Joint Liquidators of Hsin Chong Group Holdings Ltd (in Liquidation) and Others v. Pricewaterhousecoopers (A Firm)

HCMP 260/2021

[2023] HKCFI 3274

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO. 260 OF 2021

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D E C I S I O N

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Introduction

1.By Originating Summons dated 26.2.2021 (“the OS”), an order is sought for the Respondent, PricewaterhouseCoopers (“PwC”) to produce documents and make an affidavit as set out in Appendix A to this Decision.

2.The Applicants are the joint liquidators (“the JLs”) of (1) Hsin Chong Group Holdings Ltd (“HCG”); (2) Hsin Chong Construction Co. Ltd. (“HCCC”); and (3) Hsin Chong Construction (Asia) Ltd.  (“HCCA”) (collectively the “Companies”).  The Companies together with other direct/indirect subsidiaries of HCG were part of the Hsin Chong Group (“the Group”).  PwC are the former auditors of the Group. 

3.The JLs’ evidence identifies the documents and information sought as those relating to the “Problematic Transactions”, which comprise:

(a)  The “Tianjin JV Issue”;

(b)  The “HCG’s Beijing Properties Issue”;

(c)  The “Payments to Dianbai Issue”; (together “the First Three Problematic Transactions”) and

(d)  The “PRC Property Projects Issue”.

4.PwC provided some documents before the OS was issued; and other documents relating to the First Three Problematic Transactions after seeing the evidence in support of the OS.

5.Notwithstanding the ambit of the order sought, by the time of the hearing, the JLs sought only:

(a)  copies of audit working papers in relation to the PRC Property Projects Issue;

(b)  affidavit evidence as set out in Appendix A.

General Background

6.HCCC and HCCA, both Hong Kong companies, are subsidiaries of HCG, a Bermudan holding company.

7.HCG was listed on the Hong Kong Stock Exchange (“SEHK”) from 1991.  Trading of its shares was suspended on 3.4.2017 and the listing of its shares was cancelled with effect from 31.12.2019.

8.PwC was the auditor of the Group for the financial years 1991-2016.  It issued clean opinions on HCG’s consolidated audited financial statements (“AFS”) for the financial years 2012-2015 but a disclaimer on the 2016 AFS.  On 2.6.2017, it retired from office.

9.HCG began to expand into property development in Mainland China in 2011, with a land acquisition in Tieling, followed by further acquisitions in Beijing in 2013, and in Foshan, Taian, Guangzhou and Tianjin in 2015.

10.On 28.9.2016, Anonymous Analytics (“AA”) published a report (“AA Report”) making serious allegations against HCG, including that HCG was the chairman (Mr Lin)’s “personal dumping ground for problematic and non-revenue generating development properties at the expense of minority shareholders”, including several of the properties included within “PRC Property Projects”.  According to the AA Report, the Group had been operating and investing cash flow negative in each of 2013, 2014, 2015 and interim 2016 and it would discount its book value by 60%.

11.The AA Report caused HCG significant difficulties in obtaining financing, and in turn a substantial increase in indebtedness and interest expenses.

12.On 25.1.2017, HCG issued a public announcement in response to the AA Report.  It said the AA Report had been communicated to PwC, its auditor during the material period, and PwC had not withdrawn its previous unqualified opinion.  The announcement sought to explain but did not deny the allegations in the AA Report of the connection of acquired properties with Mr Lin, or the inflated price paid to Mr Lin’s companies or the repeated slips and delay of the projects.

13.By way of a letter dated 8.3.2017, PwC communicated to HCG’s Audit Committee various audit issues identified during its 2016 audit, and requested that an independent investigation committee (“IIC”) be formed to investigate them.

14.On 18.4.2017, PwC issued a disclaimer on HCG’s 2016 AFS, on the bases of, principally: (i) multiple uncertainties relating to going concern; (ii) the HCG’s Beijing Properties Issue and (iii) the Payments to Dianbai Issue.

15.On 10.1.2018, Deloitte Advisory (Hong Kong) Ltd, which was appointed by the IIC to conduct an independent forensic review, concluded that there was no clear evidence that there was any misappropriation of funds or commercial fraud by the management.

16.On 19.2.2019, the JLs were appointed as provisional liquidators of HCG on a “light-touch” basis by the Supreme Court of Bermuda.

17.On 21.3.2019, the Applicants issued a protective writ (as amended on 3.11.2020) against PwC in HCA 491/2019 (“HCA”).  The Writ has apparently been renewed annually.  At each renewal, the JLs claimed that they did not have sufficient information to determine whether they had a viable claim against PwC.

18.On 1.2.2020, the Supreme Court of Bermuda wound up HCG.

19.On 1.6.2020, Harris J made a winding up order against HCCA.

20.On 12.10.2020, Harris J made an order recognizing the winding-up of HCG in Bermuda.

21.On 2.11.2020, Harris J made a winding up order against HCCC.

22.On 11.12.2020, the Supreme Court of Bermuda appointed the JLs of HCG.

The Problematic Transactions

23.Although the JLs’ evidence addresses the First Three Problematic Transactions in detail, it is no longer necessary to consider those as PwC agreed to provide documents relating to those matters after seeing the evidence.

24.The JLs consider that the “PRC Property Projects Issue” is by far the most significant issue of the Group.  The Group’s 2011 to 2016 AFS show its net asset position to range from approximately HK$1.9 billion in 2011 to approximately HK$11.1 billion in 2016.  Since 2011, the Group spent over HK$11 billion (part of which was financed by HCG issuing notes, shares and convertible bonds) to acquire 6 PRC property projects and incurred a further HK$4.7 billion odd from 2011 to 2018.  The PRC Property Projects (“the PPP”) amounted to around 90% to 130% of the net assets of the Group. 

25.According to the accounting policies stated in the audit reports, the value of the PPP (reported in the 2011-2016 AFS as “Properties under development”) was stated at the lower of cost and net realizable value.  The Group’s management and PwC were therefore obliged, for each of the financial years, to review the carrying amounts of the PPP for impairment, and to make provision for impairment loss when the evidence indicated that the carrying value having fallen below net realizable value.

26.No impairment loss was recognized throughout 2011 and 2015 and only a relatively insignificant portion of impairment provision was made in 2016.  That was the manifestation of the view of management, with which PwC concurred.

27.During 2012 to 2016, the Group paid over HK$2 billion in total in interest, transaction costs and dividends.

Request for document production

28.The JLs seek the production of PwC’s audit working papers (“the AWP”) for the PPP.  PwC opposes such an order on the basis that the JLs already have enough information to pursue a viable claim against PwC.  Accordingly, PwC submits, the JLs’ request is now for the impermissible purpose of achieving an advantage qua litigant rather than discharging their duties as liquidators.

Relevant Legal Principles

29.The Applicants rely on Companies (Winding Up and Miscellaneous Provisions) Ordinance (“CWMPO”) s.286B with respect to HCCC and HCCA, which are HK companies.

30.CWMPO s.286B provides (so far as relevant):

“(1) At any time after the occurrence of an event specified in subsection (3) in respect of a company, the court may require by order any of the persons specified in subsection (4) to do one or more of the following—

…

(c) submit to the court an affidavit containing either or both of the following—

(i) an account of the person’s dealings with the company;

(ii) information concerning the promotion, formation, trade, dealings, affairs or property of the company;

(d) produce any books and papers in the person’s custody or power relating to the company or the promotion, formation, trade, dealings, affairs or property of the company.

(2) The court may make an order under subsection (1) of its own motion or on the application of—

(a) the provisional liquidator or liquidator of the company; or

...

(3) An event specified for subsection (1) is—

(a) the appointment of a provisional liquidator;

(b) the making of a winding-up order; or

(c) the commencement of voluntary winding up.

(4) The persons who may be subject to an order under subsection (1) are—

(a) an officer of the company;

… and

(d) a person whom the court thinks capable of giving information concerning the promotion, formation, trade, dealings, affairs or property of the company.

….”

31.HCG is a Bermuda company, not a Hong Kong company.  However, the Applicants seek an order for production of papers relating to HCG on two grounds:

(a)  HCG is the ultimate holding company for HCCC and HCCA; and “the conduct of the affairs of one company also constitutes conduct of the affairs of another when the first company either is controlled by or has control of the other”.  Eg. Re China Metal Recycling (Holdings) Ltd [2015] 2 HKLRD 747 para. 55.

(b)  This Court has a common law power under the principle of “modified universalism” to assist the officers of a foreign court of insolvency jurisdiction by, for example, ordering the production of information in documentary form necessary for the administration of a foreign winding-up, as long as the power is available to the officers under the law by which they had been appointed.  See Singularis Holdings Ltd v PwC [2015] AC 1675.

32.PWC does not dispute the Court’s jurisdiction to make an order in respect of documents relating to the affairs of HCG, should the s.286B requirements be satisfied.

33.Hong Kong’s leading relevant authority is Joint & Several Liquidators of Kong Wah Holdings Ltd v Grande Holdings Ltd (2006) 9 HKCFAR 766.  It concerned s.221 of the old Companies Ordinance (Cap.32), the predecessor provision to s.286B; and it drew on the English authorities under the equivalent English provision s.236 of the Insolvency Act 1986 (and its predecessor provisions).  Lord Millett NPJ stated (with added emphasis in bold):

“23. Section 221 and corresponding provisions overseas are designed to enable a liquidator to carry out his functions.  These are twofold: (i) to collect the assets of the company, settle its liabilities and distribute its surplus funds amongst its creditors; and (ii) to investigate the causes of the company’s failure and the conduct of those concerned in its dealings and affairs:….  The first of these functions is primarily of concern to the company’s creditors and shareholders; the second serves a wider public interest in enabling the authorities to take appropriate action against those guilty of misconduct in relation to the company.

…

25. The section is a vital part of the statutory insolvency regime.  It is designed to meet the difficulties faced by liquidators in finding out what has happened to the company’s assets and what has caused the failure of the company.  It has often been observed that a liquidator is usually a stranger to the affairs of the company.  He relies on orders for examination and production to reconstitute the knowledge of the company, in circumstances where the records are often inadequate, in order to be able to perform his duties in recovering the company’s assets and generally to enable him to carry out his functions effectively and with as little expense and as expediently as possible.

26. The section’s purpose, however, is not limited to reconstituting the state of the company’s knowledge, even though that may be one of the purposes most clearly justifying the making of an order...  It may be used to discover facts and documents relating to potential claims by the liquidator against third parties or to enable him to report to the authorities with a view to taking action against those responsible for the company’s failure…There is an important public interest ensuring that the liquidator should obtain the information needed to understand the company’s affairs and the reasons for its failure; and to report to the authorities to enable them to take appropriate action against those guilty of misconduct in relation to the company’s affairs.

27. It has been repeatedly stated, and the legislative purpose demands, that the powers conferred on the court by the section or its overseas equivalents are wide, general and unlimited.  The liquidator must satisfy the court that the information or documents sought are reasonably required to enable him to carry out his functions.  In considering this question, the authorities establish that great weight should be given to the views of the liquidator, for he is an officer of the court and alone has the necessary knowledge of the problems facing him in understanding the affairs of the company and his reasons for seeking production of documents in the terms proposed; moreover, there are often great difficulties in seeing how the terms of the order can be cut down and remain effective...

28. The jurisdiction conferred on the court by the section is necessarily wide, and being of an inquisitorial nature it is capable of working with great severity against third parties... It has a discretion to make or refuse the order sought or to modify or limit its terms. …

The balancing exercise

29. In exercising its discretion, the court must endeavour to strike a balance between the liquidator’s reasonable requirements and the need to avoid making an order that is unreasonable, unnecessary or oppressive to the party from whom the documents or information are sought…

30. Over the years the courts have laid down general principles governing the balancing exercise which the court is called upon to undertake. … They can be summarised as follows:

(1) The liquidator must show that the documents are reasonably required to enable him to carry out his functions, not that they are necessary to enable him to do so;

(2) the case for making an order under the section in respect of a former officer is usually stronger than in respect of a stranger who owes no fiduciary duties to the company and who is not under a statutory duty to assist the liquidator;

(3) there is an element of oppression in requiring a party to provide information which exposes him to potential liability;

(4) an order for oral examination is likely to be more oppressive than an order to produce documents;

(5) it is oppressive to require a person suspected of wrongdoing to prove the case against himself on oath prior to proceedings being brought;

(6) an order is not necessarily oppressive because it is inconvenient for the party subject to it or causes him a lot of work or may make him vulnerable to future claims;

(7) in the light of the summary nature of the procedure and the need for expedition, the court cannot be expected to indulge in fine judgments as to the precise width of the order which should be made; and

(8) the court must take care not to cut down the width of the order sought by the liquidator in a way which would risk making it ineffective.

…

33. ... The power of a court or arbitral tribunal to order discovery is very narrow, and narrower than the powers of the court under s.221 in at least two respects. First, discovery is limited to documents which “relate to any matter in question in the action” in circumstances where there are existing proceedings in which the issues have been defined by the pleadings.  Section 221 by contrast is concerned with documents “relating to the company” in circumstances where there is no dispute and there are no existing proceedings or issues defined by pleadings. Secondly, a party seeking discovery is not entitled to the production of documents which may help him discover whether he has other claims not covered by the pleadings; he must not be engaged on a “fishing” or speculative expedition.  The liquidator, by contrast, is necessarily engaged in just such an expedition and the purpose of s.221 is to enable him to carry it out effectively.

…

40. By contrast with the authorities on these processes those on s.221 and the corresponding provisions overseas show that the courts have consistently made orders which describe the documents to be produced in very general terms.  They usually adopt the formula used in the section itself and require the production of documents “relating to the company” in liquidation.  This is often though not always subject to some limitation in order to meet the legitimate concerns of the party from whom production is sought where this can be done without making the order ineffective.  Although the orders in the present case are in wide terms, requiring the appellants to produce documents “relating to the Companies” and their current and former subsidiary and associated companies, they are limited both as to time and as to the transactions and matters in respect of which production is sought.

…

45. …the need to identify the documents to be produced with sufficient particularity is not a jurisdictional requirement, but rather an aspect of the balancing exercise and so a matter of discretion.  The liquidator must show that he is reasonably entitled to require production of the documents in the terms by which he describes them; the court must “do what it can” to define them as closely as possible consistently with making the order effective.”

34.I now focus particularly on what the authorities say about making an order for production of documents where the liquidator has a potential claim against the respondent.

35.In New China Hong Kong Group Ltd. v. Ernst & Young [2003] 3 HKLRD 799 Kwan J. stated:

“23. …The provision may be used to discover facts and documents relating to specific claims against specific persons which the applicant has in contemplation and it is in itself no bar that the applicant may have commenced or may be about to commence proceedings against the proposed witness or someone connected with him…

26…. The purpose of the provision is to assist the liquidator to carry out his duties as liquidator, but not, once he is or is about to become a litigant, to give him a special advantage as litigant over what ordinary parties would have under the normal rules of civil procedure….”

36.In Cloverbay Ltd (Joint Administrators) v Bank of Credit and Commerce International SA [1991] Ch 90, Sir Nicholas Browne-Wilkinson VC (as he then was) gave the following general guidance:

(a)  At 102A-C:

“Circumstances may vary infinitely.  It is clear that in exercising the discretion the court has to balance the requirements of the liquidator against any possible oppression to the person to be examined.  Such balancing depends on the relationship between the importance to the liquidator of obtaining the information on the one hand and the degree of oppression to the person sought to be examined on the other.  If the information required is fundamental to any assessment of whether or not there is a cause of action and the degree of oppression is small (for example in the case of ordering premature discovery of documents) the balance will manifestly come down in favour of making the order.  Conversely, if the liquidator is seeking merely to dot the i's and cross the t's of a fairly clear claim by examining the proposed defendant to discover his defence, the balance would come down against making the order.  Of course, few cases will be so clear: it will be for the judge in each case to reach his own conclusion.”  [Emphasis in bold added]

(b)  At 102D-E:

“The purpose of section 236 is to enable him to get sufficient information to reconstitute the state of knowledge that the company should possess.  In my judgment its purpose is not to put the company in a better position than it would have enjoyed if liquidation or administration had not supervened.  In many cases an order under section 236 may have the result that the company is in such improved position e.g. an order for discovery of documents made against a third party in order to reconstitute the company's own trading records may disclose the existence of claims which would otherwise remain hidden.  But that is the result of the order not the purpose for which it is made.”

37.In Re B+B Construction Co Ltd. (in liq) [2005] 2 HKLRD 478 para.18, the Court of Appeal approved the following principles elicited from the English authorities:

(a)  Applications by liquidators will be refused where liquidators seek examination of a person or documents from a person in order to gain advantage e.g. to ascertain whether it was worth proceeding with a civil action already commenced against him.

(b)  There is a critical difference between an application made for such a purpose and an application for examination required in order to enable the liquidator to fulfil his general duties as liquidator to reconstitute, investigate and understand the company’s affairs and to get in its assets.

(c)  What primarily must be considered is why the liquidator is seeking the order.  The essence of the matter is that the powers conferred by the section are given to the court in order to enable the liquidator the better to discharge his functions as such: they are not given in order to enable a litigant to improve his prospects of litigious success by giving him rights which other litigants lack, even if he is a liquidator.

(d)  The effect of making an order under the section would normally be to improve the liquidator’s position qua litigant, and that “in many cases there will be much overlapping and … it will be impossible wholly to disentangle motives and purposes”, but there is no general rule that an order under the section will always be refused once the writ has been issued or served, nor that it will always be granted if no writ has been issued or served.  In every case the court must be astute to avoid the section being used in any oppressive, vexatious or unfair way.

(e)  There is a distinction to be drawn between applications for the (impermissible) purpose of improving the position in current civil litigation against the proposed examinee and applications for a permissible purpose which may at the same time have the result of improving the liquidator’s position in other respects.

38.Auditors are regarded as officers of a company for the purposes of s.286B: Re New China Hong Kong Group Ltd [2003] 3 HKLRD 799 at para. 33.

39.S.286B may embrace not only the company’s own records but also those maintained by individuals which relate to the affairs or property of the company.  In particular, auditor’s working papers is a class of documents frequently subject to production.  See for example, Re China Medical Technologies Inc (No.2) [2018] 2 HKLRD 1202 (CA) §34; Re Trading Partners Ltd. [2002] BPIR 606, §§11 and 13; Re Sasea Finance Ltd [1998] BCC 216 as recorded in the later decision at [1999] BCC 103; Re British & Commonwealth Holdings plc [1993] AC 426; Re New China Hong Kong Group Ltd [2003] 3 HKRD 799; Re China Medical Technologies Ltd, (unrep) HCCW 435/2012, Harris J. 24/2/2016.

40.Similarly, such orders have been made against auditors notwithstanding that the liquidator has already issued a writ against the auditor for negligence eg. Re Sasea Finance Ltd (supra); PwC Bermuda v. Kingate Global Fund (in liq) [2011] CA (Bda) 6 Civ 42, 46, 51, 53-54.  However, the right approach is not to decide whether litigation has been or is about to commence.  It is to determine the purpose of the production order sought.

41.Where litigation is commenced or contemplated against the respondent, the test is whether the liquidators know enough to decide whether there is a viable claim, not whether they possess enough materials to plead the most advantageous claim.  Seeking information that goes to a possible defence is more likely to be oppressive than information reasonably required to assess whether a company has a viable cause of action Re China Medical Technologies Inc [2016] 2 HKLRD 962 paras. 24-31.

42.The JLs rely on The Joint and Several Provisional Liquidators of China Medical Technologies Inc v. KPMG (A firm), unrep., HCCW 435/2012, 24.2.2016, to submit that the liquidator’s burden to satisfy the court that the documents sought from the former auditor are reasonably required should not be onerous.  In that case, Harris J. held at paras. 44-48:

(a)  It is not necessary for the liquidators to explain why they need each category of documents that they seek or to demonstrate in detail their efforts to obtain them from other sources;

(b)  Where the company’s affairs cry out for thorough investigation and the liquidators have been unable to obtain documents from the company and its subsidiaries, it is sufficient for them to explain this and that consequently it is necessary for them to look to the auditor to provide documents that may assist them in investigating the company’s failure and the conduct of those concerned in its dealings and affairs; and

(c)  Even if the liquidators are seeking production of a very considerable quantity of documents, the production of the same would not be especially onerous if the auditors have ensured that regulatory standards have been complied with, such that the documents should be readily identifiable and locatable.

43.It is tolerably clear, in light of these authorities, that the liquidator must provide enough information about the state of the information available to him for the court to form its own assessment as to the principal purpose of the application for documents, and whether an order is reasonably required in the circumstances.

44.For instance, in Re XL Communications Group Plc (in liq) [2005] EWHC 2413 (Ch) at paras 33-35, Kitchin J made clear that for a liquidator to state that the purpose of the application is to establish the true financial position of the company, to investigate fully the affairs of the company and to reconstitute the state of knowledge of the company is no more than to state a liquidator’s function.  The evidence in support of the application must explain why the documents sought are required to carry out those functions and establish a reasonable requirement for the documents he seeks.

45.PWC relies strongly on Re Sasea Finance Ltd (in liq) [1999] BCC 103.  In that case, the liquidator’s application for interrogatories from the company’s auditors under s.236 of the Insolvency Act 1986 (the equivalent English provision to s.286B) was dismissed on the basis that it came close to an abuse of process as the liquidators knew what happened, what was done and what was not done.  There, the liquidators were found to have simply wanted to improve upon an intended negligence case against the auditors by extracting from them damaging admissions or unconvincing justifications.  The facts in Sasea are unusual, as the liquidators had already obtained an order for production of the audit working papers from the auditors under section 236, with which the auditors had complied, and the liquidators were now going back to ask for interrogatories comprising 100 questions as to why the auditors did what they did.

The evidence

46.The JLs’ evidence in support of the OS has developed across the course of the three affirmations filed by Lai Wing Lun (“Lai”) on behalf of the JLs. Chu Ho Kwan Raphael (“Chu”) and Pong Fei Ho (“Pong”) were the PwC audit partners responsible for 2016 AFS and 2012-2015 AFS respectively, and their evidence has been filed to explain PwC’s opposition to the OS.

47.Lai 1 dated 26.2.2021 for the JLs gives a substantial description of the First Three Problematic Transactions, and the need for related documents (which I need not address); and in respect of the PPP states:

(a)  The JLs learned in about March 2019 that HCG caused HK$11 billion to be spent on acquiring the PPP.

(b)  The preliminary estimated realizable value of the PPP “may be limited”, and for some of the PPP the expected recovery “may even be nil”.

(c)  The JLs had concerns about the possible material overstatement of valuations as well as the accuracy of the accounting treatment with which PwC concurred.

(d)  The overall net asset value position of the Group would have been reduced by 90% or more if no value was attached to the PPP.

(e)  The PPP acquisitions and mismanagement might have caused the collapse.

(f)  There may be claims against directors for breach of fiduciary duties and negligence; that was still under investigation.

(g)  There was reasonable cause for concern that PwC during 2011-2016 failed to carry out sufficient due diligence of the PPP and about why PwC concurred with management’s valuations of the PPP and whether there was a viable claim against PwC.

(h)  The audit work papers (“AWP”) as defined by Hong Kong Standard of Auditing 230 (“HKAS 230”) would serve as contemporaneous evidence of (a) the auditor’s basis for a conclusion about the overall objective of the auditor; and (b) whether the audit was planned and performed in accordance with the HKSAs and other applicable requirements.  The AWP would record the audit procedures performed and evidence gathered for PwC to arrive at the conclusion concurring with management’s valuation of the PPP.  The AWP would record any relevant management representations and the steps taken to test such representations.

(i)  The JLs did not have sufficient material to evaluate the viability of a potential claim against PwC without the AWP as they did not have information on (a) what steps if any PwC took to detect material misstatement at various stages including planning, internal control and substantive procedures; (b) what audit evidence PwC had gathered (c) how PwC evaluated the impact of lack of revenue generated by the PPP on the valuation of the PPP (d) on what basis PwC arrived at a clean opinion on the 2012-2015 AFS; (e) what audit procedures had been performed and evidence gathered for PwC to arrive at the conclusion concurring with management’s valuation of the PPP.

(j)  The JLs had attempted to extract information from the former officers, financial advisers and property valuers of HCG:

i.  Stating the JLs may consider applying for orders for production of documents or oral examination against former officers in relation to the PPP.

ii.  Stating that of 11 financial advisers and property valuers:

1.  Two financial advisers had not responded and the JLs intended to take out applications against them;

2.  The valuers had provided the JLs with information and the JLs were in the course of reviewing the requested documents.

iii.  The JLs’ preliminary view was that the information received was far from sufficient for the JLs to carry out their tasks and duties (without any specificity as to where gaps arose)

(k)  It would be necessary and appropriate, as well as more cost-effective and time-efficient to seek the order against PwC who are expected to have a comprehensive set of records useful for the JLs’ investigation.

48.Chu 1 dated 2.7.2021 for PwC states:

(a)  Although the JLs had commenced the HCA against PwC in March 2019, they had refused to supply a copy to PwC so PwC did not know what allegations were made against it.

(b)  The JLs had not substantiated their concern about either the accuracy of the carrying values of the PPP recorded in the AFS, or the estimated realizable value being extremely limited or nil.

(c)  The JLs had in the First Creditors’ Report suggested the cause of (or at least one cause of) the low estimated recovery was the high secured indebtedness, and that the PPP had extrinsic realizable value.

(d)  The JLs ought to be able to assess for themselves what was the proper carrying value of the PPP at the material times, and with the actual valuation reports prepared for the Group be in a position to understand those valuations, and if there had been a material misstatement then they would be in a position to make an informed decision about whether to pursue PwC.  They would not need PwC’s AWP for that purpose.

(e)  The JLs had received the Group’s valuation reports from the valuers and from PwC.

(f)  Based on the explanations given in Lai 1 for needing the AWP for the other three Problematic Transactions, PwC would provide those. However, PwC would not provide the AWP for the PPP where the JLs had failed to explain a reasonable requirement for them and had barely asserted that the PPP had extremely limited value and should have been substantially written off in the AFS or the subject of a modified opinion or disclaimer.

49.Lai 2 dated 2.12.2021 for the JLs:

(a)  Provides evidence of contemporaneous valuations of some of the PPP at material times, and of valuations obtained by the JLs in respect of the material times, to substantiate the overstatement concern.

(b)  Identifies “impairment indicators” in respect of the PPP.

(c)  Provides evidence of understated tax liabilities in respect of the PPP.

(d)  Provides evidence that persons connected to the Group may have benefited from the acquisitions of the PPP by the Group.

(e)  States:

“94 …it is beyond doubt that various [PPP] are irregular, commercially unsound, lacking business rationale and commercial substance, and obviously not in the interest of HCG and/or the Group. The aforesaid problems obviously cast doubt on the veracity of the Group’s AFS.

…

96 …considering that there were various indications that the net realizable values of the [PPP] could have substantially deviated from the market values estimated by the professional valuers, the JLs would need to understand the rationales as to why PwC was satisfied with the management’s assessment of the fair values of the [PPP] without any impairment.  The JLs anticipate that the [AWP] will be essential for the JLs’ investigations in this regard.”

(“The Beyond Doubt Assertion”)

50.Pong 2 dated 10.8.2022 for PwC:

(a)  Asserts that it seems clear that the JLs already have enough information to determine whether they have a cause of action against PwC.

i.  Whether or not the JLs had objective evidence showing that the values were materially overstated in 2012-2015 would dictate whether or not they were ready to sue PwC.  They would only need expert evidence to support a claim of overstatement; PwC’s own assessment would not be required.

ii.  Similarly, if there were objective “impairment indicators” indicating that the values of the PPP were overstated, that was an objective matter and did not depend on PwC’s own assessment.

(b)  Confirms that “PwC has already provided its documents (including its own working papers) responsive to the First Three Problematic Transactions” (“Pong’s 1^st Sworn Confirmation”).

51.Lai 3 dated 11.8.2022 for the JLs:

(a)  Asserts that the JLs require the AWP relating to the PPP not only to investigate a claim against PwC, but also  to carry out their more general statutory duties of investigating the affairs of the Group; taking possession of information relating to the Group; ascertaining the basis upon which the management and auditor concurred with the carrying values of the PPP reported in the AFS; and to find out who was responsible for the collapse of the Group and take necessary recovery actions.  Attaches a non-exhaustive list of missing documents in this regard (which is not reflected in the OS or any other written request made by the JLs).

(b)  Responds to PwC’s evidence (to the effect that the JLs already have valuation reports and working papers from the property valuers to enable the JLs to determine whether they have a cause of action against PwC) by stating that (i) some of the property valuers and financial advisers had failed and/or refused to provide any of the requested documents to the JLs; and (ii) upon reviewing the information and documents provided by the financial advisers and property valuers, the JLs were of the view that the said information and documents were still far from sufficient for the JLs to carry out their tasks and duties as mentioned above.  Attaches a non-exhaustive list setting out the missing documents which were essential for the JLs to conduct the investigation into the PPP (which is not reflected in the OS or any other written request made by the JLs).

(c)  Queries PwC’s evidence as to the provision of all documents relating to the First Three Problematic Transactions.

52.Pong 3 dated 24.2.2023 for PwC:

(a)  Asserts that Lai 3 contains new factual matters, in particular the two new lists of documents alleged to be missing from PwC and the Group’s professional advisers.

(b)  Responds to the list of PWC missing documents, and confirms that “Documents initially received from HCG have all been provided to the JLs (including those relating to the [PPP].” (“Pong’s 2^nd Sworn Confirmation”)

(c)  Asserts that the 2^nd list of missing documents is a matter to be raised with HCG’s professional advisers not PwC; but make some obvious points e.g. pointing out inconsistencies with Lai 1.

(d)  Clarifies that certain documents identified by Lai 3 as missing have indeed been provided.

(e)  Exhibits the writ against PwC.

53.In the JLs’ written submissions for the hearing of the OS, counsel for the JLs put the need for the AWP relating to the PPP as follows:

(a)  The nature and purposes of AWP is well-defined by HKSA 230.

(b)  Accordingly, the AWP relating to the PPP should contain “contemporaneous information and critical evaluation on:

i.  the management’s policy and approval procedures in relation to the Group’s investment in the PPP;

ii.  the control(s) put in place by the management in acquiring, and subsequently continuing to invest in, the PPP;

iii.  the commercial substance for the PPP;

iv.  how the management arrived at the carrying value of each of the PPP;

v.  how the management ensured the assertions made in relation to the PPP (e.g. existence, ownership / control, valuation) were correct;

vi.  the management’s views on the prospect of recoverability of cost and realizable value for each of the PPP, and the bases in support of such views; and

vii.  the management’s and the auditor’s assessment of the need to make impairment provision for each of the PPP.

(c)  In addition, the AWP would also contain the following information:

i.  PwC’s understanding of how the management arrived at such assertions and the judgments involved;

ii.  PwC’s discussion with the management as well as representations or explanations from the management;

iii.  the procedures planned and performed by PwC in testing those financial assertions;

iv.  the audit evidence obtained from those procedures;

v.  the evaluation of all evidence obtained either by PwC itself and/or from the management;

vi.  the judgment involved to evaluating the said evidence;

vii.  the conclusion reached by PwC on those assertions and the supporting bases;

viii.  in case of slips in schedules, there would be examination of the reasons and whether there should be impairment provisions;

ix.  in case of the lack of sales or revenue generated after investment cost, there would be examination of the reasons and whether there should be impairment provisions;

x.  in case of negative cash flow or high financial cost, there would be consideration of the Group’s operating as a going concern;

xi.  the reasons for PwC coming to a different conclusion from the AA Report;

xii.  the information obtained after PwC sought clarification from management as to the approval procedures, business rationale and commercial substance as well as value and status of the work and service performed before making the two disclaimers in the 2016 FS; 

xiii.  the information obtained from management before PwC decided not to withdraw its earlier unqualified opinion (when PwC presumably sought similar clarification).

(d)  Whilst the JLs were able to identify the Problematic Transactions which had drained the Group’s financial resources, the following questions remain unanswered:

i.  why the Group continued to expand its PRC property investments over the years when it lacked sufficient internal financial resources;

ii.  why the Group continued to invest when the PPP kept missing deadlines and made little (if not no) mileage both in terms of progress and revenue;

iii.  whether the Group had put in place any control (and how PwC tested the effectiveness of such controls) over acquisitions of, and subsequent injection of funds into, those PPP;

iv.  what was done to examine whether the acquisitions of investments were at arm’s length and without conflict of interest;

v.  what was done to examine the physical or actual progress of the PPP;

vi.  what was done to examine that the Group had secured control of ownership of the PPP;

vii.  what was done to examine the legality of the PPP and the potential tax exposure;

viii.  what was done to verify the carrying values of the PPP;

ix.  on what bases the Group’s management and PwC justified the conclusion that no impairment provision needed to be made, particularly in the light of the aforesaid unusualness.

54.I clarified with Ms Eu SC that these clearly articulated list of reasoned requirements contained in her written submissions had not been provided in the evidence.  Ms Eu Sc confirmed that the lists were compiled taking account of the HKSA 230, the case-law and the evidence, and that the lists themselves do not appear in the evidence.  Ms Eu SC submitted that whilst Lai 1 might not have contained all necessary evidence, the JLs’ evidence as to reasonable requirements of the JLs was complete by the time of the hearing.

55.The JLs’ written submissions also submit that the 2 new lists of “missing documents” exhibited to Lai 3 are part of the AWP relating to the PPP so that this will be addressed by whether or not PwC are ordered to produce the AWP.  PwC has taken this at face value, as will I; however, it is worth noting that this position is certainly not apparent from Lai 3 or the lists themselves (in particular the list relating to property valuers and financial advisers).

Assessment of the JLs’ reasonable requirements

56.I turn to consider whether the JLs need the AWP to assess the viability of a claim against PwC, or whether they are seeking to dot the i’s and cross the t’s of a claim they can already make, or somewhere in between.

57.What is necessary in order to advance a viable claim against PwC? There is no material dispute as to the law.

(a)  The necessary ingredients of an audit negligence claim are: the duty; the duty was owed to the plaintiff; a breach of the relevant duty; damage suffered as a result of the breach; and loss flowing from the damage:  Guang Xin Enterprises Ltd. v. Kwang Tong Tan & Fong (a firm) [2003] 3 HKLRD 527 (CA) para. 15.

(b)  The auditor’s responsibility is not to prevent fraud or error but to exercise reasonable care in detecting it.  Accordingly, failure by the auditor to detect fraud or negligence is not of itself proof of negligence by him.  When planning the audit, he should assess the risk of fraud or error and design audit procedures which take account of that risk.  He should examine with professional skepticism the information and explanations provided by the management.  If he becomes aware of information indicating that fraud or error might exist, he should obtain an understanding of the circumstances; if he believes that the possible fraud or error might have a material effect on the financial statements, he should perform appropriate procedures; he should document his findings and discuss them with the appropriate level of management; and he should consider the implications of his findings on other aspects of the audit.  Jackson & Powell on Professional Negligence, 9^th ed. para. 17- -094.

58.Mr Shieh SC attractively argued that the JLs had all the information they needed to plead a case of negligence against PwC in respect of the overstatement of the PPP valuations on the AFS.  He argued that:

(a)  Having regard to the Beyond Doubt Assertion, and the objective evidence of “impairment indicators”, the JLs should be able to plead what a reasonable auditor should have done;

(b)  Then it is possible to formulate a case by inference that PwC did not do that.

(c)  He submits that the JLs have not deposed to being unable to obtain assistance from expert auditors to formulate a case.

(d)  The JLs can plead the alleged misstatements in the AFS; and that PwC should not have issued clean audit opinions.

(e)  The JLs can plead the losses suffered as a result of the clean audit opinions, which would include financing costs, interest and dividends which would not have been incurred or paid but for PwC’s audit opinions.

59.By contrast, Mr Shieh argued, the reason why the JLs wanted the AWP (including the information as to why PwC was satisfied with management’s assessment without impairment provisions, audit steps taken, audit evidence gathered and on what basis PwC issued clean audit opinions) was so that the JLs could be sufficiently assured that PwC had breached its duty of care.

60.In my view Ms Eu SC is right to emphasise that the JLs do not regard it as appropriate to sue PwC as the warrantor of the valuations in the AFS.  If that were the claim, it would be sufficient to point to the actual valuations and the proper valuations, and complain about the difference, and the resulting loss. However, for an audit negligence claim, to establish a breach of duty, it is necessary to point to the difference between the audit steps which should have been taken and the audit steps which were actually taken, by reference to the circumstances known to the auditors.  It is apparent here that the factual circumstances known to PwC at material times, and the steps they actually took, are matters not known to the JLs and the most likely source of that information is the AWP. 

61.I agree that, in order to assess the viability of, and plead, an audit negligence claim, the JLs reasonably require to see the AWP.  The assessment of the viability of the claims of HCG, HCCA and HCCC against PwC is part of the JLs’ duties.  I do not consider that the JLs already have enough information to make that assessment. Further, if the JLs pursue a claim against PwC, the AWP in respect of the PPP would be the subject of discovery so that the oppression involved in obtaining premature discovery of documents is relatively small (per Re Cloverbay at 108A-C as set out at para. 36 above).

Would a document production order be too oppressive to PwC?

62.However, I must balance the JLs’ reasonable requirements against the level of oppression.

63.Clearly, it is oppressive for PwC to have to provide its AWP to the JLs where there is the possibility of being exposed to litigation.

64.On the authorities, and given the inability of the JLs to currently bring a claim, I do not regard an order for production of the AWP as so oppressive as to outweigh the JLs’ reasonable requirements to see the AWP.  That is subject to the order being of appropriate scope.

Scope of Order

65.The court must avoid making an order which is unreasonable, unnecessary or oppressive. I have in mind paras. 30(7) and (8), 40 and 45 of Kong Wah (set out at para. 33 above).

66.The OS is extremely broad in scope and is neither limited to the Problematic Transactions nor the PPP, nor to AWP, and seeks 19 categories of documents.  The JLs’ primary position is they seek an order in those terms.

67.PwC argues that any order should be limited to the AWP of the PPP because that was what the JLs claimed they reasonably required, at least by the time of the hearing.  I agree.

68.Mr Shieh suggested wording which referred only to AWP on the basis that is a defined term which both parties clearly understood.

69.Ms Eu argued that the JLs sought the list of 19 categories of types of documents to be sure to encompass all AWP (where the JLs did not know exactly what documents PwC had), and she submitted that this form of order had been taken from another case.  It may well be that this form of order was appropriate for another case, but it is clearly not appropriate for this case.  For example, category (1) seeks documents relating to the auditing of the AFS and interim financial statements; whereas category (2) relates to documents in respect of audit and other services defined as “the Services”.  The JLs by the OS and their supporting evidence seek documents from PwC on the basis that they were the Group auditors and not on the basis of any other service.  Categories (6) and (7) and (12) to (15) all refer to the Services.

70.I gave the JLs an opportunity to address my concern about the form of draft order being much wider than necessary to meet their stated reasonable requirements.  The JLs’ second choice position is that the document production order be limited to the Problematic Transactions; and paragraph (16) of the Schedule (in Appendix A) be removed; and the order for affidavit evidence be edited to delete paragraph 2(a).  The JLs’ second choice form of order still does not address my concerns.

71.I will make an order for production of the AWP (as defined by HKSA 230) relating to the PPP (as defined by Lai 1 para. 187) in respect of the 2012 to 2016 AFS to include on a non-exhaustive basis items (1), (3)-(5), (8)-(11), (12)-(15) subject to editing to be limited to audit work, (17)-(18).  I omit (16) on the basis that it is too vaguely worded to be clearly understood.  The parties are to attempt to agree a form of order to be submitted to me within 21 days, failing which the parties should lodge their respective proposals of order with any explanation not to exceed 2 pages.

72.I will not make an order for affidavit evidence.  

(a)  The form of order sought by the JLs is that normally sought in the context of litigation discovery which is provided pursuant to court rules rather than a court order.

(b)  I note the evidence already provided by PwC by way of Pong’s 1^st Sworn Confirmation and Pong’s 2^nd Sworn Confirmation, and I see no reason to require further sworn evidence on those matters, namely the production of all documents relating to the First Three Problematic Transactions and all documents save for the AWP relating to the PPP.

(c)  I see no reason to think that PwC will not comply with the document production order for the AWP relating to the PPP.

73.I will give liberty to apply in the order lest there are any further issues about adequacy of document production.  

Costs

74.The JLs first wrote to PwC on 25 March 2019 stating that they had issued legal proceedings against PwC and requested documents including 11 categories of documents now listed in the schedule to the OS.

75.PwC has since that time:

(a)  provided 143 folders of documents to the JLs, including:

i.  documents of HCG in relation to the audit issues identified by PwC, which led to its disclaimer on the 2016 AFS; and

ii.  books, records and documents of HCG, HCCC and HCCA initially provided to PwC for audit purposes;

(b)  asked the JLs to explain why further documents, including PwC’s own working papers, were reasonably required, in light of the issue of proceedings against PwC (where the JLs refused to provide a copy of the writ to PwC) and PwC’s concern that production of such documents might be oppressive.

76.Having reviewed the correspondence from March 2019 to September 2020, I agree with PwC’s submission that the JLs refused to engage. The JLs simply referred to their powers and duties, and to case-law, but they did not explain why in the context of these insolvencies, the JLs reasonably required PwC’s AWP.

77.When the JLs issued their OS with supporting evidence, and explained the position in relation to the First Three Problematic Transactions, PwC agreed to provide their AWP for those transactions.  It seems to me that the OS was unnecessary in respect of those documents, and a constructive response to PwC’s correspondence would have sufficed.

78.It appears to me that at least the OS hearing was necessary in order for the JLs to obtain the AWP in respect of the PPP.  In my view, the reasonable requirement and the lack of sufficient information to properly assess the viability of a claim against PwC was not properly articulated until counsels’ written submissions.

79.I will adopt a broad brush approach to costs.

(a)  I note that the JLs were not successful in respect of the affidavit request in the OS and that I did not agree to their form of order. However, I anticipate these aspects would be minimal in the scheme of things.

(b)  Lai 1 was principally concerned with the First Three Problematic Transactions, although it contained the necessary background evidence relating to the Companies, and some basic evidence relating to the PPP.

80.I make an order nisi as follows: PwC to pay the JLs the costs of and incidental to the OS save that it only pay 50% of the costs of and incidental to the preparation of Lai 1; such costs to be taxed if not agreed with certificate for 2 counsel.

81.Any application to vary the cost order be made within 21 days  by brief written submission, with any response 7 days thereafter; otherwise, the order nisi becomes final.

82.I thank counsel for their assistance.

Ms Audrey Eu SC leading Mr Adrian Lai, instructed by DeHeng Law Offices (Hong Kong) LLP, for the Applicants

Mr Paul Shieh SC leading Mr Danny Tang, instructed by Reynolds Porter Chamberlain, for the Respondent

APPENDIX A: FORM OF ORDER SOUGHT BY ORIGINATING SUMMONS

IT IS ORDERED that: -

1.  The Respondent shall produce within 14 days from the date hereof, all files, books, records and papers, and other documents (physical or electronic and in or on whatever medium they may be) which relate to the promotion, formation, trade, dealings, affairs or property of Hsin Chong Group Holdings Limited (In Liquidation) (“HCG”) and its subsidiaries, including but not limited to Hsin Chong Construction Company Limited (In Liquidation) (“HCCC”) and Hsin Chong Construction (Asia) Limited (In Liquidation) (“HCCA”), (collectively the “Group”) in its custody or power, including but not limited to, those as stated in the Schedule hereto;

2.  The Respondent shall file and serve an affidavit on the Applicants’ solicitors within 21 days from the date of this Order being served on the Respondent setting out:

(a)  For the years ended 31 December 2012 and thereafter:

(i)  Details as to whether the Respondent has conducted any audit work on any of the subsidiaries of the Company, and if so the period concerned.  In the event that other audit firms were responsible for the audit of the subsidiaries of the Company, schedule containing the name of the entity, the relevant audit firm, the firm’s address and contact details of key team members;

(ii)  Details of investments made by the Company and the Group (including without limitation in respect of any joint ventures of the Company and the Group);

(b)  Confirmation that paragraph 1 above has been fully complied with;

(c)  Where documents requested under the Schedule hereto is no longer with the Respondent’s possession, custody and/or control, as the case may be:-

(i)  Whether each of the documents and/or classes of documents was ever in the Respondent’s possession, power or custody;

(ii)  If the Respondent once had but no longer has the documents or classes of documents in its possession, power or custody:

(1)  The date or dates upon which the Respondent ceased to have possession, power or custody of the documents or class of documents;

(2)  The whereabouts of such documents or class of documents; and

(3)  The identity (identities) of the person(s) or entity (entities) to whom the document or class of documents was given.

3.  There be liberty to either the Applicants or the Respondent to apply, on notice.

4.  Costs of and occasioned by the OS, including all costs previously reserved, be paid forthwith by the Respondent to the 1^st to 3^rd Applicants, with a certificate for two counsel, to be taxed forthwith if not agreed.

Dated the        day of             2023.

Schedule

(1)  All engagement letters, contracts or agreements entered into between the Group on the one hand, and the Respondent on the other for the purpose of, relating to, in connection with and/or incidental to the auditing and/or preparation and/or reviewing and/or assurance and/or certification of the audited financial statements for the year ended 31 December 2012 and thereafter, including the interim financial statements, if any (the “Accounts”);

(2)  All engagement letters, contracts or agreements entered into between the Group on the one hand, and the Respondent on the other for the purpose of, relating to, in connection with and/or incidental to the provision of auditing and/or tax and/or accounting and/or business advisory and/or regulatory advice and/or assurance and/or other services during the years ended 31 December 2012 and thereafter (collectively, the “Services”);

(3)  All the documents that the management of the Group had provided to the Respondent for the purpose of, relating to, in connection with and/or incidental to the auditing and/or preparation and/or reviewing and/or assurance and/or certification of the Accounts.  These documents include, but not limited to, management accounts, general ledgers, trial balances, breakdowns, and other financial information such as bank statements, contracts, agreements, all correspondences between the management of the Group and the Respondent, etc;

(4)  All the documents that the Respondent created or received, or otherwise in the Respondent’s possession for the purpose of, relating to, in connection with and/or incidental to the auditing and/or preparation and/or reviewing and/or assurance and/or certification of the Accounts.  These documents include, but not limited to, audit confirmation request(s) sent by the Respondent and audited confirmation(s) received by the Respondent, etc.

(5)  All audit files including but not limited to audit reports, working papers and/or permanent audit files and/or other files for the auditing and/or preparation and/or reviewing and/or assurance and/or certification of the Accounts;

(6)  All the documents that the management of the Group had provided to the Respondent for the purpose of, relating to, in connection with and/or incidental to the provision of the Services during the years ended 31 December 2012 and thereafter, including but not limited to management accounts, general ledgers, trial balances, breakdowns, and other financial information such as bank statements, contracts, agreements, all correspondences between the management of the Group and the Respondent;

(7)  All working papers and files for the provision of the Services;

(8)  Bank confirmations, site visit reports and/or other evidence upon which the Respondent relied for satisfaction on the value of the assets of the Group and any relevant internal or external valuation reports;

(9)  Details of account receivables, prepayment, deposits and other receivables for each entity within the Group;

(10)  List of the related party transactions of the Company and the Group and confirmation of the related party transactions from the Group;

(11)  Any information and documents received from any other auditors of the Group, including but not limited to statutory financial statements;

(12)  Schedule of names of the team members of the Respondent and their respective positions who had primary responsibility for or otherwise involved in the auditing and/or preparation and/or reviewing and/or assurance and/or certification of the Accounts and/or provision of the Services, together with the period(s) during which each of them was responsible or otherwise involved;

(13)  Schedule of names of the personnel who had the primary responsibility to liaise with the management of the Group regarding the auditing and/or preparation and/or reviewing and/or assurance and/or certification of the Accounts and/or provision of the Services;

(14)  All of the working notes created or produced, or otherwise in the possession of the Respondent, for the purpose of, relating to, in connection with and/or incidental to the auditing and/or preparation and/or reviewing and/or assurance and/or certification of the Accounts and/or provision of the Services;

(15)  All correspondence with the Group for the auditing and/or preparation and/or reviewing and/or assurance and/or certification of the Accounts and/or provision of the Services including but not limited to memoranda, letters, emails, telephone notes, formal and/or informal reports etc;

(16)  Group structural chart with shareholding information, the latest organisational chart for all entities of the Group, including a list of all directors and/or legal representatives and their contact details for each entity within the Group;

(17)  Relevant documents of the investments made by the Company and the Group (including without limitation in respect of any joint ventures of the Company and the Group);

(18)  Audit committee meeting documents, including but not limited to minutes, draft minutes and relevant documents for the meetings; and

(19)  Management representation letters provided by the directors and/or management of the Group.