Wakapua Farms Limited v Taylor HC Palmerston North CIV-2011-454-272 [2011] NZHC 1177 (30 September 2011)

Last Updated: 21 October 2011

IN THE HIGH COURT OF NEW ZEALAND PALMERSTON NORTH REGISTRY

_{CIV-2011-454-272}

BETWEEN WAKAPUA FARMS LIMITED Appellant

AND MOOREA MARGARET TAYLOR, RAYMOND JOHN TAYLOR, MALCOLM LINDSAY PHILLIPS AND ANDREW THOMAS HAMID WHO TOGETHER TRADED AS A PARTNERSHIP UNDER THE NAME WAKAPUA FARM PARTNERSHIP

Respondents/Cross-Appellants

Hearing: 30 August 2011 (Heard at Wanganui)

Appearances: D Parker for the appellant

J Reardon for the respondent

Judgment: 30 September 2011

_{JUDGMENT OF CLIFFORD J}

[1] 2001 was a year of considerable change for the dairy industry in New Zealand. The two largest co-operatives, Kiwi Co-operative Dairies Limited (“Kiwi”) and the New Zealand Co-operative Dairy Company Limited (“New Zealand Dairy”) proposed and implemented a merger which brought Fonterra Limited (“Fonterra”) into existence. Partway through that merger process the respondents and cross- appellants, Wakapua Farm Partnership (“the Partnership”), a Kiwi supplier, put its farm on the market for sale by auction. The appellant, Wakapua Farms Limited (“WF Ltd”), was the successful bidder.

[2] Pursuant to agreed auction terms, WF Ltd was given an option to buy the

Partnership’s shares in Kiwi, or its shares in Fonterra if the merger had been

_{completed by the time settlement occurred. A dispute subsequently arose between}

WAKAPUA FARMS LIMITED V TAYLOR AND OTHERS HC PMN CIV-2011-454-272 30 September 2011

WF Ltd and the Partnership as to the price to be paid for those shares and whether, for the payment of that price, the Partnership was also obliged to transfer to WF Ltd a capital instrument, known as peak notes, which Fonterra issued to the Partnership in partial exchange for its Kiwi shares when the merger was effected.

[3] WF Ltd eventually sued the Partnership in the District Court claiming contract damages of $58,350, the value of the peak notes which the Partnership had not transferred to it. The District Court dismissed WF Ltd’s claim. WF Ltd now appeals, and the Partnership cross-appeals, against that decision.

Background

The formation of the Contract

[4] Early in 2001 the Partnership decided to sell its dairy farm near Otaki. The sale was to be by way of an auction to take place on 7 June 2001. Possession date was 1 June 2002. 1 June is – I understand – the usual date on which dairy farms and herds change hands throughout New Zealand. The Partnership decided to only sell by auction its land, buildings and certain domestic and farming chattels. The Partnership’s dairy herd, and Kiwi shares, were not to be auctioned. At the same time, the particulars and conditions of sale provided an option for the successful bidder to buy the herd and those shares on the following terms:

23.0 The successful purchaser of the herein described property will have the first right to purchase the vendors Dairy Herd at a value acceptable to the vendor. The purchaser shall have the further first right to purchase the Kiwi Co-Operative Dairy shares at the market value as at 1st June 2002. Both options will be for 7 days following the date of the signed Auction agreement and settlement for the shares and the Dairy Herd shall be made along with the property settlement.

[5] Reflecting the possible merger transaction, a further term provided:

24.0 Provided that the Dairy Company shares are to be bought by the purchaser then in the event that Kiwi Co-Operative Dairies Ltd merges with another Dairy Company, prior to the possession date, then the vendors warrant to transfer their shares, in the newly merged Dairy Company equating to the supply shares currently held by the vendor to the purchaser on possession date.

[6] WF Ltd, through a director, Mr Agar, expressed an interest in purchasing the Partnership’s land. Mr Agar was interested because the Partnership’s farm neighboured an existing farm he already owned which supplied Kiwi.

[7] On 20 May 2001, Harcourts faxed Mr Agar various information relating to the auction, including details of the Partnership’s shareholding in Kiwi. Those details were set out in Kiwi’s notice of share issue for the Partnership for the

1999/2000 season – dated 7 June 2000 – which was included in the fax. That letter recorded that the Partnership had supplied some 59,384 kgs of milk solids to Kiwi during that season. On the basis, as also recorded in that letter, of Kiwi’s share standard of two $1 shares for every one kilogram of milk solids (“kgms”) supplied, the Partnership was required to hold some 118,767 ordinary Kiwi shares on and as

from 1 June 2000 together with some 13,440 “reserve” shares.[1]

[8] On 31 May 2001, Harcourts, conducting the sale on behalf of the

Partnership, faxed to Mr Agar a copy of the particulars and conditions. On 6 June

2001, Mr Agar responded saying:

Further to our visit and various correspondence we advise that the writer is considering attending the forthcoming auction on behalf of a client company.

Should the writer’s client company be successful at the auction the following conditions would need to be included as a separate agreement between your vendor and our client company, and where there is a discrepancy with the conditions of sale faxed by yourself, then the following are to have authority:

...

8.0 Clause 23.0

...

The market value of shares in Kiwi Cooperative Dairies Limited to have an agreed value of $4 per share.

_{9.0 Clause 24.0}

The clause to specify all shares currently held by vendor and any other share or bonus shares issued by Kiwi or any future merged company to the vendor.

[9] On the morning of the auction Harcourts faxed to Mr Agar’s office the Partnership’s response to his letter of 6 June, including its acceptance of the changes to clauses 23.0 and 24.0. WF Ltd was the successful bidder. Therefore the particulars and conditions of sale, together with copies of the correspondence recording the variations agreed to prior to the auction, were signed by WF Ltd and the Partnership on 7 June 2001 to record their contract (“the Contract”).

WF Ltd exercises the option

[10] On 13 June 2001, Mr Agar wrote to Harcourts to exercise WF Ltd’s option to purchase the Partnership’s herd and Kiwi shares.

[11] In exercising WF Ltd’s rights to purchase the Kiwi shares, Mr Agar wrote:

5.0 The purchaser wishes to exercise its rights to purchase all dairy company shares owned by the vendor in Kiwi or any merged company as at settlement date at the agreed value of $4 per share with one share being equivalent to 1 kg milksolids produced by the vendor in the season ending 31 May 2002.

[12] In a letter dated 14 June 2001, the Partnership’s then solicitor, Mr McLaren,

replied:

...

3 Clause 5 is acceptable provided that the peak notes entitlement value shall be in addition to the agreed value of $4.00 per share.

[13] The next day Mr McLaren wrote to Mr Agar in the following terms:

Dear Rod

RE: PURCHASE TAYLOR PHILLIPS FARM TAYLOR ROAD, OTAKI

Further to our letter dated 14 June 2001, we would like to clarify a matter concerning the Peak Notes entitlement mentioned in our letter. That is to say of course, entitlement cost arises only in the event of the proposed merger of the Kiwi and New Zealand Dairy Group dairy companies.

Yours faithfully

McLARENS LAW OFFICES

[14] The exchange of correspondence between Mr Agar and Mr McLaren in June

2001 therefore reflects the two issues of interpretation of the Contract involved in the dispute that arose. That is:

(a) Did WF Ltd agree to pay $4 for each of the $1 shares the Partnership held in Kiwi, as Mr Agar had appeared to stipulate, or was the price of $4 per share agreed on the basis that one share was the equivalent of one kgms supplied by the Partnership in the season ended 31 May

2001?

(b) Were the peak notes to be transferred with the relevant shares for no additional consideration, or were they to be paid for separately? There is no reference to peak notes in the Contract. Peak notes are not shares, but debt securities.

[15] As matters transpired, the proposed merger did occur, coming into effect on

16 October 2001. On that day the Partnership’s shares in Kiwi were surrendered in exchange for 63,524 shares in Fonterra and 1,218 peak notes issued by Fonterra. That reflected the Partnership’s supply of 63,524 kgms to Kiwi during the then most recent, 2000/2001, season as had been advised to the Partnership by Kiwi in a letter dated 10 June 2001, just three days after the auction.

[16] Notwithstanding extensive correspondence between the parties and their lawyers, the question of the payment of the “peak notes entitlement value”, as it has been referred to in Mr McLaren’s letter of 14 June 2001, had not been resolved by the time of the settlement on 31 May 2002.

[17] Settlement, in fact, occurred on the following basis.

(a) “As agreed” – the term used in the settlement statement the Partnership’s solicitors sent to WF Ltd’s solicitors – the Fonterra shares were transferred at a price of $4 each, equivalent to $4 for every one kgms supplied represented by those shares.

(b) The peak notes were not transferred, and WF Ltd and the Partnership reserved their positions as to whether or not the Partnership was entitled to an additional payment for the peak notes.

WF Ltd sues the Partnership

[18] After settlement, the parties explored the possibility of arbitration as a way of resolving their dispute over payment for the peak notes. That arbitration never occurred. Finally, and following a long period when the matter would appear to have lain dormant and during which the Partnership sold the peak notes, in May 2008

WF Ltd commenced proceedings in the District Court against the Partnership for breach of contract. WF Ltd sought damages of $58,350.00, being the value of the Fonterra peak notes it said the Partnership had been obliged to transfer to it on settlement but had not.

[19] In a first statement of defence, filed on 2 June 2008, the Partnership generally asserted that the Contract did not provide for the peak notes to be transferred along with the shares. Accordingly WF Ltd was not entitled to breach of contract damages. In an amended statement of defence filed on 3 October the Partnership went beyond a simple denial of WF Ltd’s claim and asserted, in something akin to a positive defence, that the exchange of correspondence on 13 and 14 June constituted a variation of the Contract. As pleaded, the effect of that variation, which the Partnership said WF Ltd had accepted by conduct, was that the shares were to be transferred by the Partnership on the basis of $4 per kgms supplied represented by the shares, rather than $4 per Kiwi share stipulated, and at the same time WF Ltd would pay separately for the peak notes at $30 per peak note.

[20] WF Ltd never responded to that amended statement of defence. It would

appear that WF Ltd’s solicitors did not receive a copy. Therefore, the “variation”

argument came as something of a surprise at the hearing in the District Court. On appeal, Mr Parker did not suggest, however, that that was a separate ground to challenge the District Court’s decision.

The District Court decision

[21] In the District Court the Judge identified the two issues in the case as being: (a) Were the peak notes included in the price to be paid by the plaintiff

for the Kiwi shares or the merged dairy company shares? (b) What was the agreed price for the sale of the shares?

[22] On the first issue, the Judge reasoned:

(a) When the Kiwi shares were converted into an interest in Fonterra, the value of the Kiwi shares was split into Fonterra shares and peak notes. Therefore, to deny that the peak notes should be transferred to the plaintiff was to say that WF Ltd was not to obtain the full value of the Kiwi shares it had contracted to buy.

(b) Moreover, it was established in evidence that in order for a supplier to be able to supply milk solids to Fonterra, it had to own the appropriate number of shares and peak notes in Fonterra.

(c) The apparent intention of WF Ltd in modifying clause 24 was to ensure that whatever the Kiwi shares became after merger, WF Ltd would have supply rights in place for the farm’s production. Therefore, notwithstanding what he recognised as the difficulty in reaching this conclusion given the wording in clause 24, the Judge concluded that there was sufficient evidence to indicate that the parties’ intention was that whatever the Kiwi shares had become at the time of settlement, they would all be transferred to the plaintiff at $4 per Kiwi share.

[23] On the second issue, the Judge first noted the different positions of the parties:

(a) WF Ltd argued that it was understood by both parties that the $4 per share price in the Contract related to one share per kilogram of milk solids.

(b) The Partnership denied this, and characterised Mr Agar’s letter of

13 June as a variation to the Contract, which the Partnership had accepted on the basis that the peak notes entitlement value would be in addition to the agreed value of $4 per share.

[24] The Judge concluded that neither party was correct. Rather, the position was that the Contract, and clause 23 in particular, meant that WF Ltd was obliged to pay the Partnership $4 per Kiwi share at settlement. The fact that that was twice the market value was not something the Partnership was required to look behind. At the same time, there had been no variation to the Contract after the auction. There had been offer and counter-offer, but no acceptance. Therefore, in the Judge’s words:

The parties are then left in the position that the original contract that was entered into is still in place. That is to say, the plaintiff was obliged contractually to pay $4.00 per Kiwi share, and upon payment the peak notes would also be transferred to the plaintiff.

[25] The Judge then referred to the basis upon which the transaction had been settled, and concluded:

The final outcome of this case is that:

(a) The defendants were contractually bound to transfer to the plaintiff the peak notes on settlement.

(b) The plaintiffs were contractually bound to pay $4 per Kiwi share or its equivalent in Fonterra.

The practical effect is that for the plaintiff to rely on the contract to obtain

$58,350 from the defendant in compensation for the peak notes the plaintiff did not receive on settlement, the plaintiff would first have to pay the full

contractual price for the equivalent Kiwi shares, an additional $254,096.

The plaintiff is attempting to rely on one part of the contract without fulfilling its own obligations under the same contract. The defendants

settled this contract on a basis that gave a net advantage to the plaintiff of

$195,746. The plaintiff’s claim therefore fails.

[26] The difficulty with this explanation of the outcome of the case is that the Judge does not appear to have taken account of the fact that, as settled, the plaintiffs were not “contractually bound to pay $4 per Kiwi share or its equivalent in Fonterra”. Rather, the parties settled the Contract on the agreed basis of $4 per Fonterra share, being equivalent to $4 per kilogram of milk solids supplied. Irrespective of what the Contract had originally stipulated, that was their agreement. Whether or not the defendants were liable to the plaintiffs for damages of $58,350 depends on the separate question of whether the Contract called for the transfer of the peak notes for no separate or additional consideration from the consideration – whatever it was – to be paid in terms of clauses 23 and 24 for the Partnership’s Kiwi shares or for the shares held by the Partnership in Fonterra. Given the express reservation of rights as regards that question, the terms upon which the parties settled the transaction as regards the price for the transfer of the Fonterra shares cannot be determinative of that interpretational dispute.

The case on appeal

[27] WF Ltd argued that the Judge had failed to apply relevant contractual interpretation principles, especially as set out by the Supreme Court in Vector Gas Ltd v Bay of Plenty Energy Ltd.[2] When the “factual matrix” was properly considered, the correct interpretation of the Contract was that the Partnership had agreed to sell the Fonterra shares and the peak notes on the basis of $4 for every one kilogram of milk solids supplied. The Judge had correctly interpreted the Contract as regards the Partnership’s obligation to transfer the peak notes together with the Fonterra shares. He had, however, been wrong to construe Mr Agar’s letter, on the issue of price, as a counteroffer. Rather, the Contract properly interpreted provided

for the $4 per share price on the basis Mr Agar had stipulated in his letter of 13 June

2001. That letter interpreted the Contract correctly. Thus, WF Ltd’s appeal should

_{be allowed.}

[28] By reference to the same legal principles the Partnership argued that, properly interpreted, the Contract provided – as the Judge concluded – that the agreed purchase price for the Kiwi shares was $4 per share, or some $528,000. As peak notes had not been mentioned by either party, the Contract was – on that issue – unambiguous. Peak notes were not included in that price. Therefore the Judge had been right on the question of price, but wrong on the question of whether the Contract obliged the Partnership to transfer the peak notes for that price. Further, in an argument which I had great difficulty in following, Mr Reardon advanced the Partnership’s “agreed variation” argument. As I said to Mr Reardon during the hearing of the appeal, I consider that the terms of settlement effectively rendered that argument irrelevant. As I have written this judgment I have reflected whether another way of categorising that argument is that Mr Agar’s letter of 13 June 2001 was not a proper exercise of the option to acquire shares at all because it stipulated terms that were different from the terms of the Contract, at least as the Partnership would have it. Be that as it may, again agreement was reached as to the basis upon which the Fonterra shares held by the Partnership on settlement would be acquired by WF Ltd without that issue – as best as I can tell – having been pursued. Therefore I consider it to also be irrelevant.

Analysis

The issue

[29] As Mr Reardon put it to Mr Agar in cross-examination at the trial, WF Ltd’s

claim essentially depends on it establishing that:

(a) where clause 24 of the Contract refers to “shares, in a new merged dairy company equating to supply shares currently held by the lender”; as clarified by the phrase

(b) “shares currently held by vendor and any other share or bonus shares issued by Kiwi or any future merged company to the vendor” contained in Mr Agar’s letter of 6 June,

the references to “shares” and to “any other share or bonus shares” are references to

“shares and peak notes”.

Relevant law

[30] It is now well settled in New Zealand that questions of contractual interpretation are to be approached on the basis of the principles set out in Investors Compensation Scheme Ltd v West Bromwich Building Society,[3] as adopted by the Court of Appeal in Boat Park Ltd v Hutchinson and as confirmed by the Supreme Court in such cases as Wholesale Distributors Ltd v Gibbons Holdings Ltd and Vector Gas Ltd v Bay of Plenty Energy Ltd.[4] As Tipping J observed in Vector:[5]

The ultimate objective in a contract interpretation dispute is to establish the meaning the parties intended their words to bear. In order to be admissible, extrinsic evidence must be relevant to that question. The language used by the parties, appropriately interpreted, is the only source of their intended meaning. As a matter of policy, our law has always required interpretation issues to be addressed on an objective basis. The necessary inquiry therefore concerns what a reasonable and properly informed third party would consider the parties intended the words of their contract to mean. The court embodies that person. To be properly informed the court must be aware of the commercial or other context in which the contract was made and of all the facts and circumstances known to and likely to be operating on the parties’ minds. Evidence is not relevant if it does no more than tend to prove what individual parties subjectively intended or understood their words to mean, or what their negotiating stance was at any particular time.

[footnotes omitted]

[31] In Vector, five separate judgments were given reflecting differing views amongst the Court on various aspects of contract law. In Trustees Executors Ltd v QBE Insurance (International) Ltd the Court of Appeal has provided, given that difference of views, some helpful comments on the Vector decision:[6]

The majority of the judges in Vector adopted the approach in Investors Compensation whereby the language the parties have used must be read in the context of the document as a whole and the surrounding circumstances.

Under that approach, the wider background and circumstances should always be considered, even if there is no ambiguity or other interpretive difficulty with the words used by the parties. Evidence of background circumstances is not, however, relevant if it does no more than tend to prove what individual parties subjectively intended or understood their words to mean or to prove that a parties’ negotiating stance may have been at a particular time.

While it usually makes sense to start with the words of the contract and then move to the context of the contract before considering the wider background and circumstances, there is no presumption in favour of ordinary meaning. A meaning that may appear, when devoid of external context, to be plain and unambiguous, may not ultimately be what the parties intended when considered against all the relevant circumstances. As was noted by Tipping J in Vector, any initial view of the meaning must be provisional only and the reader must be prepared to accept that the provisional meaning may be altered once context has been brought to account.

[footnotes omitted]

[32] There has, since the Supreme Court’s decision in Vector, been a focus on the various approaches taken by the members of the Court to the questions of the circumstances in which, and the purposes for which, evidence of pre-contractual negotiations and post-contractual conduct is relevant, and therefore admissible, evidence when it comes to interpreting a contract.[7]

[33] Here, there was little – if any – pre-contractual negotiation, other than the exchange of correspondence which ultimately formed the Contract. The question of the admissibility of evidence of pre-contractual negotiations does not, therefore, cause difficulty in this case.

[34] As regards post-contractual conduct, there was evidence from both WF Ltd and the Partnership as to their exchanges after Mr Agar’s letter exercising the option on 13 June 2001. Extensive evidence was also given of information that related to Fonterra and its capital structure that the parties received after that date. The parties also put in evidence various exchanges between them and their respective solicitors that led up to the agreed settlement of the transaction on 31 May 2002. In my view, all of that evidence is largely irrelevant. To the extent that it related to information

_{that had been provided to parties after the formation of the Contract, I do not see}

how it can be relevant generally as evidence of the factual matrix at the time of the formation of the Contract. To the extent that it recorded views expressed throughout the process whereby the settlement on 31 May occurred, it does little more than confirm there was a dispute as to price and as to the inclusion of the peak notes in that price. The first matter was dealt with on settlement, the second was not. To the extent it was evidence of what the parties thought the Contract meant, or what they intended it to mean, it was simply inadmissible in terms of the general principles I have referred to.

[35] In terms of those general principles, the relevant and important evidence is of the information available to the parties at the time the Contract was formed relating generally to the possible Fonterra merger and, more particularly, to how that merger would affect Kiwi shareholders and their shares in Kiwi and, most specifically of all, to the question of peak notes.

The interpretational exercise

[36] The Court of Appeal in Trustees Executors v QBE said it usually made sense to turn first to the words of the contract. Following that approach, whilst bearing in mind the Court’s observation that there is “no presumption in favour of ordinary meaning” and that “any initial view of the meaning must be provisional only”, I note first that clauses 23 and 24, as modified by Mr Agar’s letter of 6 June 2001, make no reference to peak notes. The reference is first (clause 23) to the then existing ($1) shares in Kiwi. Then, and if the merger has occurred by settlement, clause 24 refers to the Partnerships shares in the newly merged Dairy Company which equate “to the supply shares” currently held by the Partnership. Finally Mr Agar’s 6 June clarification provides that:

The clause [24] “to specify all shares currently held by Vendor and any other share or bonus shares issued by Kiwi or any future merged company to the vendor”.

[37] It is not clear if, by that, Mr Agar had anticipated clause 24 being rewritten to so “specify”. Nor is it clear, given that clause 24 deals only with shares in the merged entity and not Kiwi shares at all, how such an amendment would have actually been made. I also note, in passing, that as regards clause 23 Mr Agar had

only stipulated the agreed value of $4 per share as regards shares in Kiwi. He made no reference to any shares that might then have been issued by the merged entity. That did not contribute to the overall clarity of the provisions of the Contract either. What I think is clear, for these purposes, is that the original reference in clause 24 to the vendor’s “shares in the newly merged Dairy Company equating to the supply shares currently held by the Vendor” (emphasis added) was to include any shares or bonus shares issued by Kiwi or the merged company and held by the Partnership at settlement. Thus, for example, shares issued by Kiwi after the date of the Contract on account of the 2000/2001 season, or shares issued by the merged entity after the merger, and in either case held by the Partnership at the time of settlement, would be transferred to WF Ltd. Mr Agar was making it clear that WF Ltd was to acquire all the dairy company shares held by the Partnership on settlement, whether in Kiwi itself or the newly merged company, even if all of those shares had not been held by the Partnership at the time of the Contract or immediately following the merger. Reflecting that clarification, as matters transpired there was no dispute that WF Ltd was to acquire the Partnership’s Fonterra shares issued in exchange for the additional Kiwi shares the Partnership had acquired to top up its shareholding in Kiwi in terms of actual supply during the 2000/2001 season.

[38] By reference, however, to the words used, the absence of any specific reference to peak notes counts against their being included in the various references to shares or bonus shares as peak notes are not shares at all.

[39] It can of course be argued, as WF Ltd did, that the reference by Mr Agar to shares and bonus shares shows that WF Ltd wanted to acquire whatever the supply shares then held by the Partnership in Kiwi had become, either following further issues by Kiwi or by the merged entity initially on the merger or subsequently. But, again, the plain words count against that interpretation, at least on a first reading.

[40] Turning then to the context provided by the Contract itself, the Partnership was selling its farm land, and assorted chattels, by auction. It was not auctioning its herd, nor its shares in Kiwi. Separate options to acquire those were being provided. The successful bidder on the day could elect to exercise one or other, both or neither of those options. Thus it cannot be inferred that the buyer of the farm would

necessarily wish to supply milk, and therefore need to acquire dairy company shares. Moreover, even if they did, they could acquire those shares directly from Kiwi, or from the new merged entity. In my view that element of the Contract, when linked to the words actually used, also tends against the interpretation WF Ltd argues for.

[41] I therefore turn now to the wider context provided by the merger proposal, to the parties’ knowledge of that and to what a reasonable and properly informed – as to that – third party would consider the Partnership and WF Ltd intended the words of the Contract to mean.

[42] For WF Ltd, evidence was given by Mr Agar and a Robert Dabb. Mr Dabb had been the supplier liaison officer for Kiwi from 1997 until the completion of the merger with New Zealand Dairy in October 2001. For the Partnership, evidence was given by Mrs Rachel Phillips. Both Mr Agar and Mrs Phillips gave evidence of their understanding of issues relating to the merger, principally by reference to materials distributed to Kiwi shareholders on 26 March 2001 and 24 May 2001, Mr Agar confirmed he had considered a large amount of material relating to the proposed merger sent to him, as I understand it, in his capacity as the owner of the neighbouring Kiwi supplying dairy farm. Mrs Phillips’ evidence at trial was that she herself had not read those documents, but that her – now deceased – father would have. Her father had been a director of Kiwi and therefore would, I infer, have been well acquainted with these matters. Mrs Phillips confirmed as much in her evidence. Moreover, and notwithstanding Mrs Phillips’ evidence at trial, I note that her written brief referred in great detail to the material that had been distributed by Kiwi to its shareholders relating to the merger proposal. Mr Dabb also based his evidence, in large part, on those documents, as well as on his general knowledge of Kiwi and dairy industry matters. Accordingly, I proceed on the basis that the parties were, in general terms, aware of the contents of those documents. Furthermore, and given the basis upon which submissions were made at trial and on appeal, I record that I do not think it would be possible for the parties now to contend otherwise.

[43] The materials distributed in March 2001 included sections entitled “Overview of the Merger Proposal” and “Summary of Requirements to hold Shares and

Capacity notes”. By reference to those sections, and as relevant here, shareholders

were advised:

(a) From the merger date New Zealand Dairy and Kiwi supplying shareholders would become supplying shareholders for Global Dairy.[8]

(b) The Global Dairy share standard would be one share for every one kilogram of milk solids supplied. The price at which shares were both issued to new shareholders and shareholders who increased supply, and surrendered from those who reduced or ceased supply, would be the fair value of those shares. Fair value would be sent annually by the Global Dairy Board, within a range set by an independent valuer.

(c) In addition to holding shares, all shareholders would be required to hold capacity notes.[9] The number of capacity notes required would be based on peak supply. Capacity notes would initially be issued by Global Dairy for $30 each. Capacity notes would be redeemed by Global Dairy for their issue price when peak supply decreased or ceased.

(d) On the merger date, all existing shareholding rights in New Zealand Dairy and Kiwi would convert into Global Dairy shares and capacity notes. Kiwi and New Zealand Dairy shareholders would be allocated Global Dairy shares and capacity notes at no cost based on historic supply.

[44] The concepts of fair value shares and of capacity notes were both new, although the industry had been moving towards a fair value approach for some time. The March 2001 materials included, separate from the formal Merger Proposal itself, a document entitled “Capital Structure”. That document was said to have “no legal

_{standing whatever”. It was obviously intended as a helpful and brief summary of the}

lengthy and complicated material that had preceded it. As relevant, it advised shareholders in the following terms:

(a) The dairy industry’s existing capital structure gave shareholders the same amount when they stopped supplying their company as they had to pay when they started supplying it. That “$1 in – $1 out” system made sense for commodity trade, but it did not make sense for value- added activities, where investments made in one year continue to benefit a company for many years into the future.

(b) The capital structure for Global Dairy was based on two principles:

(i) it reflected the fair value of a shareholder’s investment in the

company, based on projected cash-flows; and

(ii) it fairly allocated the cost of peak processing capacity between suppliers with different peak production profiles.

(c) New shareholders would have to pay fair value to benefit from past investments. Exiting shareholders would be able to take the fair value of their investment with them. Each shareholder was to hold one share for every kgms. Existing shareholders of New Zealand Dairy and Kiwi would automatically get fair value shares based on historical supply figures.

(d) Due to the seasonal nature of New Zealand dairy farming, plants were only fully utilised for a very limited time each year. To illustrate the impact of this, if peak production was flattened completely the existing plants would be less than 50 percent utilised. Suppliers with a high peak production profile cost the industry more in processing capacity than suppliers with lower peak production profiles. To achieve fairness, suppliers with high peak production profiles would be asked to contribute more to the business by being required to purchase more capacity notes. Capacity notes would initially cost $30

each and the number required would vary from season to season. The number of capacity notes that a shareholder would be required to hold depended on their peak day supply and on their production profile. Existing shareholders of New Zealand Dairy and Kiwi would automatically get capacity notes based on historical peak supply data.

[45] Importantly, in my view, shareholders were specifically advised that they would have two types of capital in the new, merged entity: fair value shares (reflecting the forecast performance of the company as a whole) and capacity notes (reflecting the capital cost imposed on the company by their peak production profile).

[46] The overall relationship between fair value shares and peak notes had earlier been explained in this way:

Fair value and capacity notes

The valuer will determine the fair value of the entire company (referred to as the enterprise value). In very simple terms, the valuer will deduct all interest bearing debts and capacity notes of the company to determine the value of the shareholders’ interest in the company. The value per share is the value of the company divided by the number of shares on issue.

Given that the fair value share takes into account the number of capacity notes on issue, the value of an individual shareholders’ interest in the company will be the value of the fair value shares that they hold less the value of the capacity notes that they hold.

[47] I note, at this point, that I find that explanation more than a little confusing. I would have thought that, given the fair value share takes into account the number of capacity notes on issue, the value of an individual shareholders’ interest in the merged entity – at least if that term is referring to these overall interests – would be the value of the fair value shares they held together with the value of their capacity notes. Be that as it may, these materials do reflect something of the complexity of the merger proposal and, in particular, of the new and distinct concepts of fair value shares and capacity or peak notes. I also note that, as far as I have been able to ascertain, whilst the March materials referred to peak notes having a value of $30, no reference was made to any specific fair value for supply shares in the newly merged entity. It is also to be noted that in a section of the materials headed “Initial

allocation of shares and capacity notes” it was recorded that new Kiwi shareholders accepted for the 2001/2002 season would be issued shares based on the Kiwi fair value share standard, which would be no greater than $4 per kgms, but that for existing shareholders additional shares required due to increase in production would be issued on the existing basis of $2 (2 x $1 shares) per kgms.

[48] The Merger Proposal itself was circulated on 24 May 2001. Voting was to take place in the middle of June, after the auction. By then capacity notes had become peak notes, whilst Fonterra (as it became) was still referred to as Global Dairy. In the Merger Proposal, the effect of the merger was summarised, very much as already referred to. At the same time, the terms of the issues of shares and peak notes were also summarised. That summary confirmed:

(a) Shares:

(i) Each New Zealand Dairy and Kiwi shareholder on the day before the Merger Date (which does not include suppliers that first commence supply in the 2001/2002 Season) will be issued with one Global Dairy Co-operative Share for every kilogram of milk solids obtainable from milk supplied by that shareholder during the 2000/2001 Season (or from that shareholder’s farm where ownership of that farm has transferred).

(ii) The fair value of a Global Dairy Co-operative Share for the

2001/2002 Season would be $3 per share and such fair value would be deemed to have been determined in accordance with the Global Dairy constitution as at 1 June 2001.

(b) Peak Notes:

(i) On the Merger Date peak notes would be issued to former shareholders of Kiwi and New Zealand Dairy. The number of peak notes issued to a shareholder would be the highest of the

amounts obtained by applying a specified formula in respect of each of the four seasons between 1997/1998 – 2000/2001 (inclusive) (or such of those seasons as records are available for the land from which the shareholder supplied milk to Kiwi or New Zealand Dairy in the 2000/2001 Season). That formula was expressed as:

Shareholder’s Peak Day Standardised Litres ─ (0.5 x) The application of that formula involved some eight defined terms. As best as I can tell the formula derived a measurement of the volume of milk supplied by a supplier during the “peak of the season”, relative to the amount of milk supplied during the rest of the season and sets the number of peak notes that a supplier must hold by reference to that difference as adjusted to reflect the company’s total peak supply.

(ii) The issue price and principal amount of peak notes (including the peak notes issued in consideration for shareholders of New Zealand Dairy and Kiwi giving up their shares in those two companies on the Merger) would be fixed at $30 each until the end of the 2003/2004 season.

[49] The Merger Proposal, in a section summarising Global Dairy’s constitution, also explained that peak notes were not shares, did not have any of the rights attaching to shares in Global Dairy and did not constitute a right to supply peak production to Global Dairy.

[50] Distributed with the Merger Proposal was a document entitled “Working with Global Dairy’s Capital Structure – A Practical Guide to Working with the Capital Structure of Global Dairy Company Limited”. That practical guide summarised various aspects of Global Dairy’s capital structure dealt with in more detail in the Merger Proposal. It confirmed the one share for one kilogram of milk solids share standard and that shares would be fair value shares. It provided an example of the timetable for selling fair value once Global Dairy was in existence, using, as

examples, indicative ranges of $3.70 to $4.30, and a fair value of $4.00. It confirmed that fair value for the first season would be deemed to be $3, and that the value of peak notes would be fixed at $30 until the end of the 2003/04 seasons. The practical guide noted that Global Dairy shareholders would not be required to pay more than $3 per share for increases in supply during the 2001/2002 season. In addition peak notes might also be required, in which case increased supply would cost approximately $4 per kgms. That applied to the 2001/2002 season only.

[51] This is, as best as I can tell, the first explicit reference in the materials provided to me of a $4 per kilogram cost of supply when the cost of shares and peak notes is aggregated.

[52] The material also contained a number of worked examples of the application of the peak note allocation formula. These are complicated calculations, but do confirm that the total value of a shareholder’s “investment” in Global Dairy would be calculated by reference to the fair value of the shares held together with the value of peak notes held.

[53] On the basis of that material and the parties’ evidence of their familiarity with it, I consider that the parties would therefore have been aware, when the Contract was signed, that:

(a) In the period immediately prior to the Merger, existing shareholders in Kiwi would be issued additional supply shares on the basis of $2 per kgms, whereas new suppliers would be issued shares on the basis of

$4 per kgms.

(b) If the merger went ahead, Kiwi shareholders would be allocated supply shares and peak notes by Global Dairy at no cost on the basis of one supply share for every kilogram of milk solids supplied in the most recent season and peak notes as determined by the peak notes formula.

(c) Supply shares would have a fair value of $3 each, peak notes of $30 each.

(d) Supply shares carried the entitlement to supply, peak notes did not and were not shares;

(e) After the merger shareholders would have two types of capital in

Global Dairy, fair value shares and peak notes.

(f) Where supply increased during the 2001/02 season, Global Dairy would require additional supply shares to be acquired at $3 per share, and – if necessary – additional peak notes at $30 per peak note equating to an approximate cost for increased supply of $4 per kgms.

[54] There are, by reference to that analysis, a number of factors which in my view count against the conclusion that a reasonable and properly informed third party would consider the parties had meant to refer to peak notes when, in clause 24, they referred to shares and bonus shares. Most significantly:

(a) From the outset, it had been made clear that peak notes were not shares, and by themselves did not entitle the holder to supply.

(b) Supply shares in the two merging companies were to be replaced by fair value shares in the merged entity on the basis of one fair value share per kgms supplied.

(c) Peak notes were a separate form of capital investment in Fonterra.

The requirement depended upon the profile of a particular farm’s supply during a season rather than – as with supply shares –the overall kgms supplied.

(d) For the first season, the fair value of shares was set at $3, and the value of peak notes at $30.

[55] At the same time, I acknowledge that the fact that shareholders in the merging entities, and in Kiwi in particular, would surrender their supply shares in exchange for fair value shares in Global Dairy and peak notes issued by Global Dairy, without the need to pay any money, does support WF Ltd’s position.

[56] More generally, I also acknowledge the argument that can be made that, in the context of the sale of a dairy farm and where options are provided as regards the purchase of the herd and dairy company shares, a reasonable inference is that a purchaser exercising those options would, in effect, be looking to acquire the rights to supply the milk produced from the farm. If a “farm” had been issued with peak notes on the basis of its supply profile, and that supply profile did not change radically, then peak notes would also be needed to maintain that supply profile even if, technically, peak notes are not the instrument which carries the right to supply. But, as best as I can tell, at the point the Contract was signed there had been no consideration of the Partnership’s supply profile nor of the extent of any peak notes that might, in the future, be issued to it.

[57] It was Mr Dabb’s evidence that, in terms of applications to supply submitted to Kiwi in the period leading up to the merger , “shareholding” in the new company was generally accepted to mean shares and peak notes – unless the contrary was specifically stated. Mr Dabb noted there were exceptions to that general position. Moreover, Mr Dabb’s evidence would appear to reflect something of the confusion that was associated with these matters, certainly at the time the Contract was signed and, in fact, up until and after the merger itself. For example, Mr Dabb referred to the Kiwi fair value share standard as being four ordinary $1 shares per kgms supplied, and to the merger being affected by one $4 fair value share in Kiwi being exchanged for one $3 fair value share in Global Dairy, plus “what was estimated to be the $1 value of the peak notes”. In fact, and as already noted, Kiwi’s share standard for existing shareholders immediately prior to the merger was two ordinary

$1 shares per kgms supplied. Mr Dabb gave evidence that shareholding in Kiwi between 2000 and 2002 was commonly referred to as being $4 per kgms. At the time, he said, Kiwi was issuing letters of acceptance for new supplying shareholders on the basis that a merger was possible and that shareholdings could not be confirmed until after the merger at the end of the season. Thus Mr Dabb went on to

comment that once the merger occurred, the meaning of “shareholding was confirmed as comprising shares, peak notes and supply redemption notes”.[10] I consider Mr Dabb’s evidence that it was once the merger had occurred that the meaning of shareholding was confirmed as comprising shares, peak notes and supply redemption rights as being of some significance. Acknowledging the complexity of these matters, in cross-examination Mr Dabb commented that his written brief,

where it described the relationship between fair value supply shares and peak notes,

“probably reads a bit of double dutch really” (sic).

[58] That there was a degree of confusion among farmers at the time the Contract was signed, and later – including after the Merger had been effected, as to matters relating to peak notes was reflected in a range of materials put in evidence:

(a) On 11 June 2001, shortly after the auction but before Mr Agar’s letter of 13 June, Kiwi wrote to its shareholders to “provide an update on payout and an update on Global Dairy Company (GDC)”. As to the latter, the letter noted that Kiwi was about half way through its shareholder meetings and, for those who had been unable to attend a meeting listed questions “commonly asked” at those meetings. One such question was “I find the share (capital) structure proposed for GDC difficult to understand”. That such a question was being commonly asked speaks for itself. The letter went on to summarise the relationship between fair value shares (issued based solely on kgms supplied) and peak notes (issued based on a farmer’s milk supply curve relative to the company’s milk curve) as had previously been communicated. The letter went on to advise:

It is important to remember that for 95% of farms the total in shares will be plus or minus 5% of the average. That means that expressed on a per kg basis with the share standard for this season set at an average $4, the variation for 95% of farmers will be between $3.80 and $4.20 depending on the individual milk supply curve.

It may not be a coincidence that on the day Mr Agar received that letter (13 June) he wrote to the Partnership explicitly stipulating that his offered share price of $4 per Kiwi share equated to $4 per kgms supplied.

(b) Global Dairy, and subsequently Fonterra, maintained or sponsored a special peak notes calculator webpage at the Fencepost.com website. Copies of that page, as accessed by the Partnership on 10 June, were before the Court. There was some question as to whether or not that document had been put in evidence in the District Court. Also in the Common Bundle were copies of that page – it being unclear by whom those copies had been obtained – as at 27 September 2001. By then the page contained a reasonably clear description of the relationship between fair value shares and peak notes in the following terms:

The combination of the Fair Value share plus Peak Notes reflects the value and investment a shareholder has in their company. For 2001/02 the approximate value of Peak Notes (at about $1/kg MS, depending on your milk supply profile) plus Fair Value shares ($3/kg milksolids) is $4/kg milksolids.

At the same time, however, the page commented:

We must admit that the methodology to calculate the number of Peak Notes that you require is complex, but it is a robust and fair system. We will provide you with the tools and information to help you understand the implications for your farm.

(c) On 18 October 2011, just two days after the merger was effected, Fonterra wrote to its shareholders/suppliers announcing a series of workshops that were to be held commencing 29 October on the peak note scheme. Again, I consider the fact that Fonterra thought such workshops necessary to improve understanding of that scheme also speaks for itself.

[59] Both fair value shares and peak notes were new concepts. Taken overall it is clear that they were reasonably complex concepts, particularly as regards the determination of fair value and of the number of peak notes that a shareholder was

required to hold. There was considerable confusion about peak notes, their place in Fonterra’s capital structure and their relationship with fair value shares. In my view, those factors of novelty, complexity and confusion also count against a conclusion that the reasonable and informed observer would conclude that, where the Contract referred to shares and bonus shares, the parties had also intended it to refer to peak notes. My overall sense, in these circumstances, is that such an observer would have considerable difficulty reaching any conclusion as to what the parties may have intended, other than as was reflected by the words they actually used.

[60] On that basis, I would conclude that the reference to shares and bonus shares in clause 24 – that is clause 24 as amended by the subsequent correspondence incorporated into the Contract, is not to be interpreted as also being a reference to peak notes.

[61] There is, however, one further matter to consider.

[62] In Vector, all of the Judges – notwithstanding their different views on relevant legal principles – came to one conclusion in common: that is, they agreed that the interpretation argued for by BoPE was, in effect, an affront to commercial sense. That is, it simply would not have made any commercial sense for Vector to have agreed with BoPE to supply energy on a delivered basis at the price specified. I have therefore considered whether it would be similarly offensive to commercial commonsense for WF Ltd to have agreed to purchase the Partnership’s issued shares in (as it turns out) Fonterra without procuring agreement that any peak notes issued to the Partnership would be transferred together with those shares for no additional consideration. The Contract had originally been intended to settle at 1 June 2002. Prior to Mr Agar’s stipulation of a price of $4 per Kiwi share, the shares were to be transferred at their “market value as at 1 June 2002 “. On 11 July 2002 Fonterra advised its shareholder suppliers that the fair value of co-operative shares as at

1 June 2002 was $3.85 per share. Thus for a price of $4` WF Ltd acquired shares with a value of $3.85. On that basis, I do not think it can be concluded that interpreting the Contract so that WF Ltd did not receive the peak notes for the price of the Fonterra shares is so commercially disadvantageous for it, and therefore so at odds with commercial commonsense, so as – by dint of that factor alone or in

conjunction with the other matters I have considered – to ultimately count against the interpretation of the Contract which gives rise to that result.

[63] On that basis, I find that the Contract did not entitle WF Ltd to the transfer of the peak notes, along with the shares in Fonterra, for no additional consideration. Therefore, and although for different reasons from those relied on in the District Court, I dismiss WF Ltd’s appeal against the District Court decision.

Costs

[64] The question of costs was not addressed before me. I therefore reserve that matter. If the parties are unable to resolve it they may file (brief) submissions no later than one month after the date of this judgment.

“Clifford J”

Solicitors:

Parker & Associates, Wellington for the appellant ([e-mail]) Cooper Rapley, Palmerston North for the respondents ([e-mail])

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[1] In general terms, a dairy farmer supplying milk to a co-operative dairy company is required to hold shares in that company proportionate, on the basis of that company’s share standard, to the kgms supplied by that dairy farmer to that company in the most recent season. From one season to another the shares required to be held are adjusted on the basis of supply in the most recent season. Thus on 7 June 2000 Kiwi had advised the Partnership of the shares it was required to hold on and as from 1 June 2000 on the basis of kgms supplied in the 1999/2000 season. Any additional shares required to be held from one season to another would be issued as at the start

of the new season, and paid for by deduction from milk proceeds. The “reserve” shares in Kiwi

were not explained to me. They are not directly relevant to this case.

[2] Vector Gas Ltd v Bay of Plenty Energy Ltd [2010] NZSC 5.
[3] Investors Compensation Scheme Ltd v West Bromwich Building Society [1998] 1 WLR 896 (HL).
[4] Boat Park Ltd v Hutchinson & Findlay [1999] 2 NZLR 74; Wholesale Distributors Ltd v Gibbons Holdings Ltd [2007] NZSC 37; Vector Gas Ltd v Bay of Plenty Energy Ltd [2010] NZSC 5.
[5] _{At [19].}

[6] Trustees Executors Ltd v QBE Insurance (International) Ltd [2010] NZCA 608 at [31]- [32].

[7] See, for example, McLauchlan “Contract Interpretation in the Supreme Court – Easy Case, Hard

Law?” (2010) 16 NZBLQ 229.

[8] The new, merged, entity was referred to as Global Dairy in the merger materials. The name

_{Fonterra was chosen later.}

[9] Peak notes were originally referred to as capacity notes. Part way through the merger process

the change in terminology was effected to reduce confusion as to what “capacity notes” were.

[10] Supply redemption notes did not appear to have figured in Kiwi’s membership of Fonterra and were not referred to in evidence. Their existence does, however reflect again the complexity of the matters being discussed.