Dangerous Goods Compliance Ltd v Farquhar Lelean Holdings Ltd (in liq)

[2022] NZHC 3041

IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY

I TE KŌTI MATUA O AOTEAROA TĀMAKI MAKAURAU ROHE

CIV-2021-404-369

[2022] NZHC 3041

BETWEEN

DANGEROUS GOODS COMPLIANCE LIMITED

First Plaintiff

JAMES MALCOLM DUNPHY
Second Plaintiff

AND

FARQUHAR LELEAN HOLDINGS LIMITED (IN LIQUIDATION)

First Defendant

WILLIAM GRAHAM FARQUHAR
Second Defendant

AARON JOHN LELEAN
Third Defendant

MICHAEL POLL LIMITED

Fourth Defendant

Hearing:

29–31 August, 1–2, 5–9 and 12 September 2022

Counsel:

L Taylor KC, N Frith and A Simkiss for Plaintiffs

G Blanchard KC, J Little and J Alexander for Second and Third Defendants
K Harkess and H L Hui for Fourth Defendant

Judgment:

21 November 2022

Reissued:

20 December 2022

JUDGMENT OF MUIR J

This judgment was delivered by me on 21 November 2022 at 3.00 pm, pursuant to Rule 11.5 of the High Court Rules.

Registrar/Deputy Registrar Date: ………………………….

DANGEROUS GOODS COMPLIANCE LIMITED v FARQUHAR LELEAN HOLDINGS LIMITED (IN LIQUIDATION) [2022] NZHC 3041 [21 November 2022]

TABLE OF CONTENTS

CLAIM AGAINST THE FIRST TO THIRD DEFENDANTS

Introduction  [1]

Background facts  [4]
The first cause of action: breach of turnover warranty

Introduction  [29]

What was warranted by the turnover warranty?  [30]

Did the turnover warranty overstate the turnover of the business

that was sold and, if so, by how much?  [64]

The affirmative defences

Introduction  [74]
The matters relied on by the defendants  [93]

The estoppel defence  [126]

The waiver defence  [142]

Rectification  [154]

Summary on the first cause of action  [157] The second to fourth causes of action

Introduction  [158]

Second cause of action: misrepresentation  [159]

Third cause of action: negligent misstatement  [208]
Fourth cause of action: s 9 of the FTA  [211]

Contributory negligence  [214]

Damages

Introduction  [220]

General approach on the warranty claim  [226]

The warranty true position  [227]

Warranty false position  [230]

Costs and expenses  [231]

The multiplier  [241]

Other adjustments  [248]

Counterclaim  [252]

Result on claim against the DGC defendants and counterclaim

against New DGC  [253]

CLAIM AGAINST THE FOURTH DEFENDANT

Introduction  [255]

Background facts  [259]
Fifth cause of action: negligent misstatement  [283]
Sixth cause of action: s 9 of the FTA  [311]

Contributory negligence  [312]
Result on claim against MPL  [321]

COSTS  [322]

CLAIM AGAINST THE FIRST TO THIRD DEFENDANTS

Introduction

[1]                 The first plaintiff (New DGC) brings claims against the first defendant (Old DGC)1 and its directors, Mr Aaron Lelean and Mr William Farquhar, arising out of its 2019 acquisition of part of a business formerly operated by Old DGC. Its causes of action allege breach of contractual warranty (and associated director guarantee), misrepresentation, negligent misstatement and breach of the Fair Trading Act 1986 (FTA).

[2]                 The heart of its complaint is that the vendor’s turnover warranty related to the totality of its revenues for the financial year ended 2019 (FY2019), when (essentially) all that was being acquired was its certification and auditing business. New DGC seeks damages almost equivalent to the $4.3 million purchase price which was paid.

[3]                 Although, simply stated, the dispute has spawned a myriad of sub-issues leading to a judgment longer than intended or that the underlying subject matter would suggest.

Background facts

[4]                 In New Zealand persons conducting a business or undertaking (PCBUs) have long been subject to various obligations and duties in relation to the handling, storage, disposal and management of hazardous substances on workplace premises. In the early 2000s, the task of certifying PCBU compliance with these obligations was effectively privatised and delegated to independent operators, now known as “compliance certifiers”.

[5]                 Compliance certifiers are authorised to carry out their services by WorkSafe. Essentially, they are paid by PCBUs to inspect and assess workplaces for compliance with the relevant regulations. If the compliance certifier is satisfied that a PCBU is meeting all its obligations, it is authorised to issue a certificate certifying compliance.

1      The liquidators of Old DGC consented to the bringing of this proceeding under s 248(1)(c) of the Companies Act 1993 on 15 December 2020. They have taken no part in the proceedings.

PCBUs in control of certain hazardous substances, or certain quantities of hazardous substances, are required to obtain, and regularly renew, their certifications.

[6]                 The second and third defendants, Messrs Farquhar and Lelean, are both professional compliance certifiers. In 2005 they founded Old DGC to capitalise on market opportunities within the certification “space”. Their business grew from strength to strength and by 2019, when the events relevant to these proceedings occurred, Old DGC was the largest business of its kind nationwide boasting clients such as Air New Zealand, Auckland Airport, Fletcher Building and the Department of Conservation. It consisted of a team of 12: three compliance certifiers, the third being Mr Steve McLellan hired in 2013; two trainee certifiers, Ms Shaa’ista Kader and Ms Jana Badurova; and various administrative staff.

[7]                 Under the stewardship of Messrs Lelean and Farquhar, Old DGC saw several key legislative and regulative changes affecting the hazardous substances sector, the most recent being the introduction of a new regulatory regime in 2017: the Health and Safety at Work (Hazardous Substances) Regulations 2017 (HAS Regulations). These regulations imposed stricter requirements on PCBUs. In turn, this created new opportunities for Old DGC. For example, a new certification framework for so-called Class 6 and 8 substances meant the certification business could be expanded into these areas.2 But the new regime also posed challenges to Old DGC on account of stricter conflict rules as I will explain shortly.

[8]                 Although Old DGC’s core business was always inspection and certification, the company provided various ancillary services summarised below:

(a)Consultancy — it would be engaged by clients to advise them on how to achieve compliance with the relevant regulations.

(b)Training — in order to be certified, PCBUs are required to have qualified “certified handlers” to handle certain hazardous substances. Old DGC would provide training services to those who wished to qualify. Prior to the HAS Regulations, certified handlers were known

2      PCBUs were given until December 2019 to obtain certification in this respect.

as “approved handlers”. Significantly, the list of hazardous substances that would trigger a need for a certified handler is narrower than the list that triggered a need for approved handlers under the old regulations.

(c)Regulation 4.5 training — effective 1 June 2018, reg 4.5 of the HAS Regulations introduced a requirement that every worker who used, handled or manufactured hazardous substances received appropriate information, training and instruction. Old DGC provided training accordingly.

(d)Product sales — these included hazardous substance signage, storage cabinets and segregation wheels.3

(e)Site plans — on occasion, Old DGC created site plans for its clients’ workplaces.

[9]                 One important feature of the HAS Regulations was the introduction of stricter conflict rules governing compliance certifiers.4 A particular issue for Old DGC, which was brought to the attention of Messrs Lelean and Farquhar by WorkSafe at a conference in early 2018, was the potential conflict in conducting both training and certification services. Providing both services meant that certifiers would effectively be approving training which they had themselves performed.

[10]              Messrs Lelean and Farquhar sought to meet this challenge by incorporating a separate company, Environmental Resources Limited (ERL), to undertake reg 4.5 training5 and certain consultancy services likewise considered in breach of the conflict rules. They did so in June 2018 but the business did not register for GST or commence active training until April 2019.6 In the interim, revenues from reg 4.5 training, which

3      A rotating wheel designed to display safe segregation information showing which classes of hazardous substances are compatible so to be loaded and stored with others.

4      For example, reg 6.22(2) of the Health and Safety at Work (Hazardous Substances) Regulations 2017 provides that a compliance certifier must not issue a compliance certificate if the certifier “is or has been responsible for, or has a financial interest in, the design, planning, or construction of anything relating to the matter”.

5      But not training of certified handlers which was not perceived as involving a conflict.

6      During the period April to May 2019, the vendor transferred all reg 4.5 training activities from Old DGC to ERL. This included changes to Old DGC and ERL email addresses to ensure training inquiries all went to ERL.

became an extremely profitable source of business, were booked to Old DGC. From May 2019, ERL also began to sell storage cabinets, signage and segregation wheels

—  all business formerly conducted by Old DGC. In addition, it started to prepare site plans for PCBUs and to undertake consultancy services in areas from which it considered Old DGC precluded.

[11]              In May 2019, Messrs Farquhar and Lelean decided to sell the DGC business and Mr Alan Dufty, of Barker Business Brokerage Limited (BBB), was engaged to do so. An information memorandum (IM) was prepared and signed off by Messrs Lelean and Farquhar on 1 July 2019. In the IM, the two described their willingness to remain with the business for up to two years after the sale in order to assist the eventual purchaser. They further acknowledged their “additional” and “standalone” business, ERL, which was described as having a “great synergy with DGC”. The prospect of a sublease arrangement between ERL and the new owner of the DGC business was also mentioned.

[12]              In terms of financial information, the IM included Old DGC’s draft financial statements for FY2019, provided by the fourth defendant with a covering letter. The EBITDA7 of the DGC business for FY2019 was stated to be $1,043,534 to which a multiplier of approximately 4.3 was applied resulting in an asking price of $4,495,000. The IM included impressive projections for growth, forecasting an EBITD of approximately $1,319,000 for the financial year ended 2020 (FY2020). An advertisement for sale was published on 4 July 2019.

[13]              Early interest in the sale was expressed by then business partners Mr James Dunphy and Mr Scott Bower. Mr Dunphy is a former investment banker and financial advisor, who after a successful career in Australia, returned to New Zealand intending to acquire a business valued in the range of $3–8 million. He had been introduced to Mr Bower by the Bank of Zealand (BNZ) as Mr Bower was similarly seeking to purchase a private company.

7      Earnings before interest, taxes, depreciation and amortisation. EBITDA and EBITD tended to be used interchangeably in the proceedings, given that amortisation was negligible.

[14]              On Thursday, 4 July 2019, Mr Bower signed a confidentiality agreement provided to him by BBB. The same day he was sent a copy of the IM. He provided this to Mr Dunphy and the two quickly requested a meeting with Messrs Lelean and Farquhar, which occurred the day after. During that meeting, the attendees discussed Old DGC’s business model and trajectory as well as ERL and its synergies with Old DGC’s business. By the time the meeting had concluded, Mr Dunphy had formed the view that the DGC business met all the investment criteria he had in mind: a leading market position, strong growth potential and high free cash flow.

[15]              That weekend, he created a preliminary cash flow forecast and valuation model based on the information and financial data contained within the IM. He named the model “Project Dango”. It was in a form suitable to share with prospective lenders. The model confirmed that, even with more conservative growth forecasts compared to those in the IM, Old DGC’s business was well placed to produce excellent returns on equity over six years.

[16]              Accordingly, Messrs Bower and Dunphy decided to make a joint offer to acquire the business at the asking price, conditional on finance and due diligence. That offer was accepted on 9 July 2019. Messrs Bower and Dunphy subsequently engaged accountants at BDO New Zealand (BDO) to undertake financial due diligence and BDO was accordingly granted access to Old DGC’s Xero data8 by the vendor.

[17]              BDO subsequently provided Messrs Bower and Dunphy with a financial due diligence report dated 7 August 2019 (the BDO report). The BDO report identified that the normalised EBITDA of the business for FY2019 was $956,000, around

$87,000 lower than that stated in the IM. This led to discussions between Messrs Bower and Dunphy and Messrs Lelean and Farquhar, via the broker, that resulted in an amendment to the sale and purchase agreement making a portion of the purchase price contingent upon an earn-out, calculated by reference to the actual EBITDA for the first twelve months following settlement.

[18]              On 8 and 13 August 2019, Messrs Bower and Dunphy received finance proposals from both Kiwibank and the BNZ. However, they were unable to reach

8      Xero is a software that collates a business’s accounting information.

agreement on an appropriate financing package and their associated rights and obligations inter se. As a result, the finance condition remained unsatisfied and the agreement lapsed on 15 August 2019.

[19]              On 16 August 2019, Mr Dunphy and his sister, Ms Philippa Dunphy, decided that Mr Dunphy should make a new offer to acquire the business, without Mr Bower. They agreed that Tamaki Research Limited (TRL), a company of which they were joint directors, would acquire the business. Ms Dunphy agreed to stay on as a director post-acquisition. Mr Dunphy was aware of a possible competing bid from Mr Bower, so he quickly signalled to BBB his intention to make a formal offer and signed a new confidentiality agreement. Later that day after a meeting with the vendors and the broker, he made the offer accordingly.

[20]              On 19 August 2019, Mr Dunphy supplied Kiwibank with an updated version of his Project Dango model and received funding approval. That same day, the vendor returned the agreement for sale and purchase (SPA) countersigned.

[21]              The SPA recorded Old DGC as vendor, with Messrs Farquhar and Lelean as covenantors, and Mr Dunphy “and/or nominee” as purchaser. The business sold was described as an “HSWA Compliance/Auditing Service Business”. The total purchase price was $4,495,000, with $4,300,000 payable on settlement and the balance contingent on the business’s performance in the 12 months following settlement. Relevantly, the SPA contained a turnover warranty of $2,300,525 for FY2019. That warranty is at the centre of the parties’ dispute.

[22]              Settlement of the SPA occurred on 30 August 2019. TRL subsequently changed its name to Dangerous Goods Compliance Ltd, referred to in these proceedings as New DGC, and Old DGC changed its name to Farquhar Lelean Holdings Ltd. The latter has since been placed in liquidation.

[23]              The further terms of sale also provided for the execution of a lease of the existing Old DGC premises9 in favour of New DGC, with a sublease of part of the premises to ERL, and for New DGC and Messrs Lelean and Farquhar to enter into a

9      Owned by interests associated with Messrs Lelean and Farquhar.

consultancy agreement for provision, inter alia, of compliance certification services to New DGC. Pursuant to that agreement Messrs Farquhar and Lelean would work around four days a week for New DGC, with the balance of their week devoted to ERL.

[24]              Very shortly after assuming control of the business, Mr Dunphy identified a substantial “hole” in its revenues. His inquiries quickly led him to identify that (on his figures) $558,008 of reg 4.5 training revenue had been booked to Old DGC in FY2019, when the IM had identified this as an area of business which the conflict rules precluded the company from engaging in and which was therefore being undertaken by the “synergistic” ERL. New DGC’s solicitors immediately wrote to BDO alleging negligence for a failure to exclude reg 4.5 training revenue from Old DGC’s normalised accounts when conducting financial due diligence. Mr Dunphy showed the letter to Mr Lelean in October 2019. In his evidence he said Mr Lelean “turned a colour of white”. Ultimately, BDO denied negligence and this line of potential recovery was ultimately abandoned.10

[25]              Although Mr Dunphy’s initial focus was on reg 4.5 training revenue, his concerns expanded to include other revenue streams booked to Old DGC in FY2019 which he says did not form part of the sale. Cumulatively, he adopted the description “Additional Businesses” to refer to all activities reflected in Old DGC’s FY2019 revenues which, on the basis of the IM, he said should not have been included. These “Additional Businesses” of Old DGC are defined in the plaintiffs’ third amended statement of claim as follows:

(a)conducting training courses, including training for workers to meet the requirements of reg 4.5 of the HAS Regulations;

(b)consulting work to assist clients to comply with the HAS Regulations;

(c)consulting work for one client relating to the review of details in safety data sheets to assist that client to comply with HAS Regulations;

10     The reasons for doing so will be apparent from a more detailed discussion about the scope of BDO’s instructions later in this judgment.

(d)sale of emergency response plan templates;

(e)sale of storage cabinets for hazardous substances to assist clients to comply with the HAS Regulations;

(f)sale of segregation wheels to assist clients to comply with the HAS Regulations; and

(g)sale of signage to assist clients to comply with the HAS Regulations.

[26]              On Mr Dunphy’s calculations, the revenue attributable to the Additional Businesses for FY2019 was $817,98611 and revenue for auditing and compliance certification work was $1,482,539. Together these figures comprise the warranted turnover for the business sold. At the heart of New DGC’s case is the proposition that the Additional Businesses did not form part of the sale and that the turnover warranty was therefore false.

[27]If it is correct in that assertion, then the consequences are two-fold:

(a)it has paid an artificially inflated purchase price calculated on a multiple of earnings unrelated to the business actually acquired; and

(b)because the future performance representations in the IM were built on the premise of inflated FY2019 earnings, they too are incorrect.

[28]              It is on this basis that New DGC seeks damages against the first, second and third defendants (the DGC defendants).

The first cause of action: breach of turnover warranty

Introduction

[29]              This cause of action is advanced by New DGC against Old DGC and against Messrs Lelean and Farquhar as covenantors under the SPA.

11     The revenue attributable to the Additional Businesses, as pleaded, was ultimately agreed by the parties to be $808,652.

What was warranted by the turnover warranty?

[30]              Although in the context of a typical business sale this is not a question which would excite much debate, it was in this case robustly contested.

[31]              New DGC says that it was a warranty relating to a certification and auditing business (acknowledging that the IM also indicated that the business being sold dealt in a small range of products and conducted certified handler training). Messrs Lelean and Farquhar say that the reference is to the total turnover of the vendor company in FY2019.

[32]              This issue is fundamentally one of contractual interpretation and falls to be decided on standard principles which I now briefly summarise.

[33]              The proper approach, as endorsed by the Supreme Court in Firm PI 1 Ltd v Zurich Australian Insurance Ltd,12 is an objective one; the aim being to ascertain “the meaning which the document would convey to a reasonable person having all the background knowledge which would reasonably have been available to the parties in the situation in which they were at the time of the contract”.13

[34]              The background, also referred to as the matrix of fact, can include anything so long as it is relevant.14 The background will be relevant if it affects the way in which a reasonable person would understand the language of the document. It follows that the meaning of a contract is to be informed by both the context provided by the contract as a whole and the admissible background.15

[35]              While context is a necessary element of the interpretative process and the focus is on interpreting the document rather than particular words, the text remains centrally important. If the language at issue, construed in the context of the contract as a whole, has an ordinary and natural meaning that will be a powerful, albeit not conclusive, indicator of what the parties meant.

12     Firm PI 1 Ltd v Zurich Australian Insurance Ltd [2014] NZSC 147, [2015] 1 NZLR 432 at [60].

13     Investors Compensation Scheme Ltd v West Bromwich Building Society [1998] 1 WLR 896 (HL) at 912.

14     Firm PI 1 Ltd v Zurich Australian Insurance Ltd, above n 12, at [60].

15     Firm PI 1 Ltd v Zurich Australian Insurance Ltd, above n 12, at [60].

[36]              In Bathurst Resources Ltd v L&M Cole Holdings Ltd, the Supreme Court considered the approach to be applied to the admissibility of extrinsic evidence concerning pre-contractual negotiations and conduct subsequent to the conclusion of the agreement.16 It held that the same approach should be applied to both; that is, the extrinsic evidence will be admissible if it tends to establish a fact or circumstance capable of demonstrating objectively what meaning both parties intended their words to bear.17 Applying the provisions of the Evidence Act 2006, I must ask myself whether the extrinsic evidence tends to prove anything relevant to the notional reasonable person.18 Evidence that merely proves one party’s subjective intention or belief as to the meaning of the words is inadmissible on account of its irrelevancy to the objective interpretation exercise.

[37]              Turning then to the SPA itself. It is in the widely utilised ADLS/REINZ fourth edition standard form agreement for sale and purchase of a business. Its relevant provisions are replicated below.

[38]              The description of the business, which appears on the front page of the SPA, provides:

[39]Sub-clause 1.1(4) provides:

“Business” means the business described on the front page of this agreement, including the assets.

[40]The turnover warranty, which appears on the front page of the SPA, provides:

16     Bathurst Resources Ltd v L&M Coal Holdings Ltd [2021] NZSC 85, [2021] 1 NZLR 696.

17     At [88]–[89].

18 At [89].

[41]Sub-clause 6.5 provides:

The vendor warrants and undertakes that the turnover warranty details stated on the front page of this agreement correctly disclose the turnover of the business (excluding GST) for the period stated.

[42]              Mr Taylor KC, counsel for New DGC, says that there can be no dispute that where the term “business” is used in the SPA, it takes its meaning from sub- clause 1.1(4) and the material on the front page of the agreement referred to in para

[38] above, despite the fact that the capitalised term “Business” is not used anywhere in the SPA. That is obviously correct as the standard form ADLS/REINZ agreement for sale and purchase of a business does not proceed on a capitalised definition basis.19

[43]   He says that, viewed within the context of the IM, what was being sold was a compliance and certification business (albeit with small amounts of residual revenue from further activities), exclusive of the Additional Businesses as reflected in the FY2019 accounts. In support of this argument, he says the IM:

(a)represented the services of the business being sold as (primarily) compliance and certification;

(b)identified Old DGC as also selling a “small range of products” including “EPA Approved Guides and Practice Charts, Dangerous Goods Emergency Response Guides, and technical information”;

(c)described the training component of the business being sold as limited to certified handlers, stating that “strict conflict of interest policies” under the new HAS Regulations meant that “[i]tems required for

19 Although sub-cl 1.1(4) states “‘Business’ means the business described on the front page of this agreement …”, the capitalisation simply reflects the fact that the word “business” is the first word of the sentence. Defined terms which include two words, for example “Business records”, do not carry the capitalisation to the second word. Within the operative clauses of the SPA all of the defined terms are used in a non-capitalised way unless at sentence commencement.

certification such as site plans, comprehensive hazardous substance signage, newly introduced staff training requirements (excluding certified handlers20 which is DGC’s domain) has to be provided by an external entity – ERL” (emphasis added); and

(d)emphasised that the business being sold could expect “great synergies” with ERL.

[44]   Mr Blanchard KC, counsel for Messrs Lelean and Farquhar, opens his argument by reference to the business description on the front page of the SPA which refers to “HSWA Compliance/Auditing Service Business (Dangerous Goods Compliance)”. He says it is significant that the word “compliance” is used and not “certification” because the meaning of “compliance” in this context captures not only certification services but other services like consultation with clients on how they might comply or training people for the purpose of compliance. He argues that this position is then reinforced by reference to the name of the business itself as “Dangerous Goods Compliance”. He says that, read together, this provides strong support for the proposition that what was being sold (and therefore warranted) was the entire compliance business of the vendor, rather than its certification business only.

[45]   I do not find this argument persuasive. The bracketed reference to “Dangerous Goods Compliance” in the business description simply acknowledges the trading name under which the business operated since its inception and under which the purchaser would continue to operate.21 It cannot, in the context of an information memorandum based on a “strict” demarcation between activities which could be undertaken by the purchaser and those which could not (activities which in turn, would be undertaken by ERL), provide support for the proposition that the turnover warranty was for a business which traded outside the limits of that demarcation. The reference to “compliance” in the description simply mimics the trading name and, in any event,

20   In evidence Mr Lelean suggested that this reference to “certified handler training” was in error   and that in fact what was meant was “certified handler assessing”. He described this as a “one- on-one interview which takes quite some time”. He confirmed that by far the majority of the training reflected in FY2019 (totalling in excess of $500,000 in revenue) “was going to be moving to ERL”.

21 Clause 27 of the SPA specifically provided for transfer of the vendor’s interest in the “Dangerous Goods Compliance and DGC” trade name and brand.

was necessary to capture the training of certified handlers which was clearly flagged as “DGC’s domain”.

[46]   Next, Mr Blanchard refers to cl 31 of the SPA which relates to a vendor earn- out on the basis of the EBITDA of the “AcquisitionCo”. He emphasises the fact that AcquisitionCo is defined in sub-cl 31.2 as the company “established by the purchaser to acquire the assets and business of DGC Limited”. However, that sub-clause must be considered within the context of the agreement as a whole which elsewhere describes the business being acquired as an “HSWA Compliance/Auditing Service Business”.

[47]   Mr Blanchard also points to a restraint of trade carve-out in cl 26. He says that this carve-out is further indication that the business sold was in fact the entire business of the vendor. The carve-out relevantly provides:

Further to subclauses 7.1 and 7.2 the parties agree the restraint of trade is to exclude the Vendors other business Environmental Resources Limited (ERL) provided it does not engage in certification or auditing services which compete with the business DGC – Dangerous Goods Compliance.

[48]   Mr Blanchard argues that this carve-out would be unnecessary if the business being sold was simply one engaged in certification and audit. The argument assumes that if New DGC was to provide certification and auditing services while ERL was to provide other services, then ERL would not be in breach of the restraint of trade because the two companies would not be carrying out similar businesses and competing. It would only be if the purchaser was providing products and services beyond auditing and certification so that it and ERL were carrying on a similar business and competing, that the carve-out would be required.

[49]   I see the position in very much simpler terms. The purchaser was acquiring what was essentially a certification and auditing business. It was happy for ERL to operate various synergistic businesses. It was not happy for ERL to be operating in its “patch”. The carve-out was a reflection, not of the fact that on the date of settlement the purchaser would be carrying on businesses within ERL’s “patch”, but an acknowledgement that, in the future, ERL could not move into the certification and auditing business. If anything, the rationale behind cl 26 reinforces the plaintiffs’

interpretation by identifying that it is certification and auditing services (not training or consultancy) which would compete with the business being acquired.

[50]   Mr Blanchard then refers to the draft consultancy agreement annexed to the SPA and, in particular, background paragraph (a) where it is stated: “The company has agreed to purchase the DGC Limited business …”. He says that such “business” is not defined by reference solely to certification and auditing. However, in the agreement itself the services to be provided by Messrs Lelean and Farquhar are focused on the certification role. If, contrary to the IM, it was intended that the business being sold was a comprehensive provider of every service (including certification, auditing and training), then almost inevitably the consultancy services would have included a client training component. But such would have run counter to the whole premise of the IM and to the fact that Messrs Lelean and Farquhar intended to provide consultancy services for four days per week only, so that they had time to develop the training business which the IM clearly contemplated they would, thereafter, “synergistically” operate.

[51]   Because of the demarcation in the IM between the respective “domains” of DGC and ERL, the emphasis on the fact that DGC could not legally operate in ERL’s patch and the importance of that demarcation in driving an appropriate interpretation of the turnover warranty, Mr Lelean endeavoured, in his evidence, to “walk back” the strictures of the position set out in the IM saying that during the 5 July meeting with Messrs Bower and Dunphy, he and Mr Farquhar explained to them that:

… [w]hile it was our view that it would be inadvisable to provide things like regulation 4.5 training, it would be for them to work through the conflict issues if they wanted to provide those services.

[52]Mr Dunphy denied any such discussion.

[53]   Mr Blanchard submits that Mr Lelean’s evidence should be preferred. He says that it is consistent with an email from Mr Lelean to the broker during the period when the IM was being drafted in which he said:

DGC should not be offering training that will underpin [its] own certification service.

While we will not want any kind [of] restraint and the new owner can of course proceed as they see fit, we would not recommend it.

[54]   I do not consider it necessary to resolve this conflict. The IM was expressed in emphatic terms. Mr Lelean does not go so far as to say that he contradicted it, just that the purchaser would have to “work through the conflict issues” if it contemplated reg 4.5 training. It was demonstrably against Mr Lelean and Mr Farquhar’s commercial interests to in any way encourage the purchaser into those areas of activity, which were the bedrock of ERL. If there was any reference at all during the 5 July meeting to potential “wriggle room” in the regulations, I find that it was in the most muted terms with the further observation that it would be “inadvisable” to exploit it. That is not an adequate evidential foundation for the proposition that, viewed in its context, the warranty turnover was for a business which traded outside the limits of the IM’s demarcation.

[55]   However, although unpersuaded by these several arguments, it is at a more fundamental level which I consider the defendants’ analysis fails. It presupposes two things, both of which I regard as sufficiently unrealistic in a commercial sense that it calls into question whether the interpretation is one which would be conveyed to a reasonable person with all the relevant background knowledge.

[56]   The first appears from the following rhetorical question and comment in Mr Taylor’s submissions:

Why would a sale and purchase agreement warrant the turnover of a business which was not the business being sold? The entire utility of a warrant of this kind is that it is about the property being sold, not any other asset.

[57]   I agree. There is simply no point in a warranty disconnected from the subject matter of the sale. The corollary also applies. Identification of turnover will, in the absence of some specific qualification, automatically link to the business bought and sold.

[58]   The second is a related point. As the defendants’ expert, Mr Grant Graham confirmed, small businesses in the $1–10 million annual turnover bracket invariably

sell within a relatively narrow band of EBITD or EBITDA multiples.22 It is inevitable that, in pricing the business with the assistance of their broker, Messrs Lelean and Farquhar would have turned their minds to issues such as the business’s sustainable cashflow, potential for growth, barriers to entry and all the related matters which would have ultimately informed a decision on the appropriate multiple. The IM itself supports the inevitability of that conclusion by identifying both EBPITD23 and EBITD. Graphs of both are also provided.

[59]   In turn, Mr Dunphy adopted an entirely orthodox approach to his assessment of value, adopting with minor adjustments the warranted income figure, together with the expenses identified in the draft financial statements, to make his own EBITD assessment. As a sophisticated purchaser with a strong business background, he then assessed the asking price against earnings. He was prepared to pay an orthodox multiplier on those earnings. Nothing about that was out of the ordinary.

[60]   It borders on the inconceivable that any purchaser, let alone one as sophisticated as Mr Dunphy, would be prepared to pay a multiplier of historical earnings which were simply not being duplicated in the business acquired. Even on the approach of Mr Graham, the purchaser would be paying $1.7 million more than the business was worth. On the plaintiffs’ assessment, the premium would substantially exceed $3 million.

[61]   In all of these calculations, turnover represents the starting point. Mr Dunphy could hardly have been expected to pay a multiplier based on turnover of which approximately one-third had been transferred to longstanding participants in the industry and from whom he would have to endeavour to recover that business or replace it from other sources over time. And even that assumes, contrary to the advice which Mr Dunphy had received, that New DGC could legitimately conduct such business despite what he had been told about the conflict rules.

[62]   Any construction of the contract which uncouples turnover from the business being acquired is, in my view, so commercially untenable as to challenge the premise

22     Clearly businesses trading at a loss may sell on some other basis, including underlying asset value.

23     Earnings before proprietor’s income, interest, tax and depreciation.

on which it rests. It is such a construction for which Mr Blanchard is in fact contending and I reject it.

[63]   On my objective construction of the SPA,24 the business sold by Old DGC was primarily an auditing and certification business, but one that sold a small number of products including segregation wheels,25 EPA Approved Guides, Practice Charts and Dangerous Goods Emergency Response Guides. Additionally, I accept that the business sold carried out certified handler training and a limited range of consultancy services which could not be said to be in conflict with the primary certification services. I will now refer to this collection of activities constituting the business sold as “DGC’s domain”. The balance of Old DGC’s business activities, including reg 4.5 training, signage, cabinets and conflicted consulting, were not properly part of DGC’s domain and therefore not acquired by New DGC under the SPA.

Did the turnover warranty overstate the turnover of the business that was sold and, if so, by how much?

[64]The vendor warranted that the turnover of the business, as described, was

$2,300,525. However, approximately one-third of that amount represented turnover in goods and services which Messrs Lelean and Farquhar intended to keep for ERL, being primarily the revenue from the new reg 4.5 training but also from products like hazardous substance signage which were identified as necessarily provided “by an external entity” in the IM.

[65]   By agreement of the parties during trial, the total FY2019 revenue attributable to the Additional Businesses as pleaded was identified as being $808,652. There was some subsequent conflict, expressed in various memoranda following trial about whether this sum properly made allowance for what the IM identified as the “small range of products”, like EPA Approved Guides and Practice Charts which the IM

24 Informed, as I am entitled to be, by the factual matrix of which the single most important component is the IM.

25 There was no evidence that the supply of these seemingly “off-the-shelf” products by a certifying company would attract regulatory attention. They were not listed in the IM as products which had to be provided by “an external entity”. Nor do I see sale of these products as something which would have to be wrested from a market dominant ERL.

envisaged any purchaser could continue to sell despite the new regulatory regime. I will return to this issue in my discussion on damages.

[66]   Although broadly agreeing the relevant figures, Messrs Lelean and Farquhar robustly denied any breach of warranty for reasons premised in their construction of the contract. They submitted that the purchaser acquired all of the assets (excluding one or two motor vehicles)26 of Old DGC and that this included knowhow, customer and employee relationships, training materials etc. Accordingly, they asked their expert, Mr Graham, to answer the following hypothetical:

What would the effect  be, if any,  on business  value if Mr  Farquhar and   Mr Lelean misrepresented/warranted that the business sold, generated turnover of $2.3 million from compliance certification in FY19 (Scenario A), when that $2.3 million in fact included revenue from compliance certification ancillary products and services (Scenario B).

[67]   For the purposes of answering that question, Mr Graham was instructed to assume that:

(a)The business sold was capable of providing both compliance certification and ancillary products and services, both in FY19 and following; and

(b)In both Scenario A and B, earnings in FY19 were $1 million (being the managed earnings figure stated in the IM).

[68]   He said that in his opinion there would be no effect on the value of the business as a result of the misrepresentation/breach of warranty because in both Scenarios A and B, the business was capable of generating revenue of $2.3 million in FY2019 and earnings of $1 million.

[69]   In support of this opinion, Mr Graham advanced an analogy based on the hypothetical sale and purchase of a supermarket. In that hypothetical, the vendor misrepresents/warrants that its historic sales from grocery items are $10 million, with total earnings of $2 million when in fact, historic sales from groceries were $9 million and alcohol $1 million, with total earnings of $2 million. The purchaser believes they are buying a grocery business only but actually acquires an asset capable of selling

26     Whether one or two is an issue which never appears to have been satisfactorily resolved in the evidence.

both groceries and alcohol. They can choose whether to sell exclusively groceries or both groceries and alcohol; there is no restraint. Mr Graham postulated that in this context the vendor’s misrepresentation/breach of warranty and the purchaser’s incorrect belief have no effect on the value of what was purchased, unless for some reason different revenue streams are valued in different ways.

[70]   He stated, however, that his answer would be different if the business sold was not capable of providing the range of services that generated the warranted revenue — for example, if it was sold subject to a restraint of trade, or if the personnel capable of providing the relevant service were not included with the sale. He said he was instructed that neither of those factors applied in this case.

[71]   In cross-examination, however, Mr Graham readily accepted that the question he had initially been asked to consider would not be apposite in the context of a purchaser who had been told that:

(a)various activities reflected in FY2019 revenues could not be continued by the business being purchased because of strict conflict of interest rules;

(b)these additional activities would be conducted by a new business retained by the vendors;

(c)what was being sold was essentially an auditing and certification business only; and

(d)who understood the represented turnover related to the business sold.

[72]   In light of these factors, he said that he was “not sure that the question would fit the bill then”.

[73]   Since the cross-examination proceeded on premises which I accept reflect the facts of this case, the question Mr Graham was asked and answered is not therefore one I find helpful. Adopting his supermarket analogy, a more apt hypothetical would involve a vendor who in selling its supermarket provided a turnover warranty which,

unbeknownst to the purchaser, included both grocery and alcohol revenue streams, when the vendor had represented to the purchaser that it would take the alcohol sales business with it post-sale because the supermarket could, for regulatory reasons, no longer operate in that space. The fact that the purchaser may have ultimately found a way around this proscription (as New DGC did by establishing its own separate training company in 2020 and working up its own training materials from scratch) does not, in my view, negate the breach of warranty, which on this hypothetical should have been limited to grocery items only. The purchaser could expect that, all things being equal, it could generate the identified turnover without recourse to alcohol sales

—  a business activity it was told it could not engage in.

The affirmative defences

Introduction

[74]   The second and third defendants plead two affirmative defences: estoppel by convention and waiver. Both share a common theme that Messrs Dunphy, Lelean and Farquhar each knew that the warranted turnover included revenue from other activities which Messrs Lelean and Farquhar would, in future, be conducting through ERL and which were unrelated to the certification and auditing business which Mr Dunphy thought he was acquiring.

[75]   Before discussing these defences in detail, there are some general observations which I consider appropriately made.

[76]   Neither Messrs Lelean or Farquhar advanced their case on the basis that either at the meeting on 5 July or at any time thereafter, they told Mr Dunphy or Mr Bower, in direct and unambiguous terms, that the warranted turnover included such income. Nor was that proposition ever put to Mr Dunphy in cross-examination.

[77]   To the contrary, their argument is premised on what must, in their view, have been obvious to Mr Dunphy and/or knowledge which should be imputed to him through his advisors, BDO.

[78]   Mr Dunphy’s evidence was that he thought the turnover which was being warranted was of the business which he was acquiring — essentially, an auditing and certification business. That was undoubtedly the premise on which the IM proceeded. In turn, that was the basis upon which his evaluation exercise was conducted, and which underpinned the Project Dango financial model which he provided to both Kiwibank and the BNZ. He then arranged to borrow approximately $3 million from Kiwibank in the name of New DGC supported by a personal guarantee. He paid a purchase price reflecting an orthodox multiplier of the earnings which he understood attached to the business he was acquiring. Mr Taylor submits that it “beggars belief” that Mr Dunphy would have done all these things if he knew the turnover was overstated. It would effectively mean that he had committed a fraud on his bankers. It would also mean that he had knowingly paid a significant premium over any realistic market value for the auditing and certification business he thought he was acquiring and had knowingly entered into a personal guarantee to support this inherently improbable commercial transaction. I have some sympathy with this central submission.

[79]   My assessment is fortified by the fact that Messrs Lelean and Farquhar ran what was, in my view, a deliberately opaque process designed consistently to draw attention away from the fact that a substantial component of Old DGC’s FY2019 revenue (approximately one-third) related to products and services which they represented the company was unable to provide and which were to form the basis of ERL’s business. Examples of this opacity follow.

[80]   On 17 June 2019, Mr Dufty, asked Mr Lelean various questions to assist him in preparing the IM. These included:

Another thing that I forgot to ask (because people will). The business has grown year on year anywhere between 6% to 15% growth. (15% was from 2016 to 2017) (2017 to 2018 was 10%). But last year 2018 to 2019, was 19% growth (the most you have had). What is that down to? What was the main contributor of that?

Also the line on the P&L $51,334 conference facilities. Are they genuine business expenses for training around the country etc?

[81]As to the first of these questions, Mr Lelean responded:

The increase in growth in 2019 is most likely our first full year with the northern regional contracts for Z Energy and BP via Envirohaz Limited. I believe some smaller multi site clients also joined us along with a price increase. This was actually our first price increase in some time - hence my comment regarding another small increase this year.

[82]   This response, in turn, made its way into Mr Dufty’s draft of the IM which included the following statement under the heading “Opportunity”.

Last year DGC produced an EBPIDTA to the owners of $1,280,000. The 2019 financial year saw their largest growth spurt after a small price increase and their first full year with the northern regional contracts for Z Energy, BP and landing some smaller multisite clients. With the class 6 & 8 legislation change and with the owners likely to implement another price increase prior to sale, the business is poised to easily surpass previous earnings. DGC Limited is an industry leader and with growing industry demand has exciting opportunities on the horizon.

[83]   This statement remained substantially unchanged in the final version of the IM.27

[84]   What Mr Lelean did not say in his response and what was not therefore reflected in the IM was the fact that approximately 95 per cent of the FY2019 training revenue ($529,914 of $557,468)28 was for reg 4.5 training which the IM identified “ha[d] to be provided by an external entity – ERL”.

[85]   Although Mr Blanchard interjected himself into the relevant part of Mr Lelean’s cross-examination to point out that in earlier years, revenue from the training courses which had been discontinued on introduction of the new regulations had likewise been substantial and that Mr Dufty’s question was focused on reasons for “growth”, Mr Lelean’s answer was at best obfuscatory because one of the obvious reasons for the strong financial performance in FY2019 was the business’s considerable success with the introduction of reg 4.5 training — the very training which, in the IM, the vendor was saying had to be conducted by ERL.

27 The reference to “largest growth spurt” was replaced by the phrase “largest rise in sales” and the words “as well as” substituted for “and” before the reference to “landing some smaller multisite clients”. The EBPIDTA figure also changed to $1,239,000.

28     On Mr Farquhar’s figures, Mr Dunphy’s were slightly different but the difference is not material in the context I am referring to.

[86]   The misleading nature of Mr Lelean’s response was ultimately acknowledged by him in cross-examination:

Q. But you knew when you were working through this information memorandum that it’s going to be relied upon by purchasers and bankers and others as an indicator of maintainable future earnings, correct?

A.       Yes.

Q. And you’d accept wouldn’t you that at best that it is  just  plain misleading in terms of the contributors to that growth in revenue?

A.       No I don’t accept that.

Q. If there’s no mention of the substantial contribution of new training revenue or training revenue from class 5 (sic) 4.5 training which is not going to be repeated in the following year because you have taken it over through [to] ERL it is plainly misleading not to say that, isn’t it?

A.       That’s a fair comment.

[87]   Even more concerning was Mr Lelean’s response to Mr Dufty’s queries about the $51,334 of conference facility expenses, which was in the following terms:

Conference facilities are really a luxury, we would be able to conduct certified handler assessments in house in the boardroom if required but again, the business has always been cashflow positive so no immediate need for any cost benefit analysis regards the conference facilities.

[88]   But, as Mr Lelean acknowledged in cross-examination, the conference facility expenses were for reg 4.5 training, not certifier handler training. The following passages from the cross-examination are revealing:

Q. And the other element to that  relates  to the  conference facilities,  doesn’t it?

A.       Yes Sir.

Q. Which you knew at the time were being used for the regulation 4.5 training, correct?

A.       Yes Sir.

Q.       But that’s not what you told the broker is it?

A.       No Sir.

Q.       Why did you deliberately decide not to tell the broker?

A.I wasn’t sure that the training would be remaining where it was going forward.

Q.       What training?

A.       The regulation 4.5 training.

Q.You had just established a business, Mr Lelean, which was predicated on providing that training –

A.       Yes Sir.

Q.       Correct?

A.       Yes Sir.

Q.Yes. You make no mention of that in this response to the broker, do you?

A.       No Sir.

Q.And what do you instead do is fob him off by saying they’re a luxury for certified handler assessments, right?

A.       Yes Sir.

Q.And the certified handler assessments are part of the business that’s going to be sold with DGC correct?

A.       Yes, that’s correct.

…

Q.This was a deliberate lie, wasn’t it? You were not telling the broker the truth.

A.       It wasn’t a lie, Sir.

Q.       Well, what part of it was true, Mr Lelean?

A.That the conference facilities weren’t necessarily needed. A lot of the courses would be run in-house at various places.

Q.Mr Lelean, you knew full well that those conferences facilities were used for this regulation 4.5 training, correct?

A.       Yes, Mr Taylor.

Q.And that was because of the numbers of people that were attending those courses, correct?

A.       That’s right Mr Taylor, yeah.

Q.       It was a lie, wasn’t it, Mr Lelean?

A.       I don’t believe that’s correct, Sir.

THE COURT:

Q. If you don’t accept that, do you accept that it was a highly misleading statement?

A.       Possibly, your Honour, yes.

CROSS-EXAMINATION CONTINUES: MR TAYLOR

Q.You  see, what I want to put to you Mr Lelean is that this was part of your strategy for presenting an information memorandum that gave the clear impression that what was being purchased was the certifier business and that you were – you had an established company that was running the training and other related businesses that would otherwise be a conflict. Correct?

A.       Yes, that’s correct.

[89]   The answer to my question must, I consider, be seen as something of an under- statement. The email response was demonstrably misleading. Had the question been answered in an open and transparent way — that these were expenses associated with reg 4.5 training — then inevitably, in my view, the broker would have questioned whether there was corresponding revenue from this source reflected in the FY2019 accounts and, since that revenue was remaining with ERL, would (at a minimum) have encouraged a redrafting of the IM. Indeed, it is likely an adjustment to the proposed purchase price would also have been recommended. I find that Mr Lelean knew that to be the case and sought to conceal the true position.

[90]   Mr Lelean also ducked a direct inquiry from Mr Dunphy relating to revenue sources. On 10 July 2019, the vendors received a due diligence checklist from Mr Dunphy. As part of that checklist, he requested:

3.  Customers

a.  Revenue by customer last three years (excel format)

b.    If you record this, revenue by type – initial certification, renewal of certification, follow-up visit charges (eg following 3 month temporary certification), other revenue

…

[91]   The wording of the request at 3(b) indicates that Mr Dunphy’s revenue focus was on the certification business. Significantly, Mr Lelean did not respond to the due diligence request with any form of revenue breakdown (which he could have obtained

from Old DGC’s Xero ledger). Again, the result was to perpetuate the opacity of the sales process.

[92]   I have referenced these matters at reasonable length in introduction of my discussion of the affirmative defences for the reason that both those defences are, as I have indicated, based on an assumption that Mr Dunphy knew the warranted turnover included revenue from business activities which were being assumed by ERL. I will need to consider the detail of that proposition shortly. But where, as I am satisfied has occurred here, vendors actively dissemble or obfuscate in respect of a core issue relating to a sale, the Court should, in my view, be cautious in coming to the conclusion that the purchaser has nevertheless proceeded with eyes wide open.

The matters relied on by the defendants

[93]   Messrs Lelean and Farquhar rely on what they say are multiple indicators that Mr Dunphy knew the warranted turnover of $2,300,525 included revenue from a range of products and services which were to become ERL’s domain.

[94]   They start with the MPL sourced draft financial information appended to the IM. The relevant profit and loss statement records, under the heading “Cost of Sales”,

$69,206 in “Purchases” for FY2019 and $132,453 for the financial year ended 2018 (FY2018). The statement also includes expenses of $51,334 on conference facilities in FY2019 and $44,883 in FY2018. They say that this was a clear flag that the accounts must have included commensurate revenues from product sales and training.

[95]   But these references do not of themselves advance the defendants’ case. The IM made it clear that Old DGC sold a small range of products and it recognised a training role in respect of certified handlers for which use of conference facilities could well be assumed. Notably, the SPA indicated an amount of $0 for stock in trade. Selling products was clearly not a mainstay of the business being sold which was being billed essentially as a supplier of services.

[96]   I accept that in later consultation with BDO, Mr Dunphy learned more about product sales and some other revenue streams. I will deal with that issue next.

[97]In the BDO report, Old DGC is described as:

… a provider of various regulatory compliance services in relation to the use and storage of hazardous goods. It also sells products for the storage of hazardous goods, however this comprises a small part of their business. The majority of the revenue is generated through audits conducted for sites that deal with such goods. These audits are required on an annual basis.

(emphasis added)

[98]   On 13 August 2019, BDO provided Mr Bower a profit and loss analysis in the form of an Excel spreadsheet (the BDO analysis). Mr Bower forwarded it to Mr Dunphy that same day. It included the following relevant notes:

(2)Overheads includes spend on “cabinets”. Based on narrations in Xero, we understand that these cabinets should be reflected in COGS [Cost of Goods] instead as DGC sells this to their customers.

This does not appear to be reflected in their inventory balance.

(3)Overheads includes spend on conference facilities. Per Xero and google search, [we] understand that DGC holds health & safety workshops regularly and thus incur[s] costs from the conference facility host.

…

(6) $35k was spent on signs, segregation wheels and charts in FY19. Per Xero, this relates to multiple Hazchem signs that were printed. [We] [u]nderstand that this relates to the signs that are printed on their cabinets, signs etc that are sold to clients.

[99]   Tab 2 to the BDO analysis contained a monthly profit and loss compilation ending 30 June 2019. This showed that between 1 April 2019 and 30 June 2019, Old DGC spent $31,901.55 on cabinets, $7,119.77 on conference facilities and $4,936.85 on signs, segregation wheels and charts.

[100]  However, the fact that Mr Dunphy knew, from reading the BDO analysis, that the accounts included the cost of sales of various goods does not mean to say that he knew the accounts contained revenue unrelated to the business he was buying. Likewise, BDO’s observation that Old DGC regularly held “health and safety workshops” was not of itself an indicator that “ERL revenue” was included in the accounts. As I have already noted, the IM recognised Old DGC as the vendor of a small range of products. It also recognised training requirements around certified

handlers which, without the intimate understanding of the business which Messrs Lelean and Farquhar had, could well be understood as associated with the conference facility spend.

[101]  Mr Dunphy said that at the time he received the BDO analysis, he had no knowledge of which products were conflicted and which were not:

Q.At this time, did you have any knowledge as to which kind of goods  such as cabinets you could sell running a business dealing with certified handlers and which you could sell?

A.       No.

[102]  Mr Lelean in turn acknowledged that even in the immediate post-acquisition period, Mr Dunphy could not be expected to understand which goods and services were precluded by the conflict rules and which were not.29

Q.You  said in your evidence that Mr Dunphy didn’t say there was a   similar hole in the same way as for the regulation 4.5 training. Do you recall that?

A.       I do.

Q. And it’s fair to say, isn’t it, that this discussion you’re referring to took place very soon after in September I think, is that the date?

A.       Yes that’s correct.

Q.       Very soon after Mr Dunphy had taken over the business, correct?

A.       That’s correct.

Q.And you wouldn’t expect him to have  known what  goods  could be  sold or consultancy services provided that were outside the conflict of interest rules, correct?

A. How could he have been known or expected to know what the conflict rules covered and what they didn’t?

Q.       Yes.

A.       No that’s probably a fair assessment.

29  This part of the cross-examination related to Mr Lelean’s evidence that shortly after acquisition,  Mr Dunphy advised him of the upwards of $550,000 “hole” in revenue attributable to reg 4.5 training but said nothing about the turnover figure being inflated on account of product sales or consultancy.

[103]  Mr Dunphy had been told in the IM that the business he was acquiring also sold “a small range of products aimed at companies involved with the storage or transportation of hazardous goods and substances”. He had also received BDO’s confirmation that this constituted “a small part of [the] business”. Accordingly, there was not, in my view, anything in BDO’s advice which, in a general sense, fixed him with knowledge that the revenues warranted by the vendors included income streams unrelated to the business identified for sale in the IM.

[104]  I accept that signage is in a potentially different category. Note 6 to the BDO analysis identified signage as including “the signs that are printed on their cabinets, signs etc that are sold to clients”. And the IM identified “comprehensive hazardous substance signage” as something that “has to be provided by an external entity – ERL”. I will need to return to that issue at a later stage.

[105]  Next, the defendants rely on both Mr Dunphy’s own Project Dango financial model, which showed monthly operating expenses up to June 2019, including the spends on conferences, cabinets and signs, as well as an email dated 21 August 2019 to Kiwibank in which Mr Dunphy responds to a question about references to “cabinets” in Project Dango by acknowledging that:

The company sells a small number of cabinets to customers. I don’t know exactly what the cabinets are but would be happy to find out if you need it.

[106]  My previous comments apply equally here. The stated position was not inconsistent with the position represented in the IM and Mr Dunphy could not reasonably be expected to know at that stage how the conflict rules applied.

[107]  Next Messrs Lelean and Farquhar refer to Old DGC’s standard form client proposal which Mr Lelean said in evidence had been requested by Mr Dunphy during due diligence.30 They rely on the fact that under the heading “Education and Advice”, the proposal states:

30 Mr Dunphy said he did not remember doing so. Mr Lelean’s email to Mr Dunphy sending the document is simply headed “Blank Proposal.docx” with no further information from which I infer that Mr Dunphy requested it. In any event, Mr Dunphy uploaded the document to his Dropbox on 15 July 2019.

DGC is interested in educating all clients and offers an (sic) on-site or centralised HSWA Workplace Chemical Handling courses to educate those involved in the management, inspection and handling of dangerous goods.

[108]  Further, under the heading “[Client]’s Benefits”, the document identifies Old DGC as offering “additional benefits to [Client] businesses over the standard client arrangement” (itself described as “the normal certification process and compliance requirements”). These additional benefits are stated to include, inter alia:

●A HSWA Comprehensive Workplace Chemical Handling course fee of $345.00 (plus GST) public course attendance and $3250.00 (plus GST), on-site attendance per individual, plus travel related expenses if out of Auckland.

…

●Advice and guidance on Emergency Management Response Plans to ensure sites are compliant with their Health and Safety requirements. This includes actual plans, site plans and advice with emergency trial evacuations.

…

●Additional advice outside the audit process (or cost) with a view to guiding site managers on concerns or actions regarding their compliance options for dangerous goods.

…

[109]  In my view, this document likewise does not materially advance the defendants’ case. The reference to “education” (for which a synonym in this case is “training”) is in the context of chemical handling courses only. Mr Lelean accepted that such courses “could be used to underpin a certified handler qualification”. Certified handler assessment (and associated training) was, as I have already said, within “DGC’s domain”. Moreover, the reference to “plans” is quite particular. It must be to Emergency Management Response Plans, not to the Hazardous Area Site Plans, which the IM identified as necessarily provided by an external entity. In the IM, DGC’s domain is stated to include the provision of “Emergency Response Guides”. No purchaser could, in my view, be expected to understand that the Emergency Management Response Plans referenced in the proposal represented a business activity from which DGC was appropriately excluded. Nor was the “additional advice” which it was stated the company could provide, inconsistent with what was otherwise being represented. Mr Dunphy understood that some limited

consultancy services could be provided as part of the audit and certification business as long as it was not in breach of the conflict rules. But this was all, in his mind, very much subsidiary to the business he thought he was buying.

[110]  In the same category is the standard form email which Old DGC sent to prospective clients and which was provided to Mr Dunphy. This was also relied upon by Messrs Lelean and Farquhar to suggest that Mr Dunphy knew that there was consultation revenue in the warranted figure which would not be duplicated in the business he was buying. The letter says:

HI,

Thanks for contacting Dangerous Goods Compliance Limited, regarding your workplace chemicals. DGC are registered WorkSafe Compliance Certifiers specialising in the certification of hazardous substances. We consult and advice (sic) business regarding their obligations under the HSWA Hazardous Substance Regulations.

…

Our Price for Consultation where [it is] determined no certification is triggered, is $200.00 plus GST per hour.

[111]  In my view, nothing turns on this document either. What appears to be referenced is pre-certification consultation relating to whether certification is itself necessary. That may well have been the type of consultation still available to DGC under the conflict rules.

[112]  Next, Messrs Lelean and Farquhar rely on Mr Lelean’s answer, in an email dated 25 July 2019, to a question Mr Dunphy had posed to the broker about consultancy fees. The question was misunderstood by Mr Lelean (it appears it was about consultancy fees as an expense item) but Mr Lelean’s answer, which was sent to Mr Dunphy and acknowledged by him, nevertheless explained that Old DGC earned revenue from consultancy:

3. Consultancy fees. We are asked to provide consultancy on a regular basis. Most of this we do not charge for as they tend to be quick technical questions that can be answered quickly. We do sometimes get engaged by architectural [firms] to provide consultancy and advice for proposed construction projects. These will normally require letters of engagement with the agreed price of

$200.00 per hour. It should be noted that if we do consult on any of these project[s]   we   legally  need  to  excuse   ourselves   from the  first  location

compliance certificate. This should be issued by a neutral industry peer to satisfy any conflict of interest issues. These consultancy fees should realistically be much higher with the time to create a file and job for each phone query, all chargeable at $200.00 per hour.

[113]  Mr Lelean’s response can be seen as minimising the role of consultancy in the business. He indicated that most was provided on a non-chargeable basis. The example of what was “sometimes” offered was not one which suggested Old DGC was acting outside the conflict rules identified in the IM. To the contrary, it was acknowledged as being part of the work it could do with certain provisos. I return to the point, acknowledged by Mr  Lelean  in  cross-examination,  that  at  that  stage Mr Dunphy would not have known and could not be expected to have known what the conflict rules covered and what they did not.

[114]  Next, Messrs Lelean and Farquhar rely on the employment contracts of Old DGC staff which were sent to and reviewed by Mr Dunphy. He had quickly identified Mr McLellan as a key employee and, on 16 July 2019, emailed the broker indicating a desire to “prioritise” a discussion with Mr McLellan for which it would be helpful if he could receive his employment agreement. This was provided the same day. The agreement is dated 5 August 2013 and Mr McLellan’s job title is “Hazardous Substance Consultant”. Under the heading “Duties”, the agreement recorded:

Hazardous Substance Consultant shall:

(a)provide Approved Handler Training Courses in line with Approved Company material;

(b)provide site visits and HSNO site assessments as instructed;

(c)provide Consultancy as instructed;

…

[115]  The only training element which was identified was in relation to approved handlers, which for reasons already discussed, was an activity that fell within DGC’s domain. Nor in the reference to “Consultancy” is there any suggestion that this was of a type precluded by the conflict rules.31

31     Although “Consultancy” is capitalised, it is not a defined term in the employment agreement.

[116]  The employment agreements of other less senior employees were also provided. In a spreadsheet which Mr Bower sent to Mr Dunphy, the role descriptions of then office administrators Ms Antonette Suares, Ms Jean Bewick and Ms Badurova were said to include:

3.ordering Hazchem signs, segregation items, NZ Standards and storage cabinets as required;

4.arranging courses including confirmations, flights and hire cars where required;

…

[117]  In relation to the products identified, my earlier comments apply. Mr Dunphy could not have been expected to know whether the sale of segregation wheels and storage cabinets was a precluded activity and therefore whether the turnover warranty was applying to something other than the business he was acquiring. In relation to signage, I have indicated further discussion is required.

[118]  Next, Messrs Lelean and Farquhar emphasise their evidence that at the meeting on 5 July 2019 with Messrs Bower and Dunphy, they said that they had started ERL because WorkSafe had told them about the conflict issues, that ERL had now been up and running “for a few months” and that it was providing the conflicted services.

[119]  Mr Dunphy did not accept that this had been said. On balance, I consider his memory likely to be inaccurate in that respect. What Messrs Lelean and Farquhar reputedly said was truthful to the extent that although ERL had been incorporated in 2018, it had only started to trade within the previous few months. It was also consistent with what Old DGC said in its May 2019 newsletter to clients.

[120]  However, there was nothing to suspect that the business Messrs Lelean and Farquhar identified ERL as now conducting was business undertaken by Old DGC in FY2019 (in turn reflected in its accounts), particularly in circumstances where the they stated in the IM that Old DGC could not provide such services. There is no reason to think that this was not new business initiated at the point ERL commenced to trade. I return to my earlier point. If what was for sale was a business, not with a $2,300,525 turnover but one approximately two-thirds of that, this was far from clear in the IM.

The position could, of course, have been simply and easily clarified at the meeting on 5 July. It was not because Messrs Lelean and Farquhar had, for some weeks, been pursuing a contrary strategy designed to achieve a sale price based on a turnover one- third of which would be assumed by ERL.

[121]  Finally, Messrs Lelean and Farquhar rely on what they say is knowledge appropriately imputed from BDO to New DGC via Mr Dunphy. They do so particularly in response to the “hole” in the training revenue alleged by New DGC, and in support of their affirmative waiver defence. In this context, as I will later elaborate, Messrs Lelean and Farquhar have the onus of establishing that BDO had actual knowledge of a breach of the turnover warranty. In my view, they fail to do so.

[122]  BDO’s scope of work was contained in a letter of engagement, dated 15 July 2019, addressed to Messrs Bower and Dunphy. Appendix A to the letter contained a detailed scope of work. The proposed “P&L review” recorded that BDO would “[a]nalyse the normalised historical EBITA; identify any non-recurring, one-off or abnormal items in the review period”. In a letter following New DGC’s allegations against BDO, dated 28 November 2019, BDO’s solicitors said that the scope of works had originally included a product-by-product analysis of Old DGC’s revenue, but Messrs Bower and Dunphy had not considered this necessary — probably unsurprising in the context of a turnover warranty supported by the personal undertaking of the vendor’s (evidently substantial) directors.

[123]  No evidence was adduced that BDO was told, either by the vendor, the broker or Messrs Dunphy or Bower, that there was, within the accounts, training revenue of a non-recurrent nature.32 They had no reason to go looking for that information and it borders on the inconceivable that, even allowing for the change to their brief, they would not have alerted their clients to over $550,000 of non-recurrent revenue had they actual knowledge of that. The impact on business value would have been so significant.

32     The letter from BDO’s solicitor specifically denies receiving any such advice.

[124]  It is not sufficient that BDO could, with further inquiry, have found out any relevant fact or even that it should have done so. Waiver cannot substitute for the absence of a contributory negligence defence to a breach of warranty claim.

[125]  I do not, in this context, have to decide whether BDO was the agent of New DGC. New DGC denies that it was. New DGC was not a party to the letter of engagement, was not the recipient of BDO’s advice and only agreed to purchase after BDO’s work was complete and the earlier Bower-Dunphy agreement for sale and purchase had collapsed. BDO’s offer of a side letter in favour of any new purchaser was not taken up. In that context, the defendants would have to argue knowledge imputed to Mr Dunphy as client which at a later stage was further imputed to a company of which Mr Dunphy was a director and with whom BDO had no direct relationship. I have not been addressed in sufficient detail to assess whether that argument is valid and, on the view I take, am not required to.

The estoppel defence

[126]  Mr Blanchard says that if the turnover warranty was breached, New DGC is estopped from relying on that breach because when the parties entered into the SPA they did so on the common assumption that the warranty turnover of $2,300,525 related to the entire turnover of the entity that is Old DGC.

[127]  What is pleaded is an estoppel by convention, a species of reliance-based estoppel. This estoppel has been described by the House of Lords as arising in circumstances:33

… where parties to a transaction act on an assumed state of facts or law, the assumption being either shared by them both or made by one and acquiesced in by the other. The effect of an estoppel by convention is to preclude a party from denying the assumed facts or law if it would be unjust to allow him to go back on the assumption …

[128]  It follows that an estoppel by convention is an estoppel from denying a proposition established, not by a representation or promise, but by mutual assumption.

33     Republic of India v India Steamship Co Ltd [1998] AC 878 (HL) [The ‘Indian Endurance’] at 913.

[129]  The leading case on estoppel by convention in New Zealand remains the Court of Appeal decision in National Westminster Finance NZ Ltd v National Bank of NZ Ltd.34 In that case, Tipping J laid down the following test that the party claiming the benefit of the estoppel — the proponent — must establish:35

(1)The parties have proceeded on the basis of an underlying assumption of fact, law, or both, of sufficient certainty to be enforceable (“the assumption”).

(2)Each party has, to the knowledge of the other, expressly or by implication accepted the assumption as being true for the purposes of the transaction.

(3)Such acceptance was intended to affect their legal relations in the sense that it was intended to govern the legal position between them.

(4)The proponent was entitled to act and has, as the other party knew or intended, acted in reliance upon the assumption being regarded as true and binding.

(5)The proponent would suffer detriment if the other party were allowed to resile or depart from the assumption.

(6)In all the circumstances it would be unconscionable to allow the other party to resile or depart from the assumption.

[130]  A frequent difficulty in application of this test is the demonstration of a mutual assumption. In order to be mutual, the assumption must be communicated between the two parties, either explicitly or impliedly.36 At the very least, the assumption must be shared in the sense that each of the two parties is aware of the assumption of the other.37 Tipping J explained it best:38

… the kernel of the doctrine seems to us to be that both parties are thinking the same; they both know that the other is thinking the same and each expressly or implicitly agrees that the basis of their thinking shall be the basis of the contract.

[131]  The requirement of a meeting of minds is essential to found the “convention” that gives rise to an estoppel. That is because, at an abstract level, a convention

34     National Westminster Finance NZ Ltd v National Bank of NZ Ltd CA159/92, 30 March 1993, partially reported at [1996] 1 NZLR 548.

35     At 30.

36     The ‘Indian Endurance’, above n 33, at 913 and Republic of Serbia v Imagesat International NV

[2009] EWHC 2853 (Comm), [2010] 1 Lloyd’s Rep 324 at [69].

37     John v George [1996] 1 EGLR 7 (CA) at 11.

38     National Westminster Finance NZ Ltd v National Bank of NZ Ltd, above n 34, at 24.

requires a communication which crosses an imaginary line drawn between party A standing on one side of the line and party B on the other;39 each party being invited to assent to the communicated assumption with the consequence that each will subsequently become responsible for the other’s reliance on it. This “crossing of the line” between parties may consist of either words or conduct from which the necessary sharing of an assumption can be properly inferred;40 a common subjective assumption is insufficient.41

117 International Standard on Assurance Engagements (New Zealand) 3000 (Revised) [ISAE (NZ) 3000]. The ISAE (NZ) 3000 is a disallowable instrument issued in July 2014 by the New Zealand Auditing and Assurance Standards Board of the External Reporting Board pursuant to s 12(b) of the Financial Reporting Act 2013.

engagement notwithstanding the contents of the credibility letter, he believed that if either standard were to be applied, the review standard would more applicable. That standard relates to reviews of historical financial information, a type of limited assurance engagement, whereby the assurance practitioner “expresses a conclusion that is designed to enhance the degree of confidence of intended users regarding the preparation of an entity’s financial statements in accordance with an applicable financial reporting framework”.118 In any case, Mr Taylor submits that in the most important respects ISRE (NZ) 2400 and ISAE (NZ) 3000 are essentially the same. He says that, based on either standard, before a practitioner provides an assurance opinion he or she must:

(a)agree an engagement;

(b)carry out work to verify the relevant information;

(c)ensure that the persons holding the relevant information agree to provide (and do provide) all of the information requested and required and obtain a written representation to that effect; and

(d)give a written report:

(i)containing an opinion appropriate to the level of assurance obtained;

(ii)describing the work undertaken to provide the assurance in its report; and

(iii)stating that it was performed in accordance with the applicable standard.

[291]  It follows that practitioners operating under a compilation assignment must, in my view, be vigilant to the fact that at the point they start expressing any opinion designed to enhance the confidence of third party users, they may step outside the

118   IRSE (NZ) 2400, above n 116, at [6].

inherent protections of the compilation standards, and be subject to the more exacting standards of an assurance engagement.119

[292]  In this case, Mr Poll proffered a letter “along the lines that I have reviewed [the FY2019 draft financial statements] and believe they are materially accurate”. He did so on the identified basis that the letter would be provided to the broker along with the statements. He then prepared the letter on actual or assumed instruction, with MPL noting its purpose as adding “credibility to the draft accounts to be used by the Business Broker”. The letter stated that the FY2019 draft financial statements were believed to be “materially correct” and could therefore be “relied upon” by the reader for assistance in the sales process.

[293]  In my view, the credibility letter clearly expressed a “conclusion in the form of an opinion designed to enhance the confidence of the intended user” and as such constituted a form of assurance.

[294]  Ms Harkess, for MPL, submits that the credibility letter merely conveyed that the FY2019 draft financial accounts were materially correct within the parameters of the assignment. In other words, that based on the financial information supplied by the client and as collected, summarised and classified by the accountant the draft numbers were unlikely to change.

[295]  I am unpersuaded by that submission. The statement of belief about material correctness extended beyond the profit and loss pages to capture the entirety of the FY2019 draft financial statements, including the Business Directory, Annual Report and associated notes.120 So MPL was, among other things, confirming that the

119 MPL argues that whether the compilation or assurance standards are applicable is appropriately a matter of expert evidence. It relies on Mr Graham’s evidence that the credibility letter, although unfortunately worded, was not an assurance within the terms of the standards. Mr Graham is a highly experienced practitioner and I have noted his views, but I do not ultimately consider them determinative because I see the issue as one of construction and interpretation of the relevant disallowable instruments — a matter properly determined by me.

120  For example, see SES-2, above n 104, at [9] which defines “financial statements” expansively as “a structured representation of the historical financial information, including related notes, intended to communicate an entity’s economic resources or obligations at a point in time or the changes therein for a period of time in accordance with a financial reporting framework. The related notes ordinarily comprise a summary of significant accounting policies and other explanatory information. The term can relate to a complete set of financial statements, but it can

following statements in the Annual Report were materially correct and could be relied upon in the sales process:

The business of the company is Dangerous Goods Compliance Consulting. The company’s business has not changed during the year under review.

…

Events Subsequent to Balance Date

The Directors are not aware of any matter or circumstance since the end of the financial year, not otherwise dealt with in this report or financial statements, that has significantly affected, or may significantly affect, the operations of the company, the results of those operations or the state of affairs of the company.

[296]  Both statements can be assumed to be of particular importance to any prospective purchaser because of their potential impact on the sustainability of earnings. I have no doubt MPL understood them accordingly.

[297]  Nor in proffering its opinion about the correctness of these statements can MPL, in my view, shield behind the proposition that it was simply relying on information provided by the client in accordance with compilation arrangements. It had asked the client for information about changes in the business activity and post balance date events but had not received any response. MPL was nevertheless prepared to include in its FY2019 draft financial statements an assertion that the directors were “not aware” of any such change in business activity. It then proceeded to assure intending purchasers that the draft statements were “materially correct”.

[298]  Ms Harkess submits that, however I choose to categorise the credibility letter, I should give deference to the Compilation Report and notations that confined liability by reference to the compilation engagement. I reject that argument. An accountant cannot have it both ways by, on the one hand, purporting to oust any responsibility to an intended user for the correctness of financial statements and, on the other hand, providing a contradictory covering letter purporting to assure such correctness. I am persuaded that the credibility letter cloaked the entirety of the FY2019 draft financial statements in a practitioner’s assurance thereby superseding the narrow terms of the

also refer to a single financial statement, for example, a balance sheet, or a statement of revenues and expenses, and related explanatory notes.”

compilation engagement and inviting the elevated standard of care of an assurance standard.

[299]  This then segues into the question of whether MPL breached the requisite standard of care. It was common ground between Mr Graham, Mr Poll and the plaintiffs that if the credibility letter is properly classified as pursuant to an assurance engagement, neither the requirements of ISRE (NZ) 2400 nor ISAE (NZ) 3000, summarised above at para [290], were complied with. Indeed, no work on top of that already undertaken for the compilation exercise was carried out. Under pressure from an established client, with a desire to assist it as best possible in an intended sale and with an impending departure overseas, Mr Poll instead simply proffered the opinion that the whole of the financial statements were materially correct and could be relied on.

[300]  Breach of a binding professional standard is typically compelling evidence of negligence. I accept that some breaches might be considered relatively benign in the sense they have no operative effect on outcome. But that is not the case here given that proper and diligent inquiry about changes in Old DGC’s business and post balance date events would, in my view, have likely exposed the issues which underpin all New DGC’s claims.

[301]  In my view, MPL already had more than sufficient information to place it on inquiry that neither of the statements referred to in the Annual Report may be correct. It knew that Old DGC’s traditional training business had come to an end. It knew a fresh opportunity was available to be exploited from 1 June 2018, ostensibly through a new corporate vehicle. It knew (or at least had the ready ability to find out) that the new corporate entity booked only nominal revenues for FY2019 but was actively in business from 1 April 2019. It knew that despite the apparent loss of a significant area of business activity, Old DGC’s FY2019 revenues were materially higher than the previous year. It knew Old DGC had been paying all the setup costs of the new business and that ERL had not registered for GST purposes until the new financial year. There were, in my view, multiple “red flags” that reg 4.5 training revenues may have been run through Old DGC until 31 March 2019 and thereafter assumed by ERL,

and that as a result, Old DGC’s stated FY2019 revenues may not have been sustainable in the future — a key consideration for any purchaser.

[302]  All of this would, in my view, have been revealed on proper interrogation of the directors, even allowing for the way they had dissembled with others. Indeed, by drilling down further into the revenues recorded in Xero,121 Mr Poll could have himself easily identified what was occurring. Instead, he proceeded to give an opinion about material correctness without even obtaining an answer to MPL’s business change and post balance date event questions. In so doing, he did not, in my view, satisfy the requisite standard of care owed to prospective purchasers.

[303]  Ms Harkess argues that in terms of the first of the Annual Report statements I have referred to, there was in fact no change in the company’s business “during the year under review” because the previous training regime became “obsolete” as at     1 December in FY2018. I do not accept that submission. For a start, I consider it involves too narrow a reading of the relevant words in the Annual Report. It need not, in my view, be the case that the company’s business on 1 April was in some way different to that on 31 March the following year. The statement could equally apply to a change in the previous financial year which impacted the current year. Indeed, both the FY2018 and FY2019 statements should, in my view, have identified the loss of the previous training business — the FY2018 statements noting that this occurred from 1 December 2017, and the FY2019 statements noting that they did not include a revenue stream which had, for eight months, featured in previous accounts.

[304]  However, if I am wrong in that approach, there was, nevertheless, an “intra- year” change — whereas in June 2018 it was envisaged that revenues from reg 4.5 training would not be booked to Old DGC, that is in fact what occurred. On neither basis was the representation materially correct. Proper inquiry would, in my view, have exposed it as such.

[305]  Finally, I come to the factual issue of whether New DGC relied on the combination of the FY2019 draft financial statements and credibility letter in entering

121   What Mr Poll referred to as getting his “hands dirty with”, something which he eschewed in the context of what he saw as his engagement.

into the SPA. I accept that it did. Mr Dunphy used the draft statements to create his financial models for the purposes of satisfying himself about the appropriateness of the acquisition and, thereafter, his bankers. In cross-examination, the following exchange occurred:

Q.       So you didn’t rely on Michael Poll then did you?

A.       Absolutely I did. Well my – the int –

Q.       Because you had a turnover warranty.

A.The entirety of my model was built using every piece of financial information in the document.

[306]  Because his models were forward looking, part of what he must be assumed to have relied on was the sustainability and growth potential of Old DGC’s revenues — both of which were issues inextricably linked to the questions of change during the year under review and post balance date events. He said as much himself.

[307]  I accept that there is an issue about whether Mr Dunphy relied on the Annual Report within the FY2019 draft financial statements. As indicated, although MPL provided the full document to Messrs Lelean and Farquhar, unbeknownst to it, only the profit and loss pages were included in the IM. It is correct that after their initial meeting with Messrs Lelean and Farquhar on 5 July 2019, Mr Dunphy called for a significant amount of information for due diligence purposes, including the full FY2018 financial statements and the FY2019 draft financial statements. These were added to his Dropbox on 12 July 2019. Ordinarily, that would give rise to a strong inference that the entirety of the FY2019 draft financial statements were reviewed and relied on. But during cross-examination by Ms Harkess about the scope of engagement as described under the heading “Compilation Report” in the FY2019 draft financial statements, Mr Dunphy initially said that “to the best of [his] recollection” the only extracts from the FY2019 draft financial statements which he received were those in the IM and that this is what he “really relied on”. It was then put to him that the relevant statements were added to his Dropbox, which he checked and confirmed over an adjournment. The same questions were then put to him about his reading the relevant disclaimers and he agreed that he had done so.122

122   Notes of Evidence at 352.

[308]  To be fair to Mr Dunphy, he couched his starting position in terms of “best recollection” and his subsequent acknowledgement that he had read material other than that in the profit and loss pages was made against interest (in the context of cross- examination about disclaimers) not in an attempt to bolster a reliance argument in the context of the MPL claim. Nevertheless, there was no specific reference in his written brief of evidence to reliance on statements in the Annual Report and there is his statement about what he “really” relied on referred to above. I cannot, therefore, be satisfied on the balance of probabilities that the Annual Report, said by Mr Poll to be materially correct despite absence of any verification of its key statements, was specifically relied on.

[309]  Is that fatal? In my view, no. The profit and loss pages described all of Old DGC’s revenues as “Consulting Income”. That undifferentiated description (coupled with what was said in the IM about the business being sold) lies at the heart of what went wrong in this case — a significant overpayment having regard to the sustainable earnings of the business represented for sale. Since, on my view of the credibility letter, it engaged an assurance standard, Mr Dunphy was entitled to and did implicitly rely on all that went with that, including proper interrogation and verification of income streams. Had that occurred, particularly with the background knowledge that Mr Poll had and his knowledge that the FY2019 draft financial statements were destined to prospective purchasers, I regard it as highly unlikely that the statements would have been presented in a form which did not acknowledge by note or otherwise that a significant part of the undifferentiated revenue was non-recurrent, or which did not identify and label Old DGC’s respective income streams in a way which alerted prospective purchasers to the problem. In that way, the “Consulting Income” description embodies and references the negligent background failures I have identified.

[310]  In the result, I find the negligent misstatement claim made out. Since my damages assessment in respect of the first cause of action accepted the warranty true value of the business as the actual price paid on settlement, the quantum of damages for that action equates to loss suffered on a reliance measure and therefore applies here.

Sixth cause of action: s 9 of the FTA

[311]  This claim was addressed economically in the parties’ submissions. I intend to do likewise. I accept MPL was clearly acting in trade and, for the reasons previously discussed, that the FY2019 draft financial statements and the credibility letter were objectively capable of misleading or deceiving New DGC as member of a class of possible purchasers. I find a breach of s 9 of the FTA established.

Contributory negligence

[312]  MPL argues that any finding of liability against it should be mitigated by a finding of contributory negligence123 on the part of New DGC’s agent, Mr Dunphy. It says that a discount of at or around 90 per cent should be allowed against any damages award.

[313]  It relies on an orthodox causal potency and comparative blameworthiness analysis which I accept is capable of producing a larger discount than that which I have recognised as applying to some of the claims against the DGC defendants.

[314]  MPL argues that the misconception that caused New DGC’s loss did not result from any failure on MPL’s part, but rather from Mr Dunphy’s failure to undertake proper and diligent inquiry into the revenues of the business he was acquiring. It emphasises that the warranted turnover figure was crucial to his decision to purchase the business and the fact that, on his own evidence, New DGC would not have proceeded with the purchase had he known the correct position. It also emphasises how comparatively simple it would have been for Mr Dunphy to identify the hole in Old DGC’s revenues124 and how there was effectively a 45-day due diligence window in which he or BDO could have done so. It suggests that by forgoing further inquiry in favour of reliance on the turnover warranty, Mr Dunphy became the “author of his own misfortune”.

[315]Other criticisms of Mr Dunphy include his:

123   Or equivalent finding under the FTA.

124   On Mr Dunphy’s own evidence requiring merely six hours of work with the Xero ledgers and underlying invoices.

(a)failure to follow up a request to the vendor about revenue allocations;

(b)failure to request personal login access to Old DGC’s Xero ledger during the due diligence period;

(c)failure to read or pay adequate attention to BDO’s identification of business activities outside the certification and auditing arena;

(d)failure to embed himself in the business to see how it operated; and

(e)staunch reliance on the credibility letter despite notations to the profit and loss pages which stated that MPL’s underlying engagement was on a basis that did not include verification, audit or review.

[316]  By comparison it says that MPL was simply asked to compile a set of statements based on client information, that there is no dispute the figures in the FY2019 draft financial statements are materially correct,125 that there was no challenge to Mr Poll’s evidence that he was not involved in the sales process beyond preparation of the FY2019 draft financial statements and credibility letter, and that he did not have actual knowledge that only part of the business being conducted by Old DGC in the FY2019 year was being sold.

[317]  New DGC, by contrast, argues that MPL never put it to Mr Dunphy that his due diligence was inadequate or that he paid insufficient attention to BDO’s reports.126 In any event, it says there was no evidence that BDO’s investigations were anything other than usual and reasonable in the circumstances and that there was no basis to assume revenues would be interrogated in detail by any purchaser who was receiving a turnover warranty. It submits that no reduction in damages should be made. Again, therefore, the parties approach the issue from polarised positions.

125 There was a small difference of approximately $14,000 to Old DGC’s profit before tax between  the FY2019 draft financial statements and the final statements. This difference is the result of the previously discussed subvention payment between ERL and Old DGC. The need for the subvention payment was realised during MPL’s preparation of ERL’s financial statements, after it had sent through the FY2019 draft financial statements for the IM.

126 I reject that criticism. The defendants cooperated in their defences, including joint instruction of Mr Graham. The second and third defendants actively explored the adequacy of Mr Dunphy’s due diligence in their cross-examination.

[318]  I have already accepted that Mr Dunphy could have done more to protect his position. My overall assessment of his evidence is that, in retrospect, even he acknowledged that to be the case. I accept also that, in the context of a well-supported turnover warranty, a prudent purchaser in his position, thinking they were buying an essentially certification and auditing business, would not ordinarily regard it as necessary to drill down into the individual components of the vendor’s revenue streams. From Mr Dunphy’s perspective — one I am sympathetic to in the context of the IM — anything other than certification and auditing revenue was peripheral to the purchase — a thin layer of icing on the cake. I am not substantially critical therefore of his (and Mr Bower’s) decision to limit the scope of BDO’s engagement as they did.127 But a prudent purchaser in his position would have at least followed up the lines of inquiry which Mr Lelean ducked and, as I have acknowledged, there were some “breadcrumbs” which he could have followed and which may have ultimately led him to the true position.

[319]  However, unlike the position with the DGC defendants, no element of obfuscation or deliberate opacity weighs in the comparative blameworthiness calculation when it comes to MPL. Mr Poll was, in my view, and for the reasons identified ill-advised in providing the credibility letter in the form he did, but I make no criticism of his candour or professional integrity. And, in terms of causal potency, where the question is whose conduct — plaintiff or defendant — was more influential in causing the loss,128 I assess the influence of MPL’s negligence vis-à-vis that of Mr Dunphy as significantly smaller than in the context of the claims against the DGC defendants.

[320]  I consider a reduction in the damages award of 40 per cent appropriate. I note that, as between defendants, issues of contribution are reserved.

127 Excluding a product-by-product analysis of Old DGC’s revenue.

128 Requiring a comparison between the influence of the plaintiffs’ negligence as against that of the defendant on the occurrence of the plaintiffs’ loss: see North Shore City Council v Body Corporate 188529, above n 91, at [82].

Result on claim against MPL

[321]  I give judgment on the claim against MPL in the amount of $1,410,733, together with interest pursuant to s 10 of the Interest on Money Claims Act 2016.

COSTS

[322]  I have not been addressed on costs. I anticipate the parties may wish to reserve their position until issues of contribution are resolved. They are represented by experienced counsel who I expect to agree their own arrangements for submissions if and when the Court’s further input is required. A telephone conference may be sought by any party in the event of disagreement. If submissions are filed, they are to be a maximum of five pages plus any attached schedules.

POSTSCRIPT

[323]  On 8 December, the plaintiffs advised an intention that costs be reserved. I do so accordingly.

Muir J

Solicitors:           Minter Ellison Rudd Watts, Auckland

Sellar Bone & Partners, Auckland McElroys, Auckland