Il Forno Limited v Kleine

[2017] NZHC 2809

IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY

I TE KŌTI MATUA O AOTEAROA TĀMAKI MAKAURAU ROHE

CIV-2016-404-000621 [2017] NZHC 2809

BETWEEN

IL FORNO LIMITED

Plaintiff

AND

DOUGLAS JAMES KLEINE First Defendant

AND

FLOW CONTROL LIMITED Second Defendant

AND

ANDREW MICHAEL KLEINE Third Defendant

Hearing:	22 September 2017
Appearances:	J Goodall and A Mitra for the Plaintiff and Counterclaim Defendant First Defendant in Person No appearance for Second Defendant
Judgment:	17 November 2017

JUDGMENT OF ASSOCIATE JUDGE SARGISSON

This judgment was delivered by me on 17 November 2017 at 3.30 p.m. pursuant to Rule 11.5 of the High Court Rules.

Registrar/Deputy Registrar

Date.......................................

Solicitors:

Wilson Harle, Auckland

J Goodall, Auckland

IL FORNO LTD v KLEINE & Ors [2017] NZHC 2809 [17 November 2017]

[1]     Il Forno Limited and Andrew Kleine apply for security for costs on counterclaims brought against them  by Flow Control  Ltd.    The hearing for the application proceeded unopposed.

[2]      Counsel for Il Forno and Mr Kleine submits an order of $85,000 represents a reasonable measure of security for likely scale costs in the event that Flow Control becomes subject to an adverse costs award.

[3]      I am satisfied that security for costs should be ordered, but for less than the full amount claimed.  My reasons follow.

Background

[4]      The substantive proceeding has its origins in a bitter dispute between two brothers, Andrew and Douglas (Jim) Kleine. Their disagreement is over the ownership of the shares in Il Forno, which runs an artisan bakery in Ponsonby.

[5]      Andrew holds  all  the shares  in  his  name,  and  manages  the  bakery.  Jim contracted to provide Il Forno with accounting, administrative, and taxation services through his company, Flow Control.

[6]      What is at stake in the proceeding is best explained by reference to the relief sought in the statement of claim and the counterclaims.  In its claim, Il Forno seeks:

(a)       Declarations that:

(i)       Andrew   Kleine   is   Il   Forno’s   sole   legal   and   beneficial

shareholder; and

(ii)Il Forno’s contract with Jim Kleine and / or Flow Control was cancelled lawfully. This is because Flow Control’s failure to provide the services contracted for caused Il Forno to default

on its tax obligation, exposing it to a costly prosecution by

Inland Revenue.

(b)Damages from Jim Kleine and / or Flow Control to compensate for losses caused by their negligence.  This is said to be made up of fines in the prosecution (approximately $9,000), costs ($1,500), and legal fees to defend the prosecution (yet to be particularised).

(c)      Orders for the delivery up of Il Forno’s documents and other property; and orders prohibiting the use or appropriation of its name, email accounts and website.

[7]      Flow Control’s statement of defence denies any wrongdoing that would give

rise to such relief.  In its counterclaim, it seeks:

(a)       A declaration that 50% of Il Forno’s ordinary shares are held on trust

for Flow Control, and an order that the shares be transferred.

(b)An order that Il Forno pay $650,000 plus GST on a quantum meruit basis for the services it provided but did not get paid for. In support, Flow Control lists in a schedule to the counterclaim numerous entries for attendances over the period 2 October 2006 to 21 December 2015, as well as related disbursements.

(c)      An order that Andrew Kleine pay damages for loss caused to the company by preferring his own interests over those owed to the Flow Control as shareholder in breach of fiduciary duty.  It is said, among other things, that Andrew Kleine used company funds to pay himself, and not the company’s tax.

[8]      Prior to the hearing on security for costs, Judge Bell gave timetable directions for Flow Control to file and serve documents based on the express assumption that it would have obtained legal representation by 10 August 2017.  It did not do so. Jim Kleine advised the court that. in accordance with Judge Bell’s directions, he did not seek to appear on Il Forno’s behalf.

[9]      The  hearing  for  this  application  therefore  proceeded  unopposed.  At  the hearing,  the application  for security for costs  focussed almost  entirely on  Flow Control’s claim for quantum meruit.  Little was said about the other counterclaims.

[10]     I accept counsel’s submission that the claim in quantum meruit has “a life of its own”.  The claim enlarges the substantive matters in issue well beyond the ambit of the plaintiff’s claim, and threatens to engulf the proceeding.  It requires detailed assessment of the services claimed for a historical period of 9 years between 2006 and 2015.   The defendants have produced over 42,000 documents relating to the alleged  services.  It  also  requires  extensive  expert  evidence  from  a  forensic IT specialist, an expert accountant, and a remuneration specialist.

[11]     Counsel thus posits that likely scale costs on the counterclaim for quantum meruit, would be around $120,000 based on the following assumptions:

(a)       The classification of the entire proceeding as a category 2 proceeding;

(b)The application of Band B to completed steps and anticipated steps in the proceeding (but putting aside steps to complete discovery).

(c)       The application of Band C to discovery steps, to reflect the excessive amount of material potentially discoverable.

[12]     Counsel also submits that Il Forno has a good arguable defence to the claim because:

(a)      The  defendants  have  stated  repeatedly  over  the  years  and   in documentary form that unpaid services were being provided on a pro bono basis.  Further, in an affidavit dated 5 November 2014, the first defendant deposed that notional professional fees of $400,000 had been waived.

(b)      There are obvious limitation issues for some of the individual claims.

Assessment

[13]     Rule 5.45(1)(b) provides for the circumstances in which a Judge may order a plaintiff to give security for the defendant’s costs. The court must address the following questions:1

(a)      Is there reason to believe the plaintiff will be unable to meet an award of costs against it?

(b)      Is it appropriate for an order for security for costs to be made? (c)     How much security is appropriate?

(d)      Should a stay be ordered?

Is there reason to believe the counterclaim plaintiff, Flow Control, will be unable to meet an award for costs?

[14]     This first question represents a jurisdictional threshold. Neither side has the onus; the court must simply come to a decision on the evidence before it as to

whether this threshold is met.2 The court will not order Flow Control to give security

1      Highgate on Broadway Ltd v Devine [2012], NZHC 2288, [2013] NZAR 1107 at [6]; Busch v

Zion Wildlife Gardens Ltd (In Rec and Liq) [2012] NZHC 17.

2      Wishart v Murray [2014] NZCA 461, [2014] 3 NZLR 722 at [163].

unless there is credible evidence for the belief that Flow Control suffers an inability

(as opposed to an unwillingness) to pay costs.

[15]     There is uncontroverted evidence before the Court that suggests Flow Control has no money and cannot pay its tax obligations:

(a)      its bank statements provided on discovery show minimal activity over a significant period, and a balance of around $8;

(b)there  is  evidence  that  it  is  failing  to  file  tax  returns,  risking  the imposition of increasing penalties which it has no hope of paying;

(c)      its failure to obtain legal representation is ongoing and that also points to its lack of resources to pay for its legal costs, quite apart from those of the opposing parties’;

(d)it has not sought to file any evidence to counter the considerable evidence that points to its impecuniosity, and it has provided no probative material to show it could meet a costs award of any magnitude.

[16]     All of this points to a highly probable state of insolvency. I find that the threshold is met for reasonably believing that Flow Control has no prospect, in its present  circumstances,  of  meeting  an  adverse  award  of  costs  should  it  be unsuccessful on its counterclaims.

Is it appropriate for an order for security for costs to be made?

[17]     I consider it would be just in all the circumstances to order security for costs:

r 5.42(2).

[18]     This is a discretionary analysis. The factors most pertinent in this case are whether Flow Control’s substantive claims appear unmeritorious, and whether the denial of security for costs in the circumstances of this litigation would be oppressive to its reasonable interests.

[19]     There is good evidence, on a preliminary assessment, that the quantum meruit claim lacks merit:

(a)      There is evidence that Flow Control was on a fixed-fee arrangement and strong indications that it did not intend to ever charge for what it now claims for. Indeed, Jim Kleine admitted on occasion (including on oath) to providing alleged additional services “pro bono”.

(b)The indications are that Il Forno’s experts also identify errors and problems with the accounting services that Flow Control was to provide.

(c)      There are unanswered questions as to whether Flow Control actually did the work it was contracted to do.

(d)Some of the individual claims appear to be time-barred, relating as they do to events that date back more than 6 years.

[20]     There is nothing before the Court to suggest any of the other counterclaims have any real merit.

[21]     Furthermore, withholding security for costs is not oppressive to Flow Control in my view.  It has persisted in proceeding without legal counsel, which has resulted in poorly articulated documents, and ostensibly excessive discovery claims. And it is difficult to avoid an adverse impression of Flow Control’s performance of its professional obligations given the situation Il Forno found itself in.

[22]     In the round, I consider that Flow Control’s right of access to the Court, and the  importance  of  its  claim  being  resolved  at  trial,  do  not  outweigh  Il  Forno’s

interest in being protected, to some degree, from the risk of a barren costs order.3

3      Clear White Investments Ltd v Otis Trustee Ltd [2016] NZHC 2837 at [4].

Quantum — if security is ordered, how much is appropriate?

[23]     Whether  counsel  is  right  in  his  assessment  of  scale  costs,  in  order  that quantum should not be so high as to be totally oppressive, I think $45,000 by way of security would afford a reasonable measure of security on the counterclaims.

Result

[24]     The application for security for costs is granted.  Flow Control is to provide security in two tranches as follows:

(a)       $25,000 by 6 December 2017, and

(b)      $20,000 to be paid on the close of pleadings date.

[25]     The proceeding is stayed pending payment of security as ordered, or further order.

[26]     Costs are reserved.

Associate Judge Sargisson