Company’s cause of action and stakeholders’ cause of action distinct, even if company is insolvent

Bankruptcy and Insolvency - Companies' creditors arrangement act - Miscellaneous

Forestry company used subsidiaries in British Virgin Islands [BVI] to acquire timber in manner that circumvented Chinese ownership laws by having subsidiaries acquire rights to standing timber through suppliers and sell them to authorized intermediaries, who were required to pay suppliers so that no cash flowed through forestry company. After Chinese law permitted foreign investment in Chinese trading companies, forestry company, through subsidiaries which were wholly foreign owned enterprises (“WFOE”), ostensibly planted and purchased plantations. Forestry company engaged in wood log trading model under which subsidiary would purchase log from supplier outside China using letter of credit guaranteed by forestry company, resell logs to customer and receiving 70 per cent of payment in cash with remainder as account receivable directed to BVI standing timber suppliers, creating cash gap in that more was paid to purchase logs than was received for them. After Ontario Securities Commission ordered cease trade, number of class actions were commenced against forestry company and its directors, auditors, underwriters and consultants, and forestry company defaulted on notes and began restructuring process under Companies’ Creditors Arrangement Act. Sale process under Act failed and monitor had difficulty recovering receivables owing to forestry company, and could not verify that claimed timber holdings related to BVI model existed. Litigation trustee of forestry company brought action against CEO for damages for fraud and negligence. Trial judge allowed claim finding that CEO engaged in fraud through use of BVI and WFOE standing timber models, wood log trading cash gap and making large deposits for purchase of logs, which exceeded their value, and breached his fiduciary duty by causing forestry company to acquire majority interest in another company without disclosing his interest, and he awarded damages of . CEO appealed. Appeal dismissed. Plan allowed litigation trustee to advance claims made in action against CEO notwithstanding claims by noteholders and shareholders in class actions. Plan transferred to litigation trustee causes of action of forestry company against any and all third parties, which included CEO, and forestry company did not make claims in class actions asserting its causes of action or seeking damages it suffered. Distinction between company’s cause of action and separate cause of action of stakeholders did not cease to exist when company became insolvent. Intercompany claims were not assigned to litigation trustee, but none of claims for which CEO was found liable were intercompany claims. Transfer of forestry company’s assets to holding company and transfer of its claims against CEO for fraud and breach of fiduciary duty to litigation trust were not inconsistent.

SFC Litigation Trust v. Chan (2019), 2019 CarswellOnt 10809, 2019 ONCA 525, Alexandra Hoy A.C.J.O., David Brown J.A., and B. Zarnett J.A. (Ont. C.A.); affirmed (2018), 2018 CarswellOnt 4302, 2018 ONSC 1429, Penny J. (Ont. S.C.J.).

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