Companies Winding-up Proceedings2005

RE SWEETMART GARMENT WORKS LTD

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67126-EN-2009-08-19

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HCCW 755/2005

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES (WINDING-UP) NO. 755 OF 2005

_____________

	IN THE MATTER of SWEETMART GARMENT WORKS LIMITED
	and
	IN THE MATTER of the Companies Ordinance (Cap. 32)

_____________

Before: Hon Barma J in Chambers

Date of Hearing: 25 February 2009

Date of Judgment: 19 August 2009

_______________

J U D G M E N T

_______________

1. At this hearing, the principal issue raised for determination was whether, upon the proper construction of section 196(1A) and (2) of the Companies Ordinance (Cap. 32) (“the Ordinance”), the remuneration of provisional liquidators appointed by the Official Receiver pursuant to section 194(1A) of the Ordinance falls to be determined by the Court or the Official Receiver.

2. I make it clear at the outset that this hearing was concerned only with the position in relation to provisional liquidators appointed by the Official Receiver pursuant to section 194(1A) of the Ordinance, and not in relation to provisional liquidators appointed by the court under section 193, prior to the making of a winding up order, who will, after the making of a winding up order, continue in office as provisional liquidators by virtue of section 194(1)(aa) of the Ordinance.

3. Section 194(1A) of the Ordinance enables the Official Receiver to appoint another person or persons to be provisional liquidator in his place, where he has become the provisional liquidator of a company by virtue of section 194(1)(a) and is of the view that the property of the company is not likely to exceed HK$200,000. It was introduced into the Ordinance by amendments that came into effect on 1 July 2000.

4. The background to section 194(1A) can be briefly summarised as follows:-

(1) Prior to section 194(1A) coming into effect, on the making of a winding up order in respect of a company, the Official Receiver became its provisional liquidator pursuant to section 194(1)(a) pending the appointment of a liquidator, which would usually take place following the holding of meetings of creditors and contributories to determine who should be appointed.
(2) The one exception to this was that where a provisional liquidator had been appointed prior to the making of the winding up order pursuant to section 193, he would remain in office as provisional liquidator pending the appointment of a liquidator as a result of the operation of section 194(1)(aa).
(3) However, because the administrative burden of being provisional liquidator (and liquidator ) of a very large number of companies that were wound up by the court was one which it was difficult for the Official Receiver to cope with having regard to the resources at his disposal, he had in about 1996 or 1997 adopted a scheme (known as the “Panel B” scheme) by which he appointed insolvency practitioners from the private sector to act as his agents in many cases. In late 1999, however, Rogers JA pointed out that this was not in fact permissible under the Ordinance, as it involved an impermissible delegation of the whole of the Official Receiver’s functions as provisional liquidator and liquidator to the agent appointed by him. As a result, the Official Receiver discontinued the Panel B scheme.
(4) However, in order to reduce the administrative burdens that would otherwise be placed on the Official Receiver, section 194(1A) was enacted, to cater for the situation in respect of liquidations which were not expected to produce significant assets.
(5) Following the enactment of section 194(1A), the Official Receiver introduced a tender process by which it was open to all firms of accountants, solicitors or company secretaries with relevant insolvency expertise to tender for appointments under that section. As such appointments would be made in relation to cases in which there were not expected to be substantial assets, successful appointees’ remuneration would be paid out of the assets of the company in liquidation where possible, but to the extent that such assets were insufficient, would be met out of a subsidy to be provided by the Hong Kong Government, which was to be administered by the Official Receiver’s office.
(6) Firms tendering for appointment were required to indicate, among other things, the amount of the subsidy which they required (which would form the limit of the payment to be made by the Government where the assets of the company concerned were insufficient to meet their fees) and the charging rates (in respect of the different grades of staff to be used by the tenderer) which would be applied on a time cost basis for work done on each liquidation for which they were appointed.

5. So far as the remuneration of provisional liquidators appointed under section 194(1A) is concerned, the following provisions of the Ordinance are relevant:-

(1) Section 2, which defines “liquidator” as including a provisional liquidator holding such office by virtue of section 194 (unless the context otherwise requires);
(2) Section 196(1A), which provides that a provisional liquidator appointed under section 194(1A) shall be remunerated either in accordance with a scale of fees approved from time to time by the Official Receiver, or on such other basis as the Official Receiver approves in writing; and
(3) Section 196(2), which provides that subject to section 196(1A), where a person other than the Official Receiver is appointed liquidator, he shall receive such remuneration by way of percentage or otherwise as is determined by the committee of inspection (if there is one), or (where there is no committee of inspection or where the committee of inspection and the liquidator are unable to agree) by the court.

6. In Re Gold Delta Development Ltd (unreported, HCCW No. 915/2000, Master A Ho, 28 October 2004), Master A Ho took the view that, in providing for the fixing of the basis of remuneration of section 194(1A) provisional liquidators by the Official Receiver, section 196(1A) necessarily required the Official Receiver to also calculate the quantum of the remuneration payable to such provisional liquidators in accordance with the basis fixed by him. He held that the court had no jurisdiction to determine the amount of remuneration payable to provisional liquidators appointed pursuant to section 194(1A).

7. Subsequently, however, I expressed a different view in Re Bondfield International Limited (unreported, HCCW No. 99 & 711/2002, Barma J, 30 September 2005), where I said (at paragraph 16 of my judgment) that it seemed to me that on the natural reading of [section 196(1A)], the power thereby reserved to the Official Receiver related not so much to the assessment of the quantum of the remuneration to be allowed, but to the fixing of the basis of such remuneration only. On this basis, I held that the court did have jurisdiction to deal with the quantification of a section 194(1A) provisional liquidator’s remuneration.

8. This divergence of view has, unsurprisingly, created a degree of uncertainty. In particular, private sector provisional liquidators appointed under section 194(1A) (and the Official Receiver) are uncertain as to whether their remuneration is to be assessed by the court, applying the basis fixed by the Official Receiver, or by the Official Receiver himself.

9. In this case, the former provisional liquidators of Sweetmart Garment Works Ltd applied to the court for their bill dated 5 August 2008 to be taxed, so as to fix the remuneration to which they would be entitled. On 17 October 2008, the application came before Master A Ho, who directed that the question of whether, on the proper interpretation of sections 196(1A) and (2) of the Ordinance, the court had jurisdiction to tax the bills of provisional liquidators appointed under section 194(1A), should be referred to a Companies judge for determination. In order that the matter could be fully argued, Mr Ambrose Ho S.C. was appointed as amicus curiae to assist the court. The Official Receiver also engaged Mr Jat Sew Tong S.C. to put forward submissions on his behalf. I have been greatly assisted by the very helpful submissions that each of them has made.

10. In the event, both Mr Jat and Mr Ho submitted that the court did, in fact, have jurisdiction to determine the amount of the remuneration to be paid to a provisional liquidator appointed under section 194(1A).

11. Mr Jat suggested that this was so because:-

(1) This was the natural meaning of the relevant provisions.
(2) This was consistent with the general scheme for the remuneration of liquidators and provisional liquidators in a winding up by the court.
(3) The provisional liquidator was an officer of the court.

12. As to his first point, Mr Jat submitted that the power conferred on the Official Receiver by section 196(1A) concerned the prescription of the basis of the section 194(1A) provisional liquidator’s remuneration. However, nothing in section 196(1A) conferred on the Official Receiver a power to assess or determine such remuneration. He suggested that the fixing of the basis of remuneration was a different matter from the assessment of the amount of remuneration properly payable applying that basis.

13. In his oral submissions at the hearing, Mr Jat developed this point by referring to the terms of section 196(2), which, he said, clearly conferred on the court the power to assess the amount of the remuneration payable to any liquidator or provisional liquidator other than the Official Receiver. Mr Jat contended that the words “subject to subsection (1A)” appearing at the beginning of subsection (2) simply made it clear that, in assessing such remuneration, the court should have regard to the basis for remuneration fixed by the Official Receiver in the exercise of his power under subsection (1A).

14. I think that this is right. Section 196(1A) clearly refers to the fixing of the basis of remuneration rather than the actual assessment of the level of remuneration allowed. It is perfectly possible to read sections 196(1A) and (2) together harmoniously in the case of a section 194(1A) provisional liquidator by allowing the basis of his remuneration to be determined by the Official Receiver (by whom he is appointed) pursuant to section 196(1A), but, subject thereto, leaving the actual level of remuneration to be allowed to be assessed by the court, as is the position for other provisional liquidators and liquidators.

15. Mr Ho helpfully indicated that this interpretation was supported by the Chinese version of section 196(2), in that the words “subject to” are translated as “so far as not inconsistent with”. By way of contrast, Mr Ho drew my attention to the fact that in section 194(1)(a), the words “subject to” are translated as “except as otherwise provided [by sections 194(1)(aa) and (1A)]”. Thus, said Mr Ho, in section 194(1)(a), “subject to” was used in a sense that connoted mutual incompatibility between section 194(1)(a) on the one hand, and sections 194(1)(aa) and 194(1A) on the other, whereas in section 196(2), “subject to” did not connote mutual incompatibility with section 196(1A).

16. I agree that this supports Mr Jat’s proposed construction, in that it highlights the fact that sections 196(1A) and (2) are not mutually exclusive.

17. Mr Jat’s second and third points can be taken together. In essence the argument was that a provisional liquidator appointed by the Official Receiver pursuant to section 194(1A) took the place of the Official Receiver as provisional liquidator, and was therefore just as much an officer of the court as a liquidator appointed in a winding up by the court, or a provisional liquidator appointed under section 193, a conclusion which is supported by the fact that the court clearly has powers of control over such a provisional liquidator pursuant to section 199 of the Ordinance.

18. In my view, there can be no doubt that a provisional liquidator appointed under section 194(1A) in a compulsory winding up is just as much an officer of the court as any other provisional liquidator or liquidator.

19. Mr Jat contended that in the case of a liquidator other than the Official Receiver, the court’s power to fix the amount of his remuneration could not be disputed – it arose from the terms of section 196(2). In the case of a provisional liquidator appointed under section 193, Mr Jat submitted that in respect of the period prior to the making of a winding up order, his remuneration would be assessed by the court in the exercise of its inherent jurisdiction over its officers (see Re Peregrine Investment Holdings Ltd [1998] 2 HKLRD 670). For the period after the making of the winding up order, when such provisional liquidator continued to hold office by virtue of section 194(1)(aa), Mr Jat suggested that prior to the amendments made in 2000, his remuneration was similarly assessed by the court pursuant to its inherent jurisdiction (see Re Peregrine Investment Holdings Ltd (No. 4) [1999] 2 HKLRD 722), although following such amendments, the assessment would take place pursuant to section 196(2) rather than the inherent jurisdiction. Mr Jat suggested that it would be highly anomalous for the remuneration of a provisional liquidator appointed under section 194(1A) to be removed from the purview of the court, when in every other case, the court had jurisdiction to fix the amount of its officer’s remuneration (subject to the possibility that such remuneration might be agreed between the liquidator and the committee of inspection where there was one).

20. Mr Ho, in his submission, made a similar point. He, too, submitted that a section 194(1A) provisional liquidator was an officer of the court, and suggested that that being so, the court’s jurisdiction to determine the level of his remuneration could only be removed by clear and unambiguous language, which was lacking here.

21. I think that these points provide further support for the interpretation of sections 196(1A) and (2) that I have held to be the correct one in paragraph 14 above.

22. I should just add, however, that I do not wish, in this judgment, to express a final view as to the correctness of Mr Jat’s suggestion that in the case of a section 193 provisional liquidator continuing in office after the making of a winding up order, his remuneration falls to be assessed by the court under section 196(2) rather than under its inherent jurisdiction. This is not a point that requires determination in this application, and it seems to me that there may well be persuasive arguments in favour of the contention that even after the amendments of 2000, such a provisional liquidator’s remuneration continues to be subject to assessment by the court under its inherent jurisdiction rather than under section 196(2). In either case, the point remains that the remuneration of such a provisional liquidator, who is undoubtedly an officer of the court, is fixed by the court (whichever is the true basis for doing so).

23. I am therefore satisfied that section 196(1A) does not have the effect of excluding the court’s jurisdiction to examine and fix the level of remuneration of a section 194(1A) provisional liquidator.

24. There was, however, one further question that was canvassed at the hearing, as to which Mr Jat and Mr Ho differed. This related to the role of the Official Receiver in the process of assessment of a section 194(1A) provisional liquidator’s remuneration. Mr Ho suggested that it would be good practice for the Official Receiver to scrutinize the provisional liquidator’s bill before it was submitted to the court for taxation, pursuant to his responsibility to monitor the conduct of liquidators in compulsory winding ups pursuant to section 204 of the Ordinance. This, he said, was likely to reduce the burden on the court of having to deal with a potentially large number of taxations of provisional liquidators’ remuneration, in that the court would be able to place some reliance on the scrutiny brought to bear by the Official Receiver. He invited me to indicate that this was the appropriate course of practice to adopt in relation to taxations of the fees of section 194(1A) provisional liquidators.

25. Mr Jat disagreed. He contended that there while the Official Receiver clear had the right to scrutinize the bills of section 194(1A) provisional liquidators, this was not as a result of any provision in the Ordinance requiring or authorizing him to do so, but a purely contractual arrangement as between the Official Receiver and the provisional liquidators concerned, arising out of the terms of the tender by which the provisional liquidators were appointed. He said that although the Official Receiver did, from time to time, scrutinize the bills of section 194(1A) provisional liquidators, and of liquidators in other liquidations, this was not done in every case. He indicated that to require the Official Receiver to undertake this task in respect of all section 194(1A) provisional liquidators would involve a considerable strain on the resources which he had available. He also submitted that there appeared to be no reason in principle why the procedure should differ at different stages of a single liquidation – if Mr Ho’s suggestion were right, it would mean that in the case of a section 194(1A) provisional liquidator, his fees would have first to be considered by the Official Receiver, whereas upon his becoming liquidator (which might be expected to happen in most cases) this would not be required any longer.

26. In my view, the Official Receiver’s obligation to monitor the conduct of a liquidator pursuant to section 204 does not require him to scrutinize his bills in every case involving a section 194(1A) provisional liquidator. It is not, I think, suggested that section 204 obliges the Official Receiver to scrutinize the bills of every liquidator in every compulsory winding up. That being so, it is difficult to see why he should have this responsibility in every compulsory winding up in which a provisional liquidator has been appointed by him under section 194(1A). That said, I have no doubt that if, in a particular case, the court desired the input or assistance of the Official Receiver in relation to the assessment of the fees of a section 194(1A) provisional liquidator (or indeed, of any other provisional liquidator or liquidator), such input and assistance would be readily provided.

27. Fortunately, based on the information provided by the Official Receiver, the assessment of the remuneration of section 194(1A) provisional liquidators may prove not to be excessively burdensome – although there have been nearly 6,400 cases in which provisional liquidators were appointed by the Official Receiver pursuant to section 194(1A) in the eight and a half years since its enactment, in the vast majority of cases, it is not necessary to assess the provisional liquidators’ fees. This is because where the assets of the company concerned are less than HK$40,000, experience has shown that the provisional liquidators will have to resort to the subsidy for payment of their fees, since such assets will be used up in meeting other costs and expenses which have priority over the provisional liquidators’ fees. Further, even in relation to cases with more than HK$40,000 in assets, a considerable number, for one reason or another, do not require assessment of the provisional liquidator’s fees. It seems that over the last eight and a half years, only slightly over 5% of cases in which a section 194(1A) liquidator was appointed would require that the provisional liquidator’s fees be assessed. This amounts to some 40 odd cases per year.

28. I also agree with Mr Jat that there is no compelling reason, whether as a matter of construction of the Ordinance or as a matter of practicality, for the remuneration a provisional liquidator appointed under section 194(1A) after the making of a winding up order to be subject to a different procedure than that of other liquidators appointed after the making of a winding up order. On the contrary, it would be more convenient and thus preferable to have as few differences as possible in respect of the procedure for the assessment of their remuneration

29. I am therefore of the view that section 194(1A) provisional liquidators’ remuneration is to be assessed in the same manner as that of liquidators other than the Official Receiver, pursuant to section 196(2) of the Ordinance, but having regard to the basis of remuneration fixed by the Official Receiver under section 196(1A).

30. Finally, as these proceedings were not adversarial in nature, no question of costs arises, and I make no order as to costs.

	(Aarif Barma)
	Judge of the Court of First Instance
	High Court

Mr. Jat Sew-Tong,SC leading Mr. Jenkin Suen instructed by the Official Receiver

Mr. Ambrose Ho, SC, Amicus Curiae

59967-EN-2008-01-31

RE SWEETMART GARMENT WORKS LTD

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HCCW 755/2005

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES WINDING-UP NO. 755 OF 2005

______________________

	IN THE MATTER of SWEETMART GARMENT WORKS LIMITED (IN LIQUIDATION)
	and
	IN THE MATTER of the Companies Ordinance, Chapter 32 of the Laws of Hong Kong

______________________

Before : Hon Barma J in Chambers (Open to the Public)

Date of Hearing : 23 October 2007

Date of Judgment : 31 January 2008

___________________

J U D G M E N T

___________________

Introduction

1. On 30 November 2005, Sweetmart Garment Works Limited (“the Company”) went into compulsory liquidation on a creditors’ petition presented against it by Overseas-Chinese Banking Corporation Limited (“OCBC”) on 28 September 2005. A little over a month prior to the presentation of the petition, the Company had granted a mortgage over the “Florence”, a pleasure craft owned by it, in favour of another of its creditors, the Hong Kong branch of HSH Nordbank AG (“the Bank”).

2. The mortgage was granted to secure general credit facilities to be granted by the Bank to the Company, including in particular a loan facility of up to HK$6.8 million. A loan of HK$6.8 million was in fact drawn down three days later, on 18 August 2005. It is common ground that it was used to repay an existing overdraft of the Company with the Bank, and to retire 11 trust receipt facilities (ten fully and one partially) which the Bank had made available to the Company between October 2004 and March 2005, all of which were, by the time the loan was drawn down and used in this way, overdue.

3. Following the presentation of the petition against the Company, the Bank exercised its rights under the mortgage and took possession of the vessel on 19 November 2005, appointing a receiver in respect of it. After the winding-up order was made, the Company’s liquidators looked into the circumstances in which the mortgage came to be granted, and concluded that it was susceptible to challenge as an unfair preference. The Bank disagreed. The Liquidators and the Bank agreed that the vessel should be sold, and the net sale proceeds set aside, pending the resolution of the dispute between them. The vessel was in due course sold and after deduction of the sale expenses, a sum of about US$725,000 remained. That sum was, as agreed, placed in an interest-bearing account maintained by the receiver.

This application

4. The liquidators and the Bank having been unable to resolve their differences, on 14 May 2007, the liquidators issued the summons which is now before the court. By their summons, the liquidators seek the following relief:-

(1) A declaration that the mortgage constituted an unfair preference of the Bank by the Company within the meaning of sections 50, 51, 51A and 51B of the Bankruptcy Ordinance (Cap. 6) and section 266B of the Companies Ordinance (Cap. 32) and is, accordingly, void;
(2) An order that the Bank should pay to the liquidators the sale proceeds of the vessel, together with the interest accrued thereon; and
(3) Costs.

The relevant statutory provisions

5. Section 266B of the Companies Ordinance provides that in any winding up that commences after the coming into effect of section 36 of the Bankruptcy (Amendment) Ordinance 1996 a reference in section 266 or 266A of the Companies Ordinance shall be deemed to be a reference to an unfair preference as provided for in section 50 of the Bankruptcy Ordinance, and that a reference in section 266 of the Companies Ordinance to “a period of 6 months” shall be read as a reference to either 6 months or 2 years, depending on whether or not the person to whom the preference is given is an “associate” as defined in section 51B of the Bankruptcy Ordinance. Where the person preferred is an associate of the company in liquidation, the longer period is to apply. The effect of sections 266 to 266B of the Companies Ordinance is to apply the unfair preference provisions contained in section 50 to 51B of the Bankruptcy Ordinance to companies in liquidation, with the necessary modifications.

6. Section 50 of the Bankruptcy Ordinance provides, relevantly, as follows:-

“ 50. Unfair preferences
(1) Subject to this section an sections 51 and 51A, where a debtor is adjudged bankrupt and he has at a relevant time (defined in section 51) given an unfair preference to any person, the trustee may apply to the court for an order under this section.
(2) The court shall, on such an application, make such order as it thinks fit for restoring the position to what it would have been if that debtor had not given that unfair preference.
(3) For the purposes of this section and sections 51 and 51A, a debtor gives an unfair preference to a person if –
(a) That person is one of the debtors creditors or a surety or guarantor for any of his debts or other liabilities; and
(b) The debtor does anything or suffers anything to be done which (in either case) has the effect of putting that person into a position which, in the event of the debtor’s bankruptcy, will be better than the position he would have been in if that thing had not been done.
(4) The court shall not make an order under this section in respect of an unfair preference given to any person unless the debtor who gave the unfair preference was influenced in deciding to give it by a desire to produce in relation to that person the effect mentioned in subsection (3)(b).
….”

7. Section 50(5), which provides that where the person to whom the preference is granted is an associate of the debtor within the meaning of section 51B, the relevant desire required by section 50(4) shall be presumed unless the contrary is shown, is not applicable in the present case, as it is common ground that the Bank was not an “associate” of the Company.

8. Section 51(1) provides that in the case of a non-associate, an unfair preference is only susceptible to challenge where it is given at a time in the period of 6 months ending with the date of the presentation of the bankruptcy petition against the debtor. Section 51(2) requires, in addition, that the debtor should have been insolvent at the time of the giving of the unfair preference, or should have become insolvent in consequence of it. For this purpose, section 51(3) provides that a debtor is to be taken as being insolvent if he is either unable to pay his debts as they fall due, or the value of his assets is less than the amount of his liabilities (including prospective and contingent liabilities).

9. Section 51A sets out a (non-exhaustive) range of orders that the court may make in respect of an unfair preference caught by sections 50 and 51, and section 51B defines “associate” for the purposes of sections 50, 51 and 51A. As I have noted, it is not suggested that the Bank was an “associate” of the Company.

The issue for determination

10. It is not in dispute that the granting of the mortgage by the Company to the Bank had the effect of putting the bank in a better position in the Company’s liquidation than that in which it would have been had the mortgage not been granted. This was obviously the case – by the granting of the mortgage, the Bank was transformed from an unsecured creditor of the Company to a secured creditor.

11. It is also clear that the mortgage was granted within 6 months of the presentation of the winding up petition against the Company, and it is not (and cannot seriously be) disputed that the Company was insolvent at the time the mortgage was entered into.

12. The Bank does, however, dispute that the Company, in granting the mortgage to it, was influenced by the desire to put it in a better position than it would have been in had the mortgage not been granted. Whether or not the Company was influenced by such a desire was the sole issue for determination in these proceedings.

The relevant authorities

13. Before I examine the facts that bear upon this point, I should note that both Mr Maurellet, appearing for the liquidators, and Mr Pao, appearing for the Bank, were in broad agreement as to the approach that should be adopted when considering this issue. That approach is as stated by Millett J (as he then was) in Re MC Bacon Limited [1990] BCLC 324, and by Kwan J in Re Phantom Records Limited (unreported, CFI, HCMP 2770 of 2003, 7 December 2006).

14. In Re MC Bacon Limited, Millett J explained the difference between the old test of “dominant intention to prefer” and the new test of “influenced by the requisite desire” as follows (at 335e to 336d):-

“ This is a completely different test. It involves at least two radical departures from the old law. It is no longer necessary to establish a dominant intention to prefer. It is sufficient that the decision was influenced by the requisite desire. That is the first change. The second is that it is no longer sufficient to establish an intention to prefer. There must be a desire to produce the effect mentioned in the subsection.
The second change is made necessary by the first, for without it it would be virtually impossible to uphold the validity of a security taken in exchange for the injection of fresh funds into a company in financial difficulties. A man is taken to intend the necessary consequences of his actions, so that an intention to grant a security to a creditor necessarily involves an intention to prefer that creditor in the event of insolvency. The need to establish that such intention was dominant was essential under the old law to prevent perfectly proper transactions from being struck down. With the abolition of that requirement intention could not remain the relevant test. Desire has been substituted. That is a very different matter. Intention is objective, desire is subjective. A man can choose the lesser of two evils without desiring either.
It is not, however, sufficient to establish a desire to make the payment or grant the security which it is sought to avoid. There must have been a desire to produce the effect mentioned in the subsection, that is to say, to improve the creditor’s position in the event of an insolvent liquidation. A man is not to be taken as desiring all the necessary consequences of his actions. Some consequences may be of advantage to him and be desired by him; others may not affect him and be matters of indifference to him; while still others may be positively disadvantageous to him and not be desired by him, but be regarded by him as the unavoidable price of obtaining the desired advantages. It will still be possible to provide assistance to a company in financial difficulties provided that the company is actuated only by proper commercial considerations. Under the new regime a transaction will not be set aside as a voidable preference unless the company positively wished to improve the creditor’s position in the event of its own insolvent liquidation.
There is, of course, no need for there to be direct evidence of the requisite desire. Its existence may be inferred from the circumstances of the case just as the dominant intention could be inferred under the old law. But the mere presence of the requisite desire will not be sufficient by itself. It must have influenced the decision to enter into the transaction. It was submitted on behalf of the bank that it must have been the factor which ‘tipped the scales’. I disagree. That is not what [subsection (4)] says; it requires only that the desire should have influenced the decision. That requirement is satisfied if it was one of the factors which operated on the minds of those who made the decision. It need not have been the only factor or even the decisive one. In my judgment, it is not necessary to prove that, if the requisite desire had not been present, the company would not have entered into the transaction. That would be too high a test.”

15. In Re Phantom Records, Kwan J had this to say at paragraphs 86 and 87 of her judgment:-

“ 86. In relation to [the need for the company to have been influenced by the desire to produce the requisite effect], two elements are required to be established: a desire to produce the effect of improving the creditor’s position in an insolvent liquidation, and such desire had influenced the decision to enter into the transaction.
87. A desire of improving the creditor’s position in an insolvent liquidation is a subjective state of mind. Desire is different from intention. Whereas intention is objective in that a person is taken to intend the necessary consequences of his actions, a person is not to be taken as desiring all the necessary consequences of his actions and one can choose the lesser of two evils without desiring either (Re MC Bacon Limited [1990] BCLC 324 at 335f to 336a; Re Hau Po Man Stanley [[2005] 2 HKC 227] at 233C). There is often no direct evidence of the requisite desire and the existence of this state of mind may be inferred from all the relevant circumstances, even ‘contrary to the denials of those whose state of mind is inquired into to determine what state of mind is attributed to the company making the decision’ (Re Fairway Magazines Limited [1993] BCLC 643 at 649f).”

16. Mr Pao also relied on the observation in Parry, Transaction Avoidance in Insolvencies to the effect that a preference will normally escape censure if there is a good explanation for it having been made (see paragraph 5.113), and on the fact that such an explanation could consist of the fact that the preference was made in response to pressure being placed on the debtor by the creditor, whether such pressure be commercial (as in Re Fairways Magazines Limited) or moral (as in Re Hau Po Man Stanley).

17. I accept that it is insufficient to show that the Company intended, objectively, to prefer the Bank, and that it is necessary to establish both that it desired to do so, and that such desire influenced its decision to grant the mortgage to the Bank. However, it is clear from the authorities that I have referred to that both of these matters may often be matters that are inferred from all of the evidence in the particular case.

The evidence

18. In this case, the relevant evidence includes, in my view, the contemporaneous correspondence between the Bank and the Company in the months leading up to the grant of the mortgage, and also the evidence of the steps being taken by other creditors of the Company at and shortly before the time when the mortgage was entered into. The former will throw some light on the nature of the relationship between the Bank and the Company, the degree of pressure that may have been exerted by the Bank on the Company to improve its position, and the advantages, if any, to the Company in granting the mortgage. The latter will provide material against which the conduct of the Bank and the Company can be compared, and will also throw light on the financial position of the Company at the relevant time, a matter which, as I explain below, bears on whether or not there was good reason for the Company to enter into the mortgage in favour of the Bank.

19. Apart from these matters, there is also a suggestion by the liquidators that there is direct evidence (from Mr Spencer Wong, one of the directors of the Company) that the Company actually wished or desired to prefer the Bank. This suggestion is based on a statement which the liquidators have said was made to them by Mr Spencer Wong at an interview with the liquidators on 30 May 2006, when he said that the mortgage had been granted “to do a favour for their friend” Mr Dickens Fung, the relationship manager at the Bank with responsibility for the Company’s business with the Bank.

Correspondence between the Bank and the Company

20. Dealing first with the contemporaneous correspondence between the Bank and the Company, this starts with an e-mail from Mr Fung to Mr Spencer Wong dated 27 January 2005, in which Mr Fung expresses disappointment that the Company had failed to keep its promise to settle a trust receipt that had already been deferred by 21 days, and stated that “If the bank does not tolerate, the consequence can be serious”. Another e-mail from Mr Fung of the same date stated that the Company “is in quite serious financial problem”.

21. Thereafter, on 23 March 2005, Mr Fung e-mailed to enquire how the Company intended to deal with two outstanding trust receipts under which HK$5 million was outstanding. A few days later, on 29 March 2005, Mr Fung expressed the view that the “situation would be very unfavourable” if the Company could not repay its outstanding facilities, and that the Bank could not wait any longer.

22. Notwithstanding this, it was not until 19 April 2005 that Mr Fung appears to have sent a further e-mail, complaining about the Company’s failure to live up to its promises to effect repayment, and observing that the Bank would issue a demand letter for the entire outstanding amount if any item was overdue for 90 days or more. This threat does not appear to have been implemented, as on 27 May 2005, more than a month later, Mr Fung referred to an item which had been outstanding for more than 100 days, and said that the Bank was “losing its patience” and might take “drastic action” (which was not specified) if the Company did not deal with matters satisfactorily. It may be that the “drastic action” which Mr Fung had in mind was the need for the Bank to make provisions against long overdue amounts and to issue a demand letter to the Company, these being matters which Mr Fung complained might become necessary if long overdue amounts were not cleared shortly, in an e-mail of 10 June 2005, in which Mr Fung also complained to Mr Eric Wong that he (Mr Fung) was losing his own credibility with the Bank.

23. Further chasing e-mails were sent by Mr Fung to the Company on 20, 22 and 25 June 2005, after which Mr Fung e-mailed the Company on 28 June 2005, saying that absent progress in relation to repayments, the Bank would have to seek more tangible securities from the Company – the example given being a guarantee from a related company. In response to this e-mail, Mr Eric Wong e-mailed Mr Fung on 5 July 2005, offering security over the vessel, describing it as the “family yacht” and saying “We treasure our relationship with your bank and we are willing to give this asset to your bank as additional security for the trade line …”. Mr Fung’s response on 7 July 2005 was to ask when funds would actually be in place to enable the facilities to be paid down, as the consequences would otherwise be serious, in that the Bank would have to make provisions in respect of its loans to the Company.

24. Mr Eric Wong then suggested that the vessel should be used as security for a short-term loan to pay down the overdue amounts, so as to avoid the need for the bank to make any provision, a suggestion which Mr Fung accepted with alacrity. Unfortunately, the relevant licence documentation relating to the vessel could not be provided promptly, causing Mr Fung to write again on 15 July 2005 to complain about the constant failure of the Company and the Wongs to live up to their promises to take steps to provide funds to cover the outstanding amounts that were long overdue.

25. Thereafter, the relevant licence documentation appears to have been provided, and the loan and security documentation was prepared. As noted above, the mortgage was entered into on 15 August 2005, with a loan of HK$6.8 million being made to the Company three days later in order to repay long overdue trust receipts.

26. Although Mr Pao submitted that this series of correspondence demonstrated that the Bank was putting real, if subtle, pressure on the Company to take steps to deal with the outstanding amounts and improve the state of its facilities with the Bank, I am bound to say that I do not consider that any meaningful commercial pressure was placed on the Company through the course of this correspondence. Although there were frequent complaints as to the Company’s failure to make repayments when due, and in relation to its inability and failure to honour its promises to secure fresh sources of funding, the nature of the steps that it was suggested would have to be taken were, to my mind, mild in the extreme. It does not seem to me that a threat to issue a demand letter would have exerted much pressure on the Company to rectify the position, and indeed, the Company in fact did nothing over a period of several months after that threat was made. Similarly, I am unable to see how a threat that the bank would have to make provisions in respect of the amounts which it had lent to the Company would have been likely to have caused the Company to be concerned, as the making of provisions would be a matter internal to the Bank, and would, moreover, indicate that the Bank regarded the advances which it had made to be potentially irrecoverable, an admission which would hardly be likely to cause the Company much concern. Finally, even when it was suggested that “tangible” securities would be required, the nature of the securities sought was merely a guarantee from an associated company, rather than real security in the form of realisable property or other assets, which the Company in the event offered.

27. Mr Pao also suggested, I think, that this form of pressure might be viewed as moral, or at least informal, pressure on the Company to honour its obligations. I do not think that it can be so characterised. It is certainly very different from the sort of moral pressure that was held in Re Hau Po Man Stanley to be such as to negative an inference that might otherwise be drawn that a particular transaction was entered into influenced by a desire to improve the position of the creditor concerned. In that case, the moral pressure appears to have been a desire on the part of the debtor to preserve family ties with his relatives, a matter that might well exert real pressure on a debtor so as to lead him to grant a preference with that aim in view. In the present case, however, I do not see that the requests by Mr Fung for repayment can sensibly be regarded as constituting pressure in any real form, whether commercial or moral, formal or informal.

The steps taken by the Company’s other creditors

28. The Bank’s approach to the problems which it was facing with the Company’s failure to effect punctual repayment of facilities which the Bank had extended to it stands in stark contrast to the steps being taken by the many other banks and financial institutions to which the Company was indebted. Such other banks had, between March and July 2005, taken the following steps against the Company and its directors:-

(1) By 4 March 2005, OCBC had demanded repayment of the facilities which it had extended to the Company by a formal letter of demand issued by solicitors acting for it. No such repayment having been made, OCBC would eventually serve a statutory demand on the Company on 17 August 2005, on the basis of which its winding up petition was subsequently presented on 28 September 2005.
(2) Equitable PCI Bank Inc., Hong Kong branch terminated the facilities which it had made available to the Company and demanded their immediate repayment by a letter to the Company dated 3 May 2005. No payment having been received, statutory demands were served on the Wongs as guarantors of the Company’s indebtedness to Equitable PCI Bank on 19 May 2005, followed by bankruptcy petitions against the Wongs presented on 8 July 2005.
(3) Delta Asia Credit Limited caused a formal demand for immediate repayment of all outstanding and overdue amounts from the Company to be issued by its solicitors to the Company on 2 June 2005.
(4) On 16 June 2005, UFJ Bank Limited terminated the facilities which it had made available to the Company and demanded immediate repayment of all outstanding amounts, threatening the institution of legal proceedings if no repayment were made. On 11 July 2005, UFJ Bank issued a statutory demand against the Company in respect of amounts owing to it by the Company, a step which would have entitled it to present a winding up petition against the Company by the beginning of August 2005.
(5) The Bank of East Asia served letters of demand on the Company’s directors in respect of guarantees provided by them on 5 July 2005.
(6)

29. In each of these cases, the steps taken were, it is evident, more concrete, more serious, and instituted much more promptly, than those threatened by the Bank over a period of several months in Mr Fung’s e-mails to the Company.

The absence of any good reason for granting the mortgage

30. Moreover, the financial position of the Company disclosed by the steps being taken by its other creditors was, quite clearly, critical. The number of such other creditors, and the extent of the debts owing to them, was such that it does not appear that there could have been any real prospect of the Company trading on through its difficulties, with a view to winning through to an improved financial position. That being so, it is not, in my view, realistic to suggest, as Mr Pao sought to do, that the (or at least one) purpose of granting the mortgage to the Bank was to preserve the ongoing commercial relationship between the Company and the Bank. Given the Company’s parlous financial position, which must have been known to it (and its directors, against whom statutory demands were served and bankruptcy petitions presented), it cannot seriously have been thought that the Company would be able to carry on business for any appreciable length of time so as to benefit from such a relationship.

31. It is also, as I have noted, clear that the loan granted by the Bank against the security of the mortgage did not involve fresh credit being given to the Company, as the proceeds of the loan were immediately applied to reduce the Company’s indebtedness to the Bank under other, long outstanding, facilities. The upshot was that the overall indebtedness of the Company to the Bank was not reduced, although the Bank’s position was improved by the obtaining of the security afforded by the mortgage. It cannot therefore be said that the Company benefited in any tangible way from the granting of the security, so as to provide a good reason for the grant of the mortgage.

32. Mr Maurellet also submitted, I think rightly, that given the personal bankruptcy proceedings threatened against the Company’s directors consequent on the service of statutory demands against them, both in May 2005, and on the very day that the vessel was offered to the Bank as security, the fact that such security was offered to the Bank rather than the creditors serving such statutory demands is strong evidence of a desire to prefer the bank, even at the cost of the personal bankruptcy of the directors. Although Mr Pao suggested that it would not have been proper to offer the Company’s property as security to creditors with claims against the directors, this is, I think, to overlook the fact that those claims were in fact based on guarantees given in respect of the Company’s indebtedness, so that the provision of security to those creditors would have benefited the Company as well as its directors.

Conclusion

33. Although the onus of proving the relevant desire and that it was, at least, one of the factors which influenced the Company in its decision to grant the mortgage lies with the liquidators (as the Bank was not an “associate” of the Company), it seems to me that, for the reasons which I have endeavoured to explain, the indirect evidence to which I have referred in the preceding paragraphs comfortably discharges that burden, even without the “direct” evidence in the form of the statement which Mr Spencer Wong is said to have made to the liquidators when interviewed by them, on which I do not think it appropriate to place much weight, having regard to the fact that it is only hearsay and has not been confirmed on affirmation or otherwise on oath.

Disposition and costs

34. I am therefore satisfied that it would be appropriate to grant the declaration sought by the Company and I do so. It follows that the order for payment which is sought should also be made.

35. So far as costs are concerned, there is no reason why they should not follow the event, and I shall therefore make an order nisi that the costs of and incidental to this application shall be paid by the Bank to the liquidators, to be taxed on the party and party basis if not agreed. To the extent that there remains any shortfall in the costs recovered, these are to be met out of the assets of the company, subject to the usual requirement of taxation of such costs in the course of the liquidation.

(Aarif Barma)
Judge of the Court of First Instance
High Court

Mr Jose-Antonio Maurellet, instructed by Messrs Tanner De Witt, for the Joint & Several Liquidators

Mr Jin Pao, instructed by Messrs Baker & McKenzie, for HSH Nordbank AG, HK Branch

(1)	A declaration that the mortgage constituted an unfair preference of the Bank by the Company within the meaning of sections 50, 51, 51A and 51B of the Bankruptcy Ordinance (Cap. 6) and section 266B of the Companies Ordinance (Cap. 32) and is, accordingly, void;
(2)	An order that the Bank should pay to the liquidators the sale proceeds of the vessel, together with the interest accrued thereon; and
(3)	Costs.

“	50.	Unfair preferences
		(1)	Subject to this section an sections 51 and 51A, where a debtor is adjudged bankrupt and he has at a relevant time (defined in section 51) given an unfair preference to any person, the trustee may apply to the court for an order under this section.
		(2)	The court shall, on such an application, make such order as it thinks fit for restoring the position to what it would have been if that debtor had not given that unfair preference.
		(3)	For the purposes of this section and sections 51 and 51A, a debtor gives an unfair preference to a person if –
			(a)	That person is one of the debtors creditors or a surety or guarantor for any of his debts or other liabilities; and
			(b)	The debtor does anything or suffers anything to be done which (in either case) has the effect of putting that person into a position which, in the event of the debtor’s bankruptcy, will be better than the position he would have been in if that thing had not been done.
		(4)	The court shall not make an order under this section in respect of an unfair preference given to any person unless the debtor who gave the unfair preference was influenced in deciding to give it by a desire to produce in relation to that person the effect mentioned in subsection (3)(b).
	….”

“	This is a completely different test. It involves at least two radical departures from the old law. It is no longer necessary to establish a dominant intention to prefer. It is sufficient that the decision was influenced by the requisite desire. That is the first change. The second is that it is no longer sufficient to establish an intention to prefer. There must be a desire to produce the effect mentioned in the subsection.
	The second change is made necessary by the first, for without it it would be virtually impossible to uphold the validity of a security taken in exchange for the injection of fresh funds into a company in financial difficulties. A man is taken to intend the necessary consequences of his actions, so that an intention to grant a security to a creditor necessarily involves an intention to prefer that creditor in the event of insolvency. The need to establish that such intention was dominant was essential under the old law to prevent perfectly proper transactions from being struck down. With the abolition of that requirement intention could not remain the relevant test. Desire has been substituted. That is a very different matter. Intention is objective, desire is subjective. A man can choose the lesser of two evils without desiring either.
	It is not, however, sufficient to establish a desire to make the payment or grant the security which it is sought to avoid. There must have been a desire to produce the effect mentioned in the subsection, that is to say, to improve the creditor’s position in the event of an insolvent liquidation. A man is not to be taken as desiring all the necessary consequences of his actions. Some consequences may be of advantage to him and be desired by him; others may not affect him and be matters of indifference to him; while still others may be positively disadvantageous to him and not be desired by him, but be regarded by him as the unavoidable price of obtaining the desired advantages. It will still be possible to provide assistance to a company in financial difficulties provided that the company is actuated only by proper commercial considerations. Under the new regime a transaction will not be set aside as a voidable preference unless the company positively wished to improve the creditor’s position in the event of its own insolvent liquidation.
	There is, of course, no need for there to be direct evidence of the requisite desire. Its existence may be inferred from the circumstances of the case just as the dominant intention could be inferred under the old law. But the mere presence of the requisite desire will not be sufficient by itself. It must have influenced the decision to enter into the transaction. It was submitted on behalf of the bank that it must have been the factor which ‘tipped the scales’. I disagree. That is not what [subsection (4)] says; it requires only that the desire should have influenced the decision. That requirement is satisfied if it was one of the factors which operated on the minds of those who made the decision. It need not have been the only factor or even the decisive one. In my judgment, it is not necessary to prove that, if the requisite desire had not been present, the company would not have entered into the transaction. That would be too high a test.”

“	86.	In relation to [the need for the company to have been influenced by the desire to produce the requisite effect], two elements are required to be established: a desire to produce the effect of improving the creditor’s position in an insolvent liquidation, and such desire had influenced the decision to enter into the transaction.
	87.	A desire of improving the creditor’s position in an insolvent liquidation is a subjective state of mind. Desire is different from intention. Whereas intention is objective in that a person is taken to intend the necessary consequences of his actions, a person is not to be taken as desiring all the necessary consequences of his actions and one can choose the lesser of two evils without desiring either (Re MC Bacon Limited [1990] BCLC 324 at 335f to 336a; Re Hau Po Man Stanley [[2005] 2 HKC 227] at 233C). There is often no direct evidence of the requisite desire and the existence of this state of mind may be inferred from all the relevant circumstances, even ‘contrary to the denials of those whose state of mind is inquired into to determine what state of mind is attributed to the company making the decision’ (Re Fairway Magazines Limited [1993] BCLC 643 at 649f).”

(1)	By 4 March 2005, OCBC had demanded repayment of the facilities which it had extended to the Company by a formal letter of demand issued by solicitors acting for it. No such repayment having been made, OCBC would eventually serve a statutory demand on the Company on 17 August 2005, on the basis of which its winding up petition was subsequently presented on 28 September 2005.
(2)	Equitable PCI Bank Inc., Hong Kong branch terminated the facilities which it had made available to the Company and demanded their immediate repayment by a letter to the Company dated 3 May 2005. No payment having been received, statutory demands were served on the Wongs as guarantors of the Company’s indebtedness to Equitable PCI Bank on 19 May 2005, followed by bankruptcy petitions against the Wongs presented on 8 July 2005.
(3)	Delta Asia Credit Limited caused a formal demand for immediate repayment of all outstanding and overdue amounts from the Company to be issued by its solicitors to the Company on 2 June 2005.
(4)	On 16 June 2005, UFJ Bank Limited terminated the facilities which it had made available to the Company and demanded immediate repayment of all outstanding amounts, threatening the institution of legal proceedings if no repayment were made. On 11 July 2005, UFJ Bank issued a statutory demand against the Company in respect of amounts owing to it by the Company, a step which would have entitled it to present a winding up petition against the Company by the beginning of August 2005.
(5)	The Bank of East Asia served letters of demand on the Company’s directors in respect of guarantees provided by them on 5 July 2005.
(6)