DALAM MAHKAMAH TINGGI MALAYA DI KUALA LUMPUR DALAM WILAYAH PERSEKUTUAN, MALAYSIA
GUAMAN NO: D7-22-593-2008
DENKO INDUSTRIAL CORPORATION BERHAD … PLAINTIF
1. LIM HONG LIANG … DEFENDAN-
2. CHIAH KIN LIN DEFENDAN
GROUNDS OF DECISION
1. By two separate agreements both dated 5.2.1996, the Defendants together with other directors of two companies known as Sun Industries Sdn Bhd and Valentime Lingerie Sdn Bhd [collectively, “the Acquired Companies”] agreed to sell the Acquired Companies to the Plaintiff. Pursuant to section 7.01 of both sale and purchase agreements, the Defendants jointly and severally warranted to the Plaintiff “that the combined profit before tax (as defined by international accounting standards and adopted by the Malaysian Association of Certified Public Accountants” of the Acquired Companies “as confirmed by the auditors of the Acquired Companies will not be less than the aggregate sum of
Ringgit Malaysia Three Million (RM3,000,000.00) (the “Guarantee Profits”) for each of the Guaranteed Financial Years”. The Guaranteed Financial Years was defined as “the financial years ending the 31st day of December 1996 and 1997” in section 2.01 of the sale and purchase agreements.
2. Subsequently, two supplemental agreements both dated 14.6.1996 were made varying the terms of the earlier sale and purchase agreements. One of the terms varied was section 7.01. The combined profit before tax of the Acquired Companies as confirmed by the auditors of the Acquired Companies was now warranted at “not … less than the sum of Ringgit Malaysia Two Million Five Hundred Thousand (RM2,500,000.00) for the Guaranteed Financial Year ending the 31st day of December 1996 and the sum of Ringgit Malaysia Three Million Five Hundred Thousand (RM3,500,000.00) for the Guaranteed Financial Year ending the 31st day of December 1997 (each of the two (2) aforementioned guaranteed amounts for the respective Guaranteed Financial Years is hereinafter referred to as “the Guaranteed Profits”)”. When the accounts for the Acquired Companies for the guaranteed financial year ending 31.12.1997 were prepared, the Plaintiff found that Sun Industries Sdn Bhd suffered a loss of RM2,899,000.00 while Valentime Sdn Bhd’s loss was RM886,000.00.
3. The Plaintiff then proceeded to enforce its rights under section 7.01 of the sale and purchase agreements read together with the supplemental agreements. The Plaintiff claimed the guaranteed profit of RM3.5 million to which the Defendants made a total payment of RM2.5 million. The current claim is for the balance sum of RM1 million outstanding. The
claim is denied. In addition, the Defendants have counter-claimed for a sum of RM1,505,320.00 being the amount claimed by Hong Leong Bank Berhad at the High Court in Kuala Lumpur [D4-22-15-2008] by reason of an alleged breach of section 14.01 of the sale and purchase agreements by the Plaintiff.
4. There are essentially two issues for determination:
a. whether the Defendants are liable under section 7.01 of the sale and purchase agreements; and
b. whether the Plaintiff has breached section 14.01 of the sale and purchase agreements.
Whether the Defendants are liable under section 7.01 of the sale and purchase agreements
5. It must be borne in mind that of the two guaranteed financial years, it is the accounts of the guaranteed financial year of 1997 as seen at exhibits P1 and P2 which forms the basis of the claim. P1 is the audited accounts for Valentime Lingerie (M) Sdn Bhd Bhd while P2 is that of Sun Industries Sdn Bhd Bhd.
6. The Plaintiff called three witnesses, two of whom gave evidence on the accounts. The first was Mr. B Bhaskar a/l Balakrishnan [PW1] the corporate accountant of the Plaintiff and his scope of work covered “financial accounting, costing, all matters relating to corporate governance, secretarial, taxation and corporate matters”. He testified that based on the audited accounts for the year ending 31.12.1997, the Acquired Companies did not achieve the targeted profit. In fact, the Acquired Companies suffered losses. The Defendants made partial payments and as at 22.3.2002, the amount due was RM1.6 million. A further sum of RM600,000.00 was then paid and in response to the Plaintiff’s query, the Defendants confirmed by letter dated 13.6.2003 that that payment of RM600,000 was for the profit warranty leaving a sum of RM1 million as still due. The second witness on the accounts was Mr. Onn Kien Hoe [PW3], partner of Crowe Howarth, the firm that conducted an investigative audit in 2003 on the Plaintiff and its subsidiaries. The investigative report was marked as exhibit P3. According to PW3, the investigative report was necessary as “it was to comply with the condition set by the Securities Commission in approving the corporate restructuring exercise of the Plaintiff”. This report included the examination of the audited accounts as seen in P1 and P2 and confirmed the loss for the guaranteed financial year of 1997.
7. Mr. Yip Fook Thai, learned counsel for the Defendants submitted that the appropriate persons to testify on the accounts ought to have been some person from KPMG Peat Marwick who audited the accounts and not PW1 or PW3. According to Mr. Yip, PW1 had no personal knowledge of the accounts as his evidence was based on the records kept by the Plaintiff. Section 7.01 of the sale and purchase agreements as amended
by the supplemental agreements envisaged confirmation of the combined profit before tax of the Acquired Companies by auditors of the Acquired Companies. It had not been proven that KPMG were the auditors of the Acquired Companies. The Defendants also took exception to the fact that the accounts were prepared by the Acquired Companies and then audited by KPMG. As for PW3, he or rather his firm did not prepare the audit report but instead prepared an investigative report. This report said to be unreliable because it contained information gathered from exhibits P1 and P2 which had not been independently verified by PW3. Mr. Yip contended that if verification had been done it will show that the accounts were inaccurate. Through the testimonies of Chiah Kin Lin [DW1] and Lim Hong Liang [DW2], the Defendants also took to task the provisions for “doubtful debts” and “stock losses” in the audited accounts and this is related to the accuracy of P1 and P2. Their evidence was substantially on these two items and these witnesses were obviously disgruntled. The issue was this. Since there were no “doubtful debts” and “stock losses” in the audited accounts for the year ending 31.12.1996, the provision for these items in the audited accounts for the year ending 31.12.1997 was highly questionable. The amounts set aside for these items were also substantial and had led to the Plaintiff’s claim.
8. The determination of this issue is dependent on the interpretation and construction of section 7.01 and it would therefore be beneficial to set out this provision in full:
“In consideration of the Purchaser entering into this Agreement and the Valentime SPA with the Vendors and the Valentime Vendors respectively at the request of Chiah Kin Lin and Lim Hong Liang
(collectively, the Guarantors”), the Guarantors hereby jointly and severally warrant to the Purchaser that the combined profit before tax (as defined by international accounting standards and adopted by the Malaysian Association of Certified Public Accountants) of the Company and Valentime (collectively, “the Acquired Companies”) as confirmed by the auditors of the Acquired Companies will not be less than the sum of Ringgit Malaysia Two Million Five Hundred Thousand (RM2,500,000.00) for the Guaranteed Financial Year ending the 31st day of December 1996 and the sum of Ringgit Malaysia Three Million Five Hundred Thousand (RM3,500,000.00) for the Guaranteed Financial Year ending the 31st day of December 1997 (each of the two (2) aforementioned guaranteed amounts for the respective Guaranteed Financial Years is hereinafter referred to as “the Guaranteed Profits”)”.
9. Since the agreement between the parties has been reduced into writing, it is the court’s function to interpret the intention of the parties as evinced from the plain words and language used, especially in section
7.01 – Bank of Credit and Commerce International SA (in Liquidation) v Ali and Others  1 All ER 961. In Kwan Chew Holdings Sdn Bhd v Kwong Yik Bank Bhd  6 MLJ 544 the Court of Appeal adopted with approval the several leading authorities on the interpretation of contracts. The Court of Appeal started with the case of Prenn v Simmonds  3 All ER 237 which was applied by the Federal Court in Citibank NA v Ooi Boon Leong & Ors  1 MLJ 282 and later in Keng Huat Film Co Sdn Bhd v Makhanlall (Properties) Pte Ltd  1 MLJ 24; to the decision of the House of Lords in Antaious Compania Naviera SA v Salen Rederierna AB  AC 191 before finally
referring to the current leading trilogy of cases, namely Mannai Investment Co Ltd v Eagle Star Life Assurance Co Ltd  AC 749; Investors Compensation Scheme Ltd v West Bromwich Building Society  1 ALL ER 98 and Bank of Credit and Commerce International SA v Munawar Ali  UKHL 8. In summary these authorities require an interpretation that “favours a commercially sensible construction” as such approach is more likely to give effect to the intention of the parties. Such an interpretation involves an objective examination of the factual matrix and the words used. In this exercise, it may even be a case that “ The meaning which a document (or any other utterance) would convey to a reasonable man is not the same as the same thing as the meaning of its words. The meaning of words is a matter of dictionaries and grammars; the meaning of the document is what the parties using those words against the relevant background would reasonably have been understood to mean. The background may not merely enable the reasonable man to choose between the possible meanings of words which are ambiguous but even (as occasionally happens in ordinary life) to conclude that the parties must, for whatever reason, have used the wrong words or syntax … “ per Lord Hoffmann in Investors Compensation Scheme Ltd citing Mannai Investment Co Ltd.
10. In this case, the primary arrangement between the parties concerns a sale of certain companies to which the Defendants have warranted that these companies were making profits. The profits before tax warranted were for the years yet to come, 1996 and 1997. In the case of the guaranteed financial year ending 31.12.1997, the sum warranted was RM3.5 million. But the warranty was conditional on the confirmation by the auditors of the Acquired Companies. What represents the “combined
profit before tax” of the Acquired Companies is what has been defined as such by “international accounting standards and adopted by the Malaysian Association of Certified Public Accountants”. From the language used, it is evident that the parties had resolved that the determination of the liability to pay would be by reference to audit reports and confirmation by the relevant auditors. This makes good commercial sense as these reports and the role of the auditor provide the necessary objectivity and neutrality to such determination. This is the plain intention of the parties as discerned from a reading of section 7.01 having regard to the factual matrix of the case.
11. I shall now apply those principles to the evidence presented at trial. Having heard the witnesses and having carefully scrutinized the documentary evidence, I am first of all, satisfied that exhibits P1 and P2 are the audited accounts of the Acquired Companies for the financial year ending 31.12.1997. This is held out in P1 and P2 themselves where KPMG Peat Marwick has stated “We have audited the accounts set out on pages 3 to 11”. It is of no consideration that these accounts were in the first place prepared by the Acquired Companies themselves. After all, accounts have to be prepared and the persons best qualified to do this must be the companies themselves. The auditors’ task is simply to audit those accounts. In P1 & P2, KPMG stated that “The preparation of the accounts is the responsibility of the Company’s directors. Our responsibility is to express an opinion on the accounts based on our audit.” As testified by PW1, such preparation and practice accords with approved auditing standards that have been promulgated in Malaysia. These standards in fact require audits to be planned and performed for the purpose of obtaining information and explanation which the auditors
consider necessary to provide them with evidence that enable them to give reasonable assurance that the accounts are free of material misstatements. The audit involves examining all documents and evidence relevant to the amounts and disclosure in the accounts as well as making an assessment of accounting principles used in the preparation of the financial statements. Basically, the auditors express their opinion as to whether the accounts give a true and fair view of the state of affairs of the companies.
12. I am further satisfied that the audits were conducted by the auditors of the Acquired Companies. PW3 testified that KPMG Peat Marwick was an independent audit firm and this was never really in doubt. Most of all, both reports have been accepted by the Board of Directors of the Acquired Companies as seen in P1 & P2. The Directors have affixed their signatures to these reports.
13. What needs to be considered next is whether the auditors have confirmed that the combined profit tax as defined by international accounting standards and adopted by the Malaysian Association of Certified Public Accountants is less than the amount warranted under section 7.01. In P1 and P2, it is clearly stated that the respective audits had been conducted “in accordance with approved Standards on Auditing in Malaysia”. In this regard then, I accept that any representation in the audit reports of the combined profit before tax of the Acquired Companies (or the profit before tax of each of these companies as two separate audits were conducted and presented) accords with the required definition. But,
I do not see any confirmation by the auditors within the meaning of section
7.01. What I do see however, is an express reservation of the auditors in P1 and it reads as follows:
“We were unable to satisfy ourselves as to the physical existence and valuation of stocks as at 31 December 1997 as the year end physical stock count was not properly performed and reconciled to the Company’s records and due to the lack of supporting documentation. Consequently, we are unable to satisfy ourselves as to the existence and accuracy of the valuation of stocks stated at RM10,269,000 as at 31 December 1997 included in the Balance Sheet.
In view of the significance of the matter set out in the preceding paragraph, we are unable to express an opinion as to whether the accounts give a true and fair view of the state of affairs of the Company at 31 December 1997 and of its results and cash flows for the year ended on that date.” (Emphasis is mine).
14. In the case of P2 which is the audited accounts of Sun Industries Sdn Bhd, the auditors similarly expressed their reservation. The value of the stock however was RM3,903,000. These reservations are extremely telling as section 7.01 requires a “confirmation” by the auditors of the Acquired Companies of the combined profit before tax of the Acquired Companies. In my mind, these reservations are clearly not confirmations as required under section 7.01. A comparison with the audited accounts for the guaranteed financial year ending 31.12.1996 at page 70C and 70D of Bundle A will readily reveal the sharp contrast in the conclusions made by the auditors, KPMG. In those audits, KPMG opined that “the accounts
give a true and fair view of the state of affairs … and of … results and cash flows for the year” of the Acquired Companies. Although these reservations concern the value of the current assets of the Acquired Companies, such reservations impact on the whole audit leading to the auditors’ concluding remarks that “we are unable to express an opinion as to whether the accounts give a true and fair view of the state of affairs of the Company at 31 December 1997 and of its results and cash flows for the year ended on that date.”
15. The Plaintiff next used the investigative report prepared by PW3 to support its contention of the existence of a loss suffered by the Acquired Companies for the year ending 1997. In my view, the report and the opinion of PW3 or Horwath do not fulfill the requirements of section 7.01. Howarth were auditors engaged by the Plaintiff to carry out an investigative audit report for the purposes of its restructuring exercise which required the approval of the Securities Commission. Although the exercise included looking at the Plaintiff and its subsidiaries that in turn encompassed the Acquired Companies, Howarth was not the auditor of the Acquired Companies. Further, PW3 based his testimony solely on the audit reports as prepared by KPMG and conducted no independent inquiry. As mentioned earlier, those audit reports already contained express reservations. Be that as it may, I am of the view that that would not have made any difference. Under section 7.01, the parties clearly intended that the auditors of the Acquired Companies confirm the position of the combined profit before tax of the Acquired Companies. This must refer to the auditors who audited the accounts at the relevant time and not to some other auditors auditing at a much later date and, for an entirely different purpose.
16. I must touch on the matter of the payment of RM600,000.00, whether such payment was, as claimed by DW1 and DW2, an advance payment requested by another director of the Acquired Companies; or was it payment towards the profit warranty as claimed by the Plaintiff. I observed that the Plaintiff did not bring up the matter of the earlier payments amounting to RM1.9 million but chose to focus on this payment of RM600,000.00. I would have thought the larger payments would be relevant to the issue of liability under the profit warranty. However, having made that observation, I must say that the payments of RM600,000.00 or even of the earlier RM1.9 million are actually immaterial to the issue at hand. It is of no concern why those payments were made since the present claim for the balance sum of RM1 million is premised on section
7.01 and that provision clearly requires confirmation by the auditors of the Acquired Companies. As said earlier, the requisite confirmation is wanting in the facts of this case. The auditors, KPMG Peat Marwick are quite specific in their report in that they are “unable to express an opinion as to whether the accounts give a true and fair view of the state of affairs of the Company at 31 December 1997 and of its results and cash flows for the year ended on that date”.
17. Without this confirmation and with the auditors expressly stipulating their concern not only as to the existence but the accuracy of the valuation of stocks at RM10,269,000 and RM3,903,000 which in turn form part of the basis of the loss suffered, the claim of the Plaintiff cannot be sustained. The Plaintiff’s claim is therefore dismissed.
Whether the Plaintiff has breached section 14.01 of the sale and purchase agreements
18. The Defendants’ counter-claim is that the Plaintiff breached section
14.01 of the sale and purchase agreements when it failed to “use its best endeavours to obtain the agreement of Hong Leong Bank Berhad … to discharge the properties and guarantees listed in the Fifth Schedule and to accept the Purchaser’s guarantee in substitution thereof hereto after the Completion Date”. The 2nd Defendant has been sued by Hong Leong Bank Berhad at the High Court in Kuala Lumpur for the recovery of RM1,505,320.00. The counter-claim is for that sum as well as a sum of RM100,000.00 as general damages for the breach.
19. The burden of proof lies with the Defendants to show that there has been a failure on the part of the Plaintiff to use its best endeavours to obtain a discharge of the properties and guarantees from Hong Leong Bank Berhad. All that is offered as evidence is the suit filed. This is plainly insufficient to prove breach of section 14.01. Mr. Tan Poh Meng [PW2], the solicitor who prepared the sale and purchase agreements was cross-examined on his interpretation of section 14.01. It was his evidence that the provision only required the Plaintiff to use their best endeavours. I agree with him. In my view, the language in section 14.01 is self-evident of the extent of the Plaintiff’s obligation in this respect. Further, section
14.01 provides that “For the avoidance of doubt, the Purchaser does not undertake to obtain the discharge of the aforesaid properties and guarantees under this Article”. The obligation imposed on the Plaintiff is not absolute. The Plaintiff was only required to use its best endeavours to obtain the discharge and not that a discharge must be obtained at all
costs. No evidence was also led on the alleged damage suffered. In the circumstances, the counter-claim must also be dismissed.
20. Having regard to my findings on both the claim and the counterclaim, I further order both parties to bear their own costs.
Dated: 5th February 2010
(DATO’ MARY LIM THIAM SUAN)
JUDICIAL COMMISSIONER HIGH COURT KUALA LUMPUR (COMMERCIAL DIVISION)
Shamesh Jeevaretnam for the Plaintiff Messrs. Jeevaretnam & Co
Yip Fook Thai for the Defendants Messrs. Yip & Co