GRAEME RONALD MCINTEER V XACTA CONSULTING LIMITED HC WN CIV-2007-485-718

GRAEME RONALD MCINTEER V XACTA CONSULTING LIMITED HC WN CIV-2007-485-718 19 December 2008IN THE HIGH COURT OF NEW ZEALAND WELLINGTON REGISTRY CIV-2007-485-718BETWEEN GRAEME RONALD MCINTEER Plaintiff AND XACTA CONSULTING LIMITED, NOW KNOWN AS UNITEKNIC CONSULTING LIMITED (IN LIQUIDATION), a duly incorporated company having its registered office at 1a Grey Street, Martinborough Defendant Hearing: 17 November 2008 Appearances: Mr C Matsis for Mr McInteer Mr J Sumner for liquidator of Xacta Consulting Limited (now called Uniteknic Consulting Limited (In Liquidation)) Judgment: 19 December 2008 at 4 pmJUDGMENT OF MALLON J ContentsIntroduction............................................................................................................... [1] The evidence ............................................................................................................. [3] Events following issue of proceedings ................................................................... [25] The liquidator's position......................................................................................... [32] Submissions for Mr McInteer ................................................................................. [37] My assessment ........................................................................................................ [42] Result ...................................................................................................................... [51]Introduction[1] Mr McInteer seeks an order under the Declaratory Judgments Act 1908 against Xacta Consulting Limited ("Xacta") that Xacta owes him $135,000. Xacta is in liquidation. Mr McInteer's proceeding was commenced before Xacta was placed in liquidation. Pursuant to s 248(1)(c)(i) of the Companies Act 1993, and with the consent of the liquidator, Mr McInteer was given leave to continue his proceeding. [2] The evidence before the Court in support of the declaration is contained in affidavits filed by or on behalf of Mr McInteer. There is also affidavit evidence opposing the application which was filed before Xacta was placed in liquidation. Mr Matsis appeared for Mr McInteer in support of the declaration. The liquidator does not oppose the declarations but counsel appeared at the hearing before me to provide any assistance that I might require.The evidence[3] Mr McInteer is a former employee, and director of Xacta. The McInteer Family Trust is a shareholder of Xacta. Xacta was established by Mr McInteer and his wife and Mr and Mrs Channer in 1989 to provide consulting services to the information technology market within the Wellington region. Over the next 15 years Xacta grew to a company with over 50 employees or contractors and with revenue of $5.49 million for the year ending 31 March 2004. [4] On or about 2 July 1990 Mr McInteer and Mr Channer each entered into an employment agreement with Xacta. Each agreement provided (clause 2 of the first schedule):For each year where the minimum profit targets agreed between the Employee and the Company are met, an annual bonus of $40,000 to be paid pursuant to a resolution of the Directors.[5] Mr McInteer explains in his affidavit that this clause was included on the advice of Xacta's accountant. The idea was for Xacta to declare a performance bonus (also referred to as a gratuity) and to thereby reduce Xacta's yearly profit.The resulting tax that was saved could then be invested by Xacta to pay the debt (ie. the bonus) at a later time. Mr McInteer says that an insurance company, Tower Insurance, promoted the concept with investments to be made over 20 years to cover the bonuses to be paid. [6] Mr Channer confirms the intention of the bonus plan. He attached to his affidavit a copy of the plan promoting the fund with Tower which, amongst other things, gives an example of a 20 year plan and the amount of investment to be made to fund accumulated bonuses of $400,000 over that time period. Mr Channer says that the gratuity with Tower was set up "for the joint and equal benefit of Mr McInteer and myself". He says that "[t]he term of the investment was fixed by agreement at 20 years, after which time the directors would resolve, in accordance with clause 2, that the investment be realised with an equal lump sum payment would [sic] be made to myself and Mr McInteer". [7] Mr Channer does not attach any agreement referring to a 20 year term investment. His reference to "clause 2" appears to be a reference to clause 2 of the first schedule of the employment contract. That clause does not provide any term, nor specify when payments are to be made except by reference to a resolution of the directors. [8] Mr McInteer says that in deciding to set up the fund they also relied on a letter from a company associated with a similar fund being promoted by Colonial Mutual and the Inland Revenue's response to that letter. In the Colonial Mutual letter it is explained that the gratuity is treated as a deductible expense by the company for each respective year as it is based on services rendered for that year. At the time it is fixed each year it is not credited to the employee's account and hence there are no income tax implications payable to the employee until termination of the employment contract. Similarly the Tower plan refers to the bonus being paid "prior to completion of employment". [9] Mr McInteer says that over the next six years Xacta declared the following bonuses:Year Company Profit before bonus declared Amount of Bonus Declared Amount of Bonus Awarded to Graeme McInteer Amount of Bonus Awarded to Jeff Channer Total1990 96,141.00 80,000.00 40,000.00 40,000.00 80,000.00 1991 149,072.00 100,000.00 50,000.00 50,000.00 180,000.00 1992 58,058.00 10,000.00 5,000.00 5,000.00 190,000.00 1993 75,342.00 10,000.00 5,000.00 5,000.00 200,000.00 1994 66,089.00 20,000.00 10,000.00 10,000.00 220,000.00 1995 112,353.00 50,000.00 25,000.00 25,000.00 270,000.00Total 135,000.00 135,000.00 270,000.00[10] Consistent with this, Xacta's accounts from 1990 to 1995 record these amounts. In the 31 March 1990 balance sheet under current liabilities there is a "Gratuity fund" line item of $80,000. Thereafter, the balance sheet for each year records an amount equal to the total sums recorded in the above table as a "Performance Gratuity" under Xacta's current liabilities, and the profit and loss account records each year the total amount of bonus for that year as "Performance Gratuities". [11] The employment contract was terminated in 1995 and was replaced with new service contracts between Xacta and respective companies under which Mr Channer and Mr McInteer provided their services. [12] Mr McInteer says that in about 1996 the Inland Revenue Department made changes the effect of which were, as I understand it, that there was no tax benefit from declaring further bonuses. [13] The accounts for 1996 to 2004 continue to show the $270,000 Performance Gratuity under current liabilities. The profit and loss accounts for 1996 to 1998 have a line item for Performance Gratuities against which "0.00" is recorded. This line item is not included in the profit and loss accounts from 1999 onwards. [14] Mr McInteer says that the above bonuses were declared by agreement between Mr Channer and himself as the directors. He believes there were no resolutions recorded in writing. He says that the accounts were completed each April and that as part of this process he and Mr Channer would decide how much topost as the gratuity. (He has since requested copies of all documents Xacta held in relation to him but has been told by Mr Channer that they have been "cleaned out" during a recent "archiving exercise".) He says that there was no specific discussion at the time about when the monies would be paid out. He says that while staff matters were formally recorded, things were less formal as between the directors. He says that the Tower scheme was supposed to run for 20 years and "[w]e probably expected that we would both still be working for Xacta for that period and that investments were being made to cover the payments". He says, however, that no agreement was reached that it would be a 20 year term. [15] Mr Channer says that he and Mr McInteer never set profit targets as referred to in that clause and Xacta did not award bonuses to Mr McInteer or himself. No meetings of the directors, shareholders or the management team recorded awarding any such bonuses either. He says that over the 18 years that Xacta traded targets for performance bonuses and the process for calculating the bonus that could be earned were formally recorded. He has produced the minutes of Xacta's meetings from 1990 to 1995 which, amongst other things, contain financial review discussions but no mention of the performance gratuities. Mr Channer says that the accounts were drafted on the advice of Xacta's accountants and approved by Mr McInteer and Mr Channer as directors. He says that Mr McInteer was aware that because the Tower fund had a 20 year maturity term it was to have become available to the beneficiaries in 2010 upon resolution of the directors. [16] Despite the original intention to invest funds with Tower in fact the only investment Xacta made with Tower was an investment of $26,400 made in 1990. Mr McInteer says that thereafter no further funds were invested because Mr Channer did not like the fees Tower was charging. Mr McInteer says that he was concerned that by 1995 Xacta had a $270,000 debt sitting in the balance sheet with only $26,400 invested to cover it. He says he raised this on numerous occasions and suggested Xacta start an investment programme and that, although Mr Channer agreed to the suggestion, no investment programme was ever started. He says that he became less concerned over time about the funding of the bonus payment because the financial position of Xacta was such that it could have paid the bonuses from its own funds.[17] Mr McInteer left Xacta in July 2004. In November 2005 he acquired a shareholding in Zephir Consulting (Wellington) Ltd, a competing consultancy company. He says that he raised the payment of his gratuity at this time, but he does not say what Mr Channer's response was at this time. [18] Mr Dunning was a director of Xacta from September 2004 to 31 March 2006. He says that he raised with Mr Channer why the $270,000 was in the accounts. He says that Mr Channer told him the $270,000 would be made available to Mr McInteer and himself (Mr Channer) after a 20 year period from when the amounts were included in the Xacta accounts. Mr Channer confirms that he discussed "the Tower fund" with Mr Dunning (which I understand to be a reference to the amount invested with Tower rather than the performance gratuities referred to in the accounts) and that the payment was not due until the 20 year maturity date was reached. [19] Mr McInteer has produced an unsigned and undated memorandum which he says Mr Channer gave to him around May 2005. In this memorandum Mr Channer sets out his thoughts on, amongst other things, the unpaid performance gratuities which he says are without prejudice and do not necessarily reflect the opinions of the Xacta board. He accepted the existence of the $270,000 performance gratuities but disputed that they were due and owing. Specifically he said:These are due to Graeme and I as individuals and relate to a performance recognition that dates back to 1990. The gratuities were to be paid out after a period of 20 years to allow for sufficient funds to be set aside or grown by an investment programme. Of course the parties could agree to either an earlier or deferred payment if the company proposed such. My view is that the gratuities should still be paid at the agreed point of time, this being in about 4 or 5 years time. I would support fixing that date to a year end in say 31 March 2010. I am also open to considering earlier payment of these gratuities, but would want to discuss the kind of funding/investment options with Graeme first. I am confident we could agree something simple, but if not, then I think the company would still be acceptable to proceeding with payment by the 31 March 2010 date.[20] Mr McInteer issued a statutory demand for his half share of the $270,000 performance gratuity. Mr Channer instructed solicitors (Buddle Findlay) to respond to this. The correspondence from Buddle Findlay, which is dated 14 and 18 July2006, maintains the position that the performance gratuities are not presently payable. It is said that "the performance gratuity is only payable when the director decides that it should be paid" and that Xacta "would not and cannot decide to pay out on such a prospective obligation if to do so would jeopardise its solvency". [21] On 31 January 2007 Mr Channer emailed Mr McInteer. In this email Mr Channer refers to the views of Xacta's "management team" as follows:"With respect to the McInteer claim for payment of a "performance gratuity" and based on our recent discussions and review of the company records, we observe that: 1. It seems McInteer left the employment of the company in 1993 and there is no agreement recorded to pay the performance gratuity that he claims (perhaps we should ask him to supply this)? 2. The management team does not believe that such a large performance payment can have been legitimately earned in consideration of the substantial remuneration paid and the fact that the annual results of the company show a performance almost always below that set by the management team at the time. We conclude that it is not in the interests of the company to make any performance related payments, nor is there an obligation upon it to do so."[22] Mr Channer continues:Since receiving this, I have asked them to reconsider some aspects of their thinking and they have said they would do this. In the meantime, they ask for a copy of any written documentation that you may have to support your claim.[23] Mr McInteer instructed his solicitor (Gault Mitchell) to reply. In Gault Mitchell's letter dated 20 February 2007, the claim for Mr McInteer's half share of the performance gratuity was maintained and in the absence of a satisfactory response High Court proceedings for a declaration were foreshadowed. Further email correspondence did not resolve matters and on 11 May 2007 High Court proceedings were commenced against Xacta, in which Mr McInteer sought a declaration that he was owed the sum of $135,000 and that this sum was currently due and owing. [24] At some point Mr McInteer received interim accounts for the year ending 31 March 2007. The balance sheet recorded a current liability of $135,000 describedas "Unpaid Performance bonus (JC)" and a current liability of $135,000 described as "Unpaid Performance bonus (GM)".Events following issue of proceedings[25] In response to the High Court proceedings Xacta initially filed an appearance under protest to jurisdiction on the basis of an arbitration clause in Mr McInteer's employment contract. Discussions took place between the parties which Mr McInteer anticipated would resolve matters. In the event that did not occur and Xacta filed affidavits in response to the affidavits filed in support of Mr McInteer's claim. In his affidavit Mr Channer says he believes the claim is not genuine and represents an attempt by his competitor to threaten the solvency of Xacta. This is denied by Mr McInteer who points out that he put 16 years into Xacta, he still holds a 15% shareholding through a family trust and he does not want to see it fail. [26] On 3 March 2008 Xacta changed its name to Uniteknic Consulting Limited. On 10 March 2008 it went into liquidation pursuant to a special resolution of the shareholders. The McInteer Family Trust was not aware of the proposal to put the company into liquidation. Nor were they aware of share transfers which Mr McInteer says were made prior to 10 March 2008 which gave the Channer interests a 75% voting majority. [27] On 13 March 2008 Xacta's solicitors advised the Court of the liquidation and the consequence, by s 248 of the Companies Act, that the proceeding was stayed. [28] Mr Bastion was appointed liquidator. His first report was dated 16 March 2008. In that report he said that it appeared there were no creditors and he proposed to complete the liquidation by 30 September 2008. [29] On 23 March 2008 Mr McInteer filed an unsecured creditor's claim for $135,000. The claim was for performance bonuses/gratuities as follows:31 March 1990 $40,000 31 March 1991 $50,000 31 March 1992 $5,000 31 March 1993 $5,000 31 March 1994 $10,000 31 March 1995 $25,000 $135,000 [30] The documents filed in support of the claim were Mr McInteer's 1990 employment contract, the profit and loss and balance sheet statements for 1996 through to 2004 and the accounts provided by Xacta as at 31 March 2007. [31] Mr McInteer applied, pursuant to s 248(1)(c)(i) of the Companies Act, to continue the proceeding. Initially this was opposed by the liquidator. The grounds of opposition included that the more convenient way to determine the plaintiff's claim was by way of the liquidator's determination of the unsecured creditor's claim lodged by Mr McInteer on 23 March 2008. The liquidator was also concerned about the dissipation of Xacta's assets if proceedings continued and that the claim would be fruitless in view of Xacta's assets. Subsequently the liquidator advised the Court that he was carrying out enquiries but was not in a position to file affidavits in support of his opposition and accordingly he would abide the decision of the Court on the leave application. There then followed a memorandum of consent signed by both parties requesting that the Court grant leave to continue the proceeding. Leave was duly granted by the Court on 7 July 2008. It having been requested by consent, the Court appears not to have given any consideration to whether it was appropriate that the proceeding continue rather than for the claim to be considered by the liquidator.The liquidator's position[32] At the hearing before me counsel for the liquidator advised that Mr McInteer's claim has not been determined and that inquiries are still being made. On 24 September 2008 the liquidator made a request of Mr Channer for information. Included in the request was the following:I note from the 2007 and 2008 accounts that the performance gratuities were reversed and that you have advised me that this was carried out on the advice of an accountant. Please provide me with a copy of this advice, if in writing, and if not, provide me with the contact details for the accountant who provided this advice.[33] Mr Channer's reply, dated 2 October 2008, was as follows:Performance gratuities. In our earlier discussions, I believe that I mentioned my attending meetings with Barry Brown to discuss a number of things pertaining to the Company. In the last of these meetings he and I discussed the matter of the performance gratuities. He made a number of comments which he was obviously basing upon my description of the background to these accounting entries. I gave him much the same explanation as I gave you when we first met. That is – it was the opinion of directors of the Company at the time, that the original accounting entries totalling $135,000 each for Graeme and I were "estimates" or provisions for a future performance payment once the conditions for payment had been met. Those conditions included the attainment of agreed performance criteria, and an investment program to allow achieved performance to be paid over a minimum 20 year period. If I recall correctly, Barry did comment that he thought the Tower gratuity investment fund were interests that were vested in the two individuals (Graeme and myself) and that these should not be included in Company assets. We then discussed the implications of reversing these transactions – based on the assumptions outlined. I also asked Barry a number of questions about the liquidation of the company. No written advice was issued by Barry.[34] Mr Bastion also sought information from Tower. By letter dated 3 October 2008 a senior financial adviser of Tower advised that the plans mature on 3 July 2010. He said he was not the original adviser and there were no records available to him but he commented that "[m]y understanding on why contributions stopped after 12 months was that it wasn't going to work the way they thought". [35] Counsel for the liquidator advises that if the Court does not make the declaratory orders sought he will proceed to the next stage of his inquiries. That may include an application to cross-examine Mr Channer. But if that is not necessary he hoped to be able to make a decision on Mr McInteer's claim in the next month or so. [36] The liquidator's latest report refers to Mr McInteer's claim as being the only outstanding creditor's claim and that the liquidation cannot be concluded until thepresent proceeding has been resolved and the liquidator has completed his review of Xacta's transactions prior to his appointment.Submissions for Mr McInteer[37] Initially counsel for Mr McInteer submitted that Mr Channer's affidavit evidence, which was filed before Xacta was placed into liquidation, should be ruled inadmissible. At the hearing before me counsel accepted that the Court would want to review that evidence in order to be satisfied that the declarations should be made and so did not maintain his opposition to it. [38] Counsel for Mr McInteer advises that Mr McInteer does not accept that Xacta is unable to meet the payment. Mr McInteer believes transactions prior to Xacta's liquidation may be voidable. [39] Counsel submits that the proceeding is within s 3 of the Declaratory Judgments Act because a determination of the validity of part of an agreement, namely clause 2 of the first schedule of the employment agreement, is sought. It is submitted that, although Mr Channer's evidence appears to dispute the facts claimed by McInteer, Mr Channer does not deny that: a) Mr McInteer signed the employment agreement containing clause 2; b) Clause 2 was inserted to allow Mr McInteer and Mr Channer to take advantage of certain tax benefits in place at the time; and c) The accounts record the $135,000 as owing to Mr McInteer. [40] It is submitted that Mr Channer does not deny the existence of the debt but merely denies that it was payable before 2010. It is submitted that Mr McInteer's entitlement is supported by the historical documents and that Mr McInteer's attempts to avoid it are without good reason. It is said that the explanation Mr Channer has given in his response to the liquidator (at [33] above) is inconsistent with his affidavit evidence (at [6] above), what he said in the May 2005 memorandum (at[19] above), and inconsistent with the documentation for the performance gratuity scheme (at [6] and [8] above). [41] In the alternative it is submitted that if the $135,000 is not due until 2010, in view of the liquidation the liquidator could make a decision to pay the amount sooner and a declaration that Mr McInteer is owed the sum of $135,000 (but not that it is currently due and owing) could be made.My assessment[42] Although Mr McInteer's claim is effectively unopposed I do not think it is appropriate to make the orders sought without being satisfied that the claim has been established and that the claim is appropriate for declaratory orders to be made. This would be my approach even in the absence of any notice that there is a dispute about the claim, but it is particularly important here where the Court is on notice that Mr Channer disputes the claim. [43] The relevant part of s 3 of the Declaratory Judgments Act is as follows: Where any person claims to have acquired any right under any such agreement [made or evidenced by writing] such person may apply to the High Court for a declaratory order determining any question as to the construction of such agreement."[44] Section 3 also applies to questions as to the "validity" of an agreement made or evidenced in writing. This was the part of s 3 relied upon by counsel for Mr McInteer as bringing the claim within the Declaratory Judgments Act. However the issue here is not one of validity. It is one of construction – partly clause 2 of the first schedule of the employment contract and partly of any oral agreements made between Mr Channer and Mr McInteer. To the extent it involves the latter it is not within the scope of s 3. Even if the claim is within the scope of s 3, it may be unsuitable for declaratory orders where the facts are in dispute. [45] In my view the terms of the employment agreement do not establish that the $135,000 is owed to Mr McInteer and nor does it establish that it is currently due and owing. The relevant clause has three components as follows:a) where agreed minimum profit targets have been met; b) an annual bonus of $40,000; c) is to be paid pursuant to a resolution of the directors. [46] The $135,000 claimed is not comprised of annual bonuses of $40,000. That was the amount recorded in the accounts in the first year, but not the amount recorded thereafter. Further, to be owing under the clause there would need to be a resolution of the directors. It therefore becomes necessary not to construe the clause, but to consider the evidence to determine what occurred. Even if that was within the scope of s 3, the dispute in the evidence makes this an unsuitable claim for declaratory orders. [47] In particular there is a dispute as to the basis on which the $135,000 was recorded in the accounts. The position recorded in the accounts is prima facie evidence that the $135,000 is owing to Mr McInteer. However it is possible that the accounts do not accurately reflect what was agreed as between Mr Channer and Mr McInteer. That is the claim made by Mr Channer in his response to the liquidator. He says they were estimates or provisions for a future payment once the conditions for payment had been met. That claim appears to be inconsistent with other evidence. In particular it appears to be inconsistent with the scheme which seems to have required the amounts to be fixed each year in order to be deductible for Xacta's tax purposes. It also seems to be inconsistent with the May 2005 memorandum, although that was a without prejudice communication and so I put that to one side. However, I do not agree with Mr McInteer that it is necessarily inconsistent with Mr Channer's affidavit, since that affidavit referred to only the Tower fund. After the first year, none of the bonuses were to be met from the Tower fund. [48] There is also a dispute as to when the $135,000 became payable. Mr Channer says in his response to the liquidator that it was payable subject to performance criteria and an investment programme over a 20 year period. In the other documents before the Court he has maintained that it was not payable until the20 year period expired. Mr McInteer disputes this although accepts that it was not specifically discussed when it would be paid. He says that it was payable on termination of his employment because the scheme was based on documents which contemplated that. [49] These disputes are not suitable for resolution on the basis of affidavit evidence which has not been subject to cross-examination. Mr Channer's claims appear to me to be weak – particularly given that Xacta has presumably achieved the tax benefit of the fixing of the bonuses each year. That suggests that the agreement was that those amounts were owing to Mr Channer and Mr McInteer, albeit not due for payment in those years. The 20 year term also seems unlikely because that was based on a Tower fund that was not proceeded with after the first year and in any event there may have been the ability under the fund to terminate the investment early in the event of an employee terminating his employment. However these are not matters that are suitable for determination on this Declaratory Judgment Act proceeding. [50] I decline to make the orders sought. However, I adjourn the proceeding, rather than dismiss it, pending the completion of the liquidator's inquiries and his determination of the claim Mr McInteer has submitted. If the claim is accepted by the liquidator or some other resolution is reached, the proceeding can be dismissed. If the claim is not accepted then Mr McInteer may wish to consider making an application for leave under s 284(1)(b) of the Companies Act. That is a matter for him but if he does some amendment to the pleading may be necessary.Result[51] The application for declaratory orders is declined. The proceedings are adjourned sine die, but counsel for Mr McInteer is to submit a memorandum within 90 days of today's date advising the Court of the status of matters and in particular whether an application under s 284(1)(b) of the Companies Act will be made. Mallon JSolicitors: C Matsis, Gault Mitchell Lawyers, PO Box 645, Wellington (ph: 04 472 5074, fax: 471 0835) S Barker, Buddle Findlay, PO Box 2694, Wellington (ph: 04 499 4242, fax: 04 499 4141)