Topic Four

[A]

Contract Law: Vitiating Factors

Introduction

What do vitiating factors mean?

Vitiating factors are those factors which may affect the validity of a contract even though
all the 4 elements of contract (offer, acceptance, intention and consideration) are present.
What are the major vitiating factors in Hong Kong?
The major vitiating factors are as follows: (a) Misrepresentation
(b) Illegality
(c) Undue Influence
(d) Unconscionable contracts
[B]

Misrepresentation ()

What does it mean by misrepresentation?

An untrue statement of important fact materially misleading the innocent party

to make the contract.
It is made before the contract or at the time of contract but the written contract
provides that its terms are final. It is not the same as breach of contract.

Shum v Chui [2001] HKEC 651

An agreement concerning sale of property: the vendors showed the buyers a house.
There were a garden and a garage within the setting of the house.
In fact, the garden and the garage were leased by the government to the vendors and
they had to be returned to the government when the house was sold.
The vendor did not tell this to the buyer. The buyers thought they could have all the 3
items.

Held: A partly untrue statement could be a misrepresentation if it misled the

innocent party to make the contract. There had been a misrepresentation in this case
as the vendors could not transfer all the 3 items to the buyer.
* Where there is a legal duty of disclosure () of important information, silence
will amount to misrepresentation. The duty arises in cases involving limited types of
contracts requiring the utmost good faith () like insurance contracts. With effect
from April 2013, a seller of a first-hand residential property must disclose some important
information (like developments by the government outside the property) to the buyer
under the Sale of First Hand Residential Properties Ordinance.
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An untrue statement of fact

An incorrect description of the size of a flat was a fact and therefore a misrepresentation:
Yili Concepts (HKG) Ltd. v Lee [2000] HKEC 1043.
Chan v Church Body of the Hong Kong Shengkung Hui [2001] 1 HKC 612

The seller stated that its flat was regal in its brochure. The purchasers later
complained that the spiral staircase in the flat was not wide enough.

Held: The statement was an honestly made statement of opinion and not a
misrepresentation. The staircase was good in quality.
Cf. Smith v Land & House Property Corporation (1884) 28 Ch D 7

The sellers offered to sell their land to the purchaser. The sellers said that there was
a tenant on the land and he was a most desirable tenant.
The tenant had sometimes delayed in paying rental before and he owed rental to the
sellers at the relevant time.

Held: The statement could not be said to be a statement of opinion since it could not
have been reasonably held by the sellers. It was a false statement of fact.
Chao v Worldpart Industrial Ltd. [2001] HKEC 1551

A land developer honestly believed and stated in its brochure that there would be
amenities in a housing estate by the completion date. The brochure also mentioned
that the information in it were for reference only.
The amenities could not be ready for use by the completion date.

Held: The words, for reference only, meant the provided information did not constitute
promises. The buyer could still sue the land developer based on misrepresentation if the
land developer did not honestly believe in the information. But, there was no
misrepresentation in this case. The land developer had honestly made a statement of its
intention in the brochure.
A statement to provide for something in future is a false statement of fact and not a
statement of intention if the maker of statement is aware that there is a risk, even if a
small one, that the statement cannot be fulfilled (British Airways v Taylor [1976] 1 All
ER 65).

An important statement of untrue fact (e.g. a wrong statement on the size of the
relevant property: Green Park Properties Ltd v Dorku Ltd. [2001] 3 HKLRD 760) as
it must have materially induced the innocent party to make the contract.

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It follows that, e.g., if the innocent party knew that the statement was untrue or did
not enter into the contract because of the misrepresentation (Attwood v Small (1838)
6 Cl & Fin 232: the seller made a misrepresentation but the purchasers bought the land
upon the advice of their own advisor), he cannot complain on the ground of
misrepresentation.
* Note, however, that the innocent party does not have a legal duty to find out from
his given information whether the statement is accurate or not. He can still sue the
maker of the statement even though he could have known that the statement is untrue by
checking the information provided: Redgrave v Hurd (1881) 20 Ch D 1.
Are there different types of misrepresentation?
Yes, there are. 3 types. They are as follows: (a) Fraudulent misrepresentation ()
(b) Negligent misrepresentation ()
Innocent misrepresentation ()
(a) Fraudulent misrepresentation
Where the maker of the statement knows that the statement is inaccurate, he has made
a fraudulent misrepresentation (Leung v William [2007] HKCU 991: the sellers sold the
roof of a building to the buyers and told the buyers that the canopy on the roof was an
authorized structure while knowing it was not)
(b) Negligent misrepresentation
Under section 3(1) of the Misrepresentation Ordinance (cap.284 of the Laws of Hong
Kong), once an untrue statement has been made, the defendant is required to prove that
he reasonably believed in the truth of the statement. If he fails to prove this, he will
be liable for negligent misrepresentation.
Long Year Development Ltd v Tse & Others [1991] 2 HKC 393

A and B bought a flat. They did not inspect it but one of them took a look at its
surrounding area. There she saw the tenant of the flat drove his car into a covered car
park. She thought that this car park was the one to be sold to her.
A and B re-sold the flat to C saying that it had a covered car park.
In fact, the car park that A and B had purchased was uncovered.

Held: There was no fraudulent misrepresentation as A and B honestly believed in the

truth of their statement. However, their belief was not reasonably held. They could not
base their belief on such a simple observation. They should have inspected the flat more
carefully. There had been a negligent misrepresentation in this case.

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(c) Innocent misrepresentation

Innocent misrepresentation refers to a misrepresentation which has been made neither
fraudulently nor negligently (e.g. a wrong statement made in the company prospectus
() due to reliance on an expert: section 40(2)(d) of the Companies Ordinance,
cap.32 of the Laws of Hong Kong).
What is the effect of and remedies for misrepresentation?
Misrepresentation makes the contract voidable ( ) (not effective only if the
affected party can satisfy some conditions based on fairness to rescind the contract
to be discussed below). In addition, there are different remedies for different types of
misrepresentation under the common law and / or Misrepresentation Ordinance: Fraudulent Misrepresentation

Negligent
Misrepresentation
Damages covering all the
incurred
losses
under
section
3(1)
of
the
Misrepresentation
Ordinance, and,

Innocent
Misrepresentation
A smaller sum of damages
under section 3(2) of the
Misrepresentation
Ordinance or,

Damages for fraud under

common law covering all the
incurred losses (Doyle v
Olby Ltd. (1969) 2 QB 158),
and,
Aggravated damages under
common law for injury to
feelings, if any: Archer v
Brown [1985] QB 401, and,
Rescission (cancelling the Rescission (cancelling the Rescission (cancelling the
contract)
contract)
contract)
(i) Damages
In Long Year Development Ltd v Tse & Others [1991] 2 HKC 393, the court held that A
and B had to compensate the followings to C under the Misrepresentation Ordinance:

the deposit for buying the flat (i.e., rescission), and,

in case C would originally have purchased another flat with a covered car park for a
similar sum and made profits from re-selling this flat at that time, such profits could
be recovered (i.e. the damages). The court did not, however, award these profits to C
in this case since there is no evidence that C could have purchased such a flat and
made profits from re-selling it when the relevant contract with A and B was formed
any loss to be recovered must have been incurred as a result of the
misrepresentation.

(ii) Rescission
Rescission for both misrepresentation and breach of contract (*only possible in case of
breach of conditions or breach of innominate terms which have serious consequences (see
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topic 3 materials)) will not be awarded in the following circumstances (based on the idea
of fairness): (a) Where the innocent party chooses to affirm the contract after he is aware of the
misrepresentation (after the contract formation) (Redgrave v Hurd (1881) 20 Ch D 1) or
where he continues to use a defective product after he has inspected it and he should have
been reasonably able to discover the defect from the inspection according to the Sale of
Goods Ordinance);
(b) A reasonable time has lapsed after the contract is made (e.g. a buyer failed to
request for the return of a painting by John Constable 5 years after he has bought it as
he could have found out the painting was not painted by John Constable within a few
days after he had purchased it: Leaf v International Galleries [1950] 2 KB 86);
Porter v General Guarantee Corp. [1982] RTC 384: failure to return a defective car within
2 months a reasonable time has lapsed after the contract was made.
(c) The innocent party is unable to restore substantially the original position before the
formation of the contract (e.g. he has changed the nature of the goods).
(d) In situation (c) above in case the innocent party has already consumed the services or
the goods whether there can be rescission will depend on whether there has been a total
failure of consideration (no benefit received from the contract at all). If not, there
would be no rescission or it would be unjust to the guilty party.
[C]

Illegality ()

What are illegal contracts?

Contracts against the criminal law (e.g. a contract to kill someone)

Immoral contracts (e.g. prostitution contract)
Contracts restricting freedom to marry during the contract period (De
Francesco v Barnum (1890) LR 45 Ch D 430)
Contracts / contract terms in restraint of trade (contracts / contract terms which
restrict others right to work in the same trade) ( ) which are
unreasonable

How about the validity of contracts / contract terms in restraint of trade?

Susan Buchanan v Janesville Ltd. [1981] HKLR 700

A hairdresser agreed not to work in Hong Kong as a hairdresser after the termination
of his employment contract for one year.

Held: this clause was unreasonable in respect of the geographical location, though not
as to the time period. The clause was therefore invalid.
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Kao Lee & Yip (A firm) v Koo & others [1995] 1 HKLR 248

A junior partner agreed that for a period of 5 years after he left his law firm he would
not solicit legal business from those clients of the firm within the last 3 years of his
serving the firm.

Held: The clause was unreasonable and therefore invalid. The junior partner was not a
full capital partner in the firm. The 5-year ban was unnecessary for the protection of
the legitimate interests of the firm (the 5-year ban could, however, apply to a full
capital partner: Bridge v Deacons [1984] A.C. 705).
In Ho v Margot [1991] HKLR 245, the court said that a stockbroker could be forbidden to
contact the customers of his employers for one year after he left employment. But, a 3year ban in such a case would be unreasonably long and invalid.
Fortune Realty Co Ltd v Chan [2001] HKEC 609: a clause which forbade a manager of
an estate agency to carry on trade in selling / purchasing / leasing of land for 6 months in
the Ma On Shan district after he left his employment was held to be reasonable and valid.
In Rever (AMA) Salon Ltd v Kung [2003] 2 HKC 268, the court upheld (a) a one-year
restriction of a manageress of a hair salon to work within one mile of the Marco Polo
Hotel after her employment contract ended, and, (b) a clause disallowing the hair stylists
of the hair salon to copy the names and the addresses of their clients for use after their
employment contract ended (this was because the hair salon had to protect its legitimate
interests, namely its confidential information).
What is the effect of an illegal contract?
An illegal contract / illegal contract term is void ( ) (not effective as from its
beginning and can be rescinded at any time).
[D]

Undue influence ()

What is undue influence?

Undue influence arises when a party agrees to the contract with another party who is
capable of influencing him.
(a) Presumed undue influence
In Royal Bank of Scotland and Etridge (No 2) [2002] 2 AC 773, the court said that where
parties having a confidential relationship (relationship involving trust and confidence
imposed by law) make a contract, the law presumes that the weaker party has made the
contract under the influence of the superior party.

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Parties having a confidential relationship are: parents / children (until the children have
been emancipated in such a case: Re Paulings Settlement Trusts [1964] Ch 303),
lawyer / client, and doctor / patients (other court cases suggest accountants / clients and
religious leaders / their followers also have a confidential relationship). There is,
however, no presumption of undue influence between husbands and wives (National
Westminster Bank v Morgan [1985] 1 All ER 821) and between brothers (Bank of China
(Hong Kong) Ltd. v Wong [2002] 1 HKC 83).
If the contracting parties do not have a confidential relationship but the weaker party
can show that he, as a matter of fact, has trust and confidence on the superior
party on matters in which the superior party has knowledge / skills, the court can
also determine that the weaker party has made the contract under the influence of the
stronger party. E.g. a customer relied on a bank for its advice on banking matters over a
long time: Lloyds Bank v Bundy [1974] 3 All ER 757. On the other hand, in National
Westminster Bank v Morgan [1985] 1 All ER 821, the court said that if a customer only
had one brief meeting with a bank officer before making the mortgage transaction, the
customer cannot be said to have trust and confidence on the bank at law.
In Royal Bank of Scotland and Etridge (No 2) [2002] 2 AC 773, the court said that in a
case where undue influence exists, the weaker party can rescind the contract if he can
show that the transaction is manifestly disadvantageous to him. The superior party
then has to disprove the presumed undue influence to uphold the contract by showing the
weaker party has received independent advice. In National Westminster Bank v
Morgan [1985] 1 All ER 821, The court said that a mortgage transaction is normally an
ordinary act as the loan can help the customer financially and independent advice is not
required.
But, the making of a personal guarantee by a wife to secure the debts of her husbands
company is manifestly disadvantageous to her and the bank must make sure she has been
given independent advice: Royal Bank of Scotland and Etridge (No 2) [2002] 2 AC 773.
In O Sullivan v Management Agency and Music Ltd. [1985] QB 428, some musicians
formed a promotion contract with their trusted manager. The manager could have much
more benefits derived from this contract than the musicians. In addition, the manager did
not ask the musicians to have independent advice. The court held that the contract was
manifestly disadvantageous to the musicians and allowed them to rescind the contract.
(b) Actual undue influence
According to Bank of China (Hong Kong) Ltd. v Wong [2002] 1 HKC 83, in a case
where there is no presumed undue influence, a party can still rescind the relevant
transaction if he can prove that the other party has influenced him improperly. The
weaker party does not need to show that the transaction is manifestly unfair to him.
Examples of actual undue influence mentioned by courts include improper pressure
(Esquire Electronics Ltd. v The HongKong and Shanghai Bank [2005] 3 HKLRD 358).

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Can a party to a contract enforce a contract against the innocent party where the
latter has agreed to it under the undue influence of a third party?
No, if the party to the contract knew or ought to have known the innocent party has
agreed to make the contract under the undue influence of a third party (Li v Bank of
China (Hong Kong) Ltd. [2005] 1 HKLRD 106). The contract will then be rescinded.
China State Bank Ltd. v Fung & others [2001] 3 HKLRD 458: a bank ought to make an
inquiry with a customer as to whether he had been under undue influence of another in
making a transaction whenever the terms were not to his benefit. An example is a
guarantee to secure others debt.
What is the effect of a contract made because of undue influence?
It is voidable and can be cancelled by the innocent party in light of the situations stated
earlier (e.g. rescission allowed if there has not been a lapse of reasonable time a
guarantee could be rescinded 2 months after its making in light of the undue influence:
Diners Club International (Hong Kong) Ltd v Ng [1987] 1 HKC 78).
Note that assuming a borrower has entered into a mortgage transaction with a bank under
its undue influence, he has to repay to the bank in order to rescind the mortgage (i.e.
restoration of the pre-contractual position): Li v Bank of China (Hong Kong) Ltd. [2005]
1 HKLRD 106.
[E]

Unconscionable Contracts ()

Under the Unconscionable Contracts Ordinance, the courts have the power to revise or
even refuse to enforce those terms which are unreasonable in contracts involving sale
of goods and supply of services (but this Ordinance does not apply to contracts of
insurance services, etc).
The following are the factors deciding whether the court will carry out this power:

Is the bargaining power of the parties equal?

Can the consumer find alternative source of supply (about the same price in
return for more or less same quality of service)?
Has the consumer been induced or pressurized to agree to the contract? Has any
unfair tactics been used against the consumer?
Does the consumer understand the contract?

Hang Seng Credit Card Ltd & others v Tsang & others [2000] 3 HKC 269

Certain contract terms unfavourable to consumers (consumers had to pay

administration costs if actions were taken against them) were printed in small fonts
and not explained to them in a language that they could understand.

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The consumers were ordinary citizens while the suppliers of service (credit card
companies) were powerful corporations.
Most other credit card companies had similar contractual provisions.

Held: Given the circumstances, these terms could not be enforced against the consumers.
For contracts not involving sale of goods and supply of service, they can also be made
ineffective if they are unconscionable by a more demanding common law standard. In Lo
v Cheung [2000] 2 HKLRD 270, some owners of land were convinced by the agent of a
land developer to sell their house at a low price to it. The owners were illiterate, old and
they had no independent advice. The court decided that the land developer could not
enforce the contract.
Summary
Vitiating factors
Misrepresentation and undue influence
Illegality
Unconscionable contracts

Effects on the contract

Voidable
Void
Subject to revision or non-enforcement

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Suggested Questions
1. Raymond visited company A, a tourist agency. He was given a brochure concerning a
trip to Japan. The brochure mentioned that the hotel for stay in the trip was majestic
and one of the tourist spots to be visited was a famous spa resort (name of the spa
resort provided). Raymond then left company A. He visited it again two weeks later
and paid money for the said trip. When he was in Japan, he felt disappointed since
the hotel was beautiful but not as majestic as he expected and the spa resort had been
closed due to renovation. After Raymond came back to Hong Kong, he demanded for
refund from Company A. Company A explained that as it had been informed by the
spa resort that there was a chance that the renovation work could be finished before
the trip, it gave the brochure to him which said that the spa resort was one of the
tourist spots to be visited.
Discuss whether Raymond can demand for refund from company A.
2. Crystal is a successful actress and Wilburn is her manager. Wilburn helped Crystal in
handling all her personal and business affairs over the last few years. Crystal trusted
Wilburn a lot. On one occasion, Wilburn offered to sell his shares in company A to
Crystal. Crystal happily agreed. She then found out that the market price of the
relevant shares was falling sharply.
Discuss whether Crystal can cancel the contract she made with Wilburn.
3. Cliff is an insurance agent. Under the agreement between him and his company
(company A) he agreed not to do the followings after he left it: (a) working as an
insurance agent in an area within one square mile of company A for three years, (b)
enticing the customers of company A away from it, and (c) telling the trade secrets of
company A to anyone.
Discuss whether Cliff is bound by the above terms he agreed with company A
Suggested Answers
Q1

Raymond could not go to the spa resort and the hotel was not as majestic as he
expected misrepresentation?
Define misrepresentation
The statement about the hotel a statement of facts or an honestly made statement
of opinion?
Smith v Land & House Property Corporation
The statement about the spa resort a false statement of fact or an honestly made
statement of intention?
British Airways v Taylor

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Assuming that there has been misrepresentation made, did it concern an important
untrue fact which materially misled Raymond to make the contract?
Green Park Properties Ltd v Dorku Ltd.
The type of misrepresentation is not important in this case since Raymond just
wanted to rescind the contract.
Rescission available?

Q2

Undue influence?
Presumed undue influence based on the existence of a confidential relationship?
Presumed undue influence based on Crystals trust and confidence in Wilburn on
financial matters as a matter of fact (Royal Bank of Scotland and Etridge (No 2))?
Manifestly disadvantageous transaction? National Westminster Bank v Morgan
Was the price unfair to Crystal (Lo v Cheung a case concerning an unconscionable
contract, in this case the court took into account the price in determining whether the
relevant contract was unfair)? Unlikely as the price fell after the transaction was
made in our case.
Any actual influence (Bank of China (Hong Kong) Ltd. v Wong)?
Rescission available?

Q3

A contract term in restraint of Cliffs trade

The issue of illegality
Was it reasonable in respect of the geographical location and as to the time period?
Susan Buchanan v Janesville Ltd., Kao Lee & Yip (A firm) v Koo & others and
Fortune Realty Co. Ltd. v Chan
How about the restriction as to no enticing of old customers?
Was it reasonable to protect the legitimate interest of company A?
Kao Lee & Yip (A firm) v Koo & others
How about the restriction as to not to tell the trade secrets?
Was it reasonable to protect the legitimate interest of company A?
Rever (AMA) Salon Ltd v Kung

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Readings
D.K. Srivastava, cap. 4 (pp.167-180, 182-195 and 204-210 of the 2014 edition).
Anne Carver, cap.11.
Acknowledgement
The writing of this topic is based on the following materials: K. Arjunan & A. Majid, Business Law in Hong Kong (Hong Kong: LexisNexis, 2 nd ed.,
2009)
D.K. Srivastava, Contract Law, D.K. Srivastava, ed., Business Law in Hong Kong
(Hong Kong: Sweet & Maxwell Asia, 3rd ed., 2012)
Michael Fisher and Desmond Greenwood, Contract Law in Hong Kong (Hong Kong:
Hong Kong University Press, 2nd ed., 2011)
Stephen Hall, Law of Contract in Hong Kong: Cases and Commentary (Hong Kong:
LexisNexis, 3rd ed., 2011)
Anne Carver, Hong Kong Business Law (Hong Kong: Longman Hong Kong Education,
6th ed., 2004)
D.K. Srivastava and A.D. Tennekone, The Law of Tort in Hong Kong (Hong Kong:
Butterwoths Asia, 2nd ed., 2005)
Vanessa Stott, Hong Kong Company Law (Hong Kong: Longman Hong Kong
Education., 11th ed., 2005)
Andy Chiu et al, Introduction to Hong Kong Business Law (Singapore: Prentice Hall,
2001)
Eric Cheung, Contract Law, Albert Chen, et al, eds. General Principles of Hong Kong
Law (Hong Kong: Joint Publishing (HK) Ltd., 1999)
Betty Ho, Hong Kong Contract Law (Hong Kong: Butterworths Asia, 2nd ed., 1994)
R P Meagher, W M C Gummow and J R F Lehane, Equity: Doctrines and Remedies
(Sydney: Butterworths, 3rd ed., 1992)
Carole Chui, Law of Contract in Hong Kong (Hong Kong: Longman, 1988)
Charu Sharma, Sale of Goods, D.K. Srivastava, ed., Business Law in Hong Kong (Hong
Kong: Sweet & Maxwell Asia, 3rd ed., 2012)
Ewan McKendrick, Contract Law: Text, Cases, and Materials (Oxford: Oxford University
Press, 2nd ed., 2003)

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