Hind International Investment Ltd v. K & L Gates (A Firm of Solicitors)

HCA 1325/2011

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO 1325 OF 2011

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(By Main Action)

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(By Counterclaim)

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D E C I S I O N

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1.This is an appeal by K&L Gates (“KLG”), a solicitors’ firm whose business is the provision of legal services, the defendant by main action and the plaintiff by counterclaim, against a decision of the Master refusing, in part, leave to KLG to adduce expert evidence in a particular area. For convenience I shall refer to the plaintiff in the main action and the defendants in the counterclaim collectively as the “Hind Parties”. There is no cross-appeal by the Hind Parties against the Master’s partial grant of leave.

The factual circumstances

2.The background facts are set out in the following paragraphs from the Master’s decision, to which no exception was taken by either side:

“3. The main action was commenced by Hind International Investment Limited (‘Hind’) for the return of certain funds deposited by Hind with KLG. Hind claims that the funds were paid to KLG pursuant to four escrow agreements (‘Escrow Agreements’), the authenticity of which is disputed by KLG. Details of the claims of Hind in the main action and the claims of KLG in the counterclaim are, as gleaned from the pleadings and the skeleton submissions of counsel, set out below.

HIND’S CASE

4. Hind is described in the Amended Statement of Claim as a company incorporated in Hong Kong that carries on the business of watch manufacturing, trading and investments. According to Hind, Manoj Kumar Jhunjhnuwala (‘MKJ’), the 2^nd defendant by counterclaim and a director of Hind, was informed by Navin Aggarwal (‘Aggarwal’), a former partner of KLG, over the phone in about mid 2010 that a client of KLG from the PRC had asked KLG to line up potential investors and/or financiers who would back up this PRC client in a merger and acquisition deal that it intended to do (‘proof of funds arrangement’). Aggarwal claimed that the deal was strictly confidential and so could not give MKJ the details about it. MKJ was also told by Aggarwal that the funds provided by interested financiers would be placed in escrow in KLG’s client account, so that the funds would be secured and would not be used save for the purpose of backing up the financial strength of the PRC client. The financiers would be entitled to call back the fund placed on short notice, namely one or three business days, and be able to earn returns as promised by the PRC client in the event the merger and acquisition deal was successful. Hind relied on what Aggarwal said and made investment by signing various escrow agreements repeatedly with roll‑overs.

5. The Escrow Agreements were entered into between KLG and Hind between May 2010 and March 2011, whereby Hind agreed to deposit divers sums into the client account of KLG for KLG to hold them on escrow for and on behalf of Hind and to return the same to Hind at the direction of Hind. Pursuant to the Escrow Agreements, the respective sums of HK$20,000,000, HK$11,000,000, HK$4,000,000 and HK$10,000,000 (collectively referred to as “Escrow Sums”) were paid into the client account of KLG.

The common provisions of the Escrow Agreements are:

(a) KLG shall, upon receipt of a written notice of transfer or withdrawal of the whole or any of the escrow sum, effect the transfer or withdrawal within one or three business days.

(b) In the event KLG does not receive any such written instructions, KLG shall on the respective date specified return the respective escrow sum to Hind forthwith.

(c) The escrow sum may be rolled over for a further period or periods as mutually agreed either by way of written agreement or verbally on the same terms and conditions.

6. A sum of HK$13,592,500 has since been withdrawn from the Escrow Sums kept by KLG and Hind’s claim in the main action is for the return of the balance of HK$31,407,500 under various alternative heads – (a) under the Escrow Agreements, (b) by way of damages for breach of the Escrow Agreements, (c) pursuant to the implied trust imposed over the Escrow Sums held by KLG in favour of Hind, or (d) for breach of a duty to take reasonable care for the safe custody and control of the Escrow Sums.

KLG’S CASE

7. The case of KLG is set in the context of the commission of the fraudulent acts by Aggarwal, its former partner. A raid was conducted by the police at the office of KLG in The Landmark, Central on 9 June 2011, when, in execution of a warrant, materials were seized in relation to a criminal investigation into the activities of Aggarwal. Aggarwal resigned from KLG on 11 June 2011 and was subsequently sentenced to 12 years’ imprisonment for theft and forgery. KLG has since then been investigating the misconduct of Aggarwal.

8. Since the revelation of the fraudulent acts of Aggarwal, KLG was sued by some entities that were not clients of KLG but claimed to have deposited monies into the client account of KLG pursuant to various escrow agreements under the auspices of Aggarwal. It transpired that these entities paid monies into the client accounts of KLG for apparently no legitimate purpose, and obtained exorbitant fees from the client accounts on top of the principals. The action commenced by Hind is, in KLG’s view, one such action by a non-client entity.

9. Hind is owned by MKJ and one Dinesh Kumar Jhunjhnuwala. Hind, MKJ and Anil Kumar Jhunjhnuwala (‘AKJ’), the 4^th defendant by counterclaim, had made a series of personal loans totalling at least HK$66,999,910 to Aggarwal between May 2010 and April 2011. These sums were remitted by Hind, MKJ and AKJ into the client account of KLG. On various dates between May 2010 and May 2011, Aggarwal caused various sums to be paid out of the client account of KLG, whether by way of purported repayment or in payment of interest or other charges associated with the personal loans. The sums so paid out were paid to Hind, MKJ, AKJ, Shalini Jhunjhnuwala (‘SJ’), the 3^rd defendant by counterclaim, Radhika Jhunjhnuwala and Dhruv Jhunjhnuwala.

10. KLG disputes the authenticity of the Escrow Agreements and the legitimacy of the proof of funds arrangement. KLG claims that the monies deposited by Hind, MKJ and AKJ into KLG’s client accounts were personal loans advanced by these parties to Aggarwal and the Escrow Agreements were sham documents created in an attempt to impose liability on KLG for the personal loans of Aggarwal. In support, KLG points to the fact that no counterparty or underlying transaction was ever identified in the Escrow Agreements, nor had any due diligence ever been conducted.

11. KLG claims that Aggarwal had no authority to issue any of the Escrow Agreements for the alleged proof of funds arrangement and that Hind, MKJ, SJ and AKJ (‘Hind parties’) were unreasonable in believing that Aggarwal had such authority, if they in fact so believed, because the alleged transactions were so extraordinary and unusual that they must fall outside the scope of the ordinary business of a firm of solicitors like KLG.

12.     The defence of KLG is premised upon the advancing of substantial loans by the Hind parties to Aggarwal in his personal capacity and the Escrow Agreements were shams created to impose liability on KLG in the event Aggarwal failed to repay the loans.  KLG counterclaims against the Hind parties for conspiracy to defraud KLG and that the Hind parties should account to KLG as constructive trustee for monies and/or assets misappropriated by Aggarwal and for damages or restitution.”

3.It is plain from the pleadings that the provisions of the Partnership Ordinance, Cap 38 (“PO”) will be central to the issues between the parties.  A principal plank in the defence filed by KLG is that the acts of Aggarwal related to the escrow agreements were not acts in the usual way of business of solicitors or KLG (thereby raising s 7 PO), or acts in the ordinary course of business of solicitors or KLG (thereby raising s 12 PO).  That is clear from para 16A of the Amended Defence and Counterclaim which is in the following terms:

“Further or alternatively, the nature or characteristics of each of the purported escrow agreements and the alleged transactions thereunder are of such an unusual nature that they fell outside the scope of the ordinary business of solicitors and/or Defendant firm.”

4.Although different expressions are used in ss 7 and 12 PO, “an act in the usual way of business”, and “an act in the ordinary course of business”, there is no material difference between those expressions: see JJ Coughlan Ltd v Ruparelia [2004] PNLR 56, para 2[1].

The nature of the expert evidence sought

5.The expert evidence that KLG seeks to adduce is said to be for the purpose of assisting the court in the determination of the question as to whether or not the transactions fell within or without the scope of the ordinary business of solicitors.  The orders sought in the summons are:

“(1) Issue One, evidence by an expert in the field of legal practice in Hong Kong:

(a) How often, under what circumstances and how are escrow letters are utilised by a firm of solicitors in Hong Kong who practices commercial, corporate and financial law and provides business law services? What are the typical terms included in such escrow letters under the prevalent practice in Hong Kong?

(b) By reference to the nature, contents and effect of the escrow letters in this Action, identify their features which were (i) consistent or (ii) inconsistent with the aforesaid usage by a firm of solicitors in Hong Kong who practices commercial, corporate and financial law and provides business law services.

(2) Issue Two, evidence by an expert in the field of commercial, corporate and financial practice in Hong Kong on

(a) What are the purpose, common features, mechanism and/or modus operandi of a ‘proof of fund’ arrangement as utilised in commercial, corporate and/or financial transactions in Hong Kong?

(b) By reference to the purpose, features, mechanism and/or modus operandi of a ‘proof of fund’ arrangement asserted by Hind in this Action, identify their features which were (i) consistent or (i) inconsistent with those identified in Issue (2)(a).”

The Master allowed expert evidence under (2)(a), but rejected the items 1(a), 1(b) and 2(b) of the summons.  It is against that rejection that KLG appeals.

6.Appropriate experts have been identified.  Mr Maurellet makes it clear that although he accepts that the experts identified by KLG’s advisors have expertise in the fields described, it does not follow that any evidence they will give will establish the propositions that are sought to be established or that any weight should be attributed to their evidence.  He reserves his rights in all respects in relation to any expert evidence that might be admitted.  He is entitled to adopt that position.

The legal principles

7.It is clear that expert evidence is admissible under s 58 Evidence Ordinance (Cap 8) where there is a recognised expertise, governed by recognised standards and rules of conduct capable of influencing the court’s decision on any of the issues which it had to decide, but it is not necessary to have a recognisable profession for there to be a recognisable body of expertise in relation to the matter in question.  Not only is the business of the practice of commercial, corporate and financial law a matter within the expertise of solicitors, it hardly needs be said that the profession of solicitor is a recognisable profession within which there are recognisable bodies of expertise.  I have no doubt that one of those bodies of expertise is that of commercial, corporate and financial law.

8.There was no dispute between Ms Lok and Mr Maurellet that the legal test to be applied in determining the issue under either s 7 or s 12 PO, that it is whether the solicitor was acting in the usual way, or in the ordinary course, of business of solicitors or KLG, is a test that must be approached both objectively and subjectively.  The clearest proposition of the relevant law is contained in Coughlan at para 13‑14, per Dyson LJ:

“In relation to the question whether the acts of Mr Ruparelia and Escrow Agreement were in the ordinary course of business on the defendant firm, the judge said that it was agreed between the parties that the legal test was:

‘…whether, viewed subjectively and objectively, what Ruparelia did was in the ordinary course of business of the firm or was an action carried out in the usual way of the kind carried on by it. It is necessary, in order for this to obtain, for the person dealing with partner subjectively to have formed the honest belief that this is so. Of course, if he does not, that is the end of the matter.’

So far as the objective element was concerned, (the first instance Judge) set out the following propositions of law:

(1) The principles of vicarious liability of partners for each other’s actions derived from and were developed out of the principles of vicarious liability of principal and agent and employer and employee (see Dubai Aluminium Company v Salaam [2001] QB 113 per Evans LJ 132H-133A.

(2) This liability can extend to fraudulent acts or omissions if those were carried out in the course of the employment or within the scope of the apparent authority, albeit by an employee or a partner conducting the business of a type which he had a right to conduct (see Lloyd v Grace [1912] AC 716).

(3) It is necessary to show that all the acts or omissions which make the partner liable were committed within the scope of his authority as a partner (see Dubai Aluminium, 133C-D). If the partner deals as part of the dishonest scheme of others, who are party to that dishonesty, his acts will not be in the ordinary course of business of the firm. If, however, those with whom he deals are not parties to his dishonesty but innocent of complicity in it, then his partners may be liable (see Dubai Aluminium, 133E-134E and 142E-143A per Aldous LJ.).

Where solicitors are concerned, it will only be in the ordinary course of business of the firm for the solicitor to do an act where there was an underlying transaction of a kind which was part of the usual business of a solicitor. I adopt what was said by Glidewell LJ in United Bank of Kuwait Limited v Hammond & Ors [1988] 1 WLR 1051. ‘On the facts represented to the [third-party] would a reasonably careful and competent person [such as the third-party] have concluded that there was an underlying transaction of a kind which was part of the usual business of a solicitor?’

That citation, in my judgment, properly preserves the distinction which Mr Sutcliffe was anxious to preserve between the character of the act, on the one hand, which is important and the manner in which was carried out, on the other.

The important question is how the fact reasonably appeared to the third-party rather than what was in fact going on (United Bank of Kuwait v Hammond & Ors, 1064E-F.”

9.The dual nature of the test that must be applied, that is both a subjective test and an objective test, is reinforced by the following passage from the judgment of Chadwick LJ in Bank of Scotland v Henry Butcher & Co [2003] 2 All ER (Comm) 557 (CA) at paras 87‑89:

“It can be seen that (s 5 Partnership Act 1890 UK) comprises two distinct limbs. The first limb may be said to define the circumstances in which a partner has implied authority to bind the firm; the second to define the circumstances in which there will be ostensible authority.

The enquiry under the first limb of s 5 of the 1890 Act is whether the act of one partner, say partner A, is done for the purpose of the business of the partnership. If it is, then, in doing that act, A is the agent of the firm and the other partners are bound by A’s act. There is no need, in such a case, the person seeking to rely on the act to invoke the second limb.

The hypothesis which underlies the second limb of s 5 is that A’s act is not, in fact, done for the purpose of the partnership business - so that the first limb is not in point.  The enquiry under the second limb - in a case where it is necessary to invoke that limb - is whether A’s act is an ‘act for carrying on in the usual way business of the kind carried on by the firm’.  That requires consideration of two elements: (i) what business is ‘business of the kind carried on by the firm’; and (ii) is A’s act ‘an act for carrying on in the usual way’ that business.  Where those two elements are present, the person with whom A is dealing is entitled to treat the acts as done for the purpose of the business of the partnership unless he knows that A has in fact no authority, or does not know or believe A to be a partner.  In effect, A has ostensible authority to bind the firm in relation to acts which appear to be for the purpose of the business of the partnership because they are acts which could be done in carrying on in the usual way of business of the kind carried on by the firm.”

Discussion

10.I have no doubt that there will be numerous occasions when a court will be able to make an assessment of the objective aspect of the test without the need for expert evidence.  But equally there will be occasions where the nature of the business at issue is sufficiently complex that expert evidence will be required.  For example, if funds are placed with a solicitor in the course of a conveyancing transaction with a view to those funds being used for the purpose of a conveyance, it would not require a court to receive expert evidence that the receipt of funds in such a transaction was objectively in the usual course of the business of a solicitor.  Each case will depend upon its own facts.  The more unusual or complex transaction the higher the likelihood that expert evidence may be required.

11.The transactions in this case are of a very different and apparently of a highly specialised nature.  On their face the escrow agreements are unusual.  One can entirely understand a solicitor holding funds in escrow, depending upon the outcome of a transaction between two parties, with the funds to be paid to one or the other of the parties depending upon the course of the transaction.  In such a transaction the solicitor holding the funds pursuant to an escrow agreement is in the nature of a middle man, holding funds to the order of one of two parties, usually upon a particular event taking place. That would be a normal escrow agreement and a judge would not need expert evidence to say that such a transaction is part of the usual course of business of a solicitor.

12.In the present case there is apparently only one party to the escrow agreement, namely the Hind Parties.  It does not appear that the termination of the escrow agreement, which can only happen on the instruction of the Hind Parties, and the requirement to make payment of the funds, whether to the Hind Parties or someone else to their order, is dependent upon any other event than a decision by the Hind Parties to give the appropriate instruction that the funds should be paid out according to their order.  On the face of it, it would seem strange to refer to KLG as the “other party” to the escrow agreement, when all KLG are expected to do, apparently, is to hold the funds in the firm’s client account, to the order of the Hind Parties.  The use of an escrow agreement in circumstances where funds are placed on behalf of client in a solicitor’s client account, in circumstances where there is no apparent transaction, and where the funds can be repaid to the client at any time upon demand is, on its face, unusual.

13.These are not issues which I should even begin to consider at this stage of the proceedings, however they are issues which illustrate the highly unusual and technical nature of these particular escrow agreements.  It may well be that an expert in commercial, corporate and financial law practising as a solicitor in Hong Kong would say that such escrow agreements are a usual part of the business of a commercial corporate solicitor in Hong Kong in his experience.  He may say that they are not. 

14.This being a highly technical matter, likely to be out of the experience of a judge, especially a judge who may not have a background in commercial or corporate solicitors practice, I have formed the view that it is an appropriate matter for expert evidence.  I have no doubt that the Master reached a similar conclusion in respect of para 2(a) of the summons, against which there has been no appeal.  That is the only way in which the Master’s conclusion in respect of para 2(a) can be adequately explained.

The consistency issue

15.The appeal is also in respect of paras 1(b) and 2(b) of the summons, both of which were declined by the Master.  Each asks the expert to identify features which were either consistent or inconsistent with the usage in Hong Kong established by the expert. 

16.I am satisfied that it will be a straightforward matter of fact for the judge, having been able, with the assistance of the expert evidence, to determine the circumstances in which escrow agreements and “proof of fund” arrangements are used in Hong Kong, to then determine which elements of these particular escrow agreements or the “proof of fund” arrangements are consistent or inconsistent with that usage.  In so doing he will be taking steps towards determining, from an objective point of view, whether the use of escrow agreements or the requirement for proof of fund arrangements are part of the usual way of solicitors’ with business in Hong Kong. 

17.I accept that in Wong Hoi Fung v American International Insurance Co (Bermuda) Ltd & Anor [2003] 3 HKLRD 507, the court permitted such a comparison to be undertaken.  There the subject matter of the expert evidence was certain insurance policies, containing high yielding savings plans and particular dividend participation benefits.  However, there is nothing in the decision to indicate quite why the comparison could not be made by the judge at trial in the usual way of the assessment of established facts.  The inference must be that the particular facts of that case brought the comparison out of the ordinary area in which a judge might compare factual circumstances and into the specialised area.  This case does not fall within that category.

The other counter arguments

18.Mr Maurellet argued that the evidence sought to be adduced could be given by KLG solicitors themselves.  I accept Ms Lok’s submission that that argument necessarily constitutes a concession that the evidence is relevant. 

19.In any event, it would be quite wrong to allow the solicitors to become expert witnesses in their own cause.  If expert evidence is relevant, as it plainly is, it should be given by an independent and impartial expert, pursuant to the relevant rules of court.

20.Mr Maurellet argued that the addition of experts would add an unnecessary expense to the proceedings and was out of proportion to the nature of the proceedings.  I reject the submission.  The claim is one for HK$31 million, in any terms a very substantial claim. 

21.Furthermore, wide-ranging allegations of professional misconduct, breach of contract and concurrent duties in tort are made by the Hind Parties. Any professional man facing such allegations should have the opportunity to properly be able to clear his name by calling expert evidence if necessary.  I am satisfied that the terms upon which the evidence is limited will keep the experts focused and succinct.

Conclusion

22.For the foregoing reasons I have concluded that there should be an order in terms of para 1(a) of the summons.  For the foregoing reasons I decline to interfere with the decision of the Master in respect of paras 1(b) and 2(b) of the summons.  For the avoidance of doubt, I make it clear that there will be orders in terms of paras 2‑6 of the summons.

Costs

23.KLG has succeeded in obtaining an order for an additional expert witness, but has failed to obtain orders to the full extent sought.  There will be an order nisi that the costs of the summons, both here and below, will be in the cause, with a certificate for counsel.

Ms Frances Lok, instructed by Robertsons, for the defendant (by main action) and for the plaintiff (by counterclaim)

Mr Jose Maurellet and Mr Jason Yu, instructed by Deacons, for the plaintiff (by main action) and for the defendants  (by counterclaim)