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[2007] VSC 556
Supreme Court of Victoria
2007-12-21
DODDS-STREETON J
Original judgment source is linked above.
CORPORATIONS - Whether board's transfer of plaintiffs' income shares to member prior to establishment of agency under pre-emption article a breach of statutory contract - Whether loss and damage - Whether oppression - Whether transfer ratified - Company's auditor appointed to determine fair selling value of shares - Whether auditor's valuation in accordance with terms of the contract - Whether auditor independent and impartial - Failure of price fixing mechanism - Referral to independent valuer.
CORPORATIONS - (Cth), -(d) - Oppression - Whether reversal of decision to distribute dividends constitutes oppression - Whether related to circumstances in which plaintiffs ceased to be members.
1 In this proceeding, the plaintiffs, Mrs Dianne Beevers and her daughter, Ms Chloe Beevers, complain that in 2005, their income shares in the first defendant, Port Phillip Sea Pilots Pty Ltd, ('Pilot Co'), which for some years had consistently produced dividends of approximately $250,000 annually, were transferred to another shareholder in Pilot Co, the second defendant, Nominee Co, for only $44,508. The plaintiffs' principal complaint is that their income shares, which they estimate to be worth well over $1 million, were transferred to Nominee Co without their consent at a gross undervalue, in a breach of contract which also amounted to oppression. As a subsidiary complaint, the plaintiffs also allege that the board's reversal in December 2004 of its earlier decision to pay a $15,000 dividend to income shareholders, and its decision to pay $30,000 in extra salary to pilots instead, amounted to oppression pursuant to s 232 of the Corporations Act 2001. Nominee Co, by counterclaim, alleges that, due to mistake, the amount paid for the plaintiffs' income shares exceeded their true value. It seeks to recover the overpayment.
2 The members of Pilot Co are either licensed sea pilots employed by Pilot Co or members of their families. The structure and terms of shareholding in Pilot Co are unusual and reflect its emergence from a pre-existing, de facto partnership. Pilot Co has on issue 32 voting shares and 32 associated parcels of 10,520 income shares. The articles of Pilot Co provide that only a "Port Phillip Sea Pilot" (defined to mean a currently licensed pilot under the regulations of the Marine Act 1988, who is currently employed by Pilot Co in the capacity of a pilot) can hold a voting share in Pilot Co. The articles further provide that only a Port Phillip Sea Pilot or a family member of a Port Phillip Sea Pilot (defined to include a company controlled by a Port Phillip Sea Pilot) can hold an income share in Pilot Co.
3 The articles of Pilot Co also contain pre-emption provisions which prescribe, inter alia, a process for the transfer of the income shares of a retiring pilot or, (where applicable), his family, to another member of the company, or a person selected by the board of Pilot Co, when eligibility to hold the income shares ceases upon the termination of the pilot's employment. Article 13(c) provides that the income shareholder shall give written notice of intention to transfer the income shares in accordance with article 3 within a 14 day period (or such longer period as the board allows). Pursuant to article 3(b), the notice constitutes the board the shareholder's agent for sale to members of Pilot Co at a price agreed on by the shareholder and the board, or, failing such agreement, at a price certified by the company's auditor to be, in his opinion, the fair selling value as between a willing vendor and a willing purchaser. If at the expiration of the 14 day (or extended) period, the income shareholder has not given notice, it is deemed to be given.
4 Captain Beevers (who is the husband of Dianne Beevers and the father of Chloe Beevers) was a licensed sea pilot employed by Pilot Co from its incorporation in 1989 until his retirement due to ill-health on 7 February 2005. On his retirement, Captain Beevers held a voting share in Pilot Co, but had long since transferred his 10,520 income shares to his wife and daughter, who had each acquired them for valuable consideration in a number of tranches over a period of time. As at 7 February 2005, Dianne Beevers held 4,978 income shares and Chloe Beevers held 5,542 income shares.
5 Following Captain Beevers' resignation due to ill health on 7 February 2005, both his voting share and the plaintiffs' income shares were transferred to Nominee Co on about 9 February 2005. The 14 day period in which the plaintiffs were required to give notice under article 13(c) (which would constitute the board of Pilot Co their agent for sale under article 3(b)) had not yet expired. The plaintiffs had not agreed with the board on a price for their income shares and the company's auditor had not provided a certificate giving his opinion of the fair selling value. On about 9 February 2005, Pilot Co's accountant, Mr Calleja[1], paid the sums of $21,107 and $23,411 (totalling $44,518) into the joint bank account of Dianne Beevers and Chloe Beevers as consideration for their income shares. The plaintiffs, by a letter to Pilot Co dated 14 February 2005, protested at the failure to consult them, accepted the amounts as a part payment only and gave notice requesting that their income shares be valued in accordance with the articles.
6 It is not disputed that the plaintiffs did not agree on a price for the income shares with the board of Pilot Co on 9 February 2005, or at any time thereafter. Correspondence ensued between members of the Beevers family and Captain Buck, the managing director of Pilot Co, (in which the plaintiffs continued to protest at Pilot Co's actions and to insist on a valuation of their income shares in accordance with the articles). On about 20 March 2005, Captain Buck contacted Mr Ryan, Pilot Co's auditor, and requested him to produce a valuation of the plaintiffs' income shares.
7 On 29 March 2005, Mr Ryan produced a 'valuation letter', which did not constitute a valuation under article 3(b). Captain Buck therefore requested Mr Ryan to produce a complying certificate. In the course of preparing the certificate, Mr Ryan had numerous exchanges and communications with officers of Pilot Co, including Captain Buck, Captain Griffiths and the company's accountant, Mr Calleja. He obtained a large number of financial documents from Mr Calleja, and, on a number of occasions, documents passed between Mr Ryan and Mr Calleja, after each had added alterations, input or amendments. Mr Ryan also communicated with Gadens, the solicitors for Pilot Co, Plant Co and Nominee Co. The plaintiffs, through their solicitors, Williams Winter, sought to provide submissions to Mr Ryan in relation to the valuation of their income shares, which Mr Ryan declined to receive.
8 Mr Ryan, by a valuation report dated 2 June 2005, certified that, in his opinion, the fair selling value of the plaintiffs' income shares as between a willing vendor and a willing purchaser was $6,809. The valuation report attached a schedule of assets and liabilities. Although the valuation report did not state what methodology had been employed, it is now established that Mr Ryan's valuation was based on a net tangible assets methodology, whereby he calculated the value of Pilot Co's net tangible assets, assigned a nil value to its intangible assets and divided the amount by 32, being the number of parcels of income shares on issue.
9 On 8 June 2005, the board of Pilot Co purported to retransfer the plaintiffs' income shares to Nominee Co, apparently in recognition that the earlier transfer on 9 February 2005 did not comply with the requirements of the articles, and was therefore ineffective.
10 The plaintiffs allege that the transfer of the income shares to Nominee Co was in breach of a contract constituted by the articles of Pilot Co, including article 3(b). They contend that the contract was breached on 7 February 2005 by the unauthorised transfer or appropriation of their income shares for less than the stipulated fair selling value. They allege that the associated conduct amounted to oppression and breach of fiduciary duty owed as an agent by the board.
11 They allege that their loss arose on 7 February 2005 by a breach of contract, and claim damages, being the fair selling value of the shares as at that date. The plaintiffs' submit that Mr Ryan's certificate dated 2 June 2005 was not relevant because the breach of contract and the loss occurred on 7 February 2005. Alternatively, they argue that the valuation did not comply with article 3(b). They contend that the auditor's opinion was not in good faith or independent, and that he simply adopted the board's views. They allege that the certificate was prepared in collusion with Mr Calleja, and that Mr Ryan denied them procedural fairness by refusing to accept their submissions. Further, they argue that the valuation did not answer the questions article 3(b) required to be answered.
12 The plaintiffs contend that the income shares should be valued by the future maintainable earnings method, which would produce a value in the range of $1 - 1.4 million.
13 The defendants concede that the plaintiffs' income shares were transferred on 9 February 2005 prior to the agency of the board arising under article 3(b), but contend that, (in accordance with the plaintiffs' pleading), the plaintiffs subsequently ratified the transfer by their letter to the board dated 14 February 2005. The transfer of the plaintiffs' income shares to Nominee Co was thus effected by a contract which incorporated the price fixing mechanism set out in article 3(b). The defendants contend that the auditor's valuation report dated 2 June 2005 conformed to the terms of the price fixing mechanism in article 3(b) and produced a fair selling value of the income shares, which is binding on the plaintiffs.
14 Although the defendants concede that the plaintiffs did not receive the notices of meetings to which they were entitled or any direct communications from Pilot Co in relation to the transfer of their income shares on 9 February 2005, they contend that, following the plaintiffs' ratification of the transfer, their entitlement under article 3(b) was satisfied by the valuation report dated 2 June 2005. They contend that while the methodology of net tangible asset value adopted by the auditor was a discretionary matter not subject to curial review, it was, in any event, reasonable. The defendants deny that the transfer of the plaintiffs' income shares or the reversal of the board's decision to pay a dividend in December 2004 amounted to oppression.
15 The constitution of Pilot Co relevantly provides:
(b) Every member or other person who intends to transfer shares (hereinafter called "the vendor") shall give notice in writing to the Board of his intention. That notice shall constitute the board his agent for the sale of the said shares in one or more lots, at the discretion of the Board, to members of the Company at a price to be agreed upon by the vendor and the board, or, in case of difference, at the price which the Auditor of the Company for the time being shall certify, by writing under his hand, to be in his opinion the fair selling value thereof as between a willing vendor and a willing purchaser.
(c) The Board may allocate some or all of the said shares to a person in its absolute discretion without assigning any reason therefore or may follow the procedure outlined in the following paragraphs of this Article.
(d) Upon the price being fixed as aforesaid, the Board may forthwith give notice to all the members of the Company holding voting shares of the numbers and price of the shares to be sold and invite each of them to state in writing within 21 days from the date of the said notice whether he is willing to purchase any, and, if so, what maximum number of the said shares.
(e) At the expiration of the said 21 days the Board may allocate the said shares to or amongst the members or member who shall have expressed their or his willingness to purchase as aforesaid, and (if more than one) so far as may be pro rata, according to the number of shares already held by them respectively, provided that no member shall be obliged to take more than the said maximum number of shares so notified by him as aforesaid. Upon such allocation being made the vendor shall be bound on payment of the said price to transfer the shares to the purchase or purchasers. If he makes default in so doing, the President for the time being of the Company, or failing him a Vice President shall forthwith be deemed to be the duly appointed attorney of the vendor with full power to execute, complete, and deliver in the name and on behalf of the vendor a transfer of shares to the purchasing member, and the Board may receive and give a good discharge for the purchase money on behalf of the vendor and enter the name of the purchaser in the register as holder by transfer of the said shares purchased by him.
(f) In the event of the whole of the said shares not being sold under article 3(e), the vendor may at any time after the expiration of the said 21 days, transfer the shares not so sold to any person and at any price.
(g) Articles 3(a) (b) (c) (d) (e) and (f) hereof shall not apply to a person who is already, or who is pursuant to Articles 12 or 13 hereof eligible to be, a member of the Company, nor to a transfer merely for the purpose of effectuating the appointment of new trustees, nor to a transfer by personal representatives to a legatee under the will of, or to the persons beneficially entitled thereto upon the distributors of the estate of a deceased member, nor to a transfer by a trustee to a beneficiary, provided that it is proved to the satisfaction of the Board that the transfer bona fide falls within one of these exceptions.
(h) The number of members for the time being of the Company (exclusive of persons who are in the employ of the Company and or persons who having been formerly in the employ of the Company were whilst in that employment and have continued after the determination of that employment to be members of the Company) shall not exceed fifty but where two or more persons hold one or more shares in the Company jointly they shall for the purpose of this paragraph be treated as a single member.
(i) Any invitation to the public to subscribe for, and any offer to the public to accept subscriptions for any shares in or debentures of the Company; and any invitation to the public to deposit money with, and any offer to the public to accept deposits of money with the Company for fixed periods or payable at call, whether bearing or not bearing interest is prohibited.
(a) To receive notice of, attend and vote at all meetings of the Company and on a poll to have one vote per share held.
(b) On winding up, to rank pari passu with each other and priority to all other shares in the Company for payment of the capital paid up thereon and the amount of any arrears of dividend.
(c) On a winding up, to rank pari passu with each other and in priority to all other shares in the Company in participating in surplus assets of the Company.
(a) To receive in common with other holders of ordinary shares all dividends bonuses and other profits declared by the Company.
(b) To receive notice of and attend all meetings of the Company but not to vote thereat.
option of the Company be liable to be redeemed at par by payment of the aggregate of the capital and any premium paid up thereon and the amount of any arrears of dividend payable at any time by notice in writing to the holder.
(c) No person may transfer his voting share except with the consent in writing of the Board which consent may be withheld in the absolute discretion of the Board and without the Board assigning any reason therefore.
(d) No person may hold a voting share unless he is the holder of a current Port Phillip Sea Pilots' licence and is currently employed by the Company as a Port Phillip Sea Pilot (such a person is hereinafter referred to as a "Pilot").
(b) No person may hold an income share other than a Pilot or members of his family (which expression shall include the wife, husband, father, mother, brother, sister, children and other lineal ancestors and descendants of a Pilot, adopted children, nieces and nephews and also a company in which a Pilot holds 50% or more of the voting shares).
(c) When the holder of an income share ceases to meet the requirements of Article 13(b) hereof he shall within 14 days or such further time as may be allowed by the Board give notice in writing to the Board of his intention to transfer the shares in accordance with Article 3 hereof or, if he shall fail to give such notice within the stipulated time, such notice shall be deemed to have been given and the provisions of Article 3 hereof shall have effect as if such notice had been given within the stipulated time.
16 Captain Beevers, Ms Dianne Beevers, Ms Chloe Beevers and Mr Ferrier swore affidavits on behalf of the plaintiffs.
17 Captain Griffiths, Captain Buck, Mr Calleja, Mr Ryan and Mr Reid swore affidavits on behalf of the defendants.
18 The plaintiffs' lay witnesses were not cross-examined. The plaintiffs' expert witness, Mr Ferrier, and the defendants' expert witness, Mr Reid, gave their evidence professionally and credibly. Counsel for the plaintiffs contended that Captain Griffiths was a belligerent witness who lacked candour and was not concerned 'to tell the truth'. While Captain Griffiths was frequently defensive and tended to minimise the nature of his exchange with Mr Ryan, I did not consider him to be an untruthful witness. Captain Buck and Mr Calleja were, in my view, credible witnesses.
19 Mr Ryan was an unsatisfactory witness in some respects. He was defensive and, at points, unconvincing. He had a tendency to be argumentative and appeared reluctant to make concessions or to acknowledge adverse points. While Mr Ryan did not present as an entirely candid witness, I did not consider that he was dishonest or intended to mislead the court.
20 Pilot Co is currently a registered pilotage service provider under the Marine Act. It conducts a sea piloting service for shipping in Port Phillip Bay and Westernport Bay. Pilotage is compulsory for all vessels in those waters. A pilot's essential function is to guide vessels in and out of the port with advice on navigation and related matters. Pilot Co employs licensed sea pilots to perform that task.
21 Pilot Co had its origins in a longstanding, large government-controlled, de facto partnership which, for about 150 years, had a monopoly for pilotage services in Port Phillip and Westernport Bays pursuant to the applicable legislation. In 1987, Price Waterhouse prepared a report which recommended incorporating the pilotage enterprise, using a bifurcated, twin company structure, whereby one company (Pilot Co) would employ the sea pilots and bill the client shipping lines, while the other company (Plant Co) would employ the non-pilot staff and would own most of the plant and real estate.
22 Captain Griffiths, the current chairman of the board of Pilot Co, deposed that:
[I]n December 1988 the Marine Act 1988 came into operation (repealing the Marine Act 1958). Under the Marine Act 1988 provision was made to allow the provision of pilotage services to be provided through a company. The Marine Act 1988 provided for the Marine Board to enter into an agreement (by competitive tender) for the provision of pilotage services for the ports of Port Phillip, Melbourne, Geelong and Westernport.
On about 30 June 1989 the Marine Board entered into an agreement with Pilot Co for the exclusive provision of pilotage services in Port Phillip and Westernport for a period of 10 years. This was after a tender process in which two tenders were submitted and considered by the Marine Board. Pilot Co was set up by and owned by the then existing members of the Service, including myself and Capt Beevers. Each pilot then also became an employee pilot of Pilot Co and an equal shareholder in Pilot Co (each pilot holding one voting share and 10,520 income shares.
Plant Co was also set up at that time for the purpose of owning the assets (such as the vessels, gear, equipment and other property) that the existing Port Phillip Sea Pilots then owned. These assets, collectively and equally owned by the individual member pilots of the Service, were transferred to Plant Co which issued to each pilot one voting share, 1000 income shares and convertible notes to the value of $51,000.
Therefore, on 1 July 1989 the Service as constituted by the individual Port Phillip Sea Pilots, as it had existed for the previous 150 years or thereabouts, ceased to exist.
23 Captain Griffiths was a prime mover in the decision to move the pilotage enterprise from a de facto partnership into a corporate form, which was opposed by some pilots. The decision-making process extended over about 5 years. The enterprise's longstanding solicitors, Smith & Emmerton (now Gadens), who were familiar with its operations and requirements, drew identical articles of association for the two companies, Pilot Co and Plant Co.
24 Immediately prior to incorporation of Pilot Co in 1989, there were 35 pilots in the de facto partnership. As Captain Griffiths deposed, when the unincorporated association was dissolved on 1 July 1989, some of its assets were transferred to Pilot Co and some were transferred to Plant Co. The former 'partners' each acquired shares in both Pilot Co and Plant Co. This represented an equal division of all issued voting and income shares between the members of the pre-existing partnership. Pilot Co was granted an exclusive licence to conduct pilotage in the relevant bays for 10 years.
25 In 1999, the pilot service was deregulated and, from that date, any qualified person has been entitled to perform pilotage services. In practice, however, only Pilot Co currently offers those services. The plaintiffs contend that it retains a monopoly in practice, because the barriers to entry are high.
26 Captain Griffiths testified that the pilots deliberately decided at the outset to divide the shares of both Pilot Co and Plant Co into voting and income shares and adopted a strategy of paying dividends. In Captain Griffiths' terms, the dividends constituted 'a different method of paying ourselves' (although, in some cases, the dividends were received by a family member). The structure permitted income splitting and consequent taxation advantages. Irrespective of their legal character, dividends on income shares were treated as being, in some respects, remuneration of the associated pilot.
27 From their inception, Plant Co and Pilot Co have always had a common board of directors and the same voting shareholders, being the member pilots. The income shareholders of Pilot Co and Plant Co can and do differ, although the criteria for eligibility is the same. Plant Co, as was initially envisaged, has employed the non-voting pilots and all other staff, and has owned most plant and real estate. Pilot Co has employed the voting pilots and billed the client shipping lines.
28 Plant Co currently owns several launches and a fleet of cars to transport the pilots to and from Melbourne, Geelong and Westernport. The control centre for Pilot Co is located at the Queenscliff Pilot Station and is equipped with radars, radios and crew accommodation. The Queenscliff Pilot Station, which is leased from the Victorian State Government, is manned by pilots under a roster system.
29 Plant Co makes its property, plant and equipment available to Pilot Co in return for a fee sufficient to enable Plant Co to meet its expenses. Plant Co is run to break even. It does not make profit and, consequently, cannot and does not pay dividends. The arrangement whereby Plant Co makes its services and assets available to Pilot Co for cost is not, and never been, the subject of a formal agreement. According to Captain Griffiths there was nothing to prevent Plant Co from demanding higher fees or commercial rates from Pilot Co, withholding its services from Pilot Co, or making them available to Pilot Co's competitors. He conceded, however, that it was not 'realistic' to suggest that Plant Co would charge Pilot Co commercial rates.
30 Therefore, as was originally envisaged, Pilot Co has only minimal assets, but makes almost all the income and the profit of the pilotage enterprise. Plant Co, in contrast, has 'all the assets in round terms', but makes no profit.
31 As at 7 February 2005, Pilot Co had on issue 32 voting shares and 32 parcels of income shares each comprising 10,520 income shares. Of the 32 parcels of income shares on issue, as at 7 February 2005, 26 parcels were owned by pilots or their family members and six parcels of income shares were held by Nominee Co. The identity of the holder of the six voting shares corresponding to the parcels of income shares held by Nominee Co is not clear.
32 Article 12(b) prescribes that no person may hold more than one voting share. Although the articles do not prescribe that the income shares associated with pilots must be equal, Captain Griffiths deposed that in practice, all pilot shareholdings in Pilot Co or Plant Co had always been equal and no pilot had been permitted to hold more than one voting share and one parcel of income shares in either company, other than for the exceptional case of a certain Captain Coy, who, in 2006, was permitted to reduce his work contribution to a half-load on the basis that he sold half of his income shares in Pilot Co and Plant Co.
33 Captain Griffiths deposed that Pilot Co's affairs were conducted on the basis that all pilots would contribute equal work and receive an equal financial reward. If a pilot failed to make an equal work contribution for any reason, it was the practice to make it up by the 'Time Off book'. According to Captain Griffiths, the use of the Time Off book was an entrenched procedure for working pilots who took leave of absence, but wished to continue to be paid as a full working pilot. Captain Griffiths deposed that unless a pilot agreed to use the Time Off book, no dividends would be paid during his absence, in order to avoid giving that pilot's family a financial benefit over those of the other working pilots. Captain Griffiths also deposed to Pilot Co's sick leave policy, under which dividends were taken into account in adjusting a pilot's sick leave entitlements in the event of an over payment.
34 Captain Griffiths deposed that, prior to November 2005, Pilot Co had no arrangements restraining its employee pilots from competitive activities after they left Pilot Co's employment. At the time of Captain Beevers' retirement, all pilots were entitled to resign from Pilot Co and establish a competing pilotage service. He testified that Pilot Co had, however, since entered into written employment agreements with the pilots who commenced employment after about November 2005. The workforce of Pilot Co was stable. The pilots' average age was the mid-50s. Most departures were due to retirement.
35 The usual (but not invariable) practice when a pilot ceased his employment with Pilot Co, whether due to retirement, resignation or death, was that the associated income shares were purchased by Nominee Co, a company established to hold or 'warehouse' the income shares of outgoing pilots until they could be acquired by an incoming pilot. Nominee Co has two issued shares, both of which are held by a director of Pilot Co, who is a sea pilot. As at 7 February 2005, its directors were Captain Griffiths and Captain Carroll. Because all its shares are held by sea pilots, Nominee Co is eligible pursuant to article 13 to hold income shares in Pilot Co. It has two directors, who are both directors of Pilot Co. Nominee Co typically purchases the shares of 'outgoing' pilots by means of a loan from Pilot Co. Similarly, new pilots who acquire income shares from Nominee Co typically receive a loan from Pilot Co. Nominee Co frequently holds several parcels of income shares at any given time. In a few instances, a pilot who was already an employee of Pilot Co, but who had not yet become a shareholder, has purchased an outgoing pilot's income shares, rather than Nominee Co.
36 The evidence did not establish how an outgoing pilot's voting share was treated and, in particular, it was unclear whether it was held by Nominee Co, or whether it was cancelled and subsequently reissued when required for a new shareholder pilot.
37 Captain Griffiths deposed to the practice when a pilot resigned or retired as follows:
Purchase of shares from outgoing Port Phillip Sea Pilots
When I became Managing Director, I had knowledge of the practice adopted by Pilot Co and Plant Co in dealing with the purchase of shares from an outgoing Port Phillip Sea Pilot. In particular:
(a) When a Port Phillip Sea Pilot ceases employment with Pilot Co, the Port Phillip Sea Pilot (or his family member or private company) is required to relinquish the shares in Pilot Co and Plant Co. These shares are normally transferred to and held in Nominee Co until an incoming Port Phillip Sea Pilot is invited to and purchases them.
(b) In relation to the price paid for the shares of the outgoing Port Phillip Sea Pilot, the Board of Pilot Co would at regular intervals determine and announce to the Port Phillip Sea Pilot shareholders the price at which the parcel of shares in Pilot Co and Plant Co were to be sold. This is based primarily on the net asset value of Pilot Co and Plant Co. The Board determined price is then published and announced to the pilots in the Notices to Pilot.
(c) Under the Articles of Association of Pilot Co and Plant Co, a Port Phillip Sea Pilot was able to refuse to agree with the price fixed by the Board and seek a price certified by the auditor.
As at 7 February 2005 (the date of Geoffrey Beevers' retirement):
(a) Nominee Co held 6 Parcels of Income Shares (63,120 income shares) in Pilot Co.
(b) The Plaintiffs together owned 10,520 income shares (one Parcel) in Pilot Co, with Dianne Beevers being the registered holder of 4,978 income shares and Chloe Beevers 5,542 income shares. As noted above, they had purchased these shares from Geoffrey Beevers for value.
The second defendant, Nominee Co, has a share capital of two ordinary one fully paid share. It was established shortly after Pilot Co and Plant Co. The shareholders of Nominee Co as at 20 December 2004 and 6 December 2005 were and remain Captain Griffiths and Captain Carroll. The directors of Nominee Co as at 6 December 2005 were Captain Griffiths and Captain Buck. (Captain Buck replaced Captain Caroll as a director of Nominee Co on 1 July 2005. Captain Caroll was a director of Nominee Co at 20 December 2004. For at least the last five years, the persons holding the hic[?] issued shares in Nominee Co have been the directors of Pilot Co. No deed or agreement governing the terms on which the directors of Pilot Co held the shares in Nominee Co could be located.
38 Although there was no formal deed or agreement establishing the terms on which the two Pilot Co directors held their shares in Nominee Co, Captain Griffiths testified that he understood that he held his share in Nominee Co as a trustee for the working pilots. Nominee Co does not receive dividends on the income shares which it holds from time to time, so the dividends paid in respect of the income shares held by the voting pilots or their families are correspondingly greater.
39 The plaintiffs contended that because the holders of other income shares benefited from Nominee Co's holding of parcels of income shares, it should be inferred that Nominee Co held them on trust for those income shareholders, rather than for the working pilots. It is unnecessary to determine that issue. It appears clear, however, that the two shareholders of Nominee Co did not hold their shares beneficially and that the other income shareholders were the practical, if not legal, beneficiaries of Nominee Co's shareholding.
40 The board of Pilot Co maintained a practice of striking, at regular, approximately annual intervals, a value for the shares in Plant Co and Pilot Co, by reference to their net tangible assets. The board routinely circulated the resultant values in a Notice to Pilots in order to notify pilots who intended to resign or terminate their employment in the near future of the price which would be offered for their (or where applicable, their family's) shares. It would appear that the board did not directly notify income shareholders who were not pilots of the relevant values. The current managing director of Pilot Co, Captain Buck, also conceded that the company did not notify the plaintiffs (and presumably other income shareholders) of company meetings which they were entitled to attend pursuant to the articles.
41 The values published by the board for shares over the years included the following:
42 Outgoing pilots sold their shares to Nominee Co for the published values on a number of occasions. Incoming pilots also purchased the shares for the published values. Nominee Co acquired Captain Nance's shares for $65,000 following his death in around July 1991. In August 2005, Captain Cuneo purchased a parcel of shares from Nominee Co for $280,000. Captain Martin also purchased a parcel of shares from Nominee Co for $280,000 in January 2006. A total of $265,000 was paid to Captain Woodward's family for his parcel of shares in March 2005. Captain Charlesworth was paid $280,000 for his parcel in January 2006, and Captain Keys was paid $290,000 in December 2006 following his retirement. On at least two occasions, however, it appears that an outgoing pilot or his family disputed the price offered for the shares and litigation ensued, which was subsequently settled.
43 As at the date of Captain Beevers' retirement, Nominee Co held six parcels of income shares.
44 The shareholder pilots employed by Pilot Co receive a lower salary than several licensed pilots employed by Plant Co, who do not hold shares. The non-member employee pilots (who generally did not initially hold fully endorsed licences, and were subject to certain graded limitations in the pilotage tasks they could undertake) received an annual salary of approximately $228,583 for the 2004-2005 year, although it varied according to whether they were first, second or third year employees. In contrast, the shareholder pilots received an annual salary of approximately $133,400 for the 2004-2005 year.
45 The operations of Pilot Co have been successful and profitable. The directors of Pilot Co customarily declare an annual set dividend, which is usually supplemented with further dividends throughout the course of the year. In 2004-2005, the dividends paid in relation to each parcel of income shares were as follows: franked dividend of $106,183 plus a $110,000 extra dividend (2005) for a total of $216,183. It is not disputed that the total annual dividends were approximately $250,000 over the last decade.
46 Captain Beevers was, since about 1982, a member of the original de facto partnership. He remained as a shareholder and employee pilot after the incorporation of the enterprise. As stated above, he transferred his income shares in Pilot Co and Plant Co to his wife and daughter, who obtained their ultimate holdings in various tranches.
47 It is not disputed that, although the plaintiffs became shareholders, and were thus entitled to receive notices of general meetings under the articles, Pilot Co did not communicate with them directly in relation to their shares or send them any notices of meeting.
48 In November 2004, Captain Beevers commenced a period of sick leave, due to a serious illness. In early November 2004, he requested a final pay forecast based on a notional retirement date of 4 July 2005. He was advised on 13 November 2004, by Mr Calleja (an accountant and administrator formally employed by Plant Co, but who, in fact, acted for the Pilot Co 'group') that 'your shares at this point in time have a value of $265,000'. The forecast was revised on 18 November 2004.
49 On or about 14 November 2004, the board of Pilot Co resolved, inter alia, to pay a standard dividend on 10 December 2004 and an extra dividend on 22 December 2005. Captain Carroll, the then managing director, advised the pilots of the proposed payments by an email dated 1 December 2004.
50 On 15 December 2004, Captain Carroll wrote to Captain Beevers seeking confirmation that his time off due to illness would be accumulated in the Time Off book. Captain Carroll's letter stated that as at 21 December 2004 Captain Beevers 'owed' a total of 45 days, which, in accordance with past practice and 'shareholders' agreement', could continue for six months:
[p]rovided that at the time of reconciliation, the total value of these days (grossed up to include all over payments) owed will be deducted from any remaining entitlements and if necessary from the sale of your shares (remember share dividends are actually wages).
51 Captain Beevers, however, by a letter to Captain Carroll, objected to the above proposal and to Pilot Co advancing him any moneys which would subsequently be deducted from his long service leave or share entitlements.
52 Due to Captain Beevers' refusal to agree that his being paid as a full working pilot would entail reconciliation through the Time Off book, or when his employment ended, the board of Pilot Co determined to pay no further dividends until the matter was resolved. It reversed its earlier decision to pay the extra $15,000 dividend. Instead, it determined to pay $30,000 to all working pilots. That excluded Captain Beevers, although his final payment was calculated on the basis that he was entitled to receive the payment.
53 The board notified pilots of the reversal of the decision to pay dividends by a memorandum to the pilots dated 23 December 2004, which referred to the Time Off book and stated that the policy enabled a pilot to remain on full pay (plus dividends and allowances) even during periods of illness, but required the days booked off to be reconciled (paid back) prior to completion of service with the company.
54 Captain Griffiths deposed that the board reversed the decision to pay the extra dividend because Captain Beevers' family would otherwise have received an unequal benefit over and above that of other working pilots or their families. The dispute with Captain Beevers over the Time Off book was not resolved. On 7 February 2005, Captain Beevers resigned. Captain Griffiths, at that date, was acting as interim managing director.
55 Captain Beevers' letter to Pilot Co dated 7 February 2005 gave notice of his resignation due to ill health. It complained of the attitude of management. The letter requested payment of Captain Beevers' arrears of pay, sick pay, long service leave, salary, continuance pension and of all other amounts owing to him.
56 On 8 February, 2005, Captain Buck assumed office as managing director of Pilot Co.
57 Prior to the expiration of 14 days from Captain Beevers' resignation, Pilot Co took unilateral action to transfer the plaintiffs' shares to Nominee Co. The email of the accountant, Mr Calleja, to Captain Beevers dated 9 February 2005, advised that all his shares had been paid out and cancelled. The email stated:
Please be advised that we have today forwarded to your respective bank account(s) all your retirement entitlements.
We also wish to advise you that as you are no longer a Port Phillip Sea Pilot all your PPSP shares have been paid out and cancelled.
You should expect a hard copy of your entitlement calculations in the mail.
Should you have any questions or queries regarding these calculations, please call or email us immediately.
It is clear that the plaintiffs' income shares were not cancelled, as Mr Calleja's letter indicated, either on or about 9 February 2005 or at any time thereafter. Rather, they were transferred to Nominee Co on or about 9 February 2005, for the total sum of $44,518. There had been no prior contact or consultation in relation to the transfer with the plaintiffs, who had not agreed to the amounts. Nor were the amounts certified by the auditor. The relevant sums were simply paid into the plaintiffs' joint bank accounts. The amounts were calculated on or about 7 February 2005, by Mr Calleja and Captain Griffiths, who conferred and set the 'notional' date of the transfer as 19 December 2004, being the last working day for which Captain Beevers was entitled to be paid. No transfer forms for the income shares were executed and the share register of Pilot Co did not record the transfer. On 11 February 2005, Mr Calleja reported the transfer of shares to ASIC.
58 As at 9 February 2005, the board of Pilot Co had no authority, on any view, either to cancel the plaintiffs' income shares or to arrange their sale or transfer as the agent of the plaintiffs. The plaintiffs had not given notice pursuant to article 13(c) invoking article 3(b) to constitute the board of Pilot Co their agent, and the 14 days after which such notice would be deemed to have been given had not expired.
59 The plaintiffs were dissatisfied with the conduct of Pilot Co in relation to their income shares. On 14 February 2005, they wrote to Captain Buck as follows:
Geoffrey has informed us that he received an email dated 09/02/05 from Ray Calleja advising that his retirement entitlements had been forwarded to his respective bank accounts.
We have checked our accounts and note the following payments were made into the ANZ Bank on 9 February 2005:
We hereby put you on notice that the payments made to Dianne for 4,978 shares in Port Phillip Sea Pilots Pty Ltd, and to Chloe for 5,542 shares in Port Phillip Sea Pilots Pty Ltd are accepted by us only in part payment of the monies owing and not in full and final payment.
We have obtained a copy of The Articles of Association of the Port Phillip Sea Pilots Pty Ltd and note that the proper process for the valuation of our shares in that company has not been followed and we write to:
(a) Give notice under Article 13 (c) of the Articles of Association of our intention to transfer the Port Phillip Sea Pilots Pty Ltd shares in accord with Article 3 and,
(b) Request that our 10,520 Port Phillip Sea Pilot Pty Ltd shares be valued in accordance with the provisions of the Articles of Association.
We advise that Dianne Beevers accepts the payment of $216,952 as full and final settlement for her shares in Port Phillip Sea Pilots Plant Company Pty Ltd.
Lastly, we consider it inappropriate that you have not communicated directly with us in respect of our share ownership which was purchased for value and in which Geoffrey has no beneficial ownership.
60 In response to the plaintiffs' letter of 14 February 2005, Captain Buck, by a letter to the plaintiffs and Captain Beevers dated 1 March 2005, stated:
Dear Captain Beevers, Ms D Beevers and Ms C Beevers,
With reference to your recent letter of 14th February 2005, I wish to make the following points.
61 Captain Buck's letter, while it indicated that a 'valuation' would be supplied, did not clarify whether it would be in accordance with the articles or whether the consideration for the plaintiffs' income shares would be reassessed. The letter reflected the assumption that, although the company had not advised the plaintiffs directly of the value most recently attributed to income shares in the Notice to Pilots, Captain Beevers would have informed them of it, and that, in the absence of any notification of a dispute, Pilot Co had assumed that the plaintiffs agreed to the value recently published by the company.
62 Captain Buck, by letter to Captain Beevers dated 1 March 2005, stated:
I refer to your recent letter of 16th February 2005 and respond to your six points:
63 Captain Beevers, by letter to Captain Buck dated 16 March 2005, stated:
Thank you for your letter dated 1 March 2005. I make the following responses to the six points raised by you:
64 The plaintiffs by a letter to Captain Buck dated 20 March 2005, reiterated their requirement for a valuation in accordance with the article. The letter stated:
We have your letter of 1 March 2005 and respond as follows:
65 On about 21 March 2005, Captain Buck telephoned the company's auditor, Mr Ryan, and advised him of the dispute with the Beevers family over, inter alia, the value of their shares. He asked Mr Ryan for 'a valuation of the shares as you have done in the past.' He also instructed Mr Calleja to assist Mr Ryan with whatever he needed.
66 Mr Ryan, a chartered accountant of about 30 years' experience and a registered liquidator, had been the auditor of both Pilot Co and Plant Co since their incorporation in 1989.
67 Prior to 2005, however, Mr Ryan had never been asked to value the income shares. Rather, on three previous occasions (in March 1997, September 1999 and May 2002), he had been requested to review a schedule of assets in order to assist the board to ascertain the net tangible assets of Pilot Co and Plant Co, as the basis for striking a value of both the voting shares and the income shares of both companies on a consolidated basis. The purpose of the valuation on those occasions was to enable the board of Pilot Co to publish the value in a Notice to Pilots, as it did at regular, approximately annual intervals.
68 On those occasions, Mr Ryan did not value the shares or the income stream of either company. He simply reviewed a schedule of assets and the net asset value of the companies on a consolidated basis, and the board made the decision as to value.
69 In September and October 2002, Mr Ryan saw two successive drafts of a report prepared by Deloitte on the value of the shares. As Mr Ryan knew, the Deloitte draft reports had been prepared for Pilot Co in relation to litigation with an outgoing pilot, Captain Tod and his family. The report provided an opinion on the fair market value of the Tods' interest in Pilot Co and Plant Co. That was the first time that any formal valuation of the shares had been prepared.
70 Deloitte valued the Tods' shares on a net realisable assets as a going concern basis. In Deloitte's opinion, the fair market value of the Tods' interest in both companies was in the region of $255,000.
71 The analysis in the Deloitte draft report was reflected in the evidence Mr Ryan gave of his reasoning at trial and in the evidence of the defendants' expert witness, Mr Reid. It is therefore appropriate to set it out substantially in full. The draft report stated:
Based on our analysis of the business and discussions with management, intangible assets of PPSP and Plant Co are likely to comprise:
►Access to Port Phillip Sea Pilots' licences held by pilots
Intangible assets are likely to comprise a relatively minor component of the value of the businesses of PPSP and Plant Co for the following reasons:
- barriers to entry to the Port Phillip Pilot industry are low
- there are examples of competition in unregulated environments (eg competition emerged for pilots operating in the Great Barrier Reef region in Australia within two and a half years of deregulation)
- it is not clear that monopoly rents are earned. Whilst the remuneration of PPSP pilots appear greater than that of their peers in Sydney, Brisbane and Newcastle, the hours worked by PPSP pilots also appear considerably higher
The specific characteristics of PPSP and Plant Co were taken into consideration in determining the suitability and appropriateness of each valuation methodology. Key considerations include:
In addition, the following factors were also taken into consideration:
To determine the fair market value of the shares in PPSP and Plant Co, we have considered the following commonly used approaches.
Asset based methods estimate the fair market value of a company's shares based on the realisable value of its identifiable net assets. Asset based methods include:
The orderly realisation of assets method estimates fair market value by determining the amount that would be distributed to shareholders, after payment of all liabilities, including realisation costs and taxation charges that arise, assuming the company is wound up in an orderly manner. The liquidation method is similar to the orderly realisation of assets method except the liquidation method assumes the assets are sold in a shorter time frame. Since wind up or liquidation of the company may not be contemplated, these methods in their strictest form may not necessarily be appropriate. The net assets on a going concern basis estimates the market values of the net assets of the entity but does not take account of realisation costs.
The replacement cost methodology is based on the concept of replacing or duplicating the assets of a business from scratch.
These approaches ignore the possibility that the company's value could exceed the realisable value of its assets. Asset based methods are appropriate when companies are not profitable or a significant proportion of a company's assets are liquid.
We are of the opinion that the net assets on a going concern basis is the most appropriate methodology to value PPSP and Plant Co. The following comments support the suitability of applying asset based methods to value PPSP and Plant Co:
Market based methods estimate a company's fair market value by considering the market price of transactions in its shares or the market value of comparable companies. Market based methods include:
The capitalisation of maintainable earnings method estimates fair market value based upon the company's future maintainable earnings and an appropriate earnings multiple. An appropriate earnings multiple is derived from share market trading in, or market transactions involving, comparable companies. The capitalisation of maintainable earnings method is appropriate where the company's earnings are relatively stable or a reliable trend in earnings is evident.
The recent share trading history provides evidence on the fair market value of the shares in a company where they are publicly traded in an informed and liquid market.
Industry specific methods estimate fair market value using rules of thumb for a particular industry. Generally rules of thumb provide less persuasive evidence on market value of a company as they may not account for company specific factors.
As mentioned previously, methodologies other than asset based approaches and the cost to replicate may incorporate the value of the Port Phillip Sea Pilots' licences owned by each pilot. If applied, future maintainable earnings should be adjusted to take account of a commercial remuneration for pilots as well as a return on the licences held by the pilots. After such an adjustment, given the significance of the licences to the business, we would not expect a significant level of future maintainable earnings.
In addition, proponents of this method might argue that value resides in the monopoly position currently enjoyed by PPSP and Plant Co and that monopoly rents could be capitalised. There are, however, a number of factors that mitigate the potential of this monopoly position as mentioned above.
The discounted cash flow method estimates fair market value by discounting a company's future cash flows to their present value. This method is appropriate where a projection of future cash flows can be made with a reasonable degree of confidence. The discounted cash flow method is commonly used to value early stage companies or projects with a finite life.
We have been advised that management only prepare forecasts for the following financial year. Accordingly, we have not been provided with sufficient information to enable the discounted cash flow methodology to be applied.
In light of the above, we are of the opinion that the most appropriate methodology to value PPSP and Plant Co is net assets on a going concern basis. In addition, we have considered the cost to replicate the business to provide additional valuation evidence.
Methodologies other than asset based methodologies and the cost to replicate are likely to incorporate the value of the Port Phillip Sea Pilots' licences owned by each pilot in the derivation of total business value.
72 The subsequent Deloitte draft report dated 9 October 2006, in relation to the Tod family's interests, was to similar effect. It stated that, in Deloitte's opinion, the value of the Tod family's interests was in the region of $216,000.
73 The letter of Captain Buck, addressed to 'The Beevers Family' dated 4 April 2005, in response to their letters dated 16 March 2005 and 20 March 2005, stated that Pilot Co disagreed with their calculation of Captain Beevers' entitlements and rejected his claim for salary continuance. It reiterated that the plaintiffs had not queried the valuation published in the recent Notice to Pilots, but stated that a valuation would now nevertheless be obtained, as they had requested.
In relation to the value of the shares, Captain Beevers is well aware of the method adopted by the company in valuing the shares and that the shares are considered part of his remuneration. The share value was set at $265,000 by the Board in April 2004 as advised in Notice to Pilots 310 which all pilots received. This was also confirmed in the calculation of Captain Beevers' entitlements as provided to you by Ray Calleja on two separate occasions in November 2004 when you asked for a final pay forecast. Even when you informed us that you would be resigning on 7 February 2005 you did not query the share value or ask for a separate valuation to be undertaken. The payment for the shares upon your resignation was on the basis of the previous advices to you and the well known and understood procedure that has applied to all pilots for many years and you were silent right up to that time as to any objection in your case.
...As you have requested a valuation we are in the process of obtaining one. However, it can only be a valuation of the shares in both companies, not just one.
In view of your positions, if you do not accept the total payments for the shares on the basis that they have been made to you all, the payments should be returned immediately.
75 Mr Ryan, who had previously reviewed the net asset value of both Pilot Co and Plant Co for the purpose of striking the published share values, prepared and sent to Captain Buck a memorandum dated 29 March 2005 ('March memorandum'), in which he proposed to value the total income shares as at 28 February 2005 on a consolidated basis, based, as before, on an orderly realisation of the assets of both Pilot Co and Plant Co in the normal course of business.
In accordance with your request I have reviewed the consolidated Balance Sheets for the Port Phillip Sea Pilots Group as at 28 February 2005 with a view to evaluating the net realisable value of the total income shares issued as at 28 February 2005 for the purpose of assisting in determining the entry and exit price for incoming and outgoing pilots. For the purpose of this exercise, the total 2,000,640 income shares and 64 voting shares issued are equally distributed between the current 25 equity pilot shareholdings.
On the basis of my review I estimate that the total value of the income shares range between $200,000 to $215,000 per pilot based on the net realizable value of the shares at 28 February 2005. The net realizable value basis assumes an orderly realization of the assets of the two companies in the normal course of business. Each of the major assets was reviewed at cost or market value including the properties, vehicles, launches, office equipment, plant and equipment and values for these were adjusted as discussed with you in relation to the boat repair depot, jetty and pilot station. Cash, debtors and deposits were valued at their holding value as were liabilities including employee entitlements, trade creditors and current taxation liabilities but any future income tax liabilities or other contingencies are excluded. The above figures have taken into account the formal valuation of property, plant and equipment conducted by the Rushton Group in 2002.
It must be appreciated that the above limited review cannot be construed as a formal valuation and can only be used by you for internal purposes in assisting you in establishing an entry/exit price for incoming/outgoing pilots on a basis which has been consistent with practice in the past. Furthermore there are several other bases of determining the valuation of the shares that have not been considered including the capitalization of profits basis, which may invariably lead to a different result, but is not considered appropriate for the purposes of this review.
77 The March memorandum stated that the 'limited review' could not be construed as a formal valuation and could 'only be used by you for internal purposes' in assisting to establish an entry and exit price for incoming and outgoing pilots. It was neither a formal valuation nor an opinion as to the value of the income shares of Pilot Co, because it did not distinguish between the income shares of Pilot Co and Plant Co. It assumed, however, that the net tangible assets method of valuation was the correct one.
78 The March memorandum gave a figure of $200,000-$215,000 for the income share parcels in both Pilot Co and Plant Co on an orderly realisation basis. At trial, Mr Ryan stated that 80% of that figure would have been attributable to Plant Co, thus giving a value of $40,000 for Pilot Co.
79 Mr Ryan conceded that in preparing the memorandum, he carried out the same exercise as he had carried out in the past, when he was requested to review the schedule of assets prior to publishing the consolidated value of the companies in a Notice to Pilots.
80 On about 3 April 2005, while Mr Ryan was on holiday overseas, Captain Buck contacted him by telephone and explained that there was a problem with his 'valuation' in the March memorandum.
81 The plaintiffs at that stage retained solicitors, Williams Winter. The letter of Mr Howie of Williams Winter to Captain Buck dated 4 April 2005, stated, inter alia:
As requested in their letter of 20 March 2005 our clients seek valuation of their shares in the Port Phillip Sea Pilots Pty Ltd pursuant to the Articles of Association.
Could you please provide the valuation within the next seven (7) days.
82 The letter of Mr Howie to Captain Buck dated 6 April 2005 stated, inter alia, that Mrs Dianne Beevers had accepted payment of $216,952 in full and final settlement for her shares in Plant Co, but reiterated 'We therefore look forward to receiving your valuation of shares in [Pilot Co] valued in accordance with the Articles of Association of that company.'
83 On 11 April 2005, Mr Ryan returned to Melbourne and had a conversation with Captain Buck.
Capt R Buck advised that auditor's opinion required in respect of value of Shares transferred by Capt Beevers to PPSP Nominees, the amount of which is in dispute. At this stage, Deloitte would not be engaged as the matter was not yet in litigation. He suggested that I speak to Steven Troethe from Gadens.
85 On 11 April 2005, Mr Ryan also spoke to Mr Troeth, a solicitor at Gadens, the solicitors for Pilot Co, Plant Co and Nominee Co. Mr Ryan's file note stated:
Spoke to S Troethe who advised that a more detailed analysis is required and that reliance should not necessarily be placed upon the Rushton Valuation and if necessary an expert should be appointed to assist in the valuation of the buildings, or update the valuation if required.
86 A file note of Mr Troeth dated 12 April 2005 stated:
He has been on leave and was back this week and has spoken to Captain Robert Bark [sic] in relation to the valuation. I have went through with him what we considered would be required ie a certificate from him as to the valuation of each of the shares. There would need to be more appropriate documentation of the valuation, the message is how he arrived at the valuation. I know noted that it would be appropriate for him to use Delloits [sic] to assist him to come to a decision so that he could sign a certificate. However, he says the pilots do not want to go to that length due to the cost at this stage. I also noted that the assets where valued sometime ago by Edward Rushton and it would probably be appropriate to get updated values however he would need to consider if this was appropriate. Again, he says the pilots may not want to spend the money on that at this stage. I confirm that we require an appropriate valuation so that the shares may be properly transferred. He will speak to Captain Bark [sic] and let me know if he has any further queries.
87 Mr Ryan did not recall having a second conversation with Mr Troeth on 12 April 2005 and thought that Mr Troeth's file note must relate to their conversation on 11 April 2005. He denied that Mr Troeth stated that it would be appropriate for him to use Deloitte to assist him to come to a decision so that he could sign a certificate. He suggested that it was simply a private notation. Mr Troeth's file note, however, indicated that he did make that comment, as it records Mr Ryan's response that Pilot Co did not wish to take such a course at that stage.
88 On 12 April 2005, Mr Ryan had a further conversation with Captain Buck and Captain Griffiths. His file note stated:
Discussed above with Capt Buck and Capt Griffiths and it was agreed that TR could appoint R Parrington from Wilson Pride to review Rushton Valuation. CG & RB advised that Capt Beevers was disputing value of Pilot Co Shares but was satisfied with Plant Co share valuation and was paid $265,000 for both. CG explained shares should be valued on a consolidated basis however the shares may have to be valued individually, according to Capt Buck. CG explained that the only value in the pilotage company shares lay in the individual pilots licences otherwise these are worthless to outsiders.
I was aware from a telephone conversation with Capt Buck that there was later a disagreement about the price of the Pilot Co income shares held by the Beevers family and that Mr Tim Ryan, the company auditor had been asked to certify a price under the company's constitution.
I recall that at this time I had a conversation with Capt Buck and Mr Ryan. Either Capt Buck or I requested that the matter be resolved quickly and we both expressed the view that the two companies (Pilot Co and Plant Co) should be valued together as was done in the past. I do not recall anything further about this conversation or any other discussions with Mr Ryan about the matter.
I had no involvement with any work in relation to the auditor's certificate nor did I give any instructions to Ray Calleja or Mr Ryan as to how the work was to be carried out. The value of the shares and the work being done by the auditor was not the subject of any consideration by the Board before the auditor's certificate was issued on 2 June 2005.
90 Captain Griffiths agreed that his reference to 'as done in the past' was to a valuation on the basis of a net tangible asset value of the two companies, without any reference to the profit stream. He thought he had only one conversation with Mr Ryan, who was in and out of Pilot Co's office during the relevant period.
91 Mr Ryan testified that Captain Griffiths told him 'forcefully' that the income shares were worthless to outsiders. Captain Griffiths testified it was 'unlikely' that he told Mr Ryan that the income shares were worthless, but he conceded that he possibly said so. Although Captain Griffiths denied telling Mr Ryan how to value the income shares, he conceded that he gave him his view on how it ought to be done.
92 I am satisfied that, as Mr Ryan's file note indicates, Captain Griffiths told Mr Ryan on 12 April 2005 that the only value in the income shares lay in the individual pilots' licences and that the income shares were worthless to outsiders. Further, I am satisfied that Captain Griffiths and Captain Buck indicated that Mr Ryan should value the shares as was done in the past and should speak to Mr Troeth, who was the solicitor for the group of companies, including Nominee Co.
93 At the time, Mr Ryan was not aware that Captain Griffiths was a director of Nominee Co, the purchaser of the income shares. He was, however, aware of Nominee Co's relationship with Pilot Co and the role it played in purchasing and holding the shares of outgoing pilots. He initially testified that he did not regard himself as acting as an independent expert in the valuation. Rather, he thought that he was to value the income shares in his capacity as the auditor of Pilot Co, who was appointed to report back to the board.
At all times and particularly since September and October 2002 I have been of the opinion that the most appropriate method for determining the fair value of the income shares in both Pilot Co and Plant Co is to base that determination on the value of the net realisable assets of each company as a going concern. In my opinion, that method of valuation ensures that there is not included, in the value of the shares of Pilot Co, the value of the pilots licences held by the individual pilots, which are not the property of Pilot Co.
95 Mr Ryan asserted that he approached the valuation of the income shares independently, but had to seek instructions from someone. It was necessary to obtain information from the company and advice in relation to the valuation of the properties.
96 He asserted that although Captain Buck indicated that he should use the net tangible assets method and Captain Griffiths told him that the income shares were worthless, he did not take submissions from Captain Buck and Captain Griffiths and disregarded their comments. He did not interpret the communications as instructions from the company and did not consider that procedural fairness required him to accept submissions on behalf of the plaintiffs as vendors.
97 While Mr Ryan conceded that he had in fact used the method advocated by Captain Buck and had arrived at a figure indicating that the shares were virtually worthless, as asserted by Captain Griffiths, he maintained that he had reached his conclusions independently.
98 Mr Ryan acknowledged that he had previously read the comprehensive analysis in the Deloitte report which advocated the net tangible assets method for the valuation of the income shares. He testified that the Deloitte reports simply 'confirmed my thoughts all along that that the net tangible assets method was the appropriate way to value the shares'.
99 He thus asserted that he had an independently formed opinion that income shares of both Pilot Co and Plant Co should be valued on a net realisable assets as a going concern basis, which was confirmed by, but not derived from, the Deloitte reports.
100 By the letter of Mr Ryan to Captain Buck dated 2 May 2006, Mr Ryan set out his understanding of the valuation task to be performed. The letter was signed by Captain Buck and dated 2 May 2005. It stated:
Agreed upon procedures: Statement of auditor to the directors of Port Phillip Sea Pilots Pty Ltd
The purpose of this letter is to confirm our understanding of the terms and objectives of our engagement including the specific procedures which we have agreed we will perform with respect to the Review of the fair value of all income shares issued ("Review") FOR Port Phillip Sea Pilots Pty Ltd and Port Phillip Sea Pilots Plant Co Pty Ltd ("the Company").
Please arrange for the return of the attached copy signed to indicate that it is in accordance with your understanding of the terms and objectives of our engagement including the specific procedures which we have agreed we will perform.
We have agreed to perform the necessary procedures required in order for us to prepare a Statement of auditor on the Review of the fair value of the income shares on issue by the Company as at 28 February 2005. We will report our Statement of auditor to the Directors of Port Phillip Sea Pilots Pty Ltd.
Our procedures are performed solely to assist you in complying with the requirements of clause 3 (b) of the Constitution of the Company which specifies that each member who intends to transfer shares in the company may do so at a price to be agreed upon by the vendor and the board, or, in the case of difference, at the price which the auditor of the Company shall certify, to be in his opinion the fair selling value as between a willing vendor and a willing purchaser. Our engagement will be conducted in accordance with the Australian Auditing Standards applicable to agreed upon procedures engagements.
Because these procedures do not constitute either an audit in accordance with Australian Auditing Standards, we will not express any assurance on the financial criteria of the Review.
This letter is effective for services performed for the share valuation as at 28 February 2005 unless otherwise agreed in writing.
We require management of Port Phillip Sea Pilots Pty Ltd to prepare the schedules supporting the Review in order to keep out time and fees to a minimum.
The responsibility for determining the adequacy or otherwise of the procedures agreed to be performed by us is that of the Directors.
The Directors and management of the Company are responsible for meeting the reporting requirements of share valuation and transfer of the shares.
We expect Directors and management to advise us of any known material and/or contentious issues relating to the Review.
We expect Directors and management to make available to us the books of the Company, including any registers and general documents and give us any information, explanations and assistance we require for the purposes of our agreed upon procedures.
Our Statement of auditor is solely for the purpose set out in section 1.1 of this letter and for your information. It is not to be used for any other purpose or distributed to any other party other than the directors of Port Phillip Sea Pilots Pty Ltd.
Mr T Ryan will be the engagement principal in respect to this engagement.
Our fees are based on the time spent and level of expertise of personnel assigned to the engagement plus direct out-of-pocket expenses. Our fees are estimated to be, exclusive of Goods and Services Tax, $5,500.
Our normal terms and conditions in relation to our engagement will apply in relation to this assignment and shall form part of this Engagement Letter, except as specifically provided in this letter.
We have established policies and procedures designed to ensure our independence, including policies on holding financial interests in the Company its controlled entitles and other related parties, business relationships, employment relationships, and the provision of non-audit services.
We will be pleased to provide any additional services that may be required from time to time, provided such services do not impair our independence. However, this Engagement Letter applies only to the work described in this letter. Should further work be required over and above such work, separate terms of engagement will need to be agreed.
Please do not hesitate to contact us if you require clarification of the above matters.
The terms and conditions of the above engagement letter have been read and understood by myself and I am authorised and accept them for and on behalf of Port Phillip Sea Pilots Pty Ltd and its controlled entities.
101 Mr Ryan initially testified that he did not see his role as that of an independent expert certifying a price by which a vendor and a purchaser of an asset would be bound. He did not see himself as acting as a valuer as between two parties to a contract. Rather, he saw himself as acting in the capacity as auditor of the company to express an opinion as to fair value. He considered that he was responsible to the company and required to report back to the directors of Pilot Co. He ultimately stated, however, that he understood he was to be independent as between buyer and seller.
102 Mr Ryan agreed that there was a considerable interchange between himself and Mr Calleja in preparing his valuation report. He refused, however, to receive submissions from the plaintiffs. The letter of Mr Howie of Williams Winter to Mr Ryan dated 20 May 2005 stated that, as Mr Ryan had been appointed as an expert to value the plaintiffs' shares in Pilot Co, they were entitled to make submissions. It sought copies of the documents and correspondence which had been provided to Mr Ryan and advised that the plaintiffs would be in a position to make submissions within 14 days of receipt. Williams Winter sent a similar letter dated 20 March 2005 to Gadens.
103 The file note of Mr Ryan dated 23 May 2005 indicated that he spoke to Mr Troeth about the plaintiffs' request, who responded that he would research the matter and advise whether they were entitled to make submissions, given that Mr Ryan was acting as an expert.
104 By a letter to Williams Winter dated 23 May 2005, Mr Troeth stated that in his view, as Mr Ryan was acting as an expert, no party had an express right of hearing. Mr Ryan testified that he eventually obtained independent legal advice on that question. At no stage were the plaintiffs afforded the opportunity to make submissions.
105 Mr Calleja testified that, as early as March 2005, Captain Buck asked him to assist Mr Ryan 'in doing some valuation exercise'. Mr Calleja had a telephone conversation with Mr Ryan prior to 21 March 2005. Mr Ryan then asked him to prepare a consolidated balance sheet, which Mr Calleja faxed to him shortly after, including handwritten item notations. During March, April and May 2005, Mr Ryan visited Pilot Co's office on several occasions. Mr Calleja provided him with numerous files and financial documents, which Mr Calleja had prepared. Mr Calleja also provided figures to Mr Ryan and prepared documents to assist him in his task. All the documents were set as at 28 February 2005, at Mr Ryan's request, because the management reports were completed up to that date.
106 Mr Calleja prepared Excel spreadsheets, using draft spreadsheets provided by Mr Ryan as templates. He had discussions with Mr Ryan, who instructed him in relation to their form and content, requesting an audit trail comprising timing adjustments and valuation adjustments that linked the figures. He entered information into the draft spreadsheets provided by Mr Ryan, making adjustments following their discussions.
107 Mr Calleja deposed that on about 1 June 2005, Mr Ryan came to his office, gave him a document entitled 'Summary of Fair Values as at April 2005', and instructed him to finalise his Excel spreadsheets, incorporating the figures contained in the Summary. Mr Calleja prepared and finalised the spreadsheets, including working papers and journal entries. On 2 June 2005, he created and emailed to Mr Ryan a schedule which, (save for a change of font in the heading), was identical to the schedule ultimately attached to Mr Ryan's report dated 2 June 2005.
108 Mr Calleja agreed that he created the schedule, which was the end result of two or three months' work done with Mr Ryan 'preparing schedules, lists of assets, values of things and sending them over to him and then him coming back to [Mr Calleja] and telling [Mr Calleja] to do something else or...prepare another list of some other figures' which Mr Calleja then sent back to him.
109 Mr Calleja declined to describe his work with Mr Ryan as 'collaboration', but conceded that:
I did take a lot of instructions from Mr Ryan. Mr Ryan also got figures from valuers which had nothing to do with me for fixed assets but generally speaking I did all the layman's work and Mr Ryan oversaw what I had done and contributed a lot of the intelligence to it...
Mr Calleja testified that he did 80 or 90 per cent of the total work involved.
110 Mr Ryan agreed that he attended the offices of Pilot Co on a number of occasions between April and May 2005 and reviewed files and documents provided by Mr Calleja and, during May, prepared draft spreadsheets, instructed Mr Calleja as to the format and content of the working papers and schedules and instructed him to use the draft spreadsheets as templates for spreadsheets. He deposed that, on a number of occasions during late May 2005, he discussed the format and content of the working papers and schedules with Mr Calleja. The working papers and schedules were 'evolving' documents until they were finalised on 2 June 2005.
111 Mr Ryan conceded that he did quite a bit of work with Mr Calleja, in an 'evolving exercise' whereby he gave schedules to Mr Calleja 'who further developed them into his own style'. He did not dispute that Mr Calleja sent him emails and prepared and presented a large number of documents.
112 Mr Ryan agreed that his role was to 'review Mr Calleja's work ... as part of the exercise'. It was 'to review the documentation ... to ensure that the figures in the balance sheet, particularly at 28 February, and any subsequent adjustments were fairly stated'.
113 Mr Ryan testified that he reached the view that the plaintiffs' income shares were worth about $6,000 after receiving the valuer's figures. On 2 June 2005, after Mr Calleja emailed the schedule, Mr Ryan attached it to his 'Independent Review Report' dated 2 June 2005.
114 About 40 minutes after receiving the email from Mr Calleja, Mr Ryan forwarded the certificate to Mr Troeth. His file note dated 2 June 2005 (mistakenly dated 2 May 2005) stated:
Advised S Troethe as a matter of courtesy that the auditors certificate was now ready to issue as a result of the receipt of the independent valuer's report received on 1/6/05.
I also advised that a phone call had been received from J Howie and as I was not in the office a message was taken by ... and I wished to enquire as to whether he could advise whether I should return his call.
Steve advised that a letter had been sent to him from Howie and that I had been copied in which was probably the purpose of his call. He suggested I read the letter and seek my own advice as to whether I should respond.
He advised that upon receipt of my certificate from Captain Buck he would forward the document to J Howie.
To the Directors of Port Phillip Sea Pilots Pty Ltd and Port Phillip Sea Pilots Plant Co Pty Ltd.
We have reviewed the attached Schedule comprising the net tangible asset position for Port Phillip Sea Pilots Pty Ltd and Port Phillip Sea Pilots Plant Co Pty Ltd, (the consolidated entity), which reflects the fair value of the assets and liabilities of the consolidated entity and the individual companies comprising the consolidated entity as at 28 February 2005, and the fair value of shares on issue at that date. The Directors are responsible for the Schedule and have determined that the accounting policies used are appropriate to the needs of the Directors and members of the consolidated entity. We have conducted an independent review of the Schedule in order to express an opinion to the Directors on its preparation and presentation. No opinion is expressed as to whether the accounting policies used are appropriate to the needs of the Directors and the members of the consolidated entity.
The Schedule has been prepared for the Directors to assess the fair value of shares on issue at 28 February 2005. We disclaim any assumption of responsibility for any reliance on this report or on the Schedule to which it relates to any person other than the Directors, or for any purpose other than that for which it was prepared.
Our review has been conducted in accordance with Australian Auditing Standards applicable to review engagements. Our procedures included examination, on a test basis, of evidence supporting the amounts and other disclosures in the Schedule including the adequacy of the fair value ascribed to the assets and liabilities of the consolidated entity and the shares on issue. We have not performed an audit and, accordingly, we do not express an audit opinion.
The review opinion expressed in this report has been formed on the above basis.
Based upon our review, which is not an audit, we have not become aware of any matter which makes us believe that the attached Schedule does not present the fair value of the assets and liabilities of the consolidated entity and individual companies comprising the consolidated entity as at 28 February 2005. On this basis, in our opinion, the fair value of shares on issue at that date per pilot and pilot entity, as applicable, is in the vicinity of $217,673 for the consolidated entity, and the individual fair value of shares on issue for Port Phillip Sea Pilots Pty Ltd and Port Phillip Sea Pilots Plant Co Pty Ltd is in the vicinity of $6,809 and $210,863 respectively.
TOTAL CURRENT ASSETS 2,115,210.00 2,613,547.00 4,728,757.00
TOTAL ASSETS 3,117,210.00 7,160,352.00 10,277,562.00
LIABILITIES -2,899,312.94 -412,711.48 -3,312,024.42
NET ASSETS/(LIABILITIES) 217,897.06 6,747,640.52 6,965,537.58
117 Mr Ryan's report was thus based on a review of the schedule of net tangible assets of Pilot Co and Plant Co, which was supplied to him by Mr Calleja, although Mr Ryan also had considerable supervisory input into its preparation. The report stated that the report and the schedule were prepared for the directors and that the schedule had been independently reviewed. It disclaimed responsibility for reliance on the document by anyone other than the directors of Pilot Co and Plant Co. Although the report did not state the basis of the valuation or explain the auditor's reasoning, it could be inferred from the schedule that Mr Ryan based the value of the shares on the net tangible assets of both companies.
118 Following the receipt of the valuation report, the board of Pilot Co sought to rectify the perceived deficiencies of the transfer of the plaintiffs' shares on 7 February 2005. The record of a resolution of the directors of Pilot Co dated 8 June 2005 recorded the board's view that the original transfer of the plaintiffs' income shares to Nominee Co for $21,107 and $23,411 respectively on 7 February 2005 was invalid, due to the board's mistaken belief (following correspondence with Captain Beevers) that there was a consensus as to the value of the shares. The record of resolution referred to a decision to annul the original transfers made on 7 February 2005. As the agent of the plaintiffs under the articles, the board resolved to cancel the existing certificates and to authorise Captain Griffiths and Captain Buck to execute transfers of the plaintiffs' shares to Nominee Co at the auditor's valuation.
119 Although the valuation report dated 2 June 2005 did not expressly identify the valuation methodology adopted, or give reasons for its conclusions, at trial, Mr Ryan gave evidence on those matters.
120 Mr Ryan, as the longstanding auditor, was very familiar with Pilot Co, Plant Co, Nominee Co and their respective functions and operations.
121 He knew that the shares of Pilot Co and Plant Co had previously been valued on a consolidated basis by reference to net tangible assets. On three occasions prior to 2005, he had assisted the board in that exercise, although the board made the decision, while he confirmed that it was 'on the right track.'
122 Mr Ryan had never seen a valuation report on the shares prior to reading the draft Deloitte report in September 2002. He was aware that the Deloitte report was obtained in order to value the shares from the company's perspective in litigation.
123 Mr Ryan was aware that when a pilot's employment terminated, the shares would be transferred to an incoming pilot or to Nominee Company at a price fixed by the board of Pilot Co by reference to net tangible assets, rather than by reference to a profit stream. He knew that Nominee Co borrowed from Pilot Co to buy the shares. He saw that as Pilot Co making a loan to the selling shareholders, rather than financing the purchase of its own shares.
124 Mr Ryan understood that income shareholders received a set dividend, with bonus dividends from time to time. He was aware that the share capital of Pilot Co was divided into 32 shares, about six of which were held by Nominee Co.
125 He regarded Pilot Co as a stable and profitable company which, since 1999, had been the only service provider in Port Phillip and, in practice, had no competitors. The income shares consistently produced substantial dividends. Mr Ryan said that Pilot Co did not always distribute all available profits, but occasionally retained profits of up to $1 million.
126 Mr Ryan initially denied that the capitalisation of future maintainable earnings method was usually employed to value a profitable company with stable earnings, but ultimately conceded that it was generally the appropriate method. He said he had considered that method for Pilot Co, but discounted it because Pilot Co's assets were largely liquid and the company had to be valued as part of a group.
127 Mr Ryan rejected an inflexible dichotomy between companies with minimal intangible assets (to which the net tangible assets method should apply) and profitable companies (to which the capitalisation of future maintainable earnings method should apply). While he agreed that a net tangible asset methodology assumed that the company had minimal intangible assets, he did not think that the methodology was necessarily inappropriate for a profitable company, particularly for some private companies such as Pilot Co, depending on the facts. Although Pilot Co was profitable, he considered that particular considerations justified the use of the net tangible assets method.
128 Mr Ryan was cross-examined on his file note written about June 2005 which was part of his audit file, produced on subpoena. He did not refer to it in his affidavit, as it was 'just a record for me to support my work papers'.
129 The file note stated that a number of methods of estimating the fair market value of the company's shares had been considered, including the asset based methods of orderly realisation of assets, liquidation of assets, net assets on a going concern and cost to replicate.
130 A significant factor in Mr Ryan's selection of the net assets on a going concern basis, as expressed both in the file note and in his affidavit, was his view that the value of the pilots' licences (owned by the pilots as individuals) would otherwise be likely to be inappropriately incorporated into the value of the company. That view had also been expressed in the Deloitte draft report. It was distinct from, but related to, the assumption that if (contrary to Mr Ryan's recommendation) a capitalisation of future maintainable earnings method were employed, it would be necessary to make an adjustment to take account of a commercial remuneration for pilots as well as a return on the licences held by the pilots, after which, 'given the significance of the licences to the business, we would not expect a significant level of future maintainable earnings'.
131 The shareholder pilots currently received a salary of only $130,000, which Mr Ryan did not view as commercial. He thought that if their salary were raised to a commercial rate, there would be little or no profit. He had not independently arrived at the conclusion that there was no profit in the company after payment of a commercial level of salary. He conceded that he had relied on the Deloitte report, because 'they'd done their own research and had come up with a figure in relation to a commercial salary remuneration package' of $325,000-350,000 for sea pilots in other ports. Mr Ryan asserted that he had also used his own 'industry knowledge'.
132 Mr Ryan did not accept that a trucking company or an airline employing licensed drivers or pilots was an appropriate analogy for Pilot Co, unless the drivers or pilots were also shareholders subject to restricted ownership requirements.
133 Mr Ryan explained that Pilot Co's profit stream, while large and regular, depended on the income expenditure, which was understated, because 'it's substituted by the payment of frank[ed] dividends to the shareholders which is not a tax deduction from the expenditure of the profit of the company'. That is:
[t]he profit of the company is depend[ent] on the circumstances in which the remuneration of the pilots is determined. Now the pilots have determined to pay a frank[ed] dividend that's part of their remuneration...[i]f we're going to do...a determination of future maintainable earnings an adjustment would have to be made for a commercial salary to be made to the pilots.
134 He acknowledged that if there were any profit after allowing for a commercial salary to shareholder pilots, it would have to be considered, and the capitalisation of future maintainable earnings would be much more appropriate. He did not, however, believe that there would be a substantial profit, and given the particular circumstances of Pilot Co, thought that it would not be wrong to use the net tangible asset method of valuation. He considered that a valuer could not disregard: the history of transfers to incoming pilots or Nominee Co at a price based on net tangible assets fixed by the board; that a number of parcels of shares were held by Nominee Co pending the emergence of an eligible willing buyer; that it was unlikely that a buyer would willing to pay a large amount for an income stream because the buyer would be a licensed pilot who would have to work and apply the licence for that purpose, in order to obtain an income either from Pilot Co or another company. Mr Ryan stated that the owner of the income shares was unlike an ordinary shareholder, because the income did not continue without the personal exertion of the associated pilot.
135 Mr Ryan accepted that the net intangible asset method would be wrong if a company had material intangible assets. He did not, however, believe that Pilot Co had any significant intangible assets because, in his view, the pilots' licences belonged to the pilots themselves. It was not appropriate to treat the pilots' licences as the intangible assets of the company. Pilots could use their licences to work for another company.
136 Further, Mr Ryan did not consider that there was any substantial barrier to a competing business if the relevant competitors had a pilot's licence. He therefore concluded that it was unlikely that an acquirer would be prepared to pay a significant amount to take over the business.
137 Although it was not referred to in his affidavit, Mr Ryan testified that the discounting of profit based on the non-commercial salary paid to shareholder pilots significantly influenced his approach.
138 As stated below, I have concluded that the valuation of the income shares should be referred to an independent valuer. I therefore consider the reports of the expert witnesses only briefly.
139 The plaintiff led expert evidence by Mr Ferrier, a chartered accountant, who was instructed to 'assess the fair selling value as between willing vendor and a willing purchaser (the basis set out in the Articles of Association) of the income shares held by Dianne Beevers and Chloe Beevers' in Pilot Co, to consider whether the auditor's Independent Review Report dated 2 June 2005 constituted an opinion of the fair selling value of the income shares or was a mere adoption of the views in the schedule provided by the directors and to consider and give a critique of the auditor's methodology.
140 Mr Ferrier, on the basis of a number of stated assumptions, and subject to certain qualifications, valued the business by the capitalisation of future earnings method, which (on the basis that there was no material change between 9 February 2005 and 28 February 2005) produced a value of between $1.052 and $1.132 million for a parcel of income shares as at February 2005.
141 Mr Ferrier assumed, inter alia, that a commercial salary for a shareholder pilot was equivalent to that of a non-shareholder pilot. He noted that shareholder pilots received approximately $133,400 per annum, while other full pilots received approximately $228,583.
142 He estimated that, based on future maintainable earnings, the business had a value of between $31,940 million and $38,328 million and the net tangible assets had a value of $1.753 million. He applied a capitalisation rate of between 5 and 6 times earnings before interest and tax, based on the risks and opportunities identified in general economic factors, industry related factors (including the de facto monopoly with perceived 'very high' entry barriers, including large capital expenditure and registration requirements) and business related factors.
143 He noted that the arrangements between Pilot Co and Plant Co were not arm's length and considered that the earnings of the business were the consolidated earnings of both companies. He also included the assets owned by Plant Co. He allocated all of the goodwill of the business to Pilot Co.
144 Mr Ferrier acknowledged that the plaintiffs had a minority interest in Pilot Co, which amounted to only a small percentage of the shares on issue. There was no one shareholder with a larger interest than that of the plaintiffs. He acknowledged that there was no voting entitlement attached to the plaintiffs' shares, although they were 'linked to the voting shares owned by Geoffrey Beevers'. Mr Ferrier assumed that if there were an attempt to change the policy of paying 100% of profits as dividends to the income shareholders, the voting shareholders would combine to prevent it. He noted that all holders of a parcel of shares had a minority interest, but when voting on a potential sale of the business, they would have an equal vote.
145 In such circumstances, Mr Ferrier considered that the plaintiffs' shareholding should be discounted for its minority nature, but at an amount at the lower end of the scale, of between 10% and 20%.
146 Mr Ferrier acknowledged that he was not provided with an opportunity to visit the business premises or to meet with management. He obtained his understanding of the business from Captain Beevers.
147 The defendants' expert witness, Mr Reid, a chartered accountant, was not instructed to assess the fair selling value of the plaintiffs' shares. Rather, he was instructed to comment generally on the auditor's report and on Mr Ferrier's report, including the assumptions, methodologies and conclusions they contained.
148 Mr Reid concluded that the net assets on a going concern basis was the most appropriate methodology to value Pilot Co and Plant Co. He considered that Pilot Co owned few intangible assets, because the major intangible assets of its business were the licences owned by individual pilots and the barriers to entry into the industry were low, thus diminishing the value of the de facto monopoly, which was, in any event, attributable to the licence holders. Further, the willing buyer of a voting share would necessarily be a licensed pilot and the willing buyer of an income share would be either a licensed pilot or a family member. He also noted that a number of arm's length sales between Pilot Co and new pilots were transacted at values which were at only a slight premium to the companies' net asset value.
149 Mr Reid took the view that, unless a net intangible asset value methodology were employed, the value of licences owned by the individual pilots might be unjustifiably incorporated in the value of the business.
150 He disagreed with Mr Ferrier's use of the capitalisation of future maintainable earnings method. He considered that the method was not only wrong, but had also been incorrectly applied in a number of significant respects. Among other things, Mr Reid criticised Mr Ferrier's assumption that a commercial salary for the shareholder pilots was equivalent to that of the non-shareholder salaried pilots. He disagreed with Mr Ferrier's assumption that the price a third party would pay was not necessarily relevant.
151 Mr Reid also criticised Mr Ferrier's attribution of the entire intangible asset value of both companies to Pilot Co, although the arrangements between the companies were not at arm's length. Further, he was critical of Mr Ferrier's attribution of the entire value to the income shares, given that significant rights attached to the voting shares, including the power to suspend dividends and the entitlement to participate in the surplus assets of Pilot Co on winding up in priority to all other classes of shares.
152 Mr Reid also criticised certain adjustments made by Mr Ferrier and considered that his discount for a minority interest was too low.
In my opinion, the major issues arising from Mr Ferrier's valuation of the income shares in Pilot Co are:
(a) the adjustment made to reflect a commercial remuneration for Pilots is understated
(b) the adjustment made to reflect a commercial remuneration for Pilots is based on 26 Pilots, whereas 32 Pilots reflects the normal level of Pilots required to generate future maintainable earnings
(c) I would expect an appropriate minority discount to be significantly higher and Mr Ferrier does not consider the application of a discount for lack of marketability in addition to a discount for minority interest
(d) Mr Ferrier allocates the entire intangible value for the business to the income shares in Pilot Co.
154 He observed that, although he rejected Mr Ferrier's methodology, the value produced by that method would be significantly lower if a higher commercial salary for pilots (in the range of $325,000 - $350,000) were appropriate.
155 Mr Reid stated that he would also expect the value of a parcel of shares to be reduced further by: adjustment for Mr Ferrier's erroneous inclusion of the value of the individual pilots' licences in the goodwill attributable to the income shares, which would lead to the selection of a significantly lower level of future maintainable earnings; possible selection of a lower capitalisation rate if the risk to Pilot Co's de facto monopoly position were properly recognised; potential reduction of the capitalisation multiple, if appropriate intangible value were attributed to Plant Co; potential reduction of the capitalisation multiple by appropriate consideration of the commercial price of the services provided to Pilot Co by Plant Co; appropriate consideration of the arm's length transactions for shares in Pilot Co; and an increase in the discount to take appropriate account of the lack of marketability attributable to the board's equality policy.
156 The plaintiffs, by an amended statement of claim dated 16 May 2006, plead the incorporation of the defendants, Pilot Co's articles and the division of its share capital into voting and income shares. They also plead Nominee Co's holding of income shares, its common directors with Pilot Co, Captain Beevers' employment as a pilot until 7 February 2005 and the plaintiffs' holdings of income shares. Although the defendants dispute some details, those matters are largely uncontroversial.
157 By paragraphs 10 to 12 of the amended statement of claim, the plaintiffs plead that Pilot Co's constitution, including the articles, constituted a contract between Pilot Co and Dianne and Chloe Beevers respectively pursuant to s 140 of the Corporations Act, under which Pilot Co agreed to observe and perform its constitution, and the terms of which included, inter alia, articles 3(b), 3(c), 13(b) and 13(c). The defendants do not plead to the allegation that the articles constituted a contract.
158 By paragraph 13, the plaintiffs allege that on 9 February 2005 (alternatively, 19 December 2004), the board allocated and transferred their income shares to Nominee Co 'on behalf of the other income shareholders of Pilot Co at that time', or alternatively cancelled the shares. The defendants admit that on or about 9 February 2005 the board allocated and transferred the income shares, but otherwise do not admit the allegation.
159 By paragraph 13A, the plaintiffs allege that in so allocating and transferring the plaintiffs' income shares to Nominee Co on 9 February 2005, 'the board and therefore Pilot Co acted as agent for Dianne Beevers and Chloe Beevers for the sale of their shares in accordance with clause 3(b) of Pilot Co's articles.'
160 The defendants admit that Pilot Co acted as the plaintiffs' agent for the sale in accordance with clause 3(b), but deny that the agency arose under the provision of the articles.
161 By paragraph 14, the plaintiffs allege that Nominee Co paid the plaintiffs the relevant amounts for the income shares. By paragraph 15, they allege that by their letter to Pilot Co dated 14 February 2005, the plaintiffs gave notice to Pilot Co that they accepted the amount so far paid as part payment of the moneys owing to them as the price for the sale of the income shares, gave notice of their intention under clause 13(c) to transfer their income shares in accordance with clause 3 of the articles and requested that their 10,520 income shares in Pilot Co be valued in accordance with the provisions of Pilot Co's articles.
162 The defendants admit that the letter dated 14 February 2005 stated the matters alleged and gave notice as alleged within terms of article 3(b). They say further that by their letter dated 14 February 2005, the plaintiffs ratified the allocation and transfer of their income shares by the board at a price to be agreed upon by the plaintiffs and the board, alternatively, at a price determined in accordance with article 3(b).
163 By paragraph 16, alternatively to paragraph 13A, the plaintiffs allege that the notice (by their letter dated 14 February 2005) to the board of their intention to transfer their income shares in Pilot Co constituted the board, and therefore Pilot Co, the plaintiffs' agent for the sale of their shares in accordance with article 3(b).
164 By paragraph 20, the plaintiffs allege that the board, as agent for the plaintiffs, purportedly instructed the auditor of Pilot Co, Mr Ryan, to provide a certificate as to his opinion on the fair selling value as between a willing vendor and a willing seller of the plaintiffs' income shares.
165 By paragraph 21, the plaintiffs allege that the board valued the income shares at $6,809 and forwarded a document headed 'Port Phillip Sea Pilots Group Fair Valuation' to the auditor, based on the board's assessment of the net tangible assets position of Pilot Co. The defendants deny that the board valued the shares, and say that the document was prepared jointly by the auditor and Pilot Co's accountant, at the direction and under the supervision of the auditor. The plaintiffs, by their reply, join issue and say that the document was prepared by Mr Calleja.
166 By paragraph 22, the plaintiffs allege that on or after 28 February 2005, the board instructed the auditor to certify, inter alia, the fair value of the income shares, and, by paragraph 23, allege that on 2 June 2005 the auditor purported to certify in writing that the fair selling value of the plaintiffs' shares was $6,809. The defendants say that the auditor did in fact so certify for the purposes of clause 3 of the article. The plaintiffs, by the reply, allege that the Independent Review Report dated 2 June 2005, and any opinion contained therein, was not prepared on or before 9 February 2005, was not a certificate in accordance with article 3(b), was not an opinion given in good faith, was expressly given only to the directors of Pilot Co for their use and not to the plaintiffs, contained no more than the adoption of views expressed by the directors as to the value of the assets and liabilities (inter alia) of Pilot Co and was prepared at the behest of the defendants in collusion with Mr Calleja, in circumstances where the plaintiffs were excluded from seeing the material taken into account and from making submissions to the auditor.
167 By paragraph 25, the plaintiffs allege that on 8 June 2005, following receipt of the auditor's certificate on 8 June 2005, Pilot Co purported to retransfer the plaintiffs' income shares to Nominee Co for the revised lower prices of $3,222.11 and $3,587.17 respectively.
168 By paragraph 25A, the plaintiffs plead that by reason of the conduct of Pilot Co referred to in paragraphs 13 to 15(a), 19 and 20 to 25, Pilot Co failed to comply with clause 3(b) of Pilot Co's articles and failed on 9 February 2005, alternatively on 8 June 2005, to sell the plaintiffs' income shares at a price which the auditor certified to be in his opinion the fair selling value as between a willing vendor and a willing purchaser. The defendants deny that allegation and say that if by the sale and transfer of the plaintiffs' income shares to Nominee Co on 9 February 2005 Pilot Co failed to comply with article 3(b), article 3(b) did not apply to the sale, because Nominee Co was already a member, or alternatively was eligible to hold income shares in Pilot Co pursuant to article 13(b).
169 By paragraph 26, the plaintiffs plead that, in the circumstances, Pilot Co breached the contract (constituted by the articles) with Dianne Beevers and Chloe Beevers. The defendants deny that allegation.
170 By paragraphs 27 to 29, the plaintiffs plead that the fair selling value of their income shares was in excess of $2 million as at 9 February 2005, alternatively as at 8 June 2005, and plead that as a result of Pilot Co's conduct, they have suffered loss and damage, which is particularised as the fair selling value of the income shares of not less than $946,388 for Dianne Beevers' shares and not less than $1,053,612 for Chloe Beevers' shares (less the price paid by Nominee Co on 9 February 2005).
171 The defendants deny those allegations and say that if the auditor's certificate did not meet the requirements of article 3(b), the plaintiffs suffered no loss, as the value of their shares would have been the same under a complying certificate.
172 By paragraph 30, the plaintiffs plead that by reason of the board acting as agent for the plaintiffs as pleaded in paragraph 13A, Pilot Co owed the plaintiffs specified duties, which include a duty to ensure that, in the absence of agreement, the price for their shares was the price certified by the auditor, to obey all lawful and reasonable instructions of the plaintiffs, to act for their benefit and to exercise reasonable care in selling their income shares, which duties were breached by, inter alia, transferring the plaintiffs' shares without either agreement on price or obtaining an auditor's certificate.
173 The defendants deny the alleged breaches of duty as an agent. They admit that Pilot Co transferred the plaintiffs' income shares to Nominee Co on 9 February 2005, but say that the transfer was ratified by the plaintiffs' letter dated 14 February 2005.
174 By paragraph 38, the plaintiffs plead, as against Nominee Co, that it acquired the plaintiffs' income shares for $21,107 and $23,411 respectively, which was a price determined by Pilot Co and Nominee Co, and not a price reflecting the fair selling value of the shares as between a willing vendor and a willing purchaser.
175 By paragraph 40, the plaintiffs plead that, as a result of the matters pleaded in paragraphs 2A, 2B, 6, 13, 25, 27, 32, 38 and 39, Nominee Co was unjustly enriched at their expense, for which they claim equitable compensation.
176 By paragraph 41 to 44, the plaintiffs plead that Nominee Co breached a contract with the plaintiffs (under which it agreed to take a transfer of their shares at a price agreed between the plaintiffs and the board, alternatively at a price determined in accordance with article 3(b)), by taking the transfers for the prices paid on 7 February 2005.
177 Pursuant to article 12(d), eligibility to hold a voting share in Pilot Co depends on holding the status of a currently employed Port Phillip Sea Pilot. Eligibility to hold an income share depends on holding the status of a currently employed sea pilot or a family member (including a controlled company) of such a person.
178 Article 13(c) requires the holder of income shares who ceases to be eligible to give notice of intention to transfer his or her shares in accordance with article 3 within 14 days (or such further time as the board allows), after which such notice is deemed to have been given.
179 Pursuant to article 13(c), an income shareholder who has lost eligibility to hold the shares has no option but to give the notice which invokes article 3, whether it be actual or deemed. The shareholder has no choice, other than for the timing. The 14 day or other extended period simply demarcates the time during which actual, as opposed to deemed, notice may be given.
180 Article 3 is invoked by the notice under article 13(c), whether actual or deemed.
181 Article 3(a) provides that, except as hereinafter provided, no shares in the company shall be transferred until the rights of pre-emption hereinafter conferred have been exhausted.
182 The phraseology of article 3(a) indicates that, although the balance of article 3 provides rights of pre-emption which must ordinarily be exhausted before shares in the company can be transferred, exceptions to that rule will be contained in article 3 itself. (The board's written consent to a transfer of voting or income shares would, however, be required pursuant to articles 12(c) and 13(a) respectively.)
183 Article 3(b), which is central to the present case, does not distinguish between voting shares and income shares. The requirement of article 3(b) that every member or person who intends to transfer shares ('the vendor') shall give notice of the intention in writing to the board, overlaps with the same requirement in article 13(c), although the latter applies only to those intending to transfer income shares by reason of loss of eligibility, whereas article 3(b) applies generally to all members 'or other persons' who intend to transfer either voting or income shares.
184 By article 3(b), whether the shares are income shares or voting shares, and whether the transfer is required due to loss of eligibility or for other reasons, the written notice of intention to transfer to the board constitutes the board the vendor's agent for the specified purpose of sale of the shares, in one or more lots, to members of the company,[3] at a price to be agreed upon by the vendor and the board or, failing agreement, at the price which the auditor of the company certifies to be in his opinion the fair selling value. Save for the price fixing mechanism, article 3(b) does not provide the terms of the contract of sale. Article 3(b) is itself insufficient to constitute a contract of sale. It contemplates an independent contract of sale which incorporates the price fixing mechanism of article 3(b), to which neither Pilot Co nor the board members are party.
185 In so far as the articles of Pilot Co constitute a statutory contract to which the officers and members are party, article 3(b) confers a discretion on the board and does not oblige it to attempt to arrange or to conclude a sale of the shares to another member. If the board did effect a sale as the vendor's agent, it would be implicitly obliged to take the necessary steps to refer the matter to the auditor if required due to a failure to agree on the price. Article 3(b) also constitutes an agreement by the vendor shareholder to conclude the sale to the member or members chosen by the board, at a price certified by the auditor to be the fair selling value in the absence of agreement.
186 Article 3(c) necessarily presupposes that the agency of the board referred to in article 3(b) has been constituted, because it provides that 'the board may allocate some or all of the said shares to a person in its absolute discretion without assigning any reason therefore...' The reference in article 3(c) to 'a person' raises the question whether article 3(c) permits allocation to a non-member of Pilot Co. It is unnecessary to decide the issue, but if article 3(c) contemplates allocation to a person other than an existing member of Pilot Co, the board's agency for sale under article 3(b) would not apply. Article 3(c) does not oblige the board to allocate any of the vendors' shares.
187 Articles 3(d), 3(e) and 3(f) together comprise a procedure alternative to that under article 3(c), whereby, on the price being fixed, the board (clearly as agent for the vendor pursuant to article 3(b)), may notify the number of shares to be sold and their price to all members holding voting shares, inviting, within 21 days, expressions of willingness to purchase a particular number of shares at the fixed price, and allocating the shares, so far as may be, pro rata, in accordance with the number of existing shares already held by the members who have expressed interest.
188 In contrast to articles 3(b) and 3(c), article 3(f) imposes a time frame. It provides that if the whole of the shares are not sold within the 21 days of the board's notice to members, the vendor, at any time after the expiration of the 21 days, may transfer any unsold shares 'to any person at any price'.
189 The problem faced by a vendor who has become ineligible to hold shares, but for whom the board does not locate an eligible purchaser, and who cannot identify an eligible purchaser herself, does not arise in the present case. Clearly, the established practice of transferring the shares of outgoing pilots and their families to Nominee Co would ordinarily preclude the problem from arising.
190 There is obvious tension between, on the one hand, 3(c) and article 3(f), and, on the other hand, articles 12(d) and 13(b). Articles 12(d) and 13(b) respectively provide that no person may hold a voting share except a pilot, and no person may hold an income share except a pilot or his family members (as defined). Construed literally, article 3(c) and article 3(f) both contemplate transfer to a person who is neither a member nor eligible to be one.
191 Article 3(g) excludes the application of articles 3(a)-(f) to a number of specified persons or transfers. Such exemptions are foreshadowed by the terms of 3(a), which states 'except as hereinafter provided'. Under article 3(g), 'a person who is already or eligible to be a member' of the company is exempt from the pre-emption provisions, as are bona fide transfers by, in essence, retiring trustees to new trustees, personal representatives to legatees or beneficiaries and trustees to beneficiaries.
192 The meaning of 'a person who is already a member or eligible to be a member' in article 3(g) is unclear, as it is not specified whether the exemption applies to such a person in the character of transferor, transferee, or both.
193 Counsel for the defendant contended that the exemption, like the balance of article 3(g), applied to transfers to a member or person eligible to be a member and that the words 'transfer to' were accidentally omitted.
194 The effect of such an argument would be that the plaintiffs, as income shareholders whose eligibility had ceased, were entitled to sell or transfer their shares to existing members, or persons eligible to be members, without notice to the board pursuant to article 13(c) giving rise to the agency of the board under article 3(b). If so, article 3(b) would not apply to the transfer of the plaintiffs' income shares and the defendants' conduct could not constitute a breach of that article or of a contract constituted by, or incorporating that article.
195 Counsel for the defendants raised, but did not develop, the argument that article 3(b) did not apply to the plaintiffs' income shares, by reason of article 3(g). The argument was not developed, he said, because the plaintiffs had pleaded the agency of the board and the ratification of the premature transfer on 9 February 2005 by their letter of 14 February 2005.
196 Article 13(g) expressly requires income shareholders to give notice to the board, which appears necessarily to invoke article 3(b) and the agency of the board for a sale of shares to members. Further, the balance of article 3(g) does not deal with transfers by sale, but broadly, transfers of title to reflect beneficial entitlement or a change of trustee. The argument that article 3(b) did not apply to transfers to members or persons eligible to be members would raise some complex difficulties.
197 Ultimately, however it is unnecessary to determine those issues, because both parties presented their case on the assumption that articles 3(a)-(f) applied to the plaintiffs' income shares. Further, I accept that, as counsel for the defendants submitted, the defendants presented their case in that way on the basis of the plaintiffs' pleading that the board was their agent for the transfer to Nominee Co or that they ratified the transfer by their letter dated 14 February 2005.
198 The articles of Pilot Co give rise to many difficulties of construction. All parties, however, assumed throughout that article 13(c) applied to invoke article 3(b) in relation to the plaintiffs' income shares and neither party at trial contended otherwise.
199 It is clear that, subject to the meaning of article 3(g), an income shareholder who becomes ineligible to hold the shares cannot resist divestiture by a sale under article 3. It is also clear that a sale to a member under the agency given by article 3(b) could not be effected prior to the expiration of 14 days, unless the vendor gave notice to the board earlier.
200 It is not disputed that when Captain Beevers resigned by his letter dated 7 February 2005, the plaintiffs became ineligible to be members of Pilot Co and had 14 days to give notice before the deeming effect of article 13(c) would operate.
201 There has been considerable fluctuation and uncertainty over the principles governing the judicial review and enforceability of a determination by an expert appointed, inter alia, to establish a value, price or rental under a contract.
202 According to the early judicial approach, the contracting parties, having entrusted the valuation to the expert, were bound by his determination unless the valuation were vitiated by dishonesty, fraud or partiality or, according to some views, a species of mistake which deprived the valuation of conformity to the terms of the contract.
203 There was uncertainty over the nature and quality of a mistake which could vitiate an expert's valuation. The predominant approach suggested that a discretionary decision entrusted to an expert could not be impugned, even if it were mistaken or produced an unreasonable result.
204 In Karenlee Nominees Pty Ltd v Gollin & Co Ltd[4] ('Karenlee'), the Full Court of the Supreme Court of Victoria upheld the validity of a valuation of demised premises for the purposes of a rent review clause which was based (in default of agreement) on the mean value of two sworn valuations made by valuers appointed by each of the parties.
205 Lush, Murphy and Jenkinson JJ, in a joint judgment, observed that:
The valuation of land and buildings involves matters of judgment. Opinions notoriously vary on this subject matter - it would be surprising to find two valuers who agreed on the valuation to be given to land and buildings of the nature of the subject premises. There is no scientific exactitude in the valuations of land and buildings.[5]
206 The Full Court considered that where each side appointed a qualified valuer, it was no doubt intended that each valuer 'would act bona fide in giving his opinion'. In such circumstances, provided that the valuers valued the relevant property without apparent gross mathematical inaccuracy, the methods adopted could not be the subject of challenge. Their Honours stated:
It is not to be said of [the valuer] that he has mistakenly overemphasised the importance of some aspect, or underestimated the influence of another. Nor is the merit of the weight which he gives to various matters to be called in question.[6]
207 The Full Court emphasised that, in this context, it is not relevant whether:
[t]he judge believes the valuation to be correct in the broad sense in which that word must be used for valuations, or finds it to be credible in the sense of intellectually satisfying. The judge can decline to act on the valuation in this context only if one of the defects mentioned by [Lord Romilly MR in Collier v Mason] emerges - mistake in a relevant sense, or lack of good faith, or fraud.[7]
208 Their Honours referred with apparent approval to the statements of Denning LJ in Campbell v Edwards[8] and Megaw LJ in Baber v Kenwood Manufacturing Co,[9] which indicated that while fraud, collusion or corruption would vitiate a valuation entrusted to an expert, it was otherwise binding on contracting parties, albeit the valuer was mistaken or 'muddleheaded'.
209 They also referred to the opinion of Sir David Cairns in Baber v Kenwood Manufacturing Co, that non-speaking valuations, made honestly and impartially, could not be invalidated for mistake. Sir David Cairns stated:
When two parties have agreed that goods or lands or shares are to be sold from one to the other at a price to be certified by a valuer (being an architect, auditor or other expert) the question of whether a valuation made by the valuer is binding on the parties or not must depend on the terms of the contract (including any implied terms), on the nature of any circumstances relied on to vitiate the valuation, and on the nature of the proceedings in which the issue arises.
If the valuation has not been made in accordance with the express terms of the contract then it is clearly not binding.
211 Despite its approval of some statements which denied the relevance of any species of mistake in an honest and impartial valuation, the Full Court appeared to accept the view of Sir John Romilly MR in Collier v Mason,[12] that a mistake of a kind which would enable a defendant successfully to resist a suit for specific performance of a contract (such as a bona fide mistake as to the subject matter or terms or effect of a contract,[13]) would vitiate an expert valuation. Such errors would include[14] the valuation of the wrong property as in Webster v Cecil,[15] mathematical errors of substance, the performance of a valuation required to be on a 'going-concern' basis on a 'break-up' basis, or a failure to appreciate the incidents of the subject matter of valuation).[16]
212 In Karenlee, Marks J at first instance[17] had rejected the valuation because it was 'on a wholly erroneous basis or, if not, so vitiated by error that it ought not to be received'.[18] His Honour considered many specific criticisms of the valuation, including the valuer's alleged use of evidence of irrelevant comparable sales, according too much or too little weight to particular factors, unsupportable analyses of comparable sales and the aggregation of an estimated value of the buildings and the land to give a total value.[19]
We say at the outset, however, that on no view is the question whether, in the ordinary sense of the words, the judge who is deciding the issue would himself act on the valuation.[20]
214 The approach of Karenlee was applied in Email Ltd v Robert Bray (Langwarrin) Pty Ltd,[21] where the Full Court of the Supreme Court of Victoria construed a lease which provided for a review of annual rent 'as determined as a reasonable rental by a single certified valuer to be appointed by the parties hereto'.[22]
215 The parties sought a declaration as to the meaning of 'reasonable rent'. The lessor submitted that it meant a fair rental as between the parties, considering the special nature of the buildings and its capital investment. The lessee contended that it meant an open market rent.[23]
216 The Full Court considered that 'reasonable rent' was not synonymous with market rental, but observed that under the contract, the parties had:
'[c]learly bestowed' upon the valuer the obligation of determining what circumstances are relevant to the question of fixing 'a reasonable rental'. We do not consider that the Court should make a declaration which delineates the circumstances to which the valuer should have regard. The declaration that we are disposed to make is that 'a reasonable rental' means a rental which the valuer considers is reasonable having regard to all the circumstances which the valuer considers are relevant.
...The matter is entirely within the province of the valuer because the parties have so provided.[24]
[t]he rent assessment could not be attacked upon the ground that relevant matters had been disregarded or irrelevant matters considered. As the parties have agreed to be bound by the valuer's assessment, they will be bound unless the assessment is vitiated by fraud, collusion or mistake: Karenlee Nominees Pty Ltd v Gollin & Co Ltd [1983] VicRp 61; [1983] 1 VR 657, at p.670.[25]
218 In A Hudson Pty Ltd v Legal & General Life of Australia Ltd ('Legal & General')[26] Waddell J, at first instance, held that a valuation was vitiated because the valuer, acting as an expert, erred in including a mezzanine floor existing as at the date of grant of the lease but demolished after commencement as part of the lettable area. His Honour held that the error was not one of mere calculation or of the principles of valuation, but was of such a kind that the valuation was not in conformity with the terms of the lease. The valuation did not give reasons.
219 On appeal, the decision was reversed.[27] Mahoney and Priestley JJA were not satisfied that the valuer had valued the premises on the mistaken basis alleged and thus did not determine whether such an error would have rendered the assessment ineffective.
220 McHugh JA, in contrast, in an influential judgment, concluded that the valuer had erred in valuing the premises on the basis that the void area was part of the area used by the lessee, and assessing it at the same rate. He did not consider, however, that the mistake invalidated the valuation, because the valuer did not depart from the question which was referred to him. The error was a mistake as to the process of valuation, analogous to taking into account comparable rents which were not in fact comparable.
221 McHugh JA acknowledged that the law had been subject to uncertainty and fluctuation from early cases which appeared to hold valuations binding in the absence of fraud or partiality, until Denning LJ entertained the possibility, in Dean v Prince,[28] of setting aside a valuation for mistake, albeit in obiter dicta.
222 In Arenson v Arenson,[29] however, Denning LJ had restated the principle that:
Whenever two persons agree together to refer a matter to a third person for decision, and further agree that his decision is to be final and binding upon them, then, so long as he arrives at his decision honestly and in good faith, the two parties are bound by it. They cannot reopen it for mistake or error on his part or for any reason other than for fraud or collusion.[30]
223 McHugh JA considered that there was a distinction between refusing specifically to enforce the agreement due to mistake and setting a valuation aside at law, which the discussion in Dean v Prince did not adequately recognise.
224 He noted that, in Jones v Jones[31] a valuation of shares required to be made on a going concern basis was set aside, because being on a break up basis, it did not accord with the contract. In Campbell v Edwards,[32] the Court of Appeal reiterated that, save possibly for a speaking valuation, mistake was not sufficient to set aside a valuation, even if there were strong evidence to suggest a gross under value. That approach was confirmed in Mayne Nickless Ltd v Solomon.[33]
In my opinion the question whether a valuation is binding upon the parties depends in the first instance upon the terms of the contract, express or implied. This was pointed out by Sir David Cairns in the Court of Appeal in Baber v Kenwood Manufacturing Co Ltd (at 181). A valuation obtained by fraud or collusion can usually be disregarded even in an action at law. For in a case of fraud or collusion the correct conclusion to be drawn will almost certainly be that there has been no valuation in accordance with the terms of the contract. As Sir David Cairns pointed out, it is easy to imply a term that a valuation must be made honestly and impartially. It will be difficult, and usually impossible, however, to imply a term that a valuation can be set aside on the ground of the valuer's mistake or because the valuation is unreasonable. The terms of the contract usually provide, as the lease in the present case does, that the decision of the valuer is 'final and binding on the parties'. By referring the decision to a valuer, the parties agree to accept his honest and impartial decision as to the appropriate amount of the valuation. They rely on his skill and judgment and agree to be bound by his decision. ... While mistake or error on the part of the valuer is not by itself sufficient to invalidate the decision or the certificate of valuation, nevertheless, the mistake may be of a kind which shows that the valuation is not in accordance with the contract. A mistake concerning the identity of the premises to be valued could seldom, if ever, comply with the terms of the agreement between the parties. But a valuation which is the result of the mistaken application of the principles of valuation may still be made in accordance with the terms of the agreement. In each case the critical question must always be: Was the valuation made in accordance with the terms of a contract? If it is, it is nothing to the point that the valuation may have proceeded on the basis of error or that it constitutes a gross over or under value. Nor is it relevant that the valuer has taken into consideration matters which he should not have taken into account or has failed to take into account matters which he should have taken into account. The question is not whether there is an error in the discretionary judgment of the valuer. It is whether the valuation complies with the terms of the contract.
Is the mistake in the present case of a kind which enables the court to set aside the valuation? In my opinion it is not of the relevant kind. There is nothing in the contract which would enable the valuation to be set aside on the simple ground that the valuer made a mistake. Nor do I think it possible to imply a term to that effect: Codelfa Construction Pty Ltd v State Rail Authority of New South Wales [1982] HCA 24; (1982) 149 CLR 337. The rent review clause makes the decision of the valuer "final and binding on the parties to this lease". Nothing in the lease suggests that it was not to be final and binding if it was the result of error or mistake or was unreasonable. The decision whatever it is - is to bind the parties. It is true that the valuer is 'acting as an expert and not as an arbitrator'. But those words which have been commonly used in agreements since the Common Law Procedure Act 1854 serve the purpose of excluding the provisions of the Arbitration Act 1902. They avoid the necessity for the valuer to hear evidence and the parties and to determine judicially between them. They enable him to rely on his own investigations, skill and judgment: Re Dawdy (1885) 15 QBD 426 at 429, 430. Indeed they reinforce the view that the parties, as between themselves, rely on the honest and impartial skill and judgment of the valuer.
There is also nothing in the nature of the mistake which indicates a departure from the terms of the contract. The mistake was one made in the process of valuation. But it was not a departure from the terms of the contract.[34]
226 In Holt v Cox,[35] a special resolution provided that the applicant's shares (issued to him as an incentive to remain with and develop the company) must be offered to the remaining shareholders on the same proportion as their existing shareholdings upon the termination of his employment, 'at a fair price determined by the auditor of the company'.
227 When the applicant's employment was terminated, the company, at the applicant's request, required the auditor to determine the fair price of the shares in accordance with the special resolution. It provided the auditor with a letter of advice by the solicitors for the remaining shareholders (not the company) and an opinion of senior counsel. The documents were disclosed to the applicant and his solicitors. The applicant also sent submissions to the auditor. The auditor commissioned and received advice from an expert share valuer.
228 The auditor provided a speaking valuation which exposed his reasoning processes. It 'discussed the methodology for valuation and indicated an awareness of the choice between alternative methods'.[36] It noted that, under normal circumstances, the valuation of a share would be based on the present value of cash anticipated to flow to the owners of shares. The report recognised that the returns to a minority shareholder usually depended on 'the distribution policy of the company which is normally dictated by the controlling shareholder.'[37] It also recognised that under another method, the valuation would be based on the amount to be distributed to shareholders assuming an orderly realisation of the company's assets, which was appropriate if the company were likely to be wound up, or if the shares being valued had the power to bring about the liquidation of the company.
229 The auditor also considered the asset backing method of valuation, but did not adopt it, principally because the applicant was only entitled to receive a proportion of the net assets on winding up and the likelihood of winding up was remote. He assumed that if the majority shareholders wished to realise their investment, they would transfer their shares, rather than wind the company up.
230 The auditor concluded that the applicant's shares represented a minority interest and therefore should be valued on the basis of capitalisation of future maintainable earnings. He valued the shares at only $171. The applicant refused to transfer them at that price. The remaining shareholders sought specific performance, requiring the applicant to transfer the shares at the auditor's valuation.
231 Santow J, at first instance,[38] found that the valuation auditor paid no regard to the prospect that the company would be wound up in the event that it could be built up and sold (probably to an overseas buyer).[39] The auditor also assumed that the majority shareholders would probably, in the event of a sale, use their powers to maximise their position by stripping profits by dividend payments. He entirely disregarded the possibility that they would use their voting power to ensure that the applicant would get the full value of 20% of an unstripped company.[40]
232 On appeal, Mason P (with whom Priestley JA agreed) held that:
[t]he auditor erred in his handling of the issue of winding up, and the errors exposed prevented the ensuing determination from being the 'fair price' required by the special resolution. The auditor ignored entirely the possibility that sale might occur, and that in such event [the remaining shareholders] would use their voting power (contrary to their financial interests) in such a way as to bring about the winding up of the company and the consequential realisation by [the applicant] of 20% of the liquidated value of the company. Had any regard been given to this possibility, the 'fair price' must have been higher, no matter how significantly the possibility of such 'voluntary' winding up should be discounted... The possibility that this would come about should have been given some weight, having regard to the clear evidence about [the controlling shareholder's] stated intentions and the real possibility that he would give effect to them out of a mix of honour or recognised fiduciary obligation.[41]
233 The auditor's assumptions about the future conduct of the controlling shareholder flew in the face of the evidence and the instructions placed before him. Further, the auditor incorrectly assumed that 'fair price' was equivalent to market price. Mason P stated that:
[t]o disregard the matter entirely, notwithstanding the clear instructions... [was] indicative of significant error, that is, failure to have regard to the actual possibilities attendant upon this particular parcel of shares.[42]
234 Mason P endorsed the reasoning of McHugh JA in Legal & General, and held that it is insufficient for a dissatisfied party to point to some mistake in the reasoning process exposed by the expert value. At least as a matter of common law, a valuation would stand if it satisfied the description given in the contract between the parties.
235 His Honour recognised that the courts had hardened their attitude to review of expert valuations, probably in recognition that the courts had no greater expertise, and, where the parties voluntarily committed the determination of value to an expert, judicial restraint was appropriate. Nevertheless, there were limits to the types of error which will be overlooked in the courts.
A close reading of McHugh JA's judgment in Legal & General indicates that his Honour was not propounding the view that a valuation will stand regardless of error. Rather he was making the point that mistake is not itself a ground of vitiation if the valuation was in accordance with the terms of the contract.[43]
237 While his Honour recognised that the problem lay in identifying which mistakes would invalidate a valuation, and referred to administrative law as a useful analogy in the relevant context, he stated:
There, the decision maker has an area within which he or she may make mistakes, even mistakes of relevance or law, without failure to exercise the jurisdiction conferred, or exposing the decision to quashing. It is only those mistakes which involve a failure to address something which the statute requires to be taken into account that will expose the decision to judicial review on jurisdictional grounds...[44]
238 In WMC Resources v Leighton Contractors,[45] Ipp J (with whom Kennedy and White JJ agreed), affirmed that where a valuation made under a contract was challenged, a court would only interfere if it concluded that the valuation did not comply with the terms of the contract.
239 His Honour distinguished between two types of valuation. First, a valuation for which the contract provided 'fixed objective criteria' for the valuation provided for by a contract. In that case, the exercise was not discretionary. The Court could apply its own judgment and would set aside the valuation if it did not accord with its own assessment, made by applying those criteria. Ipp J stated:
Ordinarily, in cases of this kind, where a certified valuation is to be made by reference to fixed, objective, criteria (such that there is no discretionary element in the valuation) there will only be one uniquely correct value. If the certifying valuer, in these circumstances, arrives at the incorrect value, the valuation will be in breach of the contract. It is for that reason that an incorrect certificate will also be set aside. The court will then have the jurisdiction to determine the correct amount owing in terms of the contract.[46]
240 Secondly, there were valuations which required the exercise of a broad discretionary judgment, involving 'decisions where there is no fixed or readily available standard criteria' and 'several possible methods of assessing value, each giving widely different results, but each being reasonable'.[47] Such valuations were 'in the nature of a discretionary judgment'[48] and:
Many subsidiary factors relevant to the valuation may be uncertain, many contingencies may have to be taken into account, wide ranges of legitimate decisions may apply, and opinions may legitimately differ as to virtually all of the relevant issues.[49]
241 Ipp J stated: 'The courts have consistently emphasised the discretionary nature of these kinds of valuations'[50] because, as Mason J stated in Commissioner of Taxation (Cth) v St Helens Farm (ACT),[51] 'valuation is a matter of estimation, not of precise mathematical calculation. It certainly involves the making of a value judgement in the metaphorical as well as the literal sense'.
242 Ipp J set out the following principles relevant to judicial review of discretionary valuation decisions by third parties:
Firstly, by the contract, the parties agree to be bound by a valuation made in terms thereof. Therefore, if the valuation complies with the contract, they are bound thereby. Because of the discretionary nature of the valuation, the contract will not require the valuation to be 'correct'. There will indeed be no uniquely correct valuation. The valuation will merely have to be within the terms of the contract.
Secondly, a court will not set aside a valuer's determination merely on the ground that it is 'incorrect' or that it reveals errors. The determination will only be interfered with if it is not made in terms of the contract; a mere mistake in the valuation will ordinarily not be a departure from the terms of the contract.
In England, the leading authority on the issue is Campbell v Edwards [1976] 1 WLR 403. Lord Denning MR expressed the principles in stark terms (at 407):
[I]t is simply the law of contract. If two persons agree that the price of property should be fixed by a valuer on whom they agree, and he gives that valuation honestly and in good faith, they are bound by it. Even if he has made a mistake they are still bound by it. The reason is because they have agreed to be bound by it. If there were fraud or collusion, of course, it would be very different. Fraud or collusion unravels everything.[52]
243 Ipp J endorsed McHugh J's identification in Legal & General that:
In each case the critical question must always be: was the valuation made in accordance with the terms of the contract?[53]
He also noted that a provision that the valuer's decision was final and binding was not decisive. His Honour stated:
The contract considered in Legal & General Life of Australia Ltd v A Hudson Pty Ltd provided that the decision of the valuer was 'final and binding on the parties', but I do not understand this phrase to be relevant to the basic principles expressed by his Honour. While the phrase in question reinforced the intention of the parties that error or mistake would not warrant interference with the valuation, this was not the essential reason for the decision that the mistaken valuation did not depart from the terms of the contract. McHugh JA referred (at 335) to the fact that while it is easy to imply a term that a valuation must be made honestly and impartially, '[i]t will be difficult, and usually impossible, however, to imply a term that a valuation can be set aside on the ground of the valuer's mistake or because the valuation is unreasonable'. His Honour had earlier referred to Karenlee Nominees Pty Ltd v Gollin [1983] VicRp 61; [1983] 1 VR 657 and Email Ltd v Robert Bray (Langwarrin) Pty Ltd [1984] VicRp 2; [1984] VR 16, both decisions of the Full Court of the Supreme Court of Victoria. In Karenlee Nominees Pty Ltd v Gollin the contract did not provide for the valuation to be 'final and binding'. The Full Court held that the valuation could not be invalidated on the ground of mistake (save for mistake as to 'the subject matter or terms or effect of the contract' - at 671). In Email Ltd v Robert Bray (Langwarrin) Pty Ltd, another case where there was no 'final and binding' provision, the Full Court followed Karenlee Nominees Pty Ltd v Gollin (and also held that a valuation could not be challenged on the ground that relevant matters had not been taken into account or irrelevant matters had). McHugh JA also referred to Campbell v Edwards where, similarly, there was no 'final and binding' provision.
None of the cases to which I have referred concerned an engineering or construction (or mining) contract. But in my view that does not detract from the principles expressed therein. Contracts of that kind do not constitute a discrete and different branch of the law to which ordinary principles of the law of contract and the general law are not applicable.
In my opinion, the principles set out above in regard to the review of discretionary valuations apply to the appellant's valuation in this case.[54]
244 The mining works contract in the case before Ipp J, which required a company (in the absence of agreement) to determine the value of variations of mining works in its sole discretion. The relevant variations related to the volumes of material mined. The dispute concerned the basic approach to the valuation, and, in particular, was over whether all costs (including capital costs) should be covered and certain profits and overheads taken into account, or whether it should simply be based on a percentage increase in the scheduled rates.[55]
245 His Honour concluded that there were many differences in principle between the parties as to the methods and criteria to be applied in arriving at the values of the various facets of the variations, and how the valuation as a whole is to be affected.[56] It was therefore obvious that the task of valuation could not be:
[d]escribed in any way as "mechanical", or as involving simple or straightforward factual questions based on fixed or standard criteria. There are a myriad of basic issues of principle and detail which are open to interpretation and reasonable differences of opinion. The ranges of opinion involved are manifold in number and broad in scope. Innumerable value judgments would have to be made. The valuation process carried out reasonably is likely to produce different results from different expert valuers, approaching the task in accordance with proper principles and making no errors of law'.[57]
246 In MMAL Rentals Pty Ltd v Bruning ('MMAL'),[58] the New South Wales Court of Appeal held that an expert valuation of shares subject to an option was not binding because the valuer wrongly equated the fair value required by the contract with market value. The Court of Appeal recognised that the fair market value of an 18.75% stake in a company might diverge from market value for a number of reasons. A purchaser which held the balance of the shares in the company might have a special interest in maintaining the full advantage of its controlling interest. It might therefore be prepared to pay more than another person, so fair market value in that context must take into account the special potentiality or special value to the purchaser of acquiring a 100% holding. As the expert valuation in MMAL failed to do so, the Court of Appeal held that it was in error.
247 In AGL Victoria Pty Ltd v SPI Networks (Gas) Pty Ltd,[59] ('AGL') the Victorian Court of Appeal held that an expert determination of calculations made under a contract was not binding. Certain calculations were based on erroneous data, and therefore could be reopened and revised in order to correct the error.
248 The calculations were determined by a body corporate established to, inter alia, validate metering data relevant to the measurement and payment of natural gas. It administered a system of market settlements based on aggregate injections and aggregate withdrawals of gas at gas withdrawal points. The body corporate failed to use accurate figures for a particular year, which resulted in overpayments of over $5 million.
249 Nettle JA (with whom Maxwell P and Bongiorno AJA agreed) stated that the question whether an expert determination could be reviewed on the ground of error was, in the first place, to be decided according to whether the determination answered the contractual description of what the expert was required to determine.
[W]hether an error in the determination deprives the determination of compliance with the contractual description of what the expert was required to determine is in the first place to be answered according to whenever the error occurred in respect of a task which the contract entrusted to the expert. ...
[If the mistake is] of such a nature that the resultant determination is beyond the realm of contractual contemplation - beyond anything which the parties may be supposed to have intended to be final and binding - [it would be] susceptible to review.[60]
251 His Honour drew an analogy with judicial review of administrative error, where some mistakes are not reviewable and will not amount to jurisdictional error. He concluded that a contract appointing an expert valuer might contemplate some areas where mistakes would have no consequence, while other errors would be beyond 'an area of tolerance which it is to be supposed the contract had in view'.[61]
252 It would seem, as counsel for the defendants contended, that Nettle JA's analogy between judicial review of administrative error and the error of an expert appointed under a contract was exactly that, and was not intended to apply wholesale the principles of judicial review of administrative error to the review of determinations by experts appointed under contracts.
253 Nettle JA also recognised a distinction between 'an error in the exercise of a judgment, opinion or discretion entrusted to an expert, and an error which involves objective facts or a mere mechanical or arithmetical exercise. He stated:
Subject to the contract in question, it is easier to suppose that parties to a contract contemplate that an error of the former kind be beyond the realm of review than it is to think that they intend to be fixed with errors of objective fact or in processes of mechanical calculation.[62]
254 His Honour acknowledged that it could be more complex when error occurs 'in the course of an exercise which is partly comprised of discretion, judgment or opinion and partly constituted of objective fact or mechanical exercise',[63] because the matters of objective fact or mechanical exercise might be inseparable from the overriding discretionary or judgmental character of the exercise and thus beyond the scope of permissible review; whereas, in other cases:
[t]he various steps in the determination are severable, according to whether they are essentially discretionary or judgmental or simply matter of objective fact or mechanical calculation, [and] those steps which are of the latter kind are within the scope of permissible review.'[64]
The question in each case is what the parties should be presumed to have intended, and that is to be determined objectively from the terms of the contract, bearing in mind the context in which it was created.[65]
256 His Honour rejected the trial judge's conclusion that the erroneous factor was of judgmental character which was not severable from the overall judgmental character of the determination.
257 He considered that ordinarily, the volume of gas withdrawn was objectively discernible and there was 'no need or room for discretion, judgment or opinion, and hence I see no reason why that should be thought of as intended to lie beyond the scope of error based review.'[66]
258 His Honour thus appeared to accept that the discretionary or judgmental aspects of the expert determination were not, under the relevant contract, reviewable for error, but that the parties intended elements of objective facts or mere mechanical calculation to be subject to review. He considered that more often than not, the parties intended that the discernment of objective facts and mechanical calculations on which a determination is to be based should be subject to review.
259 In Toll (FHL) Pty Ltd v Prixcar Services Pty Ltd,[67] ('Toll') the Court of Appeal held that the expert's valuation of a transferring shareholder's 33% interest (which it was required to dispose of pursuant to regulatory requirements) did not comply with the shareholder's agreement. The shareholders' agreement established a pre-emption mechanism which provided for a transfer notice. The directors were then required to establish the Fair Value of the shares and offer them to other shareholders. 'Fair Value' was defined as the fair selling value as between a willing purchaser and a willing vendor as agreed between the directors and the proposed transferor or, failing agreement, as fixed by the company's auditor acting as an expert and not as an arbitrator.
260 The company was closely held. The transferring shareholder complained that the Fair Value fixed by the auditor pursuant to the shareholders' agreement was too low, because the Fair Value of shares of a joint venture company or closely held corporation necessarily imported their special value in the hands of another shareholder, so that discounting for minority shareholding was not fair.
261 The Court of Appeal concluded that the impugned expert valuation equated Fair Value with market value, but acknowledged that the concepts were not necessarily the same. It held that arguably, it was necessary to take into account the special potentiality or special value to a purchaser of acquiring the possible special significant strategic 33% stake, which could entail the potential for control, as in Holt v Cox. If that were so, the valuer should not have applied a minority discount and should have applied a control premium.
262 The Court of Appeal doubted that the expert's letter of engagement left the selection of methodology to its discretion. Applying the principles of Holt v Cox and MMAL,[68] the Court of Appeal considered that the expert was not free to depart from an assessment of Fair Value in accordance with the contract, which arguably imported a special potentiality or special value to the purchaser of the strategic holding.
263 A valuer acting as an expert unlike an arbitrator is generally not obliged to receive submissions from the parties.
264 An arbitration is characteristically quasi-judicial and the parties intend that they should have the right to be heard if they so desire.[69]
265 It is clear that, whereas a primary function of an arbitrator is to hear and resolve opposing contentions, in contrast, an expert is appointed to appraise value of loss or damage 'by use of some special knowledge or skill ... without being required to hear the parties.'[70]
266 It has been held that, due to the distinction between the arbitral and expert functions, a report by an expert will not be vitiated by the appearance alone of partiality.
267 In Macro v Thompson (No. 3) ('Macro'),[71] a valuation of shares in family companies was, under a pre-emption clause in the articles (cast in broadly similar terms to that in the present case), committed to the companies' auditor acting as an expert, rather than an arbitrator. Robert Walker J stated that:
[a]n expert entrusted with the duty of issuing certificates under contractual arrangements between two other parties is under a duty to act fairly and impartially, and the other parties implicitly contract on that basis...'[72]
[o]n the authorities as a whole I accept the submission made by Mr Rhys that when the court is considering a decision reached by an expert valuer who is performing a quasi-judicial function, it is actual partiality rather than the appearance of partiality that is the crucial test.
[t]o hold otherwise would mean that auditors who have had a longstanding professional relationship with an association with one party to the contract might be unduly inhibited in continuing to discharge their professional duty to their client, by too high an insistence on avoiding even an impression of partiality.[73]
269 In Macro, Robert Walker J found that the auditor (while not guilty of fraud or collusion or any conscious and positive cooperation in forwarding the interests of one party) was extremely imprudent in seeking advice and information from the purchaser's solicitor, with whom he discussed figures. The auditor allowed the solicitor 'to obtain a position of psychological ascendancy over him'[74] which the solicitor seemed to exploit.
270 Nevertheless, in Macro, the auditor did not ultimately agree with the solicitor, but had a dispute with him. Robert Walker J, despite finding that 'Mr Foster should have taken a much more independent line from the outset' was 'not persuaded that [the auditor] yielded sufficiently to [the solicitor's] influence as to invalidate his valuation on the ground of partiality.'[75]
271 Robert Walker J reached that conclusion on the balance of probability, 'inevitably influenced' by the fact that the plaintiffs had abandoned their claim against the auditor.
272 His Honour also took the view that if the contractual machinery for ascertaining value had broken down, the court had jurisdiction to resolve the difficulty by prescribing alternative machinery, provided that the individual expert nominated was not an essential and indispensable part of the bargain. Contrary to the view expressed in Sudbrook Trading Estate Ltd v Eggleton, he considered that where a company auditor was not uniquely well qualified for the task, the court could and should provide alternative machinery.[76]
273 There was a degree of imprecision and ambiguity in the plaintiffs' pleading, particularly in its articulation of the contract allegedly breached. There was also a dissonance between the plaintiffs' case as pleaded and as presented in final addresses.
274 The plaintiffs' primary case, as pleaded, was predicated on a breach by Pilot Co of contracts with each plaintiff constituted by the articles, of which article 3(b) is a term.
275 They pleaded, albeit somewhat obliquely, that on 9 February 2005, or alternatively 8 June 2005, Pilot Co, as their agent, transferred their income shares to Nominee Co, but failed to comply with article 3(b) because the resultant sale was not, as specified, at a fair selling value.
276 The plaintiffs pleaded that at the date of the transfer of their income shares for less than a fair selling value (whether on 9 February 2005 or 8 June 2005) the contract constituted by the articles was breached. The plaintiffs thereby suffered loss and damage, and were entitled to damages, being the fair selling value of the shares, which was to be assessed by the Court in the usual way. The plaintiffs pleaded that Nominee Co also breached a contract with the plaintiffs (said to be constituted, at least in part, by the articles) by paying less than the fair selling value of the income shares, or alternatively, that Nominee Co was unjustly enriched to the extent to which such value exceeded the price it paid.
277 Alternatively, the plaintiffs alleged that Pilot Co's conduct in relation to the transfer of the plaintiffs' income shares amounted to oppression, which entitled them to the fair value of the income share as assessed by the Court.
278 The plaintiffs' claim as pleaded was thus predicated on a breach of contracts of sale constituted by the articles, whereby they were deprived of their income shares and received only inadequate or derisory compensation. As stated above, in my opinion, a sale of the income shares could not, as the plaintiffs appeared to contend, be effected by a contract constituted by the articles alone. Whether under the articles only or pursuant to an independent contract, however, a valid transfer would depend on the agency of the board at the date of the relevant transfer or on the subsequent ratification of its unauthorised act.
279 In the absence of an effective transfer of the plaintiffs' income shares, they would retain title to them and would sustain no loss due to their sale, transfer or misappropriation.
280 In recognition that the plaintiffs' breach of contract and associated oppression claim depended on the loss, and hence, the valid transfer, of their income shares, the defendants initially denied that there was an effective transfer of the income shares on 9 February 2005. The defendants relied on the want of agency, as there was, at the relevant date, no actual or deemed notice to invoke it.
281 The plaintiffs, however, pleaded the agency of the board at the date of transfer and also pleaded, in effect, ratification of the transfer on 9 February 2005 by their letter of 14 February 2005.
282 The defendants subsequently admitted that there was a transfer (although they denied that the board's agency arose under the articles). They also admitted a contract of sale between the plaintiffs and Nominee Co which incorporated the price fixing mechanism contained in article 3(b). The defendants claimed that Mr Ryan's valuation satisfied the terms of article 3(b). Alternatively, they contended that if the valuation were found to be invalid, the appropriate remedy was its remission either to Mr Ryan or another expert valuer, depending on the reason for the invalidity.
283 The plaintiffs, having alleged breach of contract, sought that the Court determine damages. They consequently led expert evidence as to the value of the income shares. The defendants maintained, correctly in my view, that the invalidity of the expert valuation would not constitute a breach of contract by the other party to the sale, or by the referring entity, and would not give rise to a claim to damages. Rather, if the valuation were vitiated, the proper course was to remit the matter to the nominated expert or, if that were inappropriate, to provide some alternative machinery with which to fix the price. The defendants nevertheless led expert evidence, not in order to establish the value of the plaintiffs' income shares, but in order to challenge the methodology, assumptions and reasoning of the plaintiffs' expert witness.
284 In final submissions, the plaintiffs departed in a significant respect from their original claim and contended that there was no valid transfer of the income shares on 9 February or 8 June 2005 effected by the agency of the board or by the plaintiffs' subsequent ratification of its acts. As I understood their submission, the plaintiffs asserted that their income share had been 'stolen or expropriated on 9 February 2005 without their knowledge or consent', rather than transferred by means of a valid contract of sale. They argued that their claim gave rise to damages for breach of a contract constituted by the articles, being the fair value of the shares as assessed by the Court, rather than a remission to an expert for price fixing under a contract of sale.
285 In that context, contrary to their pleaded case, the plaintiffs argued that they did not ratify the board's purported transfer on 9 February 2005 (which was done prior to the establishment of agency) by their letter dated 14 February 2005, because they did not, at that time, have full knowledge of the transfer, having been wrongly advised by Pilot Co that the shares were cancelled. Counsel argued that Pilot Co did not correct that error over the coming months. Further, it did not accept any proffered ratification, because it was initially unwilling to obtain the requested valuation, and, when it did agree to do so, proposed to value the companies on a consolidated basis, rather than as required by the relevant articles.
286 Counsel for the defendants objected to the plaintiffs' departure from their pleading, and in particular to their withdrawal of the claim of ratification by the letter dated 14 February 2005, on the basis of which, he said, the defendants had amended their pleadings and made admissions. Counsel stated that the defendants would not have pleaded ratification if the plaintiffs had not raised it. Rather, the defendants would have maintained their original plea that the transfer of the income shares on 9 February 2005 was of no effect due to want of authority.
287 In my view, the plaintiffs should not be permitted to depart from their pleaded contention that the transfer of income share on 9 February 2005 effected by the agency of the board or was ratified by the letter dated 14 February 2005. I accept that, but for that pleading, the defendants may have conducted their case differently.
288 Further, in my opinion, it would not assist the plaintiffs if the plea of ratification were withdrawn. If there were neither a valid agency nor ratification of the transfer, there could have been no expropriation or transfer of the income shares and no substantive basis for associated oppression. It is undisputed that as at 9 February 2005, the period for the plaintiffs to give notice under article 13(c) had not expired and they had not given notice. There was therefore, at that date, neither actual nor deemed notice constituting the board the plaintiffs' agent for a sale of their income shares on the prescribed terms.
289 Contrary to an assumption which appeared to underpin some aspects of the plaintiffs' argument, article 3(b) does not itself constitute or effect a contract of sale between the vendor and a purchaser of the shares.[77] Rather, article 3(b) constitutes the board the agent for the vendor if the condition of notice is met and the board is then authorised (although not obliged) to conclude a contract of sale within the scope of its limited agency. No time frame is prescribed either for a sale under article 3(b) or a valuation in relation to such sale should it be required. The board may, by implication, be obliged to take steps to appoint a valuer where that becomes necessary, but it appears to have no other obligations under article 3(b).
290 While the plaintiffs characterise the purported conclusion of a sale of their income shares prior to the establishment of agency as a breach of article 3(b), more accurately, the prematurity of the transfer deprived it of the validity which compliance with article 13(c) would have secured. A purported transfer of shares which is invalid because effected by persons with neither title nor authority is not so much a breach of an article as without legal force. The plaintiffs would remain the equitable owners of the shares if the transfer were not registered. If it were registered, they could seek rectification of the register. In the present case, no share transfers were executed or registered at the time of the transaction. The plaintiffs would not have been deprived of their equitable or legal title to the subject matter of the sale, absent ratification.
291 Further, I am not, in any event, persuaded that the plaintiffs' letter of 14 February 2005 was incapable of amounting to ratification of the transfer. By the letter, the plaintiffs, who had been informed of the shares' cancellation, gave notice under article 13(c) of their intention to transfer the shares in accordance with the article 3(b). They apparently assumed that cancellation posed no obstacle to the subsequent transfer of the shares. The letter of 14 February 2005 and the plaintiffs' subsequent correspondence make clear that they were not concerned about the technical means of their loss of ownership of the shares but principally wished to obtain a valuation of the shares under the articles (which they assumed would result in a higher price for their shares). Although ratification requires full knowledge of the essential facts,[78] the plaintiffs evinced no understanding of, or concern over, the distinction between transfer and cancellation. I am not persuaded that whether the shares were cancelled or transferred was, in context, an essential fact. A transfer, had, albeit unauthorised, already occurred. The plaintiffs, in accepting part payment, appeared willing to adopt the transaction which had already taken place, although misdescribed by Mr Calleja. By their letter of 14 February 2005 and subsequent correspondence, they authorised, and indeed insisted on, a transfer under article 3(b).
292 In any event, the plaintiffs are bound, in the circumstances, by their pleading. I am satisfied, then, that the case should be decided on the basis that the plaintiffs on 14 February 2005 ratified or authorised the transfer of their shares to Nominee Co (which took place on 9 February 2005) under article 3(b). They did not agree with the board on the price for their shares and required that the shares be valued in accordance with the articles. The plaintiffs' contract of sale with Nominee Co thus incorporated a term that, in the absence of agreement, the price of the income shares would be the fair selling value as certified by the company's auditor. While not expressly stated in article 3(b), it was not disputed that the auditor, in making that determination, was to act as an expert, and not as an arbitrator.
293 While article 3(b) does not specify that the auditor's determination will be final and binding on the parties, the omission of an express stipulation to that effect, as Mason P observed in Holt v Cox, adds little, if anything, given that:
[t]he very fact that the parties have nominated in their contract a procedure which delegates to an expert third party the right to determine value seems to import necessarily the agreement that such valuation will bind the parties so long as it is duly made.
294 Such an approach has been followed in other authorities.[79] The parties therefore confided the task to the skill and judgment of the auditor, and agreed, subject to the qualifications set out below, to be bound by the resultant valuation.
295 Historically, there has been a considerable degree of diversity in judicial identification of the deficiencies or flaws sufficient to vitiate an expert valuation. The fundamental principle endorsed in modern Australian authority is that an expert valuation will be binding if it is within the terms of the contract. Conversely, if an expert valuation can be said to depart from the terms of the contract, it will invite curial review and intervention. The fundamental principle is very general, and its application will, in each case, depend on the terms of the particular contract. The decided cases provide guidance on the construction of a contract under which an expert is appointed to determine a value or price. An expert's determination on discretionary matters is not ipso facto immune from review, but where, by the contract, such matters are entrusted to the expert without the prescription of criteria or restrictions, whether express or implied, it has frequently been inferred that the parties intended to be bound by the expert's bona fide judgment, even if it is in some way erroneous. On the other hand, it has been inferred that the parties would not intend to be bound by gross errors of objective fact or mechanical calculation. Further, the expert's determination may fail to satisfy a term of the contract because, when construed in context, the term is held to bear a special meaning which was not addressed.
296 In the present case, neither the articles nor the letter of engagement prescribe any fixed, objective criteria for the valuation. The methodology and the identification and treatment of relevant factors are left to the expert. The nature of the valuation indicates that it involves a discretionary judgment. There may be more than one valid method of assessing the fair selling value of the income shares, 'each giving widely different results, but each being reasonable.'[80] There are many uncertain subsidiary factors and contingencies, the determination of which also involves judgment, which may produce a wide range of different but legitimate opinions and decisions.
297 The auditor is required to determine the 'fair selling value' of the shares. There is nothing in the express terms of article 3(b), the articles as a whole or the surrounding circumstances to indicate that 'fair selling value' bore a special meaning. The parties and the expert witnesses proceeded on the basis that it was equivalent to market value.
298 In my opinion, the choice of valuation methodology employed by the auditor and the determination of subsidiary matters of judgment which in part underlay the choice of methodology were entrusted to the auditor by the parties, and the valuation was not open to challenge or review on the ground of error or mistake, if any, in relation to those matters.
299 The valuation could, however, be vitiated on the basis of fraud, dishonesty, partiality or want of independence. A term that the valuation must be the product of the valuer's independent skill and judgment is readily implied. The defendants contended (in reliance on Macro) that, because the expert was not an arbitrator, the mere appearance of partiality would not suffice to avoid or vitiate an expert valuation.
300 Given the sometimes fine distinction between an appearance of partiality and a finding of partiality on the balance of probabilities, I am not persuaded that the parties would intend to be bound by a valuation attended by a credible appearance, or soundly based apprehension, of partiality. It is not necessary, however, to determine that question in the present case, because I conclude, on the balance of probabilities, that although Mr Ryan was not guilty of collusion, dishonesty or conscious partiality, he did not perform the valuation with the degree of independent skill and judgment and impartiality required of an expert acting between two parties.
301 While it is, as the defendants contended, necessary for the expert to receive instructions and such necessary financial documents and other information as he or she reasonably requires, in the present case, the degree of interaction between the auditor and Mr Calleja (the accountant for the Pilot group of companies) and Mr Calleja's considerable input into the preparation of the valuation (amounting to about 90% of the work) was so extensive that the valuation could not be said to be the independent work of the expert.
302 As Mr Ryan was aware, Nominee Co, the purchaser, was a company related to Pilot Co, customarily employed to 'warehouse' parcels of income shares for the benefit of the Pilot Co's shareholders.
303 The schedule to the valuation report, which constituted the basis of the valuation, was prepared by Mr Calleja and emailed to Mr Ryan. The defendants submitted that the preparation of the schedule, and much of the preceding work, involved essentially mechanical matters. The purchaser's accountant's collaboration, interaction with the valuer and input into the preparation of the valuation report exceeded, however, the mere provision of necessary data.
304 Further, Mr Ryan, in the course of his visits to Pilot Co's offices and telephone conversations with Captains Griffiths and Buck, received the former's forceful view that the income shares were worthless and the instruction to value the shares as he had done before, which, indirectly at least, appeared to invoke a valuation on the basis of the net tangible assets methodology employed in previous reviews by Mr Ryan.
305 The defendants contended that the comments were informal and not solicited by Mr Ryan. There is, however, no evidence that he declined to engage in conversation with the officers of Pilot Co on the topic of the valuation or rejected such interchange as inappropriate. Mr Ryan, it is true, gave evidence that he disregarded the comments. In contrast to Macro (where the auditor ultimately disagreed with the purchaser's solicitor with whom he imprudently discussed the valuation), in the present case, Mr Ryan employed the method indirectly advocated by Captain Buck and concluded (in accordance with Captain Griffiths' 'forceful' observation), that the plaintiffs' income shares were next to worthless. While Mr Ryan may not have consciously acted on the comments, it is probable that they influenced him.
306 Mr Ryan was also familiar with the Deloitte draft reports prepared for the purpose of litigation with a retiring pilot and his family over the value of their shares. By Mr Ryan's own account, the contents and methodology of the Deloitte draft reports had influenced him, in that, while he already held the same views, he did so 'especially' after the date of the Deloitte reports. While Mr Ryan is not be criticised for his familiarity with the Deloitte draft reports, or their influence on his views, such matters are relevant to the question whether, in all the circumstances of the case, the valuation was independent and impartial.
307 Mr Ryan was not an arbitrator and hence was not obliged to receive submissions from the parties, but he was not prohibited from doing so. In many cases (for example, Holt v Cox and Toll), expert valuers invite and receive submissions from the parties. Mr Ryan received the views of parties associated with the purchaser (albeit unsolicited) during the course of the valuation. He was, from the outset, familiar with an expert report commissioned by Pilot Co in an adversarial context, which, he conceded, had fortified his existing view that the net tangible assets method of valuation was appropriate. He was also in continuous contact with Pilot Co's accountant who had very substantial input into the preparation of the valuation report. The plaintiffs were not advised of the role of Mr Calleja or of the information or materials provided to the auditor. Their requests for information about the documents provided to the auditor were denied. Mr Ryan was placed in a difficult position in relation to the conduct of the valuation. As a result of his role as auditor, he was familiar with a valuation analysis predicated on a method which appeared to produce a low value for income shares relative to some other valuation methods. He was also invited to use Mr Calleja's services, apparently in order to minimise cost. He conscientiously sought legal advice on the entitlement of the parties to make submissions. Given the context, however, the rejection of the plaintiffs' attempts to make submissions fortifies the conclusion that the valuation was not, in all the circumstances, independent or impartial.
308 Mr Ryan's approach to the task of valuation was informed by the erroneous understanding that he was not acting an independent expert certifying an opinion binding on a vendor and purchaser, but as an auditor responsible to the board of Pilot Co.
309 I conclude that, in all the circumstances, the auditor's valuation report dated 2 June 2005 is vitiated by partiality and want of independence.
310 The defendants have not breached the contract of sale for the plaintiffs' income shares by the reason of the failure of the price fixing mechanism. In my opinion, the plaintiffs have not established breach of contract (whether constituted by the articles or otherwise) or associated oppression. They are not entitled to damages for breach of contract or compensation for oppression. Authority on the course properly to be adopted by the court in a case such as the present is scant. Clearly, the valuation should not be remitted to the expert where the reason for its invalidity is a want of independence or partiality. The plaintiffs contend that the Court should, in the present case, fix the price. While the parties each led expert evidence in relation to valuation, in contrast to Mr Ferrier, Mr Reid was not instructed to value the plaintiffs' income shares. Rather, he was instructed to offer a critique of Mr Ferrier's methodology, together with its underlying assumptions and application. The establishment of a commercial rate of salary for the shareholder pilots was a significant factor in the valuation of the shares, which had the potential to influence the selection of the valuation methodology and, perhaps, to reduce the disparity in the value produced by the different methods adopted. The evidence of the salaries of sea pilots employed in other ports (led in relation to establishing a commercial rate of salary for the shareholder pilots) was, however, neither comprehensive nor clear. It emerged in an ad hoc way during the course of the trial, probably because the issue developed an importance which had not been anticipated.
311 In such circumstances, it is inappropriate that I determine the fair selling value of the plaintiffs' income shares, even if empowered to do so. The proper course is, in my opinion, to remit the valuation to an independent expert valuer agreed on by the parties or, failing such agreement, to refer the determination of the fair selling value as between a willing vendor and a wiling purchaser of the plaintiffs' income shares as at 9 February 2005 to an expert valuer under Order 50 of the Supreme Court Rules, with directions that the parties may make such submissions and provide such material as they shall be advised to that expert. It is, in my view, inappropriate to express any view on the method of valuation to be adopted or the discrete issues relevant to the selection and application of a methodology.
312 The plaintiffs were no longer members of Pilot Co at the date of issuing the present proceeding, but contend that they are entitled to apply for relief under s 233 of the Corporations Act for oppression constituted by the reversal of the board's decision to pay a dividend as a result of Captain Beevers' refusal to make up leave days in the Time Off Book.
313 Section 234(d) of the Corporations Act provides that an application for an order under s 233 in relation to a company may be made by a person who has ceased to be a member of the company if the application related to the circumstances in which they ceased to be a member.
314 I am not persuaded that the dispute over the Time Off Book and the associated reversal of the decision to pay dividends is relevantly related to the circumstances in which the plaintiffs ceased to be members of Pilot Co. They ceased to be members as a result of Captain Beevers' retirement on 7 February 2005 and the consequential transfer of their income shares.
315 The dispute between Pilot Co and Captain Beevers occurred prior to, and independently of, his resignation, of which notice had not, at that stage, been given. The use of the Time Off book was required by the company throughout a pilots' employment and there is no direct or substantial association between the board's response to Captain Beevers' refusal to comply with the established practice and the cessation of the plaintiffs' membership.
316 Further, I am not, in any event, persuaded that the board's determination to reverse its earlier decision constituted oppression.
317 In Dynasty Pty Ltd v Coombs,[81] the Full Court of the Federal Court relevantly stated:
Section 260 is concerned with "commercial unfairness" (Wayde & Anor v New South Wales Rugby League Ltd [1985] HCA 68; (1985) 3 ACLC 799; (1985) 61 ALR 225; see also Morgan v 45 Flers Avenue Pty Ltd & Anor (1987) 5 ACLC 222; (1986) 10 ACLR 692 where Young J at ACLC 233; ACLR 704 suggested that the court should ask 'whether objectively in the eyes of a commercial bystander, there has been unfairness, namely conduct that is so unfair that reasonable directors who consider the matter would not have thought the decision fair'). His Honour adopted that test: so also do we.[82]
318 In view of the nature, structure and history of Pilot Co, its features of a quasi-partnership, its longstanding practices designed to ensure equality of pilot shareholdings, work participation and remuneration, and the related role of the Time Off book to which Captain Griffiths deposed, I am not persuaded that, objectively, in the eyes of a reasonable commercial bystander, the reversal of the decision to pay a dividend to all income shareholders would have been considered unfair to particular income shareholders in circumstances where the associated working pilot refused to comply with the company's long-established practice designed to ensure equality.
319 It follows, in my opinion, that the plaintiffs are not entitled to damages for breach of contract, breach of duty, an order under s 233 of the Corporations Act or equitable compensation.
320 They are, however, entitled to declarations (broadly in the terms sought in the amended statement of claim) that Nominee Co on 9 February 2005 purchased their income shares, that the auditor's certificate dated 2 June 2005 is not in accordance with the terms of article 3(b) incorporated into the contracts of sale and to orders for the appointment of an independent valuer agreed on by the parties to determine the fair selling value of the income shares, or alternatively, an order referring that question to an expert pursuant to Order 50 of the Supreme Court Rules, together with any consequential directions or orders. The determination of the counterclaim (in which Nominee Co seeks recovery of the alleged overpayment for the plaintiffs' income shares) will be deferred until the independent valuer's determination has been received.
[1] Mr Calleja was formally employed by Plant Co but also acted as the accountant for Pilot Co and Nominee Co.
Beevers & Anor
Port Phillip Sea Pilots Pty Ltd & Anor [2007] VSC 556
(1982) 149 CLR 337
(1985) 61 ALR 225