Court finds Eric Watson breached fiduciary duty

By Deborah Hill Cone

Friday 4th October 2002

The week in which Warriors owner Eric Watson is being revered as a sporting hero, he has been caned in a damning High Court judgment that found he did the dirty in a business deal.

Top lawyers for the tycoon fought hard to have the embarrassing judgment kept secret but Justice Robert Chambers, who took 10 months to rule on the case, refused to suppress it.

And in response to a written application from The National Business Review this week Justice Tony Randerson released the long-awaited ruling although the file remains confidential.

Justice Chambers found Mr Watson had personally breached his fiduciary duty to Christchurch retailer Greg Lancaster when in 1999 Mr Watson cut him out of a deal to buy listed retailer Pacific Retail Group a transaction Mr Lancaster had brought to Mr Watson in the first place.

The case arose out of the 1998 plan by Mr Lancaster, a founder of Pacific Retail Group and its managing director, and another executive, John Hunter, to launch a management buyout for the company he started.

Mr Lancaster had been effectively nudged out after disagreements with PRG's Scottish shareholder, David Murray, and the executive Mr Murray had installed as Mr Lancaster's deputy, over the direction of the company.

Through high-profile deal broker David Belcher, who put together the buyout of Ansett New Zealand, Mr Lancaster approached Mr Watson and got him to sign a confidentiality agreement before pitching the idea to him.

The plan was for Logan Corporation, a subsidiary of Mr Watson's company Cullen Investments, to do a joint venture with Mr Lancaster and Mr Hunter and to be used as a takeover vehicle to buy out the company and for the veteran retailers to remain in a management role after the deal was done.

Mr Lancaster was to invest the proceeds of sale of shares he already in owned in PRG in the takeover vehicle.

Mr Watson was keen on the idea. He agreed to confidentiality and to take part in the transaction but after the partially successful takeover Logan bought 74% of the shares he "unilaterally changed course" and wrote to Mr Lancaster on May 6, 1999, saying matters were at an end.

Cullen and Mr Watson personally, the court found had breached a duty of "good faith" which had obliged his company Cullen not to buy shares for itself to the exclusion of Mr Lancaster.

Mr Lancaster and Mr Hunter were left out in the cold with no shares in Logan and no management role, despite having masterminded the deal.

They were "incensed" by the way the deal turned out, and believed under their agreement with Mr Watson they were entitled to a shareholding in Logan, to participation in the management of PRG following the takeover and to some of the profit when Logan, as planned, sold its shares.

The court confirmed these aspects were discussed at an October 1998 meeting of Mr Watson, his offsider Maurice Kidd, Mr Lancaster, Mr Hunter and another staff member, Kelly Wright.

The reason the details of the deal were not spelled out in writing before the deal was that if they had signed "formal documentation" they would have been forced to disclose it to the Stock Exchange.

Although no binding contract was signed apart from the confidentiality agreement, it was abundantly clear that an "understanding" was certainly reached, the court found.

"Cullen terminated negotiations with [Mr Lancaster and Mr Hunter] because it decided to move in a different direction in respect of management structure and Mr Lancaster did not fit comfortably with that," Justice Chambers said.

Incidentally, although the judgment notes Mr Wright did not sue Mr Watson and is carrying on working for him at PRG, in fact he left earlier this year to work for Mr Watson's estranged business partner Evan Christian potentially to set up in competition with Mr Watson in the finance business.

Mr Lancaster claimed $9.5 million and Mr Hunter $1.8 million.

The Lancaster case went to arbitration before retired Court of Appeal Judge John Henry, considered one of the country's finest jurists, who found for Mr Lancaster on some points but not on others and ordered Cullen to pay him $1.6 million.

In a complex legal move, both sides appealed the arbitrator's ruling, with Cullen claiming the arbitrator got it wrong on one point of law and Mr Lancaster claiming he had erred in six different areas the main one being that Mr Watson personally owed the same duty as Cullen Investments, which he wholly owns and controls.

Justice Chambers agreed with Mr Lancaster. He found it "inevitable" Mr Watson was personally liable to Mr Lancaster, as well as his company Cullen Investments.

"It was inevitable that Mr Watson, as the man who effectively controls Cullen, should have been found liable with it, either on the basis that he assumed the same fiduciary duty as Cullen or on the basis that as the controller of Cullen he knowingly assisted it to breach its duty."

Justice Chambers also found that both Mr Watson as well as Cullen Investments should have been found liable for breaching the confidentiality agreement they had signed.

By unilaterally changing course after the takeover Mr Watson and Cullen breached the confidentiality agreement.

"At that point their use of the confidential material became wrongful because at that point they used it in a way directly detrimental to the interests of Mr Lancaster."

But although the judgment was a convincing win for Mr Lancaster and highly embarrassing to Mr Watson the amount claimed by Mr Lancaster could not be proven, the arbitrator found and Justice Chambers concurred.

Two of the country's top accountants, Michael Stiassny and Roger France, gave expert evidence about the loss Mr Lancaster would have suffered as a result of being cut out of the deal.

Damages were assessed only for Mr Lancaster's lost opportunity that is, the ability to have found another investor on the terms in the alleged contract. There was a realistic chance Mr Lancaster could have done this, the arbitrator Justice John Henry found.

But Justice Henry put a 70% discount on the claim for damages, reflecting a "conservative scenario" that the outcome would have been the kind of gain Mr Lancaster had envisaged.

Justice Chambers said assessing the discount was a question for the arbitrator so he did not challenge his view but there were some questions over whether damages would have been higher if they had been assessed on a the basis of how much actual benefit accrued to Mr Watson and Cullen.

Michael Camp QC, acting for Mr Lancaster, said "It is important to remember ... the business opportunity has in fact been acquired and retained by the defendant. This is not a case where the plaintiff is suing for damages which reflect the loss of the profits that might otherwise have been made. The plaintiff is suing for a share of the profits which have in fact been made."

But this line had not been argued at arbitration so it could not be challenged now: "It is too late for Messrs Lancaster and Hunter to have second thoughts about that."

The judgment dealt briefly with the fee that was payable to Mr Belcher's merchant bank Clavell Capital.

Mr Lancaster had contracted to pay Clavell $1.8 million, which was not paid, but Mr Belcher received a "success fee" of an undisclosed amount from Cullen.

Mr Camp claimed this fee should be factored into the calculation of Mr Lancaster's damages but Murray Gilbert, acting for Cullen, won the argument on this point.

The parties have 28 days to file an appeal to the High Court ruling.

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