The Court of Appeal in Hong Kong has examined whether s.357 Companies Ordinance ('CO'), which provides that the court will consider granting security for costs where the plaintiff is a limited company, is applicable to overseas companies that are ordinarily resident in Hong Kong. The court has determined that s.357 CO is to be interpreted to include overseas companies which are ordinarily resident in Hong Kong.

Background

The Court of Appeal's decision in Akai Holdings Limited (in compulsory liquidation) v Ernst & Young (a Hong Kong firm) (CACV 255 of 2008, 23 April 2009) arises out of the collapse of the Akai Group ('Akai'). By way of background, the plaintiff, Akai was incorporated in Bermuda and had its place of business in Hong Kong. Akai was wound up in late 2000 in both Bermuda and Hong Kong. Following the wind up, a cross-border protocol was put in place to administer the liquidation process. As part of the protocol, Hong Kong was designated as the location from which to administer the liquidation since Hong Kong was considered to be the principal place of business of Akai.

We wrote about the liquidation and a decision by the courts regarding s.221 CO in our e-bulletin of 15 January 2007. We also wrote about the Court of Final Appeal decision on s.221 CO in our e-bulletin of 2 March 2009.

This e-bulletin discusses an appellate judgment which primarily deals with the issue of obtaining security for the costs of the action from a company incorporated overseas. Akai have brought proceedings in Hong Kong against its former auditors, who sought security for the costs of the action on the basis that, if they were successful in their defence of the action, Akai would be unlikely to be able to pay those costs. Security for costs refers to an assurance of payment that a defendant may demand of a plaintiff who does not reside within the jurisdiction of the court, for the payment of such costs as might be awarded to the defendant. In Hong Kong, a foreign plaintiff may be required to give security (usually by way of a payment into court) for the proportion of the defendant’s costs that it may have to pay if it is unsuccessful in the action.

Issues

There were two bases on which the auditors sought security. The first, under O. 23 r. 1 (1) (a), was that Akai was an overseas company and therefore ordinarily resident outside the jurisdiction. The second basis was under s.357 of the CO, which provides that the court will consider granting security for costs where the plaintiff is a limited company and there is reason that it may not be able to pay the costs of the defendant in the event of the defendant's success.  

Court of First Instance decision

At first instance, the application for security for costs was dismissed by Stone J, who held that Akai was ordinarily resident in Hong Kong (having had its principal place of business here) and further, in relation to the application under s.357 CO, that the words 'company' in the section referred only to companies incorporated in Hong Kong.

The impact of the decision at first instance was that security for costs could not be awarded against companies that are incorporated overseas but principally run in Hong Kong. In other words, a fundamental legal loophole would enable such companies to continue to litigate without being bound by security obligations to the defendant even if there was a real risk that the overseas company may not be able to pay litigation costs if the defendant wins. The defendant appealed, and the appeal has been allowed with costs in favour of the defendant.

Court of Appeal decision

The main question that arose at appeal was whether s.357 CO applies to overseas companies i.e., whether 'company' includes a company incorporated overseas or only refers to a company formed and registered in Hong Kong. The Court of Appeal observed that although there is no concrete decision binding on the court, there are key observations in Hong Kong and England that support the contention of a restricted application of s.357 CO to companies formed and registered in Hong Kong. For example, in a 1988 Hong Kong judgment, the court observed that no security for costs could be ordered against 'an overseas company with its central management and control in Hong Kong. However, the anomaly could, it be thought appropriate, be removed by a slight amendment to s.357 CO'.

In spite of such previous judicial observations, the Court of Appeal sought to give s.357 CO a purposive construction in the absence of binding authorities. The Court of Appeal, it appears, has based its decision on logic rather than a proper legal basis. It reasoned that since overseas companies which are ordinarily resident in Hong Kong are commonplace, and that there is no 'rational basis' for treating overseas companies ordinarily resident in Hong Kong any different from those incorporated in Hong Kong, s.357 CO ought to be interpreted as if it includes overseas companies which are ordinarily resident in Hong Kong. The court added that it is not necessary for them to consider whether s.357 CO applies to all overseas companies since those not ordinarily resident in Hong Kong are covered by O.23 r.1(1)(a).  

Comment

If this case reaches the Court of Final Appeal, it will be interesting to see in whose favour the judges decide. More importantly, it will be interesting to see whether they will follow powerful observations consistently handed down in decisions historically or whether they will accept the Court of Appeal's purposive construction of s.357 CO. If they allow the appeal and affirm the lower court's decision, a key anomaly in the legal provisions will need to be fixed, as historically identified. If, on the other hand, they dismiss the appeal and affirm the Court of Appeal's decision, one would expect the Court of Final Appeal to come up with a firm legal basis and a clearer explanation for their decision. For the moment though, there is clear authority allowing defendants to seek security for the costs of corporate plaintiffs incorporated overseas wherever their principal place of business (and thus ordinary residence) might be.