Proving dishonesty and “blind-eye knowledge” in fraud-related causes of action against bank creditor
Introduction
In Re
Galleria (Hong Kong) Limited [2019] HKCFI 1877, the Court of First Instance
discussed the mental elements required to be proven in the claims for knowing
receipt, dishonest assistance, and fraudulent trading against a creditor of a company in liquidation.
Background
Galleria Group,
comprising Galleria Inc (USA) and Galleria (HK) Ltd (“GHK”) (in liquidation), had a business history of more
than 20 years. The business of GHK was financed by borrowings from multiple banks,
including but not limited to one of its largest creditors DBS Bank Ltd (Hong
Kong Branch) (“DBSHK”). From 2004 to 2009, GHK’s directors fabricated
and submitted fraudulent bills of lading to lenders and DBSHK. In around March 2016, DBSHK inquired the
authenticity of B/L with International Maritime Bureau of the International
Chamber of Commerce and was informed that some of the bills of lading were
false while some appeared to be genuine in various IMB Reports (“IMB Reports”). After receiving the IMB Reports, DBSHK did conduct an
internal investigation but eventually decided to increase its lending to GHK.
In November 2017, DBSHK also sent two bills of lading to ICC-IMB for checking but
no adverse results have been shown.
Since January 2008
and in the context of the Subprime Crisis, DBSHK considered a reduction in financing
to GHK, and did thereafter manage to considerably reduce its lending to GHK
from US$34.9 million in
March 2006 to approximately US$7.7 million in February 2010 whereas other
lenders had substantially increased their lending in the meantime.
The liquidators of
GHK (“Liquidators”) therefore commenced
proceedings against DBSHK on the grounds of (a) knowing
receipt, (b) dishonest assistance, and (c) fraudulent trading (“3 Causes of Action”). The main reasons are that DBSHK must have
known of, or deliberately turned a blind-eye to GHK’s fraud, but failed to
inform other lenders and therefore causing them a loss of about US$185.5
million, the calculation of which is based on the proofs of debt received by
the Liquidators. DBSHK contended that it was a victim of GHK’s fraud, instead
of being an accessory to it.
The law
Each of the Three
Causes of Action requires the proof of mental elements on the part of the
wrongdoer. The Court found that
this action is a case of dishonesty which requires proof based on cogent or “compelling
evidence”. The applicable principles of dishonesty are:-
1.
Although the
question of a person’s state of mind, which concerns what the person actually knows,
is subjective, the Court shall objectively assess whether the person is honest
or dishonest given what he knows.
2.
Carelessness or
negligence are not in themselves manifestations of dishonesty.
3.
When assessing
the credibility of a witness, the Court normally attaches much weight to
undisputed contemporaneous documents, inherent probabilities, motive or the
lack of it, logic and common sense.
4.
One cannot
aggregate the knowledge of innocent minds in different people to create some “notional
super-mind” of the company.
The applicable principles of “blind-eye
knowledge” are:-
1.
Knowledge of a
fact may be imputed to a person if he suspects certain facts may exist but
turns a blind eye to it, namely deliberately or consciously (not negligently) abstaining
from enquiry so as to avoid certain knowledge of what he already suspects to be
the case.
2.
According to Group Seven Ltd v Notable Services LLP
[2019] EWCA Civ 614, the suspicion
must be firmly grounded and targeted on specific facts.
Ruling
Dishonesty
After taking a
holistic view of the evidence, including the email correspondences and the
testimony obtained in
cross-examination, the Court rejected the Liquidators’ case on knowledge of
fraud or dishonesty on the part of DBSHK.
It is of the view that DBSHK has not seen the IMB Reports as fraud risk since
it was told by the Trade Services of DBSHK that the findings that some bills of
lading are false or not in order are not unusual. DBSHK was also told that GHK account was
operating normally. It achieved 26% sale growth in 2005 and did make some
repayments. DBSHK did not want to raise
a false alarm of fraud. Although DBSHK reduced
its lending to GHK after IMB Report, the Court considered it was against the
backdrop of the Subprime Crisis that the facilities granted to GHK were
restructured.
The Court also
indicated that the wide circulation of the IMB Reports is a fundamental
weakness in the Liquidators’ case. It is inconceivable that one will think of
turning a blind-eye to a fraud which many of his colleagues know and all
colleagues were at the same time turning a blind-eye to it.
Because of the
aforesaid reasons, the Court further found that DBSHK was a victim of GHK’s
fraud since the bills of lading in question were pledged to DBSHK.
Subject
of the fraud
Based on the
finding that DBSHK was a victim of GHK’s fraud, the Court found it difficult to
see (a) how knowledge of a number of fraudulent transactions practised on DBSHK
can be equated with knowledge that GHK’s business was being carried on with
intent to defraud creditors or for a fraudulent purpose; and (b) how knowledge
that one is being defrauded can translated into being a party to such fraud.
In particular, the
proposition that DBSHK dishonestly induced or assisted in a breach or fraud on
itself defies all common sense. It was
also contrary to common sense that DBSHK as a victim shall pay twice over the
money it was cheated by GHK if the Court found DBSHK liable for knowing receipt.
According to Criterion Properties v Stratford UK
Properties [2004] 1 WLR 1846 and Akai
Holdings Ltd v Kasikorn Bank [2010] 3 HKC 153, a claim in knowing
receipt must fail if the defendant’s receipt is pursuant to a valid and binding
contract. The fact that the loan
facilities agreements between DBSHK and
GHK remain valid and therefore GHK was still contractually bound to repay DBSHK
leads to a conclusion that a claim of knowing receipt could not be established.
Quantum
of compensation
The Court found that the
Liquidators’ calculations on quantum are flawed since it was calculated based
on the proof of debts that have been received but have not been adjudicated
upon.
Conclusion
This is the first
Hong Kong case following the ruling in Group
Seven Ltd v Notable Services LLP that one of the pre-conditions of
imputing knowledge of fact to a person turning a blind eye to a fact is that the
suspicion of that person must be firmly grounded. This case also illustrates
the importance of common sense when assessing whether there is any
knowledge of fraud or dishonesty on the part of the wrongdoer and serves as a
reminder to the liquidators not to base its calculation of damages on the proof
of debts that have not yet been adjudicated in the causes of action of knowing receipt, dishonest
assistance, and fraudulent
trading.
For enquiries, please contact our Litigation
& Dispute Resolution Department: |
E:
insolvency@onc.hk T:
(852) 2810 1212 19th Floor, Three
Exchange Square, 8 Connaught Place, Central, Hong Kong |
Important: The law and
procedure on this subject are very specialised and complicated. This article is just a very general outline for
reference and cannot be relied upon as legal advice in any individual case.
If any advice or assistance is needed, please contact our solicitors. |
Published by ONC Lawyers © 2019 |