R v Douglas
[2012] NZHC 1467
•19 July 2012
IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY
CRI 2010-004-022101 [2012] NZHC 1467
THE QUEEN
v
WAYNE LESLIE DOUGLAS NEAL MEDHURST NICHOLLS
Hearing: 23, 24, 26, 27, 30 April, 1, 2, 3, 4 May 2012
Counsel: N Williams, S Symon and M Thomas for the Crown
B Gray QC, R Sussock and G Tompkins for the Accused
Judgment: 19 July 2012
REASONS FOR VERDICTS OF WYLIE J
Distribution:
N Williams: [email protected] S Symon: [email protected] M Thomas: [email protected]
B D Gray QC: [email protected]
R Sussock: [email protected]
G Tompkins: [email protected]
R V DOUGLAS & ANOR HC AK CRI 2010-004-022101 [19 July 2012]
INDEX
Paragraph
Introduction .............................................................................................................. 1
Judge alone trial ....................................................................................................... 5
Relevant rules of law and practice ......................................................................... 10
Overall factual setting ............................................................................................ 17 a) Messrs Douglas and Nicholls — Capital + Merchant Finance Limited........ 18 b) The Business of Capital + Merchant Finance Limited — The Trust Deed .... 33 c) Loans made by Capital + Merchant Finance Limited ................................... 14 d) Mr Stokes — His Interests .............................................................................. 47 e) The Hub Properties ........................................................................................ 52 f) The Loan Advances ........................................................................................ 64 g) The Valuations ................................................................................................ 72 h) The Redevelopment ........................................................................................ 76 i) Increase in the Loan Advances — Guarantees Required — Deed of Trust
and Indemnity ................................................................................................. 78 j) The Prospectuses ............................................................................................ 90 k) Sale of Hub Properties to Capital + Merchant Finance Limited and
their subsequent on sale ................................................................................. 92
Count 1 ................................................................................................................. 102 a) Did the accused have control over property? .............................................. 106 b) Did the circumstances require each of the accused, Messrs Douglas
and Nicholls, to deal with the property in accordance with the
requirements of any other person?................................................................111 c) Did the accused know of those circumstances? ............................................118 d) Did Messrs Douglas and Nicholls intentionally deal with the property,
otherwise than in accordance with those requirements? ............................. 123
Count 2 ................................................................................................................. 188
a) Did the accused make or concur in making or publishing prospectus
number 4 for Capital + Merchant Finance Limited? .................................. 191
b)Did the prospectus contain a statement that was false in a material particular?.................................................................................................... 194
Count 3 ................................................................................................................. 239
Conclusion............................................................................................................ 243
Introduction
[1] Messrs Douglas and Nicholls were at all relevant times directors of Capital + Merchant Finance Limited. They have been charged with three counts under the Crimes Act 1961 arising out of the affairs and ultimate demise of that company. The details are as follows:
(a) Count 1 is laid pursuant to s 220 of the Act. It alleges what is known as theft in a special relationship. It charges that Messrs Douglas and Nicholls, between 1 April 2002 and 30 September 2004, had control over $14,444,064.52 of investor funds, in circumstances that they knew required them to deal with the funds in accordance with the requirements of Perpetual Trust Limited as trustee under a debenture trust deed dated 5 April 2002, and that they intentionally dealt with the funds otherwise than in accordance with those requirements.
(b)Count 2 is laid pursuant to s 242 of the Act. It alleges that false statements were made in a prospectus. It charges that Messrs Douglas and Nicholls, between 29 June 2003 and 10 September 2004, made or concurred in the making or publishing of a false statement in a Capital
+ Merchant Finance Limited prospectus dated 30 June 2003, with intent to induce persons to entrust or advance money to the company.
(c) Count 3 is also laid under s 242. It also alleges that false statements were made in a prospectus. It charges that Messrs Douglas and Nicholls, between 9 September 2004 and 22 September 2005, made or concurred in the making or publishing of a false statement in a Capital
+ Merchant Finance Limited prospectus dated 10 September 2004, with intent to induce persons to entrust or advance money to the company.
[2] Particulars are given of each charge. I deal more fully with the particulars shortly. For present purposes I note that they all refer to loans made by Capital + Merchant Finance Limited to entities associated with the purchase and development
of a property portfolio situated in Palmerston North known as The Hub. The borrower entities named in the indictment are Venice Investments Limited, Rhode Capital Limited, S.I.R Investments Limited, and At The Hub Limited.
[3] I have found both Messrs Douglas and Nicholls not guilty in relation to count 1, not guilty in relation to count 2, and not guilty in relation to count 3.
[4] These are my reasons for returning those verdicts.
Judge alone trial
[5] This matter proceeded as a Judge alone trial.
[6] In R v Connell,1 the Court of Appeal stated that a Judge hearing a criminal trial without a jury is required to deliver:
... a statement of the ingredients of each charge and any other particularly relevant rules of law or practice; a concise account of the facts; and a plain statement of the Judge's essential reasons for finding as he does. There should be enough to show that he has considered the main issues raised at the trial and to make clear in simple terms why he finds that the prosecution has proved or failed to prove the necessary ingredients beyond reasonable doubt. When the credibility of witnesses is involved and key evidence is definitely accepted or definitely rejected, it will almost always be advisable to say so explicitly.
[7] In R v Eide,2 the Court of Appeal confirmed this principle, but made the following additional observations in respect of fraud prosecutions:
[21] The problems with short-form judgments are particularly acute in fraud prosecutions. The parties (that is, the prosecutor and accused) are obviously entitled to know the key elements of the Judge’s reasoning. In a case of any complexity, this will not be possible unless the Judge provides an adequate survey of the facts. As well, in this context a Judge is addressing an audience which is wider than the prosecutor and accused. If the verdict is guilty, the Judge should explain clearly the features of the particular scheme which he or she finds to be dishonest. There is a legitimate public interest in having the details of such a scheme laid out in comprehensible form. Similar considerations apply if the verdict is not guilty. Further, some regard should be had to how the case will be addressed on appeal. A judgment
1 R v Connell [1985] 2 NZLR 233 (CA) at 237–238.
2 R v Eide (2004) 21 CRNZ 212 (CA) at [21].
which is so concise that some of the key facts in the case are required to be reconstructed by this Court on appeal is too concise.
[8] In the more recent case of Wenzel v R,3 the Court of Appeal again endorsed the Connell approach and affirmed the comments in Eide regarding fraud cases.
[9] As I have noted, the charges against Messrs Douglas and Nicholls are brought under the Crimes Act. None of the counts alleges fraud. Count 1 alleges theft and counts 2 and 3 allege, in effect, deceit. In my view, it is nevertheless appropriate to give relatively full reasons to explain the verdicts I have reached. The charges arise out of the collapse of a finance company. There has been and still is considerable public interest in such matters. I am addressing an audience that is wider than just the accused and the Crown as prosecutor. There is a legitimate public interest in me setting out my reasoning relatively fully. In doing so however, I record that this was a multi-faceted trial involving a large amount of material and a number of competing arguments. It is neither feasible nor necessary to detail in full the extensive evidence that was presented, nor counsels’ comprehensive opening and closing submissions. Rather, I propose to address some of the more significant rules of law and practice that I have taken into account as the sole Judge of the facts in this case. I will then set out my findings in relation to the overall factual setting, address the elements of the offences, and discuss the submissions made by counsel and the principal evidence that bears on those elements. I will set out my reasoning and conclusions in relation to each of the elements of the offences, and in relation to each accused.
Relevant rules of law and practice
[10] First, and notwithstanding the setting, I record that this was a criminal trial. It follows that the Crown must prove each essential ingredient or element of each count beyond reasonable doubt before I may bring in a verdict of guilty on that count.
[11] The starting point is the presumption of innocence. The onus is on the
Crown. It must prove that each of the accused, Mr Douglas and Mr Nicholls, is
3 Wenzel v R [2010] NZCA 501 at [39]–[40].
guilty beyond reasonable doubt. Proof beyond reasonable doubt is a very high standard of proof, which the Crown will have met only if I am sure that each of the accused is guilty. It is not enough for the Crown to persuade me that either Mr Douglas, or Mr Nicholls, is probably guilty, or even that either of them is very likely guilty. A reasonable doubt is an honest and reasonable uncertainty left in my mind about the guilt of each of the accused, after I have given careful and impartial
consideration to all of the evidence relevant to that accused.4
[12] Secondly, it should be noted that neither of the accused gave or called evidence at this trial. Neither had any obligation to do so. That Messrs Douglas and Nicholls did not give or call evidence does not add to the case against either of them. It is for the Crown to prove the guilt of each in relation to each of the counts alleged against him, and neither Mr Douglas, nor Mr Nicholls, had to prove his innocence.
[13] Thirdly, I record that the Crown called two experts, a Mr Graham Jordan, a partner in an Auckland law firm with experience in securities law and corporate and financing structures, and a Ms Denise Hodgkins, a partner in the New Zealand partnership of an international accounting firm, with expertise in financial reporting standards. The Crown also called evidence from a Mr Blair Bulloch. Mr Bulloch was a designated member of the Serious Fraud Office and much of his evidence related to matters of fact. He is a Chartered Accountant with significant investigative experience and some of his evidence can properly be considered to be expert evidence.
[14] Expert witness are, of course, permitted to give opinions on subjects within their area of expertise.5 In this case, they did so. I remind myself however, that this was a trial by Judge alone, and not a trial by experts. It was for me to determine how much weight or importance I should give to the opinions of the experts, or indeed,
whether I should accept their opinions in the context of all of the evidence I heard.
4 R v Wanhalla [2007] 2 NZLR 573 (CA) at [49]; Woolmington v Director of Public Prosecutions [1935] AC 462 (HL) at 481; R v Hansen [2007] NZSC 7, [2007] 3 NZLR 1 at [30]; R v Harbour [1995] 1 NZLR 440 (CA) at 448.
5 Evidence Act 2006, s 25.
[15] Finally, I record that this trial was held back to back with another trial — CRI 2011-004-012988 — involving Messrs Douglas and Nicholls and also a Mr Owen Tallentire. Counsel agreed, and I accepted, that the two trials should be held the one after the other and that the reasons for verdicts in each trial should be given only after both trials. There was, however, no agreement in relation to the evidence, and each trial was run separately from the other. I have been careful to ensure that in considering my verdicts in this trial, I have taken into account only the evidence that was given in this trial.
[16] This potted and truncated summary of relevant rules of law and practice is not, and is not meant to be, exhaustive.
Overall factual setting
[17] To understand the matters at issue in this trial, it is necessary to delve a little into various corporate and trust structures.
a) Messrs Douglas and Nicholls — Capital + Merchant Finance Limited
[18] Relevantly, the corporate chain involving Messrs Douglas and Nicholls starts with a company known as National Mortgage Nominee Company Limited. It was incorporated in August 1998. Mr Douglas was involved with the company from the outset and Mr Nicholls became a director in March 1999. By 2002, the directors of this company were Mr Nicholls, Mr Douglas and Mr Tallentire.
[19] National Mortgage Nominee Company was a contributory mortgage company. People invested money with it and it in turn pooled investors’ monies, and on lent those monies to borrowers.
[20] In late 2001/early 2002, Messrs Douglas and Nicholls decided to create a finance company to run alongside National Mortgage Nominee Company Limited. To this end, Capital + Merchant Finance Limited was incorporated on 18 January
2002. Messrs Douglas and Nicholls were the original directors of the company. In
September 2002, a Mr Kelly Wright was appointed as a non-executive director.
Other directors were subsequently appointed. Mr Douglas remained a director until February 2007, and Mr Nicholls was a director throughout, except for a short period between November 2005 and March 2006.
[21] As noted above, the charges in this trial cover the period April 2002 to September 2005. Both Messrs Douglas and Nicholls were directors of the company at all relevant times.
[22] The shares in both National Mortgage Nominee Company Limited and Capital + Merchant Finance Limited were owned by another company called Longbow Limited. It had been incorporated in October 1997. Its directors were Messrs Douglas and Nicholls.
[23] Until 1 July 2004, the owner of the shares in Longbow Limited was another company, Capital Merchant Group Limited. Capital Merchant Group Limited had been incorporated in November 2001. It changed its name to Capital + Merchant Group Limited in March 2004. The directors were Messrs Douglas and Nicholls, and until 30 June 2004, the owner of the shares in the company was yet another company called Investment Capital Trust Limited. On 1 July 2004, Capital + Merchant Group Limited sold its shareholding in Longbow Limited to Investment Capital Trust Limited. Following the change in ownership, Investment Capital Trust Limited owned the shares in Longbow Limited directly, as opposed to owning them through an intermediary company.
[24] Investment Capital Trust Limited had been incorporated in November 2001. Its directors were Messrs Douglas and Nicholls. They were also the joint shareholders in the company. Investment Capital Trust Limited was the corporate trustee of a trust known as the Investment Capital Trust. Investment Capital Trust Limited held the shares, initially in Capital + Merchant Group Limited and then in Longbow Limited, on trust for the beneficiaries of the Investment Capital Trust.
[25] The Investment Capital Trust was created under a trust deed dated 27 March
2002. The settlor was an Auckland solicitor. Under the trust deed, the original beneficiaries were the trustees of two other trusts, the Independence Trust and the
Boston Trust. The trust deed also gave the appointers of the trust the power to appoint other beneficiaries to the trust, and to appoint and remove any trustee. The appointers were Messrs Douglas and Nicholls. It follows that Messrs Douglas and Nicholls controlled the Investment Capital Trust through holding the power of appointment of both beneficiaries and trustees, as well as being the sole directors and shareholders of the corporate trustee, Investment Capital Trust Limited.
[26] The Independence Trust had been settled by Mr Douglas. He was a discretionary beneficiary of the trust. The Boston Trust was a trust associated with Mr Nicholls and similarly, he was a discretionary beneficiary of the trust.
[27] Through this chain of corporate entities and trusts, Messrs Douglas and Nicholls effectively owned and controlled Capital + Merchant Finance Limited. Any profit earned by Capital + Merchant Finance Limited could flow up the chain to Investment Capital Trust which could then distribute the profit to the beneficiaries of the Investment Capital Trust.
[28] There are three other entities associated with Messrs Douglas and Nicholls that are relevant to the transactions the subject of the charges. They are Hamana Holdings Limited, the Scholarly Investment Trust, and At The Hub Investments Limited.
[29] Hamana Holdings Limited was incorporated in July 2001. Its directors were Messrs Douglas and Nicholls. They were also the joint shareholders of the company. Hamana Holdings Limited was the corporate trustee of the Scholarly Investment Trust.
[30] The Scholarly Investment Trust was, it seems from the evidence, created under a trust deed dated 31 October 2002. The settlors were Messrs Douglas and Nicholls. The trust deed was not signed, but the trust must have been established, because it became a party to a deed of trust and indemnity which was signed probably in or about September 2003. According to the deed of trust for the Scholarly Investment Trust, it was intended that the trustee, Hamana Holdings Limited, would initially acquire properties located in Palmerston North for the
purpose of protecting the name and good will of, inter alia, National Mortgage Nominee Company Limited, and hold the properties for the purpose of earning rental income.
[31] The Scholarly Investment Trust was a discretionary trust. Hamana Holdings Limited, as trustee, could use the discretion vested in it to make a distribution to any of the beneficiaries who were listed in the deed of trust. The list of potential beneficiaries contained in the trust deed included Messrs Douglas and Nicholls.
[32] At The Hub Investments Limited was incorporated on 5 October 2004. Its original director was Mr Nicholls. Mr Douglas became a director on 3 November
2004. All of the shares in the company were owned by Capital + Merchant Finance Limited, and it was from the outset, a wholly owned subsidiary of Capital + Merchant Finance Limited.
b) The Business of Capital + Merchant Finance Limited — The Trust Deed
[33] According to the prospectuses the subject of two of the counts in this trial, Capital + Merchant Finance Limited offered a range of financial and investment services to persons and corporates. The range of financial services offered included term loans, revolving credit facilities and related fee-based facilities.
[34] In practice, the company was involved predominantly in property development loans and in financing construction projects. It undertook some business loans but this was not its core activity.
[35] The prospectuses also recorded that the company might, from time to time, invest in other entities or ventures that were engaged in the financial services sector, or that allowed the company to broaden the investment and/or financial services it was able to offer.
[36] In order to offer these financial and investment services, Capital + Merchant Finance Limited borrowed money from the public by offering debt securities in the form of either capital secured debenture stock or investment deposit stock. Capital
secured debenture stock was secured by a first ranking charge over the company’s undertaking. There was also mortgage indemnity and impairment insurance in place in respect of these funds. Investment deposit funds were also secured by a first ranking charge but they were not protected by any policy of insurance. The company had different lending criteria as between capital secured deposits and investment deposits.
[37] In order to comply with s 33 of the Securities Act 1978, Capital + Merchant Finance Limited issued a number of prospectuses and investment statements to raise funds from the public. Its fundraising was controlled by a debenture trust deed.
[38] The debenture trust deed was dated 5 April 2002. The trustee was Perpetual Trust Limited. The deed was signed by Messrs Douglas and Nicholls as directors of Capital + Merchant Finance Limited. It set out in considerable detail the company’s obligations with respect to investors’ deposits and it contained various restrictions on how Capital + Merchant Finance Limited, as the issuer of the public securities securing the borrowing, could deal with funds it received from the public.
[39] Relevantly for present purposes, it contained specific obligations in relation to what were called “Related Party Transactions”. Clause 6 2 of the trust deed provided as follows:
6 2The Company and each of the Charging Subsidiaries covenants with the Trustee that none of them will, without the prior written consent of the Trustee
(a) Restriction on Related Party Transactions
enter into any Related Party Transaction (as defined in clause 6 3) except in the ordinary course of business and where the terms thereof are evidenced in writing and the consideration therefore is on the basis of an arms length transaction as between two unrelated parties contracting in an open market.
[40] The words “Related Party Transaction” were defined in cl 6 3 of the trust deed. The definition read as follows:
6 3 Definitions
For the purposes of clause 6 2(a)
Related Party Transaction means any transaction of any nature between the Company or any Charging Subsidiary and a Related Party including, but not limited to
(a) the provision of financial accommodation by the Company or any
Charging Subsidiary to a Related Party,
(b) the investment by the Company or any Charging Subsidiary in the capital or equity of a Related Party,
(c) the transfer of assets between the Company or any Charging
Subsidiary and a Related Party,
(d) the provision of services by or to the Company or any Charging
Subsidiary to or by a Related Party, and
(e) the giving of a guarantee, indemnity or other commitment by the Company or any Charging Subsidiary to, at the request of, or for the benefit of, a Related Party,
but does not include
(f) the provision of financial accommodation by a Related Party to the Company or any Charging Subsidiary on arms length commercial terms, or any payment by the Company or any Charging Subsidiary to that Related Party of principal, interest or other moneys in respect of that financial accommodation in accordance with those terms,
(g) transactions with a Related Party in relation to investments of the Company or any Charging Subsidiary which are, or are to be, held by that Related Party as nominee or trustee for the Company or any Charging Subsidiary, or
(h) payment of reasonable remuneration and expenses to a Director for his or her services as a Director
[41] The words “Related Party” were defined as follows:
Related Party means any person, other than a Charging Subsidiary, who is
(a) a company, trust or other person of which any shares, units or other interests are beneficially owned by the Company,
(b) the Holding Company or any other person who has a relevant interest (as defined in Section 5 of the Securities Amendment Act
1988) in any shares in the Company, a Subsidiary or any Charging
Subsidiary,
(c) a Director or a director of any Subsidiary or Charging Subsidiary,
(d) a Family Member of any person defined in paragraph (b) or (c)
above,
(e) a company in which any of the following persons in aggregate own or hold more than 10% of the issued capital
(i) any person who has relevant interest in any shares of the
Company, any Subsidiary or any Charging Subsidiary,
(ii) any of the persons defined in paragraphs (c) and (d) above,
(f) a related company (as defined in Section 2(3) of the Companies Act)
of the Company or any Related Party, or
(g) any trust of which any director or shareholder of the Company, any Subsidiary or any Charging Subsidiary or any Family Member of any such director or shareholder is a trustee, settlor or beneficiary
[42] There were also various general covenants contained in the trust deed. Relevantly, cl 6 4 read as follows:
6 4 General Covenants
Each of the Company and the Charging Subsidiaries hereby covenants with the Trustee that it will —
…
(b) Carry on Business
carry on and conduct its business in an efficient, prudent and businesslike manner,
…
(g) Compliance with Laws, Etc
duly and promptly comply with all laws, directives and consents the non-compliance with which might give rise to a Charge or have a material adverse effect on the Company or may adversely and materially affect the rights or security of the Trustee or any Stockholder or Depositer under this Deed
[43] Pursuant to cl 7 1 of the trust deed, the directors of Capital + Merchant Finance Limited were required to furnish various accounts and reports to the Trustee. In particular, pursuant to cl 7 1(h), they were required to file quarterly directors’ certificates with Perpetual Trust Limited in a form that was set out in Schedule 5 to the trust deed. That schedule detailed all of the information that was to be included
in a directors’ certificate. One of the requirements was that all related party transactions, and the amounts of those transactions, had to be listed in the certificate.
c) Loans made by Capital + Merchant Finance Limited
[44] Persons seeking a loan from Capital + Merchant Finance Limited would normally make an application. They would outline how much they needed, what they wanted the money for, what security was proposed, and the “exit strategy” — that is, how they were going to repay any loan. If they had any valuations, these were also generally provided, and normally, Capital + Merchant Finance Limited would require a valuation. It would also normally require a statement of position from the prospective borrower.
[45] Capital + Merchant Finance Limited had a lending committee, which was responsible for approving or declining loan applications. The committee comprised Messrs Douglas and Nicholls, the company’s Chief Executive Officer, Mr Tallentire, and its Lending Manager, a Mr Scott Smith. On rare occasions, its Chief Financial Officer, a Mr Paul Smyth, was involved. Meetings of the lending committee were relatively informal and could be held at short notice. Occasionally members of the committee participated by telephone or email. If a loan was approved, members of the lending committee signed a brief internal document recording the approval and summarising the loan terms. The company would then formally process the loan documentation through solicitors.
[46] Capital + Merchant Finance Limited had approximately 20–35 loans on its books at any given time over the period January 2004 to November 2007.
d) Mr Stokes — His Interests
[47] As noted, a Mr Bruce Stokes had a significant involvement in the purchase and development of the property portfolio situated in Palmerston North known as The Hub. I consider his involvement further below. For present purposes, I note that he was associated with each of the four borrower companies referred to in the indictment.
[48] Before dealing with the borrower companies, I record that Mr Stokes was also the director and shareholder of a company known as Connect Group Limited. It had been incorporated in October 2001.
[49] In addition, Mr Stokes was the director and shareholder of a company called Eton Capital Limited. It had been incorporated on 13 December 2001, and Mr Stokes became its sole director on 6 September 2002.
[50] Further, on 9 September 2002, Mr Stokes settled a trust known as the Eton Capital Trust. Eton Capital Limited was the corporate trustee of this trust. The Child Cancer Foundation was named as both a specified and general beneficiary in the trust deed. The trust deed permitted the appointment of additional specified and general beneficiaries. The appointor could also remove both specified and general beneficiaries. Mr Stokes was the appointor named in the trust deed.
[51] Turning to the borrower companies, each was incorporated by Mr Stokes’ solicitor, a Mr Patrick Wilson. Mr Stokes and Mr Wilson were also close friends. Details of the borrower companies are as follows:
(a) Venice Investments Limited was incorporated on 17 September 2002.
From 30 September 2002, Mr Stokes became its sole director, and its shares were transferred to Eton Capital Limited.
(b) Rhode Capital Limited was also incorporated on 17 September 2002.
From 30 September 2002, Mr Stokes became its sole director. Mr Wilson owned the shares in Rhode Capital Limited until 16 May
2005. Thereafter, the shares were transferred to Eton Capital Limited.
(c) S.I.R Investments Limited was incorporated on 27 February 2003.
Mr Stokes was the original and sole director. The shares in the company were owned by Eton Capital Limited.
(d) At The Hub Limited was incorporated on 27 February 2003.
Mr Stokes was the original director of the company. The shares in the company were owned by Eton Capital Limited.
e) The Hub Properties
[52] As noted, the charges in the indictment focus on lending made by Capital + Merchant Finance Limited to the borrower companies associated with Mr Stokes.
[53] In 2002, National Mortgage Nominee Company Limited was the mortgagee in possession of a seven-storey building located at 15 Rangitikei Street, Palmerston North. It had been subdivided into a number of unit titles and as at 2002, it was largely vacant and in relatively poor condition. The mortgagor “had done a runner”, and the amount owing under the mortgage was approximately $3 million. Messrs Douglas and Nicholls were anxious to protect the position of the mortgagee. There was some evidence that suggested they may also have been exposed to personal liability if there were problems with the loan. In any event, they were looking to sell the building and to minimise any losses on a forced sale.
[54] The building at 15 Rangitikei Street became known as The Hub West.
[55] In early 2002, Mr Stokes became involved. Mr Stokes had been a farmer. He had also worked in rural and commercial real estate and he had been involved in various entrepreneurial and business activities. He knew Mr Nicholls. He had met him some years earlier. In early 2002, Mr Stokes was looking for employment opportunities. He was keen to become involved in commercial property development. Mr Wilson was aware of this. Mr Wilson was a partner in the law firm Stace Hammond, and he and his firm acted as solicitors for Capital + Merchant Finance Limited. Mr Wilson introduced Mr Stokes to Messrs Douglas and Nicholls. Mr Stokes met with Messrs Douglas and Nicholls and they explained to him the issues outstanding with The Hub West property. They asked Mr Stokes to investigate what options might be available for the property.
[56] Mr Stokes travelled to Palmerston North. He found that The Hub West building was largely vacant, and that it required significant renovation and upgrading. Plans had already been prepared to convert the building into student accommodation. Mr Stokes reviewed those plans. He investigated the demand for accommodation units in Palmerston North and concluded that there was a shortage of such accommodation. He also identified an opportunity to purchase a neighbouring property at 28–36 Rangitikei Street. That property had been on the market for some time. Mr Stokes thought that both properties could be converted into accommodation units, and then onsold at a profit. He considered that economies of scale could be achieved through the development of both buildings together and that with both buildings, the proposed accommodation unit development became viable. In Mr Stokes’ words, the building at 28–36 Rangitikei Street “had the fat in it” to make the whole project work.
[57] The building at 28–36 Rangitikei Street became known as The Hub East.
[58] Mr Stokes reported back to Messrs Douglas and Nicholls, and at their request, he submitted a business plan outlining his proposals. Messrs Douglas and Nicholls considered Mr Stokes’ proposals and decided to advance them. They retained Mr Stokes to progress the proposed development.
[59] To this end, on 20 September 2002, National Mortgage Nominee Company Limited, as mortgagee in possession, entered into an agreement to sell the residential units, units 7–10 and 12–15 in The Hub West building, to Venice Investments Limited. The purchase price for these units was $1,100,000 (plus GST). The settlement date was 20 December 2002, or as mutually agreed between the parties. Messrs Douglas and Nicholls signed the sale and purchase agreement as directors of National Mortgage Nominee Company Limited. Mr Stokes signed the sale and purchase agreement on behalf of Venice Investments Limited.
[60] On the same day, 20 September 2002, National Mortgage Nominee Company Limited entered into an agreement to sell the commercial units, units 3–6, in The Hub West building to Rhode Capital Limited. The purchase price for these units was $1,900,000 (plus GST). The settlement date was again 20 December 2002, or
earlier if mutually agreed between the parties. Messrs Douglas and Nicholls signed the sale and purchase agreement as directors of National Mortgage Nominee Company Limited. Mr Stokes signed on behalf of Rhode Capital Limited.
[61] Although he signed the agreements for sale and purchase, Mr Stokes did not become a director of either Venice Investments Limited or Rhode Capital Limited until 30 September 2002. On the same day, the shares in Venice Investments Limited were transferred to Eton Capital Limited. As noted above, the shares in Rhode Capital Limited were not transferred to Eton Capital Limited until May 2005. It seems, however, that this was a mistake. Mr Wilson gave evidence that these shares should have been transferred at the same time as the other changes in shareholdings and directorships were made.
[62] There were no negotiations about the prices that were recorded in the two agreements. The prices were set either by Capital + Merchant Finance Limited or by National Mortgage Nominee Company Limited — in reality, by Messrs Douglas and Nicholls. Mr Stokes understood that the intention was to “… move the debt away from National Mortgage Nominee [Company Limited] and across to Capital + Merchant Finance Limited or the new purchaser…”.
[63] The Hub East building was owned by a third party, Skyview Tower Limited. On 5 November 2002, Mr Stokes’ company, Connect Group Limited, entered into a sale and purchase agreement with Skyview Tower Limited to purchase The Hub East building. Mr Stokes signed the agreement for sale and purchase on behalf of Connect Group Limited. The purchase price was $1,700,000 (plus GST). The settlement date was 30 March 2003. The sale and purchase agreement recorded that the purchaser was Connect Group Limited or its nominee. S.I.R Investments Limited was appointed as the nominee when it was incorporated on 27 February
2003.
f) The Loan Advances
[64] Venice Investments Limited, Rhode Capital Limited and S.I.R Investments
Limited had no assets. They were new companies set up to buy The Hub properties.
[65] In order to complete the purchase of the units in The Hub West building, Venice Investments Limited obtained a loan from Capital + Merchant Finance Limited. The loan was for $1,440,000. Mr Nicholls signed the loan offer from Capital + Merchant Finance Limited to Venice Investments Limited, dated
22 November 2002. Mr Stokes accepted and signed the offer on behalf of Venice Investments Limited. The loan was to be secured by a first mortgage over the units being purchased and by a first ranking general security agreement over the company.
[66] In addition, on the same day, Capital + Merchant Finance Limited granted Venice Investments Limited a revolving credit facility of $1,600,000. Again, the security was to comprise a first mortgage over the units, and a general security agreement. There was also a reference in the loan offer to a specific security agreement, but no detail was given of the specific asset or assets to be secured. Similarly, there was a reference to a guarantee. Curiously, the document recorded in its introduction that the company was to be both the borrower and the guarantor. The clause dealing with security did not name any guarantor.
[67] In order to purchase units 3–6 in The Hub West building, Rhode Capital Limited also obtained a loan from Capital + Merchant Finance Limited. The loan obtained was for $1,710,000. Mr Nicholls signed the loan offer sent by Capital + Merchant Finance Limited to Venice Investments Limited. It was also dated
22 November 2002. The offer was accepted by Mr Stokes on behalf of Rhode Capital Limited. Security was to comprise a first mortgage over the units being purchased and a general security agreement.
[68] The sale and purchase agreement recorded that the purchase price for the units was $1.9 million. The net advance made by Capital + Merchant Finance Limited to Rhode Capital Limited was $1,705,869. The settlement statement recorded that the amount required to settle was $2,137,948.91. The balance of the purchase price, over and above the net loan advance, was transferred from Venice Investments Limited to Rhode Capital Limited, to enable it to complete the purchase.
[69] In order to complete the purchase and subsequent development of the The Hub East property, S.I.R Investments Limited obtained a revolving credit facility of $4.6 million from Capital + Merchant Finance Limited. Mr Douglas signed the loan offer document dated 20 February 2003 sent by Capital + Merchant Finance Limited to S.I.R Investments Limited. Although it is not particularly clear, it seems that security was to be taken over the units being purchased by way of a general security agreement. Again, there were references in the loan offer to a specific security agreement and to a guarantee, but the details were not given.
[70] Neither Mr Stokes, nor any of his companies, put in any of their own money to purchase either The Hub West building or The Hub East building. Moreover, Mr Stokes was not asked to give a personal guarantee of any of the initial loans and he did not do so.
[71] The total amount committed by Capital + Merchant Finance Limited to purchase and develop The Hub Properties at the outset was as follows:
(a) Venice Investments Limited — term loan, $1,440,000;
(b) Venice Investments Limited — revolving credit facility, $1,600,000; (c) Rhode Capital Limited — term loan, $1,710,000;
(d) S.I.R Investments Limited — revolving credit facility, $4.6 million.
g) The Valuations
[72] Valuations of the properties were obtained.
[73] On 12 October 2002, Mr Stokes requested a valuation of The Hub West building from a Mr Turner of Brian Turner Property Services Limited. He made available to Mr Turner a copy of the business plan that he had earlier provided to Messrs Douglas and Nicholls. Mr Turner prepared a valuation report. It was addressed to Capital + Merchant Finance Limited, attention Mr Nicholls. Mr Turner
considered that the then current market value of The Hub West was $3,450,000. He assessed its value on completion of the redevelopment at $4,650,000.
[74] On 29 January 2003, Mr Turner assessed the then current market value of
The Hub East at $3,000,000, and its value on completion of the redevelopment at
$6,725,000.
[75] Further updated valuations were obtained in 2004.
h) The Redevelopment
[76] Between November 2002 and May 2004, The Hub properties were renovated and converted into accommodation units. The costs were met by Capital + Merchant Finance Limited through advances to the various companies controlled by Mr Stokes.
[77] Whenever payments were required to be made to trade creditors involved in the development, Mr Stokes would send the invoices to Capital + Merchant Finance Limited for payment. He would authorise the invoices as being correct. The invoices would be checked by Capital + Merchant Finance Limited’s staff and Capital + Merchant Finance Limited would then make payment direct to the creditors.
i) Increase in the Loan Advances — Guarantees Required — Deed of Trust and
Indemnity
[78] The development took longer than expected and there were substantial cost overruns.
[79] The amount of money being lent by Capital + Merchant Finance Limited gradually increased as the development proceeded and the required payments to creditors were made. Between November 2002 and February 2004, Mr Stokes, on behalf of Venice Investments Limited and Rhode Capital Limited, signed further revolving credit facility agreements with Capital + Merchant Finance Limited,
gradually increasing the amount of money that was being borrowed. Loan interest and fees were always capitalised.
[80] As at 31 March 2003, the gross balance on the various Hub Property loans was $5,480,619. No interest was included in this balance.
[81] On 8 September 2003, a firm of solicitors, Castle Brown, acting for Capital + Merchant Finance Limited, sought a personal guarantee from Mr Stokes in relation to the borrowing by S.I.R Investments Limited. On 9 September 2002, a similar request was made in respect of the borrowing by Rhode Capital Limited and Venice Investments Limited.
[82] Throughout, Mr Stokes looked to Mr Wilson to protect his interests. Mr Stokes was concerned to ensure that he was not at risk and that he could not suffer any loss personally. He relied on Mr Wilson to structure the transactions and prepare the necessary documents to protect him.
[83] One of the documents prepared by Mr Wilson was a deed of trust and indemnity. This document is important to the Crown case, and I return to it in rather more detail when considering the charges.
[84] In February 2004, Capital + Merchant Finance Limited granted At The Hub Limited a revolving credit facility up to a maximum sum of $670,000. The security was to be a general security agreement over the company’s assets and a peronal guarantee from Mr Stokes. In addition, the company was to assign its management contract by way of mortgage. At The Hub Limited was the management company that was to run the accommodation complex and own all the required chattels.
[85] As at 31 March 2004, the gross value of the Hub Property loans had risen to
$12,976,121, including interest calculated at $859,655.
[86] By April/May 2004, the development was nearing completion, and rooms were being let to tenants. There were, however, difficulties. Because of the age of the buildings, the cost of heating and maintenance was high. Demand was
significantly less than had been forecast. The accommodation units were generating income, but that income was only sufficient to pay the operating costs. It was insufficient to cover the interest payments due to Capital + Merchant Finance Limited.
[87] Venice Investments Limited, Rhode Capital Limited, S.I.R Investments Limited and At The Hub Limited were all in a poor financial position. They were performing well under budget. They were not meeting interest payments and they were not repaying any part of the capital of their loans to Capital + Merchant Finance Limited. Mr Stokes provided monthly reports to Capital + Merchant Finance Limited’s Head Office and there were regular discussions between Mr Stokes and Mr Nicholls in particular. Both Messrs Douglas and Nicholls went to Palmerston North on more than one occasion to review progress. Capital + Merchant Finance Limited had concerns. From its perspective, debt was building up, and the development was not generating sufficient cash to service the borrowings. Mr Nicholls made the comment to Mr Stokes that “they would’ve liked to move [the development] off the books sooner rather than later”.
[88] On 22 September 2004, the Capital + Merchant Finance Limited lending committee approved an extension to the term of the existing loan facilities to the various Hub companies to enable a suitable refinancing package to be determined.
[89] As at 30 September 2004, the loan balances to each of the four companies involved in The Hub development totalled $16,177,413.85. Total interest included in the loan balances was $1,733,349.33. The total net loan balance was therefore
$14,444,064.52. This is the amount referred to in the indictment.
j) The Prospectuses
[90] In order to raise money from the public, Capital + Merchant Finance Limited was required to prepare and register prospectuses in accordance with the Securities Act 1978.
[91] The company issued a number of prospectuses between April 2002 and September 2007. The prospectuses the subject of counts 2 and 3 respectively are the fourth prospectus, issued on 30 June 2003, and the fifth prospectus, issued on 10
September 2004. Both prospectuses were signed by Messrs Douglas and Nicholls in their capacity as directors of Capital + Merchant Finance Limited. Both referred to the business activities of Capital + Merchant Finance Limited, and to the debenture trust deed. They summarised the restrictions on related party lending contained in the debenture trust deed, and related party transactions were disclosed in both prospectuses. There were, however, no references to any related party lending by the borrower companies involved in The Hub purchases and developments.
k) Sale of Hub Properties to Capital + Merchant Finance Limited and their subsequent on sale
[92] In August 2004, Capital + Merchant Finance Limited sought advice from Mr Wilson. He provided that advice on 26 August 2004. It was then decided that Capital + Merchant Finance Limited should acquire the borrower companies. Mr Stokes said that it was to be “more like a receivership, [Capital + Merchant Finance Limited] would take over and control the finances”. The notes to the financial statements by Capital + Merchant Finance Limited for the year ended
31 March 2005 also explain the reasoning behind this decision. They record that Capital + Merchant Finance Limited acquired the companies to assist in the sale of the development, and to ensure the successful completion of the project. The notes recorded that to complete the transaction, Capital + Merchant Finance Limited had incorporated a wholly owned subsidiary, At The Hub Investments Limited, to acquire 100 percent of the shares in Rhode Capital Limited, Venice Investments Limited, S.I.R Investments Limited and At The Hub Limited.
[93] Eton Capital Limited entered into a sale and purchase agreement with At The Hub Investments Limited to sell to that company all of its shareholding in Rhode Capital Limited, Venice Investments Limited, S.I.R Investments Limited and At The Hub Limited. That agreement was dated 4 October 2004, notwithstanding that At The Hub Investments Limited was not incorporated until the following day.
[94] The agreement for sale and purchase of the shares was signed by Mr Nicholls on behalf of At The Hub Investments Limited, and by Mr Stokes on behalf of Eton Capital Limited and each of the borrower companies. The settlement date was
4 October 2004, or such other date as the parties agreed in writing.
[95] The purchase price recorded in the agreement for sale and purchase of the shares was $262,972.57, calculated as follows:
(a) $43,191.53 for the shares in Rhode Capital Limited (calculated as the value of the assets, $2,600,000, less outstanding liabilities of
$2,556,808.47);
(b)$55,181.57 for the shares in Venice Investments Limited (calculated as the value of the assets, $3,450,000, less outstanding liabilities of
$3,394,818.43);
(c) $85,283.26 for the shares in S.I.R Investments Limited (calculated as the value of the assets, $9,670,000, less outstanding liabilities of
$9,584,716.74; and
(d)$79,316.21 for the shares in At The Hub Limited (calculated as the value of the assets, $780,000, less outstanding liabilities of
$700,683.79), and
[96] Mr Stokes was adamant that he “never saw” the monies that were supposed to be paid to Eton Capital Limited pursuant to the agreement for sale and purchase. He did not know where those monies went.
[97] It is not clear from the evidence when the agreement for sale and purchase of the shares was settled. Mr Stokes thought that it was toward the end of the year and accepted that the date of 4 October 2004 made sense to him.
[98] Following the sale by Eton Capital Limited of its shareholding in the various
Hub companies to At The Hub Investments Limited, Capital + Merchant Finance
Limited had ownership and control of the various companies associated with The Hub development, and therefore The Hub properties. The loans to S.I.R Investments Limited, Venice Investments Limited, and Rhode Capital Limited were disclosed to Perpetual Trust Limited as the trustee for debenture holders in the directors’ quarterly report for the period ended 31 December 2004, sent to the trustee on 10 February
2005.
[99] It seems that this was the first occasion on which Capital + Merchant Finance
Limited had purchased assets from a borrower.
[100] A short time later, The Hub properties were on sold to another party. The on sale was financed by Capital + Merchant Finance Limited.
[101] For the sake of completeness, it should be noted that Capital + Merchant Finance Limited was placed into receivership on 23 November 2007. At the time, it owed approximately $167 million to some 7500 debenture holders. The Official Assignee was appointed liquidator of the company on 15 December 2009. Debenture holders are unlikely to receive back any monies invested by them.
Count 1
[102] Count 1 in the indictment reads as follows:
The Solicitor-General charges that Neal Medhurst Nicholls and Wayne
Leslie Douglas between on or about 1 April 2002 and on or about
30 September 2004 at Auckland or elsewhere in New Zealand had control over property, namely $14,444,064.52 of investor funds, on terms or in circumstances that they knew required them to deal with the property in accordance with the requirements of Perpetual Trust Limited as Trustee under a Debenture Trust Deed dated 5 April 2002, and intentionally dealt with the property otherwise than in accordance with those requirements and thereby committed theft.
Particulars
Entered into loans by Capital + Merchant Finance Limited which involved borrowing by SIR Investments Limited, Venice Investments Limited, Rhode Capital Limited and At The Hub Limited, such loans being in breach of any or all of the following requirements under the Trust Deed:
1. Clause 6.2(a) (related party transactions),
2.Clause 6.4(b) (carry on and conduct business in an efficient, prudent and businesslike manner),
3.Clause 6.4(g) (duly and promptly comply with all laws, directives and consents the non-compliance with which might have a material adverse effect on the Company or may adversely or materially affect the rights or security of the Trustee or any Stockholder or Depositor)
[103] The count is brought pursuant to s 220 of the Crimes Act 1961. It reads as follows:
220 Theft by person in special relationship
(1) This section applies to any person who has received or is in possession of, or has control over, any property on terms or in circumstances that the person knows require the person—
(a) to account to any other person for the property, or for any proceeds arising from the property; or
(b) to deal with the property, or any proceeds arising from the property, in accordance with the requirements of any other person.
(2) Every one to whom subsection (1) applies commits theft who intentionally fails to account to the other person as so required or intentionally deals with the property, or any proceeds of the property, otherwise than in accordance with those requirements.
(3) This section applies whether or not the person was required to deliver over the identical property received or in the person's possession or control.
(4) For the purposes of subsection (1), it is a question of law whether the circumstances required any person to account or to act in accordance with any requirements.
[104] There was no disagreement between counsel for the Crown and the accused as to the elements of the offence. They are as follows:
(a) Did the accused, Mr Douglas and Mr Nicholls, have control over property?; and
(b)Was the property in the control of Mr Douglas and Mr Nicholls in circumstances that required each of them to deal with the property, or any proceeds arising from the property, in accordance with the requirements of any other person?; and
(c) Did Mr Douglas and Mr Nicholls know of those circumstances?; and
(d)Did Mr Douglas and Mr Nicholls intentionally deal with the property, or any proceeds of the property, otherwise than in accordance with those requirements?
[105] I address each element in turn. Before doing so, I record that Mr Gray QC, appearing for Messrs Douglas and Nicholls, did not seek to draw a distinction between his clients in relation to matters of fact. Nor do I. It is clear that in relation to the matters at issue in this trial, both accused acted in concert and that the actions and knowledge of one were the actions and knowledge of the other.
a) Did the accused have control over property?
[106] The property in issue is the money deposited by investors with Capital + Merchant Finance Limited. The Crown case is that Messrs Douglas and Nicholls, as directors and ultimately owners of Capital + Merchant Finance Limited, and as signatories to the trust deed, had control of the monies deposited with Capital + Merchant Finance Limited by investors.
[107] There was no direct evidence that any money was deposited with Capital + Merchant Finance Limited by investors. There is, however, evidence that the loans at issue in the trial were made either from capital secured deposits or investment deposits and that Capital + Merchant Finance Limited borrowed money from the public on one or other of these bases. Mr Smith, the company’s lending manager, was referred to a spreadsheet recording the loan balances as at 1 October 2004. The spreadsheet recorded that the various loans were made from a mixture of capital secured deposit funds and investment deposit funds. Mr Smith also gave evidence that the revolving credit facility provided to At The Hub Investments Limited came from investment deposit funds held by the company. Further in this regard, I note that the loans were disclosed as related party loans in the director’s quarterly report as at 31 December 2004. This compels the conclusion that the advances to the various borrower companies were made from funds deposited with Capital + Merchant Finance Limited by the public, which were subject to the debenture trust
deed. I infer that monies were deposited with Capital + Merchant Finance Limited by investors and that the loans made by that company to the borrower companies used those funds either in whole or in part.
[108] There is one further issue in this regard. Monies were placed with Capital + Merchant Finance Limited, and not directly with either Mr Douglas or Mr Nicholls. However, in effect, the company was the alter ego of Messrs Douglas and Nicholls. As I have noted above, through a series of companies and a trust, they had control over Capital + Merchant Finance Limited, and it is clear from the evidence that they guided and controlled its affairs. The terms on which Capital + Merchant Finance
Limited held investors’ funds bind the accused.6 In this trial, nothing turned on the
separate corporate persona of the company.
[109] Finally, I note that Mr Gray conceded that Messrs Douglas and Nicholls, as directors in Capital + Merchant Finance Limited at the relevant time, had control over the property comprising depositors’ funds.
[110] I am satisfied that the concession was properly made and that the Crown has proved this element of the offence beyond reasonable doubt as against each of the accused.
b)Did the circumstances require each of the accused, Messrs Douglas and Nicholls, to deal with the property in accordance with the requirements of any other person?
[111] It is necessary to determine whether the circumstances in this case gave rise to a relevant requirement for the purposes of s 220.7
[112] Whether such circumstances exist requiring the accused to deal with property in accordance with the requirements of another is a question of law.8 There has been
little discussion of what can constitute such circumstances in the authorities to date.9
6 R v Prast [1975] 2 NZLR 248 (HC) at 252–253; R v Cameron [1981] 1 NZLR 515 (CA) at 516.
[216] Mr Gray submitted that the Crown’s case in relation to counts 2 and 3 is fundamentally misconceived, because it relies on the requirements of the Financial Reporting Act to determine whether or not the loans to the borrower companies were required to be disclosed in the prospectuses. He submitted that what was required for the prospectuses was set out in the Securities Act and in the relevant regulations. He argued that the two pieces of legislation clearly distinguish between financial statements prepared for prospectuses and financial statements prepared for the purposes of the Financial Reporting Act.
[217] Mr Gray received significant support in this argument from Mr Jordan. In cross-examination Mr Jordan accepted the following propositions:
(a) An issuer registering a prospectus under the Securities Act is not obliged to include in the prospectus the annual accounts prepared in accordance with the Financial Reporting Act.
(b)An issuer has an option whether to include in the prospectus annual accounts prepared in accordance with the Financial Reporting Act, or financial statements prepared in accordance with the Securities Act and Regulations.
(c) The requirements under the Financial Reporting Act, and under the
Securities Act and its regulations, are not the same.
(d)Where the issuer is issuing debt securities, financial statements prepared under the Securities Act have to comply with sch 2 to the regulations.
(e) Where there is an inconsistency in the manner of treatment between financial reports under the Securities Regulations and financial reports under the Financial Reporting Act, then, for the purposes of a prospectus for debt securities, the provisions of the Securities Regulations will prevail.
[218] These issues were not specifically put to Ms Hodgkins. She did say in cross-examination that she has not been asked to give any evidence about the Securities Act or the Securities Regulations.
[219] Mr Gray’s submission is consistent with the relevant statutory provisions, in particular with s 18(1A) in the Financial Reporting Act and also with ss 4(1) and
39(2) in the Securities Act. It is also consistent with the expert evidence I have heard. Moreover, in the present case, the auditor’s report to prospectus number 4 recorded that the financial statements annexed to the prospectus had been prepared as required by cls 16–31 of the sch 2 to the Securities Regulations, that they complied with those regulations, and subject to those regulations, with generally accepted accounting practice in New Zealand. I accept that it was open to Capital +
Merchant Finance Limited to include in its prospectus financial statements prepared pursuant to the Securities Act and the detailed requirements in the Securities Regulations, and that it chose to do so.
[220] Mr Williams accepted that the Securities Act and the Securities Regulations do not comprehensively set out requirements in relation to the disclosure of related party transactions. Indeed, he acknowledged that they say very little about the disclosure of such transactions, except for those that are material to the profit and loss statement, or are material term liabilities. He accepted that neither of those situations apply in the present case.
[221] Mr Williams submitted that the correct position is that FRS 9 applied to the reporting of the financial statements, because it is an applicable financial reporting standard in terms of s 3(a) of the Financial Reporting Act. He argued that this negates any contention by the defence that disclosure was not required.
[222] As noted above, under sch 2 to the Securities Regulations, an auditor’s report is required, and the auditor is required to state whether or not in his or her opinion, the financial statements comply with generally accepted accounting practice. The relevant provision — cl 36(1)(f)(ii), starts with the words “subject to these regulations”, but counsel did not suggest that there is anything in the regulations which affects the application of generally accepted accounting practices.
[223] The words “generally accepted accounting practice” are defined in s 2 of the Securities Regulations to have the same meaning as they have in s 3 of the Financial Reporting Act.
[224] Section 3 of the Financial Reporting Act defines what is meant by generally accepted accounting practice. It provides as follows:
3 Meaning of generally accepted accounting practice
For the purposes of this Act, financial statements and group financial statements comply with generally accepted accounting practice only if those statements comply with—
(a) Applicable financial reporting standards; and
(b) In relation to matters for which no provision is made in applicable financial reporting standards and that are not subject to any applicable rule of law, accounting policies that—
(i) are appropriate to the circumstances of the reporting entity; and
(ii) have authoritative support within the accounting profession in New Zealand.
[225] FRS 9 was an applicable financial reporting standard. Standard 8.6 required that loans to directors were to be disclosed separately. The words “loans to directors” were defined in Standard 4.16 to include loans to, or guarantees given by, the entity for debts incurred by, or other direct or indirect financial assistance given by the entity to or for the benefit of, inter alia, an entity, if a director, a spouse of a director, or any dependent of a director, or a director of any other entity in their group, a spouse of such director, or any dependent of such director, had a direct or indirect “beneficial interest” in not less than 10 per cent of the entity. The commentary at [4.17] in the standard recorded that this definition extended beyond loans direct to directors, to include loans in a variety of circumstances where a director might receive forms of beneficial treatments through loans by nature of their relationships and position.
[226] Ms Hodgkins considered that the loans made by Capital + Merchant Finance Limited to the borrower companies were caught by this definition, because in her view, the borrower companies were beneficially owned by the Scholarly Trust. She considered that Messrs Douglas and Nicholls, their spouses, children, parents, and siblings were discretionary beneficiaries to the Scholarly Trust, and that they therefore had a beneficial interest in the borrower companies. She considered that Standard 4.16(d) of FRS 9 was applicable, and that the loans were loans to the directors, which should have been disclosed in the financial statements.
[227] She was cross-examined in relation to this issue. It was put to her that there is a rule of law that the discretionary beneficiaries of a trust have no beneficial interest in the assets of the trust. She stated that she understood that. Ms Hodgkins then expressed the view that FRS 9 was the more important standard, because it was
directly on point, and because it was an applicable financial reporting standard with
“higher weighting”. The following discussion then took place:
Q. But FRS 9 requires that the directors have a beneficial
interest in the entity don’t they?
A. Yes.
Q. So for your evidence that FRS 9 is the more important standard for us to apply it would have to be the case that Messrs Nicholls and Douglas are beneficial owners of the operating companies?
A. Yes, or family members or, yeah.
Q. And if that weren’t the case for any reason, then FRS 9
wouldn’t apply?
A. That's right.
[228] I have summarised the deed settling the Scholarly Investment Trust above. It was a discretionary trust, and Hamana Holdings Limited, as trustee, could use its discretion to make a distribution to any of the beneficiaries who were listed in the deed of trust. As I noted, the list of potential beneficiaries contained in the trust deed included Messrs Douglas and Nicholls.
[229] It does not, however, follow that Messrs Douglas and Nicholls had a beneficial interest in the borrower companies. Ms Hodgkins’ view of FRS 9 ignores the evidence that the shares in the borrower companies were owned by Eton Capital Limited, and that it held the shares on trust for Eton Capital Trust — an entity in which neither Mr Douglas nor Mr Nicholls had any interest. It also ignores the law that a discretionary beneficiary has no beneficial interest in the assets of a trust — in the present case the equitable rights the Scholarly Trust had to such assets as were held by Hamana Holdings Limited as its trustee pursuant to the deed of trust and
indemnity. A discretionary beneficiary in a trust has no more than an expectancy.26
[230] I am not persuaded beyond reasonable doubt that the accused had a direct or indirect beneficial interest in the borrower companies. It follows that the Crown has
26 Kain v Hutton [2008] NZSC 61, [2008] 3 NZLR 589 at [25]; see also Nation v Nation [2005] 3
NZLR 46 (CA) at [74]; Financial Markets Authority v Hotchin HC Auckland CIV 2010-404-
8082, 21 February 2012 at [20].
failed to establish beyond reasonable doubt that FRS 9 required that the transactions at issue in this trial should have been disclosed in the financial statements accompanying the fourth prospectus. There is a reasonable possibility that the loans made by Capital + Merchant Finance Limited to the borrower companies did not fall within the definition of loans to directors contained in the standard.
[231] Ms Hodgkins, Mr Jordan, and Mr Bulloch also considered that SSAP 22 applied, and that this standard required disclosure. This was the Crown’s fallback position.
[232] SSAP 22 defined a “related party” in [3.1] as follows:
Parties are considered to be related if one party has the ability, directly or indirectly, to control or exercise significant influence over the other party in making[,] operating, investing and financing decisions to the extent that one of the parties might be prevented from fully pursuing its own separate interests. Parties are also considered to be related when they are subject to common outside control or significant influence…
Paragraph 4.6 in SSAP 22 outlined various related party relationships and stated as follows:
In considering each possible related party relationship, attention should be directed to the substance of the relationship and not merely to the legal form. Related parties of a reporting entity would normally include:
…
(d) Entities in which a substantial interest in the voting power is owned, directly or indirectly, by any person described in (b) or (c) or over which such a person is able to exercise significant influence. (This includes entities owned by directors or major shareholders of the reporting entity and entities that have a member of key management in common with the reporting entity.)
[233] Ms Hodgkins also noted the definition of the words “significant influence” in
SSAP 22. She also referred to FRS 38 — accounting for investments and associates
— which further considers the words “significant influence”. She considered that borrower companies were related parties of Capital + Merchant Finance Limited, because under [3.1] and [4.6(d)] in SSAP 22, they were subject to significant influence by Messrs Douglas and Nicholls. In this regard, she referred to the deed of trust and indemnity. It was her view that the substance of the arrangement was that
Mr Stokes was holding the shares in the borrower companies, whether through Eton Capital Limited, or through the Eton Capital Trust, on behalf of interests associated with Messrs Douglas and Nicholls. She considered that for accounting purposes, it was necessary to look beyond the legal form, and look to the substance of the transaction.
[234] These matters were explored with Ms Hodgkins in cross-examination. She was reluctant to entertain any assumption that Messrs Douglas and Nicholls were not beneficial owners of the operating companies. She accepted that she was not giving a legal answer in that regard, but rather reaching an accounting conclusion. The wording of s 3 of the Financial Reporting Act was then put to her. In particular, she was asked about the words “In relation to matters for which no provision is made in applicable financial reporting standards and that are not subject to any applicable rule of law…”. When she was asked whether there was any rule of law that could affect her assessment of whether SSAP 22 applied, she said no, but then went on to say that she would be relying on FRS 9, not SSAP 22. She did, however, consider that SSAP 22 was also applicable. While she could not think of any rule of law that might impact on whether or not SSAP 22 was relevant and helpful, she acknowledged that if there was an applicable rule of law, it was the rule of law that would apply.
[235] Mr Bulloch agreed with Ms Hodgkins, when she conceded that standards of standard accounting practice apply where they are appropriate, and where there is no rule of law dealing with the situation.
[236] This same issue was also put to Mr Jordan. He accepted that SSAP 22 is not a financial reporting standard, and that it only applies where there is no applicable rule of law, and when it is appropriate. The following exchange then took place:
Q. So SSAP 22 applies where the circumstances are appropriate and
there’s no applicable rule of law?
A. Yes.
Q. But of course there is an applicable rule of law, isn’t there, because
there’s the Securities Regulations and in particular Schedule 2?
A. Yes.
Q. And they make exclusive provision for the content of financial statements which are contained in debt securities prospectuses?
A. Yes.
Q. So SSAP 22 doesn’t apply to financial reports contained within prospectuses for debt securities because the Securities Regulations make their own provision?
A. Yes.
Q. So it’s a matter of looking not at SSAP 22 but at the Securities Regulations and to the definitions of the types of relationships that have to be disclosed by those regulations?
A. Yes.
Q. And as we’ve already seen by reference to the definition of subsidiary, associated companies, under the Securities Regulations the types of relationships which require to be reported are direct ownership ones in the nature of parent and subsidiary or siblings?
A. Yes.
Q. And so the disclosure of these loans to @ the Hub and Venice and Rhode and S.I.R complied with the Securities Regulations, even if not with SSAP 22?
A. Yes.
Mr Jordan also went on to concede that Messrs Douglas and Nicholls, as discretionary beneficiaries only of the Hamana Trust, were not related parties to the operating companies for the purposes of SSAP 22. He considered that until Hamana Holdings Limited exercised its discretion to appoint, they were discretionary beneficiaries only.
[237] I can see no error in Mr Gray’s legal analysis, and given the answers, in particular by Mr Jordan, it seems to me that there must be a reasonable doubt as to whether or not SSAP 22 applies to require disclosure of the lending to the borrower companies. As I have already noted, the Crown does not suggest that the Securities Regulations of themselves required disclosure.
[238] It follows that the Crown has failed to prove beyond reasonable doubt that
Messrs Douglas and Nicholls made a false statement in prospectus number 4. It is
unnecessary for me to go on and consider the other elements of the offence, and I do not do so. It is also unnecessary for me to consider detailed arguments put to me by Mr Gray as the application of other provisions in the Securities Regulations and as to the mens rea required under s 242. I find Messrs Douglas and Nicholls not guilty in relation to count 2.
Count 3
[239] Count 3 reads as follows:
3 The said Solicitor General further charges that Neal Medhurst Nicholls and Wayne Leslie Douglas between on or about 9 September 2004 and on or about 22 September 2005 at Auckland or elsewhere in New Zealand in respect of any body, whether incorporated or unincorporated and whether formed or intended to be formed, with intent to induce any person to entrust or advance any property to any other person, made or concurred in the making or publishing of a false statement.
Particulars
Failure to disclose in the Capital + Merchant Finance Limited Prospectus dated 10 September 2004 related party lending by Capital + Merchant Finance Limited to entities associated with The Hub Property portfolio that involved borrowing to SIR Investments Limited, Venice Investments Limited, Rhode Capital Limited and At The Hub Limited.
[240] The count is also brought pursuant to s 242 of the Crimes Act, and subject to the necessary amendments being made to bring them into line with the detail of count 3, the elements are the same as they were for count 2.
[241] In prospectus number 5, the note to the financial statements was rather more extensive than the note to the financial statements contained in prospectus number 4. It disclosed the two related party items disclosed in prospectus number 4, but went on to record that Capital + Merchant Finance Limited had made investment lending loans to five related parties during the financial year. The details of those loans were disclosed. The loans were made to Investment Capital Management Services Limited, Investment Capital Trust Limited, Investment Marketing Limited, Instyle Interiors Limited and Numeria Finance Limited. The loans to the borrower companies were not disclosed as related party transactions.
[242] The analysis and reasoning I have set out in relation to count 2 applies equally to count 3. For the same reasons, the Crown has failed to prove beyond reasonable doubt that the accused made a false statement in prospectus number 5, and I find the accused not guilty in relation to count 3.
Conclusion
[243] For these reasons, I returned the verdicts set out above on 19 July 2012.
Wylie J
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