Vijayakumar v Vasanthan

[2021] NZHC 1827

IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY

I TE KŌTI MATUA O AOTEAROA TĀMAKI MAKAURAU ROHE

CIV-2020-404-602

[2021] NZHC 1827

UNDER

the Companies Act 1993, section 165

BETWEEN

SOTHILINGIN VIJAYAKUMAR

Plaintiff

AND

SIVA VASANTHAN

First Defendant

MANUKAU FAMILY DOCTORS LIMITED

Second Defendant

Hearing:

12 July 2021

Appearances:

Kalev Crossland for the plaintiff

Dr Vasanthan, the First Defendant in person No appearance for the Second Defendant

Judgment:

19 July 2021

JUDGMENT OF ASSOCIATE JUDGE R M BELL

This judgment was delivered by me on 19 July 2021 at 4:00pm

pursuant to Rule 11.5 of the High Court Rules

…………………………. Registrar/Deputy Registrar

Solicitors:

Shieff Angland (Kalev Crossland), Auckland, for the Plaintiff

Copy for:

Dr Siva Vasanthan, Manukau, Auckland 2241

VIJAYAKUMAR v VASANTHAN [2021] NZHC 1827 [19 July 2021]

[1]    Manukau Family Doctors Ltd has two shareholders, Dr  Siva  Vasanthan  (180 shares) and Dr Sothilingin Vijayakumar (120 shares). Dr Vasanthan is the sole director. The company is the commercial landlord of premises at Great South Road, Manukau. Dr Vijayakumar says that Dr Vasanthan has breached his duties as director of Manukau Family Doctors Ltd. He has applied under s 165 of the Companies Act 1993 to bring a derivative proceeding against Dr Vasanthan. I decline the application because Dr Vijayakumar has a more effective alternative remedy under s 174 of the Companies Act 1993.

Background

[2]    Manukau Family Doctors Ltd was incorporated in 2004. It completed the purchase of the premises in June 2005. Originally, three doctors planned to practise there, Dr Vijayakumar, Dr Vasanthan and Dr Pillai, but Dr Pillai pulled out in 2004. Dr Vijayakumar says that Dr Vasanthan proposed to join his medical practice with another called “The Doctors”, but Dr Vijayakumar did not want to be involved with “The Doctors”. The premises were fitted out for a three-man practice (including an x-ray room) but only Dr Vasanthan practised there. As matters turned out, not all the space was used. The front part of the premises is used for a medical practice run by Manukau Family Accident and Medical Ltd. Dr Vasanthan is the sole director of that company and he and his wife are the only shareholders.

[3]    Manukau Family Doctors Ltd’s financial statements show that the fitout is an asset of the company. Dr Vasanthan claims that he paid for the fitout. That may have been the case, but I assume that that would be reflected in his shareholder’s current account.

[4]    Dr Vijayakumar moved to Australia in 2006 and has lived there ever since. He resigned as director  in August  2012.  Dr Vasanthan  contests  that.  He  says  that  Dr Vijayakumar has remained a director ever since, because Dr Vijayakumar never

tendered a written resignation. It is clear, however, from the records in evidence that Dr Vijayakumar has not been a director since August 2012. The Companies Office records show that he ceased to be a director then. The financial statements prepared since then do not show him as a director.  There are annual resolutions appointing  Dr Vasanthan as sole director. Besides, Dr Vijayakumar’s case is that the company has been under Dr Vasanthan’s effective control since 2012. Dr Vasanthan does not dispute that.

[5]    At the start there was a formal lease by Manukau Family Doctors Ltd to Manukau Family Accident and Medical Ltd. The annual rent was $75,000 plus GST and operating expenses. When the lease came to an end, Dr Vasanthan did not arrange for a fresh lease. Without a formal written lease, there is a month-to-month tenancy. Manukau Family Accident and Medical Ltd has paid rent, but not as much as under the written lease. Dr Vasanthan’s practice has not used all the space in the premises. His clinic occupies about 187 square metres and there is a vacant area of 75 square metres at the rear.

[6]    The company’s financial statements for the year ending 31 March 2020 show income of $64,339 and expenses of $49,136. $15,204 has been applied to shareholders’ salaries – $7,602 to each shareholder. The Bank of New Zealand is owed approximately $94,000 under a term loan. Shareholders’ current accounts total

$717,563:   $495,021   to   Dr   Vasanthan    and   $222,542   to   Dr   Vijayakumar. Dr Vijayakumar does not accept that the financial statements are accurate.

[7]    I was told during the hearing that the Bank of New Zealand has issued a notice under s 119 of the Property Law Act 2007. I was provided with a copy of the notice after the hearing. The bank says that there are arrears in term loan payments of

$56,213 and the company has not paid Auckland Council rates of $11,731.

[8]    While the financial statements show that he has been credited with salary over the years, Dr Vijayakumar says that he has not received any benefits or payments from the company ever since it was incorporated.   On the other hand, he believes that    Dr Vasanthan has run the company for his own benefit.

Dr Vijayakumar’s proposed claim

[9]    Dr Vijayakumar has provided a draft statement of claim, to be used if the court grants leave under s 165. If leave were granted, there would be amendments in the light of matters discussed during the hearing. There are four causes of action.

[10]   The first cause of action alleges that Dr Vasanthan breached his duty as director by renting the premises to his company at less than a current market rent. A valuer instructed by Dr Vijayakumar has assessed the current annual market rent for the premises (excluding fitout) at $84,320 excluding GST and operating expenses. He has also assessed the capital value of the premises at $1.535 million. The date of the valuation is 3 December 2019.

[11]   Dr Vasanthan has also provided a report by a registered valuer. While that valuer inspected the premises in September 2020, he has also assessed the rental as at 1 December 2019. I have used information in Dr Vasanthan’s valuer’s report and information from financial statements to assess Dr Vijayakumar’s claim that the rent paid is less than current market rental. Both valuers assume that the tenant would pay GST and operating expenses (such as rates and water). For the years ending 31 March 2014  to  31  March  2020,  Manukau  Family  Doctors  Ltd  received  rent  totalling

$330,987. During the same period, it paid operating expenses and repairs of $10,505.1

The valuer assesses the current market value of the 187 square metres occupied by the clinic from December 2013 to December 2019 at $428,912. For the same period, he assessed the rent for the rear vacant space at $138,107, giving a total market rent of

$567,019. For the space occupied by Dr Vasanthan’s clinic, the rent received is less than current market rent by about $108,000.2

[12]   A claim for breach of director’s duty can be put as one where Dr Vasanthan has not acted in the best interests of the company under s 131 of the Companies Act, but has preferred the interests of his own practice to that of Manukau Family Doctors Ltd. But the amount of that claim is in the order of $108,000 only.

1      Financial statements for the years ending March 2018 and March 2019 show additional operating expenses of $18,457.00, but those were adjusted in the financial statements for the year ending March 2020.

2      After taking into account the adjustment for operating expenses it should not have had to pay.

[13]   Dr  Vijayakumar  puts  the  claim  more  widely.   He  would  have  it  that   Dr Vasanthan’s company should pay rent for the entire premises, whether used or not. He would claim a further $138,000 as rent for the unoccupied area. That part of the claim would be more difficult. Dr Vasanthan says that he made efforts to find other tenants but was unsuccessful. For that part of the case, Dr Vijayakumar’s claim for breach of director’s duty may be directed at mismanagement rather than breach of fiduciary duty.

[14]   The second cause of action pleads as breaches of duty failures by Dr Vasanthan to ensure that the company paid its debts as they fell due. His draft pleading says that there were defaults in paying the Bank of New Zealand in 2012 and 2013. It also says that in 2015 the company had not paid taxes to the Commissioner of Inland Revenue, which led to the Commissioner successfully obtaining an order putting the company into liquidation. An order terminating the liquidation was made in May 2015. It is not readily apparent how the company has incurred any lasting damage (barring costs incurred in remedying defaults). Moreover, as the events occurred more than six years ago, a claim for breach of duty would be statute-barred.3 Dr Vijayakumar knew about the liquidation at the time.

[15]   In the hearing, however, Mr Crossland relied on the company’s more recent defaults in paying the Bank of New Zealand. Dr Vasanthan admitted that the company had not been meeting its liabilities to the Bank of New Zealand under the term loan. He said that he had incurred expenses (fees for lawyers and consultants) in dealing with Dr Vijayakumar’s complaints and he had used company funds to meet those expenses. That was shown in the entry of $54,500 for management fees in the statement  of  financial   performance   for   the   year   ending   31 March   2020.   Dr Vasanthan’s management of the company, where he has used company funds to meet his personal legal expenses instead of paying creditors, provides arguable grounds for a claim of breach of director’s duty.

[16]   The third cause of action pleads a failure to keep proper records. Financial statements are said to be inaccurate and the company is said not to have an interests

3      Limitation Act 2010, s 11.

register or a minute book. Dr Vijayakumar claims the prospective costs in having these defaults remedied.

[17]   Dr Vasanthan has probably let himself down by not keeping an interests register as he leaves himself more open to attack, particularly for benefits he has received from the company.4 The charging of the management fees for the year ending 31 March 2020 shows reason to be wary of accepting the financial statements. Getting the financial statements fixed would seem to be in order to enable an orderly separation of differences between Dr Vijayakumar and Dr Vasanthan.

[18]   The fourth cause of action claims that Dr Vasanthan preferred his own interests over that of Manukau Family Doctors Ltd. There are two aspects. First, Dr Vasanthan took directors’ fees and salary. He is said to have deducted 7.5 per cent from the rental as management fees. Those payments are in addition to payments of directors’ fees shown in the financial statements. The requirements of s 161 of the Companies Act arise. As Dr Vasanthan apparently did not enter details of these arrangements in an interests register under s 161(2) and did not give a certificate under s 161(4) that these arrangements were fair to the company and the grounds for that opinion, he will need to defend any payments under s 161(5). He will need to prove that the payments to the company were fair when they were made. Here, the payment of management fees for the year ending 31 March 2020 seems to be open to scrutiny, even if a management fee of 7.5 per cent of the rent can be justified.

Section 165

[19]Section 165 of the Companies Act 1993 says:

165     Derivative actions

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

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

4      See the requirements of s 161(1) and (4) of the Companies Act 1993.

(b)intervene in proceedings to which the company or any related company is a party for the purpose of continuing, defending, or discontinuing the proceedings on behalf of the company or related company, as the case may be.

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

(a)the likelihood of the proceedings succeeding:

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

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

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

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

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

(b)it is in the interests of the company or related company that the conduct of the proceedings should not be left to the directors or to the determination of the shareholders as a whole.

…

[20]   An application under s 165 is not a mini-trial on the merits. In Vrij v Boyle5 Fisher J held that the appropriate test is whether a prudent business person, in the conduct of his or her own affairs, would decide to bring a claim. Matters such as the amount at stake, the apparent strength of the claim, likely costs and the prospect of executing any judgment should be considered. That approach has been followed in many subsequent cases and has been endorsed by the Court of Appeal.6 So far as the “prudent business person” test is concerned, there is one group who regularly assess whether to bring proceedings against directors for breaches of duty: liquidators. Their decisions whether to issue proceedings are invariably hard-nosed and pragmatic. They are vitally interested in whether there are good prospects of recovery for creditors. So

5      Vrij v Boyle [1995] 3 NZLR 763 (HC).

6      He v Chen [2014] NZCA 153, [2015] NZAR 437 at [30]. See also Parkinson v O’Brien [2021] NZCA 309.

for this case it is helpful to consider whether an experienced insolvency practitioner would think it worthwhile suing Dr Vasanthan.

[21]   Some of the claims for breach of s 131 in not obtaining a proper market rent will be time-barred. The company can only claim for a shortfall in rent for the six years before the proceedings are issued. That is likely to reduce the claim for the rent for space occupied by the clinic by about $10,000 and the claim for the vacant space by about $36,000. So this claim may be for about $200,000. The amounts that might be recovered from other adjustments to the accounts are likely to be in the range of

$50,000 – $100,000. It seems unrealistic to expect that this case could result in damages awards against Dr Vasanthan for over $300,000. Dr Vijayakumar’s share of any recovery will be 40 per cent after costs are paid.

[22]Mr Crossland estimated the costs of going to trial at between $70,000 –

$100,000. He pointed out that few cases actually go to trial. The costs of proceedings tend to encourage settlement. There were good prospects of the matter settling without having to go to a full hearing.

[23]   For my part, I note that if the case goes the full distance, there is a reasonable prospect of recovery after expenses are met, but the amount may be in the range

$80,000 – $90,000. A liquidator may still consider it worth suing.

[24]   The company has not taken any action against Dr Vasanthan. While he remains sole director there is no prospect of the company doing so. It is in the interests of the company that it should recover for underpaid rent and for Dr Vasanthan taking excess, unjustified benefits.

[25]   The requirements of s 165(3) are satisfied.   While the company is under     Dr Vasanthan’s control, it will not take any proceedings against him. It is undesirable that any decision whether to sue should be left to him alone.

[26]   While a case can be made for a stand-alone claim by the company  against  Dr Vasanthan for breach of directors’ duties, there is another consideration: is there a

better alternative remedy? In considering whether to grant leave, available alternative remedies are a relevant consideration.7

[27]   I put to Mr Crossland that Dr Vijayakumar had an alternative remedy in a personal claim under s 174 of the Companies Act for relief as a prejudiced shareholder. He had considered that but rejected it because on a shareholders’ buy out under        s 174(2)(a) the court would not take into account Dr Vasanthan’s breaches of duty. Instead, it was necessary to pursue Dr Vasanthan separately for breaches of duty. He did not give any authority for that.

[28]   I do not accept that. In a small closely-held company, where a sole director with a majority shareholding uses his powers as a director to confer benefits on himself or on related entities, breaches of duty by the director may provide grounds for a claim that the affairs of the company are being conducted in a manner that is oppressive, unfairly discriminatory, or unfairly prejudicial under s 174 to minority shareholders. When giving relief, the court can give orders to fit the case, including orders that the errant director pay compensation.8 That is in addition to other relief the court may order.

[29]   Both Dr Vijayakumar and Dr Vasanthan accept that there should be a separation of interests. Dr Vijayakumar says that he has not received any payments of salary or dividends from the company (although salary has been credited to him in the accounts by way of a distribution of profits). Apart from salary credited to him, his investment in the company has not been realised. He has been an investor for some 16 years and it is time for him to realise his investment.

[30]   A proceeding under s 174 can address all the matters required to separate the interests of disputing shareholders: ordering payment of compensation for breaches of duty (s 174(2)(b)), ordering payment of shareholders’ advances (s 174(2)(b)), rectifying accounts (s 174(2)(f)) and directing a purchase of  shares  after  valuation(s 174(2)(a)). Compared with s 174, bringing a claim under s 165 is

7      Fruit Shippers Ltd v Petrie [2020] NZHC 749 at [69]. That was a decision under the common law, but the same principle applies under s 165: it goes to what a prudent businessman would decide.

8      Companies Act 1993, s 174(2)(b).

piecemeal. It offers remedies only for breaches of duty by Dr Vasanthan, but it will give Dr Vijayakumar nothing for his investment in the company, nor any payment of his shareholder’s account. It is surely more cost-efficient to deal with all matters together. More steps will be required to bring about a complete separation of interests. That can be done under s 174. Another possible advantage is that limitation questions are not so much a problem.9 Because that is a better remedy, I decline to give leave under s 165.

[31]   Costs follow the event. Dr Vasanthan had legal representation for part of this proceeding, but not at the hearing. He is entitled to costs for those steps where he was legally represented. As he is not a lawyer, he may be at a disadvantage in calculating costs. Provisionally, it appears to me that he is entitled to these matters, but there may be others:

Schedule 3 of the High Court Rules 2016

Step 2             Commencement of defence;

Step 10          Preparation for case management conference; Step 11  Memoranda for case management conferences Step 12  Appearances at mentions hearings;

Step 30          Preparation of affidavit.

[32]This is a category 2 proceeding for costs.

[33]   I trust that Mr Crossland and Dr Vasanthan will confer on costs to be calculated on a category 2 basis. If they are unable to agree costs, memoranda may be filed.

……………………………...

Associate Judge R M Bell

9      Alligators Fast Food Ltd v Chen [2018] NZHC 587 at [44]–[54].