Wealthy Catering Holdings Ltd v. Superior Luck Ltd and Another
Read the full judgment text of DCCJ 5075/2015 on BabelCite. This District Court judgment was delivered on 20 September 2018.
1. This is the trial of a contractual dispute arising out of the operation of a mahjong club called “Joy Luck Club”, and “玉龍軒” in Chinese, located at the Ground Floor of The Commercial Block, Wing Fai Centre, Nos 2-10 Luen Chit Street, Fanling, New Territories. The ground floor unit was over 8,000 square feet large. It had about 30 rooms in which members of the club would play mahjong. There was also a restaurant within the unit.
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DCCJ 5075 & 5628/2015 (Consolidated) [2018] HKDC 1011 IN THE DISTRICT COURT OF THE HONG KONG SPECIAL ADMINISTRATIVE REGION CIVIL ACTION NO 5075 & 5628 OF 2015 (Actions consolidated by Order dated 9 August 2016) -------------------------
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--------------------- JUDGMENT ---------------------- INTRODUCTION 1.This is the trial of a contractual dispute arising out of the operation of a mahjong club called “Joy Luck Club”, and “玉龍軒” in Chinese, located at the Ground Floor of The Commercial Block, Wing Fai Centre, Nos 2-10 Luen Chit Street, Fanling, New Territories. The ground floor unit was over 8,000 square feet large. It had about 30 rooms in which members of the club would play mahjong. There was also a restaurant within the unit. 2.The club was operated by Superior Luck Limited from October 2011 to September 2015 under a lease of the unit and a franchise granted to it by Wealthy Catering Holdings Limited. Wealthy Catering itself was granted a lease of the unit and the franchise to operate the club by Appreciate Limited for the same period. 3.The club had been in operation before that period. In other words, when Superior Luck took over the club in October 2011, the club was already up and running. In addition to the usual business registration, it was a pre-requisite for the club to have in place a proper licence in the form of a certificate of compliance as prescribed under the Clubs (Safety of Premises) Ordinance, Cap 376. The government department which oversees this is the Office of the Licensing Authority under the Home Affairs Department. The club licence was issued to Appreciate and was to be renewed annually. 4.The lease and franchise contract between Superior Luck and Wealthy Catering is one of the two contracts which form the subject-matter of the present actions. I shall refer to it as “the sub-franchise contract” below. The lease and franchise contract between Wealthy Catering and Appreciate will in turn be called “the head franchise contract”. 5.Superior Luck is owned by Wealthy Catering as to 30% and Real Stand Limited as to 70%. Superior Luck was the joint venture vehicle formed by the two shareholders to operate the mahjong club. The relationship governing the rights and obligations of the two shareholders is the other contract which has given rise to the present actions. I shall refer to it as “the co-operation contract” below. 6.The contractual term under the sub-franchise contract expired on 30 September 2015. Shortly before the expiry, a series of discussion had taken place between Wealthy Catering, Superior Luck and Real Stand, on some occasions involving Appreciate as well. The content of the discussion is hotly disputed. That was followed by disagreement, then exchange of letters between the parties’ solicitors and, finally, the issue of writs in these actions later that year. 7.The disputes concerned various matters, including, most controversially, the renewal of the club licence and the reinstatement of the unit upon the expiry of the franchise. The upshot was that the mahjong club ceased to operate on about 19 September and on 26 September, Superior Luck delivered the unit directly back to Appreciate. 8.At the trial there are extensive disputes, both on facts and on law, between Wealthy Catering on the one hand and Superior Luck and Real Stand on the other. 9.First, how the sub-franchise contract and the co-operation contract were formed.
10.Second, the construction of the contracts. It is worth pointing out at the outset that the documents were apparently “home-made” and not drafted by lawyers. On the face of them, there are inconsistencies. Typical in this type of situation, there is therefore considerable room for disagreement on how the terms should be interpreted. As a separate point, this “home-made” factor clearly forms part of the factual background against which the factual disputes are to be resolved. 11.And, third, the circumstances in which the sub-franchise of the mahjong club ended. The rival parties are accusing the other of being in breach of the contracts. 12.In sum, this is a case where parties disagree on, first, what terms were included in the contracts; second, according to their respective versions of the contractual terms, how they should be interpreted; and, third, on their respective interpretations, whether there were breaches. 13.In November 2015, Wealthy Catering issued a writ against Superior Luck under the action numbered DCCJ 5075/2015. The claim is for breach of the sub-franchise contract, namely default in rent for the month of September 2015 in the sum of $200,000, default in paying electricity charges for the same month in the sum of $29,659 and failure to reinstate the unit to a “bare-shell” state upon its return. In respect of the last item, Wealthy Catering seeks damages of $686,283. That comprises the costs of the reinstatement and the rent and management fees payable by Wealthy Catering to Appreciate for occupying the unit from 1 to 19 October 2015, ie after the contractual term, for the purpose of carrying out the reinstatement works. After giving credit to the two deposits in the sum of $100,000 and $500,000 held by Wealthy Catering under the sub-franchise contract, the total claim amount is $315,942. 14.In December 2015, Superior Luck filed a defence and counterclaim. In gist, it denies that it was liable to pay the rent and the electricity charges or that it was under any duty to reinstate the unit as alleged. In its counterclaim, it says that it was a term of the sub-franchise contract that Wealthy Catering should handle the renewal of the club licence but that it failed to procure an effective licence since no later than 18 September 2015. Wealthy Catering thus committed a repudiatory breach, which breach was accepted by Superior Luck on 30 September 2015. In the circumstances, Superior Luck counterclaims the return of three deposits held by Wealthy Catering. Apart from the deposits of $100,000 and $500,000, Superior Luck also claims that a deposit of $152,000 paid to Appreciate in about 2013 and 2014 should be paid back by Wealthy Catering under the sub-franchise contract. The total counterclaim amount therefore comes to $752,000. At the closing stage, it was accepted by Superior Luck that the rent for September 2015 was in fact due and owing. The amount of the counterclaim is accordingly revised downwards to $552,000. 15.Within a few days after Superior Luck filed its defence and counterclaim, Real Stand issued a writ against Wealthy Catering under the action numbered DCCJ 5628/2015. The claim is for breach of the co-operation contract. It similarly seeks the return of the three deposits in the aggregate amount of $752,000, which is the subject-matter of Superior Luck’s counterclaim. In other words, Superior Luck and Real Stand are both claiming the return of the same deposits from Wealthy Catering. Real Stand’s statement of claim in the second action is substantially the same as Superior Luck’s defence and counterclaim in the first action. 16.There are therefore three main issues. I shall refer to them as the reinstatement issue, the licensing issue and the deposit issue below. 17.By order made by the registrar on 9 August 2016, the two actions were consolidated. Wealthy Catering was made the plaintiff in the consolidated action and Superior Luck the 1st defendant and Real Stand the 2nd defendant, by counterclaim. 18.At trial, Wealthy Catering was represented by Mr Adrian But, counsel, and Superior Luck and Real Stand by Mr Michael Chai, counsel. At the pleading stage, Wealthy Catering raised the issue of whether the solicitors acting for Superior Luck had the standing and authority to defend the claim on the latter’s behalf in the first action, because Wealthy Catering, as its director, had never so approved. However, the issue has not since been pursued. 19.Mr Chai stated in opening that in respect of the two competing counterclaims in relation to the return of the three deposits, the defendants’ primary position is that they should be returned to Real Stand. Alternatively, as a fallback, they should be returned to Superior Luck. 20.Three witnesses were called to testify at trial. Mr Man Tim Fat (“Man”), a director and shareholder of Wealthy Catering, gave evidence on its behalf. Mr Ho Shek Wing and Mr Ho Kin Wah, who are both directors and shareholders of Real Stand, gave evidence on behalf of the defendants. The Hos are cousins. For easier distinction, I shall call them by their first names below. 21.It would be convenient to also introduce at the outset the rest of the dramatis personae who feature in one way or another in the parties’ cases at the time when the two contracts were ongoing. 22.In respect of Appreciate, Mr Lau Ying Wo (“Lau”) was the chairman of its board of directors and also a shareholder. Mr Leung Kui Tang (“Leung”), Man’s brother-in-law, was another director and shareholder. Mr Chui Chi Man (“Chui”) was a representative of Appreciate although he did not appear to hold any formal title. In his oral testimony (but not in his written statement), Man confirmed that he was a shareholder of Appreciate but he could not recall whether he was also a director. However, he confirmed that he would handle various matters for Appreciate, as requested by the latter from time to time, although he did not hold any formal work title there. 23.In respect of Wealthy Catering, apart from Man, Leung was also a director and shareholder. 24.What immediately stands out is that Appreciate and Wealthy Catering were clearly related in some way. There was some overlapping of directors and shareholders between them. However, the exact relationship between the two companies were not revealed or explored by either side in these proceedings. Nevertheless, as an objective fact, Man had a role to play in each of these two companies. This would form part of the factual backdrop against which the case is to be assessed. THE CASE OF WEALTHY CATERING 25.Wealthy Catering’s case is as follows. 26.The background is to be traced back to a lease dated 1 August 2005 in respect of the unit made between Eastern Group Trading Limited (“Eastern Group”) as lessor and Appreciate as lessee (“the head lease”). It was for a term of 50 months commencing on 1 August 2005 and expiring on 30 September 2009 at a monthly rent of $120,000. 27.The unit was used by Appreciate for the operation of the mahjong club. 28.A number of provisions in the head lease are relevant. 29.First, the term of the lease.
30.Second, the user of the unit. Under clause 2(l) and Part V of the First Schedule, the unit was permitted to be used for the running of a club house under the name of “Joy Luck Club” or other names as Appreciate should notify for commercial purpose only. 31.Third, alteration or addition to the unit.
32.I should pause here to note that based on the materials before the court, it appears that Eastern Group and Appreciate were dealing with each other at arm’s length. 33.Pursuant to clause 2(p)(iii) of the head lease, Eastern Group gave consent to Appreciate to make alterations to the unit. But that was subject to the condition that upon termination of the head lease, the unit should be restored to the original state as it was delivered by Eastern Group to Appreciate at the commencement of the head lease, ie in a “bare-shell” state by the removal of all installations, additions and alterations until full exposure of the internal concrete surfaces of all walls, ceilings, pillars and/or floorings of the unit (“見石屎”). 34.As the owner and operator of the club, Appreciate was responsible for applying for, and renewing annually, the club licence. In respect of each renewal application, Appreciate would deal with the licensing authority on all compliance matters. That would include handling regular inspections by, eg, the Fire Services Department. 35.In about July 2011, due to restructuring of business, Appreciate decided to franchise out the club business as a going concern to Wealthy Catering. As agreed between the two parties:-
36.Man acting on behalf of Wealthy Catering invited Shek Wing and Kin Wah to invest in and jointly operate the club due to the busy business engagements of the directors of Wealthy Catering. Man had known the Hos for some years. 37.In cross-examination, Man gave more background about how the Hos became involved. Initially they expressed interest in running a mahjong club in mainland China. Man then came up with the idea that there was an existing club in Hong Kong in which the Hos might be interested. Man therefore approached Lau (the chairman of Appreciate), through Leung (Man’s brother-in-law), about this business idea. Lau expressed reservation about doing business with a partner whom he did not know. He therefore suggested that Appreciate grant a franchise to Wealthy Catering and the latter in turn grant a sub-franchise to the new partner. Lau further suggested that Wealthy Catering should retain a 30% stake in the club business. The sub-franchise terms should largely follow the head franchise terms. 38.It is common ground that Man and the Hos entered into negotiations and reached some oral agreement with respect to the operation of the mahjong club some time in 2011. Wealthy Catering’s case is that the negotiations took place in around June and July. 39.After negotiations, Man and the Hos orally agreed:-
40.It should also be added that in the negotiation process, Man expressly made known to Kin Wah the reinstatement condition imposed by Eastern Group on Appreciate. 41.Pursuant to the oral agreement, Real Stand was set up as the Hos’ company and Superior Luck as the new operating company. (It should be added that apart from the Hos, Real Stand had other directors and shareholders.) That was followed by the signing of three documents, which terms substantially reflected the oral agreement. 42.First, Appreciate and Wealthy Catering signed a head franchise document. Second, Wealthy Catering and Superior Luck signed the sub-franchise document. Third, Wealthy Catering and Real Stand signed the co-operation document. 43.The head franchise document and the sub-franchise document were effectively back-to-back documents having the effect of passing the franchise from Appreciate to Superior Luck, with Wealthy Catering standing in between. This was in line with the business idea proposed by Lau. The amount of the monthly rent and the amount of the rental deposit in the two documents are different. But, apart from that, the content and wording of the two documents is identical, save for two provisions which are not presently material. The former was undated. The latter document was dated 1 September 2011. 44.I reproduce the sub-franchise document in its entirety below save for the execution clause:-
45.The material clauses are:-
46.Clause 6(b) of the sub-franchise document referred to terms set out in an appendix. However, no such appendix followed the document. The omission was not followed up on or explored by either side at the trial. 47.I reproduce below the co-operation document in its entirety save for the execution clause:-
48.The document was dated 1 October 2011 on its face. The parties are referred to as the “Lessor” and the “Lessee”. 49.The material clauses are:-
50.It can be seen that these documents are “home-made” documents and the drafting style has led to some real difficulties in its interpretation. The meanings of some of the words used cannot be gleaned on the face of the documents. For instance, what are profit-making tools? Some of the wording is imprecise, eg, clause 1 of the co-operation document which refers to the grant of the right “to Real Stand incorporating Superior Luck to operate together” the club. Does that mean the two companies were to operate the club together or just Superior Luck? Another example is the reference in the co-operation document to Wealthy Catering as the lessor and Real Stand as the lessee. On its face, the references are not consistent with the sub-franchise document in which Superior Luck was the party taking up the lease and the franchise right to run the club. 51.However, the most unsatisfactory part of the two documents must be the provisions concerning the rental deposit and the security money, ie clauses 1(c) and 4 of the sub-franchise document and clauses 3 and 4 of the co-operation document. On the face of the documents, each of Superior Luck and Real Stand was obliged to pay to Wealthy Catering the rental deposit and the security money. However, it is common ground that the parties’ intention was that there was only one rental deposit and one security money payable to Wealthy Catering. It is also common ground that the rental deposit and the security money were in fact paid by Real Stand to Wealthy Catering. So what to make of the conflicting express provisions? In fact, it is a live issue as to whether Real Stand paid over the sums in its own capacity or on behalf of Superior Luck. This is the deposit issue to which I shall have to return later. 52.While there are difficulties presented by the drafting of the documents, the business structure contemplated in the two documents, on their face, did on the whole appear to put Lau’s original idea into execution. 53.The fundamental position of Wealthy Catering is that notwithstanding the oral negotiations which had taken place and the oral agreement reached in the process, such oral agreement did not form part of the contracts ultimately reached between the parties. This is because the parties eventually proceeded to sign the written documents, which for all intents and purposes are to be taken to contain exclusively the contractual terms governing their rights and obligations. In other words, using my terminology, the “sub-franchise contract” was effectively the sub-franchise document, without more, whereas the “co-operation contract” was effectively the co-operation document, again, without more. It is however accepted by Wealthy Catering that such oral discussion does form part of the factual matrix against which the written documents are to be construed. 54.On this premise, Wealthy Catering says three things. 55.First, based on clause 3 of the sub-franchise document, clause 2(p)(iii) of the head lease was incorporated by reference. As such, upon termination, Superior Luck was obliged to reinstate the unit to the state in which it was originally delivered by Eastern Group to Appreciate under the head lease, ie in a “bare-shell” state. 56.In fact, it is part of Wealthy Catering’s pleaded case that by virtue of clause 3, the sub-franchise to Superior Luck was “subject to the other terms and conditions” in the head lease. In other words, not only was clause 2(p)(iii) incorporated, Wealthy Catering’s position is that all the terms of the head lease were incorporated. 57.It is also Wealthy Catering’s case that Man handed over a copy of the head lease to Kin Wah when the sub-franchise document and the co-operation document were executed. 58.This is the reinstatement issue referred to above. 59.Second, based on, again, clause 3 of the sub-franchise document, Superior Luck was wholly responsible for attending to the licensing matters for the club, including the annual renewal. In this regard, Wealthy Catering relies on the express words “並遵守牌照部一切經營方式，所有牌照費用及保險費由乙方負責”. It also relies on the earlier negotiations between Man and the Hos on licensing (see para 39(f) above) as the relevant factual background to the construction of these express words. 60.Third, notwithstanding the apparently conflicting provisions in the sub-franchise document and the co-operation document, the rental deposit and the security money was paid by Real Stand, acting on behalf of Superior Luck. As such, they were sums liable to be repayable to Superior Luck upon termination, subject to any set-off Wealthy Catering might have. 61.The payments stipulated in the two contracts were made. 62.Superior Luck started to operate the club on 1 October 2011. 63.It is common ground that the monthly rent under the sub-franchise contract was increased from $180,000 to $200,000 with effect from 1 October 2012. The timing coincided with the rent increase under the head lease upon the extension of the second three-year term – see para 29(c) above. 64.Following the rent adjustment in October 2012, Superior Luck entered into a written agreement with Appreciate. Wealthy Catering was not a party but it pleads that the agreement was made with its consent. This is another one-page Chinese document dated 23 May 2013. It was entitled “調整按金協議書” and referred to Appreciate as the “Lessor” (“出租人”) and Superior Luck the “Lessee” (“承租人”). It provided that Superior Luck agreed to pay a further rental deposit of $152,000 to Appreciate by instalments. The first instalment was scheduled for May 2013 and the last one March 2014. In fact, Man said that it was Real Stand who wanted Superior Luck to pay the further deposit directly to Appreciate. 65.Since the commencement of the sub-franchise and up to 2014, Superior Luck took up the responsibility for the renewal of the club licence. Superior Luck, through its secretary, a Ms Lau, contacted the representative of Appreciate, usually a Mr Cheng Kam Kwong, from time to time to apply for the renewal of the licence. (Ms Lau was previously employed by Appreciate.) She would arrange for Appreciate to sign on the necessary documents for the renewal applications. She would also communicate directly with Appreciate with regard to any request of the licensing authority. 66.Whenever Appreciate received any request from the licensing authority, it would communicate directly with Superior Luck through Ms Lau. 67.Wealthy Catering stresses that it had never handled or become involved in any renewal application and that it had never promised to assume any duty to Superior Luck with regard to the renewal. 68.The latest licence of the club was valid until 22 July 2015. In April of the same year, Appreciate submitted a renewal application to the licensing authority. On 20 July, the licensing authority issued a letter to Appreciate referring to an inspection which it had undertaken on 2 June, in the course of which it found four matters that required immediate rectification. The letter went on to state that in June and July, a number of phone calls were made to Appreciate demanding that follow-up works be done as soon as possible. The purpose of the letter was to remind Appreciate to take action to rectify the situation, failing which the licence might not be renewed. The four matters were:-
69.Man said that it was his understanding that Ms Lau had given the letter to Kin Wah. Kin Wah later told Man that Wealthy Catering should deal with the licensing authority’s requests as the unit was let by it to Superior Luck. Man immediately refused as it had always been Superior Luck who complied with the licensing requirements. But Man offered to ask around for contractors if Kin Wah needed his assistance. 70.Around the end of August 2015, Shek Wing attended a meeting with Man, and representatives of Appreciate, including, amongst others, Lau, Leung and Chui. In the meeting:-
71.In cross-examination, Man stressed repeatedly that the key issue then was the timing of the return of the unit. Lau mentioned at the meeting that Eastern Group had leased the unit to a chain supermarket store and therefore must return the unit as scheduled. 72.Some time after that meeting and in late August, Kin Wah told Man that given the club could only operate until 30 September, it would not be financially sound to continue with the renewal application and that any costs or expenses to be incurred by Superior Luck for complying with the requests of the licensing authority would become wasted. In reply, Man insisted that the requests must be complied with and the club could not carry on without a valid licence. Kin Wah disagreed with that. As a result, the requests of the licensing authority were never complied with. 73.In cross-examination, Man added that around this time, there were a series of discussions between him and Kin Wah. In addition to the licensing issue, Man also highlighted the need to reinstate the unit by the end of September. In response to that, Kin Wah initially insisted that Superior Luck would carry on until the last day of September but later on said he would ask Shek Wing about it. However, the discussion during this period in respect of reinstatement was omitted from Man’s witness statement and was a revelation emerging for the first time in oral testimony. 74.Superior Luck defaulted in paying the rent for September which was due on the 5th. The rent has remained unpaid to date. 75.There was a second meeting held on about 12 September at the unit between, amongst others, Kin Wah and Man. In that meeting:-
76.The second meeting ended unhappily, with Superior Luck refusing to cease business before the scheduled expiry to allow time for the reinstatement. Because of that, Wealthy Catering and Kin Wah did not communicate with each other after the meeting. 77.In his cross-examination, Man supplemented the above account of the second meeting with the following new revelations:-
78.By then, Superior Luck still had not paid the rent for the month. Furthermore, there was no sign of Superior Luck taking any steps to reinstate the unit. 79.Accordingly, Wealthy Catering instructed its solicitors, Cheung Wong & Associates (“CWA”), to issue a letter dated 18 September 2015 to Superior Luck. (In that letter, CWA stated that they represented both Appreciate and Wealthy Catering.) The letter stated and requested, amongst other things:-
80.On about 19 September, Man attended the unit and told the manager of the club to remind Shek Wing and Kin Wah to reinstate the unit to the original state and vacate the unit by the end of the month. 81.On 25 September, Wealthy Catering was informed by Appreciate that Superior Luck would be delivering the unit to Appreciate. On the following day, Wealthy Catering was again informed by Appreciate that Wealthy Catering had vacated the unit without reinstating it to the original state. A written acknowledgment of the handover in Chinese was signed by Superior Luck and Appreciate. On it was pre-typed the words “交吉” meaning “handover of the vacant unit”. But in the signed version those words were amended to “交場” meaning “handover of the unit” in handwriting. 82.As a result of Superior Luck’s failing to reinstate the unit, Wealthy Catering was in breach of its equivalent obligation owed to Appreciate under the head franchise document. In the end, Wealthy Catering carried out works to reinstate the unit to its “bare-shell” state. The works commenced on 3 October and were completed on 19 October and it incurred a cost of $561,200. Quotations and invoices issued by a contractor called Art Work Engineer have been disclosed in these proceedings. Wealthy Catering also paid a sum of $125,083 to Appreciate for the rent or mesne profit for occupying the unit during the reinstatement period. An invoice issued by Appreciate to Wealthy Catering for that amount has also been disclosed. 83.Further, Superior Luck has failed to pay the electricity charges from 3 September 2015. Wealthy Catering relies on the electricity bill issued on 2 October 2015 and the amount charged for the period from 3 September to 2 October is $29,659. Since the unit was not occupied after Superior Luck left and the reinstatement works commenced on 3 October, Wealthy Catering says that Superior Luck should be responsible for the whole sum charged in the electricity bill. 84.In summary, Wealthy Catering claims that it has suffered a loss totaling $315,942, with breakdown as follows:-
85.As regards the further rental deposit in the sum of $152,000 paid by Superior Luck to Appreciate, that had nothing to do with Wealthy Catering as the money did not go through its hands. THE CASE OF SUPERIOR LUCK AND REAL STAND 86.I now turn to the case of the defendants. There is in fact a fair amount of common ground between the parties. I therefore focus on those parts of the defendants’ case which significantly differ from Wealthy Catering’s, with particular emphasis on the issues of reinstatement, licensing and deposit. 87.In about September 2011, Man acting on behalf of Wealthy Catering started discussing with the Hos about getting them and their friends to be involved in the running of the mahjong club. At that time, Man told Kin Wah and Shek Wing that the club was solely run by Wealthy Catering. In the discussion, there was no mention at all about any lease between Wealthy Catering and Appreciate. In fact, at that time the Hos did not even know about Appreciate. They only got to know about the company at a later stage. 88.The sums of $1,000,000, $500,000 and $100,000 as agreed in the course of the oral negotiations were paid to Wealthy Catering in late September 2011. Then Superior Luck took over the club on 1 October but the club was closed for five days for the replacing of the air-conditioners. The renovation costs referred to in clause 2 of the co-operation document were to cover the costs of the new air-conditioners. The licensing issue 89.In respect of the licensing issue, the defendants’ case is as follows. 90.In the negotiations, it was agreed that all matters concerning the club licence, including its application, renewal and maintenance should be handled in the existing way, ie to be handled by Wealthy Catering solely and exclusively but that the licence fees and any insurance premium would be borne by the new operating company. 91.Both Kin Wah and Shek Wing emphasised that they were aware that the operation of a mahjong club in Hong Kong required a valid licence and it would be of utmost importance that the licence be properly taken care of. It was also considered more appropriate to maintain the existing licence and have it renewed instead of applying for a new one since a new licence was known to be extremely difficult to get. 92.In cross-examination, Shek Wing stressed that the crux of the bargain was the right to operate the mahjong club. That right must come as a whole package covering the proper licence alongside with the use of the mahjong tables and furniture etc. Superior Luck was solely concerned with operating the club. At that time, the Hos did not even know who the licence holder was since the matter about licensing was solely a matter for Wealthy Catering. When asked why he would not be concerned with the identity of the licence holder, Shek Wing emphasised that Superior Luck was not acquiring the business outright but was only acquiring the right to operate for a four-year period. When asked if he was taking a big risk, Shek Wing pointed out that in any event Wealthy Catering was also a director of Superior Luck and it retained a 30% stake in the business. 93.The defendants contend that the sub-franchise contract contained the following implied terms:-
94.Since Superior Luck took over the club, Wealthy Catering had been responsible for dealing with the licensing matters. Neither Superior Luck nor Real Stand had been involved except when Wealthy Catering asked Shek Wing or Kin Wah to sign cheques for payment. Except for the last renewal in 2015, according to the Hos’ recollection, Wealthy Catering had never informed either of them of any matter concerning licensing save that Wealthy Catering was dealing with it or the licence had been renewed when the Hos mentioned the matter. 95.As to the role of Ms Lau, it was Man who introduced her to the Hos and recommended that Superior Luck took her on to handle its accounts. The Hos acceded to the request and Superior Luck employed Ms Lau as its accounting clerk. But prior to that, the Hos’ understanding was that Ms Lau was employed by both Appreciate and Wealthy Catering. 96.The defendants stress that Ms Lau was employed only as the accounting clerk of Superior Luck and that she was not employed to handle the licensing matters on its behalf. Ms Lau had a place to work within the unit but she would also do work there for Wealthy Catering and Appreciate. The Hos knew that Ms Lau had some knowledge of Wealthy Catering’s handling of the licensing matters. Sometimes they would ask Ms Lau to remind Man of the expiry date of the current licence but they did so purely because of her working relationship with Wealthy Catering. But they would not ask Ms Lau to handle any licensing matter. The signing of the sub-franchise document and the co-operation document 97.It is common ground that following the negotiations between Man and the Hos, the companies were set up. The defendants’ stance is, as stated in the witness statements of both Kin Wah and Shek Wing:-
98.Although the sub-franchise document and the co-operation document were dated 1 September 2011 and 1 October 2011 respectively, they were indeed signed some time in October of that year. What happened was that after Superior Luck took over the business, Man told Shek Wing one day that Wealthy Catering would like to put the agreement between the parties in writing. Accordingly, Kin Wah signed the documents. He said that he did not really read through the documents carefully and when he signed it, he believed that they merely reduced what the parties had agreed into writing. 99.In cross-examination, Shek Wing said that the date of 1 September 2011 was picked randomly for the sub-franchise document. 100.Based on the above factual premise, Mr Chai submitted that Wealthy Catering, Superior Luck and Real Stand entered into an agreement or agreement(s) (which he then defined as “the Agreement”) orally, by conduct and in writing. While Mr Chai contemplated in his submissions a composite tripartite agreement, in my view, for analysis purpose, it is more convenient to deal with the relationship between the parties separately by reference to the sub-franchise contract and the co-operation contract. One of the material terms was that the licensing arrangement would be in accordance with what was orally agreed between Man and the Hos in the course of their negotiations as stated in para 90 above. By conduct, the companies treated themselves bound by the orally agreed terms. The written part of the contracts was contained in the two documents. The reinstatement issue 101.On the reinstatement issue, the defendants say the following. 102.When Man spoke to Shek Wing about having the agreement reduced to writing, Man also mentioned that there was a landlord “up above” Wealthy Catering, namely Appreciate. He also mentioned that that lease would have to be renewed within the four-year franchise period and the rent would have to be adjusted. Man therefore suggested that a clause should be inserted into the written documents referring to such renewal and adjustment of rent. That was the background to clause 3 of the sub-franchise document. Apart from this, the parties never agreed to incorporate or follow any other term in any lease “up above”. There appears to be a discrepancy between Shek Wing’s oral evidence and the defendants’ witness statements on the timing of when Man raised the rent adjustment issue. In cross-examination, Shek Wing seemed to suggest that it was mentioned earlier in the course of the parties’ negotiations. 103.Shek Wing asked Kin Wah to follow up on the signing. Kin Wah denies that Man handed over a copy of the head lease to him when the written documents were signed. 104.The defendants’ position on reinstatement is therefore that it was never the intention of the parties that clause 2(p)(iii) of the head lease was to be incorporated into the sub-franchise contract. Therefore, Superior Luck was under no obligation to reinstate the unit to a “bare-shell” state. What happened in 2015 105.Some time before the expiry of the club licence in July 2015, the Hos, as usual, asked Ms Lau to remind Wealthy Catering about the renewal. Ms Lau told Kin Wah that Wealthy Catering had already been working on it. 106.In about June or July, the manager of the club told the Hos that there had been an inspection of the unit by the Fire Services Department and some comments were made. After the inspection, the manager was told that the three openings in a wall had to be dealt with. She told the Hos that she had already told Man about it. Kin Wah also followed up on it with Man. Man replied that it was a simple matter and he would deal with it. The Hos trusted that Wealthy Catering would resolve the issue in due course. 107.The Hos deny that there was a meeting in August as alleged by Wealthy Catering. Both of them were in Japan in late August and they did not meet Man then. However, there were in fact meetings held in September. 108.The first meeting was in early September. Chui of Appreciate went to the club one day and spoke to Shek Wing asking him whether Superior Luck would be interested in extending the franchise for six months and he could help on this. Shek Wing replied that he could not decide then as he also needed to know Man’s view. A meeting was therefore arranged and amongst the attendees were Shek Wing, Leung, Lau, Chui and Man. In the meeting, the issue of extension was discussed. The conclusion was however that Superior Luck would not extend the franchise. Therefore after this meeting, the parties knew clearly that the business would cease by 30 September. But nothing was mentioned about reinstatement at all. 109.There was then a meeting held on about 12 September. Kin Wan, Man and others were there. In the meeting, Man asked Kin Wah if Superior Luck could deliver the unit to Wealthy Catering before 30 September. Kin Wah insisted that according to their contract, Superior Luck had the right to carry on the club business up to 30 September. Superior Luck had the right to so insist particularly when Wealthy Catering offered no compensation for the early return of the unit. No agreement was reached when the meeting concluded. 110.The next material event was Man’s visit to the club on about 19 September. The defendants say that during that visit he did not ask the manager to remind the Hos to reinstate. Instead, Man told the staff there that the club licence was no longer in place and they should cease to operate the business, otherwise he would make a report to the police. 111.Wealthy Catering never informed Real Stand or Superior Luck of the four requests made by the licensing authority. In fact, up until Man’s visit to the club on 19 September, Wealthy Catering had never informed them that there was any difficulty in the renewal application. All along, the Hos were not aware of the need to do anything about the licence. 112.As regards the four matters raised by the licensing authority, the Hos said that they were simple matters and could have been easily dealt with. The beer stored in VIP Room 2 could be removed. The additional tables and seats could also be moved away. And so could the latch. 113.Even though Superior Luck did not receive a hard copy of a renewed licence after 22 July 2015, the Hos did not see that as a problem as according to their experience, the licence authority might issue a renewed licence some time after the expiry date of the current one but it would allow the business to carry on pending the approval of the renewal. 114.The defendants contend that Wealthy Catering was in breach of its licence obligation. Superior Luck ceased to operate the business from 19 September. 115.Then, Superior Luck received the letter from CWA dated 18 September. The Hos were surprised by its content. All along the licensing matters were handled by Wealthy Catering. The Hos never doubted its willingness and ability to handle the matter. But the letter appeared to point the finger at Superior Luck about the absence of licence since July. 116.Some time after the receipt of the CWA letter of 18 September, Chui called Shek Wing. Chui obviously knew about the dispute between Man and the Hos. Chui asked whether Superior Luck could deliver the unit to Appreciate a little earlier. Chui asked the Hos to “give him some face”. Shek Wing’s thinking then was that the business could not be carried on any way as there was no valid licence. He therefore agreed that Superior Luck should attend the unit on 26 September for handing over the unit. Chui would ask Man to attend also so that the matter could be resolved in the presence of the three parties. 117.On 26 September, Kin Wah attended the unit. Chui was there but Man was not. Chui was happy with the state of the unit and he accepted it without any complaint. There was no mention about reinstatement or removal of the fittings. When Kin Wah left, Chui asked him to inform Man that Appreciate had accepted the unit, which he did. 118.By a joint letter dated 30 September, Superior Luck and Real Stand informed Wealthy Catering that the latter’s failure to maintain a proper licence for the mahjong club amounted to a repudiation of the contract and that the two companies accepted the repudiation thus terminating the contract with Wealthy Catering with immediate effect. 119.The defendants also put forward an alternative case. If Superior Luck was in breach as alleged, the breach was committed as a result of Wealthy Catering’s breach of the fiduciary duty which it owed to Superior Luck as one of its directors in that it had failed to take any steps to prevent or remedy the situation. In the circumstances, Wealthy Catering is not entitled to claim against Superior Luck. Furthermore, by reason of such breach, Wealthy Catering is liable to pay equitable compensation to Superior Luck which should be set off against any amount owing to Wealthy Catering. There is however no quantification of such equitable compensation. Also, this line of argument does not apply to Real Stand. 120.As regards the rent for September, according to Kin Wah’s explanation in cross-examination, Superior Luck never as a matter of practice paid rent before the 5th of each month. It often paid around mid-month. For September 2015, by the time the accounts department prepared the cheque, it was already around 18 September. Given the dispute between the parties, Kin Wah did not release the cheque. And that was why Superior Luck did not pay the rent for that month. 121.The defendants deny that they should pay the electricity bill which was issued in October. In fact, there was a deposit of $74,000 held on the account with the electricity company and it had been paid by Superior Luck. The electricity charges can be deducted from that deposit. 122.As to the reinstatement claim, if the defendants are liable, they say that Wealthy Catering failed to mitigate its loss. The amount of the reinstatement costs, it is argued, is excessively and unreasonably high and the time spent was excessively and unreasonably long. Wealthy Catering could have hired an excavator to clear all the structures at the unit and it would take no more than two or three days to complete the works and would not cost anything more than $150,000. 123.In fact, Kin Wah paid a visit to the unit on two occasions in October. From what he could see from the outside, the clearance work was almost done on 6 October and there were supermarket racks installed inside the unit on 18 October. The unit later became a chain supermarket store. 124.In its counterclaim, Superior Luck makes the following claims against Wealthy Catering:-
125.The witness statements filed by the defendants make no reference to the claims for loss of income and the value of the frozen meat and furniture. In opening, Mr Chai confirmed that the defendants will not pursue these two heads of counterclaim. 126.In its counterclaim, Real Stand asks for the same relief in para 124(c) and (d). 127.Having set out the parties’ cases, I now turn to evaluate the evidence. Based on the facts as found, I shall then proceed to consider the rights and obligations of the parties under the contracts. THE EVIDENCE 128.The resolution of the factual disputes primarily turns on the credibility of the witnesses, who have given conflicting accounts of the same events relevant to both the reinstatement issue and the licensing issue. My task is to evaluate the competing evidence against the backdrop of undisputed and indisputable facts. I am to weigh the inherent probabilities of the parties’ cases. Contemporaneous documents should be given due weight in the assessment exercise. The internal consistency (or inconsistency) of the witnesses’ evidence should be taken into account. The court would also be guided by its overall impression of the characters and motivations of the witnesses: see, eg, Re B (Children) [2009] 1 AC 11, para 31, per Baroness Hale, cited in Standard Chartered Bank v Li Wai Ping HCA 10587/2000 and 3573/2003, 17 February 2011, para 19. The important factual background 129.I should highlight at the outset the undisputed or indisputable factual background which I consider to be material. There are two matters which are of significance. 130.First, as noted above, the two documents which form the subject-matter of the present actions are “home-made” documents drafted apparently without any assistance from legal advisers. Indisputably, the documents contain inconsistencies and unclear provisions. 131.For instance, while on a literal interpretation of the two documents, each of Superior Luck and Real Stand was obliged to pay the rental deposit and the security money to Wealthy Catering, the undisputed intention of the parties had always been that Wealthy Catering was to receive the two sums only once, but not twice over. Another example is the use of the terms “出租人” (lessor) and “承租人” (lessee) in both documents. The use of such terms was confusing and did not accurately reflect the roles of the parties. It was the clear intention of all concerned that Superior Luck would be the “new operating company” which would take over the running of the mahjong club. It could therefore be properly described as the “承租人”, denoting that it was the lessee of the unit and the franchisee of the club business. But the same cannot be said of Real Stand, who was not intended to be the operator of the club. 132.I think it can fairly be said, with no disrespect to any of them, that Man, Shek Wing and Kin Wah were businessmen who did not pay too much attention to legal semantics when drafting their documents. Their focus was to record the essential terms of the commercial bargain which had been struck. That would include, most importantly, all terms which had to do with payment. They would not be too concerned with the use of correct terminology and they did not appear to have carefully thought through the legal implications of their drafting. 133.Second, when Man, Shek Wing and Kin Wah were in negotiations (whether in June and July or September 2011), the club had already been in business and it had already been operating under a valid licence. It is against this factual background that Real Stand invested $1,000,000 to acquire a 70% stake in the operating right of the club. This is to be contrasted with a situation where a brand new club business was to be launched and a fresh licence was to be applied for. 134.Having assessed the evidence on an overall basis, I prefer the defendants’ factual evidence to that of Wealthy Catering, where they are in conflict. I highlight the following matters which I consider to be material in the assessment exercise. First, the defendants’ factual case on the reinstatement issue is more likely to be true than Wealthy Catering’s when viewed against contemporaneous documents 135.The parties’ factual cases on the reinstatement issue are to be viewed against the undisputed factual backdrop that when Superior Luck took over the club, it was already in operation. There were about 30 rooms in the club area and the mahjong tables were already there. In other words, when Superior Luck took over, the unit was fully furnished and not in a “bare-shell” state. 136.In the ordinary course of things, a lessee in Superior Luck’s position would normally be expected to return the unit in the original state in which it was delivered at the beginning of the lease, unless otherwise agreed by the parties. Given that the reinstatement of the club area to a “bare-shell” state would foreseeably be fairly costly and time-consuming given its large size, one would expect that any special requirement for the lessee to so reinstate upon termination would be an important term of the bargain and would be expressly spelt out. But there was no express provision in either the sub-franchise document or the co-operation document highlighting this alleged obligation on the part of Superior Luck. 137.I note repeatedly above that the parties drafted their documents without any professional legal help. However, one would still expect that Man should have realised the commercial importance of the obligation and should have put in an express term in the documents with regard to such obligation, if it had indeed been agreed in the negotiations. Instead what Wealthy Catering now relies on is an indirect reference to the reinstatement term by incorporating the head lease. The absence of such an express term is therefore more consistent with the defendants’ factual case that no such term had ever been discussed or agreed between the parties. Second, the defendants’ factual case on the licensing issue is more in line with business rationale than Wealthy Catering’s 138.The dispute on the licensing issue is to be evaluated in the context of the business rationale of the commercial bargain and against the factual backdrop that when the deal was negotiated, the club was already operating under a licence held by Appreciate. 139.In its pleadings, Wealthy Catering chose to refer to the sub-franchise contract as “the 2nd Sub-Tenancy Agreement”. In his written submissions, Mr But adopted the defined term “the 2nd Sub-Lease”. Nevertheless, when one looks at the substance of the commercial bargain, the objective fact is clearly that it was more than a simple lease of the unit. Most notably, the documents made repeated references to the “profit-making tools” – see clause 4 of the sub-franchise document and clause 3 of the co-operation document. The tools included the mahjong tables. There was no evidence as to the costs of these tables. However, from the way the witnesses had been referring to them in their oral testimony, they seemed to be of some value. 140.In addition to the mahjong tables, an essential part of the franchise was of course the club licence. The licence was a pre-requisite to the running of the mahjong club. The objective fact here is that there was no change of the licence holder after the sub-franchise took effect. It remained to be Appreciate. The evidence of Shek Wing and Kin Wah that a fresh licence was difficult to get is plausible. In such circumstances, it seems inherently probable that the bargain struck between the parties was that Superior Luck would look solely and exclusively to Wealthy Catering as franchisor to take care of the licence. In this regard, Wealthy Catering’s case that Appreciate would directly handle requests made by the licensing authority and Wealthy Catering would not assume any duty vis-à-vis Superior Luck would appear to be inherently improbable in that it seems to go contrary to the whole idea of a franchise granted by Wealthy Catering to Superior Luck. 141.As Mr Chai put it in his closing submissions, the subject-matter of the transaction was the franchise of the mahjong business. One therefore asks rhetorically – why should Superior Luck look to a third party, instead of the franchisor, to handle one of the most important aspect of the franchise, namely the licence? 142.It is common ground that Superior Luck would bear all the expenses associated with the licence. As the operator of the club, naturally, it should also comply with the requests made by the licensing authority so as not to jeopardise the licence or any renewal. And this seems to be the purpose of the provision “並遵守牌照部一切經營方式” (“complying with all operating practice of the licensing department”) in clause 3 of the sub-franchise document. The defendants’ factual case on the licensing issue seems to accord better with inherent probabilities than Wealthy Catering’s, when viewed against the business rationale of the franchise. Third, Wealthy Catering’s factual case on the licensing issues accords less well with the objective facts than the defendants’ 143.As regards the factual disputes on the knowledge of the four requests made by the licensing authority in 2015, the defendants’ case is straightforward, coherent and easy to understand whereas the case of Wealthy Catering is not as straightforward and there are aspects to it which are quite inexplicable. 144.In essence, the defendants say that in July 2015, they reminded Wealthy Catering, through Ms Lau, of the need to renew the licence and that they knew about the three openings in the fire-proof wall through the club manager. Kin Wah was assured by Man that Man would deal with it as it was a simple matter. Both Shek Wing and Kin Wah did not realise that there would be any problem with the renewal until Man’s visit to the club on about 19 September when he announced to the staff that the club licence was no longer in place. There and then Superior Luck ceased to operate the business. The defendants’ factual case is on the whole coherent. 145.On the other hand, Wealthy Catering says that the Hos all along knew about the four requests made by the licensing authority but did not fix the issues. According to Man’s conversation with Kin Wah in late August, the latter said that since the franchise would expire on 30 September, it would not fix the issues as the costs would become wasted. 146.This allegation must however be assessed bearing in mind the nature and gravity of the four requests made by the licensing authority. In this regard, I accept the Hos’ evidence that they were all simple matters and could have been easily dealt with. Two of the items would only involve moving some of the furniture from one place to another. And the two other items would appear to require works of a very minor nature and would not be costly at all. Shek Wing said that the monthly turnover of the club was over $1,000,000. This is supported by the audited accounts of Superior Luck disclosed in these proceedings. From incorporation to 31 March 2013, the total turnover was stated to be just over $19,000,000. The costs which might have to be incurred for the minor works would clearly be just a small sum in a business of this scale. If, as alleged by Wealthy Catering, Superior Luck had known about the licensing issues as early as in July, there is no plausible reason why Superior Luck would deliberately choose not to deal with them and run the risk of operating the club illegally without a licence for two more months. For the same reason, the allegation that Kin Wah did not want to incur such “wasted” costs is not credible as there were not much costs to be “wasted” to start with. Fourth, the discrepancies in Man’s evidence are more material than those in the Hos’ 147.I have taken into account that the factual evidence of both sides contains inconsistencies and the witnesses from both sides made new allegations under cross-examination, which were not included in their witness statements. 148.In his closing submissions, Mr But set out a list of inconsistencies in the defendants’ factual evidence. In my view, the more notable examples are the following two.
149.Mr But also highlighted a letter dated 1 June 2015 issued by Eastern Group to Appreciate confirming that the head lease would not be renewed after 30 September 2015. The point here is that given the authenticity of this letter is not challenged, it serves as a piece of contemporaneous document which contradicts the defendants’ allegation that as late as in early September 2015, Superior Luck was offered the opportunity to continue the business for another six months. Mr But submitted that there is no evidence before the court that Appreciate somehow managed to extend the head lease notwithstanding the notice given on 1 June 2015. There is some force in the argument but it is not conclusive. 150.For Wealthy Catering, the new allegations made by Man for the first time in cross-examination concerning the discussion the parties had on reinstatement in August and September 2015 have been set out in detail in paras 73 and 77 above. 151.Because of these discrepancies in the evidence of all the three witnesses, some doubt is cast on the reliability of the evidence of each of them. However, relatively speaking, the discrepancies in Man’s evidence would appear to me to be more material for the following reasons. 152.The breach of the reinstatement obligation forms a material part of Wealthy Catering’s claim. The evidence surrounding the parties’ discussion about this topic close to the termination of the franchise would be of vital importance. It is difficult to understand why Man was able to give a detailed account of how Kin Wah vacillated on this issue in cross-examination but not in his earlier witness statement. In my view, this casts significant doubt on the reliability of Man’s evidence as whole. Fifth, and lastly, Shek Wing came across as more credible amongst the three witnesses 153.Lastly, based on my observation of the witnesses, overall speaking (and subject to what is said above), I find Shek Wing to be a credible witness on the whole and, relatively speaking, more so than Man. Shek Wing testified in a firm, articulate and clear manner. He remained unshaken and confident in his answers despite the lengthy cross-examination. He was able to spell out the business rationale of the commercial bargain (see, eg, para 92) which sounds reasonable and plausible, thus bolstering his credibility. Man, on the other hand, came across as less confident and at times hesitant. Factual findings 154.On a balance of probabilities, I find as facts, subject to two exceptions, the evidence of the defendants. 155.Most importantly, I find that:-
156.The two exceptions are these. First, I do not accept the defendants’ allegation that by 18 October 2015, not only that the reinstatement works had been completed but also that the unit was being refurbished for the next tenant, a chain supermarket store. Kin Wah had only looked from the outside on that day. The photographs he took on that occasion are not conclusive evidence. More importantly, there was a photograph showing a poster saying that the supermarket would open on 27 November 2015. The big time gap between 18 October and 27 November does not sit well with the defendants’ case. 157.Hence, I accept Wealthy Catering’s case in this regard and find as facts that it had carried out reinstatement works in the unit until 19 October 2015. Further, I find that it had incurred the reinstatement costs as alleged and suffered loss in the amounts it had paid to Appreciate for over-staying at the unit. I do so on the strength of the invoices produced by Wealthy Catering. Although Appreciate and Wealthy Catering were related as outlined above, there has been no suggestion made in these proceedings that their dealings had not been on an arm’s length basis. I would take the invoices produced on the reinstatement works and the rent charged by Appreciate for October 2015 to be authentic. They are proof of the out-of-pocket sums expended by Wealthy Catering subsequent to the return of the unit by Superior Luck to Appreciate. 158.Second, I reject the defendants’ allegation that Superior Luck had paid a sum of $74,000 as electricity deposit at the commencement of the franchise. They have produced no documentary evidence to substantiate the allegation. The sub-franchise document and the co-operation document made no mention of such deposit. The amount is not huge but is not negligible either. I have observed above that the parties appeared to be most concerned with payment terms when drafting the documents. The fact that the electricity deposit was not mentioned seems to point to it not having been paid by the defendants in the first place. LEGAL RIGHTS AND OBLIGATIONS 159.Based on the facts as found, I proceed to address the legal positions of the parties. How were the contracts formed? 160.On this issue, Mr Chai referred to the decision of the Court of Final Appeal in Bank of China (Hong Kong) Ltd v Fung Chin Kan (2002) 5 HKCFAR 515. He submitted that in the present case, in light of the series of dealings between the parties, the proper question to ask is – what was the true bargain between them? 161.On the facts of that case, Lord Cooke said at para 70:-
162.Litton NPJ upheld the instructions as a collateral contract to the legal charge (at paras 57-58). But the “true bargain” approach and the “single composite agreement” conclusion reached by Lord Cooke was endorsed by Bokhary PJ, Chan PJ and Mortimer NPG (at paras 1, 10 and 68) as an alternative analysis. 163.Applying the “true bargain” approach to the facts here, it is clear that the sub-franchise contract and the co-operation contract were made by conduct and in writing. 164.The sequence of events was as follows. Man and the Hos reached an oral agreement on the franchise and co-operation arrangement in September 2011. At that time, Superior Luck and Real Stand were yet to be acquired. The company records reveal that Wealthy Catering and Real Stand became the directors of Superior Luck only on 26 September 2011. Because of that, strictly speaking, the orally agreed terms per se did not form part of the contracts between the three companies. However, since 1 October 2011, the companies had in fact been operating in accordance with those orally agreed terms as if they were bound by them. I therefore hold that by reason of the conduct of the three companies, the contracts made between them effectively incorporated those orally agreed terms. Some time in October 2011, the parties recorded the key terms in writing in the sub-franchise document and the co-operation document. These documents formed the written part of the two contracts respectively. 165.I therefore reject Mr But’s submission that the terms of the contracts are to be found in the two documents alone. The licensing issue 166.It therefore follows, and I hold, that under the sub-franchise contract, all matters concerning the licence in respect of the mahjong club business, including its application, renewal and maintenance, should be handled by Wealthy Catering solely and exclusively but that the licence fees and any insurance premium would be borne by Superior Luck. 167.This contractual term arose, first, from the conduct of the two companies as from 1 October 2011, which in effect carried over the oral terms agreed between Man and the Hos in the course of their negotiations; and, secondly, from the provision “並遵守牌照部一切經營方式” in clause 3 of the sub-franchise document. 168.I therefore reject Wealthy Catering’s contention that the provision in clause 3 should be interpreted to impose an obligation on Superior Luck to handle the renewal of the club licence. This interpretation is inconsistent with the sub-franchise contract being a single composite agreement which comprised a term to the opposite effect. The reinstatement issue 169.I have found that in October 2011, when Man requested Shek Wing to execute the written documents, Man only mentioned that Appreciate was the landlord “up above” and there would be a rent adjustment during the four-year franchise period. There was no agreement reached that all the terms in the head lease would be incorporated into the sub-franchise contract. I have also found that Man did not hand over a copy of the head lease to Kin Wah at the time of signing. 170.The sub-franchise document contained the following terms: “租約年期及加租條款等各項細則以欣賞有限公司與東駿易有限公司所訂的租約協定一樣”. The question therefore is this – against the above factual background, should this express provision be construed to mean that all the terms in the head lease were to be incorporated into the sub-franchise document? Mr But answered the question in the affirmative. If he is right, that means that Superior Luck would be under an obligation to reinstate the unit to a “bare-shell” state upon termination. 171.The question as to whether a term is properly incorporated by reference is a matter of construction. The task is to ascertain the parties’ intention when they entered into the contract by reference to the words they used: Astel-Peiniger Joint Venture v Argos Engineering & Heavy Industries Co Ltd [1995] 1 HKLR 300 at 311, lines 5-10, per Kaplan J. It is necessary for it to be clear which terms are incorporated: Habas Sinai v Sometal [2010] EWHC 29 (Comm), para 48, per Christopher Clarke J. 172.It is plain, in my view, that as a matter of construction the incorporating words used in the sub-franchise document did not have the effect of incorporating the entire head lease for the following reasons.
173.Accordingly, I reject Mr But’s submission that the entire head lease was incorporated into the sub-franchise document. Under the contract, Superior Luck was not under any obligation to reinstate the unit to a “bare-shell” state upon termination of the franchise. The deposit issue 174.I shall deal with the rental deposit ($100,000) and the security money ($500,000) paid by Real Stand to Wealthy Catering together and then, separately, the further rental deposit ($152,000) paid by Superior Luck to Appreciate, as they involve discrete issues. 175.In respect of the rental deposit and the security money, as already pointed out, the sub-franchise document and the co-operation document were in conflict with each other. The former provided that the sums were paid by Superior Luck whereas the latter Real Stand. 176.How should that conflict be resolved? It is ultimately a matter of construction of the two contracts. 177.The special feature here is that we are faced with two directly contradictory provisions. The question is – which one should prevail? What objective intention should the court attribute to the parties? In a case like the present one, context is all important. 178.In Fully Profit (Asia) Ltd v Secretary for Justice (2013) 16 HKCFAR 351, Ma CJ said, at para 15:-
179.In a commercial context, where there are two possible constructions, the court is entitled to prefer the construction which is most consistent with business common sense and most likely to give effect to the commercial purpose of the agreement and to reject the other: Rainy Sky SA v Kookmin Bank [2011] 1 WLR 2900, paras 15, 21, 25, 30, 40 and 43, per Lord Clarke. It has been said that where the drafting was of a poor quality or of an informal nature, the correct interpretation of the contract may be achieved by a greater emphasis on the factual matrix when giving effect to the language used: Rainy Sky at para 26; Wood v Capita Insurance Services Ltd [2017] AC 1173, at para 13. The factual matrix would include the nature and purpose of the commercial bargain. 180.Applying the above principles, it seems to me that it would accord more with business common sense and the purpose of the commercial bargain that the rental deposit and the security money is treated as paid by Superior Luck. The reason is simply this. The bargain had all along been that Superior Luck was the operating company running the club business whereas Real Stand was not. It was an investor holding a 70% stake in the club. The payment of the rental deposit and the security money was part of the terms on which Superior Luck was to take over the lease and the franchise. 181.I therefore hold that clauses 1(c) and 4 of the sub-franchise document prevail over clauses 3 and 4 of the co-operation document. Accordingly, the two sums should prima facie be repayable to Superior Luck, and not Real Stand, upon termination, subject to any right of Wealthy Catering to deduct or withhold it under the sub-franchise contract. 182.In respect of the further rental deposit, the situation is different. There was a written agreement signed between Appreciate and Superior Luck. Wealthy Catering was not a party to it. In cross-examination, Shek Wing said that he did not handle the further rental deposit and did not know why Superior Luck would sign the agreement directly with Appreciate. The purpose of the further rental deposit is however clear. It is to make up the rental deposit upon the increase in the rent in the second year of the franchise. Mr Chai invited the court to take into account the commercial purpose behind the payment and hold that Wealthy Catering was the receiving party of the sum and hence it should return it to Superior Luck upon termination. 183.I am unable to accept this submission. This interpretation goes contrary to the express wording in the agreement between Appreciate and Superior Luck, which provided that Superior Luck was obliged to make payment to Appreciate in instalments. The agreement itself raises some issues. Appreciate was referred to as the “lessor” and Superior Luck the “lessee”. Furthermore the increase in rent took effect in October 2012. The first instalment payable under the agreement was scheduled to be in May 2013. Why was there a big time gap? Why was the sum paid in instalments instead of by a lump sum? These issues were not explored at the trial. And hence the exact purpose of the agreement is unclear. It does seem to be the case that there was other factual background which had given rise to the agreement but which has not been revealed in the evidence. 184.In the circumstances, I hold that notwithstanding that the further rental deposit was paid consequent upon the increase in the rent under the sub-franchise contract, the express words in the agreement should be given effect and the sum is to be taken as paid by Superior Luck to Appreciate. Hence Wealthy Catering is under no obligation to return this sum upon termination of the sub-franchise. How were the contracts were terminated? 185.Given that Wealthy Catering failed to take steps to ensure that the licence would be renewed upon its expiry in July 2015 or shortly afterwards, it was in breach of the sub-franchise contract. Given the nature and purpose of that contract, I do not think there can be any serious dispute that the breach was of a repudiatory nature. I further hold that the repudiatory breach was accepted by Superior Luck on 30 September 2015 by its letter of the same date. The contract was thus terminated on that day. (In the bottom margin of that letter, there was a fax stamp stating the date of 1 October 2015 but no fax number appeared. It is therefore unclear what to make of the date stamp.) Wealthy Catering’s claims 186.In closing, Superior Luck accepted that the rent for September 2015 was due and owing to Wealthy Catering. 187.As regards the claim for electricity charges for that month, I hold that Superior Luck was also liable for the amount stated in the electricity bill issued on 2 October 2015. 188.Mr Chai argued that given the electricity bill was issued after the termination of the contract, Superior Luck was discharged from the obligation to settle the bill under the contract. No cause of action in respect of the electricity charges can therefore arise against Superior Luck. In any event “there could not be a duty to pay before the amount was known”. This argument is plainly untenable. The objective fact is that electricity was consumed by Superior Luck during the month and under the sub-franchise contract, it was obliged to settle the bill. The cause of action had arisen prior to the termination though the charges were not yet known. 189.Lastly, the reinstatement claim must fail given my ruling that Superior Luck was not under any contractual obligation to reinstate the unit to a “bare-shell” state in the first place. 190.In summary, Superior Luck is liable to pay to Wealthy Catering a total sum of $229,659. Wealthy Catering should apply the rental deposit of $100,000 towards the outstanding sum. That still leaves $129,659 which should then be offset against the security money of $500,000, leaving a balance of $370,341 in the hands of Wealthy Catering. 191.The question then becomes whether Wealthy Catering is obliged to return the balance of the security money to Superior Luck. This turns on the construction of clause 4 of the sub-franchise document. And the resolution would determine the counterclaim raised by Superior Luck. Superior Luck’s counterclaim 192.On the construction, Superior Luck’s position is straightforward. As of 30 September 2015, ie the date on which the contract was terminated for repudiation, the rent had not been outstanding for 30 days. Hence, the condition specified in clause 4 was not fulfilled and the right to forfeit the security money had not accrued. Therefore Wealthy Catering is now obliged to return the balance to Superior Luck. 193.On the other hand, Mr But argued:-
194.I am not able to accept Mr But’s submission that on 5 September 2015, the right to forfeit had already accrued because that directly contradicts the express wording in the clause. 195.Instead I consider that the proper question is this – did the 30-day period cease to run on 30 September 2015 when the contract was terminated? Mr Chai did not directly address this issue but it is implicit in his submissions that he thought so. If it ceased to run on 30 September 2015, the condition for forfeiture was not (and would never be) fulfilled and Wealthy Catering cannot invoke the clause to forfeit the balance of the security money. If time did not cease to run, as the rent remains outstanding to this day, the condition has been fulfilled and the security money is forfeitable. 196.In a way, the issue resembles a more familiar question which arises from time to time when a contract is terminated by the innocent party accepting a repudiatory breach. That is, does a particular contractual term survive the termination of the contract? This ultimately turns on the construction of the contract. The task is, as usual, to ascertain the intention of the parties. In a commercial context, the court should have particular regard to business common sense and the purpose and function of the provision in question. See, eg, Anson’s Law of Contract 30th ed at p554:
197.For an illustration of how the courts deduce the objective intention of the parties on whether a clause should survive termination for repudiatory breach by reference to the commercial purpose of the clause, see, eg, Heyman v Darwins Ltd [1942] AC 356 at 374 (an arbitration clause survived termination, as although the purpose of the contract had failed, the clause was not one of the purposes of the contract); see also, Yasuda Fire & Marine Insurance Co of Europe Ltd v Orion Marine Insurance Underwriting Agency Ltd [1995] QB 174 at 187D-G, 191B (a records inspection clause was held to survive termination, its function being wholly ancillary to the subject matter of the agreement). 198.Here, in my view, clause 4 of the sub-franchise document is to be construed in the following commercial context:-
199.Against this context, it would appear that the purpose of clause 4 was to afford some protection to Wealthy Catering by giving it an option to “exit” the contract in the specified circumstances. In theory, it could choose only to forfeit the security money but not terminate the contract or vice versa. However, when clause 4 is considered as a whole, it seems to me that its clear and overall purpose is to give an option to Wealthy Catering to get out of the contract. This presupposes that the contract should be in existence when Wealthy Catering purported to exercise that option. If the contract had already been terminated, there would be nothing for Wealthy Catering to terminate. 200.Furthermore, the language made it clear that a default in paying rent when due did not immediately give Wealthy Catering that option. A grace period of 30 days was provided for. If Superior Luck settled the outstanding rent within the grace period, Wealthy Catering would not acquire the right to forfeit and terminate in the first place. Hence, it can be said that the purpose of the grace period is to allow room for Superior Luck to make good its default so as to keep the contract alive or, to put it in another way, to “save” the contract. It must therefore follow that the grace period would only run if the contract was still alive. This is because if there was no longer a contract (because, eg, it had been terminated for a repudiatory breach), there was nothing to be “saved”. The purpose of the grace period lapsed upon the termination of the contract. 201.I therefore hold that as a matter of construction, the 30-day period in clause 4 ceased to run on 30 September 2015 when the repudiatory breach committed by Wealthy Catering was accepted by Superior Luck. It follows that the right to forfeit the security money had not accrued. Wealthy Catering is now obliged to return the balance of the security money to Superior Luck. 202.I would add, by way of footnote, that my analysis would also mean that even if the sub-franchise contract had come to an end as scheduled in the absence of any repudiatory breach, where Superior Luck had failed to pay the September rent by that date, Wealthy Catering could not hold on to the security money until 4 October 2015 (ie when the 30-day period expired) and then seek to invoke clause 4 to forfeit the whole of the security money. It would have to return the security money subject to the deduction of the outstanding rent upon expiry of the term. I think that makes commercial sense and accords with the purpose of the clause. Upon expiry, the purpose lapsed as there was no longer any need for Wealthy Catering to “early exit” the contract. 203.Give my ruling that the right to forfeit had not accrued, there is no need to deal with Mr Chai’s alternative submission that clause 4 should be regarded as a liquidated damages clause. Real Stand’s counterclaim 204.Lastly, given my rulings in paras 181 and 184 above, Real Stand’s counterclaim for the return of the deposits must fail. CONCLUSION 205.In conclusion, Superior Luck owes to Wealthy Catering a total sum of $229,659, comprising the rent and electricity charges for September 2015. At the same time, Wealthy Catering should return to Superior Luck a total sum of $600,000, comprising the rental deposit and the security money. Upon set-off between the two sums, Wealthy Catering should pay a net sum of $370,341 to Superior Luck. Accordingly, I order that Wealthy Catering’s claim against Superior Luck be dismissed and there be judgment in favour of Superior Luck on its counterclaim in the sum of $370,341. The sum would carry interest at the rate of 1% above prime rate from 1 October 2015 until judgment. 206.Real Stand’s counterclaim against Wealthy Catering is dismissed. 207.I also make the following nisi costs orders:-
Mr Adrian But, instructed by Cheung Wong & Associates, for the plaintiff in the consolidated action Mr Michael Chai, instructed by Cham & Co., for the 1st and 2nd defendants in the consolidated action | ||||||||||||||||||||||||||||||||||||||||||||||||
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