When would the Court interfere with company directors’ refusal to register transfer of shares?
The Hong Kong Companies Ordinance (Cap 622) (“CO”) provides for a shareholder’s statutory right to have shares transfer to be registered. Section 151 of the CO states that:
(1) “The transferee or transferor of shares in a company may lodge the transfer with the company.
(2) Within 2 months after the transfer is lodged, the company must either—
(a) register the transfer; or
(b) send the transferee and the transferor notice of refusal to register the transfer.
(3) If a company refuses registration, the transferee or transferor may request a statement of the reasons for the refusal.
(4) If a request is made under subsection (3), the company must, within 28 days after receiving the request—
(a) send the person who made the request a statement of the reasons; or
(b) register the transfer.” (emphasis added)
Where a company refuses to register a transfer of shares, section 152(1) of the CO may be invoked by the transferor and/or transferee to apply to the court for an order to have the transfer registered by the company. Under section 152(2) of the CO, a court may disallow the refusal and order that the transfer be registered forthwith by the company if it is satisfied that the application is well founded.
In practice, Hong Kong courts have proved very reluctant to invoke section 152 of the CO and intervene in the exercise of directors’ discretion concerning the registration of share transfers. In Ngan Kwing Sun v Top Well Industrial Ltd  HKCFI 3096, the Court of First Instance (“CFI”) decided to interfere with the company’s decisions to refuse registration of transfer of shares and held that the Plaintiff’s applications for registration under section 152 of the CO are well-founded.
Ngan Kwing Sun v Top Well Industrial Ltd concerns two originating summonses, where the Plaintiff applied for relief pursuant to section 152 of the CO that Top Well Industrial Ltd (“Top Well”) and Hope Yet Textile Co Ltd (“Hope Yet”) (collectively, “Companies”), being two Hong Kong private companies limited by shares, do register the transfer of shares, namely, 500,000 shares of Top Well and 25,000 shares of Hope Yet (collectively, “Shares”), acquired by the Plaintiff.
The registered shareholders of Top Well consist of:
1. Chan Yik Ping (“Chan”), with 500,000 shares;
2. Leung Kai Cham (“Leung”) (who passed away in 2012), with 500,000 shares;
3. The Plaintiff, with 500,000 shares; and
4. Lee Yiu (“Lee”) (who passed away in May 2009), with 500,000 shares.
Following the deaths of Lee and Leung, who were directors of Top Well, Chan has become the sole director of Top Well. In this connection, Article 11 of the Articles of Association of Top Well provided that:
“Unless and until otherwise determined by an ordinary resolution of the Company, the Directors shall be not fewer than two in number… “ (emphasis added)
It is undisputed that no ordinary resolution has been passed to reduce the number of directors to one under Article 11.
The registered shareholders of Hope Yet are:
1. Chan, with 16,666 shares;
2. Leung, with 16,667 shares;
3. The Plaintiff, with 6,250 shares;
4. Lee, with 25,000 shares; and
5. Top Well, with 35,417 shares.
Following the deaths of Lee and Leung, Chan and Top Well have become the only two directors of Hope Yet. As Chan is the sole director of Top Well, he is effectively in sole control of Hope Yet.
Purchase of Lee’s Shares by the Plaintiff
By two agreements both dated 16 January 2009, the Plaintiff agreed to purchase the Shares from Lee, who then passed away on 23 May 2009. The instruments of transfer and bought and sold notes were executed between Mrs Lee, the Administratrix of the Estate of Lee, and the Plaintiff. Considerations for the purchase of Shares were duly paid by the Plaintiff. By two letters both dated 1 November 2018, the Plaintiff requested Top Well and Hope Yet to register the transfer of Shares.
Refusal of registration
The Plaintiff’s registration requests were refused pursuant to two letters both dated 24 December 2018 from Messrs Ford, Kwan & Co, the firm which represented Chan, for essentially the same reason:
“We are instructed that…the administratrix of the Deceased [Lee] does not have beneficial ownership of the said 25,000 ordinary shares. In the circumstances, our client considers that it is not proper to register the transfer of the said 25,000 ordinary shares.” (emphasis added)
The Articles of Association of both Companies respectively provide for the powers of the boards of directors to refuse registration of transfer of shares:
1. Top Well – its directors may in their absolute direction and without assigning any reason therefor refuse to register a transfer of any share; and
2. Hope Yet – its directors may decline to register any transfer of shares without giving any reason.
The Companies maintained the stated reason for refusal regarding the beneficial ownership of the Shares and further submitted to the CFI that:
1. The sale and purchase of the Shares was suspicious; and
2. The registrations would not be in the interests of the Companies, as the Companies would become under the control of the Plaintiff as the majority shareholder, and the Plaintiff is not to be trusted.
The CFI’s decision
The CFI summarized the court’s approach regarding a company’s decision not to register a transfer of shares as follows:
1. It is trite law that the court will not interfere with directors’ decision not to register a transfer unless it can be demonstrated that such decision is not one which a reasonable board of directors can bona fide believe to be in the interests of the company, or that the power was exercised by the directors for a collateral purpose;
2. If the directors’ decision is one which a reasonable board of directors can consider to be in the interests of the company, the court will presume that the directors acted bona fide in reaching their decision;
3. Where the articles of association state that the directors may refuse register transfer of shares without giving any reasons, they must now be read subject to section 151(3) of the CO; and
4. The court may examine the statement of the reasons provided by the directors to see if the decision not to register can be justified.
The CFI found that the Plaintiff’s applications for registration of the transfers of Shares are well-founded for the following reasons:
The case of Top Well
A fundamental flaw in Top Well’s case was that Chan by himself alone could not have exercised the power of the board of directors to refuse the transfer. There was no properly constituted board because of insufficient number of directors. It is noted that Messrs Ford, Kwan & Co was acting for Chan (rather than Top Well) when it issued the letter to refuse the Plaintiff’s registration request.
Furthermore, the alleged issue with the beneficial ownership in the shares of Hope Yet belonging to Lee was held not to be a valid ground for refusing to register the transfer of shares in Top Well. The Companies are separate entities despite being related to each other.
It is well recognised that companies are not concerned with beneficial ownership of shares. In this connection, Article 5 of Top Well’s Articles of Association provides that:
“[s]ave as herein otherwise provided, the Company shall be entitled to treat the registered holder of any shares as the absolute owner thereof, and accordingly shall not, except as ordered by a Court of competent jurisdiction or as by Ordinance required, be bound to recognise any equitable or other claim to, or interest in, such shares on the part of any other person.” (emphasis added)
Looking at the documentary evidence, the CFI was not convinced that the purchase of Shares by the Plaintiff was suspicious. This suspicion was not raised by Messrs Ford, Kwan & Co in its letter of refusal dated 24 December 2018, and the purchase by the Plaintiff was supported by agreements, payments and various documents produced by the Plaintiff, including statutory declarations from inter alia Mrs Lee acknowledging the purchase.
On the evidence, the CFI also did not accept the allegation of the Plaintiff’s bad character as a valid ground for the Companies to refuse the registration and considered that such allegation was not made with conviction. The CFI noted that the Companies have the burden of proof to establish the allegation and much of the alleged misconduct of the Plaintiff happened before Chan’s participation in the Companies’ businesses.
The case of Hope Yet
The CFI’s analysis of the case of Hope Yet is similar. It is questionable whether the refusal to register the Shares was a decision of the board of directors of Hope Yet, as Messrs Ford, Kwan & Co did not act for Hope Yet when it issued the letter of refusal. The equivalent of Article 5 of Top Well’s Articles of Association was also provided for in Hope Yet’s Articles of Association.
Directors should be mindful that notwithstanding that the articles of association of the company may give them absolute and unfettered discretion to refuse to register any transfer of share, such power must always be exercised bona fide in the interests of the company and not for any collateral purpose.
Directors should also note the operation of the sections 151(3) and 151(4) of the CO, which gives a right to the transferor and/or transferee to request a statement of the reasons for refusal. The company must comply with the request within 28 days or otherwise register the transfer within that time. In the old Companies Ordinance (Cap 32), there was no requirement for the notice of refusal to be accompanied by reasons for the refusal upon request. The sections 151(3) and 151(4) of the CO will assist a transferee/transferor to challenge a decision by directors not to register a transfer, and the court may scrutinise the statement of reasons for refusal given at the material times to determine whether directors have reached their decision bona fide.
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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 © 2020