New World Property Limited v New Image International Limited HC Auckland Cp37-Sd-00

[2001] NZHC 407

IN THE HIGH COURT OF NEW ZEALAND
AUCKLAND REGISTRY CP37-SD-00

BETWEEN NEW WORLD PROPERTY LIMITED
Plaintiff

AND NEW IMAGE INTERNATIONAL LIMITED
First Defendant

AND GRAEME LINDSAY CLEGG
Second Defendant

Hearing: 3-5 April 2001

Counsel: Z G Kennedy/Ms Smith for Plaintiff
A H Waalkens/Ms Garvey for Defendant

Judgment: 24 May 2001

RESERVED JUDGMENT OF MORRIS J

[1] On 11 August 1998 New Image (then trading as New Zealand New Image Limited and hereinafter referred to as “New Image”) agreed to purchase New World’s 26% shareholding in a Hong Kong based network marketing company NZ New Image (HK) Limited for US$260,000. New Image already held 74% of the shareholding in the Hong Kong company. The $260,000 was to be paid:

[a] as to US$65,000 upon the signing of the agreement; and

[b] as to the balance by 12 equal monthly instalments of $US16,250, the first of such payments to be made on 2 October 1998.

Mr Clegg guaranteed payment of the outstanding $195,000 as provided for in the agreement.

[2] The $US65,000 was paid by New Image. New World transferred its shareholding to New Image. Neither New Image nor Mr Clegg has paid any further moneys to New World. They claim a term of the agreement was, New World through its principal Mr Cornell, would use its best endeavours to protect the good will of the Hong Kong and the New Zealand companies including:

[a] assisting with handovers to the new management;

[b] maintaining good relations with staff and distributors; and

[c] not in any way upset the good relationships of all the parties.

[3] They claim the term was fundamental to the contract of sale. They say Mr Cornell has broken this term and as a result they were entitled to terminate the agreement as they did do on 30 September 1998. They have refused to make further payment. They seek a refund of the deposit paid. The allegations upon which the defendants rely are denied by Mr Cornell and New Image.

BACKGROUND

[4] New World is an investment company. Mr Cornell is a director and a shareholder. He lives in Hong Kong. New World is the vehicle used by Mr Cornell for his business activities involving New Image. New Image is a multi-level marketing or network marketing company. It manufactures a range of healthcare and nutritional products which are marketed for profit through a network of private individual distributors. Distributors are appointed by New Image. Distributors so appointed are in turn able to recruit other distributors into their network and thereby receive a share of profits generated from the sales of products by these individuals.

[5] New Image was formed in June 1984. It changed its name to New Image International Limited in July 1988. It has established branches in Australia, Indonesia, Singapore, Malaysia, the Philippines. Its trading operation in Hong Kong, which is at the centre of the present dispute, no longer operates.

[6] Mr Clegg is the chairman, founder and owner of New Image. Mr Cornell joined the Australian branch in 1993 as a distributor. His wife did likewise. A term of their engagement was they would not recruit or solicit any distributor of the company during the currency of the agreement or for a period of six months following termination of it either on his/her own behalf or on behalf of any other direct selling or network marketing company. This restriction and other terms of the company’s standard engagement form are necessary to ensure its particular system of selling is workable and minimises the possibility of distributors who might find it difficult to make the incomes they want, from switching companies and endeavouring to entice other distributors they have come into contact with, often sponsored by other people, to join them under a new business.

[7] The Cornells prospered. They were appointed regional managers for the Adelaide area. Mr Cornell saw a future in the Hong Kong and Japanese regions. He investigated these.

[8] New Zealand New Image (Hong Kong) Limited was incorporated in April 1994. New Image International held 74% of the shareholding and a Dr Hew the remaining 26%. Dr Hew was appointed managing director. Dr Hew’s conduct proved unsatisfactory. He did not devote his full attention to the Hong Kong business and he ran another business from the company’s office, namely a skincare business which he was setting up in Hong Kong and China using some of the New Image distributors. Knowledge of Dr Hew’s activities came to the ears of both Mr Cornell and Mr Clegg.

[9] Mr Cornell felt he could operate the Hong Kong business successfully. One of the distributors he had sponsored was Ms Maizie Tryde. She lived in Hong Kong and had built a significant network of distributors there. She was then made the national sales manager for the Hong Kong company. Mr Cornell approached Mr Clegg, indicating he was prepared to replace Dr Hew as New Image International’s joint venture partner in Hong Kong. The upshot was a joint venture agreement. Mr Cornell, or his nominee, agreed to purchase a 26% based shareholding in the New Image company Hong Kong at par value, namely $117,000. The agreement also provided after one year’s successful operation Mr Cornell would receive an initial five percent of the shares of the company at no cost. It was further agreed a licence fee of $US260,000 would be paid by Mr Cornell or his nominee as a goodwill payment for the use of the New Image name and marketing plan. Mr Cornell’s employment contract provided he was to be appointed as managing director of the Hong Kong company. He would receive a salary of US$10,000 per month along with reimbursement of all reasonable expenses. Mr Cornell commenced as managing director in Hong Kong in May 1995. He formed New World and nominated it to hold the 26% of shareholding in New Image.

[10] The financial statements for New Image Hong Kong for the years ended 30 June 1994, 1995, 1996, 1997 and 1998 show the following:

[i] the company made a loss of HK$294,907 for the year ended 30 June 1994;

[ii] the company made a profit for the year ended 30 June 1995 of HK$1,230,497;

[iii] the company made a profit of HK$666,227 for the year ended 30 June 1996;

[iv] the company made a loss of HK$1,727,257 for the year ended 30 June 1997;

[v] the company made a loss of HK$1,371,784 for the year ended 30 June 1998.

[11] The declining performance of the company could not be allowed to continue. Both Mr Clegg and Mr Cornell appreciated such fact. Mr Cornell had considered introducing support from another partner. He contemplated C-TechBVI Investments Incorporated (“C-Tech”). This was a bio-chemical company specialising in the manufacture of skincare products. Ms Tryde had introduced Mr Cornell to a Mr Chia. C-Tech was contemplating expanding into western markets and it too was looking for a joint venture partner. Mr Cornell put forward C-Tech’s proposals for a joint venture to Mr Clegg. Nothing came from the proposals. For some months Mr Cornell and Ms Tryde had included “C-Tech” skincare products in the New Image product range.

[12] In May 1998 Mr Clegg suggested a number of potential solutions including a suggestion Mr Cornell sell his shareholding to New Image International. By May Mr Clegg had received advice from Mr Alan Stewart, a chartered accountant and a consultant to New Image International Limited, that the company was insolvent and action was required to resolve the situation, specifically by ceasing trading and terminating his licence arrangement with Mr Cornell. From late May Mr Stewart was closely involved in the negotiations between Mr Cornell and Mr Clegg. The parties met on 24 June. A broad basis for the transferring of Mr Cornell’s shareholding was reached. The proposal was US$65,000 would be paid on settlement and the balance of $195,000 over a period of 18 months. Mr Cornell’s 26% shareholding in New Image Hong Kong would be transferred and he would release any claim to 26% of the New Image licence for Hong Kong. Mr Cornell would also resign as a manager and would relinquish any claim for outstanding salary and expenses. New Image International undertook to use its best endeavours to conclude an agreement with C-tech to carry out a joint venture who would co-operate with Mr Cornell in respect of such dealings. The proposal stipulated Mr Cornell would:

“use his best endeavours to protect the goodwill of New Image (HK) Limited and New Image International including assisting with hand-over to new management, maintaining good relationships with staff and distributors and not in any way upset the good relationships of all the parties.”

Settlement would be on the 6th July.

[13] On 25 June Mr Clegg and Mr Stewart reached agreement with Mr Sun of Total Life Taiwan to enter into a joint venture to operate the company in Hong Kong. Essentially Total Life would replace Mr Cornell as a joint venturer. On 2 July Mr Cornell faxed general acceptance of the terms discussed on 24 June. He proposed some modifications. He suggested $130,000 be paid in settlement and the balance be paid by equal instalments over 10 months. He also proposed Mr Clegg guaranteed the payment. On 3 July Mr Stewart replied to this confirming the original amount agreed to be paid in settlement and offering a reduced repayment period of 12 months. In his fax of 2 July Mr Cornell repeated the undertaking to use his best endeavours etc. as I have outlined above. Mr Cornell also asked if he was able to continue as a distributor and retain his network which was agreed to. On 9 July Mr Cornell wrote to Mr Clegg with some further modifying suggestions which were acceptable. Some further faxes and letters passed between Mr Cornell and Mr Clegg and finally on 11 August a letter of intent and a guarantee were executed by the parties. They were in the following terms:

“This is a Letter of Intent between the parties listed below:

• New Zealand New Image Limited, a duly incorporated company having its registered office at Auckland, New Zealand (“the purchaser”)

• Graham Frederick Cornell (“the vendor”)

• Graeme Lindsay Clegg (“the guarantor”)

and in recognition of the Joint Venture between the purchaser and the vendor dated the 28th April 1995:

The purchaser hereby agrees to acquire from the vendor the rights to the license, goodwill and business known as N.Z. New Image (HK) Ltd on the following terms and conditions:-

Purchase Price: US$260,000, US Dollars two hundred and sixty thousand

Settlement Terms: US$65,000, US Dollars sixty five thousand
Payable on execution of this document. The balance payable in 12 (twelve) monthly instalments of US$16,250, commencing on the 2nd October 1998 and finalizing on 2nd September 1999

Shall arrange the necessary documentation to enable the pledge (as security of the debt until paid in full) of 50% (fifty percent) of the share holding in N.Z. New Image (HK) Ltd.

The vendor hereby agrees to:

1. Transfer his interest in the business to the purchaser, and

2. Resign all official offices within the business

The guarantor agrees to unconditionally guarantee the performance of the purchaser in this transaction.

All parties agree that as soon as practicable hereafter, the purchaser will arrange to have a full business contract drawn up for execution by all parties. Such contract must reflect the transaction as described in this document.

Dated the 11th day of August 1998.

Executed as follows:

For and on behalf of )
New Zealand New Image Limited )

(Witnessed and Signed)

PERSONAL GUARANTEE
GRAEME LINDSAY CLEGG

I, Graeme Lindsay Clegg of New Zealand acknowledge a debt to Graham Frederick Cornell for the sum of US$195,000 (US Dollars one hundred and ninety five thousand). I hereby give my personal guarantee to repay this amount in 12 (twelve) monthly payments of US$16,250 (US Dollars sixteen thousand two hundred and fifty). The first payment to commence on the 2nd October 1998, and due on the 2nd day of every month following, with the final payment to be made on the 2nd September 1999.

Dated the 11th day August 1998.

Signed by Graeme Lindsay Clegg

Witnessed by Maizie Tryde”

[14] A deposit of US$65,000 was made on 11 August and a further sum of HK$15,000 was paid in recognition of Mr Cornell’s continued efforts during hand-over period. New World’s shareholding was transferred to New Image International.

[15] Subsequent to the signing of the letter of intent and the guarantee correspondence passed between Mr Cornell, Mr Clegg and to a lesser extent Mr Stewart. Mr Clegg indicated some unhappiness with the wording of the documents. Nothing of note came as a result of this correspondence. Between late August and September Mr Clegg learned of activities of Mr Cornell’s, which he considered was in breach of the undertaking which I set out above and which he and Mr Stewart considered to be an essential term of the contract. Having received this information Mr Clegg’s solicitors wrote to Mr Cornell on 30 September advising of the information received and advising no further payments would be made and action would be taken to recover the US$65,000 already paid to Mr Cornell.

[16] Also subsequent to the signing of the letter of intent and the guarantee, transfer sales in Hong Kong fell dramatically. Rumours surfaced that New Image was “going under”. Morale amongst staff and distributors was low. As a result of this state of affairs Mr Sun served notice discontinuing his association with New Image Hong Kong and the Hong Kong operation was closed down. Subsequently a new company, TNI International HK Limited was formed as a 50/50 partnership with Total Life.

THE RESPECTIVE CASES

[17] New World claims the terms of the contract for the sale of the shareholding and the terms of the guarantee are straightforward. It denies it has breached any term(s) of the agreement. It denies any term as alleged by the defendants was part of the contract. It denies any action on its part or the part of Mr Cornell has caused loss to either of the defendants.

[18] In their statement of defence the plaintiffs raised a number of claims. These have all been abandoned apart from the allegation a term of the contract was that:

“Graham Cornell is to use his best endeavours to protect the goodwill of NIHK and NZNI, including assisting with hand over to the new management, maintaining good relationships with staff and Distributors, and not in anyway upset the good relationships of all parties.”

[19] They claim all parties conducted the sale agreement on this basis. Mr Cornell and New World would act in effect for the good of New Image and do nothing to damage it. Mr Cornell has not done so. They say he has acted contrary to his obligations and to the detriment of New Image. They claim therefore they should be released from further obligation to meet any payments under the agreement. They should also receive a refund of moneys paid.

[20] The first issue I must determine is whether, although not expressed in the documents agreed on 11 August, the above term is nevertheless a term of the arrangement reached and if Mr Cornell was required to act as is alleged.

[21] I say immediately I have no doubt whatsoever when the parties signed the agreement on 11 August 1998 both understood Mr Cornell would act, as indicated by what I have referred to as clause 5. I do not understand Mr Cornell to seriously dispute this point. In cross-examination he said:

“Mr Cornell the point surely is that for someone purchasing the company that had this financial position, it would be absolutely imperative that you assist in maintaining and helping the goodwill of the company? . . . Which I did and I do not accept that I didn’t at any point. I have still to this day not approached distributors directly.”

And further on:

“Do you accept it would be a breach of your obligation of goodwill if the distributor had been contacted to move over to a business other than New Image in which you had an interest? . . . I would consider it to be improper but in this case it didn’t happen.

What about employees, would you accept again if employees had been contacted on behalf of a business in which you had an interest that that would be a breach of goodwill? . . . If I had have done it I may have to agree with that but I didn’t do it.

What about if someone on your behalf did it? . . . To the best of my knowledge nobody did it on my behalf, I do not do business in that manner.

Would such be a breach of this goodwill obligation if it happened?

COURT If he knew about it. (Discussion)

I think the witness agrees. What he says had nothing to do with it . . . Correct.

. . .

There was no dispute about clause 5 though was there that was implicit throughout all the discussions? . . . It followed through and it is a fair and reasonable act.

And it’s reasonable to suggest that that would be applicable to the letter of intent too wouldn’t it? . . . Only if it was written in there and I would need to see it.

Well have a look at page 176, that’s the letter of intent letter? . . . 176?

176. My proposition to you Mr Cornell is that the undisputed clauses in the earlier correspondence of which clause 5 is one, were implicit in that letter of intent? . . . Where is it in the letter of intent?

Well it’s not in writing in there but it’s implicitly so isn’t it? . . . Well it’s not in writing in there so I would suggest it’s not in the letter of intent.

COURT Well how does that work out. Are you telling me that you could do what you like as far as - . . . No, because I have interest - commercial and local commercial obligations to an agreement and as a distributor of the company at that time plus the fact that I was continuing negotiations which started in the beginning of 98 with Mr Clegg and Mr Chia of C-Tech to continue the possibility and until signing when he made a joint venture arrangement with Winston Sun I was still working towards the possibility of a jv between the parties being C-Tech and Cornell.

I follow all that but the simple point to you is although it’s not in this letter of intent everything was done on the basis you would do your best endeavours to protect your goodwill etc . . . Which was understood because I was still a distributor and doing ongoing negotiations.

But a clause such as 5 on 134 you would understand to be part of the deal? . . . Unnecessary to write in, you put it a little better Your Honour thank you.”

[22] The evidence establishes the goodwill of this business, and indeed its very existence, necessitated continued employment, not necessarily of Mr Cornell, but of persons I will describe as sub-distributors such as Maizie Tryde. I have been told she had a very substantial network of workers which made up 90% of the overall distribution of the Hong Kong company network. This is accepted by both sides.

[23] While it is true clause 5 is not an express term of the agreement signed in August the written terms must be viewed against the factual background and events leading up to the drawing up of these agreements and signing thereof. As I have earlier pointed out, clause 5 was never a clause which was in dispute. Indeed it was first proposed by Mr Cornell. I am sure he realised such a clause was reasonable and equitable and essential to make the contract work and be meaningful. Without it there would be no business efficacy to the contract. Its necessity is so obvious that it goes without saying its inclusion as a team satisfies the five point test set out in the Privy Council in BP Refinery (Westernport) Proprietary Limited v Shire of Hastings (1977) 16 ALR 363 is satisfied.

[24] The test is:

(1) The term must be reasonable and equitable;

(2) The term must be necessary to give business efficacy to the contract, so that no term will be implied if the contract is effective without it;

(3) The term is so obvious “it goes without saying”;

(4) The term must be capable of clear expression; and

(5) The term must not contradict any express term of the contract.

This test has been cited with approval by the New Zealand Court of Appeal in Devonport Borough Council v Robbins [1979] 1 NZLR 1 (CA), 23 and in Prudential Assurance Company Limited v Rodrigues [1982] 2 NZLR 54 (CA), 61.

[25] Counsel for Mr Cornell has suggested provisions such as clause 5 were not needed to give business efficacy to the agreement because any goodwill is protected at common law. I do not agree. The parties required this particular provision to guard against the poaching of staff and to protect the public image of the companies. In the circumstances it is plain all parties felt this provision was necessary. If it was not there Mr Cornell could have with impunity set up a rival organisation and taken key distributors with him. He could, in other words, simply destroy New Image. Any monies paid over would have been for nothing.

[26] The next issue I must determine is whether New World/Mr Cornell breached the term. The provision is wide-reaching. It places on Mr Cornell an obligation to use his best endeavours to protect the goodwill, of both the Hong Kong and the International company. It imposes upon him a duty to assist in the handing over to new management, which was then likely to be Total Life of Taiwan. It imposes upon him an obligation to maintain a good relationship with staff and probably more importantly distributors. It also imposes upon him an obligation not to, in any way, upset the good relationships of all the parties.

[27] It is plain there was goodwill to be protected. Apart from anything else there was a Hong Kong licence. Nor do I think Mr Cornell can say any restrictions imposed upon him were restricted to the handover. As in this respect I note he was paid HK$15,000 for his co-operation in the handover. The clause must cover more. Certainly if the evidence establishes Mr Cornell actively solicited staff or distributors to change their allegiances from the Hong Kong company to a company of his own likely to compete with New Image this would in my view be a breach of the provisions of clause 5. The defendants allege just that and furthermore they say Mr Cornell did nothing to assist the new management.

[28] I find it established:

(i) Mr Cornell left New Image on 11 August. At no time thereafter did he give any assistance to Total Life. This is plain from Mr Winston Sun’s evidence and is not disputed by Mr Cornell.

(ii) Mr Cornell met Mrs Fettes in early August 1998 and told her:

1. He was going to leave New Image;

2. He was starting a new company namely Bettalife;

3. He was looking for an investor;

4. He drew a diagram indicating the proposals on a paper napkin;

5. he told her the company would supply skincare and nutritional supplement products;

6. Ms Tryde would be part of the new company operation;

7. C-Tech was never mentioned to Mrs Fettes.

(iii) Mr Cornell met Mrs Fettes again on 19 August. Her husband and Ms Tryde were present at this meeting. Both Mr Cornell and Ms Tryde spoke about Bettalife.

(iv) Financial forecasts for Bettalife were prepared. These included predictions for October 1998.

(v) Mrs Fettes was concerned about what she had been told by Mr Cornell and Ms Tryde. She spoke first to Mr Johnson, the managing director of CLC Engine Care Australia Pty Limited who had had dealings with New Image, knew Mr Clegg and also Mr Cornell. Mrs Fettes subsequently telephoned Mr Clegg on 28 September. She then told him of the meetings and referred to:

a. the drawing of a plan on a paper napkin;

b. the name Bettalife;

c. the proposed products being healthfood and skincare; and

d. the areas where it was supposed to operate including Hong Kong.

(vi) Mr Johnson, subsequent to speaking to Mrs Fettes, spoke to Mr Cornell. Mr Cornell confirmed:

i. he had approached Mrs Fettes to persuade her to join his new company;

ii. he had approached others to do likewise;

iii. he was using New Image staff to assist him;

iv. he specifically mentioned Ms Tryde as being one of the staff of New Image;

v. both he and Ms Tryde had met Mrs Fettes on a second occasion;

vi. he was working in conjunction with Mr Eddie Alexander;

(vii) Bettalife was purchased as a share company and registered on 19 October 1998. This was done by Mr Alexander’s solicitors.

(viii) Mr Alexander is experienced in network marketing. He had worked continuously for New Image since 1988. He had held various senior management roles in New Image during this period. He gave notice of his resignation to New Image on 2 September and left the company’s employ on 10 October. He spoke to Mr Johnson in mid October 1998 about making warehouse space for stock at the same time telling Mr Johnson a Mr Gibson was running the New Zealand side of the operation with which he was involved. Mr Gibson was a New Image Distributor.

(ix) Ms Tryde did not formally resign from New Image until December 1999 but from August until the time of her resignation she and her network did very little to actively sell New Image products.

[29] It will be clear from these findings that when there has been a conflict between what was said by either Mr Cornell or his witnesses and persons called by the defendants, I have preferred the evidence of the defendant’s witnesses. I have done so because neither Mr Cornell nor Mr Alexander in particular impressed me as persons of truth whereas the defendant’s witnesses did so. Specifically I reject Mr Cornell’s claim the only company discussed at the meetings with Mrs Fettes was C-Tech and likewise I specifically reject his claim there was no mention of Bettalife. Likewise I do not accept either his evidence or that of Mr Alexander’s the name Medicare was only thought of a day before the company was registered. I find such a suggestion simply incapable of belief. In the light of Mrs Fettes’ evidence and also having regard to the large number of phone calls which passed between Hong Kong and Australia the weeks before and up to August 1998 I am satisfied both Mr Cornell and Mr Alexander had been discussing the formation of this company for some time prior to mid August 1998. This would explain the timing of Mr Alexander’s resignation from New Image which otherwise would remain as a remarkable co-incidence. I do not accept he resigned to take up a joint venture in the automotive maintenance industry. Likewise having had the opportunity of seeing and listening to Ms Tryde give her evidence I am satisfied she was well aware of Mr Cornell’s plans and indeed was an integral part of them. She was one of the distributors he had originally sponsored in New Image. He was her contact with the company. She was fed up with the company in 1998 and had been for some time. This fact she had discussed with him. On top of these factors Mr Cornell well knew her capability and the extent of her organisation which of course would be of tremendous advantage to any new venture in Hong Kong.

[30] For these reasons I am satisfied Mr Cornell has acted in clear breach of the terms of the agreement entered into August in 1998.

THE OUTCOME

[31] It was important both to New Image and to Total Life the staff in attendance remain after August. I accept by September and October sales had dropped dramatically. Mr Wan Sun blames this to a large extent on the “no activity” of Ms Tryde. It would of course be obvious to Mr Cornell and to Ms Tryde any drop in the sales of New Image products could only be of ultimate benefit to Bettalife when it started up business as it did in 1999. Because New Image’s business became so bad the company had to close. I am satisfied Mr Cornell’s actions and his involvement with Ms Tryde was a direct cause of the downfall of New Image and in effect destroyed the effectiveness of its distribution network.

THE REMEDY

[32] I have found it impossible to assess what effect Mr Cornell’s actions had on New Image apart from really the destruction of its network. From a monetary position it is impossible for me to assess the loss because the company was really doing very badly in August of 1998. I accept there was some goodwill still remaining and some work attached to the assets such as the licence. These matters however are now irrelevant because New Image has not continued with its claims in effect for compensation and loss of profits. It seeks the refund of $US65,000 paid.

[33] The normal function of damages for breach of contract is compensatory. Damages are awarded, not to punish the party in breach, or to confer a windfall on the innocent party, but to compensate the innocent party and repair his actual loss (see Addis v Gramophone Co Ltd [1909] AC 488, and Ruxley Electronics & Construction Ltd v Forsyth [1996] AC 344).

[34] I am satisfied New Image is entitled to the judgment it seeks. Only by altering a return of this sum of money can I place the New Image in the position it would have been but for the breach because as I have indicated I am satisfied no payment would have been made had this clause not been included. There will therefore be judgment for the defendants on the claim and also the sum of $US65,000 on the counterclaim.

[35] The defendants are entitled to costs. These are to be assessed on the claim and counterclaim in accordance with Schedule 2 of the High Court Rules. The defendants are also entitled to disbursements including photocopying. Failing agreement these are to be fixed by the Registrar. Such disbursements should include an allowance to cover the reasonable costs incurred by the defendants in bringing overseas witnesses to New Zealand to testify.