Funge Systems Inc & Anor v Newcom Tech P/L & Ors No. Scciv-01-810

FUNGE SYSTEMS INCORPORATED V NEWCOM TECHNOLOGIES, NEWCOM HOLDINGS AND KEITH BENSON
[2001] SASC 216

LANDER J. This is an application for an interlocutory injunction.
The first plaintiff, Funge Systems Incorporated, (FSI), was incorporated in Delaware in the United States, and is controlled 81 per cent by Funge Systems International Ltd, (FSIL), a company incorporated in the Cayman Islands. That company was incorporated to act as trustee for a trust which will vest upon FSI being listed on the NASDAQ. The other 19 per cent shareholding in FSI is held by venture capitalists who have invested something in excess of US$8 million in Funge, some time after 16 February 2000.
Funge Merger Corporation, (FMC), was incorporated by the minority shareholders for the purpose of entering into a lending agreement, whereby it would lend FSI a sum of money, probably in excess of $450,000 after FSI went into Chapter 11 bankruptcy in the United States.
The purpose of the lending agreement between FMC and FSI was to fund FSI, and as well as FMC, in proceedings which FMC contemplated FSI bringing in the United States against the defendants in this action. The proposed action is in respect of an agreement said to have been entered on 22 March 2001, and in respect of certain alleged breaches of fiduciary duties on the part of the third defendant to these proceedings.
FSI went into Chapter 11 bankruptcy on 18 May 2001. The day before it entered into Chapter 11 bankruptcy it was lent the sum of $80,000 by FMC who, at that stage, took a lien over all of its assets, including any cause of action based on the 22 March agreement.
FSI is insolvent in the terms as we understand insolvency in this country, in that, at the time that it entered Chapter 11 bankruptcy, it was not in a position to pay its debts as and when they fell due, nor did it have the support of any financier which would have allowed it to do so. At the time that FSI entered into Chapter 11 bankruptcy its liabilities exceeded its assets by some millions of dollars.
On 24 May 2001 FSI issued these proceedings against all three defendants. On the next day it made an application in the Bankruptcy Court in the State of Virginia in the United States for approval of the post-bankruptcy financing provided for by the lending agreement entered into with FMC. At the same time, and apparently in anticipation of the approval of that lending agreement by the Bankruptcy Court, FMC as the proposed attorney in fact for FSI, as it is described in the United States, filed an adversary proceeding against the defendants in FSI’s bankruptcy case seeking:
(1)specific performance of the agreement of 22 March 2001,
(2)turnover of the intellectual property (which I understand to be the return of the intellectual property) and,
(3)a permanent injunction against any disposition of the intellectual property by the defendants.
FSI claims that, apart from plant and equipment of inconsequential value, it has only one asset and that is its claim against the defendants for breach of contract in relation to a contract which it claims it entered into with the defendants and FSIL on 22 March 2001. It claims that by that agreement the defendants and FSIL agreed to transfer to FSI all of the patents which they hold worldwide. Those patents are in what I might term, probably wrongly, telecommunications technology. FSI holds some US patents. It claims the defendant holds all other patents. It claims that it is entitled to all of the patents presently held by the defendants.
FSIL, on the other hand, claims that it is entitled to the patents as it is the beneficial owner of those patents.
The second defendant is the holding company of the first defendant. Both companies are incorporated in South Australia. The third defendant is the major shareholder in the second defendant and thereby I think effectively controls the second defendant and the first defendant. The third defendant is the CEO of the first and second defendants and was the CEO of FSI until 23 April 2001. On that day the minority shareholders, representing the 19 per cent of the shareholding of FSI, effectively obtained control of FSI and dismissed the third defendant as CEO and purportedly removed him as a director of the company. From my understanding of the events, the minority shareholders were able to exert that power because of the cooperation of the directors of FSIL.
The first and second defendants incorporated FSIL as its offshore entity to invest in FSI and, of course, by reason of the extent of the shareholding, to control FSI. FSIL, by reason of a number of events, which do not matter for the purpose of these proceedings, now is apparently acting independently of those for whose benefit it was incorporated; namely the first and second defendants. By reason of the acts of independence of FSIL, FSI has also become independent of the first and second defendants.
The defendants argued on this application that the plaintiff should not be granted any equitable relief because of the fraud of those who control each of the plaintiffs in their dealings with the plaintiffs and the first and second defendants since 23 April 2001. The defendants have claimed that various directors of both FSI and FSIL have acted otherwise than in accordance with the best interests of the respective corporations, and otherwise in accordance with the best interests of the shareholders, thereby gaining control. Thus they have caused the plaintiffs to act otherwise than in accordance with the reasons for their incorporation.
It seems to me, as I said during argument to Mr Slattery, counsel for the first and second defendants, that the control of FSI and FSIL is not a matter for determination by this Court on this application. On this application the court must recognise FSI and FSIL in their corporate entities and it is a matter of no consequence on this application how it is that the present directors of FSI and FSIL gained control of those two corporations. It is also not a matter of consequence why it is that the directors have caused the companies to make the applications which have been made. It is, of course, a matter of importance for the first and second defendants that they no longer have control of the entity which was incorporated, they say, for their benefit and thereby no longer have control of FSI. However that is a matter for the first and second defendants to agitate in the jurisdictions in which the first and second plaintiffs, FSI and FSIL, were incorporated.
I therefore intend to ignore, in a consideration of this application, the circumstances giving rise to FSI and FSIL obtaining control on and after 23 April 2001.
The third defendant and associates in Australia developed communications technology or smart cards and obtained patents for the technology throughout the world. FSI was incorporated for the purpose of obtaining ownership of the US patent. It was incorporated for the purpose of raising capital to develop the technology, not only in the US but also worldwide. It raised, as I said, somewhere around $8 million in venture capital, and in consideration of the raising of that capital, issued 19 per cent of its capital to the venture capitalists.
It is the plaintiff’s case that the whole of the money raised has been dissipated over the last 12 or 15 months leaving FSI insolvent. Its insolvency on the plaintiff’s case was recognised in about April which culminated in the dismissal of Mr Benson and his removal as a director.
The minority shareholders who obtained control at that time were keen to protect their investment as much as they could. They, therefore, I think, instructed their lawyers in the United States to petition for FSI’s bankruptcy pursuant to Chapter 11 of the Bankruptcy laws of the United States. They caused FSI to borrow $80,000 for the purpose of making that application and they caused FSI to enter into the lending agreement with FMC, to which I have already referred.
On 24 May 2001, in response to the plaintiff’s application, I made an interim injunction restraining the defendants from dealing with the patents. I continued that injunction on 28 May 2001 and further continued the injunctions on 30 May, 6 June and 12 June. The plaintiffs, therefore, have enjoyed an interim injunction in the terms of their application since 24 May.
As I have mentioned, the day after I made an order enjoining the defendants, on an interim basis, from dealing with the patents, FSI and FMC made an application for permission to bring adversary proceedings in the United States.
On 6 June, on the application of FSI, I joined FSIL as a plaintiff to these proceedings. It was anticipated that the application for the interlocutory injunction, which I have heard today, would be heard on 12 June. However, on 8 June, an application was made to me by Messrs Piper Alderman, a firm of solicitors practising in this State and in New South Wales, seeking injunctions restraining the plaintiffs from dealing with monies in the trust account of the plaintiffs’ solicitors and claiming an entitlement to those monies. In the plaintiffs’ solicitors’ trust account there are two sums; one of $250,000 and the other of $50000. Both sums are in the plaintiffs’ solicitors’ trust account in compliance with orders made by me requiring the plaintiff, FSI, to pay into its solicitor’s trust account those sums; the larger sum was to secure any undertaking as to damages given to FSI, and the smaller sum was security for costs.
When the matter came on before me on 12 June, I advised the then counsel for the plaintiffs that I had heard the application by Piper Alderman on 8 June and that I had been acquainted with information to which I was not privy in this matter. I raised with him the information which had been provided to me and invited him to consider whether his clients wished me to disqualify myself because of that information which had been obtained outside these proceedings. The matter was adjourned until yesterday so that those instructions might be obtained.
Between 12 June and 21 June the defendants filed affidavits exhibiting the information which had been provided to me in the other proceedings. I was thereby acquainted in these proceedings with the information which I had obtained in the other proceedings. In those circumstances no application could be made for me to disqualify myself, and indeed none has been made.
Between 12 June and yesterday 21 June there have been other developments in the United States. On 12 June FSI applied to have its lending arrangements approved by the Bankruptcy Court. Notwithstanding that objection was taken by the three defendants in these proceedings, those lending arguments were approved by Judge Mayer in the Bankruptcy Court in Virginia on 12 June.
On 19 June FSI made an application in the Bankruptcy proceedings for an interlocutory injunction in the United States in the same or similar terms to the interim injunction which has already been made, and in the same or similar terms to the interlocutory injunction which has been sought in these proceedings. I think it follows that that will mean that the parties to these proceedings will not only be put to the cost of these proceedings but will be put to the cost of the same proceedings in the United States.
I was not advised until yesterday that such an application had been made in the United States nor was I advised until yesterday that FSI had sought to obtain, and obtained, approval of its lending arrangements. I was not advised until yesterday that the application for the interlocutory injunction in the bankruptcy court in Virginia will be heard on 25 June at 3 pm
I raised with Mr Besanko QC, who appeared for the plaintiffs yesterday and today, whether the plaintiffs had been frank and candid with the court in relation to the proceedings in the United States. I raised with him whether there had been compliance in all respects with the principle in Thomas A Edison Ltd v Bullock (1912) 15 CLR 679.
Mr Besanko argued that there had been no breach of that principle. First, he said I had been advised on 24 May, and certainly again on 28 May, that there had been an application for Chapter 11 bankruptcy. Secondly, he said I was advised yesterday on 21 June of the application made for approval of the lending arrangements on 12 June. He said that was the first date that it was possible to give that advice after the adjournment on 12 June. Thirdly, he submitted that I was advised yesterday of the application made on 19 June for the interlocutory injunction in the Bankruptcy Court. He said in those circumstances, as a matter of fact, there had been no breach of the principle. In any event, he argued, the third defendant had been served with the application made on 25 May and the defendants had appeared on 12 June in the Bankruptcy Court in Virginia. In those circumstances he said that this was an inter partes proceeding and the defendants were well aware of the proceedings brought in the United States and they were able, if they wished, to bring those matters to my attention.
He also argued that the bringing of proceedings for the same relief in the United States was not evidence of an abuse of the process of that Court, or indeed made the earlier proceedings in this Court an abuse of process. He submitted that I could not be satisfied on this application that any injunction made in this Court, if one was to be made, would necessarily be effective in the United States. Therefore, he said, I could not be satisfied that it was inappropriate for the plaintiff to make an application for the same relief in the United States. By the same token, he argued that, if the plaintiff had only brought proceedings in the United States I could not necessarily be satisfied that any relief granted in that jurisdiction would necessarily be effective in this jurisdiction.
In the end result, I agree with all of those arguments. I am satisfied that there was no want of candour on the part of the plaintiffs. I am satisfied that there has been no evidence of any abuse of process on the part of the plaintiffs in bringing proceedings in both jurisdictions simultaneously.
The principle of a grant of interlocutory judgment was explained by Mason ACJ in Castlemaine Tooheys Ltd v The State of South Australia (1986) 161 CLR, 148. In that case his Honour said at 153:
“The principles governing the grant or refusal of interlocutory injunctions in private law litigation have been applied in public law cases, including constitutional cases, notwithstanding that different factors arise for consideration. In order to secure such an injunction the plaintiff must show (1) that there is a serious question to be tried or that the plaintiff has made out a prima facie case, in the sense that if the evidence remains as it is there is a probability that at the trial of the action the plaintiff will be held entitled to relief; (2) that he will suffer irreparable injury for which damages will not be an adequate compensation unless an injunction is granted; (3) that the balance of convenience favours the granting of an injunction.”
His Honour went onto say that the expression “a serious question to be tried” had been understood in the manner described by Lord Diplock in American Cyanamid Co v Ethicon Ltd (1975) AC 396 at 407.
Mason ACJ said it was not appropriate on an application for an interlocutory judgment to adopt the prima facie test which had previously been suggested was the appropriate test on applications of this kind: Beecham Group Ltd v Bristol Laboratories Pty Ltd (1967) 118 CLR 618.
The plaintiffs have put their claim on three separate bases (1) the agreement of 22 March is a binding agreement that is capable of specific performance, (2) FSIL is a beneficial owner of the whole, or substantially the whole of the intellectual property and can require the first and second defendants to transfer legal title to FSI, (3) the first and second defendants are estopped from denying the enforceability of 22 March agreement.
Both parties have filed a number of affidavits which they have read. Each of the affidavits has contained numerous exhibits. I have been provided with a plethora of information relating to the circumstances leading up to the 22 March document and the circumstances after that date leading up to 23 April events and even after.
FSI would need to establish, if it was to make out the claims it makes in points (1) and (3), that it entered into a binding agreement on 22 March and that it was in a position to comply with its obligations under that agreement. It is not, however, for me to determine at this stage of the proceedings whether FSI will succeed in its claim. It is only for me to determine at this stage whether there is a serious question to be tried in respect of FSI’s claim.
In my opinion, there is evidence which would support the contentions made by FSI.
There is evidence to support the assertion that the 22 March document was intended to be an agreement. That evidence is contained in the document itself and contained in evidence indicating the circumstances leading up immediately before the execution of the document and the circumstances immediately after. For example, there is evidence that the document which FSI relies upon as being a contract was in substitution for a document which was in significantly different terms. One of the significant differences, without outlining all of them, is that the previous document, which was also created on or about the same day, did not claim to be a binding agreement, whereas the document now relied upon does claim to be so. I think, therefore, that there is a serious question to be tried in relation to FSI’s claims in relation to points (1) and (3) of the bases that has been presented on this application.
I have not, of course, overlooked the defendants’ arguments. The defendants claim that a proper reading of the 22 March document indicates that it is not a binding contract. They submitted that FSI would not be in a position to complete its obligations. They pointed to the promissory note that was offered. The defendants have argued that the 22 March document is no more than an agreement to agree or an agreement to negotiate and if it is the latter, negotiations have taken place and if it is the former, it is not enforceable. They pointed to the absence of authority, they claim, on the part of Mr Benson, who executed the document on behalf of the defendants. They have pointed to the absence of proof of his authority.
All of those matters will need to be considered when the plaintiffs’ claim for relief in relation to the document of 22 March is considered. However, in my opinion, none of the matters are such that it cannot be said that there is a serious question to be tried in respect of FSI’s case.
FSIL, on the other hand, claims to be the beneficial owner of substantially the whole of the intellectual property. Mr Besanko took me through a number of the exhibits to the affidavits, which he said indicated admissions on the part of the defendants that there had been a conveyance to FSIL of the beneficial ownership of the property. He showed me minutes of board meetings and other documents which spoke of the knowledge of Mr Benson in that regard. He stressed in his submissions that none of the defendants had answered FSIL’s contentions and none of the defendants had argued that FSIL’s claim was unsupported by the evidence. None of the defendants, he said, had tendered any evidence to show that the claim has not been properly made by FSIL.
I am satisfied, as Mr Besanko has submitted, that there is a serious question to be tried in relation to FSIL’s claim.
In all of those circumstances, I am satisfied that both plaintiffs have satisfied the first criteria for applications of this kind.
The next matter to be considered is whether damages would be an adequate remedy. I am satisfied that if the plaintiffs proceeded to trial and succeeded, that damages would not be an adequate remedy. I am satisfied that the defendants do not have the financial resources to satisfy a judgment which might be obtained if the defendants were successful.

All parties have argued that the intellectual property which is the subject matter of this action is extraordinarily valuable. There have been assessments made of the value of the property, which have varied between $US10 million and $US60 million. Whatever the value of the property is, I am satisfied that if the plaintiffs succeeded in their claim, damages would not be an adequate remedy.
In a consideration of this matter, I also ought to have regard to what relief the defendants might be able to obtain in the event that I granted this injunction upon the usual terms of the plaintiffs giving an undertaking as to damages.
In American Cyanamid Co v Ethicon Ltd (supra) at 408, Lord Diplock said, after discussing the adequacy of damages from the plaintiff’s point of view:
“If, on the other hand, damages would not provide an adequate remedy for the plaintiff in the event of his succeeding at the trial, the court should then consider whether, on the contrary hypothesis, that the defendant were to succeed at the trial in establishing his right to do that which was sought to be enjoined, he would be adequately compensated under the plaintiff’s undertaking as to damages for the loss he would have sustained by being prevented from doing so between the time of the application and the time of the trial. If damages in the measure recoverable under such an undertaking would be an adequate remedy and the plaintiff would be in a financial position to pay them, there would be no reason upon this ground to refuse an interlocutory injunction.”
In my opinion, if an interlocutory injunction were granted, the plaintiffs would not be in a position to provide sufficient compensation to meet an application by the defendants on that undertaking as to damages.
I am satisfied that the defendants would not be able to recover any damages that the defendants might suffer by reason of the imposition of the undertaking. Indeed, FSI has probably no other assets than the amount of the lending arrangement with FMC. How much of that money has been spent already on these proceedings and the proceedings in the United States, I am unable to say. I am reasonably confident, however, that a substantial sum of money would already have been spent by FSI’s solicitors and legal advisers generally, in these proceedings.
FSIL, on the other hand, it seems to me, has no assets at all, except whatever assets it may in due course prove to be entitled to in these proceedings. There is no evidence that FSIL has any assets, apart from whatever assets it might recover of these proceedings. Whilst it proffered, through Mr Besanko, an undertaking as to damages, in my opinion, the undertaking is, with respect to that plaintiff, worthless.
In the end result, if the injunction was not granted, the plaintiffs will be unable to recover all of the damages that they have suffered. On the other hand, if the injunction is granted, the defendants will be unable to recover their losses by reason of the imposition of the injunction. I therefore turn to the third matter, and that is the question of the balance of convenience.
In a consideration of the balance of convenience, I must have regard, or some regard in the wider sense, to the strength of the respective cases. I must have regard to the adequacy of damages or the adequacy of the undertaking and I must have regard to all other matters relevant to the question of balance of convenience.
It seems to me that the matter comes down to this; this is an action between two impecunious parties; one is insolvent, the other, I suspect, is nearly insolvent. I base that suspicion on the affidavit of Mr Hogarth, a director of the first and second defendants, who has deposed, in an affidavit filed on 14 June, to the consequences that might be suffered by the defendants in the event that the injunctions were granted. He has said that if the defendants are unable to continue to conduct their trading activities, which mainly includes the trading in the intellectual property, he plans to terminate the employment of all of the staff employed by both defendants other than those who would be required for the purpose of working on defending these proceedings. He said that those terminations would require redundancy payments and it is unlikely that those persons could be re-employed in the future.
I am satisfied, on the material which has been provided to me, that both parties are relatively impecunious.
If I grant the injunction, it will mean that neither the plaintiffs nor the defendants are able to deal in the intellectual property pending the trial of this action. It will mean that the defendants will not be able to conduct their business and it is likely that the defendants will become more impecunious and possibly require administration. The end result of that might be that the intellectual property might be lost to all of the parties.
On the other hand, if I refuse the injunction, that will allow the defendants to continue to deal with the intellectual property insofar as they can and to obtain whatever value they can for that intellectual property during the period to trial.
It seems to me that the most important aspect at the moment is to preserve the assets the subject matter of the litigation. Those assets are the intellectual property. In my opinion, those assets are best preserved by refusing the application for an injunction. It is not suggested that if I refuse the application that the defendants would sell the assets for an undervaluation, merely for the purpose of avoiding a judgment in this action. In my opinion, on balance, the balance of convenience lies with the defendants and in those circumstances the application for the interlocutory injunction is refused.

[2001] SASC 216

22 June 2001