APIR Systems Limited v Donald Financial Enterprises Pty Limited [2009] FCAFC 45 | Case summary

APIR Systems Limited v Donald Financial Enterprises Pty Limited [2009] FCAFC 45 | Case summary | Zoe

[6]

Background 5 The proceeding arose out of the subscription by the respondent, Donald Financial Enterprises Pty Limited ("DFE"), for 200,000 shares in the capital of APIR and the purchase by DFE of a further 81,904 shares in APIR from existing shareholders. The subscription and purchase price paid by DFE was $2.65 per share. 6 The communications between the parties which resulted in the acquisition and purchase of the shares were conducted by Mr Donald Sharp for DFE and the executive directors of APIR, Mr Andrew Hutchings Broso and Mr Andrew Riley. 7 DFE claimed that APIR, Mr Hutchings Broso and Mr Riley engaged in misleading or deceptive conduct in relation to the subscription for and purchase of the shares, by failing to disclose the existence of contractual arrangements for executive remuneration. Those arrangements included a contingent liability of APIR for a "Completion Payment" due to the executives on the completion of their employment in the form of shares in APIR, the number of which would be "the greater of 100,000 shares or shares to a minimum value of $325,000". 8 The Completion Payment was a term of an agreement known as the Second Heads of Agreement made between APIR and Mr Hutchings Broso and Mr Riley on or about 14 January 2004. 9 There was an earlier Heads of Agreement made between APIR and Mr Hutchings Broso and Mr Riley between late April and early May 2003 which provided for a Completion Payment payable in cash on the termination of their employment. The formula for that payment was the greater of $350,000 or 100,000 times the share price at the time their employment terminated. 10 The existence of the earlier Completion Payment was not disclosed by Mr Hutchings Broso or Mr Riley in the communications they had with Mr Sharp during the period from November 2003 to January 2004. 11 In the course of those discussions, Mr Sharp offered to subscribe for 200,000 shares at $2.65 per share and to extend an offer to existing shareholders to purchase all or part of their shares for the same price. The offer to existing shareholders was limited so as not to leave DFE with more than 50% of APIR's issued capital. 12 Mr Hutchings Broso did tell Mr Sharp that he and Mr Riley were to be issued with 50,000 shares "at no cost" by way of executive remuneration. That disclosure was made at a meeting on 8 December 2003 but Mr Sharp's evidence was that he was not told of any other proposal to provide anything else by way of remuneration to Mr Hutchings Broso or Mr Riley. 13 DFE's offer to shareholders was sent to the shareholders by APIR on 19 December 2003, that is to say, prior to the date on which the Second Heads of Agreement came into existence. 14 The Second Heads of Agreement had its inception in communications in late December 2003 between Mr Hutchings Broso and Mr Hennock, (originally of Newport Capital Group Pty Ltd but subsequently of Jacanda Capital Pty Limited), a financial adviser retained by APIR to raise much needed capital. 15 On 22 December 2003 Mr Hutchings Broso set out his proposal for executive remuneration, and the reasons for it, in an email to Mr Hennock. The proposal referred to the "May Resolution" which was presumably a reference to the terms of the First Heads of Agreement. 16 Mr Hutchings Broso amended his proposal in an email to Mr Hennock on 13 January 2004. On the same day Mr Hennock sent an email to Mr Hutchings Broso and Mr Riley with his comments on the amended proposal. On the next day, 14 January 2004, Mr Hutchings Broso sent an email to Mr Hennock in which he said: I have redrafted the reduction to convert the payout to shares, ie 100,000 @ $3.25, which also overcomes the issue around cash. [emphasis in original] Mr Hutchings Broso further amended the proposal in a document which he emailed to the other directors of APIR on 14 January 2004. The further amendment included a change to the terms of the Completion Payment so as to convert it from a payment in cash to "the greater of 100,000 shares or shares to a minimum value of $325,000". 17 Mr Hutchings Broso's email of 14 January 2004 to the other directors requested their comments and feedback on the draft as soon as possible "to ensure we have it squared away before Don [Mr Sharp] hands over his cheque". 18 The document which Mr Hutchings Broso emailed to the other directors on 14 January 2004 became the Second Heads of Agreement. It was signed by Mr Hutchings Broso and Mr Riley on 14 January 2004 and by the non-executive directors respectively on 15 and 27 January and 5 February 2004. 19 On 23 January 2004, Mr Sharp signed a Share Subscription Deed under which DFE agreed to subscribe for 200,000 shares in APIR at $2.65. Mr Sharp also signed an application for the shares and handed over a cheque for the full amount of the shares in the sum of $530,000. 20 At about the same time, DFE acquired 81,904 shares from existing shareholders of DFE at $2.65 per share. 21 The events which occurred after the acquisition of the shares by DFE are set out in the reasons for judgment of the primary judge at [73]ff. At an APIR board meeting on 27 February 2004 (which Mr Sharp was unable to attend) a resolution was passed in relation to executive employment agreements with Mr Hutchings Broso and Mr Riley. Those agreements were prepared and executed by APIR and Mr Hutchings Broso and Mr Riley on 14 April 2004 without the knowledge of Mr Sharp. 22 It was not until 23 April 2004 that Mr Sharp learned that the executive employment agreements had been executed on 14 April 2004, two days before a board meeting of APIR which Mr Sharp attended on 16 April 2004.

[7]

The primary judgment 23 At the heart of DFE's case was the proposition that the First and Second Heads of Agreement were legally binding agreements between APIR and Mr Hutchings Broso and Mr Riley and that APIR and the directors were under an obligation to disclose their existence to Mr Sharp. The duty of disclosure was said to arise from the terms of the Share Subscription Deed and on several other bases. 24 The primary judge found that both the First and the Second Heads of Agreement were legally binding agreements between APIR and the executive directors. He found that APIR was bound to disclose the existence and content of each of those agreements to Mr Sharp. His Honour found, in particular, that the Second Heads of Agreement was legally binding from or about 14 January 2004, that is to say approximately nine days before the execution of the Share Subscription Deed. 25 His Honour also found that it was clear that if Mr Sharp had been aware of the existence and content of the First Heads of Agreement or the Second Heads of Agreement, he would not have agreed to subscribe for 200,000 shares at $2.65 in APIR, nor would he have purchased 81,904 shares from the existing shareholders. 26 In coming to those findings, his Honour was impressed with the evidence of Mr Sharp and did not find Mr Hutchings Broso or Mr Riley to be impressive witnesses. 27 His Honour also held that Mr Hutchings Broso and Mr Riley deliberately withheld the existence of the Second Heads of Agreement and its content from Mr Sharp prior to DFE executing the Share Subscription Deed, signing the application for shares and paying the subscription price. 28 The primary judge was also of the view that there was an inescapable conclusion that Mr Hutchings Broso and Mr Riley desired to have the executive employment agreements executed before they came to Mr Sharp's attention at the 16 April 2004 board meeting. 29 Another factual issue which his Honour determined adversely to the appellants was the question of whether Mr Sharp was offered access to a folder described by the executive directors as the "due diligence folder". The primary judge found that in all probability Mr Sharp was offered access by Mr Riley to a folder or bundle of documents on one or more occasions between November 2003 and 23 January 2004 but that the folder was referred to as relating to a different transaction and that the term "due diligence" was never mentioned to describe the character of the documents to which access was being offered.

[8]

The relief granted by the primary judge 30 His Honour gave close attention to the question of relief. He rejected the submission made by APIR and the directors that DFE had suffered no loss. He described the submission, which was based on the contention that the loss was prospective and could not be determined until the shares in APIR were sold, as "plainly wrong as a matter of first principle and is contrary to the authorities as properly understood and applied." 31 His Honour went on to say: 188 There is no doubt that when DFE entered into the [Share Subscription Deed] on 23 January 2004 and paid the sum of $530,000 to APIR in subscribing for 200,000 shares in APIR, it suffered a loss measured by reference to the difference between what it paid in ignorance of the existence of the second heads of agreement and what it, as a rational investor, would have paid, if anything, in the knowledge of the existence of the second heads of agreement; or what was described in HTW Valuers, at [36], by reference to authority, as the 'real value' or 'fair value' or 'what would have been a fair price to be paid … in the circumstances … at the time of the purchase'. Similarly, for the 81,904 [s]hares in APIR it purchased from existing shareholders for the sum of $217,045.60. … 190 In the present case, while the number of shares that might be issued in discharge of the completion payment under the second heads of agreement has a floor - 100,000 for each executive director - it has no ceiling, so that the number of shares that might be issued is potentially unlimited depending on the value of the APIR shares at the relevant time. In context, such an event, post acquisition, is a cause inherent in the thing itself - the second heads of agreement - and not extrinsic or independent of it, and should be taken into account in any assessment of the real value of the shares at the time of acquisition. This makes any assessment of loss or damage, other than for the full subscription/purchase price, exceedingly difficult, if not impossible. 32 He therefore considered that the most appropriate remedy was to order rescission of the Share Subscription Deed and the share sale agreements and reimbursement by APIR or Mr Hutchings Broso and Mr Riley. His Honour made orders accordingly. 33 His Honour dismissed claims of knowing involvement in the contraventions of s 1041H of the Corporations Act 2001 (Cth) brought against the non-executive directors.

[9]

Whether it is open to the appellants to raise the first ground of appeal 34 Central to the first ground of appeal is the proposition that DFE's expert witness, Dr Bloom, did not provide evidence of the "real value" of the shares in APIR and made no determination of that value for the purpose of the relevant test stated in Marks v GIO and later authorities. 35 Senior counsel for DFE contended that no submission in respect of the "valuation point" was advanced before the primary judge in the way in which APIR now seeks to have it agitated. Mr Higgs SC also submitted that the main issue before the primary judge on the question of damages was that Dr Bloom's evidence, even if accepted at its highest, could only amount to evidence of prospective loss: Wardley Australia Limited v Western Australia (1992) 175 CLR 514 at 525. 36 The latter point is borne out by his Honour's reasons, in particular at [181] - [182], and his finding that the submission was flawed. 37 We were taken by senior counsel for the appellants and by senior counsel for DFE to a substantial body of evidence to make good their competing contentions as to whether the point now sought to be agitated was run at first instance. In our view, it was not. There are four reasons for this. 38 First, the evidence of Dr Bloom in his expert report of 14 September 2007 was that $2.65 was a "reasonable value" to adopt in calculating the value of APIR as a whole at the time DFE acquired shares in APIR. Dr Bloom referred to the concept of "fair value" as the amount for which an asset could be exchanged between a knowledgeable, willing buyer and a knowledgeable, willing seller in an arm's length transaction. This is the test which is traditionally applied in valuation cases. 39 We reject the submission of Mr Bennett QC that the relevant passage of Dr Bloom's report is unclear. Even if there is any ambiguity, it was resolved by the other matters to which we refer below. 40 Second, the expert called by APIR, Mr Carter, accepted that Dr Bloom's calculations proceeded on the basis of his opinion that $2.65 was the fair market value of APIR shares at the time of acquisition by DFE. Mr Carter said that this was an unsafe basis but he accepted that there was nothing else upon which Dr Bloom might proceed. 41 Moreover, Mr Carter conceded in cross-examination that: … if I was doing a valuation I would take it [the price of $2.65] into account in a significant way. [emphasis added] 42 It seems to us to follow that both the experts accepted that $2.65 was the fair market value, in the absence of any suggestion to the contrary. 43 Third, senior counsel who appeared for APIR and the directors at the trial effectively conceded the issue which Mr Bennett now seeks to run in the course of his cross‑examination of Dr Bloom. It is unnecessary to set out the relevant passages of the transcript. They were pages 196‑198 which were reproduced at pages 231-233 of the Appeal Book. The effect of what was conceded was that the parties dealt with each other at arm's length and that this was the best measure of fair market value. 44 Fourth, although the appellants sought to criticise the paucity of his Honour's reasons on the question of loss or damage, in truth his reasons support the proposition that the trial proceeded on the basis that $2.65 was the fair value. That is to say, the absence of any discussion in the reasons about the expert evidence is explained by the fact that the experts were effectively ad idem and by the concession made at the trial by senior counsel. 45 Finally, we should add that the concession made by senior counsel who appeared at the trial was properly made. Not only did it follow inevitably from both experts' evidence, but also, the price of $2.65 was the subscription price obtained by the knowledgeable and willing vendors who sold their 81,904 shares to DFE at that price. 46 It follows that, in our view, it is not open to the appellants in this appeal to raise as a ground of appeal that the primary judge applied the wrong test for determining loss and damage; that there was no evidence before the primary judge of loss or likely loss; and that DFE's cause of action was not complete.

[10]

Whether the primary judge applied the wrong test in determining loss or damage 47 Although we have come to the view that it is not open to the appellants to raise as a ground of appeal the contention that his Honour applied the wrong test of loss or damage, we propose to deal with it briefly. We do so in deference to the careful argument on this question ably presented by Mr Bennett QC. 48 The principles which govern the determination of loss or damage under ss 82 and 87 of the Trade Practices Act are well established. They were stated by the High Court in Marks v GIO and further considered in Henville v Walker (2001) 206 CLR 459, Murphy v Overton Investments Pty Limited (2004) 216 CLR 388 and HTW Valuers (Central Qld) Pty Ltd v Astonland Pty Ltd (2004) 217 CLR 640. 49 As the High Court observed in Murphy at [44], more than once it has been said that the provisions of Part VI of the Trade Practices Act are not to be confined by analogy with actions in contract or in tort. 50 Moreover, while the "rule" in Potts v Miller (1940) 64 CLR 282 is commonly employed in claims for damages under s 82, it is not universal or inflexible or rigid: HTW Valuers at [35]. 51 As the Court went on to say in HTW Valuers at [36]: One key qualification of the rule which prevents it from being inflexible is that the test depends not on the difference between price and "market value", but price and "real value" or "fair value" or "fair or real value"or "intrinsic" value or "true value" or "actual value" or what the asset was "truly worth" or "really worth" or "what would have been a fair price to be paid … in the circumstances … at the time of the purchase". This distinction is sometimes difficult to draw, but it is old and fundamental. 52 Mr Bennett's argument rested largely upon what the primary judge said at [188] of his reasons. We have set out that passage in full at [31] above. 53 Ultimately, Mr Bennett accepted that his Honour stated the correct test at [188], although he said that it was expressed in "circumlocutious language". He submitted, however, that the problem was that the primary judge did not apply the test because he was never told the true value. The effect of what Mr Bennett said was that, although his Honour may have stated the correct test, he approached the matter by applying the contract measure of damages rather than the tort measure. 54 We reject Mr Bennett's submissions for a number of reasons. First, it must be borne in mind that the primary judge did not make an order for damages but, rather, exercised his powers under s 1325 of the Corporations Act to set aside the transaction. What was required was that his Honour be satisfied that DFE had suffered loss or damage. His Honour was so satisfied. Indeed, as he said at [190] of his reasons, the transaction should be set aside because an assessment of loss or damage which involved DFE retaining the shares was exceedingly difficult. 55 Second, there is no reason to doubt that the primary judge had in mind the test for loss or damage referred to in HTW Valuers at [36], that is to say the difference between the price and "fair value". As we have said, Mr Bennett accepted that his Honour stated the correct test and, indeed, his Honour referred to the relevant passage in HTW Valuers. 56 Third, the apparent brevity of his Honour's reasons on the question of loss or damage reflects the way in which the trial was conducted and the concession made at the trial to which we have referred above. His Honour is not to be criticised for brevity of reasons on a matter that was not in issue in the proceeding. 57 Fourth, as the High Court has made clear, it is inappropriate to speak in the language of contract or tort when determining the question of loss or damage under Part VI of the Trade Practices Act, and the "rule" in Potts v Miller is not inflexible. Here, there was difficulty in determining the difference between price and value because the dilutionary effect of the undisclosed contingent liability was "exceedingly difficult, if not impossible" to calculate. This does not mean that his Honour fell into the error of awarding "expectation loss": Marks v GIO at [16] - [17] per Gaudron J.

[11]

The Factual Ground - Disclosure 58 The appellants contend that the finding of misleading conduct ought to be set aside because the primary judge should have found that Mr Sharp was offered the "due diligence" folder. This ground of appeal involves an attack on his Honour's finding at [144] of his reasons that the folder of documents offered to Mr Sharp related to a different transaction. 59 This ground of appeal runs into very substantial difficulties, not least, because the primary judge observed at [114] of his reasons that: It is common ground that the folder of documents which the executive directors referred to as the 'due diligence folder' never contained any documents detailing the existence or content of the second heads of agreement at any time … 60 Mr Bennett sought to overcome this difficulty by submitting that the material would have led Mr Sharp to a "line of enquiry" which would have culminated in disclosure of the Heads of Agreement. 61 In our view, there are at least three reasons why this ground of appeal fails. First, no error has been demonstrated in the primary judge's finding that a folder described as the "due diligence folder" was not shown to Mr Sharp: Branir Pty Ltd v Owston Nominees (No 2) Pty Ltd (2001) 117 FCR 424 at [21] - [28]. 62 Second, even if the folder was offered to Mr Sharp, it would have been necessary for the appellants to demonstrate that there was material in the folder which amounted to appropriate disclosure. Mr Bennett did not seek to do so. In our opinion, resolution of this issue is not assisted by adopting analogies from the "train of enquiry" in the law of discovery: see Compagnie Financiere et Commerciale du Pacifique v Peruvian Guano Company (1882) 11 QBD 55. It was common ground that the folder did not contain any documents relating to the existence or content of the Second Heads of Agreement because Mr Riley ceased to maintain the folder after October 2003. 63 Third, moreover, even if the folder was offered to Mr Sharp, it would have been necessary for the appellants to show that Mr Sharp's decision not to look at the material operated so as to relieve APIR and the executive directors from liability for their misleading conduct. Mr Bennett did not seek to overcome that burden. 64 We should add that in APIR Systems Limited v Donald Financial Enterprises Pty Ltd [2008] FCA 1448 at [57] Foster J regarded both the second and third propositions stated above as "problematic". Having heard full argument we consider that they are fatal to the appellants' argument on this ground.

[12]

Costs 65 When his Honour handed down judgment on 30 July 2008, he made orders for costs which provided for APIR, Mr Hutchings Broso and Mr Riley to pay DFE's costs and also for them to pay the costs of the non-executive directors of defending the application. 66 On 20 August 2008, his Honour heard and determined a motion by the appellants, inter alia, to vacate both limbs of the costs order and to make alternative orders. His Honour declined to make those orders: Donald Financial Enterprises Pty Ltd v APIR Systems Ltd (No 2) [2008] FCA 1269. The appellants seek to disturb the primary judge's exercise of discretion in relation to both limbs of the costs order. 67 The primary judge observed at [12] of his reasons on the motion that nothing was said about the second limb of the costs order, that the appellants pay the costs of the non-executive directors in defending the application. 68 In our view there is no reason to disturb the exercise of the primary judge's discretion on the second limb of the costs order. That part of the order amounted to a "Bullock" order or, perhaps more accurately, a "Sanderson" order: see notes to s 43(2) of the Federal Court Act in Butterworth's Practice and Procedure at [35,250.85]. 69 It is well established that costs are in the discretion of the Court and that the Court may depart from the ordinary rule that costs follow the event by making a "Bullock" or "Sanderson" order where the justice of the case requires: Aristotite v Gladstone Park Shopping Centre Pty Ltd (1984) 2 FCR 334 at 337 - 339. 70 No error of principle has been shown as a basis for interfering with this aspect of the primary judge's costs order. 71 The attack on the first limb of the costs order was also without merit. We say this notwithstanding the arguments urged upon us by junior counsel for the appellants, Mr Heath. 72 Mr Heath's argument rested upon the proposition that DFE ought to have accepted a Calderbank offer or another open offer. The short answer to Mr Heath's submission is that the primary judge found at [14] of his judgment on the notice of motion that none of the offers were commensurate with the financial result flowing from the orders made on 30 July 2008. 73 Nevertheless, Mr Heath sought to press upon us a submission that DFE ought to have accepted the offer which would have achieved DFE's commercial purpose in the litigation. It was suggested that what DFE ought to have done was to accept the offer, seek leave to discontinue the proceeding and then request the Court to deal with the questions of costs and interest. 74 Quite apart from the fact that this course of action would have required a dispensation from the provisions of the Federal Court Rules, we do not see why a party ought to be required to embark upon a speculative process in circumstances where the offers, on their face, turned out to be less favourable than the result.

APIR Systems Limited v Donald Financial Enterprises Pty Limited

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Judgment (17 paragraphs)

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Legislation Cited (2)

Cases Cited (13)

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