Out-Law Guide | 21 Jun 2010 | 11:56 am | 8 min. read
Akai Holdings Limited (in compulsory liquidation) v Ernst & Young
FACV NO. 10 OF 2009 (on appeal from CACV No. 255 / 2008)
Judgment of the Court of Final Appeal (Bokhary, Chan and Ribeiro PJJ, and Mortimer and Millett NPJJ) dated 30 October 2009
The Plaintiff (Akai) was an electronics company incorporated in Bermuda and registered under Part XI of the Companies Ordinance. It had a place of business in Hong Kong and was listed on the Hong Kong Stock Exchange.
Pursuant to a creditors' petition, a winding-up order against the Plaintiff was made by the Hong Kong High Court on 23rd August 2000. Subsequently, on 29th September 2000, another winding up order was made against the Plaintiff by the Bermuda Supreme Court.
In 2004, the liquidators commenced an action in the Hong Kong High Court against the Defendant (EY), claiming damages for alleged negligence and breach of duty on the part of EY in auditing Akai's accounts for the years from 1997 to 1999. The trial of the action was fixed to be heard in September 2009, estimated to last for six months.
In May 2008, based upon Order 23 rule 1 of the Rules of the High Court (RHC), EY applied for security for costs in the sum of HK$198,614,000 against the Plaintiff. Order 23 rule 1(1)(a) of the RHC gives power to the Court to order security for costs if a plaintiff is ordinarily resident out of the jurisdiction. Akai opposed the application on the ground that the Court lacked jurisdiction to make such an order.
On 15th July 2008, Stone J dismissed EY's application with costs. Adopting the location of central management and control as the test for residence of a limited company, Stone J held that Akai was ordinarily resident in Hong Kong and he concluded that "an overseas registered company with its central management and control in Hong Kong falls outwith the ambit of Order 23, rule 1(1)(a), and thus does not permit the order of security for costs in an application mounted under this section".
Although S.357 of the Companies Ordinance (which gives jurisdiction to the Court to order security for costs where the plaintiff is a limited company and there is reason to believe that the company will be unable to pay the costs of the successful defendant) was mentioned and briefly argued in the hearing, Stone J's decision was mainly premised on Order 23 rule 1 of the RHC because it was accepted by EY that S.357 did not apply to overseas companies which are registered in Hong Kong.
On EY's appeal, both Order 23 rule 1 and S.357 were argued. The Court of Appeal (Tang VP, Yuen JA and Chung J) upheld Stone J's finding that Akai was ordinarily resident in Hong Kong and thus excluded the application of Order 23 rule 1.
In respect of S.357, the Court of Appeal was required to construe whether "company" in S.357 includes a non-Hong Kong company or is restricted to a company formed and registered under the Companies Ordinance or an existing company as defined. Adopting the purposive approach, the Court of Appeal concluded that S.357 applies to a company incorporated outside Hong Kong but registered under Part XI of the Companies Ordinance. The Court of Appeal highlighted that there is no rational basis for treating overseas limited companies ordinarily resident in Hong Kong differently from those incorporated in Hong Kong.
Upon this finding, the Court of Appeal allowed EY's appeal and ordered Akai to pay security for costs in favour of EY.
Akai appealed to the Court of Final Appeal on the basis that the Court of Appeal had erred in its construction of the scope of S.357.
Following the leading UK decision of Porzelack KC v Porzelack (UK) Ltd, the Court of Final Appeal (CFA) confirmed that the purpose of Order 23 rule 1(1)(a) is principally aimed at avoiding the possible difficulty and delay in enforcing costs orders where the plaintiff does not have sufficient assets within the jurisdiction.
Accordingly, if a foreign plaintiff is able to show that it has substantial assets within the jurisdiction upon which the costs order may execute, the court may not order security for costs against the foreign plaintiff.
In respect of S.357, the CFA accepted that this section is an "exception" to the general rule that a plaintiff who is ordinarily resident in Hong Kong is not required to provide security for the costs of the defendant, the reason for having this exception being "the price to be paid (by the limited companies) in return for being granted the privilege of having limited liability".
S.357 provides as follows:
"where a limited company is plaintiff in any action or other legal proceeding, any judge having jurisdiction in the matter may, if it appears by credible testimony that there is reason to believe that the company will be unable to pay the costs of the defendant if successful in his defence, require sufficient security to be given for those costs, and may stay all proceedings until the security is given."
The CFA held that in construing the scope of S.357, one should start off with the definition of "company" in S.2(1) of the Companies Ordinance, which provides as follows:
"In this Ordinance, unless the context otherwise requires –
'company' means a company formed and registered under this Ordinance or an existing company."
The CFA concluded that the wording in the definition of "company" is very clear and it means "any company which was formed and registered under the Ordinance, that is a company incorporated in Hong Kong".
Accordingly, adopting the literal and ordinary meaning in the present case, the CFA held that the court would have no jurisdiction under S.357 to order security for costs against Akai, being a company incorporated in Bermuda, albeit registered in Hong Kong under Part XI of the Ordinance and having a place of business there.
The CFA commented that the Court of Appeal was wrong to extend the meaning of "company" under S.357 to a company incorporated outside Hong Kong but registered under Part XI of the Companies Ordinance because:
Finally, the CFA acknowledged that while it is desirable that the Hong Kong court should have power to order foreign corporate plaintiffs suing in Hong Kong to provide security for costs if there is reason to believe that they may be unable to meet any costs order from assets within the jurisdiction, this could only be done when appropriate amendments are made to the RHC.
As accepted by the CFA, the main purpose of ordering a plaintiff to give security for costs is to avoid the possible difficulty and delay in enforcing a costs order against the unsuccessful plaintiff. However, the decision of the CFA highlights the inefficiency of the current legislation in achieving this purpose, in that Hong Kong courts have no jurisdiction to order security for costs against an impecunious foreign corporate plaintiff, if that foreign corporate plaintiff is able to prove that it is ordinarily resident in Hong Kong.
It is apparent that such inefficiency in our legislation leads to an inequality between foreign corporate plaintiffs and local corporate plaintiffs. With a view to eliminating the inequality (or "anomaly" as described by the CFA), the Court of Appeal tried to interpret S.357 of the Companies Ordinance widely so that Hong Kong courts are empowered to order security for costs against an impecunious foreign corporate plaintiff.
While the CFA acknowledged the existence of the "anomaly", the CFA rejected the liberal interpretation of S.357 adopted by the Court of Appeal and criticised such interpretation as "an unjustified judicial usurpation of legislative power". The CFA's comment is justified because the fundamental function of the courts is to interpret the legislation, not to make (or advance) the legislation.
Whilst the CFA is correct in construing S.357 literally and strictly, the peculiar circumstances in Hong Kong are crying out for a liberal interpretation of S.357. With the continuing globalisation of the economy, more and more foreign companies have registered in Hong Kong and established a place of business (or even central management office) here. When these foreign companies sue as plaintiffs in the Hong Kong courts, they will likely successfully defend applications for security for costs mounted under Order 23 Rule 1 by arguing that they are ordinarily resident in Hong Kong. If S.357 has no application to these foreign corporate plaintiffs, defendants will have no basis to seek security for costs from them and in the event of a successful defence, these defendants may have difficulty in enforcing the costs orders against the foreign corporate plaintiffs.
The CFA suggests that there is no need for judicial interference into this apparent inequality because, as observed by Cons VP in Insurance Company of the State of Pennsylvania v Grand Union Insurance Co. Ltd. & Another  2 HKLR 541, the "anomaly" could easily be removed by slight amendment to S.357. However, despite the views expressed by Cons VP in 1988 (and by Keith J in 1998 in Charter View Holding (BVI) Ltd. v Corona Investments Ltd. & another  1 HKLRD 469), no amendments have been introduced to S.357 during the past 20 years, when Hong Kong has been evolving as one of the leading financial centres in the world, attracting thousands of foreign corporations setting up business in Hong Kong (as at March 2010, there are almost 8,000 non-Hong Kong companies registered in Hong Kong).
Now that the CFA has determined that S.357 is not applicable to foreign corporate plaintiffs, this discrepancy will remain in our legal system unless and until the legislature takes the initiative to amend Order 23 of the Rules of the High Court (or alternatively S.357 and the definition of "company" in S.2(1) of the Companies Ordinance).