Hong Kong: Repudiation of Contracts - Pitfalls for the Unwary

Case Background

A recently reported case in Hong Kong has highlighted some of the problems arising when a contract is repudiated. The particular contract was a share transfer agreement ("the Agreement") by which the Plaintiff agreed to purchase and the Defendant agreed to sell 30,000 shares in a private company ("the Company") for US$300,000.00 payable in five instalments. The Agreement also provided that the shares would be transferred to the Plaintiff upon all payments being made.

Pursuant to the Agreement, the Plaintiff paid the initial three instalments. However, before the fourth payment was due the Defendant disposed of all his shares in the Company to a third party. As a result, the Plaintiff alleged that the Defendant had repudiated the Agreement by disposing of his entire shareholding in the Company, as the Defendant would no longer be able to transfer the 30,000 shares to the Plaintiff under the Agreement. The Plaintiff also alleged that the Agreement had been brought to an end, and accordingly he did not pay the fourth instalment when it fell due.

In the Court of First Instance, the trial judge held in favour of the Plaintiff on the basis that the Defendant had renounced the Agreement by disposing of all his shares in the Company. The judge also found that the Plaintiff accepted the repudiation by not paying the fourth instalment. The Defendant appealed and the matter was brought to the Court of Appeal.

One of the Appeal Judges, Mr Justice Cheung JA, examined the legal principles and confirmed that in the absence of any express declaration by the wrongdoer not to perform his obligations under a contract, a repudiation occurs when the actions of the wrongdoer are such as to lead a reasonable person to conclude that he no longer intends to be bound by the contractual provisions. For anticipatory breach, it must be proved in fact and not in supposition. In this case, the Defendant was only required to transfer the shares to the Plaintiff six months after the repudiation alleged by the Plaintiff. When the Defendant disposed of all his shares, he did not give any indication to the Plaintiff that he would not be able to perform the Agreement later. The shares contracted to be sold were not a specific lot. It was therefore not a foregone conclusion that when the fourth instalment was due, it would be impossible for the Defendant to perform the Agreement, as he could have obtained shares from other shareholders to complete the sale.

The Appeal Judge also reconfirmed that a party's repudiation of a contract opens up an election for the aggrieved party to treat the contract as terminated or to affirm the contract. In the former situation, an acceptance of the repudiation must be unequivocally conveyed to the repudiating party. The Appeal Judge held that in this case, the Plaintiff's failure to pay the fourth instalment, without telling the Defendant that the reason was due to the Defendant's repudiation, was not an unequivocal act of acceptance of repudiation.

Accordingly, the Appeal Judges unanimously allowed the appeal. As the Defendant only adopted a defensive position in this case and did not raise any counterclaim against the Plaintiff, the Court of Appeal did not need to deal with any issue regarding the Plaintiff's breach of the Agreement by failing to pay the fourth instalment.

Whether an act of a contractual party can be regarded as a repudiation, thereby entitling the other party to choose to terminate the contract, is often the subject of litigation.

This case starkly demonstrates the importance of taking proper legal advice in response to any repudiation of a contract by the other party. The Appeal Judge stressed that there is no halfway situation by which the innocent party is able to keep the contract alive and yet not perform his contractual obligations. The innocent party must clearly and unequivocally accept the repudiation in order to terminate the contract, otherwise the contract will subsist and the parties remain bound to perform their respective contractual obligations. If the innocent party does not accept the repudiation unequivocally and fails to perform his obligations, he will run the risk of being in breach himself and allow the original wrongdoer to "turn the tables" on him. As indicated by Mr Justice Ma JA, this conclusion is "often ignored in the business world".

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.