Yao Wei He v Zhixiong Chen

• Jurisdiction: New Zealand
• Judge: Venning J
• Judgment Date: 17 April 2014
• Neutral Citation: [2014] NZCA 153
• Docket Number: CA590/2013
• Court: Court of Appeal
• Date: 17 April 2014

Between

Yao Wei He

Appellant

and

Zhixiong Chen

First Respondent

Youngzhou Chen

Second Respondent

[2014] NZCA 153

Court:

Harrison, White and Venning JJ

CA590/2013

IN THE COURT OF APPEAL OF NEW ZEALAND

Appeal against an Associate Judge's refusal to allow the appellant to bring a derivative action under s165(2) Companies Act 1993 (CA) (Derivative actions) for breach of fiduciary duties — appellant and second respondent were de jure directors of company formed to pursue a joint venture (JV) exporting products to China and Hong Kong — JV had been proposed by first respondent who had funded the undertaking, required that the second respondent be appointed to the board and provided directions on actions to be taken — appellant claimed that first respondent was a de facto director and had breached his fiduciary duties to the company by competing with it — whether first respondent was a director of NZPIL under s126(1)(b) CA (meaning of director — person in accordance with whose directions a director or the board is accustomed to act etc) — whether a prudent business person would pursue the proposed claim having regard to the likelihood of success, the costs as against the likely benefit, and the interests of the company in the proceedings being commenced — whether the claim should more appropriately be advanced (if at all) by a liquidator.

Counsel:

G J Judd QC for Appellant

N R Campbell QC for First Respondent

P R Cogswell for Second Respondent

• A The appeal is dismissed.

• B The appellant is to pay the first and second respondents costs for a standard appeal on a Band A basis and usual disbursements.

JUDGMENT OF THE COURT

REASONS OF THE COURT

(Given by Venning J)

Introduction

1 Yao Wei He appeals against a judgment of Associate Judge Doogue declining to grant him leave to bring proceedings in the name of NZ Products International Limited (NZPIL) against Zhixiong Chen (Mr Chen Snr) and Youngzhou Chen (Mr Chen Jnr). 1

Background

2 NZPIL was incorporated on 18 June 2010. Mr He and Mr Chen Jnr are its de jure directors. Mr He and his wife hold 50 per cent of the shares in NZPIL. The balance 50 per cent of the shares are held by the Chen interests through a trustee company and Mr Chen Jnr and his wife.

3 Prior to the incorporation of NZPIL Mr He carried on a business which involved the purchase of New Zealand made dairy and health supplements in retail stores in New Zealand and the export of them for sale into Hong Kong and China through Mr He's contacts in those markets.

4 Mr He and Mr Chen Snr were known to each other. Mr He says that Mr Chen Snr suggested that they establish a commercial joint venture (CJV) to exploit the opportunity identified by Mr He. Mr Chen Snr proposed that he provide finance to increase the scale of the operation. Mr He says that Mr Chen Snr suggested that his son, Mr Chen Jnr, be a director and the Chen interests would hold 50 per cent of the shares in the joint venture company. Mr He agreed. NZPIL was incorporated to give effect to that agreement.

5 Mr He says that Mr Chen Snr then advanced sums totalling $300,000 to him for the purposes of the CJV. Mr Chen Snr does not agree. He says that the $300,000 advanced to Mr He was a personal loan, which Mr He is liable for.

6 Mr He says Mr Chen Snr also convinced him to take a minority shareholding in another company, Hong Kong Dairy International Limited (HKDIL), on the basis that company would be used to expand the business to include sales of New Zealand seafood and wine through Mr Chen's Snr's contacts in Hong Kong. HKDIL was incorporated in Hong Kong. Mr He says that from February 2011 onwards, Mr Chen Snr required all NZPIL's exports to be sold to HKDIL for distribution.

7 Mr He alleges that Mr Chen Snr has breached the terms of the CJV in a number of ways. Of particular relevance for present purposes is Mr He's allegation that, while he was in Hong Kong between 19 December 2011 and 26 February 2012, he discovered that Mr Chen Snr had been operating a business in competition to NZPIL. Mr He says that, unknown to him, Mr Chen Snr had been operating the same business as NZPIL and HKDIL and storing the product at two of HKDIL's three warehouses in Hong Kong.

8 Further, when Mr He accessed NZPIL's bank accounts on 6 February 2012 the accounts disclosed that the Chens had transferred almost all of NZPIL's receipts to themselves, including a GST refund of in excess of $370,000 on 13 January 2012. Mr He says on learning that he transferred $80,000 out of an account of NZPIL's to his own personal account.

9 Mr He also says that Mr Chen Snr incorporated a further Hong Kong company, New Zealand Milk Powder Limited (NZMPL) at about this time (in January 2012). He also refers to a further company incorporated by Mr Chen Snr in New Zealand, Dairy New Zealand International Ltd, although no specific allegations are made concerning that entity.

10 Unsurprisingly, the relationship between the parties has broken down entirely. Mr Chen Snr issued proceedings on 14 September 2012 against Mr He for the recovery of the $300,000. Mr He threatened to take proceedings against Mr Chen Snr in October 2012, but ultimately brought the application for leave to bring a derivative action in the name of NZPIL against both Mr Chen Snr and Mr Chen Jnr.

11 NZPIL is no longer trading. Mr Chen Jnr has applied for it to be placed in liquidation. Mr He opposes its liquidation.

Associate Judge Doogue's judgment

12 Associate Judge Doogue recited the background to the proposed derivative claim from the draft pleading as supplemented by reference to the affidavits filed. He then considered the principles that apply to an application for leave under s 165(2) of the Companies Act 1993 (the Act) and the High Court decisions of Needham v EBT Worldwide Ltd and Vrij v Boyle 2 and adopted the following proposition from those cases: 3

The appropriate test is that which would be exercised by a prudent business person in the conduct of his or her own affairs when deciding whether to bring a claim. Such a decision requires one to consider such matters as the amount at stake, the apparent strength of the claim, likely costs and the prospect of executing any judgment.

13 Associate Judge Doogue estimated that NZPIL's chances of success in an action against Mr Chen Snr for breach of fiduciary obligation are not great. 4

14 He concluded that the application for leave ought to be declined on the grounds that a prudent company director would not embark upon the proposed litigation. Assuming it was proved Mr Chen Snr had set up a parallel company structure to carry on a similar business to that which NZPIL was involved in, he was doubtful whether that amounted to a breach of obligations owed as a director to NZPIL. In the Judge's view it was not clear that any information Mr Chen Snr had taken advantage of contained any confidential character.

15 Further, NZPIL was no longer trading. Having regard to the situation that existed between the directors, Associate Judge Doogue considered NZPIL would be a suitable candidate for liquidation. He was firmly of the view that appointment of a liquidator would represent the best approach to resolving the issues between the parties so far as NZPIL was concerned including whether NZPIL ought to pursue Mr Chen Snr for the alleged breaches of his duties as a director.

The appeal

16 Mr He appeals principally on the ground that the Associate Judge was wrong to conclude NZPIL did not have a good claim against Mr Chen Snr for breach of the fiduciary duty he owed the company as a de facto director. Mr He argues that Mr Chen Snr breached the fiduciary duty he owed NZPIL by diverting corporate opportunities from NZPIL to himself or to entities associated with him.

17 In addition to supporting the Associate Judge's reasoning, the respondents seek to support the judgment under appeal on the following additional grounds:

• (a) Mr Chen Snr was not a director of NZPIL;

• (b) the relief sought in the proposed derivative action is either:

  • (i) relief that the appellant seeks personally;

  • (ii) based on the CJV between the appellant and Mr Chen Snr to which the company was not a party; or

  • (iii) relief that has no legal basis or which this Court has no jurisdiction to grant; and

• (c) the claims in the proposed derivative action would be more appropriately dealt with by a liquidator of the company; and

• (d) it would not be appropriate for the appellant to control the derivative action on behalf of the company.

18 The point identified at (a) raises a preliminary issue. The points at (b) are relevant to the issue of the strength of the proposed claim, while the issues at (c) and(d) are relevant to the exercise of the Court's discretion under s 165.

Decision

Threshold requirement

19 The respondents raise a preliminary issue as to whether Mr Chen Snr was a director of NZPIL. However, there is another preliminary point. Section 165(3) of the Act provides that leave may only be granted if the Court is satisfied that:

• (a) the company or related company does not intend to bring, diligently continue or defend, or discontinue the proceedings, as the case may be; or

• (b) it is in the interests of the company or related company that the conduct of the proceedings should not be left to the directors or to the determination of the shareholders as a whole.

20 Although the Associate Judge referred to s 165(3) he did not expressly discuss it. That subsection provides a threshold requirement which must be met before the court's discretion to give leave to bring a derivative action may be exercised. Section 165(5)(b) aids the assessment by requiring a company to inform the court whether it intends to bring proceedings. 5 Even without this information, as in the present case, a court might nonetheless be satisfied the company does not intend to bring proceedings. The court may be so...