, counsel for Mei Li, the date of the relevant event was 24 August 2011, which preceded the date of the alleged transfer by almost eight months.  Though the form was filed well after the alleged transfer, Chung’s declaration must relate to the status quo as at the date of the relevant event.  I am therefore unable to draw any inference that the transfer of the share in Mei Li did not taken place on 28 September 2011 as alleged by Mei Li.

24.Ms Wong, counsel for Listco, then argues that had there been an arms-length transfer of the Mei Li share that passed the legal and beneficial ownership of the share to Rare Earth on 28 September 2011, disclosure should have been made by Rare Earth or Huang.  From the very poor quality of the photocopy of the form produced by Listco, it cannot be ascertained what was the relevant event.  Presumably it was a transfer of some of Chung’s shares in Listco rather than his ownership of Mei Li.  Even if change of ownership in Mei Li was a disclosable event, the change took place after the relevant date. Ms Wong’s argument might be advanced had Listco produced a later form showing that Chung still claimed to be the 100% beneficial owner of Mei Li.  But Listco had not.

25.Ms Wong argues in the alternative that had there been a transfer on 28 September 2011 that passed his interest in Mei Li to another company controlled by Chung just legal but not beneficial ownership of Mei Li, Chung would have had to disclose in the form the intervention of Rare Earth.  This is because all levels of intermediaries between the registered shareholder of the listed shares and the ultimate beneficial owner are required to be disclosed.  The argument also fails for the same reasons given above.

26.Ms Wong disputes the authenticity of the register of members and register of directors of Mei Li.  She refers to the difference between the copies of these registers produced by Che on behalf of Listco and that produced by Huang on behalf of Mei Li.  The copy of the register of members produced by Che was updated to 18 August 2008 showing Chung as the sole member.  The one produced by Huang was updated to 28 September 2011 showing the transfer of the share to Rare Earth on that date.  The register of directors produced by Che was updated to 31 March 2006 showing Chung as the sole director.  The one produced by Huang was updated to 27 February 2013 showing her appointment in place of Chung on that date.  They are different not just in content, but also in form, layout and format, suggesting that they are altogether different documents and not that one is a later updated version of the other.  There is a serious question as to authenticity of these registers.  Which ones are genuine?  The ones produced by Huang were certified by Mei Li’s registered agent.  Ms Wong reminds me that that agent is Chung’s accountant who is of suspicious character and had been examined by the Trustees in Chung’s bankruptcy proceedings.  On the other hand, Che did not disclose in his affirmation the source of the ones he produced.  If only I had credible evidence of the authenticity of Che’s documents, it would have been very easy to dismiss the ones produced by Huang as forgeries.  On the state of the evidence, all the differences between these copies could only lead to an unresolved mystery.

27.Mr Dawes objects to argument about the authenticity of the copies produced by Huang at this late stage on the ground that the dispute has not been properly raised.  Three years lapsed without this issue having been raised at all and Mei Li is deprived of the chance of producing any further evidence or explanation on this issue.  I agree with Mr Dawes that the challenge as to authenticity at this stage is too late and unacceptable.  I have to accept the copies produced by Huang which were certified by Mei Li’s register agent as authentic. 

28.In the circumstances, I find there was a transfer of Chung’s share in Mei Li to Rare Earth on 28 September 2011.

Whether Rare Earth and Mei Li are beneficially owned by Chung

29.Mei Li accepts that Chung is the indirect beneficial owner of the share in Mei Li.  But Listco argues that Rare Earth is also beneficially owned or controlled by Chung. This is an important springing board in Listco’s and the Trustees’ argument in the Authority Summons.  Mei Li’s stance as regards Chung’s beneficial interest in Rare Earth is not entirely clear.  Before dealing with this issue, I shall first examine Chung’s habitual use of corporate nominees or his niece, Huang, as trustee for the purpose of holding his property.  The evidence is incontrovertible and not disputed.  It would set the background for considering Listco’s argument.

30.Chung was the legal owner of the one share in Mei Li until 28 September 2011 when he transferred it to Rare Earth for US$1.  On the same day, Chung acquired all the issued shares in Great China Supreme Asset Management Co Ltd (“Great China”), another BVI company, and appointed himself as its sole director.  He then transferred to Great China all the shares in Winston Global Energy Ltd (“Winston Global”), another BVI company also solely owned by him holding a luxurious residential property in Tai Po which was used as his residence.  On 27 February 2012, Chung caused Huang to be appointed as the sole director of Winston Global in his place.  On 11 April 2012, he transferred all his shares in Great China to Huang who executed a declaration of trust and power of attorney in his favour in respect of the shares in Great China which was since registered in her name.  Huang declared that she held those shares in trust for Chung absolutely and undertook to exercise her voting powers and other rights in such manner as Chung should from time to time direct and to irrevocably appoint Chung as her attorney in all respects to sign any documents which might in Chung’s opinion be necessary or desirable and which as holder of such shares Huang had power to sign.

31.The above transfers took place shortly before 20 June 2012 when a bankruptcy petition was presented against Chung in respect of the judgment debt under HCA 1283/2011.  From the above circumstances, it would not be difficult to draw as the only reasonable inference that the above transfers were steps taken by Chung to insulate his substantial assets, including Mei Li, from the effect of a bankruptcy order which may be made against him, while retaining the beneficial interest in those assets and controlling them through Huang.

32.What precisely is the relationship between Chung and Rare Earth is unknown, but Huang’s and Chung’s one share in Mei Li provided the nexus.  First, a transfer of the only share in such a substantial company as Mei Li for US$1 could not have passed and did not pass the beneficial ownership in that share.  Rare Earth could only have been holding that one share in Mei Li on trust for Chung. Indeed, it is admitted by Mr Dawes that Chung is the beneficial owner of the share in Mei Li, though the basis of that admission remains unclear.  The evidence of Chung’s beneficial interest in Mei Li is overwhelming.  On 18 December 2012, Chung signed a Proposal for a Voluntary Arrangement in which he put the 100% shareholding in Mei Li with an asset value of HK$760 million as one of his assets.  In that proposal, Huang’s name was put under the “Trustee/Investment holding Co” column and Rare Earth’s name appeared under the “Asset Holding Company” column.  This suggests that Chung has control over Rare Earth through Huang.  Absent any explanation for this control and Chung’s beneficial shareholding of Mei Li through Rare Earth, there must be some special relationship between Chung and Rare Earth, including possibly that Rare Earth is also beneficially owned and controlled by Chung.  Who, but its beneficial owner, would have trusted Rare Earth for HK$760 million?  Second, viewing these facts together against Chung’s habitual use of corporate nominees, his use of Huang as his trustee to hold his very valuable assets and the terms of that trusteeship, his admitted beneficial ownership of Mei Li, and the fact that Huang had authority to act for Rare Earth, at least to the extent of representing Rare Earth in the company meeting of Mei Li, the only irresistible inference is that Rare Earth is also beneficially owned by Chung under similar arrangement as Great China and Winston Global are held by Huang beneficially for him. 

33.In conclusion, I find that Rare Earth and Mei Li are beneficially owned and controlled by Chung.  On 28 September 2011, he transferred his one share in Mei Li to Rare Earth at nominal value and retained its beneficial interest.  He then caused Rare Earth to bring about the appointment of Huang as the sole director of Mei Li to retain his de facto control over Mei Li.  The sum total of these transfers is that Chung put two layers of intermediaries (Rare Earth and Huang) between him and his assets to insulate his assets from his imminent bankruptcy but maintains control over them through Huang.  Rare Earth and Mei Li must be taken to have knowledge of Chung’s bankruptcy and his beneficial interest in the two companies through this common ownership and control.

34.With the above finding of fact, the parties’ dispute boils down to a question of law, which is whether the two company law principles relied on by Mr Dawes have the effect of rendering sections 12 and 58 of the Bankruptcy Ordinance inapplicable to interest in shares, legal or equitable, held by a bankrupt.  In addition, there is the separate question raised by the Trustees about the court’s inherent jurisdiction to debar solicitors from acting.

The first company law principle: the company does not take notice of beneficial interest in its shares

35.The argument of Listco and the Trustees is that by the operation of sections 12 and 58 of the Bankruptcy Ordinance, Chung’s beneficial interest in Rare Earth and Mei Li became vested in the Trustees; and Rare Earth and Huang may not exercise the power exercisable by Mei Li’s shareholder without the Trustees’ consent.  Ms Wong refers to the word “property” which is defined in section 2 of the Bankruptcy Ordinance in an all embracing manner to include “money, goods, things in action, land and every description of property, whether real or personal and whether situate in Hong Kong or elsewhere, also obligations, easements and every description of estate, interest and profit, present or future, vested or contingent, arising out of or incident to property as above defined.”  Apart from this already very comprehensive definition, references in the Bankruptcy Ordinance to property in relation to a bankrupt is extended by section 43(4) to include “references to any power exercisable by him over or in respect of property …; and a power exercisable over or in respect of property is deemed to vest in the person entitled to exercise it at the time of the transaction or event by virtue of which it is exercisable by that person (whether or not it becomes so exercisable at that time)”.  This definition is wide enough to catch the bankrupt’s equitable interest in shares of a company and the power exercisable by him as beneficial owner of shares held by his nominee shareholder.  This power includes, in the instant case, the power to direct Rare Earth how to vote at the meetings of Mei Li, to appoint or remove its director and to direct Mei Li to cause CLCMC to act or to cease to act for Mei Li.  By the operation of sections 12 and 58, on the making a bankruptcy order, all properties and powers of the bankrupt become vested in the Official Receiver, or the provisional trustee and then the trustee in bankruptcy as appropriate.  Indeed, it is trite principle that the legal owner of share shall vote as directed by the beneficial owner; and a bankrupt may only vote in respect of his shares as directed by his trustee in bankruptcy.  Accordingly, Ms Wong submits that Chung may not exercise his power of directing Rare Earth to procure the appointment of Huang as the sole director of Mei Li and to procure Huang to retain and authorise DSC and, later, CLCMC to proceed with the Leave to Appeal Summons without first obtaining the consent or direction of the Trustees.

36.Mr Dawes has no dispute about these trite legal principles, but argues that Listco’s and the Trustees’ arguments are ill-founded as being contrary to two fundamental principles of company law. The first one is that it is only the registered owner of the shares who has authority to attend and vote in meetings, and that the beneficial ownership of the shares is irrelevant.  He relies on two authorities: Re Universal Horizon Investment Ltd[3] and Morgan v Gray[4].  I shall first refer to Morgan v Gray as the principles referred to in that case are not in dispute and it would be more convenient to introduce those principles first. 

37.Mr Dawes relies on the following dicta in Morgan v Gray[5]:

“The position is very different where the company is still in operation and the bankrupt remains the registered proprietor on the company’s register of the shares which he formerly owned beneficially as well as legally. It seems to me that, unless there is some provision in the company’s articles or in the Companies Act which empowers me to say that the bankrupt is no longer a member of the company, and is, therefore, unable to vote, expressly, I must come to the conclusion that the bankrupt still remains a member as long as he is on the register; notwithstanding that by taking appropriate steps under the appropriate provisions the trustee in bankruptcy may be able to secure registration of himself as the proprietor of the shares. Unless and until that is done, and as long as the bankrupt remains on the register of the company, he remains a member in respect of those shares and is entitled, as it seems to me, to exercise the votes which are attributable to that status, notwithstanding that he has no longer any beneficial interest in the shares and that the company is entitled to pay any dividends to his trustee in bankruptcy.”

On the basis of the above dicta, Mr Dawes argues that only the registered shareholder has authority to vote or to act in respect of affairs of the company and the trustees in bankruptcy as beneficial owners of its shares had no say whatsoever unless they take steps to constitute themselves the registered shareholder. He therefore argues that the validity of a bankrupt’s vote depends on company law principles and his bankruptcy is irrelevant. As Rare Earth had duly passed a resolution appointing Huang as Mei Li’s sole director and in that capacity Huang had duly passed two board resolutions giving DSC and CLCMC authority so to act, CLCMC had authority to act for Mei Li.  He further submits that the position must be a fortiori when the bankrupt, as in the present case, is only a beneficial owner of the shares.

38.With respect, Mr Dawes is quoting the above dicta selectively and out of context.  In Morgan v Gray, the bankrupt shareholder was authorized by his trustee in bankruptcy to vote, but the defendant rejected his vote.  The factual circumstance in that case is the reverse of the one in the present case.  It was under that factual circumstance that Danckwerts J said that a bankrupt who was the legal and beneficial owner of shares in a company is still entitled to vote as long as his name remains on the share register.  Danckwerts J did not go that far as say that a bankrupt shareholder has an unqualified right to vote without having first secured the consent or direction of his trustee in bankruptcy.  There is no doubt that the right to vote is a membership right exercisable only by members of the company.  But it is interesting to note the following observations of Danckwerts J in the second paragraph of the judgment preceding the passage quoted by Mr Dawes[6]:

“It is curious that apparently it has never been decided whether, in spite of bankruptcy, a member of a company who remains a registered proprietor of shares on the company’s register can continue to vote. It is no doubt the case that, if he can vote, he must exercise those votes in accordance with the direction of the persons beneficially entitled to the shares, which in the present case would, of course, be his trustee in bankruptcy, because the beneficial interest in his shares at any rate would have vested in the trustee in bankruptcy.”

First, it is trite principle that the registered shareholder, if he is not also the beneficial owner of the shares, must vote in accordance with the direction of the persons beneficially entitled to the shares.  If he is a bankrupt, he must vote in accordance with the direction of his trustee in bankruptcy.  Second, the observation of Danckwerts J reflects the universal acceptance by companies and company law practitioners of this trite principle as applied in the case of bankruptcy, that is, a bankrupt shareholder may not vote unless as directed by his trustee in bankruptcy.  Thus, a member’s right to vote is one thing which is governed by company law principle, his authority to vote or the validity of his vote in the event of his bankruptcy is another governed by general trust principle and bankruptcy law. 

39.With those principles in the background I now turn to Re Universal Horizon Investment Ltd quoted by Mr Dawes as authority for the proposition that a company does not take notice of the interests behind the share register.  In that case, the plaintiff company (UHHL) which was the majority shareholder of its subsidiary company (UHIL) requested a general meeting to pass a resolution to remove the defendant as a director of the subsidiary (UHIL).  The dispute in that case was between the majority and minority shareholders which did not involve the exercise of the power to vote by a nominee or bankrupt shareholder.  A side issue which arose was whether the majority shareholding of the plaintiff company (UHHL) was held on trust for beneficiaries other than the defendant.  It was in that context that Rogers JA held, obiter, that a company does not take notice of the interests behind the share register.  He said:

“ I would, however, mention that the beneficial ownership of the 9,000 sharesis not a matter which seemingly, on the face of it, concerns Mr Shi, Mr Mao or Mr Yip [the defendants]. If there were other parties who had any beneficial interest in those shares or any interest, direct or indirect, through a family trust, it would seem that they were the members of the late Mr Tong’s family and not the directors. In any event, it seems to me that as far as company law is concerned, the company and therefore the courts do not look behind the shareholding of a company to see who are beneficially interested in the shares. Under s 102 of the Companies Ordinance Cap 32, the register of members is prima facie evidence of any matters which are inserted therein. Since, as had been shown in the exhibit, UHHL is registered as the shareholder of the 9,000 shares in UHIL, this court should proceed upon the basis that UHHL is the shareholder and, on the basis that Madam You is entitled to give instructions on behalf of Holdings, the matter should proceed accordingly.”

(Emphasis by Mr Dawes underlined.)

Mr Dawes relies on the underlined dictum as authority for his proposition that the bankruptcy provisions are rendered inapplicable by the company law principle.

40.That principle is derived from section 102 of the repealed Companies Ordinance (i.e. section 634 of the current Companies Ordinance which is equivalent to section 117 of the Companies Act 1948).  Our former section 101 prohibited notice of any trust, expressed, implied or constructive from being entered on the register of members.  The former section 102 provided that the register is proof of any matters that were by the Ordinance directed or authorized to be inserted in it.  Thus, the combined effect of the former sections 101 and 102 was to preclude a company from entering notice of trusts or equitable interests in shares in its register of members and to take notice of such interest.  The purpose of these sections and the principle derived from them is to protect a company from liability towards owners of equitable interests in its shares and to protect third parties dealing with the company on the basis of the particulars entered in the register: see Societe Generale de Paris v Walker[7].  This is a well established company law principle which makes a lot of practical sense.  If a listed company has to verify whether its registered members’ shares are held on trust for other beneficial owners, it would be impossible for the company to conduct its proceedings. Thus, the company only need to satisfy itself that only persons whose names are in the register of members may vote, without having to look behind their shareholdings to see who are beneficially interested in their shares.  Consequently, a company is not liable to the beneficial owners of its shares for registering improper dispositions of shares by the registered shareholder, or for paying over dividends to the registered shareholder, or for not verifying whether an authorised return of capital is properly applied by the registered shareholder in satisfying equitable claims of the beneficial owner. The classic case is Simpson v Molson’s Bank[8] in which the House of Lords held that the company which knew that the registered members were the executors of the will of a deceased member and had a copy of the will, was not liable to the beneficiaries to whom the shares had been bequeathed for registering a transfer of the shares by the executors to another person.  However, this principle only protects the company in its dealings with its members and third parties in their dealing with the company on the strength of resolutions which appear to have been properly passed by its members.  All the examples I quoted are to that effect.  

41.As this principle is developed to protect the company and third parties dealing with the company, it must necessarily follow that the company cannot abuse this principle to protect itself from its own wrongful acts or fraud.  If a company actively participates in a breach of trust by a trustee of its shares, it will be liable to the beneficiaries in the same way as any other person.  Likewise, it must also follow that a third party cannot invoke this protection if it has knowledge of or participates in the wrongful acts or fraud of the company. 

42.By the operation of sections 12 and 58, the bankrupt’s property is vested in the trustee in bankruptcy. While retaining his legal title in the share, the bankrupt member becomes a trustee of the share and of the power to vote for his trustee in bankruptcy.  He may not vote unless at the direction or with the consent of his trustee in bankruptcy.  If a bankrupt shareholder votes without the consent of his trustee in bankruptcy, he commits a fraud or breach of trust against the trustee in bankruptcy and his vote shall be invalid.  If to the knowledge of the company, a shareholder has been adjudged bankrupt, the company may not take his vote into account, unless the shareholder has been authorised by his trustee in bankruptcy to vote and votes as directed. If, with knowledge of the bankruptcy, the company takes such an unauthorized vote into account or gives effect to such an unauthorized resolution, it participates in the bankrupt’s breach of trust or fraud against the trustee in bankruptcy.  It cannot rely on the protection afforded by the company law principle.  The vote or resolution passed is invalid and liable to be set aside.  The company principle does not give authority to the member if the company has knowledge of his lack of authority to vote.  Thus, the law is not as simple as Mr Dawes puts it that the company law principle entitles the bankrupt to vote regardless whether he had the consent of his trustee in bankruptcy.  The right to vote is one thing, the validity of the vote as exercised by the person entitled to vote is another.  With respect, Mr Dawes is trying to sweep that distinction under the carpet of company law principles when quoting Re Universal Horizon Investment Ltd.

43.Having regard to the authorities, I consider the principle that a company does not take notice of beneficial interest in its shares only protects the company in the proper conduct of its proceedings, including those in relation to voting and passing of resolutions.  The company need not look behind the register.  It is entitled to take into account the vote by a person whose name has been entered in the register of members.  On the other hand, the legislature has enacted a set of detailed rules under the Bankruptcy Ordinance applicable specifically to a bankrupt’s property for the protection of unsecured creditors of the bankrupt.  Sections 12 and 58 vest the bankrupt’s property, including his equitable interest in shares and the powers attached to such interest, in the trustee in bankruptcy.  The principle that a bankrupt shareholder may only vote as directed by his trustee in bankruptcy is thus developed.  If a bankrupt shareholder votes without the consent of his trustee in bankruptcy, he commits a fraud against his trustee in bankruptcy.  His vote is invalid and resolution passed on the basis of that vote is also invalid.  The company law principle does not automatically validate the vote by a bankrupt shareholder who has not been authorized by his trustee in bankruptcy to vote.  If the company has knowledge of the bankrupt shareholder’s lack of authority to vote and gives effect to that vote, it participates in the bankrupt’s fraud against the trustee in bankruptcy.  It may not rely on the protection given by the company law principle.  The vote is invalid.  Properly understood, that company law principle and sections 12 and 58 of the Bankruptcy Ordinance have different scopes of operation.  The company law principle and the bankruptcy provisions blend in nicely as a coherent body of rules.  How the company law principle and the bankruptcy provisions interact with one another depends on whether the company has knowledge of the shareholder’s bankruptcy.  There is no question of the company law principle rendering the bankruptcy provisions inapplicable to interest in shares held by the bankrupt or the bankruptcy provision excluding the company law principle.  

Application of the law to the facts of the present case

44.It is admitted that Rare Earth holds the one share in Mei Li as trustee for Chung.  On 27 February 2013, two events occurred. The bankruptcy order was made against Chung which has the effect of vesting Chung’s property, including his beneficial ownership of that one share in Mei Li, in the Official Receiver.  The other event is that Mei Li passed a resolution appointing Huang as its sole director.  That resolution was procured by Rare Earth as the sole shareholder of Mei Li.  If the bankruptcy order was passed before the resolution, then Rare Earth was required to seek authority from the Official Receiver before it may procure the passing of the resolution.  If the resolution was passed before the issue of the bankruptcy order, the question about authority from the Official Receiver does not arise. The question is which of these events came first.  Under Order 42 rule 3 of the Rules of the High Court, an order of the court takes effect from the day of its date.  Vesting of Chung’s beneficial interest in the share in Mei Li took effect on that day.  As the burden of proving authority rests on the solicitor whose authority to act is challenged, CLCMC or Mei Li, for that matter, bears the burden of proving that the resolution was passed before the bankruptcy order was made.  But there is a total lack of evidence, whether from CLCMC or Mei Li.  On the other hand, Chung chose not to resign from his sole directorship in Mei Li until the date when the bankruptcy order was made.  This strongly suggests that it was upon the making of the bankruptcy order that Chung resigned and saw the need for appointing Huang in his place.  By reason of sections 12 and 58, the power to control Mei Li including the power to appoint its sole director was vested in the Official Receiver.  There is no dispute that the consent of the Official Receiver had not been obtained before Rare Earth passed the resolution.

45.Whether Mei Li may rely on the company law principle depends on whether it has knowledge of Rare Earth’s lack of authority to vote, in other words, whether it has knowledge of Chung’s bankruptcy.  As discussed above, by reason of Chung’s common beneficial ownership and control over Rare Earth and Mei Li, these companies must have knowledge of Chung’s bankruptcy and the surrounding circumstances and cannot rely on the protection given by the company law principle.

46.While the finding of Rare Earth’s and Mei Li’s knowledge of Chung’s bankruptcy is sufficient, the facts of this case are so damaging to Mei Li that they cry out for a finding of fraud.  As already observed above, as the litigation in this action progressed, Chung started to insulate Mei Li from his personal liability by divesting his legal ownership in the one share in Mei Li to Rare Earth, but keeping his sole directorship so as to maintain de facto control over this asset rich company.  On the date of the making of the bankruptcy order against him, he resigned from his position as the sole director of Mei Li and caused Rare Earth to pass a resolution in its capacity as the sole shareholder of Mei Li to appoint Huang as the sole director of Mei Li.  It is also my finding that Huang is Chung’s nominee, trustee and puppet.  Thus it is manifestly clear that what Chung did was to put up a façade that he had neither legal nor equitable interest in Mei Li so as to take Mei Li out of his estate in order to defraud his creditors.  By reason of common beneficial ownership and control of Rare Earth and Mei Li, all these facts were known to Rare Earth and Mei Li.  By giving effect to the resolutions, these companies are parties to the fraud. They cannot rely on the company law principles to protect them from their own fraud.  The resolution appointing Huang as Mei Li’s sole director is invalid and so are the two resolutions to ratify DSC’s Leave to Appeal Summons and to authorize CLCMC to continue to act for Mei Li.

The second company law principle: shareholders may not usurp the management power of the company

47.The second company law principle relied on by Mr Dawes is that the management powers of a company, including the power to commence legal proceedings are vested in the board of directors.  Where there is an effective board, the shareholders cannot in general meeting usurp the powers of the board.  He quotes Miracle Chance Ltd v Ho Yuk Wah David[9] and Chan Shu Chun v Right Margin Ltd[10].  This is a trite principle.  Mr Dawes relies on the board resolution signed by Huang on 15 April 2013 as evidence of the properly constituted board.  But in my view, it is inapplicable here.  There is no question of the Trustees trying to usurp the powers of the board.  The question is whether Huang had authority to exercise the powers of board on behalf of Chung in view of his bankruptcy.  In those two authorities quoted by Mr Dawes, there were effective boards.  Whether the resolutions are valid depends on whether Huang was validly appointed as a director of Mei Li.  For reasons as already explained above, Mei Li’s resolution purportedly passed by Rare Earth appointing Huang as director is invalid.  Thus, the two board resolutions purportedly passed by Huang to adopt DSC’s actions in taking out the Leave to Appeal Summons and to appoint CLCMC to continue with the application are also invalid.

The court’s inherent jurisdiction in regulating the conduct of lawyers appearing before it

48.The Trustees support Listco’s application in the Authority Summons.  Mr Chong, counsel for the Trustees, adopts the argument of Listco.  In addition, he invites the court to exercise its inherent jurisdiction to control its own processes including regulating the conduct of lawyers who appear before it and to exercise that jurisdiction to debar CLCMC from acting for Mei Li.  Mr Chong’s argument is premised on the extended meaning of “property in relation to a bankrupt” under section 43(4) of the Bankruptcy Ordinance and Mei Li’s or Huang’s breach of trust in relation to the property of the bankrupt.

49.Mr Chong reminds the court of its inherent jurisdiction to control its own processes.  He refers to the judgment of the High Court of New Zealand in H v S[11]in which the courtextended that jurisdiction to regulating the conduct of lawyers who appear before it.  The facts in H v S are not relevant.  In the exercise of that jurisdiction, the court removed counsel who was also a witness in that action from acting for one of the parties. Asher J said:

“(21) The High Court has an inherent jurisdiction to control its own processes, except as limited by statute, and that jurisdiction extends to regulating the conduct of lawyers who appear before it. As was stated by Richardson J in Black v Taylor as part of that jurisdiction the Court is able to determine which persons should be permitted to appear before it as advocates.⁴ He observed:⁵

‘In determining what categories of person may appear [the Court] does so in accordance with established usage and with what is required in the public interests for the efficient and effective administration of justice.’

(22) Within that jurisdiction the Court has the power to debar counsel or solicitors from acting where that is necessary for justice to be done or to be seen to be done. This includes the power to direct a lawyer not to appear, when the fair and efficient operation of the Court process could be impeded because of the knowledge of past or present actions of that lawyer.⁶ In exercising that jurisdiction the Court must preserve confidence in the sound function and fairness of the Court process. Disputes must be resolved by the Courts in a plainly fair, open and even-handed way.

(23) That jurisdiction is not to be exercised lightly. A litigant should not be deprived of his or her choice of counsel without good cause. The right of a litigant to choose counsel is a basic right which the Court will only exercise in a clear case, where it is satisfied that the actual or apparent fairness of the Court process requires it.

____________________________

⁴ Black v Taylor [1993] 3 NZLR 403 (CA)

⁵  Black v Taylor, above n 4, at 408, citing Halsbury’s Laws of England (4th ed, reissue, 1998) vol 3(1) Barristers at [396]

⁶  Black v Taylor, above n 4, at 409; Accent Management Ltd v Commissioner of Inland Revenue [2013] NZCA 155; [2013] 3 NZLR 374 at [31]; Beggs v Attorney-General [2006] 2 NZLR 129 (HC) at [20]”

50.I am in agreement with H v S and the authorities cited therein. I am also of the opinion that the court must have inherent jurisdiction to control its own processes and regulate the conduct of lawyers who appear before it.  But it appears to me that this inherent jurisdiction is only exercisable against lawyers who are duly authorised to appear before the court and whose conduct in the matter is called into question.  This jurisdiction is to be exercised sparingly and not lightly or casually whenever it is convenient.  If a lawyer is duly authorised to appear before the court, all the considerations mentioned in the above quoted paragraphs become relevant; and in an appropriate case, the court may exercise that inherent jurisdiction. If a lawyer is not authorised to appear due to want of authority, then the proper course to take is to remove him on that ground on the basis of established legal principles of substantive law rather than to rely on the exercise by the court of this inherent jurisdiction. 

51.In this case, my primary finding is that CLCMC has no authority to act.  This is therefore not a proper case to exercise that inherent jurisdiction.  This does not mean CLCMC’s conduct was unreproachable.

Conclusion

52.For the above reasons, I find that Mei Li’s resolution dated 27 February 2013 passed by Rare Earth appointing Huang as Mei Li’s sole director is invalid.  As such, the board resolutions passed by Huang ratifying the issue of the Leave to Appeal Summons by DSC and appointing CLCMC to act for Mei Li in the intended appeal are also invalid.  Accordingly, the 3^rd Plaintiff’s Authority Summons is allowed; 1^st Defendant’s Leave to Appeal Summons and the Notice of Change of Solicitors filed by CLCMC are set aside.

53.There is no reason why the usual rule of costs to follow the event should not apply.  Applying the usual rule, the 1^st Defendant should pay the costs of the 3^rd Plaintiff and the Trustees.  However, as I have found, the 1^st Defendant was hijacked into this litigation by Chung through Rare Earth and Huang; and the only share in the 1^st Defendant is vested in the Trustees.  Thus, a costs order against the 1^st Defendant would effectively be a costs order against the estate of the bankrupt.  If the bankrupt’s estate is insufficient to meet all the debts of the bankrupt, the creditors will suffer prejudice.  On the other hand, CLCMC is on the face responsible for the costs incurred.  The 3^rd Plaintiff and the Trustees have asked for a wasted costs order. 

54.However, there is no reason why as between the 3^rd Plaintiff and the 1^st Defendant, the usual rule should not apply.  Accordingly, I make a costs order as between the 3^rd Plaintiff and the 1^st Defendant that the 1^st Defendant shall pay the costs of the Authority Summons and Leave to Appeal Summons and the costs of the hearing including the costs of the hearing on 13 May 2013 with certificate for two counsel and all costs reserved.  For cases involving want of authority, it is also the usual rule that such costs should be taxed on indemnity basis.  Hence, such costs shall be taxed on indemnity basis.  The costs of the Trustees shall be reserved until after hearing the application of wasted costs against CLCMC.

Ms Lisa Wong SC and Ms Elizabeth Cheung, instructed by Li & Partners, for the 3^rd Plaintiff

Mr Victor Dawes SC and Mr Keith Lam, instructed by CL Chow & Macksion Chan, for the 1^st Defendant

Mr Patrick Chong and Ms Emily Yu, instructed by Howell & Co, for the joint and several trustees in bankruptcy of the estate of Chung Winston (the 2^nd Defendant)