Wonsch, a Person Under Disability by His Litigation Guardian Wonsch, et al. v. Wonsch [Indexed as: Wonsch (Litigation Guardian of) v. Wonsch]
86 O.R. (3d) 81
Court of Appeal for Ontario,
Sharpe, Juriansz JJ.A. and Chapnik J. (ad hoc)
June 21, 2007
Corporations -- Oppression -- Trial judge erring in finding that majority shareholders breached their fiduciary obligations by purchasing their sisters' shares -- Mother's will not precluding majority shareholders from purchasing shares or from owning larger proportion of shares in company than minority shareholders -- Trial judge not erring in finding that management compensation paid to majority shareholders constituted oppressive conduct towards minority shareholders and was excessive.
Upon her death in 1986, AW's shares in the company were bequeathed to her six children. One of the children, BW, suffered from a mental illness. Before her death, AW created a trust for BW (the "BWT"). The appellants (the "majority shareholders") ran the company following their mother's death and were trustees of the BWT. In 1987, during a financially difficult period, the majority shareholders purchased shares to which their sisters were beneficially entitled. Between 1997 and 2001, the company made significant profits and the majority shareholders paid themselves large salaries. BW and the BWT (the "minority shareholders") brought an action for remedies for oppression and breach of trust. The trial judge found that the majority shareholders paid themselves disguised dividends in the form of excessive management compensation and that this conduct amounted to oppression. He also found that the majority shareholders committed a breach of trust by purchasing their sisters' shares in 1987 in breach of their obligations as executors under their mother's will and as trustees of the BWT. The majority shareholders appealed. The minority shareholders appealed the trial judge's refusal to award prejudgment interest and his order that costs be paid by the company rather than the majority shareholders.
Held, the appeal and cross-appeal should be allowed in part.
The trial judge erred in finding that the majority shareholders committed a breach of trust by purchasing their sisters' shares. Neither the terms of the will nor the terms of the BWT precluded the majority shareholders from purchasing the shares or from owning a larger proportion of the shares in the company than the minority shareholders. At the time of the purchase, the company was in a precarious financial position, close to bankruptcy. While the investment proved to be sound, that it would be so was far from clear at the time the shares were purchased. There was a plausible reason for not exposing the BWT to the risk. The failure of the BWT beneficiaries to complain of the purchase at a time when it remained a risky investment provided cogent evidence in support of the majority shareholders' contention that it was not in the best interests of the BWT beneficiaries to put more money into the company. It would be unfair and unjust to allow the BWT beneficiaries to reverse their position now and assert this claim with the benefit of full hindsight.
The trial judge's conclusion that the management compensation paid to the minority shareholders constituted oppressive conduct toward the minority shareholders and was excessive was supported by the evidence. [page82 ]
The trial judge ordered the majority shareholders notionally to repay to the company the excessive management compensation they received. He held that as the majority shareholders had worked without compensation for six years in the 1980s and without their efforts no one would have benefited from the success of the company, no prejudgment interest should be awarded. The notional repayment would have the effect of increasing the value of the company for the purpose of determining the fair compensation to the minority shareholders for the value of its interest. In those circumstances, the minority shareholders were not entitled to prejudgment interest on any amount the majority shareholders were required to repay to the company. However, there was no reason why the notional payment by the majority shareholders should not include interest on the excessive compensation they received.
The trial judge held that although the methods used by the majority shareholders amounted to oppression, they had assumed significant risks and their conduct had benefited the minority shareholders. He concluded that in the circumstances it would not be appropriate for the majority shareholders to bear all of the costs of the action, and that the costs should be spread among all the parties. To accomplish this, he ordered that the costs be paid by the company. There was no reason to disturb that order.
APPEAL AND CROSS-APPEAL from the judgment of Rogin J. (2005), 2005 29056 (ON SC), 76 O.R. (3d) 198, [2005] O.J. No. 3187 (S.C.J.), in an action for remedies for oppression and breach of trust.
Rules and regulations referred to Rules of Civil Procedure, R.R.O. 1990, Reg. 194, rule 49.10 [as am.]
Lou-Anne F. Farrell, for appellants. William V. Sasso and Craig J. Allen, for respondents.
[1] BY THE COURT: -- This appeal and cross-appeal arise out of an oppression and breach of trust action. The claims relate to three private corporations, Wonsch and Sons Ltd. ("WSL"), Wonsch Construction and Investments (Essex) Ltd. ("WCIEL") and Wonsch Construction Company Ltd. (the "company"), with which WSL and WCIEL were amalgamated in 1987.
[2] The company was founded by Edward Wonsch. Upon his death in 1971, his wife, Agnes Wonsch, assumed control and upon her death in 1986, her shares were bequeathed to their six children.
[3] One of the children, the respondent Bryan Wonsch, suffers from a mental illness. Bryan Wonsch and Bryan Wonsch Trust ("BWT") (the "minority shareholders") are the plaintiffs in this litigation. Agnes Wonsch created the BWT in 1980 to look after the interests of Bryan and his children. Bryan Wonsch was convicted of manslaughter in the death of his mother in 1986. In an earlier proceeding, it was held that while Bryan Wonsch cannot benefit from his mother's estate, the interests of his children as beneficiaries of the BWT are not affected. [page83 ]
[4] The appellants Gordon, Charles and Kenneth Wonsch (the "majority shareholders") ran the company following their mother's death. The majority shareholders purchased shares owned by their sisters in WSL in 1987, as part of an amalgamation plan designed to secure certain tax advantages for the amalgamating companies. The trial judge found that there was a legitimate business reason for the amalgamation and that the plan resulted in a significant benefit for the minority shareholders. Gordon and Charles Wonsch are the trustees of the estate of Agnes Wonsch and trustees of the BWT.
[5] The company went through a difficult period from 1985 to 1994, when it was embroiled in litigation and unable to return a profit. The majority shareholders guided the company through that period, assuming significant financial risks during the course of the litigation. In 1987, during that financially difficult period, the majority shareholders purchased the shares in WSL to which their sisters were beneficially entitled.
[6] For the period between 1997 and 2001, the company made significant profits and the majority shareholders paid themselves large salaries. The minority shareholders challenged the salaries as oppressive conduct.
[7] The trial judge found that the majority shareholders had paid themselves disguised dividends in the form of excessive management compensation, and had committed a breach of trust by purchasing the shares their sisters owned in 1987 in breach of their obligations as executors under their mother's will and as trustees of BWT. He also ordered them to pay BWT its share of the residue of the estate, the sum of $50,000. However, in a subsequent judgment, he refused to award prejudgment interest and he ordered costs against the corporation rather than the majority shareholders. The majority shareholders appeal the liability findings and the minority shareholders appeal the refusal of prejudgment interest and the order that the costs be paid by the corporation.
Appeal
1. Payment of $50,000
[8] We agree with the majority shareholders that the trial judge made a palpable and overriding error in finding that the appellants had failed to pay the sum of $50,000 to BWT as its share of the residue in the mother's estate. The accounts of the estate were passed in 1996 and it is clear beyond any question from those accounts and the judgment approving the accounts that BWT received its share of the residue of the estate. We see [page84 ]no merit in the submission that this part of the judgment can or should be upheld on account of the delay in making the payment or the use to which the money was put prior to payment, claims of a fundamentally different character than were advanced at trial. Accordingly, that portion of the judgment is set aside.
2. Purchase of sisters' shares
[9] The trial judge found that the majority shareholders breached their fiduciary obligations by purchasing the sisters' shares. He found that the majority shareholders had failed to have prepared a shareholders' agreement as required by the mother's will, and that by purchasing the shares to give themselves a greater interest than BWT in the company, they were in breach of the terms of the will and the BWT. The trial judge ordered that upon payment of $37,500 to the majority shareholders, the respondents were to be declared owner's of one quarter of the shares purchased from the sisters.
[10] In our view, the trial judge erred with respect to this issue.
[11] Neither the terms of the will nor the terms of the BWT preclude the majority shareholders from purchasing the shares or from owning a larger proportion of the shares in the company than the minority shareholders. The majority shareholders can certainly be faulted for failing to prepare and execute a shareholder's agreement. On the other hand, the will does not specify the terms of such an agreement beyond stating that it is to provide for "the purchase by shareholders of shares of a deceased shareholder or a shareholder desiring to sell", the precise terms being left to the discretion of the testator's solicitor. The will also permits the acquisition of further shares provided the terms of the transaction are approved by named lawyers and/or accountants. No formal approval was obtained, but the lawyer named in the will was involved in the transaction. The terms of the BWT permitted the majority shareholders as its trustees to deal with the trust property "in any manner they may consider proper" and to "generally act in respect of the trust fund as fully and effectively from time to time as if the same were not trust property but always for the benefit of the trust fund".
[12] When the majority shareholders purchased their sisters' shares for $150,000, the company was in precarious financial straights teetering on bankruptcy. The majority shareholders assert that given the financial difficulty in which the company found itself, it would have been improvident for the BWT to acquire the sisters' shares. While the investment subsequently proved to be sound, largely because of the efforts of the majority [page85 ]shareholders, at the time the shares were purchased, it was far from clear that it would be. They say that the beneficiaries of the BWT were aware of the purchase of the sisters' shares and aware of the company's precarious financial situation and that the failure of the beneficiaries to complain at the time provides strong evidence that it was not in the best interests of BWT to participate in the transaction.
[13] We agree that the trial judge failed to consider the compelling evidence concerning the conduct of the beneficiaries of the BWT that supports the position taken by the majority shareholders. The investment in the sisters' shares was risky and there was an entirely plausible reason for not exposing the BWT to that risk. It is clear from the record that the BWT beneficiaries knew of the purchase of the sisters' shares from 1989 at the latest. They made no complaint. Nor did they raise any objection or complaint upon the passing of the accounts of the estate in 1996 when the transaction was fully disclosed. The failure of the beneficiaries to complain of the purchase at a time when it remained a risky investment in a company facing an uncertain future provides cogent evidence in support of the majority shareholders' contention that it was not in the best interests of the BWT beneficiaries to put more money into the company. In our view, it would be unfair and unjust to allow the BWT beneficiaries to reverse their position and now assert this claim with the benefit of full hindsight. Accordingly, we allow this aspect of the appeal.
3. Management compensation
[14] The company was involved in protracted litigation with another company from the beginning of 1987 to the end of 1994. During that time the majority shareholders received no remuneration for their work. An injunction issued in the litigation, which remained in place until 1991, prevented remuneration being paid to them. When the injunction was lifted there was not sufficient cash flow until 1995 for them to take remuneration. In later years, a portion of the remuneration paid to the three majority shareholders was attributed to retroactive payment of management compensation.
[15] The trial judge found that the management compensation paid to the majority shareholders constituted oppressive conduct toward the minority shareholders and was excessive. He provided cogent and detailed reasons for his conclusions.
[16] The retroactive compensation was oppressive because it had not been properly disclosed to the minority shareholders. It was, he said, a disguised dividend. Each of the three majority shareholders had taken the same amount of compensation, [page86 ]despite having provided services of substantially different value to the company. The expert witnesses called by both sides agreed excessive management compensation had been paid, though they differed on the amount and on whether the fact the majority shareholders had provided personal guarantees of the company's indebtedness should be considered.
[17] The appellants attack the trial judge's conclusion that the overpayment of management compensation amounted to $2,266,442.55, amended on consent to $2,179,092.55. They submit that although they had worked without compensation from 1987 to 1994, the trial judge allowed retroactive compensation beginning only in 1991. The trial judge explained he began the reconciliation in 1991 because he saw no reason why the majority shareholders should be able to retroactively seek compensation for a period when they were subject to an injunction preventing them from paying themselves any compensation.
[18] We would dismiss this aspect of the appeal. The trial judge's quantification of the amount of the excessive compensation is essentially a finding of fact. His decision not to allow compensation to be attributed prior to 1991 was reasoned and supported by logic. His findings that the retroactive compensation was both oppressive and excessive had ample evidentiary support.
Cross-appeal
1. Prejudgment interest
[19] The trial judge gave brief reasons for refusing to award prejudgment interest. He held that as the majority shareholders had worked without compensation for six years in the 1980s and without their efforts no one would have benefited from the success of the corporation, no prejudgment interest should be awarded. He added that while it would have been open to award interest on the amount to be paid back to the company, he saw no reason to do so as that would simply result in a pro rata distribution to all parties.
[20] In our view, the treatment of interest must be tailored to the particular circumstances of this case and the nature of the remedy ordered by the trial judge. The trial judge ordered the majority shareholders notionally to repay to the company the excessive management compensation they received. That notional repayment will have the effect of increasing the value of the company for the purpose of determining the fair compensation to the minority shareholders for the value of its interest. In these circumstances, we agree with the majority shareholders that the [page87 ]minority shareholders are not entitled to prejudgment interest on any amount the majority shareholders are required to repay to the company. However, we can see no reason why the notional payment by majority shareholders should not include interest on the excessive compensation they received, with appropriate adjustments for any advance payments. They have had the benefit of that money to which they are not entitled and unless they are required to pay interest, neither the company nor the minority shareholders will be made whole. We agree with the trial judge that this will result in a pro rata distribution to all parties. However, the trial judge offered no legal justification for rejecting what appears to us to be the appropriate and just result. Accordingly we would allow the prejudgment interest appeal to the extent of adjusting the notional repayment to include interest at the prevailing chartered bank prime lending rate on the excessive management compensation they received.
2. Costs
[21] The trial judge held that although the methods used by the majority shareholders amounted to oppression, they had assumed significant risks and their conduct had benefitted the minority shareholders. He concluded that in the circumstance of the case, it would not be appropriate for the majority shareholders to bear all of the costs of the action, but that the costs should be spread among all the parties. To accomplish this objective he ordered that the costs be paid by the company.
[22] While this order is unusual and perhaps unorthodox, in the particular circumstances of this case we would not disturb it. Had the trial judge simply fixed the costs at a reduced percentage to reflect his overall assessment of the justice of the case, this court would not have interfered. In practical terms, that is the effect of the order he made. The successful party will still receive a significant measure of partial indemnity for the costs of the action.
[23] We do not agree that the trial judge erred in principle by refusing to award substantial indemnity costs. The trial judge stated erroneously that there was no offer to settle. However, we are not persuaded that consideration of the offer leads to a different disposition as to costs. Subrule 49.10(3) [of the Rules of Civil Procedure, R.R.O. 1990, Reg. 194] provides that the burden of proving that the judgment is as favourable as the terms of the offer to settle rests upon the party who claims the benefit of the rule. We are not satisfied that that burden has been discharged, particularly in view of our disposition of the issue of the sisters' shares. [page88 ]
[24] While substantial indemnity costs may be awarded in an oppression action, a trial judge retains a discretion in that regard and we see no error in principle in the trial judge's refusal to award substantial indemnity costs in the circumstances of this case.
Conclusion
[25] For these reasons, the appeal is allowed to the extent that paras. 7 and 8 of the judgment are set aside. The prejudgment interest and costs appeal is allowed to the extent that para. 3 is varied by adding "plus interest at the chartered bank prime lending rate" after the amount of $2,179,092.55. In view of the disposition of the appeals, we invite the parties to submit any further submissions they may have as to the costs of this appeal within seven days of the release of these reasons.
Appeal and cross-appeal allowed in part.