©2010 A. Paul Mahaffy. All rights reserved.

Although the oppression remedy available under section 241 of the Canada Business Corporations Act and its provincial counterparts may apply to most companies big or small, public or private, it seems that it's most frequently used in the context of smaller, closely-held companies if the number of recently reported decisions is a reliable indicator, despite the much publicized Supreme Court of Canada decision in BCE Inc. v. 1976 Debentureholders¹ which involved one of Canada's largest, most widely-held companies.

This article will attempt to summarize six recent Ontario decisions which deal with the oppression remedy provided under section 248 of the Ontario Business Corporations Act in the private company context. However, to frame the case review which follows, it may be helpful at the outset to repeat the essentials of the oppression remedy as described in BCE.

In short, the Supreme Court held that oppression is an equitable remedy that tries to ensure fairness. In being given the jurisdiction to enforce not just what is legal but also what is fair, a court should look at business realities, not merely narrow legalities. The cornerstone of the remedy is the reasonable expectations of the affected stakeholders, which the remedy seeks to uphold. When assessing a claim for oppression, a court should determine if the evidence supports the claimant's expectations as being reasonable, and if the expectations were violated by conduct amounting to "oppression", "unfair prejudice" or "unfair disregard" of a relevant interest.

One of the six cases, 2082825 Ontario Inc. v. Platinum Wood Finishing Inc.,² concerned the wrongful dismissal of an officer in contravention of a shareholder agreement which constituted oppressive conduct by the majority shareholders. Causing company customers (which they controlled) to stop paying accounts to the company was also held to be oppressive conduct by the majority shareholders. In the second case, Paragon Development Corp. v. Sonka Properties Inc.³, unauthorized and imprudent loans made by a director to related companies were held to be a breach of his fiduciary duty.

The third case, Aronowicz v. Emtwo Properties Inc.⁴, held that a loan agreement which was secretly entered into by one shareholder to finance the purchase of the other shareholder's shares upon the exercise of a shotgun provision in a unanimous shareholder agreement did not amount to a breach of fiduciary duty or oppression. The fourth case, Walls v. Lewis⁵, in confirming that wrongful dismissal of an officer did not, standing alone, justify a finding of oppression, found however that a company's payment of amounts owed to two directors along with a substantial premium to them after the company made a large profit while disregarding the officer's right to receive deferred compensation and payment under two promissory notes did justify a finding of oppression.

The fifth case, Tas-Mari Inc. v. DiBattista*Gambin Developments Ltd.⁶, involved two subdivision builders that refused to pay invoices and replenish security deposits as required by their agreement with a developer, and paid out profits leaving nothing for the developer. The directors of the builders were held personally liable as their actions unfairly disregarded the interests of the developer as a creditor.

Lastly, the sixth case, Fiorillo v. Krispy Kreme Doughnuts, Inc.⁷, concerned a director who acquired shares of the company in two previous tranches and sold his shares and resigned his directorship before a third tranche, concealing his sale and resignation from the plaintiff shareholders who invested in the third tranche. The company then failed and the shareholders lost their investment. All of the company directors were held liable under the oppression remedy to restore the plaintiffs' losses because the directors ignored the plaintiffs' rights under a unanimous shareholder agreement to notice of, and vote upon, the director's share sale.

Each of these six decisions will be described in more detail below.

2082825 Ontario Inc. v. Platinum Wood Finishing Inc.

The applicant shareholder held though his holding company 30% of the outstanding shares of the corporation which carried on the business of finishing hardwood flooring. Instead of acquiring a 50% interest, he paid a premium for his shares on the condition that he was to be the president of the corporation at an annual salary of $100,000. The terms were set out in a unanimous shareholder agreement. The other shareholder of the corporation was a holding company owned by three brothers who were not involved in the management of the corporation's business yet ran a separate business which was a major client of the corporation. The three brothers though their holding company caused the corporation to stop paying the applicant's salary when he was in the hospital suffering from leukemia, and when he returned to work, they voted him out as president, terminated his employment, and removed him as a director. They also caused the corporation's major client which they controlled to stop paying accounts to the corporation.

The application judge found that the brothers acted in an oppressive manner by wrongfully dismissing the applicant and allowing the receivables to build up to the detriment of the corporation, and held them jointly and severally liable for damages for wrongful dismissal and for a buy-out of the applicant's shares.

The Superior Court (Divisional Court) upheld that decision on appeal. Although the brothers argued that their actions should be supported by the business judgment rule, the court held that the business judgment rule has no application when the shareholders have agreed to the applicable terms in a unanimous shareholder agreement. The applicant took the position of president and settled for only a minority shareholding in reliance upon the terms of the unanimous shareholder agreement. The applicant's claim for wrongful dismissal was appropriately dealt with as part of the oppression application because there was an intimate connection between the applicant's contract of employment with the shareholder agreement.

In holding that the business judgment rule had no application where the shareholders have put their minds to a particular business issue and have agreed upon the terms, the court held (at page 474) as follows:

It is apparent from the course of negotiations that those terms were central to [the applicant shareholder] Barbieri agreeing to take a minority, and therefore vulnerable, shareholder position. If the business judgment rule were held to override the express terms of a unanimous shareholder agreement, such agreements would be of negligible value to a minority shareholder who becomes an equity owner in reliance on the protection contained in terms of a unanimous shareholder agreement. Instead of providing protection, such agreements could easily become the instruments of a "bait and switch" if controlling shareholders were permitted to shelter under the business judgment rule when violating the terms of a unanimous shareholder agreement to the prejudice of a minority.

In holding that the actions of the brothers were contrary to the reasonable expectations of the applicant and were oppressive, the court found (at page 476) that the dismissal of the applicant was unauthorized and unjustified as follows:

Indeed, the parties had expressly addressed the contingency of Barbieri becoming disabled and had agreed as to the point in time when his remuneration was to stop. On a fair reading of those provisions, the parties having agreed to cessation of pay after one year of disability, the logical and reasonable inference is that the parties agreed that sickness or disability for less than a year would not result in cessation of pay.

In finding that the build up of receivables owed by the appellants' company to the corporation was detrimental to the corporation and constituted oppressive conduct, the court held (at pages 476 and 477) as follows:

The evidence clearly supports [application judge] Newbould J.'s finding that the individual appellants chose to let the receivables of [their company] Herwynen Sawmill Ltd. build significantly, requiring [the corporation] Platinum, in turn, to borrow funds to support Platinum's day-to-day operations. The actions of the appellants, in essence, made Platinum the interest-free banker of Herwynen Sawmill Ltd., benefiting the appellants to the detriment of the respondents.

In finding that the case at its heart was an oppression claim with a wrongful dismissal component, the court held (at page 478) as follows:

Barbieri's position as president and manager, on the other hand, was inextricable from his agreement to acquire a minority interest as opposed to a 50 per cent interest. He did so on terms that he have management of the company and a secure remuneration of $100,000. The vulnerability of Barbieri's Company minority shareholding would be balanced by Barbieri's role in management and his secure salary.

Paragon Development Corp. v. Sonka Properties Inc.

A director of the applicant corporation caused the corporation to make unsecured loans to other companies which the director owned or controlled for the purpose of investing in real estate projects. The corporation's principal assets were four residential apartment buildings in Toronto. The corporation claimed damages by way of the oppression remedy equal to the amounts remaining unpaid on the loans.

The Superior Court held that the director breached his fiduciary obligations to the corporation. He ignored certain limits on his authority to make the loans, and he was not acting in good faith or in the best interests of the corporation. The loans were highly risky and no reasonably prudent director would have made such loans on an unsecured and unguaranteed basis. The only reasonable explanation for the loans was the director's preferment of his own interests over those of the corporation.

In finding that the director did not act in the best interests of the applicant corporation, the court held (at page 610) as follows:

The risk inherent in such loans was not addressed by the provision of security or a personal guarantee of [the director] Kaiser. It was not even secured by the underlying investment of the Kaiser-related entity. There is also no evidence that the loans were expected to pay interest at a rate that was commensurate with this equity risk. The economic reality of the loans is that [the applicant corporation] Paragon bore the down-side risk and Kaiser realized all of the up-side benefit.

Furthermore, the court held that the director was required to ensure that the loans were administered in a manner that ensured that prompt demand for payment was made by the applicant corporation in the event of any indication of financial difficulty on the part of the borrower, but the director failed to do so. The court stated (at page 611):

The obvious inference is that he did not do so because such action would have required that the borrowers liquidate the underlying equity investments to Kaiser's personal detriment.

Aronowicz v. Emtwo Properties Inc.

Two brothers each held 50% of the shares of a company which owned five commercial properties in Toronto. They were both directors of the company and parties to a unanimous shareholder agreement which contained a shotgun buy/sell provision. The shotgun provided that in the event one shareholder made an offer to the other, the shareholder receiving the offer could accept the offer and sell his shares, or purchase the offeror's shares, or elect to divide the company's assets into two packages. The defendant brother triggered the shotgun by offering to purchase the plaintiff brother's shares and requesting certain confidential documents and information concerning the company.

The defendant brother had entered into a loan agreement with third parties to finance his acquisition of the plaintiff brother's shares under the shotgun. The loan agreement provided that the loan would be repaid by transferring three of the company's properties to the lenders. The plaintiff bother was not made aware of the loan agreement when the defendant brother exercised the shotgun. The plaintiff brother's election to divide the company properties was held on arbitration to be ineffective and he was deemed to have accepted the offer to purchase under the shotgun. Upon eventually learning of the loan agreement, the plaintiff brought an action claiming breach of fiduciary duty and oppression along with other claims.

On the defendant brother's motion for summary judgment on the basis that there were no genuine issues for trial, the Superior Court dismissed the action, holding that the evidence did not support the allegations made.

In its decision, certain statements made by the court are helpful in understanding and interpreting shotgun provisions generally. In short, the court held (at page 546) that "the Shotgun Provision expressly provided a non-consensual, unilateral means of breaking a deadlock by allowing one party to trigger a termination of the [shareholders'] relationship".

In holding that there was no basis for a fiduciary duty in the exercise of the shotgun, the court found that such a provision allows a shareholder to act in his own self interest. Some of the court's comments (at page 532) on the shotgun provision and the rights and obligations of the plaintiff brother Abraham and defendant brother Harry under it are as follows:

The Shotgun Provision specifically enables a shareholder to act in his own interest and contrary to the interest of another party who wishes to maintain the existing ownership structure of the corporation. Moreover, Harry was not in a position to unilaterally exercise any power or discretion so as to affect Abraham's legal or economic interests apart from triggering the Shotgun Provision. Nor is there any basis for finding that Abraham was at the mercy of Harry in some manner or was otherwise vulnerable to him. … There is no room in such circumstances for the operation of a fiduciary duty in the sense of a duty of the exercising shareholder to prefer the interests of the other shareholder(s) to his own or a duty to act only in accordance with interests of the other shareholder in the exercise of the Shotgun Provision.

In holding that there was no basis for a duty to act reasonably and in good faith in the exercise of the shotgun, and in distinguishing it from rights of first refusal, the court found (at pages 532 and 533) as follows:

The parties bargained for an unqualified right to exercise the Shotgun Provision at any time. However, the plaintiffs argue that, in respect of the exercise of the Shotgun Provision, the court should infer an obligation analogous to the implied obligation "to act reasonably and in good faith" in respect of rights of first refusal. I do not think there is any basis in law for such an obligation. This result flows from the fact that the rationale underlying the existence of such a duty with respect to rights of first refusal does not extend to buy/sell provisions. The considerations applicable in respect of rights of first refusal differ from the Shotgun Provision in two important respects.

First, as mentioned above, after exercising the Shotgun Provision, Harry had no further rights exercisable under the Provision to which a reasonability standard is applicable. In contrast, rights of first refusal typically involve a regime of mutual rights and obligations among the shareholders in the operation of such provisions after their invocation by the triggering shareholder, including rights to which such a standard is appropriate.

Second, in a right of first refusal, a remaining shareholder is entitled to insist on reasonable compliance by a departing shareholder with a right of first refusal in order to protect itself against being forced into a relationship with a new "partner" to whom it did not consent. In a buy/sell arrangement of the nature of the Shotgun Provision, because the parties are terminating their business relationship, the remaining shareholder does not have a continuing interest to which the departing shareholder must have regard in exercising its rights under the buy/sell arrangement. This conclusion is reinforced in the present circumstances by the fact that Abraham had the right to determine which of the parties was to be the remaining shareholder and which was to be the departing shareholder.

In holding that there was no duty on a party to disclose its financing arrangements for the exercise of a shotgun, the court stated (at page 539) as follows:

In contrast, the Shotgun Provision established a classic negotiation relationship between the parties. In that context, each party is generally entitled to act in his or her own interest. There is no principle of law that requires a party to disclose the basis of its negotiating position. In particular, there is no obligation on the part of the triggering shareholder to disclose the basis on which the shareholder arrived at his offer price.

The court further held (at page 539) that the unanimous shareholder agreement, or USA, for the company Emtwo did not require such disclosure, as follows:

First, as mentioned above, the USA contains an explicit mechanism for achieving fairness between the parties It provides options in favour of the non-triggering shareholder that permit that shareholder to realize the value of Emtwo, as assessed by that shareholder with full access to all Emtwo information and records. Second, there is no need for disclosure to police the use of the Shotgun Provision as there were no other "exit provisions" in the USA that could be circumvented by triggering the Shotgun Provision.

In a response to the plaintiff brother's argument that the company's shareholders owed a duty of honesty and good faith to each other because they were brothers, the court stated (at page 534) as follows:

I see no additional evidence that would support a finding by a trial judge that each brother also owed such duties to the other in their personal capacities as shareholders. The fact that Emtwo is a "family" corporation in the sense that its shares were held by two brothers and its activities conducted by one of them is not, by itself, sufficient. In the absence of express contractual commitments in the USA, which are absent, there must be special circumstances in the relationship between the brothers to justify a finding of such a duty.

Walls v. Lewis

The plaintiff was a founding shareholder and vice-president of finance of a company involved in the development and distribution of point-of-sale terminals, debit/credit processing and "corner store" automated teller machines. In joining the company, he agreed to accept a lower salary on the basis that his deferred compensation would be paid to him when the company became profitable. He also loaned money to the company in exchange for promissory notes on the understanding that the notes would be repaid when the company's cash flow permitted.

When the company made a significant profit on a particular transaction, it paid two of the company's directors everything they were owed on their loans plus a substantial premium, although the plaintiff received only a portion of what he was owed. When he was terminated by the company, after nine years of service, he received a severance payment equal to 6 months salary. He then sued the company and the two directors for his deferred compensation, payment of the promissory notes, and damages for wrongful dismissal.

The Superior Court held that the company was liable for the entire amount of the claim, including damages equal to an additional six month's salary to be added to the severance payment he had already received, although the company was "dormant" and unrepresented by counsel at the trial. While the two directors were also found personally liable under the oppression remedy for the deferred compensation and the amounts owing under the promissory notes, they were not found liable for wrongful dismissal damages.

In holding that the two directors could not be held personally liable on the wrongful dismissal claim, the court stated (at pages 26 and 27) as follows:

Wrongful dismissal, standing alone, does not justify a finding of oppression. It is only where the interests of the employee are closely intertwined with his interests as a shareholder and where the dismissal is part of a pattern of conduct to exclude the complainant from participation in the corporation that the dismissal can be found to be an act of oppression…. None of this happened here.

In holding that the directors Lewis and McKee were personally liable for the deferred compensation and payment of the promissory notes which remained unpaid by the company DSTI, the court commented (at page 27) as follows:

DTSI decided to pay Lewis and McKee in full, even adding a premium, while paying Walls only a portion of what he was owed. In doing this, to track the language in s. 248(2)(a), the corporation, DSTI, engaged in acts that effected a result that unfairly disregarded the interests of Walls as creditor (i.e., to also be paid in full).

And further, in a footnote on that page, the court stated:

[The Company after the transaction] could have repaid all of its lenders in full and still had a balance of just over US$3 million. No one is suggesting that the company was required to do this. Indeed, the better business judgment may well have been to pay out only a portion of the [investment sale] proceeds to note-holders and other creditors. Had DTSI … made proportionate payments, fairly and equally, to all of the shareholder-creditors, there would have been no basis for complaint. It is the unfair and unequal distribution to two DTSI directors that provides the basis of this action against Lewis and McKee personally.

In determining whether Walls's expectations in the circumstances were reasonable and whether they were violated when assessing the claim for oppression, the court held (at page 28) as follows:

Mr. Walls reasonably expected that he would eventually be paid his deferred compensation once the start-up was in funds. … In my view, Walls's reasonable expectation as a founding shareholder and company creditor was violated by the disproportionate amounts paid out to directors Lewis and McKee, conduct that unfairly disregarded his interests as a creditor. Likewise with the two promissory notes.

In fixing personally liability on the two directors, the court referred (at page 29) to the decision in Budd v. Gentra Inc.⁸, as follows:

In Budd v. Gentra Inc., the Court of Appeal held that officers and directors may be personally liable in cases where the officers or directors "personally benefited from the oppressive conduct". All the more so, I would add, where the corporation is closely held, chooses to operate with no formal shareholder or directors meetings and relies on ad hoc decision-making…

In short, the court held (at page 30) that the "only way to correct the fact that Mr. Walls's interests as creditor were unfairly disregarded is to require the two beneficiaries of the company's generous repayment decisions to disgorge such amounts as should have been fairly and properly remitted to Walls - namely the balance owing for deferred compensation and the amounts owing on the two notes".

Tas-Mari Inc. v. DiBattista*Gambin Developments Ltd.

A developer of two subdivisions in Brampton, Ontario entered into agreements of purchase and sale with three builders. The agreements allowed the developer to correct any deficiencies or damage and charge back the relevant amounts, while also requiring the builders to provide security deposits by way of letters of credit. The developer was entitled to deduct the amounts owed from the security deposits and the builders were required to reinstate the security deposits to the original amounts. The developer invoiced the builders for various amounts and the builders paid some of the invoices. To recover the unpaid amounts, the developer drew on the letters of credit, but the builders refused to reinstate the security deposits. The builders were closely-held, single purpose corporations which ceased to generate revenues once the subdivisions were completed and which had distributed their profits to their shareholders, leaving no assets to satisfy any judgment.

In addition to seeking an order for the replenishment of the letters of credit, the developer claimed against the directors of the builders personally under the oppression remedy.

The Superior Court allowed the claim against the directors of two of the builders to succeed. In holding that the actions of the builders and their directors had been conducted in a manner that unfairly disregarded the interests of the developer DBG as a creditor, the court stated (at page 617) as follows:

After those security deposits were drawn upon by DBG, the principals of the corporations made conscious decisions that they would not replenish them. The purpose of those security deposits is to provide funds out of which DBG could make claims for moneys that it claims were owing to it. If the corporations and their principals believed that DBG had improperly drawn upon the security deposits, their remedy was to sue. What they were not entitled to do was to decline to replenish the security deposits, decline to pay outstanding invoices and nevertheless pay out all of the profits of the corporation leaving nothing for DBG if DBG were to succeed in this action, as it did, at least in part.

The principals of the corporations knew, at all relevant times, that these claims were outstanding and would likely end up being litigated, as they were. If properly advised, they were aware that there was a risk that their position would not be sustained and that DBG's position might prevail. Notwithstanding that knowledge, the principals of the corporations nevertheless paid out all of the profits leaving nothing for DBG.

Fiorillo v. Krispy Kreme Doughnuts, Inc.

A director acquired shares in the first two tranches of the company's capital raising but sold his shares and resigned his directorship prior to a third tranche taking place. The company operated a retail doughnut business through parts of Canada under a franchise granted by a U.S. based franchisor. All three of the plaintiffs had invested in the first tranche, and two had invested in the second tranche. After the director told one of the plaintiffs that he was not participating in the third tranche because he already had enough shares, but did not advise that he had already sold his shares and resigned as a director, all three plaintiffs invested in the third tranche.

A unanimous shareholder agreement required that any transfer of company shares be first approved by the company's shareholders, but such approval was not sought for the transfer of the former director's shares. When the company failed and the plaintiffs lost their investment, they claimed against all of the directors under the oppression remedy for failure to give notice of the proposed sale of the former director's shares, as well as against the former director for fraudulent or negligent misrepresentation, alleging that they would not have invested in the third tranche had they known of the former director's prior share sale and resignation.

In addition to allowing the claim by one of the plaintiffs against the former director for fraudulent misrepresentation, the Superior Court held that the three plaintiffs could recover the losses on their third tranche investments under the oppression remedy from the company's directors because of the failure to give notice of, and obtain shareholder consent to, the former director's share transfer as required under the unanimous shareholder agreement. The court stated (at pages 144 and 145) as follows:

…notice of a proposed resolution approving the transfer was required to be given to the plaintiffs who were to be given the opportunity to sign the written consent in the form of a Special Shareholders Resolution. It was the obligation of the directors who were charged with the responsibility to manage the business and affairs of [the company] Kremeko to see that the proposed steps were taken. What occurred did not correspond to the protection of the plaintiffs' rights. There was no shareholders' meeting.

In holding that the plaintiffs had a reasonable expectation pursuant to the unanimous shareholder agreement that they would be entitled to notice of the former director's share transfer, the court found that such expectations were breached by the board's conduct which unfairly prejudiced the plaintiffs and unfairly disregarded their interests.

While the court recognized that directors are generally not personally liable for the acts of the corporation, it stated that such liability may follow when the directors act in their own separate interests, as occurred here when the directors acquired either personally or through their respective holding companies the shares of the former director.

By imposing such liability on the directors in this case, the court (at page 148) relied upon the following statement found in Budd v. Gentra Inc.⁹:

The plaintiff must allege a basis upon which it would be "fit" to order rectification of the oppression by requiring the directors or officers to reach into their own pockets to compensate aggrieved persons. The case law provides examples of various situations in which personal orders are appropriate. These include cases in which it is alleged that the directors or officers personally benefited from the oppressive conduct, or furthered their control over the company through the oppressive conduct. Oppression applications involving closely held corporations where a director or officer has virtually total control over the corporation provide another example of a situation in which a director or officer may be held personally liable to rectify corporate oppression.

In finding that the directors benefited by keeping confidential the transfer of shares by the former director, the court held (at page 149) as follows:

… the view of the Kremeko board was that they did not want widespread knowledge of the sale and a flood of potential investors wanting to redeem their shares and take their money and move on. All directors had that concern and all were shareholders of Kremeko. This was a closely held corporation and the value of their shareholdings would undoubtedly have been affected had Kremeko had difficulty in raising further capital for its anticipated Western expansion.

Conclusion

All of the foregoing cases involve smaller, closely-held companies, and with the exception of one case (Aronowicz), all provide examples of conduct giving rise to an oppression remedy. The parties found liable all preferred their own interests over the interests of others.

These cases, as with many oppression cases, turn on their own particular facts, and are unlikely to be regarded as leading authority on the legal principles supporting the oppression remedy. That role will likely be performed by the decision of the Supreme Court in BCE for a while to come.

However, these cases are helpful on a practical level because they look, in the spirit of the BCE decision, at the business realities and not the narrow legalities facing the various parties involved. They illustrate how the expectations of the complaining parties were formed and whether the failure to satisfy those expectations was due to oppressive conduct.

It is not always easy to decide whether the dismissal of an employee, the exercise of buy/sell rights, the making of unsecured loans, the payment to a particular creditor, the distribution of company assets, or the failure to obtain shareholder approval of a particular action, will, at least in hindsight, be construed as oppressive conduct. Hopefully these six cases provide some guidance on how a court in Ontario might decide such a question.

¹ [2008] 3 S.C.R. 560, [2008] S.C.J. No. 37
² 96 O.R. (3d) 467
³ 96 O.R. (3d) 574
⁴ 96 O.R. (3d) 510
⁵ 97 O.R. (3d) 16
⁶ 97 O.R. (3d) 579
⁷ 98 O.R. (3d) 103
⁸ [1998] O.J. No. 3109, 43 B.L.R. (2d) 27 (C.A.)
⁹ Ibid, at para. 52

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