ONTARIO
SUPERIOR COURT OF JUSTICE
IN THE ESTATE OF ELLERY JAY MUCHMAKER, deceased
BETWEEN:
LARRY WEISSMANN
Applicant
– and –
YANIV LORAN in his personal capacity, in his capacity as Attorney for Property for Ellery Jay Muchmaker, in his capacity as Estate Trustee of the Estate of Ellery Jay Muchmaker and in his capacity as Trustee of the Jay Muchmaker Family Trust
Respondent
Miranda Spence, for the Applicant
Svetlana Ora Shpigelman, for the Respondent
AND BETWEEN:
YANIV LORAN in his personal capacity, in his capacity as Attorney for Property for Ellery Jay Muchmaker, in his capacity as Estate Trustee of the Estate of Ellery Jay Muchmaker and in his capacity as Trustee of the Jay Muchmaker Family Trust
Applicant
– and –
LARRY WEISSMANN
Respondent
Svetlana Ora Shpigelman, for the Applicant
Miranda Spence, for the Respondent
HEARD: December 6, 2018
BEFORE: Penny J.
REASONS FOR DECISION
Overview
1Jay Muchmaker died in 2015 owning, among other things, the shares of a business called Master Auto Supply Co. Limited. Larry Weissmann worked for Master Auto since 2003. Upon Mr. Muchmaker’s death, Mr. Weissmann became (and remains) the president of Master Auto.
2Mr. Muchmaker’s secondary will dealt with his interest in Master Auto. Paragraph 4(i)(i) of that will confers on Mr. Weissmann an option to purchase Master Auto for the lesser of $1.75 million or “the price determined by multiplying the earnings of Master Auto (averaged over the last three fiscal periods) by a factor of 5.5.”
3Since Mr. Muchmaker’s death, Mr. Weissmann and the estate trustee, Yaniv Loran, have come into conflict over the proper interpretation of para. 4(i)(i) and the price Mr. Weissmann is required to pay for Master Auto if he wishes to exercise the option.
4The principal issue in this case, therefore, is what para. 4(i)(i) of the secondary will means and what price Mr. Weissmann is required to pay if he wishes to acquire the shares of Master Auto.
Background
5Mr. Muchmaker founded Master Auto about 20 years ago. Master Auto’s business is providing graphic design and printing services for the automotive industry. Mr. Weissmann was hired by Master Auto as a salesman in 2003, became sales manager in 2007 and, at the time of Mr. Muchmaker’s death, was largely responsible for day-to-day operations. Mr. Muchmaker’s will provides that, upon his death, Mr. Weissmann be appointed president of Master Auto (a position he still occupies today).
6In addition to the option to purchase at a price calculated by the earnings formula, the will also provides that the purchase price be delivered by way of a promissory note, with interest payable at 5% per annum. The term and payments under the note require a gross annual payment to the estate of not less than $180,000, to be made in monthly instalments. The promissory note must be secured by a general security agreement against the assets of Master Auto as well as the registration of a collateral mortgage against the residence of the purchaser.
7Although Mr. Muchmaker died in July 2016, the estate trustee did not immediately engage with Mr. Weissmann about the option. First, the estate trustee wanted to obtain probate of all three of the deceased’s wills.
8In May 2017, at the estate trustee’s request, Mr. Weissmann engaged Master Auto’s accountant, Colin Phillips, to calculate the purchase price in accordance with the earnings formula contained in para. 4(i)(i) of the will. Mr. Phillips worked with Master Auto’s bookkeeper and, in due course, calculated the purchase price, using Master Auto’s net income as reported in its year-end financial statements after expenses (including depreciation) but before income tax and tax-related penalties (referred to in this litigation as EBITDA), at $358,429.48.
9Mr. Loran was not satisfied with Mr. Phillips’ calculation of the purchase price and retained Valuefin Services Inc. to prepare a valuation of Master Auto. The Valufin valuation was prepared “to estimate the fair market value [of the shares of Master Auto] for the purpose of probating” the estate of Mr. Muchmaker. Valufin’s report provides that “the resulting estimate of value should not be used for any other purpose or by any other party for any purpose.” Valufin concluded that the fair market value of Master Auto was $1,087,120 as of July 24, 2016 (the date of the deceased’s death).
10Recognizing, however, that the will does not prescribe “fair market value” as the basis for calculating the purchase price, the estate trustee appears to have utilized Valufin’s calculation of “normalized net income” found at p. 10 of the Valufin report in order to utilize the earnings formula that is prescribed by the will. Taking the average of these amounts for the fiscal years ending in 2014 to 2016, times 5.5, the estate trustee arrived at a purchase price of $1.171 million.
11Normalized net income, in the Valufin report, is the Master Auto net income adjusted by adding back a series of “personal” benefits paid to Mr. Muchmaker, including vehicle, insurance, meals and entertainment, casual labour, professional fees, repairs and maintenance of his home, travel and “excess remuneration.” As revealed in the disclosure of communications from Mr. Loran to Valufin, Mr. Loran instructed Valufin to add these expenses back to increase net revenue. Valufin explains these adjustments, however, on the basis that, as a private corporation, there was no distinction between Master Auto’s management and the shareholder. Because the shareholder was free to make key management decisions such as executive compensation, the shareholder was not bound by market conditions. Valufin adjusted the net income to reflect so-called “normal operational and market conditions” where it was able to obtain sufficient information. For example, Valufin determined that a salary of $70,000 would be adequate consideration for the business principal, rather than the $115,000 to $120,000 that Mr. Muchmaker was routinely paid.
12Armed with this information, the estate trustee delivered a letter of intent to Mr. Weissmann in November 2017. The LOI set out the proposed terms and conditions upon which the estate offered to sell all of Master Auto’s shares to Mr. Weissmann. The LOI contained a number of controversial terms and conditions which Mr. Weissmann maintains were not contemplated in the option given to him under the will. These include:
(a) the payment of a deposit of 10% of the purchase price;
(b) a purchase price of $1.174 million to be paid over five years resulting in annual payments of $239,445.36;
(c) the requirement that Mr. Weissmann’s spouse give an unlimited personal guarantee of the purchase price; and
(d) numerous restrictions on Mr. Weissmann’s operation of Master Auto during the five-year term of the promissory note.
13Mr. Weissmann indicated to the estate trustee that he was interested in exercising the option but that he disagreed with the terms of the LOI. Following delivery of the Valufin valuation, Mr. Weissmann retained SLF Financial Services Inc. to prepare an independent report responding to the Valufin report. SLF agreed with Valufin that the appropriate “earnings” to use in the purchase price formula is EBITDA. SLF, however, says that the appropriate fiscal periods, to comply with the requirements of the will, are the fiscal periods ending in 2013, 2014 and 2015. Mr. Muchmaker died shortly before the end of Master Auto’s 2016 fiscal year-end of July 31, 2016, such that the 2016 fiscal period was not over at the time of death and was, therefore, not one of the most recent completed fiscal periods.
14SLF concluded that no adjustments were contemplated by the earnings formula provided in the will. On this basis, SLS concluded that the purchase price required under para. 4(i)(i) is $514,419.
15In the alternative, if adjustments were to be made for Mr. Muchmaker’s personal expenses being paid by the company, the purchase price would be $716,921. Based on independent research and other factors, SLF concluded that $70,000 per year was an inappropriately low figure to use for the principal’s annual compensation. SLF recommended using actual compensation paid to Mr. Muchmaker, even though it was lower than benchmark compensation paid to printing company presidents of similar size in the region.
16SLF also says that certain transfers from Master Auto to the estate since July 26, 2016, together with accounts receivable owed to Master Auto by Mr. Muchmaker or the estate, in the total amount of $836,608, should be offset from the purchase price.
Issues
17There are seven issues to be resolved:
(1) has the option to purchase Master Auto expired?
(2) what “earnings” should be used to determine the purchase price?
(3) should any adjustments be made for payments by Master Auto to the estate since July 26, 2016?
(4) over what time period, and in what annual amounts, must the purchase price be paid?
(5) is a personal guarantee required of Mr. Weissmann’s spouse?
(6) if Mr. Weissmann does not own a home, may other collateral security be substituted? and
(7) are the restrictive loan covenants proposed by the estate trustee justified?
Has the Option Expired?
18The estate trustee takes the position that Mr. Weissmann was required, under para. 4(viii) of the will, to accept the terms and conditions described in the November 2017 LOI within 30 days. Having failed to do so, the estate trustee argues that the option has expired and that Mr. Weissmann no longer has any right or opportunity to acquire the shares of Master Auto under the terms of the will.
19Mr. Weissmann takes the position that the LOI was not in accordance with the terms of Mr. Muchmaker’s will and that, as a result, the 30 day time period during which he is permitted to exercise his option has not yet begun to run. There being a bona fide dispute about how earnings are to be calculated, and how other terms and conditions of a possible transaction should be resolved, Mr. Weissmann takes the position that his 30 day notice period will not begin to run until the present issues in this litigation are resolved.
20The estate trustee’s position is a highly technical one and does not reflect the realities of the situation. While para. 4(viii) of the will gives Mr. Weissmann 30 days from notice of the option to exercise it, this provision does not permit the estate trustee to impose whatever unreasonable or ill-founded terms and conditions he chooses.
21The will does not define “earnings.” Three competent accountants/business valuators have now arrived at three different numbers. There is a bona fide dispute over what the purchase price should be, having regard to the use of “earnings” as the critical factor in the pricing formula. Until that dispute is resolved, it would be unreasonable to force Mr. Weissmann into the binary choice of either: a) agreeing to a price he believes is wrong; or b) forfeiting his option entirely.
22Further, none of the deposit, the five-year payout term, the spousal guarantee or the miscellaneous business restrictions sought to be imposed by the estate trustee in the LOI are contemplated by the will. The instructions to the estate trustee under the will are quite detailed and specific in connection with the option being given to Mr. Weissmann. The otherwise broad discretion afforded the estate trustee is, in connection with the option to purchase Master Auto, quite restricted. These terms and conditions contained in the LOI were, in my view, unreasonable. The estate trustee’s attempt to impose these restrictions was inconsistent with the deceased’s instructions. The estate trustee did not have the discretion to impose them unilaterally.
23For these reasons, I conclude that the delivery of the LOI did not trigger the 30 day exercise period of Mr. Weissmann’s option. The 30 day period, in the circumstances as they have arisen here, will only commence upon the delivery of the Court’s disposition of the disputed issues. The option, therefore, has not expired.
The Purchase Price
24The disagreement between the parties on this issue (and the swing of some $500,000-$600,000 between their positions on the purchase price) turns on the question of whether Master Auto’s earnings should be “normalized” and, if so, what adjustments are reasonable and necessary in the circumstances. The material normalizing adjustments in dispute are the so-called “personal benefits” paid to Mr. Muchmaker and what Valufin and Mr. Loran refer to as “excessive” compensation paid to Mr. Muchmaker.
25The SLF position, that no adjustments should be made at all, essentially stems from its conclusion that the earnings formula in the will does not expressly contemplate such adjustments and that, although these kinds of adjustments may be appropriate when calculating fair market value, they are not relevant in the context of the earnings formula.
26I find this argument to be somewhat conclusory. In addition, it depends largely on an interpretation of para. 4(i)(i) of the will – a legal issue.
27I am not persuaded that all notions of fair market value must be excluded from consideration just because the will does not adopt a fair market value test for the purposes of determining the purchase price available to Mr. Weissmann under the option. As even the SLF calculations implicitly concede, the payment of personal benefits, like personal life insurance, home repairs and the like, would not be considered part of “normal” business expenditures. For this reason, I conclude that the “personal benefits” paid by Master Auto on Mr. Muchmaker’s behalf should be “normalized” in the earnings formula.
28I take a different view, however, of the Valufin adjustment for Mr. Muchmaker’s compensation. The “normalized” amount of $70,000 is not justified by any evidence. Although asked repeatedly for support for this number, little concrete information was forthcoming from Valufin. I find the SLF position, having regard to the salaries paid not only to Mr. Muchmaker but to Mr. Weissmann as well, supported by survey data of presidents of other printing companies of similar size in the region, to be much more persuasive. I accept, therefore, the SLF evidence on this point. I also agree with SLF that the appropriate financial statements required by the terms of the will to determine earnings are fiscal 2013, 2014 and 2015.
29The estate trustee also sought to introduce hearsay evidence of the testator’s intention about the purchase price through a paralegal who claims to have prepared, on Mr. Muchmaker’s instructions, a draft agreement of sale to Mr. Weissmann. There is no evidence this draft was ever shown to or discussed with Mr. Weissmann. This evidence is inadmissible. It offends the rule prohibiting subjective evidence of intention. The testator’s intention is to be taken from the language of the will itself, interpreted in the context of the surrounding circumstances (that is, objective circumstances known to both parties at the time). A draft agreement never shown to Mr. Weissmann is not evidence of surrounding circumstances. Even if I had found this evidence admissible, however, I would have given it no weight.
30I conclude therefore that, subject to any other adjustments dealt with below, the purchase price for the shares of Master Auto is $716,921.
Dividends and Other Payments Made from Master Auto Since July 26, 2016
31It is clear from the terms of the will governing Mr. Weissmann’s option that the deceased believed the calculation of the purchase price (average earnings times 5.5) would be simple and uncontroversial. Otherwise, the 30 day exercise period and the 45 day closing period do not make any sense.
32It is also clear, however, given these relatively tight time frames and the absence of time for substantial due diligence by Mr. Weissmann, that the deceased intended the decision, and the deal (if the option were exercised), would happen quickly.
33None of the estate beneficiaries worked for or were involved in the operations of Master Auto. It is clear that Mr. Muchmaker wanted Mr. Weissmann to have the opportunity to take over the company. All this, taken together with the abbreviated timeframe and the use of the earnings-based pricing formula, further suggests that it was not in the contemplation of the deceased that the estate would be able to strip assets out of the company before selling it to Mr. Weissmann, leaving the company, for example, without sufficient operating capital or other assets.
34As things turned out, given the disputes that have arisen, the hoped-for prompt closing never took place. In the meantime, for various reasons, the estate has withdrawn certain funds from (or not paid funds to) Master Auto. These are summarized in Schedule 1 of the SLF report and include:
(i) cash payments to estate since July 25, 201 – $187,310
(ii) transfer of vehicles to estate – $25,000
(iii) amount owing by estate to Master Auto – $164,460
(iv) amount owing by Mr. Muchmaker as at July 26, 2016 – $164,837
(v) dividend post-date of death – $170,000 and
(vi) further dividend post date of death – $125,000.
There is also the related issue of whether the estate may remove from the company, before a sale to Mr. Weissmann, any “excess non-operating assets” in the company (or, alternatively, add such assets to the purchase price).
35The analysis of these issues is complicated by the fact that:
(a) the estate trustee has refused to provide information about historical dividend practice; and
(b) the transaction obviously did not close promptly, as desired by Mr. Muchmaker.
36Mr. Loran concedes that after Mr. Muchmaker’s death, the estate trustee caused Master Auto to pay certain dependent support payments to Mr. Muchmaker’s common-law spouse. He did so because the estate itself lacked liquidity to make these payments. Mr. Loran conceded that Master Auto “will be made whole” for these payments. Mr. Loran proposes to do so, however, by means of declaring yet another dividend from Master Auto to the estate at a later date.
37Whatever might be said of the dividends already taken (which are dealt with below), the use of the company’s funds (and the proposed “dividend” treatment for repayment) to pay estate liabilities to an estate beneficiary is not appropriate in the present circumstances. Given where the parties are in this process, no further dividends or other payments may be declared or paid unless and until Mr. Weissmann declines to exercise his option or fails to close the transaction on a timely basis.
38These funds must be returned to the company by the estate. The repayment shall be by way of a credit against the purchase price of $187,310.
39Two vehicles have been transferred from Master Auto to the estate. SLF ascribed a value of $25,000 to these vehicles. This is said to be an “assumed value.” No evidentiary basis is provided for this assumption. Mr. Loran has deposed to his “belief” that the vehicles had been fully depreciated to zero and were therefore transferred to the estate at nil value. Again, there is no evidence provided to support this belief.
40On this evidence, I am simply unable to conclude Mr. Weissmann has proven on a balance of probabilities that value of $25,000 was unreasonably stripped out of the company. I therefore make no adjustment for this item.
41The amounts owing to Master Auto by related parties and Mr. Muchmaker personally are accounts receivable on the books of the company which predate Mr. Muchmaker’s death. The will specifies that the option, if exercised, is on an “as is” basis, given Mr. Weissmann’s long familiarity with the company. The will, therefore, offers no guarantee of the collectability of any amount owing to the company. For this reason, no adjustment to the purchase price can or should be made for these items unless agreed by the parties. The company has its remedies to collect these debts.
42Finally, there is the question of the dividends paid to the estate following Mr. Muchmaker’s death. These dividends were paid at a time when the estate was the sole shareholder of Master Auto. Had Mr. Weissmann purchased Master Auto in the timeframe contemplated, he would have had to pay, and the estate would have enjoyed, regular monthly payments equivalent to at least $180,000 per year for the shares of Master Auto. Mr. Weissmann, of course, as sole shareholder would himself have been entitled to declare permissible dividends.
43The purchase price for the shares not having been paid, I am unable to see why these dividends must be repaid unless the dividends could be said to have improperly stripped assets from the company to the company’s detriment.
44Mr. Loran has deposed that he calculated the amount of the declared dividends in consultation with Master Auto’s accountant, Ms. Guilmette. The dividends were declared out of retained earnings, leaving enough capital in Master Auto to ensure that it continued to have sufficient cash flow to operate successfully. This was done only after Mr. Loran received and reviewed the relevant financial information from the accountant and had the opportunity to discuss Master Auto’s finances with her. Mr. Loran was not cross-examined on this evidence and there is no contrary evidence.
45Mr. Weissmann was the president of the Master Auto during this period and is intimately familiar with the company’s financial affairs. If the payment of these dividends somehow impaired the ability of the company to operate, or otherwise detrimentally affected the company’s value, I would have expected Mr. Weissmann to have put such evidence before the court. In the absence of that evidence, I find that the declaration and payment of the two dividends, at a time when it was uncertain whether Mr. Weissmann would ever acquire the company, was not improper. No credit against the purchase price, therefore, is warranted in respect of the two dividends already paid.
46Regarding excess non-operating assets, it follows from what I have found earlier that the estate would not have been entitled, had the transaction proceeded promptly as contemplated by Mr. Muchmaker, to strip assets from the company, whether non-operating or not, pending the sale of the shares to Mr. Weissmann. The will specifically rejected using, as the pricing mechanism, fair market value. There is no provision in the earnings formula for pricing adjustments based on cash in hand or excess non-operating capital. In my view, therefore, with the exception of the dividend payments made during the period of uncertainty when the option was effectively on hold, no such adjustments are permitted. The company, “as is,” includes cash and excess non-operating capital. This is what Mr. Weissmann is entitled to acquire for the price derived from the earnings formula. The excess non-operating capital adjustment proposed by the estate trustee is also, in my view, inconsistent with the election by the estate trustee to have this deal proceed as a share, rather than an asset, transaction.
Time Period for Payment
47The will provides no minimum or other fixed time period over which the purchase price must be paid. The purchase price must be secured by a general security agreement against the assets of the company.
48The estate trustee may not arbitrarily decide over what period of time the purchase price must be paid. It must be paid at the rate of at least $180,000 per year. Whether it is paid at a higher annual rate is up to Mr. Weissmann. The term of the promissory note will be whatever is necessary given the purchase price and the minimum required annual payments of $180,000.
Personal Spousal Guarantee
49The will does not impose a requirement for a personal spousal guarantee in support of the promissory note given for the total purchase price. The “guarantor” referred to in para. 4(i)(v) of the will is a reference to the guarantee of Mr. Weissmann and potentially Stephen Kornblum (not relevant to this litigation). The estate trustee may not unilaterally impose a requirement for a spousal guarantee.
Collateral Mortgage
50Mr. Weissmann does not own a residence. There is no evidence about whether or not this fact was known to the deceased. The will does not provide any direction about minimum net equity or the required or even assumed value of this collateral security. In this respect, therefore, the provision for a collateral mortgage is, from a financial point of view at least, meaningless. In the circumstances, I find that because Mr. Weissmann does not own a home, he is not required to provide a collateral mortgage on a non-existent asset. Because there is no value associated with the contemplated collateral mortgage, there is simply no way to determine what replacement or alternative security might be. Providing for alternative security would also involve re-writing the provisions of the will, which is beyond the jurisdiction of the court. In these circumstances, no collateral mortgage is required.
Restive Loan Covenants
51The will says almost nothing about the technical deal terms. I find that it was Mr. Muchmaker’s intention to make this a simple, straightforward transaction. The terms and conditions were intended to be as stated in the will and as reasonably required by implication.
52The requirement not to incur additional debt unless it is subordinate to the general security agreement and approved by the board is a term reasonably required by necessary implication. The requirement to deliver the company’s financial statements annually, as they become available, is also a reasonable term, required by necessary implication. A requirement for advance notice of any transactions outside the ordinary course of business is also a reasonably necessary one. I find that the remaining proposed loan covenants contemplated by the estate trustee on page 3 of the LOI are neither specified in the will nor reasonably required by implication. The balance of the proposed financial constraints may, therefore, not be imposed unilaterally by the estate trustee.
53It is my expectation that the deal covenants will reflect the commercial realities of loan documentation for transactions of similar size and nature and that the parties will negotiate appropriate terms in good faith, with a view to successfully concluding this transaction in the time specified. This approach is contemplated in the will, for example in para. 4(i)(iv)(2) of the will dealing with events of default under the promissory note.
54There was a suggestion by the estate trustee that the estate may not be in a position to sell the shares of Master Auto because of potential estate liabilities.
55This is a very serious matter. If there was any truth to this suggestion, I would have expected this allegation to have been proved by clear, cogent evidence. Instead, it was added in an 11th hour affidavit as a “make-weight” argument unsupported by concrete evidence.
56I reject this suggestion as nothing more than an attempt to thwart the testator’s intentions and prevent or delay the sale.
Conclusion
57In conclusion, Mr. Weissmann is granted the option to purchase the shares of Master Auto for the net amount of $529,611 (716,921 – 187,310). He shall have 30 days from the release of these Reasons to exercise that option. If the option is exercised, the closing shall take place 45 days thereafter. There shall be no arbitrary time frame for the term of the promissory note; Mr. Weissmann shall be obliged to pay at least $180,000 per year (in monthly installments) at the prescribed rate of interest. There shall be no other adjustments to the purchase price. There shall be no further dividends declared or withdrawals of cash or other assets of the company by the estate before closing. There shall be no requirement for a personal spousal guarantee. There shall be no requirement for collateral security over an asset Mr. Weissmann does not own. Subject to these Reasons, any other detailed loan terms shall be as appropriate for similar transactions in similar circumstances, negotiated in good faith.
Costs
58Mr. Weissmann was substantially successful in this litigation. He is entitled to his costs. His counsel submitted a partial indemnity bill of $38,118.44. Over $17,000 of this amount arises from the retainer of SLF which was necessitated by the filing of the Valufin report.
59The estate trustee’s partial indemnity bill was for $53,829.65. In all the circumstances, particularly having regard to the important consideration of what the losing party might reasonably expect to pay, I find the amount requested by Mr. Weissmann is reasonable. Costs are therefore payable by the estate to Mr. Weissmann in the amount of $38, 118.44.
60These costs shall operate as a deduction from the purchase price on closing if the option is exercised. They shall be payable within 45 days if it is not.
Penny J.
Released: January 4, 2019