Cloud House Limited v Bulletproof Group Limited
[2018] NZHC 1450
•15 June 2018
IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY
I TE KŌTI MATUA O AOTEAROA TĀMAKI MAKAURAU ROHE
CIV-2017-404-1453
[2018] NZHC 1450
BETWEEN CLOUD HOUSE LIMITED
Plaintiff
AND
BULLETPROOF GROUP LIMITED
First Defendant
BULLETPROOF NETWORKS PTY LIMITED
Second Defendant
Hearing: 8 June 2018 Appearances:
J E M Lethbridge for the Plaintiff
T M Pasley and T J Lindsay for the Defendants
Judgment:
15 June 2018
JUDGMENT OF ASSOCIATE JUDGE SMITH
This judgment was delivered by Associate Judge Smith on 15 June 2018 at 4.30pm, pursuant to r 11.5 of the High Court Rules
Registrar/Deputy Registrar Date: 15 June 2018
Solicitors / Counsel:
Lowndes Ltd, Wellington Lindsay LA, Auckland
Case Officer: Isabella Wilson
CLOUD HOUSE LTD v BULLETPROOF GROUP LTD [2018] NZHC 1450 [15 June 2018]
[1] The defendants apply for security for their costs in this claim, in which the plaintiff (Cloud) seeks damages of approximately $3.9 million arising out of a contract entered into between the parties (the deed).
[2] The second defendant (Networks) has filed a counterclaim, in which it seeks to recover the amount of $1 million paid by it under the deed, together with
$127,061.65 as its costs of negotiating and executing the deed.
Background
[3] Cloud formerly operated a cloud computing services business in New Zealand. The first defendant (Bulletproof) has been a leading cloud services provider in Australia. Until recently, it was listed on the ASX. Networks is a subsidiary of Bulletproof.
[4] In mid-2015 Bulletproof began looking to enter the New Zealand market. It decided the best way to do that would be to acquire a successful existing New Zealand cloud services provider.
[5] Mr Woodward, Bulletproof's chief executive, began negotiating with Mr Jordan Greig and Mr Scott Judson, the directors of Cloud. Messrs Greig and Judson were then the major shareholders in Cloud, each holding 46.3 per cent of the Cloud shares.
[6] The parties entered into the deed on 31 January 2016. Under the deed, Networks agreed to acquire the business assets of Cloud (the Business). Networks would begin trading in New Zealand under the "Bulletproof" brand.
[7] The consideration for the purchase was an initial $1 million, payable on settlement, together with further contingent sums that would be dependent on Networks' Services Revenue for the period from completion to 30 June 2017.
[8] If earned, there were to be three contingent payments, referred to as "earn-out" payments. The first earn-out payment would be payable on 30 June 2016, the second on 31 December 2016, and the third on 30 June 2017. The maximum Cloud could
potentially have been entitled to by way of earn-out payments, was NZ$4,200,000, split between cash and Bulletproof shares.
[9] Networks paid the $1 million, and settlement was effected, on 15 February 2016. In accordance with arrangements made between the parties, Messrs Greig and Judson moved over to Networks and became part of the Bulletproof (New Zealand) management team.
[10] The defendants did not make any earn-out payments. Mr Woodward says that was because the Business did not achieve the requisite growth in professional services revenues in New Zealand, notwithstanding that each earn-out date was extended for a period of 6 months under a variation deed entered into by the parties on 16 June 2016 (the variation deed), and the variation deed altered the earn-out formula in the deed to allow for potentially higher earn-out payments to Cloud.
[11] In its amended statement of claim in this proceeding, Cloud alleges that the defendants compromised Cloud's prospects of earning the earn-out payments, by a combination of alleged pre-contractual misrepresentations and post-acquisition breaches by Networks of certain warranties in the deed.
[12] The alleged misrepresentations are said to have included oral representations by Mr Woodward that Bulletproof had existing managed services products that would be suitable for Cloud's existing and prospective customers which, if sold to Cloud's customers, would create an additional 30 per cent gross margin. Mr Woodward is also alleged to have said that Cloud would have immediate access to those services products, and to Bulletproof's New Zealand customer base, and that Cloud would be provided with assistance from Bulletproof, immediately after settlement, with pre-sales and customer dealings in the New Zealand market. The representations are said to have been made in the course of a number of meetings at which Mr Judson and Mr Greig were present, and they are said to have been repeated in a letter from the Bulletproof Group to Cloud dated 13 November 2015. The representations are alleged to have induced Cloud to enter into the deed.
[13] Cloud alleges that the representations were false. It says that Bulletproof did not have existing managed services products that would be suitable for Cloud's existing and prospective customers (which would, if sold to Cloud's customers, create an additional 30 per cent gross margin), and that Cloud was not provided with immediate access to any such managed services products. Nor was Cloud provided with immediate access to Bulletproof's New Zealand customer base, or provided with assistance from Bulletproof with pre-sales and customer dealings in the New Zealand market.
[14] Cloud says that the misrepresentations also constituted breaches of the Fair Trading Act 1986.
[15] Cloud next alleges that Networks breached the following warranties contained in the deed:
(a)Not intentionally to do anything that would reduce the amount of the earn-out payment (warranty 6.5(a));
(b)To use its reasonable endeavours to promote the Business (warranty 6.5(b));
(c)Not to change the nature of the Business, or divert customers or income relating to the Business to [Bulletproof's or Networks' related bodies corporate] (warranty 6.5(c)).
[16] Cloud alleges that, in breach of the first of those warranties, Networks intentionally took a number of steps that would reduce the amount of the earn-out payment. These steps allegedly included making Mr Judson redundant in February 2017, failing to provide additional resources to replace key staff who left the Business, and (until his departure on 26 May 2017) requiring Mr Greig to conduct significant management functions in addition to the role he had performed at the settlement date, thus removing the efficiency afforded by his performance of that role, to the detriment of the services revenue.
[17] The defendants are said to have directed Mr Greig to shift his focus from winning new business to managing the existing business and customer base, and dealing with management meetings with the defendants.
[18] In addition, a number of administrative issues allegedly resulted in loss of customer trust and loss of staff trust, with two customers ceasing to deal with Cloud because of billing issues allegedly created by the defendants. Cloud also alleges that the relationship with a major supplier, Amazon Web Services (AWS), was damaged in a number of respects, including a decision by the defendants to alter the Business' business model by partnering with Microsoft Azure.
[19] In its cause of action for breach of the second warranty (to use reasonable endeavours to promote the business), Cloud repeats its allegations of misrepresentation, and says that the New Zealand part of the Bulletproof group operations has not been included in any marketing initiatives since completion. It also alleges that Networks has failed to provide adequate sales resources to the Business to enable the anticipated services revenue to be achieved. Those alleged breaches are said to have had the effect of reducing the services revenue component of the earn-out payment calculation, and consequently caused loss to Cloud.
[20] The last of the warranty claims alleges breach by Networks of the warranty not to change the nature of the Business, or divert customers or income relating to the Business to parties related to Networks. Cloud again relies on the misrepresentation allegations, and says further that the focus of the Business was changed following completion, to the detriment of the earn-out calculations, from a focus on recurring-revenue customers to a professional services focus. Cloud says that this change in the nature of the Business was acknowledged by Bulletproof, with the parties agreeing to a 7.5 month extension of the first earn-out period.
[21] The defendants deny any liability. In their (separate) statements of defence they deny the alleged misrepresentations, and plead affirmatively that Bulletproof's Managed Services were suitable for existing customers and new customers of the Business, and that Bulletproof's Managed Services could, if sold to existing and prospective new customers, have created up to an additional 30 per cent gross margin,
depending on commercial terms agreed with the existing and prospective customers. They say that, from the date of the deed, Bulletproof did provide Cloud with immediate access to its Managed Services, and did provide Cloud with assistance with pre-sales and customer dealings in the New Zealand market.
[22] The defendants plead that the earn-out payments were not achieved for a number of reasons, including:
(i)financial forecasts provided by Cloud to the defendants before they entered into the deed were not reasonable, or had not been prepared with due care and on a reasonable basis; and
(ii)Mr Judson and Mr Greig failed to diligently tend to their duties after completion, and they failed to provide reasonable assistance to Networks to ensure Networks obtained the benefits of the Business' assets.
[23] Networks pleads that no act or omission by it was done with the intention of reducing the earn-out payments and that, by entering into the variation deed, Cloud clearly and unequivocally represented or accepted that any previously agreed terms of the deed, or precontractual representations, relating to the earn-out provisions and the future business plan for the Business, were superseded by the variation deed. It says that it would be inequitable to permit Cloud to rely on alleged pre-contract representations that contradict the terms of the variation deed, and it is estopped from doing so.
[24] In its counterclaim, Networks alleges breaches by Cloud of various warranties in the deed, including a warranty that all forecasts and projections in respect of the Business given by Cloud to Networks were based on assumptions which were reasonable, and had been prepared with due care and on a reasonable basis. It says that on 11 January 2016 Cloud provided it with a revenue and profit forecast for the period January 2016 to June 2016 that was not based on assumptions that were reasonable, and had not been prepared with due care and on a reasonable basis. It contends that the various breaches of warranty have caused it loss in the form of the
$1 million paid for the Business, plus $127,061.65 in costs of negotiating and executing the deed.
The defendants' application for security for costs
[25] The defendants asked for an order for security on a Category 2, Band B, basis. They calculated 2B costs for a three week trial at $66,900. In addition, they sought security of $80,000 for expert witness fees.
[26] The amount sought was calculated on the bases that, if successful, the defendants would be awarded only one set of costs (as they are represented by the same solicitors and counsel), and that Cloud has already posted security in the sum of
$25,000 in respect of the first phase of the proceeding (up to the end of the discovery and inspection phase). The defendants' calculation assumed that the Court would approve costs for two counsel at trial.
[27] The defendants say that Cloud has insufficient assets to meet their costs, and there is a serious risk that they will be unable to recover any contribution to their costs if they successfully defend Cloud's claims.
[28] They assert that Cloud's claims are weak (particularly as they depend upon Cloud establishing the commercially illogical proposition that the defendants intentionally caused their own business (the Business) to fail). They reject Cloud's contention that, if it is found to be impecunious (which Cloud does not admit), its impecuniosity has been caused by the defendants' own acts that are the subject of the proceeding.
[29] The defendants say that a number of attempts at reaching a settlement have failed, and that the matter is likely to proceed to trial.
Cloud's opposition
[30] In its notice of opposition, Cloud says that there is no reason to believe that it will not be able to pay the defendants' costs if they are successful at trial. While it has paid into its solicitors' trust account the sum of $25,000 as security for the period up
to the end of the completion of discovery, it made that payment on a pragmatic basis, without prejudice to its contention that it had no obligation or responsibility to post security for the defendants' costs. However, it acknowledges that its directors and shareholders have and continue to assist it financially. It says that will continue to be the case.
[31] Cloud says that it is just in all the circumstances that the Court should not make an order for security. It says that the defendants have taken an overly aggressive approach to the issue of security, and they are in effect trying to prevent Cloud from ventilating its claim. They also say that an order for substantial security (as sought in this case) would prevent Cloud from pursuing its claim.
[32] Cloud further contends that its position has been caused by the defendants' actions which are the subject of the litigation, and that the application should be refused on that account.
[33] Cloud then says that the defendants have delayed making their application, which should not be granted when the trial is only a little under four months away.
[34] Cloud says that the overall balancing of the interests of the parties favours the application being declined. However if the Court decides that there should be an order for security for costs, that order should be staged, and should be no more than scale costs (the amount sought by the defendants being unreasonable).
Trial in October
[35] The case has been set down for a three week trial commencing on 8 October 2018. However Ms Lethbridge advised at the hearing that in her view only two weeks should be sufficient. She suggested that if the Court is minded to order security, any order should be deferred pending the service of Cloud's briefs (due to be served on 13 July 2018). In his reply submissions, Mr Pasley submitted that it is now too close to trial for any such delay to be appropriate. To remove duration of trial as an issue, he advised that the defendants would be prepared to have security fixed on the basis of a two week trial.
Applications for security for costs – legal principles
[36]Rule 5.45 of the High Court Rules materially provides:
5.45 Order for security of costs
(1)Subclause (2) applies if a Judge is satisfied, on the application of a defendant,—
…
(b)that there is reason to believe that a plaintiff will be unable to pay the costs of the defendant if the plaintiff is unsuccessful in the plaintiff’s proceeding.
(2)A Judge may, if the Judge thinks it is just in all the circumstances, order the giving of security for costs.
(3)An order under subclause (2)—
(a)requires the plaintiff or plaintiffs against whom the order is made to give security for costs as directed for a sum that the Judge considers sufficient—
(i)by paying that sum into court; or
(ii)by giving, to the satisfaction of the Judge or the Registrar, security for that sum; and
(b)may stay the proceeding until the sum is paid or the security given.
…
(5)A Judge may make an order under subclause (2) even if the defendant has taken a step in the proceeding before applying for security.
…
[37] An applicant for security for costs must persuade the Court that there is reason to believe that the plaintiff will be unable to pay the defendant's costs if the plaintiff is unsuccessful at trial. Once the Court is satisfied on that threshold issue, its discretion whether to make an order for security or not, and if an order for security is made the amount of that security, is unfettered – there is no formal checklist of principles to be applied.1
1 A S McLachlan Ltd v MEL Network Ltd (2002) 16 PRNZ 747 (CA) at [13] and [14].
[38] Once the threshold test is met, the Court's task is to balance the interests of the parties. That balancing exercise may include an assessment of the merits of the plaintiff's claim, but an assessment of the merits of the dispute at an interlocutory stage will usually only give the Court an impression – in most cases it will not be possible to form a view of the merits. An order for security which may have the effect of preventing a plaintiff from pursuing its claim will normally only be made after careful consideration, and in a case in which the claim has little chance of success. Access to the Courts for a genuine plaintiff is not lightly to be denied.2
[39] On the question of how much evidence will be required for a defendant to meet the threshold test of showing that the plaintiff will be unable to pay costs, there should at least be credible evidence of surrounding circumstances from which it may reasonably be inferred that the plaintiff will be unable to pay the costs. This does not mean that the defendant has to prove that the plaintiff will in fact be unable to pay the costs.3
[40] In Highgate on Broadway, Kós J observed that one of the theoretical justifications for ordering security is that there may be an injustice to a defendant if the claimant would otherwise be effectively immune from a costs order.4 Delay by the defendant in making the application is a factor which may tell against the making of an order.5 However, the overriding and most important consideration is "how should the respective interests of the parties best be balanced?"6
[41] In Attorney-General v Transport Control Systems (NZ) Ltd,7 the Court of Appeal noted that the Court is entitled to have regard to the means of shareholders and creditors for whose benefit an action is in truth being brought. In that case two shareholders effectively owned the plaintiff company, and one of them effectively owned the main debenture holder. The affidavits of the two shareholders made no disclosure of or reference to their means, but nor did they put forward personal
2 At [15].
3 Concorde Enterprises Limited v Anthony Motors (Hutt) Ltd (No 2) [1977] 1 NZLR 516 (HC) at 519.
4 Highgate on Broadway v Devine [2012] NZHC 2288 at [20]; [2013] NZAR 1017.
5 At [23(c)].
6 At [24(c)].
7 Attorney-General v Transport Control Systems (NZ) Ltd [1982] 2 NZLR 19.
financial hardship as a reason for opposing the defendants' security for costs application. In those circumstances, the Court of Appeal was prepared to draw the inference that they would be able to provide some reasonable security for the costs that their company might have to meet.8
[42] The existence of a counterclaim can provide circumstances where it would be inappropriate to order security, or provide grounds for the Court to reduce the amount of the security that would otherwise have been ordered.9
[43] Security may be ordered to cover a defendant's witnesses' expenses. In Camelot Hotel Ltd v Square Holdings Ltd,10 $120,000 was ordered to be paid by way of security, and that sum included a figure for expert witness fees based on the Court's general impression and experience. (The Court indicated that it would have preferred to have been provided with an estimate made by the experts themselves.)
Evidence of impecuniosity in this case
[44] The defendants first sought security for their costs in the total sum of $100,000. In response, Cloud offered to provide an undertaking by Mr Greig and Mr Judson to meet any order for costs in favour of the defendants, up to the sum of $15,833, covering the proceeding up to and including discovery. That undertaking was not accepted.
[45] In a letter dated 18 September 2017, Cloud's solicitors referred to the threshold question on security for costs, as to whether there is reason to believe that a plaintiff will be unable to pay the costs of the defendant if the plaintiff is unsuccessful in the proceeding. Cloud's solicitors said they did not consider that the threshold had been (or could be) passed.
[46] The defendants' responded on 19 September 2017, advising that they would accept security for the period through to the end of discovery, in the sum of $25,000
8 At 20.
9 Oraka Technologies Ltd v Geostel Vision Ltd HC Hamilton, CIV 2005-419-809, 13 December 2007 at [35].
10 Camelot Hotel Ltd v Square Holdings Ltd [2016] NZHC 82.
paid into Cloud's solicitors' trust account. An interim settlement was reached on that basis.
[47] In Mr Woodward's first affidavit, he deposed to his belief that Cloud may have distributed the assets or equity it held immediately after settlement under the deed. Specifically, the $1 million Networks paid to it at completion has been distributed to Messrs Judson and Greig, and the other nominal shareholders.
[48] The defendants have attempted to find out for sure whether that occurred. On 19 January 2018, the defendants' lawyers wrote to Cloud's lawyers, stating that the position appeared to be that Cloud then existed merely as a corporate shell, with no significant assets or equity to meet an adverse costs order (Cloud having previously distributed the proceeds its received in consideration for all its assets). The lawyers went on to say that the defendants did not understand Cloud to deny that presumption. However, if they were incorrect, they asked Cloud's lawyers to "please advise".
[49] Cloud's solicitors replied on 26 January 2018. They advised that Cloud was of the view that any application for security for costs would be premature and misconceived. They confirmed that an initial tranche of security for costs had been placed into their trust account to cover attendances up to and including the discovery and inspection phase.
[50] Cloud's solicitors noted that the defendants were then proposing to apply for security for their costs involved in the preparation of briefs or affidavits. However, the defendants' briefs were not timetabled to be served until 17 August 2018, and in those circumstances Cloud's solicitors considered there was "no basis for security to be provided in relation to that step at this early stage". An offer was made to place
$5,575 into the solicitors' trust account on or before 30 June 2018, and a further
$10,000 in relation to expert witness costs. The solicitors noted that it is "common practice that security is staged, and that a final tranche is put in place immediately before the hearing".
[51] An affidavit addressing the question of Cloud's alleged impecuniosity was provided by Ms Tracey Hickman. Ms Hickman is a director of Staples Rodway, with over 30 years as a professional accountant. She is the accountant for Cloud.
[52] Ms Hickman confirmed, that in her opinion, Cloud is solvent. However it appears from her affidavit that Cloud's solvency is dependent on its shareholders. Ms Hickman produced with her affidavit copies of directors' solvency certificates for Cloud, signed by Mr Greig and Mr Judson. The solvency certificates recorded that the majority shareholders of Cloud had agreed to provide ongoing financial support to Cloud to fund Cloud's business, to:
(i)enable Cloud to pay its debts as they become due in the normal course of business; and
(ii)ensure the value of Cloud's assets will be greater than the value of its liabilities, including contingent liabilities.
[53] The certificate went on to record that Mr Greig and Mr Judson knew of no other circumstances that affected or might affect Cloud's ability to pay its debts as they fell due, or the value of Cloud's assets and liabilities, including any contingent liabilities.
[54] Finally Mr Woodward produced certain communications between Ms Hickman, Mr Judson and Mr Greig which Cloud had disclosed on discovery. In an email dated 17 March 2016 to Mr Greig and Mr Judson, Ms Hickman referred to the need for a special resolution before a company can enter into a major transaction.11 Ms Hickman noted that "the transaction" (it had apparently already taken place) was technically voidable. She recommended that a resolution of shareholders should be drafted and signed, and attached what she considered to be a suitable draft. The draft resolution included provision authorising the directors to "satisfy shareholders' entitlements to the surplus assets of the company, by way of an in-specie distribution of assets to shareholders…".
11 Companies Act 1993, s 129.
[55] In the text of her 17 March 2016 email, Ms Hickman noted that the other matter which urgently needed to be addressed was a resolution for the distribution of sale proceeds. She went on to say:
We had discussed liquidating the Company once the current transactions had all been processed, but the proceeds of the earn-out need to be paid to Cloud House Limited so it will need to be kept operational until the first payment on 30 June 2017 (albeit the running costs should be minimal as there will be very few transactions in the intervening period).
Discussions and conclusions
[56] The first question is whether the defendants have satisfied the "threshold" test of showing that there is reason to believe Cloud will be unable to pay their costs if Cloud is unsuccessful at trial.
[57] I consider that there is credible evidence of surrounding circumstances in this case from which the Court may reasonably draw that inference. First, Cloud's assets were sold under the deed, and it has apparently not since been trading. It did receive
$1 million under the deed, but it appears from Ms Hickman's affidavit that that money has already been distributed to Cloud's shareholders.
[58] On 17 March 2016, Ms Hickman sent an email to Mr Greig attaching a form of resolution for Cloud shareholders, which included an authorisation to the directors to make an in-specie distribution of the company's assets to its shareholders. Cloud has not suggested that that distribution was not made, and its behaviour since March 2016 is entirely consistent with the distribution having been made. For example, rather than simply state that it had retained the $1 million, it responded to the defendants' initial requests for security first by offering undertakings from Messrs Greig and Judson, and then by depositing $25,000 in its solicitors' trust account. It seems improbable that Messrs Greig and Judson would have made those responses if the
$1 million paid on settlement had been retained by Cloud.
[59] The directors' certificates signed by Messrs Greig and Judson on 30 May 2018 point in the same direction. While Ms Hickman did not explain why the certificates were considered necessary, I think it is reasonable to infer either that Cloud's financial statements could not have been prepared on a "going concern" basis without them, or
at least that the financial support of Messrs Greig and Judson was considered necessary for Cloud to meet its financial obligations.
[60] The defendants would appear to have no ability to compel Messrs Greig and Judson to honour the agreement they have made with Cloud to provide it with financial support, and it is not clear what values Messrs Greig and Judson have placed on Cloud's contingent liabilities to Networks on its counterclaim for $1,127,061.75 plus costs and interest, and to both defendants on Cloud's contingent liability for their costs in the event that Cloud's own claims should fail at trial. Nor is there any evidence that Messrs Greig and Judson would be good for those contingent liabilities if they crystallised into actual liabilities.
[61] The other feature of the May 30 directors' certificates is that they speak to Cloud's ability to meet the solvency test as at a particular date (and possibly in connection with some, unidentified, particular event). It is by no means clear that Cloud would be entitled to enforce the agreement by Messrs Greig and Judson to provide it with financial support many months after any relevant event had occurred, or many months after the dates of the certificates.
[62] In all those circumstances, I conclude that the defendants have met the r 5.45(1)(b) test of showing, on the balance of probabilities, that there is reason to believe that Cloud will be unable to pay the defendants' costs if Cloud is unsuccessful on its claims at trial.
[63] The next consideration is how I should exercise my discretion on the application. That discretion is broad, and although the Courts have identified some considerations that will often be of assistance in its exercise, each case will largely be dependent on its own facts.
[64] One of those considerations must be regarded as neutral in this case. It is not possible to form any useful view of the merits of the case. Neither side addressed the merits to any extent in its affidavits, and neither the deed nor the letter of 13 November 2015 (in which certain oral representations by the defendants are said to have been repeated) were produced in evidence.
[65] Ms Lethbridge submits that the defendants have been "overly aggressive" in their claims for security, but I do not think that is a consideration that can assist Cloud. The principal issue is whether, in balancing the parties' respective interests (Cloud's interest in having its claims heard versus the defendants' interest in being able to recover costs if they succeed at trial) an order for security should be made, and it is difficult to see how any excessive demands for security the defendants may have made (if that is what has occurred) may inform that balancing exercise.
[66] Nor do I consider there is anything in the argument that Cloud's impecuniosity has been caused by the actions of the defendants. First, the defendants' actions could not be the immediate cause of Cloud's impecuniosity: the immediate cause was the decision of Cloud's directors to distribute the company's assets to its shareholders. Secondly, there is no sufficient evidential basis for me to conclude that the defendants' actions may have contributed to Cloud's impecuniosity. A determination of that sort would have required findings on the merits of the case (in Cloud's favour), and Cloud has elected not to provide sufficient evidence on the merits to allow any such determination.
[67] I do not consider that delay by the defendants in making their application for security is a significant factor. Certainly, the application for security has been heard only a little under four months from trial, but the application was filed on 7 February 2018, and Cloud had known for many months prior to that that the issue of security in respect of the post-discovery/inspection phase of the proceeding remained to be resolved.
[68] The more concerning issue is whether any order for security would or might effectively bring Cloud's claim to an end, because it could not pay the amount ordered. Ms Lethbridge expressed that concern in her submissions, but in my view there is no basis in the evidence for me to find that Cloud would not be able to pay any sum the Court might reasonably fix by way of security. As in Attorney-General v Transport Control Systems (NZ) Ltd,12 the two shareholder/directors have not provided any evidence of their means, but equally they have not suggested they would suffer any
12 Attorney-General v Transport Control Systems (NZ) Ltd, above n 7.
financial hardship if any order for security had to be funded by them. I conclude that there is no basis for me to find that a reasonable order for security would or might prevent Cloud from bringing its claim to trial.
[69] Ms Lethbridge mentioned in her submissions that there has very recently been a significant change in the control of Bulletproof, in that it is no longer listed on the ASX and is now a private company. I do not consider those matters affect the defendants' application, which is of course concerned with Cloud's ability to pay any costs that might be awarded against it. There is no application by Cloud for an order directing Networks to provide security for costs on the counterclaim.
[70] There was some reference in the parties' submissions to their attempts to settle the dispute, but I do not consider that I can make anything of that. Any settlement discussions would have been conducted on a without prejudice basis, and it is not possible to say whether one side or the other has taken a position that was unreasonable.
[71] The one factor possibly pointing against an order for further security (or in favour of a reduced amount if an order is made), is the counterclaim by Networks. Some part of the time preparing for trial, and at the trial itself, will inevitably be taken up by Networks' counterclaim.
[72] In Oraka Technologies Ltd v Geostel Vision Ltd, Associate Judge Faire noted that affirmative defences and counterclaims can provide circumstances whereby it is inappropriate to order security, or at least the amount of security should be less than what would otherwise be appropriate. His Honour considered that the position "will very much depend upon whether the onus on the relevant issues remains with either the plaintiff, on the one hand, or the defendant throughout".13
[73] In this case it seems to me that the defendants' affirmative defence of estoppel based on the variation deed is not likely to take up a large part of the time at trial, and in any event it is a defence, and it seems to me that a defendant's entitlement or otherwise to security for its costs should not depend upon whether its success at trial
13 Oraka Technologies Ltd v Geostel Vision Ltd, above n 9, at [35].
will be based on the plaintiff's failure to make out all necessary elements of its claim, or on some affirmative defence successfully run by the defendant.
[74] I think a counterclaim may well be in a different category, especially if it is not clearly linked to the plaintiff's claim. Pursuing such a counterclaim against an impecunious plaintiff is not something forced upon a reluctant defendant (as may be the case with steps necessary to defend the plaintiff's claim), and different considerations may apply to the exercise of the Court's discretion.
[75] In this case, Cloud's claims can be broadly described as claims based on alleged pre-contractual misrepresentations on the one hand, and alleged failures by Networks to honour contractual warranties in the period after settlement when Networks was running the Business. However, Cloud's claims do include a claim that Networks breached warranty 6.5(a) (not intentionally to do anything that would reduce the amount of the earn-out payment), by changing the nature of the business, allegedly resulting in "poor financial performance of the Business".14 More generally, the alleged breaches of warranty 6.5(a) are said to have had the effect of "reducing the Services Revenue component of the earn-out payment calculation".
[76] The causes of action based on or alleged breach of warranties 6.5(b) and 6.5(c) similarly allege that Networks' conduct had the effect of reducing the Services Revenue component of the earn-out payment calculation.
[77] On the basis of those pleadings, it seems to me that Cloud will be carrying the burden at trial of showing what the Services Revenue could have and should have been if it were not for Networks' alleged breaches.15
[78] Cloud's misrepresentation claims (and the Fair Trading Act claims based on essentially the same allegations) seek substantial sums that Cloud says it would have earned under the earn-out payment formula if the alleged representations had been correct. Again, it appears that Cloud will be carrying the burden of proving at trial
14 Amended statement of claim, paragraph 37(e)(iv).
15 A necessary first step in quantifying the alleged "reduction" in the Service Revenue component of the earn-out payment calculation.
what it could have and should have earned under the earn-out formula if the alleged representations had been correct.
[79] Turning to Cloud's defence to Networks' counterclaim, I note that Cloud admits that the forecast Services Revenue figures were provided to Networks in January 2006 as alleged by Networks. The principal issue on the counterclaim appears to be whether the forecast Service Revenues were (i) based on assumptions that were reasonable, and (ii) prepared with due care, and on a reasonable basis.
[80] In my view there is likely to be a high degree of overlap between the evidence on those counterclaim issues and the evidence Cloud will need to advance at trial on its claims, to show what it could have and should have earned under the earn-out formula if (a) the alleged representations by the defendants had been correct and (b) Networks had honoured the warranties in the deed it is alleged to have breached. Inevitably, I think, Cloud's evidence will be challenged by Networks, using the "unreasonable assumptions" and "careless forecasts" contentions that underpin a substantial part of its counterclaim. I think that would probably be the case whether or not Networks had filed a counterclaim.
[81] In the end, I think that some part of the preparation and trial time will be taken up on matters concerned solely with Networks' counterclaim, but the greater part of the preparation and trial time will be concerned with evidence and argument that is relevant to Cloud's claims and the defendants' defences to them (alone), or to both those claims and defences and to Networks' counterclaim. I take into account also that Bulletproof has not filed any counterclaim, but will presumably be incurring part of the costs of defending Cloud's claims. In those circumstances I think the "counterclaim" consideration is best dealt with by reducing the amount of security that would otherwise have been ordered, rather than by declining to order security at all.
[82] Balancing all of those factors, I consider that it is just in all the circumstances to order that Cloud provide further security for the defendants' costs. There is in my view a significant risk that Cloud would not be able to pay the defendants' costs if they were to succeed at trial, and it appears to me to be more likely than not that a reasonable order for security would not prevent Cloud from pursuing its claims. Those
are the principal reasons for my view that an order should be made – the other considerations do not justify any different conclusion (although I consider a reduction in the amount of security from what would otherwise have been ordered is appropriate to reflect the fact that some part of the costs to be incurred by the defendants will be concerned with counterclaim issues that go beyond the issues on the claim and the defences to it).
How much should be ordered by way of security, and how should it be provided?
[83] In their amended calculations, the defendants calculate 2B costs on a three week trial as follows:
Calculation of anticipated costs to completion of three-week trial
I. Scale Costs Assumptions:
· Agreed security up to the disclosure phase of 22 December 2017 remains in place;
· category 2B (daily recovery rate $2,230);
· three-week trial;
· approval for two counsel.
HCR
Ref.
Task
Band B
30 Plaintiff's or defendant's preparation of briefs or affidavits 2.5 32 Defendant's preparation of list of issues, authorities, and common bundle 2 33 Preparation for hearing 3 34 Appearance at hearing for sole or principal counsel 15 35 Second and subsequent counsel if allowed by
court
7.5 Total days 30 Total estimated scale costs $66,900
II.Disbursements
Expert witness fees of at least $80,000.00, with final fee estimate to be confirmed.
[84] If two weeks is allowed for the trial, the last two items in that table will be reduced to 10 days and 5 days respectively, giving a total of 15 days for those items. At the daily recovery rate of $2,230, the total 2B calculation for a two week trial becomes $50,175.
[85] The figure of $80,000 for expert witness' fees came from an estimate provided by a firm of chartered accountants on 7 February 2018 (the firm estimated their fees would be in the range of $80,000 to $100,000). Subsequently, a conflict of interest came to light, and the defendants have obtained a fees estimate from another expert, Mr Keith Goodall of ECOVIS KGA. Mr Goodall has estimated that his firm's fees for providing an affidavit, considering and responding to Cloud's affidavits, and attending the October trial would be in the range of $50,000-$75,000 plus GST.
[86] I am satisfied that the defendants have correctly set out the applicable steps and amounts for Category 2, Band B, costs, in accordance with schedules 2 and 3 to the High Court Rules.
[87] If, say, 25 per cent of the total scale costs for a two week trial were allocated to Networks' counterclaim, the 2B costs attributable to Cloud's claim would be approximately $75,000 (including expert witness fees of $50,000 reduced by 25 per cent).
[88] I think too that the $25,000 Cloud voluntarily posted by way of security for the defendants' costs for the stage up to the completion of discovery and inspection, may have been on the generous side, particularly when regard is had to Networks' counterclaim.
[89] Weighing the mater as best I can, I think the justice of the case will be served if I direct Cloud to provide further security in the sum of $60,000, that sum to be divided into two equal tranches – $30,000 to be paid by 20 July 2018, and $30,000 to be paid by 21 September 2018. The further security is to be paid into any solicitors' trust account on which the parties may agree in writing, but in default of such agreement, is to be paid into Court. The further security is to remain in the solicitors' trust account (or in Court as the case may be), pending further order of the Court or the earlier written agreement of the parties as to the disbursement of the further security.
[90] In the event of Cloud failing to provide either tranche of the further security in accordance with paragraph [88] hereof, leave is reserved to the defendants to apply by memorandum for a stay of the proceeding and/or an adjournment of the trial.
Result
(1)Cloud is ordered to provide further security in the total sum of $60,000, in accordance with paragraph [89] of this judgment.
(2)In the event of Cloud failing to comply with order (1) above, leave is reserved to the defendants to apply by memorandum for a stay of the proceeding and/or an adjournment of the trial.
(3)The defendants are entitled to costs on the application on a 2B basis, with disbursements to be fixed by the registrar.
Further Directions
[91] On 31 May 2018 Cloud filed an application for further and better discovery. As the close of pleadings date was fixed at 29 March 2018, it would appear that Cloud will need the leave of the Court to proceed with that application.
[92] In view of the fact that Cloud's briefs of evidence are due to be served by 13 July 2018, that application (and any necessary leave application) should be heard and determined as soon as possible. To that end, I direct that the discovery application is to be included in the next available chambers list which is not less than five working days after the date of this judgment, for the purpose of giving such further directions as may be necessary or appropriate. Any notice of opposition by the defendants is to be filed and served not later than two working days before the chambers hearing.
Associate Judge Smith
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