Last week, the Court of Appeal for Ontario released its judgment in DBDC Spadina Ltd. v. Walton, 2018 ONCA 60 (Ont. C.A.). In my opinion it is essential reading. The judgment deals with an equitable doctrine (“knowing assistance”) governing accessorial liability to breach of fiduciary duty. This form of liability is one that has a high fault requirement that tests both the accessory’s actual knowledge of the principal wrongdoer’s improper acts, and, that the principal wrongdoer’s conduct is itself “dishonest and fraudulent.” These fault requirements mean that accessorial liability of rather narrow scope. This latest judgement provides a useful platform to review the law on point in anticipation of the possibility of an appeal to the Supreme Court of Canada, made likely through the principled and forceful dissent of Justice van Renburg in the Court of Appeal.
Given the nature of the issues and what I expect will be the importance of this case, I will discuss it in three blog posts this week. Readers will please forgive me these lengthier-than-usual posts but I believe that the subject-matter warrants a fuller treatment than I would ordinarily offer.
The Fraud
DBDC Spadina Ltd. v. Walton has been a long-running matter on the Commercial List in Toronto dealing with a complex multi-million dollar commercial real estate fraud. The most recent judgment of the Court of Appeal is an interesting one in that it is not centred on the direct liability of the fraudsters. Rather, the theory of liability explored in the judgment is in respect of the liability of certain corporations in which other victims of the fraud invested and which were used to further the fraud – in other words, a competition between the victims of the fraud in respect of priority over assets fought out through the application of notoriously difficult equitable principles dealing with accessorial liability.
Commercial frauds are often complicated to follow on the evidence but simple in concept, and that is the case in DBDC Spadina Ltd. v. Walton. Here two lawyers operated real estate investment companies. Offers were made to individuals to participate in real estate investments in equal-partnership single-property ventures. Investors’ contributions would be matched by the fraudsters’ corporations. Third party investors would not be admitted to these two-party co-ventureships and the funds invested in any particular property would be dedicated to that property exclusively. As Justice Blair held in the Court of Appeal, “[i]nstead of investing any significant funds of their own, however… [the fraudsters] moved their investors’ monies in and out of the numerous corporations, through their own ‘clearing house’… in a shell game designed to avoid their obligations and to further their own personal interests.” As with all frauds, once things began to unravel, they unravelled very fast.
The litigation itself commenced as an application under the oppression provisions of the OBCA by the largest investor, Dr. Stanley K. Bernstein, who had put approximately $111 million into 31 specific properties. He was not the only investor. Another physician, Dr. Christine DeJong, invested approximately $4 million in properties through her holding company. There were other investors as well; indeed, the full particulars of the fraud and its aftermath are laid bare by the various reports of the Court-appointed Inspector and Manager.
The Core Issues
The latest judgment in this saga stems from the successful application and motion made by Dr. Bernstein’s companies for declaratory relief, damages in the amount of $67 million to be paid by the principal fraudsters, and damages in the amount of $22.6 million to be paid by 10 corporations in which the fraudsters were co-venturers together with other victims of the fraud (principally Dr. DeJong’s companies). Hence, a competition between innocents emerged with the sorts of problems that usually are visited upon those seeking to trace their misappropriated assets out of a mixed fund controlled by a wrongdoer – that is, determining rights to compensation out of assets that remain in the hands of the wrongdoers. In DBDC Spadina Ltd. v. Walton, however, the variation on the theme was that the claim to priority was not made on the basis of the tracing rules in respect of property. Rather, the claim to priority was an indirect one; one set of victims attacked corporations partially owned by another set of victims as accessories to the fraud based on the attribution of the knowledge and acts of the fraudster to the corporations (a clever strategy).
A complicating feature in the case was in respect of the evidence before the Court respecting how the fraudsters had misused the funds under their control in the various corporations co-owened with different investors. As tracing leading to proprietary relief was not being sought by the Bernstein investment companies in preference to damages, there was no transactional forensic accounting. Rather, there was a broader, less specific aggregate accounting (“net transfer”) setting out what was misappropriated and diverted from Dr. Bernstein’s investments into corporations in which his companies held no interest.
Two broad issues emerged on appeal.
The first had to do with the doctrine of knowing assistance. “Knowing assistance” and “knowing receipt” are, of course, equitable doctrines which arose from the seminal English case of Barnes v Addy (1874) L.R. 9 Ch. App. 244, which Canadian law retains in its traditional form; Air Canada v. M & L Travel Ltd., [1993] 3 S.C.R. 787 (S.C.C.). In particular, what was at issue in this case was the attribution of knowledge from those with de facto control of a corporation (the fraudsters) to the corporations used in furtherance of the fraud (in which innocent investors were equal shareholders).
A second issue in the case dealt with the propriety of proprietary relief in the form of constructive trusts over four properties in favour of the DeJong corporations based upon breach of fiduciary duty by the fraudsters.
For the majority, Blair J.A. took the view was that “once it is determined that the… [companies into which the misappropriated Bernstein money was paid] knowingly participated in the fraudulent and dishonest breach of fiduciary duty by the… [the fraudsters], the… [Bernstein group] … are entitled to an award of damages against them as knowing accessories to the breach.” In respect of proprietary relief ordered in favour of the DeJong companies, Blair J.A. held that there was an insufficiently close connection between the fraudsters’ breach of fiduciary duty and four specific properties in which Dr. DeJong and others had invested – an order to pay money would suffice. On this latter point there was agreement between all members of the panel that proprietary relief ought not to have been ordered.
Justice van Rensburg J.A. wrote a lengthy dissent respecting whether liability was made out in knowing assistance. She wrote in part:
I conclude that the knowing assistance remedy should not be utilized in these exceptional circumstances – where one group of defrauded investors seeks to obtain judgment sounding in knowing assistance against another group that has been defrauded in a similar manner… I agree with my colleague that the remedy of constructive trust, as argued by DeJong is not available as a matter of law, and that the Application Judge erred in giving DeJong priority over the proceeds of four properties on that basis… In my view, it would be unfair for DeJong’s claims to its advances, which can be traced, but not in a way that would justify a constructive trust, to be obliterated by a damages claim of $22.6 million by the… [Bernstein group] without any evidence that their funds were used in any way (except where a tracing has occurred) to acquire these properties. This result alone is such that the equitable claim of knowing assistance should be denied in this case.
One cannot pretend that DBDC Spadina Ltd. v. Walton is not a complicated case. I will begin unpacking the reasoning tomorrow.
Have a great week,
David