Diagcor Bioscience Incorporation Ltd and Another v. Zendex Bio Strategy Incorporated and Others
Read the full judgment text of CACV 62/2021 on BabelCite. This Court of Appeal judgment.
1. This appeal is brought by the defendants against the judgment of K Yeung J (“the Judge”) given on 20 January 2021 ( [2021] HKCFI 146 ) (“the Judgment”) after an eight-day trial, whereby it was adjudged, inter alia , that:
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CACV 62/2021 [2022] HKCA 1636 IN THE HIGH COURT OF THE HONG KONG SPECIAL ADMINISTRATIVE REGION COURT OF APPEAL CIVIL APPEAL NO 62 OF 2021 (ON APPEAL FROM HCA NO 2733 OF 2015) _______________
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_____________________________________ REASONS FOR JUDGMENT _____________________________________ Hon Au JA (giving the Reasons for Judgment and Decision on Costs of the Court): A. INTRODUCTION 1.This appeal is brought by the defendants against the judgment of K Yeung J (“the Judge”) given on 20 January 2021 ([2021] HKCFI 146) (“the Judgment”) after an eight-day trial, whereby it was adjudged, inter alia, that:
2.At the end of the hearing, we dismissed the appeal. We indicated that we would hand down our reasons for judgment in due course and would deal with the questions of costs in it. This is what we do now. B. BACKGROUND 3.The factual background of the case has been comprehensively summarised by the Judge in the Judgment. We do not propose to repeat the same save for highlighting matters that are relevant to the present appeal. 4.The 1st plaintiff is a Hong Kong company. It carried on business in research and development in bio-medical diagnostic products and provided molecular diagnostic laboratory services in Hong Kong. The 1st plaintiff was founded by Professor Joseph Tam (“Dr Tam”) in 2006. Dr Tam was at the material time the Chief Executive Officer, a shareholder and director of the 1st plaintiff.[1] 5.The 1st plaintiff had a plan (“the Plan”) to extend its service and products to the Mainland. The Plan involved the formation of a wholly owned foreign enterprise (“WOFE”) to hold an independent diagnostic / clinical laboratory (“ICL”) in the Mainland.[2] 6.Dr Tam first met the 2nd defendant in the 1980s when he was the leader of the DNA research group and the 2nd defendant was one of the students in the Department of Biochemistry at the University of Hong Kong (“HKU”). The two met again in or about November 2011 at the HKU Centennial Dinner. Dr Tam told the 2nd defendant about the Plan of extending the 1st plaintiff’s service and products to the Mainland. The 2nd defendant expressed interest in the idea.[3] The 2nd defendant further introduced the 1st and 3rd defendants to Dr Tam.[4] The 1st defendant was a company incorporated in the British Virgin Islands. The 2nd and 3rd defendants were respectively the Chief Executive Officer and managing director of the 1st defendant.[5] 7.From late 2011 to November 2012, Dr Tam and the 2nd defendant discussed duplicating the 1st plaintiff’s lab service in the Mainland by setting up an ICL in the form of WOFE.[6] 8.Diagcor International Limited (“DCI”) was a subsidiary company of the 1st plaintiff incorporated in Hong Kong on 27 November 2012. 廣州百皋醫學檢驗中心有限公司 (“Baigao”) was a company set up on 18 January 2013 by DCI in Guangzhou as a WOFE.[7] 9.However, as DCI did not qualify for “Mainland and Hong Kong Closer Economic Partnership Agreement” (“CEPA”) status, no licence was obtained for Baigao as a WOFE to operate a private ICL. It is the plaintiffs’ case that, in mitigation of its loss, the 1st plaintiff incorporated the 2nd plaintiff as its wholly-owned subsidiary on 28 October 2013 and the 2nd plaintiff obtained a business licence from the Administration of Industry and Commerce of Guangzhou Municipality on the same day by virtue of the 1st plaintiff’s status.[8] 10.As the management of the 1st plaintiff did not have the experience or knowledge of establishing and operating an ICL in the Mainland, the 1st plaintiff continued to seek assistance from the defendants. The 2nd and 3rd defendants were therefore engaged by the 1st plaintiff as its consultants to help with the establishment and operation of an ICL in Guangzhou through the 2nd plaintiff.[9] 11.The 2nd defendant was appointed as one of the first directors and General Manager of the 2nd plaintiff until he was removed on about 13 April 2015. The 3rd defendant was appointed as one of the first directors and legal representative (法人代表) of the 2nd plaintiff until she was removed also on about 13 April 2015.[10] 12.Things did not go smoothly and disputes arose which led to the present proceedings. Amongst the plaintiffs’ claims against the defendants were breach of agreements, misrepresentation, breach of fiduciary duties, duty to account, conversion, conspiracy, and misappropriation of funds. By the Judgment, the Judge allowed part of the 2nd plaintiff’s breach of fiduciary duties claim but dismissed the other claims.[11] 13.As mentioned above, this appeal relates only to the Judgment in allowing the 2nd plaintiff’s breach of fiduciary duties claim. C. JUDGMENT ON THE 2ND PLAINTIFF’S BREACH OF FIDUCIARY DUTIES CLAIM 14.The part of the 2nd plaintiff’s claim that was allowed relates to contracts for the development of a software system to run lab services (“LIS”).[12] 15.It was the plaintiffs’ pleaded case that[13]:
16.In this regard, the Judge made the following factual findings[14]:
17.At trial, the defendants did not dispute that the 2nd defendant as the General Manager and a director of the 2nd plaintiff and the 3rd defendant as the Legal Representative and the President of the 2nd plaintiff owed the 2nd plaintiff an implied duty of fidelity and / or fiduciary duties to act in good faith and in the best interest of the 2nd plaintiff.[15] 18.However, in relation to the LIS Contracts, the defendants through their oral evidence raised a defence of what the Judge described as the “Alleged Back-to-Back LIS Arrangements”. He explained this defence at [45(e) and (f)] of the Judgment as follows:
19.Insofar as the 1st LIS Contract is concerned, as noted above, the Judge held that the 2nd plaintiff’s breach of fiduciary duties in this respect was not made out on the evidence. The contract sum for the 1st LIS Contract, ie RMB1,950,000, was openly referred to in the 2014 Budget Table and the Baigao 3-Year P&L and Cash Flow, which was not consistent with the case pleaded by the 2nd plaintiff. It was clearly not consistent with any fraud. In any event, the 2nd plaintiff did not in fact execute the 1st LIS Contract and there is no evidence that any sum has been paid by the 2nd plaintiff to Wu Fan under the 1st LIS Contract.[16] 20.With respect to the 2nd plaintiff’s breach of fiduciary duties claim concerning the 2nd and 3rd LIS Contracts, the Judge found on balance that this aspect of the 2nd plaintiff’s case had been established. In particular, for the following reasons, it was held that what was done by the 2nd and 3rd defendants in relation to the 2nd and 3rd LIS Contracts was not done in good faith and / or in the best interest of the 2nd plaintiff[17]:
21.With regard to quantum, the defendants’ position was that deduction should be made in light of the fact that a functional LIS system was delivered and that the 2nd plaintiff would have had to pay RMB1,950,000 in any event. In this respect, it was the defendants’ evidence that the 1st defendant paid RMB1,950,000 to Wu Fan in cash in Hong Kong as payment for the development of the LIS system and the defendants argued that such sum was incurred for the benefit of the 2nd plaintiff, who did as a matter of fact enjoy the benefit of the LIS system delivered by Wu Fan.[18] 22.While it was found that a LIS system, albeit not fully functional, had in fact been delivered and computer hardware had in fact been acquired, the Judge held that it was not part of the defendants’ pleaded defence that part of the sum of RMB2,765,000 paid to it had been paid to Wu Fan, or towards the acquisition of any hardware. On the state of the defendants’ pleaded defence, the issue of deduction had not been raised, and was not engaged. In any event, the Judge also rejected the relevant evidence from the defendants’ witnesses. Indeed, the Judge specifically made the factual finding that there was no record or evidence of Wu Fan having been paid under the 1st LIS Contract.[19] 23.Accordingly, the Judge refused to make any deduction. 24.For the above reasons, the Judge allowed part of the 2nd plaintiff’s breach of fiduciary duties claim in respect of the 2nd and 3rd LIS Contracts and assessed the quantum at RMB2,765,000, or Hong Kong dollar equivalent of HKD3,448,060.86.[20] D. THIS APPEAL 25.In the Notice of Appeal filed on 17 February 2021, the defendants raised two grounds of appeal:
26.As further confirmed by Mr Chan for the defendants at the hearing, the defendants did not seek to challenge the Judge’s factual findings in the present appeal. 27.We will now turn to consider each ground of appeal in detail. E. DISCUSSION E1. Ground 1 28.As rightly said by Mr Chan at the hearing, this is in substance a pleading point ground. With reference to the principles on pleadings set out in Kwok Chin Wing v 21 Holdings Ltd (2013) 16 HKCFAR 663 at [21] and Sinoearn International Ltd v Hyundai – CCECC Joint Venture (a firm) (2013) 16 HKCFAR 632 at [30], Mr Chan submitted that the Judge’s finding of the 2nd and 3rd defendants’ breach of fiduciary duties was not based on the plaintiffs’ pleaded case and thus not permissible. 29.In particular, it is argued that while the only particular of breach of fiduciary duties pleaded by the plaintiffs was that both the 2nd and 3rd LIS Contracts were sham agreements, the Judge did not make any findings that the 2nd and / or 3rd LIS Contracts were a sham. Instead, the Judge formed his own view that the entering into the 2nd and 3rd LIS Contracts and the payment of the sum of RMB2,765,000 was done not in good faith and / or in the best interest of the 2nd plaintiff. This, Mr Chan said, was not open to the Judge as this finding went beyond the plaintiffs’ pleaded case in fixing liability against the 2nd and 3rd defendants. In support, Mr Chan further emphasized that the plaintiffs have not even pleaded that the 2nd and / or 3rd defendants were not acting in good faith and / or in the best interest of the 2nd plaintiff as a further and / or alternative basis for any breach of fiduciary duties insofar as the 2nd and / or 3rd LIS Contracts are concerned.[21] 30.Moreover, Mr Chan argued that, in so ruling, the Judge further erred in placing the burden of proof on the defendants to show that they had acted in the best interest of the 2nd plaintiff.[22] 31.To properly consider Mr Chan’s above contentions, we must first look at the relevant pleas in the Amended Statement of Claim at §§46, 51 and 52 as follows:
32.It is Mr Chan’s principal contention that the only particulars of breach of fiduciary duty of the 2nd and 3rd defendants pleaded at §51(4) of the Amended Statement of Claim is that the 2nd and / or 3rd LIS Contracts is / are a sham. There are no other particulars of breach pleaded. In particular, it was never pleaded with any particulars that the 2nd and 3rd defendants were not acting in good faith and / or the best interest of the 2nd plaintiff in causing the 2nd plaintiff to enter into these contracts. 33.We are not convinced by the defendants’ submissions. Mr Chan’s suggested reading of the pleading is plainly too restrictive and incorrect. 34.When the above quoted paragraphs of the Amended Statement of Claim are read properly as a whole (as they should be), it is objectively plain to us that firstly, the plaintiffs have pleaded that the defendants owed a fiduciary duty to them to act, amongst other, in good faith and in the best interest of the 2nd plaintiff. See §46(1) of the Amended Statement of Claim. 35.Secondly, the pleaded particulars of breach of fiduciary duties clearly extended beyond the assertion that the 2nd and 3rd LIS Contracts were sham agreements. The particulars of breach of fiduciary duties included the following:
36.Thirdly, based on all these pleaded particulars, the plaintiffs further pleaded at §§52(1)(a) and 52(2) that the defendants were in breach of their “fiduciary duties”, which must refer to all those duties specifically pleaded at §46(1) of the Amended Statement of Claim, including the duty to act in good faith and in the best interest of the 2nd plaintiff. 37.Once read as such, and given the Judge’s corresponding factual findings (which are not challenged or challengeable), it was plainly open to the Judge to conclude and find that, by causing the 2nd plaintiff to enter into the 2nd and 3rd LIS Contracts with the 1st defendant which did not develop LIS (as pleaded and found), without the consent and knowledge of the 2nd plaintiff’s board (as pleaded and found) to supersede the 1st LIS Contract with a much higher contract price (which sum was paid to the 1st defendant), the 2nd and 3rd defendants had not acted in good faith and in the best interest of the 2nd plaintiff.[26] 38.Moreover, in the absence of any relevant defence pleaded by the defendants, and the Judge’s rejection of the evidence in relation to the “Alleged Back-to-Back LIS Arrangements”, it must also be correct for the Judge to go on to hold that the 2nd and 3rd defendants did not subjectively believe that entering into the 2nd and 3rd LIS Contracts and the payment of the sum of RMB2,765,000 was in the best interest of the 2nd plaintiff.[27] 39.By reason of the above, it is clear that the defendants’ complaint under this ground about the pleading point is misplaced and without merit. 40.For the same reasons, there is nothing in Mr Chan’s further contention that the Judge wrongly reversed the burden of proof. As we have observed above, it was open to the Judge on the plaintiffs’ pleaded case to find and conclude that the 2nd and 3rd defendants were not acting in good faith and in the best interest of the 2nd plaintiff in causing it to enter into the 2nd and 3rd LIS Contracts. Once it is so held, there is simply no issue of reversing the burden of proof, as given the pleaded case and the evidence adduced by the plaintiffs to support those pleas, it was then up to the defendants to show that they indeed acted in good faith in so doing. This, they sought to do by raising for the first time at trial through oral evidence the “Alleged Back-to-Back LIS Arrangements”, which was however rejected by the Judge. 41.Further, the defendants argue that the Court ought to have found that Wu Fan developed the LIS system as an agent of the 1st defendant[28]. This can be disposed of briefly. We agree with the plaintiffs’ submissions that there is no basis to argue that the Judge was wrong in not finding such agency as the same was never the defendants’ pleaded case[29]. 42.In addition, the defendants also raised other points in the Notice of Appeal which were not elaborated in their skeleton submissions, namely:
43.In the premises, we rejected Ground 1. E2. Ground 2 44.At trial, the defendants argued that even if there was a breach of fiduciary duties, the quantum should be reduced taking into consideration the fact that a functional LIS system was delivered and that the 2nd plaintiff would have had to pay RMB1,950,000 (with reference to the 1st LIS Contract) in any event. In this regard, the Judge found that while a LIS system had been delivered and computer hardware had been acquired, it was not part of the defendants’ pleaded defence that part of the sum of RMB2,765,000 paid to the 1st defendant had been paid to Wu Fan or towards the acquisition of any hardware. The issue of deduction had not been raised in the pleadings and was therefore not engaged. On this basis, the Judge refused to make any deduction[33]. 45.In this appeal, the defendants argued that the issue of whether any money had been paid to Wu Fan or towards the acquisition of any hardware or whether the defendants’ evidence should be accepted is irrelevant as the crucial question is whether the 2nd plaintiff had indeed gained an identifiable benefit[34]. 46.We do not agree with this proposition. For the defendants to succeed in the deduction, they must establish that the benefit gained by the 2nd plaintiff was conferred by the defendants. This much is clear from decision of the Supreme Court of New Zealand in Amaltal Corporation Ltd v Maruha Corporation [2007] 3 NZLR 192 at [29] and [30] (referred to with approval by the Court of Final Appeal in Libertarian v Hall (2013) 16 HKCFAR 681 at [94]):
47.Indeed, there is no reason why the defendants should be entitled to “offset” a benefit that they did not in fact confer. There is simply nothing to “offset”. As noted above, the LIS system was developed by Wu Fan and not the defendants. 48.Further, as the plaintiffs rightly noted, Wu Fan, the proper party who did in fact develop the LIS system, may well have a valid claim against the 2nd plaintiff for the work done. There is no justification to subject the 2nd plaintiff to duplication of claims on the same subject matter. 49.For the same reasons above, the defendants’ alternative position that there should be a deduction of RMB900,000, on the basis of the plaintiffs’ pleaded case that the 2nd plaintiff’s board of directors authorized the price of RMB900,000 for LIS development, also falls away. 50.In the defendants’ skeleton submissions at §27(4), a new point (not mentioned in the Notice of Appeal) arguing that the plaintiffs have failed to discharge the burden of proving the quantum was raised. This is in direct contradiction with the Judge’s finding on the quantum which was based on the 2nd plaintiff’s payment of RMB2,765,000 to the 1st defendant under the 2nd and 3rd LIS Contracts[35]. 51.The issue should instead be whether the defendants, as defaulting fiduciaries, established that they had conferred a clear and manifest benefit which entitles them to offset against the compensation payable for their default. As mentioned above, the Judge held that the defendants did not even put forward a pleaded defence on deduction, let alone established it[36]. 52.In the circumstances, Ground 2 is also dismissed. F. DISPOSITION AND DECISION ON COSTS 53.For the above reasons, we dismissed the appeal. 54.As to costs, the parties agreed at the hearing that costs should follow the event. 55.However, Mr Wong for the plaintiffs asked for their costs to be taxed on an indemnity basis with certificate for two counsel for the following two reasons:
56.With respect to Mr Wong, we are not satisfied that we should order indemnity costs against the plaintiffs in this appeal. 57.First, although we have rejected the grounds of appeal, we do not find them to be so wholly without merits as to render the appeal an abuse of process. We do not think we should order indemnity costs on this basis. 58.Second, Mr Wong is eminently correct to point out that the defendants ought not have included most of the documents in the bundles for the purpose of this appeal. However, given the grounds of appeal as stated in the Notice of Appeal and the defendants’ written submissions lodged, we are of the view that the plaintiffs’ legal representatives would and should not have properly spent any or much time on perusing those irrelevant documents for the preparation of this appeal. Mr Wong also did not say in his submissions that he and his team had spent any or much time on them. In the premises, this alone also cannot be a basis to justify an indemnity costs order. 59.However, as this court has repeatedly emphasized, the practice of including voluminous irrelevant or unnecessary documents in the appeal bundles by legal representatives should rightly be criticised and discouraged. The appellants’ legal representatives should exercise proper care and due consideration in preparing the appeal bundles to include only those documents that are necessary and relevant to the issues that are required to be determine in the appeal. The defendants’ solicitors have a duty to their clients to only charge for only those documents that were necessary and relevant. 60.Mr Chan for the defendants also opposed the grant of certificate for two counsel as this appeal did not involve complicated issues, as even submitted by Mr Wong himself. However, it is usual practice that a successful party in the Court of Appeal is entitled to two counsel, unless the circumstances clearly show otherwise[38]. We do not find any such circumstance in the present appeal. 61.For all the above reasons, we further order that costs of this appeal be to the plaintiffs with certificate for two counsel, to be taxed if not agreed.
Mr Sunny Chan, instructed by Sit, Fung, Kwong & Shum, for the 1st, 2nd and 3rd appellants (defendants) Mr Martin Wong and Ms Kinsey Kang, instructed by Pang, Wan & Choi, for the 1st and 2nd respondents (plaintiffs) [1] [1], [5] and [61(b), (c)] of the Judgment. [2] [1] of the Judgment. [3] [10] and [61(a), (e), (f)] of the Judgment. [4] §11(iii) of the Amended Defence. [5] [9] and [11] of the Judgment. [6] [61(g)] of the Judgment. [7] [6] and [7] of the Judgment. [8] [145] ‑ [148] of the Judgment. [9] [149] of the Judgment. [10] [8], [12], [13] and [150] of the Judgment. [11] [245] of the Judgment. [12] [22(a)] of the Judgment. [13] [22] of the Judgment; §§48 ‑ 52 of the Amended Statement of Claim. [14] [167] of the Judgment. [15] [195] and [196] of the Judgment. [16] [204] ‑ [209] of the Judgment. [17] [210] ‑ [222] of the Judgment. [18] [224] of the Judgment. [19] [167(f)], [225] and [226] of the Judgment. [20] [245] and [251] of the Judgment. [21] See the defendants’ skeleton submissions at §17(1). At the hearing, Mr Chan also sought to argue that even on the basis that the entering into the 2nd and 3rd LIS Contracts was a breach of fiduciary duties, that breach only related to the 1st and 3rd defendants as they were “signatories” to the 2nd and 3rd LIS Contracts. As pointed out by this Court during the hearing and rightly accepted by Mr Chan, this point in hiving off the 2nd defendant was never raised in the Notice of Appeal or the defendants’ skeleton submission, and thus was not open to the defendants to make at such a late stage. [22] See the defendants’ skeleton submissions at §§13, 15(9), 16 and 17(4); see also Notice of Appeal at §3(b)(i), (j). [23] The Judge held that this fact was established. See [167(i)], [215] and [216] of the Judgment. It should also be noted that Au was not appointed as director of the 2nd plaintiff until July 2014, ie, after the 2nd and 3rd LIS Contracts. [24] In this regard, the Judge held that the 1st defendant was not a software house and should have had no business in the development in LIS. See [211] of the Judgment. [25] The Judge held that this fact was established. See [213] of the Judgment. [26] [211] ‑ [220] of the Judgment. [27] [222] of the Judgment. [28] See Notice of Appeal at §3(h); see also the defendants’ skeleton submissions at §17(6) – there appears to be a typo “…it is wrong to find as a matter of fact that Wu Fan had [not] been acting as D1’s agent in the development of LIS”. [29] The plaintiffs’ skeleton submissions at §9.2. [30] See Notice of Appeal at §3(c), (e). [31] [211] ‑ [222] of the Judgment. [32] See Notice of Appeal at §3(f). [33] [224] ‑ [227] of the Judgment. [34] [27] of the Judgment. [35] [213], [222] ‑ [227] and [251] of the Judgment. [36] [226] of the Judgment. [37] There are five appeal bundles lodged by the defendants. [38] See Hong Kong White Book 2022, §62/38/1. | ||||||||||||||||||||||||||||||||||||
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