Chief Disruption Officer Pty Ltd as Trustee for the McDonald Family Trust v Michel, in the matter of Laava Id Pty Ltd (No 3)
[2022] FCA 1302
•3 November 2022
FEDERAL COURT OF AUSTRALIA
Chief Disruption Officer Pty Ltd as Trustee for the McDonald Family Trust v Michel, in the matter of Laava ID Pty Ltd (No 3) [2022] FCA 1302
File number(s): NSD 1153 of 2021 Judgment of: GOODMAN J Date of judgment: 3 November 2022 Catchwords: CORPORATIONS – company formed by three Founders to develop and exploit a product – Shareholders’ Deed entered into between the Founders and the associated Founder Shareholders – breakdown of relationship between two of the Founders – whether the relationship between the Founders and their associated Founder Shareholders was governed by an understanding that their respective shareholdings would remain equal and which survived entry into the Shareholders’ Deed – held no such understanding established – whether there was oppression of the second plaintiff because of: (1) conduct alleged to have forced out the first plaintiff as CEO and a director of the company – held no oppression of the second plaintiff; (2) the issue and proposed issue of shares and options after the first plaintiff ceased to be involved in the company – held oppression established for some but not all of the impugned conduct Legislation: Australian Securities and Investments Commission Act 2001 (Cth), s 12CB
Corporations Act 2001 (Cth), ss 53, 180, 181, 182, 183, 231, 232, 233, 234, 254D
Cases cited: Ansett Transport Industries (Operations) Pty Ltd v Commonwealth [1977] HCA 71; (1977) 139 CLR 54
BP Refinery (Westernport) Pty Ltd v Shire of Hastings (1977) 180 CLR 266
Campbell v Backoffice Investments Pty Ltd [2009] HCA 25; (2009) 238 CLR 304
Catalano v Managing Australia Destinations Pty Ltd [2014] FCAFC 55; (2014) 314 ALR 62
Codelfa Construction Pty Ltd v State Rail Authority of New South Wales [1982] HCA 51; (1982) 149 CLR 337
Fexuto Pty Ltd v Bosnjak Holdings Pty Ltd [1998] NSWSC 413; (1998) 28 ACSR 688
Hylepin Pty Ltd v Doshay Pty Ltd [2021] FCAFC 201; (2021) 288 FCR 104
In the matter of Anna Bay Resort Pty Ltd [2022] NSWSC 331
Joint v Stephens [2008] VSCA 210; (2008) 26 ACLC 1467
Mackay Sugar Ltd v Wilmar Sugar Australia Ltd [2016] FCAFC 133; (2016) 338 ALR 374
Mackay v Dick (1881) 6 App Cas 251
Morgan v 45 Flers Ave Pty Ltd (1986) 10 ACLR 692
Ngurli Ltd v McCann [1953] HCA 39; (1953) 90 CLR 425
R A Noble & Sons (Clothing) Ltd [1983] BCLC 273
RBC Investor Services Australia Nominees Pty Limited v Brickworks Limited [2017] FCA 756; (2017) 348 ALR 605
Re London School of Electronics Ltd [1986] Ch 211
Re Scientific Management Associates Pty Ltd [2019] NSWSC 1643; (2019) 141 ACSR 115
Tomanovic v Argyle HQ Pty Ltd; Tomanovic v Global Mortgage Equity Corporation Pty Ltd; Sayer v Tomanovic [2010] NSWSC 152
Watson v Foxman (1995) 49 NSWLR 315
Wayde v New South Wales Rugby League Ltd [1985] HCA 68; (1985) 180 CLR 459
Whitehouse v Carlton Hotel Pty Ltd [1987] HCA 11; (1987) 162 CLR 285
Wilmar Sugar Australia Ltd v Mackay Sugar Ltd [2017] FCAFC 40; (2017) 345 ALR 174
Division: General Division Registry: New South Wales National Practice Area: Commercial and Corporations Sub-area: Corporations and Corporate Insolvency Number of paragraphs: 330 Date of last submission/s: 16 May 2022 Date of hearing: 8-11, 21-25 March and 26 April 2022 Counsel for the Plaintiffs: Mr M Condon SC and Mr D Delaney Solicitor for the Plaintiffs: Webb Henderson Counsel for the First, Second, Third and Fourth Defendants: Mr D W Rayment SC and Mr M Collins Solicitor for the First, Second, Third and Fourth Defendants: J Stephens & Associates Counsel for the Fifth Defendant: Mr A Smorchevsky Solicitor for the Fifth Defendant: Automic Legal Counsel for the Sixth and Seventh Defendants: Mr L W Judd Solicitor for the Sixth and Seventh Defendants: Peterson Haines Counsel for the Eighth Defendant: Mr C L W Street Solicitor for the Eighth Defendant: Garland Hawthorn Brahe Counsel for the Ninth Defendant: Mr D B Studdy SC Solicitor for the Ninth Defendant: Peterson Haines ORDERS
NSD 1153 of 2021 IN THE MATTER OF LAAVA ID PTY LTD ACN 617 775 578
BETWEEN: CHIEF DISRUPTION OFFICER PTY LTD AS TRUSTEE FOR THE MCDONALD FAMILY TRUST ACN 609 702 776
First Plaintiff
IAIN JAMES MCDONALD
Second Plaintiff
AND: PATRICK MICHEL
First Defendant
ANTHONY SURTEES
Second Defendant
WILEMICH PTY LTD AS TRUSTEE FOR THE PATH FAMILY TRUST ACN 160 437 730 (and others named in the Schedule)
Third Defendant
ORDER MADE BY:
GOODMAN J
DATE OF ORDER:
3 NOVEMBER 2022
THE COURT ORDERS THAT:
1.By 18 November 2022, the parties are to confer as to the appropriate orders for relief to give effect to these reasons for judgment and are to provide to the Court:
(1)a joint set of orders which may be made by consent;
(2)to the extent that agreement has not been reached:
(i)competing sets of proposed orders; and
(ii)an agreed proposed timetable for the filing of any further submissions concerning those competing orders.
2.The proceeding be listed for a case management hearing on a day after 18 November 2022, such date to be arranged in consultation with the Associate to Goodman J.
Note: Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.
REASONS FOR JUDGMENT
A. INTRODUCTION
[1]
The context in which the proceeding arises
[1]
Overview of the claims made by the McDonald Interests
[8]
Summary of the key findings
[11]
B. RELEVANT LEGAL PRINCIPLES – OPPRESSION AND FRAUD UPON THE POWER TO ISSUE SHARES
[21]
Oppression
[22]
Fraud on the power to issue shares
[36]
C. APPROACH TAKEN TO THE EVIDENCE
[38]
D. THE ONGOING EQUALITY UNDERSTANDING
[42]
The alleged Understanding
[43]
The shifting basis for the Ongoing Equality Understanding
[48]
The evidence concerning the alleged Ongoing Equality Understanding
[54]
(1) Conversation of 20 February 2017 between Mr McDonald and Mr Michel
[55]
(2) 20 February 2017 email
[58]
(3) 6 March 2017 email
[59]
(4) 19 April 2017 email
[60]
(5) 15 September 2017 email
[61]
(6) 19 September 2017 email
[62]
(7) 26 September 2017 email
[63]
(8) 8 December 2017 emails
[64]
(9) Failure of Mr Michel and Mr Surtees to invest personally following Mr McDonald’s 8 December 2017 email
[67]
(10) March 2018 conversation
[68]
(11) 15 June 2018 email
[70]
(12) Mr Ger’s evidence in cross-examination
[71]
Consideration
[72]
Any Ongoing Equality Understanding did not survive entry into the Shareholders’ Deed
[81]
(1) The Ongoing Equality Understanding yields to a contrary agreement and the Shareholders Deed is a contrary agreement
[82]
(2) The entire agreement clause
[89]
Conclusion on the Ongoing Equality Understanding
[94]
E. CONDUCT PRIOR TO MR MCDONALD’S RESIGNATION AS ACTING CEO
[95]
Relevant conduct
[96]
Consideration
[151]
The pleaded case
[151]
The commissioning of the Butcher report
[156]
Hiring of, and announcement of, Mr Peters as acting CTO
[158]
Cancellation of projects
[159]
Mr Peters’s Slack message
[160]
Was Mr McDonald forced out as the acting CEO of Laava?
[161]
F. CONDUCT PRIOR TO MR MCDONALD’S RESIGNATION AS A DIRECTOR OF LAAVA
[164]
Relevant conduct
[164]
Consideration
[187]
G. CONDUCT AFTER MR MCDONALD’S RESIGNATION AS A DIRECTOR
[192]
Identification of the impugned conduct
[192]
The question of notice
[194]
Clause 5.1 of the Shareholders’ Deed
[195]
Does “Shares” include options?
[199]
The operation of the phrase “approved by the Founder Shareholders”
[208]
Conclusion
[212]
Is there an implied term that the Founder Shareholders would not do anything which destroyed or diminished the rights of the Founder Shareholders conferred by the Deed to insist upon their remaining equal shareholders in Laava, otherwise subject to the terms of cl 5?
[213]
Consideration of the impugned conduct
[218]
1. Second Share Issue
[219]
1.1 Issue of shares to Wilemich and MCA in June 2020
[219]
1.2 Offer of options to Mr Ger in November 2020
[236]
2. Fitzpatrick Options Issue
[255]
3. First Directors’ Options Issue
[262]
4. Third Share Issue
[273]
5. Second Directors’ Options Issue
[281]
6. Further Attempted Loan Conversion
[309]
H. UNCONSCIONABLE CONDUCT CASE
[320]
I. DIRECTORS’ DUTIES CASE
[321]
J. BREACH OF CONTRACT CASE
[322]
K. RELIEF
[324]
GOODMAN J
A. INTRODUCTION
The context in which the proceeding arises
Laava ID Pty Ltd (the fifth defendant) is a company in which other parties to this proceeding hold shares. It was incorporated in March 2017 for use by Mr Iain McDonald (the second plaintiff), Mr Patrick Michel (the first defendant) and Mr Tony Surtees (the second defendant) to commercialise a product then under development.
Following the incorporation of Laava, its shares were held equally by companies associated with Mr McDonald, Mr Michel and Mr Surtees, being Chief Disruption Officer Pty Ltd (the first plaintiff, CDO), Wilemich Pty Ltd (the third defendant) and Mortgage Company of Australia Pty Limited (the fourth defendant, MCA), respectively. Mr McDonald and Mr Michel were the initial directors of Laava.
I will refer below to:
(1)the Founders, being Mr McDonald, Mr Michel and Mr Surtees;
(2)the Founder Shareholders, being CDO, Wilemich and MCA;
(3)the McDonald Interests (being Mr McDonald and CDO), the Michel Interests (being Mr Michel and Wilemich) and the Surtees Interests (being Mr Surtees and MCA); and
(4)the Majority Interests, being the Michel Interests and the Surtees Interests together.
From 20 July 2017, the date of Laava’s first board meeting, Mr McDonald acted as Laava’s Chief Executive Officer (CEO) and Mr Surtees was the third director of Laava.
In November 2017, a Shareholders’ Deed was executed by the McDonald Interests, the Majority Interests and a Mr Kirschenpfadt, who became a minor shareholder.
By December 2017, the relationship between Mr McDonald and Mr Michel had deteriorated significantly and in April 2019, Mr McDonald resigned as the acting CEO of Laava. In January 2020, Mr McDonald resigned as a director of Laava. CDO did not nominate anyone to replace him as a director of Laava.
Thereafter, the McDonald Interests had essentially no involvement in Laava and Mr Michel and Mr Surtees, as the directors of Laava, made a number of decisions concerning its operations, including decisions to issue further shares in Laava and options over shares in Laava, which had the effect of diluting, or the potential to dilute, CDO’s interest in Laava. Some of those shares and options were issued to Mr Gavin Ger (the sixth defendant); Wyargine Pty Ltd (the seventh defendant), a company associated with Mr Ger; and Mr Robert Fitzpatrick (the ninth defendant).
Overview of the claims made by the McDonald Interests
In November 2021, the McDonald Interests commenced this proceeding. In December 2021 they filed Points of Claim and in February 2022 they filed Amended Points of Claim. The claims made in the Amended Points of Claim were wide-ranging and not all of those claims have been addressed in the closing submissions made by the McDonald Interests. These reasons address the claims that were pressed in the closing submissions.
The case brought by the McDonald Interests may be summarised as follows:
(1)the venture between the McDonald Interests and the Majority Interests to commercialise the product under development was in the nature of a quasi‑partnership and based upon a Foundational Understanding;
(2)the central feature of the Foundational Understanding was an understanding that the Founders or their associates would receive equal shares in any corporate vehicle used to commercialise the product and – subject to any agreement to the contrary – would remain equal shareholders in that vehicle; and to the extent that any dilution in equity occurred, such dilution would be equal as between the Founders or their associates (Ongoing Equality Understanding);
(3)the execution of the Shareholders’ Deed did not affect the Ongoing Equality Understanding;
(4)the breakdown in the relationship between Mr McDonald and Mr Michel was due to the failure of Mr Michel to invest his own funds in Laava (as opposed to funds from the eighth defendant, Lufrapa Pty Ltd, a company associated with Mr Michel and his family and which is a trustee of a trust of which Mr Michel is a beneficiary) and to work in Laava’s business with sufficient intensity;
(5)following that breakdown in the relationship between Mr McDonald and Mr Michel, the latter embarked upon a course of conduct which was designed to, and did, result in the former resigning as acting CEO of Laava in April 2019 and as a director of Laava in January 2020;
(6)that conduct was “oppressive to, unfairly prejudicial to, or unfairly discriminatory against” CDO within the meaning of s 232(e) of the Corporations Act 2001 (Cth);
(7)the issues of shares and options which occurred after Mr McDonald resigned as a director of Laava:
(a)occurred without the knowledge of Mr McDonald;
(b)were contrary to:
(i)the Ongoing Equality Understanding;
(ii)cl 5 of the Shareholders’ Deed which, subject to exceptions, provided each Founder Shareholder the right to have notice of and participate in, any issue of new shares in Laava; and
(iii)implied terms of the Shareholders’ Deed;
(8)the conduct in issuing the shares and options was conduct that:
(a)satisfied s 232(e) of the Corporations Act (oppressive conduct);
(b)satisfied s 12CB(1) of the Australian Securities and Investments Commission Act 2001 (Cth) (ASIC Act) (unconscionable conduct);
(c)constituted a breach of the Shareholders’ Deed; and
(9)the issues of shares were undertaken for an improper purpose and constituted a fraud on the power to issue shares.
The proceeding settled as against Lufrapa and an order dismissing the proceeding against Lufrapa was made.
Summary of the key findings
The key findings in these reasons for judgment are summarised below.
First, I am not satisfied on the evidence that the Ongoing Equality Understanding, being the central plank to the Foundational Understanding, was ever reached.
Secondly, in any event, any Ongoing Equality Understanding cannot co-exist with the Shareholders’ Deed, in circumstances where the former is alleged to be subject to any contrary understanding reached and the latter expressly contemplated that the respective shareholdings of the Founder Shareholders may differ. Further, any Ongoing Equality Understanding was superseded by the Shareholders’ Deed by dint of the operation of an entire agreement clause in that Deed.
Thirdly, I am not satisfied that the impugned conduct which preceded Mr McDonald’s resignation as the acting CEO of Laava in April 2019, or as a director of Laava in January 2020, was oppressive to CDO, for the following reasons:
(1)the impugned conduct has to be considered by reference to its effect upon CDO not by reference to its impact upon Mr McDonald qua former acting CEO or director of Laava;
(2)I am not satisfied that there was oppressive conduct in circumstances where:
(a)CDO had no entitlement to insist upon Mr McDonald being the acting CEO of Laava;
(b)CDO was entitled, pursuant to the Shareholders’ Deed, to have a director on the board of Laava but following the resignation of Mr McDonald did not exercise its right to do so. Thus, CDO continued to enjoy a right to participate in the management of Laava, which it chose not to exercise; and
(c)in any event I am not satisfied that Mr McDonald was “forced out” of the acting CEO position or as a director by the impugned conduct or that the impugned conduct itself was oppressive.
Fourthly, I am satisfied that the affairs of Laava were conducted in a manner which satisfied s 232(e) of the Corporations Act with respect to some, but not all, of the conduct which occurred after Mr McDonald resigned as a director in January 2020.
Fifthly, I am not satisfied that any of the issues of shares involved a fraud on the power to issue shares.
Sixthly, the unconscionable conduct case was not developed so as to extend beyond the oppression case with the consequence that it is unnecessary to consider it separately.
Seventhly, I am not satisfied that a case for breach of directors’ duties has been established.
Eighthly, I am not satisfied that any case for breach of contract has been established, or if it has been, that any loss has been suffered.
Finally, there are several options available for relief. In circumstances where the parties addressed relief at a general level and without the benefit of findings as to the extent to which the McDonald Interests had established the various cases that they pursued, it is appropriate to allow the parties an opportunity to make any further submissions on the question of relief.
B. RELEVANT LEGAL PRINCIPLES – OPPRESSION AND FRAUD UPON THE POWER TO ISSUE SHARES
It is convenient at this point to consider the legal principles applicable to an assessment of whether the impugned conduct is oppressive or involves a fraud upon the power to issue shares.
Oppression
Part 2F.1 of the Corporations Act deals with oppressive conduct of the affairs of companies. Within Pt 2F.1, s 234 deals with standing to apply for an order under s 233. It provides relevantly that a member, as defined in s 231, has standing. Thus CDO, but not Mr McDonald, has standing to seek relief.
Section 232 of the Corporations Act sets out the circumstances in which the Court’s discretion to make an order under s 233 may be enlivened. It provides:
232 Grounds for Court order
The Court may make an order under section 233 if:
(a) the conduct of a company’s affairs; or
(b) an actual or proposed act or omission by or on behalf of a company; or
(c) a resolution, or a proposed resolution, of members or a class of members of a company;
is either:
(d) contrary to the interests of the members as a whole; or
(e) oppressive to, unfairly prejudicial to, or unfairly discriminatory against, a member or members whether in that capacity or in any other capacity.
For the purposes of this Part, a person to whom a share in the company has been transmitted by will or by operation of law is taken to be a member of the company.
Section 232(a) relates to the conduct of a company’s affairs. The “affairs” of a company for the purposes of ss 232 to 234 are defined broadly in s 53 of the Corporations Act, and there is no dispute that the impugned conduct in the present case involved the “affairs” of Laava.
Section 232(d) and (e) require that the conduct in (a), the actual or proposed act or omission in (b), or the resolution or proposed resolution in (c) be either “contrary to the interests of the members as a whole” or “oppressive to, unfairly prejudicial to, or unfairly discriminatory against, a member or members whether in that capacity or in any other capacity”. In the present case, the McDonald Interests have not pleaded that any conduct was contrary to the interests of the members of Laava as a whole (s 232(d)). The McDonald Interests have however pleaded that the impugned conduct is oppressive to, unfairly prejudicial to, or unfairly discriminatory against CDO (s 232(e)). Thus, the impugned conduct must be considered by reference to whether it was oppressive to, unfairly prejudicial to, or unfairly discriminatory against CDO.
Section 232 is concerned with whether there has been commercial unfairness in the conduct of the affairs of a company. In Wayde v New South Wales Rugby League Ltd [1985] HCA 68; (1985) 180 CLR 459, Brennan J (as his Honour then was) stated at 472-473 ([5] to [6]) with respect to a predecessor of s 232 (namely s 320 of the Companies (New South Wales Code)) in an oft-cited passage:
Section 320 requires proof of oppression or proof of unfairness: proof of mere prejudice to or discrimination against a member is insufficient to attract the court’s jurisdiction to intervene. In the case of some discretionary powers, any prejudice to a member or any discrimination against him may be a badge of unfairness in the exercise of the power, but not when the discretionary power contemplates the effecting of prejudice or discrimination. It is not necessary now to decide whether “oppressive” carries in the context of s 320 the meaning which it carried in the context of the statutory precursors of s 320. At a minimum, oppression imports unfairness and that is the critical question in the present case.
It is not necessarily unfair for directors in good faith to advance one of the objects of the company to the prejudice of a member where the advancement of the object necessarily entails prejudice to that member or discrimination against him. Prima facie, it is for the directors and not for the Court to decide whether the furthering of a corporate object which is inimical to a member’s interests should prevail over those interests or whether some balance should be struck between them. The directors’ view is not conclusive, but an element in assessing unfairness to a member is the agreement of all members to repose the power to affect their interests in the directors: see s 78 of the Code. Nevertheless, if the directors exercise a power — albeit in good faith and for a purpose within the power — so as to impose a disadvantage, disability or burden on a member that, according to ordinary standards of reasonableness and fair dealing is unfair, the court may intervene under s 320. The question of unfairness is one of fact and degree which s 320 requires the court to determine, but not without regard to the view which the directors themselves have formed and not without allowing for any special skill, knowledge and acumen possessed by the directors. The operation of s 320 may be attracted to a decision made by directors which is made in good faith for a purpose within the directors’ power but which reasonable directors would think to be unfair. The test of unfairness is objective and it is necessary, though difficult, to postulate a standard of reasonable directors possessed of any special skill, knowledge or acumen possessed by the directors. The test assumes (whether it be the fact or not) that reasonable directors weigh the furthering of the corporate object against the disadvantage, disability or burden which their decision will impose, and address their minds to the question whether a proposed decision is unfair. The court must determine whether reasonable directors, possessing any special skill, knowledge or acumen possessed by the directors and having in mind the importance of furthering the corporate object on the one hand and the disadvantage, disability or burden which their decision will impose on a member on the other, would have decided that it was unfair to make that decision.
In Morgan v 45 Flers Ave Pty Ltd (1986) 10 ACLR 692 at 704, Young J (as his Honour then was) explained:
… it has been accepted that one no longer looks at the word ‘oppressive’ in isolation but rather asks whether objectively in the eyes of a commercial bystander, there has been unfairness, namely conduct that is so unfair that reasonable directors who consider the matter would not have thought the decision fair: see Wayde’s case. … In my view a court now looks at [the phrase “oppressive to, unfairly prejudicial to, or unfairly discriminatory against, a member”] as a composite whole and the individual elements mentioned in the section should be considered merely as different aspects of the essential criterion, namely commercial unfairness. …
In Catalano v Managing Australia Destinations Pty Ltd [2014] FCAFC 55; (2014) 314 ALR 62 at 66 [9], the Full Court (Siopis, Rares and Davies JJ) stated:
The test of unfairness requires an objective assessment of the conduct in question with regard to the particular context in which the conduct occurs. The question is whether objectively in the eyes of the commercial bystander there has been unfairness, namely conduct that is so unfair that reasonable directors who consider the matter would not have thought the conduct or decision fair. As the test is objective, whether or not the conduct is oppressive will not depend upon the motives for what was done. It is the effect of the acts that is material: Wayde 180 CLR at 472-473; Campbell 238 CLR at 360 [176].
In Mackay Sugar Ltd v Wilmar Sugar Australia Ltd [2016] FCAFC 133; (2016) 338 ALR 374 at 377 [12] Gilmour, Jagot and White JJ referred to these observations and, at 378 [14], to the following observations of the Victorian Court of Appeal (Nettle, Ashley and Neave JJA) in Joint v Stephens [2008] VSCA 210; (2008) 26 ACLC 1467 at [136]:
… the task of deciding whether there has been commercial unfairness is to be undertaken in the context of the particular relationship which is in issue. As is observed in Ford [Austin and Ramsay, Ford’s Principles of Corporations Law, 13th Ed [11.450].], the assessment of commercial unfairness will not infrequently involve a balancing exercise between competing considerations. In turn that may involve an examination of the conduct of the applicant. …
The conduct of the applicant may be such as to render conduct which is prejudicial, nevertheless not unfair. In Morgan, Young J at 706 endorsed the following statement of Nourse J in Re London School of Electronics Ltd [1986] Ch 211 at 222:
The conduct of the petitioner may be material in a number of ways, of which the two most obvious are these. First, it may render the conduct on the other side, even if it is prejudicial, not unfair: cf.: In re R. A. Noble & Sons (Clothing) Ltd. [1983] B.C.L.C. 273. Secondly, even if the conduct on the other side is both prejudicial and unfair, the petitioner’s conduct may nevertheless affect the relief which the court thinks fit to grant under subsection (3). In my view there is no independent or overriding requirement that it should be just and equitable to grant relief or that the petitioner should come to the court with clean hands.
R A Noble & Sons (Clothing) Ltd [1983] BCLC 273, to which Nourse J refers, was a case in which the petitioner effectively abandoned the company in which he was a shareholder and a director. I gratefully adopt the following summary of that case from the judgment of Rees J in Re Scientific Management Associates Pty Ltd [2019] NSWSC 1643; (2019) 141 ACSR 115 at 181 [280]:
In R.A. Noble & Sons, the prejudicial conduct consisted in one director running a quasi-partnership company virtually as his own. The principal complaints were that the alleged oppressor continually failed to provided stock records, refused to execute a loan agreement; failed to provide financial accounts and failed to agree to a 50% share split. Nourse J held that the conduct was not unfair because the applicant had not shown any interest in being involved in management or decision making: at 292. It was submitted that the plaintiff’s conduct in that case resembled the informal steps taken by Mr Glatis.
Consideration of the fairness or otherwise of particular conduct does not involve the Court re‑assessing the commercial wisdom of decisions made by directors. As Jagot J explained in RBC Investor Services Australia Nominees Pty Limited v Brickworks Limited [2017] FCA 756; (2017) 348 ALR 605 at 616 [42]:
The touchstone of oppression, that conduct be so unfair that reasonable directors who consider the matter would not have thought the conduct or decision fair, may appear circular but is designed to reinforce that the role of the court is not to step into the shoes of the directors and unilaterally decide what it thinks to be in the best interests of the company as a whole. The courts recognise that it is the responsibility of the directors to weigh the competing considerations with which they will be routinely confronted and determine what is in the best interests of the company as whole. They recognise also that as the task of the directors is evaluative it is necessarily one about which reasonable minds may differ. In performing its own evaluation, accordingly, the courts do not merely substitute what appears to them to be the preferable commercial decision. As Mansfield J summarised in Territory Realty Pty Ltd v Garraway [2009] FCA 292 at [312]:
The authorities indicate that the Court should not readily find either s 232(d) or (e) is made out: Edwards v Idaville Pty Ltd (1996) 22 ACSR 1. Such a finding requires consideration of all the circumstances, viewed cumulatively, but not with a hypercritical approach, as the measure is the standard of reasonable directors: De Tocqueville Private Equity Pty Ltd v Linden & Conway Ltd (2006) 59 ACSR 587. It is not a finding to be made because the Court may, on the information available, disagree with the decision of the directors, or because the wisdom of hindsight may show that the decision of the directors was unwise and perhaps grossly so, or because the directors or management did not conduct the affairs of the company as well as the Court considers they may have: Fexuto Pty Ltd v Bosnjak Holdings Pty Ltd (1998) 28 ACSR 688. As Murray J said in Re Spargos Mining NL (1990) 3 ACSR 1 at 44, the Court should not in substance adopt an approach to those provisions without clear justification, so that it does not simply take “over the management of the company”.
Instances of conduct, when considered individually may not constitute oppressive conduct but when considered together, their cumulative effect may be oppressive: Hylepin Pty Ltd v Doshay Pty Ltd [2021] FCAFC 201; (2021) 288 FCR 104 at 129-130 ([132] to [136]) per Markovic, Banks-Smith and Anderson JJ.
In the context of the power to allot shares, it is necessary to bear in mind that such a power is fiduciary in nature. In In the matter of Anna Bay Resort Pty Ltd [2022] NSWSC 331, Rees J explained at [192] to [193]:
192The power of the director to allot shares is a fiduciary power: Ngurli Ltd v McCann (1953) 90 CLR 425; (1953) 27 ALJR 349 at 439; Howard Smith Ltd v Ampol Petroleum Ltd [1974] 1 NSWLR 68 at 76; [1974] AC 821 at 834B per Lord Wilberforce (PC); Whitehouse v Carlton Hotel at 289-290 (per Mason, Deane and Dawson JJ). The power to allot new shares is conferred primarily to enable capital to be raised when required. In ascertaining the purpose for which the power was in fact exercised, the court is concerned with the state of mind of the director and is informed by the surrounding circumstances. As the Privy Council explained in Howard Smith Ltd v Ampol Petroleum at 77 (NSWLR); at 834B (PC) (citing what Viscount Finlay had said in Hindle v John Cotton Ltd (1919) 56 Sc LR 625 at 630-631):
Where the question is one of abuse of powers, the state of mind of those who acted, and the motive on which they acted, are all important, and you may go into the question of what their intention was, collecting from the surrounding circumstances all the materials which genuinely throw light upon that question of the state of mind of the directors so as to show whether they were honestly acting in discharge of their powers in the interests of the company or were acting from some bye-motive, possibly of personal advantage, or for any other reason.
193Directors of a company cannot ordinarily exercise a fiduciary power to allot shares for the purpose of defeating the voting power of existing shareholders by creating a new majority: see Ngurli Ltd v McCann at 440; Ashburton Oil NL v Alpha Minerals NL (1971) 45 ALJR 162; (1971) 123 CLR 614 at 640 (per Gibbs J); Howard Smith Ltd v Ampol Petroleum Ltd at 79 (NSWLR); at 827D (AC); Whitehouse v Carlton Hotel at 289 (per Mason, Deane and Dawson JJ); HNA Irish Nominees Ltd v Kinghorn (No 2) (2012) 290 ALR 372; [2012] FCA 228 at [639] (per Emmett J). As the plurality (Mason, Deane and Dawson JJ) stated in Whitehouse v Carlton Hotel at 290:
It is simply no part of the function of the directors as such to favour one shareholder or group of shareholders by exercising a fiduciary power to allot shares for the purpose of diluting the voting power attaching to the issued shares held by some other shareholder or group of shareholders.
The test under s 232 of the Corporations Act is objective and thus the requisite commercial unfairness is capable of proof without reference to the purpose or motive of the persons alleged to have created the commercial unfairness: Catalano at [9], citing Wayde at 472-473 and Campbell v Backoffice Investments Pty Ltd [2009] HCA 25; (2009) 238 CLR 304 at 360 [176]. However, proof of the existence of an improper purpose or ulterior motive may mean that a conclusion of commercial unfairness is more readily reached: Wilmar Sugar Australia Ltd v Mackay Sugar Ltd [2017] FCAFC 40; (2017) 345 ALR 174 at 195 [73] (Dowsett, Jagot and White JJ).
Fraud on the power to issue shares
As noted above, the power to issue shares is a fiduciary power and is conferred primarily to enable capital to be raised when required. In contrast to the position when considering whether there has been oppression, it is necessary to consider the purpose or motive behind the issue because the power to issue shares is not to be used for an ulterior purpose. In Ngurli Ltd v McCann [1953] HCA 39; (1953) 90 CLR 425 at 438 [24], Williams ACJ, Fullagher and Kitto JJ explained:
But the powers conferred on shareholders in general meeting and on directors by the articles of association of companies can be exceeded although there is a literal compliance with their terms. These powers must not be used for an ulterior purpose. “The term fraud in connection with frauds on a power does not necessarily denote any conduct on the part of the appointor amounting to fraud in the common law meaning of the term or any conduct which could be properly termed dishonest or immoral. It merely means that the power has been exercised for a purpose, or with an intention, beyond the scope of or not justified by the instrument creating the power”, per Lord Parker in Vatcher v. Paull …” “The Court will not allow him” (that is the appointor) “to interpret the donor’s intention in any other sense than the Court itself holds to be the true construction of the instrument creating the power; and a literal execution of the power, with a purpose which it does not sanction, is regarded as a fraud on the power”, per Hatherley L.C. in Topham v. Duke of Portland…Voting powers conferred on shareholders and powers conferred on directors by the articles of association of companies must be used bona fide for the benefit of the company as a whole. …
The power to issue shares might be exercised for more than one purpose and thus might involve a mixture of permissible and impermissible purposes. In Whitehouse v Carlton Hotel Pty Ltd [1987] HCA 11; (1987) 162 CLR 285 at 294 [10], Mason, Deane and Dawson JJ explained that in such circumstances a “but for” test is appropriate:
It should be mentioned that one finds in some statements of the vitiating effect of a purpose of diluting the voting power of one or more existing shareholders a qualification to the effect that the allotment will be invalid if it is “merely” or “purely” or “solely” for that purpose (see, e.g., Piercy v. S.M. Mills and Company, at p 84; Grant v. John Grant & Sons Pty. Ltd. (1950) 82 CLR 1, at p 32; Howard Smith v. Ampol, at pp 837-838). The introduction of such a qualification is intended to put to one side cases in which there are present both permissible and impermissible purposes. In such cases of competing purposes, practical considerations have prevented the law from treating the mere existence of the impermissible purpose as sufficient to render voidable the exercise of the fiduciary power to allot shares (see Mills v. Mills (1938) 60 CLR 150, at pp 185-186 and note, as to Dixon J’s apparently inadvertent use of the word “void”, Richard Brady Franks Ltd. v. Price (1937) 58 CLR 112, at p 142). In this Court, the preponderant view has tended to be that the allotment will be invalidated only if the impermissible purpose or a combination of impermissible purposes can be seen to have been dominant - “the substantial object” (per Williams ACJ., Fullagar and Kitto JJ., Ngurli Ltd. v. McCann, at p 445 quoting Dixon J. in Mills v. Mills, at p 186 and see Harlowe’s Nominees, at p 493); “the moving cause” (per Latham C.J., Mills v. Mills, at p 165). The cases in which that view has been indicated have not, however, required a determination of the question whether the impermissible purpose must be “the” substantial object or moving cause or whether it may suffice to invalidate the allotment that it be one of a number of such objects or causes. As a matter of logic and principle, the preferable view would seem to be that, regardless of whether the impermissible purpose was the dominant one or but one of a number of significantly contributing causes, the allotment will be invalidated if the impermissible purpose was causative in the sense that, but for its presence, “the power would not have been exercised” (per Dixon J., Mills v. Mills, at p 186).
C. APPROACH TAKEN TO THE EVIDENCE
This is largely a documentary case. There are many thousands of pages of contemporaneous documentary evidence. These documents, for the most part, reveal what has happened, and given their inherent reliability, have been the primary resource from which I have made the findings of fact set out below.
I have, of course, also considered the affidavit and oral evidence of the witnesses. In this regard, the central witnesses were the Founders. The impression that I formed of each of them was that each was recounting his recollection of events to the best of his ability, but under the (understandable) influence that the restraints of human memory, the passage of time and self-interest placed upon his ability to recall particular events. In this regard, the oft-cited observations of McLelland CJ in Eq in Watson v Foxman (1995) 49 NSWLR 315 at 319 are apposite:
… human memory of what was said in a conversation is fallible for a variety of reasons, and ordinarily the degree of fallibility increases with the passage of time, particularly where disputes or litigation intervene, and the processes of memory are overlaid, often subconsciously, by perceptions or self-interest as well as conscious consideration of what should have been said or could have been said. All too often what is actually remembered is little more than an impression from which plausible details are then, again often subconsciously, constructed. All this is a matter of ordinary human experience.
I did not form the view that any of the Founders (or indeed any witness) was seeking to give false evidence.
The nature of this proceeding has required little resort to credit in making factual findings. The impugned transactions are recorded in the multitudinous documents and there are few disputed conversations of any moment. The McDonald Interests invited me to disbelieve the evidence of Mr Michel and Mr Surtees as to their subjective purposes and to infer that:
(1)Mr Michel acted so as to remove Mr McDonald as acting CEO and later as director. I am not persuaded. This contention is not supported by the contemporaneous evidence considered as a whole and relies upon the drawing of inferences as to Mr Michel’s conduct, which I do not regard as available on the evidence; and
(2)Mr Michel and Mr Surtees acted with an improper purpose of seeking to dilute the McDonald Interests’ stake in Laava after Mr McDonald ceased to be a director of Laava. Again, I am not persuaded. Whilst such dilution or potential dilution was a consequence or potential consequence of the transactions and resolutions, I do not accept that it was the purpose, or (where relevant) a purpose but for which the transactions would not have occurred or been proposed. The contemporaneous documents, on the whole, suggest that after Mr McDonald ceased to be a director of Laava, the Majority Interests were seeking to sustain a business which required regular injections of cash whilst seeking to both reward and incentivise those who were contributing to its continuance, in circumstances where the McDonald Interests had effectively abandoned Laava.
D. THE ONGOING EQUALITY UNDERSTANDING
A central and recurring theme in the McDonald Interests’ case is that the Founders reached the Foundational Understanding, and in particular the Ongoing Equality Understanding from which the Majority Interests subsequently departed. Thus it is appropriate to consider this issue before considering the impugned conduct.
The alleged Understanding
The McDonald Interests contend, by their Amended Points of Claim, that the Foundational Understanding was reached between the Founders between February and August 2017. They do not contend that it has contractual force.
The McDonald Interests contend that the Foundational Understanding included the following elements:
(1)Mr McDonald contributed sweat equity (having devoted approximately seven months of his time developing Laava’s business for no compensation);
(2)Mr Michel would provide initial funding for the business in the range of $250,000 - $300,000 and would raise capital for the business to fund the commercialisation of the “Authentication System” – being the technology that enabled users thereof to identify and authenticate objects, persons or documents in physical or digital form and would utilise his network to secure deal flow and partners, including the CSIRO, to assist with the generation of clients and revenue – from sophisticated investors;
(3)Mr Surtees would assist with the commercialisation of the Authentication System;
(4)Mr Michel’s and Mr Surtees’s shareholdings in the business would be all of the compensation for their contributions and work in the business as founders;
(5)each of the Founders or their respective nominees would receive and hold equal shares in any company registered to commercialise the Authentication System;
(6)subject to the terms of any agreement between them, each of the Founders or their respective nominees would remain equal shareholders in any company, and to the extent that any dilution of their equity occurred, it would be equal;
(7)the affairs of any company would be conducted on the basis of mutual trust and confidence;
(8)each of the Founders or their respective nominees would have equal voting rights;
(9)each of the Founders would be a director of Laava or have a right to appoint a director of Laava; and
(10)each of the Founders would own and/or control Laava or the greater part of its share capital.
The Majority Interests admit that by about 6 March 2017 the Founders had reached an understanding. However, they contend that the effect of the understanding was that:
(1)the Founders would incorporate a company;
(2)Mr Michel and Mr Surtees would each supply $20,000 as the seed capital of the business;
(3)Mr McDonald’s “sweat equity” was worth $20,000 in lieu of contributing $20,000 cash towards the business’s seed capital;
(4)the Founders would each hold one third of the company on incorporation;
(5)Mr Michel would act as part time Chief Financial Officer of the company and provide administrative support; and
(6)Mr Surtees’s shares would vest over three years.
The Majority Interests admit that Mr Michel and Mr Surtees agreed that directors would not receive remuneration, but deny that this extended to services, work, or time performed or provided other than as directors, and say that it was mutually understood and agreed that work carried out for the Company other than as a director would be paid. They also contend (as was the case) that subsequently each of the Founders at various times paid (including by way of cash payment or amounts accrued as a loan payable by the Company) for that time in accordance with that agreement or understanding. The Majority Interests otherwise dispute the existence of the alleged Foundational Understanding.
The central plank of the Foundational Understanding is the Ongoing Equality Understanding (which is reflected in [44(5) and (6)] above). I turn now to consider whether such an understanding was ever reached, and if so, whether it survived the Shareholders’ Deed.
The shifting basis for the Ongoing Equality Understanding
The McDonald Interests invite the Court to infer the existence of the Ongoing Equality Understanding from a miscellany of events. However, the contents of that miscellany of events changed considerably between the time that the case was pleaded and the time that closing submissions were made.
The particulars to the pleading of the Foundational Understanding in the Amended Points of Claim are as follows:
i.Meeting on 16 February 2017 between McDonald and Surtees.
ii.Meeting on 27 February 2017 between McDonald and Surtees.
iii.Meeting on 17 March 2017 between Michel and McDonald.
iv.Meeting on 21 April 2017 between McDonald and Surtees.
v.Meeting on 10 May 2017 between McDonald and Surtees.
vi.Meeting on 16 May 2017 between McDonald and Surtees.
vii.Meeting on 18 May 2017 between McDonald and Surtees.
viii.Meeting on 29 May 2017 between Michel and McDonald.
ix.Meeting between Michel, Surtees, McDonald and Peter Dunne of Herbert Smith Freehills on 23 June 2017.
x.Laava board meeting on 20 July 2017.
xi.Discussions between McDonald, Surtees and Michel in the period from February to August 2017.
xii.Further particulars may be provided.
The evidence relied upon by the McDonald Interests in their closing submissions to establish the Ongoing Equality Understanding is:
(1)a conversation between Mr McDonald and Mr Michel on 20 February 2017;
(2)an email from Mr McDonald to Mr Michel of the same date;
(3)an email from Mr Michel to Mr McDonald dated 6 March 2017;
(4)an email from Mr Michel to Mr McDonald and Mr Surtees dated 19 April 2017;
(5)an email from Mr Michel to Mr McDonald dated 15 September 2017, which attached a draft Shareholders’ Deed;
(6)an email from Mr Michel to Mr McDonald and Mr Surtees dated 19 September 2017 concerning Mr Kirschenpfadt;
(7)an email from Mr Michel to Mr McDonald, Mr Surtees and Mr Dunne of Freehills dated 26 September 2017;
(8)an email from Mr Michel dated 8 December 2017;
(9)an email from Mr McDonald dated 8 December 2017;
(10)an email from Mr Michel to Mr Kirschenpfadt dated 12 December 2017;
(11)the failure of Mr Michel and Mr Surtees to invest personally in Laava following Mr McDonald’s 8 December 2017 email;
(12)a conversation between Mr McDonald and Mr Surtees in March 2018;
(13)an email from Mr Michel to Mr McDonald dated 15 June 2018; and
(14)an answer by Mr Ger in cross-examination:
Q: And that’s not, in your view, an unusual idea, that founders of a company should have relative to each other the same amount of equity, is it?
A: I don’t think it’s unusual, no
Before considering that evidence, I note that the contrast between the case as pleaded and particularised and the case in closing submissions is stark. Critically:
(1)none of the particularised meetings in particulars i. to x. is referred to as evidence upon which the McDonald Interests rely in their closing submissions;
(2)whilst particular xi. refers to discussions between the Founders in the period from February to August 2017, the only item of evidence relied upon which falls within this (very general) description is the conversation of 20 February 2017 between Mr McDonald and Mr Surtees (and not Mr Michel);
(3)the particulars do not refer to any emails, but the closing submissions refer to emails dated 20 February 2017, 6 March 2017, 19 April 2017, 19 September 2017, 26 September 2017, 8 December 2017, 12 December 2017 and 15 June 2018; and
(4)the conversation of March 2018, which is submitted to be a piece of key evidence, is not particularised.
Further:
(1)the concept of an Ongoing Equality Understanding was not mentioned in:
(a)the letter of demand sent by the solicitors for the McDonald Interests on 1 November 2021 just prior to the commencement of this proceeding. Whilst that letter referred to an intention to share equally the equity in Laava, this is done by reference to the Shareholders’ Deed, rather than any understanding which pre-dated the Shareholders’ Deed;
(b)Mr McDonald’s first affidavit affirmed on 5 November 2021 (in which he dealt with the formation of Laava and with complaints about the conduct of Laava’s affairs), his second affidavit affirmed on 8 November 2021, or his third affidavit affirmed on 16 November 2021. It was not until Mr McDonald’s fourth affidavit affirmed on 9 February 2022 that the Foundational Understanding was addressed;
(2)an allegation that there was an Ongoing Equality Understanding, despite its centrality to the case brought by the McDonald Interests and its suggested centrality to the relationship between the Founders and between the Founder Shareholders, was not included in the Points of Claim filed on 10 December 2021, and was not included until the Amended Points of Claim were filed on 15 February 2022; and
(3)many of the particulars provided are not the subject of evidence, or of submissions.
The marked shift in the identification of the events alleged to give rise to the Ongoing Equality Understanding and the manner in which it emerged as part of the McDonald Interests’ case does not engender confidence that such an understanding ever came into existence.
The evidence concerning the alleged Ongoing Equality Understanding
The evidence which has been referred to in the McDonald Interests’ closing submissions as supporting the proposition that there was an Ongoing Equality Understanding and is listed at [50] above is considered below. Where the McDonald Interests have identified particular parts of an email as being of particular significance, those parts have bold emphasis.
(1) Conversation of 20 February 2017 between Mr McDonald and Mr Michel
The conversation of 20 February 2017 is recounted by Mr McDonald as follows:
McDonald:Having met Tony, I think the value he could bring would be significant to this project.
Michel:I think he should get 5 to 10%.
McDonald:I strongly believe that good partnerships are based on the ground being level. In my last business, having equal equity with my partner for 10 years meant the ground was always level.
Michel:What are you thinking?
McDonald:I think we should all be equal. 33%. You’re providing capital and some investors, I’m bringing the sweat and production know-how to build the business, and Tony has commercial and development partners which could accelerate this project.
Michel:It seems too much to me.
McDonald:I once had a partner who had less equity, and they became disinterested very quickly. If Tony is able to open doors, which he says he can, I think it will be worth it. He can also help you with raising capital.
Normally, someone in my position would have a much larger part of the equity, like 70%, because the ID of things is a concept I came up with and I also have the know how in building teams and business systems.
Even though this is a new idea and I came up with it, I respect our original 50/50 deal and your promise to fund. So, I’m suggesting that if we all make our agreed contributions and are fairly contributing to the business, even though it’s a lot more than I have to give, I will give you and Tony a third of the equity in the business. That is, all things being equal, we will all be happier and more productive, even if it means I am getting a lot less equity than I would normally.
Michel:OK, I see what you are saying. I’ll speak to Tony.
Mr Michel denied that such a conversation occurred. His evidence was as follows::
I refer to paragraph 39 of the IJM Affidavit. A conversation to the effect set out in that paragraph did not occur. Iain and I had various conversations during that period about Tony’s involvement, including discussions about whether we wanted Tony involved, in what capacity, and for what shareholding. At first we discussed issuing Tony a small stake, then a vesting stake, then about keeping the Lofo idea to ourselves (me and Iain), but having a “holdco” for all other matters. Eventually we agreed that we should just go one third each for $20,000, with Iain’s contribution over the previous months as his $20,000. In none of those conversations did Iain or I say words to the effect set out in that paragraph. We did not discuss nor did we agree that:
(a) Tony was getting his third for good contacts and no cash;
(b) my third was going to cost me $200,000-$300,000.
For the reasons set out at [73] below, it is not necessary to decide which version (if any) to accept.
(2) 20 February 2017 email
The 20 February 2017 email from Mr Michel to Mr McDonald is in the following terms:
I’m going to chat to Tony about whether it’s a good idea to set up a company now, here in Oz. It may be best to put it all in the US and wait a few weeks for that.
An early stage VC might just pass if he sees Australian based company, with Australian tax, Australian shareholders agreement etc, and put it in the too hard basket (where 99% of deals go).
Bob could do it all in the US.
Regarding our deal, I prefer a handshake than a legal doc, but we might be quickly moving beyond that now, and I appreciate you’ve been screwed before by people you trusted.
We should write it down but in general terms, so we don’t trip each other on detail. I really don’t want a 50 page agreement with negotiated terms where we could in the future rely on technicalities etc.
I want a true partnership based on our friendship.
How about:
-Iain / Patrick to approach this as 50:50 partners.
-agree that unless one of us becomes CEO and gets a bunch of shares/options as remuneration, we will maintain 50:50.
-if money needs to go in and one of us has more than the other, might use a preferred debt instrument, i.e. loan the money at x% instead of shares, to avoid dilution.
-we agree that regardless of the fact that we will contribute different levels of IP, time, ideas, chutzpah, brilliance, good looks, network, relationships, money etc, we will not try to revisit our 50:50 agreement.
-everything we generate / contribute regarding lofo belongs to lofo. Something like that.
Another idea: perhaps you and I should hold all our joint shares in Lofo via 1 separate company (with 1 share each, 1 directorship each). We could call it Fowilembocha Pty Ltd or Lofoco Pty Ltd (I’m pretty sure name’s not taken).
So that we always vote as one and have to agree ahead of time.
From an investor perspective, it gives them comfort that we can sort out any issues we may have separately AND it gives us comfort that no investor can try to manipulate us in the future to get us to vote against one another.
What do you think?
(3) 6 March 2017 email
The email from Mr Michel to Mr McDonald on 6 March 2017 is in the following terms:
I met with Tony. Important meeting decisions worthy of written summary.
Tony is officially a Laava partner. We shook hands on the following:
1/3 each. Ours has vested, Tony will vest over 3 years. We’ll have the usual drag along/tag along rights to ensure if things go super quick, he’s not dudded.
We’re all signing up to our communist model, apart from vesting above, we’re now all equal pigs.
Tony and I will put in $20k each in the very near future. We both agree your input/work over the last few months is your $20k worth.
We’ll all do what’s required, but recognise that we do not want to reinvent wheels or step on each others’ toes.
Couple of other things we discussed in our excitement:
Like Fight Club, “the first rule about Laava is that we do not talk about Laava” in unprotected/non-NOA environment/email. Phone is fine. Encrypted communication coming soon.
We’ve both had a multitude of conversations with friends /acquaintances etc about lofo. We need to stop for now.
Let’s remove the stuff you did last week from “online” and from G:drive as well as the demo lofo stuff.
We will see how far our own money takes us (not very) but we might try to avoid or delay a “friends and family” round for now. I think we know it’s there, but let’s see what other options we have for a more “value add” semi-strategic investors when we have more tangible value “under out (sic) belts”.
That’s it.
(4) 19 April 2017 email
The 19 April 2017 email from Mr Michel to Mr McDonald and Mr Surtees provided:
Tony
What we’d broadly agreed re your shares is that the three of us are equal partners with the only exception being that Iain and I are already 50:50 partners with issued shares, whereas your 1/3 is effectively conditional upon you continuing to be involved and contributing over the next 3 years. Effectively reflecting how things evolved in the first place.
We’ve got 30 shares each at $1, you get the right to buy 3x 10 shares at $1, subject to the above.
Because the option over shareholding is greater than 10%, it’s not a traditional ESOP (wouldn’t qualify under ATO rules), and I wouldn’t want it to have negative tax implications on any of us.
Have you got a particular way in which you’d like this done. At this point in time, getting legal / tax advice is not really something I want us to spend much money on.
Any ideas, old templates floating around that could avoid that?
Maybe we issue you 30 partly paid shares to $0.01 with no voting / dividend rights until fully paid today, and the company invites you to pay up $0.99/share upon your annual contribution event. That could be very simple and probably taxed fairly normally. You’d get an accelerated right to pay up upon share offer / exit.
Would that work?
(5) 15 September 2017 email
The email from Mr Michel to Mr McDonald and Mr Surtees dated 15 September 2017 is in the following terms:
Here’s the draft Shareholders Agreement and CK’s share offer letter. I’ve tried to KISS.
SHA
3 directors. CK in due course, if we all feel we need you to become director and you want to be, we can discuss.
Tag along trigger at 40%, drag along at 50%.
Right of first refusal extends to all shareholders
No share sale allowed for first 3 years unless exit
Non compete for us 4
CK offer letter
No vesting, but the forced sale provisions achieve the same thing in the first 3 years, i.e. leaves for any reason in first 2 years, then we buy them back at $1, good leaver in 3rd year, then 15% discount to fair market value.
I’m conscious that this is the last thing you’ll want to do not only on the week-end, or at any time. The quicker we do it, the quicker I can give it to Christian. Let’s discuss when ready.
(6) 19 September 2017 email
The email from Mr Michel to Mr McDonald and Mr Surtees dated 19 September 2017 concerning Mr Kirschenpfadt is in the following terms:
Ok I’ll go back to him on that. The important thing for us 3 is that our shares are fully owned fully paid. If we die or stop working on Laava tough luck, that’s our communist ideal from day dot. In the shareholders agreement we have also enshrined a right to a board seat. This is because the board has certain powers to make decisions (offering jobs, entering into major contracts etc) which we want a say in.
For CK I think it’s more about being treated as part of the gang. I think I’ll clearly express that he is but we’ve known each other a long time and yes Tony had to wait to be one of us despite us knowing each other a long time.
(7) 26 September 2017 email
The email from Mr Michel to Mr McDonald, Mr Surtees and Mr Dunne dated 26 September 2017 is in the following terms:
Iain, Tony, Peter
CK and I had a pleasant and never heated nor challenging discussion about his board seat.
CK has a personal, emotional need for this. “Show me I’m part of the gang. I want to belong. I want my gang colours.” Acknowledges it may be a tad needy, but that’s his view.
We discussed the different viewpoint about what the role of the board is, shareholders agreement, exec vs board vs shareholder decisions etc, the whole “are you sure you want to be exposed etc”. Won’t bore you with that.
I explained OUR (not Patrick) perspective:
•this isn’t a power play, we’re thinking about pros/cons from the company’s perspective
•positives of giving a board seat to CK NOW: keeps him happy
•negatives (or potential)
1.Peter indicated it would look odd to have 4 exec directors for 1 year old company and is unlikely to last. CK doesn’t share that opinion (that’s all it is) and doesn’t think it’s a strong argument. Fair enough.
2.We all feel it would look strange to give a directorship to a new guy who’s not CEO and to do so in week 2. CK gets that, but wants to know whether there’s a hurdle we can set where he gets it.
3.There is no point doing it from a vote perspective. Currently we have an odd # of directors. If we have 4 directors, we’d need a casting vote. I said, and he totally accepted that it would not be him, and that personally (this time not the company), I had an issue with rocking our equal-pigs communist paradise. My solution therefore would be to say “in a hung vote, the side with 2 founders wins”. That would mean that his vote would always loose and therefore what’s the point. He said he didn’t care about losing a vote, he wanted to be part of it.
He was still concerned there was an underlying motive we hadn’t told him about. I said not but since the logic says there’s one benefit (keeping him happy) vs. a few issues (listed above) we thought it was best to try to reason through it.
I said that personally, we all [one way or another] felt it was a tiny bit bolshy to demand a board seat without having done anything after we’d already gone above and beyond in including him AND that he hadn’t put in any money.
He indicated he at first hadn’t fully appreciated what the founder shares meant to us and that he totally appreciated them, and accepted the idea that perhaps he needed to prove himself first.
He didn’t understand or accept the point that investors could find it odd or question our judgement, but acknowledge that it could be the case.
On how he’d react if investors asked us to shrink the board (and he would be the first one asked to leave), he said he’d deal with that if/when it happened. I said no, that was exactly proving the point that overall it would be negative to give him a board seat if it meant he’d hold a gun to our head at the time of a capital raising. He accepted my point.
He totally gets that we are three equal pigs with 3 equal shares, zero vesting, and founder rights to board seats enshrined in our SHA. He has less shares and vesting. He’s fully ok with that.
So it all went well and everybody could see the other’s point of view and we left is at this: “PM, I’ve heard what you said, I get it, you’ve heard what I had to say, you get it. Let’s stop now and I’m comfortable with the following solution: I’ll leave it to you guys to consider and get back to me with your answer. I will accept it either way and not hold a grudge, but I would like a board seat. No need to speak to Peter or anything like that.”
So he’s obviously a smart negotiator, which I really like, because he’s left us with the choice of a win-win or win-lose position, he wasn’t overly emotional (or if he was a bit, not aggressively so) and open-minded. One of the things I was worried about after his first email of “non negotiable” was that we were dealing with a macho hot-head. We’re not.
My recommendation is that the best solution is this:
•Acknowledge his position.
•Grant him a board observer right starting tomorrow, and a board seat subject to the following conditions
oIf he proves himself in the next 6 months by
•signing up 3 pilots,
•dealing successfully with CSIRO,
•executing on 3 pilots,
•building a cohesive team with proper systems and
•being a super cobber we all want to partner with.
oHis board seat is offered for surrender as part of the capital raising, i.e. we acknowledge you might prefer a smaller board. No tanties, no negotiations, no ifs no buts.
oHung board decision won by 2 founder directors.
It costs us and the company nothing, no risk of him getting pissed off, motivates him to achieve, we avoid the potential capital raising downsides.
All those in favour?
(8) 8 December 2017 emails
The email dated 8 December 2017 from Mr Michel is in the following terms:
I’ve attached the Peter Dunne capital raising email below as a follow on.
Here’s what we discussed today:
•If we try to raise $3-4m today, we’re going to write off the ability to get Commercialisation Australia free $1m, We’re also heading into a dead zone of Dec-Jan
•We can easily pass the hat around for $500-600k now: Around the table we found $500-600k, between mum, my sister, me, Tony, CK. Offer to Iain/Ingo/Brad also. All in convertible notes.
•We then go hard core, CK/TS/PM in putting together a [$700k-1m] application to CA to have that ready ASAP and possibly submitted to Feb/Mar meeting.
•We then proceed with cap raising:
o1-3 corner stone high-profile investors for $1.5-3.0m to sign term sheet underwrite cap raising of convertible notes.
oGrok / Quantium / CSIRO / Kin
oEbay / Amazon
•$1.0-1.5m F&F round on same terms with high hurdle of value add
Is that accurately reflecting what we decided?
Mr McDonald’s response of the same date is in the following terms:
Just picking up this thread of one of us putting in cash... when we agreed to ‘communist model’ - part of this idea was the three of us had the same shares ongoing. Equality front and centre.
I’d be very unhappy if there were a change to any equality through personal investment. My reasoning:
Making this business viable is not just about cash contributions as we all know. Speaking personally, I feel like I’m funding this thing every day, and my bank balance certainly reflects that; 11 months, (the vast majority unpaid). Not sure what state Laava would be in today if I had done otherwise. If we end up going down this route of one of us personally investing money to get more equity (yet my time investment/costs +IP generation = no equitable value) then I’m better off quitting Laava tomorrow, going back to getting a stupendous salary and buying more Laava stock.
Probably the only way I’d feel happy with one of us investing own money is if that investment bought stock that was distributed equally to the three of us. - to keep it in line with the spirit we all entered into this.
Personally I want to see external strategic investment, not one of us buying more stock and creating differences in shareholding between TS, IM, PM.
Make sense?
Mr Michel’s 12 December 2017 email to Mr Kirschenpfadt is in the following terms:
When do you plan to have something we can discuss. As you know, Iain is putting a lot of pressure on the three of us to come up with money now…and not from us. That’s fine, the issue is that Tony and I both know what we need to put ourselves in front of investors asking for money. The model is not an issue, the business plan is:
who we ware (sic)
what we do
what problem do we solve
How we’re going to make money
How we’re going to protect our assets
How you’re going to make money from us making moneyI’ve got 12 things do to tonight, one of which is to send out the CA form. I’ll do that today (and your invoice)
(9) Failure of Mr Michel and Mr Surtees to invest personally following Mr McDonald’s 8 December 2017 email
The McDonald Interests rely upon the fact that Mr Michel and Mr Surtees did not, following Mr McDonald’s 8 December 2017 email, invest funds in Laava, as had been foreshadowed in Mr Michel’s email of earlier that day.
(10) March 2018 conversation
The March 2018 conversation is recounted by Mr McDonald as follows:
McDonald:That excel spreadsheet is the final nail in the coffin for me. I have said for a long time now that I have real problems with parity. Patrick has a growing conflict of interest with his mother’s investment. This is an issue. He is making suggestions that are clearly not in the best interests of the other founders.
The communist model is not working. Nothing is equal at present. In addition, various commitments, milestones and promises were made by Patrick to me personally about this venture that have not panned out.
My contribution to this business has not been fairly recognised at all. I have absorbed ongoing costs, had to make loans, my IP, my time. I am CEO, absorbing all the business stress, employee issues, finding talent, finding clients. 100% of product development is on my shoulders and pretty much everything else. I am working round the clock and have been paid 60k, when Patrick continues to run Watt Solutions. It’s all take, no give and right now, I’m pretty much over it.
Surtees:Patrick has admitted quite emotionally that he does not think he is capable of performing within the company or raising the money required and is ready to leave. I spent a couple of hours talking him off the cliff. I have convinced Patrick to stay and raise the money. I have agreed to help him and will take him under my wing and coach him. There are many issues outstanding and in my role as Chairman, I think I can fix them and get Patrick performing, so please stay.
McDonald:Ok, but we really need to address these issues though Tony.
Surtees:I promise you I will address them, but for me to do that you must leave it to me and not speak to Patrick about these issues anymore. If you have issues with Patrick, don’t get into them with him, come to me.
McDonald:Ok, I won’t, but you need to understand that I need you to address them.
Surtees:I will do my best.
Mr Surtees’s evidence was that he recalled a conversation to that effect at some point but he could not be precise about when it occurred.
(11) 15 June 2018 email
The email from Mr Michel to Mr McDonald dated 15 June 2018 was in the following terms:
Iain
I can see you’re about to go on another one of your intense sessions, about me again (Christian or somebody else), because in this particular case, I haven’t spent the last 2 weeks doing the 12 tasks you decided to assign to me in ASANA without discussing it ahead of time. DON’T. Focus your energies more positively.
Also, don’t use Tony as your messenger because it’s not his job. How about sitting down with me, having a meal or a drink, talking etc. That’s what partners / friends do.
Some people, react well to being given tasks like that, usually by their managers. I react better to being your friend, partner, co-founder.
I semi understand why you thought that should go on my plate, because in the imaginary job definitions we’ve assigned each other, these would sort of be “shit admin”, therefore CFO, therefore me.
Raising capital is my first priority BY MILES. I have been going at it 100% for 3 months, we are just about to reach $2.3-2.4m in commitments, $1m funded. It’s bloody hard work and requires my full focus, calls, emails, meetings, travel, coffees, meetings, calls, emails, meetings, calls etc. Every time I have somebody pull out for whatever reason, I have to go and have another 2-3 meetings. When ADVNCR pulled out, I have to find another 20 interested parties etc.
So I like you, I love what we’re doing, we’re making great progress, we’ve all got a part to play and yes, I will try to make progress this week-end on some of these shit tasks.
In the mean time, relax AND don’t go complaining to Tony about me.....
Have a great week-end.
(12) Mr Ger’s evidence in cross-examination
As noted above, Mr Ger’s evidence in cross-examination was:
Q: And that’s not, in your view, an unusual idea, that founders of a company should have relative to each other the same amount of equity, is it?
A: I don’t think it’s unusual, no
Consideration
I am not satisfied that there ever was an Ongoing Equality Understanding, for the following reasons.
First, Mr McDonald’s affidavits (as he accepted) do not set out any discussions with Mr Michel or Mr Surtees (or both) in which they agreed that the shareholdings of the Founder Shareholders would remain equal. The 20 February 2017 conversation, even on Mr McDonald’s version, does not evidence such an agreement between him and Mr Michel (much less Mr Surtees).
Secondly, there is no single email exchange recording such an agreement or understanding.
Thirdly, the parts of the emails upon which the McDonald Interests rely are disparate and were written in a variety of contexts and no individual part of those emails evinces a mutual understanding that there would be ongoing equality of shareholdings as between the Founder Shareholders. In particular:
(1)whilst the emails contain references to the “communist model”, there is no evidence of a mutuality of understanding as to what that phrase meant. Similarly the references to “equal pigs” and like phrases. In an email sent by Mr McDonald to Mr Surtees on 19 March 2018, Mr McDonald wrote in terms which suggested that the “communist model” reflected equality of contributions to Laava’s business:
It’s unclear to me under the ‘communist model’ how the balance of work done, responsibility, stress, strategy, clients, partnerships, time investment, personal energy, sacrifice has anything to do with a communist model. Whilst the clear promise of entering business as ‘communists’ was that there would be some kind of “like for like” input (money instead of IP or time, IP instead of time or money, Time instead of IP or money) the balance isn’t there at all.
It is not to the point that Mr McDonald now says that he thought that “the equal pig communist conversation” meant that the Founders would forever have equal shareholdings in Laava (T163.7) absent evidence from which it could be concluded that this understanding was mutual;
(2)the email of 8 December 2017, which is the high point of this evidence, is an assertion by Mr McDonald (after entry into the Shareholders’ Deed) that there was such an understanding. It does not rise any higher than the level of assertion. The fact that Mr Michel and Mr Surtees did not then go ahead and invest in convertible notes as foreshadowed in Mr Michel’s 8 December 2017 email (see [64] above) is not a recognition by them of the veracity of Mr McDonald’s assertion as much as it is an appeasement of Mr McDonald. Mr Michel remembered well that this email left him confused and perplexed by Mr McDonald’s position that a cash investment by Mr Michel, his mother’s or his sister’s investment entities, or by Mr Surtees’s investment entity, would not be acceptable to Mr McDonald unless “that investment bought stock that was distributed equally to the three of us”, whereas the same investment by any third party would be totally acceptable . Similarly, Mr Surtees’s evidence was that Mr McDonald’s email took him by surprise and he could not understand how Mr McDonald’s “proposition would actually work and how it would not contemplate a circumstance where, if the company needed money, that the founders were somehow or another prevented from doing so without causing a problem”.
Fourthly, the March 2018 conversation does not assist the McDonald Interests. It does not establish any (prior) understanding that shareholdings in Laava as between the Founders would always be equal.
Fifthly, Mr Ger’s answer in cross-examination is of no moment. He was not a party to the alleged understanding and the question he answered does not suggest that such equality would endure.
Sixthly, if such an understanding had been reached, and noting that it is alleged to have been reached between February and August 2017, then in light of its contended centrality to the relationship between the Founders, it is probable that it would have been included in the Shareholders’ Deed entered into in November 2017. Instead, the Shareholders’ Deed not only includes no reference to any Ongoing Equality Understanding but expressly contemplates inequality of shareholdings between the Founder Shareholders (see [82] to [88] below).
Seventhly, it is inherently unlikely that experienced businessmen such as the Founders would have exposed their venture to the possibility that if the corporate vehicle needed to raise capital and one Founder was unable, or chose not, to contribute then the other Founders would be precluded from providing that capital. The evidence of Mr Michel and Mr Surtees of their reaction to Mr McDonald’s 8 December 2017 email is testament to this.
Finally, as discussed at [48] to [53] above, the manner in which the Ongoing Equality Understanding emerged and changed during this proceeding does not engender confidence that it was ever reached.
Any Ongoing Equality Understanding did not survive entry into the Shareholders’ Deed
For the above reasons, I am not persuaded that there was an Ongoing Equality Understanding as alleged. If I had been persuaded that such an understanding had been reached, I would not have been persuaded that it survived the execution of the Shareholders’ Deed, for the following two reasons.
(1) The Ongoing Equality Understanding yields to a contrary agreement and the Shareholders Deed is a contrary agreement
The first reason is that the alleged Ongoing Equality Understanding is pleaded as one that was subject to the terms of any agreement between the Founders. As the Shareholders’ Deed is such an agreement, any terms of the Shareholders’ Deed which contemplate unequal shareholdings as between the Founder Shareholders must prevail. In this regard, cl 5 of the Shareholders’ Deed, which deals with further capital raising, is pertinent. Clause 5.1 provides:
5.1 Right of first refusal
(a)Subject to clause 5.4, if the Company proposes to issue Shares to any person, the Company must first comply with this clause 5.1, except to the extent a Shareholder gives the Company a notice waiving its entitlement to participate in such opportunity.
(b)If the Company proposes to issue Shares, it must serve a notice (the Notice of Issue) on each Shareholder specifying:
(1)the terms of issue of the New Shares;
(2)the total number of New Shares available for subscription and the issue price per Share;
(3)any other material terms of the proposed issue; and
(4)a statement to the effect that each Shareholder has an option to subscribe for the New Shares on the terms set out in the Notice of Issue if the relevant Shareholders complies with this clause 5.1.
(c)A Shareholder may offer to subscribe for the New Shares by giving notice to the Company of the number of New Shares it wants to acquire within one month after the date of service of the Notice of Issue.
(d)If a Shareholder offers to subscribe for New Shares then the Company must, subject to receipt of the relevant subscription amount, issue to that Shareholder the number of New Shares allocated to that Founder Shareholder under clause 5.2.
Thus, where Laava proposes to issue New Shares (defined to mean the Shares that Laava wishes to issue, as specified in the Notice of Issue), cl 5.1(c) confers upon each Shareholder (defined to mean a shareholder of the company from time to time) the right to offer to subscribe for a particular number of New Shares, in a number of the Shareholder’s choosing. The Founder Shareholders (as with other Shareholders) may each choose to offer to subscribe for no shares or for a particular non-zero number of shares.
If a Founder Shareholder offers to subscribe for New Shares then Laava must, subject to receipt of the relevant subscription amount, issue to that Founder Shareholder the number of New Shares allocated to that Founder Shareholder under clause 5.2. That clause provides formulae for the calculation of the number of shares to be allotted. To the extent that an issue of New Shares is not fully subscribed for, Laava may issue those Shares to any person(s) determined by its board in accordance with cl 5.3.
Thus, the number of shares held in Laava by each Founder Shareholder after an issue of New Shares will be a function of the number of New Shares for which that Founder Shareholder chooses to offer to subscribe. Ongoing equality as between the Founder Shareholders is a possible outcome, but such an outcome would only occur if each Founder Shareholder offered to subscribe for the same number of New Shares, which is possible, but is not required by the Shareholders’ Deed.
This may be illustrated by a simple example. Let it be assumed that each Founder Shareholder held 30,000 issued shares in Laava and another 4,000 shares were held by a fourth shareholder, making a total of 94,000 shares. This was the position at or around the time of entry into the Shareholders’ Deed in November 2017. Let it be further assumed that: Laava proposes an issue of 100,000 New Shares and serves a Notice of Issue on each Shareholder; the Founder Shareholders offer to subscribe for 20,000, 30,000 and 35,000 New Shares respectively; the fourth shareholder offers to subscribe for 5,000 New Shares; and the board determines to issue the remaining 10,000 New Shares to another person.
By operation of cll 5.1(d) and 5.2 of the Shareholders’ Deed, each offer to subscribe will be met in full and by operation of cl 5.3 of that Deed the remaining 10,000 New Shares will be issued to the new shareholder. Laava would then have 194,000 shares on issue. The shareholdings of the Founder Shareholders would then be 50,000/194,000, 60,000/194,000 and 65,000/194,000 respectively, the fourth shareholder would then hold 9,000/194,000 shares and the new shareholder would hold the remaining 10,000/194,000 shares. Many other examples are available to illustrate that ongoing equality of shareholdings as between the Founder Shareholders was not contemplated by the Shareholder Deed but the basal proposition remains: if there is an allocation of New Shares under cl 5.1, then the number of shares held by the Founder Shareholders will not remain equal unless each Founder Shareholder subscribes for the same number of such shares.
The Shareholders’ Deed also contains no requirement that the Founder Shareholders maintain a particular number (whether in absolute or relative terms) of shares.
(2) The entire agreement clause
The second reason why any Ongoing Equality Understanding would not have survived the Shareholders’ Deed is that the Shareholders’ Deed superseded any Ongoing Equality Understanding. Clause 14.13 of the Shareholders’ Deed provided:
14.13 Entire agreement
This deed and the Constitution supersede all previous agreements between the parties or any of them in respect of their subject matter and embody the entire agreement between the parties in respect of that subject matter.
Thus, the Shareholders’ Deed and the Constitution (which, it is common ground, was not brought into existence) “supersede all previous agreements between the parties or any of them in respect of their subject matter” and “embody the entire agreement between the parties in respect of that subject matter”. The expression “subject matter” is used twice in cl 14.13. It is a reference to the subject matter of “the deed and the Constitution”. The effect of cl 14.13 is that if (relevantly) the Deed deals with a “subject matter”, then the Deed supersedes all previous agreements between the parties or any of them in respect of that “subject matter” and it embodies the entire agreement between the parties in respect of that “subject matter”.
The Shareholders’ Deed deals with the terms on which the relationship between the shareholders of Laava is to operate. In this regard the Recital provides:
The parties wish to regulate the operation of their investment in the Company, and to provide for the operation and administration of the Company Group, on the terms of this deed.
More specifically, the Shareholders’ Deed addresses:
(1)Laava’s equity structure as at commencement of the Shareholders’ Deed (cl 2);
(2)the issue of new shares (cl 5, as discussed above); and
(3)the transfer of shares (cl 8).
It follows that the subject matter of the relative shareholdings between the Founder Shareholders is dealt with in the Shareholders’ Deed and the Shareholders’ Deed supersedes any Ongoing Equality Understanding and embodies the entire agreement with respect to that subject matter.
Conclusion on the Ongoing Equality Understanding
On 26 October 2021, Mr Surtees sent an email to Mr McDonald attaching a draft amended Shareholders’ Deed and a draft Constitution. The amendment to the Shareholders’ Deed was proposed in connection with the proposed capital raising. There followed further correspondence, including correspondence between the solicitors for the McDonald Interests and other parties. This in turn led to the commencement of this proceeding on 5 November 2021.
On 27 October 2021, Mr Michel prepared letters offering the issue of the options. In those letters:
(1)Wilemich is to be offered 24,333 options at an exercise price of $42.43 per option, with the options vesting immediately;
(2)MCA is to be offered 7,300 options at an exercise price of $42.43 per option, with the options vesting immediately;
(3)Wyargine is to be offered 36,500 options at an exercise price of $42.43 per option, with the options vesting immediately; and
(4)Mr Fitzpatrick is to be offered 3,042 options at an exercise price of $1.00 per option, with:
25% of Options to vest 12 months after [9 January 2021] and the remaining 75% of Options vest on a quarterly basis over the next 3 years) which will apply if no vesting dates or conditions are included in this offer letter.
The letters have not been sent.
The issue of the Second Directors’ Options would create the possibility of those options being exercised, thereby diluting CDO’s interest in Laava. Thus, there is a potential prejudice to CDO. Whether that potential prejudice could be considered an unfair prejudice for the purposes of s 232(e) of the Corporations Act arises for consideration in a context which includes: the proposed capital raising; the negotiations with Intertek; the contributions made to Laava by Mr Michel, Mr Surtees, Mr Ger and Mr Fitzpatrick; the requests being made by Mr Ger for a greater interest in Laava; and the terms of the offers.
The McDonald Interests submitted that the 27 August 2021 board paper prepared by Mr Michel was central and “speaks for itself” and in particular the references to “a significant issue of options skewed heavily towards key employees to achieve ahead of the transaction”, Mr McDonald as “one founder who was paid and never invested in the business” and to the absence of “capital to buy-out passive shareholders”. The McDonald Interests also submitted that Mr Michel was proposing that Laava issue options so as to increase the equity holdings of Mr Michel, Mr Surtees, Mr Ger and Mr Fitzpatrick and thereby deliberately dilute CDO’s equity “ahead of a value-accretive transaction or (possibly) transactions”.
As previously discussed, a decision to issue options, in what amount(s) and at what strike price(s) is ultimately a question of commercial judgment and the Court should only second-guess the exercise of such judgment when the decision made is one that is so unfair that reasonable directors would not have thought the decision fair.
Mr Michel’s evidence is that at the time of voting for the 22 October 2021 resolution he considered that the proposed allocation of options was appropriate and in the best interests of Laava because:
(1)it was critical for Laava to retain and incentivise key staff, and he considered that the allocation and number of options for each team member appropriately served that purpose;
(2)it was important to present a company to investors that was aligned to market expectations, where the persons whom investors are backing to lead the Company are sufficiently incentivised with equity and are satisfied with their equity position so that their performance and retention is maximised;
(3)it was important to reward “those who had been in the company for a long time and who had made substantial sacrifices over the past years with only a minute equity stake”; and
(4)as the economy started to pick up following what appeared to have been the worst of the COVID-19 pandemic, it was important to lock in key team members for the next three to four years.
Mr Michel’s calculation of the number of options to be issued to each person was explained by him as follows:
(a)taking into account the Series A raising and conversion of convertible notes (but excluding the new options under consideration), Gavin’s 3,000 shares and 9,000 options would amount to only approximately 3.4% of the Company’s fully diluted capital, whereas the Company’s founders, Wilemich, MCA and CDO, would collectively hold 30.5%, a significantly higher amount;
(b)Gavin’s equity on that basis did not reflect that Gavin had worked full time since 2018 and had led the Company as Joint CEO for almost 2 years, and was in many respects seen by the team and the Board as a founder. For me, this not only or even predominantly a question of rewarding Gavin for previous efforts (although that was a factor), but rather a means by which to “lock him in” for at least the next 3-4 years or until an exit event;
(c)Gavin had requested a post raising equity of 20-25% of total options issued as set out in his Slack message to me dated 24 August 2021;
(d)I prepared in Microsoft Excel a table of team members who would be issued options, and populated the table with different option scenarios taking into account their contribution to the Company and their seniority, as well as the overall impact on the Company’s fully diluted capitalisation table, and their relative proportions of the option pool having regard to those factors;
(e)after experimenting with various scenarios in the spreadsheet, I discussed the proposed structure with Tony, Rob and Gavin on a number of occasions in late August and September 2021. Following these discussions, I circulated a version of the table via email on 2 September 2021. … and it also appeared in my paper prepared for the 24 September 2021 board meeting referred to above. Ultimately the board agreed that those proportions were appropriate and approved them;
(f)in respect of the options to be issued to me, I did not seek a parity of options with Gavin, but was prepared to accept 65% of Gavin’s allocation, notwithstanding that we both held the role of Joint CEO, having regard to both my then current amount of equity, and my own assessment of Gavin’s value to the Company. I raised this during discussions with Tony, Gavin and Rob Fitzpatrick and they agreed;
(g)in respect of the options to be issued to Tony, I considered that an allocation of 25% of the options to be issued to Gavin was an appropriate reflection of Tony’s relative contribution in terms of time, effort and value brought to the Company (which included, for example the introduction of lntertek, which I deal with below in this affidavit). I raised this during discussions with Tony, Gavin and Rob Fitzpatrick and they agreed;
(evidentiary cross-references omitted)
In cross-examination, Mr Michel gave the following evidence:
Mr Condon:All right. And can I suggest to you, the reasons you wanted so many options exercised, or to be issued, in September 2021 – or a reason – was that it would dilute Mr McDonald’s interest in the company?‑‑‑
Mr Michel:The reason we needed to issue what is considered a – you’ve said it yourself, and the notes talk about a significant amount of option was – and the fact that the options to date had been issued in part to Mr Buckley and others, and were not sufficient to give investors what they were seeking, which is to see that the team that they were backing were heavily incentivised to make it happen, whether – there’s plenty of terminology being bandied about, which I won’t bring up in the court, but they want to see skin in the game, and same as the answer I gave you in relation to the shareholders agreement, there’s a few things that investors needed ticked. Mr Shein, David Shein, probably one of Australia’s most highly-regarded investor at OIF, and a very seasoned investor as well as entrepreneur, for example, said, “I’m not investing in this until you guys have got a –” you know, the people pulling the levers are the ones incentivised.
Mr Condon:And ‑ ‑ ‑?‑‑‑
Mr Michel:I was therefore not contemplating this with a purpose of diluted Mr – CTO, Mr McDonald, no.
Mr Condon:Did it ever cross your mind? Are you saying it was no part of your thinking, in September 2021, that a purpose of his proposed transaction was to deal with the problem of Mr McDonald’s shareholding?‑‑‑
Mr Michel:No. An outcome of it would be that he would be diluted, and I did have concerns about also investors like Mr Longstaff ..... who had backed us previously in ordinary shares. They didn’t have convertible notes, and they had ordinary shares, and they too would be diluted.
Mr Condon:And part of the reason you wanted to dilute Mr McDonald’s interest was because you wanted to accommodate Mr Ger’s concern to increase his equity in the company, correct?
Mr Condon:I’m sorry, forgive. Okay. Part of the – I’m sorry, that was – I apologise, Mr Rayment.
Mr Michel:Part of the reason you wanted this to occur was to accommodate Mr Ger’s concern, to ensure that the equity in the company – his equity in the company was increased?‑‑‑Absolutely, and that of the team. Part of the reason for doing this was to make sure that the team felt heavily incentivised and locked in.
Mr Condon:No, but you were pushing this through because you knew of the possibility of a sale to Intertek of the company, correct?
Mr Michel:Pushing what through, Mr Condon?
Mr Condon:The issue of the options?
Mr Michel:You asked me before. It was in – the issue of the options was motivated to keep the team engaged. And I was responding to Mr Fitzpatrick there that the board has full control on this right now. It’s not enshrined in the ESOP, which is what he had pointed out.
Mr Condon:See, what I’m suggesting is at the time, in September 2021, you perceived of the possibility that the company would be bought by Intertek for a very significant amount of money, correct?
Mr Michel:It was a possibility, probably, yes, a far ‑ ‑ ‑
Mr Condon:And you wished to exercise – well, have these options issued for a number of reasons, one of them was to take advantage of the proposed purchase by Intertek, correct?
Mr Michel:No, Mr Condon. The purchase of Intertek was definitely hanging in the – in the air, as you would say. But as a director, we’re trying to raise capital. In fact, as you know, it’s 17 million. We weren’t telling Mr Fitzpatrick or Mr Dwyer that the company was to be raising capital at … million, because it had such a – you know, a high level of uncertainty and probability attached to it, but I needed to continue to operate on the basis that we were going. As a going concern, we needed to raise capital to lock in the team and to continue to ensure that these people stayed on in the company for a long period of time, because they were all, in my eyes, core, except perhaps for Erin, even though I – she would be very offended to hear that. She is very core, but she didn’t need any more options because she wasn’t ‑ ‑ ‑
Mr Condon:And in October 2021 you were contemplating issuing over 100,000 options; is that right?
Mr Michel:Correct, yes.
Mr Condon:And I want to suggest to you that a reason for doing that was to delight – to dilute CDOs interest in the company?
Mr Michel:A consequence of doing that, not a reason, Mr Condon.
Mr Condon:Yes. And was one of the reasons you were contemplating the conversion of loan into equity the dilution of Mr McDonald’s interest in the company?
Mr Michel:No, not at all.
Mr Surtees’s evidence is that he voted in favour of the resolutions for the issue of the options because he believed that the resolution was in the best interests of Laava, as it would help to secure the long-term commitment from key managers and team members. Mr Surtees considered that each of the parties to whom the options were to be issued was important to the future of the Company, and the number of options proposed to be issued to each person were appropriate incentives and reflected the value of their ongoing contribution to the business. Mr Surtees understood that he would receive 20 per cent, and Mr Michel would receive 60 or 65 per cent of the number of options issued to Mr Ger. He also understood that this would cause CDO’s shareholding to be diluted but this was not the purpose of the issue of the options.
Taking all of the above into account it is clear from both the contemporaneous correspondence and the evidence of Mr Michel and Mr Surtees that the decision to issue the options was a commercial decision made to provide incentives to those working in Laava and to demonstrate to investors that those working for Laava had appropriate incentives. I do not accept that the decision was made so as to dilute CDO’s shareholding, albeit that would be a potential consequence if the options were to be exercised.
To the extent (which is not clear) that the McDonald Interests rely upon the July 2017 agreement concerning a 12 per cent limit on the number of ESOP options, as noted above, the effect of the ESOP Rules is to provide the directors of Laava with a broad discretion as to the number of options. Whilst I recognise that the proposed issue is for a large number of such options, this does not change my view that this is a commercial decision of the kind with which the Court should not interfere.
I am not satisfied that it is a decision which is so unfair that reasonable directors would not have considered it fair.
6. Further Attempted Loan Conversion
On 27 January 2021, Mr Michel and Mr Surtees, as directors of Laava, resolved to call upon themselves and Mr Ger to provide loans to assist Laava “to meet the terms of the grant agreement with Accelerating Commercialisation”. The resolution was:
The Board has resolved to call upon Patrick, Tony and Gavin to provide a loan to assist the company meet the terms of the grant agreement with Accelerating Commercialisation. The company has approved the terms of this loan (on the same commercial terms as received from Paddington Capital for R&D Loans) which is as follows;
•$93,333 each,
•12% interest for a 6 month loan term, repayable on 1st July,
•a fixed and floating list call charge as security over the assets of the business in total,
•loans can be converted to equity on the basis of a pre-money valuation of $5 million if not repaid,
•timing - funds made each by COB 1st February from Patrick and Tony. Gavin has a timing issue but will provide his funds as soon as possible.
During February 2021, Laava entered into loan agreements with Wilemich and MCA, the terms of which included that:
(1)each of Wilemich and MCA would lend $93,333 to Laava;
(2)Laava would agree to pay interest at the rate of 12 per cent per annum and a default interest rate of 15 per cent per annum on those loans; and
(3)if an Event of Default occurred, then Wilemich and MCA were able to require Laava to repay the loan and interest immediately or to cause the loans to be converted into equity at a pre-money valuation of $5 million if not paid.
Each of Wilemich and MCA advanced $93,333 to Laava pursuant to the loan agreements.
On 29 August 2021, Wilemich and MCA each wrote to Laava agreeing to waive any pre‑existing events of default and extending the maturity date of the loan to: “earlier of 31/12/2021, or the sale of the company (or asset equivalent), or the closing of a capital raising currently contemplated by Laava ID Pty Ltd”.
On 26 October 2021, Mr Michel and Mr Surtees met as the board of Laava and passed a resolution to give effect to the Series A capital raising. As part of that resolution, they resolved to issue Series A Preference Shares to each of Wilemich, MCA and Lufrapa in the following amounts:
(a)5,381 Series A Preference Shares to Wilemich, in conversion of a debt of $228,333 owed by Laava, comprising the $93,333 loan and a $135,000 wage loan from Mr Michel for the period 1 January to 30 September 2021;
(b)2,836 Series A Preference Shares to MCA in conversion of a debt of $120,333 owed by Laava comprising the $93,333 loan and a $27,000 wage loan from Mr Surtees for the period 1 January to 30 September 2021; and
(c)8,248 Series A Preference Shares to Lufrapa in conversion of $350,000 of the $450,000 debt owed by Laava to Lufrapa.
The issue of these shares has not yet occurred.
Mr Michel’s evidence is that he voted in favour of those transactions because in the context of the Series A capital raising he considered that it was important and appropriate to convert these outstanding and immediately payable debts to equity to remove them as short term liabilities on Laava’s balance sheet, which would otherwise have been a significant disincentive to investors. Mr Michel also gave evidence that the removal of short term liabilities such as director loans had been specifically requested by Mr John Fitzpatrick as a significant investor in the Series A capital raising.
Mr Surtees’ evidence is that the conversion of the loans was important because not having those loans on Laava’s balance sheet, in the context of Laava seeking to raise capital, would be attractive to investors.
The McDonald Interests do not challenge the proposed conversion of the Lufrapa loan. Nor have they taken issue with the fact that part of the consideration for the proposed conversions of the debts owed by Laava to Wilemich and MCA is the wage loans for 2021. Instead, the focus of the challenge by the McDonald Interests to these proposed conversions is upon the component of the consideration relating to the $93,333 loans made by Wilemich and MCA in February 2021.
In this regard, the McDonald Interests submitted that the Court should reject the evidence of Mr Michel and Mr Surtees as to why the conversions are proposed and should find that the loans were entered into in February 2021 for the purpose of facilitating the further issue of equity to Wilemich and MCA (and Lufrapa), and (implicitly) that the conversion of the loans was the fulfilment of that purpose, and that such purpose was improper, rendering the issue of the shares conduct satisfying s 232(e) of the Corporations Act and a fraud on the power to issue shares. The McDonald Interests submitted:
Given that (1) $5 million was a substantial discount to contemporaneous valuations which the company and external investors had placed on the company; (2) the February 2020 loans between the company and MCA/Wilemich were not otherwise commercially negotiated – they were entered into after finance was extended; (3) while these loans notionally replaced pre-existing loan agreements from May 2020, they were not on the same terms as those agreements in that the pre-existing agreements did not involve any debt to equity swap; (4) the company did not seek to raise finance from any third parties to meet its short term cash flow needs, in circumstances where it had been able to raise finance from third parties previously; (5) the loan agreements involving the debt to equity mechanism were made at a time at which Mr Michel was “confident” that the company would succeed in its Series A fundraising and Mr Surtees was “confident” the company would repay the loans; (6) the loan agreements were made at a time, or shortly after, Mr Michel’s exploration of a means to “rebalance” Laava’s cap table to increase the equity held by (among others) Mr Surtees and Mr Michel, and decrease CDO’s equity, the Court would conclude that the purpose of the debt to equity mechanism included in the loans was to ensure that Mr Surtees and Mr Michel could acquire (through their companies) more shares in Laava, at the expense of CDO’s shareholding, and at an undervalue. That is, the loans were the “investment in cash” by Mr Michel and Mr Surtees referred to in Mr Michel’s email of 17 December 2020 to Mr Aaron. To the extent that Mr Surtees and Mr Michel denied this proposition, which was in substance put to them … the Court would reject that denial as inconsistent with the objective probabilities assessed in light of the documentary material and surrounding circumstances. Moreover, and independently, the Court would find that the price at which Wilemich and MCA’s loan converted to equity was a significant undervalue, and in that way, the transaction was not commercially justifiable.
(evidentiary cross-references omitted)
The McDonald Interests’ submission again invites the Court to review the commercial wisdom of the decisions made in entering into the loan agreements and later resolving to convert those loans to equity. As noted previously, the Court should be reluctant to do so. It cannot be said that the loans or their conversion lacked any commercial basis, or that they were so unfair that reasonable directors would not have considered them fair, particularly in circumstances where Laava received the benefit of the $186,666 lent to it and the conversion occurred as part of a capital raising in respect of which the directors of Laava (being Mr Michel and Mr Surtees and no CDO representative in circumstances where CDO chose not to have a director) considered it to be desirable not to have substantial debt on Laava’s balance sheet. For the same reasons, I am not satisfied that the purpose of the proposed loan conversions is an improper purpose, much less an improper purpose but for which the loan conversions would not occur.
H. UNCONSCIONABLE CONDUCT CASE
The McDonald Interests pleaded, in a “rolled-up” manner, that the conduct which was oppressive was also unconscionable for the purposes of s 12CB of the ASIC Act. This case was not developed and it was not suggested that any different result would follow if CDO’s case were considered through the prism of unconscionable conduct rather than oppressive conduct. To the limited extent that the McDonald Interests’ closing submissions mentioned unconscionable conduct, that occurred together with reference to oppressive conduct in connection with share and options issues. No separate case was developed with respect to unconscionable conduct against Mr McDonald and in any event such a case would have failed for the reasons given above when considering the oppression case.
I. DIRECTORS’ DUTIES CASE
The McDonald Interests also pleaded that by engaging in the conduct which was alleged to be oppressive, Mr Michel and Mr Surtees contravened the duties owed by them to Laava under ss 180 to 183 of the Corporations Act. However, no leave was sought to bring such an action on behalf of Laava against Mr Michel and Mr Surtees. The alleged breaches of these duties as a cause of action (brought by or on behalf of Laava against Mr Michel and Mr Surtees) separate from the oppression claim (brought by CDO against the Majority Interests) was not developed by the McDonald Interests. Conduct which may have been relevant to a claim for breach of the statutory duties and which is also relevant to the oppression claim has been taken into account as part of the latter claim.
J. BREACH OF CONTRACT CASE
The McDonald Interests pleaded that the failure to notify them of the impugned transactions constituted a breach of cl 5.1 of the Shareholders’ Deed. For the reasons previously discussed, there was no contractual obligation upon the Majority Interests to notify the McDonald Interests of the impugned transactions. In any event, there is no evidence that the failure to notify them of the impugned transactions caused them loss. In particular, it is not suggested that if notice had been given and the procedure in cl 5.1 had been engaged, then CDO would have subscribed for further shares and thus that CDO was deprived of the opportunity to subscribe for further shares.
The McDonald Interests also relied upon the implied term described at [213] above. For the reasons discussed at [214] to [217] above, no such term is to be implied.
K. RELIEF
For the reasons set out above, I have concluded that the affairs of Laava were conducted in a manner that was unfairly prejudicial to or discriminatory against CDO with respect to the issue of:
(1)3,524 shares to Wilemich and 3,527 shares to MCA in June 2020 (as part of the Second Share Issue); and
(2)2,500 shares to Wilemich and 500 shares to MCA in July 2021 (Third Share Issue),
(together, the contravening share issues), but not otherwise. Thus, the Court’s discretion in s 233 of the Corporations Act is enlivened.
I turn now to consider the appropriate remedy. Section 233 of the Corporations Act provides:
233 Orders the Court can make
(1) The Court can make any order under this section that it considers appropriate in relation to the company, including an order:
(a) that the company be wound up;
(b) that the company’s existing constitution be modified or repealed;
(c) regulating the conduct of the company’s affairs in the future;
(d) for the purchase of any shares by any member or person to whom a share in the company has been transmitted by will or by operation of law;
(e) for the purchase of shares with an appropriate reduction of the company’s share capital;
(f) for the company to institute, prosecute, defend or discontinue specified proceedings;
(g) authorising a member, or a person to whom a share in the company has been transmitted by will or by operation of law, to institute, prosecute, defend or discontinue specified proceedings in the name and on behalf of the company;
(h) appointing a receiver or a receiver and manager of any or all of the company’s property;
(i) restraining a person from engaging in specified conduct or from doing a specified act;
(j) requiring a person to do a specified act.
Order that the company be wound up
(2) If an order that a company be wound up is made under this section, the provisions of this Act relating to the winding up of companies apply:
(a) as if the order were made under section 461; and
(b) with such changes as are necessary.
Order altering constitution
(3) If an order made under this section repeals or modifies a company’s constitution, or requires the company to adopt a constitution, the company does not have the power under section 136 to change or repeal the constitution if that change or repeal would be inconsistent with the provisions of the order, unless:
(a) the order states that the company does have the power to make such a change or repeal; or
(b) the company first obtains the leave of the Court.
The breadth of the Court’s discretion is apparent from the chapeau of s 232(1) – the Court can make any order that it considers appropriate in relation to Laava. In Campbell:
(1)French CJ stated at 334 [72]:
... It is neither necessary nor desirable to explore, in the light of the rather diverse approaches taken below, the propounded limitations on the circumstances in which the remedies for oppression or unfairly prejudicial conduct of a company’s affairs can be granted. Their language and history indicate that ss 232 and 233 are to be read broadly. The imposition of judge-made limitations on their scope is to be approached with caution. …
(2)Gummow, Hayne, Heydon and Kiefel JJ stated at 359 [174]:
If one or more of the grounds identified in s 232 of the Corporations Act is established, the Court is empowered by s 233(1) to “make any order under this section that it considers appropriate in relation to the company”. Ten species of order are identified – ranging from an order for winding‑up to an order restraining a person from engaging in specified conduct or from doing a specified act, or requiring a person to do a specified act….”.
Whilst the range of relief that may be granted is broad, in the exercise of the discretion it is appropriate to seek to identify a remedy which meets the needs of the particular case in view of the nature of the unfair conduct that has been established, by removing the effect of the that conduct and framing orders which are the least intrusive and enable the company to continue if possible. In Fexuto Pty Ltd v Bosnjak Holdings Pty Ltd [1998] NSWSC 413; (1998) 28 ACSR 688 Young J (as his Honour then was) stated at 742:
Although there is no reported authority on the matter, my view is that the section should be applied by first considering whether orders can be made for regulating the company's affairs in the future so that there is no further oppression or unfair conduct, if that cannot be done, to see if there should be a buy-out by one faction of another: Re Enterprise Gold Mines NL (1991) 3 ACSR 531 at 539. The remedy chosen should be the least intrusive: Martin v Australian Squash Club Pty Ltd (1996) 14 ACLC 452 at 475. Only as a last resort is the court to make a winding up order of an otherwise solvent company under the section.
The flavour of the section also is that the court is only to give the remedy which removes the oppression. Note the remedy in fact given in Re H R Harmer Ltd [1959] 1 WLR 62 at 68. Thus it is not enough merely to find oppression and then proceed to find some remedy that might bring peace to the company generally. The court should only grant the remedy that removes the oppression found.
In Tomanovic v Argyle HQ Pty Ltd; Tomanovic v Global Mortgage Equity Corporation Pty Ltd; Sayer v Tomanovic [2010] NSWSC 152 Austin J explained at [44]:
Although a compulsory buy-out is often ordered, the granting of such relief is properly subject to the broader principle that the Court will seek to craft orders which are the least intrusive to the management of the affairs of the company, consistent with the termination of the oppression: Fexuto Pty Ltd v Bosnjak Holdings Pty Ltd (1998) 28 ACSR 688, at 742 per Young J; [1998] NSWSC 413; John J Starr (Real Estate) Pty Ltd v Robert R Andrew (A'asia) Pty Ltd (1991) 6 ACSR 63. Consequently, a compulsory buy-out should not be ordered, if less drastic remedies are consistent with the termination of oppression. …
Subject to the consideration of further submissions, it appears that there may be remedies short of a buy-out order available which will end the oppression. One such remedy would be setting aside the contravening share issues and allotments, with (or without) the reinstatement of the wage loans in respect of which those shares were issued and allotted. An alternative remedy would be an order that the wage loan owed by Laava to Mr McDonald be converted into shares in Laava at a particular price. Any change to Laava’s share structure should be the subject of an order for the rectification of its share register.
Whilst the parties made submissions as to the appropriate form of relief, those submissions were addressed at a global level and were not directed at the particular outcome that has now been reached namely, that the contravening share issues, but not the other pleaded conduct, satisfy s 232 of the Corporations Act. In this context, it is appropriate to allow the parties an opportunity to confer as to the form of relief and if agreement is not reached, then to make short further submissions addressing that issue.
I certify that the preceding three hundred and thirty (330) numbered paragraphs are a true copy of the Reasons for Judgment of the Honourable Justice Goodman. Associate:
Dated: 3 November 2022
SCHEDULE OF PARTIES
NSD 1153 of 2021 Defendants
Fourth Defendant:
MORTGAGE COMPANY OF AUSTRALIA PTY LIMITED AS TRUSTEE FOR THE SURTEES FAMILY TRUST ACN 062 471 096
Fifth Defendant:
LAAVA ID PTY LTD ACN 617 775 578
Sixth Defendant:
GAVIN GER
Seventh Defendant:
WYARGINE GROUP PTY LTD ACN 124 126 987
Eighth Defendant:
LUFRAPA PTY LTD AS TRUSTEE FOR THE LUCETTE MICHAEL FAMILY TRUST ACN 161 701 195
Ninth Defendant:
ROBERT FITZPATRICK
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