Water Guard NZ Ltd v Midgen Enterprises Ltd
[2015] NZHC 2227
•15 September 2015
IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY
CIV-2014-404-000445 [2015] NZHC 2227
BETWEEN WATER GUARD NZ LIMITED
Plaintiff
AND
MIDGEN ENTERPRISES LIMITED First Defendant
DAVID JAMES MIDGEN Second Defendant
CIV-2012-404-000915
BETWEEN WATER GUARD NZ LIMITED Plaintiff
ANDCYNORTIC WATER SYSTEMS LIMITED
First Defendant
MARK JAMES SULLIVAN and SUSAN MARY SULLIVAN
Second Defendants
CYNORTIC LIMITED Third Defendant
REINER GEORGE BRAGULLA Fourth Defendant
CYNORTIC INTERNATIONAL LIMITED
Fifth Defendant
Hearing: 6 - 20 and 22 July 2015 Counsel:
M Fisher and L Hui for Plaintiff
D Grove for First Defendant in 445 proceeding
A D Marsh for First and Second Defendants in 915 proceeding
No appearance for Third - Fifth DefendantsJudgment:
15 September 2015
WATER GUARD NZ LTD v MIDGEN ENTERPRISES LTD [2015] NZHC 2227 [15 September 2015]
JUDGMENT OF ASHER J
This judgment was delivered by me on Tuesday, 15 September 2015 at 4.30 pm pursuant to r 11.5 of the High Court Rules.
Registrar/Deputy Registrar
Table of Contents
Introduction [1] Background [6] Procedural matters [17] THE MIDGEN PROCEEDING (CIV-2014-404-445) [20] The misrepresentation as to sales claim against the Midgen interests [21] Factual background [23] The contrasting positions [52] The agreements [55] The correspondence [59] Due diligence [62] Actions after sale [72] Credibility [74] The broad picture [80] Conclusion on misrepresentation as to sales [83] The misrepresentation as to sales claim against the Bragulla interests [86] The claims relating to the defects [93] The indemnity clause and implied terms [95] The defective units [106] The stainless steel chamber weld splits [112] Failure of the ballast [119] Overheating of the Platinum II units [130] Defective glue [132]
Poor seals, leaking flexible hoses, filter heads and other miscellaneous
complaints [136] Breach of term [140] Failure by Morgan Ltd to take proper steps when claims arose [145] The implied term [147] Failure to mitigate [153] Assessment of ability to mitigate [162] The misrepresentation as to defects claim against the Midgen interests [184] The misrepresentation as to defects claim against the Bragulla interests [193] Conclusion on the Midgen proceeding [204] THE BRAGULLA/SULLIVAN PROCEEDING (CIV-2014-404-915) [207] Background [210] Mounting tensions [213]
The addendum to the BSA [221] Breaches of the EDA [228] Declarations under the EDA [236] Injunctions sought [247] The economic tort claims [250] Inducing breach of contract [251] Assessment of whether the tort has been proved [261] Unlawful means conspiracy [273] Fair Trading Act claims [279] Conclusion on the Bragulla/Sullivan proceeding [281] Result [287]
Introduction
[1] This judgment determines parts of a multi-faceted dispute concerning the manufacture and sale of Water Guard filtration units in New Zealand. The plaintiff, Water Guard NZ Limited (Morgan Ltd), a company controlled by Stewart Morgan, brings various claims in two separate proceedings which in the interests of expediency have been heard together.
[2] In the first proceeding, Morgan Ltd claims against Midgen Enterprises Limited (Midgen Ltd) and its principal, David Midgen (collectively, the Midgen interests). Morgan Ltd says the Midgen interests misrepresented Water Guard unit sale figures when Morgan Ltd bought the New Zealand distribution business from them in 2013. It further claims that the units supplied were not fit for purpose and not of merchantable quality.
[3] In the second proceeding, Morgan Ltd claims against five defendants not including the Midgen interests. The third defendant, Cynortic Limited (in liquidation), was the original manufacturer of the units. Its principal is the fourth defendant, George Bragulla. For the purposes of this judgment and to avoid confusion I will refer to Cynortic Limited as Bragulla Ltd, and to it with Mr Bragulla collectively as the Bragulla interests. Morgan Ltd says Mr Bragulla and Bragulla Ltd, like Midgen Ltd, misrepresented the sale figures during the sale of the distribution business, and the quality of the units.
[4] In addition, the second proceeding concerns the purchase by the first defendant, Cynortic Water Systems Limited, of part of the manufacturing business
from Bragulla Ltd. Mark and Susan Sullivan are the second named defendants and are the principals of the first defendant. I will refer to Cynortic Water Systems Limited as Sullivan Ltd, and to it with the Sullivans collectively as the Sullivan interests. Morgan Ltd says the Sullivan interests, in conjunction with the Bragulla interests, tortiously interfered with Morgan Ltd’s rights under its contract with Midgen Ltd.
[5] The fifth named defendant is Cynortic International Limited, a company to whom Bragulla Ltd purported to sell part of the manufacturing business.
Background
[6] Water Guard units filter and treat water. Water is channelled through the units to get rid of particles, and is subjected to ultraviolet light to kill bacteria. The photograph below shows the design and appearance of one of the Water Guard units:
[7] The water comes in the pipe at the bottom right, goes through the plastic filters shown and then through a metal hose to the top steel cylinder which contains an element emitting ultra violet light, before emerging for use at the pipe at the top right. The electricity is supplied by a device known as the ballast, shown to the left
of the filters. All the Water Guard units, although they vary in the number of filters, the position of the ballast, and certain other features, have this general layout.
[8] Bragulla Ltd is the original manufacturer and supplier of the units. On
23 June 2010 Bragulla Ltd entered into an exclusive distribution agreement with Midgen Ltd (the EDA).1 Pursuant to that agreement Midgen Ltd had the exclusive right to market, distribute and sell Water Guard units and related products in New Zealand and Pacific Island nations. The terms of the EDA will be considered in more detail later in this judgment.
[9] Between 2010 and 2013, Midgen Ltd distributed and sold Water Guard units in New Zealand that were manufactured and supplied by Bragulla Ltd. Nothing untoward occurred in this period in relation to the EDA, and there was by all accounts a well functioning commercial relationship between the parties.
[10] That state of affairs began to come to an end in September 2013, when both Mr Midgen and Mr Bragulla independently decided to sell their respective interests in the Water Guard business.
[11] Mr Midgen was the first to sell. In early September 2013, the principal of Morgan Ltd, Mr Morgan, became aware that the Midgen Ltd business was for sale. He met with Mr Midgen. On 16 September 2013 Mr Morgan and Mr Midgen signed an agreement for sale and purchase in which Midgen Ltd sold the distributorship business to Mr Morgan or his nominee for $440,000 (the Midgen–Morgan agreement, or MMA). There was a due diligence clause in the agreement.
[12] From early on in the negotiations Mr Morgan was assisted by his friend and business associate Wayne Cameron, who would ultimately work in the business. Mr Morgan and Mr Cameron met with Mr Midgen and Mr Bragulla, and checked various matters. It is common ground that Mr Bragulla consented to the sale to Morgan Ltd on 7 October 2013. On 9 October 2013 the due diligence clause was declared by Mr Morgan to be satisfied, and on 15 October the agreement was
declared to be unconditional. A notice of assignment from Midgen Ltd to
1 Midgen Ltd was then known as Water Guard NZ Ltd, the name currently in use by the plaintiff.
Mr Morgan or nominee was signed by Mr Midgen and Mr Morgan on 30 October
2013. The sale was settled on 1 November 2013.
[13] Ten days after Mr Midgen agreed to sell the distribution business, on
26 September 2013, Mr Bragulla entered an agreement for sale and purchase of the manufacturing business as vendor and with Mr and Mrs Sullivan or nominee as purchaser (the Bragulla–Sullivan agreement, or BSA). That agreement was subject to due diligence by the Sullivans to be completed by 12 November 2013. The due diligence was completed on 8 November and the agreement was declared unconditional that day.
[14] On 8 January 2014 Mr Bragulla sent to Mr and Mrs Sullivan a proposed draft addendum to the agreement which would leave Bragulla Ltd as owner of parts of the manufacturing business. Meanwhile, on 30 January 2014, Mr Bragulla entered into an agreement which on its face appeared to sell what was left of the business to a company called Cynortic International Limited.
[15] On 17 February 2014 the Sullivans signed the addendum with one change from the document forwarded by Mr Bragulla. The BSA as modified by the addendum was settled on 24 February 2014.
[16] The present dispute arose out of these two agreements. From November
2013 onwards the relationship between Mr Morgan and the Midgen, Bragulla and
Sullivan interests deteriorated, and this led to the issue of multiple proceedings.
Procedural matters
[17] Morgan Ltd’s claims have been contested and defended from the outset. The claims against the Sullivan interests have been contested throughout. The position is different with Bragulla Ltd and Cynortic International Ltd. They were initially represented, but Cynortic International Ltd did not defend the case at the hearing before me and nor has the liquidator of Bragulla Ltd. Mr Bragulla has made no appearance as a party or witness. His whereabouts are not known by the other parties, and I am informed that he is overseas. He is not a New Zealand national.
Given Mr Bragulla’s absence, Morgan Ltd’s case against the Bragulla interests
proceeds by way of formal proof.
[18] Although there is factual overlap between the claims against the Midgen, Bragulla and Sullivan interests, each claim is separate and distinct. The parties accordingly agreed that the two proceedings should not be amalgamated but should be heard together consecutively, so as to save costs. The evidence called throughout the hearing in relation to each proceeding is admissible in the other.
[19] I will deal first with the claims against the Midgen interests arising out of the sale by Midgen Ltd to Morgan Ltd under the MMA. This involves considering related claims against the Bragulla interests, to the extent there is overlap with the Midgen claims. I will then consider the unrelated contractual and tortious claims against the Sullivan and Bragulla interests that relate to the BSA.
THE MIDGEN PROCEEDING (CIV-2014-404-000445)
[20] Morgan Ltd claims that Mr Midgen and Midgen Ltd made false representations that induced it to enter the MMA. It further claims that the units supplied by Midgen Ltd were defective and not fit for purpose.
The misrepresentation as to sales claims against the Midgen interests
[21] Mr Morgan claims Mr Midgen misrepresented to him that Midgen Ltd had achieved sales of 600 Water Guard units in the 12 months prior to the agreement to purchase the distribution business. He says Mr Midgen explained that Midgen Ltd had sold 161 units for cash, which in addition to the 439 sales recorded in the accounts brought total sales up to around 600 units per annum. It is claimed that this was a misrepresentation as only 439 units were in fact sold.
[22] Mr Midgen and Midgen Ltd reject Mr Morgan’s claims and deny any represention that there were any cash sales not shown in the books. The main issue, therefore, is whether Mr Midgen made this representation as claimed.
Factual background
[23] There are two key documents relevant to this claim. The first is the agreement for sale and purchase between Midgen Ltd and Mr Morgan or nominee dated 16 September 2013 (the MMA). It contained no express warranty as to the number of sales that had been achieved. In the box on the first page of the agreement it was stated that the turnover warranty was $576,127 excluding GST for the period of 1 April 2012 to 31 March 2013. It is accepted by Mr Fisher for Morgan Ltd that this represents the sale of approximately 439 units and was accurate.
[24] The second document is the EDA between Bragulla and Midgen, which said that the distributor should maintain a “minimum annual sales quota of 600 units pa”.
[25] In 2013 Mr Midgen engaged Peter Nola as broker for the sale of the distribution business. It was through Mr Nola that Mr Morgan first heard of the opportunity to purchase the business. Mr Nola issued a brochure written by a colleague referring to various aspects of the business, but it did not set out the actual number of units sold. There were, however, profit table comparisons set out for 2011 to 2013 which showed, consistent with the turnover figures shown in the MMA, of sales of $576,127 and a working owner’s cash surplus of $196,836.
[26] There was an initial meeting with the agents, Mr Morgan and Mr Midgen, at
Mr Midgen’s home in August 2013. The meeting went well and on about
7 September the parties signed a conditional agreement subject to due diligence. Mr Morgan then got Mr Cameron involved in reviewing information provided at the meeting, preparing a due diligence checklist, and conducting due diligence using software he developed called “ExitWhen”.
[27] On 9 September 2013, after telephoning Mr Midgen, Mr Morgan sent him an email asking various questions. Mr Midgen sent the email back answering the questions. Mr Morgan’s seventh question referred to para (h) of the EDA:
Item h) says that to maintain your exclusive distributorship status you need to sell 600 units PA. You mentioned you have operated the business for 3 years and that there are 4500 units in New Zealand. So it would appear that there was 3000 units in the market prior to you commencing? And further that you have not maintained the minimum number of required sales to meet
the manufacturers minimum sales level. Please advise therefore what has been the consequences of this?
[28] Mr Midgen’s answer was:
We are now up to 600 PA and George is very happy with what we have done and are doing on his part.
[29] This further question was asked by Mr Morgan:
The Cancellation of Agreement option a) states that the Manufacturer has the option to buy back the Distributors business after 2 years of operation if the annual sales volume is not 600 units. Please advise if the Manufacturer as chosen to ignore this clause?
[30] Mr Midgen answered as follows:
Cynortic [Bragulla Ltd] ignored this due to the economic climate and the continued growth we have achieved over this time.
[31] On Wednesday, 11 September 2013 Mr Morgan and Mr Cameron went to Mr Nola’s offices where they met with Mr Midgen. There were some amendments made to the agreement. Mr Morgan claims that at this meeting Mr Midgen said that on the sales numbers he had been achieving, which included “cash sales”, Mr Morgan would have no difficulty in purchasing “all the units” by 28 January
2015. He was referring here to a clause in the MMA which required Morgan Ltd to purchase all stock held by Mr Midgen by 28 January 2015. Mr Midgen denies referring to any cash sales at this meeting.
[32] On 12 September 2013 Mr Morgan and Mr Cameron travelled to Tauranga to meet Mr Bragulla at his factory. In the course of that meeting Mr Morgan states that he asked Mr Bragulla how many units Mr Midgen had sold over the past year in New Zealand. Mr Bragulla said that Mr Midgen had sold “about 750”.
[33] Following this visit to Tauranga, Mr Morgan had a further discussion with Mr Midgen. Mr Morgan pointed out that Mr Bragulla had said that he was selling around 750 units per year and asked him to be more specific. He deposed that Mr Midgen said that his books would show 440 per year, but that in fact he was doing over 600 per year and that the difference was cash sales. Mr Morgan says that
Mr Midgen told him that he had purchased a $120,000 Ferarri motor vehicle from the previous year’s cash sales. Mr Morgan says he asked Mr Midgen what he did with all the cash and Mr Midgen said he had a safe that was stuffed full. Mr Cameron was not at this discussion, but Mr Morgan says he reported it to him. Mr Midgen absolutely denies making those statements. The odd customer would pay in cash, but such sales were recorded in the MYOB accounts.
[34] The MMA was finally executed by all parties in final form on 16 September
2013.
[35] On 18 September 2013, Mr Cameron and Mr Morgan met Mr Midgen at his home. Mr Cameron uploaded MYOB information stored on the Midgens’ computer to his Dropbox account. During the visit Mr Midgen showed Mr Cameron the Ferarri motor vehicle. In the course of this meeting Mr Morgan told Mr Midgen that he wished to negotiate changes to the EDA with Mr Bragulla.
[36] On 21 September 2013 Mr Morgan went with Mr Midgen to a trade show in Napier. He claims that he asked Mr Midgen how he transacted the cash sales. He says that Mr Midgen responded that he often took a trailer to Tauranga to purchase units from Mr Bragulla discounted for cash, and then sold the units to people who wanted to pay cash and who did not require invoices.
[37] In the meantime Mr Cameron had prepared a due diligence document that included a business situation report and a document listing due diligence concerns. The document showed the sales recorded in the MYOB accounts and the turnover shown in the agreement for sale and purchase. There was no mention of cash sales. His investigations were made available to Mr Morgan.
[38] On 9 October 2013, Mr Morgan’s solicitors confirmed that the due diligence condition was satisfied. The letter sought confirmation that:
Your client’s annual sales and order volume exceeded 599 machines in the first 2 years of the Agreement or evidence that Cynortic [Bragulla Ltd] has waived its right to appoint a second distributor for New Zealand in accordance with sub-clause (a) of the “Duration, Termination and Cancellation Agreement” section of the Distribution Agreement.
Mr Midgen responded direct by email on that day stating:
Water Guard NZ order exceeded that of 599 units in the first 2 years.
[39] On 10 October 2013 Mr Bragulla sent an email to Mr Morgan. After talking about price and the minimum order of 600 units he stated:
With Dave in NZ selling about 700 machines a year now and me selling about 400 machines a year to Australia, we can achieve this excellent pricing
…
[40] On 15 October 2013, Mr Morgan’s lawyers wrote to Mr Midgen’s lawyers, confirming that all the purchaser’s conditions had been satisfied and the agreement was unconditional.
[41] In the meantime Mr Morgan had been discussing with Mr Bragulla changes that he proposed to the EDA. By 10 October 2013 they were in a state of disagreement about proposed changes. It was not until 17 October 2013, when Mr Morgan met with Mr Midgen at his home to discuss matters relating to the operation of the business, that Mr Morgan discovered the manufacturing business had been sold to the Sullivans. At that stage Mrs Sullivan came around and was introduced.
[42] Mr Morgan was troubled by the Sullivans’ purchase. However, despite his reservations on 27 October 2013 in an email sent to Mrs Sullivan he consented to the sale and confirmed he understood she would be the new manufacturer of Water Guard units. It soon became clear that Mr Morgan was left with some feelings of dissatisfaction, and that he had reservations about Mr Bragulla.
[43] On 30 October 2013 a formal deed of assignment was signed between Midgen Ltd and Morgan Ltd, and the MMA settled on 1 November 2013. At that point Morgan Ltd took over Midgen Ltd’s rights as distributor under the EDA. On
7 December 2013 Mr Morgan sent an email where he asked Mr Midgen for evidence that the EDA has been transferred. He also requested Mr Midgen help him obtain an injunction preventing Mr Bragulla from selling the manufacturing business to the Sullivans.
[44] Lawyers became involved as between the Sullivans, Mr Bragulla and Mr Morgan. On 30 December 2013 Mr Morgan emailed Mr Bragulla and Mrs Sullivan advising that he was preparing a case for costs, damages, and ongoing warranty claims, against Bragulla Ltd for breaches of the EDA. He invited Mr Bragulla to consider buying back the Water Guard name, brand and EDA “on terms and conditions set exclusively by me”.
[45] On 5 January 2014 Mr Morgan visited the Midgens at home and handed a letter to Mr Midgen, who was mowing the lawn. In the letter he said that he was very unhappy with the purchase. Amongst other things he said this:
George [Bragulla] gave us annual system sales figures of 750 units for the previous financial year. I questioned this with you because your books showed you had never exceeded sales of 400 units per annum, you advised that the balance was down to cash sales. On this cash sale point I questioned you several times, your final answer was that discounted unit cash sales were a minimum of $5000 per month. This has been shown to be incorrect, with only one cash sale in 2 months. As my budgeting for the business purchase was based on the inclusion of these sales the fact they are not there is of concern.
[46] Mr Morgan also asked for recompense for the reduced value of the business. On 22 January 2014 Mr Morgan and the Midgens met at the Midgens’ home. Mr Morgan deposed that he challenged Mr Midgen about his earlier statements about cash sales, and the statement that he had purchased his Ferarri from cash earned from those sales. He said that Mrs Midgen appeared to be agitated by this and said that the Ferarri was purchased by her from the sale of her Vodafone shares. He said that Mr Midgen hung his head down and said nothing, being clearly uncomfortable. Mr Morgan said that Mr Midgen did not answer his questions about whether he had told him about the Ferarri being purchased from cash sales. He took their silence as indicating that they were not going to buy the business back and were not sympathetic to his predicament.
[47] There were some further discussions between Mrs Midgen and Mr Morgan. On 6 February 2014 the Midgens sent a response to Mr Morgan’s 5 January 2014 letter. The allegation concerning the representation as to cash sales was denied, as were other claims relating to the quality of the units.
[48] The Midgens organised another meeting with Mr Morgan at their home on
11 February 2014. In the end Mr Morgan chose not to attend, but Mr Cameron went. The meeting was mainly about the warranty claims. However, at the end of this meeting Mr Cameron on instructions from Mr Morgan handed them a letter headed “basis for a statement of claim” which alleged Mr Midgen had made representations about cash sales, purchasing the Ferarri with cash sales, and saying “you can count on $5,000 pm”.
[49] Throughout this period there was also a dispute over stock. In November
2013 Midgen Ltd had possession of a large number of Water Guard units that were with a company called Now Couriers Ltd, which acted on Mr Midgen’s direction. In November Now Couriers advised that they did not want to continue holding stock, and suggested that the service be provided by another related business, Online Secure Distribution facility. The stock was duly transferred to that facility. The stock fell effectively under Mr Morgan’s control at that point.
[50] Mr Midgen wrote to Mr Morgan on 14 February 2014 expressing his concern that Mr Morgan had effectively taken control of the stock, and asking for its transfer back. By a reply on the same day Mr Morgan stated that Mr Midgen should involve his solicitor and that he did not agree to Mr Midgen moving the stock. Mr Midgen was not given permission to enter the property where the stock was held.
[51] Midgen Ltd then applied for a mandatory interim injunction requiring Mr Morgan and Morgan Ltd to return all the stock taken from Now Couriers. After a defended hearing a mandatory interim injunction was granted by Fogarty J on
9 April 2014 requiring Mr Morgan and Morgan Ltd to allow Midgen Ltd to remove the stock, and ordering costs in favour of Midgen Ltd against Mr Morgan and Morgan Ltd.2
The contrasting positions
[52] Between Mr Morgan and Mr Midgen there was in their evidence a major difference as to what was said about past sales that cannot be explained by mistake
2 Midgen Enterprises Ltd v Morgan [2014] NZHC 704.
or faulty recollection. Mr Morgan was adamant that he was told on a number of occasions by Mr Midgen about past cash sales which pushed the previous year’s sales up to 600. Mr Midgen was equally adamant that Midgen Ltd never transacted unrecorded cash sales, and that he never said anything to Mr Morgan about unrecorded cash sales. The sales discussed were of 439 units only. Given the discrepancy, this is a credibility issue.
[53] Mr Fisher for Mr Morgan and Mr Grove for Mr and Mrs Midgen each supported their case by reference to various circumstances and documents. Mr Fisher pointed to the amount paid by Mr Morgan for the goodwill of $275,000, which he argued only could be justified if the net profit had included the cash sales. He submitted that the annual quota of 600 units under the EDA meant it was likely the parties discussed sale volumes as Mr Morgan would have wished to make sure that quota could be fulfilled. He relied on the references to 600 units in the email exchanges. He referred to the uncontradicted evidence of the representations by Mr Bragulla that there were 700 or more sales. He argued that this was corroborative of the Midgen misrepresentation.
[54] Mr Grove for Mr and Mrs Midgen submitted that given that the Midgens clearly had never transacted any undeclared cash sales meant that any representation to that effect was most unlikely. He relied on references to the actual true turnover in all the formal documents between the parties. He submitted that the email references to the 600 sales in fact proved that there was no misrepresentation as they were part of queries about the consequences if the 600 sales quota was not achieved. He argued that the MYOB accounts which were examined by Mr Morgan and his agents, and the turnover in the agreement, were consistent with 439 sales only. He relied on parts of Mr Cameron’s evidence about what he heard, and the fact that in all of Mr Cameron’s detailed due diligence considerations, which were in writing and prepared in discussion with Mr Morgan, there were references only to the 439 sales, and no references to additional cash sales.
The agreements
[55] The words of the MMA support Mr Midgen’s version of events in that they only refer to revenue from 439 sales of $576,127. The clause requiring Morgan Ltd to purchase all stock held by Midgen Ltd by 25 January 2015 is inconclusive. That is because although on existing sales Mr Midgen was not selling sufficient stock to warrant orders to the level required by the agreement, two major new customers and increased sales were anticipated.
[56] The EDA is poorly drafted and not easy to follow on the term referring to 600 units. Clause (h) on page 3 of the EDA requires the distributor to maintain:
…a minimum annual sales quota of 600 units p.a. to maintain his exclusive distributorship rights. All orders have to be placed on a 6–monthly forward basis of min. 320 units with 50% deposit payable on date of order.
The last sentence indicates that the clause is concerned with orders from Midgen Ltd to Bragulla Ltd, and not sales by Midgen Ltd to the public.
[57] This must be read with a later reference at cl (a) on page 4 of the EDA to the manufacturer’s right to appoint a second distributor if after the end of two years of operation, “…distributor’s annual sales and order volume is less than 600 machines.” Mr Grove argued that these two clauses required 600 orders from the manufacturer each year, but not 600 sales to customers. Mr Midgen stated that he thought the requirement was for orders and not sales.
[58] It is not necessary to determine this interpretation issue which is raised to support the credibility of the parties. It is possible both parties are telling the truth. On one hand, I accept that Mr Midgen may have thought that the obligation in the EDA related to orders and not sales. However, equally I accept that it would have been important for Mr Morgan that he could realise 600 sales per annum so that he could sell the units that he was bound to order per annum from the manufacturer.
The correspondence
[59] In the email exchange on 9 September 2013,3 the reference by Mr Midgen is
to “600 PA.” He was responding to Mr Morgan’s question about the need “to sell”
600 units per annum, and that he had “not maintained the minimum number of required sales to meet the manufacturer’s minimum sales level.” Mr Morgan’s question appeared to acknowledge that Mr Midgen was not achieving 600 sales per annum, and Mr Midgen’s answer that he was achieving 600 per annum could be seen as a reference to orders rather than sales. In fact Midgen Ltd was achieving approximately 600 orders per annum. This was Mr Midgen’s explanation of what he referred to in the exchange, and it is consistent with the context. So on balance I consider that a contextual reading of this exchange tends to support Mr Midgen’s account of events.
[60] In the 9 October 2013 email exchange Mr Morgan referred to Midgen Ltd’s annual sales and order volume which “exceeded 599 machines in the first 2 years of the Agreement…”4 This was a reference back to cl (a) on page 4 of the EDA concerning the right to appoint a second distributor if after the end of two years the distributor’s annual sales and order volume was less than 600 machines. It is not clear whether the reference is to 599 sales over one year, or the two year period.
Mr Midgen’s answer was that the “[Midgen Ltd] order exceeded that of 599 units in the first 2 years”. This is also ambiguous, although a natural reading tends toward orders of 599 for the combined two years. It does not prove a misrepresentation, and is consistent with Mr Midgen’s version of events.
[61] In summary, in relation to the written evidence of exchanges prior to the agreement becoming unconditional, I do not regard them as in themselves determinative of whether there was a representation, and one on which Mr Morgan relied. The language used is loose and ambiguous, and in terms of what the parties understood possibly conducive of misunderstanding. However, while the exchanges are not entirely consistent or inconsistent with the evidence of either protagonist, in
my view they tend to support Mr Midgen’s account rather than Mr Morgan’s.
3 The relevant exchange is set out at [27]–[30] above.
4 Set out at [38] above.
Due diligence
[62] The due diligence was carried out primarily by Mr Cameron, working for Mr Morgan. The due diligence process is of importance in assessing whether there was a representation as to cash sales, as a key purpose of due diligence was, as Mr Morgan and Mr Cameron accepted, to check the accuracy of Midgen Ltd’s accounts.
[63] The MYOB accounts were examined by Mr Cameron. Those accounts were consistent with 439 sales. Mr Cameron’s due diligence checklist works off these accounts and the earnings and cash flow shown. There is no reference in his checklist to cash sales.
[64] His business situation report referred to sales in the “last year” as including “530 units plus spares”, explained by Mr Cameron as sales of 430 units plus 100 anticipated for the big new customer. His calculation works off the warranted future maintainable earnings figure of $127,247, and applies an EBIT multiplier of 3.5 to get a sale price roughly equivalent to the amount paid. In his key numbers he lists
439 sales.
[65] These two documents support entirely Mr Midgen’s account of what he said about the sales, and provide no support for Mr Morgan’s claim that he was told of further cash sales, bringing the total to 600. It is most surprising, if there had been a reference to significant cash sales, that this is not referred to in these due diligence documents as they go to the heart of what due diligence is about. The only possible explanation consistent with the evidence of Mr Morgan, is that Mr Cameron chose deliberately to make no reference to cash sales because he disapproved of them or was fearful of the consequences of mentioning them. I will consider this when I assess overall credibility.
[66] Mr Cameron also prepared a list of due diligence concerns. It referred to Mr Midgen having sold 1106 units which was roughly consistent with the sales shown in the accounts, and not consistent with any cash sales. He referred to Mr Midgen buying 600 units per annum “for the first time”. This is consistent with Mr Midgen’s evidence of ordering 600 units. He also stated “Dave [Mr Midgen] is
struggling to achieve 500. NOT SO ACCORDING TO TAURANGA.” On the second page he referred again to the “Manufacturer” saying there were more than
700 sales and he asked “But where are the sales recorded?”.
[67] In his evidence he explained that these statements were a reference to Mr Bragulla’s assertion that Mr Midgen was selling greater quantities than the books disclosed. This due diligence list then is consistent with Mr Bragulla representing there were more sales, and thus it supports Mr Morgan’s case against him.
[68] However, the list runs quite contrary to Morgan Ltd’s claims against the Midgen interests. Mr Cameron did not list any Midgen cash sales representation in his due diligence concerns document, but he did list the Bragulla representation of more than 700 sales as if it ran contrary to what Mr Midgen was saying. There would have been no reason for Mr Cameron to question the discrepancy if he was thought the difference was made up by cash sales, as he claims Mr Morgan told him.
[69] I did not find Mr Cameron’s explanations under cross examination as to why he did not show such sales in his notes and figures to be satisfactory. If he knew there were cash sales, his calculations based on the declared turnover were a waste of time. He might just as well have not bothered, if he knew the figures were a gross underestimate. Yet he worked off the MYOB figures throughout. It is surprising that he referred to the Bragulla representation but not any alleged Midgen representation on the same topic, which would have been more important as it came from the vendor. If he was fearful of mentioning cash sales it would be expected that he would not mention Mr Bragulla’s representation. But he set that out in writing. It is all consistent with Mr Midgen accurately representing 439 sales only.
[70] Mr Cameron may have been confused by Mr Morgan’s statements to him about the Bragulla representations, and muddled these with the alleged Midgen representations. Whatever the explanation, I reject his evidence that he was told by Mr Morgan of Mr Midgen representing cash sales. I also do not accept his evidence that Mr Midgen told him on 1 November 2013 that one of the things that Mr Midgen would miss was the cash sales.
[71] Mr Cameron still works for Mr Morgan and at times in his evidence seemed to be an advocate for his complaints. He has adopted Mr Morgan’s attitude towards the Midgens and the Sullivans, that Mr Morgan was sold a pup.
Actions after sale
[72] Mr Grove placed weight on the fact that when Mr Morgan first raised the issue of a misrepresentation as to sales, it was a different misrepresentation to that now pleaded and alleged. Mr Morgan’s first misrepresentation claim, in his letter of
5 January, did not say Mr Midgen said that there were annual sales of 600 units. He instead referred to Mr Bragulla’s statement about sales of 750 units and Mr Midgen asserting discounted unit cash sales of a minimum of $5,000 per month. He stated that his budgeting for the purchase of the business had been based on the inclusion of these sales. Mr Morgan repeated the cash sales of $5,000 per month allegation in the draft statement of claim that was handed up at the end of the meeting of 11 February
2014.
[73] Mr Morgan’s first misrepresentation claims are inconsistent with Mr Cameron’s due diligence calculations of purchases, and inconsistent with Mr Morgan’s pleaded misrepresentation by Mr Midgen of cash sales of 161 units per annum. Cash sales of $60,000 a year (at $5,000 a month) indicate sales of less than
161 a year, given that the profit margin exceeded $500 a unit. Therefore, the earliest claims by Mr Morgan are to an extent inconsistent with the position he now takes.
Credibility
[74] Both Mr Morgan and Mr Midgen gave evidence. Mr Morgan harbours obvious anger and resentment towards the defendants. He developed a hostile mode of communicating with Mr Bragulla from November 2013, with the Sullivans from December 2013, and with the Midgens from January 2014. In contrast I found Mr Midgen to be a temperate witness who sought to avoid confrontation and find solutions (although in relation to my later consideration of the alleged defects I find he was at fault).
[75] I look at the respective personalities of Mr Morgan and Mr Midgen. Mr Morgan is possessed of strong grievances that in my view developed into an unwarranted dimension of confrontation and exaggeration. He was often bitter and sarcastic in his statements. He showed great and disproportionate resentment. Mr Midgen on the other hand struck me as a person who avoids confrontation and is careful and considered in his actions, and moderate in his responses. He seemed to me to be by nature cautious and law abiding, a person who would not wish to carry out large scale tax fraud, let alone make up a story that he had participated in such activity. He does not appear to be a risk taker. It would run quite contrary to Mr Midgen’s character as I perceive it, for him to lie about a significant cash sales business.
[76] As I have indicated, in my assessment the correspondence before the agreement became unconditional does not support Mr Morgan’s version of events, and Mr Morgan’s first misrepresentation claims against Mr Midgen were different to the one he now alleges, which does not support Mr Morgan’s credibility.
[77] Importantly, none of the written material (of which there is a considerable amount) supports Mr Morgan’s allegations. This could be understandable, if the representation was of cash sales because emails and the agreement for sale and purchase might fall into the hands of the Inland Revenue. But it is harder to understand why the private due diligence calculation Mr Cameron prepared for Mr Morgan does not show the alleged cash sales. They would have been critical to the future profit calculations, and it was a private document. It does refer to Mr Bragulla’s statement as to cash sales, but not to any by Mr Midgen. Mr Cameron’s calculations are made throughout on the actual MYOB figures given by Mr Midgen.
[78] There is one important further aspect of Mr Cameron’s evidence that runs contrary to Mr Morgan’s claim of a false sales representation. It was clear from Mr Cameron’s evidence that he was concerned about the volume of sales and the likely return to Mr Morgan. He was at the meeting of 11 September 2013 and Mr Morgan’s evidence was that Mr Midgen referred to cash sales at that meeting. Importantly, Mr Cameron recalled no such reference. He claimed that he was
focusing on other matters. In my view, he would have been most interested in any representation as to cash sales by Mr Midgen. It went to the heart of his due diligence exercise. He would have remembered such a misrepresentation if it was made. The fact that he could not recall it is inconsistent with Mr Morgan’s case.
[79] Mr Fisher invited me to draw an inference against the Midgen interests, because the agent involved in the sale who was present for some meetings (Mr Nola) was not called by them. I draw no such inference. There is nothing to indicate that the agent would have any reason to recall details of any discussions about turnover. It was open to Morgan Ltd to obtain a brief from Mr Nola or subpoena him. It did not do so.
The broad picture
[80] I turn to the broad dynamics of the purchase. The goodwill shown on the agreement was $275,000. Mr Lucas, an experienced accountant, was called by Mr Morgan. He gave evidence, which I accept, that on the figures shown in the accounts there was a net surplus shown after shareholders’ salaries of somewhere between $100,000 and $110,000 for the previous year. He thought that the right multiplier was about two, which meant that Mr Morgan had paid too much for the business. This would tend to support Mr Morgan’s claim that he was prepared to pay the asking price because of the cash sales.
[81] However, Mr Cameron in his due diligence calculations has worked off the declared turnover, and used a multiplier of 3.5 rather than 2 in his calculations. Such a multiplier does lead, on Mr Cameron’s calculations, to a price similar to that paid by Mr Morgan on the declared figures shown in the accounts.
[82] There is an explanation for this. I am satisfied that Mr Morgan was anticipating a lot of extra sales from two new big customers, that if realised would give him the turnover of about 600 sales a year. In Mr Cameron’s business situation report there are references to building the business and sales to “Newco”. Increased sales are projected. Mr Midgen gave evidence of an arrangement with a company he called DVS, where he was expecting sales of 150 to 200, although this was not yet confirmed. He told Mr Morgan about this. He took Mr Morgan to attend a training
day with DVS, and was confident that if DVS was diligently pursued, it would place significant orders. There was also another major customer that was a prospect. These prospects may well have led them to apply the higher multiplier, and to be optimistic. Mr Morgan on his own evidence accepted that he was aware of the prospects, but when he started to find defects in the units, deposed that he focused on getting the units right rather than pursuing the new sales prospects with the big potential customers. In Mr Midgen’s view, he wasted a very likely prospect of increased sales for no good reason.
Conclusion on misrepresentation as to sales
[83] It is my conclusion that Mr Midgen did not misrepresent the sales of units. He did not untruthfully refer to cash sales. I found him to be a believable witness. In contrast Mr Morgan did not present as a balanced or accurate witness. The proven facts on overview do not support what he says, and his demeanour and reactions in the witness box left me doubting his evidence. I also reject Mr Cameron’s evidence on the topic of statements by Mr Midgen about cash sales. I do not believe it.
[84] Aspects of Mr Midgen’s evidence that Mr Fisher criticised do not show Mr Midgen to be untruthful. His muted reaction when confronted with Mr Morgan’s allegations at the 11 February 2014 meeting is understandable, as I accept that he was dumbfounded and distressed at Mr Morgan’s extreme accusations. His willingness to ask a high price for the goodwill must be seen in the context of his increasing sales, and the excellent new customer prospects. It is true that Mr Bragulla was telling Mr Morgan about cash sales by Mr Midgen, but I accept Mr Midgen’s evidence that he told Mr Morgan that Mr Bragulla was wrong, and he should work off the MYOB accounts. In fact, the sales that Mr Morgan achieved in the months that followed his purchase were consistent with those accounts.
[85] The claim based on misrepresentation of the number of units sold fails.
The misrepresentation as to sales claim against the Bragulla interests
[86] Morgan Ltd also claims that Mr Bragulla represented that Midgen Ltd had sold 700 units in the preceding 12 month period. Although this claim is brought in
the second proceeding, it is convenient to consider it now in the context of the claim against Mr Midgen and Midgen Ltd for misrepresentation. As noted above, Mr Bragulla and Bragulla Ltd have not defended the proceedings or appeared, so this claim proceeds by way of formal proof.
[87] There is no doubt that Mr Bragulla did make the representation of sales of
700 units. He said that in his email of 10 October 2013 where he referred to “Dave in NZ selling about 700 machines a year now…”. The representation is referred to by Mr Cameron in his due diligence concerns document. Bragulla Ltd and Mr Bragulla have not presented any evidence to refute the representation. I find it formally proven.
[88] The claim is brought under two heads. The first claim is under s 9 of the Fair Trading Act 1986. Given my conclusion above I am satisfied that Mr Bragulla in trade engaged in misleading or deceptive conduct, contrary to s 9 of that Act, by saying that Mr Midgen had achieved 700 sales. Liability is strict; there need be no intention to deceive.5
[89] However, liability does not follow. It is clear from his due diligence concerns document that Mr Cameron was querying the representation. He stated “Dave has bought more than 700 units pa according to the Manufacturer! But where are sales recorded?” I accept Mr Midgen’s evidence that he told Mr Morgan on a number of occasions when the Bragulla statement was raised, that there were no cash sales and the sales were accurately recorded in the MYOB accounts. While Mr Morgan may have been intrigued by Mr Bragulla’s statements, he was told they were not true, and his advisor Mr Cameron did not rely on them when he went through due diligence. Nor in my view did Mr Morgan.
[90] Thus the remarks of Mr Bragulla did not influence Mr Morgan in his decision to purchase the business from Midgen Ltd. It is clear that Morgan Ltd has suffered
5 Goldsbro v Walker [1993] 1 NZLR 394 (CA) at 406 per Hardie Boys J; see also Stephen Todd and John Burrows “Deliberate Falsehoods” in Stephen Todd (ed), The Law of Torts in New Zealand (6th ed, Brookers Ltd, Wellington, 2013) 781 at 807.
no loss or damage “by” Mr Bragulla’s conduct, as is required for compensation under s 43.6 Accordingly I refuse to make an order under that section.
[91] The second claim is brought under the common law tort of deceit. It is also a requirement that the claimant must have in fact acted in reliance on the misrepresentation.7 For this reason the deceit claim must fail. In these circumstances I do not consider it necessary to determine whether the statement was in fact deceitful.
[92] It is necessary to record, however, that Mr Bragulla appears to me to have been at times unusually opinioniated and misguided. I deal with Mr Bragulla’s headstrong behaviour later in this judgment. It is relevant here because it helps explain why Mr Bragulla may have thought that Mr Midgen was selling more units than he was. Mr Midgen as a conservative businessman was ordering a lot more units than he needed immediately. He ended up with over a year’s worth of supply. Mr Bragulla may well have (wrongly) thought to himself that Midgen Ltd must be achieving more sales than in fact it was.
The claims relating to the defects
[93] Morgan Ltd claims that there were defects in the Water Guard units sold by Midgen Ltd before it purchased the business, for which Midgen Ltd is liable under an indemnity clause in the MMA. It further claims that defective Water Guard units were supplied to it after the settlement of the MMA in breach of an implied term that the units would be fit for purpose or of merchantable quality. Finally it is claimed that Midgen Ltd and Mr Midgen made various representations about the quality of the units.
[94] This part of the claim took many days of evidence, and involved extensive submissions. Rather than try to summarise all that evidence and submissions at the
outset, I propose to focus on the particular defects alleged, the pleaded allegations,
6 Red Eagle Corporation Ltd v Ellis [2010] NZSC 20, [2010] 2 NZLR 492 at [29]–[30].
7 Amaltal Corporation Ltd v Maruha Corporation [2007] 1 NZLR 608, (2006) 3 NZCCLR 1 (CA) at [46].
and the defences raised. Related claims have been brought against the Bragulla interests, which will be considered later.
The indemnity clause and implied terms
[95] Morgan Ltd claims Midgen Ltd is liable for defects in products distributed by it before settlement of the MMA. Clause 22 states:
The Purchaser assumes no liability for any products manufactured and distributed by the Vendor and the Vendor shall promptly indemnify the Purchaser against claims brought against the Purchaser in respect of any products manufactured and/or supplied by the Vendor prior to the date of settlement.
[96] The wording is clear. The indemnity applies to all units that had already been distributed to customers by Midgen Ltd prior to settlement of the sale to Morgan Ltd. Midgen Ltd must indemnify Morgan Ltd against all claims. Although the clause does not refer to defects, the indemnity must be read as applying to only reasonable defect claims. There was no obligation to indemnify for a meritless claim. Mr Fisher did not suggest otherwise.
[97] The next pleaded contractual claim relates to goods that were supplied by Midgen Ltd to Morgan Ltd both as part of the settlement of the MMA and after settlement by direct supply by Midgen Ltd on request from Morgan Ltd. It is pleaded that this was pursuant to an agreement for the sale of goods, and that the terms implied by the Sale of Goods Act 1908 apply. The implied terms of fitness for purpose and merchantable quality are set out in s 16.
[98] The condition that an item is reasonably fit for purpose will arise when the sale is in the course of the seller’s business, the buyer makes known his or her particular purpose, and the buyer relies on the seller’s skill or judgment. However, that condition will not arise when the sale is of a specified article under its trade name.
[99] By contrast, a condition that an item is of merchantable quality will arise when the item is bought by description, the seller deals in items of that description,
and the buyer has not examined the items in a manner which ought to have revealed the defect complained about.
[100] Mr Grove does not contest that both terms can be implied in the MMA, but submits they were not breached.
[101] As to what constitutes “reasonably fit”, Hardie Boys J in Finch Motors Ltd v
Quin (No 2) said:8
The Act does not impose on a seller the liability of a guarantor that the goods are absolutely fit for their purpose. The test is one of reasonableness … liability for latent defects rests on the seller.
What is reasonable must depend on the circumstances, with particular regard to the purpose communicated to the seller and the qualities necessary for the item to be fit for that purpose, as well as any consequence of use.9
[102] In the context of the bulk sale of units to a distributor pursuant to an agreement to sell a business, the test should be whether the units supplied are commercially saleable and will be fit under their contractual description for the likely end customers of the purchaser/distributor. This is because the vendor knows that the purchaser buys to then on-sell to those customers.
[103] In contrast to fitness for purpose, whether an item is of merchantable quality does not depend on the particular purpose for which the item is bought. It is a qualitative assessment of the item having regard to all the purposes for which an item with that description would normally be used.10 It is sometimes expressed in terms of saleability, acceptability, and usability. As noted in Cehave NV v Bremer Handelsgesellschaft mbH:11
It is a composite quality comprising elements of description, purpose, condition and price. The relative significance of each of these elements will
8 Finch Motors Ltd v Quin (No 2) [1980] 2 NZLR 519 (HC) at 523.
9 Sayers v Jenkins Labels Ltd HC Hamilton CP78/97, 1 September 1988 at 17.
10 Ashington Piggeries Ltd v Hill (Christopher) Ltd [1972] AC 441 (HL) at 504 per Lord Diplock;
Jewson Ltd v Boyhan [2004] 1 CLC 87 (CA).
11 Cehave NV v Bremer Handelsgesellschaft mbH [1976] QB 44 (CA) at 80; as adopted in the context of s 7 of the Consumer Guarantees Act 1993 in Contact Energy Ltd v Jones [2009] 2
NZLR 830, (2009) 9 NZBLC 102,634 (HC) at [95].
vary from case to case according to the nature of the goods in question and the characteristics of the market which exists for them. This may explain why the formulations of the test of merchantable quality vary so much from case to case.
[104] Damages are sought for $38,927 being the cost incurred in meeting the claim of customers under cl 22, $56,800 being the cost of making the units fit for purpose and of merchantable quality, and $240,358 being the assessed value of future costs.
[105] There are also claims of misrepresentations by Mr Midgen and Bragulla Ltd about the quality of the units. However at this juncture I will first consider whether any of these defects exist as a matter of fact. I will then consider whether any of the units were in breach of the indemnity clause in the MMA (for those supplied before settlement) or in breach of the implied terms as to quality and fitness (for those supplied after settlement).
The defective units
[106] It is necessary by way of background to set out the particular unit models, as they had different features and different alleged problems. The models and some of their characteristics were summarised in a chart supplied by the plaintiff. It sets out
the models and certain features of the models:12
Unit Time period
Ballast
(w)
Lamp
(w)
Chamber
(mm)
Glue joins
Filters
Flexible hose / MacUnion
Gold 0
2008/2010
75
95
65 x 830
3
3
Flexible hose
Gold I
2010/2012
75
95
65 x 830
3
3
Flexible hose
Platinum I
2010-2012
160
130
65 x 830
3
3
Flexible hose
Septreat
2011- current
75
95
65 x 830
3
1
Flexible hose
Silver II
2012-2014
40
40
65 x 830
3
2
Flexible hose
Gold II
2012-2013
95*
95*
108 x 910
3
3
Flexible hose
Platinum II
2012-2013
2x 95*
2x 95*
108 x 910
3
3
Flexible hose
12 I have deleted a column “sold by”.
Silver III 2014- current
40
40
89 x 910
5
2
MacUnion
Gold III
2014- current
95
75
89 x 910
5
3
MacUnion
* This lamp was tested by the plaintiff and found to have an actual output of 88–93 watts
[107] Mr Morgan and Mr Cameron in their evidence said that Morgan Ltd began to receive legitimate customer complaints about defects from the time it settled the purchase and thereafter. For example, in early December there was a fire in a unit on Waiheke and in the end Mr Morgan thought the fire was caused by a defective unit. Mr Bragulla thought his position was wrong, that the real cause was inadequate maintenance, and that Mr Morgan was acting unreasonably. Mr Morgan and Mr Bragulla became increasingly belligerent and abusive in their discussions about the defective units, with neither making any effort to observe ordinary civility.
[108] Mr Morgan says that the Midgen and Bragulla defendants were unhelpful when told of the problems, and did not give meaningful assistance. According to Mr Midgen’s evidence, in December and January Morgan Ltd began to order parts for Water Guard units directly from China and not through Bragulla Ltd. It was only until the meeting on 11 February 2014, and after a discussion that lasted three and a half hours, that the Midgens set out a proposal for the replacement of faulty parts or any faulty units and for a further meeting involving Mr Bragulla and Mr Sullivan.
[109] In the present claim, in essence Morgan Ltd asserts that as it investigated it came to appreciate that there were certain fundamental defects in the design of the units that would lead to problems unless they were fixed. They say they have had to fix and replace parts on many units. Also, to prevent claims, from about April 2014 they have dismantled, altered, and re-assembled units prior to delivery.
[110] The allegations of defects were not fixed through the trial, but in the end as best I could ascertain, the following defects were alleged:
(a) The stainless steel chambers in the Gold II and Platinum II units are prone to split where the end plates have been welded on to the chamber.
(b)The ballast in the Gold II and Platinum II units is susceptible to water damage and not powerful enough to supply the wattage required.
(c) The lamps in the Platinum II units overheat leading to leakage.
(d)Some of the units were manufactured with defective glue resulting in leaking heads, hoses and joins.
(e) Some of the units suffer from poor seals, leaking flexible hoses, and other miscellaneous complaints.
[111] I consider the alleged defects.
The stainless steel chamber weld splits
[112] It can be seen from the photograph at [6] above that at the top of the Gold II and Platinum II units there is a large stainless steel cylinder. Mr Cameron gave evidence that he had recorded 41 instances of the failure of these chambers. His reports were made in a systematic way when the defects were complained about and rectified, and show that the chambers split where the end plates on the cylinder had been welded on to the chamber. There was some documentation adduced in support of each claim. Mr Cameron was not challenged on this evidence. I accept his evidence about these 41 instances of failure.
[113] Morgan Ltd called an expert from the stainless steel industry, a Mr Appleton, who gave evidence that his company repaired about 50 of the units by re-welding them. He identified two faults. First, he deposed that the end plates were of the same diameter as the cylinder making it difficult to achieve a sufficiently strong weld to withstand the water pressure from within the cylinder. Second, he stated that the welds had been weakened by them being sanded down.
[114] Although Mr Appleton was not truly an independent witness, as he had done work for Morgan Ltd, I found his evidence to be credible and convincing. Mr Midgen himself acknowledged that he had encountered the weld issue while he was involved in the business, in the email he sent to Mr Sullivan on 12 February
2014. He noted that he had three such issues prior to the sale.
(3) The defendant must have known that his or her conduct would induce the breach.
(4) The defendant’s conduct inducing the breach must have caused loss or
damage to the plaintiff.
(5) The defence of justification may arise.
[253] Although it is useful to partition the tort into elements, the essence of the tort was captured by Jenkins LJ in DC Thomson v Deakin:41
Direct persuasion, procurement or inducement applied by the third party to the contract breaker, with knowledge of the contract and intention of bringing about its breach …
[254] I examine the issue from the point of view of the Sullivan interests entering the addendum and their position on settlement, which is the focus of the pleading.
[255] Morgan Ltd claims the Sullivan and Bragulla interests each independently breached the EDA on numerous occasions in the November 2013 – May 2014 period. It claims in the inducement to breach contract cause of action, that Bragulla Ltd breached the EDA by:
(a) transferring its intellectual property to Sullivan Ltd, thereby failing to maintain title to its intellectual property as required by the EDA;
39 Wholesale Distributors Ltd v Songle Supermarket Ltd [2014] NZHC 2548 at [38] per Moore J; Cookright Filtering Services Ltd v Wallis [2013] NZHC 2535 at [21] per Gendall J; Onyx Bar & Café (Cambridge) Ltd v Jans [2012] NZHC 948 at [41] per Associate Judge Faire; ABC Developmental Learning Centres (NZ) Ltd v Artemis Early Learning Ltd HC Christchurch CIV-
2010-409-1198, 25 June 2010 at [44] per French J; SGS New Zealand Ltd v Nortel (1998) Ltd
HC Whangarei CIV-2006-488-284, 20 December 2007 at [122] per Winkelmann J.
40 Cynthia Hawes “Interference with Business Relations” in Todd, above n 5, 667 at 676.
41 DC Thomson & Co Ltd v Deakin [1952] Ch 646 (CA) at 694.
(b)failing to offer Morgan Ltd the option to purchase the manufacturing business or the option to be the distributor of Water Guard products for part or all of Australia, in breach of the EDA;
(c) failing to carry on business as the manufacturer of Water Guard products and otherwise refusing to perform its obligations under the EDA, including its obligation to Morgan Ltd to:
(i) supply parts and spares;
(ii) provide assistance and help; and
(iii) cooperate in all aspects of Morgan Ltd’s business; and
(d)purportedly assigning to Cynortic International Ltd the rights, title and interests of the manufacturer under the EDA without giving Morgan Ltd an option to purchase and/or an option to be the Australian distributor.
[256] I accept that in transferring the intellectual property to Sullivan Ltd, Bragulla Ltd failed to maintain title to its intellectual property as required by cl B on page 2 of the EDA. I also accept that in selling the intellectual property, and all the business save for the New Zealand and East African operations, Bragulla Ltd breached its obligation to give Morgan Ltd as assignee the first option to purchase the business. The consent Mr Morgan had given to the transfer of the EDA was for a sale of all the manufacturer’s rights to Sullivan Ltd. This did not happen, and the consent cannot be construed as extending to the final BSA as varied by the addendum.
[257] The issue is whether the Sullivans intentionally induced Bragulla Ltd to breach. In order to answer that question it is necessary to consider the nature and extent of the Sullivans’ knowledge.42 As the Court of Appeal held in Diver:43
Liability for inducing breach of contract requires the defendant to “actually realise” he or she is inducing a breach of contract. It is not sufficient to
42 Hawes, above n 40, at 681; citing OBG Ltd v Allan, above n 35, at [192] per Lord Nicholls.
know that an act is being procured which, at law or as a matter of construction of the contract, is a breach. Nor is it sufficient that the defendant ought reasonably to have realised that a breach of contract would result.
[258] The Court quoted from the speeches of Lord Hoffmann, Lord Nicholls and Arden LJ in assessing what knowledge is sufficient in relation to the third element. The Court proceeded to analyse a number of New Zealand cases, but its focus was on the issue of wilful or Nelsonian blindness, which is not in issue here.
[259] Of relevance is Lord Hoffman’s statement in OBG that it is necessary in considering knowledge to distinguish between ends, means and consequences:44
If someone knowingly causes a breach of contract, it does not normally matter that it is the means by which he intends to achieve some further end or even that he would rather have been able to achieve that end without causing a breach. Mr Gye would very likely have preferred to be able to obtain Miss Wagner’s services without her having to break her contract. But that did not matter. Again, people seldom knowingly cause loss by unlawful means out of simple disinterested malice. It is usually to achieve the further end of securing an economic advantage to themselves. As I said earlier, the Dunlop employees who took off the tyres in GWK Ltd v Dunlop Rubber Co Ltd 42 TLR 376 intended to advance the interests of the Dunlop company.
On the other hand, if the breach of contract is neither an end in itself nor a means to an end, but merely a foreseeable consequence, then in my opinion it cannot for this purpose be said to have been intended. That, I think, is what judges and writers mean when they say that the claimant must have been “targeted” or “aimed at”. …
[260] Mr Fisher for Morgan Ltd submitted that the Sullivans knew about the EDA and its terms and by entering into the addendum they intended Bragulla Ltd to breach the EDA for their own ends. He pointed to the evidence concerning the parties’ intention at the time the addendum was entered into which suggests, in his submission, that the Sullivans intended to cause a breach of the EDA.
Assessment of whether the tort has been proved
[261] It is true that a legal analysis of the position of the Sullivans would have revealed that by entering the addendum and bifurcating elements of the business the Sullivans were breaching the EDA. It is also true that they knew of the EDA and
had read it. However the impression I had when I heard their evidence was that
44 OBG Ltd v Allan, above n 35, at [42]–[43].
neither of them had read it closely. I entirely believe their evidence that neither of them thought that in signing the addendum they were so altering the assignment as to create a breach of the EDA.
[262] The clearest demonstration of this is the addendum itself. I agree with Mr Marsh’s submission the terms of the addendum clearly show that it was intended by the parties that Bragulla Ltd would continue to meet its obligations to Morgan Ltd under the terms of the EDA. It was a specific requirement under the terms of that addendum that Bragulla Ltd would retain its rights “and obligations” under the EDA and that parts would be supplied so that the Bragulla Ltd “can fulfil its obligations under the EDA”. Thus, on its plain words the addendum contemplates the EDA remaining in place and enforceable as between the Bragulla Ltd and Morgan Ltd.
[263] I accept Mr Sullivan’s evidence that when part of cl 2.3 of the addendum was removed, the intention was not to defeat Mr Morgan’s exclusive distributorship arrangement. Rather Mr Sullivan believed that under cl J on p 3 of the agreement, the manufacturer could sell units if the distributor did not want to purchase them from Bragulla Ltd. Mr Sullivan stated that Mr Morgan had made it quite clear he did not wish to purchase any, or take any refurbished machines from Bragulla Ltd, and Mr Sullivan thought that this meant that refurbished machines could be sold by Sullivan Ltd without breaching the agreement.
[264] I consider that he sincerely held the view that by deleting the last part of cl 2.3, he was keeping open the rights under the clause rather than defeating the rights of Morgan Ltd, despite the fact that it is far from clear that his interpretation of the clause was correct.
[265] The Sullivans in my view are persons who by instinct wish to observe the law and their obligations. They entered into the addendum not to spite Morgan Ltd or defeat its interests. They envisaged, rather, that its rights as distributor under the EDA would be unaffected. They intended to create a buffer between them and Mr Morgan so that they did not have to deal with him. That was the Sullivans’ end goal. With their focus squarely trained on going forward with practical solutions to
the deadlock as suggested by Mr Bragulla, it is no surprise they overlooked the legal consequences of those solutions.
[266] This analysis is supported by the wider context. As I have noted elsewhere, the early correspondence showed that they tried very hard to form a working relationship with Mr Morgan. Throughout December and onwards as the relationship deteriorated with Mr Morgan they did no more than respond (without committal) to Mr Bragulla’s suggestions. In late January and February the Sullivans tried to meet with Mr Morgan to try find a way forward. This does not show any desire at the time to induce a breach of the EDA. Quite the contrary.
[267] After the agreement was settled the Sullivans did act in a way that could be interpreted as showing an intention to defeat Mr Morgan’s interests. In March they sent the letters seeking to prevent Morgan Ltd from trading, and told Mr Morgan to stop using the name Water Guard and to stop distributing Water Guard units. They had no right to do this. But the situation had stalemated by then. Mr Sullivan was acting in a desperate and naïve way to try and unlock an impasse. He backed down from this position when Mr Morgan protested, and when he received legal advice. I accept his claim that the sending of the letters in March was a reactive mistake.
[268] I accept that apart from these aberrations, including their misguided effort to terminate the EDA in December 2014, born of frustration at Mr Morgan’s hostility and refusal to deal with him or to place orders for any units or parts, they were prepared to honour Morgan Ltd’s position as exclusive distributor in New Zealand. Indeed, the December notice of termination was sent on the basis that they were bound by the EDA. It was not proceeded with. As Mr Sullivan pointed out, it was in the end entirely in their interests to see Mr Morgan succeed. If this happened they would sell more units and more parts.
[269] Similarly I do not regard the few sales that they effected after March 2014 as indicating that they had an intention to sell in breach of the EDA at the time they settled the agreement. The later letter that they sent to Cynortic International Ltd seeking permission to distribute product in the New Zealand market I see also as a
reactive and frustrated response to the complete lack of orders for even parts by
Mr Morgan.
[270] I also record that I am satisfied that the Sullivans did not participate in the transfer to Cynortic International Ltd, and that this was a half-baked scheme concocted entirely by Mr Bragulla.
[271] In the end from Mr Morgan’s perspective nothing changed practically as a consequence of the addendum. He remained the exclusive distributor in New Zealand with an exclusive right to source all Water Guard systems and parts. In fact he chose not to order parts under the EDA and to access parts elsewhere. The Sullivans’ later actions after the agreement was settled as their relationship with Mr Morgan deteriorated were reactive and not indicative of any earlier plan to defeat Mr Morgan’s interests.
[272] Therefore the tort was not committed by the Sullivan interests. They had some knowledge of the EDA, but no intention to breach it.
Unlawful means conspiracy
[273] It was stated by the Court of Appeal in Wagner v Gill that the following elements need to be satisfied for this tort to arise:45
(a) the existence of a combination;
(b) unlawful action (unlawful means); (c) intention to injure the claimant; and (d) actual damage to the claimant.
[274] Mr Fisher submits there was a conspiracy between any two of the defendants to injure Morgan Ltd by amongst other things unlawfully inducing Bragulla Ltd to sell its intellectual property rights to Sullivan Ltd. The combination is said to have
targeted Morgan Ltd, with the intention of depriving Morgan Ltd of its rights as exclusive distributor under the EDA.
[275] For the reasons I have already set out, I do not consider that the Sullivans intended to injure Morgan Ltd when it settled the BSA as varied by the addendum. Indeed, my analysis of the correspondence shows that there was very little conferral between the Sullivans and Mr Bragulla. Mr Bragulla was a law unto himself and did what he wanted, save for their agreement that through the addendum they would leave Mr Bragulla in place as a buffer between them and Mr Morgan. I do not consider that the Sullivans conspired to do anything with Mr Bragulla. Certainly I do not consider that they sought with him to injure Mr Morgan.
[276] I note in particular the Court of Appeal in Wagner v Gill stated:46
On balance, our preference would be to retain the requirement that the
conduct must be directed at the claimant. …
[277] I accept Mr Sullivan’s evidence that (save for occasions of temporary reactive behaviour) his general wish was to see Mr Morgan succeed and for him to sell a lot of units. That sentiment is consistent with the bulk of the Sullivan’s behavior and with their best interests as manufacturer of Water Guard products. I have no doubt that if Mr Morgan had communicated with the Sullivans, and purchased parts from them and proceeded to purchase units when his supply ran out, that the Sullivans would have happily continued to deal with him. Having heard Mr Morgan give evidence and considered Mr Marsh’s submission, I accept that Mr Morgan has not for some time had any intention of ordering units under the EDA, and I consider that he has been importing parts from China and other places in breach of the EDA. It has been his agenda to not deal with the Sullivans that has been the root cause of the problems between them. Their wish at the relevant time was for him to start ordering from them. There was no conspiracy to harm Mr Morgan.
[278] I received no submissions on the issue of whether Mr Bragulla could be liable for conspiracy, or indeed inducement to breach contract, with Bragulla Ltd alone. Whether such liability might arise may not be a straightforward question, but in any
event may be moot. Since this is an interim judgment, and in case Morgan Ltd might wish to pursue it, I expressly do not determine that issue, and reserve it for further argument if required.
Fair Trading Act claims
[279] It is also pleaded that the defendants have each breached the Fair Trading Act by misleading Morgan Ltd into declaring the MMA unconditional. In the end there is no relief sought against the Sullivans and Sullivan Ltd under this head.
[280] For reasons I have already given, I would have granted no relief. I have already dealt with the claims against the Bragulla Ltd and Mr Bragulla. I reject the claims save in respect of the three specified defects.
Conclusion on the Bragulla/Sullivan proceeding
[281] Sullivan Ltd (Cynortic Water Systems Ltd) and the Sullivans have admitted that they should account to the plaintiff for the loss of any profits as a result of any sales undertaken by them in New Zealand. The sum in question is very small, as there were only a few sales over a short period. Sullivan Ltd consents to an account of profits for sales by it and has nominated a sum it will pay. Any remaining issues as to quantum in that regard can be dealt with at the damages hearing.
[282] However, save for this admission, no claim has been made out against Sullivan Ltd or the Sullivans. I refuse to grant a declaration that the first defendant (Sullivan Ltd) has no interest in the EDA. The claims for inducement to breach contract, conspiracy and the Fair Trading Act claims against Sullivan Ltd and Mr and Mrs Sullivan fail. In so far as there may be tortious claims that relate to an inducement to breach contract or conspiracy between Mr Bragulla and Bragulla Ltd, leave is reserved for an application to have a further hearing on that topic if necessary.
[283] While Mr Bragulla is not liable for the misrepresentations as to sales, he is nevertheless liable under the Fair Trading Act in respect to his misrepresentations of quality (in that there were the three defects).
[284] Bragulla Ltd (Cynortic Ltd) is also liable for the same misrepresentations. In addition, as one of the parties to the EDA Bragulla Ltd is liable to Morgan Ltd for breaches of that contract. As I have outlined, the EDA was breached in that there was ultimately a sale to Sullivan Ltd on terms not agreed to by Mr Morgan and in breach of the obligation not to sell the manufacturing business, and there was also a transfer of some of the intellectual property to Sullivan Ltd. However, it is far from clear to me that any loss has been suffered as a consequence, but since an inquiry as to damages has been sought and I have not had full submissions on the issue, I adjourn the question of any loss arising for a further hearing, if necessary.
[285] I do not consider the claims brought against Cynortic International Ltd under the Fair Trading Act and in tort have merit. Cynortic International Ltd did not exist when Mr Bragulla made the misrepresentations of quality, and there was no evidence given at the hearing that Cynortic International Ltd had conspired to injure Morgan Ltd by unlawful means. However, as I set out in the next paragraph I do declare that Bragulla Ltd, not Cynortic International Ltd, remains liable to Morgan Ltd as manufacturer under the EDA. There is no evidence of any act or novation discharging Bragulla Ltd’s contractual liability.
[286] I make the following orders and declarations:
(a) An injunction restraining the third defendant, Bragulla Ltd from:
(i)appointing or purporting to appoint any other person to market or sell or distribute Water Guard filtration systems and associated products or UV water filtration systems or parts associated with the brand name Water Guard to any person in New Zealand or the Pacific Islands or Australia;
(ii)assigning or purporting to assign to any other party, the rights, title or interests of the manufacturer under the EDA;
unless authorised expressly by the EDA to engage in such conduct in terms of the EDA, but subject always to the plaintiff being given the
option to purchase the rights, title and interests of the manufacturer under the EDA and/or the first option to be the distributor of Water Guard products for part or all of Australia.
(b) A declaration that the plaintiff is the distributor under the EDA.
(c) A declaration that the third defendant, Bragulla Ltd, remains liable to the plaintiff as manufacturer under the EDA.
Result
[287] Liability is established as set out in [204]–[206] and [281]–[286] above.
[288] There is to be an inquiry into damages in respect of the claims where liability is established.
[289] Costs are reserved.
[290] I direct a telephone conference after 14 days to discuss: (a) A timetable for submissions on costs.
(b) A timetable for a damages hearing.
[291] If a party so requests, that may be a face to face conference.
……………………………..
Asher J
Solicitors/Counsel: M Fisher, Auckland. D Grove, Auckland.
Saunders Robinson Brown, Christchurch.
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