SUPERIOR COURT OF JUSTICE – ONTARIO

Commercial List

COURT FILE NO.: CV-19-625186-00CL

DATE: 20200901

RE: TRIDELTA FINANCIAL PARTNERS INC.,

TRIDELTA FIXED INCOME FUND,

TRIDELTA HIGH INCOME BALANCED FUND, 2679518 ONTARIO INC. and

ZEPHYR ABL SER-A 4.875% JAN 25, 2021 LIMITED PARTNERSHIP

Applicants

• and –

ZEPHYR ABL SER-A 4.875% JAN 25, 2021 GP INC. and

SQUARE CAPITAL MANAGEMENT INC.

Respondents

BEFORE: Koehnen J.

COUNSEL: C. Naudie and L. Tomasich for the applicants

H. Book and A. Young for the respondents.

HEARD: July 15, 2020

ENDORSEMENT

[1] The applicants invested $7.5 million into Zephyr ABL SER-A 4.875% JAN 25, 2021 Limited Partnership (the “Partnership”). The Partnership was managed by its general partner, the respondent Zephyr ABL SER-A 4.875% JAN 25, 2021 GP Inc. (“Zephyr”). The applicant seeks a declaration to the effect that Zephyr was validly removed as the general partner effective as of February 7, 2019 and for related ancillary relief.

[2] The applicants allege that Zephyr should be removed as general partner because of a number of breaches of fiduciary duty.

[3] Zephyr submits that there were no breaches of fiduciary duty to begin with and that, in the alternative, if there were any such breaches, they caused no harm and were cured within 30 days of Zephyr being advised of the breach. The Limited Partnership Agreement provides for the removal of the general partner only if it has committed a breach which remains uncured for 30 days.

[4] Shortly after the hearing I advised the parties that I would grant the declaration the applicants seek with reasons to follow. These are those reasons.

The Parties

[5] The TriDelta applicants act as the manager and trustee of two funds which invest on behalf of others. For ease of reference I will refer to the TriDelta applicants collectively as TriDelta. In January 2018, TriDelta invested $7.5 million into the Partnership in exchange for 75,000 Series A units of the Partnership. The purpose of the Partnership was to invest in real estate mortgages. The units provide TriDelta with interest of 4.875% per year until January 2021 at which time the units mature and are to be redeemed.

[6] Zephyr acted as general partner of the Partnership from January 2018 onward. Mr. Sutha Kunam is an officer, director, and controlling shareholder of Zephyr. The two other directors of Zephyr are Mr. Asif Khan and Mr. Ranier De Lambert.

[7] Square Capital Management, Inc (“SCM”) is the only other limited partner of the Partnership and holds 10 Series B units, which required a contribution of $1,000 to the Partnership. Kunam is the sole shareholder, officer and director of SCM.

The Breaches of Fiduciary Duty

(i) Related Party Agreements

[8] Section 8.9 of the Limited Partnership Agreement requires Zephyr to obtain a resolution passed by a majority of the limited partners before entering into any agreement with an affiliate. TriDelta complains that Zephyr entered into agreements with affiliates without obtaining the approval of the limited partners.

[9] The principal investment of the Partnership was a loan to Kuber Mortgage Investment Corporation.

[10] Mr. Kunam is the Chief Executive Officer, a director and the controlling principal of Kuber (Mr. De Lambert is also its Chief Operating Officer). This makes Kuber an affiliate of Zephyr. The Limited Partnership Agreement defines “affiliate” as having the meaning ascribed to that term under the Ontario Business Corporations Act, RSO 1990, c B.16. Section 1 (4) of the OBCA defines affiliate as:

“For the purposes of this Act, one body corporate shall be deemed to be affiliated with another body corporate if, but only if, one of them is the subsidiary of the other or both are subsidiaries of the same body corporate or each of them is controlled by the same person.”

[11] Given Mr. Kunam’s position and controlling interest in both Zephyr and Kuber, it is clear that Zephyr and Kuber are controlled by the same person and are affiliates. The loan to Kuber was not, however, put to a vote of the limited partners.

[12] Under the Kuber loan agreement, the Partnership agreed to lend Kuber up to $7.5 million at 9.25% per year interest. TriDelta earned only 4.875% on that investment. The balance was retained by Zephyr.

[13] Moreover, when the funds were advanced to Kuber, there was no loan agreement in place. A loan agreement was not prepared until several months later in April 2018. This arguably falls afoul of the obligation in section 8.5 of the Limited Partnership Agreement to safeguard the Partnership’s assets.

[14] The agreement pursuant to which Zephyr retained SCM was also never put to the limited partners for approval even though SCM was an affiliate of Zephyr . On this application, SCM asserts a claim against the Partnership for all outstanding management fees to the end of its tenure as envisaged under the SCM agreement.

[15] Zephyr submits that the SCM agreement was disclosed in the Limited Partnership Agreement because section 6.3 of that agreement refers to an Administration Services Agreement. In addition, Zephyr points to a resolution of the general partner approving the SCM agreement. Both submissions miss the point. The issue is not whether the general partner is entitled to enter into an administration services agreement, the issue is not even whether the general partner can enter into such an agreement with an affiliate. The issue is whether any agreement with an affiliate has been approved by the limited partners as required by the Limited Partnership Agreement. TriDelta says there was no such approval. Zephyr has not produced any evidence to the contrary.

[16] In addition, Zephyr rented office premises from a numbered company owned by Mr. De Lambert. Partnership assets were used to pay for the condominium fees, renovation and decorating expenses associated with the office space. The rental agreement was never put to the limited partners for approval. Even if not strictly speaking and affiliate because Mr. De Lambert does not control Zephyr, the rental agreement demonstrates a disregard of common law fiduciary duties and demonstrates a general disregard of the separation of interest required by common law principles of fiduciary duty.

[17] Shortly after TriDelta paid the $7.5 million, Mr. Kunam arranged for $444,937.50 of those funds to be paid to Millwood Real Estate Inc., a company controlled by Mr. Khan who is also a director of Zephyr. After TriDelta became aware of this advance and began asking questions about it, the principal was repaid without interest on April 6, 2018. The Millwood loan was not put to the limited partners for approval. Once again, even if Millwood not technically an affiliate because Mr. Khan does not control Zephyr, the loan demonstrates a further disregard for common law principles of fiduciary duties and the separation of interests those duties require.

[18] The respondents defend the Millwood loan on the basis that Mr. Khan was a friend of Ed Jong, a former employee of TriDelta who was responsible for the TriDelta investment into the Partnership. Zephyr submits that it was Mr. Jong who asked that Mr. Kahn be made a director of Zephyr so that someone associated with TriDelta would be involved in the general partner. Even this is the case, it does not relieve Zephyr of its fiduciary duties. Mr. Khan was clearly a director of Zephyr. As a fiduciary, Zephyr should not be making investments into companies controlled by its own directors without the approval of the beneficiaries of those fiduciary duties.

[19] The obligations of a fiduciary go beyond personal friendships or relationships. Zephyr knew or ought to have known that the money it received did not belong to Mr. Khan. The fact that Mr. Kahn might have been a friend of a TriDelta employee does not mean that Zephyr can ignore its fiduciary obligations to TriDelta and benefit Mr. Khan at whim.

[20] On cross-examination, Mr. Kunam sought to defend the lack of interest on the Millwood advance by arguing that, if the funds had remained unallocated in a Zephyr account, they would not have earned interest either. That too misses the point. The point is that the funds were not sitting unallocated in a Zephyr account. They had been given to another party without interest or security. During his cross-examination, Mr. Kunam also suggested that the amounts advanced to Millwood were somehow subject to a 90 day interest-free “holiday period” during development. I was not directed to any documentation to establish that this was in fact the case. Nor was I otherwise directed to documentation that established the purpose of the Millwood advance.

(ii) Co-mingling of Partnership Funds

[21] Section 8.5 of the Limited Partnership Agreement provides:

“The General Partner is responsible for the safekeeping and use of all funds and assets of the Partnership whether or not in its immediate possession or control and will not employ or permit another to employ the funds or assets except for the exclusive benefit of the Partnership.”

[22] Section 8.8(c) restricts the General Partner from co-mingling Partnership funds “with the funds of the General Partner, its Affiliates or any third party.”

[23] Zephyr maintained a single bank account for the partnership in its own name. It also set up a Visa card in its own name and used Partnership funds to pay for all expenses on that card.

[24] Kunam and Zephyr used the single bank account and Visa card to pay personal expenses including first class travel, meals at high-end restaurants, nearly daily uber-eats and uber-rides, multiple cell phone bills (including the cell phone of Mr. De Lambert’s wife), personal car expenses, personal transponder expenses, an engagement party and a 400-person wedding party for Mr. De Lambert’s daughter at the Royal York Hotel.

[25] The respondents submit that these expenses were legitimate because they were paid to entertain and travel to investors who would potentially take out the TriDelta investment on maturity. The respondents explained that the engagement and wedding came about because the partnership had reserved space at the Royal York Hotel for investor presentations that ultimately did not occur. When the investor presentations fell through, Messrs. Kunam and De Lambert decided to use the Royal York for the engagement and the wedding celebrations rather than losing the deposit they had paid for the investor presentation. The respondents have not produced any documentation to support visits or presentations to investors or to support the assertion that the Royal York reservation was originally for an investor presentation.

[26] Zephyr further submits that the co-mingling of accounts was appropriate because the general partner was “just a flow-through” and did not have its own assets. Zephyr suggests that they had accounting advice to this effect. No one, however, directed me to any clear accounting advice to that effect. Even if such advice had been received, Zephyr does not appear to have been used as a “flow-through”. Zephyr received partnership funds. That same Zephyr account was used to pay purely personal expenses of Mr. Kunam and Mr. DeLambert. If the Zephyr account was indeed a “flow-through” account, presumably the flow had to be through to some sort of legitimate partnership expense. That might be to a service provider to the partnership or a payment pursuant to the distributions contemplated by the Limited Partnership Agreement. Partnership assets are not, however, intended to flow-through to pay for wedding expenses.

(iii) Use of Partnership Funds for Legal Expenses

[27] It appears that Kunam, Zephyr and SCM have used Partnership funds to pay their personal legal counsel on this Application. The purpose of that legal retainer was to represent their personal interests in maintaining their tenure and to recover SCM’s management fees from the Partnership. Respondent’s counsel on this application has not performed any services for the Partnership. Rather the purpose of the engagement is to advance the personal interests of Zephyr and SCM.

Zephyr’s Defences

[28] Zephyr defends itself on a number of bases.

[29] First, it argues that the application has arisen because Mr. Jong has left TriDelta and that TriDelta’s CEO, Ted Rechtshaffen has tried to obtain a different business deal than the one Mr. Jong agreed to. While Zephyr does not say so expressly, the suggestion is that the special resolutions terminating Zephyr as general partner were only passed after Mr. Rechtschaffen’s efforts to obtain a different business deal failed.

[30] That argument is of no assistance. Even if I assume it is correct, it would only underscore the importance of a fiduciary adhering strictly to its duties. Adhering to fiduciary duties will protect the fiduciary from opportunistic efforts to renegotiate a transaction. The failure to adhere to fiduciary duties may well expose a fiduciary to efforts to renegotiate a transaction. There may in fact be nothing wrong with trying to renegotiate a transaction once it is discovered that a fiduciary has breached its duties. At the end of the day, I am not concerned with whether someone has tried to or not tried to renegotiate a transaction, the question before me is whether Zephyr did or did not breach its fiduciary duties.

[31] Second, Zephyr argues that TriDelta has continued to receive its interest payments as provided for in the Limited Partnership Agreement and has suffered no harm. In my view, this also misses the point. Limited partners are entitled to have fiduciaries manage the limited partnership in accordance with strict observance to their fiduciary duties. A general partner who does not adhere to fiduciary duties changes the risk profile that investors have agreed to accept and places them at greater risk of future harm. Investors who are given the protection of a fiduciary expect the fiduciary to protect them from the risk of future harm, not expose them to it.

[32] Moreover, as TriDelta submits, the expenditure of partnership assets on improvident, self-interested contracts or on personal expenses, reduces the general assets of the Partnership. This increases the risk that future monthly payments might not be paid or would be paid at a reduced amount or that the principal under the limited partnership units will not be repaid.

[33] In response, Zephyr submits that it underpaid SCM on the management agreement as a result of which it was entitled to take Partnership assets and that under the distribution waterfalls in the Limited Partnership Agreement, the funds would have been payable to other parties in any event. The short answer to that submission is that if the principals of Zephyr or others believed they had an entitlement to Partnership assets under the waterfall arrangements in the Limited Partnership Agreement, those arrangements should have been followed. Following those arrangements may or may not have given TriDelta an argument to the effect that the distributions were improper under the waterfall arrangement. Even if TriDelta had no such argument, the essence of a fiduciary duty is to maintain a strict division between the affairs and interests of the fiduciary and those of the limited partners the fiduciary has agreed to protect. Co-mingling those interests by ignoring the distinctions breaches a core element of the fiduciary’s duty.

The Resolutions Removing Zephyr as General Partner

[34] Section 8.10 of the Limited Partnership Agreement provides:

In addition, the General Partner may be removed and a substitute general partner appointed by Special Resolution in the event of the default by the General Partner in the Performance of its obligations under this Agreement, which default remains unremedied for a period in excess of thirty (30) days after the Limited Partners have given written notice of such default to the General Partner following passage of a Special Resolution to consider such default and authorize such notice.

[35] On December 13, 2018, TriDelta passed a special resolution removing Zephyr as general partner. The defaults on which TriDelta relied when passing the special resolution included: retaining related party entities without the approval of the limited partners, commingling Partnership assets with its own assets, and using Partnership assets to pay personal expenses.

[36] TriDelta notified Zephyr of the special resolution on January 4, 2019 and gave Zephyr thirty days’ notice to remedy the defaults set out in the special resolution.

[37] While Zephyr ultimately repaid some of the impugned expenses, it did not repay all of them and continued to do business through related entities without putting those arrangements to a vote of the limited partners.

[38] On February 7, 2019, TriDelta passed a further special resolution removing Zephyr and appointing TriDelta GP as the general partner.

[39] Zephyr refused to accept its termination as a result of which, TriDelta brought this Application.

[40] In my view, the court should respect the resolutions passed by the limited partners removing Zephyr as general partner. As the B.C. Supreme Court held when dealing with similar circumstances in Naramalta Development Corp v Therapy General Partner Ltd, 2010 BCSC 590 at para 115 “the number of votes against [the former general partner] speaks for itself” and “an exercise of democracy … ought to govern the outcome…” and the last thing” that the Court should do is reverse the vote of a large majority of the limited partners and force them to take back the general partner they wanted to remove.

[41] Other courts have taken an even more limited view of their roles and have held that courts should be limited to determining whether the limited partners had “validly passed an extraordinary resolution” and assessing whether the limited partners had “satisfied the conditions precedent to the passing of such resolution”: see for example Neural Capital GP, LLC v 1156062 BC Ltd, 2019 BCSC 2180, at paras 4-5.

[42] I am satisfied on the facts of this case that Zephyr has committed specific breaches of the Limited Partnership Agreement which it has not remedied, namely entering into related party agreements without seeking the approval of the limited partners, co-mingling of funds and mis-use of Partnership funds for personal expenses.

[43] There is also, however, a broader concern. A general partner is a fiduciary of the limited partners: Molchan v Omega Oil & Gas Ltd, [1988] SCR 348 at para 35. Its obligation is to act for and on behalf of the limited partners. More general breaches of fiduciary duty would also disqualify a general partner from acting quite apart from the specific terms of the Limited Partnership Agreement. Courts have recognized that a general loss of trust and confidence in a general partner constitutes a material default under a limited partnership agreement which gives the limited partners the right to terminate the general partner. By way of example, in Village Gate Resorts Ltd v Moore, [1997] BCJ No. 2478, 1997 4052 (BCCA), the British Columbia Court of Appeal noted at para 34 that:

“[34] … The phrase “is in material default” … must be informed by a consideration of the fact that the limited partnership structure, even more than that of a company or even of an ordinary partnership, relies on a substratum of trust and confidence in the integrity and ability of the general partner. It was surely the intention of the draftsman of the Agreement that the Limited Partners could take action to bring the relationship to an end where that trust and confidence have fallen away. This loss of trust and confidence cannot now be restored any more than the past breaches can now be “cured” in any real sense.”

Relief from Forfeiture

[44] Zephyr brings a cross - application for relief from forfeiture. Zephyr bears the onus on the application: Kozel v The Personal Insurance Company, 2014 ONCA 130 at para 28-29.

[45] In Saskatchewan River Bungalows Ltd v Maritime Life Assurance Co, 1994 100 (SCC), [1994] 2 SCR 490 the Supreme Court of Canada has set out the test for relief from forfeiture as follows at para 32:

“[t]he power to grant relief against forfeiture is an equitable remedy and is purely discretionary. The factors to be considered by the Court in the exercise of its discretion are the conduct of the applicant, the gravity of the breaches, and the disparity between the value of the property forfeited and the damage caused by the breach”.

[46] Applying these principles would not lead me to exercise my discretion in favour of relief from forfeiture. The breaches in question here are serious. They are not minor technical breaches that someone might stumble into inadvertently. Rather, they go to fundamental elements of character and trust.

[47] The fundamental problem with the value of the property forfeited is that the “property” is the value of payments to which SCM is entitled under an agreement that should have been approved by the limited partners but was not. Granting relief from forfeiture in those circumstances would effectively ignore the provision of the Limited Partnership Agreement that requires related party transactions to be approved by a majority of the limited partners.

[48] I do not believe it would be appropriate to exercise the court’s equitable discretion to allow a fiduciary to retain the benefit of a self-interested transaction that was entered into in breach of its contractual and common law duties.

Disposition

[49] As a result of the foregoing I grant the following declarations and orders:

(a) A declaration that TriDelta was appointed as the general partner of the limited partnership as of February 7, 2019.

(b) A declaration that Zephyr was removed as the general partner of the limited partnership as of February 7, 2019.

(c) An order requiring Zephyr to deliver all of the books, records and accounts and assets of the limited partnership to TriDelta GP.

(d) An order directing Zephyr to cease representing and asserting that it continues to act as general partner of the limited partnership.

(e) A declaration that the Administrative Services Agreement between the limited partnership and SCM was terminated as of April 12, 2019.

(f) On consent, an order that TriDelta’s limited partnership units shall be redeemed no later than January 21, 2021.

(g) An order barring Zephyr GP from using Partnership funds to fund its opposition to this Application or to pay for any cost order.

[50] TriDelta GP shall continue as general partner until TriDelta’s limited partnership units have been redeemed. Once TriDelta’s units have been redeemed, Zephyr may resume its status as general partner.

[51] TriDelta also seeks an order requiring a full accounting of Zephyr’s management of the Partnership from January 2018 to the present, including the repayment of any “unauthorized” expenses. I order Zephyr to provide such an accounting. I am not prepared, at this point, to order the repayment of unauthorized expenses to the Partnership. I do not have enough information about who is entitled to funds that Zephyr receives in excess of the interest payments owing to TriDelta or about the entitlement of Zephyr to distribute those funds under the Limited Partnership Agreement. That was not the focus of any oral or written argument.

[52] Although the failure to adhere to proper accounting and a separation of interests amounts to a breach of fiduciary duty and a breach of the Limited Partnership Agreement sufficient to replace the general partner, it does not follow automatically that the funds could not have been paid out as Zephyr claims, had it followed proper procedures. If the parties cannot agree on the entitlement to and distribution of funds after receiving an accounting, those issues will have to be the subject of further adjudication.

[53] These reasons are not to be interpreted as having any bearing on the rights of TriDelta, if any, beyond the right to interest on and the right to redemption of its units.

[54] Any party seeking costs as a result of these reasons may make written submissions within 14 days of the release of the reasons. A responding party will have seven days to respond with a further five days for reply.

Koehnen J.

Date: September 1, 2020