Mainzeal Property and Construction Ltd (in liq) v Yan
[2019] NZHC 255
•26 February 2019
IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY
I TE KŌTI MATUA O AOTEAROA TĀMAKI MAKAURAU ROHE
CIV-2015-404-1094
[2019] NZHC 255
BETWEEN MAINZEAL PROPERTY AND CONSTRUCTION LIMITED (IN LIQ)
First PlaintiffAND
KING FAÇADE LIMITED (PREVIOUSLY KNOWN AS RICHINA LAND LTD) (IN
LIQ)
Second PlaintiffAND
MAINZEAL GROUP LIMITED (IN LIQ)
Third Plaintiff
AND
ANDREW JAMES BETHELL AND BRIAN MAYO-SMITH
Fourth Plaintiffs
AND
RICHARD CILIANG YAN
First Defendant
AND
PETER GOMM
Second Defendant
AND
RT HON JENNIFER MARY SHIPLEY
Third Defendant
AND
CLIVE WILLIAM CHARLES TILBY
Fourth Defendant
AND
PAUL DAVID COLLINS
Fifth Defendant
AND
RICHINA GLOBAL REAL ESTATE LIMITED (IN LIQ)
Seventh Defendant
AND
ISOLA VINEYARDS LIMITED
(PREVIOUSLY KNOWN AS WAIHEKE VINEYARDS LIMITED) (IN LIQ)
Eighth Defendant
MAINZEAL PROPERTY AND CONSTRUCTION LTD (IN LIQ) v YAN AND OTHERS [2019] NZHC 255
[26 February 2019]
Hearing: 17–21 September; 24–28 September; 1–5 October; 8–12 October;
15–19 October; 22–26 October; 29 October–2 November; 5–9
November; 12–13 November 2018Counsel:
M D O’Brien QC, Z G Kennedy and M D Pascariu and Y J Lee for the Plaintiffs
D J Chisholm QC, T P Mullins, C I Hadlee, and R E Schultz for the First Defendant
J E Hodder QC, M D Arthur and J Marcetic for the Second to Fifth DefendantsJudgment:
26 February 2019
JUDGMENT OF COOKE J
Table of contents
INTRODUCTION [1]
FACTUAL FINDINGS [7]
The evidence [8]
Richina Pacific’s acquisition of Mainzeal [12]
Establishment of Independent Board in 2004 [18]
Funds extracted from Mainzeal [25]
Initial period of operations [32]
Chinese regulations [39]
2008-2009 restructuring [42]
PricewaterhouseCoopers concerns [57]
The post-delisting arrangements [61]
2010: Issues of concern raised [71]
Expressions of support [92]
Mr Pearce’s concerns [101]
Early 2011: Ernst & Young report [107]
Project Citron: The Pre-Paid Goods Agreement [114]
2012: Cash flow difficulties emerge [120]
Legal advice obtained [134]
The collapse [139]
SECTION 135 COMPANIES ACT 1993 [150]
The authorities [153]
The text in light of purpose [160]
Maintaining adequate capital [169]
Shareholder support [175]
Interests of the group [180]
APPLICATION OF SECTION 135 TO THIS CASE [186]
Policy of Trading Whilst Insolvent [190]
Was Mainzeal insolvent? [191]
Using creditors’ funds as working capital [203]
Reliance on group support [204]
Not clearly formulated [210]
Conditional [212]
Not binding [214]
The limitations of Chinese law [215]
The support that was provided [217]
Effect of restructuring [226]
Requests for clarification [231]
Conclusion on group support [235]
Financial trading position [238]
Trading position [239]
Prospects of one-off losses [244]
Leaky building liabilities [249]
Changed business plans [253]
Conclusion on financial trading position [258]
Additional Factors [259]
Reliance on auditors [260]
No legal advice taken [265]
Corporate governance standards [270]
Creditor knowledge [274]
Conclusion [277]
The timing of the breach [288]
SECTION 136 COMPANIES ACT 1993 [294]
DID THE DIRECTORS BREACH THEIR DUTIES UNDER S 136? [302]
THE KFL DEBT RESTRUCTURE [312]
Purpose and effect of KFL debt restructure [315]
Sixth and seventh causes of action – breaches of ss 131, 135 and 136 and breach of
fiduciary duties [327]
Eighth cause of action: knowing receipt by Isola and RGREL [336]
Ninth cause of action: transaction for inadequate consideration [343]
Conclusion on KFL debt restructure claims [351]
THE 2012 RESTRUCTURE [353]
Assignment or novation? [355]
Third cause of action – breach of directors’ duties under ss 131, 135 and 137 [361]
Fourth and fifth causes of action – breach of fiduciary duty by Mr Yan and knowing
receipt by RGREL [365]
Eleventh cause of action – breach of directors’ duties in relation to the purchase of
Mainzeal shares by MGL [369]
Twelfth cause of action – transaction or excessive consideration: MGL [374]
QUANTUM [379]
New debt approach [383]
Should the Mason v Lewis approach be applied? [392]
Can an alternative approach be applied? [402]
Overview of the approach [408]
Identifying the starting point [414]
Discretionary factors [428]
Culpability and Duration [430]
Causation [437]
Conclusion [445]
Joint and several liability? [451]
ASSESSMENT OF QUANTUM BASED ON PLAINTIFFS’ APPROACH [462]
Issues one and two: RGREL recoveries [469]
Issue three: Richina Pacific advances [476]
Issues four and five: Specific legacy claims [483]
Issue six: Principal contract claims [493]
Mr Millard’s approach [505]
Mr Jones’s approach [516]
Conclusion on quantity surveying evidence [523]
What approach should be taken? [524]
Further adjustments [530]
Conclusion [538]
LEAVE RESERVED [540]
CONCLUSION [544]
INTRODUCTION
[1] The Mainzeal name has been associated with a significant construction company in New Zealand for many years. The first plaintiff is Mainzeal Property and Construction Ltd, now in liquidation (Mainzeal). Over the years it constructed several landmark buildings in New Zealand’s cities, including Spark Arena in Auckland and the Supreme Court building in Wellington. The original company was established in approximately 1968. It was publicly listed for significant periods during its history.
[2] In 1995, an investment consortium with a focus on investments in China acquired a majority shareholding in Mainzeal’s then holding company. This investment consortium was associated with the first defendant, Mr Richard Yan. The company group came to be known as the Richina Pacific group. In 2004, the group established a new independent board for Mainzeal with the third defendant, Rt Hon Dame Jennifer Shipley, as Chairperson. It operated for nearly 10 years under this board until the company collapsed in February 2013. Its collapse left a deficiency on liquidation to unsecured creditors of approximately $110 million. The unpaid creditors are sub-contractors ($45.4 million), construction contract claimants ($43.8 million), employees not covered by statutory preferences ($12 million), and other general creditors ($9.5 million). Mainzeal’s secured creditor, BNZ, was fully paid out.
[3] These proceedings are brought by the liquidators, and companies in liquidation, against the former directors, effectively for the benefit of these unsecured creditors. There are a series of causes of action, but the principal claim is the Mainzeal directors breached their duties under ss 135 of the Companies Act 1993 by engaging in what is colloquially called reckless trading. In addition to Mr Yan and Dame Jenny, the relevant former directors who are sued are the former Chief Executive Officer, Mr Peter Gomm, and Mr Clive Tilby. They are the second and fourth defendants respectively. The fifth defendant, Sir Paul Collins, who joined the board as a director in the year before the company’s failure, is also sued, but not on the main claim of reckless trading.
[4] At the heart of the plaintiffs’ reckless trading claims is the allegation the company was insolvent as a consequence of the Richina Pacific group extracting considerable funds from Mainzeal for investment in China. Mainzeal nevertheless continued trading in an insolvent state for several years. When trading the directors relied on promises from the Richina Pacific group that financial support would be provided when needed. But such promises were not formalised, or legally binding. The ability to provide that support was also limited by stringent Chinese foreign exchange restrictions. These restrictions inhibited the Richina Pacific group’s ability to repatriate funds from China when required. Mainzeal was, nevertheless, able to continue to trade by using a cash flow advantage enjoyed by construction companies
— where payments made by construction contract principals are received in advance of payment to sub-contractors — effectively using this money as its working capital. The plaintiffs say that trading in this state was inappropriate, and that Mainzeal’s financial performance also meant it was vulnerable to significant losses and company failure. Following a difficult period in 2012, Richina Pacific was no longer willing and/or able to fully support Mainzeal, and it collapsed. The plaintiffs say Mainzeal’s failure was predictable, and a consequence of Mainzeal trading while insolvent in the manner described above. They also say that the manner in which the directors so agreed to engage in business exposed the creditors to a substantial risk of serious loss meeting the requirements of s 135.
[5] The defendants reject the allegation that Mainzeal was insolvent, or that the directors acted unreasonably by relying on Richina Pacific support. They say it is
fundamentally wrong to consider Mainzeal individually without assessing its position as part of a wider group. Richina Pacific provided very substantial financial support to Mainzeal over the years and the directors acted reasonably in reliance upon that support. Its trading performance, whilst disappointing, was not unduly concerning, and it was looking up at the times of alleged breach. It is absurd to suggest that, in those circumstances, the directors should have ceased trading at the times alleged. Mainzeal only failed because of a perfect storm of adverse factors, and notwithstanding very substantial financial investment by Richina Pacific in an effort to avoid failure. Finding the directors liable under s 135 in those circumstances would be both unprecedented and unprincipled.
[6] The other causes of action focus on particular restructuring transactions that took place in 2012, the year prior to Mainzeal’s failure, which are alleged to have contributed to the extent of the loss felt by creditors. The defendants reject that, saying that the restructurings were properly motivated and caused no loss.
FACTUAL FINDINGS
[7] Although many of the key facts are not in dispute, there are important differences between the parties as to the characterisation of the facts. The evidence relevant to the claims spans more than 10 years of the operation of the company. That is so because many of the features relied upon by the plaintiffs to establish a breach of s 135 of the Companies Act arise in association with matters that occurred in the early years. It is accordingly appropriate to begin by making factual findings associated with the relevant events. In doing so, I concentrate on findings that are relevant to the alleged breach of s 135 and the key differences between the parties. I make additional factual findings when addressing the particular causes of action, including when directly addressing s 135.
The evidence
[8] The trial proceeded over the course of just over eight weeks. The evidence of fact presented by the plaintiffs came primarily from one of the liquidators, Mr Andrew Bethell, largely in the form of the documentary records of the company supplemented by opinion evidence. His evidence was further supplemented by expert accounting
evidence from Mr William Apps. A number of other experts were also called by the plaintiffs. The main evidence of fact from witnesses came from the defendant directors themselves. Each of the defendants gave evidence, as did the Chairperson of the Richina Pacific board, Mr John Walker. The defendants also called a range of expert evidence.
[9] There were objections by the defendants to some of the plaintiffs’ evidence. By judgment dated 20 September 2018, I accepted that Mr Bethell could give opinion evidence,1 and by judgment dated 5 October 2018, I dismissed the defendants’ objections to Mr Trevor Burt giving corporate governance expert evidence.2 A series of objections were also made to other parts of the plaintiffs’ evidence, with the evidence being received de bene esse. In closing submissions, those objections were not pursued, but I was invited to treat the matters raised as going to weight. There was some substance to some of the points raised by the defendants, and I have not given weight to much of the evidence objected to.
[10] In closing submissions, the defendants also took issue with the way the plaintiffs had presented their case in a number of respects. Some of those points also had merit. In particular, the plaintiffs invited me to reach conclusions on certain matters of fact notwithstanding that they had not been squarely put to certain witnesses, particularly Mr Yan, contrary to the duty in s 92 of the Evidence Act 2006. I have not made findings adverse to the defendants in relation to issues where this occurred.
[11] There is one other significant feature of the evidence. Certain witnesses were not called by either side, even though it is apparent that evidence from those witnesses may have had some significance. In particular, neither the plaintiffs nor the defendants called Mainzeal’s Chief Financial Officer, Mr Reegan Pearce. It is apparent from his role, and from a number of emails that he sent at the time, that he was likely to have been a significant witness of fact. In addition, nobody was called from Ernst & Young, Mainzeal’s auditors over the most important period of time in issue in this case. Given the significance of their assessment of Mainzeal as a going concern, and the other
1 Mainzeal Property and Construction Ltd (in liq) v Yan [2018] NZHC 2470.
2 Mainzeal Property and Construction Ltd (in liq) v Yan [2018] NZHC 2522.
reports to the directors provided by that firm, it is also apparent that they may well have had relevant evidence to give. The plaintiffs bear the onus of proving their case, but equally the defendants did not call such evidence to support the case that they were advancing. I do no more than note these points. I have decided the case on the evidence I have heard.
Richina Pacific’s acquisition of Mainzeal
[12] As indicated, Mainzeal was in existence as a New Zealand construction company from approximately 1968. It was first listed on the New Zealand Stock Exchange in 1969, under a previous name. The name was changed to Mainzeal in 1975, then, as mentioned, the present Mainzeal was incorporated in 1987. During this period, Mainzeal’s holding company, Mainzeal Group Ltd, was the publicly listed entity.
[13] In 1995, a majority share of Mainzeal Group was acquired by an investment consortium subsequently known as REH Capital Ltd, which was controlled by Mr Yan. In 1981, Mr Yan had obtained a Rotary scholarship to come from China to study in New Zealand. One of his host families was the family of Mr Peter Menzies, one of the founders of Mainzeal, and Mr Yan worked for Mainzeal during his school holidays, including by sweeping the floors of the St James Theatre in Auckland. Mr Yan subsequently became an entrepreneur with a degree from the University of Auckland in 1985, and from Harvard Business School in 1988, where he met some of his fellow investors. After working for periods at Bankers Trust in New York and Hong Kong, he established REH Capital in 1993.
[14] REH Capital comprised a group of North American individuals and entities wishing to engage in private equity investment. Mr Yan himself was one of the investors holding what was a significant personal interest. By virtue of holding non- equity shares, he also had effective control of the day-to-day management of the investments. In evidence, he described his authority as a “democratic dictatorship”.
[15] Mr Yan explained that the acquisition of Mainzeal was not truly intended. REH Capital was primarily interested in investing in China. Mainzeal Group also owned Mair Astley Holdings Ltd, an entity involved in the leather industry. REH Capital’s
main objective was to acquire this interest to associate it with the interests it already had in the leather industry in China. Mr Yan explained with respect to Mainzeal that “many shareholders in the Consortium didn’t like the idea from the beginning, but trusted me in making the best deal for them”. Sir Paul Collins, who represented another group of shareholders, explained that he was one of those who was not enthusiastic. This tension in the shareholder group remained as a significant factor right through until Mainzeal’s demise.
[16] In 1996, Mainzeal Group acquired the remaining 48 per cent interest in Mair Astley, and all its New Zealand operations were merged. In September 1996, Mainzeal Group was renamed Richina Pacific Ltd. Richina Pacific Ltd was later removed from the New Zealand Companies Register in December 2003, and a new company was then incorporated in Bermuda (Richina Pacific). The Richina Pacific annual reports referred to the issue surrounding the desirability of owning a construction company in New Zealand. In the annual report for the financial year ending 31 December 2003, Mr Yan’s statement as Chief Executive Officer identified one of the reasons for doing so was that it did not require much equity capital given the significant cash flows involved in the construction industry, which operated as a kind of working capital, and that the “critical factor” was how to “contain as far as possible the downside risk in this business”.
[17] Early in its operations, Mainzeal operated successfully. There was some evidence of a substantial dividend being paid by Mainzeal to Richina Pacific in 1999, but the evidence was not clear on the point and it was not pursued by the plaintiffs with Mr Yan, so I make no findings in relation to that suggestion. There was also evidence of a later investment in Mainzeal by Richina Pacific. In particular, in 1995 and 1996, Richina Pacific had raised funds to make further investments in China, but a situation emerged when the developer of the Mobil on the Park project in Wellington, over which Mainzeal was the construction contractor, was unable to complete the project. Richina Pacific invested $37.4 million in Mainzeal to enable it to complete the project itself. The building (now known as the Dimensions Data Tower) was developed, and subsequently sold at a profit. Mr Yan said in evidence that the $37.4 million was subsequently returned to Richina Pacific (and other entities in the group)
in the form of loans. The contemporary documents leave me with considerable uncertainty about the extent of the investment and what Mainzeal retained, however.
Establishment of Independent Board in 2004
[18] In April 2004, a new independent board was established for Mainzeal. Mainzeal was wholly owned by Richina Pacific, which, as mentioned, was by this stage incorporated in Bermuda. Richina Pacific was, however, registered as an overseas company under Part 18 of the Companies Act and publicly listed on the New Zealand Stock Exchange. The investment consortium represented by Mr Yan continued to own 51 per cent of the publicly traded shares.
[19] The constitution adopted for Mainzeal in June 1996 contained provisions contemplated by s 131(2) of the Companies Act, allowing a director of a wholly- owned subsidiary to act in the best interests of its holding company, even when that may not be in the company’s best interests. The overall group structure was complex. In 2004, the structure was as follows:
[20] Dame Jenny became the Chairperson of the newly established board and Mr Tilby became a director. Dame Jenny was also a director of Richina Pacific. Mr Yan was a director of both Richina Pacific and Mainzeal at this stage, although he resigned as a director of Mainzeal in November 2004. In 2006, he and his family came to live in New Zealand and he became a Mainzeal director again in April 2009. Dame Jenny explained that she had been approached in late 2003 or early 2004 by Sir Allan Wright, who was on the board of Richina Pacific and Mainzeal at the time. He introduced her to Mr Yan and she agreed to go on the boards of Richina Pacific and Mainzeal, and to take over as Chairperson of the Mainzeal board. Mr Tilby explained that he had been approached by Mainzeal’s then Chief Executive Officer, Mr Ranford, to go on the board. Mr Tilby was a consultant with significant governance experience in the construction industry.3
[21] By letter dated 19 March 2004, the company secretary of Richina Pacific, Mr Warwick Lobb, sent the then directors what came to be known as the “Charter”, which was a document established to formalise the relationship between Richina Pacific and Mainzeal. The Charter contemplated the application of s 131 of the Companies Act. It is accordingly a document of significance. One of the key paragraphs provided as follows:
AUTHORITIES:
The appointed Board of MPC will have the authority and obligation to do such things as are necessary to ensure appropriate governance in the best interests of the Company and, if directed, the Parent, as permitted by law and the Constitution, except as to matters involving:
· equity raising
· capital expenditures (in excess of limits to be from time to time agreed)
· appointment and remuneration of CEO and CFO
· taxation matters
· dividends and loan account to/from the parent and its subsidiaries
3Mr Gomm joined the board later. He was also experienced in the construction industry. He joined Mainzeal as Chief Operating Officer in May 2007. He then became Chief Executive Officer in April 2009, and joined the board in June 2009.
In respect of matters for which no direct authority is provided, the Board is expected, from time to time, to make representations/recommendations to the [Richina Pacific] Board on these matters, which the [Richina Pacific] Board, in its absolute discretion, may approve or reject, with or without explanation.
[22] The new board members of Mainzeal had their inaugural board meeting on 13 April 2004, the minutes of which were received at an Richina Pacific board meeting on 20 April 2004. At that Richina Pacific board meeting, Dame Jenny sought comments and direction in relation to the Charter, and the relationship between Richina Pacific and Mainzeal. As a consequence, by letter dated 10 June 2004, Mr Lobb wrote to the directors of Mainzeal, on behalf of Richina Pacific, providing further details about the relationship. This letter provided further concrete advice. In it Mr Lobb advised, amongst other things:
10. Within any [Richina Pacific] policy, [Mainzeal] should determine its own policies and procedures to best utilise the equity it has, plus from time to time new equity it has been allocated by the [Richina Pacific] board. To the extent that it requires more capital, it will have to compete with other demands from other subsidiaries or from initiatives within the [Richina Pacific] corporate group. Allocations may need to be made, and if that is the case, the basis would be need, and expected return on investments. [NB: Any safety, health and environmental issues usually need to take precedent and be fixed first- these also being matters on which each director can be personally liable.] The Directors of the [Mainzeal] board who are also on the [Richina Pacific] board would be expected to promote any reasoned requests for equity at the [Richina Pacific] board level once they are satisfied as to the appropriateness of those requests, and funding cannot otherwise be secured.
[23] At the Mainzeal board meeting on 28 June 2004, Dame Jenny recorded that the general principles of Mr Lobb’s letter were understood and accepted.
[24] The terms of the Constitution, Charter and the explanatory letter are tolerably clear. Richina Pacific had the ultimate power as the owning shareholder, particularly in relation to equity and in relation to loans to and from Mainzeal. It had certain expectations, which it could enforce by the power to require Mainzeal to comply with certain policies, including in relation to returns to the shareholder. There could be no promise of any new equity, and Mainzeal would have to compete with the wider group’s competing interests in that respect. But the “backing” of the Richina Pacific was evident, and its accounts could be used to help Mainzeal obtain business.
Funds extracted from Mainzeal
[25] Between 2004 and 2005, these arrangements were utilised for the benefit of the Richina Pacific group. This was particularly so with respect to a major acquisition made by the group in China of the Shanghai Leather Co Ltd (SLC), a former Chinese Government-owned company that had extensive land use rights in Shanghai.
[26] Mainzeal contributed funds to assist Richina Pacific with this purchase. An advance was made by Mainzeal to MLG Ltd (MLG), a New Zealand company that was also owned by Richina Pacific. A facility called a “floating rate debenture loan” between Mainzeal and MLG was used. The loan document stated that the loan was to be repayable in seven years’ time, together with interest accruing and capitalising at 10 per cent of the consolidated profit of SLC. Clause 8 of the loan document recorded that Mainzeal’s claim ranked equally with unsecured creditors. The amounts borrowed by MLG were further transferred within the wider group to acquire the assets. Mainzeal directors took no independent legal advice in relation to the entry of this loan.
[27] Mainzeal’s loan to MLG was for USD 2.37 million. These funds were part of the funds used by the Richina Pacific group to acquire SLC, which had a total purchase price of USD 20 million. The loan from Mainzeal to MLG to allow the acquisition to proceed contributed approximately 10 per cent of the acquisition price. The acquisition of SLC was an enormously significant transaction. Mr Yan’s statement as Chief Executive Officer in Richina Pacific’s 2004 annual report recorded that “2004 will be recorded in history of Richina Pacific Ltd (RPL) as the pivotal turning point for its future success”, and he compared the acquisition of SLC to the Louisiana Purchase. This was because, by purchasing SLC, Richina Pacific purchased substantial land use rights around Shanghai, which became very valuable property as the city expanded. Mr Yan was most reluctant in cross-examination to place a present- day value on this holding, including because it is not truly tradeable. At one point, reference was made to the land being worth 148 times its acquisition price. It was suggested to Mr Yan in cross-examination that it would now be worth more than USD 700 million. He did not accept that, but did not indicate any alternative figure in response. It is plainly a very valuable holding.
[28] The interest calculation for the MLG loan was based on SLC’s profit. As Mr Yan accepted in cross-examination, that profit calculation would not include any assessment of the increase in underlying value of the land use rights. It is the substantial increase in the value of the land use rights that provided very considerable financial advantage to Richina Pacific. The interest calculation did not capture that.
[29] A second facility agreement between Mainzeal and MLG was entered on 15 November 2005. This current account loan earned interest at 9.5 per cent, repayable at dates in 2006. A Mainzeal internal memorandum of 28 October 2005 records a request from Richina Pacific for Mainzeal to loan USD 5 million to MGL to allow Richina Pacific to acquire a further subsidiary associated with SLC, known as Shoe No 1 Company — a company in Shanghai manufacturing shoes. Although Mr Yan denied that Mainzeal funds were used for this purpose, the records speak for themselves. Mr Yan explained that this company was acquired for one yuan (approximately 18 cents at the time) so that no such funding was required. But Shoe No 1 Company came with extensive liabilities that had to be met, meaning that funds were needed in connection with the purchase. So it seems apparent that Mainzeal was again assisting Richina Pacific in acquiring substantial assets in China. Again, no independent legal advice was taken on the entry of this further loan agreement.
[30] It is also apparent that other funds were extracted from Mainzeal by Richina Pacific. The minutes of the Mainzeal board meeting on 7 December 2004 spoke of Richina Pacific extracting money for working capital requirements. By 31 December 2005, MLG’s debt to Mainzeal was NZD 3.47 million under the floating rate debenture loan, and NZD 16.79 million under the current account loan. This latter figure demonstrates that considerable additional extractions were involved. The operating arrangements were accordingly being implemented to the considerable advantage of Richina Pacific.
[31] It is significant that whilst the funds were being used by Richina Pacific itself to obtain significant assets in China, MLG was being used as the borrowing party. Whilst it was suggested by the defendants that this arose because MLG was used as a funds transfer vehicle, and may have been inserted for tax reasons, using MLG meant that Richina Pacific itself had no legal liability to repay. Neither did MLG have the
ability to itself repay the loans. Using MLG also necessitated a further legal mechanism to transfer the monies from MLG to Richina Pacific. The MLG accounts for the financial year ending 31 December 2005 record that MLG bought back shares from Richina Pacific for NZD 19 million. Such legal complexities suggest care was being exercised in forming the legally binding arrangements. The care taken with the legal form of the arrangements between Richina Pacific and Mainzeal is another important feature of the background.
Initial period of operations
[32] Richina Pacific nevertheless provided Mainzeal substantive support for its ongoing operations. Significant construction contracts of the type Mainzeal engaged in sometimes had a requirement that a “construction bond” be provided. A construction bond is an instrument that the contractual principal can call upon if the construction company fails to perform its obligations. The bonds are usually issued by a significant institution, usually a bank or an insurance company, and are for a percentage of the total construction contract price — usually 10 per cent. Mainzeal’s bond provider — referred to as a “bondsman” — was often Vero Insurance. Institutions such as Vero require the bonds to be backed up by a guarantee from a party of substance. So, before bonds could be issued on some of Mainzeal’s construction contracts, a guarantor of substance needed to be found. Richina Pacific provided this guarantee for Mainzeal’s construction bonds, and also sometimes provided the construction bond itself. Whilst this did not involve Richina Pacific actually providing funds, it did involve it accepting significant contingent liabilities.
[33] The operating structure largely continued for the following three years except that a new company, then called Richina Land (NZ) Ltd, but which subsequently came to be known as Richina Global Real Estate Ltd (RGREL), was introduced as Mainzeal’s immediate holding company in 2006. This also appears to have arisen as part of the carefully adopted legal structures. The Richina Pacific group also used RGREL as a vehicle to extract funds from Mainzeal, although the main extractions appear to have commenced before the establishment of the independent board in 2004. Although RGREL was of greater financial substance than MLG, neither were in a position themselves to repay the Mainzeal loans.
[34] Mainzeal’s financial performance at this time was poor with a loss for the financial year ending 31 December 2005 of $7.5 million compared with a profit of
$4.2 million the previous year. In the Richina Pacific six-month report for the first half of 2005, Mr Yan advised that “clearly more investment of capital and time … will make little economic sense”. The performance was much improved for the financial year ending 31 December 2006, with an operating profit before tax of $14.8 million. It is notable, however, that $7 million of that profit was attributable to the Mobil on the Park project. For the financial year ending 31 December 2007, the performance deteriorated, with a normalised profit of $5.1 million recorded, but with interest of
$2.85 million from the intercompany loans contributing to that profit. The accounts recorded that by this time Mainzeal was owed very significant amounts by Richina Pacific entities totalling $39.4 million, involving $14.7 million owed by RGREL, and
$24.7 million owed by MLG. There is no evidence identifying what specific use was made by the group of the funds borrowed by RGREL, or whether they were used to acquire assets in China.
[35] The loans to MLG and RGREL, and the “receivables” from MLG and RGREL, appeared in Mainzeal’s accounts as an asset. They were accordingly significant. The audited accounts of MLG for the financial year ending 31 December 2008 recorded that MLG had negative equity of $44.845 million. The two directors of MLG were Mr Yan and Dame Jenny. It is clear that MLG was not in a position to repay the loans to Mainzeal. Its audited accounts contained the statement that “Richina Pacific Limited has undertaken measures to provide financial assistance to the company, if necessary, to ensure that the Company will meet its debts as they fall due”. In the absence of such support, both MLG and Mainzeal were apparently insolvent. In particular, if the loans by Mainzeal to MLG and RGREL could not be recovered, Mainzeal’s liabilities would have significantly exceeded its assets.
[36] Richina Pacific had also provided formal letters of support for Mainzeal itself in connection with Mainzeal’s audited accounts. By letter dated 7 May 2008, Richina Pacific provided such a letter for a minimum period of 12 months from 7 May 2008. No promise to provide such support was recorded in the Charter or the accompanying letter, but it was a key aspect of the relationships at the time. Given the extraction of funds from Mainzeal, such a letter of support became necessary to ensure that
Mainzeal remained classified as a going concern for the purposes of the annual accounts under the New Zealand Accounting Standards.
[37] There is authority that such letters of comfort, particularly when provided in connection with an annual audit, are not legally enforceable.4 That was because they did not exhibit an intention to create legally binding relations, or provide an enforceable undertaking or guarantee. There can be room for argument on the enforceability of such documents in particular cases — particularly in the New Zealand context, with greater capacity to sue for misrepresentation, including under the Fair Trading Act 1986. In the present case, however, it was not contended before me that the letters of support given by Richina Pacific entities were legally enforceable.
[38] The fact that some care had been taken for Richina Pacific itself not to face legal responsibility for repayment of the loans is partly explained by the circumstances of Richina Pacific’s investment in Mainzeal. As indicated, the requirement for it to act as the provider or guarantor of the construction bonds was a significant commitment. There are a number of contemporaneous documents suggesting at least ambiguity amongst some of the shareholders relating to their enthusiasm for the Mainzeal investment. I accept Mr Yan’s evidence that he remained personally supportive of the Mainzeal investment. But in doing so he had to manage his relationship with his investors, who were not all as enthusiastic. The lack of any legally binding commitments beyond those required for the construction bonds was a consequence.
Chinese regulations
[39] There is a further factor of significance relating to these arrangements. There were very stringent foreign exchange controls exercised by the Chinese governmental authorities and particularly the State Administration of Foreign Exchange (SAFE). The official currency of the People’s Republic of China is the renminbi (RMB).
4See Kleinwort Benson Ltd v Malaysia Mining Corp Bhd [1989] 1 WLR 379 (CA); Carillion Construction Ltd v Hussain; re Simon Carves Ltd [2013] EWHC 685 (Ch); Bank of New Zealand Ltd v Ginivan [1991] 1 NZLR 178 (CA) at 180; and Genos Developments Ltd v Cornish Jenner & Christie Ltd HC Auckland 10 July 1990, CP 556/90.
During the relevant period, one yuan (the base unit of RMB) was worth approximately 17– 29 cents. There were very tight controls on removing money from China — that is on buying foreign currency with RMB. The rules in this respect changed over the course of events in this case. A number of witnesses addressed the issue, including two Chinese law experts (Mr Lingyun He for the plaintiffs and Mr Lijun Cao for the defendants), as well as Mr Charles Finny, an expert in New Zealand/China relations called by the plaintiffs. The matter was also addressed by Mr Yan himself.
[40] A number of techniques were used to allow money to leave China, but they had significant limitations. Chinese authorities could allow Chinese companies to acquire businesses overseas, but the expert evidence was that the authorities were unlikely to support money being used for failing enterprises. Other techniques were used in this case, as I will explain below. The important point is that once funds had been extracted from Mainzeal and used to make investments in China, it was difficult to get the money back out again, even though the assets acquired increased considerably in value.
[41] In summary, Richina Pacific had extracted considerable funds from Mainzeal. This had been done to help secure assets of considerable value in China. It had done in the form of loans, which allowed the loans to be recorded as assets in Mainzeal’s accounts. The substantial assets that had been purchased with this money were not themselves held by the borrower, and the borrower itself had limited ability to repay the loans. In any event, there would be considerable difficulty in getting funds out of China. If the loans were not recoverable, then Mainzeal was apparently insolvent. A promise of assistance from Richina Pacific was, nevertheless, provided. This was treated as providing the necessary support for Mainzeal to continue as a going concern. But it was not suggested that the promise was legally enforceable. This is the beginning of the dependence upon non-binding assurances of support that are of central importance to this case.
2008-2009 restructuring
[42] There was a wider restructuring of the Richina Pacific group in 2008 and 2009. Mr Yan explained that it arose from the differences of view amongst the shareholders
in relation to the investments held by Richina Pacific. Some did not want to have investments in New Zealand, particularly in a construction company. They wished to concentrate their investments in China. Others were more interested in the New Zealand investment. Mr Yan said that the point of the overall restructuring of the Richina Pacific group was to divide it into separate divisions, with the shareholders then having a choice as to where they wished their investments to be. In essence, this separated out the New Zealand companies from the Chinese companies, although the original plan was for there to be four divisions. Richina Pacific would delist from the New Zealand Stock Exchange, and buy back the publicly listed shares.
[43] The arrangements were set out in an investment statement sent to the public shareholders. A new Richina Pacific entity would be created as a private company, which would no longer be the ultimate holding company of Mainzeal. New entities were to be used as holding companies of a New Zealand division, including Richina (NZ) LP, which would own RGREL.
[44] The restructuring commenced in late 2008, including with the delisting of Richina Pacific. It ultimately did not proceed as fully as first intended and was not completed until late 2009. Following completion, the new structure was as follows:
[45] The relationship between Mainzeal and Richina Pacific, and the Richina Pacific subsidiary that held the substantial assets, Richina Pacific (China) Investments Ltd (CHC), was now more remote. It is also significant that Richina Pacific delisted from the New Zealand Stock Exchange. It was now just a private company incorporated in Bermuda.
[46] The 51 per cent holding that REH Capital had in Richina Pacific increased as a consequence of the de-listing and acquisition of minority shareholdings. It increased to something in the order of 70 per cent as the public shareholdings were acquired. Mr Yan’s personal equity interest in Richina Pacific also increased. The evidence was not entirely clear as to what his personal interest became, but it at least increased to approximately 25 per cent. He also had effective control by virtue of his control of REH Capital.
[47] As part of the separation of the Chinese and New Zealand divisions, it was proposed that Mainzeal be capitalised so that it could operate independently of Richina Pacific. By letter dated 21 November 2008, Richina Pacific’s auditors, PricewaterhouseCoopers (PwC), provided a report on the then proposed restructuring and delisting. In it, PwC advised:
The New Zealand Division
15.The New Zealand Division will essentially comprise Mainzeal. Mainzeal’s balance sheet is in a deficit position (excluding its intercompany advance) and it requires the support of the [Richina Pacific] Group to operate in the short term. Consequently, to enable it to operate as a stand-alone division, it requires a cash injection from the Group. We are advised that this will be affected through the issue of preference shares by the Investments Division to the New Zealand Division which are intended to qualify for treatment as equity of the Richina Land (NZ) Limited and the New Zealand Division. Following the investment in preference shares, it is intended that the New Zealand Division will be able to operate independently from the remainder of [Richina Pacific].
16.The issue of preference shares should be undertaken prior to amalgamation and be sufficient to deal with Mainzeal’s deficit.
[48] The investment statement issued to the shareholders recorded that the value of the preference shares would be USD 13.5 million. That amounted to approximately half of what was then owed to Mainzeal by the Richina Pacific entities. The
investment statement also advised the shareholders that “[Richina Pacific] will ensure that each Division is appropriately capitalised …”.
[49] The Mainzeal board were aware that Richina Pacific was not intending to capitalise Mainzeal by other means, and that there was a solvency issue given the state of the recoverability of the intercompany loans. The January 2009 report to the Mainzeal board from the Chief Financial Officer, Mr Reegan Pearce, stated:
It is not anticipated that any further cash support will come from the [Richina Pacific] parent directly to Mainzeal other than potentially a cash injection to the new parent of the NZ division as disclosed in the [Richina Pacific] notice of meeting to get to a solvent position.
[50] This note is significant as it reflected the substantive position. The proposed capital injection was necessary to get Mainzeal to a solvent position.
[51] This capitalisation never ultimately took place, however. The redeemable preference shares were issued, but never called up. As a consequence, the capital injection that PwC had advised was necessary for Mainzeal to operate as a standalone division in the short term, and to address Mainzeal’s balance sheet deficit, never occurred, and separation did not proceed as fully as initially intended.
[52] One of the key reasons why it did not proceed was that the parties who were providing the construction bonds on Mainzeal’s construction contracts did not accept a substitution of RGREL for Richina Pacific as guarantor of the construction bonds even if RGREL was capitalised as proposed. Mr Yan explained that the bondsman, Vero, indicated that it would be necessary for RGREL to have more capital than the USD 13.5 million (equivalent to approximately NZD 20 million at that time) for it to be acceptable. Vero advised that any New Zealand entity replacing Richina Pacific would have to have capital of NZD 40 million — that is, approximately the level of the intercompany loans.
[53] Mr Yan explained that the figure of $20 million had originally been recommended by PwC. This figure had been obtained because a United States investor had asked how much capital was required to separate the New Zealand and Chinese assets. He had been prepared to provide that capital to ensure the separation.
But Mr Yan also explained the global financial crisis in 2008 intervened, and the investor was not able to provide the funds. In any event, the PwC assessment of what was required was not sufficient given Vero’s stance.
[54] Richina Pacific decided against capitalisation in these circumstances. The minutes of the audit and governance committee of Richina Pacific for 26 May 2009 record that Richina Pacific “determined that it would not be prudent to put [USD] 13.5 million cash in Richina Land in order to create a cash positive stand-alone entity”. As a consequence, the more extensive separation did not proceed. The amalgamation that created a new Richina Pacific was completed, but the shareholders of Richina Pacific did not make the choice as between divisions. Instead, they all continued as shareholders of both Richina Pacific, which ultimately owned the Chinese investments, and Richina Holdings (BVI) Ltd, which ultimately owned the New Zealand investments in a limited partnership with an investment company owned by Mr Yan.
[55] The Mainzeal directors were generally aware of the significance of the separation, even in its more limited form, and the greater independence contemplated. As mentioned, Mr Yan re-joined the Mainzeal board in April 2009. The minutes of the board meeting on 28 April 2009 record:
3.7 Bonding Availability RP/RY Note – Generally positive meeting held with the Bondsman based on RY’s representation that [Richina Pacific]’s support will be ongoing. The Bondsman is seeking the group’s consolidated audited accounts for 2008 and ongoing 2009 MZL management accounts.
3.7 Support of Mainzeal by Richina Pacific Limited
RY reaffirmed that the support of Mainzeal is ongoing, however the directive is for Mainzeal to
be self-sufficient and to grow to become a much stronger stand-alone viable entity.
[56] This was reported to the Richina Pacific board in the following terms the following month:
The principles of operation now adopted by the Mainzeal senior management team, is that Mainzeal is a standalone business entity which has to be financially self-sufficient from [Richina Pacific]. There is one exception, the need for the [Richina Pacific] Parent Company Guarantee to support the availability of performance bonds from Vero required by the typical New Zealand public and private clients.
[Richina Pacific] has confirmed that consistent with this mandate, Mainzeal will retain all profits and cash-flow to rebuild the company's balance sheet and net worth.
PricewaterhouseCoopers concerns
[57] One of the auditors who authored PwC’s initial advice addressing the need to capitalise Mainzeal, Mr Michael Schubert, gave evidence. He explained that the failure to capitalise the New Zealand division as indicated in the information provided to the public shareholders of Richina Pacific caused him considerable concern. An associated promise to provide greater financial disclosure following delisting, particularly concerning the related party transactions, also did not occur, which also concerned him.
[58] On 22 May 2009, PwC raised its concerns in the draft audit report for Richina Pacific for the financial year ending 31 December 2008. This letter raised the fact that the redeemable preference shares had not been called upon, and that the greater transparency concerning related party transactions had not occurred. PwC also raised an issue as to whether Richina Pacific itself was a going concern. A response from Mr Walker recorded the concern in the following terms in relation to a loan from Siam Commercial Bank to Richina Pacific:5
PwC has raised the question of whether [Richina Pacific] is a going concern, specifically with respect to the ability of [Richina Pacific] to access funds to support its non-China entities, particularly Mainzeal, and to repay the loan from Siam Commercial Bank (“SCB”) when due.
[59] The letter from Mr Walker responded to the PwC concerns. It stated that Richina Pacific did not plan to subscribe for the shares until the restructuring was completed. Mr Schubert also explained that advice was obtained from Russell McVeagh in light of his concern that the suggested failures involved a breach of
5PwC’s original letter and report is no longer in existence, and only a draft of this reply has been found. But Mr Schubert confirmed it was similar in terms to the final letter.
securities laws arising from what had been represented to the public shareholders. He said that Russell McVeagh advised that there was no such breach. He said that this was accepted, and that ultimately PwC signed off the audit reports.
[60] Mr Schubert nevertheless said that he lost confidence in his ability to rely on assurances given to him by Mr Yan, and that he “also lost confidence that the boards of [Richina Pacific] and Mainzeal were readily able to impose any constraint on the decisions made or authority exercised by Mr Yan, despite Dame Jenny also being a director on both [Richina Pacific] and Mainzeal boards”. I accept his evidence that he lost confidence. He said he was grateful when PwC was subsequently advised by Mr Walker that they would no longer be required as auditors. Messrs Walker and Yan disagreed that that was Mr Schubert’s view at the time, but I have no reason to doubt it.
The post-delisting arrangements
[61] Dame Jenny stepped down from the Richina Pacific and MLG boards in late 2009. She explained that the delisting and separation of divisions was underway and that, in that context and given her other commitments, she agreed with Messrs Yan and Walker to resign from the boards of Richina Pacific and MLG, but stay on the board of Mainzeal.
[62] MLG’s audited accounts for the financial year ending 31 December 2008 showed it remained effectively insolvent — it had negative equity of $44.8 million. This included owing Mainzeal $28.6 million, and RGREL $9.4 million. Notwithstanding this, Dame Jenny stated that she regarded Mainzeal’s receivable from MLG as “sound”. The basis for this was the expectation, recorded in MLG accounts, that Richina Pacific had “undertaken measures to provide financial assistance to the company, if necessary, to ensure that the Company will meet its debts as they fall due”.
[63] By the end of 2008, the total balance of the advances made by Mainzeal to the Richina Pacific entities was $39.4 million. It would appear that the extent of the movement of funds had not been fully reported to the Mainzeal directors, however. At the board meeting in July 2009, Dame Jenny requested a regular record of payments being made from Mainzeal to other Richina Group companies to ensure “full
transparency”. Prior to that it does not appear that the advances had been monitored in this way.
[64] Dame Jenny was aware that Richina Pacific and Mainzeal had come under close scrutiny from PwC, and that PwC looked very closely at the issues surrounding their going concern status. She referred to Mr Pearce conducting a worst-case cash flow analysis at the time. Mr Pearce’s analysis showed that on a worst-case scenario Mainzeal could still operate within its banking limits through to June 2010. Dame Jenny said in evidence that there was “no question that Mainzeal was reliant on its parent in balance sheet terms” and that Mr Yan and Richina Pacific were “open and clear with Mainzeal directors and demonstrated to the Mainzeal directors’ satisfaction that the parent company could and would support Mainzeal”. This is a continuation of the expressions of support relied upon by the directors.
[65] There is no actual evidence of relevant letters of support provided by any Richina Pacific entity in 2009 for the benefit of Mainzeal, MLG or RGREL. As a consequence of the restructuring in 2008 and 2009, MLG was no longer a wholly- owned subsidiary of Richina Pacific. The period covered by Richina Pacific’s letter to Mainzeal of May 2008 ended in May 2009. As mentioned, Mainzeal’s audited accounts for the financial year ending 31 December 2008 were signed off by the directors and by PwC in June 2009. PwC did not provide any qualification or note of the kind that subsequently was provided in the later years when Ernst & Young took over as the auditors.
[66] Both the PwC formal advice and Mr Pearce’s report to the board in January 2009 recorded that, in the absence of new capital being provided after the separation, Mainzeal was balance sheet insolvent. When this was put to the directors in cross- examination they explained that that is not how they saw it, as Mainzeal was part of the wider group, and the wider group had repeatedly provided assurances of support.
[67] Mr Gomm also explained that balance sheet solvency did not concern him because Mainzeal always had the cash flow to pay its debts. This is a result of the aforementioned feature of construction companies, particularly construction companies of a significant size. Such companies can, and do, arrange their
commitments so that they are paid significant amounts from their principals (the parties with whom they contract to engage in construction), with a delay before the sub-contractors are paid. These can be very significant amounts of money moving through a construction company’s books. These acted as a kind of working capital for Mainzeal, and had been described in Richina Pacific’s annual reports to its shareholders as an advantage of a construction company of this kind.
[68] The fact that the proposed redeemable preference share capitalisation had not proceeded does not appear to have been regarded as a matter of concern for the Mainzeal directors. The issue of balance sheet solvency remained, however. A Mainzeal board report in October 2009 stated:
Tax Defeasance and Review
A “scaled down” version of this is now being agreed with EY with one of the resulting outcomes being to move “paper equity” into the NZ division (and out of the China division) which will assist with the technical solvency issues the division currently faces.
[69] The reference to “paper equity” involved an agreement dated 28 October 2009 whereby CHC agreed to transfer to RGREL 90 per cent of the shares in Kunshan Richina Hotel Co Ltd, a company incorporated in China that owned land use rights for a proposed hotel development. RGREL was to pay CNY 74,215,860 for the shares. That transfer was conditional on relevant Chinese authorities, including “Kunshan Foreign Trade and Economic Cooperation Bureau”, approving the sale.6 It appears clear that this step was taken to make RGREL’s balance sheet appear stronger. But the approval of the Chinese authorities was neither given nor sought, and the transaction was cancelled in October 2012. It appears clear that the RGREL balance sheet was not improved in a substantive sense.
[70] Other steps were taken to improve the appearance of the balance sheet. The subscription agreement for the redeemable preference shares between RGREL and Richina Pacific dated 28 November 2008 remained in existence. The agreement was never cancelled but instead Richina Pacific’s obligations under it were assigned first to Richina Holdings (BVI) Ltd, and then from that company to Richina (NZ) LP. The
6The original transaction documents are in Chinese, but certified translations were provided to the Court.
shares were recorded in RGREL’s accounts for the 2009–2011 years. Whilst the value of the shares was not taken into RGREL’s balance sheet, the accounts nevertheless recorded that RGREL had the right to call on the subscription agreement. Mr Walker was surprised by these steps when he gave evidence. He thought that these shares should simply have been cancelled. The plaintiffs contend that the redeemable preference share rights remained recorded in RGREL’s accounts for the 2009–2011 years in order to make it appear that RGREL had a stronger balance sheet than it in fact had. I accept that. There is no other reason to explain why the redeemable preference share rights were subject to assignments, and then recorded in RGREL’s accounts for three years. This must have been to present a positive picture. As Mr Walker said, the redeemable preference shares had become irrelevant following the decision made in 2009 to not proceed with this capital funding.
[71] Mainzeal’s audited accounts to 31 December 2009 were finalised in May 2010. They continued the statement that the shareholders of RGREL had undertaken to provide financial assistance to ensure that Mainzeal would meet its debts as they fell due. Ernst & Young’s auditors’ report dated 31 May 2010 stated:
Emphasis of matter
We draw attention to Note 15 of the financial statements which describes the continued support of the shareholders of Richina Global Real Estate Limited, the immediate parent company. The financial statements have been prepared on the going concern basis, the validity of which depends upon the continued financial support by the shareholders of the immediate parent company. The financial statements do not include any adjustments that would result should the support of the shareholders of the immediate parent company be discontinued. Our opinion is not qualified in respect of this matter.
[72] The letter of support was now from Richina (NZ) LP, signed by Mr Yan as “Director for the General Partner, Richina Limited”. It acknowledged to the directors of Mainzeal and RGREL that Richina (NZ) LP accepted responsibility for providing, and undertook to provide, sufficient financial assistance as and when it was needed to enable them to continue operations and fulfil all financial obligations “now and in the future”, with the undertaking “provided for a minimum period of twelve months from May 31, 2010”. The wording was the same as the previous letter provided by Richina Pacific itself. As previously indicated it was not contended that such letters were legally enforceable. But in any case, this new entity did not have the resources to meet
the assurance of support that the letter provided. In addition, MLG, which owed Mainzeal very significant sums, was balance sheet insolvent and was no longer owned by Richina Pacific.
[73] Mr Yan gave evidence that the change in identity of the company providing the letter of support from Richina Pacific to Richina (NZ) LP was as a consequence of Ernst & Young’s advice as auditors. That appears consistent with comments in the Ernst & Young audit results for the financial year ending 31 December 2009. Nobody from Ernst & Young was called as a witness by either the plaintiffs or the defendants, however.
[74] The issues surrounding the separation of the Chinese and New Zealand divisions was a matter of ongoing assessment in 2009. The new group structure proposal was explained to the directors at the Mainzeal board meeting on 30 July 2009. There does not appear to have been any discussion of the proposed capitalisation at this time.
[75] In summary, following the 2008 delisting of Richina Pacific and the restructuring completed by the end of 2009, including the separation out of the Chinese and New Zealand divisions, Mainzeal remained balance sheet insolvent. It had very significant loans to entities that were now part of the New Zealand division. These loans were not backed up in a legally enforceable way by Richina Pacific, which was now in a more separate Chinese division. The initially promised redeemable preference share capital was not provided. The shareholder letter of support and guarantee formerly provided by Richina Pacific was no longer provided by that entity. Such letters of support were now only provided by holding companies in the New Zealand division.
[76] Given these factors, it would be fair to say that from the end of 2009 Mainzeal was in a vulnerable position, and that it depended for its solvency on informal expressions of support. Notwithstanding these significant changes, Dame Jenny gave evidence that she remained confident. This was because of the verbal expressions of support that had been given, particularly by Mr Yan. She said:
94 Richard Yan and John Walker made clear to the Mainzeal directors that the restructure did not change the group’s support of Mainzeal. At no stage was there any conversation, or any indication, that group support was no longer available. I pressed John and Richard on this point extensively at various times and they confirmed to me that until such time as the NZ limited partnership and the future New Zealand group had sufficient assets in a balance sheet of its own (including the proposal for a proposed new arm of the group, holding a banking licence in New Zealand, which went on to be called Richina Finance), the directors could completely and utterly rely on the support of the group. …
2010: Issues of concern raised
[77] The Mainzeal board met in both January and February 2010. The minutes for the 16 February meeting record that the issues arising from the restructuring were raised. After addressing the issue of whether Richina Pacific would continue to provide the bonding support, the minutes record the following question:
Who’s overall duty is it to make sure that the NZ division is operating while solvent going forward, Directors of Richina Holdings (BVI) Ltd? JS/CT to seek a briefing from RY on what are the financial obligations, reporting or otherwise of
the NZ division and Mainzeal.
JS/CT/RY
[78] The initials to the right indicate that the issue was to be followed up by Dame Jenny, Mr Tilby, and Mr Yan. Following the meeting, Dame Jenny duly began following up these issues. In an email dated 19 February 2010 to Messrs Yan and Walker concerning the New Zealand separation, she requested a formal response to the issues so that “we can all be clear about our roles and responsibilities”. This included her saying:
Mainzeal Directors wish to clarify who’s overall duty is it to make sure that the NZ division is operating while solvent going forward on who are the Directors who carry this obligation? Both Clive and I feel we need a full understanding of this in terms of meeting our legal obligations.
[79] That email also referred to the need to confirm which accounts would be presented to customers to confirm financial strength and that there was a need for a full understanding between the boards of Richina Pacific and Mainzeal “so that all directors are aware of their obligations”.
[80] Mr Walker responded by a short email the following day saying that these issues would be fully addressed, and that they were top of his agenda. No substantive
response was provided at this time, however. Messrs Walker and Yan gave evidence that they became distracted in 2010 by the possibility that Richina Pacific could be able to acquire the Asian assets of AIG, the international insurance company. I accept that they devoted their attention to this idea at the time. I also accept Mr Yan’s evidence that had Richina Pacific so acquired the Asian assets of AIG, some of the problems associated with removing funds from China may have been lessened. Nevertheless, such distractions do not really explain why it took so long for Mr Walker and Mr Yan to respond to Dame Jenny’s substantial concerns.
[81] After no further response was received, Dame Jenny emailed Mr Walker again on 27 February 2010 saying that she appreciated that some of the issues were very important “and do need our attention as I am personally not comfortable with things as they are”. When she gave evidence, she explained why she raised these matters, including:
103 … I wanted to be very clear as to whose overall responsibility it was to support the New Zealand division of the wider Richina group so that the board could be confident that Mainzeal could meet the solvency test. Both Clive and I, as the independent directors of Mainzeal, wanted to be extremely clear about our obligations. Of course, we knew we had responsibility as directors of Mainzeal, but I wanted it recorded that, despite the restructure, the New Zealand division still had the benefit of the China assets.
[82] There again does not appear to have been any formal response to the further email. The minutes of the board meeting on 24 May 2010 record that Dame Jenny would follow up with Mr Walker again.
[83] The accounts for Mainzeal for the financial year ending 31 December 2009 also came to be addressed in May 2010. They recorded an operating profit of a modest
$853,560 when the interest on the intercompany loans is excluded. As Dame Jenny frankly acknowledged, the intercompany receivables from RGREL and MLG “exceeded the total equity, so clearly underpinned Mainzeal’s balance sheet solvency”. She said in her evidence, however:
136 From our perspective, the receivables effectively sat with [Richina Pacific], backed by the China assets and companies. We knew that [Richina Pacific] had the ability to support Mainzeal, including by repaying those debts if required. We also had confidence that Mainzeal could perform in the market and we did not anticipate this call would be required. Beyond the receivables
themselves, [Richina Pacific] was continuing to support Mainzeal through providing security for bonds to be issued and providing cash when required.
137 On that basis, the board agreed that Mainzeal could continue to meet its obligations for the next 12 months.
[84] Her email inquiries nevertheless still remained unanswered. Dame Jenny referred in her evidence to the next response to them, being from Mr Yan. This was not until 14 June 2010 by way of an email to the other Mainzeal directors, which included an observation that “Richina will maintain substantial NZD cash in NZ going forward but will maintain it separately from Mainzeal — which is needed are available to Mainzeal”. That comment did not appear to respond to the concerns in a meaningful way, and involved a degree of ambiguity.
[85] The issue was otherwise left on this basis. There is no reference to the issue in the minutes for the board meeting on 19 July 2010. On 12 August 2010, the directors received email advice that “Richina has requested an additional NZ$1.2 million advance to be paid tomorrow”. Dame Jenny again raised her concerns in response. In an email to Mr Yan and the other directors she stated:
I am very concern[ed] by this request and would prefer not to approve the additional amount requested until the matters outlined below are resolved.
The Mainzeal Board has asked on a number of occasions for the matter to be clarified as to the accountability and responsibility surrounding related party transfers of funds from Mainzeal to other entities in the Group. As you know, as Mainzeal Directors we are all responsible for the contracts we sign and our ongoing ability to meet our obligations to fund those contracts. As we have no formal arrangements in place to cover the guarantee of these requested transfers and despite the fact that we are recording these as part of our Mainzeal Board reports I know the Directors have real concerns around this issue. I have raised this with yourself and John Walker on a number of occasions and the matter is still not clear despite assurances that the issues would be dealt with.
While I note your desire to run a central treasury function for the NZ interests it is unreasonable to ask Mainzeal Directors to approve the associated related party transfers without the clear understanding if we are liable for these decisions and the associated obligation or of other persons or Directors are legally responsible. We are not informed as to the purpose of these transfers and would not need to be so if we had a clear indication from those responsible for the group that the request had been approved. We have asked that you and EY or other advisors make the appropriate arrangements and accountabilities clear to safe guard us all. I believe it is essential that at our Board meeting on the 26th of this month this matter is clarified in writing from John Walker and
yourself so that everyone can have confidence and be clear about our responsibilities.
[86] Mr Tilby added to this concern in an email of the same day. He raised the link between this issue “and of course Mainzeal security going forward”. He said: “We appear to be at an overly flexible situation right now and I am somewhat uncomfortable as an independent director …”.
[87] Mr Yan replied by email the same day. He said that a board paper was being prepared for the next board meeting. He also stated:
Mainzeal has always operated and continue to operate under a shareholder/parent guaranty and all the cash are shareholders’ cash. There is no issue of independent director liability as Mainzeal is a wholly owned subsidiary and NOT an independent company as such. Under the guaranty, the group has always been willing and so far able and will only be more able going forward to guaranty all its obligations.
As I have repeatedly explained in the past Richina does have issues of taking money out of China but it did large amounts last year when Mainzeal needed them so now Mainzeal [has] the cash and we have found a solution for taking cash out through King Façade, we are simply dealing with a time issue.
Again, there are no independence issues here as it is ultimately the shareholders who are on the hook for everything. Mainzeal is no in way compromised and Richina has always supported it to the full extent even during its more dire situations.
[88] Whilst Mr Yan’s email was plainly intended to convey that there should be no concern, a number of aspects of it were misleading. The suggestion that Mainzeal was not an independent company is plainly incorrect. The directors remained responsible for Mainzeal as an independent company incorporated under the Companies Act. More importantly it was incorrect to say that there was a guarantee which meant that “the shareholders” were “on the hook for everything”. Not only was this not true, but matters were structured in a way that meant that there was no such legal responsibility. The Mainzeal report to the Richina Pacific board for May 2009 recorded that following separation Mainzeal was to be independent, and that the only exception was the continued availability of bonding support. The guarantee mentioned in the first paragraph of the email, at least in written form, was now coming from Richina (NZ) LP, and not Richina Pacific itself. In any event, such letters of comfort were provided
for audit purposes and it is not suggested that they were legally binding.7 Equally, it is wrong to say that there were no independence issues as a consequence. As a response to the serious issues of concern, Mr Yan’s email was unsatisfactory.
[89] By email dated 26 August 2010, Mr Walker also responded. His email described the new wider group structure. It enclosed a proposed resolution of the Audit Committee of Richina Holdings Ltd, the general partner of Richina (NZ) LP, approving transactions between Mainzeal and the Richina Pacific entities during the course of a calendar year allowing the Richina Pacific entities to extract up to a total of USD 3 million. Mr Walker also indicated that Richina Pacific’s accounts could continue to be used to assist Mainzeal in obtaining work. The penultimate paragraph of his email then stated:8
Reporting Expectations of Richina Holdings’ Board
As a result of the corporate restructuring, reporting that the Mainzeal Board previously made to the [Richina Pacific] Board should now be directed to the Richina Holdings Board. Going forward, Wallace and I would like to receive the materials that are prepared for the Mainzeal Board meetings. At appropriate and convenient occasions, Wallace and I would like to have conversations with the two of you to learn first-hand your views regarding Mainzeal and its businesses and management. However, we believe that it is the role and responsibility of the Mainzeal Board to make going concern, solvency and similar determinations with respect to Mainzeal.
[90] This response, and the proposed resolution did not formalise any support to enable the directors of Mainzeal to be satisfied that the company remained solvent, and also it contemplated the group extracting more funds. That did not address the concerns raised by Dame Jenny and Mr Tilby, although it did confirm that it was the Mainzeal directors who were responsible for solvency and going concern determinations.
[91] The minutes of the Mainzeal board meeting on 26 August 2010 only recorded that Messrs Walker and Yan would work further on the paper recording the governance arrangements. Dame Jenny said in evidence, however, that from the perspective of Mainzeal’s board “the important part was that the board knew what funds were going out so that it was clear what funds needed to be returned when required”. It is true
7 See [37] above.
8 The reference to Wallace is to Mr Mathai-Davis, another Richina Pacific director.
that the reality was that before that time there had not been a clear record of the funds flows in and out of Mainzeal under the control of Richina Pacific. But the more central issue concerning solvency, responsibility for the liabilities being incurred, and responsibility for support was not addressed.
Expressions of support
[92] It also appears that the Richina Pacific board considered the nature of its support again in October 2010. On 5 October 2010, a series of resolutions and letters relating to the issue of support were prepared by Richina Pacific staff. Ms May Kwan of Richina Pacific sent draft resolutions of support by email to Messrs Walker and Yan. They included letters of support from CHC to RGREL and RGREL to Mainzeal. In effect, they would have formalised an expression of support from CHC — the entity that actually held the substantial assets in China — to Mainzeal. This expression of support would have accordingly been significant, even though such letters are said not to create legally binding obligations.
[93] On 6 October 2010, Richina Pacific had a board meeting where these matters were discussed. In the agenda, under the heading “Projected Sources of Capital”, was an entry for “Mainzeal cash position”. It is accordingly apparent that Richina Pacific continued to view Mainzeal as a potential source of funds at this time. The minutes also record discussion of the issues raised by Dame Jenny and Mr Tilby. The Richina Pacific board approved the financial support documents and resolutions from RGREL, and the board agreed that Mr Walker would provide them to Dame Jenny. Although it does not appear expressly from the minutes, it is also clear that a decision was made not to provide such formal expressions of support from Richina Pacific or CHC, as had been contemplated by the drafts that had been prepared. I address the evidence of Messrs Yan and Walker on that issue below. The fact that it was decided not to express such support from these entities is significant.
[94] The next Mainzeal board meeting, on 13 October 2010, returned to the issue. It does not appear that any documents containing expressions of support had been sent for the purpose of this meeting. The minutes recording the discussion stated:
ØGovernance (RY on teleconference)
- RY discussed his views on the governance issues and the fact that nothing has changed. … - Board agreed that the governance structure had to be formalised prior to Christmas in conjunction with Richina Global Real Estate. RP/RY/PG - RP to track down the original Mainzeal Board charter to review and update as necessary RP - Authority limits need to be circulated as a refresher.
[95] The note in the minutes recording Mr Yan’s view that “nothing has changed” echoes the view expressed in his earlier email.
[96] Following that meeting, on 24 October 2010, Dame Jenny emailed Messrs Yan and Walker with the Mainzeal board papers, and advised as to matters that “need attention”. The first was that the “Governance relationship needs to be addressed and finalised prior to Christmas (not reflected in the papers)”. In response, Mr Walker said this was being worked on, and he attached the proposed resolutions of RGREL and Mainzeal. No proposed Richina Pacific or CHC letter or resolution was provided. Moreover, the Mainzeal resolution stated:
That pursuant to the delisting of Richina Pacific Limited (“RPL”) the concept of independent directorship has become irrelevant in the context of [Richina Pacific] and the Company.
[97] But the question of independent directorship was relevant. As mentioned previously, the directors were still responsible. So this resolution effectively misrepresented the legal position as to the directors’ responsibilities. In addition, whilst the expressions of support were apparently not legally binding, and so have limited ultimate value in a legal sense, it is significant that no such resolutions or letters were being offered from either Richina Pacific or CHC.
[98] In their evidence before me, Mr Walker (and with less certainty, Mr Yan) said that all the resolutions with the supporting letters that had been prepared, including from CHC to RGREL, were passed and signed. Dame Jenny also gave evidence that this was her recollection, and they were very important documents for Mainzeal’s directors. I do not accept that these documents were signed, or that the resolutions
were passed. Such executed documents have not been produced. There is no record of them being passed or signed. Later emails make no reference to their existence. It does not appear that the draft documents were even sent to Mainzeal. The letters of support relied upon by the auditors for going concern purposes after this point came from Richina (NZ) LP. The evidence is clear that no such resolution or letter was ever actually passed or given by CHC.
[99] I also accept that there must have been a decision to limit the written expressions of support so that they only came from RGREL. This cannot be the consequence of an oversight. Drafts had been prepared, but they were not executed or provided. Notwithstanding the evidence of Messrs Yan and Walker, I accept the plaintiffs’ argument that a conscious decision was made by Richina Pacific against CHC providing such a written commitment.
[100] Dame Jenny suggested she had a degree of satisfaction at this stage, however. She said in evidence that she “believed, based on John’s and Richard’s undertakings, that RGREL also had the ability to look to the rest of the group for support as needed”. This can only be as a result of verbal assurances, or inferences taken from what had been said.
been claimed. There may have been no point in pursuing litigation against a company in liquidation when liability would be disputed, and quantum was unclear. If no claim would have been pursued, there would have been no loss to Mainzeal’s creditors.
[497] Whilst Mr Graham gave evidence that making a claim in the liquidation is relatively easy, and that the liquidators will simply follow a process for recognising that claim, the evidence of what happened in Mainzeal’s liquidation here demonstrates that there were many claimants with claims who did not make them in the liquidation. This demonstrates that the existence of a claim that could have been made does not demonstrate that such claims are actually made, or would have been made.
[498] In an attempt to deal with these difficulties, the plaintiffs relied on an analysis set out by Mr Apps in his evidence. Mr Apps looked at the claims that had actually been made in the liquidation in 2013 to provide guidance as to what claims would have been made in an earlier liquidation. His analysis suggested that claims were unlikely to be made in the liquidation unless there was a construction bond in existence. If there was a construction bond in existence, the contractual party would likely make a claim against that bond arising from Mainzeal’s failure to continue with the contract for the amount of the bond on issue. A claim was then made in Mainzeal’s liquidation, particularly by the bondsman exercising their rights of subrogation, but occasionally by contractual principles themselves for an amount more than the bond cover. This was demonstrated in the following table, which sets out the 26 contracts in existence at liquidation, divided into three categories relating to an assessment made by the defendants’ quantity surveyor expert, Mr Andrew Millard:
[499] The fourth column of this table — “Total” — shows the claims made in the 2013 liquidation. This table demonstrates that of the 26 projects on foot in 2013, claims were made in the liquidation for only 16 (as shown in the second and third parts of the table), of which 13 were covered by a bond. Only three of the 26 contracts resulted in claims when there was no bond. I accept that this demonstrates a correlation between claims made in the liquidation, and the existence of bond cover. It is only very approximate, but it does provide some basis to estimate what may have happened in an earlier liquidation.
[500] Using this as a starting point, Mr Apps made a calculation of what claims would have been made in the January 2011 liquidation, based on the contracts then in place, and the bond cover, as shown in the following table:
[501] Thus, on Mr Apps’s analysis, Mainzeal would have faced claims of $30.891 million compared with the $35.925 million claimed in the actual liquidation.
[502] The defendants were generally highly critical of this approach. Their primary argument was that the assessment should be made on actual liabilities of the company, which should not be influenced by whether a claim would actually be made in the liquidation or not. Their view was that the Court should ignore the question whether a claim would actually have been lodged. I do not accept this point. The object of the exercise is to work out the actual loss to creditors arising from continuing to trade the company after January 2011. In the actual liquidation, not all of those who might have made claims did so. In order to do an appropriate comparison with what would have occurred at the notional liquidation at a counterfactual date, this needs to be taken into account. Otherwise, the actual loss to creditors arising from continuing to trade is not ascertained. There is no point in conducting a purely hypothetical exercise on potential liabilities if it does not result in something that actually affects the position of creditors. The Court is trying to assess actual loss. It is necessary for an assessment of the position in the counterfactual to be conducted on the same basis as in the factual.
[503] I do accept, however, that this approach is only a very rough approximation of what the possible position in a counterfactual liquidation would have been. If there is better evidence of what that would have been, that better evidence should be preferred.
[504] The defendants’ quantity surveyor, Mr Millard, engaged in extensive analysis of what the liabilities in a 2011 liquidation would have been. In response, the plaintiffs called their own quantity surveyor, Mr Thomas Jones who did an alternative exercise. Their assessments produced very different figures. Their attempt at a conferral stands in contrast with the accounting experts, as they were unable to agree on anything. It is accordingly necessary to assess the analysis that each of them undertook to see if it provides a better guide than Mr Apps’s analysis.
Mr Millard’s approach
[505] Mr Millard engaged in a very elaborate exercise directed at identifying what the claims against Mainzeal would have been had it gone into liquidation in January or June 2011.
[506] He began by assessing how much it would have cost Mainzeal’s clients to complete the contracts on foot in 2011 by using figures from Mainzeal’s accounting system to identify the work done to date. He used the costs-to-date entries from the system to identify the further costs needed to complete. To that assessment, he added a series of uplifts that he said arose from a need to change arrangements for completion. These included an additional number of days to re-establish new contractual arrangements (with resulting costs for matters such as insurance, protection and maintenance, and a claim for liquidated damages as a result) and then a series of percentage uplifts — an additional percentage increase for a construction management fee, a percentage uplift in the margin that a new contractor would change, and additional percentages for a project manager, and to re-establish initial costs called “preliminaries” and “general costs”. The uplifts depended on the stage the contract was at, as revealed by the management accounts. For example, on one of the contracts (Fisher & Paykel Healthcare Building 3), the contract had only just commenced, with a total prospective revenue of $74.8 million. Mr Millard assessed that the cost to
complete the contract was $68.3 million, with the additional costs that would arise from change adding a further $6.86 million.
[507]Mr Millard then went through an elaborate approach where:
(a)the uplifted costs he had assessed were added to the costs he assessed were required to complete,
(b)the revenue already received by Mainzeal was added,
(c)an adjustment was made for the margin, and then
(d)a comparison was made between that cost and the total cost that would have been charged had Mainzeal completed the contract itself.
He did that for each of the contracts in place in January and July 2011 (with the exception of some contracts). That included 34 contracts at January 2011, and 22 contracts at July 2011. In his initial brief of evidence, that led him to conclude that Mainzeal would have faced claims of $86.8 million in relation to these contracts as at January 2011, and $63.6 million as at July 2011. These are very significant sums.
[508] Mr Millard then provided evidence by way of reply after the expert accountants had conferred. He accepted in his reply brief that there was a flaw in his analysis, identified by the accountants, arising from his use of the costs-to-date figures from the Mainzeal accounts. These figures did not take into account “principal retentions, debtors and accruals” — in effect, sums recognising that other work had actually already been done by Mainzeal, which affected his calculations. His revised claims against Mainzeal as at January 2011 were $56.8 million, and $31.9 million for July 2011. These are very different, but still very significant sums.108
[509] To provide a relevant comparison, Mr Millard also applied his methodology to the construction contracts that were on foot on the date of actual liquidation — January 2013. Adopting this methodology, he assessed in his original brief that the liabilities
108 The reproduced table above at [499] uses Mr Millard’s figures before this adjustment.
of Mainzeal at liquidation were $27 million, which was reduced to $20.3 million in his revised brief. These are still significant sums, but they are significantly lower sums than the assessment for January and July 2011. Hence the proposition that the earlier liquidation would have been a lot worse for Mainzeal’s creditors by the difference between the figures.
[510] There are, however a number of fundamental difficulties with Mr Millard’s approach.
[511] First, as Mr Millard himself accepted, he was only making an assessment of what he thought could have been claimed against Mainzeal. He made no assessment of how realistic it was that a potential claimant would have made such a claim in the liquidation. In answer to questions from me, he indicated that he could not offer any guidance on how I could use his figures to work out what might have been claimed in a liquidation. The evidence establishes that his calculations were not a guide at all. Mr Millard’s assessment of total claims that could have been made against Mainzeal as at January 2013 was $20.4 million. Mr Apps’s evidence demonstrated that Mr Millard’s assessments were inconsistent with what actually happened on the liquidation, reflected in the table produced above at [498]. For the first 10 projects, Mr Millard had assessed claims totalling $8.65 million where no such claims were made in the liquidation. For the last 10 projects, Mr Millard assessed there would be no liability, while claims were actually accepted in the liquidation amounting to $12.4 million. The total amount of claims made in the actual liquidation arising from the remaining contracts was $35.9 million — some $15.5 million more than what Mr Millard had assessed.
[512] A further point is that the assessments were made based purely on the information that appeared in Mainzeal’s accounting system. Whether the entries in that system are accurate can be questioned. Mr Jones said they were unreliable. I accept there is a real question about that. The fact that one adjustment to this information drastically altered Mr Millard’s figures in his reply brief demonstrates that much turns on the assumptions made in the entries in the accounting system.
[513] As a related point, Mr Millard altered his figures by taking into account “principal retentions, debtors and accruals”, but when doing so he added back in an entry from the Mainzeal accounting system for Work In Progress — WIP. This gave rise to a somewhat prolonged enquiry during the course of the trial as to what made up this WIP figure. It is relevant that the auditors, Ernst & Young, commented in April 2011 that Mainzeal’s accounts could be under or over-stating its position because of management assessment of the amount of work that was in train in the accounts, and that Mainzeal’s approach did not comply with accounting standards. In the end, I accept that no proper reliance should be placed on the WIP figure and I am not clear why Mr Millard complicated his calculations by using it. By itself, it renders Mr Millard’s approach unreliable.
[514] Each of the assumptions that Mr Millard made to make the upward adjustments for total costs-to-complete can also be criticised, or at least recognised as subject to legitimate debate. To attempt to engage in findings on those matters would largely be meaningless.
[515] There are so many assumptions and uncertainties arising from the analysis that I conclude that Mr Millard’s approach is simply not reliable enough to be used as a guide.
Mr Jones’s approach
[516] The approach of the plaintiffs’ quantity surveying expert, called in reply, had some similarities. One of the main differences was that Mr Jones used the revenue- to-date entries from Mainzeal’s accounts to ascertain what work Mainzeal had done rather than costs-to-date. This had the advantage that the figures were not affected by the “principal retentions, debtors and accruals” problem that confounded Mr Millard’s approach.
[517] Mr Jones assessed what work remained to be done on each construction project by identifying the revenue that Mainzeal had received on that project. The remaining contract price was the price to be paid under the new arrangements. He deducted Mainzeal’s margin from the remaining sum, added back in a new margin that would need to be charged to the new construction partner, and then also added other
miscellaneous items to reach a revised contractual price. He then compared that to the amount that would have been paid to Mainzeal had the contract continued, and then identified that as the potential claim by the party with whom Mainzeal held the contract. His numbers were very different from those assessed by Mr Millard.
[518] When assessing what additional costs would be involved, Mr Jones focused on the standard form contract that was usually in use between the parties (NZS 3910:2003). He emphasised that this contract specifically contemplated the potential insolvency of the contracting party (that is Mainzeal) and provided contractual machinery for that eventuality in clauses 14.2.1–14.2.5. In his view, the party with whom Mainzeal had contracted would exercise what he described as “step in” rights under the contract — namely that this party would itself assume control of the construction project under that contract. It would obtain the assistance of a new construction company to manage the remainder of the construction project, with the existing sub-contractors being continued under the existing contractual arrangements that each had had with Mainzeal.
[519] I accept that there are also significant weaknesses evident in this approach. First, it cannot be assumed that the contractual parties would have acted in the way Mr Jones suggested — that is by exercising “step in” rights. When some of the correspondence that was sent by such parties following Mainzeal’s actual liquidation is considered, it can be seen that only one or two exercised such “step in” rights. The correspondence demonstrates that the parties took a range of stances. Most cancelled their contract. Mr Jones’s response was that his suggestion was nevertheless the most sensible step that could have been taken by those parties. But, without knowing more about the individual contracts, this cannot be safely assumed.
[520] The second uncertainty affecting Mr Jones’s approach is that he used the revenue figure from Mainzeal’s accounts to assess how much work had actually been done on the contract to date. He accepted in evidence that he had generally found the data from Mainzeal’s accounts unreliable — meaning that it did not necessarily assess how much work had been done on a contract, and how much work there was to be done. But he said that it was the only thing that he had to go on, so he used it. Given that concession, his figures are just as unreliable as Mr Millard’s figures.
[521] Furthermore, Mr Jones made no allowance for damages claims being made by the contractual principals, effectively on the basis that it was implicit from clause
14.2.5 of the contract that claims for liquidated damages were not permitted when Mainzeal was failing to comply with its contractual obligations because of insolvency. However, that assumption can be questioned. There was no explicit term excluding liability for damages arising from failure to complete arising from liquidation. Given the presumptions in New Zealand contract law on this question, it is arguable that a claim could be made nevertheless.109
[522] Finally, and perhaps most significantly, Mr Jones’s methodology would also seem unlikely to provide accurate guidance given the claims made in the 2013 liquidation. Whilst he did not undertake an exercise in relation to the 2013 contracts, Mr Jones’s figures were lower than Mr Millard’s figures. When Mr Millard had made an assessment for a limited number of contracts in 2013 where claims were in fact made, his figures ended up being lower than the claims that were actually made. This suggested that Mr Jones’s approach is equally as flawed as Mr Millard’s approach.
Conclusion on quantity surveying evidence
[523] The evidence from the two quantity surveyors was extremely complex. The Court was bombarded with spreadsheets, and revised spreadsheets, with complex analyses on what the claims would have been. But the analyses were all hypothetical, and based on many assumptions unsupported by any actual evidence. I find both of them inherently unreliable. Neither of them helps me with quantifying what the claims would have been for breaching the contracts on foot at January 2011.
What approach should be taken?
[524] In these circumstances, I am driven to carrying out what can be fairly be described as a robust analysis. In doing so, I seek to adopt an approach that appears reasonable, and which is fair to each side. In Re South Pacific Shipping Ltd (in liq), William Young J said:110
109See, for example, Dorchester Finance Ltd v Deloitte [2012] NZCA 226, [2012] NZCCLR 15 at [33].
110 Re South Pacific Shipping Ltd (in liq), above n 13, at [168].
[168] I wish to avoid the appearance of spurious precision. The figure which I have identified is at best an approximation only of the losses suffered. Given, however, that I am acting on the basis that the primary purpose of s 320 is compensatory or remedial, it does, however, set an appropriate upper limit for the judgment.
[525]I agree with this approach, which was effectively endorsed on appeal.
[526] It is necessary to go back to Mr Apps’s analysis, even though this can only provide a rough approximation. Apart from their general criticism, the defendants also criticised Mr Apps’s analysis on a number of other fronts. One of the telling criticisms was that Mr Apps’s analysis was unlikely to be correct as he had assessed a lower liability for the construction contract claims than in the actual liquidation, notwithstanding that Mainzeal had a larger book of work at the counterfactual date. There is real force in this criticism. I therefore take into account Mr Millard’s analysis, at least to the extent it shows that a larger book of work is likely to have led to more claims. In some respects, the plaintiffs realised this themselves, as in closing submissions they adjusted Mr Apps’s figures to increase the claims that would have been made in January 2011.
[527] There is one feature of Mr Apps’s analysis that is particularly relevant in this respect. Mr Apps singled out the claim made in the actual liquidation in relation to the MIT contract as an “outlier”. Here there was a bond liability of $3.25 million, but a claim of $14.8 million was made in the liquidation. In assessing the probabilities of principals making claims without a bond, or making claims in excess of the bond, he excluded the MIT claim. This allowed Mr Apps to advance the theory that the liabilities corresponded to the level of the bonds. I do not think it is reasonable to do this. What Mr Apps’s analysis shows is that principals and bondsman could, and did, make claims exceeding the bond cover. The only reasonable way of making a comparison is to allow for claims exceeding the bond cover on an equivalent basis in the counterfactual liquidation.
[528] In the actual liquidation, there were admitted bond claims of $18.484 million, and total construction contract claims of $35.925 million. No claims were made under the Richina Pacific bonds on issue (a further $10.54 million) or the BNZ bonds (a further $1.55 million). Bond claims admitted ($18.448 million) were close to that claimed ($19.414 million), and the amount claimed represented the total bond cover
excluding the Richina Pacific and BNZ bonds. It seems to me that the only reasonable way that this approach can be used as a proxy for the likely claims in the counterfactual liquidation is to use a ratio. The ultimate construction contract liability was approximately 1.85 times the bond cover (excluding Richina Pacific and BNZ). It appears reasonable to make the same assumptions in relation to the lack of claims by Richina Pacific and BNZ in 2011. As at January 2011, the assessed bond cover, excluding Richina Pacific and BNZ, was $32 million.111 Applying the same approximate ratio indicates that overall construction contract claims of $59.2 million would have been involved in a 2011 liquidation. This is obviously only a very rough approximation of the likely construction contract claims. But it is supported by the point that the larger book of work in 2011 would likely have led to greater liabilities, as emphasised by Mr Millard. It provides a rational and reasonable, albeit imperfect, basis for assessment.
[529] This figure is $28.309 million higher than Mr Apps’ assessment of $30.891 million for January 2011. Applying this figure, I deduct that amount from the interim total of $19.645 million above. This reduces the plaintiffs’ claim to a figure of negative
$8.664 million.
Further adjustments
[530] Potential further adjustments to the assessment undertaken by the accounting experts were raised during the trial.
[531] First, in closing submissions, the plaintiffs accepted the defendants’ point that Mr Apps had made inappropriate calculations in relation to two claims by principals (Siemens and Fisher & Paykel). They said that this resulted in a reduction of the loss by $3.341 million at January 2011 (and an increase of $535,000 at July 2011). As I understand it, however, this would only require an adjustment if I had fully adopted Mr Apps’s figures. Given I have not done so, I do not understand an adjustment to my calculations to be required. If I am wrong about that, the issue can be corrected under the leave I am reserving, as explained below.
111There were no BNZ bonds on issue at that time, and the value of the Richina Pacific bonds on issue was much lower at $3.9 million.
[532] Three further issues emerged late in the trial. When Mr Graham came to give evidence as the last witness, he sought to make an adjustment to a further issue he had analysed. The experts had not conferred upon it. Two additional issues were also raised by the plaintiffs during his cross-examination. I directed that the experts confer again on these three new issues following Mr Graham’s cross-examination. The defendants objected to that given the prospect of raising new evidential material late in the trial, but it seemed to me to be the fair way forward. Both sides were seeking to make adjustments. The conferral did not take place, however, because counsel advised Mr Graham not to confer in a way that would involve any new evidential matters. That was unfortunate. I am accordingly required to address the final three matters without the assistance of the further joint conferral.
[533] The defendants also argued in closing submissions that the two issues raised by the plaintiffs should not be considered at all because they were not pleaded. I do not accept that for two related reasons. First, there was the opportunity I gave for the issues to be further considered by expert conferral. If there had been any real issue concerning new evidence, this could have been identified by that process. Second, these issues involved matters that Mr Apps had put forward for the July 2011 counterfactual in a detailed way, and were available for challenge accordingly. In those circumstances, the issue has been adequately raised in evidence during the trial in ways that allowed challenge. I see no procedural impediment to assessing the correct answer on any of these three new issues.
[534] The adjustment Mr Graham sought to make arose because he had not appreciated that Mr Millard had excluded bonds and legacy claims in his analysis. On this basis, the $2.471 million bond issued in relation to the Quay Park Arena project should be included as a claim existing in January 2011. In closing submissions, the plaintiffs accepted that, if I adopted Mr Millard’s approach and rejected Mr Apps’s approach, an adjustment was required, but said it should not be made if I agreed to Mr Apps’s approach. Having agreed to Mr Apps’s approach, at least at a conceptual level, I also agree that such an adjustment should not be made. As indicated, I do not accept that Mr Millard’s analysis is reliable, and it is necessary to follow Mr Apps’s methodology. This adjustment is not relevant to Mr Apps’s approach. Accordingly, I make no adjustment for this matter.
[535] Secondly, the plaintiffs sought an adjustment arising from the fact that Mr Apps had allowed for a $3.5 million recovery from Mainzeal’s litigation against Holmes relating to the Quay Park Arena project, which was settled in July 2011, but he had not allowed an equivalent recovery for January 2011. It would appear that he did not do so to give the defendants the benefit of the doubt. Having considered the matter, it seems to me that such an allowance for recovery under this claim should be included. A claim against Holmes could have been pursued by a liquidator following a January 2011 liquidation just as much as it was by Mainzeal itself in July 2011. Accordingly, I allow the increase of $3.5 million.
[536] Finally, the plaintiffs referred to third party contributions in relation to Mainzeal’s settlement of the Hobson Gardens claim. The relevant assessment arises from the cost of the remedial work on this project of $13.370 million. Mainzeal received contributions from others who had contributed to the liability — $1.875 million from Auckland City Council, $2.6 million from Archimedia and $175,000 from the Carson Group. Again, Mr Apps had allowed for those third-party recoveries at July 2011, but not at January 2011. Those contributions amount to $4.65 million. I agree that those contributions should be allowed at January 2011 as well as at July 2011. There is no reason why they would only have been achieved at July 2011. This decreased Mainzeal’s liability, and thereby increases the claims by $4.65 million.
[537]The net effect of these additional changes increases the plaintiffs claim by
$8.15 million to negative $514,000.
Conclusion
[538] The ultimate conclusion is that the creditors were better off than they would have been had there been an earlier liquidation. There would accordingly have been no loss arising from the breach on this approach.
[539] Given that the overall loss to creditors on insolvency was approximately $110 million, the above figure represents less than one percent of the loss. It could be seen as being within a margin for error. This outcome is not surprising. Mainzeal made significant trading losses in the next two years of trade from 2011, but Richina Pacific invested $11.6 million into Mainzeal prior to its collapse, and the Richina Pacific
construction bonds were much higher at the liquidation than they were in the counterfactual. Moreover the book of work was much larger at the counterfactual dates. These factors largely cancel one another out.
LEAVE RESERVED
[540] In undertaking the assessments based on the plaintiffs’ approach above, and also in making the assessment of the amount to which the plaintiffs are entitled to by way of judgment, I have engaged in a number of calculations based on the evidence received. I am conscious that it is possible that I have engaged in arithmetical mistakes, omissions or other errors of this kind.
[541] For example, an issue may arise from my finding that the second plaintiff should recover from the eighth defendant under the ninth cause of action. I am unclear whether that might affect the potential recovery of the first plaintiff against the first to fourth defendants for breach of s 135. It is possible that it might, as the claim in Mainzeal’s insolvency from unpaid employees may arise from unpaid employees of the second plaintiff, with a related claim by the second plaintiff in Mainzeal’s liquidation. If so the recovery may affect that claim, and accordingly reduce the losses by Mainzeal’s creditors. I am unsure about this. This is an illustration of potential calculation issues.
[542] During the hearing I indicated that, due to the complexity potentially involved with quantum, it might be necessary to release an interim judgment, albeit that that would be undesirable. I have made an effort to avoid such an interim judgment by engaging in the calculations in this judgment. But given the possibility for arithmetical mistakes, omissions or other errors of that kind, it is appropriate that I should reserve leave to all parties to apply, by the filing of memoranda, to correct any such possible mistakes in relation to quantum.
[543] There is a further issue that warrants leave being reserved. As indicated Richina Pacific has become liable for approximately $19 million on the guarantee of construction bonds, and there were $10.54 million worth of bonds outstanding from Richina Pacific itself on the insolvency. No claim has been made by Richina Pacific in relation to these amounts. Unlike Richina Pacific advances dealt with in paragraphs
[476]–[482] above, there have not been irrevocable deed polls abandoning any claims under these bonds. I, therefore, understand it would still be open for Richina Pacific to make claims in the liquidation in relation to these liabilities. Were this to take place there would be an increase to creditor losses. Accordingly, it is appropriate to reserve leave to the liquidators to apply in the event that any claim is made by Richina Pacific.
CONCLUSION
[544] Companies can be viewed as aggregations of capital created to take business risks. That concept is referred to in the long title to the Companies Act. The designers of the Companies Act decided against continuing with the minimum capital requirements that had been set out in the former Act, but decided to address the need for capitalisation in other ways. The concept of balance sheet solvency was included as part of the solvency test set by the Act, and a duty was placed upon directors not to trade in a manner that caused a substantial risk of serious loss to the company’s creditors. Such a risk can arise if a company trades whilst balance sheet insolvent. A policy of insolvent trading may be particularly problematic. Such conduct can give rise to a breach of directors’ duties under s 135 of the Act.
[545] Richina Pacific required Mainzeal to follow an insolvent trading policy using its authority as a holding company. It extracted amounts from Mainzeal by way of loan through vehicles that did not themselves have the ability to repay. This money was used by the Richina Pacific group for its considerable advantage — it was used to acquire assets in China that are now extremely valuable. By the end of 2009, the amount so borrowed, including interest, was over $42 million. Excluding the value of these loans from Mainzeal’s balance sheet meant that Mainzeal was insolvent, and was continuously so from 2005 through to its failure in 2013. The effective balance sheet deficit was very significant throughout that period.
[546] When a company is part of a wider group, a decision by the directors to continue to trade in these circumstances is not necessarily a breach of the duties set out in s 135. If the company can be assured of group support providing equivalent security to a strong balance sheet, it is unlikely a breach will arise — there will not be a substantial risk of serious loss arising from the insolvency. That was not the situation
here, however, particularly after the Richina Pacific group restructuring in 2008/2009. After the restructuring Mainzeal was no longer directly owned by Richina Pacific, the Chinese and New Zealand divisions were separated, and Mainzeal was instructed to operate more independently. From this point, there was no assured group support — the verbal assurances provided were not legally binding, they were not recorded in writing, they were expressed in conditional form, and were also subject to the stringent limitations of Chinese law which restricted funds being repatriated from China.
[547] A company of this size would not normally be able to trade without capital. Mainzeal was only able to do so because it used money owing to sub-contractors as its working capital. The directors continued to trade Mainzeal in this state, in reliance on Mr Yan’s assurances that support would be provided when needed. But the assurances were not reliable. There had always been different views amongst Richina Pacific’s shareholders in terms of their enthusiasm for the investment in Mainzeal. Their focus was on investment in China. Even the original acquisition of Mainzeal occurred in order to acquire a subsidiary of Mainzeal that could be used for Richina Pacific’s Chinese ventures. Mr Yan sought to manage the different interests, and also sought at the same time to assure the Mainzeal directors that they did not need to be concerned about Mainzeal’s effective insolvency. But Mainzeal proved not to be a profitable company, and it was also vulnerable to large one-off losses. In 2012, it suffered further one-off losses to the point that Richina Pacific was no longer fully willing or able to support it, leading to its collapse. The consequence was a serious deficiency on liquidation of over $110 million, with significant debts to sub- contractors, construction contract claimants, employees and other general creditors.
[548] In these circumstances, Mr Yan and the other directors are liable for breach of their duties under s 135. They caused or allowed Mainzeal to undertake business in a manner giving rise to a substantial risk of serious loss to the creditors, being the very loss that eventuated. In the exercise of the Court’s powers under s 301, I have determined that the amount that the directors should contribute to the deficiency in liquidation is $36 million, approximately one-third of the total loss arising from the deficiency. I have further determined that Mr Yan should have the principal liability for the full amount, and that each of Dame Jenny, Mr Gomm, and Mr Tilby should be liable for a maximum amount of $6 million each, jointly with Mr Yan. Mr Yan must
face the greater liability as he had an inherent conflict of interest, he induced the directors to breach their duties, and he has benefited considerably from the funds that were extracted from Mainzeal, and which caused it to be insolvent.
[549] I have largely dismissed the plaintiffs’ other claims, apart from a smaller claim by the second plaintiff against the eighth defendant, which I have upheld in the amount of $2,164,474.09.
[550]For those reasons, I make the following formal orders:
(a)The first to fourth defendants are liable to the first plaintiff on the basis, and in the amounts, specified at [461] above.
(b)The eighth defendant is liable to the second defendant in the amount of
$2,164,474.09.
(c)Leave is reserved to all parties to apply by the filing of memoranda as described at [540]–[542] above. Any such application should be made within 15 working days of the release of this judgment, with any memoranda in response filed within 10 working days of the filing and service of the first memoranda.
(d)Subject to considerations such as any offers made without prejudice except as to costs, the plaintiffs are entitled to costs. The plaintiffs are to quantify their claim and serve it on the defendants within 15 working days of release of this judgment, and the defendants are to respond to the plaintiffs within 10 working days. The plaintiffs may file memoranda seeking an award of costs if there is no agreement within 10 working days of receipt of the defendants’ memoranda, with the defendants responding within five working days.
(e)I will assess whether any hearing is required in relation to the reserved leave, or costs, on receipt of the memoranda referred to above.
(f)Leave is granted to the plaintiffs to apply in accordance with [543] above.
Cooke J
Solicitors:
MinterEllisonRuddWatts, Auckland for the Plaintiffs LeeSalmonLong, Auckland for the First Defendant
Chapman Tripp, Auckland for the Second to Fifth Defendants
Copy to:
Mark O’Brien QC Jack Hodder QC David Chisholm QC
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