Maple Leaf Mills Limited v. Minister of National Revenue, [1972] CTC 188, 72 DTC 6166

Gibson, J:—This is an appeal from a reassessment for income tax of the appellant for the taxation year 1966 in respect to an item in the amount of $1,201,079, which has been called “the aggregate net revenue decreases” from August 1, 1961 to November 19, 1965, arising out of the operation of the ship S T Federal Monarch, which amount the respondent says, “has been properly taken into account in computing the taxpayer’s income in accordance with the provisions of sections 3 and 4 of the (Income Tax) Act”.

The ship, the S T Federal Monarch, a 40,000 ton deadweight single screw steam turbine oil tank vessel was built by Davie Shipbuilding Limited at Lauzon, Quebec and delivered in 1959.

A number of parties entered into contracts in relation to this ship, some of whom, in addition to the appellant were:

Federal Bulk — being Federal Bulk Carriers Incorporated, a corporation incorporated under the laws of the State of New York, one of the States of the United States of America:

Bessemer — being Bessemer Securities Corporation, a corporation incorporated under the laws of the State of Delaware, one of the States of the United States of America;

Tankers — being Federal Tankers Limited, a company incorporated under the laws of Canada;

Carriers — being Federal Petroleum Carriers Limited, a company incorporated under the laws of Canada;

Bessbulk — being Bessbulk Limited, a company incorporated under the laws of the Province of Ontario;

Imperial Oil — being Imperial Oil Limited, a company incorporated under the laws of Canada.

The beneficial owners of the ship, after it was built in 1959, were the said two United States corporations, namely, Federal Bulk as to 60% and Bessemer as to 40%, which corporations respectively, in like percentages owned the outstanding shares of Tankers, which in turn owned all the outstanding shares of Carriers, which in turn owned the ship.

After the ship was built, it entered service under a 15-year charter to Imperial Oil.

In connection with the financing of the cost of the construction of the ship, a number of bareboat and time charters were entered into and pledged, the details of which are not relevant to the determination of the issues on this appeal.

The appellant as of July 31, 1961 purchased from Federal Bulk and Bessemer for the sum of $2,300,000 all of the issued shares of Tankers and all the subordinated notes of Tankers.

As of July 31, 1961, also, the appellant purchased the ship from Carriers for the sum of $11,236,032 payable:

(1) by the assumption of all of Carriers’ obligations of a first mortgage bond for $7,235,634;

(2) by the assumption of 6% subordinated notes for $3,961,820; and

(3) by the cancellation of the balance of $38,628.

At the time of these two transactions, Federal Bulk and Bessemer also agreed and did incorporate Bessbulk and transferred to it the sum of $1,943,550 (which Bessbulk was to invest in certain income producing assets) and also caused Bessbulk to enter into an agreement with the appellant.

The 1961 agreement between Bessbulk and the appellant provided that if the operation of the ship did not result in a certain level of earnings being attained, then Bessbulk would become indebted to an amount equal to the deficiency in earnings, and contrarywise, such indebtedness would be reduced by the amount, if any, which the earnings from the ship exceeded such guaranteed level of earnings in subsequent years.

It also provided that the only portion of the indebtedness which was to be paid to the appellant by Bessbulk in any year was an amount equal to the net earnings of Bessbulk in such year, with the payment of the balance, if any, of the indebtedness being deferred for payment until either the termination of the charters or the sale of the ship, whichever occurred first. In the meantime, Bessbulk held the funds.

The 1961 agreement between Bessbulk and the appellant was restructured by an agreement dated June 20, 1963.

In the 1963 agreement, the appellant agreed to purchase from Federal Bulk and Bessemer ail the outstanding shares and debentures of Bessbulk for a price equivalent to the net worth of Bessbulk on the termination of the charters or the sale of the ship, whichever occurred first, subject to an abatement representing what is called “the aggregate net revenue decreases” above referred to.

The deficiencies in the ship’s net cash revenues as against its projected revenues in the agreements for the following fiscal years of the appellant’s were as follows:

The appellant received from Bessbulk the following sums in the fiscal years of the appellant hereinafter listed:

On November 19, 1965 the ship was sold by the appellant to Oswego Unity Corporation.

After that, as the 1963 agreement contemplated, the auditors issued their certificate which is dated December 5, 1966 as to the net revenue decreases from the operation of the ship, and the basic purchase price of the shares and debentures of Bessbulk in the following terms:

(1) The net revenue decreases (as defined) to November 19, 1965 aggregated US $1,114,189, Cdn $1,201,079 (see Schedule 1).

(2) The basic purchase price of the shares and income debentures of “Bessbulk” is Cdn $1,194,309 calculated as follows —

Net worth of Bessbulk Limited as at

November 19, 1965	$2,178,953
Less “Charter period deduction”
as per schedule 1	ORA «44
Basic purchase price	$1,194,309

So much for the facts.

In reviewing the whole of the evidence and especially the terms of the agreement dated June 20, 1963 between Federal Bulk and Bessemer and the appellant, Maple Leaf, respecting the purchase price of the shares and debenutres of Bessbulk and the certificate of the auditors issued pursuant to the terms of that agreement, the amount found by the auditors as to “the basic purchase price of the shares and income debentures of Bessbulk”, namely $1,194,309, does not represent the fair market value of said shares and debentures of Bessbulk. Instead, the fair market value was $1,201,079 more, which also was the amount due to the appellant in respect of the earnings deficiencies of the ship (calculated pursuant to the terms of the said agreement) for the period from 1962 to 1966 of the fiscal years of the appellant.

The issue on this ape-al is whether or not the amount categorized in said Schedule 1 above referred to as “‘net revenue decrease” (in Canadian dollars) in the amount of $1,201,079 should be brought into account in computing the appellant’s income for the taxation year 1966, either, firstly, as representing the difference in the purchase price of the shares and debentures of Bessbulk between their fair market value and the amount the appellant paid for them, or, secondly, as income in another way from the business of operating the ship S T Federal Monarch; or whether, on the contrary, the said amount should be brought into account in computing the appellant’s income for the taxation year 1966 because it should be categorized as the abatement of the tentative purchase price on capital account of the said shares and debentures of Bessbulk, which purchase price could not be and was not definitely and finally determined until after November 19, 1965 when the ship was sold (being one of the two times provided for in the 1963 agreement for the calculation and determination of the said purchase price of said shares and debentures of Bessbulk).

It was the submission of the appellant that the essence of these transactions was that Bessemer and Federal Bulk did not receive the purchase price at the time they transferred the shares and debentures of Bessbulk to the appellant, but instead only after the sale of the ship on November 19, 1965, when, only, pursuant to the agreement of 1963, it was possible to determine the “basic purchase price” of the same; and that although economic factors in determining such “basic purchase price” were taken into account, namely, net revenue decreases or increases, in respect to the operation of the ship, nevertheless, the agreement of 1963 makes such determination of the “basic purchase price” a matter on capital account and not on income.

The respondent submitted that from all these arrangements it should be inferred that it was the intention on the part of the appellant that the abatement of the purchase price of these shares and debentures received by it should be on income account; and that the restructuring of the 1961 agreement in 1963 to accommodate Federal Bulk and Bessemer did not change the character of the sum in issue in this appeal, such representing the guarantee of income in the operation of the ship.

In my view, both the 1961 and 1963 agreements in essence, guaranteed a certain revenue from the operation of the ship. The 1963 agreement accomplished this purpose by way of the said mechanics to determine the purchase price of the shares and debentures of Bessbulk.

By reason thereof, the appellant obtained a benefit of $1,201,079 which may be categorized either as a receipt of income in another way from the business of operating the ship or as a benefit received as a result of being able to acquire the shares and debentures of Bessbulk at less by the said amount than their fair market value (which benefit the appellant had a right to receive only if, and did receive only because there was a deficiency in earnings, as defined, arising out of the operations of the ship as an income producing asset).

Under the 1963 agreement, this receipt or benefit was determined and payable in November 1965, when the ship was sold and was obtained by the appellant in its 1966 taxation year. The amount of this receipt or benefit must therefore be included in the income of the appellant in computing its profit for the 1966 taxation year.

The appeal is dismissed with costs.

GERALDINE I WINRAM and THE ROYAL TRUST COMPANY,

Executors of the Estate of THEODORE JAMES WINRAM,

Deceased, Appellants,

and

MINISTER OF NATIONAL REVENUE, Respondent.

Federal Court—Trial Division (Gibson, J), April 14, 1972, on appeal from an assessment of the Minister of National Revenue.

Estate tax—Federal—Estate Tax Act, SC 1958, c 29—Valuation of shares

In issue was the valuation of the appellant’s 9 class “A” voting shares out of 10 such shares issued by a corporation of which the deceased was the president and chairman of the board. The other voting share and all 990 non-voting shares were owned by the deceased’s wife. The company’s articles of association provided that no shares could be transferred without the consent of the directors; that the chairman had the right to a ‘‘casting vote” to break a tie; that dividends could be declared by ordinary resolution; and that dividends could be declared on one class of shares without the other. In the Minister’s view the deceased (1) could have transferred his 9 shares without the consent of his wife and (2) could have caused all the surplus to be paid out to the class “A” shareholders to the exclusion of the non-voting shareholders without his wife’s consent. The Minister accordingly valued the deceased’s shares on that basis.

HELD:

On both points the deceased could have so acted without being in breach of his fiduciary duty as a director. Appeal dismissed.

David A Ward and Peter 7 Banwell for the Appellants.

Ian Pitfield for the Respondent.

CASES REFERRED TO:

Securities and Exchange Commission v Chenery Corporation, 318 US

at 85-86; 63 S Ct at 458:

In re Copal Varnish Co, [1917] 2 Ch 349;

Hofer v Hofer (1968), 65 DLR (2d) 607;

Dimbula Valley (Ceylon) Tea Co Ltd v Laurie, [1961] 1 Ch 353.

Gibson, J:— This is an appeal from an assessment for estate tax in respect to nine class “A” voting common shares in the capital stock of T Winram Co Ltd which shares comprised a part of the property passing on the death of Theodore James Winram, deceased, and which were assessed at an aggregate amount of $177,972.30. The executors in the return of information filed pursuant to the Estate Tax Act, declared the value of these shares to be $1,627.06 (which it is agreed should have read $1,780.61).

T Winram Co Ltd is a company incorporated under the laws of the Province of British Columbia by memorandum and articles of association dated September 17, 1957.

At the date of the death of the deceased and at all material times the issued capital of the company consisted of 990 class “B” nonvoting shares, all of which were held and beneficially owned by Geraldine I Winram, the widow of the deceased, and 10 class “A” voting shares, one only of which was held and beneficially owned by Geraldine I Winram and the nine other of which shares were held and beneficially owned by the deceased.

It is the valuation for estate tax purposes of these latter nine shares which is the subject matter of this appeal.

No other shares of the company were issued and outstanding but the fact that the authorized capital of the company permitted the issuance of other shares is irrelevant to the determination of this appeal.

Until the death of the deceased and at all material times thereto the deceased and Geraldine I Winram were the only directors of the company and the deceased was the president of the company and chairman of the board of directors, and Geraldine I Winram was the secretary of the company.

Until the date of death of the deceased and at all material times prior thereto, also, the articles of association of the company provided at Article 3 that no share might be transferred except with the consent of the board of directors “who (might . . . in their absolute discretion refuse to register the transfer of any share”; at Article 6 that the holders of non-voting shares did not have the right to vote; at Article 17 as amended that in the case of an equality vote that the chairman had a second or casting vote; at Article 18 that ‘‘a director interested in any contract or arrangement under consideration may be counted to make up the quorum although he shall not vote thereon”; and at Article 20 that dividends might be declared by ordinary resolution and that “dividends so declared may be equal for each class of share or not equal and dividends may be declared on one class of share without dividends being declared on another class of share”.

By agreement of the parties, the questions for the opinion of the Court are the following:

(a) Could the deceased, at law, have transferred the 9 class “A” voting shares of which he was the registered owner without the consent of Geraldine Winram to the transfer?

(b) Could all of the surplus of the company have been paid immediately prior to the death of the deceased by way of dividend to the holders of the class “A” shares to the exclusion of the holders of the class “B” shares without the consent of Geraldine Winram to such payment?

If the anwer to both of these questions is in the affirmative, then the assessment of estate tax must be confirmed.

If, however, the answer to either of these questions is in the negative, then the appeal will succeed in part and the assessment will have to be referred back for reconsideration and reassessment on the basis that the aggregate value of the nine class “A” voting shares was $1,780.61.

At issue is what action the directors may legally and equitably take.

The duties and obligations in law and in equity of the directors of a company are therefore relevant.

Wegenast, The Law of Canadian Companies (1931) at pages 364-65 states that “The simplest accurate description of the relationship of director is to call it a fiduciary relationship, that is to say, a relationship requiring the exercise of fidelity, having in view the purposes for which directors are appointed, as well as the statutory provisions under which the appointment is made”; Snell’s Principles of Equity, 26th Edition by R E Megarry and P V Baker at pages 262-63 states that “although the directors stand in a fiduciary position to the company, they are not trustees for the individual shareholders, . . .”.

In Securities and Exchange Commission v Chenery Corporation, 318 US at 85-86; 63 S Ct at 458 (1943), Mr Justice Frankfurter observed that:

. . . to say that a man is a fiduciary only begins analysis; it gives direction for further inquiry. To whom is he a fiduciary? What obligations does he owe as a fiduciary? In what respect has he failed to discharge these obligations?

The relevance of so characterizing the relationship of a director is that in cases arising out of a fiduciary relationship, a court of equity finds expression in holding that a constructive trust exists.

In the relationship between director and shareholder, however, their respective ownership of shares in a company must not be confused with obligation nor must the relationship of director and shareholder be converted into one of trustee and cestui que trust unless there are particular facts in a given case from which it is proper to make such an inference.

In the corporate context, suitable and conceptual adjustments must be made from the strictly fiduciary context of, for example, trustee and cestui que trust. This is so because the difference between the strict fiduciary (for example, the trustee in a cestui que trust relationship) and the director fiduciary is very real. A director shareholder, even a controlling shareholder is, by reason of his being a shareholder, a beneficiary as well as a trustee of the corporate trust, while a strict fiduciary is not typically a beneficiary of the trust estate which he administers. But more basically the relationship among corporate shareholders is essentially that of joint investors in a business enterprise. The nature of the relationship is arms length and profit orientated; it is free of the constructive trusts which characterize the relationship between the strict fiduciary and his beneficiary.

In the subject case, if a meeting of the board of directors were properly called, even though under the articles there were only two directors, both of whom are required for a quorum, one of whom being the deceased and the other being Geraldine I Winram, Geraldine I Winram could not by wilfully refusing to attend such a meeting prevent the deceased from transferring the nine class “A” voting shares of which he was the registered owner. (/n re Copal Varnish Co, [1917] 2 Ch 349, applied in Hofer v Hofer (1968), 65 DLR (2d) 607, CA Man, Freedman, J A as he then was.)

If Geraldine I Winram attended such a duly called meeting of the board of directors, then, because the deceased as chairman had a second or casting vote, he could obtain the approval of the legal transfer of such shares.* [1] (Companies Act, RSBC 1960, c 67, section 170.) Article 3 of the articles of association gave the deceased the right to compel registry of the shares in the registry of the company.

in similar situations (that is in the case of Geraldine I Winram refusing to attend a duly called meeting of the board of directors or in case she did attend) the deceased could cause the board to declare a dividend whereby the company would pay out nine-tenths of all the surplus of the company to himself as owner of nine of the class “A” voting shares and one-tenth only to Geraldine I Winram, the owner of one class “A” voting share, to the exclusion of the holder (Geraldine I Winram) of the class “B” non-voting shares. Such action would not be an abuse of this power in respect to the rights of class “B” shareholders. The case authorities are not applicable which hold that the Court will interfere to protect the minority, where the majority of a company propose to benefit themselves at the expense of the minority. All such authorities are cases where the majority and minority held the same class of shares.

Article 20 (Table A, Clause 78 as amended by Article 20) of the articles of association as stated, specifically provides that:

The Company may by ordinary resolution, whether previous notice thereof has been given or not, declare dividends, but no dividend shall exceed the amount recommended by the directors. Dividends so declared may be equal for each class of share or not equal and dividends may be declared on one class of share without dividends being declared on another class of share.

The deceased as director of the company, in so acting, would not be in breach of his fiduciary duty as director. In doing so, he would be acting in his capacity as a shareholder, a beneficiary of the corporate trust and not as a trustee of the corporate trust and therefore he would be free of any constructive trust.

In addition, the rights of the class “B” shareholders are circumscribed by the provisions respecting such shares in the memorandum and articles of association of the company. Nowhere in such, or in equity or law (including the Companies Act, RSBC 1960, c 67) is there given to the class “B” shareholder an unalienable right to any part of any dividends declared.

Also, any dividends duly declared on class “A” voting shares only at a properly called directors’ meeting of the company would not be an abuse by the majority of the class “A” holders of the rights of the minority of class “A” holders. (Dimbula Valley (Ceylon) Tea Co Ltd v Laurie, [1961] 1 Ch 353.)

The appeal is dismissed with costs.