Li Xiao Yun and Another v. China Gas Holdings Ltd

HCCL 18/2011

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMMERCIAL ACTION NO 18 OF 2011

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J U D G M E N T

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Before: Hon Mimmie Chan J in Court

Dates of Hearing:  12, 14-15, 18-21 and 28 March 2013

Date of Judgment:  25 September 2013

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Background

1.At all material times, the 1^st plaintiff (“Li”) and the 2^nd plaintiff (“Xu”) were the executive directors of the defendant (“Company”).  Until March 2011, they were respectively the Chairman and Vice-Chairman of the Company. 

2.The Company is incorporated in Bermuda, and its shares are listed on the Main Board of the Hong Kong Stock Exchange (“Exchange”).  On 6 February 2003, the Company adopted a share option scheme for its directors and employees (“Scheme”).  On 9 January 2004, the Company resolved to grant to each of the plaintiffs share options for 5 million shares in the Company.  Later, on 6 October 2004, the Company resolved to grant to Xu share options for a further 90 million shares under the Scheme.  The Company further resolved, on 20 October 2005, to grant to Li share options for 5 million shares under the Scheme.

3.On 3 March 2011, the board of directors (“Board”) of the Company resolved at a meeting of the directors to remove Li and Xu as the Chairman and Vice-Chairman of the Company.  On 14 March 2011, the Board further resolved at a meeting of directors to remove Li and Xu from the Board as directors.  The Company issued an announcement by order of the Board on 16 March 2011, whereby it was stated that the Board had resolved on 14 March 2011 to convene a special general meeting of the Company to remove the plaintiffs as directors of the Company.

4.On 29 March 2011, the Company notified the plaintiffs in writing of the termination of their “employment relationship”, and in respect of Li, the termination of his “service agreement” with the Company, with immediate effect.

5.On 26 April 2011, a Special General Meeting (“General Meeting”) of the Company was held, at which resolutions were passed by shareholders of the Company to remove the plaintiffs as directors of the Company, “with effect upon the passing of the resolutions”.

6.In the meantime, on 24 March 2011, after the dates of the purported resolution of the Board of 3 March 2011 to remove the plaintiffs as Chairman and Vice-Chairman, and the purported resolution of the Board of 14 March 2011 to remove them as directors, but before the date of the General Meeting when the shareholders’ resolutions were passed, the plaintiffs gave notice to the Company of their exercise of the options granted to them under the Scheme, to subscribe for shares in the Company.

7.The Company claims that the plaintiffs’ purported exercise of their options under the Scheme is invalid, since they had already been removed as Chairman and Vice-Chairman pursuant to the resolution of the Board of 3 March 2011, and removed as directors of the Company pursuant to the shareholders’ resolutions passed at the General Meeting of 26 April 2011, and their employment relationship with the Company had been terminated on 29 March 2011.  The Company claims that for these reasons, the plaintiffs were no longer Eligible Persons as defined in the Rules of the Scheme, since it is the Company’s case that the plaintiffs’ options had been issued to them by reason of their position as Chairman and Vice-Chairman of the Company, and they had ceased to be such as at the date of their exercise on 24 March 2011. 

8.The Company further claims that under clause 8 (g) of the Rules of the Scheme (“Rules”), the plaintiffs’ options had automatically lapsed and been terminated on 3 March 2011, by reason of their having been summarily dismissed for misconduct, or their breach of the terms of their employment or contract constituting them as Eligible Persons under the Scheme.

9.Further or alternatively, the Company claims that the options held by the plaintiffs were subject to restrictions set out in “Other Terms for the New Share Option Scheme” (“Restrictions”) which were adopted by the Board during a meeting of the directors on 9 January 2004.  The Company claims that under clause 9 of the Restrictions (“Restriction 9”), the Board has the right to adjust the amount of the plaintiffs’ options since they had seriously violated the Company’s rules and had been disciplined.  The Company claims that the Board had, pursuant to Restriction 9, adjusted the amount of the plaintiffs’ options to zero.

10.Finally, the Company claims that as nationals of Mainland China (“PRC”), holders of PRC passports, and in respect of Li, being the holder of a PRC Resident Identity Card, the plaintiffs are subject to and governed by the “Operating Rules For Foreign Exchange Control In Respect Of The Participation By Domestic Individuals In Employee Stockholding, Stock Option And Other Such Plans Of Overseas-Listed Companies” (“Circular 78”) issued by the State Administration of Foreign Exchange in the PRC.  The Company claims that the plaintiffs failed and refused to comply with the compliance procedures set out in Circular 78 and had violated the same when they purported to exercise their options.  Since performance of the plaintiffs’ options was unlawful, illegal and contrary to public policy in the PRC, the Company claims that the plaintiffs’ alleged rights and interests under the options are unenforceable.

11.In their Reply filed in these proceedings, the plaintiffs initially claimed that the board resolutions of 14 March 2011, whereby they were purportedly removed as directors, were invalid, null, void and of no legal effect, since the Board had no power to remove directors.  They further claimed that the Board never resolved at the meeting of directors on 14 March 2011 that a Special General Meeting be convened.  Accordingly, they claimed that the shareholders’ resolution purportedly passed at the General Meeting, for their removal as directors, was likewise invalid, null and void and of no legal effect.

12.The plaintiffs deny that they were granted options under the Scheme as Eligible Persons by virtue of their offices as the Chairman and Vice-Chairman of the Company.  They claim that there was no “employment” by them as Chairman and Vice-Chairman.  Hence, the plaintiffs claim that they remained Eligible Persons at the date of the exercise of their options.  They further deny that there was any summary dismissal on 3 March 2011, as alleged by the Company.

13.The plaintiffs deny that the Board had any power or discretion under Restriction 9 to adjust the number of the share options granted to them to zero.  They claim that the Restrictions only apply to employees of the Company, and not to directors of the Company.  They further claim that they had not been disciplined by the Board within the meaning of Restriction 9, such that the discretion contemplated under Restriction 9 did not arise before their exercise of the options. 

14.In relation to Circular 78, the plaintiffs claim that it does not apply to them, as they were not employees of any company in the PRC.

Issues

15.After an unsuccessful application made by the plaintiffs at the eve of trial to amend their Statement of Claim and to join the directors of the Company as defendants, the plaintiffs abandoned their claim relating to the invalidity of the board resolutions of 3 March 2011 and 14 March 2011.  On the sensible advice of Counsel, the plaintiffs made further admissions, including that:

(1)   the General Meeting was called and held on 26 April 2011, but without prejudice to their contention that the General Meeting was not properly convened;

(2)   the majority of the directors had concluded, from the evidence presented to the Board at the meetings of 3 March 2011 and 14 March 2011, that the plaintiffs had committed serious misconduct and breach of duties, and consequently had resolved to remove the plaintiffs from their position as Chairman and Vice-Chairman on 3 March 2011, and to remove them as directors on 14 March 2011;

(3)   the aforesaid resolutions of the Board cannot be challenged in the present proceedings;

(4)   the Board’s conclusions at the Board meetings of 3 March 2011 and 14 March 2011 were sufficient to justify a finding that the plaintiffs were guilty of a severe violation of discipline, which cannot be challenged in the present proceedings, but only if the Board was exercising a disciplinary function as envisaged by Restriction 9.

16.As a result of the admissions made by the plaintiffs, the issues which remain in dispute for determination at trial are:

(1)   Were the options granted to the plaintiffs in their capacity as Chairman and Vice-Chairman respectively of the Company?

(2)   Did the plaintiff cease to be Eligible Persons after their removal as Chairman and Vice-Chairman on 3 March 2011?

(3)   Did the plaintiffs’ options “lapse automatically and terminate immediately” under clause 8 (g) on any ground?

(4)   Was the General Meeting properly convened by the directors at the Board meeting held on 14 March 2011?

(5)   Were the Restrictions incorporated into the terms of the plaintiffs’ options?

(6)   Is Restriction 9 applicable to the plaintiffs as directors of the Company?

(7)   Had the Plaintiffs been disciplined as envisaged by Restriction 9?

(8)   Is Circular 78 applicable to the plaintiffs’ exercise of their options?

(9)   Was the Board entitled not to honor the plaintiffs’ options for non-compliance with Circular 78?

Were the options granted to the plaintiffs in their capacity as Chairman and Vice-Chairman respectively of the Company

17.The Scheme was approved and adopted by the Company at a general meeting of the Company held on 6 February 2003.  The Rules provide (in Clause 1.03) that the purpose of the Scheme is: to advance the interests of the Company and its shareholders, by enabling the Company to grant options to Eligible Persons to subscribe for shares in the Company, in order to attract, retain and reward Eligible Persons; to provide to Eligible Persons a performance incentive for continued and improved services with the Company and its subsidiaries; and to enhance such Eligible Persons’ contribution to increase the profits by encouraging capital accumulation and shared ownership.

18.“Eligible Persons” are defined in the Rules (clause 1.01) to mean: “all directors (whether executive or non-executive and whether independent or not), any employee (whether full-time or part-time) or any employee, partner or director of any business consultant, joint venture partner, financial adviser or legal adviser of or to the Company or the group (whether on an employment, contractual or honorary basis and whether paid or unpaid), who, in the absolute opinion of the Board, have contributed to the Company or the Group”.

19.Under clause 4 of the Rules, the Board is entitled at any time to make an offer of the grant of an option to subscribe for shares pursuant to the Scheme (“Offer”) to any Eligible Person as the Board may at its absolute discretion select.  The Board may at its absolute discretion specify such conditions and restrictions as it thinks fit when making an Offer to an Eligible Person, provided that such conditions and restrictions shall not be inconsistent with any other terms and conditions of the Scheme.

20.An Offer to an Eligible Person under the Rules is to be made in writing in such form as the Board may determine, and shall state (inter alia) the date of issue of the Offer, the subscription price, the maximum number of shares to which the Offer relates, and “any other conditions which must be satisfied before the option may be exercised”.

21.It is not disputed that at a meeting of the Board held on 9 January 2004 (“9 January Meeting”), the directors resolved to issue offer letters to various Eligible Persons, including the plaintiffs, in respect of options to subscribe for shares in the Company at the subscription price of HK $0.80 per share.  The offers to be made were to be open for acceptance for 28 days from 9 January 2004, and were stated to be subject to the Restrictions, which were attached to and stated to form an integral part of the minutes of the 9 January Meeting.  The 9 January Meeting was attended by Xu, Mr Liu Ming Hui who was the Chairman of the 9 January Meeting and Mr Zhu Wei Wei (“Zhu”).

22.The list of Eligible Persons to be issued with the offer letters was set out as Appendix I (“List”) to the minutes of the 9 January Meeting, and the Restrictions were attached as Appendix II to the minutes of the 9 January Meeting.  The List of Eligible Persons sets out the names of the individuals to whom the offers were to be made, the number of shares to be included in the respective offer, and the “職務” ie duties, post or position of the individuals concerned.  In respect of Li, he was described as “Chairman” under “duties” or position, and in respect of Xu, he was described as “Vice-Chairman”.  Other Eligible Persons were described as “Managing Director”, “Executive Director”, “Non-executive Director”, “Independent Non-executive Director”, “Executive General Manager”, “Deputy General Manager”, “Company Secretary”, “Executive Secretary”, “Secretary”, “receptionist” and “driver”.

23.The Company claims that the options were granted to the plaintiffs not by virtue of their directorship, but because they were respectively the Chairman and Vice-Chairman of the Company.  The Company highlights the fact that the plaintiffs were referred to in the List, and in the resolutions approving the grant of options, as Chairman and Vice-Chairman, and that other directors on the Lists were referred to as Executive Directors.

24.The evidence of the Company’s directors, namely Dr Mao (“Mao”), Cynthia Wong (“Wong”) and Zhu, is that when they, as independent executive directors, approved the grant of the options to the plaintiffs (who were connected persons within the meaning of the Listing Rules), they considered and approved the grant on the basis of the plaintiffs’ position as Chairman and Vice-Chairman respectively and their holding the most senior positions in the Company’s organization. 

25.I do not consider such evidence to be inadmissible, as Mr Wong SC sought to argue on behalf of the plaintiffs.  The evidence does not relate to the witnesses’ subjective intention as to the meaning or construction of the Rules or the definition of “Eligible Persons” under the Rules, but to the directors’ intention when they resolved to grant, and when they approved the grant, of the options to the plaintiffs.

26.Nevertheless, I accept that under the Rules, “Eligible Persons” are defined as all directors and any employees of the Company, who in the opinion of the Board have contributed to the Company or the Group.  To be eligible to a grant of options, a person must be a director or an employee of the Company or the Group (or consultants, etc of the Company or Group) to start with.  Such person must also have contributed to the Company or the Group in the opinion of the Board.

27.The evidence of the directors is that when they approve the grant of options to directors who are connected persons, they would consider the person’s position in the Company, his seniority, and his contribution if known. According to Wong, the position of the proposed grantee is directly relevant to the number of the share options to be granted to him/her.  Nevertheless, it is noted that according to the List, each of the plaintiffs were granted options in respect of 5 million shares in the Company, whereas Mr Ma, an executive director of the Company, was granted options in respect of a total of 9,240,711 shares.  Each of Mr Liu Ming Hui (the Managing Director), Mr Huang (an Executive General Manager), Mr/Madam Yang (the Company Secretary) and Mr Liu Zhi Qiang was also granted options in respect of 5 million shares each in the Company.  Mr Huang Zhong Min, the driver, was granted an option in respect of 1 million shares in the Company, which is the same in quantity as those covered by the options granted to 3 independent non-executive directors of the Company (Zhao, Mao, and Huang).  No doubt, the position or duties of the grantee was only one of the matters taken into consideration by the Board in deciding the grant of options and the number of shares to be covered in the grant to “Eligible Persons” under the Scheme.  The contribution to the Company or the Group made by the prospective grantee was another of such matters to be considered, but the qualifying criteria of the grantee in each case is the fact of such person being either a director, or an employee of the Company or the Group, or an employee, partner or director of any business consultant, joint venture partner, financial adviser or legal adviser of or to the Company or the group (as per the definition of “Eligible Persons” in clause 1.01 of the Rules).  If the plaintiffs were Chairman and Vice-Chairman of the Company, but somehow were not appointed as directors, and were not employees, of the Company, they would not be “Eligible Persons”, and would not have been entitled to the grant of any options under the Scheme. 

28.Further, it is not disputed that the options granted to the plaintiffs had been approved by the independent non-executive directors prior to their grant, since the plaintiffs were considered to be connected persons.  On the evidence, the plaintiffs could only have been connected persons within the meaning of the Listing Rules by virtue of their being directors of the Company. The fact of approval by the independent non-executive directors supports the finding that the plaintiffs’ options were granted to them as directors of the Company.

29.Hence, although I accept that the plaintiffs’ duties, position and seniority within the Company as the Chairman and Vice-Chairman were considered by the directors in deciding on and in the approval of the grant of options under the Scheme, and in deciding on and approval of the number of shares to which the options relate, the options can only be said to have been granted to them in their capacity as directors and Eligible Persons within the meaning of the Rules.

Did the plaintiffs cease to be Eligible Persons after their removal as Chairman and Vice-Chairman on 3 March 2011?

30.The short answer to this is : no.

31.The plaintiffs exercised their options on 24 March 2011.  By then, they had been removed as Chairman and Vice-Chairman of the Defendant by resolution of the Board on 3 March 2011.  As I find that their options had been granted to them in their capacity as directors, they did not cease to be Eligible Persons on 24 March 2011 by virtue only of their having ceased to act as Chairman and Vice-Chairman respectively. 

32.Even if it can be said that the options had been granted to the plaintiffs in their capacity as Chairman and Vice-Chairman, it still cannot be said that they ceased to be Eligible Persons after they had been removed as Chairman and Vice-Chairman on 3 March 2011.  They remained as directors of the Company on 24 March 2011, before they were effectively removed by resolution of the shareholders passed at the General Meeting, and until such removal, they remained as Eligible Persons under the Scheme.  The Company’s case is that even though they might remain as Eligible Persons on 24 March 2011, the plaintiffs’ status as such is only relevant to the question of whether they would be entitled to be granted options under the Scheme, and not to the issue of whether they would be entitled to exercise their options already granted.  On the latter issue of whether the plaintiffs could exercise their options on 24 March 2011, the issue in dispute is whether their options had lapsed by then by the operation of the Rules.

Did the plaintiffs’ options “lapse automatically and terminate immediately” under clause 8 (g) on any ground?

33.The Company relies on clause 8 (g) of the Rules, which provides that an option under the Scheme “shall lapse automatically and terminate immediately (to the extent not already exercised)” on “the date on which the Grantee ceases to be an Eligible Person by reason of summary dismissal for misconduct or other breach of the terms of his employment or other contract constituting him as an Eligible Person”. 

34.The Company pleads (in paragraphs 37 to 39 of its Re-Amended Defence) that as at 3 March 2011, the plaintiffs had ceased to be the Chairman and Vice-Chairman of the Company, their employment relationship as such had been terminated by reason of summary dismissal for misconduct or other breach of the terms of their employment or contract constituting them as Eligible Persons, and their options had lapsed automatically and terminated immediately on 3 March 2011, pursuant to clause 8 (g).  The Company further pleads, in paragraph 40, that if it is found that the plaintiffs became Eligible Persons by reason of their position as directors of the Company, the plaintiffs nevertheless ceased to become Eligible Persons as from 3 March 2011, since they had been summarily dismissed by reason of their breach of the terms of their employment with the Company constituting them as directors of the Company.

35.In relation to Li, he had no employment contract or service agreement with the Company as Chairman and Executive Director of the Company.  In relation to Xu, there was a Director’s Service Agreement dated 23 May 2008 made between him and the Company, which governed the terms on which he was appointed as Executive Director of the Company.

36.The plaintiffs conceded at trial that the majority of the Board had concluded from the evidence presented to them at the Board meetings of 3 March 2011 and 14 March 2011 that the plaintiffs had committed “serious misconduct and breach of duties”. 

37.I have found that the plaintiffs became Eligible Persons under the Rules by virtue of their appointment as directors, and not as Chairman and Vice-Chairman.  They did not cease to be Eligible Persons on 3 March 2011 by reason of summary dismissal for any misconduct or breach of the terms of their employment or other contract which constituted them Eligible Persons in their capacity as Chairman/Vice-Chairman. 

38.As to whether the plaintiffs had ceased to be Eligible Persons, in their capacity as directors of the Company, by reason of summary dismissal as such for either misconduct or other breach of the terms of their employment or other contract constituting the plaintiffs as Eligible Persons (within the meaning of clause 8 (g)), the plaintiffs were not removed as directors until the shareholders’ resolution was passed at the General Meeting held on 26 April 2011.  Any argument that the plaintiffs had already been removed as directors before 24 March 2011 cannot be supported by the Company’s own documents. 

39.The public announcement issued by the Board on behalf of the Company on 4 March 2011 states only that the plaintiffs were removed as Chairman and Vice-Chairman of the Company with effect from 3 March 2011, and in unequivocal terms states that the plaintiffs “remained as executive directors of the Company” as at the date of the announcement.  The Notice of Termination which was issued by the Company to each of the plaintiffs on 29 March 2011 states that the service agreement and employment relationship between each of the plaintiffs and the Company was “terminated starting from today”, ie 29 March 2011.

40.Hence, I conclude that on 24 March 2011 when the plaintiffs exercised their options, they had not ceased to be Eligible Persons by reason of summary dismissal for misconduct or other breach of the terms of their employment or other contract constituting them as Eligible Persons, for clause 8 (g) of the Rules to apply.

41.Mr Westbrook SC sought to argue that clause 8 (g) applies, as the plaintiffs had ceased to be Eligible Persons on 3 March 2011, or at the latest by 14 March 2011, since the Company “would be entitled” by those dates to terminate the plaintiffs’ employment with the Company at common law, or pursuant to any applicable laws or under the plaintiffs’ service contract with the Company.  It was argued that clause 8 (g) was drafted very broadly to ensure that the Board has the power to disavow any options granted to grantees who have committed misconduct and acted against the interests of the Company, even though these grounds may not fall under the 1st limb (summary termination of the contract constituting the grantee as an Eligible Person).

42.I agree with Mr Westbrook so far as the wide ambit of clause 8 (g) is concerned.  However, this ground of termination and the fact that the plaintiffs’ options had lapsed by virtue of the Company’s entitlement to terminate their employment, irrespective of the date on which the relationship was actually terminated, or in reliance on any termination other than the fact of the removal of the plaintiffs as Chairman and Vice-Chairman on 3 March 2011 and as directors by reason of any resolution of the Board on 14 March 2011, has never been pleaded.  This argument was only raised in the course of Counsel’s closing, and came as a surprise to the plaintiffs. 

43.Order 18 rule 8 requires a party to specifically plead any matter which it alleges make any claim of the opposite party not maintainable, or which, if not specifically pleaded, might take the opposite party by surprise. The fact of the Company’s alleged entitlement, at common law or under the plaintiffs’ service contract with the Company, to terminate the plaintiffs’ employment on a particular date, be it 3 March 2011, or 14 March 2011, or some earlier date in December 2010 (as Mr Westbrook even sought to argue as the time when the misconduct was perpetrated), are all material facts on which the Company relies for its defence, and which must be pleaded under Order 18 rules 7 and 8.

44.The Defence of the Company has throughout been on the basis that the plaintiffs had ceased to be Eligible Persons after 3 March 2011, as they were summarily removed as Chairman and Vice-Chairman on that day, and then removed as directors on 14 March 2011 or 26 April 2011. 

45.Paragraphs 24 to 36 of the Re-Amended Defence set out the facts relied upon by the Company in relation to what is referred to as “termination of employment relationship with the plaintiffs”.  These refer to the board’s resolution to summarily remove the plaintiffs as Chairman and Vice-Chairman of the Company at the meeting on 3 March 2011 (paragraph 31), the board resolution passed on 14 March 2011 (paragraph 32), the Company’s notification to the plaintiffs on 29 March 2011 of the termination of their employment relationship on that day (paragraph 33) and the plaintiffs’ removal as directors pursuant to the shareholders’ resolution passed at the General Meeting (paragraph 35).

46.In paragraph 38, the Company pleads that “by reason of the matters pleaded above”, as at 3 March 2011, the plaintiffs were no longer the Chairman and Vice-Chairman, and their employment relationship had been terminated with immediate effect.  In paragraphs 39 and 40, the Company pleads that the plaintiffs’ options had lapsed on 3 March 2011, “as they ceased to be Eligible Persons as from that date by reason of summary dismissal for misconduct or other breach of the terms of their respective employment or other contract” constituting them as Eligible Persons. 

47.It is clear from the Re-Amended Defence that the Company relies on the Board resolutions of 3 March and 14 March 2001, and the shareholders’ resolution of 26 April 2011 by which the plaintiffs were removed as directors, as the “summary dismissal” or the fact of termination of their employment, for the purposes of considering the date when the plaintiffs ceased to be Eligible Persons under clause 8 (g) of the Terms and consequently, the date when the plaintiffs’ options lapsed automatically and terminated immediately.

48.In my judgment, I do not consider that the Company is entitled to raise or to rely on the argument of entitlement to dismiss, as opposed to the actual dismissal which the Company had relied upon and as pleaded.  To permit the Company to do so would run contrary to the purposes of pleadings, as identified by Bokhary JA (as he then was) in Aktieselskabet Dansk Skibsfinansiering v Wheelock Mountain & Co Ltd [1994] 2 HKC 264 at 269-270, namely, to inform the other side of the nature of the case they have to meet, to prevent the other side from being taken by surprise at the trial, to enable the other side to know what evidence they ought to prepare for trial, to limit the generality of the pleadings, the claim and the evidence, to limit and define the issues to be tried and as to which discovery is required, and to tie the hands of the party so that he cannot without leave go into any matters not included.  These considerations are particularly important after the Civil Justice Reform, and the underlying objectives to be achieved: of fairness, cost effectiveness, and expeditious disposal of cases.

49.In any event, the Company’s argument that it is entitled to rely on the second limb of clause 8 (g) of the Rules, that the plaintiffs had ceased to be Eligible Persons on 3 March 2011 since the Company was entitled on that day to terminate their employment at common law or pursuant to any applicable laws, by reason of their misconduct, failure to make full disclosure to the Company and/or misleading the Board, goes against the actual facts and the evidence adduced.  On 29 March 2011, the Company issued letters to the plaintiffs, stating that their employment relationship with the Company, and in Li’s case his service agreement with the Company, was terminated with effect from 29 March 2011.  The letters refer to their dismissal by virtue of section 9 (i) (a) (iii) of the Employment Ordinance.  If the Company had sought to rely on its right to terminate the plaintiffs’ employment at common law or pursuant to the Employment Ordinance, it only chose to do so on 29 March 2011, and not before.

50.To conclude, the plaintiffs’ options did not lapse under clause 8(g) on any date before they were exercised on 24 March 2011.

Was the General Meeting properly convened by the directors at the Board meeting held on 14 March 2011?

51.The plaintiffs claim that the General Meeting was not properly convened under Article 58 of the Company’s Bye-laws, which provides that the Board “may whenever it thinks fit call special general meetings”.  The plaintiffs’ case is that there must first be a valid resolution passed by the Board, that a special general meeting should be called, before such a meeting can be validly held and a shareholders’ resolution properly passed.  They claim that on the evidence, the directors never resolved at their meeting on 14 March 2011 (“14 March Meeting”) to convene a special general meeting to remove the plaintiffs as directors.  Instead, what the directors voted on and purportedly resolved was a motion to remove the plaintiffs as directors, which they did not have the power to do under Article 86 (4) of the Bye-laws.  Leading Counsel for the plaintiffs highlighted the fact that Wong confirmed in her testimony that the only motion which had been put to the directors at the 14 March Meeting was for the removal of the plaintiffs as directors, and according to Wong, that was passed on the clear understanding that it would be subject to a shareholders’ meeting being held.  She accepted that she had not put to the Board any motion to call for a special general meeting.

52.It cannot be disputed from the evidence adduced that at the 14 March Meeting, the directors were asked to vote on the removal of the plaintiffs as directors, and that the resolutions to remove the plaintiffs from the Board were passed by the majority of the directors present.  The minutes of the 14 March Meeting so record.

53.The directors who attended and voted at the 14 March Meeting claim in their evidence that the intention of the Board in so voting was to convene a special general meeting, as they were all aware that they had no power to remove directors directly, and that this had to be done at a shareholders’ meeting.  According to the evidence of Wong, Mao and Zhu who attended the 14 March Meeting, their vote for removal of the plaintiffs as directors was with the intention to convene a special general meeting, and on the understanding that their vote to remove the plaintiffs as directors was subject to the holding of such a general meeting.

54.For the plaintiffs, Mr Wong SC argued that the subjective intention of the directors is irrelevant and inadmissible in construing the minutes of the 14 March Meeting.  I do not agree.  The minutes are records and evidence of what transpired at a meeting.  If the minutes are inaccurate or incomplete, they may be corrected and explained by the parties who attended the meeting.  Unrecorded business transacted at a meeting and unrecorded resolutions can be proved by other evidence (Re Fireproof Doors Ltd [1916] 2 Ch 142).  The rules of construction of a contract, which make inadmissible evidence of the subjective intention of the parties to the contract, should not be applied.  At the end of the day, it is a question of whether the evidence of the parties who attended the meeting is to be believed as to what transpired at the meeting, despite what is recorded in the minutes.

55.Whereas it is clear that the directors who voted at the 14 March Meeting intended to have the plaintiffs removed as directors, it is also clear that there was no express vote on, and hence no resolution to convene, a special general meeting as such.  This is so notwithstanding the fact that a director (Mr Feng) had proposed, in the course of the meeting, resolutions to submit the removal of the plaintiffs to a shareholders’ meeting, and there were discussions that such a meeting should be convened by the Board. 

56.In any event, notwithstanding the uncertainty as to the lack of a vote on the convening of a shareholders’ meeting, I accept the submissions made by Mr Whitehead that from the evidence, it is clear that the directors of the Company had at the latest by 16 March 2011 (if they had not done so at the 14 March Meeting) decided to convene a special general meeting to remove the plaintiffs as directors.  A notice of the General Meeting was in fact issued on 6 April 2011 (“Notice”), by which members were notified of the purpose of the meeting being to resolve to remove the plaintiffs as directors of the Company.  The General Meeting was in fact held, and the resolution to remove the plaintiffs as directors was in fact passed. 

57.On 16 March 2011, the Board issued a public announcement on behalf of the Company, stating that on 14 March 2011, the Company had convened a Board meeting at which the Board had resolved by majority vote that a special general meeting should be convened to remove the plaintiffs as directors.  On 6 April 2011, the Board issued the Notice of the General Meeting to be held on 26 April 2011, stating that the purpose of the meeting was to consider and, if thought fit, to resolve to remove the plaintiffs as directors of the Company.  The Board also issued a letter to all shareholders on 6 April 2011, in which information was supplied to the shareholders of the Board meetings held on 3 March 2011 and 14 March 2011.  The letter states that the Board had resolved by majority vote at such meetings to remove the plaintiffs as Chairman and Vice-Chairman, to terminate their employment relationship with the Company, and to convene a General Meeting to remove them as directors.  The reasons for the removal of the plaintiffs were stated in the letter as their failure to make complete disclosure of material matters to the Company and their dishonesty, particulars of which were given in the letter.

58.The minutes of the 14 March Meeting (“Minutes”) were circulated to all the Board members, including the plaintiffs, for their comments, and no one on the Board raised any objection to the contents of the Minutes. As Mr Whitehead emphasized, the Minutes show the alleged irregularity now complained of by the plaintiffs, that there was no resolution to convene a General Meeting, but the plaintiffs neither objected to the alleged irregularity or defect, nor took any action to challenge the convening or holding of the General Meeting before or after 26 April 2011, until these proceedings.  If they had done so, the Board could easily have ratified the alleged irregularity of the absence of a vote or formal resolution to convene the General Meeting.  To the contrary, the plaintiffs allowed the General Meeting to proceed and, as the evidence shows, took part in the process by lobbying for votes of the shareholders. 

59.There is no requirement for the Board to pass a formal resolution in order to exercise its power to convene a special general meeting.  Bye-law 58 of the Company’s Bye-Laws simply provides that the Board “may whenever it thinks fit call special general meetings”.  Bye-Law 86 (6) in turn states that members of the Company may, at any general meeting convened and held in accordance with the Bye-Laws, by ordinary resolution remove a director, provided that: the notice of such meeting contains a statement of the intention of the meeting to remove the director; such notice is served on the director 14 days before the meeting; and at such meeting the director is entitled to be heard on the motion for his removal.

60.In Wong Yick Man v Star Telecom International Holding Limited CACV 1123/2000 (unreported, 5 September 2001), Mayo VP highlighted (at paragraphs 45 and 46) that there is no practical distinction between “consensus which is reached at a board meeting” and “a so-called formal resolution” of the board of directors of a company.  As Mayo VP pointed out:

“It is by no means unusual for directors of companies to conduct their business on a semi-informal basis. When reaching a decision even of an important nature, they may not solemnly cast votes and style the result as a resolution.”

61.If there is a clear determination by the directors on a matter within their power to determine, such determination need not be embodied in a formal resolution.  It is clear from the evidence that the Board had exercised its power to convene a special general meeting pursuant to Bye-Law 58.  Whether or not the Board had actually passed a formal resolution on 14 March 2011 to exercise its power and to convene the General Meeting, the Board did issue the Notice convening the General Meeting.  Even if there was a defect or irregularity in the procedure of the 14 March Meeting, which affected the convening of the General Meeting, such irregularity could have been cured, and was not such as to vitiate the action of the Board and to deprive the shareholders of their power of acting.  In the circumstances described in paragraph 58 above, the court would not interfere with the outcome of the General Meeting.  As the court explained in Browne v La Trinidad [1887] 37 ChD 1 at p17, when dealing with an irregularity complained of by a director (for not having been given adequate notice of the convening of a meeting of directors called to summon an extraordinary general meeting for his removal):

“His contention now is that what he calls this irregularity in serving the notice upon him, renders it incompetent for the shareholders to pass the resolution to consider which they have had notice to meet. It appears to me that, if we gave effect to such an argument as this, we would be paralyzing the whole course of business of these companies. It is competent for directors to call meetings, it is competent for shareholders to pass resolutions, and the most that can be said here is that there is or may be some irregularity, but an irregularity (if such it be) which can be cured at any moment. In such cases the Court never interferes. I think it is most important that the Court should hold fast to the rule upon which it has always acted, not to interfere for the purpose of forcing companies to conduct their business according to the strictest rules, where the irregularity complained of can be set right at any moment.”

62.I find therefore that the General Meeting was validly convened and held, and that the plaintiffs were validly removed as directors of the Company by the shareholders’ resolution passed on 26 April 2011.  This, however, does not affect the plaintiffs’ exercise of their options on 24 March 2011, since the shareholders’ resolution was for the removal of the plaintiffs as directors with effect from the date of the resolution.

Were the Restrictions incorporated into the terms of the plaintiffs’ options?

63.The arguments made on behalf of the plaintiffs on the Restrictions are that, first, they constitute an amendment to the terms and conditions of the Scheme, which amendments had not been made with the approval of the shareholders of the Company in accordance with clause 13.1 of the Rules.  Further, the plaintiffs argue that the Restrictions have not been incorporated into the terms of the offer of the options granted to them in January 2004 and October 2004.

64.Clause 13.1 of the Rules provides that the Board “may from time to time in its absolute discretion waive or amend any terms of the Scheme at such time and in such manner as they deem desirable without the approval of shareholders of the Company in a general meeting to the extent permissible under the provisions of the Listing Rules in relation to the Scheme and all applicable laws in respect thereof”.  Under paragraph 13.2 (b) of the Rules, the Board may not amend “any terms and conditions of the Scheme which are of a material nature” or any terms of the options granted, except with the prior approval of the shareholders of the Company in general meeting.

65.It is not disputed that at a meeting of the Board held on 9 January 2004 (“9 January Meeting”), the Board resolved to issue offer letters to Eligible Persons, including the plaintiffs, in respect of options granted to them, subject to conditions and restrictions.  The Restrictions were attached to the minutes of the 9 January Meeting, and stated to form an integral part of the minutes.

66.Xu was one of the directors who attended the 9 January Meeting.

67.The offer letters issued to the plaintiffs state that the options were granted to them under the Scheme, for each of them to purchase up to a maximum of 5 million fully paid shares in the Company, at the subscription price of HK $0.80 per share, payable on the exercise of the option.  The offer letter states that the grant and exercise of the option are governed by the Rules of the Scheme, and a leaflet was attached to the letter as a general introductory guide as to how the Scheme works.  The offer letter states that further information may be obtained from the Company Secretary. 

68.The Restrictions attached as Appendix II to the minutes of the 9 January Meeting are headed “Summary of the Other Terms of the New Share Option Scheme”.  They set out the purpose of the Scheme, the Eligible Persons as the targeted subjects to be granted options under the Scheme, the term of validity of the options, the number of shares available for subscription under the options, the terms of the exercise of the options, the rights of grantees of options upon termination of their employment and in the event of their death, when the options lapse, and finally under paragraph 9 of the Restrictions, the right of the Board to adjust the amount of the shares covered by the options and the terms of the exercise of the options.

69.Restriction 9 (as defined in paragraph 9 of this Judgment) reads as follows:

“In the event of personnel being disciplined by the Company for severe violation of discipline, the Board of directors have the right to make adjustments to the amount of the share options owned (by them) and the conditions of the exercise (of the options).”

“員工嚴重違紀受公司處分，董事會有權對員工擁有的股票期權數額以及行使條件進行調整。”

70.The Company claims that it was pursuant to Restriction 9 that the Board decided to adjust the amount of options held by the plaintiffs to zero, on the basis that they had been summarily dismissed and removed as directors for misconduct or dishonesty.

71.On the face of Restriction 9, the right or power of the Board to adjust the amount and the terms of exercise of an option already granted to the grantee under the Scheme is indeed wide.  As the Company now contends, it is open to the Board to adjust the amount of options granted to zero.  Although the Restrictions are stated to be a “summary of the other terms” of the Scheme, the power or right of the Board as provided for in Restriction 9 is not contained in the Rules.  This does not appear to be disputed by the Company.

72.It was argued by the Company that the Restrictions were only introduced as “additions” and not “amendments” to the Rules, and should not be caught by clause 13 of the Rules.  I do not agree that there is any valid distinction between amendments, and additions, when the effect of introducing the additional provisions will be to amend or alter the terms, conditions and effect of the Rules and the Scheme.  The effect of Restriction 9 is to grant to the Board the right and power to reduce and adjust the amount of options granted to grantees, and to adjust or amend the terms of the exercise of the options granted, when no such right or power existed under the Rules prior to 9 January 2004.  In my judgment, Restriction 9 materially amends the terms and conditions of the Scheme, such that the inclusion of Restriction 9 into the Rules constitutes an amendment of the Rules which requires the prior approval of the shareholders of the Company in general meeting, in accordance with clause 13.2 of the Rules of the Scheme.  In the absence of such shareholders’ approval, Restriction 9 has not been incorporated and has no legal effect.  The Company has never sought to claim that Restriction 9 had the prior approval of the shareholders of the Company.

73.If I am wrong in holding that Restriction 9 is an amendment to the Rules which require the approval of the shareholders of the Company, the plaintiffs also argued that the Restrictions were not specified in any of the offer letters when the options were granted to them, such that they did not form part of the conditions of the options.  In response to this, the Company claims that the Restrictions were not “conditions which must be satisfied before the options may be exercised”, as referred to in clause 4.02(g) of the Rules.  Accordingly, they did not have to be specified in the offer letters.

74.Mr Westbrook referred instead to clause 4.01 of the Rules, under which the Board may at its absolute discretion “specify such conditions and restrictions as it thinks fit when making an offer to an Eligible Person”.  Mr Westbrook argued that Restriction 9 is such a restriction.

75.Clause 4.02 of the Rules provides that an offer made to an Eligible Person shall be in writing, in such form as the Board may determine and shall state, amongst other things, the date of issue of the offer, the method for accepting the offer, the maximum number of shares to which the offer relates, the subscription price, the option period, and “any of the conditions which must be satisfied before the option may be exercised”.  Even if Mr Westbrook is correct in his submission that Restriction 9 does not amount to a condition which falls within clause 4.02(g), to be satisfied by the plaintiffs before they can exercise the options granted to them, Restriction 9 does not fall within clause 4.01, to be capable of being specified by the Board as a restriction, at its absolute discretion.  Under clause 4.01 of the Rules, the power of the Board to specify conditions and restrictions on the offer made to an Eligible Person is stated expressly to be subject to the proviso that such conditions and restrictions shall not be inconsistent with other terms and conditions of the Scheme.  Restriction 9 provides for the amount of the options granted to Eligible Persons to be adjusted and hence altered by the Board, before the expiry of the option period and before exercise, to the extent that the options granted can be revoked and reduced to zero.  Under clause 8 of the Rules, options only lapse or terminate upon expiry of the option period, or upon summary dismissal or termination of the contract of employment of the grantee.  Clause 10 of the Rules only provides for cancellation of options granted but not exercised.  In my view, Restriction 9 is inconsistent with clauses 8 and 10, and cannot be imposed by the Board, separately and distinctly from the Rules, at the time when the offers were made to the plaintiffs as Eligible Persons. 

Is Restriction 9 applicable to the plaintiffs as directors of the Company?

76.The plaintiffs argue that the Restrictions, and in particular Restriction 9, only applies to employees of the Company, and not to directors such as the plaintiffs.  This turns on the construction of the language used in the Restrictions.

77.Restriction 9 reads as follows:

“In the event of personnel being disciplined by the Company for severe violation of discipline, the Board of directors have the right to make adjustments to the amount of the share options owned (by them) and the conditions of the exercise (of the options).”

“員工嚴重違紀受公司處分，董事會有權對員工擁有的股票期權數額以及行使條件進行調整。”

78.The dispute between the parties turns on the use of the word “員工”.  The plaintiffs argue that this refers only to employees of the Company, whereas the Company argues that Restriction 9 applies to directors as well as to employees of the company.  In my view, “員工”is a neutral term, and should most appropriately be translated as “personnel”, an equally neutral term.  By ordinary usage, “員工”and “personnel” are wide enough to include all persons within an organization such as the Company.  They may be management personnel (管理人員), or executive personnel (行政人員), or skilled personnel (技術人員).  The term also covers workers, or work personnel.

79.The terms “personnel”, “directors”, “staff” and “employees” are used in the different clauses of the Restrictions.

80.Clause 1 of the Restrictions states that the purpose of the Scheme is to (inter alia) encourage and reward “personnel” “員工”who have made contributions to the development of the Company and its subsidiaries, to strengthen the sense of responsibility of “management personnel”“管理人員”, to enhance the standard of decision-making concerning the Company, to enhance the sustainable development of the Company, and to encourage “personnel”“員工”of the Company to procure profits for the Company.  In this context, “management personnel” would include directors who are involved in the management and decision-making process of the Company.

81.Clause 2 states the persons eligible for the options to be issued, and refers to the “内部職工” or “internal staff or workers” of the Company；directors of the Company or the Group； “employees” “僱員”of the Company, and “employees”“僱員”of business consultants, joint venture partners, financial advisers or legal advisers of the Company or the Group.

82.To the extent that the Restrictions are described as a “summary” of the Rules, clause 8 of the Restrictions purports to summarize clause 8 of the Rules, relating to the automatic lapse and immediate termination of an option, inter alia, upon the summary dismissal for misconduct or other breach of the terms of the contract constituting an Eligible Person as such.  The Rules “員工” or personnel is used, and no dispute has been raised by the plaintiffs that clause 8 of the Rules applies to all Eligible Persons, whether directors, employees, or workers.

83.In the overall context of the purpose and objectives of the Scheme, the Rules, and the Restrictions, and the categories of Eligible Persons, I consider that Restriction 9 and the reference therein to “員工”or “personnel” refers and extends to directors of the Company.  Particularly in the context of the objectives of the Scheme, which are to reward directors and employees for their contribution made to the Company, for “improved services” (clause 1.03 of the Rules) to the Company, to strengthen the sense of responsibility of the Company’s management（“管理人員”）(clause 1.3 of the Restrictions) and to enhance the standards of decision-makers（“决策水平”）of the Company (clause 1.3 of the Restrictions), there is no conceivable justification why directors who have been found to have been in “serious violation” of discipline, of their duties or of the rules of the Company should be exempted from the sanctions and consequences envisaged by Restriction 9.

Had the plaintiffs been disciplined as envisaged by Restriction 9?

84.The plaintiffs argue that the power of the Board under Restriction 9 to adjust the amount of their options was never triggered, since they had never been “disciplined” (or “punished”, as the plaintiffs contend) by the Company within the meaning of Restriction 9.

85.There is no evidence of any disciplinary procedure in place within the Company for “discipline” of directors or employees of the Company, in respect of their violation of rules set by the Company, or in respect of any breach of duties by directors or employees.  It is not disputed that the plaintiffs were not subjected to any form of disciplinary procedure before or after their removal as Chairman, Vice-Chairman and directors of the Company.

86.The plaintiffs rely on Wong’s evidence that she accepted that the Board was not an enforcement or disciplinary panel.  Yet, she also maintained that it was for the directors at the meeting to form their own judgment, based on the evidence presented to the Board, as to whether the plaintiffs were fit to be directors of the Company, or should be removed.  Ultimately, and as the plaintiffs accept at the trial, the majority of the directors did conclude at their meetings on 3 March and 14 March 2011 that the plaintiffs had committed serious misconduct and breach of their duties, such that they should be removed as directors.  The plaintiffs were given the opportunity to address the Board at the meetings on 3 March 2011 and 14 March 2011, and whether or not principles of natural justice had been complied with is not a matter for consideration and determination in these proceedings.

87.On the evidence, and on a plain reading of Restriction 9 in the context of the Rules and the circumstances of the Company’s dismissal of the plaintiffs as directors, I consider that the plaintiffs had been disciplined when the Board made the decision that the directors had been guilty of misconduct and should be removed as Chairman, Vice-Chairman and directors of the Company in March 2011, and they were so removed as a result of the matters discussed at the Board meetings of 3 March 2011 and 14 March 2011.  There can be no harsher discipline than to be summarily dismissed from one’s post.  To suggest that the plaintiffs had not been disciplined or punished in this case is to ignore the realities of the situation. 

88.The plaintiffs argued that the Board’s decision (if any) to adjust the amount of the options granted to the plaintiffs was only made after the plaintiffs had exercised their options on 24 March 2011.  They claim the Board was not so entitled to do, since Restriction 9 refers to adjustment of options “owned by” the employee or grantee.  From the limited evidence, the Board discussed the plaintiffs’ exercise of their options at the Board meeting of 25 March 2011, and the decision made was to terminate the plaintiffs’ employment and service relationship with the Company with immediate effect, and to stop them from exercising their options.  At the subsequent Board meeting of 6 April 2011, the directors’ decision was not to issue any shares to the plaintiffs pursuant to their exercise of their options.  Mr Westbrook’s contention is that the directors had clearly intended and effectively decided to exercise their power not to issue any shares under the plaintiffs’ exercise of their options, that a formal resolution is not necessary, and that the Company has a good defence if the court accepts that the Board had the power not to issue the shares under Restriction 9.

89.If Restriction 9 had been effectively incorporated into the Rules, I agree with Mr.  Westbrook that there is nothing in the Rules or the Restrictions to prevent the Board from exercising its power and discretion under Restriction 9 to adjust the amount of the options after the plaintiffs had purported to exercise the options, but before the shares were actually issued.  The plaintiffs remain the “owners” of the options contemplated by Restriction 9, and the options remain options within the meaning of Restriction 9 until the shares have actually been issued by the Company to the plaintiffs pursuant to their exercise.  Only then will the options be converted into shares.  I consider that the “adjustment” of the amount of the options as contemplated by Restriction 9 can be made even after the plaintiffs purported to exercise them on 24 March 2011.

Is Circular 78 applicable to the plaintiffs’ exercise of their options?

90.The Company claims that under clause 15.07 of the Rules, a grantee of options under the Scheme “shall be responsible for obtaining any governmental or other official consent or approval that may be required by any country or jurisdiction in order to permit the grant or exercise of the Option”. It is contended that this imposes a positive obligation on the plaintiffs to obtain the requisite consent or approval for the exercise from the government or other official.  Clause 15.07 goes on to provide that the Company shall not be responsible for any failure by a grantee to obtain any such consent or approval, or for any tax or other liability to which a grantee may become subject as a result of his participation in the Scheme.

91.The Company also relies on Bye-Law 12 (1) of the Company, which provides that neither the Company nor the Board shall be obliged, when making or granting any allotment of, offer of, option over or disposal of shares, to make, or make available, any such offer, option or shares “to shareholders with registered addresses in any particular territory, being a territory where, in the absence of a registration statement or other special formalities, this would or might, in the opinion of the Board, be unlawful or impracticable.”

92.It is submitted on behalf of the Company that the Board has a discretion under Bye-Law 12 (1) not to allot shares to persons in a territory where the issue of the shares might be unlawful in the absence of some special formality.

93.The Company pleads in its Defence that the plaintiffs are PRC individuals since they are holders of PRC passports, they describe their nationality as “PRC”, and Li is the holder of a PRC resident identity card.  As PRC individuals, the Company pleads that the plaintiffs are, at all material times, subject to Circular 78 issued by the State Administration of Foreign Exchange (“SAFE”).  Circular 78 is entitled “Operating Rules For Foreign Exchange Control In Respect Of The Participation By Domestic Individuals In Employee Stockholding, Stock Option And Other Such Plans Of Overseas-Listed Companies”.  The relevant terms of Circular 78 are set out below.

94.Article 1 states that the operating rules in Circular 78 were promulgated “in order to regulate exchange control in respect of the participation by domestic individuals in employee stockbroking, stock option and other such plans of Overseas-Listed Companies” （為規範境內個人參與境外上市公司員工持股計劃和認股期權計劃等的外滙管理）.  All emphases made below in the references to the texts of Circular 78, the Regulations and the Rules are mine.

95.Article 2 states as follows:

“For the purposes of these Operating Rules, the term “Overseas-Listed Company” means companies listed on an overseas stock exchange, and includes companies controlled by PRC capital and companies not controlled by PRC capital; and “Domestic Company” means the Overseas-Listed Company itself, or a parent company, subsidiary or branch of the Overseas-Listed Company located in the PRC.”

(本操作規程所稱“境外上市公司”是指在境外證券交易所上市的公司，包括中資控股公司和非中資控股公司；“境內公司”是指境外上市公司本身，或境外上市公司在境內的母公司，子公司及分支機構。)

96.Article 3 of Regulation 78 states:

“The foreign exchange transactions of individuals who participate in the employee stockholding plan of an Overseas-Listed Company shall be conducted according to the following procedures:

(1) An individual shall select a domestic institution (the “Domestic Agent”) through the Domestic Company to which he/she belongs to centrally handle all foreign exchange control matters on his/her behalf. The Domestic Agent may be a Domestic Company (provided that the labour union has legal personality), or a financial institution such as a trust and investment company qualified to carry out asset custody business.

(2) The Domestic Agent shall engage a domestic financial institution qualified to manage foreign exchange assets and to carry out foreign exchange operations for securities transactions (the “Asset Manager”) to purchase and sell the shares designated under the employee stockholding plan on behalf of the individual.

(3) The Domestic Agent shall engage an overseas bank qualified to engage in custody business (the “Custody Bank”) to hold on trust all of the overseas assets held by the individual under the employees stockholding plan.”

97.Article 4 reads:

“The foreign exchange transactions of individuals who participate in the stock option plan of an Overseas-Listed Company shall be conducted according to the following procedures:

(1) An individual shall entrust the Domestic Company to which he/she belongs or a Domestic Agent specified in item (1) of Article 3 to centrally handle all foreign exchange control matters on his/her behalf.

(2) The individuals shall collectively entrust a financial institution qualified to carry out securities brokerage business and located in the place where the Overseas-Listed Company is listed (the “Trustee”) or the Trustee designated by the Overseas-Listed Company to handle matters relating to the exercise of options and sales of shares by individuals. An individual’s instructions for such transactions as exercise of options and sale of shares shall be executed through the Trustee.”

98.Article 9 is also relevant, in that it states :

“Individuals may not pay the funds required for an exercise of options directly from abroad, and the source of the domestic funds paid for an exercise of options shall comply with state laws and regulations.”

99.As to what Circular 78 requires to be done on behalf of individuals participating in employee stockholding or stock option schemes, Article 5 also provides :

“An application shall be made annually on behalf of individuals who participate in employee stockholding plans or who exercise their stock options using cash during the exercise period (“Excise of Options”) by the Domestic Agent, or by the Domestic Company to which the relevant individuals belong, to the State Administration of Foreign Exchange or one of its branches or offices (the “Administration of Foreign Exchange”) for a foreign exchange purchase and payment quota for the employee stockholding or exercise of options.”

Article 5 then sets out the documents required to be submitted for such purpose.

100.Article 13 provides as follows:

“Individuals shall strictly comply with the relevant provisions of these Operating Rules when they participate in the employees stockholding and stock option plans of Overseas-Listed Companies and may not purchase other overseas securities by nominally participating in the employee stockholding plan or stock option plan of an Overseas-Listed Company, except as otherwise provided in laws and regulations. If an individual, Domestic Agent, Domestic Company to which the relevant individual belongs, Asset Manager or Domestic Company violates relevant provisions of these Operating Rules, the Administration of Foreign Exchange will impose punishment in accordance with the PRC Regulations for the Control of Foreign Exchange, the Detailed Rules for Implementation of Measures for Administration of Individual Foreign Exchange and other relevant regulations.”

101.Finally, Article 14 provides as follows:

“If individuals obtain other equity from an Overseas-Listed Company pursuant to its employee stockholding plans or stock option plans etc, or sell shares in an Overseas-Listed Company obtained through other means, the resulting foreign exchange earnings shall, after deduction of the relevant overseas charges, be repatriated in full, and the Domestic Agent or the Domestic Company to which such individuals belong shall centrally handle the relevant procedures by reference to the relevant provisions hereof.”

102.The Company claims that as PRC individuals, the plaintiffs are regulated by Circular 78, but they failed or refused to satisfy the Company that they had complied with the compliance procedures set out in Circular 78.  As such, it is claimed that the Board was entitled and duty-bound to protect the Company’s interests and refuse the issue of shares to the plaintiffs under their purported exercise of the options.

103.On behalf of the plaintiffs, it was argued that the Company is incorporated outside PRC, and does not fall within the definition of an Overseas-Listed Company under Circular 78.  As such, the Company’s Scheme does not fall within the ambit of Circular 78, and Circular 78 is not applicable to the plaintiffs’ exercise of their options.  In any event, the plaintiffs say that even if Circular 78 was applicable, the Company would not have been held liable for any violation of Circular 78, and there is nothing unlawful, illegal or contrary to public policy in the performance of the exercise of the plaintiffs’ options or the grant of the Company’s shares to the plaintiffs in Hong Kong.

104.Foreign law is a matter of fact to be proved.  In the absence of any expert evidence on principles uniquely applicable to the interpretation of Chinese legislation and enactment, the court applies the rules of statutory interpretation applicable under Hong Kong law.  In this case, both the experts for the plaintiffs and the Company confirmed that the approach to statutory interpretation in the PRC is similar to that under Hong Kong law, that the purpose of the legislation is a relevant consideration and that the language used is to be construed in its context.

105.Article 1 of Circular 78 states that the Operating Rules set out in Circular 78 were formulated pursuant to regulations such as the PRC Regulations for the Control of Foreign Exchange (“Regulations”), the Measures for Administration of Individual Foreign Exchange (“Measures”) and the Detailed Rules for Implementation of Measures for Administration of Individual Foreign Exchange (“Detailed Rules”).  To consider Circular 78 in its proper context, the Regulations, Measures and Detailed Rules have to be taken into consideration.

106.The Regulations were propagated by the State Council on 5 August 2008.  Article 1 states that the Regulations were formulated “in order to strengthen foreign exchange control, promote a balance between foreign receipts and payments and promote the healthy development of the national economy”. Article 4 of the Regulations states that they apply to foreign exchange receipts and payments, and the business activities conducted in foreign exchange by “organizations in China” “境內機構” and “individuals in China” “境內個人” (both terms as defined in Article 52 of the Regulations); as well as to the foreign exchange receipts and payments, and the business activities conducted in foreign exchange in China by overseas organizations and individuals.

107.Article 8 of the Regulations states:

“The circulation of foreign currencies in the People’s Republic of China is prohibited. Additionally, pricing and settlement may not be effected in foreign currencies, unless otherwise provided by the state.”

108.Article 9 states that the foreign exchange receipts of “organizations in China” 境內機構 and “individuals in China” 境內個人may be “repatriated or retained overseas”, but the conditions for repatriation or retention overseas shall be specified by the State Council’s foreign exchange control department based on the international payments position and foreign exchange control requirements.  The Article refers to “repatriation” and “retention overseas” of foreign exchange receipts, meaning that the reference is to receipts which are received by the individual outside China.

109.Under Article 17 of the Regulations, if an organization or individual in China directly invests abroad or “engages in the issuance and/or trading of negotiable securities or derivatives overseas”:

“it/he/she shall carry out registration procedures in accordance with the provisions of the State Council’s foreign exchange control department. If the state requires that approval or record filing procedures be carried out first with the relevant competent departments, such approval or record filing procedures shall be carried out before foreign exchange registration.”

110.The Detailed Rules make more detailed provisions for the control of the use and remittance of foreign currency by domestic individuals and overseas individuals in China.  Article 16 of the Detailed Rules provides that “direct foreign investment of domestic individuals shall be conducted in accordance with the relevant regulations of the country”, and foreign currency may be purchased after examination and approval by the local foreign exchange administration agency.  Article 16 further states that for “domestic individuals and overseas individuals who live within the territory of China habitually”, and those who set up or control companies with a special purpose and gain return on their investment, the involved foreign currency income and expenses must be handled in accordance with the relevant regulations.

111.Article 17 of the Detailed Rules states that domestic individuals may use foreign currency to invest in financial products with fixed income and equities in the overseas market with qualified domestic institutional investors.

112.Article 18 states :

“Domestic individuals participating in foreign exchanges business such as Employee Stock Ownership Plans and Employee Stock Option Plans of companies listed in the overseas market shall submit an application to the foreign exchange administration agency with the company or domestic agency for approval and engage in the plans after obtaining approval.”

（境內個人參與境外上市公司員工持股計劃、認股期權計劃等所涉外滙業務，應通過所屬公司或境內代理機構統一向外滙局申請獲准後處理。）

113.There is no dispute between the experts called by the plaintiffs and by the Company respectively that the purpose of Circular 78 is foreign exchange control by the State.  The experts agree that the State Administration of Foreign Exchange (“SAFE”) only regulates “domestic” foreign exchange transactions of individuals and “cross-border” foreign exchange transactions of individuals, but not “overseas” foreign exchange transactions of individuals.

114.As the learned author of Benion on Statutory Interpretation commented on page 512 under Section 180, “Interpretive Criteria”:

“The paramount object in statutory interpretation is to discover what the legislator intended. This intention is primarily to be ascertained from the text of the enactment in question. That does not mean the text is to be construed merely as a piece of prose, without reference to its nature or purpose.”

Under section 204, the learned author further states:

“In interpreting an enactment, a two-stage approach is necessary. It is not simply a matter of deciding what doubtful words mean. It must first be decided, on an informed basis, whether or not there is a real doubt about the legal meaning of the enactment. If there is, the interpreter moves on to the second stage of resolving the doubt.”

115.In my view, the purpose of Circular 78 has been clearly stated in its Article 1, and in the Regulations.  The purpose can also be clearly seen from the text of the Regulations and of the Detailed Rules.  There can be no doubt that the purpose of the control prescribed in the Regulations, and in Circular 78 made under the Regulations, is to regulate foreign exchange in China, by requiring organizations and individuals in China to obtain approval and to carry out registration procedures in China and to make disclosure of their interests in foreign exchange dealings and transactions which may involve foreign currency receipts and expenses. 

116.It is also clear from the Detailed Rules and Circular 78 that the purpose of Circular 78 is to regulate domestic individuals’ participation in employee stock ownership and stock option plans of overseas listed companies (“Plans”), and that the mischief aimed at is the misuse by domestic individuals of these Plans to avoid foreign exchange regulation and disclosure and registration requirements, and under the guise of participation in the Plans issued by companies listed outside China, to engage in dealings in negotiable securities denominated in foreign currencies, and in foreign exchange payments and receipts.  The remedy for the mischief as provided under Circular 78 is to require applications to be made, on behalf of domestic individuals participating in the Plans, to SAFE for foreign exchange purchase and payment quota (“Quota”) to be obtained for the exercise of the options under the Plans (Article 17 of the Regulations, Article 18 of the Detailed Rules and Article 5 of Circular 78).  When applying for the Quota, disclosure has to be made of the details of how the Plans are implemented, the source of the renminbi funds used to purchase the shares, the rights and obligations of the participants in the Plans, how the options are allocated under the Plans, the number of employees involved in the Plans, the supporting documents regarding the decision of the overseas listed company to implement the Plans and evidence of a genuine labour relationship between the listed company and the individual participating in the Plan.  Under Article 6 of Circular 78, a designated foreign exchange account has to be opened with a bank in China, and there is control over the receipts of funds including the gains repatriated following the sale of stock by the participating employee, the repatriated dividends, etc.  The approval of SAFE has to be obtained in respect of the location of the foreign exchange account in relation to which the application for Quota is made.

117.Considered in its proper context, and bearing in mind the purpose of Circular 78 and of the Regulations, my view is that there is no real doubt as to the meaning of the terms “Overseas-Listed Company” and “Domestic Company” used, in so far as such meaning affects the scope of the regulation under Circular 78.

118.First, Article 1 of Circular 78 clearly states that the rules are to regulate exchange control in respect of “the participation by domestic individuals in employees stockholding, stock option and other such plans of Overseas-Listed Companies”.  The focus is on domestic individuals and their participation in the plans referred to, ie stockholding and stock option plans of overseas listed companies. 

119.Secondly, Article 2 of Circular 78 unequivocally states that, for the purposes of the rules contained therein, “Overseas-Listed Company” means “companies listed on an overseas stock exchange”, then goes on to state that this “includes companies controlled by PRC capital and companies not controlled by PRC capital” (my emphases).  There is no limitation of the definition to, nor any reference at all to, companies which are incorporated or registered in the PRC, as the plaintiffs suggest.  The definition is clarifying in nature, stating that it includes in the definition companies controlled by PRC capital, or not, but the definition is not exhaustive.  The Company, which is listed outside China on the Hong Kong stock exchange, falls within the definition.

120.There is support for this conclusion in Article 18 of the Detailed Rules issued by SAFE, which requires domestic individuals participating in employee stock option plans to apply for approval before they can engage in the plans.  Article 18 only refers to “companies listed in overseas markets”, without reference to where the listed company may be incorporated.

121.Whether the English translation of the term境內公司should be “Domestic Company” (as the Company claims), or “company within the territory” (as the plaintiffs claim), it makes no material difference to the fact that the term is actually defined in Article 2 of Circular 78 as:

“the Overseas-Listed Company itself, or a parent company, subsidiary or branch of the Overseas-Listed Company located in the PRC” (my emphasis).

122.I understand the argument made on behalf of the plaintiffs with regard to the domestic connection or domestic factor in respect of the parent company, subsidiary or branch of the Overseas-Listed Company, as the definition emphasizes the location of these companies being in the PRC.  However, I do not accept the argument made on behalf of the plaintiffs that the first half of the definition, ie “ ‘Domestic Company’ means the Overseas-Listed Company itself”, also makes the domestic connection clear, and requires the overseas listed company to be incorporated in China.  I do not see such connection at all. 

123.A definition in a statute can be an enlarging definition, to add a meaning that otherwise would or might not be taken to be included in the term. The definition of “Domestic Company” in Circular 78 is in my view one of such enlarging definitions.  To accept the plaintiffs’ interpretation of “Domestic Company” is to read into the definition the additional words “incorporated (or registered) in the PRC”, when they are acutely absent in the definition itself, and goes against the meaning on a plain reading of the definition.  Where the text is clear, there must be powerful factors to overbear the literal meaning of the word or phrase in the enactment.

124.A purposive approach in statutory interpretation would clearly support the construction that the definition of an Overseas-Listed Company extends to and includes a company incorporated and listed overseas or outside China, and the construction that Circular 78 extends to domestic individuals’ participation in the employee stockholding and stock option plans of such a company.  The purpose of the Regulations and of Circular 78 cannot be fully accomplished without their application to option schemes and stockholding plans issued by companies incorporated and listed outside China to domestic individuals in China.  If the aim of the Regulations is to require disclosure of domestic individuals’ participation in the Plans and their dealings and transactions in shares, securities and foreign exchange receipts under the Plans, why should a distinction be made between a company which is registered in China but listed overseas, and a company which is incorporated and listed outside China?

125.On behalf of the plaintiffs, Mr Wong argued that an enactment is presumed not to have any extra-territorial effect, and that to construe Circular 78 to extend to the plaintiffs’ participation in the Scheme of the Company, which is not incorporated or registered in China, and to impose liability or sanction on the Company by virtue of any non-compliance with Circular 78 would result in absurdity.

126.Having considered the overall context of Circular 78, my view is that the domestic connection required is the participation in the Scheme of the Company by the plaintiffs - who are PRC residents, holders of PRC passports and who describe themselves as PRC nationals.  Circular 78 would not extend to the Company, nor to the Scheme, but for the plaintiffs’ participation in the Scheme and their being granted options under the Scheme.  It is their participation in the Scheme which triggers the operation of Circular 78.  The Company’s connection with the PRC (if any was required) may also be found in the fact that it has subsidiaries in the PRC, and its main if not sole business is conducted in the PRC through these subsidiaries.

127.In any event, any presumption or rule that an enactment only extends to persons and matters within the territory, does not apply where a contrary intention appears in the enactment (see, for example, section 128 Part V, Benion on Statutory Interpretation, 5^th edition).  In my view, it appears from the text of Circular 78 that the intention is for the rules in Circular 78 to apply and extend to acts outside China, by reference for example to the prohibition (in Article 9) against the use by domestic individuals of funds outside the territory of China in the exercise of options. The rules in Circular 78 were formulated pursuant to the Regulations, and these are likewise expressed to extend to the acts of domestic individuals and organizations outside China.  Article 9 of the Regulations refer to the repatriation or retention overseas of foreign exchange receipts received by domestic individuals outside China in accordance with the conditions specified by SAFE.

128.Mr Wong argued that the court should avoid a construction of Circular 78 that produces an absurd result.  In the context of statutory interpretation, “absurdity” means unworkable or impracticable, inconvenient, anomalous or illogical, futile or pointless, artificial, or productive of a disproportionate counter-mischief (Section 312, Part XX1, Benion on Statutory Interpretation, 5^th edition).  Again, this rule of construction applies on the presumption that it is unlikely that such absurdity would have been intended by Parliament or the legislature.  However, where it appears that Parliament or the legislature really intended the result, or the literal meaning is too strong, they constitute overriding reasons for applying such a construction. 

129.Considering the text and the registration formalities and compliance procedures prescribed under Circular 78, I do not agree that it would be “absurd” either to construe “Overseas-Listed Company” and “Domestic Company” to include a company incorporated outside PRC and listed overseas, particularly where the employee to whom options under the Plans are granted is a domestic individual normally resident in the PRC, or is a PRC national.  What Circular 78 purports to do is to require the domestic individual to select a domestic institution (referred to in Circular 78 as the “Domestic Agent”), through the Domestic Company to which the individual belongs (which includes the Overseas-Listed Company), to handle all foreign exchange control matters on behalf of the individual.  The Domestic Agent may be, but is not required to be, a Domestic Company (which by definition includes the Overseas-Listed Company).  The Domestic Agent is then required to engage a domestic financial institution to purchase and sell the shares under the Plans on behalf of the individual, and to engage an overseas bank to hold on trust all the overseas assets held by the individual under the Plans.  It is the domestic individual who has to entrust the foreign exchange control matters to the Domestic Agent. There is nothing unworkable, impracticable, illogical, futile or disproportionately inconvenient in the procedure. 

130.Where on construction, the Company’s Scheme falls squarely within the type of mischief aimed at by the enactment of Circular 78, there can be no absurdity in result.  Even if there was any absurd result (which I do not accept), I consider that the expressed meaning of “Domestic Company” as defined in Article 2 of Circular 78 is so clear in its extension to a Company incorporated and listed overseas, that the literal construction must be upheld.

131.To conclude, I consider that in the context, there is no real doubt as to the legal meaning of “Overseas-Listed Company” and “Domestic Company” under Circular 78.

132.Even if there is any real doubt as to the legal meaning of these terms, after weighing all the relevant interpretive criteria such as the primacy of the literal meaning, the purposive construction, and any presumptions against absurdity and extra-territoriality, I consider that as a matter of construction, the control prescribed in Circular 78 extends to the plaintiffs’ participation in the Scheme of the Company in this case.  The approval of SAFE is required as to matters concerning the application for Quota for the exercise of options under the Scheme (Article 5 of Circular 78) and the establishment of dedicated foreign exchange account (Article 6).

133.Article 17 of the Regulations and Article 18 of the Detailed Rules require individuals in China or domestic individuals to apply for approval before they engage in the Plans.  The plaintiffs do not contend that they have ever obtained SAFE approval under Circular 78. 

134.A further issue raised by the plaintiffs’ expert (“Ma”) is that for Circular 78 to apply, it must be established that the plaintiffs have a labour relationship (勞動關係) with the Company.  According to Ma, this is due to the fact that Circular 78 is stated to apply to stockholding and stock option schemes of “員工”, or employees/workers, and that under the Chinese Labour Law, a director is not an employee.  It was argued that there is no labour relationship between the plaintiffs and the Company, and further, that as a company incorporated and listed overseas, the Company cannot be a qualified employer under PRC labour law as it cannot directly employ domestic natural persons.

135.First, I can find nothing in Circular 78 which states that there must be a labour relationship between the Overseas-Listed Company and the domestic individual, before the operating rules set out in Circular 78 can apply.  Article 1 refers to exchange control regulation “in respect of the participation by domestic individuals” in employee stockholding, stock option and other such plans “of Overseas-Listed Companies”.  Article 3 refers to foreign exchange transactions of “individuals who participate in the employee stockholding plan of an Overseas-Listed Company”.

136.The Chinese text of Circular 78 uses the term “境內個人（以下簡稱‘個人’）” ie individuals within the territory, which is the same term used in the Regulations.  For ease of reference, I shall hereafter employ the abbreviation “Individual” for the term used in the Regulations.

137.“Individual” is defined in Article 52 of the Regulations, to mean a citizen of China or a foreign national who has resided continuously in PRC for at least one year.

138.The term “domestic individuals” as used in Circular 78 is not defined in Circular 78 itself.  Since Circular 78 was formulated pursuant to the Regulations, the term should be construed as having the same meaning as that defined in the Regulations.

139.Both plaintiffs are holders of PRC passports.  Li resides in Beijing.  Xu holds a Hong Kong identity card, but has no permanent resident status here.  His evidence is that he worked habitually in the Company’s headquarters in Shenzhen.  Even on the evidence of the plaintiffs’ expert, both plaintiffs are domestic individuals under PRC law as they have PRC identity cards and PRC passports.  On Ma’s evidence, so long as an individual has stayed in the PRC for one year, he would still be considered a domestic individual even if he had acquired permanent residence elsewhere.

140.On the evidence, the plaintiffs fell within the definition of Individuals under the Regulations.  In my judgment, this suffices to bring them within the regulation of Circular 78.

141.The plaintiffs’ expert referred to Article 5 of Circular 78, and the reference therein to the documents required to be submitted to SAFE when application is made on behalf of domestic individuals for a Quota, as evidence that a labour relationship is required for the operation of Circular 78.  These documents include “a written undertaking that the individuals participating in the plan truly have a labour relationship with the Domestic Company”.

142.Article 5 refers to documents to be submitted when an application for Quota is made for individuals who are regulated by Circular 78 by virtue of their participation in the Plans of Overseas-Listed Companies.  Article 5 refers also to “other information requested” by SAFE.  It cannot seriously be contended that all matters to which such other information may relate would also be pre-conditions for the application of Circular 78.  The requirement for evidence of a “true labour relationship” is consistent with the purpose of Circular 78 being to prevent the use of the Plans as a guise for foreign exchange dealings, when there is no genuine labour or employment relationship between the domestic individual and the Overseas-Listed Company.  (“Nominally participating” in the Plans is mentioned in Article 13 of Circular 78 as prohibited.)  Adopting a purposive interpretation of Circular 78, I see no justification to limit the ambit of the control prescribed by Circular 78, by converting the list of documents required to support an application for Quota into the criteria for determining the scope of operation of Circular 78.

143.In relation to the requirement for the existence of a true and genuine labour relationship between the Company and the plaintiffs, Ma claims that “labour relationship” is defined in the Chinese Labour Law.  According to Ma, the existence of a written labour contract is one of the criteria for determining the existence of a labour relationship.  If there is no such written contract, other matters (such as whether the individual is managed by the employer, whether the worker is an integral part of the employer’s operations, proof of payment of wages, work attendance records) can be referred to in order to determine the existence of a labour relationship.  It can be seen from Ma’s evidence that the existence or otherwise of a labour relationship is a matter to be determined on the facts.

144.From Ma’s testimony in court, it would appear that the distinction he sought to make was simply that between “an independent” contractual relationship, where “the two parties are equal”, ie that of an independent contractor, and that of a “labour” relationship between employer and employee.  He accepted that “labour relationship” is simply “a relationship between an employer and employee” (Transcript Day 6, p58).

145.Ma also claims that under the Chinese law, the Company is not a qualified employer as it cannot, as a company incorporated overseas, employ any domestic individual in China.

146.According to the Company’s expert, the concept of labour relationship under Chinese law includes not only labour relationships under the Chinese labour legislation, but also employment relationships and service relationships under the Chinese civil law.  The plaintiffs being managers and workers of the Company who rendered services to the Company as directors, the Company’s expert considers that there is a sufficient labour relationship in fact between the plaintiffs and the Company, despite the absence in form of a labour contract.

147.It cannot be disputed that the plaintiffs were directors and had an employment and actual working relationship with the Company, the Overseas-Listed Company within the meaning of Circular 78.  As defined, the term “Domestic Company” is enlarged to extend to and include the Overseas-Listed Company, with which the plaintiffs had the employment and working relationship.  If a labour relationship is required to be established under Circular 78 between the plaintiffs and the Company as the Overseas-Listed Company, I consider that such relationship has been so established.

148.In my judgment, Circular 78 applies to the plaintiffs’ participation in the Scheme of the Company. 

Was the Board entitled not to honour the plaintiffs’ options for non compliance with Circular 78?

149.The Company’s defence, that it is entitled not to honour the plaintiffs’ options for violation of Circular 78, is threefold.  First, it pleads (in paragraph 46 of the Re-Amended Defence) that the plaintiffs’ options had not been validly exercised, by reason of non-compliance with Circular 78.  The Company claims that the plaintiffs’ failure to comply with Circular 78 renders the plaintiffs liable to punishment by the PRC foreign exchange authority, and that if the Company or its subsidiaries in any way assist or enable the plaintiffs to violate Circular 78, the Company or its subsidiaries may be held liable for such violation and be subject to punishment by the foreign exchange authority (paragraph 53 of the Re-Amended Defence).

150.Secondly, the Company relies on Bye-Law 12 (1) of the Company, which (in essence) provides that neither the Company nor the Board shall be obliged, when granting any allotment of shares, to make such shares available to shareholders with registered addresses in any territory where, in the absence of a registration statement or other special formalities, would or might in the opinion of the Board be unlawful.  The Company pleads (in paragraph 55 of the Re-Amended Defence) that the directors took the view that they would have been in breach of their duty to act in the best interests of the Company if they had allotted the shares to the plaintiffs, knowing that the plaintiffs had failed to comply with Circular 78 and that the Company would be subject to potential punishment by the foreign exchange authority in the PRC.

151.Thirdly, the Company claims that by virtue of the plaintiffs’ failure to comply with Circular 78, the performance of the plaintiffs’ options was unlawful, illegal and contrary to public policy in the PRC, and any rights and interests of the plaintiffs under the options are unenforceable.

152.In support of the Company’s first argument, Mr Westbrook relies on clause 15.07 of the Rules of the Scheme, which states that a grantee of the options “shall be responsible for obtaining any governmental or other official consent or approval that may be required by any country or jurisdiction in order to permit the grant or exercise of the option”.  It was pointed out that the obligation to obtain any necessary government or official approval lies squarely on the plaintiffs as grantees, and that their obligation to obtain the requisite approval is a precondition to their valid exercise of the options under the Scheme.  Since the plaintiffs have failed to establish to the satisfaction of the Company that they had the requisite consent and approval under Circular 78, their options had not been validly exercised.

153.I accept Mr Westbrook’s submission.  Clause 15.07 refers to the consent or approval that may be required, in any relevant jurisdiction, “to permit the grant or exercise of the option”.  Article 18 of the Detailed Rules require approval by SAFE to be obtained in PRC before domestic individuals such as the plaintiffs can participate in the Plans.  If SAFE approval is not obtained and no Quota is applied for in respect of the plaintiffs’ participation in the Scheme pursuant to Article 5 of Circular 78, I fail to see how it can be established that the Company is permitted to grant the options to the plaintiffs under the Scheme and how the plaintiffs can be said to have been permitted to exercise the options granted to them.  If the Board is not satisfied that approval had been obtained for the plaintiffs’ participation in the Scheme as required under Circular 78, the Board is in my judgment entitled under clause 15.07 to refuse the issue of shares to the plaintiffs on their purported exercise of the options.  I have held that Circular 78 applies to the plaintiffs’ participation in the Scheme.  I take into consideration and accept that it is the duty of the directors of the Company to act in the best interests of the Company, and that they had legitimate concerns as to the potential liability of the Company as a result of the non-compliance with Circular 78.

154.A question raised for the experts was “Who was the party responsible for conducting the Circular 78 procedures?” If this question has to be determined, the plaintiffs are obviously responsible, since they are required under Article 3 to select the Domestic Agent to centrally handle all foreign exchange control matters on their behalf, to engage the Asset Manager to purchase and sell the shares designated under the employee stockholding plan on behalf of the individuals, and to engage the Custody Bank to hold on trust all the overseas assets held by the individuals under the plan. 

155.Under Article 5 of Circular 78, the Domestic Agent, or the Domestic Company to which the domestic individual belongs, are also responsible to make the annual application for Quota on behalf of the individuals who participate in the Plans.

156.The plaintiffs claim that even if Circular 78 was applicable to the Scheme, and there was non-compliance with Circular 78, the Company would not be criminally liable for the plaintiffs’ violation of Circular 78.  Nor would the Company be subject to any administrative punishment.

157.In my view, it is not necessary for the Company to show that it would be liable for any criminal offence or administrative sanction, or that it would be unlawful, illegal or contrary to public policy to issue the shares to the plaintiffs, in order to establish that it has grounds to decline and refuse such issue of shares.  Clause 15.27 does not refer to whether the Company would be liable for the commission of a criminal offence or be subject to administrative sanction.  Nor does it refer to whether it would be unlawful or illegal for the Company to grant the options or to issue the shares to the plaintiffs.  Clause 15.07 simply refers to whether any necessary approval or consent had been obtained, irrespective of the consequences of the lack of such consent or approval.

158.It has not been disputed that the Rules of the Scheme bind the Company’s grant of the options to the plaintiffs and the plaintiffs’ exercise of the options.  The Rules form part of the conditions of the contract between the Company and the plaintiffs as grantees of the options under the Scheme.  It cannot be said that clause 15.07 does not constitute a fundamental term of the contract.  The approval of SAFE is expressed in the Detailed Rules and in Article 5 of Circular 78 to be such approval which the plaintiffs as domestic individuals must obtain before their participation in the Scheme.  In failing to obtain, or to establish to the Company that they have obtained, such approval, the plaintiffs have not satisfied the conditions set out in clause 15.07 of the Rules, and the Company is entitled to refuse to issue the shares by reason of the plaintiffs’ breach.

159.In my view, the Company is also entitled to decline the issue of shares to the plaintiffs under Bye-Law 12 (1) of the Company’s Bye-Laws.  This only requires the Board to be of the “opinion” that the allotment of shares to the plaintiffs, who were PRC citizens and nationals with registered addresses in China, “might” be unlawful for lack of registration and compliance with Circular 78. 

160.In conclusion, I find that the Company was entitled NOT to honour the plaintiffs’ options.

Conclusion

161.Since the plaintiffs have not established their entitlement to the relief claimed, I dismiss the plaintiff’s claims in this action, and make as order nisi that the costs of the action are to be paid by the plaintiffs to the Company, with certificate for 2 counsel. 

162.Finally, I wish to thank all Counsel involved, for their detailed submissions.

Mr Ronny Wong, SC leading Mr Michael Liu, Ms Teresa Wu and

Mr Eric Leung, instructed by PC Woo & Co, for the 1^st and 2^nd Plaintiffs

Mr Simon Westbrook, SC leading Mr John Hui, instructed by Baker &

McKenzie, for the defendant