Valmar Trustee Limited v Smart Water Technology Limited [2016] NZHC 3206 (23 March 2016)

Last Updated: 3 August 2019

IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY

CIV-2015-404-001269 [2016] NZHC 3206

BETWEEN	VALMAR TRUSTEE LIMITED First Applicant EMBAY TRUSTEE LIMITED Second Applicant
AND	SMART WATER TECHNOLOGY LIMITED First Respondent CHRISTOPHER STEPHEN HARRIS Second Respondent TIMOTHY JAMES STONE Third Respondent

Hearing:	9 November 2015
Appearances:	K F Gould andfor Applicants B J Upton and D J Tillett for Respondents
Judgment:	23 March 2016

JUDGMENT OF HINTON J

This judgment is delivered by me on 23 March 2016 at 4.30 pm pursuant to r 11.5 of the High Court Rules.

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Registrar / Deputy Registrar

Solicitors:

K F Gould, Auckland Simpson Grierson, Auckland

VALMAR TRUSTEE LIMITED v SMART WATER TECHNOLOGY LIMITED [2016] NZHC 3206

[23 March 2016]

Introduction

[1] The applicants, who are minority shareholders in the first respondent company, Smart Water Technology Ltd (Smart Water), want to have a liquidator appointed on the grounds of oppression under s 174 of the Companies Act 1993 (the Act).

[2] The respondents strongly oppose.

Background

[3] The second and third respondents, Messrs Harris and Stone, incorporated Smart Water on 30 January 2009. The shares were owned by Moffatt Asia Pacific Ltd (Moffatt Asia), which in turn is owned by the second and third respondents. The second and third respondents are the directors of both companies.

[4] Smart Water was a start-up company. It has developed an electronic product enabling remote reading of water levels in water tanks, said to be particularly useful in the agricultural and manufacturing sectors.

[5] The intended product needed electronic circuiting design and related software, in respect of which assistance was provided by Mr Fletcher and Mr Dobbs, whose trustee companies are the applicants. Mr Fletcher was a friend of Mr Harris’. Smart Water was not in a position to pay for the electronic work, so the parties agreed that payment would be made in shares. Hence the two applicant companies became shareholders in Smart Water in October 2009 as to 12.5 per cent each. The work that Mr Fletcher and Mr Dobbs carried out was through a company owned by them, called Invision Enterprises Ltd (Invision).

[6] Up until 2013/2014, while the product was being developed, there was significant involvement and dialogue with Messrs Fletcher and Dobbs.

[7] By 2013 the product was being actively marketed and sales were well under way, including negotiation of contracts with companies such as Gallagher and RX Plastics.
[8] The second and third respondents are also directors and, through Moffatt Asia, owners of another company, Ivent Solutions Ltd (Ivent). Ivent commissions Smart Water’s product to be made in China; partially assembles the product and on-sells it to Smart Water with an added margin. Smart Water also shares Ivent’s premises and pays rent and outgoings to Ivent.

[9] Smart Water won a prize for start-up company of the year in 2014. There was a significant incident at that prize-giving when Mr Stone, in accepting the prize for Smart Water, failed to mention the input of Messrs Fletcher and Dobbs and their company Invision. Mr Fletcher said this was the straw that broke the camel’s back.

[10] The parties tried to reach a formal shareholder agreement for Smart Water but this was unsuccessful.

[11] From January 2015, the applicant companies corresponded with the second and third respondents, alleging failures to supply information; breaches of the Companies Act; lack of annual general meetings, annual reports and false annual returns, and a conflict of interest due to the involvement of Ivent as a supplier to Smart Water.

[12] The various allegations were responded to in a formal and extensive way by Smart Water through their solicitors.

[13] This proceeding was issued on 8 June 2015.

Relevant law

[14] Section 174(1) of the Act allows a shareholder to seek relief from the court on the grounds that the affairs of a company are being conducted in a manner that is “oppressive, unfairly discriminatory or unfairly prejudicial”.

[15] The court has to look at the whole of the conduct in issue, to determine whether it can properly be labelled as unfairly prejudicial.¹

¹ Vujnovich v Vujnovich CA14/88, 17 June 1988.

[16] While it is not necessary to show a breach of legal rights or an absence of good faith, there must be a visible departure from the standard of fair dealing, viewed in light of the history of the particular company and reasonable expectation of its members.²

[17] It is difficult to fit within s 174 by asserting that, differently managed, a company might do better by minority shareholders by providing greater income or paying larger dividends.³ As Sir Thaddeus McCarthy said in Thomas v H W Thomas Ltd, s 174 should not be used to “invade traditional rights of the shareholders to determine the management of their company according to their shareholding”. He also referred to “the danger of allowing minority interests to inflict serious damage to a company’s structure”.⁴

[18] If oppressive or unfairly prejudicial conduct is demonstrated, the court still has to be satisfied it is just and equitable to make an order for relief. In this regard, the court has to weigh up the interests of all parties and may refuse to assist a shareholder who does not have “clean hands”.⁵

[19] Further, when determining what remedy is appropriate under s 174, an order to liquidate has been stated to be a “remedy of last resort”. A more likely form of relief will be a compulsory buy-out.⁶

Discussion

[20] The primary matters on which the applicants now rely to establish oppression are conflict of interest; failure to comply with the Act; and failure to supply financial and marketing information.

[21] The emphasis put on the issues has varied as the case has progressed and as information has been supplied. I have listed the issues in the order in which Mr Gould referred to them in his opening submissions.

² Thomas v H W Thomas Ltd [1984] 1 NZLR 686 (CA).

³ Above n 2, at 688.

⁴ Above n 2, at 697.

⁵ Cairney v Golden Key Holdings Ltd (No 2) (1988) 40 BLR 289.

⁶ Re a company (No 004415 of 1996) [1997] 1 BCLC 479.

[22] The applicants also claimed that Invision owns intellectual property in the work it did for Smart Water. It is agreed this claim falls outside the present proceeding.

Conflict of interest - Ivent

[23] The applicants acknowledge they knew Ivent was supplying product to Smart Water and knew of Ivent’s relationship to the second and third respondents. They say they were advised only in April 2015 that Ivent was adding a 20 per cent margin. While initially the applicants’ complaint was that they were unaware of the margin, when evidence was put forward by Mr Harris to both demonstrate the percentage and its apparent reasonableness, the applicants countered by contending that the true margin is over 80 per cent. They say they also did not know until April 2015 that Ivent invoiced Smart Water for rent and outgoings and that Ivent was owed $451,000 (at that point) by Smart Water. They claim that Smart Water is paying Ivent staff salaries.

[24] The applicants say that, as a consequence, the directors have a conflict of interest.

[25] The applicants also say that Smart Water should source product direct from China, thereby eliminating the extra cost.

[26] It is clear from an email dated 15 August 2014, sent by Mr Fletcher to Mr Harris, that the applicants knew that Ivent was adding a margin. It would be implausible for it to be otherwise. It is also clear that Invision themselves purchased components from Ivent, so they would presumably be familiar with how the system works.

[27] When asked to prove the 20 per cent margin, Mr Harris provided the Ivent accounting records. The applicants challenge that evidence and contend the margin is over 80 per cent. This seemed to be more conjecture than substance. I accept the evidence of Mr Harris and I am satisfied on the evidence available, particularly the analysis in his affidavit of 15 September 2015, that the margin being charged by Ivent is approximately 20 per cent, which is not excessive. I consider it material also that Ivent is carrying a significant debt without any arrangement for interest payments.
This would suggest that, without Ivent, Smart Water would have difficulty sourcing product.

[28] I am also satisfied that Smart Water is not paying Ivent staff salaries. It would seem rather that Ivent staff support Smart Water’s operations.

[29] The applicants submit that there has been no explanation as to the apportionment of rent paid by Smart Water to Ivent. However, Mr Harris has provided an explanation as to the rent apportionment and I agree with the respondents that there is nothing to suggest this is not a fair arrangement.

[30] As to the quantum of the Ivent debt, the complaint was only that the applicants did not know of the debt. Nothing more was drawn from that. They have now known of the debt for some time. There is nothing to suggest the debt is wrong and given the 2015 financial statements have now been audited, there can be some comfort the debt is correct. The total accounts payable were then $368,380.

[31] I think it significant overall with regard to the Ivent conflict issue, that the applicants have previously acknowledged, again in their 15 August 2014 email, that Ivent has incurred a financial burden supporting Smart Water. The applicants were sufficiently involved in Smart Water to make that comment from an informed basis.

[32] The suggestion that Smart Water should source product directly from China falls into the category of a management issue, not appropriate for an oppression claim. It is also clearly unrealistic. Mr Harris addresses this suggestion in detail, explaining that to purchase direct from China, significant investment in infrastructure would be required and the terms would be “cash up front”. I note further that Invision themselves used Ivent as suppliers and also Mr Fletcher’s suggestion in August 2014 that Ivent be involved in the supply chain for active repeaters he wished Invision to supply to Smart Water.

[33] In summary, I do not consider that the relationship between Smart Water and Ivent is unfairly prejudicial to Smart Water. The indications are that the relationship
is financially beneficial to Smart Water but I do not need to make any finding in that regard.

Breaches of the Companies Act

[34] The respondents have failed to comply in a number of respects with their obligations under the Act.

[35] Smart Water has not prepared financial statements for the 2010 and 2011 financial years and it would seem is unable to do so. They explain non-completion of these accounts on the basis that there was insubstantial trading. Mr Gould did not place any emphasis on the absence of those financial statements.

[36] Smart Water also had not, as at February 2015, provided the applicants with financial statements for the years ending 2012 and 2013, or completed financial statements for the year ending 2014. These financial statements have all since been provided to the applicants. Mr Harris had earlier provided Mr Fletcher with a full set of MYOB account information on 10 March 2014. A full set of management accounts was also provided to Mr Fletcher in February 2015.

[37] The 2015 financial statements were finalised after this proceeding was issued and have been audited by BDO, as a result of the applicants making an audit request. The audit was not completed until after the hearing. The audit report has been filed by consent.

[38] The company also failed to maintain an interest register, which again is a requirement under the Act, and important in the light of the relationship with Ivent. That again has been remedied, although only as a result of the applicants’ January 2015 correspondence. I note again though that the applicants were aware of Ivent’s involvement in Smart Water and the directors’ interest in Ivent (the matter requiring disclosure).

[39] Similarly, until 2015 the company failed to meet the requirements to hold annual general meetings and provide annual reports. The annual returns filed with the Companies Office for the years 2010 and 2014 wrongly state that annual general
meetings had been held and that the shareholders passed unanimous resolutions not to appoint an auditor.

[40] Smart Water has taken significant steps to regularise its affairs since the many defaults were pointed out by the applicants. In particular, Smart Water has presented an annual report; had an annual general meeting and commissioned the audit of the 2015 financial statements.

[41] There was a high level of interaction between the applicants and respondents down to mid-2014 at least. This is not a case where the failures of the respondents had the effect of cutting the applicants out of the business or where there was ongoing failure to provide proper accounting.⁷

[42] I am satisfied that the defaults of the respondents, while they could render the company liable to prosecution and penalty under the Act, were not unfairly prejudicial to the applicants in the context of s 174.

Supply of information

[43] Originally, the applicants’ complaint was based largely on a failure to provide information. Requests for information were only made in January 2015 and I have already found that the applicants had significant involvement in the company at least up until mid-2014.

[44] I agree with the respondents that, at least up until about mid-2014, the applicants would have been reasonably well informed of the operations of Smart Water. Further, their January 2015 requests for information were thoroughly addressed in correspondence from the respondents or their lawyers between February and May 2015. The focus of complaint now is more on the Ivent conflict issue and non-compliance with the Companies Act. In any event, I do not see any unfair prejudice to the applicants resulting from late or inadequate supply of information to them.

7. Re Environmental Products (New Zealand) Ltd HC Auckland CIV-2004-443-369, 14 February 2005.

Other matters

[45] There were other matters raised by the applicants, although not directly in written submissions, which I cover for completeness.

[46] The respondents changed the Smart Water website following the award ceremony, to remove reference to the role played by the applicants in the company. While this was unfortunate and no doubt inflammatory, it is not prejudicial to the applicants in their capacity as shareholders of Smart Water.

[47] The applicants suggested that provision for shareholder current accounts should have been made in the financial statements. Mr Callinan, who prepared the company accounts, confirmed in a letter dated 28 July 2015 that there is no relevant asset or liability. There was therefore no need for any such entry in the financial statements. In any event, again, this would hardly go to unfair prejudice.

[48] There were a number of questions and concerns about the financial statements and in particular as to alleged discrepancies within them. These are management issues that have been addressed in detail by Mr Harris and I have seen nothing in them that amounts to unfair prejudice to the applicants. There was one variance which has been explained as an accountant’s error. The company’s accountant has acknowledged that error and it has been addressed.

Post-hearing submission of insolvency

[49] In a post-hearing memorandum filed regarding the 2015 audit report, Mr Gould contends that I should liquidate Smart Water on the ground of insolvency.

[50] I do not accept this is a submission that can be made arising out of the audit report. The argument could have been raised before and at the latest at the hearing, on the face of the 2015 financial statements. These have not materially changed as a result of the audit report.

[51] Further, although the company is balance sheet insolvent, the directors take the position that it is able to pay its debts as they fall due, which is the relevant
consideration in a liquidation context. Ability to pay debts as they fall due in this instance depends on whether Ivent calls in its debt. The second and third respondents, as the directors of Ivent, and Moffatt Asia as sole shareholder, have confirmed Ivent will not call in its debt.

[52] I also consider the points made by the respondents as to Smart Water’s generally improving financial position, are valid.

Result

[53] I am satisfied, viewing each of these matters individually and in the round, that there has not been oppression of the applicants as shareholders. Accordingly, the application is dismissed.

[54] There have been a number of breaches by the respondents of the reporting requirements contained in the Act, but these have been substantially remedied and, in the circumstances of this case, were not unfairly prejudicial to the applicants.

[55] The respondents raise questions as to the bona fides of the applicants with regard to the applicants’ challenge to intellectual property in Invision’s work and the associated establishment of a potentially competing company by the applicants. The respondents argue that even if there were unfair prejudice, the Court should refuse relief to the applicants as they do not have “clean hands”. There is no need for any finding in this regard as I have found there is no oppression.

[56] The respondents sought costs. They should file a memorandum within 14 days. The applicants have 14 days in which to respond. The respondents may reply within a further seven days.






Hinton J