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The recent decision of Basegmez et al. v Akman et al. released by the Ontario Superior Court is a potent reminder that it is important for all business partners, including friends and family members, to reduce their verbal contractual arrangements to writing. Due to the absence of written contracts in this case, a dispute between partners resulted in “misunderstandings, the collapse of a potentially lucrative development opportunity and the destruction of decades-long friendships.”

This case also acts as a further reminder that the requirements of the Ontario Business Corporations Act should always be considered. This includes the requirement to fully disclose contracts that personally benefit one officer or director to other shareholders in writing or risk those contracts being invalidated by the courts.

Three friends and experienced businessmen planned an ambitious property redevelopment together

The issues in Basegmez et al. v. Akman et al., arose from a dispute regarding a property development project. In 2014, the Respondent, Ali Akman (the “Respondent shareholder”) acquired the Delta Hotel in Scarborough for a property redevelopment project. The Respondent shareholder learned that he had secured this property while he was on his yacht in the Turkish Riviera. At the time on the yacht next to him was a business acquaintance, Volkan Basegmez (“Volkan” or the “Applicant shareholders”). The two decided that Volkan would invest $6 million into the property redevelopment project in exchange for a 40% interest.

Three weeks after speaking with Volkan, the Respondent shareholder spoke with his friend and another Applicant in this case, Serdar Kocturk (“Serdar” or the “Applicant shareholders”). The Respondent shareholder and Serdar had a close relationship as they had previously invested in projects and vacationed together. Serdar agreed to pay $3 million for a 20% interest in the project.

The three friends incorporated Tarn Construction together to redevelop the property. They planned to construct two towers with over 700 condominium units, demolish part of the existing hotel to construct a further high-rise condominium and demolish part of the existing hotel’s parking garage to build a low-rise commercial building with parks, restaurants, cafes, and shops.

Applicant shareholders discovered undisclosed contracts between Tarn Construction and a corporation solely held by the Respondent shareholder

The project moved forward until July 2016, when the 2015 financial statements were completed. The financial statements revealed that the Respondent shareholder had created a set of Class B shares that gave him total control of the project, despite only holding 40% of the equity. The Applicant shareholders conducted further investigations into the finances of the project. They quickly discovered that the Respondent shareholder had entered Tarn Financial into a management agreement with a corporation owned by himself while paying that corporation 4% of hotel revenue as a management fee.

The Respondent shareholder had signed an agreement for both Tarn Construction and his solely owned corporation. The Respondent shareholder was also charging Tarn Construction development fees for his work on the project without the knowledge of the Applicant shareholders.

A shareholder dispute resulted in the corporation being ordered to liquidate

The Applicant shareholders believed that the Respondent shareholder was not entitled to charge Tarn Construction development fees because the Respondent shareholder was already receiving a greater rateable portion of equity than the other two.

The Respondent shareholder alleged that the parties had agreed that he could do so. The parties were unable to resolve the disputes amongst themselves, which led to the Applicant shareholders bringing an oppression application before the Ontario Superior Court, seeking a winding up of Tarn Construction.

The oppression remedy was granted and Tarn Financial was ordered to be liquidated.

Lack of written contract deprives shareholder of multi-million dollar claim

Before Tarn Construction could be wound up, a trial was held to resolve outstanding financial issues, including development fees and hotel management fees which the Respondent shareholder claimed.

Regarding development fees, the Respondent shareholder alleged that because third-party developer’s rates were so high, he and the Applicant shareholders had all agreed that he would do the development work for a to-be-determined fee. The development fees being claimed totalled almost $10 million dollars, at which time the Respondent shareholder had been paid $1 million. The Respondent shareholder justified this fee by stating that he had completed significant work to move the project forwards, including rezoning, architectural design, and site plan approval, as well as working with dozens of consultants.

Despite the Respondent shareholder’s insistence that the development fees had been discussed, he could not produce documentation to corroborate his account and the Court held that there was no agreement to pay him development fees.

Respondent shareholder not entitled to development and hotel management fees due to noncompliance with Business Corporations Act

The Court explained that the Respondent shareholder’s claims also ran afoul of section 132 of the Ontario Business Corporations Act, which provides that officers and directors must disclose in writing the nature and extent of their interest in any contract with the corporation, and that this information must be disclosed when the proposed contract is first considered.

The Respondent shareholder did not comply with this requirement regarding the payment of development fees from Tarn Construction to his own corporation, since this was done without the knowledge of the two Applicant shareholders. Regarding hotel management fees, there was a contract between Tarn Construction and the Respondent shareholder’s solely owned corporation, however, this was made without the knowledge of the Applicant shareholders and therefore did not meet the requirements of section 132.

Section 132 of the Business Corporations Act operates to protect shareholders from prejudice or mischief by controlling shareholders

The Court remarked that there are “good policy reasons” for holding the Respondent shareholder to the requirements of section 132 of the Ontario Business Corporations Act. Even when both sides act in good faith, or are parties known to each other, there is often too much room for disagreement about the terms of complex commercial arrangements.

It would also create opportunities for “mischief” by controlling shareholders to benefit themselves and prejudice other shareholders if non-arms-length contracts are not fully disclosed, in writing, to all shareholders.

Contact the Lawyers at Bader Law in Toronto for Advice on Contacts and Shareholder Disputes

The experienced business lawyers at Bader Law regularly advise clients on the full spectrum of business matters, including start-up and reorganization, corporate financing and lending, corporate transactions, shareholders agreements and disputes, employment issues, and more. In the event of a dispute amongst shareholders, our lawyers work to ensure that resolutions are reached in a timely and cost-effective manner. Call us at 289-652-9092 or contact us online to schedule a consultation with a member of our trusted business law team.