Nobilo v Nobilo

[2014] NZHC 401

IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY

CIV2013-404-003925 [2014] NZHC 401

BETWEEN  JOHN SAMUEL NOBILO Applicant

ANDDEBORAH KATHLEEN NOBILO Respondent

Hearing:                   20 November 2013

Appearances:           G L Harrison for applicant

G M Cameron for respondent

Judgment:                7 March 2014

JUDGMENT OF ASSOCIATE JUDGE ABBOTT

This judgment was delivered by me 7 March 2014 at 4pm, pursuant to Rule 11.5 of the High Court Rules.

Registrar/Deputy Registrar

Date……………

Solicitors:

Langdon & Co, Takapuna, Auckland

Donnell & Associates, Auckland

Counsel:

G L Harrison, Auckland

G M Cameron, Auckland

NOBILO v NOBILO [2014] NZHC 401 [7 March 2014]

[1]      The parties are directors of a family company, Nobilo & Co Ltd (NCL). They are also husband and wife (now estranged).

[2]      The parties ran an accountancy practice through NCL.

[3]      At the end of their marital relationship, the respondent (Mrs Nobilo) set up a separate accountancy practice.  She wrote to those clients of NCL for whom she had been the principal point of contact, and informed them of the steps they needed to take if they wished her to continue to undertake their work.  Most, if not all, of those clients have since transferred their work to Mrs Nobilo’s new practice.

[4]      The applicant (Mr Nobilo) says the letters caused some 70 percent of NCL’s clients to transfer their work to Mrs Nobilo’s new practice.  He says that the letters breached Mrs Nobilo’s duties to NCL.  As NCL is deadlocked (the shareholding is held or controlled equally by the parties) he has applied for leave1 to bring an action in NCL’s name to recover losses that he contends NCL has suffered.

[5]      The respondent, Mrs Nobilo, opposes the granting of leave.  She denies any breach of duty to NCL, contending that it was common ground that NCL could not continue to function with both of them working in it, and that she and Mr Nobilo had come to an understanding that each would take the clients for whom they had been working or had been the primary point of contact.  She also says that Mr Nobilo’s concerns can be addressed as a relationship property issue in proceedings already before the Family Court.

[6]      For the reasons I will now give, I have come to the view that leave should not be granted (at least at this time).

Background

[7]      Mr  and  Mrs  Nobilo  were  married  for  approximately  24  years.    They separated on 18 September 2012.

1      Under s 165, Companies Act 1993.

[8]      The parties are chartered accountants by profession.  Both originally worked for chartered accountancy practices.  Mrs Nobilo left and started her own practice. After she had built a successful practice, Mr Nobilo joined her in partnership, and later they incorporated NCL to operate the practice.   It seems that Mrs Nobilo managed the work of the majority of NCL’s clients.

[9]      The parties have both been a director of NCL at all times.  They hold one share each. The remaining 98 shares are held by them (and their solicitor) as trustees of the J S & D K Nobilo Family Trust.  They are also the settlers of that trust and they and their two independent children are the trust’s beneficiaries.

[10]     The parties separated on 18 September 2012.  The marital relationship had been poor for some time before that.  This had caused difficulties for their working relationship:

(a)      In possible anticipation of a breakdown of the marriage, and a wish to establish himself independently, Mr Nobilo incorporated a new company, National Accountants Ltd in March 2011, but did nothing with it while the parties made an effort to save their marriage, ultimately unsuccessfully.

(b)Towards the end of the marriage, the parties had discussions about a possible splitting of the client base of the practice (there is disagreement as to the reasons for this, but it is possible that it was not just in anticipation of a breakdown of their relationship).  However, nothing was agreed before the parties separated and for a short while after  separation  they  attempted  to  continue  running  the  practice jointly.

(c)      Following separation, the parties had unsuccessful discussions about means of separating the business.  They agreed that each would take the clients for whom they had been working, or were the primary point of contact, but they were unable to agree on how profits were to be shared (it appears that up to the point of separation, profits were

shared equally but it is not clear whether this was done by way of drawings or dividends and distributions from the trust).   Mr Nobilo wanted that arrangement to continue after separation, up until the point that the separation of clients was completed, but Mrs Nobilo wanted  each  party  to  receive  the  profits  generated  from  their respective client base.

[11]    Mr Nobilo applied to the Family Court on 31 October 2012 for orders determining and dividing their property (including their interests in the accountancy business).  There is an on-going dispute about the value and division of the property, including  the  value  of  NCL.     The  Family  Court  proceedings  are  currently suspending, pending the outcome of this application.

[12]     On 2 November 2012, Mrs Nobilo set up a new company, Nesti & Associates Ltd.  She ceased to work at NCL’s premises and on around 16 November 2012 began writing to clients for whom she had been working to advise them of the change.  She also informed them that they would need to sign authorities to move the work to her if she was to continue working for them.  This has resulted in the majority of NCL’s clients transferring their work from NCL to Nesti.

[13]     It is common ground that three of NCL’s employees ceased working for it and took up employment with Nesti and that Mrs Nobilo has received no drawings from the company since she started her own business.

[14]     Mr Nobilo says that Mrs Nobilo’s sending of the correspondence to NCL’s clients and Nesti’s acceptance of instructions from them was in breach of her duties to NCL.  He wishes to bring a claim in NCL’s name against Mrs Nobilo to recover losses that he alleges NCL has suffered.

The critical issue

[15]     The central issue in this application is whether the Court should exercise its discretion under s 165 of the Companies Act 1993 to allow Mr Nobilo to bring the proposed action.  That issue essentially comes down to whether there is a reasonable prospect of the claim succeeding, whether Mr Nobilo’s contentions are capable of

being  addressed  in  the  Family  Court,  and,  if  so,  whether  it  is  better  for  the relationship property proceedings to run their course.

Principles for the application for leave

[16]     The claims that Mr Nobilo wishes to bring belong to the company.   The company is the party to bring them.  There will be circumstances, however, such as those in this case, where there is a deadlock between directors and shareholders so that the company cannot make the necessary decision to institute the proceedings. For that reason, s 165 of the Companies Act gives the Court discretion to grant leave to a shareholder or director of the company to bring proceedings in the name and on behalf of the company.  The provisions of that section of particular application in this case are:

165     Derivative actions

(1)       Subject  to  subsection (3) of  this  section,  the  Court  may,  on  the application of a shareholder or director of a company, grant leave to that shareholder or director to—

(a)       Bring proceedings in the name and on behalf of the company or any related company; or

...

(2)       Without  limiting  subsection  (1)  of  this  section,  in  determining whether to grant leave under that subsection, the Court shall have regard to—

(a)       The likelihood of the proceedings succeeding:

(b)       The costs of the proceedings in relation to the relief likely to be obtained:

(c)       Any action already taken by the company or related company to obtain relief:

(d)       The interests of the company or related company in the proceedings being commenced, continued, defended, or discontinued, as the case may be.

(3)       Leave  to  bring  proceedings  or  intervene  in  proceedings  may  be granted under subsection (1) of this section, only if the Court is satisfied that either—

(a)       The company or related company does not intend to bring, diligently continue or defend, or discontinue the proceedings, as the case may be; or

....

[17]     Although the Court is directed to have regard to the factors set out in s

165(2),  it  is  clear  from  the  opening  phrase  to  the  subsection  that  the  Court’s discretion is not limited to those factors.  The discretion to grant leave is also subject to the Court being satisfied as to matters set out in ss (3).  The relevant one for the present application is that the company does not intend to bring the proceedings itself.  This is clearly the case here, where NCL, by reason of deadlock, is unable to agree on the issue of proceedings.  Accordingly, the application must be determined by reference to the mandatory factors in s 165(2) and any other factors that the Court considers material.

[18]     The test that the Court applies in the exercise of its discretion is whether a prudent business person, acting in the conduct of his or her own affairs, would decide to bring the proceedings after taking into account the mandatory factors and any other material matters.   This test was stated by this Court in Vrij v Boyle2  as follows:

...the first requirement is that the Court have regard to “the likelihood of the proceedings succeeding.” I adopt in that regard the useful test suggested in a slightly different context in Smith & Ors v Croft & Ors. It is not for me to conduct an interim trial on the merits. The appropriate test is that which would be exercised by a prudent business person in the conduct of his or her own affairs when deciding whether to bring a claim. Such a decision requires one to consider such matters as the amount at stake, the apparent strength of the claim, likely costs and the prospect of executing any judgment.

[19]     Although in Vrij the Court applied the test only to the first of the mandatory factors  (the  likelihood  of  the  proceeding  succeeding)  subsequent  cases  have

confirmed that the test extends to all aspects of the discretion.3

2      Vrij v Boyle [1995] 3 NZLR 763, 765 (HC).

3      For example, Presley v Callplus Ltd (2008) NZCCLR 37; Bendall v Marshall (2005) 5 NZCLC

263,772; Re Mega-Merger Housing Ltd HC Auckland CIV-2004-404-364, 16 November 2004;

Frykberg  v  Heaven  (2002)  9  NZCLC  262,966;  Needham  v  EBT  Worldwide  Ltd  (2006)

3 NZCCLR 57 (HC) at [23]. Similar statements have been made in Martin v Martinborough Brewing Co Ltd (2007) 10 NZCLC 264,269 at [20] and in Peters v Birnie [2010] NZAR 494 at [28].

The opposing contentions

Mr Nobilo’s contentions

[20]     Counsel for Mr Nobilo submitted that NCL has a strong case for breach of both statutory4 and fiduciary5 duties based on Mrs Nobilo’s failure to act in a fair and balanced way when writing to its clients.   Counsel accepted that the clients were entitled   to   instruct   another   practice   (including   Nesti),   nevertheless   had   an expectation that its clients would continue to refer work to it and that Mrs Nobilo was entitled to write to them, but argued that the letters that Mrs Nobilo sent were in

breach of her duty as a director to act in good faith, because they lacked balance, and did not adequately make known to the clients that they had a choice (they presented the  clients  with  a  fait  accompli).    He  submitted  that  this  complaint  could  be expressed in terms of failure to declare a conflict of interest (Mrs Nobilo has not registered as a director), misuse of the company’s database of clients, lack of loyalty and failure to act in the best interests of the company.

[21]     Counsel further submitted that it was sufficient for the present application that there was an arguable case for an identifiable cause of action on the basis of the lack of balance in the letters written by Mrs Nobilo.  He also submitted that there was at least an arguable case that the company had suffered significant loss as a consequence of the breach (Mr Nobilo puts it at a minimum of $250,000, but potentially $400,000), and that it would be a matter for evidence in due course whether clients would have gone with Mrs Nobilo in any event.  He relied on the statements of the Court in Vrij to the effect that it was not for the Court on this application to determine whether the claim would succeed, but rather whether there was a basis for it to do so and the onus was on Mrs Nobilo to demonstrate why the Court should not exercise its discretion to grant leave.

[22]     Counsel  also  submitted  that  NCL’s  complaint  could  not  be  resolved satisfactorily in the Family Court proceedings because the Family Court did not have jurisdiction to make orders in respect of the 98 per cent of the shares held by the trust

and there is no other remedy available to NCL.  In making this submission counsel

4      Companies Act 1993, ss 131 and 145.

5      Manakau City Council v Lawson [2001] 1 NZLR 599; Benton v Priore [2003] 1 NZLR 564.

contended that ss 43 and 44C of the Property (Relationships) Act 1976, dealing with dispositions and transfers of relationship property to a trust, do not apply to the shares in question,

Mrs Nobilo’s contentions

[23]     Mrs Nobilo says that Mr Nobilo has not established a case for leave on the mandatory factors in s 165(2), let alone any other material matters.   She contends that there is no breach of duty on the facts, nor has Mr Nobilo shown that there is any realistic prospect of establishing a loss to justify NCL incurring the costs in pursuing the proposed proceeding.

[24]     Counsel  accepted  that  the  application  was  to  be  determined  under  the “prudent businessperson” test, but submitted that no prudent person would consider commencement of the claim having regard to the lack of merit in the proposed claim, the likely costs, and the uncertain but comparatively modest amount at stake.   He submitted that there is authority to support taking into account the existence of an

ulterior motive (to improve the personal outcome for himself).6

[25]     Counsel for Mrs Nobilo submitted that the allegations of breach of statutory or fiduciary duties need to be considered in the following context:

(a)      The history of the practice.  It is incontrovertible that Mrs Nobilo has always  had  the  stronger  association  with  NCL’s  client  base:  she started the practice,  and  then was  joined  by Mr Nobilo,  but  they essentially ran separate practices and the substantial majority of the client base was managed by her and saw her as their principal point of contact.

(b)The accepted inevitability of a separation of the practices.  Mr Nobilo took the first step to establish a separate practice (in March 2011), and Mrs  Nobilo  only  took  steps  to  do  so  after  separation,  when  the

working   relationship   became   intolerable.     The   inevitability   of

6      Torrice v Haglow HC Auckland, CIV 2004-404-1453, 14 May 2004.

separation was recognised by the parties in their negotiations post- separation, at which point they identified their own client bases. It is of note that those negotiations did not breakdown over the allocation of the client base but because they could not agree on how profits should be distributed.  It was reasonable to assume that clients would either follow the person with whom they had the stronger relationship, or elect to go elsewhere.  These points negated Mr Nobilo’s argument that Mrs Nobilo had breached an obligation of good faith to the NCL by failing to place greater emphasis on their entitlement to stay with NCL.  Counsel pointed to the absence of any evidence that any client who had transferred would have stayed with NCL had the client not been induced to transfer by the way that the letter was framed.

(c)       Mr Nobilo’s actions and conduct left Mrs Nobilo with no alternative

but to leave and establish her own practice.

[26]     Counsel also argued that there was no basis for contending that there was a lack of good faith in the fact that employees had moved from NCL to Nesti.   He again pointed to the lack of any evidence to show that three former NCL staff members now employed by Nesti were induced to leave NCL: the evidence is that they had resigned at a time when NCL’s practice was having problems and had then approached Mrs Nobilo for employment.

[27]     Counsel also submitted that Mr Nobilo had failed to make out an arguable case for any loss.  He submitted that it is difficult to ascertain what loss, if any, NCL suffered that was not inevitable given that it was impossible for the two of them to continue to operate the practice together, and that there was no reason to believe that the clients who transferred would have stayed with NCL.  Counsel pointed out Mr Nobilo’s case for loss was based on accounts that he had prepared but had not been approved and on a value for NCL’s shares based on those accounts.  He referred to Mrs Nobilo’s evidence that the accounts were wildly inaccurate and misleading and the estimated share value was unsubstantiated and grossly overestimated.   He emphasised that:

(a)      NCL has  minimal  tangible  assets,  and  no  goodwill  (the  goodwill figure in the accounts was only inserted as a balancing figure in the early days of the practice).

(b)      There is no property in clients.

(c)      Historically all profits were drawn down each year by salary to the partners and/or dividend.

[28]     Counsel argued that the cost of splitting matters between this Court and the Family Court would inevitably add to the expense, delay and complexity of the dispute, and should be avoided.7    He argued that it had to be preferable to allow matters to run their course in the relationship property proceeding (there were elements of relationship property involved in both the NCL and the trust, and ss 18B and 18C of the Property (Relationships) Act 1976 allowed the Family Court to take into account in a distribution of property any questions of contribution to, or compensation for dissipation of, relationship property.

[29]     In addition, counsel submitted that the Court could take into account that Mrs Nobilo  has  drawn  no  income  from  NCL since  her  departure,  but  has  assumed financial responsibility for employees and  expenses (for example premises) that would otherwise have been met by NCL.  He submitted that it was also relevant to consider the position of the trust, given that it effectively owns the majority of the assets of the parties, and argued that it was inevitable that there would either be a voluntary resolution of all issues in relation to the trust or that s 182 of the Family Proceedings Act would be invoked as soon as the parties were eligible to apply for a dissolution.  He submitted that it was relevant that 98 per cent of any recovery (after costs) would flow to the trust (of which the parties and their children are beneficiaries), and the matters that are concerning Mr Nobilo (purportedly on behalf of NCL) can properly be addressed in the context of a s 182 proceeding (subject to the outcome of the existing relationship property proceeding).   He submitted that these  were  all  factors  to  be  taken  into  account  in  considering  how  a  “prudent

business person” would act.

7      Yoman v Public Trust [2011] NZFLR 753 at [78].

[30]     In  all  these  circumstances  counsel  for  Mrs  Nobilo  submitted  that  the proposed proceeding was vexatious, it was not prudent for NCL to bring it, and leave should be refused.

Discussion

[31]     Mr Nobilo has to persuade me that a prudent businessperson, weighing the mandatory factors identified in s 165(2), and any other material factors in the circumstances of this case, would decide to commence his proposed proceeding.  I will address the various factors in turn.

[32]     Counsel for Mr Nobilo acknowledged, appropriately, that in general Mrs Nobilo was entitled to write to NCL’s client to inform them that she was setting up a separate practice, he accepted that there was no property in the client’s per se. However, he submitted that given that she remained a director of NCL, she had to write in terms that met her duties of good faith and loyalty to NCL.  He argued that her letters were effectively an invitation to join her at the new firm, and her duties required her to go further and make it explicit that the clients could equally well remain with NCL.

[33]     I would accept that NCL would have a reasonable prospect of success on liability  if  there  was  a  likelihood  that  the  clients  she  approached  would  have remained with NCL had the letter been couched in those terms (I will come back to this shortly when I consider the question of loss).  I put it no higher than there being some prospect given that Mrs Nobilo did not write until she had ceased work in the practice and the parties negotiations had broken down, and although Mr Nobilo contends that her letters should be construed as giving rise to an invitation to leave NCL that is not necessarily how the clients will have read them. The letters are capable of a construction that Mrs Nobilo was informing them of the change of circumstances because they were potentially affected by it.

[34]     However,  when  assessing  the  prospect  of  a  successful  claim  I take  into account the context in which the letters were written.  I am satisfied that NCL was in danger of collapsing due to the tensions between Mr and Mrs Nobilo and that they recognised this fact (and had been contemplating an inevitable division of the client

base for a considerable time).  Although I accept that there is a dispute over relative inputs to the build up of NCL’s client base appears to be a common ground that each managed specific clients, with whom they had established a relationship. There is no evidence to suggest that Mrs Nobilo wrote to any client whose work she was not either managing or undertaking herself.  When weighing whether her conduct was a breach of her duty as a director, it must be relevant to take into account that the directors  of  the  company,  who  were  also  together  the  majority  shareholder  (as trustees of their family trust), saw the need for separation of NCL’s client base as an inevitable outcome to the breakdown of their relationship.  In that context there has to be a strong argument that Mrs Nobilo was merely trying to put into effect what the directors had been discussing as the best way of preserving whatever value there was in NCL.   In those circumstances what might otherwise have been seen to be a reasonably strong case for breach of duty becomes a marginal one at best.

[35]     As part of assessing the prospects of success I turn now to consider the likelihood of any loss.  There is a dispute between the parties over the alleged effect of any breach of duty that might be found.   Mrs Nobilo challenges Mr Nobilo’s contention that the losses would be substantial.   Mr Nobilo’s case assumes that a sizeable proportion of the clients who transferred would not have done so had Mrs Nobilo written as he contends she should have.  I regard this as “drawing a very long bow”, notwithstanding that I accept the submission of counsel for Mr Nobilo that it is ultimately a matter for trial as to how many people would have transferred their work had the letters been couched in terms more favourable to clients remaining with NCL.  However, I accept the submission for Mrs Nobilo that the reality is likely to be that the clients would have gone with the party with whom they had the stronger relationship.   Mr Nobilo himself recognised this likelihood, in the negotiations aimed at dividing the client base on that basis.  I also accept that any loss would have to take into account NCL’s reduced expenditure on staff, premises, and  on  other running expenses that  have passed to  Mrs  Nobilo’s  new practice. Taking all of these matters into account, I consider the losses that Mr Nobilo projects are excessively optimistic, and the likelihood is that any loss that would flow from a breach will be modest at best.

[36]     This brings me to a comparison between cost and likely recovery.  Counsel for Mr Nobilo submitted that the facts were relatively clear, although there could be need for some expert evidence.  I do not see the facts as necessarily as clear as he suggested.  There would be need to traverse the evidence from a number of clients to determine the likelihood of them remaining with NCL had the letter been couched in different terms.   When combined with the need for expert evidence, I can see the prospect of costs being at least $50,000 and perhaps more.   Given the uncertainty about the prospects of recovery, I see a marginal benefit to NCL in the proceeding, at most.  I do not accept that it would be of the degree that Mr Nobilo would have me accept.

[37]     The next consideration is the interest of NCL in bringing the proposed claim. Counsel for Mr Nobilo, argued that it was self-evident that it was in the interests of NCL to recover profits that it has lost as a consequence of the removal of the majority of its client base.  He submitted, correctly, that the interests of NCL were separate to the interests of Mrs Nobilo as a shareholder or even to the combined interests of both Mr and Mrs Nobilo.  Again, this factor needs to be assessed in the context that the business was in danger of imploding because of the dysfunctional relationship between Mr and Mrs Nobilo.  In those circumstances it is too simplistic to say that it was self-evident that the claim was in the interests of NCL.  Although the interests of Mr and Mrs Nobilo personally are not necessarily the interests of the company, or of the trust as the majority shareholder, in my view the interests are all aligned on the point that steps needed to be taken to preserve value in the company. In these circumstances, I consider this factor to be neutral on the question of leave.

[38]     Counsel for Mr Nobilo submitted that this case was “on all fours” with the decision of this Court in Stichbury v One for All Ltd,8  where leave was granted to bring a claim where following a marriage breakdown a wife unilaterally transferred the business of a family company to a separate entity controlled by herself.  I do not see this case as comparable to Stichbury.   In that case the family company was forced to cease trading by clear asset stripping by the wife.  The present case has a completely different context.  It was not possible for NCL to continue trading as it

was, and the directors were generally in agreement that the best way to preserve

8      Stichbury v One for All Ltd (2005) 9 NZCLC 263,792.

value was for the parties to operate separately with the client base that identified with them. I do not regard it as changing this general approach whether Mr Nobilo set up his own separate company as he initially started to do, or kept “his” client base within NCL.

[39]     I accept that technically Mrs Nobilo’s moving of “her” part of the client base to a separate company does not protect value for the trust as a majority shareholder. This being the case, there can be no objection to the trust’s value not being maintained.  However, there would be no value for the trust if NCL’s business did implode, and its interest can be protected in other ways.

[40]     This brings me to the last factor to address, namely whether the proposed proceeding is the only way in which NCL’s interest can be protected, and whether this can be done under the existing relationship property proceeding (or another possible proceeding under s 182 of the Family Proceedings Act 1980).

[41]     Whilst I recognise the separate legal status of the trust cannot necessarily be fully accommodated within the existing relationship property proceeding or in any further proceeding, there are potential avenues available to the parties in those contexts.  Again, it is a significant factor that these parties are currently unable to make decisions as trustees at this stage in any event, and I do not see that that position will be improved by the parties being forced further apart by the proposed claim.  I regard it as preferable that they endeavour to resolve their issues within the existing relationship property proceeding (one of the issues is whether there is any goodwill in the practice, including its database of clients and, if so, what that value is), in the knowledge that if there are matters that cannot be resolved there, there are other avenues (whether under s 182 of the Family Proceedings Act 1980 or perhaps on separate proceedings under the Trustee Act 1956) that can be pursued.  Towards that end, I am prepared to reserve to Mr Nobilo to reapply for leave if these other avenues do not resolve all issues for the parties, or if, after they have been explored it is clear that there are still significant issues that can only be addressed by a derivative action.

Decision

[42]     For the reasons I have given I do not consider that this is an appropriate case to exercise my discretion to grant leave to Mr Nobilo to bring his proposed action in the name of NCL. The application for leave is dismissed.

[43]     Although Mrs Nobilo has succeeded in her opposition, I take the view that an overall resolution of the unfortunate differences between these parties will not be assisted by a costs order.   However, as counsel did not address me explicitly on costs, I reserve costs, with leave for either party to bring that issue back before the Court by filing and service of a written memorandum.  Should that occur, the other party is to file and serve any memorandum in response within a further 10 working

days.

Associate Judge Abbott