Bank of Montreal v. Sportsclick

Bank of Montreal v. Sportsclick Court Supreme Court Date 2009-11-17 Citation 2009 NSSC 354 Docket Hfx 314220 Judge/Registrar/Adjudicator Duncan, Patrick J. (Honourable Justice) (SC) Document Type Decision Decision Content SUPREME COURT OF NOVA SCOTIA Citation: Bank of Montreal v. Sportsclick Inc., 2009 NSSC 354 Date: 20091117 Docket: Hfx 314220 Registry: Halifax Between: Bank of Montreal Plaintiff v. Sportsclick Inc. Defendant Judge: The Honourable Justice Patrick Duncan. Heard: November 10 and 12, 2009, in Halifax, Nova Scotia Orally on November 12, 2009 Counsel: Stephen Kingston and Benjamin Durnford, for the Plaintiff Christopher Robinson, for the Defendant Dennis Pickup and Jonathan Saulnier, Articled Clerk, For Third Party T &A Venture Properties Inc. By the Court: Introduction [1] This is a motion that seeks an order to approve the sale by the Receiver of Sportsclick Inc. of a certain asset of Sportsclick, being the shares of a company known as Southprint Inc. The application is supported by T & A Venture Properties Inc., the intended purchaser of the asset, who is participating as an interested non party. The motion is opposed by Sportsclick. Background [2] Upon application of the plaintiff, Bank of Montréal, an order was issued on July 14, 2009 by the Registrar of Bankruptcy appointing Ernst & Young Inc. as the interim Receiver of Sportsclick Inc. and Sun Vette Racing Inc. pursuant to section 47 (1) of the Bankruptcy and Insolvency Act (Canada), R.S. 1985, c. B-3. [3] Following appointment the Receiver offered the personal assets of the defendant for sale by tender, excepting the Southprint shares, which the Receiver characterizes as a unique asset. [4] The Receiver learned that the defendant is the parent company of Southprint Inc. a Martinsville, Virginia, USA based company which carries on business selling hats, jackets, shirts, toys and other items with NASCAR logos and designs. It prepares various artwork to customer specifications and silkscreens these designs on apparel and other textile products. [5] The evidence indicates that Sportsclick completed the purchase of all shares of Southprint on or about May 12, 2009. The CEO and sole director of the company is Jack Ross, who is also the president, CEO and director of the defendant. [6] During its investigations, the Receiver determined that the plaintiff has a charge on the shares of Sportsclick in Southprint. It does not have direct security or other agreements with Southprint. [7] The information initially gathered by the Receiver indicated the following: - Southprint had a net operating loss of $1.4 million in 2008 and $1.04 million in 2007; - Southprint lacked operating capital, was in default in payments to trade suppliers and licensors, and did not have access to a bank operating line of credit; - the majority of Southprint’s accounts receivable were factored; - important licensing agreements of its’ major products were tied to the personal relationships of a small group of management personnel within Southprint; - that on the eve of the appointment of the Receiver in July, 2009, $75,000 US was withdrawn from a then balance of $76,000 US that Southprint held in a US bank. This was done on the direction of Mr. Ross. Because of the concern that this may have been done as a preferential payment, the Receiver acted as a catalyst to have the signing authority of Mr. Ross, among others, removed from the Southprint bank accounts. [8] The Receiver sent a representative to the Virginia plant to do a preliminary review of the business and operations of Southprint. The information indicated that the company was downsizing with declining sales, employees and facilities. [9] On July 31, 2009 the Receiver was presented with an offer in the amount of $100,000 for the purchase of the Southprint shares. The prospective purchaser included the previous shareholders who had, only months before, sold their interest to Sportsclick. One of these persons was understood to be Butch Hamlet, one of the founders of Southprint, and a key player in the company’s operation and management. The offer was reaffirmed in a letter of August 7 from counsel for the purchasers. It set 5 PM on August 12, 2009 as the deadline for acceptance. [10] The fact of this offer was communicated to Mr. Ross and others associated with Sportsclick by counsel for the Bank of Montréal. He set out various adverse conditions associated with Southprint and states: The Bank of Montréal is not prepared to fund a very expensive receivership of Southprint in the United States to take control and operate the company. In light of the real and adverse situation presented by Mr. Hamlet, the receiver has to consider acceptance of the offer. [11] The Receiver discussed a potential sale of the shares to Green Swan Capital Corporation, a company that held a subordinate security interest against Southprint. It was not in a position to make an offer and so the Receiver entered into negotiations with Mr. Hamlet and others, sometimes referred to as the “US group”. [12] In deciding to attempt a private sale of the shares, the Receiver considered the information identified previously, and also: - that the assets of Southprint were fully encumbered, including accounts receivable factored to Amerisource Funding; - the machinery and equipment were secured to River Community Bank. This bank, in view of the default by guarantor Sportsclick ( by its being put into receivership), made a demand for repayment of the debt owed to it in the amount of $487,705 as of August 6, 2009; - a review of the United States UCC filings and of the company financial statements indicated that there were multiple secured and unsecured creditors of the company, which claims against Southprint assets would rank in priority to the plaintiff’s security interest. - that a legal opinion obtained by the Receiver indicated that under the laws of the state of Virginia, a claim by a shareholder to the assets of the company is subject to secured and unsecured creditors, making a shareholder a junior creditor; - the Bank of Montréal again confirmed that it would not fund an action for the carrying on of the business of Southprint; - the management team of Southprint was prepared to resign unless a deal was completed to assure the company’s viability. [13] The Receiver concluded that sale as a “going concern” represented the best option. [14] A Nova Scotia-based group contacted the Receiver in mid-August indicating an interest in the Southprint shares. Believing that it should allow this new expression of interest to be explored, it advised the US group who, as a result, withdrew their offer of $100,000. [15] No other offers were forthcoming and so the Receiver proceeded with a public tender of the Southprint shares owned by Sportsclick. This was also in response to pressure being exerted by Sportsclick management who favored a public tender process. [16] An advertisement of the sale was posted in newspapers in Nova Scotia and in Virginia in four successive weeks commencing September 5, with the deadline for offers by September 30, 2009. [17] In addition, Ernst & Young developed a direct marketing list of prospective buyers who were contacted and advised of the opportunity to purchase the Southprint shares. Of this listing, 17 groups requested and were provided a copy of the Information Package. [18] The advertising costs alone are valued at in excess of $24,000. [19] Mr. Ross was also invited on various occasions to provide a list of names of any potentially interested parties for the purchase of these shares. No suggestions came forward. [20] At the tender close date there was a single offer in the amount of $25,000US made by T & A Venture Properties Inc. There has been representations by counsel for T & A that this is a company that is separate from the previous shareholders. The evidence provided by Mr. Kinsman, being the only evidence I have on this issue, is that it consists of individuals who currently have a managerial or operational role in Southprint and is the same group that previously made the $100,000 offer. [21] If the offer is accepted then it will barely cover the cost of the advertising. [22] On October 13, 2009 Justice McDougall of this court issued an order appointing Ernst & Young Inc. as Receiver of all of the assets, property and undertaking of Sportsclick Inc. with broad powers that included: 2 (i) To market any or all of the Property, including advertising and soliciting offers in respect of the Property or any part or parts thereof and negotiating such terms and conditions of sale as the Receiver in its discretion may deem appropriate; (j) To apply for any vesting order or other orders necessary to convey the Property or any part of parts thereof to a purchaser or purchasers thereof, free and clear of any liens or encumbrances affecting such property; (o) to exercise any shareholder ... rights which the Company may have; and (p) take any steps reasonably incidental to the exercise of these powers. [23] The Receiver has recommended to this court that it approve the sale of the Southprint shares for the sum of $25,000US because this is the value which presented itself to the Receiver when the asset was widely exposed to the market for sale, and after Sportsclick’s principals and others (such as Green Swan capital Corporation) were consulted for assistance with marketing the asset. Position of Sportsclick [24] Jack Ross, in his affidavit, concisely sets out the basis of the defendant’s opposition to approval of the sale. [25] He says that the value of Southprint was, “...after considerable effort and due diligence, determined to be in the region of $4 million as at the date of acquisition by May 12, 2009.” He rejects the suggestion that the assets deteriorated to $25,000US. [26] He says that from the commencement of the receivership until September 2, 2009 the Southprint bank balance “consistently averaged $200,000 +” which challenges the accuracy of the assertions that there were cash flow problems in Southprint. [27] He questions the effort expended by the Receiver in trying to achieve reasonable value for the asset alleging that the Receiver acted improvidently, without commercial reasonableness, and without regard for the best interests of the shareholders and creditors of Sportsclick. He maintains that the assistance and guidance of members of the Sportsclick management group should have been utilized to achieve reasonable value for the shares. [28] In his submissions, counsel for the defendant expanded on these points. He argues that there were several failings of the Receiver which led to the current situation: - that there is no evidence before the court to demonstrate that the Receiver conducted a proper valuation of the asset at any point during the receivership; - that in eliminating the participation of Sportsclick management from a position where they could oversee the operations of Southprint, and by allowing the previous shareholders and management group of Southprint to have unfettered control of the company, the Receiver created the current situation where those same people are able to inhibit the marketability of the asset by threatening to withdraw or engage in activities that would be detrimental to the value of Southprint; - that the most current value by which the offer should be measured is the acquisition price paid in May, 2009 which is so substantially more than the amount offered in the tender process as to demonstrate that it is not commercially reasonable to accept it; - that because of the unique nature of the asset, the marketing attempt of the Receiver was inadequate in that: 1. Newspaper advertising only referred to the “shares of Southprint” as being made available for sale. In Virginia the company operated under a different business name and so the Southprint name would not be meaningful to prospective purchasers; 2. The newspaper advertising in Virginia was confined to one paper with a circulation of 170,000 people; 3. The advertisement should have provided more detail about the nature of the asset in order to generate interest and should have been more widely disseminated through newspapers with larger circulation and broader geographic appeal; - that the targeted group was not large enough. Position of the Receiver [29] The applicant submits that the nature of this asset, with its adverse characteristics for operation as a going concern, was unique and of interest to a very limited class of potential purchasers who it attempted to reach with its marketing efforts. It stands by the tender process as being a commercially reasonable effort to maximize the realization value of the shares. [30] I have been referred to the principles set out in the decision of Royal Bank of Canada v. Soundair Corporation [1991] O.J. 1137 (Ont. C.A.) as addressing the criteria applicable to this court’s review of the Receiver’s sale of assets. I am urged that all of the criteria contained therein have been met. [31] In response to the specifics of the allegations of Mr. Ross and Sportsclick the Receiver says: - that Mr. Kinsman, acting on behalf of Ernst & Young in this matter, is an experienced and savvy Receiver who made adequate inquiries throughout to ensure that he understood the nature and financial characteristics of Southprint; - that he was prepared to accept the risk in walking away from the $100,000 offer which demonstrates his commitment to achieve the best possible realization value; - that the advertising of the shares undertaken in the tender process was consistent with the industry-standard; - that the Receiver generated inquiries from 17 different parties through targeted marketing efforts; - that due to the position taken by the Bank of Montréal in refusing to undertake the management or control of Southprint there was no direct route to liquidate the assets of Southprint. Further that it would be subject, as a shareholder, to taking a junior position as a creditor; - that in triggering the removal of Sportsclick’s management from signing authority at Southprint it was acting to preserve the value of the asset. The Receiver was concerned that on the direction of Sportsclick management $75,000US was transferred from Southprint to a principle of Sportsclick on the eve of the receivership in July. Fearing a preferential payment the Receiver sought to block future such transactions. The Receiver did not intend to, nor did it communicate to Mr. Ross that he was barred from otherwise taking an operational role in Southprint; - And finally, that it has consistently invited the assistance of Mr. Ross, but that none has been forthcoming, except to the extent that Mr. Ross indicated he would assist in return for a six month contract paying him his then current salary of approximately $10,000 per month, an offer that the Receiver rejected. Mr. Ross rejected a counter proposal to be paid on an hourly rated basis. He also did not respond to an invitation by the Receiver to present another proposal to assist the Receiver. Law [32] In Royal Bank of Canada v. Soundair Corp., supra, Galligan J.A. set out at paragraph 16, the duties which a court must perform when deciding whether a Receiver who has sold a property acted properly, which duties he summarized as follows: 1. It should consider whether the Receiver has made a sufficient effort to get the best price and has not acted improvidently. 2. It should consider the interests of all parties. 3. It should consider the efficacy and integrity of the process by which offers are obtained. 4. It should consider whether there has been unfairness in the working out of the process. [33] Certain principles have been enunciated by the courts in consideration of these points: - The decision must be assessed as a matter of business judgment on the elements then available to the Receiver. That is the function of Receiver and “... to reject [such] recommendation... in any but the most exceptional circumstances... would materially diminish and weaken the role and function of the Receiver both in the perception of receivers and in the perception of any others who might have occasion to deal with them.” see, Anderson J. in Crown Trust v Rosenberg (1986), 60 O.R.(2d) 87 at 112; - the primary interest is that of the creditors of the debtor although that is not the only nor the overriding consideration. The interests of the debtor must be taken into account. Where a purchaser has bargained at some expense in time and money to achieve the bargain then their interest too should be taken into account. see, Soundair at para 40; - the process by which the sale of a unique asset is achieved should be consistent with commercial efficacy and integrity. In Crown Trust Co. V. Rosenberg, supra, at page 124, Anderson J. said: While every proper effort must always be made to assure maximum recovery consistent with the limitations inherent in the process, no method has yet been devised to entirely eliminate those limitations or to avoid their consequences. Certainly it is not be found in loosening the entire foundation of the system. Thus to compare the results of the process in this case with what might have been recovered in some other set of circumstances is neither logical nor practical. - a court should not reject the recommendation of Receiver except in special circumstances where the necessity and propriety of doing so is plain. see, Crown Trust Co., supra. ANALYSIS [34] I agree that the shares of Southprint presented as a unique or unusual asset. Southprint opened in 1991 and began operating under that name in 1992. It developed a customer base of large branded companies that grew to include Adidas, Big Dog Sportswear, J. America (college licensee), and MJ Soffe (U.S. Army exclusive licensee). In 1994 it purchased Checkered Flag Sports and developed and marketed NASCAR apparel to retail outlets. It was owned and managed privately, with Mr. Hamlet being the president and majority shareholder. [35] The evidence suggests the company became successful on the strength of the personal relationships of its management team, particularly with the licensors whose business was crucial to the viability of the company. [36] Sportsclick had a Business Acquisition Plan that was intended to improve profitability in a relatively short time. i.e. within 12 months of acquisition. However, two months after acquisition, Southprint was in receivership and unable to carry out its plan. [37] While Sportsclick made some initial changes to the operations of Southprint, including financing and some staffing changes, it does not appear from the evidence that it had any major influence on the operations. There is no evidence that Sportsclick provided an infusion of capital for Southprint nor did anything that substantially attacked the problems affecting its financial operating capabilities. [38] In consequence thereof, the previous management team, that included its founders, remained in place. They have continued to operate the business under the benign oversight of the Receiver who has made it clear that it was never in the Receiver’s mandate to operate or manage Southprint. There is no persuasive evidence on which to conclude that the financial situation of Southprint has improved. [39] The prospective purchaser, I am told, includes members of the current management team. Those persons have threatened to walk away from the business if a purchaser is not in place to guarantee the financial viability of the company. Their participation in the operation of the company at this time is crucial if it is to continue as a going concern. [40] The defendant complains that this is a situation that should not have been allowed to take place and that it has negatively impacted on the market for the shares of Southprint. The inference I am asked to draw is that either by the continued involvement of the Sportsclick management team, or the more active oversight of the Receiver, the shares of this company would have made a more attractive buying opportunity. It is also suggested that the equity in the assets alone should attract a substantially greater purchase price. All of this presupposes that there is a person or company who sees that potential as significant enough to offset the problems that acquisition will inevitably entail. [41] The Receiver says that the market place determines value and that the marketplace has spoken. No one agrees with the defendant’s view of the value that this opportunity presents. Only T & A has an interest now. [42] For its part the Bank of Montreal, a significant secured creditor of Sportsclick, has also accepted that it is not worth pumping more money into selling the shares. They have gauged the marketplace and obviously have come to the same conclusion as the Receiver. [43] Neither have other creditors stepped up to offer, even a dollar, to acquire these shares in hopes of somehow realizing some greater return, in a break up of the assets of Southprint, or as a going concern. [44] Unfortunately there is no evidence on which I could conclude that any marketing scheme would attract a better price or more interest. It is speculative to suggest that it would. It is not sufficient, in my mind, to challenge the business judgment of an experienced Receiver on the basis of speculation. [45] The underlying assumption of the defendant’s argument is that the limited interest in the company is derived from the Receiver’s handling of the company and the marketing effort. In support of this view, I have been referred to the valuation put on Southprint by Sportsclick at the time of purchase which closed in May, 2009. [46] It is suggested that that is the best, if not the only reliable way to measure the value of the shares. [47] I have examined Southprint’s financial statements, the PWC due diligence draft report of January 2009 and the Southclick Inc. Business and Acquisition Plan, also dated January 2009. I have also considered the affidavits of Jack Ross. [48] The following is a snapshot of what I view as indicators of the relative financial health of Southprint in the years 2004-2008: 2004 2005 2006 2007 2008 Sales 20.1 M 18.8 M 16.7 M 14.01 M 13.9 M Operating Loss 601.5 K 221 K 398 K 1.38 M 1.73 M Net Operating Loss 396 K 242 K 306 K 1.04 M 1.4 M [49] As can be seen, sales were dropping long before the current economic downturn. Net operating losses climbed to the point where they totaled $2.44 million on sales of $28 million in the last 2 years before Sportsclick made its purchase. [50] Southprint was reliant for day to day operations on approximately $4.0 million in financing that was dependent on its then shareholders’ personal financing backed by a traditional lender. It closed one plant in 2008, cut back shifts, laid off employees and in January 2009 closed completely for a short period of time. [51] As at January 2009 a number of the 2009 licencing agreements had not been signed, including the contract thought to have the most value. One account that had generated sales of almost $2.0 million in 2007-2008 was not expected to be part of sales in 2009. It is not clear in the business plan how this significant loss of revenue was going to be replaced or how expenses were going to be controlled to off set such a loss. [52] Notwithstanding its capital and real property assets Southprint is a company that has been in serious financial decline for several years. [53] According to Mr. Ross’s affidavit, Sportsclick acquired all of the outstanding shares of Southprint in exchange for the issuance of 6 million shares of Sportsclick to various of the former Directors and Officers of Southprint . The book value of the shares was $3 million. The value of the Sportsclick shares on the TSX Venture Exchange at the close of business on May 12, 2009 was $.15 per share, or $900,000. In addition, shareholder loans owed by the two previous principals of Southprint were treated as goodwill and taken off the books of the company in a non-cash transaction. While I agree that the purchase price was approximately $4,000,000 in value, it was not put up in cash, which is the expectation of a Receiver. [54] Put another way, there are certain methods of effecting a sale that would be available in an unfettered sale between a willing and financially stable vendor and a willing and financially stable purchaser that are not feasible on a liquidation. It is one of the reasons why it is common for assets to be sold off at significantly reduced prices in a Receivership from what might be negotiated in the ordinary course of business. In a liquidation the sale is typically for cash and is to be achieved in an abridged time frame. The longer the time extends, the greater the costs of the Receiver, and the greater the deterioration of the asset values to the creditors. [55] The Sportsclick business plan for Southprint had the following general features: - to improve the sales culture - to reduce salary and benefit commitments by reducing staff and capping compensation - renegotiating royalties - reduction of some promotional costs - to reorganize the financing - to take advantage of the “synergies between Sportsclick and Southprint.” [56] The result was predicted to reduce overhead by $1 million. [57] Sportsclick intended to sell 2 pieces of real property for $150,000 and to obtain direct financing of $4.0 million by factoring accounts receivable, mortgage financing, term financing and inventory financing. [58] These forms of financing would be dependent upon the financial soundness of Sportsclick as the owner and guarantor. At no point does the plan speak to the infusion of capital by Sportsclick to Southprint. [59] Under its current situation, Sportsclick has no ability to guarantee, nor to otherwise financially support the operations of Southprint. Creditors of Southprint who stand ahead of the shareholder have seen this and issued demand for payment. Neither is there a prospect for the predicted benefits of the “synergies” between parent and subsidiary. [60] Southprint can only survive as a going concern with a purchaser that has the financial ability and the will to take on a company that is now losing almost $2 million per year on declining sales, has limited creditworthiness, and is largely dependent on the willingness of the existing management team to continue to use their knowledge of the company and of its existing business relationships to the benefit of Southprint. [61] The Receiver has no mandate to operate Southprint. The only other option is to simply close Southprint down and liquidate the assets, hoping that the equity will cover the cost of acquisition. That option is not open to the Receiver in this case. None of the creditors of Sportsclick have seen fit to step forward to take on this challenge. Whether that is a good business decision is not relevant to the position of the Receiver, who can only act with the resources that it has available to it. As Mr. Durnford indicated in his submissions, there may be collateral issues to this matter that arise for resolution in the principal action as between the Bank and Sportsclick, but that is not determinative of the considerations before me. [62] Finally, I am urged to accept that the accumulated financial acumen of the management of Sportsclick in making this purchase is a reliable indicator of the accuracy of the value they attached to Southprint. With respect, even good business people fail as a result of unexpected conditions, or because of errors, some within their control, some beyond their control. In this case the fate of Sportsclick speaks to a business model that failed. I will not defer to the judgement of those who oversaw that failure over the judgment of the Receiver. Conclusion [63] In Greyvest Leasing Inc. v. Merkur [1994] O.J. 2465, the Ontario Court of Justice held at paragraph 45 as follows: Commercial reasonableness depends upon the circumstances of the sale, including a consideration of variables such as the method of sale, the subject matter of the sale, advertising or other methods of exposure to the public, the time and place of the sale, and related expenses. A Receiver is under a particular duty to make a sufficient effort to get the best possible price for the assets. [See Royal Bank v. Soundair Corp. 1991 CanLII 2727 (ON C.A.), (1991), 4 O.R. (3d) 1 (C.A.).] This duty is not to obtain the best possible price but to do everything reasonably possible with a view to getting the best possible price. [64] I am satisfied that the Receiver in this case did that. It is a most disappointing result for the creditors, and the debtor. It will at best cover some of the disbursements on sale. No one benefits greatly from this, except perhaps the principals of T & A, but the evidence suggests that they have significant challenges ahead of them to make this a profitable company, in difficult economic times. They may be the only ones who have the ability to do so. [65] The decisions made by the Receiver were made in good faith, cognizant of the duties that a Receiver is subject to. It made business judgments that may be easy, with the benefit of hindsight, to criticize, but they were reasonable having regard to the circumstances in existence at the time. No alternatives to the targeted marketing approach have been shown to exist that would provide, beyond speculation, the potential for a greater return. [66] The tender process, once decided upon, was carried out in a transparent and fair manner, consistent with industry standards. [67] Having regard to the facts as set out herein, and the duties on a court as enunciated in Soundair, I am satisfied that the Receiver’s recommendation should be accepted. I am prepared to grant an Order to give effect to the sale of the shares of Southprint to T & A Venture Property Inc for the sum of $25,000 US. [68] Delivered orally at Halifax, Nova Scotia this 12th day of November 2009. ____________________ Duncan J.