Williams v Hill HC Auckland CIV 2010-404-505
[2010] NZHC 1455
•4 August 2010
IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY
CIV-2010-404-000505
BETWEEN TIMOTHY JOHN BRUNTON WILLIAMS
Plaintiff
ANDSTEPHEN ANTHONY HILL First Defendant
ANDRAJENDRA BHAI RANCHHOD Second Defendant
ANDMURRAY JOHN WILLIS Third Defendant
AND ANGELA MARIA BRICKNELL Fourth Defendant
Hearing: 26 and 27 July 2010
Appearances: D J Chisholm and J D Ryan for Plaintiff
A Barker for First Defendant
R B Stewart QC for Third Defendant
No appearance for Second and Fourth Defendants
Judgment: 4 August 2010 at 2:30 pm
JUDGMENT OF ASSOCIATE JUDGE BELL
This judgment was delivered by me on 4 August 2010 at 2:30 pm pursuant to Rule 11.5 of the High Court Rules. Registrar/Deputy Registrar
Date: ………………….
Solicitors/Counsel:
Claymore Partners Ltd, PO Box 1382, Shortland Street, Auckland
Davies Law, PO Box 15547, New Lynn, Auckland
Graham Jones, PO Box 42 275, Orakei
D J Chisholm, PO Box 2629, Shortland Street, Auckland
A Barker, PO Box 4338, Auckland
R B Stewart QC, PO Box 2302, Shortland Street, Auckland
T J B WILLIAMS V S HILL AND ORS HC AK CIV-2010-404-000505 4 August 2010
[1] In this proceeding, Timothy Williams seeks summary judgment against Stephen Hill and Murray Willis for $238,334.37 under indemnities given by them in a deed dated July 2003. Mr Williams’ claim is for a liability and costs he has incurred. On 18 December 2009, Mr Alan Towers obtained judgment in this Court against Mr Williams in the sum of $215,969.37 plus costs of $8,400, making a total of $224,429.37. Mr Williams incurred legal costs of $13,905 defending the proceeding taken against him.
[2] There are two other defendants to the proceeding, Rajendra Bhai Ranchhod and Angela Maria Bricknell. Mr Ranchhod has been adjudicated bankrupt. The plaintiff says that he has agreed to discontinue the proceeding against Angela Bricknell. The other parties did not oppose the discontinuance and accordingly leave is given to discontinue her.
[3] The proceeding arises out of the failure of GN Networks Ltd (In liquidation). Mr Hill and Mr Ranchhod were employees of Quantum Global, a direct marketing company. That company went into liquidation in early 2003. Mr Willis, a chartered accountant in public practice, had provided consultancy services to Quantum Global. Mr Ranchhod and Mr Hill were keen to establish a new direct marketing business similar to that of Quantum Global. GN Networks Ltd was established to carry on that business. Mr Ranchhod was its chief executive. Mr Hill was the chief financial officer. Mr Willis provided accounting and taxation advice to the company.
[4] At the outset, Messrs Hill, Ranchhod and Willis did not want their shareholding in GN Networks Ltd to be public knowledge. Arrangements were made for their shares to be held on trust for them. Mr Williams was the trustee. He agreed not only to hold shares on trust for the first three defendants, but also to be sole director of GN Networks Ltd. Originally, Mr Williams held 80 ordinary shares and 200 B class shares for Mr Hill, 80 ordinary shares and 200 B class shares for Mr Ranchhod, and 60 B class shares for Mr Willis. Over time, there were changes in shareholding with Mr Willis’s shares being reduced to 30 ordinary shares, Mr Ranchhod’s being increased by a further 241 B preference shares, and Mr Hill’s B preference shares being reduced to 105. At the outset, there were 1,370 shares in the company. By the time of its winding-up, there were 1,400 shares.
[5] Mr Williams signed a separate deed of declaration of trust for each of the shareholdings. The deed of declaration of trust for Stephen Hill says:
By this deed, I Timothy John Brunton Williams acknowledge and declare that:
1.Subject to a certain shareholders agreement entered into between GN Networks Ltd (“company”), McElwee Trustees Ltd, Reginald John Winter and me, intended to bear even date herewith; and
2.(in respect of the below ordinary shares) subject to you remaining an employee of, consultant to, the company beyond 28 February 2004;
I hold 200 ordinary and 80 class B preference shares in the capital of GN Networks Ltd (“Shares”) registered in my name in trust for you or your nominees and I undertake and agree to transfer, deal with or dispose of the Shares as you may from time to time direct.
To give full effect to the trust now declared I deposit with you a transfer executed by me in blank and I authorise you at any time to complete the transfer by inserting in it in the name of any transferee the consideration for and the date of such transfer and complete it in any necessary particular. I declare that this authority is irrevocable by me.
I further undertake and agree to account to you for all the dividends which may be paid to me from time to time upon the Shares and to exercise my voting power in respect of the shares in such manner as you may from time to time direct.
[6] The deeds of trust for Mr Willis and Mr Ranchhod are identical, save for the details as to the shares held.
[7] At the same time, the first three defendants plus Matthew Scofield signed a deed of indemnity in favour of Mr Williams. The relevant provisions of the deed are:
1. Trusteeship
1.1The Indemnifiers acknowledge that Williams has accepted office as a trustee at their request.
1.2 The indemnifiers hereby jointly and severally, personally indemnify
Williams for any loss or liability which he may sustain or incur in:
(a)executing or omitting to exercise any function, duty or power as trustee;
(b)purporting, in good faith, to exercise as trustee any function, duty or power which is not authorised or which may be a breach of trust;
unless such loss or liability is attributable to the fraud, dishonesty or to the wilful commission or omission by Williams or of an act known by Williams to be a breach of trust.
2. Directorship
2.1The Indemnifiers acknowledge that Williams has agreed to assume office as a director of GN Networks Ltd (“Company”) at their request.
2.2The Indemnifiers hereby jointly and severally, personally indemnify Williams for any loss or liability that he may sustain or incur in accepting the directorship or acting as a director of the Company or any related company unless such loss or liability is attributable to the fraud, dishonesty or to the wilful commission or omission by Williams of an act known by Williams to be in breach of the Companies Act 1993.
[8] In February 2006, Mr Williams resigned as the sale director of GN Networks
Ltd. Mr Ranchhod became sole director.
[9] In early 2006, GN Networks Ltd was experiencing cash flow difficulties and needed funds urgently to purchase stock. Mr Towers agreed to provide funds. The arrangement was recorded in an agreement dated 11 April 2006. It is called a memorandum of understanding. The parties to the memorandum are Mr Towers (AGT), Mr Williams (the Shareholder) and GN Networks Ltd (GNN). Relevant provisions are:
1.AGT agrees to loan moneys being $220,000 to GNN (“the Funds”) which will be used in part to fund a payment commitment made to Greenhouse USA. The parties acknowledge that AGT has previously advanced $30,000 to make total advances $250,000.
2. On receipt by GNN:
2.1 The funds will become a loan to the Shareholder (“the First Loan”);
2.2 The shareholder will advance the First Loan as a shareholder loan to
GNN interest free for a period of one year (“the Second Loan”);
2.3GNN will pay interest on the first loan at the rate of 10% per annum to be paid monthly to AGT;
2.4 AGT and the shareholder will enter into a separate agreement (“the
Option Agreement”) whereby AGT will have an option to purchase:
2% of the shares in GNN (“the Shares”) held by the Shareholder
(“the First Option”) with a further option to purchase a further 8%
percentage of the shares (“the Second Option”) within three months.
...
4.Should AGT decide to take up the Options, the Options shall be effected no later than three months following the date of the Option Agreement.
5.Should AGT decide not to take up the First Option, the First Loan will be repaid in full by the shareholder.
6. The parties acknowledge that the Shareholder holds the shares in
Trust on behalf of Rajendra Bhai Ranchhod. ...
[10] Mr Ranchhod signed the memorandum for GN Networks Ltd. Mr Hill witnessed his signature. Mr Williams and Mr Towers also signed. Mr Williams says that Mr Hill contacted him to sign the memorandum as a matter of urgency. Mr Willis says that he had no part in arranging the funding, or requesting Mr Williams to sign the memorandum. Mr Hill’s role will be discussed later.
[11] In 2007, the financial position of GN Networks Ltd and its subsidiaries was extremely serious. The National Bank made demand on GN Networks Ltd to repay funds. It held priority as secured creditor.
[12] An investor group associated with Mr Williams proposed a rescue package and this was implemented. The arrangements were complex. What follows gives an outline of features relevant for this case. Babbelbek Finance Ltd, a finance company of which Mr Williams is director, took an assignment of the National Bank’s debt, securities and guarantees for $1,105,482.10. Babbelbek agreed to make working capital available to GN Networks Ltd until 31 May 2008. GN Networks sold its business to Retail Distribution Ltd for $1.00. Mr Williams is a director of Retail Distribution Ltd. He is also beneficiary of a trust that holds at least a 25% shareholding in that company. GN Networks Ltd entered into agreements to sell its stock and intellectual property to Retail Distribution Ltd.
[13] GN Networks Ltd entered into a Management Services Agreement with Retail Distribution Ltd. Under this agreement GN Networks Ltd provided services to Retail Distribution Ltd: storage of stock; co-ordinating delivery of stock; co- ordinating sale of stock; liaising with suppliers of stock on orders; defects and returns; liaising with customers on sales; assisting in carrying out distribution
agreements; liaising with shipping companies and freight forwarders; maintaining books and accounts, and giving accounting and administration support. Under clause
4.2, Retail Distribution Ltd was to pay GN Networks Ltd a monthly fee equal to 80% of the gross margin for the relevant month, and a quarterly bonus. The gross margin and the bonus were to be calculated following formulae in Schedule B of the agreement.
[14] Clause 4.3 of this agreement provided:
RDL will only be required to make payment to GN under clause 4.2 if, at the time such payment is due to be made by RDL, the value of RDL’s Saleable Stock (valued at cost) plus the value of RDL’s debtors (less any relevant provision for bad or doubtful debts) is at least 1.75 times the amount of RDL’s liabilities (including debt) at such time. If this condition is not met RDL may, in its absolute discretion, withhold payment of the relevant invoice(s) until such time as this condition is satisfied. RDL will not be obliged to pay GN any late payment interest or penalties in respect of any period during which payment of any Fees or Bonus is withheld on account of the condition in this clause 4.3 not being satisfied.
[15] Clause 10 dealt with termination. Under clause 10.1(a) Retail Distribution Ltd or GN Networks Ltd could terminate at any time without reason by giving the other 30 days’ notice in writing.
[16] Mr Williams says that the benefits of the restructure to GN Networks Ltd were:
a) It avoided the appointment of a receiver by the bank; and
b)The management services agreement gave GN Networks a potential revenue stream, which would be tax-free because of considerable tax losses. In saying this he also states that there was no certainty that any fees or bonuses would be paid.
[17] He also says that revenue received by GN Networks Ltd would first be applied to meet running costs, secondly to secured creditors (Babbelbek Finance Ltd), thirdly to non-shareholder creditors and fourthly to repay advances made by shareholders.
[18] The operation of the management services agreement is in contention. Mr Hill maintains that under the agreement enough revenue ought to have been generated to clear all secured debt and to meet any liability for shareholders’ advances, including the advances sourced from Mr Towers. Mr Williams denies this. Mr Williams says that he gave notice terminating the agreement on 4 April
2008. Mr Hill says that the agreement kept running longer, at least until September
2008.
[19] On 18 November 2008, Babbelbek Finance Ltd made demand on GN Networks Ltd for $1,966,704. This comprised two debts, one of $631,290, being advances of $581,268.00 plus interest of $50,022 accrued to the end of October
2008, the other $1,335,414.00 for advances to Ambition Wholesalers Ltd (a subsidiary) of $1,127,514.00 plus interest of $207,900.00 accrued to the end of October 2008, for which GN Networks Ltd had guaranteed payment. GN Networks Ltd did not comply with the demand. On 20 November 2008, Babbelbek Finance Ltd appointed receivers.
[20] The receivers entered into an agreement with Retail Distribution Ltd under which they agreed to accept payment of the sum of $1,480,506. The receivers’ report of 2 April 2009 says:
A dispute over the amount actually owed in respect of this account receivable has been raised by the director of the Company. However in the interests of expediting the receivership, we came to an agreement with the debtor to collect sufficient funds from this asset to make a distribution to our appointer in respect of their secured claim against the Company, leaving any disputed portion to be argued by the Liquidator on our resignation. We understand a Liquidator has been appointed following an hearing in the High Court on 27 March 2009.
[21] The receivers accounted to Babbelbek Finance Ltd for the payment received from Retail Distribution Ltd and then brought the receivership to an end. Mr Williams says that despite the receivership, GN Networks Ltd’s debt to Babbelbek Finance Ltd has not been fully repaid – there is still $531,518 outstanding.
[22] As the receivers have recorded, GN Networks Ltd was ordered to be put into liquidation. The applicant was Mr Towers, claiming for unpaid interest under the memorandum of understanding. The Official Assignee is the liquidator. He has not
taken any proceeding against Retail Distribution Ltd to collect any further payments under the management services agreement.
[23] In February 2008, Mr Towers’ solicitors made demand on Mr Williams for the $220,000 lent under the memorandum of understanding. In May 2009, Mr Towers started his proceeding in this Court against Mr Williams – CIV-2009-404-
3191. That resulted in the judgment of 18 December 2009 against Mr Williams in favour of Mr Towers. There is no challenge to Mr Williams’ decision to defend the proceeding, his conduct of the defence, the entry of judgment, the fixing of costs or the amount of costs ($13,905) he incurred in defending the proceeding.
[24] In his judgment of 18 December 2009, Associate Judge Doogue held that Mr Williams had borrowed the funds in the memorandum of understanding from Mr Towers, even though Mr Towers had paid the funds directly to GN Networks Ltd. He rejected these defences of Mr Williams:
a) The option to purchase given to Mr Towers in the memorandum of understanding was not exercised and that relieved him of liability;
b)Estoppels said to arise from alleged representations by Mr Towers that GN Networks Ltd was liable to repay;
c) As a bare trustee, he was not personally liable; and
d)The memorandum of understanding should be rectified by adding a provision limiting Mr Williams’ liability to the assets of the shareholding trusts.
[25] Mr Williams paid Mr Towers the amount due under the judgment in two instalments on 18 and 19 January 2010. He began this proceeding in February 2010.
[26] Mr Williams’ claim for indemnity against Mr Hill and Mr Willis can be considered under these questions:
a) Does the claim come within the indemnifying words of the deed of indemnity?
b)If it does not, are there other matters that give him a claim for indemnity?
c) Is his claim excluded by the exception clause?
d) Does his claim fail for other reasons?
Does the claim come within the indemnifying words of the deed?
[27] Mr Williams was not a director of GN Networks Ltd when the memorandum of understanding was signed. Clause 2 of the deed of indemnity does not apply.
[28] Mr Williams’ argument for cover under clause 1 of the deed of indemnity is:
a) The liability for the loan to Mr Towers under the memorandum of understanding, and the liability under the judgment of December 2009 are both within the meaning of liability in clause 1.2;
b) The legal costs he paid are a loss within the meaning of loss in clause
1.2;
c) Mr Ranchhod and Mr Hill directed him to sign the memorandum of understanding;
d)Signing the memorandum of understanding was the exercise of a power as trustee under clause 1.2(a), because the memorandum of understanding provided an option to buy some of Mr Ranchhod’s shares, which was a matter within the trusteeship;
e) Even if signing the memorandum of understanding was not the exercise of a function, duty or power as a trustee, he had indemnity
under clause 1.2(b) because he purported to exercise a power in good faith as trustee, albeit it was not authorised; and
f) He was entitled to look to both Mr Hill and Mr Willis because the indemnity was joint and several. They were bound even though their shares were not the subject of the option in the memorandum of understanding.
[29] Mr Willis led the attack on this interpretation, with Mr Hill generally adopting his submissions. Mr Hill made separate submissions on his involvement in the signing of the memorandum of understanding. Mr Willis did not contest points (a), (b) and (c). On the remaining points:
d)Mr Willis focussed on the limited powers given under the trust deed – to transfer, deal with or dispose of shares as directed. As trustee Mr Williams had no other powers. He was holding the shares under a bare trust. The trust deed did not give Mr Williams any powers to borrow funds or to make shareholders’ advances to the company. The borrowing from Mr Towers was not authorised because it fell outside the trust deed;
e)The indemnity under clause 1.2(b) extended to matters within the scope of the trust deed, even though not authorised, but did not apply to matters that fell entirely outside the trust deed, such as taking loans from third parties; and
f) Jointly and severally ought to be read down, so that each beneficiary gave an indemnity only for matters affecting his shares.
[30] On (d), I accept the argument of Mr Willis. This was a bare trust. On this point the judgment of Randerson J in Burns v Steel [2006] 1 NZLR 559 (HC) [41]– [49] gives helpful guidance on the passive role of a bare trustee in holding property for the benefit and disposal of beneficiaries who are of full age and capacity, without any beneficial interest himself. The trustee has no duties to perform other than to
convey or transfer when required to do so. Here the only power given to Mr Williams under each deed of trust was to transfer, deal with or dispose of shares as directed. The trust deed did not give Mr Williams any power to borrow funds from third parties such as Mr Towers. Mr Williams cannot rely on clause 1.2(a) of the deed of indemnity.
[31] On (e), Mr Williams applies the rule of the excluded middle. All his actions are either authorised under the trust deed or they are not authorised. If they are not authorised, he still has cover under clause 1.2(b) because he was acting in good faith when he signed the memorandum of understanding. Here, logic must give way to common sense. It would be absurd for Mr Williams to enter into any transaction, no matter how removed it might be from his shareholding in GN Networks Ltd, claim that he did so as trustee, and then seek indemnity from the defendants for any liability he might incur. The proverbial officious bystander asking if the parties intended such a result would be quickly silenced with a strong, “Of course not”. Clause 1.2(b) is to be construed according to its purpose. That purpose is not to give Mr Williams unlimited indemnity for liability incurred on any transaction he might entire into, but indemnity for liabilities incurred under the trust, even though his actions may not have been authorised. Examples of liabilities that could arise from an unauthorised exercise of a function, power or duty within clause 1.2(b) would be transferring shares under a mistake as to a direction that has been given, transferring the wrong number of shares under a direction and transferring shares at a price different from that directed. The purpose of 1.2(b) does not require that cover be extended to liabilities incurred for transactions outside the scope of the trust deed. In answer to the excluded middle position, there are three categories: liabilities incurred on authorised transactions; liabilities incurred on transactions within the scope of the trust deed (transferring, dealing and disposing of shares) which are not authorised; and liabilities incurred outside the scope of the trust deed. The deed of indemnity gives cover for the first under clause 1.2(a), for the second under clause 1.2(b) when Mr Williams acts in good faith, but not for the third.
[32] In this case, the memorandum of understanding has elements within the scope of the trust deed, the option provisions, and elements outside, the borrowing from Mr Towers and advances of those funds to GN Networks Ltd. The indemnity
applies only to the elements within the scope. It does not apply to the liability incurred on borrowing, because that is not within the scope of the trust powers, even though Mr Williams acted in good faith. He cannot rely on clause 1.2(b).
[33] On (f), the joint and several indemnity means what it says. For better or worse, all three beneficial shareholders agreed to indemnify Mr Williams for liabilities he incurred, even if those liabilities did not have anything to do with their own shares. Their position is akin to co-sureties. It does not defy business common sense that they should give joint and several indemnities.
[34] On the basis of points (e) and (f), Mr Willis has an arguable case that the deed of indemnity does not require him to indemnify Mr Williams for his liability to Mr Towers under the memorandum of understanding, or under the 18 December judgment. Mr Williams did not rebut his evidence that he did not arrange the memorandum of understanding, request it or consent to Mr Williams signing it. Mr Williams did challenge Mr Willis’ evidence that he did not know about the memorandum of understanding, but, even if that were proved, knowledge of the arrangement does not make Mr Willis liable. Mr Williams has not shown that Mr Willis does not have a defence to his claim under the deed of indemnity. The application for summary judgment against Mr Willis is dismissed.
Are there other matters that give Mr Williams a claim for indemnity?
[35] The matter is otherwise with Mr Hill. The circumstances of the signing of the memorandum of understanding need to be considered. There is no dispute that until Mr Hill asked Mr Williams to sign the memorandum of understanding, Mr Williams did not know about the agreement with Mr Towers, and had had no part in arranging it. Mr Hill confirmed this in an affidavit he swore for Mr Williams in the proceeding brought by Mr Towers. Mr Hill does not take issue with Mr Williams’ evidence that Mr Hill asked him to sign the memorandum as a matter of urgency. The evidence is clear that Mr Hill was instrumental in having Mr Williams sign the memorandum.
[36] Mr Hill tries to downplay the significance of his role and his understanding of the transaction. He was chief financial officer of GN Networks Ltd. He had approached Mr Towers about providing funding. He had prepared a deed of agreement for Mr Towers to buy shares from Mr Williams. That draft did provide that Mr Williams was to advance the funds from the purchase to the company. Mr Hill referred the agreement to the company’s legal adviser who made some drafting changes. He sent this amended deed to Mr Towers on 6 April 2006. On 7 April 2006 he received the memorandum of understanding. He says that Mr Towers had prepared it and it had been negotiated between Mr Ranchhod and Mr Towers. He says that he did not review the document in as much detail as he should have. It was his understanding that the company was to be responsible for repaying Mr Towers. Because of clause 6 he says that Mr Williams signed the memorandum as trustee of Mr Ranchhod’s shares, not as trustee of Mr Hill’s shares.
[37] In considering Mr Hill’s role, a convenient starting point is the law as to trustees’ liabilities when beneficiaries have concurred in the transaction giving rise to the liability.
[38] Section 74(1) of the Trustee Act 1956 says:
Power to make beneficiary indemnify for breach of trust
Where a trustee commits a breach of trust at the instigation or request or with the consent in writing of a beneficiary, the Court may, if it thinks fit, and notwithstanding that the beneficiary may be a married woman restrained from anticipation, make such order as to the Court seems just for impounding all or any part of the interest of the beneficiary in the trust estate by way of indemnity to the trustee or persons claiming through him.
This power of impoundment would be useful if the shares in GN Networks Ltd had any value, but clearly they do not.
[39] There are other relevant rules of equity, which have not been affected by s 74
– see Fletcher v Collis [1905] 2 Ch 24 (CA) per Romer LJ at 34-35. One of them is that a beneficiary cannot make a trustee liable for losses occasioned to him by a breach of trust which the beneficiary authorised and consented to – see Fletcher v Collis and Chillingworth v Chambers [1896] 1 Ch 685 (CA) per A L Smith LJ at
707. That rule allows a trustee to raise a defence to a beneficiary’s claim for losses
from a breach of trust where the beneficiary instigated the breach. The present case is different. The issue here is whether the trustee can claim against the beneficiary personally for losses and liabilities the trustee has incurred as a result of a transaction entered into outside the scope of the trust, but authorised by the beneficiary.
[40] An authority on the point is Hardoon v Belilios [1901] AC 118 (PC). Giving the advice of the Judicial Committee, Lord Lindley said at 124:
But where the only cestui que trust is a person sui juris, the right of the trustee to indemnity by him against liabilities incurred by the trustee by his retention of the trust property has never been limited to the trust property; it extends further, and imposes upon the cestui que trust a personal obligation enforceable in equity to indemnify his trustee. This is no new principle, but is as old as trusts themselves.
[41] One of the cases cited by Lord Lindley is Balsh v Hyham (1728) 2 P Wms
453, litigation arising out of the South Sea Bubble crash. A trustee held shares in the South Sea Company on trust. The beneficiary requested the trustee to take out a loan of £4,000 on security of the shares. After the crash, legislation was enacted discharging such debts if the borrower repaid ten per cent of the loan. The trustee paid despite the objections of the beneficiary. The trustee was successful in his proceeding against the beneficiary to recover the payment.
[42] In Hardoon v Belilios Lord Lindley said at 125:
Where, as in Balsh v Hyham, a trustee seeks indemnity in respect of transactions in which he need not have engaged and which were not within the scope of his trust, he must prove that his cestui que trust either authorised or ratified such transactions.
[43] In cases of beneficiary authorisation, it is no answer for the beneficiary to claim that that they did not understand the effect of the transaction. Re Deane, Bridger v Deane (1889) 42 Ch D 9 (CA) is a case of a beneficiary’s interest under a trust being impounded at equity for having concurred in a breach of trust, despite protestations that the beneficiary had acted in good faith and had done the best thing for the family.
[44] A beneficiary does not request or authorise a transaction by a trustee simply because the beneficiary knows about it. That is why Mr Williams’ suggestion that
Mr Willis would have known about the memorandum of understanding is not relevant, even if it were proved.
[45] There remains Mr Hill’s point that Mr Williams signed as trustee for Mr Ranchhod, not as his trustee. The joint and several indemnity is relevant. Mr Hill is one of those who gave Mr Williams the joint and several indemnity. Mr Hill’s demand for Mr Williams to sign the memorandum came from a person who had promised to indemnify Mr Williams for any liabilities he might incur in acting as trustee for the other beneficiaries, including Mr Ranchhod. It would be inequitable and unconscionable for Mr Hill to avoid liability under his indemnity after having requested Mr Williams to incur the liability to Mr Towers.
[46] From the above, Mr Williams is entitled to recover from Mr Hill for his liability and loss under the judgment in favour of Mr Towers, because he expressly requested Mr Williams to enter into the memorandum of understanding. It is no defence for Mr Hill that he did not understand the effect of the document he asked Mr Williams to sign, or that the memorandum of understanding was for Mr Ranchhod’s shares rather than his own.
Is Mr Williams’ claim excluded by the exception clause?
[47] The words of exclusion are:
Unless such loss or liability is attributable to the fraud, dishonesty or to the wilful commission or omission by Williams or of an act known by Williams to be a breach of trust.
[48] For Mr Willis, it was argued, by reference to the affidavits Mr Williams had sworn in the Towers proceeding, that as Mr Williams did not understand the effect of the memorandum of understanding (he was maintaining that he had no personal liability), then he must have been reckless as to what he was signing, and that recklessness amounted to fraud. The submission was far-fetched and without foundation.
[49] For Mr Hill, Smith v South Wales Switchgear Ltd [1978] 1 All ER 18 (HL)
was cited for the proposition that unless an indemnity clause expressly provided for
indemnity for liability arising out of negligence, then an indemnity clause would not be interpreted as giving the party seeking indemnity cover where the liability had arisen from that party’s negligence. That case is quite different from this one. It arose out of an industrial accident where the owner/occupier of industrial premises had a standard form contract with its contractors containing an indemnity. An employee of a contractor was injured as a result of the owner’s negligence. The House of Lords applied a contra proferentem approach to the interpretation of the indemnity clause.
[50] Here the exclusion is in terms commonly found in trust deeds. It is standard drafting practice to exclude a trustee’s right of indemnity only in cases of fraud or similar serious misconduct. This is in line with s 38 of the Trustee Act, which excludes a trustee’s right of indemnity only in cases of wilful default. If it were intended that a trustee would not have a right of indemnity for a liability arising from his negligence, express provision would be necessary. In this case it is clear that conduct falling short of fraud, dishonesty, wilful commission or omission and knowing breach of trust is covered by the indemnity, even if it is negligent.
[51] There is nothing in the evidence that could give grounds for arguing that Mr Williams’ conduct in signing the memorandum of understanding fell within the words of exception.
[52] Mr Hill developed another line of defence. He says that Mr Williams incurred the liability as a result of his own actions at a later stage. He claims that under the rescue package, when Retail Distribution Ltd took over the business of GN Networks Ltd, Mr Williams controlled matters in such a way that GN Networks Ltd was starved of funds so that it was never in a position to repay shareholders’ advances, including those made by Mr Williams under the memorandum of understanding. This is alleged to be wrongdoing by Mr Williams that disqualifies him from recovering under the indemnity.
[53] The argument was initially based on the principle under the law of guarantees that a creditor may not recover from a surety if he has prejudiced the position of the surety. For this principle to apply, the creditor must positively connive at or cause
the default by the debtor. The authorities are reviewed in Westpac Securities Ltd v Dickie [1991] 1 NZLR 657 (CA) at 663-664. This case is not about guarantees, but about a contract of indemnity. A guarantee is a contract of secondary liability – the surety answers for another person’s performance of his or her obligations. An indemnity is a contract of primary liability – the indemnifier answers immediately. Importing principles from the law of guarantees into indemnity issues may skew the law as to indemnities. Here the parties have set out in their deed when actions by the trustee disqualify him from cover under the indemnity. Mr Hill’s argument is better considered as arising under the exclusion.
[54] Mr Hill’s case is that under the rescue package, payments from GN Networks Ltd were to be applied, first, to Babbelbek, then to non-shareholding investors, and finally, to shareholding investors. Mr Towers was in the second group and would be paid once the liabilities to Babbelbek had been discharged. From the time of the Retail Distribution Ltd transaction, Mr Williams effectively took control of GN Networks Ltd. In particular, he took control of all accounts and expenditure. In addition, he also had control of Retail Distribution Ltd as director. He ensured that no payments were made under the management services agreement during its term. While Mr Williams says that he gave notice terminating the management services agreement on 4 April 2008, in fact it ran on longer, at least until September 2008.
[55] The receivership in November 2008 is criticised as pro forma. It is said that the receivers accepted information provided by Babbelbek and made no independent verification of it.
[56] Mr Hill adopts calculations by Mr Ranchhod that the management fee that Retail Distribution Ltd should have paid GN Networks Ltd was approximately $3.9 million. If that had been paid, there would have been enough money to repay not only Babbelbek Finance Ltd, but there would also have been funds left over to pay the Towers’ debt.
[57] There is contested evidence about the operation of the rescue package and the management services agreement. Some of the matters cannot be resolved on a summary judgment application:
a) the extent of Mr Williams’ alleged control of GN Networks Ltd: Mr Hill says that he was a shadow director, Mr Williams admits to controlling accounts and expenditure;
b)when the management services agreement came to an end: Mr Williams says he gave notice on 4 April 2008, but there is also evidence showing that it ran on longer; and
c) alleged tax advantages arising from the operation of the rescue package.
[58] Mr Williams effectively discredited Mr Ranchhod’s calculations by showing that Mr Ranchhod had not applied the formula under schedule B of the management services agreement. Mr Ranchhod had not applied deductions required under the schedule. Mr Ranchhod’s evidence on this aspect is rejected.
[59] The inescapable fact is the continuing insolvency of Retail Distribution Ltd and GN Networks Ltd. In May 2007, GN Networks Ltd was hopelessly insolvent. A schedule of accounts payable at 30 May 2007 shows total unpaid trade creditors of
$1,858,381.56, of which $1,035,602.71 was more than six months’ old. A consolidated balance sheet for the GN Networks Group at 30 April 2007, prepared for the board, showed total current liabilities of $3,328,428 and total current assets of
$1,494,328. The total equity was negative -$1,357,675. GN Networks Ltd and its subsidiaries were in default under the funding and security arrangements with the National Bank which was threatening to exercise its powers under its securities.
[60] At that time, there was no prospect of GN Networks Ltd being able to repay the funds advanced under the memorandum of understanding. Mr Hill confirmed this when he wrote to Mr Towers on 30 May 2007 explaining the rescue package and said:
I need to reiterate that in the time available we have not been able to find an alternative to this package and without it, and the subsequent action by the Bank, the creditors would be unlikely to receive anything. Although this will bring you no comfort, I do believe this is the only viable option available to at least allow the company the chance to repay its loans.
[61] After May 2007 there was no improvement. Certainly there was no improvement to the stage where enough funds were generated to clear GN Networks’ liabilities to its secured creditor and leave a surplus to pay other creditors.
[62] The financial statements of Retail Distribution Ltd for the year ended 31
March 2008 show that it made an operating loss for taxation purposes of $1,336,553. The only non-cash item, depreciation, was $27,365. The expenditure included an item for $1,701,857, a management fee payable to GN Networks Ltd.
[63] There is also a schedule showing management fees invoiced to Retail Distribution Ltd from June 2007 to May 2008, amounting to $1,421,551, exclusive of GST. Mr Williams explains the difference between the figures for management fees as arising because bonus payments under clause 4.1(b) of the management services agreement for the quarters ending December 2007 and March 2008, were not invoiced until January 2009. For present purposes, the difference is not material. Under either, Retail Distribution Ltd had made a significant trading loss.
[64] I put to one side Mr Williams’ claims that in calculating the management fee payable to GN Networks Ltd, Retail Distribution Ltd did not apply the management services agreement strictly. He says that not all claimable costs in schedule B of the management services agreement were applied and clause 4.3 was not applied to withhold payment. For present purposes, the details of contractual provisions between Retail Distribution Ltd and GN Networks Ltd as to the apportionment of earnings between them do not matter much. What counts is that from May 2007 not enough revenue was generated from the combined businesses of Retail Distribution Ltd and GN Networks Ltd to cover on-going costs and also to pay off Babbelbek.
[65] As noted earlier, whether Retail Distribution Ltd effectively terminated the management services agreement under its letter of 4 April 2008 is in contention and cannot be resolved in this application. Retail Distribution Ltd’s management accounts show that from April 2008 to November 2008, it made a trading loss of
$750,837. These accounts were prepared on the basis that no management fee was payable, based on Mr Williams’ position that the management services agreement had been terminated.
[66] The accounts also show a notional calculation of the management fee if the management services agreement had not been terminated. The calculation shows no management fee payable.
[67] The figures as to the trading performance of Retail Distribution Ltd from May 2007 to GN Networks Ltd being put in receivership belie any suggestion that funds were held back by Retail Distribution Ltd to benefit that company at the expense of GN Networks Ltd.
[68] When the receivers were appointed, GN Networks Ltd owed Babbelbek Finance Ltd $1,966,704. The payment of management fees of $1,480,506 by Retail Distribution Ltd was not enough to clear this secured debt.
[69] It is clear that at no stage after May 2007 did GN Networks Ltd have sufficient funds to pay its secured creditor, let alone unsecured investors such as Mr Towers. The suggestion that higher management fees should have been paid becomes implausible when it is seen that that would only have increased the losses of Retail Distribution Ltd.
[70] Accordingly, from 30 May 2007, when the rescue package started and the management services agreement began, to the appointment of receivers on 20
November 2008, not enough funds were generated from the trading activities of Retail Distribution Ltd for GN Networks Ltd to pay its secured creditor let alone its unsecured creditors. The receivership did not yield enough funds to satisfy the secured creditor.
[71] The absence of any action taken by the liquidator against Retail Distribution Ltd, or against Mr Williams personally points in the same direction: there are no funds available to pay unsecured creditors.
[72] The liability to Mr Towers under the memorandum of understanding might have been satisfied if GN Networks Ltd had had the funds to repay the advance made in April 2006. But the continuing insolvency after May 2007 puts paid to any
hope of repayment by the company. It also puts paid to Mr Hill’s reliance on the words of exclusion in the deed of indemnity.
[73] Mr Hill’s defence under the words of exclusion in the deed of indemnity fails, because the plaintiff has proved that the liability to Mr Towers was inescapable. The rescue package, the only option apparently available to GN Networks Ltd, did not succeed in raising funds to pay Mr Towers before he issued his proceeding against Mr Williams. The suggestion that funds could have been found to pay Mr Towers is simply wishful thinking.
Does Mr Williams’ claim fail for other reasons?
[74] Mr Hill raises two set-off arguments.
[75] The first set-off argument is based on equitable set-off for an unliquidated claim under the principle in Grant v NZMC Ltd [1989] 1 NZLR 8 (CA) at 12. Mr Hill says that he can set-off against any claim by Mr Williams under the indemnity, any claim that GN Networks Ltd might have against Mr Williams. The alleged claim of GN Networks Ltd is that Mr Williams was a shadow director of GN Networks Ltd during the rescue package phase because his control of the company brought him within the definition of director, under s 126(1)(b)(i) and (ii) of the Companies Act 1993. Mr Williams is said to have breached his duties as a director in not using the care, diligence and skill of a reasonable director and not acting in the best interests of GN Networks Ltd – breaches of ss 131 and 136.
[76] The difficulty with this alleged equitable set-off claim is that there must be identity of parties. Here it is necessary to refer to Hamilton Ice Arena Ltd v Perry Developments Ltd [2002] 1 NZLR 309 (CA). At [8], the Court of Appeal said:
Neither party referred to the title Set-off and Counterclaim in 42 Halsbury's Laws of England 4th ed, 1983. There at para 435 the authors say that, subject to stated exceptions, none of which apply in the present case:
“a set-off may only be maintained where the claims to be set off against each other exist between the same parties and in the same right.”
What Halsbury says was certainly the position at common law under the statutes of set-off as noted in footnote 2 to para 435. The cases there cited also support the view that the position is the same with equitable set-off. The need for identity of parties is also consistent with the proposition that the cross-claim is regarded in equity has fully or pro tanto extinguishing the plaintiff's right to judgment on the claim. The concept of extinguishment is difficult if the cross-claim is made by a different party.
[77] At [9] the Court went on to say:
... While we would not wish to rule out the possibility that in some unusual circumstance it might be appropriate to allow equitable set-off where there is no identity of parties, any such circumstance (other than one justifying the lifting of the corporate veil) would have to be consistent with the extinguishment rationale.
[78] Cases cited to allow a defence of equitable set-off at the summary judgment stage where there was not identity of parties were: Bill Miller Logging Ltd v B T Wood Ltd HC Nelson CIV-2009-442-213, 22 July 2009; Le Fleming v Awataieri Holdings Ltd HC Dunedin CIV-2009-412-848, 19 March 2010, Georgiou v Morton HC Christchurch AP4/02, 26 March 2002.
[79] The defendants are over-optimistic in relying on the Court of Appeal’s dicta in paragraph [9] of Hamilton Ice Arena. Once a plaintiff has established a prima facie case in a summary judgment application, if a defendant wishes to claim that there are unusual circumstances making it appropriate to allow equitable set-off despite no identity of parties, then there is an initial onus on the defendant to show some plausible basis to claim unusual circumstances where equitable set-off might be arguable, despite the lack of identity.
[80] In this case, there is no basis for not applying the normal approach as set out in [8] of Hamilton Ice Arena. Mr Hill gave an indemnity. It is no answer to the claim made on him under the indemnity that someone else, not connected with him, a company in liquidation, might have some other claim against Mr Williams. I see no reason in this case not to apply the normal approach of requiring identity of parties.
[81] The other set-off argument is a claim of legal set-off under s 310 of the
Companies Act 1993. Mr Hill’s submission was that, under the memorandum of
understanding, Mr Williams had a claim against GN Networks Ltd for repayment of the shareholders’ advance. Conversely, GN Networks Ltd had a claim against Mr Williams for breaches of his duty as a shadow director. Because any claim by GN Networks Ltd for breaches of his director’s duties would extinguish Mr Williams’ claim as a creditor of the company, it is argued that Mr Williams had accordingly suffered no loss because the debt he was seeking to recover under the indemnity had been paid by the set-off.
[82] This argument is misconceived. The liability for which Mr Williams is seeking indemnity is the liability to Mr Towers under the memorandum of understanding and under the 18 December judgment. Mr Williams is out of pocket because he has had to meet that liability. The contract of indemnity does not cover the loss arising from GN Networks Ltd’s failure to repay the shareholders’ advance. The shareholders’ advance repayable by GN Networks Ltd was to provide the funds to meet the debt to Mr Towers and to bring any liability to him to an end. The failure of the company to repay resulted in the liability to Mr Towers being enforced. But it is no answer to Mr Williams’ claim under the indemnity that GN Networks Ltd might have some claim against him to prevent him proving in the liquidation for the unpaid shareholders’ advances.
[83] Accordingly, the plaintiff has established that Mr Hill does not have a defence to his claim.
[84] I make the following orders:
a) The plaintiff recovers judgment against the first defendant in the sum of $238,334.37 plus $10,860.21 for interest on that sum from
19 January 2010 to 4 August 2010 at 8.4% p.a. plus costs on a 2B
scale and disbursements approved by the Registrar.
b)The application for summary judgment against Mr Willis is dismissed. Mr Willis is to file a statement of defence within 10 working days of the date of this decision. The Registrar is to allocate a first case management conference.
c) Costs on the summary judgment application against Mr Willis are reserved.
d)The plaintiff’s claim against the fourth defendant is discontinued without any order as to costs.
R M Bell
Associate Judge
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