Imagine It No 1 Limited v Nexus Waikato Limited HC Hamilton CP88/00

[2001] NZHC 383

IN THE HIGH COURT OF NEW ZEALAND
HAMILTON REGISTRY CP88/00

BETWEEN IMAGINE IT NO 1 LIMITED
First Plaintiff

AND PAUL THOMAS ARMSTRONG
Second Plaintiff

AND RICHARD ANDREW POOLEY
Third Plaintiff

AND ROBERT MURRAY POOLEY
Fourth Plaintiff

AND NEXUS WAIKATO LIMITED
First Defendant

AND FRASER GROUP LIMITED
Second Defendant

AND MARK ANDREW FRASER
Third Defendant

Hearing: 23 February 2001

Counsel: P K McGrath for Plaintiffs
No appearance for Defendants

Judgment: 17 May 2001

RESERVED JUDGMENT OF GLAZEBROOK J

[1] This was a trial for the purpose of assessing damages pursuant to Rule 463 of the High Court Rules, the defendants not having filed a statement of defence. Pursuant to Rule 464 evidence as to damages was adduced by way of affidavit.

[2] There are two sets of plaintiffs and two sets of defendants. The first plaintiff (Imagine It No 1 Limited) and the second plaintiff (Paul Thomas Armstrong) claim against the first and third defendants, Nexus Waikato Limited and Mark Andrew Fraser. The third and fourth plaintiffs (Richard and Robert Pooley) claim against the second and third defendants Fraser Group Limited and Mark Andrew Fraser.

[3] The claims arise out of a failed commercial property internet advertising business franchised to the plaintiffs by the first and second defendants.

Claim of Imagine It No 1 Ltd and Paul Armstrong against Nexus Waikato Ltd

[4] Imagine It No 1 Limited (“Imagine It”) and its director Paul Armstrong claim that they were induced to enter into a licence agreement as licensor and guarantor respectively, as a result of pre-contractual misrepresentations by Mark Fraser and Nexus Waikato Limited. (“Nexus Waikato”). The term of the licence was five years plus a right of renewal for a further five years.

[5] The misrepresentations claimed were numerous but the most relevant for this proceeding is that the licence would produce net income before tax of approximately $57,325 in the first year and in the second year net income before tax of approximately $77,325 (Statement of Claim para 7).

[6] The projected profit did not eventuate and indeed the venture suffered substantial trading losses. As such Imagine It claims for lost profits and the trading losses.

[7] For the period February 1999 to January 2001; it claims the sum of $134,650 in lost profits. Although the licence was for five years it only claims one further year’s profits, taking the second year prediction of $77,325 (discounted by 10%, presumably for the time value of money) and applying it to the third year.

[8] In summary, therefore, Imagine It No 1 Limited claimed against Nexus Waikato Limited the following:

“Lost profits to January 2001 $134,650.00
Future lost profits to January 2002 $69,592.50
Trading losses $32,984.44
Total $237,226.94”

[9] Following the approach in Gloken Holdings Limited v the CDE Company Limited (1997) 6 NBLC 102,282, Imagine It also sought interest at the rate of 7% per annum from July 1999 (the mid point of the period during which the franchise was operated) to 22 February 2001.

Imagine It No 1 Limited’s claim against Mark Fraser

[10] Imagine It claims the same sums against Mark Fraser as it did against Nexus Waikato, but under the Fair Trading Act 1986. Counsel, however, acknowledged Cox & Coxon v Leipst [1999] 2 NZLR 15, in which the tort measure of damages was adopted for misrepresentations by a real estate agent under the Fair Trading Act 1986 but sought to distinguish it.

[11] In the event that Cox was applicable, however, Imagine It submitted in the alternative that the following damages ought to be awarded against Mr Fraser:

“(a) Lost value of franchise $25,000.00

(b) Set up costs $6,017.22

(c) Trading losses $32,984.44

Total $64,001.66”

[12] Imagine It also would seek interest on the damages against Mr Fraser at 7% for the period December 1999 to February 2001 of $5,116.59 (417 days @ $12.27 per day).

Claim by Richard and Robert Pooley against Fraser Group Limited

[13] Richard and Robert Pooley (‘the Pooleys’) claim that they also were induced to enter into a licence agreement with Fraser Group Limited (‘Fraser Group’) as a result of misrepresentations made by Mark Fraser and Fraser Group.

[14] The relevant misrepresentation in the case of the Pooleys concerned the minimum listings inserted in the license agreement. Those figures were inserted by Mr Fraser before the document was shown to the Pooleys, and despite their questioning, he insisted that such levels of listings would be achieved. This never occurred and indeed the Pooleys suffered trading losses.

[15] The lost profits claimed for the period to December 2001 amount to $220,210 (as based on the minimum listings). Although the licence agreement was for five years, the Pooleys’ claim only covered three years.

[16] A deduction from the lost profits was made for the earnings made by the Pooleys in doing alternative work. The earnings of Robert Pooley amounted to $46,061.75, being $26,321 for the year ending March 2000 and a further $19,740.75 for the period to January 2001. The earnings of Richard Pooley amounted to $42,416.67, being $7,000 for the 6 months to August 1999, $25,000 for the 12 months to August 2000, and a further $10,416.67 for the period to January 2001.

[17] In summary, the Pooleys therefore claim against the Fraser Group Limited the following:

“Lost profits to January 2001 $220,210.00

Trading losses $7,000.00

Less sums earned in mitigation ($88,478.00)

Total $138,732.00

[18] Following Gloken, the Pooleys also claimed interest taking October 1998, being the mid point date of operation of the business, as the starting point for interest to run.

The Pooleys’ claim against Mark Fraser

[19] The Pooleys claim the same amounts against Mr Fraser but, if it is held that Cox is applicable, the Pooleys claimed the following against Mr Fraser:

“Trading losses $7,000.00

Lost value of business $50,000.00

Equipment costs $7,000.00

Interest costs $3,650.00

Total $67,650.00”

[20] They also claimed Judicature Act interest on this sum at 7% from August 1999 to 22 February 2001, being $7,392 (570 days @ $12.97 per day).

Proper measure of damages

[21] As is evident from the preceding summary of the plaintiffs’ claims, the claims of Imagine It and Paul Armstrong and those of the Pooleys are substantially the same. Both concern misrepresentations as to the future viability and profitability of a franchise or licence. Both claims are advanced both in contract against Nexus Waikato and Fraser Group respectively, and under the Fair Trading Act against Mark Fraser personally.

[22] In both cases, the proper measure of damages was said to be loss of profits on the relevant agreement. Both parties also claimed trading losses. The same basis for relief was advanced against Mark Fraser under the Fair Trading Act. In the alternative, the standard tort measure of damages was claimed under this head. Interest was claimed on all damages sought.

[23] I shall therefore treat the claims as identical for the purpose of setting out the relevant legal principles and determining the proper basis for relief.

Loss of profits

[24] The plaintiffs submitted that compensation for loss of profits was appropriate on the basis of the decision in Mobil Oil New Zealand Ltd v Pacific Service Stations (1984) Ltd (CA 10/94, 15 March 1995). The claim in Mobil Oil was one in negligence. It concerned a breach of duty of care in supervising alterations being made to a service station. The resultant explosion rendered the business inoperable in the short term, and arguably may have led to business closure and consequential losses. The plaintiff company had more or less ceased to trade, and its owner had established another business.

[25] The normal approach to damages in tort cases is to put the plaintiff, so far as is possible, in the position he or she would have been in had the breach of duty not occurred. In Mobil Oil, loss of profits was clearly a legally available means of assessing this. In assessing damages on the basis of loss of profits, the High Court Judge had taken a period of 7 years as appropriate, given that the lease on the service station premises had 9 years to run, and that there was no real indicator that the business would have failed in that time. Detailed evidence was given on what the future profits of the business were likely to be, and the High Court Judge took a discount of 30% as appropriate to reflect the uncertainty in the future prediction of profit.

[26] The Court of Appeal discussed the High Court Judge’s reasoning at length, but concluded that the case would have been much better served by an assessment of damages based on the value of the business as a going concern on the date of the explosion. Essentially the business had been destroyed, and the plaintiff should have received the value of that business together with interest as compensation. While this involves an assessment of future profitability, such an inquiry is limited to the assessment of goodwill. Accordingly the appeal was allowed and the question of damages remitted to the High Court for assessment on that basis.

[27] The measure of damages in tort and contract are markedly different. As already stated, tort damages are designed to put the plaintiff in the position he or she would have occupied had the tort never been committed: Livingstone v Rawyards Coal Company (1880) 5 App Cas 25. On the other hand, contractual damages are premised on the desire to put the plaintiff in the position he or she would have occupied had the breach of contract not occurred: Robinson v Harman (1848) 1 Exch 850; 154 ER 363. In the case of a misrepresentation, this means putting the plaintiff where he or she would have been had the representations been true: see s6 Contractual Remedies Act 1979.

[28] It is clear, given that the aim of contractual damages is to compensate the plaintiff for a lost expectancy, that loss of profits is, in principle, an available basis for the assessment of damages. There are, however, a number of issues which must be addressed. New Zealand Motor Bodies v Emslie [1985] 2 NZLR 569 makes it clear that, even where loss of profits is available, damages will still be limited by the following general principles:

“[a] The plaintiff may recover only in respect of losses caused by the defendant’s misrepresentation; i.e. losses caused, for example, by the plaintiffs mismanagement are excluded.

[b] The plaintiff may recover only such damages which were within the reasonable contemplation of the parties at the time the contract was made; ie the contractual basis.

[c] The plaintiff may not recover in respect of losses which he could reasonably have avoided - the mitigation principle.

[d] Losses claimed must be properly proved even if liability is established, and

[e] The object of damages, so far as money can do so, is to place the plaintiff in the same situation as if the contract (or its notional term) had been performed.”

[29] Another point that arises in Emslie is the importance of identifying the precise nature of the misrepresentation: see 593-4. This will have an important flow on effect to the assessment of damages. Given the wording of s6, stating that the misrepresentation will be treated as a term of the contract, it is tempting to say that the misrepresentation is that the net profit per annum of the franchise would be, the sum represented as future profits. In this case, however, as in Emslie the misrepresentations concern the future profitability of a business. They are not statements of fact, but predictions of future fact. In Emslie, Barker J discussed this, and expressed the representation in these terms at 593:

“A false forecast is a misrepresentation in that it is saying that present facts are such that the future forecast follows logically.”

Hence the misrepresentation is that the current state of affairs indicates that a profit in the region of the sum given may reasonably be expected.

[30] There is, however, an important difference between characterising the representation as a warranty that the franchise would make a certain net profit per annum, and as a representation that the current state of affairs is such as reasonably to justify the prediction. If it is the latter (and in this case it appears to be so), then the representation is solely that such a profit is reasonably possible in the light of the current situation. This does not carry the plaintiffs as far as saying that they would in fact have made the predicted profit. They are still left with the task of proving the profit they would have made in order to quantify their claim for lost profits. Given that they appear to have had little business experience, and none in the specific areas relevant to the franchise, there are obvious problems of proof.

[31] One approach to this situation is to take a stance similar to that adopted by the High Court Judge in Mobil Oil, although of course as stated above that was a tort case. There the Judge accepted a 30% discount on the bare future profit figures in order to reflect uncertainty. While the Court of Appeal noted that that percentage was high, it was open to the Judge, and may have been appropriate at a time when the fuel industry was undergoing deregulation. In this case, such an approach would involve starting with the profit predictions, and discounting them to take account of the plaintiffs’ inexperience, the uncertainty inherent in starting up a new business and other relevant factors.

[32] In Mobil Oil, however, I note that the assessment of future profit was made on the basis of previous figures regarding the performance of the service station business. The same is true of the award of lost profits granted in Gloken Holdings Ltd v The CDE Company Ltd (1997) 6 NZBLC 102,272. In both cases, there were accurate records of the business’ performance on which to calculate an award. This is not true in this case. Here we are faced with misrepresentations made during the starting up of a business. The business performance was affected from the outset by the misrepresentations, and there is therefore no financial information upon which to assess the health or otherwise of the business independent of the misrepresentations. This makes the assessment of lost profits a far more hit-and-miss affair.

[33] There is another measure of damages available in cases of breach of contract. That is a claim to be put in the same position as the plaintiff would have been had he or she never have made the bargain. This is regarded as an “alternative measure,” as opposed to the normal measure, in the current edition of McGregor on Damages (16th ed, 1997), and is essentially the same as the normal measure of tort damages. It will generally, but not always, arise where the difficulties of proof in establishing the value of the lost bargain make quantifying the lost expectation difficult.

[34] The case of Cullinane v British “Rema” Manufacturing Co. Ltd [1954] 1 QB 292 makes it clear that these two methods are available in any case, but may not be claimed together: see the judgement of Evershed MR at 303. Such a claim would constitute double recovery on the basis of both reliance and expectation losses.

[35] It is clear from their submissions that the plaintiffs’ preferred measure of damages is loss of profits. I will therefore attempt to assess damages on that basis in respect of the contractual claim. Given that the defendants have chosen not to defend the claims and that the plaintiffs have specifically pleaded the representations as to future profits, I am also prepared to take those predicted profit figures as the starting point for my analysis.

[36] At this point, I return to McGechan J’s analysis in the High Court in Mobil Oil. In that case, the Judge allowed a substantial discount of 30% for uncertainty in the prediction of future profit as well as the reduction from 9 years to 7 years in relation to the lease.

[37] There is no discount incorporated in the claims made by the plaintiffs in this case apart from taking the profits over three rather than the five years of the licence. In my view this is not sufficient. I thus propose to discount further the amount of lost profit damages to which the plaintiffs are entitled. This reflects the general principle that the amount of damages to which a plaintiff is entitled will extend only to such loss as is properly caused by the misrepresentation: see the extract from Emslie above at paragraph [29].

[38] In this case, I am satisfied that there was a substantial uncertainty facing the plaintiffs as they embarked on their venture. It appears that none of the plaintiffs had specific experience in the areas either of commercial real estate or of Internet sales. In contrast with both Mobil Oil and Gloken, this was a start-up situation. Some allowance must be made for the difficulties inherent in beginning a new business from scratch. Further, I note also that Internet-based business in general have been the subjects of fluctuations in popularity, desirability and success over the last two years. All these factors lead me to the conclusion that, even had the defendant’s misrepresentations been true, the plaintiffs may well have found that their profits failed to live up to expectation for entirely independent reasons.

[39] I therefore propose to discount the entire amount of lost profits which the plaintiffs have claimed by 30%. This is to recognise the influence of other factors on the eventual success or failure of their businesses. This is clearly a somewhat arbitrary figure but is designed to reflect the above factors.

[40] As a final point, I note that there is nothing inconsistent in recovering both lost profits and trading losses, provided both can be sufficiently linked in a causative sense to the defendants’ misrepresentations. Indeed, compensation on both heads is necessary to compensate the plaintiffs for their lost expectancy.

Measure of damages: Fair Trading Act

[41] Loss of profits was also advanced as the appropriate measure of damages with respect to the claims against Mr Fraser under the Fair Trading Act. In Cox, a majority of Gault, Henry and Blanchard JJ held that expectation damages were not available in principle for a breach of the Fair Trading Act 1986. Specifically, at p.22, Gault J stated:

“As pointed out in the passage already quoted from McGregor on Damages, the loss of bargain or of expected future returns flows not from the conduct that is wrongful, but from the failure to implement a promise. Where no contract exists between the person who is engaged in the conduct and the person who suffered the loss, there is no promise which failure to implement deprives the other party of expected benefits.

Section 9 of the Act prohibits conduct, it does not render representations binding.”

[42] In a similar vein, at p.28, Henry J, delivering the joint judgement with Blanchard J, stated:

“As we have said, the wrong here was making a misleading statement. Failing to make good a misleading statement does not constitute a breach of the Act. It is fundamental that the remedy must be directed to the consequences of the breach of the imposed duty, and not to consequences which are attributable to some other cause which is not the subject of an actionable duty.”

[43] Thus, the decision in Cox clearly eliminates the possibility of expectation damages being awarded for a breach of s9 of the Fair Trading Act. Moreover, this decision was on the common principle that the Act is seeking not to enforce a promise but to compensate for loss suffered as a result of misleading conduct.

[44] Counsel for the plaintiffs appears to be attempting to distinguish the findings in Cox on the basis that there it was a real estate agent who misled the plaintiffs whereas in the present case it was a director of one of the principal companies. In my view this submission is of no merit. The exact role of the person who was guilty of the misleading conduct is of no moment. The decision in Cox was made not on the facts but on principle. An action under the Fair Trading Act cannot in principle be used to reap lost profits. For that there must be an action in contract.

[45] Counsel for the plaintiffs cited Gloken as authority for the proposition that expectation damages may be awarded under the Fair Trading Act. However, to whatever extent Gloken is authority for that proposition, it is no longer arguable that the Act allows expectation damages as a head of damages following the decision of the Court of Appeal in Cox.

Imagine It’s claim: Nexus Waikato

[46] Based on the above conclusions as to the applicable principles, I now proceed to determine the claims of the individual plaintiffs. As far as Imagine It’s claim in misrepresentation is concerned, the relevant misrepresentation is that the profit on the franchise in the first year would be in the region of $57,325, and in the second year would be approximately $77,325. This was based on various representations as to the ability to retain clients, the manner in which clients would choose to advertise, the demand for Internet commercial property services and so on, but the essence of the representations was that the nominated profit levels would be reached.

[47] As is apparent, Imagine It never turned a profit. Accordingly, it has lost the whole of the projected profits in the first two years and the profit that would have been available for the remaining term of the licence. In the three year period claimed for, this totals $211,975. After the 30% discount discussed above, this results in an award under the head of lost profits of $148,382.50.

[48] Together with the trading loss, this results in a final award as between Imagine It and Nexus Waikato of:

“Lost profits $148,382.50

Trading loss $32,984.44

Total $181,366.94”

[49] Imagine It also claimed interest on damages. Section 87 of the Judicature Act 1908 confers a wide discretion as to the grant of interest, and the rate at and period for which it operates, limited only by the “prescribed rate,” which at this time is 11 per cent.

[50] The awarding of interest on lost profits poses something of a problem, as profits by their nature accrue constantly over the entire period. In Gloken, Hammond J approached this issue by awarding interest on the entire amount of lost profits, but only for half the period over which they would have accrued. This method is of course somewhat arbitrary. In the absence of any better information on which to base the award. I will use the Gloken method. As such, I award interest at the rate of 7% on the sum of $181,366.94 from 1 August 1999 to 22 February 2001. This is the period claimed by the plaintiffs. I calculate this to be interest of $34.78 per day for 571 days. This gives an interest sum of $19,860.92.

[51] The final award against Nexus Waikato is therefore $201,227.86.

Imagine It’s claim: Mark Fraser

[52] The claim against Mr Fraser personally is under the Fair Trading Act, and must therefore be assessed on the basis of the normal tort measure of damages.

[53] To that end, the damages claimed by Imagine It are:

“Lost value of franchise $25,000.00

Set up costs $6,017.22

Trading losses $32,984.44

Total $64,001.66”

[54] These damages are granted, as is interest at a rate of 7% per annum. I award interest for the entire period of February 1999 (the date when the franchise began to trade) to 22 February 2001 on all of these sums except the trading losses. Those are of a similar nature to the loss of profits claim with respect to Nexus Waikato, and I therefore award interest on the trading losses in the same fashion.

[55] For the set up costs and lost value, this gives an interest award of $5.95 per day for 752 days. This comes to $4,473.28.

[56] With respect to the trading losses, the award is one of $6.33 per day for 571 days. This gives a sum of $3,612.02. The total interest award is therefore $8,085.30, and the total award is $72,086.96.

Double recovery

[57] These awards of damages raise the spectre of double recovery. The award of damages against Mr Fraser and that against Nexus Waikato are premised on different bases, but are concerned with compensating the same loss to the plaintiffs. They merely represent different methods of quantifying that loss. It is not Imagine It’s intention to double claim against Nexus Waikato Limited and Mr Fraser.

[58] However, it was submitted that Imagine It is entitled to judgement against both parties, and that this may be important in a practical sense in that one of them may be insolvent and the other solvent. It was thus submitted that there should be joint and several liability as to a sum not exceeding $72,086.96 (being the amount of damages awarded against Mr Fraser) against both defendants with the view that there can be recovery of that sum against either the first or third defendants but not both.

The balance of the amount awarded against the first defendant would be able to be claimed against the first defendant only. This is accepted.

Pooley’s claim: Fraser Group

[59] The Pooleys have submitted a calculation of lost profits based on the minimum listing figures at issue which puts the losses at $220,210.00 to January 2001. This covers the period from January 1998 to December 2000. They also claimed trading losses of $7,000.

[60] Once again, I believe it is appropriate to discount the lost profits claim by 30% to recognise the presence of factors other than the misrepresentation. This yields an award of $132,126.00.

[61] As it became apparent that the business was failing, both Richard and Robert Pooley sought alternative employment. They admit that these earnings should be taken in mitigation of their loss on the basis that, had they been running the franchise business, these earnings would not have been available to them.

[62] I therefore calculate the damages payable to the Pooleys as:

“Lost profits to January 2001 $154,147.00

Trading losses $7,000.00

Less sums earned in mitigation ($88,478.00)

Total $72,669.00”

[63] Interest on the same basis as for the first plaintiff is hereby granted. This means an award of interest at 7% on $72,669.00 for the period 1 November 1998 to 22 February 2001. This is the period claimed by the plaintiffs, and I calculate it to be 844 days, at a rate of $13.94 per day. The total interest award is therefore $11,765.36.

[64] The total award against Fraser Group is therefore $84,434.36.

Pooleys’ claim: Mark Fraser

[65] Given that Cox has been held to apply damages in the normal tort measure are claimed by the Pooleys against Mark Fraser. They are:

“Trading losses $7,000.00

Lost value of business $50,000.00

Equipment costs $7,000.00

Interest costs $3,650.00

Total $67,650.00”

[66] I accept these figures, and grant damages accordingly (subject to paragraph [63] below) and in addition grant interest in the same manner as awarded to Imagine It against Mr Fraser. I award interest at 7% on $60,650.00 (being the damages granted less the trading losses) for the period from 1 February 1998 to 22 February 2001. I calculate this period to be 1116 days, and the daily rate to be $11.63. This component of the interest award is therefore $12,980.76.

[67] On the trading losses, I award interest at 7% on $7,000.00 for the same period as the lost profits, being 844 days. The daily rate is $1.34. This comes to $1,133.04.

[68] The total interest award is $14,113.80, and the total award against Mark Fraser is $81,763.80.

Double Recovery

[69] As with the first and second plaintiffs these awards of damages raise the spectre of double recovery. The award of damages against Mr Fraser and that against Fraser Group are premised on different bases, but are concerned with compensating the same loss to the plaintiffs. They merely represent different methods of quantifying that loss. It is not the Pooleys’ intention to double claim against Fraser Group and Mr Fraser. However, it was submitted that the Pooleys are entitled to judgement against both parties, and that this may be important in a practical sense in that one of them may be insolvent and the other solvent.

[70] It was thus submitted that there should be joint and several liability as to a sum not exceeding $81,763.80 (being damages plus interest awarded against Mr Fraser) awarded against both defendants with the view that there could be recovery of that sum against either the first and third defendants but not both. The balance of the amount awarded against the second defendant would be able to be claimed against the second defendant only. This is accepted.

Other orders

[71] Imagine It and Paul Armstrong (the guarantor) also sought an order pursuant to s43 of the Fair Trading Act 1986 that the agreement be varied to exclude any obligation Imagine It or Paul Armstrong may be under to make further payment and to exclude any other obligations that Imagine It and Paul Armstrong may have under the licence agreement. Such an order is hereby granted.

[72] Similarly, Richard and Rob Pooley also sought orders pursuant to s43 of the Fair Trading Act 1986 varying the licence agreement to the extent necessary to exclude any obligation on them to make any further payment and to exclude any other obligation of them under the licence agreement whether as licensees or guarantors. These are also granted.

Costs

[73] Costs are granted on scale 2B to the plaintiffs against the defendants.