Kelvin Flynn and Cosimo Borrelli v. Li Tung Wai

HCCW 316/2005

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES (WINDING-UP) NO. 316 OF 2005

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BETWEEN

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Before: Hon Kwan J in Chambers (not open to public)

Date of Hearing: 25 January 2007

Date of Decision: 25 January 2007

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D E C I S I O N

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1.This is a summons issued under section 221 of the Companies Ordinance, Cap. 32 by the provisional liquidators of Ezcom Holdings Limited (“Holdings”) against Li Tung Wai (“Mr Li”), seeking an order to examine him orally and for him to produce certain documents.

2.I will first state the relevant background matters.

3.Holdings is an investment holding company, its shares have been listed on the Stock Exchange of Hong Kong.  Two of its subsidiaries are Ezcom Technology Limited (“ETL”) and Ezcom Electronics Limited (“EEL”).  Mr Li is at all times a director of ETL and EEL, and he was appointed a director of Holdings from 15 April 2005.  Until February 2002, he was the sole shareholder of Future Circle Holdings Limited (“FCL”), which in turn held 30% interest in the share capital of ETL.  The remaining 70% in ETL was held by Select Right Developments Limited (“SRDL”).  Kok Kin Hok (“Mr Kok”), an executive director and the chairman of Holdings, had a 27% interest in SRDL and the remaining 73% in SRDL was held by Holdings.

4.On 25 April 2005, creditor’s petitions were presented to wind up Holdings and ETL.  On 29 August 2005, provisional liquidators were appointed for both companies.  EEL was wound up by the court on 7 December 2005, the provisional liquidators were appointed the liquidators of EEL on 11 April 2006.

5.The provisional liquidators have been exploring the alternative of restructuring Holdings with potential investors to achieve a greater return for the creditors, so the winding-up petition has been adjourned to May 2007.

6.The provisional liquidators wish to investigate 2 transactions involving the early redemption of a convertible note and a promissory note issued to Mr Li.  I will call them “the 1^st Transaction” and “the 2^nd Transaction”.  They arose in this way.

The 1^st Transaction

7.An agreement dated 4 February 2006 (“the 1^st FCL Agreement”) was entered into between Mr Li and Holdings, by which Holdings was to purchase from Mr Li 2/3 of his equity interest in FCL, thereby acquiring 20% in ETL.  In consideration, Holdings issued to Mr Li a convertible note of HK$81,391,000 (“the FCL Convertible Note”) with a maturity date of 2 years from the date of the note.  At the same time, Mr Li and Holdings entered into an agreement, by which Mr Li granted to Holdings the option to purchase the remaining 1/3 of his equity interest in FCL for HK$40,695,297; such option was to be exercisable in whole for a period of 2 years from the date on which the 1^st FCL Agreement was completed.  Further, Mr Kok and Holdings entered into an agreement on the same date (“the SRDL Agreement”), by which Holdings was to purchase from Mr Kok his 27% equity interest in SRDL.  In consideration, Holdings issued to Mr Kok a convertible note of HK$76,914,110 with a maturity date of 2 years (“the SRDL Convertible Note”).  A circular announcing the 1^st Transaction was presented to the Hong Kong Stock Exchange on 26 February 2002.

8.On 31 July 2002, Holdings advanced a loan to Lamex China Group of HK$123,058,000 (“the Lamex Loan”) as an interest free shareholder loan for the general working capital of Lamex China Group.

9.On 19 August 2002, Holdings disposed of its entire equity interest in Lamex China Limited to Mr Kok for HK$2 million.  Upon this disposal, on 8 October 2002, Holdings entered into an agreement with Lamex China Development (“the Lamex Loan Agreement”), setting out the terms for repayment of the Lamex Loan.  This provided for repayment of the loan in one lump sum on or before 31 August 2003 and was secured by a guarantee provided by Mr Kok (“the Kok Guarantee”).

10.On 24 April 2003, the FCL and SRDL Convertible Notes were reduced by HK$81,391,000 and HK$41,667,000 by way of set off against the Lamex Loan.

11.Mr Li informed the provisional liquidators he has not received payment of the HK$81,391,000 and that he had entered into an oral agreement with Mr Kok, whereby this amount is due and payable by Mr Kok to him.  Mr Kok had assured him that the sum would be repaid when Mr Kok has the money.  As a result of the reduction or redemption of the FCL and SRDL Convertible Notes, Mr Kok’s obligations under the Kok Guarantee were discharged.

12.Mr Li also informed the provisional liquidators that the FCL and SRDL Convertible Notes were redeemed early and set off against the Lamex Loan in order to reduce Holdings’ gearing.  Holdings had a high leverage and the banks had advised if Holdings wished to borrow further from them, it would have to reduce its gearing ratio.

The 2^nd Transaction

13.On 7 September 2004, an agreement was made between Holdings and Mr Li (“the 2^nd FCL Agreement”), by which Holdings agreed to acquire from Mr Li his remaining 1/3 interest in FCL.  The consideration was HK$30 million, which was satisfied by Holdings issuing a promissory note (“the Promissory Note”) in this amount to Mr Li on 23 September 2004 with a maturity date of 2 years.

14.A circular announcing the 2^nd Transaction was presented to the Stock Exchange on 28 September 2004, in which it was stated that the directors of Holdings considered this a good time to acquire the remaining interest of Mr Li in FCL, and that the consideration for the purchase was arrived at by reference to the performance and financial information of ETL.  It was further stated that Mr Li had no right to demand for early repayment of the Promissory Note, and accordingly the Group would be relieved of any imminent cash flow pressure to redeem the Promissory Note until 2 years from the date of the note.

15.Notwithstanding the maturity date of the Promissory Note, the board of Holdings resolved to make an early redemption and HK$30 million was paid to Mr Li from ETL and EEL during 2 to 7 October 2004, just 5 to 10 days after the said circular was issued.

16.Although the ledgers of Holdings, ETL and EEL recorded the payments by ETL and EEL to Mr Li as loans to Holdings, the provisional liquidators are unable to find any minutes of meeting of ETL and EEL regarding the payment of HK$30 million to Mr Li, or any inter-company loan agreements relating to the payment of the said sum to Mr Li.

17.The provisional liquidators wish to investigate fully these matters:

(1)     why the debt due and owing by Holdings to Mr Li pursuant to the FCL Convertible Note was extinguished approximately 1 year early; and

(2)     why the debt due and owing by Holdings to Mr Li pursuant to the Promissory Note was extinguished almost 2 years early, thereby causing Mr Li to receive HK$30 million.

18.Correspondence was exchanged between the provisional liquidators and Mr Li’s solicitors since January 2006 as a result.  From the start, Mr Li maintained he does not have in his possession documents relevant to the 1^st and 2^nd Transactions.  Apart from stating that the HK$30 million paid into his bank accounts were for his personal use, he refused to elaborate how the funds were disposed of and the whereabouts of the same.  Other than that, Mr Li has co-operated with the provisional liquidators.  He attended a 3-hour interview with the provisional liquidators on 22 February 2006, and notes of this interview were produced.  The provisional liquidators did not think the answers given at the interview were adequate, so they issued the present summons on 2 May 2006.

19.After the summons was issued on 19 May 2006, I made an order by consent that the provisional liquidators were to provide to Mr Li on or before 24 May 2006 a list of questions and a list of specific documents requested relating to the affairs of Holdings, its subsidiaries, associates or related entities.  The order required Mr Li to provide to the provisional liquidators on or before 2 June 2006, his answers on oath to the request made in the list of questions.  The hearing of the summons was adjourned.  The provisional liquidators duly provided a very detailed list of questions to Mr Li on 24 May 2006, and this was produced in evidence.

20.Mr Li made an affirmation in reply to the list of questions on 19 June 2006.  However, he still failed to provide any information on the disposal of the HK$30 million received in October 2004.

21.The provisional liquidators restored the summons for hearing, as they are of the view that they are obliged to conduct investigation into the circumstances surrounding the disposal of the HK$30 million received by Mr Li and its present whereabouts.

22.Notwithstanding Mr Li’s affidavit in answer to their detailed questionnaire, the provisional liquidators are of the view that there are two main areas in which questions have remained unanswered:

(1)     why did Holdings go to extensive lengths to obtain advice on and document the reason for issuing the Promissory Note and only 5 days later redeem the Promissory Note well ahead of the intended time-frame without any commercial justification or documentation to corroborate the fact that advice was sought to confirm that the early redemption was in the best interest of Holdings; and

(2)     how was the HK$30 million payment for the redemption of the Promissory Note applied by Mr Li.

23.I have looked at Mr Li’s affirmation.  As to the first matter, he has given an explanation of the reasons for the early redemption of the Promissory Note.  This is found in paragraph 28.  According to him, the reasons for early redemption included the following:

(1)     Holdings was at the time negotiating with two financial institutions for the placement of new shares to independent parties.  When these institutions knew of the 2^nd FCL Agreement, both expressed worry that the funds raised from the placement of new shares would be applied to redeem the Promissory Note.

(2)     Holdings was also negotiating facilities with three banks and obtained the impression that the banks were worried that the Promissory Note would be paid off with funds from the banks’ financing and this could be an obstacle to their obtaining facilities from the banks.

(3)     In August and September 2004, a new model of Samsung mobile phones had come into the market and Holdings was promised by Samsung that depending on the sales performance of this model, Samsung would consider providing Holdings with another new model for sale.  Holdings considered the best alternative was to redeem the Promissory Note.  This would make it easier to obtain additional finance, allow more purchases of mobile phones to be made and achieve more sales.

24.Mr Li also stated in his affirmation that in September 2004, three executive directors of Holdings, Mr Kok, Lam Bing Sum and Lin Song Qing, and a non-executive director Li Jianhua, discussed early redemption of the Promissory Note and agreed that this would be beneficial to Holdings.  They made a decision to reduce the gearing ratio of Holdings after considering the financial and sales situation and consulting the company secretary.

25.Although the financing costs of additional funds would be more expensive, the board of Holdings had expected that profits from greater sales of Samsung mobile phones could be achieved with the additional funds and they thought they should look at the bigger picture.

26.After redemption of the Promissory Note, Holdings did obtain a credit line of HK$2 million from Nanyang Commercial Bank.  Further, 3 placements of new shares had brought in about HK$17 million.

27.The provisional liquidators contended that Mr Li has still not explained adequately the commercial reasons for the decision of early redemption.  They do not regard the reasons advanced so far by Mr Li to be commercial reasons as would justify the decision.  They would like to ask further questions in an oral examination regarding the reasons put forward by Mr Li in his affirmation, so they could “better understand” Holdings’ position.

28.Besides, as to the whereabouts of the HK$30 million, the only means the provisional liquidators can obtain this information is through an oral examination, as Mr Li has refused to provide any information in this respect.

29.For the production of documents, the provisional liquidators accept, with one exception, that Mr Li has no documents in his possession relating to the 1^st or 2^nd Transactions or the affairs of Holdings, its subsidiaries, associates, and related companies.  The exception is the documents associated with the whereabouts of the HK$30 million received.

30.I do not propose to rehearse the principles, which are well established, regarding the exercise of the court’s discretion in ordering an oral examination and production of documents under section 221.

31.The latest pronouncement on these principles is the judgment of the Court of Final Appeal in Re Kong Wah Holdings Ltd and Akai Holdings Ltd, FACV Nos. 17 and 18 of 2006, 15 December 2006, paragraphs 2, 22 to 30.  I have borne them firmly in mind.

32.On the production of documents, as the provisional liquidators have now accepted that Mr Li has no relevant documents in his possession with exception of the documents relating to the disposal and current whereabouts of the HK$30 million received, there is no reason to make an order for production of documents in the wide terms as sought in the summons.  If production is to be ordered, this should be confined to documents in this one category.  I am inclined to agree with the provisional liquidators that they have established reasonable requirement for the information sought to enable them to carry out their functions, that the HK$30 million is a possible asset of one or more of the companies involved, namely Holdings, ETL and EEL, so that production of documents in this category is justified.

33.I do not accept Mr Leung’s submission for Mr Li that unless a prima facie case of fraud or malpractice is made out, it would not be right for the provisional liquidators to ask questions relating to this issue, or require production of documents in respect of this issue from Mr Li.

34.I make an order in these terms:  Mr Li is to provide the provisional liquidators within 28 days hereof all books, records, accounts, documents and other papers (including computer records), relating to the receipt of the payment and subsequent use and/or disposal of the moneys that comprised the payment by ETL and EEL on behalf of Holdings to him during 2 to 7 October 2004.

35.I turn to consider if an oral examination should be ordered.  Since Mr Li has refused to provide information relating to the disposal of the HK$30 million received on a voluntary basis, the only way of obtaining such information from him is in an oral examination.  It seems to me justified that an order for oral examination should be made.  The only question is whether I should restrict the scope of the oral examination to this issue, having regard to the answers already provided by Mr Li in the interview on 22 February 2006 and the affidavit he provided to the liquidators’ detailed questions on 19 June 2006.

36.I need to carry out a balancing exercise.  As stated by the Court of Final Appeal in Re Kong Wah Holdings Ltd at paragraph 2:

“The court must exercise its powers effectively but of course not so as to support over-zealousness or cause oppression.  The court must do what, all things considered, appears at the time to be just and proper.”

37.It seems to me that the provisional liquidators have taken matters as far as they possibly can in seeking an explanation from Mr Li for the early redemption of the Promissory Note, in the interview and in obtaining answers in writing from him on oath to a lengthy questionnaire.  I appreciate the provisional liquidators have doubts if the reasons given would constitute proper commercial reasons, but it is unlikely that Mr Li would make significant changes to the reasons and explanations he advanced, even if the provisional liquidators were to put further questions to him.  It seems to me that no or no useful purpose would be served in going over the same matters with Mr Li in an oral examination.  It would only be oppressive if this were allowed to happen.  The oral examination should also be restricted to the matters identified earlier in the production of documents.

38.I make the following order: leave be given to the provisional liquidators to examine Mr Li orally in respect of the receipt of the payment and subsequent use and/or disposal of the moneys that comprised the payment by ETL and EEL on behalf of Holdings to him during 2 to 7 October 2004.

39.For the costs of this application, I order Mr Li to pay the costs of the provisional liquidators in this application forthwith.  I see no reason to deprive the provisional liquidators of any part of their costs.

Mr Victor Dawes, instructed by Messrs Lovells, for the Provisional Joint & Several Liquidators

Mr Richard Leung, instructed by Messrs Philip K Y Lee & Co., for the Respondent