Allan v Pelf Limited HC Christchurch CIV 2009-409-2263
[2010] NZHC 338
•22 March 2010
IN THE HIGH COURT OF NEW ZEALAND CHRISTCHURCH REGISTRY
CIV-2009-409-2263
BETWEEN JOHN ALEXANDER MCDONALD
ALLAN, JANICE MARGARET ALLAN AND ANTONY CHARLES VERNON BROWN
First Plaintiffs
ANDPETER FERGUS WING Second Plaintiff
ANDJEANNE ROBYN WING Third Plaintiff
ANDPELF LIMITED First Defendant
ANDALISTAIR KEITH WING Second Defendant
ANDAVETTE WING Third Defendant
Hearing: 25 February 2010
Appearances: Mr Rennie for plaintiffs
Mr R G Smedley and Ms Taylor for second and third defendants
Judgment: 22 March 2010 at 3 p.m.
JUDGMENT OF ASSOCIATE JUDGE DOOGUE
This judgment was delivered by me on
22.02.10 at 3 pm, pursuant to
Rule 11.5 of the High Court Rules. Registrar/Deputy Registrar
Date……………
Counsel:
Anthony Harper Lawyers, P O Box 2646, Christchurch
Rhodes & Co, P O Box 13444, Christchurch - [email protected]
ALLAN AND ORS V PELF LIMITED AND ORS HC CHCH CIV-2009-409-2263 22 March 2010
Background
[1] The following statement of the uncontroversial features of the background to this case is largely based on the summary of background in Mr Smedley’s submissions.
[2] Pelf Ltd was incorporated on 11 February 2002 for the purpose of purchasing land. It is agreed that Pelf carries on a joint venture business with the following purposes:
(a) To purchase a dairy herd, farm plant and machinery;
(b) To combine the resources of the parties for the most effective and productive use and maximisation of return;
(c)To enable the shareholders to obtain a revenue and capital growth from their respective investments; and
(d) To facilitate variation at any time of the shareholders’ separate interest in the joint venture.
[3] In 2004, Pelf was restructured for the sole purpose of creating a corporate vehicle to carry on a joint venture between shareholders at the time to:
(a) Purchase a dairy farm, farm plant and machinery; and
(b) To facilitate variation, at any time, of the shareholders’ separate interests in the joint venture.
[4] The relationship between the shareholders and the company is set out in two documents, namely:
(a) Pelf’s constitution (“the Constitution”) which was adopted on 31
May 2004 after revoking its existing Constitution and altered on 23
June and 23 September 2004.
(b)The Shareholders’ Agreement (“the Agreement”) which is undated but was executed in 2004.
[5] It would appear that the relationship between the two Wing brothers broke down around the beginning of 2009. They are not the sole parties to the dispute but
it would seem that friction between the two brothers was the catalyst for the more fundamental dispute that emerged later in the year. In any event, in January 2009 the second and third plaintiffs gave notice that their shares were for sale. At some point
they thought better of this decision and withdrew the notice. In the remainder of
2009 they pursued a different strategy which was to obtain a sale of the assets of the company which would, in effect, have resulted in the winding up of the company’s farming operations which were its core activity. But the second defendant and his wife, the third defendant, also made overtures to buy the farm. They submitted an offer to purchase the property for $8.35 million on 27 September 2009. Mr Allan, one of the first plaintiffs, and Mr P Wing, the second plaintiff, submitted a counter offer on 8 October 2009 at a price of $8.4 million. Neither offer was accepted.
[6] Had the plaintiffs continued with their intention to sell their shares, in accordance with the constitution, they would have been obliged to follow the Pre- emptive Rights provisions set out in cl 4 of the constitution. In summary, those provisions provide that:
(a)A person proposing to sell or transfer any shares must give notice in writing to the company (cl 4.7.1);
(b)If the company within three calendar months after being served with the transfer notice finds a shareholder or shareholders willing to purchase all shares, the proposing transferor will be bound upon payment of the sum specified in the transfer notice, or as the case may be, the fair value determined under cl 4.9 to transfer the shares to the purchasing shareholder (cl 4.8);
(c)In the event that the company does not, within three months after being served with a transfer notice find a shareholder or shareholders willing to purchase all of the shares, then the proposing transferor may, at any time within three calendar months after being served with such notice transfer the shares to any person.
[7] That process was not followed. Had it been, either:
(a)The plaintiff’s shares would have been sold at an agreed value or fair value as determined by the altered Constitution; or
(b)The plaintiffs would have been entitled to offer their shares on the open market.
[8] I interpolate that there is, of course, no guarantee that the shares would have been sold under either alternative had the above process been followed. I will comment later in this judgment on that aspect of matters.
[9] The two contractual underpinnings of the arrangements between the parties are, first, the company constitution and second the shareholders agreement. The shareholders agreement provides that the shareholders will not cease carrying on the business (that is the farming operation and ownership) without a special resolution to that affect. Further, the shareholders agreement is to continue in force and affect until the conclusion of the winding up of the company or until the shareholders agree unanimously. There is also provision in the agreement to arbitrate in the event that a “fundamental disagreement” arises between the parties. In that event the fundamental disagreement may be referred to mediation or arbitration. The agreement by cl 22.1 (j) provides that a fundamental disagreement includes a “deadlock by the directors referred to the shareholders over any matter relating to the Company”.
[10] Before I consider what consequences flow from that state of affairs, it will be helpful to set out cl 22.1, which so far as it is relevant, provides:
22.1A Fundamental Disagreement shall be deemed to have occurred if there arises:
a.A disagreement as to the need to increase the funding of the Company by the parties or as to the method by which such funding should be made;
b.A disagreement as to an increase or reduction of capital of the Company;
c.A disagreement as to the incurring or repayment of any significant loan finance;
d.A disagreement as to the payment of dividends or the dividend policy;
e. A disagreement as to the directions or expansion of the
Business;
f. A disagreement as to the sale or other disposition of the business or part of the business of the Company.
...
and as a consequence of the disagreement substantial permanent injury to the Company is being suffered or is threatened and the failure to agree appears on reasonable grounds to be incapable of satisfactory long term resolution by negotiation between the parties.
….
22.3If a Fundamental Disagreement occurs after 31st May 2007 any party may refer the matter to mediation or arbitration in accordance with Clause 16.8 of the Constitution and if the matter is not resolved by mediation or arbitration the party who gave the notice may at its option by notice in writing to the other party require that the Company be wound up and the parties shall then take all necessary steps to cause the Company to be wound up.
[11] I note that the provision for mediation or arbitration in the case of a fundamental disagreement has not been invoked in this case. I consider this clause further at paragraph [24] below.
[12] The shareholders agreement also provided that if mediation or arbitration was unsuccessful (and I précis its provisions) the party who gave notice referring the matter to mediation or arbitration may require the company to be wound up.
[13] For the defendants the point was also made that a decision to sell the company’s business would have to be unanimous because of the provisions of cl 12 of the shareholders agreement.
[14] The agreement provides that the agreement continues in force until:
a) Unanimous agreement to end the agreement;
b) A winding up or termination occurs;
c) The assets of the company have been unconditionally sold.
[15] As well, a resolution to cease carrying on the company’s business can only be the subject of a valid resolution if the resolution is passed as a special resolution. Such a decision to sell the farm would be covered by cl 5.2 of the special contractual arrangements.
[16] As a minimum a special resolution is required to unlock the dispute between the parties. It is clear that the company is deadlocked.
Principles
[17] In the House of Lords judgment of Ebrahimi v Westbourne Galleries Ltd
[1972] 2 All ER 492, [1973] AC 360, Lord Wilberforce said at 379:
The words ['just and equitable'] are a recognition of the fact that a limited company is more than a mere legal entity, with a personality in law of its own: that there is room in company law for recognition of the fact that behind it, or amongst it, there are individuals, with rights, expectations and obligations inter se which are not necessarily submerged in the company structure. That structure is defined by the Companies Act 1948 and by the articles of association by which shareholders agree to be bound. In most companies and in most contexts, this definition is sufficient and exhaustive, equally so whether the company is large or small. The "just and equitable" provision does not, as the respondents [the company] suggest, entitle one party to disregard the obligation he assumes by entering a company, nor the court to dispense him from it. It does, as equity always does, enable the court
to subject the exercise of legal rights to equitable considerations; considerations, that is, of a personal character arising between one individual and another, which may make it unjust, or inequitable, to insist on legal rights, or to exercise them in a particular way.
[18] In a later judgment in O’Neill v Phillips [1999] 2 ALL ER 961, the House of
Lords returned to a decision of the statement of principles in Ebrihami. O’Neill was
a case decided under an enactment which provided protection to shareholders in cases where “a company’s affairs are being or have been conducted in a manner which is unfairly prejudicial to the interests of its members or of some part generally of its members”. While the statutory context of the case before the House of Lords was different from the New Zealand section, comments to be found in Lord Hoffman’s speech nonetheless throw light on the correct way in which to approach application of the “just and equitable” liquidation provision. Lord Hoffman explained the concepts in the following ways (at 966):
Although fairness is a notion which can be applied to all kinds of activities,
its content will depend upon the context in which it is being used. Conduct which is perfectly fair between competing businessmen may not be fair between members of a family. In some sports it may require, at best, observance of the rules, in others ('it's not cricket') it may be unfair in some circumstances to take advantage of them. All is said to be fair in love and war. So the context and background are very important.
In the case of s 459, the background has the following two features. First, a company is an association of persons for an economic purpose, usually entered into with legal advice and some degree of formality. The terms of the association are contained in the articles of association and sometimes in collateral agreements between the shareholders. Thus the manner in which
the affairs of the company may be conducted is closely regulated by rules to which the shareholders have agreed. Secondly, company law has developed seamlessly from the law of partnership, which was treated by equity, like the Roman societas, as a contract of good faith. One of the traditional roles of equity, as a separate jurisdiction, was to restrain the exercise of strict legal rights in certain relationships in which it considered that this would be contrary to good faith. These principles have, with appropriate modification, been carried over into company law.
The first of these two features leads to the conclusion that a member of a company will not ordinarily be entitled to complain of unfairness unless there has been some breach of the terms on which he agreed that the affairs
of the company should be conducted. But the second leads to the conclusion that there will be cases in which equitable considerations make it unfair for
those conducting the affairs of the company to rely upon their strict legal
powers. Thus unfairness may consist in a breach of the rules or in using the rules in a manner which equity would regard as contrary to good faith.
This approach to the concept of unfairness in s 459 runs parallel to that which your Lordships' House, in Ebrahimi v Westbourne Galleries Ltd [1972] 2 All ER 492, [1973] AC 360, adopted in giving content to the concept of ‘just and equitable’ as a ground for winding up.
[19] Further on (at 970), he continued:
I do not suggest that exercising rights in breach of some promise or undertaking is the only form of conduct which will be regarded as unfair for the purposes of s 459. For example, there may be some event which puts an end to the basis upon which the parties entered into association with each other, making it unfair that one shareholder should insist upon the continuance of the association. The analogy of contractual frustration suggests itself. The unfairness may arise not from what the parties have positively agreed but from a majority using its legal powers to maintain the association in circumstances to which the minority can reasonably say it did not agree: non haec in foedera veni. It is well recognised that in such a case there would be power to wind up the company on the just and equitable ground (see Virdi v Abbey Leisure Ltd [1990] BCLC 342) and it seems to me that, in the absence of a winding up, it could equally be said to come within s 459. But this form of unfairness is also based upon established equitable principles and it does not arise in this case.
[20] Lord Hoffman also makes remarks about the issue of a breakdown in trust and confidence. In O’Neill, the claimant for relief had alleged various types of wrongdoing on the part of the defendant such as that he had broken promises to transfer additional shares to the defendant. All of these grounds for complaint were dismissed. The claimant, Mr O’Neill, through his counsel submitted that, notwithstanding, fairness required that Mr Phillips for the company ought to raise the necessary capital to pay Mr O’Neill a fair price for his shares. In a section of his speech headed “No fault divorce”, Lord Hoffman was doubtful that there was any
such right. He accepted that breakdowns often occur without the other side having done anything seriously wrong or unfair but he did not believe that relief (in that case, in the form of an order directing purchase of shares) should be granted (at 972):
“Simply because he feels he has lost trust and confidence in the others”
[21] Lord Hoffman also made favourable reference (at 973) to a report of the Law
Commission, “Shareholder Remedies”, where it was said:
In our view there are strong economic arguments against allowing shareholders to exit at will. Also, as a matter of principle, such a right would fundamentally contravene the sanctity of the contract binding the members and the company which we considered should guide our approach to shareholder remedies.
Discussion
[22] The plaintiffs’ position, to describe in its broadest terms, is that they wish both to withdraw their capital from the company and to disassociate themselves from its future operation. A second (but not necessarily subordinate) objective is to acquire for themselves the farm which the company owns.
[23] My approach will be first to carry out a limited assessment of the background, including provisions of the constitution and shareholders’ agreements and enquire whether they make reasonable provision for the plaintiffs to extract themselves from the company. I shall adopt that approach because there are mechanisms contained in the shareholders’ agreement and constitution to facilitate the withdrawal of one shareholder or other without resorting to the serious step of ending the company’s existence by a liquidation order.
Clause 22 – “fundamental disagreement” and “substantial permanent injury”
[24] One key issue that arises in this case is the mechanism which the contract contains for resolving conflict between the parties. The key provision in the contract
is cl 22. There are two parts to cl 22. The first focuses on whether fundamental permanent injury is being suffered or is threatened.
[25] An inability to agree on selling the company’s “business” (which would necessarily have to be reached if the farm was sold) is expressly defined in the contract as a “fundamental disagreement”. It has been established as a matter of fact that such a disagreement exists.
[26] The next issue is whether, as a consequence of the fundamental disagreement, substantial permanent injury is “being suffered or is threatened”. In considering the meaning that should be ascribed to this clause in the usual way that context should
be taken into account. The purpose of the clause is to avoid harm to the company. Preventive steps to prevent harm occurring or continuing are to be taken in the form
of alternative dispute resolution and, if they are not successful, the more radical step
of putting the company into liquidation will follow. While it may not be a very serious matter to require a party to go to mediation, it is a serious step to place a company in liquidation in the way that cl 22.1 contemplates if the dispute is not resolved. Further, invocation of the dispute procedures takes what is necessarily a serious and important issue for the company out of the hands of the directors and shareholders. Therefore, in resolving the matter of whether “substantial permanent injury … is being suffered or is threatened”, the qualifying circumstances should not be found to exist without proper grounds being present.
[27] Mr Smedley submitted:
37Simply put, the shareholders agreed, through execution of the Agreement and adoption of the Constitution that certain decisions including major transactions and disposal of the business require a special resolution. Further it was agreed that the Shareholders’ Agreement will only terminate by unanimous agreement.
38 These were the terms that all parties signed up to. 39
It cannot be right that failure to reach unanimous agreement
or
obtain a special resolution could ever amount to a “Fundamental
Disagreement” in terms of Clause 22.1.
[28] I do not accept that submission for the following reasons. First, the authorities that I set out earlier in this judgment make it clear that the just and equitable jurisdiction is a descendant of the equitable power to restrain a party from exercising undoubted legal rights where it would be unconscientious to do so. The defendants, for whom Mr Smedley acts, wish to insist upon their contractual
entitlement not to fall in with the other shareholder’s proposal to dispose of the farm property. That right is a legal right like any other and is subject to the power of the Court exercising the just and equitable jurisdiction. The fact that the defendants wish to see adherence to a rule which required a unanimous resolution does not deprive the Court of jurisdiction to make orders under the just and equitable power. If the argument is one that is directed towards the exercise of the discretion, it would be a vain task, in my view, to attempt to catalogue various contractual powers into those where the Court will intervene and where it will not. I accept, though, that the fact that special and unanimous resolutions are required underline the importance of resolutions that require such majorities before they are valid. The second principal reason is that the very fact that decisions, the subject-matter of which are subject to special or unanimous resolutions, are expressly included within the purview of the ‘fundamental disagreement’ mechanism in cl 22.2 tells against Mr Smedley’s argument.
[29] The fact that cl 22 can in a sense be employed to override the need for unanimous or special resolutions is because it is designed as a mechanism to prevent serious harm to the company’s interests The incorporators of the company must have made a judgment that where such harm is threatened the rights of any particular group of shareholders must defer to the greater good of the company.
[30] To return to the issue of cl 22, I do not consider that there is any cogent evidence establishing that the company has suffered substantial permanent injury. There have been disputes, for example, over the employment of Thomas Wing but they do not come within the scope of cl 22.1.
[31] On the other hand, the extent and characteristics of the disagreement would seem to be relevant matters to take into account if the parties disagreed but in a restrained way with each respecting the others point of view, it would not be likely that a Court would conclude that the disagreement threatened to cause substantial permanent injury to the company. But the implacable stance that has been taken by the factions and the increasing bitterness that the dispute has taken on are real causes for concern. That together with the fact that the disagreement concerns the whole future of the joint venture means that it is no exaggeration to describe the dispute as
one that threatens substantial permanent injury to the company. If it continues there
is a real risk that the directors, instead of acting for the common good of the company, will be distracted by their dispute as shareholders and that decisions affecting the company will be decided more on the basis of what is good for a particular faction of shareholders rather than for the company as a whole.
[32] I therefore conclude that there is a fundamental disagreement in accordance with cl 22.2. and that substantial permanent injury is being threatened.
[33] On the occurrence of such a disagreement, any party is entitled to refer the matter to mediation or arbitration. If it is not then resolved, the apparent contractual intention of the parties was that the company would be wound up. All that accepted,
it would not be in conformity with the contract itself if the dispute resolution mechanism was bypassed with the parties proceeding directly to a liquidation of the company (albeit by Court order rather than by shareholders’ resolution as the contract envisages). Mr Rennie and the parties he acted for minimised the importance of these provisions in the contract and said that anyway a meeting had taken place at the offices of the solicitors on 13 July 2009 which qualified as an alternative dispute resolution in terms of the contract. I do not agree. There is a considerable difference between conducting a properly structured mediation or arbitration before suitably qualified persons, on the one hand, and an informal meeting held at a lawyer’s office. It is widely acknowledged that a skilful mediator can often resolve what appear to be the most intractable cases. However, whether the plaintiffs have confidence in mediation or not, is not the point. The defendants would be entitled to insist upon it and it would seem wrong in my view to exercise the Court’s discretion and order a winding up when formal steps to negotiate a settlement had not been explored. It would therefore be wrong for the Court to exercise its discretion to liquidate the company in my view.
[34] Further, I do not accept that there is the requisite element of unfairness or inequitable conduct present which would justify the Court intervening under s 241(4). The fact is that at the time when they set up their contractual arrangements the parties agreed on provisions suitable for managing the disengagement from the company by a shareholder(s). The plaintiffs had, and still have, a means of
withdrawing their capital from the company by invoking the share transfer mechanism. Insistence by the defendants that the plaintiffs take the latter course does not seem to me to be unfair. I make that comment notwithstanding that I appreciate that the plaintiffs’ wishes are not limited to leaving the company – they also want to retain the farm. But as I have noted, neither party has a contractual right to retain the farm once the joint venture comes to an end. The share transfer arrangements should enable the plaintiffs to get what they are entitled to if they are to withdraw from the company.
[35] I acknowledge that the plaintiffs would prefer to disengage from their co- venture in a different way, namely, by their acquiring the farm. There was no provision in the contractual arrangements which gave rise to an entitlement on the part of one party or the other to acquire the property from the company. It would seem to be difficult to argue that a failure to accede to such a course therefore cannot amount to unfairness or injustice to the plaintiffs.
[36] A further reason why I intend to decline to make an order for the liquidation
of the company is broadly based upon the observation of Richard J in Thomas v H W Thomas Ltd [1984] 1 NZLR 686 at 690, where the remedy of winding up a company was described as “a blunt and drastic remedy ringed with difficulties and disadvantages”.
[37] The remedy was granted in the case Vujnovich v Vujnovich [1988] 2 NZLR
129 notwithstanding that it was referred to by the Court at 155 as “extreme”.
[38] To summarise, I decline to make an order because:
a) The parties’ contractual arrangements envisage that they will take their dispute to alternative dispute resolution and only thereafter is the possibility of liquidation envisaged;
b) The plaintiffs have available to them the share buy-out process;
c) Liquidation is a last resort.
Conclusion
[39] A much preferable outcome to a winding up would involve the orderly type
of transition that would follow from a purchase of shares. That would ensure that the company remained extant and there would be a minimum of inconvenience, disruption and expense caused which will have to come out of the parties’ pockets. A second alternative may be for the parties to come to a negotiated settlement for one or the other to acquire the farm property. Whatever course is followed, it would be inadvisable for the defendants to conclude that this judgment indefinitely defers the need for a decision. If the alternative dispute resolution provisions in the contract have to be activated I have no doubt that a mediation or arbitration can begin reasonably promptly. The parties would then need to make a real attempt to resolve the issues because if they do not liquidation will become an imminent possibility. That is to say, despite the outcome on the present application, at some point if the matter comes back before the Court whether by way of a repeated application under s 241 or an application under s 174, the Court is likely to want to act to break the impasse.
[40] Be that as it may, my decision is therefore that the present application should
be dismissed. The parties should be able to settle the issue of costs before them but
if they cannot I will do so by way of a telephone hearing to be convened at 9 a.m. on
a convenient date.
J.P. Doogue
Associate Judge
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