COURT FILE NO.: CV-11319-00CL DATE: 20160414

SUPERIOR COURT OF JUSTICE - ONTARIO

RE: Gabor Horvath, Applicant AND: Securefact Inc., Respondent

BEFORE: Penny J.

COUNSEL: Daniel Chitiz for the Applicant Adam Stephen for the Respondent

HEARD: April 5, 2016

Reasons for decision

Overview

[1] Gabor Horvath is the founder of Securefact Inc. and holds 53% of the voting shares. In 2015 he asked the company’s principal lender, 2283074 Ontario Inc., to convert most of its loan to Securefact into Class A shares. As part of the consideration for this conversion, Horvath agreed that he would vote his controlling interest in Securefact in accordance with the instructions of 228 until the Class A shares were redeemed and 228’s debts paid off.

[2] In March 2016, a shareholders meeting was requisitioned by 228 for the purpose of considering a resolution to remove Mr. Horvath from the board. Mr. Horvath did not vote his shares in accordance with 228’s instructions. As a result, his ballot was not counted. His shares were deemed to have been voted as directed by 228 in support of the motion. The resolution to remove Mr. Horvath from the board therefore passed.

[3] Mr. Horvath brings this application under ss. 107 and 248 of the Ontario Business Corporations Act. He seeks to rescind or set aside the resolution removing him as a director and other related relief.

[4] The central issue turns on the interpretation of Mr. Horvath’s agreement to vote his controlling interest in accordance with 228 instructions. That agreement provides that, subject to one exception, until 228 no longer holds any Class A shares and no amounts are owing to 228 in its capacity as a lender, Horvath “shall vote his shares in accordance with the written instructions of 228” in any matter to be acted upon by the shareholders of Securefact. The one exception is that Horvath retained his right to vote his shares in respect of any matter to be acted upon by shareholders “relating to the redemption, retraction, repayment or retirement of” the Class A shares.

[5] Mr. Horvath argues that the subject matter of the March 2016 shareholder meeting related to the redemption of 228’s Class A shares, such that he did not have to vote his shares in accordance with 228’s instructions but was free to vote the shares in any manner he chose.

[6] For the reasons that follow, the application is dismissed.

Background

[7] Mr. Horvath founded the Securefact business in 1994. Securefact and its wholly-owned subsidiary, Securefact Transaction Services Inc., use proprietary technology to provide data management services for clients with securities regulation, secured lending and anti-money-laundering compliance obligations.

[8] Mr. Horvath is a shareholder (53% of common shares) and one of the directors of Securefact. The other directors are:

Glenn Harvey David Sudbury Don Marshall Trevor Eyton and Gregory Belton

These directors were all appointed by Horvath and have served on the board for some time. Mr. Eyton and Mr. Belton are independent directors. Mr. Sudbury and Mr. Marshall are executives with the company. Mr. Harvey owns the shares of 228, the principal source of financing for the company. 228 holds redeemable Class A Securefact shares in the amount of $3.3 million (plus accumulated, undeclared dividends) and Securefact debt of $650,000. 228 also owns 20% of Securefact’s common shares.

[9] Mr. Horvath met Mr. Harvey in 2011. 228 loaned funds to finance Securefact’s operations. In 2014 it became clear that Securefact needed to strengthen its balance sheet. Mr. Horvath approached Mr. Harvey about converting 228’s debt into equity. Mr. Harvey agreed to do so on certain terms. One of those terms was that, as long as 228 held Class A shares and Securefact debt, Mr. Horvath would be contractually obliged to vote his controlling interest in Securefact only as instructed by 228.

[10] In a contemporaneous e-mail communication with Mr. Harvey at the time, Mr. Horvath wrote:

I need to have certainty that you will not use your voting rights to keep indefinite control of the company beyond the full return of all your capital with interest and/or dividends. I am looking for your agreement to allow me to return to you both your capital and your gains, and to then have my majority voting rights concurrently revert back to me.

[11] This concept was reflected in the final term sheet, which provided that:

(a) all 228 debt in accrued interest as of December 31, 2014 was converted into Class A special shares ($3.3 million); (b) all of 228’s existing warrants and rights to receive warrants were repurchased in consideration for the issuance to 228 of 20% of the outstanding Securefact common shares; (c) Mr. Horvath assigned all the voting rights associated with his common shares to 228 until such time as all debt and Class A shares, and all interest and dividends owed, were paid in full; and (d) Horvath shall have the right to take back control of the Horvath common shares upon the retraction and/or redemption of all outstanding preferred shares and repayment of all outstanding debt amounts owed to 228 (including repayment of all arrears amounts). The voting rights of the Horvath common shares shall not be used to prevent Securefact from paying 228 to retire debt and/or redeem preferred shares.

[12] The voting rights are dealt with comprehensively in an agreement called the Undertaking Regarding Voting. Section 1 of the Undertaking provides that, subject to the limited circumstances in section 2, until 228 no longer holds any Class A shares and no amounts are owing to 228 as lender, in any matter to be acted upon by the shareholders of Securefact Horvath must vote his common shares in accordance with the written instructions of 228.

[13] The exception in section 2 of the Undertaking provides that, notwithstanding section 1, Mr. Horvath shall retain the right to vote his common shares in respect of any matter to be acted upon by the shareholders of Securefact “relating to the redemption, retraction, repayment or retirement of the Class A special shares of Securefact.”

[14] Following the 2014 restructuring, the company’s financial performance continued to fall significantly short of expectations. In June 2015, 228 hired a management consultant to examine the company’s operations. The consultant concluded that Mr. Horvath was “not an effective leader” and that the company was “too dependent” on Horvath to get things done. At a board meeting in December 2015, Mr. Harvey presented a business plan for 2016. Mr. Horvath did not support Mr. Harvey’s plan. The board gave Mr. Horvath 60 days to come up with his own business plan to present to the board. The board unanimously resolved that if Mr. Horvath’s plan was not presented to and accepted by the board within 60 days, Mr. Harvey’s plan would be adopted.

[15] Mr. Horvath presented his business plan to the board on January 28, 2016. Mr. Horvath’s plan was not acceptable to the board. Among other things, Mr. Horvath’s plan was heavily dependent on a potential sale of the business to a third-party, still to be negotiated.

[16] The minutes of the January 28, 2016 board meeting reflect the following consensus reached by the board:

The discussion at the meeting then reflected a consensus that Gabor had failed to present a new credible and funded plan to the Board. The members of the Board expressed dissatisfaction with Gabor’s job performance and his lack of commitment to providing an acceptable plan, and voiced their lack of confidence in his ability to successfully lead the Corporation.

[17] As a result of this consensus, the board approved a motion terminating or Mr. Horvath’s employment with and his status as a director of STS. Under the terms of Mr. Horvath’s employment contract with STS, he is entitled to 24 months’ pay in lieu of notice plus benefits during the notice period. The evidence is that STS is paying these entitlements.

[18] On February 19, 2016 Securefact received notice from 228 requisitioning a meeting of directors to call a special meeting of shareholders for the purpose of removing Mr. Horvath as a director of Securefact. The shareholders’ meeting was called and ultimately took place on March 9, 2016.

[19] Mr. Horvath continued to pursue discussions with the potential third-party purchaser, ESC. These discussions ultimately resulted in a non-binding letter of interest provided by ESC on March 8, 2016.

[20] At the special meeting on March 9, Mr. Horvath tabled a written statement containing a proposed resolution to remove Mr. Sudbury, Mr. Marshall and Mr. Harvey from the board and to appoint two new directors whose curriculum vitae Mr. Horvath attached to his statement. No prior notice was given of this resolution. Mr. Horvath also tabled the March 8 non-binding letter of interest provided by ESC.

[21] ESC’s letter of interest contemplated payment of $3.3 million for the Class A shares and fair market value for the common shares, to be established and agreed following a due diligence period. Representations, warranties, indemnities, conditions and covenants remained to be negotiated and included in a definitive agreement. ESC required a due diligence period to examine the books and records of the company and access to senior management. Following this due diligence period, ESC proposed to provide a valuation analysis and proposal for the fair market value of the common shares. Among other things, ESC also sought a period of exclusivity for its negotiations with Securefact.

[22] There was no resolution proposed at the meeting concerning ESC’s letter although it was Mr. Horvath’s position that negotiations with ESC should be pursued with the hope of concluding an agreement that would involve the purchase of 228’s Class A shares and the retirement of its debt.

[23] Mr. Horvath did seek to table his proposed resolutions to remove Harvey, Sudbury and Marshall and replace them with two new Horvath nominees.

[24] The chair of the meeting determined that Horvath's proposed resolutions were not “proper business” before the meeting because no prior notice of these resolutions had been given.

[25] Mr. Horvath attended the meeting with counsel. He and his counsel took the position at the shareholders’ meeting that the exemption in paragraph 2 of the Undertaking applied; that Mr. Horvath was entitled to vote his shares on the proposed resolutions because the “matter” to be decided upon by the shareholders, in substance, “related to” the redemption of the Class A shares. In essence, Mr. Horvath took the position that, while the specific resolutions on their face related to the removal or election of directors, the real issue was whether to pursue a deal with ESC. Because the potential deal with ESC contemplated redeeming 228 Class A shares and paying off 228 debt, the substance of the vote, he argued, involved a proposal to redeem the Class A shares – a matter on which Mr. Horvath, under paragraph 2 of the Undertaking, retained the right to vote his controlling interest.

[26] The other shareholders disagreed. The chair ruled that 228 was entitled to vote Horvath’s shares in support of the resolution before the meeting. Horvath was removed as a director. It is this meeting and his resulting removal as a director which is the subject of Mr. Horvath’s legal challenge in this case.

Analysis

The Voting of Horvath’s Shares

[27] The applicant raises two concerns with the conduct of the shareholders’ meeting. First, he argues that, in the circumstances, the resolution to remove him as a director (and his proposed resolutions to remove Harvey, Sudbury and Marshall and replace them with his own nominees) really involved the redemption of the Class A shares because the underlying question was whether or not to pursue a deal with ESC which, if concluded, might result in the redemption of the Class A shares and the repayment of 228’s debt.

[28] Second, he argues that it was improper for the chair of the shareholders’ meeting to rule that his resolutions to remove and replace Harvey, Sudbury and Marshall were not properly brought before the shareholders at this meeting. Mr. Horvath argues that he was entitled to have those resolutions put to the vote and that, for the same reasons advanced regarding the first argument, he was entitled to vote his shares on these resolutions.

[29] It is readily apparent that both issues turn on the meaning and scope of the Undertaking so I will start with the analysis of that issue.

[30] It is common ground that the applicable authorities and principles regarding the interpretation of commercial contracts are accurately summarized by the Supreme Court of Canada in Sattva Capital Corp. v. Creston Moly Corp., 2014 SCC 53, [2014] 2 S.C.R. 633 at para. 47:

The interpretation of contracts has evolved towards a practical, common sense approach not dominated by technical rules of construction. The overriding concern is to determine “the intent of the parties and the scope of their understanding.” To do so, a decision-maker must read the contract as a whole, giving the words used their ordinary and grammatical meaning, consistent with the surrounding circumstances known to the parties at the time of the formation of the contract.

[31] Mr. Horvath relies on certain authorities to the effect that the words “relating to” are generally interpreted to enjoy a wide compass, a “plain but expansive meaning”, see Woolcock v. Bushert, 2004 CarswellOnt 4517 (C.A.) and 725410 Ontario Inc. v. Gertner, 2011 ONSC 6121 (S.C.J.).

[32] Mr. Horvath argues that the resolutions at the March 9 shareholders’ meeting regarding who the directors were going to be was really a vote on whether to pursue the ESC transaction by allowing ESC to do due diligence and attempt to negotiate a definitive agreement with Securefact. The ESC deal, conceptually at least, if concluded contemplated the redemption of the Class A shares and repayment of 228’a debt. Mr. Horvath argues, therefore, that although the resolution was not on its face about the redemption of the Class A shares, it “related to” the redemption of the Class A shares such that Mr. Horvath was entitled to vote his shares on the resolution before the shareholders at the meeting.

[33] I am unable to agree.

[34] I accept that the words “relating to” ought not to be given a restrictive or artificially narrow interpretation. However, at the end of the day, the purpose of the interpretation of commercial contracts is to give effect to the business intentions of the parties expressed in the language they have chosen for their contract, having regard to the contract as a whole, commercial sense and the appropriate factual matrix.

[35] In my view, the business deal struck here was that, to induce 228 to restructure its debt into equity for the benefit of Securefact, Mr. Horvath gave up voting control of the company. That assignment of voting control was to last until 228 no longer held any Class A shares and no amounts were owing to 228 as lender. Until then, 228 had the ability to control the business and affairs of Securefact. Mr. Horvath’s controlling interest had to be voted as directed by 228 on all matters put before the shareholders with only one exception; that is, where the “matter” before the shareholders “related to” the redemption of the Class A shares.

[36] The purpose of the paragraph 2 exception in the Undertaking is to prevent 228 from using its voting control rights under paragraph 1 to block the redemption of its Class A shares by Mr. Horvath or the company.

[37] Mr. Horvath obtained additional protection on this point in the revised Unanimous Shareholders’ Agreement entered into at the same time as the Undertaking. Section 6.2 of the USA provides that, notwithstanding the articles of incorporation of the company, holders of more than 50% of shares may compel the directors to call a meeting for the purpose of redeeming the Class A shares. Subject to applicable corporate law (such as solvency requirements etc.) the directors are required to call the requested meeting and approve and give effect to the redemption.

[38] It is not in dispute that neither the company nor Mr. Horvath is in a position to redeem the Class A shares.

[39] The most generous interpretation of “relating to” in the context of this case cannot bring the resolution before the shareholders on March 9 concerning the removal of Mr. Horvath from the board (or for that matter, Mr. Horvath’s resolutions to remove and replace Harvey, Sudbury and Marshall) within the ambit of the language of the paragraph 2 exception in the Undertaking.

[40] Mr. Horvath’s argument essentially boils down to the proposition that if the “matter” before the shareholders might affect the company’s ability to redeem the Class A shares, the matter “relates to” the redemption.

[41] In my opinion, such an interpretation would entirely gut the purpose of the Undertaking. Mr. Horvath agreed to give up control over how the company was run and to confer that control on the party with the most significant financial stake, 228. Almost anything could arguably affect the ability of the company to redeem the Class A shares. I am prepared to accept that something less specific than an outright refusal by 228 to accept a certified cheque for $4 million in exchange for its Class A shares might fall within the exception in paragraph 2 of the Undertaking, enabling Mr. Horvath to vote his shares. However, I find that loss of confidence in Mr. Horvath’s management generally, and a resolution to remove him as a director as a result of that loss of confidence, does not.

[42] A potential transaction with ESC might hold out the possibility of financing to take out 228’s Class A shares and debt. Whether to pursue a transaction with ESC, and if so on what terms, is, however, an issue for the board, not just Mr. Horvath, to consider and decide. The potential for a future deal with ESC, the terms and condition of which have yet to be negotiated and which depends on uncertain future events such as due diligence, is too tenuous, in my view, to constitute a “matter relating to” the redemption of the Class A shares.

[43] For this reason, I reject what I view as the overly expansive interpretation of the Undertaking urged upon me by Mr. Horvath’s counsel. The meeting was properly conducted. The control block was properly voted in accordance with 228’s directions as required by the terms of the Undertaking.

[44] Given this disposition of the matter, it is not necessary to address the question of whether Mr. Horvath’s resolutions to remove Harvey, Sudbury and Marshall etc. were properly before the shareholders at the March 9 meeting. I say this because, even if they were, Mr. Horvath’s controlling interest had to be voted in accordance with 228’s direction and his proposed resolutions would have been defeated. In any event, the chairman’s ruling that Mr. Horvath’s resolutions were not properly before the meeting was, in my view, correct. Although 10 days’ notice was not required for the ordinary course election of directors, Mr. Horvath’s resolution was not ordinary course and proper notice was required, in any event, with respect to a resolution to remove incumbent directors.

Oppression

[45] Mr. Horvath also argues that the conduct of the meeting and the alleged failure of the current directors to pursue the opportunity of a deal with ESC constitute oppression under s. 248 of the OBCA. There are two issues to be dealt with.

[46] First, to the extent the oppression argument relies on the same facts as the interpretation argument dealt with above, the allegation of oppression must fail.

[47] At its core, the oppression remedy exists for the protection of reasonable expectations. Mr. Horvath agreed to the Undertaking in exchange for valuable consideration which was of considerable importance to the success of Securefact. It has to be the case that the consequences of that agreement – that Mr. Horvath is not entitled to vote his controlling interest except on a matter relating to the redemption of the Class A shares – do not fall outside of Mr. Horvath’s reasonable expectations. Parties must reasonably expect the consequences of their bargains.

[48] The second issue is a broader one. Mr. Horvath argues, now that he no longer has a seat at the board table, that he cannot participate in the operations of the company and, in particular, cannot influence the company to pursue a deal with ESC or others who might wish to acquire an interest in Securefact and satisfy the company’s obligations to 228.

[49] The application on this ground is premature. The directors are bound to act in the best interests of the company and its shareholders. They are, in that capacity, obliged to give due consideration to potential business deals that would benefit the company or its shareholders.

[50] There is no evidence that the directors are not alive to the attractions of a possible acquisition. Indeed, the evidence is to the contrary.

[51] At this stage, there is simply no evidence that the affairs of the company in respect of a possible transaction with ESC are being conducted in a manner that is oppressive to Mr. Horvath. If, in future, Mr. Horvath is able to bring forward such evidence, he is at liberty to do so.

[52] The application is dismissed. Mr. Chitiz’s Bill of Costs would have sought, had Mr. Horvath prevailed on this application, an amount substantially in excess of what Mr. Stephen is seeking on behalf of Securefact. I find that the amount sought by Securefact of $14,850 is appropriate in the circumstances, payable by Mr. Horvath within 45 days.

Penny J. Date: April 14, 2016