Court File and Parties
COURT FILE NO.: CV-10841-CL DATE: 20190430 ONTARIO SUPERIOR COURT OF JUSTICE (COMMERCIAL LIST)
BETWEEN:
1085372 Ontario Limited Plaintiff – and – Geoff Kulawick and Linus Entertainment Inc. Defendants
COUNSEL: Brendan F. Morrison and Madison Robins for the Plaintiff Julian Heller for the Defendants
HEARD: October 15 to 19, 2018 and January 28 to 30, 2019
BEFORE: Penny J.
Overview
[1] This is an action under s. 96(1) of the Bankruptcy and Insolvency Act, R.S.C. 1985, c. B-3, to set aside a transfer of shares in Linus Entertainment Inc. on the basis that the transfer was at undervalue. Alternatively, the plaintiff seeks to set aside the transfer of shares on the basis that it was a fraudulent conveyance made with the intent to defeat creditors under s. 2 of the Fraudulent Conveyances Act, R.S.O. 1990, c. F.29.
[2] The action arises out of the bankruptcy of Michael Shumak. The action was commenced by the trustee in bankruptcy, Deloitte Restructuring Inc. The action was subsequently assigned to 1085372 Ontario Limited, Mr. Shumak’s largest creditor.
Background
Shumak Debt and Bankruptcy
[3] Mr. Shumak had two corporations which leased commercial premises from companies owned by Paul Oulahen. The plaintiff, 1085372 Ontario Limited, is one of Mr. Oulahen’s corporations. Mr. Shumak personally guaranteed both leases. In February and March 2011, these leases went into default.
[4] Notices of termination were served in May 2011. Demands for payment and threats to sue were issued in August 2011. No payment was ever made. 1085372 sued Mr. Shumak and his company, MacPherson Properties Limited, in November 2011. On April 27, 2012, 1085372 was granted summary judgment on its claim. Enforcement proceedings were largely unsuccessful. On December 19, 2012, Spence J. ordered Mr. Shumak to re-attend for an examination in aid of execution, which Mr. Shumak did in mid-January 2013.
[5] Nine days later, on January 23, 2013, Mr. Shumak filed an assignment under s. 49 of the BIA. 1085372’s claim in the bankruptcy was for a little over $340,000. The total claims against the estate exceeded $775,000. Mr. Shumak remains undischarged from his bankruptcy.
Linus
[6] Geoff Kulawick is passionate about the Canadian music industry. He graduated from the Music Industry Arts program at Fanshawe College. Since then, he has worked in a variety of Canadian record and entertainment settings, always involved in the production and promotion of Canadian music.
[7] In the year 2000, significant technological change was sweeping through the music business as a result of digital/streaming technologies which made it much easier to pirate musical works. In addition, the larger American labels (for whom Mr. Kulawick had been working until then) were becoming less and less interested in the Canadian market, partly because of its relatively small size. Mr. Kulawick decided he wanted to start his own independent Canadian record label and entertainment business. He went looking for investors.
[8] Mr. Kulawick was introduced to Mr. Shumak, who was also interested in the music business. Mr. Shumak agreed to invest $1 million in Mr. Kulawick’s new enterprise in exchange for 46.5% of the business’ common shares. This business became Linus Entertainment Inc. Mr. Shumak also found another investor, Fazel Salooje, who invested $300,000 for 7% of the shares.
[9] Mr. Kulawick was the President/CEO and ran the company with full authority and control. He put in the “sweat equity” for the remaining 46.5% of the shares.
[10] Mr. Kulawick’s lawyer at Blakes drafted the incorporation and other documents, including a shareholders’ agreement, which was signed as of December 27, 2000. The shareholders’ agreement requires the consent of both Mr. Kulawick and Mr. Shumak for any change in capital structure or any significant change or decision affecting the business. Thus, Mr. Kulawick maintained an effective veto in respect of any material change.
[11] The shareholders’ agreement also places limits on capital being taken out of the business. Under Article 6 of the shareholders’ agreement there could be no return of capital for the first two years. After that, a shareholder is entitled to offer to sell all (but not less than all) of his shares to the corporation and the corporation is bound to accept that offer. The purchase price is determined in accordance with Article 10.
[12] Article 10 essentially provides that the purchase price for a withdrawing shareholder’s shares is the book value of those shares as of the date of delivery of notice of the shareholder’s exercise of the buy-out right under Article 6. Article 10.03 provides that any dispute regarding calculation of the purchase price “shall be conclusively determined by the Corporation’s auditor.”
[13] However, Article 12 of the shareholders’ agreement goes on to provide that the corporation has the option of paying the purchase price over four years in four equal instalments (Article 12.03). The corporation has the further option, under Article 13.01, to elect, in any year, not to purchase shares which exceed 5% of the total number of issued and outstanding shares. Thus the period for payment to a withdrawing shareholder with 46.5% of the shares, such as Mr. Shumak, could effectively be extended for up to 12 years.
[14] Mr. Kulawick testified that he required these terms because he knew it would be difficult for the company to return Mr. Shumak’s capital. He did not want Mr. Shumak, or anyone else, to be able to strip capital out of the business in a way that would impair the company’s ability to carry on business.
[15] Mr. Shumak initially started working at the business with a salary but within 1 year to 18 months the capital was depleting and the business was struggling. In order to maintain a sustainable business and have a job to support his family, Mr. Kulawick had to cut staff, rent smaller space and change his approach to focus on a more niche market.
[16] Mr. Shumak was taken off salary. The evidence was that Mr. Shumak was agreeable to this: he had formed a band and was writing songs and doing recordings. He moved to Los Angeles and dealt with a different record label. Mr. Shumak became an entirely passive investor in Linus. Further, Mr. Kulawick testified that Mr. Shumak never had any interest in Linus and independent Canadian music. After Mr. Shumak’s departure in 2002, Mr. Kulawick rarely saw Mr. Shumak until 2010, when Mr. Shumak moved back to Toronto.
[17] The third investor, Mr. Salooje, was always a passive investor. He lived on a different continent had no involvement in the business. Mr. Kulawick has never met Mr. Salooje.
[18] From 2003 to 2011, Mr. Kulawick continued to operate Linus. He moved operations into his home in 2006. Linus had a few employees. Linus acquired interests in some other Canadian record labels, such as True North, and acquired rights to certain types of children’s and educational music products.
[19] Linus is heavily dependent on federal and provincial tax credits and subsidies. About half of its revenue is derived from this type of subsidy. Linus’ business is not sustainable without these grants, tax credits and culture-related subsidies. As a result of this government involvement, Linus has always been required to prepare audited financial statements. Michael Mulholland has been Linus’ auditor for many years. Mr. Mulholland specializes in auditing businesses in the Canadian heritage and arts fields because it is a complicated and unique area of practice. As reflected in the December 31, 2010 audited financial statements, Linus, on a consolidated basis, had earnings before income taxes of $88,004 and a net book value of $991,284. For 2011, Linus enjoyed $150,690 in earnings before income taxes and had a $1,114,060 net book value.
The Transaction
[20] Mr. Kulawick testified that sometime in 2010 Mr. Shumak came to him, complaining that he had invested $1 million in Linus and received no return. Mr. Shumak said he needed money for a new business he was setting up and asked if Mr. Kulawick could free up some of his capital from Linus.
[21] Mr. Kulawick testified that he felt obliged to pay something, as Mr. Shumak had been very patient and uncomplaining for 10 years. Mr. Kulawick felt he had sufficient cash available to make some payments to Mr. Shumak. There is evidence that between June 2010 and January 2011, Mr. Kulawick made miscellaneous payments to Mr. Shumak totalling about $100,000. These payments were not booked as dividends or return of capital, although Mr. Kulawick testified that he regarded them in substance as a return of capital.
[22] In any event, Mr. Shumak came back to Mr. Kulawick, asking for more money. Mr. Kulawick told Mr. Shumak that he could not just arbitrarily keep taking money out of the company. Mr. Shumak did not exercise his withdrawal rights under Article 6 of the shareholders’ agreement. I find that this was because any payout under Articles 10, 12 and 13 of the shareholders’ agreement would be lengthy and Mr. Shumak wanted a return of his capital right away. Thus, Mr. Shumak explored a negotiated solution to his problem. In the end, they decided on a loan.
[23] Mr. Kulawick discussed his options with his lawyer, Darren Brown. As a result, Mr. Kulawick was prepared to advance a $100,000 loan secured by a pledge of Mr. Shumak’s shares in Linus.
[24] Mr. Shumak did not want to risk forfeiture of his shares for only the $100,000 loan, however. Mr. Kulawick testified that, in his mind, he was prepared to credit Mr. Shumak up to an additional $250,000 for his shares, but could only do so if he spread out the payments over time. He did this by agreeing to loan $100,000 to Mr. Shumak and, few months later, to provide up to an additional $150,000 by way of “consulting fees” that would be paid over five years.
[25] Mr. Kulawick testified that although he initially expected the loan to be repaid, he also viewed this transaction as an opportunity to acquire Mr. Shumak’s shares in Linus in the event of non-payment.
[26] The terms of the transaction were negotiated between Mr. Kulawick and Mr. Shumak. Mr. Shumak told Mr. Kulawick he was consulting his own lawyer but neither Mr. Kulawick nor Mr. Brown ever dealt with a lawyer for Mr. Shumak. They simply sent documents to Mr. Shumak and the documents were returned.
[27] As of the end of March 2011, Mr. Kulawick and Mr. Shumak executed a letter agreement, documenting the loan and the security, a grid promissory note for up to $100,000 in advances, repayable on December 1, 2011, a share pledge agreement pledging Mr. Shumak’s shares in Linus as security for the loan and a consent (as required by the shareholders’ agreement) to the pledge of Mr. Shumak’s shares (the Transaction). Mr. Kulawick’s security interest in Mr. Shumak’s shares was registered under the PPSA on April 19, 2011.
[28] From April to June 2011, Mr. Kulawick advanced a total of $100,000 to Mr. Shumak under the loan. In July 2011, the parties executed a consulting agreement under which Linus would pay Mr. Shumak $30,000 per year (at the rate of $7,500 per quarter) for five years, commencing in July 2012. This represented additional consideration for Mr. Shumak’s shares in the event he did not repay the loan. However, almost immediately Mr. Shumak told Mr. Kulawick he wanted to accelerate the consulting payments because he needed the money. This caused Mr. Kulawick to suspect that the loan would not be repaid.
[29] Commencing in July 2011 and through to May 31, 2012, Mr. Kulawick caused Linus to advance an additional $77,000 to Mr. Shumak by way of accelerated consulting fees under the consulting agreement. Mr. Kulawick candidly admitted that Mr. Shumak provided no services in connection with these payments nor were any services contemplated. This was simply a way to transfer more money to Mr. Shumak in consideration for the pledge of his shares. However, because of the acceleration of the payments, Mr. Kulawick insisted that Mr. Shumak execute an amendment to the consulting agreement in May 2012 whereby Mr. Shumak agreed, in consideration for the acceleration of the consulting fees, that his consulting fees would be discounted by 50% (in other words, payments of $75,000 would be made immediately in replacement for the five year stream of payments of $150,000).
[30] Mr. Kulawick testified that he had no knowledge of Mr. Shumak’s potential liability as a guarantor of commercial leases or of any default in respect of leases. He testified that he had no knowledge that Mr. Shumak was in financial difficulty or of Mr. Shumak’s other creditors, if any. Mr. Shumak, he said, drove an expensive, flashy car and appeared, and acted, optimistic about his future prospects. Mr. Kulawick was only told that Mr. Shumak needed the money to finance a new business. When asked at trial, for example, whether he was concerned that Mr. Shumak was prepared to take a significant discount in exchange for acceleration of the consulting agreement fees, Mr. Kulawick testified that he had come to view Mr. Shumak as an embarrassment to Linus and a potential source of difficulty. Mr. Kulawick viewed the loan, share pledge and consulting agreement as an opportunity to secure Mr. Shumak’s exit from the business.
[31] Mr. Brown, Mr. Kulawick’s solicitor on the Transaction, gave similar evidence. Prior to closing the Transaction, Mr. Brown caused searches to be made about Mr. Shumak’s liabilities. This included a litigation and execution search. Nothing turned up. Mr. Brown was also unaware of Mr. Shumak being in any financial difficulty, or that Mr. Shumak had any other creditors besides Mr. Kulawick.
Default and Realization on Linus Shares
[32] The loan was fully advanced and came due on December 1, 2011. Mr. Shumak did not repay the loan. Accordingly, Mr. Kulawick issued a demand for payment in full of the promissory note together with accrued interest of $8,013.07 (with a per diem interest amount of $44.38). The demand stipulated that, failing immediate repayment of all indebtedness, Mr. Kulawick would foreclose on the pledged Linus shares in full satisfaction of Mr. Shumak’s indebtedness.
[33] Mr. Shumak failed to repay the loan or any portion thereof. Mr. Kulawick exercised his right to foreclose under the terms of the share pledge agreement. Mr. Shumak acknowledged receipt of the full amount of the loan, his default and the foreclosure on his shares in full satisfaction of the indebtedness in a signed confirmation and acknowledgement. As a result of the default and foreclosure, the shares were duly transferred to Mr. Kulawick on the books and records of the corporation. This took place on December 20, 2011.
Issues
[34] There are two basic issues:
(1) should the Transaction be set aside as a transfer at undervalue under s. 96(1) of the BIA; and
(2) should the Transaction be set aside as a fraudulent conveyance undertaken with the intent to hinder, defeat, delay or defraud creditors, under s. 2 of the FCA?
Analysis
[35] The proper analysis of these issues requires breaking them down into a series of sub-issues.
(1) Section 96(1) of the BIA
[36] Section 96(1) of the BIA provides:
On application by the trustee, a court may declare that a transfer at undervalue is void as against, or, in Quebec, may not be set up against, the trustee — or order that a party to the transfer or any other person who is privy to the transfer, or all of those persons, pay to the estate the difference between the value of the consideration received by the debtor and the value of the consideration given by the debtor — if
(a) the party was dealing at arm’s length with the debtor and
(i) the transfer occurred during the period that begins on the day that is one year before the date of the initial bankruptcy event and that ends on the date of the bankruptcy,
(ii) the debtor was insolvent at the time of the transfer or was rendered insolvent by it, and
(iii) the debtor intended to defraud, defeat or delay a creditor; or
(b) the party was not dealing at arm’s length with the debtor and
(i) the transfer occurred during the period that begins on the day that is one year before the date of the initial bankruptcy event and ends on the date of the bankruptcy, or
(ii) the transfer occurred during the period that begins on the day that is five years before the date of the initial bankruptcy event and ends on the day before the day on which the period referred to in subparagraph (i) begins and
(A) the debtor was insolvent at the time of the transfer or was rendered insolvent by it, or
(B) the debtor intended to defraud, defeat or delay a creditor.
[37] There are two branches to s. 96(1) and each branch has, in effect, a five-part test. The first branch, (a), applies where a transaction has taken place at undervalue and the party is dealing at arm’s-length with the debtor. Branch (a) then requires consideration of whether (i) the transfer occurred within one year of the initial bankruptcy event (January 23, 2013); (ii) the debtor was insolvent at the time of the transfer; and (iii) the debtor intended to defraud, defeat or delay a creditor.
[38] Thus, to come within the first branch of s. 96(1), the evidence must support the conclusion that:
(1) the transfer of shares took place at undervalue; and
(2) Mr. Kulawick and Mr. Shumak were dealing at arm’s-length; and
(3) the share transfer occurred within one year of bankruptcy event, January 23, 2012; and
(4) Mr. Shumak was insolvent at the time of the transfer; and
(5) Mr. Shumak intended to defraud defeat or delay a creditor.
[39] The second branch, (b), applies where a transaction has taken place at undervalue and the party was not dealing at arm’s length with the debtor. Branch (b) then requires consideration of whether (i) the transfer occurred within one year of the initial bankruptcy event or (ii) the transfer occurred within five years of the initial bankruptcy event and (A) the debtor was insolvent at the time of the transfer or (B) the debtor intended to defraud defeat or delay a creditor.
[40] With regard to the second branch of s. 96(1), therefore, the evidence must support the conclusion that:
(1) the transfer of Mr. Shumak’s shares took place at under value; and
(2) Mr. Kulawick and Mr. Shumak were not dealing at arm’s-length; and
(3) the transfer occurred within one year of the initial bankruptcy event, i.e., January 23, 2012; or
(4) the transfer occurred within five years of the initial bankruptcy event, i.e., January 23, 2008; and
(5) (a) Mr. Shumak was insolvent at the time of the transfer; or
(b) Mr. Shumak intended to defraud defeat or delay a creditor.
[41] The plaintiff relies on the second branch of s. 96(1) and argues that:
(1) the transfer of shares took place at undervalue;
(2) Mr. Shumak and Mr. Kulawick were not dealing at arm’s-length;
(3) the transfer occurred within five years of the initial bankruptcy event, i.e., March or December 2011 is within five years of January 23, 2013; and
(4) Mr. Shumak was insolvent at the time of the transfer; or
(5) Mr. Shumak intended to defraud, defeat or delay the plaintiff.
[42] The defendants argue that the first branch applies and that:
(1) the transfer of shares did not take place at undervalue;
(2) Mr. Shumak and Mr. Kulawick were dealing at arm’s-length; and
(3) the transfer did not occur within one year of the bankruptcy event, i.e., March to December 2011.
Either parts (1) or (2) and (3) combined of the first branch of the test under s. 96(1) are sufficient to dispose of the s. 96(1) claim. However, the defendants also argue in any event that;
(4) Mr. Shumak was not insolvent at the time of the transaction; and
(5) Mr. Shumak did not, by virtue of engaging in the transaction, intend to defraud, defeat or delay the plaintiff.
[43] Even if the second branch of s. 96(1) were to apply, the defendants argue that:
(1) the share transfer did not take place at undervalue. This is sufficient to dispose of the claim under s. 96(1); but in any event,
(2) if Mr. Shumak and Mr. Kulawick were not dealing at arm’s-length; and
(3) the transaction occurred within five years of bankruptcy, the requirements of s. 96(1) are still not met because;
(4) Mr. Shumak was neither insolvent at the time the transaction; nor
(5) did Mr. Shumak, by virtue of engaging in the transaction, intend to defraud, defeat or delay the plaintiff.
Arms’ Length/Non-arms’ Length
[44] The plaintiff’s claim under s. 96(1) of the BIA depends upon a finding that Mr. Kulawick and Mr. Shumak were not dealing at arm’s-length. Because this is the threshold issue, I will address it at the outset. The plaintiff argues that the parties were not dealing at arm’s-length because:
(a) the flow of funds was between Linus and a company owned by Mr. Shumak, who was also a significant shareholder of Linus;
(b) Mr. Kulawick and Mr. Shumak were partners in and co-founders of Linus;
(c) Mr. Kulawick had a history of causing Linus to make gratuitous payments to Mr. Shumak;
(d) at the time of the transaction, Mr. Shumak did not have a real economic interest in his shares of Linus given the extent of his financial problems;
(e) Mr. Shumak did not exercise his right to force Linus to purchase his shares for their book value under Article 6.01 of the shareholders’ agreement, even though that would have generated greater consideration;
(f) Mr. Shumak and Mr. Kulawick did not consult any accountants or valuators to determine the value of Mr. Shumak’s shares;
(g) the consulting agreement was not structured as a payment for Mr. Shumak’s shares but, rather, as fees for services; and
(h) none of the transactions were reflected in financial records of Linus.
[45] The term “arm’s-length” is not defined in the BIA. It is clear, however, that none of these parties are “related” to one another such that the deeming provision of s. 4(5) is not engaged. Whether the parties were at arm’s-length is, therefore, a question of fact, BIA, s. 4(4).
[46] The leading case on the meaning of arm’s length in the BIA is Piikani Nation v. Piikani Energy Corp., 2013 ABCA 293, cited with approval by the Ontario Court of Appeal in Montor Business Corp. (Trustee of) v. Goldfinger, 2016 ONCA 406. In Piikani, the Alberta Court of Appeal held that jurisprudence under the Income Tax Act, R.S.C. 1985, c. 1 (5th Supp.), provides the most appropriate guidance for determining whether two parties deal at arm’s-length in connection with the BIA. The court came to this conclusion for essentially four reasons: 1) the terms ‘related persons’ and ‘arm’s-length’ are similar in both statutes; 2) when these terms were incorporated into the BIA, they had already existed in the ITA for some time; 3) cases defining arm’s-length in the BIA had already drawn on ITA jurisprudence for interpretive guidance; and 4) the “statute book” approach to interpretation seeks to minimize conflict or incoherence between similar language used in different enactments of the same legislative entity (at paras. 23-26).
[47] The general concern in non-arm’s-length transactions is that there is no assurance that such a transaction “will reflect ordinary commercial dealing between parties acting in their separate interests.” Provisions dealing with non-arm’s-length parties are “intended to preclude artificial transactions from conferring” benefits on one or more of the parties, McLarty v. R., 2008 SCC 26, at para. 43, citing Swiss Bank Corp. v. Minister of National Revenue, [1972] SCR 1144.
[48] Useful criteria which have been developed and accepted by the courts include: (i) was there a common mind which directs the bargaining for both parties to a transaction; (ii) were the parties to the transaction acting in concert without separate interests; and (iii) was there de facto control by one over the other? McLarty, at para. 62.
[49] In Juhasz (Trustee of) v. Cordeiro, 2015 ONSC 1781, at para. 41, Wilton-Siegel J. applied these principles in the context of s. 96(1) to conclude that the concept of a non-arm’s length relationship is one in which there is no incentive for the transferor to maximize the consideration for the property being transferred in negotiations with the transferee. It is intended to address situations in which the economic self-interest of the transferor is, or is likely to be, displaced by other, non-economic factors that result in the consideration for the transfer failing to reflect the value of the transferred property.
[50] Applying these principles to the facts of this case, I am unable to conclude that the parties were not dealing at arm’s-length; they were, in my opinion, dealing at arm’s length.
[51] It is well settled that directors and shareholders cannot be presumed to be non-arm’s-length with the corporations to which they are connected, absent special circumstances. The fact that a director or shareholder is a creditor of a company is also not a conclusive indicator that he is not acting at arm’s-length, Piikani, paras. 31-36.
[52] Mr. Kulawick and Mr. Shumak were, on the evidence, at all times acting in their separate, and adverse, interests. Mr. Shumak wanted to monetize his shareholding in Linus for as much and as quickly as he could; Mr. Kulawick wanted to pay Mr. Shumak as little, over as long a time, as possible for his shares. There was no common mind directing the bargaining for both parties. One did not control the other, or the outcome of the bargaining.
[53] Mr. Kulawick gave his evidence in a straightforward and forthright manner. He was not evasive. His evidence was fundamentally consistent with the documentary record (in substance, although, as discussed later, not in form) and his clear economic incentives at the time. While he argued with opposing counsel from time to time while giving his evidence, it was no more than most witnesses do in the stress of a trial and cross-examination. Mr. Kulawick and Mr. Shumak were not friends. They did not “hang out” together. After Mr. Shumak returned to Toronto in 2010, Mr. Kulawick found Mr. Shumak’s association with Linus embarrassing and bothersome. Mr. Shumak had no interest in what Linus was actually doing in the Canadian music industry. Mr. Shumak’s incentive was to maximize his return from Linus; however, he was not willing to wait for payment in accordance with his rights under the shareholders’ agreement. In exchange for faster payment, he was willing to accept what might be regarded as less than his full entitlement. Mr. Kulawick was prepared to consider buying Mr. Shumak out sooner than required under the shareholders’ agreement if it was at a discount.
[54] I accept Mr. Kulawick’s evidence that he was not acting in concert with Mr. Shumak. I accept his evidence that he was trying to accommodate Mr. Shumak’s desire to recover his capital while, at the same time, trying to minimize the impact of that return of capital on the operations of Linus and to keep the amount within the constraints of what he felt he could afford and what he was prepared to pay. Mr. Shumak’s desire to monetize his investment promptly and his willingness to accept a discount was an opportunity for Mr. Kulawick, and he took it.
[55] It is clear that Mr. Shumak was beginning to have some financial trouble by the end of March 2011. Mr. Shumak’s companies were recently in default of payment under two commercial leases, both of which Mr. Shumak had personally guaranteed. However, he was not a defendant in any claim until November 2011 and it was not until April 2012 that he became a judgment debtor. His assignment under s. 49 of the BIA was not filed until January 23, 2013. There is no evidence Mr. Kulawick was aware of any of this until well after the fact.
[56] I do not agree with the plaintiff’s argument that Mr. Shumak’s financial trouble negated his independent economic interest in his Linus shares or his ability to negotiate at arm’s-length on the basis of that independent economic interest. To be sure, Mr. Shumak needed money in March 2011. That need, however, did not result in the overbearing of Mr. Shumak’s will but instead resulted in a rational economic choice. His entitlement to a return of capital from Linus was highly constrained under the terms of the shareholders’ agreement. At Mr. Kulawick’s sole discretion under the shareholders’ agreement, Mr. Shumak would only be entitled to receive incremental annual amounts for up to 12 years. Mr. Shumak, I find, was not willing to wait. This necessitated that he negotiate a bargain that was different than the shareholders’ agreement. This is what happened in March 2011. Mr. Kulawick drove a hard bargain; Mr. Shumak bargained for the highest amount and earliest payment he could get from Mr. Kulawick in an arm’s-length negotiation.
[57] The lack of any consultation with accountants is not evidence of the lack of an independent economic interest. Given Mr. Shumak’s desire for a quick return, Mr. Shumak’s potential entitlements under the shareholders’ agreement ceased to be material. The only question was how much of a discount Mr. Shumak was willing to take in order to receive ready cash.
[58] The peculiar manner in which part of the purchase price was paid in the guise of consulting fees or the manner in which the transaction was reflected in Linus’s financial statements does not change my view. Mr. Kulawick was the sole directing mind of Linus. He had the ability to structure the Transaction the way that he wanted. Whether the structure he adopted was justified for other purposes, or how the Transaction appeared on the books of Linus, was completely immaterial to Mr. Shumak. Mr. Kulawick’s explanation was, in any event, credible and in keeping with his approach to dealing with Mr. Shumak generally.
[59] The plaintiff also argues that Thomas Sheppard was a sometime lawyer and a friend of Mr. Shumak’s, that Mr. Sheppard was a director of Linus and that Mr. Sheppard and Mr. Brown practised law together. The plaintiff suggests that these associations support the conclusion of a non-arm’s length relationship between Mr. Shumak and Mr. Kulawick. I do not agree.
[60] There is no evidence that Mr. Sheppard played any material role in the Transaction. Mr. Brown had acted for Linus and Mr. Kulawick before. Mr. Brown and Mr. Sheppard were not partners; they merely practised in association with one another. Mr. Shumak was asked for, and provided, a waiver of any potential conflict. There is no suggestion that Mr. Brown gave anything less than complete and unambiguous loyalty and support to his client, Mr. Kulawick. Mr. Brown’s role only supports, and does not detract from, the arm’s length nature of Mr. Kulawick’s relationship to Mr. Shumak in March through December of 2011.
[61] For these reasons, I find that the first branch of s. 96(1) applies. Mr. Kulawick and Mr. Shumak were dealing at arm’s-length. Therefore, the impugned transaction, to be invalid under s. 96(1), must have occurred within one year of the initial act of bankruptcy, i.e., within one year of January 23, 2013.
One Year Before Bankruptcy
[62] There is, in this case (as in many cases), a timing difference between when the Transaction was entered into, when it closed and when it was fully implemented. The loan agreement, the promissory note and the share pledge agreement were all executed at the end of March 2011. The PPSA registration regarding the share pledge took place on April 19, 2011, although nothing turns on the timing or priorities of registration. The share transfer documents were endorsed as part of the pledge agreement. The loan amount was fully advanced by June 2011. Some of the consulting fees had also been advanced. Default under the loan occurred on December 1, 2011. Demand was made on December 2, 2011 for payment no later than December 19, 2011. Payment was not made and Mr. Shumak’s shares were duly forfeited and transferred to Mr. Kulawick on December 20, 2011.
[63] The relevant date is the date the loan agreement, promissory note and share pledge agreement were executed; that is, the end of March 2011. At the end of March, the contract was made: the obligation to advance funds became operative, as did the obligation to repay or, upon failure of repayment, to forfeit Mr. Shumak’s Linus shares. The “date of transfer” is the date on which the agreement entitling Mr. Kulawick to the transfer was signed, i.e., the date of the Transaction. The completion, in law, relates back to the date of the contract, Mercado Capital Corporation v. Qureshi, 2018 ONCA 711, at paras 29-33.
[64] Even if I am wrong in this conclusion, the only other relevant date is clearly December 20, 2011. This the date upon which the shares were actually transferred by right of forfeiture upon non-payment of the loan.
[65] Either of these dates, March 30, 2011 or December 20, 2011, occurred more than one year before Mr. Shumak’s assignment in bankruptcy. Accordingly, the Transaction is, in either case, outside the reach of s. 96(1) and cannot, therefore, be set aside under the BIA.
[66] The combined effect of my findings under these two issues (arm’s length and within one year of bankruptcy) is dispositive of the plaintiff’s claim under the BIA. The plaintiff’s claim to set aside the transaction by which Mr. Kulawick acquired Mr. Shumak’s Linus shares under s. 96(1) of the BIA is therefore dismissed.
[67] I will, nevertheless, deal with the question of undervalue because it is also both central to and dispositive of the plaintiff’s claim under the BIA.
Undervalue
[68] To address the plaintiff’s burden of proving the Transaction was at undervalue, the plaintiff called the expert valuation evidence of Peter Weinstein, of KSV. Mr. Weinstein has extensive training and expertise in business valuation and damage calculation. He candidly admitted having no experience in the independent Canadian record label business or with financing, tax and other subsidy programs associated with the operation of Canadian cultural or heritage enterprises like Linus. I qualified Mr. Weinstein as an expert, ruling that his experience, or lack of experience, with a business precisely like Linus would go to the weight to be attributed to his opinion.
[69] Mr. Weinstein based his valuation of Mr. Shumak’s equity interest on three scenarios using December 20, 2011 as valuation day. Mr. Weinstein testified that he was told to use December 20, 2011 as the date for the valuation and that he did not consider other possible valuation dates.
[70] In scenario one, he calculated the book value of Linus’s shareholder equity from the audited financial statements in accordance with Article 10 of the shareholders’ agreement ($1.08 million). He then assumed, consistent with Article 12.03 of the shareholders’ agreement, that the corporation would elect to pay the purchase price in four annual instalments. Under the assumptions contained in scenario one, Mr. Weinstein calculated the value of Mr. Shumak’s 46.5 % to be in a range of $408,000 to $459,000, with a midpoint of $432,000.
[71] In scenario two, Mr. Weinstein again calculated the book value of Linus’s shareholder equity from the audited financial statements in accordance with Article 10 of the shareholders’ agreement (again $1.08 million). He then assumed, not only that the purchase price would be paid in four annual instalments but that, consistent with Article 13.01(b) of the shareholders’ agreement, the corporation would elect to purchase no more than 5% of the total shares outstanding in any one year. This resulted in a theoretical payment stream which extended from 2011 to 2023. Importantly, however, under this scenario Mr. Weinstein assumed that Linus’s book value would increase by 10% per year (based on his estimation of Linus’s historical annual compound growth rate of approximately 15%) from 2011 until 2023, the final year of payment under this scenario. He also assumed that the book value for the purchase would be updated in each year. These assumptions produced a present valued range for Mr. Shumak’s shares of $291,000 to $457,000, with a midpoint of $360,000.
[72] In the third valuation scenario, Mr. Weinstein ignored the shareholders’ agreement and attempted to calculate a fair market value of Mr. Shumak’s shares using a combination of asset, book value and earnings approaches applied to different components of Linus’s business. Mr. Weinstein also included calculations which both discounted and did not discount for the fact that Mr. Shumak held a minority share interest in Linus. Without a minority discount, the assumptions used in this scenario produced a range of value for Mr. Shumak’s shares of $451,000 to $586,000, with a midpoint of $516,000; with a discount, the values ranged from $361,000 to $410,000 with a midpoint of $387,000. Mr. Weinstein made a point of noting that KVS did not expose Linus for sale in the marketplace to determine if some purchaser might have been prepared to entertain a transaction at some other value. As a result, Mr. Weinstein conceded that “it is not possible to comment with any degree of certainty on the price that would be paid by such a purchaser in an open market transaction.”
[73] Michael Mulholland has been a chartered accountant since 1975 and has spent his entire career working as a public accountant and as an auditor in the Canadian independent music business and associated government-sponsored and non-profit entities which support the independent Canadian music business. Neither he, nor Mr. Kulawick, were able to find any Canadian chartered business valuators with experience in valuing independent Canadian music companies.
[74] Following a voir dire, I permitted Mr. Mulholland to provide opinion evidence on certain matters relating to the independent Canadian record industry and about Linus in particular. For reasons given during a mid-trial ruling, however, I limited Mr. Mulholland’s evidence to essentially two matters: 1) his views on the likelihood of there being a market for a minority interest in Linus’s shares; and 2) a calculation schedule, Tab 1A to the Defendants’ Calculation of Share Value brief, marked at trial as Exhibit 31. Exhibit 31 reflects a recalculation of Mr. Weinstein’s scenario two with a March 30, 2011 valuation date and no increase in book value after 2011.
[75] Essentially, Mr. Mulholland’s evidence was that there is no market for even a majority, much less a minority, interest in an independent Canadian record business; in effect, Mr. Mulholland’s view is that the only market for Mr. Shumak’s minority interest in Linus was Mr. Kulawick.
[76] Mr. Mulholland advances essentially five reasons for this conclusion:
(1) Linus’s portfolio of assets is unusual and occupies an extremely small niche – Canadian roots music, jazz, classical and children’s music;
(2) all of the Canadian players in this industry are small. The most successful of them are only interested in rock music;
(3) there is a lack of any financing, let alone bank financing, available for acquisitions in this industry in Canada;
(4) only large American music enterprises could afford to acquire a Canadian music entity like Linus. However, the heavy dependence of the independent Canadian music business on government grants and tax subsidies prohibits acquisition by American record labels. This is because the subsidies on which independent Canadian music companies like Linus subsist would cease immediately upon any change of control to a U.S. entity; and
(5) the Canadian music market is also unattractive to U.S. music enterprises because it is so small, a disadvantage which is exacerbated by its further subdivision into an English and a French sector.
[77] In the view I take of the matter, only scenario two of Mr. Weinstein’s analysis has any relevance to the circumstances of this case. Scenario three, the fair market value scenario, has no application because a sale of Mr. Shumak’s interest on the open market is not permitted by the shareholders’ agreement without Mr. Kulawick’s consent and was never in the cards.
[78] Article 2.02(b) of the shareholders’ agreement provides that shares in Linus could only be sold or transferred with the prior written consent of shareholders representing a Voting Majority (i.e., both Mr. Kulawick and Mr. Shumak). Mr. Kulawick, therefore, had an absolute veto over the sale of any of Mr. Shumak’s shares other than in accordance with, among other things, Article 6, Withdrawal. Mr. Kulawick’s unchallenged evidence was that he would not have given his consent to anyone else acquiring Mr. Shumak’s minority interest.
[79] Further, Mr. Weinstein was unable to give any opinion on the price that might actually have been achieved in an open market transaction for a minority interest. Mr. Mulholland’s opinion, well supported by his extensive experience in the industry, was that there was no market for a minority interest in an independent Canadian music company. In light of Mr. Mulholland’s expertise and Mr. Weinstein’s admitted inability to comment on the issue, I accept Mr. Mulholland’s evidence on this issue.
[80] All of these factors satisfy me that the fair market value approach is not relevant to the assessment of whether Mr. Shumak’s minority interest was acquired at undervalue.
[81] Scenario one, in my view, is also unhelpful in the circumstances of this case. While it was open to Mr. Shumak to invoke his rights to be bought out under Article 6 and to have his shares valued at book value in accordance with Article 10, as discussed above Mr. Shumak did not invoke this right. The reason he did not do so is that he knew Mr. Kulawick and the company could, at their sole discretion, extend the time frame for the purchase not only to four years under Article 12.03 but to 12 years under Article 13.01.
[82] The unchallenged evidence is that Mr. Shumak wanted cash and did not want to wait. It is also the unchallenged evidence of Mr. Kulawick that, although interested in acquiring Mr. Shumak’s shares, he wanted to pay the least amount over the longest time period possible. Had Mr. Shumak exercised his contractual rights under the shareholders’ agreement, it necessarily follows that Mr. Kulawick (and Linus) would have exercised Linus’s rights under Article 13.01 to extend the time period for the acquisition of Mr. Shumak shares and diminish the impact on Linus’s operations of that acquisition.
[83] Since Mr. Shumak’s only real option to a negotiated solution was to invoke his withdrawal rights and almost certainly wait up to 12 years for his money, scenario two is the only realistic baseline against which to assess what actually happened.
[84] Mr. Weinstein’s opinion on the value of Mr. Shumak’s minority interest under scenario two ($291,000 to $457,000, with a midpoint of $360,000) is challenged by the defendants on two grounds:
(i) the valuation date of December 20, 2011 used by Mr. Weinstein; and
(ii) the 10% year-over-year growth imputed by Mr. Weinstein to Linus’s shareholder equity for the purpose of calculating the value derived under scenario two.
[85] Mr. Shumak’s agreement to pledge his shares in exchange for a loan was made at the end of March 2011. He had, as I will discuss in more detail below, already received about $100,000 in payments which, while not explicitly characterized at the time, can only sensibly be treated as some form of return of capital. By the end of June 2011, Mr. Shumak had received a further $100,000 by way of advances on the loan secured by a pledge of his shares. And, before December 20, 2011, Mr. Shumak had also received a number of payments ostensibly on account of the July 2011 consulting agreement.
[86] This evidence suggests that the end of March, rather than December 20, 2011 is the more appropriate date to establish the value of Mr. Shumak shares, as this is the date on which the Transaction became effective. By December 20, 2011, the date on which the shares were actually transferred, Mr. Shumak had already received most of the money. This evidence also suggests that, in the absence of the negotiated solution actually reached, the end of March 2011 is the date on which Mr. Shumak would likely have exercised his rights under the shareholders’ agreement to withdraw and have his shares acquired.
[87] Exhibit 31 is an alternative calculation of the scenario two value using the end of March as valuation date. Mr. Weinstein agreed in cross-examination that using March instead of December 2011 as the valuation date lowers the indicated value.
[88] During his evidence in chief, Mr. Weinstein provided an explanation for his decision to impute a 10% year over year growth rate to the book value of shareholder equity for Linus when calculating value under scenario two. This was based on his interpretation of Article 13.01(b) of the shareholders’ agreement which, he readily conceded, is a legal issue. Mr. Weinstein interpreted 13.01(b) to provide for a separate “purchase” each year for 12 years. This purchase, he concluded required a separate calculation of book value in each of those years. I do not agree with this interpretation.
[89] Under scenario two, it is assumed that Mr. Shumak had the right to have his shares purchased upon withdrawal. That right is only triggered “by written notice.” The purchase price payable must be determined in accordance with Article 10 “as to the date of delivery of such notice.” Article 10 refers to the “time” for calculation of book value. These references to “time” can only be a reference to “the date of delivery of written notice” of withdrawal. That is the time at which book value and the purchase price are to be determined.
[90] Article 12.03 provides a “payment” option over four years. Article 13.01 entitles the corporation to elect “not to purchase” in any year more than 5% of the total issued and outstanding shares “on the date such purchase is made.”
[91] The book value calculation of shareholder equity under Article 10 does not change by virtue of a “payment” deferral under Article 12.03 or an election not to “purchase” more than 5% of the total shares in any financial year under Article 13.01. All that might potentially change under Article 13.01 is the calculation “of the total number of issued and outstanding shares on the date the purchase is made.”
[92] There is no evidence that there was ever any change in the number of issued and outstanding Linus shares at any time. Even if there were, this does not give rise to any recalculation of the book value of the company. There is simply no basis under the shareholders’ agreement for the imputation of an annual increase in the book value of shareholder equity in calculating what Mr. Shumak might have been entitled to receive under scenario two just because payment likely would have been deferred and an election made not to purchase more than 5% of the total outstanding number of shares in each year.
[93] There is an alternate calculation without the annual assumed growth in the book value of shareholder equity in Exhibit 31. Mr. Weinstein agreed with the arithmetic calculations in Exhibit 31.
[94] I find that the collective impact of these two factors reduces Mr. Weinstein’s scenario two present value, at the very least, to the low end of his range, i.e., from his present value range in 2011 of $291,000 to $457,000 (midpoint $360,000) down to $196,000 to $291,000 (midpoint $236,000), depending on the choice of discount rate.
[95] Against this amount must be compared the amount Mr. Shumak actually received and the circumstances surrounding how and when he received it. The defendants say Mr. Shumak received the following consideration regarding his Linus shares: $100,000 pre-loan; $100,000 by way of loan; and $77,000 by way of “consulting” fees (discounted by approximately 50% from the negotiated $150,000 to be paid over five years, due to the acceleration of these payments to Mr. Shumak).
[96] The defendants argue therefore that Mr. Shumak and Mr. Kulawick negotiated a package valued at $350,000 for Mr. Shumak’s 46.5% equity in Linus, which was reduced to $277,000 by virtue of Mr. Shumak requesting the full amount of his consulting fee payments almost immediately. The defendants therefore argue that Mr. Shumak received substantially all, or more than, he was entitled to receive under the terms of the shareholders’ agreement.
[97] The plaintiff attacks the pre-loan amounts on the basis that Mr. Kulawick’s story about them changed over time and that it lacks credibility and on the basis that the paper trail for these payments was inconsistent and incomplete.
[98] I find that these pre-loan amounts were paid to Mr. Shumak. I agree that Mr. Kulawick’s explanation for these payments changed and that they were not accurately documented in Linus’s books and records. I find, however, as a matter of substance, that the payments were intended to be on account of the return of Mr. Shumak’s capital. The fact that Mr. Kulawick was prepared to manipulate the characterization of these payments to his own best advantage, while not laudable, does not detract from this essential point of substance. Thus, in my view, the pre-loan advances, which I find on the evidence were made to Mr. Shumak, for the reasons I have just stated, were at the time considered by both parties to be, and should be considered objectively and as a matter of substance to be payments on account of Mr. Shumak’s capital in Linus.
[99] The fact of the $100,000 loan and the pledge and forfeiture of shares is straightforward and not, on its own terms at least, controversial.
[100] The plaintiffs also, however, attack the characterization of the post-loan consulting payments as payment for Mr. Shumak shares. They do so principally on the basis that these payments were, again, treated as accounts payable by Linus, not as a return of capital paid for by Mr. Kulawick.
[101] Again, I accept Mr. Kulawick’s evidence that, although booked as Linus expenses, these payments were, in substance, on account of Mr. Shumak’s shares. While Mr. Kulawick chose at the time to characterize these payments differently and in a manner most advantageous to him, in all of the circumstances the evidence clearly demonstrates that these payments were not on account of consulting services (which, I find, were never provided and never intended to be provided). These payments were, I find, intended to constitute, and did constitute, a form of payment to Mr. Shumak for his shares if they were to be forfeited.
[102] Three aspects of the consulting agreement itself also lend support to the conclusion that these payments were, in substance, intended to be an additional form of payment if Mr. Shumak did not repay the loan and forfeited his Linus shares.
[103] First, section 3 of the consulting agreement provides that if Mr. Kulawick did not before December 31, 2011 own at least 46.5% of Linus’s shares or, after that date, if Mr. Kulawick did not own at least 93% of Linus’s shares, then payment of the amounts due to Mr. Shumak would be accelerated and paid in full within 12 months and Mr. Shumak would not be required to provide services to the company.
[104] Second, under section 5(b)(a) of the consulting agreement, the company was at liberty to terminate the consulting agreement at any time if Mr. Shumak repaid the loan and Mr. Kulawick did not realize on Mr. Shumak’s shares.
[105] Third, under section 5(b)(b) of the consulting agreement, the company was also at liberty to terminate the consulting agreement if, having realized on Mr. Shumak’s shares, Mr. Kulawick’s ownership were to be challenged by a third party claiming a prior right to Mr. Shumak’s shares.
[106] Thus, as contemplated by the consulting agreement, in the possible scenario where Mr. Kulawick would no longer be a shareholder, Mr. Shumak would be entitled to payment without providing any service. And, in the two possible scenarios where Mr. Kulawick would not end up with Mr. Shumak’s Linus shares (repayment of the loan or someone else making claim to them), any obligation under the consulting agreement to pay consulting fees to Mr. Shumak would come to an end.
[107] The overall context in which all of the payments to Mr. Shumak in 2010 and 2011 arose involved, initially, a series of ad hoc payments, then a formalize loan, promissory note and share pledge, and then a formalized consulting agreement. I find that the underlying motivation to make all these payments was the same – to provide Mr. Shumak with a return of his capital in a way, and to an extent, that a) would not detrimentally affected Linus’s operations and b) was acceptable to both Mr. Shumak and Mr. Kulawick.
[108] I find, therefore, that the amount actually paid to Mr. Shumak for his shares was $277,000. The amount Mr. Shumak could have been paid, had he been willing to wait for the five-year consulting agreement payments, was $350,000. The present value of the amount Mr. Shumak might have received had he exercised his rights under the shareholders’ agreement is a maximum of $291,000 (at a 2011 present value) and almost certainly less. It must also be noted that Mr. Shumak had no entitlement under the shareholders’ agreement to the present value of the future stream of payments authorized under Articles 12.03 and 13.01. Thus, Mr. Shumak did not have a contractual entitlement to the present value payment – his only contractual entitlement was to wait for the periodic payments over 12 years.
[109] The plaintiff also relies on the fact that Mr. Shumak invested $1 million in 2000 as evidence the Transaction was at undervalue. I do not agree.
[110] The independent Canadian music business is, on the evidence of Mr. Weinstein, Mr. Mulholland and Mr. Kulawick, risky. It is, among other things, heavily dependent on tax and other government subsidies. Mr. Shumak had a minority interest. He signed a shareholders’ agreement which specifically provided for how his shares would be valued were he to withdraw. Those provisions constrain marketability quite severely and, in any event, in no way depend upon what Mr. Shumak paid for his investment in 2000. What Mr. Shumak paid for his 46.5% interest in 2000 simply has no bearing on what his shares were worth 11 years later.
[111] The plaintiff also relies on Mr. Weinstein’s suggestion that Linus had sufficient cash to pay “full value,” without a present value calculation of a deferred stream of payments, for Mr. Shumak’s shares. While this is perhaps a relevant fact, I do not find it a persuasive one. First, Mr. Kulawick, who actually ran this business, disagreed with Mr. Weinstein’s observation, which was based only on Mr. Weinstein’s review of the financial statements. Second, and more importantly, whether Linus could have paid Mr. Shumak without reliance on the deferred payment provisions in Articles 12.03 and 13.01 is not the issue. The issue is that Linus was not obliged to do so. Linus was entitled, at its sole discretion, to elect to defer the payments. It is the unchallenged evidence of Mr. Kulawick that he would have caused Linus to do so.
[112] Section 2 of the BIA defines a transfer at undervalue as:
disposition of property or provision of services for which no consideration is received by the debtor or for which the consideration received by the debtor is conspicuously less than the fair market value of the consideration given by the debtor.
[113] The test for determining whether a difference in consideration is “conspicuously less than fair market value” under the BIA requires the court to have regard to all relevant factors, including the margin for error in valuing the assets in question, any appraisals made of the assets and the parties honestly held beliefs regarding the value of the assets, Peoples Department Stores Ltd. (1992) Inc., Re, 2004 SCC 68, at paras 85-86.
[114] In this case, there is a significant margin for error given the number of assumptions inherent in Mr. Weinstein’s calculations. Mr. Weinstein’s $291,000 present value must be regarded as being at the high end of the range. Further, any 2011 present value amount (whether the one calculated by Mr. Weinstein or another, lower amount) was not contractually available to Mr. Shumak under the terms of the shareholders’ agreement. In addition, the constraints of the payment terms to which Mr. Shumak was contractually bound, given his desire for an expeditious monetization of his shares, left him no alternative but to negotiate payment on a different basis, one that turned out to involve a discount.
[115] Given these considerations, I cannot conclude that the amount Mr. Shumak actually received was conspicuously less than what was reasonably available to him under the terms of the shareholders’ agreement. For these reasons, I conclude that the Transaction by which Mr. Kulawick acquired Mr. Shumak’s shares was not at undervalue within the meaning of s. 96(1) of the BIA.
Other Section 96(1) Factors
[116] Given my findings on the prior three issues, which are dispositive of the plaintiff’s claim under s. 96(1) of the BIA, it is not necessary to consider the further two requirements for the application of the first branch of s. 96(1), namely whether Mr. Shumak was, at the time of the Transaction, insolvent or rendered insolvent by it and whether Mr. Shumak entered into the transaction with the intend to defraud, defeat or delay his creditors. I will, however, return to these questions when dealing with the claim under the FCA.
(2) Fraudulent Conveyances Act
[117] Section 2 of the FCA provides:
Every conveyance of real property or personal property and every bond, suit, judgment and execution heretofore or hereafter made with intent to defeat, hinder, delay or defraud creditors or others of their just and lawful actions, suits, debts, accounts, damages, penalties or forfeitures are void as against such other persons and their assigns.
[118] The voiding of a transfer as fraudulent under the FCA therefore requires:
(a) the conveyance of property;
(b) an intent to defeat, hinder, delay or defraud; and
(c) a creditor or other towards whom that intent is directed.
[119] I am quite sure that Mr. Shumak was capable of defrauding the plaintiff and, given the opportunity, would have delighted in doing so. Mr. Shumak’s dislike of (or perhaps the better word is hatred for) Mr. Oulahen was palpable and coloured all of Mr. Shumak’s evidence. For this and other reasons, I did not find Mr. Shumak to be a credible witness. I have not relied on his uncorroborated evidence for any of the factual findings in these reasons.
[120] However, on the facts surrounding the Transaction as I have found them to be, Mr. Shumak was acting in his own self-interest to maximize, in the circumstances in which he found himself, the amount of money he would receive for his Linus shares. Given the constraints as a signatory to the shareholders’ agreement, Mr. Shumak had no contractual ability to achieve timely and expeditious payment from Linus for his shares. His only alternative was to negotiate an alternative solution with Mr. Kulawick. As it happens, and as I have found, the solution negotiated was approximately equal to the then present value of his shares as provided in the shareholders’ agreement, given the constraints under Articles 12.03 and 13.01.
[121] The Transaction was not at undervalue. The Transaction did not defeat, hinder, delay or defraud any creditor. What defeated creditors was Mr. Shumak’s failure to use this money, and other available resources, to pay his creditors. That had nothing to do with the Transaction with Mr. Kulawick.
[122] Put another way, to use the terminology often applied in FCA cases, the burden is on the plaintiff to prove fraudulent intent which is to be assessed at the time of the Transaction. Since fraudulent intent is rarely stated explicitly, it is most often inferred from the relevant circumstances. This entails a review of what is referred to in the cases as the “badges of fraud.” In this case, essentially none of the badges of fraud have been proved:
(i) Mr. Shumak did not continue in possession of the shares. Forfeiture took place following default under the loan;
(ii) the transaction was not a secret. Mr. Kulawick’s interest was registered under the PPSA;
(iii) the Transaction took place well before there was any threat of legal proceedings against Mr. Shumak;
(iv) in substance, the consideration was correctly stated in the documents;
(v) the consideration was not grossly inadequate;
(vi) this was a simple transaction and Mr. Shumak wanted his money. There was no “unusual” haste;
(vii) Mr. Shumak retained no benefit from his shares;
(viii) Mr. Shumak was not embarking on a hazardous new venture; and
(ix) Mr. Kulawick and Mr. Shumak negotiated the Transaction at arm’s-length.
[123] As a result of these considerations, I am bound to find that the Transaction was not undertaken with fraudulent intent. I therefore dismiss the claim under s. 2 of the FCA on this basis.
[124] Section 3 of the FCA has a saving provision:
Section 2 does not apply to an estate or interest in real property or personal property conveyed upon good consideration and in good faith to a person not having at the time of the conveyance to the person notice or knowledge of the intent set forth in that section.
[125] A person seeking to rely s. 3 must therefore show that:
(a) good consideration was paid;
(b) the person was acting in good faith; and
(c) the person did not have knowledge of the debtor’s fraudulent intent.
[126] Even if I had concluded that Mr. Shumak was motivated by fraudulent intent, I would have found that Mr. Kulawick:
(a) paid good consideration for Mr. Shumak’s shares;
(b) was acting in good faith; and
(c) did not have knowledge of Mr. Shumak’s fraudulent intent. [1]
The basis for each of these conclusions is set out earlier in these reasons in the context of dealing with the background facts and Issue #1, Section 96(1) of the BIA.
Conclusion
[127] For all these reasons, the action is dismissed.
Costs
[128] If the parties cannot agree on the disposition of costs, any party seeking costs shall do so by filing a brief written submission not to exceed three typed, double-spaced pages together with a bill of costs, within 14 days of the release of these reasons. Any party wishing to respond to a request for costs shall file a responding submission subject to the same page limit also supported by the bill of costs that party would have filed had it been successful, within a further 14 days.
Penny J.
Released: April 30, 2019
COURT FILE NO.: CV-10841CL ONTARIO SUPERIOR COURT OF JUSTICE (COMMERCIAL LIST) BETWEEN: 1085372 Ontario Limited Plaintiff – and – Geoff Kulawick and Linus Entertainment Inc. Defendants REASONS FOR JUDGMENT PENNY J. Released: April 30, 2019