Brown v Gallagher
[2018] NZHC 3451
•21 December 2018
IN THE HIGH COURT OF NEW ZEALAND CHRISTCHURCH REGISTRY
I TE KŌTI MATUA O AOTEAROA ŌTAUTAHI ROHE
CIV-2018-409-000537
[2018] NZHC 3451
UNDER Part 19 of the High Court Rules and s 165 Companies Act 1993 IN THE MATTER
of an application under s 165 of the
Companies Act 1993 for an order granting leave to Mark Anthony Brown to bring proceedings in the name and on behalf of NuBuild Project Management Limited
BETWEEN
MARK ANTHONY BROWN
Applicant
AND
TIMOTHY GERALD GALLAGHER
First Respondent
AND
DIGITAL MEDIA TECHNOLOGIES LIMITED
Second Respondent
AND
NUBUILD CONSULTANCY AND DESIGN LIMITED
Third Respondent
AND
ST ANDREWS ASSET MANAGEMENT LIMITED
Fourth Respondent
AND
TIMOTHY GERALD GALLAGHER and
JENNY ANN GALLAGHER as trustees of the GALLAGHER FAMILY TRUST
Fifth Respondents
Hearing: 4 December 2018 Appearances:
G K Riach and M K Crimp for the Applicant S T Cottrell for the Respondent
Judgment:
21 December 2018
BROWN v GALLAGHER [2018] NZHC 3451 [21 December 2018]
JUDGMENT OF JUSTICE OSBORNE
(on application for leave to bring a derivative action)
NuBuild Project Management Limited
[1] Mark Brown applies for leave to bring a derivative action (under s 165 Companies Act 1993) in the name and on behalf of NuBuild Project Management Ltd (NB Project Management). He appends a draft Statement of Claim to his application.
[2] Mr Brown holds 34 shares in NB Project Management. The remaining 66 shares are held by the second respondent, Digital Media Technologies Ltd (Digital), a company of which the first respondent, Timothy Gallagher, and Kerry Bird are the directors and shareholders.
[3] From incorporation, NB Project Management’s directors were Mr Brown, Mr Gallagher and Mr Bird. Mr Brown pleads1 that the three had agreed at the time of incorporation that it was Mr Brown and Mr Gallagher who would be directors but that, without Mr Brown’s knowledge, Mr Bird was at times registered with the Companies Office as a director despite not having been properly appointed as a director.
[4] Mr Brown had his own company, NuBuild Homes Ltd (“NuBuild Homes”), which traded in the home construction industry and came to undertake earthquake repair projects.
The claim relating to the conduct of NB Project Management’s business
[5]Mr Brown pleads:
a)That NB Project Management was incorporated to undertake earthquake repair work in Christchurch, with the work to be primarily undertaken by NuBuild Homes, and that the shareholders of NB Project Management agreed as to how the revenue would be received and distributed, including:
1 Where this judgment refers to a pleading, it is to Mr Brown’s draft pleading as attached to his application.
(i)NuBuild Homes was to receive 90% of the project cost of each project;
(ii)NB Project Management was to receive 10% of the project costs of each project;
(iii)the profit (of NB Project Management on each project) was to be split equally between Messrs Brown, Gallagher and Bird.
[6] Mr Brown pleads that NuBuild Homes undertook work for which it invoiced NB Project Management approximately $1,500,000 but that the latter has refused to pay NuBuild Homes (of that sum) $294,325.34.
[7] Mr Brown pleads that from November 2012 he was excluded by Messrs Gallagher and Bird from involvement in NB Project Management’s decision-making and that he did not receive information about the operation and expenditure of NB Project Management.
[8] Mr Brown pleads that between April 2013 and May 2016 Mr Gallagher obtained out of NB Project Management for himself or his associated entities at least
$4,280,368.
[9] Mr Brown pleads that in total Mr Gallagher has deprived NB Project Management of $4,805,258 which would otherwise have been available to the shareholders of NB Project Management.
[10]Mr Brown in this proceeding pleads five causes of action:
a)First cause: breach of the duty to act in good faith and in the best interests of the company (s 131 Companies Act 1993).
b)Second cause: breach of director’s duty to exercise powers for proper purposes (s 133 Companies Act).
c)Third cause: breach of fiduciary duty (parallel to first cause of action in the 536 proceeding – below at [12] a)).
d)Fourth cause: knowing receipt (parallel to second cause of action in the 536 proceeding – below at [12] b)).
e)Fifth cause: knowing assistance (parallel to third cause of action in the 536 proceeding – below at [12] c)).
The CIV-2018-409-536 proceeding
[11] At the same time as Mr Brown commenced this proceeding, he commenced a separate proceeding in his own right against the same defendants (in CIV-2018-409- 536, “the 536 proceeding”).
[12]In the 536 proceeding, Mr Brown pleads four causes of action:
a)First cause: Mr Brown pleads that there was between himself and Mr Gallagher a relationship of trust and confidence and that Mr Gallagher conducted himself in breach of his fiduciary duty in relation to the sums referred to at paragraph [8] – [9]. Mr Brown seeks equitable damages of $1,601,753 (representing one-third of the
$4,805,258).
b)Second cause (against related entities of Mr Brown), Mr Brown pleads knowing receipt and seeks the same equitable damages as against Mr Brown.
c)Third cause (against related entities of Mr Brown) Mr Brown seeks equitable damages of $602,816 and $33,190 respectively upon the basis that those defendants knowingly assisted Mr Gallagher in the breach of his fiduciary duties.
d)Fifth cause (against all defendants) Mr Brown alleges that NB Project Management and all other defendants conducted the affairs of NB
Project Management in a manner which was oppressive and unfairly prejudicial to Mr Brown in his capacity as a shareholder of NB Project Management. Mr Brown seeks compensation of $1,601,753 under s 174(2)(b) of the Act.
The statutory jurisdiction
Section 165 Companies Act
[13]Mr Brown applies for orders under s 165 of the Act, which provides:
165 Derivative actions
(1)Subject to subsection (3), the court may, on the application of a shareholder or director of a company, grant leave to that shareholder or director to—
(a) bring proceedings in the name and on behalf of the company or any related company; or
(b) intervene in proceedings to which the company or any related company is a party for the purpose of continuing, defending, or discontinuing the proceedings on behalf of the company or related company, as the case may be.
(2)Without limiting subsection (1), in determining whether to grant leave under that subsection, the court shall have regard to—
(a) the likelihood of the proceedings succeeding:
(b) the costs of the proceedings in relation to the relief likely to be obtained:
(c) any action already taken by the company or related company to obtain relief:
(d) the interests of the company or related company in the proceedings being commenced, continued, defended, or discontinued, as the case may be.
(3)Leave to bring proceedings or intervene in proceedings may be granted under subsection (1), only if the court is satisfied that either—
(a) the company or related company does not intend to bring, diligently continue or defend, or discontinue the proceedings, as the case may be; or
(b) it is in the interests of the company or related company that the conduct of the proceedings should not be left to the directors or to the determination of the shareholders as a whole.
(4)Notice of the application must be served on the company or related company.
(5)The company or related company—
(a) may appear and be heard; and
(b) must inform the court, whether or not it intends to bring, continue, defend, or discontinue the proceedings, as the case may be.
(6)Except as provided in this section, a shareholder is not entitled to bring or intervene in any proceedings in the name of, or on behalf of, a company or a related company.
Standing
[14] Mr Brown has standing under s 165(1) of the Act to make this application as he is both a shareholder and director of NB Project Management.
The threshold requirement
[15]It is common ground that the threshold requirement under s 165(3) is satisfied
– in that NB Project Management does not intend to bring any proceedings.
Relevant considerations
[16] Where the threshold requirement is satisfied, the Court must also consider the four considerations under s 165(2), namely:
a)the likelihood of success;
b)the cost of the proceeding in relation to the relief likely to be obtained;
c)any action already taken by the company; and
d)the interests of the company.
Discussion of relevant considerations
The likelihood of success
[17] In Vrij v Boyle, this Court (when dealing with the equivalent provisions in the Companies Act 1955) adopted an English formulation of the appropriate test, namely whether a prudent business person in the conduct of his or her own affairs would have decided to bring a claim.2 The Court does not conduct an interim trial on the merits.3
[18] It was recognised by this Court in Needham v EBT Worldwide Ltd, that the fact that a case involves an alleged breach of fiduciary duty by a director may be a powerful factor influencing the decision to consider that a claim is worth pursuing.4 As was explained by Chisholm J in Bridge v NB Cook & Co Limited, the extent to which fiduciary duties are owed by a director not only to the company but to its shareholders, remains unsettled.5 Where there is a breach of a duty such as the duty of good faith the available remedies for the company may include an account of profits and/or compensation.6
[19] In this case, Mr Riach, for Mr Brown, relies upon the proposition (recognised in Bridge v NB Cook & Co Limited) that a director must not take or make use of the company’s property except in accordance with the law and company constitution.7
[20] In this case it is known from the defendants’ pleadings in the 536 proceeding that the defendants deny that Mr Gallagher owed a fiduciary duty to Mr Brown. Given that denial and the present state of the law, Mr Brown suing in his own capacity faces the prospect that he might establish a breach of fiduciary duty, with losses flowing, but be found to have no remedy for Mr Brown himself personally (upon the basis that the only remedy available is to the company).
2 Vrij v Boyle [1995] 3 NZLR 763 at 765, following Smith v Croft [1986] 1 WLR 580; adopted in
He v Chen [2014] NZCA 153 at [30].
3 Vrij v Boyle, above n 2.
4 Needham v EBT Worldwide Ltd HC Auckland CIV-2005-404-1919, 15 May 2006 at [64], applying
Bridge v NB Cook & Co Ltd HC Christchurch CP53/99, 16 September 1999 at [27].
5 Bridge v NB Cook & Co Limited, above n 4, at [23].
6 Bridge v NB Cook & Co Limited, above n 4.
7 Bridge v NB Cook Limited & Co, above n 4, at [23].
[21] Mr Brown has provided extensive evidence as to money paid out of NB Project Management to Mr Gallagher and his related entities. The schedules of payments running to 24 pages itemise the manner in which the total sums claimed by Mr Brown were distributed. Mr Brown, although a director of NB Project Management, obtained the information which enabled the schedules to be prepared only after Mr Gallagher had initially opposed an originating application by which Mr Brown in 2016 sought Court orders of disclosure.
[22] Mr Brown suggests, cogently, that the extent to which Mr Gallagher has controlled both NB Project Management and also the availability of financial information relating to the affairs of the company to Brown as a co-director, is reflected in Mr Brown having to pursue the disclosure proceeding.
[23] Mr Brown has deposed that the sums transferred out of NB Project Management (to Mr Brown and his related entities) were transferred without Mr Brown’s knowledge or authority as a co-director or shareholder of NB Project Management.
[24] For his part, Mr Gallagher does not take issue with the allegation that he distributed money out of NB Project Management to related entities. Rather, Mr Gallagher identifies the real issue as:
… being how various parties would be paid in relation to a new idea I had for producing pricing packs for various insurers (“the IAG packs”).
Mr Gallagher continues that he does not think:
… that the dispute between Mr Brown and himself in relation to the distribution of money from the IAG packs should or can be dealt with by NB Project Management making a claim against Mr Gallagher and the other respondents.
[25] Mr Gallagher then traverses matters beginning in late 2013 and in particular “several discussions” in which the distribution of proceeds from the IAG packs was discussed. He exhibits an email he sent to Mr Brown on 9 December 2015, after issues had arisen between the parties. In the email Mr Gallagher set out the contentions which also form part of his evidence in this proceeding. Mr Gallagher does not
produce any contemporaneous record (that is before issues arose) of the discussions he alleges occurred. Nor does he suggest that, after the arrangements were initially put in place, he sought to document as a director of NB Project Management the basis upon which the directors (that is Mr Brown and himself) had resolved to make any payments. There is no documentary evidence of any resolution to make the very substantial level of payments identified by Mr Brown.
[26] In these circumstances, I am satisfied that were a derivative action to be commenced, NB Project Management would have a solid foundation for its claims. Bearing in mind the failure of the respondents to produce any contemporary record evidencing the arrangements for which they contend, there is no convincing basis upon which to anticipate that Mr Brown’s version of events would be rejected at trial.
[27] The higher level of responsibility for accounting which Mr Gallagher assumed as a director, including as it did fiduciary duties, serves to reinforce the prospect that the intended derivative claim might succeed.
The cost of proceeding in relation to the relief likely to be obtained
[28] Mr Brown did not adduce evidence as to the likely cost of the derivative action. That is understandable for two reasons.
[29] First, Mr Brown does not seek an order (as he might have) under s 166 Companies Act, that the reasonable cost of bringing the intended proceeding be met by the company. Mr Riach confirms that Mr Brown instead intends to have the 536 proceeding and the derivative action proceed on Mr Brown’s account. NB Project Management accordingly has the benefit of knowing that, without it having to bear the costs of prosecuting the derivative action, it can look to the Court to deal with all costs issues in the light of the substantive outcome.
[30] Secondly, the total sum distributed from NB Project Management is so significant that the comparative cost of litigation must be viewed as modest.
Any action already taken by the company
[31]There has been no relevant action taken by the company.
The interests of the company
[32] On balance, the interests of the company are most likely to be served (in the event there is no earlier resolution) by a determination through trial of whether NB Project Management’s interests were properly protected in the arrangements which Mr Gallagher entered into. When Mr Gallagher’s evidence is summarised, it amounts to an assertion that the directors and shareholders involved came to an agreement that, although earnings would be payable to NB Project Management, all those involved recognised that Mr Gallagher and his interests should have the benefit of the sums now claimed by Mr Brown by reason of the fact that it is Mr Gallagher who came up with the new idea of producing the IAG packs. But, if Mr Gallagher’s evidence is not accepted in relation to what he asserts to be “the clear agreement between me, the applicant and other people involved”, it is likely that the Court will conclude that the interests of NB Project Management require that it is NB Project Management which retains the benefit of all funds.
The prudent business person test
[33] The Court of Appeal has confirmed that the prudent business person test applies to all the statutory criteria in s 165(2).8
[34] The prudent business person in the conduct of their own affairs would take into account the matters already discussed. They would also take into account the following matters:
a)Shareholder capacity
For the respondents, Mr Cottrell would classify Mr Brown’s proposed claims as primarily about a dispute between shareholders in a closely held company. It has been recognised in case law that where the cause
8 He v Chen, above n 2, at [30].
of action is essentially to the benefit of the shareholder alone and does not substantially implicate the interest of the company, the Court will not allow the shareholder to pursue that claim through the office of the company.9 A reason for that approach lies in the Court’s recognition that it needs to avoid double recovery as a result of concurrent personal and derivative actions which alleged the same loss.10 Here, where counsel have tentatively accepted that the two proceedings, if leave is granted in relation to the derivative action, would be dealt with under r 10.12 High Court Rules by a form of consolidation order, the risk of double recovery is minimised. More relevant is the observation of Venning J in Needham v EBT Worldwide Ltd, which might equally be applied to this case:11
While this case could be said to be a dispute between the shareholders, that will perhaps always be the case in a small private company where one director is alleged to have taken opportunities belonging to the company.
b)Non-trading status
Mr Gallagher’s evidence is that NB Project Management is not trading and does not have any creditors other than the third respondent. Mr Gallagher also deposes that the company has some funds in a bank account, which is effectively frozen as a result of the disputes between the parties. These matters led Mr Cottrell to submit that the 536 proceeding, with its focus upon relief under s 174 of the Act, provides the most efficient way of dealing with Mr Brown’s concerns, Mr Cottrell submits that the 536 proceeding effectively consolidates all the individual claims into one universal claim. If the prudent business person’s perspective is applied, there can nevertheless be seen a benefit in having the company proceed. The directors clearly owed fiduciary duties to the company, whereas the respondents dispute the existence of such duties to Mr Brown. The 536 proceeding has the potential to
9 See, for instance, Martin v Martinborough Brewing Company Ltd HC Masterton CIV-2006-435- 32, 21 December 2006 at [21].
10 Vrij v Boyle, above n 2, at 767; Martin v Martinborough Brewing Company Ltd, above n 9.
11 Needham v EBT Worldwide Ltd, above n 4, at [63].
fail by reason of that issue of duty. The prudent business person would reasonably see a benefit in having the company itself pursue its available remedies for the benefit of its shareholders as a whole. Furthermore, there is a benefit to the company in recovering for itself any money found to have been improperly taken – the company can then deal with necessary payments to creditors who may arise or costs which may be incurred, such as in an orderly winding-up, before any net sum remaining is distributed to shareholders.
c)Prospects of recovery
Mr Cottrell suggested that the prospects of recovery by the company is unlikely given that the majority of the shareholders in the company would not support an outcome involving recovery. That submission misses the point that a derivative action is frequently allowed precisely because those in effective control of the company disagree with providing recovery. If a money judgment in favour of NB Project Management is ultimately obtained, there is no reason to anticipate on the basis of the evidence adduced a difficulty in recovery from the judgment debtors.
Conclusion
[35] I am satisfied that a prudent business person in the conduct of their own affairs would have decided to bring the claims proposed by Mr Brown. NB Project Management, under its present governance, does not intend to bring such proceedings. It is also in the interests of NB Project Management that the conduct of the intended proceeding not be left to the current directorate or to the determination of the shareholders as a whole.
[36] There will be no order at this time as to the meeting of costs under s 166 of the Act as none is sought by the applicant.
Orders
[37]I order:
a)Leave is granted to the applicant to bring proceedings in the name and on behalf of NuBuild Project Management Ltd;
b)Such proceedings are to be commenced within 10 working days at the date of this judgment and are to be promptly served thereafter;
c)The respondents (on a joint and several basis) are to pay the costs of this application upon a 2B12 basis together with disbursements to be fixed by the Registrar.
Osborne J
Solicitors:
Harmans, Christchurch
Shaun Cottrell Law, Christchurch
12 High Court Rules, Category 2 under r 14.3(1) and band B under r 14.5(2).
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