Houghton v Saunders

• Jurisdiction: New Zealand
• Judge: Dobson J
• Judgment Date: 15 September 2014
• Neutral Citation: [2014] NZHC 2229
• Docket Number: CIV-2008-409-348
• Court: High Court
• Date: 15 September 2014

Between

Eric Meserve Houghton

Plaintiff

and

Timothy Ernest Corbett Saunders, Samuel John Magill, John Michael Feeney, Craig Edgeworth Horrocks, Peter David Hunter, Peter Thomas and Joan Withers

First Defendants

Credit Suisse Private Equity Inc (Formerly Credit Suisse First Boston Private Equity Inc)

Second Defendant

Credit Suisse First Boston Asian Merchant Partners LP

Third Defendant

First New Zealand Capital

Fourth Defendant

Forsyth Barr Limited

Fifth Defendant

[2014] NZHC 2229

CIV-2008-409-348

IN THE HIGH COURT OF NEW ZEALAND

WELLINGTON REGISTRY

Claim by investors of Feltex Carpets Ltd (“Feltex”) against the first defendant directors for losses alleged to have arisen from reliance on an allegedly misleading prospectus — at the time Feltex was owned by the third defendant company and managed by the second defendant company — fourth and fifth defendants, First New Zealand Capital and Forsyth Barr Ltd participated as joint lead managers of the Initial Public Offering — in 2004 Feltex issued a combined investment statement and prospectus to make an initial public offering — the prospectus identified numerous risks to the achievement of forecast and projected outcomes, but generally portrayed an improving financial position for Feltex — in 2006 Feltex went into receivership and the shares were worthless — whether the prospectus was misleading — whether the second, third, fourth and fifth defendants were “promoters” — whether a co-existent cause of action could exist under the Fair Trading Act 1986 (“FTA”) alongside a Securities Act 1978 (“SA”) claim — whether the defendants had a concurrent duty of care in tort — whether the directors were liable under the Securities Act 1978.

Counsel:

A J Forbes QC, P A B Mills, A J F Wilding and T J P Gavigan for plaintiff

A R Galbraith QC, D J Cooper, S V A East and L M Campbell for first defendants (except Mr Magill)

T C Weston QC and D J Cooper for Mr Magill

J B M Smith QC, A S Olney and C J Curran for second and third defendants

D H McLellan QC, J S Cooper and R M Stewart for fourth defendant

A C Challis, D P Turnbull and H N McIntosh for fifth defendant

RESERVED JUDGMENT OF Dobson J

Contents

Background	[2]
The parties	[17]
The preparation of the prospectus	[19]
The claims	[29]
The range of pleaded criticisms	[42]
Summary of the outcome	[50]
The test under the SA cause of action	[56]
The test for assessing whether a statement in a prospectus is untrue	[58]
The “prudent but non expert person”/“notional investor”	[78]
Level of reliance required to trigger liability	[102]
Expressions of opinion, including prospective financial information	[121]
Plaintiff's evidence	[127]
Defendants' evidence	[155]
Analysis of the criticisms	[163]
A Undisclosed adverse trends in current trading	[164]
Adverse trend in gross sales revenue, and volume of sales	[164]
Unacknowledged adverse trend in result for six months to 30 June 2004	[193]
Removal of provision for management incentive plan	[195]
B Misstatements or statements omitted as to risks confronting Feltex	[197]
Risks arising from reduced tariffs and increased imports of carpet into Australia	[197]
Adverse impact of a strengthening in the New Zealand dollar	[229]
The adoption of lean manufacturing techniques	[242]
The quality of Feltex's relationship with major customers	[255]
Carpet manufacturers have high break-even cost structures	[276]
C Misleading or unreasonable assumptions in predicting future performance	[280]
Existing customers will continue to trade with Feltex at their current level	[297]
No change in competitive markets and industry conditions	[301]
No change in the level of imported carpet	[304]
Raw material costs, carpet selling prices	[307]
Feltex's market share would grow by one per cent	[311]
The FY2005 projection was not reasonably achievable	[324]
D Misleading presentation of historical and prospective financial data	[339]
The “second bottom line”	[342]
Presentation of NPAT in summary financials	[372]
Inappropriate emphasis given to EBITDA	[378]
Misleading inclusion of SIP grants in reported earnings	[391]
Failure to disclose forward dating of sales invoices – the allegation	[409]
Forward dating of invoices — the GSM data	[415]
Forward dating of invoices — analysis	[429]
Proposed dividend for FY2004 misleadingly presented	[445]
E Misstatements as to the nature and effect of the equity incentive plan	[466]
F Misstatement as to the book build process/content of the 24 May announcement	[495]
G An unwarranted positive tone was conveyed by the prospectus	[518]
“Feltex not a good investment”	[522]
“No adverse circumstances” assurance wrong	[530]
Assessing the prospectus overall	[534]
The due diligence defence	[540]
Were FNZC and ForBar promoters?	[558]
Was CSAMP an individual issuer, or a promoter?	[597]
A co-existent cause of action under the FTA?	[613]
Second cause of action under the FTA	[630]
FTA – claims brought out of time?	[635]
A duty of care in tort?	[671]
Principles relating to a claim in negligent misstatement	[671]
The plaintiff's claim	[679]
Quantification of loss	[699]
Costs	[713]

A glossary of terms is included as Appendix A at the end of the judgment.

1 This proceeding is brought on behalf of shareholders for losses claimed to arise from reliance on an allegedly misleading prospectus. A summary of my findings is set out, after an outline of the context and the claims, at [50] to [55] below.

Background

2 Feltex Carpets Limited (Feltex) was a long-established and widely recognised New Zealand manufacturer of carpets. In May 2000, it completed the acquisition of an Australian carpet manufacturing business from Shaw Industries Inc (Shaw) of the United States.

3 At that time, Feltex was owned by the third defendant, Credit Suisse First Boston Asian Merchant Partners LP (CSAMP). CSAMP is constituted as a limited partnership in the United States under the General Corporation Law of the State of Delaware. CSAMP's interest as owner of Feltex was managed by the second defendant, Credit Suisse Private Equity Inc (CSPE), a company duly incorporated in the United States under the laws of New York. CSAMP and CSPE were at pains to emphasise their different status, particularly as they treated only CSPE as a promoter for the purposes of the prospectus. They denied that CSAMP qualified as an individual issuer and consequently denied that it had any potential liability in that capacity. For the most part, it is unnecessary to distinguish between them in dealing with the narrative of events, and they can conveniently be referred to jointly as Credit Suisse. I will consider later in the judgment the competing claims as to the capacity in which CSAMP participated. 1

4 Credit Suisse resolved to sell Feltex. On 5 May 2004, Feltex issued a combined investment statement and prospectus to make an initial public offering (IPO) of all the 113,523,099 existing shares in Feltex. An additional component of the IPO was that Feltex would itself issue a further $50 million worth of shares (that would result in the issue of between approximately 25,600,000 and 29,400,000 new shares, depending on the final price).

5 The prospectus referred to an indicative range of share prices between $1.70 and $1.95. It advised that the share price would be decided upon after a book build process that was to be undertaken part way through the period in which the offer was open. The book build process is the subject of one of the criticisms of the prospectus and is addressed in more detail below. 2

6 Although the prospectus identified numerous risks to the achievement of forecast and projected outcomes, it generally portrayed an improving financial position for Feltex. At the price subsequently settled as a result of the book build of $1.70 per share, the prospectus predicted a price earnings ratio pre-goodwill amortisation of 9.8 times, and a gross dividend yield of 9.6 per cent per annum.

7 The plaintiff (Mr Houghton) subscribed for 11,765 shares in Feltex in the IPO. The offer closed on 2 June 2004, on which day the shares were allotted. The shares were listed on the New Zealand Stock Exchange (NZX) and trading in the shares commenced on 4 June 2004. Mr Houghton subsequently bought a further 5,000 shares on market.

8 On 24 August 2004, Feltex announced its result for the year ended 30 June 2004 (FY2004). The first defendants 3 (the directors) authorised a final dividend for FY2004 at six cents per share, in accordance with the indication that had been given in the prospectus. On 23 February 2005, the company announced its interim result for the six months to 31 December 2004, which was up 7.1 per cent on the result for the first six months of the previous financial year. The company declared an interim dividend of six cents per share, which was 15.4 per cent above the interim dividend projection in the prospectus.

9 On 1 April 2005, Feltex issued a profit downgrade warning, announcing the view of the directors that the company would not achieve the level of profitability projected in the prospectus. At the time of that announcement, the shares were trading at $1.50. They dropped to $0.88 in the following two days. The directors

made a second revised earnings announcement on 30 June 2005. That caused a prompt drop in the share price from $0.70 to $0.44, before recovering to $0.63. 4

10 On 22 September 2006, Feltex's bank appointed...