Cityton Development Inc. and Another v. Kum Kwok Wang and Another

DCCJ 6435/2004

IN THE DISTRICT COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

CIVIL ACTION NO. 6435 OF 2004

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BETWEEN

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Coram :  H.H. Judge Chow in Court

Hearing date  :  22^nd, 25^th to 28^th April, 22^nd to 26^th August, 7^th October 2005

Date of handing down Judgment :  30^th December, 2005

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JUDGMENT

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1.This is an application by the Plaintiffs against their two former employees (the two Defendants) for breach of their duties of fidelity, on the ground that whilst still being employed by the Plaintiffs, the Defendants secretly set up a company to do business in competition with the Plaintiffs, and secretly diverted business from the Plaintiffs.  Prior to the trial, the Plaintiffs discontinued their claims against the 2^nd Defendant.

Background

2.The 1^st Defendant, Vincent Luc Serre (“Vincent”), Li Chun Yui (“Li”) were former colleagues in a company called Indo-China Trading Company Limited (“ICTC”), a subsidiary of the Denis Freres Group.  Vincent was the general Manager of ICTC whereas the 1^st Defendant and Li were respectively the department manager and sales manager of the building material department.  The business of ICTC covered, inter alias, the trading of building materials.  It was the exclusive distributor of building material supplier of a company in Germany called Halfen.  The main use for Halfen products in Hong Kong was Halfen’s specialized system of attaching curtain wall facades to the skeletal structure of high-rise buildings.  Around the world there was only one competitor.  It is another company in Germany called Jordahl.  Halfen and Jordahl have very similar systems and products.

3.In 1997, Vincent became aware that the Denis Freres Group planned to focus on its food business, and to divest itself of the other trading business.  He therefore planned to set up a new enterprise to take over the building material business to be divested of by ICTC.  Apart from the 1^st Defendant and Li, he invited two other former colleagues, namely, Olivier Streitcher (“Olivier”) and Christophe Boes to join the enterprise (“Boes”).  2 corporates were set up for the new enterprise.  One was Cityton Development Inc (“Cityton”) and the other was Goldway Enterprises Inc (“Goldway”).  Cityton was the holding company, whereas Goldway was the operational company.  Vincent, the 1^st Defendant and Li resigned from ICTC to join the new enterprise.  The three of them together with Olivier and Boes became the directors and the shareholders of Cityton.  They were also the employees of Goldway: Vincent being its general manager, the 1^st Defendant as department manager, Li as sales manager and Olivier as internal auditor, adviser and business development manager.  Originally, the 5 shareholders planned to regulate their relationship with a formal shareholders’ agreement.  Draft agreements were prepared and circulated for comments.  However, no formal agreement was ever signed. 

4.After the establishment of Goldway, efforts were made to secure the Halfen business.  However, Halfen only agreed to appoint Goldway as an authorized distributor of Halfen products in Hong Kong.  Further, Halfen required Goldway to provide a bank guarantee as security for the stocks supplied.  The 1^st Defendant provided the 1^st bank guarantee, which took effect on 1^st January 2000 and expired on 31^st December 2000.  Vincent provided the 2^nd bank guarantee, which took effect on 3^rd February 2000 and expired on 2^nd February 2001.

5.By an agreement dated 20^th December 2000, Halfen appointed Goldway as the exclusive distributor for Halfen products in Hong Kong and Macau from 1^st December 2000 to the end of 2002, with a proviso that the exclusive distributorship was to be renewed automatically for successive one year periods until terminated by 6-months’ notice in writing. 

6.On 10^th June 2003, Halfen gave a written notice terminating Goldway’s exclusive distributorship with effect from 31^st December 2003.  The 1^st Defendant was angry about this.  He advocated collecting as much payment as possible from Goldway’s customers, not making payment to Halfen, not working with Halfen from 2004 onwards, closing down Goldway, and starting a new company in China to sell Jordahl products.  Vincent however decided that the best policy was to continue to maintain a cordial relationship with Halfen, and to continue to make payments to Halfen for stocks delivered to them.  At the same time, meetings were set up with Halfen with a view to persuading them to resume their previous relationship with Goldway.  On the other hand, in order to cope for the situation that Goldway might lose the Halfen business, Vincent also started to explore the possibility of switching the business to Jordahl upon expiry of Halfen’s exclusive distributorship on 31^st December 2003.  He therefore contacted Bernard Kilian (“Kilian”), the export manager of Jordahl, to start a dialogue on the possibility of future co-operation.  He set up a meeting with Jordahl, which was held on 1^st July 2003 at Jordahl’s headquarters in Germany.

7.In September 2003 Jordahl informed Vincent that the agreement with their existing exclusive distributor in Hong Kong (a company called Anchor) would not expire until 31^st December 2004, and that the owner of Anchor was not prepared to sell his company.

8.On 19^th December 2003, Halfen confirmed by letter that Goldway’s exclusive distributorship for Hong Kong and Macau would be extended for another 4 years.  Halfen also pledged support for Goldway’s activities in Beijing and Shanghai.  A formal Distributorship Agreement was eventually entered into on 1^st May 2004.

9.By contrast, Goldway’s discussions with Jordahl were not getting anywhere.  In the end, Jordahl and Goldway did not agree on anything.  Meanwhile, shortly after achieving the breakthrough with Halfen, Goldway decided to set up an office in Beijing.  In a shareholders’ meeting held on 24^th October 2003, the 1^st Defendant was appointed China Manager to set up and operate Goldway’s Beijing office starting from 1^st January 2004.  Office premises in Beijing were rented for that purpose in November 2003, and Goldway engaged 2 local employees to work in the Beijing office, one of whom was the 2^nd Defendant.  Her position was sales engineer.

10.The appointment of the 1^st Defendant to the Beijing office did not stop him from complaining.  By a memo dated 14^th January 2004, the 1^st Defendant complained about Vincent and Olivier’s intervention in the affairs of the Beijing office (in particular his title used in his name care) and being kept in the dark about the operation of the Hong Kong office, and he threatened to sell his shares and resign. 

11.On 17^th June 2004, a shareholders’ meeting was held in Beijing, in which it was agreed that a wholly-owned foreign enterprise (“WOFE”) was to be set up in Beijing by 11^th December 2004.  In the meantime, the 1^st Defendant continued to make his complaints, about the delay in receiving funds for the Beijing office, being kept in the dark about Goldway’s activities in Shanghai, having to run an unregistered business in Beijing, being blamed for issuing unauthorized purchase orders and so on.  Suddenly, on 22^nd October 2004, he tendered his resignation from Goldway and offered to sell his share for $4.05 million.  In consequence, Vincent had to go to Beijing to take over the operation of the Beijing office.

12.A few days later, on about 27^th October 2004, the 1^st Defendant passed to Vincent a laptop computer belonging to Goldway.  When he operated the computer, Vincent discovered that all the files in the computer had been deleted.  However, Vincent successfully retrieved some of the deleted files by using file recovery techniques.  The retrieved files clearly showed that the Defendants had set up a company called Red Home Trading Co Ltd (“Red Home China”), diverted business from Goldway to Red Home China, and bought Jordahl products to be supplied to customers: See Bundle C1, from P. 190 to P. 226, and Bundle C2, from P. 682 to P. 685.  Upon discovery of the 1^st Defendant’s wrongdoing, the 4 other shareholders passed a resolution on 19^th November 2004 removing the 1^st Defendant as director of Cityton with immediate effect.

13.Goldway conducted a company search at the Hong Kong Companies Registry, and discovered that a company by the name of Red Home Materials Supply Company Ltd (“Red Home HK”) was incorporated in Hong Kong on 16^th January 2004.  It changed its name to Red Home Trading Co Ltd on 27^th October 2004, which was the same English name as Red Home China.

14.The 1^st Defendant admitted in his testimony that Red Home HK belonged to him, that he formed the company in January 2004 without informing any of the other shareholders, and that the directors and shareholders of the company were his brothers-in-law who were his nominees.

15.Shortly before the commencement of the trial the 1^st Defendant’s solicitors provided documents, which showed that Red Home China was incorporated in Beijing on 3^rd September 2004, with the 2^nd Defendant holding 99% of its shares and another person called Wang Gui Yong holding the remaining 1%, and with the 2^nd Defendant as Executive Director and Manager of the company.

16.Other searches revealed that before the 1^st Defendant resigned from Goldway, whilst he was still a director of Cityton and China Manager of Goldway, he was appointed a director of Gortech Trading Company Limited (“Gortech”) on 14^th October 2004 and became a shareholder of Gortech on 20^th October 2004.  Gortech was a distributor of Jordahl products in Hong Kong.

The defence of the 2^nd Defendant

17.The 1^st Defendant put forward 2 defences: (1) he agreed to join the Plaintiffs on the condition (“the Condition”) that the suppliers and customers that he brought to the Plaintiffs shall remain his personal property and he was therefore entitled to do business with these suppliers and customers on a personal level where the Plaintiffs were not in a position to take up business with them.  The Condition was agreed to by all the shareholders.  This implies that the 1^st Defendant was entitled to do business with Goldway’s customers and suppliers by using Red Home China; (2) Red Home China was a secret subsidiary of Goldway held by the 2^nd Defendant on trust for Goldway, which was formed for the purpose of selling Jordahl products secretly behind the back of Halfen.  These 2 defences were mutually inconsistent and contradictory.  By the 1^st defence, the 1^st Defendant was contending that Red Home China was his own company, which he was entitled to set up to do business with Goldway’s suppliers and customers by virtue of the Condition.  By the 2^nd defence, he was contending that Red Home China was a wholly-owned subsidiary of Goldway, which earned its profits through trading with Jordahl for the benefit of and on trust for Goldway.

The 1^st Defence

18.The 1^st Defence is inherently improbable and is rebutted by the documentary evidence.  (1) Before joining the Plaintiffs, the 1^st Defendant was at all material times an employee of ICTC.  Accordingly, all the suppliers and customers that he established or served must necessarily be those of ICTC and not his own.  Therefore these suppliers and customers could not be his personal assets.  (2) The 1^st Defendant alleged that the Condition was agreed amongst the shareholders as early as October 1998.  But it was not recorded anywhere in writing.  By the time a draft shareholders’ agreement came to be prepared, there was no reason why the Condition should not be included therein.  In December 1998, the first draft of shareholders’ agreement was prepared and circulated for comments.  The 1^st Defendant made various comments on and amendments to the draft.  But he did not insert the Condition into the draft.  He made no attempt to delete the “Business Ethics” clause (clause 4), which is directly contradictory to the Condition.  Clause 4 reads:-

“4) BUSINESS ETHICS

It is agreed that none of the shareholders can undertake, separately or jointly, any negotiations without the full knowledge and agreement of all shareholders with any of the suppliers or customers who have been in contact with GOLDWAY for any activity that will not benefit GOLDWAY exclusively.

It is agreed that none of the shareholders are allowed to carry out any business outside of GOLDWAY for any of the suppliers or customers who have been in contact with GOLDWAY.

It is agreed that non-respect of the 2 above-mentioned principles automatically means that the shareholder(s) at fault must immediately sell their shares to the remaining shareholders at the initial stock value of GOLDWAY shares.  It is also agreed that the shareholder(s) at fault agree to indemnify the remaining shareholders for the total amount which have been deprived from GOLDWAY.”

Some time later, a revised draft of shareholders’ agreement was prepared and circulated for comments among the shareholders.  Clause 5 (Business Ethics) of the revised draft provided that a shareholder or an employee of Goldway could not engage in any other business while working in Goldway without the written agreement of all other shareholders.  It further provided a shareholder or employee of Goldway cannot undertake negotiations or enter into any agreement with any of the suppliers and customers of Goldway.  The prohibition shall continue to apply within 2 years after he ceased to be a shareholder of Goldway.  Clause 5 also identified by name the suppliers and customers of Goldway, to whom the prohibition applied, which included Halfen and Asia Aluminum.  Clause 5 of the revised draft was directly contradictory to the Condition.  Again, the 1^st Defendant made no attempt to insert the Condition into the revised draft, or to delete clause 5.  (3) At the shareholders’ meeting held on 1^st and 2^nd April 2004, all the shareholders agreed on a work ethics clause to the effect that staff of Goldway either in Hong Kong or China must work exclusively for the benefit of Goldway and could not start on his own project without the written agreement of other shareholders.  This clause was directly contradictory to the Condition, yet the 1^st Defendant signed the minutes of this meeting without reservation.

The 2^nd Defence

19.The 1^st Defendant’s 2^nd Defence was equally improbable and rebutted by the documentary evidence: firstly, it was the 1^st Defendant’s testimony that the shareholders agreed in the shareholders’ meeting held on 17^th June 2004 that whilst Goldway would trade with Halfen, that a company should be formed to trade with Jordahl secretly behind Halfen’s back, and that the 2^nd Defendant was to be appointed to hold the share of that company on trust for Goldway.  He said that in order to maintain secrecy Olivier had directed that none of the discussions or agreement on these matters be recorded in writing.  In consequence, there was a total absence of documentary evidence to support the 2^nd Defence.  When it was pointed out to him that a necessary corollary of this arrangement was that there would be no way for the shareholders to control the 2^nd Defendant, he agreed and added that the shareholders were well aware of the risks involved and had agreed to take such risks.  When it was further pointed out to him that under such arrangement, the 2^nd Defendant could sell all her shares in the secret company with impunity, then he said that on 17^th June 2004, just after the shareholders’ meeting, Olivier prepared a document in English on which the 2^nd Defendant and all the shareholders signed their names.  In that document, she acknowledged that Goldway had paid for all the shares in the secret company, that she held her shares in the secret company on trust for Goldway, and those shares could not be sold without Goldway’s consent.  So contrary to the 2^nd Defence, there was documentary proof of her appointment as trustee and the matters agreed to by shareholders.  When it was pointed out to him that his new evidence was never mentioned anywhere in his defence, his affirmations, his witness statement, or his evidence in chief, nor was the matter ever put to any of the Plaintiff’s witnesses, then he said that he had told his lawyers about it but he was advised not to mention it because there was nothing in writing.  That was a surprising statement because the document in English signed by the 2^nd Defendant and all the other shareholders is a piece of documentary evidence.  Therefore there was something in writing.

20.Secondly, when it was pointed out to him that according to his 1^st Affirmation, the alleged appointment of the 2^nd Defendant as trustee was said to take place, not on 17^th June 2004, but in a meeting held on 1^st and 2^nd April 2004, he said paragraph 43 of his 1^st Affirmation should have been divided into 2 portions.  He drew a line just between line 4 and line 5 on page 138 of his first affirmation at the court’s invitation.  He said that the matters mentioned in the portion above the line took place in the earlier meeting whereas that those below the line actually occurred on 17^th June, 2004.  However, I cannot see how the portion below the line is connected with 17^th June, 2004.  This latter portion begins with “At that material time”.  That material time is April, 2004.  So this latter portion is connected with the former portion by virtue of this phrase.  Therefore it cannot be connected with 17^th June, 2004, and it is clear that all events mentioned therein were meant to take place on one single occasion, namely, in the shareholders meeting on 1^st and 2^nd April 2004.

21.Thirdly, contrary to what he alleged, on the documentary evidence, the shareholders including him were in the habit of discussing confidential strategy and tactics in their memos and e-mails.  Decisions and agreements on confidential strategy and tactics were also recorded in minutes.  One example was when Halfen proposed acquisition of Goldway’s distributorship business, the shareholders exchanged views as to how to deal with the situation.  Another example was when Halfen terminated the exclusive distributorship in June 2003, the shareholders also discussed strategy and tactics of dealing with Halfen and switching the business to Jordahl.

22.Fourthly, it is clear from all these detailed documentary records that no one among the shareholders had ever suggested trading with Halfen and Jordahl at the same time.  Vincent and Olivier all along talked about the possibility of switching Goldway’s business to Jordahl if the Halfen’s distributorship should come to an end.  Later, when it seemed that both options were open to Goldway, they were talking about making a choice carefully about working with either Halfen or Jordahl.  Even the 1^st Defendant himself advocated to stop all dealings with Halfen upon the expiry of the distributorship in December 2003 and working solely with Jordahl from 2004 onwards.

23.Fifthly, the 1^st Defendant’s allegation that Vincent had all along been in contact with Jordahl and did all the groundwork is flatly contradicted by the documents retrieved from the computer.  It was clear from the language in the letter on page 190 of Bundle C (1) that the 2^nd Defendant made her first contact with Jordahl on 15^th September 2004.  In that letter, she introduced herself as secretary and partner of the 1^st Defendant and said that they had some big projects in Beijing and would like to have price quotations.  The items that she wanted price quotations from Jordahl were identified by Halfen references.  If Vincent had really done the groundwork as alleged, the items would no doubt have been identified by Jordahl references.  In subsequent negotiations about prices and payment terms between Red Home China and Jordahl, references were all made to discussions with the 1^st Defendant.  Despite his assertion that Vincent was responsible for liaising with Jordahl and agreeing the prices and payment terms, Kilian always addressed his correspondence to the Defendants.  Vincent was never mentioned either by Kilian or the 2^nd Defendant in their correspondence with Jordahl.

24.Sixthly, on 18^th October 2004, 4 days before the 1^st Defendant tendered his resignation from Goldway, Red Home HK changed its name to Red Home Trading Company Limited, which was exactly the English name of Red Home China.  The change of name took effect on 27^th October 2004.  It is difficult to see why he should change the name of his own company to match that of Red Home China, which according to him was a Goldway subsidiary, when he was leaving Goldway.  His purported explanation that the change of name was for the purpose of “job reference” simply makes no sense.  It is clear from this change of name and the letter written by the 2^nd Defendant on 15^th September 2004 that he was at the very least one of the beneficial owners of Red Home China.

25.In his 1^st Affirmation, the 1^st Defendant prayed in aid 4 documents made out in the Goldway template retrieved by Vincent from the laptop computer as evidence that Vincent and Olivier knew and instructed him to trade with Jordahl.  However, under cross-examination he said that the documents were never sent out.  If the aim of setting up Red Home China were to hide the fact that Goldway was involved in the trading with Jordahl, documents should not have been prepared on Goldway’s template.  Accordingly, his reliance on these 4 documents went completely against his 2^nd Defence.

26.The 1^st Defendant sought to rely on 2 communications between Vincent and Jordahl, one on 22^nd June 2004 and the other on 7^th October 2004 to prove the 2^nd Defence.  But such reliance was contradictory to the 2^nd Defence itself, since according to the 2^nd Defence nothing about the trading with Jordahl secretly behind the back of Halfen should be in writing.

27.The 1^st Defendant’s Counsel asked me to accept his evidence.  But he was totally discredited in cross-examination.  He is not a witness of truth.  He defences were inherently improbable, as well as contradicted and rebutted by the documentary evidence.  On the contrary, the evidence of Vincent, Olivier, Li and Bawden was consistent with and supported by the documentary evidence.  They were in no way shaken under cross-examination.  I accept the evidence of the Plaintiffs and reject that of the 1^st Defendant.  I find that he was clearly in breach of his fiduciary duties owed to Cityton and his duties of fidelity owed to Goldway.

Quantum of Damages

28.The amount of damages suffered by the Plaintiffs as a result of the breach by the 1^st Defendant is set out in paragraph 41 of Vincent’s witness statement and pleaded by way of voluntary particulars to the Statement of Claim.  This evidence has not been challenged in any way.  Nothing has been adduced on the 1^st Defendant’s behalf to contradict, rebut or cast doubt on such evidence either.  Under paragraph 41, Vincent stated:

“41. According to Red Home’s purchase orders recovered form Kum’s deleted files, namely, RH01-04, RH02-04, RH03-04 and RH04-04.  The total volume of sales amounted to €104,392.91.  This sum multiplied by the currency exchange rate of 9.73, (the average rate in October 2004 Interbank Rate according to OANDA.com website) and added expenses for freight, clearing, local transportation costs representing about 10% ex-works value and 30% profit margin.  The total sales would amount to HK$1,422,040.21.  The 2^nd Plaintiff would have made a gross profit of HK$426,612.06 therefrom,”

29.I therefore enter judgment in favour of the Plaintiffs against the 1^st Defendant, to be paid within 14 days, in the sum of HK$426,612.06, with interest thereon at judgment rate, commencing from 7^th December 2004 until satisfaction.  I make no order in respect of the Plaintiff’s other prayers for reliefs.

Costs

30.I make an order nisi, to be made absolute in 14 days’ time, that the 1^st Defendant is to pay costs of this action to the Plaintiffs, to be taxed, if not agreed, with certificate for Counsel.

The Plaintiffs : represented by Mr. Ronald Tang, instructed by Messrs Joseph Mok & Co., Solicitors.

The Defendant: represented by Mr. Osmand Lam, instructed by Messrs. Chong & Partners, Solicitors.