Issue 8
199 We repeat that this issue is: "Was the exercise of options for McLean Tecnic P/L invalid because:
(a) at the time of exercise in relation to one partnership, it had an existing liability in relation to the other; and
(b) it was indebted to DTSPL?"
200 Einstein J answered both questions in the affirmative.
201 The facts that give rise to this issue are the following. McLean Tecnic was an Investor in both the Terminal Adapter and Freerider Partnerships. A I McLean was the sole shareholder of McLean Tecnic. A I McLean had entered into an Option Agreement in regard to the Terminal Adapter Partnership and had entered into another, and separate, Option Agreement in regard to the Freerider Partnership.
202 Clause 2.2 of the McLean Option Agreements provided that the options thereunder might be exercised by A I McLean at any time during the option periods "provided that there is no outstanding breach of the warranties and undertakings in cl 4 of this Agreement".
203 Clause 4.1 of the two McLean Option Agreements provided:
"The Investor warrants and undertakes to each of DTAL and DTCL that:
(a) the Company has been incorporated for the sole purpose of making an investment in the Investor Partnership and DTSPL and the Company will not prior to the expiry of the Investor Option Period undertake any activity not expressly provided for or contemplated by the Investor Partnership Agreement;
(b) on the date on which the Investor Option is exercised, the Company will have no indebtedness to any person other than the Company Debt;
…
204 On 20 September 1999, A I McLean sought to exercise its Freerider Option Agreement. It required DTEL to subscribe for NZ$3,776,415 worth of shares in McLean Tecnic. At that date, however, McLean Tecnic was indebted to DTAL for NZ$19,993,367 and A$197,352.27 in relation to the Terminal Adapter Sale Agreement.
205 Einstein J accepted Digi-Tech's submission that because, as at 20 September 1999, McLean Tecnic was so indebted to DTAL, the exercise by A I McLean of the Freerider Option Agreement was invalid. The basis of this submission was that, by reason of McLean Tecnic's indebtedness to DTAL in relation to the Terminal Adapter Sale Agreement, the warranty that McLean Tecnic would have no indebtedness other than the Company Debt (cl 4.1(b)) was breached.
206 On 28 September 1999, A I McLean sought to exercise the Terminal Adapter Option Agreement. But, at that time, because of the failure of the exercise of the Freerider Option Agreement, McLean Tecnic was still indebted to DTAL for NZ$3,776,415.30. Accordingly, Einstein J held that A I McLean's exercise of the Terminal Adapter Option Agreement was also invalid as being in breach of cl 4.1(b).
207 Mr Sullivan QC, who together with Mr Stowe, appeared for the McLean appellants, submitted that the judge's construction of the warranty in cl 4.1(b) as to the Company (McLean Tecnic) having no indebtedness to any person other than the "Company Debt", produced an absurdity, and cl 4.1 should be construed so as to avoid that result.
208 Mr Sullivan drew attention to the following definitions. "Company Debt" was defined by the Option Agreements to mean "the proportion of the purchase price payable to DTAL pursuant to the Sale Agreement for which the Company is severally liable less all amounts paid by or on behalf of the Company to DTAL by way of instalment and the instalment debt". "Investor Partnership" was defined in each case as being the Terminal Adapter Partnership and the Freerider Partnership respectively, as was "Investor Partnership Agreement".
209 These definitions indicate that "Investor Partnership" and "Investor Partnership Agreement" are separate concepts for the purposes of the Terminal Adapter and the Freerider Option Agreements. In other words, under the Terminal Adapter Option Agreement, the Investor Partnership was the Terminal Adapter Partnership and Investor Partnership Agreement meant the Terminal Adapter Partnership Agreement. Likewise, under the Freerider Option Agreement, these terms had a similar meaning with "Freerider" being substituted for "Terminal Adapter".
210 A I McLean entered into the two Option Agreements on 4 May 1998. On that date (and thereafter) McLean Tecnic was not incorporated for the sole purpose of making an investment in either the Freerider or the Terminal Adapter Investor Partnership (as required by cl 4.1(a) of the Options Agreements); that is because it had made an investments in both. Thus, on a literal view of cl 4.1(a), there had been a breach of that clause from the very moment the Option Agreements were entered into.
211 Mr Sullivan pointed out further that McLean Tecnic, with the knowledge and concurrence of Digi-Tech, undertook an activity not expressly provided for or contemplated by the Freerider Investor Partnership Agreement, as it undertook the role of a partner in the Terminal Adapter Investor Partnership (and vice versa).
212 He submitted, therefore, that on the construction upheld by the judge, there would have automatically been a breach of the warranty and undertaking in cl 4.1(a) - thus invalidating the exercise of the options under cl 2.2. This invalidation would have been inevitable. On that basis A I McLean never had the benefit of an option that was capable of being exercised. Therein, it was submitted, lay the absurdity.
213 Both Digi-Tech and the McLean appellants accepted that in construing the Option Agreements, due regard had to be paid to the circumstances in which the documents came into being. According to Einstein J:
"[T]he events on the evening of 30 June and in the early hours up to about 4.00 am of 1 July were in fact what can only be described as a madhouse of frantic efforts by all who participated to consummate the split transactions being documented literally on the spot under the most considerable time pressure imaginable". (emphasis in the original judgment)
214 Mr Sheahan submitted that regard also had to be had to the fact that the Agreements were structured so that each partnership shared in the income generated by the products of both partnerships. Accordingly, he submitted, each Investor Partnership Agreement should be construed as expressly contemplating that partners might also be partners in the other Partnership that was associated with the scheme.
215 Mr Sheahan submitted that on that basis there would not be a breach of cl 4.1(a) and no absurdity would result. He pointed out that cl 2.2 contemplated that there might be a breach of the warranties and undertakings in cl 4 but, provided the breach was remedied before the option was exercised, the option could be exercised validly.
216 Mr Sheahan submitted that McLean Tecnic could have assigned its rights and duties to two separate but related companies, each wholly owned by A I McLean. Each would then have acquired an interest in only one of the Partnerships, thus satisfying cl 4.1(a). He pointed out that Mr Kelliher was also a partner of both Partnerships and he had exercised his two Option Agreements validly by, prior to the exercise thereof, assigning his two sets of interests to two different companies. Had McLean Tecnic done the same, there would have been no breach of warranty by it.
217 On this basis, Mr Sheahan submitted, A I McLean could have had the benefit of the Option Agreements without words being supplied, omitted or corrected in cl 4.1(a).
218 Mr Sullivan submitted, in reply, that the expression "indebtedness" in cl 4.1(b) of the Terminal Adapter Option Agreement should be construed as "indebtedness other than indebtedness that would satisfy the definition of Company Debt in respect of the Freerider Option Agreement" and, in relation to the McLean Freerider Option Agreement, as "indebtedness other than indebtedness that would satisfy the definition of Company Debt in respect of the Terminal Adapter Agreement."
219 Mr Sullivan accepted that the fairness of the construction for which he contended would be contingent upon construing the Option Agreements so as to make it a condition precedent to the exercise of the option in respect of one Partnership, that McLean Tecnic had paid the option fees (and was not in default in relation to the Instalment Debt) due in respect of the other. As he candidly pointed out, were that not so, it might be open to McLean Tecnic to exercise the option in respect of one Partnership, when there existed default in respect of the payment of the Instalment Debt and non-payment of option fees in respect of the other Partnership. This would have the consequence of requiring DTEL to subscribe in a company which was liable for the balloon payment in respect of the Partnership for which the option was not exercised (where, also, the option fees might be owing and where there might be outstanding amounts in relation to the Instalment Debt).
220 Mr Sullivan submitted that such a result (that is, the construction of such a a condition precedent to the exercise of the option) could be obtained by adding words to two parts of the Option Agreement. Firstly, cl 2.2, he submitted, should read:
"Subject to the payment of instalments of the Option Fee ( and other partnership debts ) from time to time as set out in the Schedule …"