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[1990] ZASCA 66
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Commissioner for Inland Revenue v Ocean Manufacturing Ltd. (483/88) [1990] ZASCA 66; 1990 (3) SA 610 (AD); [1990] 2 All SA 422 (A) (1 June 1990)
Case No. 483/88 E du P
IN THE SUPREME COURT OF SOUTH
AFRICA (APPELLATE DIVISION)
In the matter between:
COMMISSIONER FOR INLAND
REVENUE
Appellant
and
OCEAN MANUFACTURING
LIMITED
Respondent
Coram:
CORBETT CJ, BOTHA,
SMALBERGER JJA NICHOLAS et SMUTS AJJA
Heard:
Delivered:
10 May 1990
1
June 1990
2
JUDGMENT NICHOLAS AJA:
This appeal concerns an agreement
("the merger agreement") which was concluded on 24 October
1980. The parties were the
following:
(a) The fourteen persons who owned
the 100 000
issued shares in Ocean
Manufacturing (Proprietary) Limited ("the sellers");
(b) The Brick and Potteries
Company Limited ("the
purchaser"),
which
I
shall
refer to as "B&P";
Ocean
Manufacturing (Proprietary) Limited,
which
I
shall refer to
as "Ocean"; and
Finansbank Limited
("Finansbank").
B & P was incorporated as a
private company in April 1902. Its main object was the manufacture of
bricks, tiles, pipes and earthenware.
On 29 December 1913 it became a
public company and its shares were listed on the Johannesburg Stock
Exchange ("JSE"). It
had a number of subsidiaries. In about
1974 it acquired all the issued shares in Model Homes and Property
Development Corporation
3
Limited ("Model Homes"),
and property development and share dealing became the major business
of the group of which B&P
was the holding company. Towards the
end of 1978, the B&P group encountered serious financial
problems, and B&P was in danger
of liquidation. A solution was
found in a scheme of arrangement in terms of s. 311 of the Companies
Act, 1973 which was duly sanctioned
on 20 March 1979. Under the
scheme B&P retained as "shell" companies with minimal
assets and no
liabilities fifteen of the
companies in the group, namely,
Model Homes and fourteen smaller
subsidiaries. It appeared from its balance sheet for the year ended
30 June 1980 that Model Homes
was then insolvent. The listing of
B&P's shares had been suspended by the JSE, which indicated in
April 1980 that unless appropriate
action was taken before the end of
August 1980 to acquire assets and to secure the reinstatement of its
listing, the JSE would take
steps to delist the shares.
Ocean was incorporated in the
Republic of South
4
Africa on 19 January 1971. It was
started by Capri International Limited, a Zimbabwean company listed
on the Zimbabwe Stock Exchange.
As at April 1980 about 70% of the
shares of Ocean were held by non-residents of the Republic of South
Africa. Most of them, including
Capri International, were
Zimbabweans. Ocean carried on business as a manufacturer and
distributor of domestic refrigerators and
freezers and an importer
and distributor of electric appliances. Its business expanded rapidly
from a turn-over of approximately
R3 million in 1976 to R8.7 million
in 1980. In the same period its profit before tax increased from R8
000 to R564 000. At the end
of 1979 Ocean required an injection of
capital in order to maintain its growth and its liquidity position.
In this regard its shareholders
and directors were faced with
problems: the company's borrowings were limited because of exchange
control restrictions, and its shareholders
were unable or reluctant
to put additional ioan or share capital into the company; and it was
foreseen
5
that its Zimbabwean background and
image might give rise to difficulties because of political
considerations and pressures. Ocean's
directors decided that its
problems might be solved by obtaining the listing of Ocean on the
JSE. They accordingly approached Finansbank
for advice.
Finansbank carries on business as
a merchant bank. It had become involved in B&P as a result of
making financial facilities available
to Edglen Limited for it to
acquire about 48% of the equity of B&P. Edglen
encounteredfinancial-difficulties, and on 2 February
1977 Finansbank
exercised its rights over 1 076 876 shares in B&P which Edglen
had pledged to it as security. During 1978 Finansbank
granted
substantial loan and guarantee facilities to companies in the B&P
group, and in consequence sustained losses. After the
sanction of the
scheme of arrangement referred to above, Finansbank exercised control
of B&P, and it was anxious to revitalize
the B&P group so as
to recoup its losses.
6
Mr King, representing Ocean,
approached Finansbank for advice. He was told that, having regard to
the reguirements and conditions
of the JSE and the costs of a primary
listing, the best solution to Ocean's problems appeared to be a
"back-door listing"
by means of a reverse take-over
arrangement. Finansbank informed King that it controlled B&P,
which could be made available for
a reverse take-over, and that
certain companies in the B&P group had
assessed losses. Specific
reference was made to the fact
that the tax assessment of Model
Homes for the year ending 30 June 1977 reflected an assessed loss of
R775 304.
Intensive negotiations followed,
culminating in the-
conclusion of the merger agreement
on 24 October 1980. In
terms of clause 3 of the merger
agreement:
"3. The sellers (sc. the
shareholders in Ocean) hereby jointly and severally sell to the
purchaser (sc. B&P), who hereby
purchases the shares (sc. all the
issued shares in Ocean) from the sellers and on completion of the
conditions precedent the risk
and benefit are deemed to have passed
from the effective date."
7
(The "conditions precedent"
were set out in clause 2:
"2.1.1 the approval, insofar
as may be
necessary, of the South African
exchange control authorities to the sale in terms of this agreement
by any of the sellers who are
non-residents of their shares in the
capital of the company;
2.1.2 the granting by the JSE of a
listing of
the new B&P shares on the
basis that such shares shall rank
pari passu
in all respects
with the other shares in the capital of Brick and Potteries after
giving effect to the provisions of clause 2.1.3.;
2.1.3. the restructuring of the
capital of Brick and Potteries to provide for the following, namely:-
2.1.3.1. the conversion of the
entire
existing share capital of Brick
and Potteries into
shares of
no par value;
the consolidation of each of the
existing shares on the basis that there will be one consolidated
share for every existing 50 (fifty)
shares;
the increase in the authorised
share capital of Brick and Potteries by the creation of
8
4 900 000 new shares in the
capital of Brick and Potteries;
2.1.3.4. a rights issue being
undertaken by Brick and Potteries on the basis that shareholders
(being the holders of 65 000 consolidated
shares) will be entitled to
10 (ten) new B&P shares at 98 cents per share for each one
consolidated share held by them;
2.1.4 the passing of a resolution
by the shareholders of the purchaser in general meeting:-
approving of the transaction and
placing the new B&P shares
under the control of the directors of the purchaser and agreeing to
their allotting such shares in
terms of this agreement.
2.1.5.
2.2.
2.3.
",
)
Clause 4 provided:
9
"4. 4.1. In consideration for
the acquisition of the shares the purchaser will allot and issue to
the sellers the new B&P
shares credited as fully paid.
4.2. The number of new B&P
shares which each of the sellers is to receive pursuant to the
provisions of clause 4.1 above shall
be as set out in the schedule of
shares."
Under clause 9.1 Finansbank
undertook to underwrite the
rights issue referred to in clause
2.1.3.4 at no cost, and
it was agreed
that the services of Finansbank as
a
merchant
banker would be employed at an
agreed fee by the purchaser
(B&P)," for the purposes
of assisting in the fulfilment of
the conditions precedent as well
as in respect of the
transmuted listing statement and
circulars to shareholders
which will be issued to the
purchaser in accordance with JSE
requirements."
In terms of clause 11 -
"11. It is hereby recorded
that the parties have agreed that:-
10
11.1 as soon as is
reasonably
possible hereafter the company
(sc. Ocean) shall
sell its
business as a going concern to
Model Homes &
Property
Development Corporation Limited
(which is a subsidiary
of Brick
and Potteries) on reasonable
terms and conditions; and
11.2 "
The conditions precedent were duly
fulfiiled and effect was given to the provisions of the agreement. In
practical terms the results
were these:
(a) The shareholders of Ocean
acquired 75% of the
shares in B&P as restructured;
(b) B&P acquired the whole of
the issued shares in
Ocean;
B&P's existing shareholders
got 25% of the new shares in B&P; and
B&P received R637 500 from
the rights issue.
In regard to clause 11(1), it had
been planned to
11
transfer the business assets of
Ocean to Model Homes as from 1 January 1981, but delays were
occasioned by a number of factors, including
"the ramifications
of the sale, as well as the question whether the assets should be
sold or leased, the tax implications ...and
the preparation of a
formal agreement." In the result no formal agreement was
prepared since this was not considered necessary,
and the transfer of
the assets at their book value took effect on 1 July 1981. (The
agreement concluded in pursuance of claúse
11(1) will be
referred to hereinafter as "the transfer agreement".)
There followed
changes in the names of some of the
companies
concerned. B&P was renamed Ocean Manufacturing Group Limited;
Ocean was renamed Ocean Manufacturing Appliances (Pty)
Limited; and
Model Homes was renamed Ocean Manufacturing Limited in order to
preserve the goodwill of the business acquired by it
from Ocean. For
the sake of brevity and in order to avoid confusion,
I
shall continue to refer to the companies by
their former names.
12
In respect of the years of
assessment ended on 30.
June 1981 and 1982 Model Homes (under its
new name of Ocean
Manufacturing Limited) submitted returns of its
income
together with supporting accounts, in which it set
off
against its taxable income certain assessed losses.
The
Commissioner for Inland Revenue declined to allow the set-
off
of such losses against the income of Model Homes, and on
that
basis issued the following revised assessments:
Tax
Year
Taxable Income
(
assessed loss
)
1981 R101
1982
(R2
223 174)
In disallowing the losses, the
Commissioner relied
on s. 103(2) of the Income Tax
Act, 1962 which, as it stood
at the relevant time, provided as
follows:
"(2) Whenever the
Commissioner is satisfied that any agreement affecting any company or
any change in the shareholding in any
company, as a direct or
indirect result of which income has been received by or has accrued
to that company during any year of assessment,
has at any time before
or after the commencement of the Income Tax Act, 1946, been
13
entered into or effected by any
person solely or mainly for the purpose of utilizing any assessed
loss or any balance of assessed
loss incurred by the company, in
order to avoid liability on the part of that company or any other
person for the payment of any
tax, duty or levy on income, or to
reduce the amount thereof, the set-off of any such assessed loss or
balance of assessed loss against
any such income shall be
disallowed."
Model Homes taxpayer lodged an
objection on the ground that the provisions of s 103(2) of the Act
were not applicable. On 21 May 1984
the objection was disallowed.
Thereupon Model Homes noted an appeal to the Income Tax Special
Court.
The appeal was
heard by the Transvaal Income
Tax
Special Court, with KRIEGLER J
presiding. No evidence was
led. The facts which the parties
considered relevant were
set out in a Statement of Agreed
Facts. In the judgment
delivered on 20 August 1986 the
appeal was upheld and an
order was made that
"The assessments in respect
of the appellant's years of assessment ended 30th June 1981 and 30th
June 1982 are set aside. Such
assessments are
14
referred back for recalculation by
the Commissioner on the basis that the provisions of section 103(2)
of the Act are applicable to
neither and for correction of the
póssible arithmetical error in the 1982 assessment."
(The reason for the reference back
"for correction"was that
it appeared in the special court
proceedings that "the.
assessment for the 1982 tax year
erroneously reflected what
had been a trading loss of R192
285 as a profit.")
In the special court the
contention of
the Commissioner's representative
was that in considering
whether s 103(2) was applicable,
the agreement to be examined
was not the merger agreement
(which was referred to in
KRIEGLER J's judgment as "the
take-over agreement" or "the
main agreement") but the
transfer agreement (which was
referred to in the judgment as
"the subsidiary agreement").
KRIEGLER J said that he was
convinced "as a question of law
that the substratum of the
argument was fallacious", and
continued:
"It is clear that the main
agreement, which
15
forms part of the dossier and the
effect of which is explained in the Statement of Agreed Facts,
constituted a multi-faceted and complex
integration of many rights
and obligations between a variety of parties. It arranged the
inter-relationship between various categories
of parties and
carefully sought to ensure that the performance of each obligation
was conditional upon the performance of all other
obligations. Mr
Swersky's description thereof as 'a complete package' is apt. The
transfer by Ocean to Model of the former's business
as a going
concern was an integral, indeed an essential, component of the
package. However, it was no more than that. It was not
the primary
purpose of the package but merely an essential component, as was the
injection of capital into B & P (to be underwritten
by
Finansbank) and the relisting of B & P's shares on the
Johannesburg Stock Exchange. The whole structure was interdependent,
each component being necessary for the cohesion and success of the
whole.
In those circumstances it is not
permissible to isolate one term, in this instance clause 11, and to
elevate it to the status of a
substantive agreement ...."
The learned judge said further -
" ...The 'agreement affecting
any company' which resulted in the receipt of income by Model is the
main agreement, including
the provision for the consensual take-over
by Model of Ocean's business. Once one adopts that perspective the
conclusion on the facts
is unavoidable. We are
16
satisfied that the appellant has
discharged the onus resting on it to establish on a balance of
probabilities that utilization of
Model's assessed loss was not the
sole or main purpose of any of the parties who entered into the main
agreement."
He proceeded to consider in turn
each category of parties to
the main agreement, and then set
out the special court's
conclusion:
"The conclusion to which wê
have come is that even if Model had had no assessed loss the whole
transaction would have been
so advantageous to each of the interested
parties that they would still have struck the deal substantially
along the lines and on
the terms they did."
An appeal to the Transvaal
Provincial Division was dismissed with costs on 13 April 1988. PREISS
J (with whom KIRK-COHEN and VAN DER
MERWE JJ concurred) agreed with
KRIEGLER J that what had to be ascertained was whether the
utilisation of the assessed loss was the
sole or main purpose of the
merger agreement. The Commissioner now appeals to this court.
The narrow question for decision
in this appeal is
17
whether the transfer agreement is
an agreement which falls within the ambit of s. 103(2) of the Income
Tax Act. It cannot be disputed
that it has all the characteristics
set out in this provision:
1. It is an "agreement
affecting any company"
(i.e. Model Homes).
As a direct result of the
arrangêment income was received by that company.
Presumptively
the agreement
was entered into"
solely or mainly for the purpose of utilizing
that
company's assessed loss in order to avoid
tax
liability.
It was held in the special court
and in the Transvaal Provincial Division that the Commissioner was
not entitled to disallow the set-off
of the assessed loss against the
income received. This conclusion was reached on the basis of a
finding that the agreement to be
considered was not the transfer
agreement but the merger agreement. The
18
conclusion on the facts was that
the taxpayer discharged the onus of establishing that the utilization
of the assessed loss of Model
Homes was not the sole or main purpose
of any of the parties who entered into the merger agreement.
I
am,
with respect and for the reasons which follow, constrained to
disagree with the courts below.
Clause 11 of the merger agreement
did not itself create rights and obligations. It was an agreement to
agree in future on "reasonable
terms and conditions" and as
such was not legally enforceable. Model Homes was not a party to
clause 11. The merger agreement
did not affect Model Homes, and
neither directly nor indirectly did it result in income being
received by Model Homes.
The transfer of Ocean's business
as a going concern was not a component, essential or otherwise, of
the "complete package"
wrapped up in the main or merger
agreement. It was not like "the injection of capital into B&P
(to be underwritten by Finansbank)
and the relisting of B&P's
shares
19
on the Johannesburg Stock
Exchange" referred to by KRIEGLER
J. Those were conditions
precedent, subject to the
fulfilment of which the entire
agreement was subject. The
transfer was not a part of the
reconstruction, which was in
no way dependent upon it: the
agreement contemplated in
clause 11 was to be concluded
after the reconstruction had
been achieved. The transfer was an
internal re-arrangement
of assets between subsidiaries of
B&P, and it formed no part
of the "multi-faceted and
complex integration of many rights
and obligations between a variety
of parties." This is made
clear by paragraph 11.9 of the
Statement of Agreed Facts:
"11.9 In summary the
transaction, as a whole, was motivated on the part of Ocean
shareholders by the desire to have a public
listed company for all
the incidental advantages to the Ocean Manufacturing group. The
transaction would have taken place whether
or not Model Homes'had an
assessed loss ...."
It follows from this that the
transaction would have taken
place whether or not clause 11 was
included in the merger
20 .
agreement.
In my opinion therefore the
learned judge's reasoning does not provide a sound basis for his
conclusion.
The main argument advanced in this
court by Mr
Swerky
on behalf of Model Homes was this. He
conceded that "as a matter of legal form" there were two
agreements - the merger
agreement and the transfer agreement. Model
Homes was not a party to the merger agreement, in the negotiation of
which the parties
were at arms' length and engaged in hard
bargaining. "In legal form" Model Homes was a party to the
transfer agreement,
but as it was a wholly-owned subsidiary of B&P,
it had "no independent mind, interest or purposes; it was
formally carrying
out what had already been agreed in substance
between the parties to the merger agreement." The transfer of
the business to
Model Homes, though "in legal form" an
agreement between Model Homes and Ocean, was "in commercial
reality an implementation
of an arrangement-between Finansbank, B&P
and Ocean and was nothing more than
21
an integral component of the
merger of interest which had been provided for in the main
agreement." He submitted that "there
was, effectively, from
an economic and business point of view, only one transaction."
I
am
at a loss to understand all this. The word
agreement
as used in s 103(2) connotes a contract, that is, an agreement which
is legally binding and enforceable between
the
parties. Any implication that an agreement "in legal form"
is something less than or different from such an agreement,
is to be
rejected.
Nothing was disclosed in the
Statement of Agreed Facts as to the way in which the transfer
agreement was concluded or as to its terms.
Mr.
Swersky
may
well be correct when he suggests that its terms and conditions were
imposed on Model Homes and Ocean by B&P, in which the
former
shareholders in Ocean had acquired a controlling interest. But it is
accepted in the Statement of Agreed Facts that an
agreement having legal
consequences was concluded between
22
Model Homes and Ocean.
On the facts there is no basis for
the submission that there was here, effectively and from an economic
and business point of view,
only one transaction. Although it is
correct that the transfer agreement would not have been entered into
but for the merger agreement,
the fact is that they were discrete
transactions, and the transfer agreement, although contemplated by
clause 11, was in no way a
component of the merger agreement.
The conclusion is that what has to
be considered is the purpose of the parties to the transfer agreement
in entering into that agreement.
It could not be disputed that the
sole purpose was to utilize the assessed loss of Model Homes to avoid
liability for tax, and that
is abundantly clear from the Statement of
Agreed Facts. There could be no other purpose. With the completion of
the reconstruction,
Ocean, with its profitable business, became a
fully owned subsidiary of B&P, and there could be no point, apart
from
23
tax avoidance, in transferring
that busineso to another fully-owned subsidiary having an assessed
loss.
In an alternative argument, Mr
Swersky
submitted that on a proper interpretation, the
expression "any agreement affecting any company" in s
103(2) "is restricted
to an agreement which affects the
control
of the company or one which affects any person's right to participate
in the profits or dividends of the company."
In my opinion there is nothing to
warrant that interpretation.
Any
is "a word of wide and
ungualified generality. It may be restricted by the subject-matter or
the context, but
prima facie
it is unlimited." (
Per
INNES CJ in
R v. Hugo
1926 AD 268
at 271). "In its
natural and ordinary sense,
any
- unless restricted by the
context - is an indefinite term which includes all of the things to
which it relates." (
per
INNES JA in
Hayne & Co
v.Kaffrarian Steam
Mill Co Ltd.
1914 AD 363
at 371.)
In regard to the subject-matter
there is nothing
24
in s. 103(2) to
suggest that the word
any
was used in a limited sense. S 103(2) does not impose a tax, but
relates to agreements designed for the avoidance of tax liability.
It
should be construed in such a way as to advance the remedy provided
by the sub-section and suppress the mischief against
which
it is directed. The Commissioner's powers should not be restricted
unnecessarily by interpretation. (See
Glen
Anil Development Corporation Limited v. S.I.R.
1975(4) SA
715(A) at 727 H-728 A). In
regard to the context, s 103(2) relates to "any agreement
affecting any company
or any change
in
the shareholding in any company
..."
In using the words
I
have
underlined, the legislature has provided for the sort
of
case referred to by counsel; it is unlikely that it could
have
intended that it should be covered also by the earlier words.
Counsel sought to rely on the
eiusdem generis
rule.
25
A single species (in this case
"any agreement affecting any change in the shareholding in any
company") does not constitute
a
genus
. (See
Craies on
Statute Law
7th ed, 181. "Unless you can find a category",
said FARWELL LJ in
Tillmans & Co v. SS Knutsford
(1908) 2
KB 385
, 403, "there is no room for the application of the
eiusdem generis
doctrine.")
Another argument by Mr
Swersky
was this. The legislature could not have intended that a company
which had suffered a loss (and, as a result, had an assessed loss)
would not be able to make up that loss and turn the company into a
profit-making concern by acquiring other business assets. S 103(2)
was not designed to counter this or to prevent a taxpayer from
setting off the conseguent profits against the assessed loss.
That is no doubt correct if the
sole or main purpose of the acquisition is only to make profits. What
s 103(2) is aimed at is an agreement
which has tax avoidance
26
as its sole or main purpose.
In regard to the order to be made,
Mr
Southwood
, senior counsel for the Commissioner, pointed out
that in the 1981 tax year, Model Homes did not receive income under
the transfer
agreement, and in consequence s 103(2) did not apply.
The assessments should, therefore, be revised. It was not contended
by the
respondent that this should affect the costs of appeal.
The following order is made:
The appeal is upheld with costs,
including the costs of two counsel.
The order made by the Transvaal
Provincial Division is set aside and the following is substituted:
(i) The appeal is allowed with
costs,
including the costs of two
counsel.
(ii) The order made by the special
court is set aside and the following is substituted:
27
"The assessments in respect
of the years of assessment ended 30 June 1981 and 30 June 1982 are
set aside and referred back to
the Commissioner for re-assessment in
the light of this judgment and for correction if necessary of the
possible arithmetical error
in the 1982 assessment."
NICHOLAS AJA
CORBETT CJ
BOTHA JA Concur SMALBERGER JA
SMUTS AJA