COURT FILE NO.: 31-2675583

DATE: 2022-05-31

SUPERIOR COURT OF JUSTICE - ONTARIO

RE: IN THE MATTER OF THE PROPOSAL TO CREDITORS OF CONFORTI HOLDINGS LIMITED, A CORPORATION INCORPORATED UNDER THE ONTARIO BUSINESS CORPORATIONS ACT, R.S.O. 1990, C. B.16

BEFORE: Justice Cavanagh

COUNSEL: Clifton P. Prophet and Thomas Gertner, for the Moroccanoil Inc. Bobby Sachdeva and Erin Craddock for Conforti Holdings Limited R. Brendan Bissel and Joël Turgeon, for Crowe Soberman Inc. in its capacity as trustee to the proposal to creditors of Conforti Holdings Ltd.

HEARD: March 15, 2022

ENDORSEMENT

Introduction

[1] Conforti Holdings Limited (“CHL”) operates fifty-two salons across Ontario. CHL filed a Notice of Intention to Make a Proposal (“NOI”) pursuant to s. 50.4(1) of the Bankruptcy and Insolvency Act (Canada) (“BIA”) on September 28, 2020. Crowe Soberman Inc. was appointed as proposal trustee in the NOI proceedings.

[2] Moroccanoil, Inc. (“Moroccanoil”) has been engaged in litigation with CHL in New Jersey in the United States District Court of the District of New Jersey. Moroccanoil filed a proof of claim in the NOI proceedings.

[3] Beauty Experts Inc. (“BEI”) has claimed a secured debt of $1.5 million which was part of a credit bid by a stalking horse purchaser under a sales process for the building formerly owned by CHL.

[4] Moroccanoil objects to the enforceability of BEI’s debt and security.

[5] Moroccanoil moves for an order:

a. Declaring that no secured indebtedness is owing by CHL to BEI;

b. Prohibiting CHL from accepting a credit bid from the proposed purchaser, Cicaplus Ltd., or any nominee of Cicaplus, of alleged secured indebtedness owing by Conforti to BEI under an asset purchase agreement dated as of May 5, 2021, as amended; and

c. In the alternative to b., making the approval of the transaction contemplated by the amended asset purchase agreement subject to the condition that Cicaplus pay the amount of the purchase price represented by the alleged secured indebtedness owing by Conforti to BEI in cash instead of by way of a credit bid.

[6] For the following reasons, I conclude that no secured indebtedness is owing by CHL to BEI.

Factual background

Parties

[7] CHL is the debtor in these proceedings. Salon Distribution Inc. (“SDI”) is a predecessor to CHL. CHL is the successor by amalgamation to SDI.

[8] CHL operates salons across Southern Ontario. CHL’s shareholders are Tony Conforti and his wife Sylvia Conforti. Mr. Conforti is the President of CHL. Mrs. Conforti was involved in the day to day operations of the salons. Mr. Conforti and Mrs. Conforti are the sole shareholders of BEI.

[9] Morrocanoil commenced proceedings against SDI (now CHL) in the United States District Court for the District of New Jersey (the “New Jersey Court”) in April 2015 on the basis that SDI and Mr. Conforti breached a settlement agreement with Moroccanoil. The New Jersey proceedings have not been completed.

[10] Crowe Soberman Inc. was appointed as proposal trustee when CHL filed a Notice of Intention to Make a Proposal (“NOI”) pursuant to s. 50.4(1) of the Bankruptcy and Insolvency Act on September 28, 2020.

[11] The proposal trustee does not take a position on the motion by Morrocanoil.

BEI Security

[12] BEI operates a wholesale business providing management services to CHL. As part of the NOI proceedings, BEI is seeking to make a credit bid of certain debt and security granted to it by CHL.

[13] In 2010, CHL decided to expand its footprint in Ontario by opening additional salons. From 2010 to 2017, CHL added an additional 13 salons to its portfolio at a substantial investment. During this same time period, there were a series of amalgamations to consolidate the business activities of CHL and related corporations. Mr. Conforti’s evidence is that BEI was formed in anticipation of the expansion to assist in organizing his business interests, including over 25 corporations he owned at the time.

[14] Mr. Conforti’s evidence is that in order to fund the significant operational expansion and otherwise manage Conforti’s liquidity, he and his wife decided that management fees with respect to their services would be charged by BEI to CHL for overseeing the business, but these management fees would be deferred until after the expansion was complete. Mr. Conforti’s evidence is that as a condition of BEI’s provision of management services to Conforti, BEI required CHL to execute a general security agreement to secure the due payment and performance of CHL’s obligations to BEI.

[15] A general security agreement was entered into dated March 2, 2020 (the “BEI GSA”) whereby CHL granted BEI a security interest over all of CHL’s property. There was no financing statement registered under the PPSA at the time that the BEI GSA was executed. Mr. Conforti’s evidence is that, as the principal of both companies, he was aware of any and all security that CHL granted to its creditors and, as a result, BEI was not concerned about an intervening security registration. A financing statement was subsequently registered on February 24, 2021.

[16] Mr. Conforti’s evidence is that once CHL began implementing its planned expansion, his remuneration and his wife’s remuneration decreased significantly. Mr. Conforti provided evidence that for the years ended on December 31, 2009 and December 31, 2010, he and his wife earned $1,298,000 and $1,398,00, respectively, in salary and bonuses. Mr. Conforti’s evidence is that for the year ended December 31, 2011, he and his wife earned $513,000. In 2012, Mr. Conforti and his wife earned $93,000 from CHL. From 2013 to 2020, they each earned amounts ranging from zero to $56,000, with their annual remuneration in the years from 2013 to 2018 ranging from $40,000 to $56,000.

[17] Mr. Conforti’s evidence is that in April 2019, he and his wife determined that effective April 2018, CHL would incur $50,000 a month in management fees from BEI. His evidence is that they decided that $50,000 a month was appropriate given: (i) BEI was managing over 50 salons; (ii) they had deferred a significant amount of compensation for seven years while CHL expanded; and (iii) the amount of their compensation prior to the expansion. Mr. Conforti’s evidence is that this determination was made at a conversation over dinner between Mr. Conforti and his wife in April 2019.

[18] On his cross-examination, Mr. Conforti agreed that the management fees were not to compensate BEI for management services rendered after April 2019, but to compensate Mr. Conforti and his wife for services rendered in their personal capacities in the nine years leading up to 2019. This is shown by the following evidence at questions 328-345 from the transcript of Mr. Conforti’s cross-examination:

Q. You wanted to catch up starting in 2018 then, for some of the work, you’re telling me, you’ve done in the past --

A. Yes.

Q. -- and particular during the expansion, right?

A. Yes, sir. And before.

Q. And before. Over the history of your work with the company, you wanted to start to catch up for that, correct?

A. Try to get some money for my retirement, me and my wife.

Q. Right. And so it included money and compensation for lots of work you’ve done in the past, right?

A. Whatever I deserve I think. I think $50,000 a month for all the work I work for minimum wage for eight, nine years.

[19] For each of the fiscal years ended March 31, 2019 and March 31, 2020, CHL accrued $678,000 in management fees. From April 1, 2020 to September 1, 2020, CHL accrued $339,000 in management fees. BEI recorded these fees as income in its financial statements for the year ended January 31, 2021.

[20] After the NOI filing, CHL has paid the management fees to BEI.

NOI proceedings

[21] On September 28, 2020, CHL filed the NOI. The initial list of creditors that CHL filed on September 28, 2020 did not disclose the indebtedness said to be owed by CHL to BEI.

[22] Mr. Conforti swore an affidavit on October 21, 2020 in support of a request for extension of the stay of proceedings in respect of the NOI proceeding. Mr. Conforti did not disclose in this affidavit the indebtedness said to be owed by CHL to BEI or the security for this indebtedness. Mr. Conforti’s affidavit includes a statement that other than indebtedness owed to secured creditors who were disclosed, “the remaining creditors are unsecured and are owed approximately $5,700,000”.

[23] In November of 2020, Mr. Conforti advised the Proposal Trustee of the indebtedness owed to BEI and the security for this indebtedness. At his time, there was no disclosure of this information to CHL’s creditors. The statements in Mr. Conforti’s October 24, 2020 affidavit were not corrected.

[24] CHL obtained a further stay extension on December 14, 2020. The materials filed in support of the motion for a stay extension did not disclose the indebtedness owed to BEI or the security for this indebtedness.

[25] CHL obtained a further stay extension on January 25, 2020. In its materials in support of this motion for a stay extension, the indebtedness owed by CHL to BEI and the security for this indebtedness were not disclosed.

[26] Morrocanoil filed a proof of claim in the NOI proceedings dated August 19, 2021. The amount of the proof of claim is $2,807,478.12. There is partial security for this claim through a bond in the amount of $1,250,000 that was posted in connection with the settlement agreement that gave rise to the New Jersey litigation. If the Moroccanoil claim is successful, the amount of its claim on an unsecured basis would be in the range of $1.6 million. This would represent approximately 16% of the total unsecured claims against CHL.

Disclosure by CHL of indebtedness said to be owed by CHL to BEI and security therefor

[27] On March 12, 2021, CHL filed a statement of affairs in advance of a meeting of creditors.

[28] Two months later, CHL and BEI sought to implement a credit bid of the indebtedness owing by CHL to BEI.

[29] The transaction has been approved by this court and the amount of $1.5 million has been deposited with the Proposal Trustee pending the outcome of this motion.

Analysis

[30] On this motion, Morrocanoil submits that the secured indebtedness that BEI claims is owing by CHL is unenforceable for the following reasons:

a. There was no consideration for a contract for provision of management services by BEI to CHL.

b. There is not sufficient evidence to support the existence of indebtedness owed by CHL to BEI.

c. CHL and BEI have failed to act in good faith as required by s. 4.2(1) of the BIA and the appropriate remedy is for this Court to prohibit the implementation of the credit bid.

Is the indebtedness alleged to be owing by CHL to BEI unenforceable because there was no consideration for the contract allegedly made in April 2019 for payment of management fees?

[31] Morrocanoil submits that there is no enforceable indebtedness secured by the BEI GSA because no fresh or valid consideration was given for the accrual of management fees that was structured in 2019 and constitutes the BEI debt that is said to be secured by the BEI GSA. Morrocanoil submits that the only consideration for the accrual of management fees is services previously provided during the expansion in 2010 to 2017.

[32] Moroccanoil relies on the foundational principle of common law that absent special circumstances, past consideration is not good consideration.

[33] In The Law of Contract, G.H.L. Fridman, Sixth Edition, Thomson Reuters Canada Limited, this principle is explained, at pp. 108-110:

Consideration is said to be executory when it consists of a promise to do, pay, or give something in the future as, for example, if A agrees that he will pay B in return for something from B. Consideration is said to be executed when it consists of the performance of some act by a party, for example, when there is a promise which is given in consideration of A’s services to B. From these, valid kinds consideration must be distinguished past consideration which will not suffice to support a promise and create an enforceable contract. Hence, executed consideration must be differentiated from past consideration (although the two appear to resemble each other). The test would seem to be whether the act, which is the consideration, and the promise dependent upon such act are part and parcel of the same transaction. Thus, if A promises to pay B if and when B produces A’s lost dog, the consideration, namely, the production of the dog by B, is executed; but if B first produces the dog and then A promises to pay B in consideration of B’s having already produced the dog, the consideration is past.

The point at issue here is that, if there is to be a valid, enforceable contract, the promises, or the promise and the act, must have been exchanged in return for each other. If something is done first and then there is a promise relating to such act or performance, the two are not tied together by the notion of agreement. One thing has not necessarily been done in consideration of the other. In consequence, anything promised as a result of the past performance of the act in question is simply promised gratuitously not in a binding contractual way. There is no mutuality between the act of performance of the subsequent promise from the recipient of the benefit of the act of performance.

[34] Moroccanoil relies on Fox v. Blood Tribe, 2013 ABQB 653 as an example of the application of this principle to facts that, it submits, are similar to the facts at hand. In Fox, the plaintiff, a former Chief of the defendant Blood Tribe, an Aboriginal Reserve in Canada, sued for damages for unpaid pension payments and future pension payments as contemplated by a Resolution by Band Council. The defendant denied that it was contractually bound to make the payments, asserting that the payments were ex gratia and could be terminated at any time. The trial judge surveyed the jurisprudence concerning past consideration and concluded that the decision to continue the plaintiff’s salary after his retirement was based on his past service. The trial judge, at para. 80, held that the consideration for the agreement to make pension payments was based on past consideration and, as a result of this conclusion, she held that the plaintiff was unable to maintain an action against the defendant.

[35] Moroccanoil submits that, like in Fox, the consideration for the agreement that CHL asserts was made at the kitchen table meeting in 2019 (effective beginning in April 2018) for CGL to pay management fees to BEI was past services provided by Mr. and Mrs. Conforti to CGL, and that past consideration is not good consideration. Moroccanoil submits that, therefore, the contract upon which BEI relies for payment of secured indebtedness by CHL is not valid or enforceable.

[36] CHL submits that the evidence supports a finding that there was an implied promise by CHL to pay management fees to BEI in exchange for services provided by Mr. and Mrs. Conforti during the period of expansion from 2010 to 2017 and where there is such a promise, this is an exception to the past consideration rule.

[37] In support of this submission, CHL relies on Wilburn Properties Inc. v. Silver Peak Resources Ltd., 2001 BCSC 1084. In Wilburn, the application judge addressed the question of whether the consideration for security documents (which were not executed contemporaneously with the advance of funds) was past consideration, such that the security documents are unenforceable. The application judge, at para. 82, referred to an exception to the past consideration rule:

Moreover, even past consideration may be sufficient consideration for an enforceable contract. If when the petitioner’s act was committed, there was an implied promise from the respondent in return for that act, a subsequent promise to compensate the petitioner for the past act (i.e., the past consideration) may be enforced. Both Fridman, supra, at p. 120 and Chitty on Contracts, supra, at para. 3-025, pp. 181-182, footnote 26, referred to the English decision in Lampleigh v. Braithwait (1615), Hob. 105 as an exception to the past consideration rule.

[38] In Wilburn, the application judge, at para. 83, set out the three requirements for past consideration to be good consideration for a subsequent promise, taken from a decision of the Privy Council in Pao On v. Lau You Long, [1973] 3 All E.R. 65, at 74: (1) the act must have been done at the request of the promisor; (2) the parties must have understood that payment would be made or some other benefit conferred; and (3) the payment or conferment of the benefit, if it had been promised in advance, must have been legally recoverable/enforceable.

[39] Even if I were to find that (1) the services provided by BEI (through Mr. and Mrs. Conforti) to CHL were at the request of CHL and (2) the parties understood that payment would be made for such services on some basis in the future, the third requirement in Wilburn is not satisfied because there was no agreement earlier than April 2019 on the amount of any deferred management fees. In the absence of agreement on this essential contractual term, a promise to pay an unspecified amount of management fees at an unspecified time in the future, had one been made, would not have been legally enforceable.

[40] CHL submits that there was good consideration (that is not past consideration) for the agreement made at kitchen table discussion in 2019 to pay management fees going forward because it was open to Mr. Conforti and Mrs. Conforti to make such an agreement on behalf of CHL and BEI for services to be provided in the future, and the amount agreed upon is reasonable.

[41] In his affidavit, Mr. Conforti gives the following evidence about the agreement for payment of management fees in April 2019:

Once the Expansion was completed, Conforti began to incur the Management Fees. In April 2019, my wife and I determined that effective April 2018, Conforti would incur $50,000 a month in management fees from BEI. We decided that $50,000 a month was appropriate given: (i) BEI was managing over 50 salons; (ii) we had deferred a significant amount of compensation for seven years while Conforti expanded; and (iii) the amount of our compensation prior to the Expansion.

[42] Mr. Conforti was asked on cross-examination about the payments to be made pursuant to the kitchen table agreement in April 2019 and his evidence is clear and unequivocal that the agreement provided only for payment of management fees for services that he and his wife had already provided during the expansion, and before the expansion. This evidence contradicts CRT’s assertion that management fees claimed by BEI from April 2018 to April 2019, the time of the kitchen table agreement ($678,000) (based on BEI’s statement of account), and after kitchen table agreement ($568,000), were to be paid, at least partially, in consideration for the provision of future services.

[43] I conclude that the only consideration for the April 2019 agreement for accrual of management fees in the monthly amount of $50,000, backdated to April 2018, is past consideration. There is no evidence of fresh consideration for the agreement to accrue $50,000 of management fees beginning as of April 2018. The rule that past consideration is not good consideration applies.

[44] As a result of this conclusion, the agreement made between Mr. Conforti and his wife at the dinner meeting in April 2019 for the payment of management fees by CHL to BET, backdated to April 2018, is unenforceable.

Have BEI and CHL provided sufficient evidence to prove the indebtedness claimed to be owed to it by CHL?

[45] Moroccanoil submits, in the alternative, that CHL and BEI have not given sufficient evidence to support the existence of any indebtedness owing by CHL to BEI.

[46] Moroccanoil submits that the only evidence supporting the existence of the indebtedness is the evidence of Mr. Conforti about his conversation with his wife at the dinner table in 2019. Mrs. Conforti did not give evidence on this motion.

[47] It is correct that there are no documents made contemporaneously with the dinner table agreement to support the existence of this agreement. Mr. Conforti agreed on cross-examination that BEI did not record the debt on its financial statements until 2021, after the proceedings were commenced and before the credit bid. BEI provided a statement of account rendered to CHL dated January 31, 2019 showing monthly charges for management fees beginning April 1, 2018. In answer to an undertaking given on his cross-examination, Mr. Conforti agreed the statement of account was prepared in 2021 in connection with BEI’s year end.

[48] Moroccanoil submits that in insolvency proceedings, related party secured debts must be closely scrutinized. It submits that Mr. Conforti’s evidence of an oral agreement made over dinner between Mr. Conforti and his wife, on behalf of related parties, BEI and CHL, is insufficient to prove the existence of an agreement that CHL owes management fees to BEI.

[49] CHL relies on Mr. Conforti’s evidence that, in order to fund the expansion and manage CHL’s liquidity, he and his wife decided that management fees with respect to their services would be charged by BEI to CHL, but these fees would be deferred until after completion of the expansion. CHL relies on Mr. Conforti’s evidence that (i) BEI was formed in 2010 in anticipation of the expansion to assist him in organizing his business interests including 25 corporations he owned at the time; (ii) the General Security Agreement is dated March 2, 2010 which is the time BEI was formed and when the expansion began; and (iii) Mr. and Mrs. Conforti were receiving substantial amounts in compensation for their services in the years before the expansion. CHL submits that this evidence provides context for and supports Mr. Conforti’s evidence of the kitchen table agreement made in April 2019.

[50] On cross-examination, Mr. Conforti testified that BEI had other businesses than the salons that were owned by CHL. These businesses involved wholesaling salon and beauty products.

[51] I accept that in an insolvency, the onus is on a secured creditor to prove the existence of the secured debt, and that when the debt is between related parties, the court must carefully assess the evidence tendered in support of the existence of the debt. Here, Mr. Conforti has provided evidence that provides context for the agreement he says was made at the kitchen table discussion in April 2019. With this context, I am unable to find that Mr. Conforti’s evidence is inherently implausible and should be disbelieved. Mr. Conforti was cross-examined about the dinner conversation and the consideration for the agreement for accrual of management fees, and I am unable to find that, in respect of these factual matters, his answers were untruthful. Indeed, Moroccanoil relies on his evidence with respect to the dinner table agreement to support its submissions with respect to past consideration.

[52] If I had held that there was good consideration for the agreement made in April 2019 for CHL to accrue management fees to be paid to BEI starting in April 2018, I would not conclude that this agreement is unenforceable because the evidence supporting the existence of the agreement is insufficient.

[53] I have concluded that the secured debt that BEI claims against CHL is unenforceable because there was no consideration for the agreement made by Mr. and Mrs. Conforti over dinner in April 2019 that BEI would charge management fees to CHL effective beginning in April 2018.

[54] As a result of this conclusion, it is not necessary for me to address Moroccanoil’s alternative argument under s. 4.2 of the BIA.

Disposition

[55] For these reasons, I make an order (i) declaring that no secured indebtedness is owing by CHL to BEI, and (ii) prohibiting CHL from accepting a credit bid of the alleged BEI secured debt. I ask counsel to provide me with an approved form of order that is consistent with this endorsement.

[56] If the parties are unable to resolve costs, written submissions may be provided in accordance with a timetable agreed upon by the parties and approved by me.

Cavanagh J.

Date: May 31, 2022