Urichuk v Kent, 2017 ABQB 432

Court of Queen’s Bench of Alberta Citation: Urichuk v Kent, 2017 ABQB 432 Date: 20170711 Docket: 1601 12288 Registry: Calgary Between: Ronald M. Urichuk Applicant - and - Allan Kent Respondent _______________________________________________________ Reasons for Judgment of the Honourable Mr. Justice J.T. McCarthy _______________________________________________________ I. Introduction [ 1 ] The applicant, Ronald Urichuk, seeks leave to commence a derivative action on behalf of Prospect Oil and Gas (“POG”) against the respondent, Allan Kent.

Urichuk alleges that Kent misappropriated corporate funds during a 1994 transaction, and furthermore that he fraudulently concealed this injury until its discovery in 2015. For the reasons that follow, leave is denied. II. The Transaction [ 2 ] The evidence in this matter was contained in a number of affidavits, the exhibits thereto and questioning thereon. [ 3 ] Urichuk and Kent were co-directors of POG. On October 1, 1991, Robert McGregor, a chartered accountant, became the trustee shareholder for Urichuk, who focused on managing field operations.

On December 3, 1991, David Blain, Barrister and Solicitor, wrote to Kent, informing him that he had been reviewing documents on behalf of Urichuk and that he intended to advise Urichuk to appoint McGregor as his nominee director. On December 5, 1991, Urichuk signed a letter from McGregor confirming this arrangement. [ 4 ] POG was affiliated and shared office space with a wider group of oil and gas servicing companies, the Prospect group of companies. POG’s focus was developing the Namaka play.

POG began with around 12 sections of land in this field and, through various purchases and farm-ins, acquired an additional 18-20 sections. This acquisition was financed primarily through the issuance of contractual overriding royalties to associated professionals and by the sale of farm-out agreements to various companies. The purpose of the acquisitions was to gain operatorship of the Namaka play. As operator, POG would be able to charge management fees to the other interest-holders in this field.

[ 5 ] Fairmont Resources Inc (“Fairmont”) was another oil and gas company operating in the same area. Kent was also a director of Fairmont. Fairmont had a 45% working interest in POG’s working interests in Namaka through farm-out agreements. In 1994, several directors of Fairmont got into trouble with the Securities Exchange Commission in the United States. Consequently, Fairmont share prices plummeted. Robert Kolstad and Lawrence Morrisroe took this opportunity to purchase controlling stakes in Fairmont and make themselves directors.

Under Kolstad and Morrisroe’s leadership, Fairmont intended to leverage its 45% working interest in POG’s interests in the Namaka field, plus its significant financial resources, to oust POG as the operator of that field. [ 6 ] POG did not have the financial resources to contend with Fairmont, but wanted to maintain operatorship of the field. It was able to raise $1.4 million from the Prospect group of companies towards acquiring shares in Fairmont in an effort to oust Kolstad and Morrisroe.

This, however, would not be enough, so POG sought an alternative arrangement. [ 7 ] Jeffrey Chad was the sole shareholder and director of Endeavour Resources Ltd (“Endeavour”). Endeavour was a minor player in Namaka and an ally of POG. Endeavour also had interests in the Bigstone area, a separate oil and gas play, where it also competed with Fairmont. [ 8 ] Kent and Chad worked together to remove Kolstad and Morrisroe from Fairmont. To this end, they orchestrated the following “Fairmont Transaction”: (

a) POG lent Fairmont $1.4 million in exchange for a promissory note and a debenture. Endeavour also lent money to Fairmont in exchange for a $1.2 million promissory note, a $2 million debenture, and an undertaking to assign certain Bigstone properties to Endeavour. (

b) POG and Endeavour both assigned their promissory notes and debentures to 567895 Alberta Ltd (“567”), a shelf company directed by Chad and Kent, for promissory notes from that company. (c) 567 assigned the Fairmont debentures and notes to the corporate vehicles of Kolstad and Morrisroe in exchange for 4,492,297 Fairmont shares. (

d) Fairmont sold its remaining Bigstone assets to pay off the promissory notes now held by Kolstad and Morrisroe. (

e) Fairmont changed its name to Endeavour Resource Inc., under the Endeavour umbrella, and Chad became president of that company. [ 9 ] The first step of the transaction, between POG and Fairmont, was signed off on by McGregor as agent for Urichuk. Kent abstained due to his conflict of interest as a director of Fairmont. McGregor also signed off on the second step, as did Kent, despite his conflict of interest as a director of 567. [ 10 ] POG continued as operator of Namaka, through which it billed hundreds of thousands of dollars yearly in management fees.

The Endeavour shares continued to be held by 567 until 2002, when Endeavour was bought by Aspen Group Resources Corporation and they were exchanged for Aspen shares. In 2007, the promissory note from 567 to POG was called. As payment, the Aspen shares were transferred to a POG bank account and 567 was wound up. III. Issues and the Positions of the Parties [ 11 ] Urichuk asserts that, by failing to abstain from the 567 transaction, Kent misappropriated the $1.4 million from POG and thereby breached sections 120 and 122 of the Business Corporations Act, RSA 2000, c B-9 (“ ABCA ”).

He seeks leave to commence a derivative action on behalf of POG against Kent. [ 12 ] Kent argues that his failure to abstain was an oversight on his or his lawyer’s part and that everyone involved understood that he was in a conflict position. Further, he argues that the derivative application is not being brought in good faith, and is not POG’s interest as it is limitation barred. [ 13 ] Section 240(2) of the ABCA provides as follows: No permission [to bring a derivative action] may be granted under subsection (1) unless the Court is satisfied that (

a) the complainant has given reasonable notice to the directors of the corporation or its subsidiary of the complainant's intention to apply to the Court under subsection (1) if the directors of the corporation or its subsidiary do not bring, diligently prosecute, defend or discontinue the action, (

b) the complainant is acting in good faith, and (

c) it appears to be in the interests of the corporation or its subsidiary that the action be brought, prosecuted, defended or discontinued. [ 14 ] Kent concedes that Urichuk is a complainant pursuant to s. 239(

b) of the ABCA and that he has given reasonable notice. The parties disagree as to whether Urichuk is acting in good faith and whether it appears to be in POG’s interests that the action be brought. 1. Is Urichuk acting in good faith? [ 15 ] Urichuk bears the onus of proving on a balance of probabilities that the proposed action is being brought in good faith: Valgardson v Valgardson , 2012 ABCA 124 at paras 13-15 . The Court of Appeal held in that case at para 20:

There is both a subjective and objective component to the requirement of good faith. The subjective aspect requires that the applicantbelieves the proposed derivative action has merit. This guards against actions spurned by self-interest or private vendetta. But even wherethe applicant believes that the proposed action has merit, the court must still consider whether objectively viewed the action is notfrivolous and vexatious. [16] Urichuk argues that he believes the action has merit and that it is not frivolous or vexatious when viewed objectively.

Kentargues that Urichuk does not truly believe that the action has merit and that it is frivolous and vexatious. Kent alleges that Urichuk ispursuing this litigation to obtain a negotiating position regarding ownership of POG. 2. Is the derivative action in POG’s interests? [17] Permission to pursue a derivative action is a discretionary remedy arising out of equitable principles: Black Fluid Inc vOpulence Clothing Inc, 2014 ABQB 138 at para 23.

Before granting permission, a court must undertake a cost-benefit analysis todetermine whether the proposed action appears to be in the interests of the corporation. [18] Urichuk cites Valgardson at para 27 for the proposition that “derivative actions can only be in the interests of…[acorporation] if [it has] some chance of success. Courts have also described this standard as meaning the claims are not bound to fail...thechambers judge correctly recognized this standard”.

The Court in Valgardson cited Mackenzie v Craig, (AB KB),[1997] 205 AR 363, aff’d 1999 ABCA 84, in which, after considering various proposed standards, the Court concluded at para 39: …there is little difference between a claim that has a "reasonable chance of success" and one that is not "obviously spurious, "lacking infoundation", "frivolous and vexatious", or "bound to fail."…As the burden of proof at this stage of the proceedings is lower than "on abalance of probabilities", any uncertainty as to the applicant's chances of success should weigh in his favour as the uncertainty suggeststhat there is a chance that the action will succeed.

This is not to say that any evidence supporting the applicant's position will satisfy thisonus; the Court must be convinced that, having regard to everything presented by all parties, the applicant is not bound to fail. [19] Kent argues that Urichuk must establish a prima facie case before the action will appear to be in POG’s interests, citing BlackFluid at paras 28 and 35.

In Black Fluid, Veit J cited the decision of Slatter J, as he then was, in IGM Resources Corp v 979708 AlbertaLtd, 2004 ABQB 925 at para 30 for the proposition that “[t]he Applicant does not have to prove at this stage that the derivative actionwill succeed, but it must show that there is a prima facie case”. Justice Slatter relied on two cases: Sodhi v Genesis Land DevelopmentCorp, 2004 ABQB 628, aff’d 2005 ABCA 69, and Richardson Greenshields of Canada Ltd v Kalmacoff (1995), (ON CA), 22 OR (3d) 577 (CA).

In Sodhi, Hart J held at para 12 that, “[t]he threshold test requires some evidence to persuade the Courtthat the claim is not spurious...the standard does not rise to the level of prima facie case.” A prima facie standard is not supported byRichardson either.

There, Robins JA held at para 22 that “the court should be satisfied that there is a reasonable basis for the complaintand that the action sought to be instituted is a legitimate or arguable one.” [20] Thus, the correct standard for determining whether a derivative action is in the interests of a corporation is that set out inValgardson, namely, that the claim is not bound to fail. 3. Is the action limitation barred? [21] Urichuk argues that the running of the limitation period was suspended until 2015 due to fraudulent concealment.

Kent arguesthat the limitation period has run and that the action is therefore bound to fail. [22] Section 4(1) of the Limitations Act, RSA 2000, c L-12, states that, “[t]he operation of the limitation period provided bysection 3(1)(

b) or (1.1)(

b) is suspended during any period of time that the defendant fraudulently conceals the fact that the injury forwhich a remedial order is sought has occurred.” Fraudulent concealment in this situation refers to equitable or constructive fraud, ratherthan the common law tort of deceit.

Equitable fraud is defined as "conduct which, having regard to some special relationship between thetwo parties concerned, is an unconscionable thing for the one to do towards the other": Frydman v Pelletier, 2015 ABQB 289 at para173, citing Guerin v R, (SCC), [1984] 2 SCR 335 at 356 and 390. [23] Urichuk argues that the test for fraudulent concealment is properly stated in Ambrozic v Burcevski, 2008 ABCA 194 at para21 as “(1) that the defendant perpetrated some kind of fraud; (2) that the fraud concealed a material fact; and (3) that the plaintiffexercised reasonable diligence to discover the fraud”.

However, Kent correctly points out that the test in Ambrozic is based on theprevious version of the Limitations Act. He cites P(

W) v Alberta, 2014 ABCA 404 at para 34 for the modern test: “(1) [the defendant]perpetrated some kind of fraud; (2) that the fraud concealed the fact of [the plaintiff’s] injury; and (3) that the [plaintiff] exercisedreasonable diligence to discover the fraud.” The Court noted at para 9 that the current legislation refers to concealment of the fact of theinjury while the earlier legislation referred to concealment of the cause of action. [24] Thus, to meet the test in s. 4(1) of the Limitations Act, Urichuk must show that: (

a) Kent engaged in some form of equitable fraud; (

b) This fraud was directed at concealing the fact that the Fairmont debentures had been assigned to 567; and (

c) Urichuk, on behalf of POG exercised reasonable diligence to discover this fraud. [25] Urichuk alleges that there was a special relationship of vulnerability between him and Kent because of the former’srepresentation by McGregor and that, given that vulnerability, it was unconscionable for Kent to fail to disclose the 567 transfer. Further,Urichuk argues that the lack of notes appended to the financial statements between 1994 and 1999 and the absence of any financialstatements at all after 1999 indicate an ongoing fraud to conceal the 567 transfer.

Finally, Urichuk asserts that he did not have notice ofthe transfer until Thorne, an accountant, discovered the 567 transfer in 2015 and that, therefore, he did not fail to exercise reasonable

diligence in uncovering the fraud. [ 26 ] Kent replies that Urichuk had legal advice when hiring McGregor, a widely respected accountant, to represent him. There was therefore no special relationship of vulnerability between Kent and Urichuk. Kent asserts that McGregor was entirely aware of the 567 transfer and signed off on it and that Urichuk’s questioning indicates that he himself may remember the transaction.

Further, the 567 transfer and resulting debt are referred to throughout the substance of the 1990s’ financial statements and also appear in the 2000s’ financial records when proper financial statements were no longer prepared. Further, Urichuk co-signed documents to open a bank account in 2007, the only purpose of which was to hold the Aspen shares transferred to POG as compensation for the called promissory note. Urichuk therefore had ample opportunity to become aware of the transfer and should be treated as having constructive notice of it from the beginning. IV.

Analysis and Conclusion [ 27 ] For the proposed derivative action to appear to be in POG’s interests, it must not be bound to fail. Specifically, Urichuk’s argument that the limitation period was suspended by fraudulent concealment must not be bound to fail. The argument does not meet this threshold. At the time of the 567 transaction, Urichuk was represented by his well-qualified nominee director and shareholder, McGregor. Urichuk was not in a position of vulnerability.

While Kent may have breached his duty to disclose his conflict of interest in the 567 transaction, there was no ongoing fraud to conceal this assignment. The principal owed by 567 is clearly listed in the balance sheets from 1995-1999 and is counted as “due from related companies” in the financial statements. For example, $2,467,567 is shown as owing by 567 in the 1997 “notes to consolidated financial statements”. This does not support fraudulent concealment.

Furthermore, the inclusion of these figures in the financial documents of the corporation suggests that Urichuk or his nominee reasonably could have discovered this transaction. [ 28 ] The issue of good faith was not seriously contested by the parties. Having decided that the action does not appear to be in POG’s interest, it is not necessary for me to determine whether it has been brought in good faith. [ 29 ] In the result, the application is denied. [ 30 ] If the parties are unable to agree on costs they may make an appointment to speak to the same. Heard on the 1 st day of June, 2017.

Dated at the City of Calgary, Alberta this 11 th day of July, 2017. J.T. McCarthy J.C.Q.B.A. Appearances: Paul A. Kazakoff for the Applicant Zul Verjee Q.C. for the Respondent