Goodwill Group Pty Ltd v Pongrass Associates Pty Ltd

Goodwill Group Pty Ltd v Pongrass Associates Pty Ltd - [2002] FCA 1203 - FCA 2002 case summary — Zoe

[6]

Introduction 1 In July 1999, a management buyout occurred of a number of businesses operated by companies called the Pongrass Leisure Group. The businesses related to the wholesaling of skiing and camping equipment. The two prime movers in the buyout were directors of two of the companies, Stephen Berry and Peter Kensey. They were supported financially in the buyout by Bradley Cooper and Rodney Adler who, through their nominee companies, became shareholders in the corporate vehicle, Phoenix Leisure Pty Ltd, through which the businesses were acquired. 2 Cooper's company, The Goodwill Group Pty Ltd, now sues the former corporate owners of the businesses and their directors together with Steven Pongrass, the principal director of the Pongrass Leisure Group. He does so on the basis that he was induced to acquire shares in Phoenix, by misrepresentations as to the nature of the stock being acquired and the income to be derived from its sale. 3 The litigation was late in its commencement and has been slow in its progress. It has been characterised by repeated defaults on the part of the applicant. In May 2001, a self-executing order was made by Katz J requiring that the applicant file its evidence in support of the claim by 25 May 2001 in default of which the application would be dismissed. Evidence was filed but it is said by the respondents that it does not disclose the pleaded case, that the self-executing order has taken effect and that the application stands dismissed. Alternatively, the respondents seek orders for the dismissal of the application upon the basis that it discloses no reasonable cause of action, that it is frivolous or vexatious or that it is an abuse of process. The applicant seeks substantially to amend its statement of claim. In the event that the application proceeds, the respondents seek security for costs, additional to the security already ordered in the course of the proceedings. 4 Katz J who heard the various motions last year had to resign from the Court because of serious illness. By consent of the parties, the matter falls to be determined on the papers including the transcript of proceedings before his Honour.

[7]

History of the Proceedings - Beginnings and Interlocutory Steps 5 On 2 July 1999, two companies, Cervale Pty Ltd and Two Gables Pty Ltd commenced proceedings in the New South Wales District Registry of this Court. Cervale Pty Ltd later changed its name to the Goodwill Group Pty Ltd, which is now the only applicant. The proceedings were brought against four associated companies, Pongrass Associates Pty Ltd, Pongrass Leisure Group Pty Ltd, Mountain Sunset Pty Ltd and Acme Avalanche Pty Ltd. Also named as respondents were Stephen Pongrass, a director of each of the respondent companies, Stephen Charles Berry and Peter George Kensey, directors of Mountain Sunset and Acme Avalanche and Phoenix Leisure Group Pty Ltd. The proceedings concerned a management buyout of the Pongrass Leisure Group companies by Messrs. Berry and Kensey with financial support from Bradley Cooper and Rodney Adler, through Phoenix in which Cooper and Adler's nominee companies, Cervale and Two Gables, acquired shares. 6 In the statement of claim as originally filed it was alleged that on or about 2 July 1996 Phoenix made an "Asset Sale Agreement" with Pongrass Associates, Pongrass Leisure, Mountain Sunset and Acme Avalanche. The terms of the Asset Sale Agreement were not pleaded save for the allegation that the assets the subject of sale were valued at $6,995,875. This, it was said, was "the stipulated purchase price calculated on the basis of, inter alia, represented levels of stock and value of stock as set out therein". Berry and Kensey were said to be parties to the agreement "as guarantors". 7 The statement of claim alleged that, at about the time of the asset sale and on the strength of representations by Berry and Kensey, Cervale and Two Gables acquired ordinary and K class redeemable preference shares in Phoenix. Moreover in the period October 1996 through to January 1997, in reliance upon "the matters the subject of the Asset Sale Agreement" and representations by Berry and Kensey they acquired more K class redeemable preference shares. The shares acquired were particularised by reference to the dates of their purchase, the kind and number of shares purchased on each occasion and which of the two companies purchased them. The total outlay was said to have been $3,160,700. The asserted representations were not identified as to date or content or specific representor. The statement of claim went on to allege that all of the respondents, and in particular Berry and Kensey, represented to Cervale and Two Gables that "the levels of stock specified" in the schedule of the Asset Sale Agreement "were not obsolete and could achieve certain specified earnings generated from potential sales". 8 The representations as to the levels and value of the stock were said to have been false. Reliance was placed on s 51A of the Trade Practices Act 1964 (Cth) "… to the extent the representations were continuing representations as to future matters". The allegation of falsity was "particularised" by the rather unhelpful assertions that: (a) In the events which have occurred the stock levels and value thereof were not in reality as represented in the Asset Sale Agreement. (b) The stock consisted of obsolete stock. (c) The stock did not generate the specified earnings on sales as represented. It was then said that the respondents, in making the representations, engaged in conduct which was misleading or deceptive or likely to mislead or deceive in contravention of s 52 of the Trade Practices Act and/or s 42 of the Fair Trading Act 1987 (NSW). The directors were at all times knowingly concerned in that conduct within the meaning of s 75B of the Trade Practices Act and/or s 61 of the Fair Trading Act. Reliance was placed on s 84 of the Trade Practices Act and s 70 of the Fair Trading Act to attribute to Mountain Sunset and Acme Avalanche the conduct of Berry and Kensey. 9 Paragraph 15 then asserted: "In reliance upon the representations and induced thereby the Applicants acquired the shares in the Purchaser as set out above in paragraph 8 and the Purchaser entered into the asset sale agreement." 10 It was said that in March 1999, Cervale and Two Gables sold all their shares in Phoenix to a company called Armenilla Pty Ltd for the sum of $900,000. By reason of the conduct of the respondents, the applicants say they have suffered loss or damage being the purchase price of the shares in Phoenix, $3,160,700, less the proceeds received from the sale of those shares, being $900,000, a shortfall of $2,260,700. 11 The pleaded representations were also alleged to have constituted negligent misstatements by the respondents in breach of a duty of care to Cervale and Two Gables. Berry and Kensey, being directors of Phoenix, were said to have owed a fiduciary duty to it and by reason of the matters previously pleaded, to have been in breach of those duties and/or in breach of a contractual duty owed to Phoenix. The assertion was repeated that they engaged in conduct in contravention of s 52 of the Trade Practices Act and s 42 of the Fair Trading Act. An allegation of unconscionable conduct in contravention of s 52A of the Act and/or unconscionable conduct in equity was thrown in for good measure. The rest of the statement of claim involved repeated assertions of the entitlement of Cervale and Two Gables to the various forms of relief claimed. 12 The next step taken in the proceedings was the filing of a notice of discontinuance by Two Gables leaving Cervale as the only applicant. The notice of discontinuance was filed on 2 November 1999. Service of the application and statement of claim was not effected until March 2000 as evidenced by affidavits of service which appear on the file. Notices of appearance were filed by all respondents in March and April 2000. There were, between 9 August 1999 and 6 March 2000, some six directions hearings before Katz J who in each case directed that the matter be adjourned. 13 On 1 May 2000, his Honour gave directions that Cervale was to file and serve any amended application and statement of claim by 15 May 2000 and fixed 17 May 2000 as a return date for any party issuing subpoenas. He also directed that any request for further and better particulars of the amended statement of claim be made by 29 May 2000 and replies be furnished by 13 June 2000, with defences to be filed by 4 July 2000. Programming orders were made for discovery and the filing and service of affidavits of evidence in chief and reply. Subpoenas were issued to Pongrass Associates, Pongrass Investments, Acme Avalanche and Stephen Berry on 11 May. Each subpoena requested the production of: "All original and copy documents relating to the payment of any money by way of a commission or otherwise, to Stephen Berry in relation to the acquisition of the assets in Pongrass Associates Pty Ltd, Pongrass Leisure Group Pty Ltd, Mountain Sunset Pty Ltd and/or ACME Avalanche Pty Ltd by Phoenix Leisure Group Pty Ltd pursuant to an agreement dated 2 July 1996." A listing record before Registrar Quinn on 24 May indicates that no subpoenas were called and no orders were made. 14 On 19 May 2000, Kensey filed a notice to indicate that his former solicitors were no longer acting and that he would be acting in person thereafter. On the same day an amended application was filed substituting The Goodwill Group Pty Ltd as applicant, that being the new name of Cervale. There were minor amendments to the application including a claim for a declaration that the respondents had contravened s 51AC of the Trade Practices Act. An amended statement of claim was filed at the same time. It pleaded the change of name of Cervale. It also deleted reference to purchases of shares made by the former applicant, Two Gables, leaving only Goodwill Group's purchases pleaded for a total outlay of $1,580,350. It asserted that it received $450,000 from the proceeds of the sale of the shares, leaving a shortfall of $1,130.350. The amended statement of claim also raised the allegation of the contravention of s 51AC. That section however did not come into effect until 1 July 1998. It had no retrospective operation on conduct in 1996. 15 On 21 June 2000, a motion was filed by Berry seeking to dismiss the application on account of the applicant's failure to provide further and better particulars as directed. In the alternative he sought an order for security for costs. The applicant applied to have the directions hearing relisted to vary the programming orders. On 3 July, Katz J gave a direction for the filing of affidavit evidence in respect of the notice of motion and required defences of all parties to be filed and served by 28 July. On 14 July, Pongrass Associates, Pongrass Investments, Acme Avalanche and Steven Pongrass (the Pongrass respondents) also filed a motion seeking security for costs. On 31 July 2000, Katz J made further directions relating to the filing of affidavits in connection with the notices of motion. It appears that those orders were made by consent. 16 On 3 August, Katz J dismissed Berry's motion by consent and noted that the applicant had agreed to provide $70,000 security for his costs by way of a bank guarantee. Lists of documents by way of discovery were filed for all respondents other than Kensey on 27 September. The applicant's discovery was filed on 4 October 2000. Interrogatories were directed to Berry on 7 November 2000 and answers filed on 9 January 2001. Katz J made further directions by consent on 14 November 2000. He authorised the applicant to file and serve a further amended statement of claim by 1 December 2000 or a notice of motion seeking leave to file a further amended claim by that date. The applicant was to file and serve its evidence in chief by 5 January 2001, Berry to file his affidavits in reply by 16 February and the other respondents, apart from Kensey, to file their affidavits by 28 February 2001. Subpoenas were issued and supplementary discovery given by the applicant. 17 By 5 February 2001, no amended statement of claim or motion seeking leave to file a further amended claim had been filed. Katz J made further programming orders extending the time for the filing of the applicant's evidence in chief and the evidence in reply of the respondents other than Kensey. On 24 April 2001, all respondents, other than Kensey, filed a motion seeking an order that the proceedings be dismissed and ancillary orders in relation to the security for costs. 18 On 1 May 2001, Katz J ordered that the notice of motion be heard on 12 July and gave directions in relation to evidence on the motion. He made a self-executing order in relation to the applicant's substantive evidence for trial in the following terms: "The applicant's evidence (for the purpose of the hearing of the application) be put on by 25 May 2001 in default of which the application will stand dismissed with costs." Affidavits in support of the motion for dismissal were filed on 1 and 2 May 2001. A notice of appearance was filed on 11 May 2001 on behalf of Kensey indicating that henceforth Hickson Wisewould would be on the record as his solicitors. A flurry of affidavits filed on behalf of the applicant followed between 16 May and 24 May 2001. These were affidavits sworn by Rodney Adler on 15 May, Mark Whittaker on 16 May, Ian Levi on 17 May, Darryl Swindells on 21 May, Bradley Cooper on 17 May, Emma Hodgman on 22 May, Brian Fergusson on 22 May, Bradley Cooper on 21 May, David Gale on 21 May, Bradley Cooper on 23 May and David Gale on 23 May. The applicant also issued subpoenas on 28 May. 19 On 20 June 2001, the applicant filed a motion for leave to further amend its amended statement of claim. An affidavit in support of the motion was sworn by Ms Hodgman of the applicant's solicitors on 19 June. On 21 June 2001, Kensey filed a defence to the amended statement of claim. 20 On 12 July 2001, the dismissal motion came on for hearing before Katz J, but an amended notice of motion joining Kensey in with the other respondents was filed seeking. in the alternative, orders that the proceedings be dismissed as to the whole of the relief sought by the applicant, that they be dismissed generally as disclosing no reasonable cause of action against all the respondents other than Mountain Sunset and, in the alternative, that they be dismissed generally as disclosing no reasonable cause of action against Pongrass. Katz J adjourned the matter on 12 July directing that the amended notice of motion be stood over until 26 July. The applicant's notice of motion to further amend the statement of claim was to be made returnable at the same time.

[10]

The Evidence Received in Relation to the Motions 24 A number of affidavits were relied upon in relation to the various motions. They were as follows: A. Evidence put in by counsel for the Pongrass respondents, Mr Corsaro. (1) Affidavit of Ronald William Jarvin sworn 24 April 2001 (less par 63 which was not read). Jarvin is a member of the firm Prentice Jarvin, the solicitors for the Pongrass respondents. In his affidavit he set out a detailed interlocutory history of the proceedings and exchanges of correspondence with the applicant's solicitors formerly Dibbs Crowthers & Osborne, now Dibbs Barker Gosling. A significant element of the correspondence related to attempts by the applicant's solicitors to obtain a copy of a written stock audit/inventory said to have been initialled by the parties at the time of signing of the Asset Sale Agreement in July 1996. On 8 January 2001, the applicant's solicitors advised Jarvin that their client would not be in a position to file and serve its evidence in chief until it had located a copy of the stock audit. In a letter dated 30 January 2001, the solicitors said: "As you are aware, the applicant's case alleges that (inter alia) the level and value of the stock to be purchased was misrepresented to it by the respondents. Accordingly the stock audit needs to be considered before the applicant can complete its evidence in chief." (2) Affidavit of Ronald William Jarvin sworn 1 May 2001. This affidavit annexed complete versions of documents, incomplete versions of which had been exhibited to the affidavit of 24 April 2001. [Annexures Q and CC] (3) Affidavit of Steven Ronald Pongrass sworn 23 July 2001. In this affidavit Pongrass referred to the pleadings as they then stood. He noted that although the transaction under the Asset Sale Agreement was completed on 2 July 1996 he was only served with the application initiating these proceedings on 20 March 2000. He was unaware, prior to service of those documents upon him, of any allegation that the applicant had been misled. He noted also that the proceedings were filed three years to the day after the Asset Sale Agreement was finalised. He said he was funding the litigation for the Pongrass respondents as the companies involved had insufficient assets to pay the costs of the action. He referred to the prejudicial effects of the protracted proceedings on him in business circles and the time involved for him in instructing solicitors and counsel and also the effect on his family. (4) Second affidavit of Steven Ronald Pongrass sworn 23 July 2001. In this second affidavit Pongrass indicated that his legal costs to that date were $69,075.35. He was concerned that the amount of $80,000 lodged by way of security for costs would be insufficient.

[11]

B. Evidence put in by counsel for Berry and Kensey - Ms R McColl SC (1) Affidavit of Alan William Blanch sworn 24 April 2001. Blanch is a partner in the firm Hickson Wisewoulds, the solicitors for Berry, the sixth respondent. Like Jarvin, he set out a detailed interlocutory history and exchanges of correspondence with the solicitors for the applicant. (2) Affidavit of Christopher Gordon Price sworn 30 April 2001 (filed in Court on 26 July 2001). Price is a solicitor employed by Hickson Wisewoulds, acting for Berry. He exhibited a letter dated 24 April 2001 from the applicant's solicitors apologising for their failure to comply with the timetable for filing their client's evidence. The delay was said, in the letter, to have arisen because of the late discovery by the Pongrass respondents of documents which had to be analysed by an expert accountant engaged by the applicant. Price said that this letter was the only communication he had received since a letter from his firm dated 26 March 2001 pointing out the applicant's failure to comply with the Court's timetable. (3) Affidavit of Christopher Price sworn 20 July 2001. This affidavit exhibited correspondence to the applicant's solicitors seeking further and better particulars of the amended statement of claim on 30 May 2000 and 3 July 2000 and replies from the applicant's solicitors of 21 June 2000 and 2 August 2000 respectively providing particulars. (4) Affidavit of Christopher Price sworn 25 July 2001. This affidavit referred to the $70,000 bank guarantee deposited with the Court as security for Berry's costs. His legal costs to the date of swearing of the affidavit were approximately $64,794. If the statement of claim were further amended total legal costs would considerably exceed $70,000. C. Evidence put in by counsel for the applicant - Mr B Walker SC (1) Affidavit of Emma Jane Hodgman sworn 30 April 2001. Ms Hodgman is a solicitor employed by Dibbs Barker Gosling, the solicitors for the applicant. She deposed that at the time of swearing her affidavit the applicant had been unable to file or serve its evidence in chief because of delays in accessing and analysing documents sought from the solicitors for the Pongrass respondents. At the time of swearing the affidavit the applicant's lay evidence was nearing completion and the expert accountant had prepared a preliminary report. (2) Affidavit of Emma Jane Hodgman sworn 22 May 2001. This affidavit was by way of a detailed reply to the affidavits of Blanch and Jarvin complaining of delays occasioned by the applicant. In this affidavit, Ms Hodgman identified as the reasons for delay in complying with the Court's timetable: (a) the unavailability of the principal of the applicant (Bradley Cooper) to give instructions; (b) the missing stocktake report and the time spent trying to locate it; (c) recent delays in obtaining copies of tax returns from the Pongrass respondents for the applicant's expert witnesses to analyse. Ms Hodgman attributed part of the delay to the time taken in dealing with the applications for security for costs. She gave a history of her attempts to locate the missing stocktake document. She asserted that the applicant would suffer prejudice if the claim were to be dismissed as it would be statute barred. The applicant had, at the time of her affidavit, spent $92,000 in legal fees on the matter. (3) Affidavit of Emma Jane Hodgman sworn 19 June 2001. In this affidavit Ms Hodgman annexed letters to the respondents dated 22 May 2001 which had enclosed copies of a proposed further amended statement of claim. Also annexed were letters in reply from the respondents' solicitors dated 1 June 2001 and 4 June 2001. (4) Affidavit of Bradley David Cooper sworn 23 May 2001. In this affidavit Cooper said that the applicant is his nominee company through which he became a shareholder of Phoenix in May 1996. He also said he had been unable to locate a copy of the stocktake carried out on the business before it was purchased. This had caused delays. Delays had also been caused as a result of himself not being available to instruct his solicitors. He said he had been working extremely long hours on FAI Home Security Pty Ltd, of which he was Chief Executive Officer and Chairman. 25 The affidavits filed by the applicant as its evidence in chief between 16 and 24 May 2001 pursuant to the springing order made on 1 May 2001 were referred to in argument. They were relied upon by counsel for the applicant to show that it had complied with the springing order. Counsel for the respondents relied upon those affidavits to demonstrate want of compliance. They were not considered as evidence of the truth of their contents. 26 A copy of the Asset Sale Agreement referred to in the amended statement of claim was tendered without objection as Exhibit 1 before his Honour. Also admitted, upon tender by counsel for the applicant, were two lever arch files which were exhibits BDC1 and BDC2 to an affidavit of Bradley Cooper sworn 17 May 2001. BDC1 was described in Cooper's affidavit as "a bundle of documents relating to this matter". BDC2 was described as "a copy of the acquisition documents".

[13]

The Applicant's Evidence - Berry and Kensey Approach Cooper and Adler 28 Bradley Cooper described himself, in his affidavit sworn 17 May 2001, as Chief Executive Officer and Chairman of FAI Home Security Pty Ltd. Early in 1996 an associate of his, Colin Hughes, asked him to review two reports in relation to the business of the Pongrass Group. The Group carried on the business of a wholesaler and retailer of outdoor leisure goods and in particular ski and camping equipment. One of the reports was prepared by a merchant banker, Bancorp Australia Ltd, the other by Berry and Kensey, who then worked in the Pongrass Group. 29 Hughes described Berry and Kensey to Cooper as friends who managed the Pongrass Leisure Group. They wanted to know if Cooper would be interested in investing with them as part of a management buy-out of the wholesale business of the Group. Hughes described it to him as "a fantastic business that will make about $1 million every year and it will make $1 million over the next few weeks". He suggested that Cooper and Rodney Adler, with whom Cooper was associated, should look at the business and buy it. Cooper gave the reports to Adler who was the Chief Executive Officer of FAI Insurance Group Ltd, for him to review. Cooper had no previous involvement in the ski/camping industry. He only agreed to pass the reports on to Adler as a favour to Hughes. He also gave the reports to Mark Whittaker, then Chief Financial Officer of FAI Home Security. He asked Whittaker to review the reports and provide him with a report on the proposed acquisition. 30 In an affidavit sworn 16 May 2001, Whittaker said he had been employed by FAI Home Security as a financial accountant since 1992 and became its Chief Financial Officer in 1996. He resigned from that position in November 2000. He recalled being asked by Cooper to review the two reports and to prepare his own report on the Pongrass Leisure Group business. He reviewed the two reports. In the course of his review he spoke with Berry by telephone. He did not recall the exact words spoken but recalled asking Berry about the value of inventory. He put to Berry that there was no obsolete stock brought to account in the projections. He asked how confident Berry was of achieving the margins forecast. According to Whittaker's affidavit, Berry responded: "We won't be purchasing any of the old stock from Pongrass and any stock that we do not think will move we will purchase at a reduced price and then sell immediately to realise cash. As for the margins, we have taken a very conservative approach to both camping and ski. There is significant scope to reduce overheads by combining both ski and camping into one company and utilising the workforce to sell both." 31 Whittaker's observation was that if obsolete stock needed to be taken into account in the financial projections he would have expected to see that information disclosed in the Alternative Report and more specifically in the Stock Reconciliation Working Papers. The existence of obsolete stock would affect the cashflows and funding of the business. If the stock did not sell it would be more difficult to utilise the funding facility. In his opinion, the value and movement of stock was critical to the business because it formed the basis of its purchase price and would be critical to any banking facility for the new group as the stock needed to be liquidated into cash to service the banking facility. 32 Whittaker had some discussion with Adler's accountant, Michael Storey. Storey was not going to recommend that Adler proceed with the acquisition. Whittaker prepared a report which he forwarded to Adler and Cooper on or about 5 April 1996. Based on the Alternative Report, the Bancorp Report and his conversations with Berry he formed the view that, taking into account the historical data and provided the margins were achievable and the inventory could be sold and converted to cash, then the forecasts were achievable. However when Cooper asked him whether he would buy the business if it were his money, Whittaker replied that he probably would not because it was not a core business and they didn't have anyone in FAI Home Security with experience in the ski business. Cooper had responded: "Well, we're not going to buy it." 33 On 9 April 1996, Whittaker received a fax from Berry attaching more recent cashflow forecasts. He noted that the projections in the cashflows did not take into account any allowance for obsolete stock. Berry said to him at some point: "I need to get in front of Brad (Cooper) and Rod (Rodney Adler) and tell them why they should buy the business." After reading Whittaker's report Cooper was not really interested in proceeding any further with the matter because Whittaker did not give the business a great review. He was unsure about whether Whittaker had sufficient experience to form a view. He recalled Whittaker telling him that Adler's accountant, Storey, was not going to recommend the business to Adler. 34 In an affidavit sworn on 15 May 2001, Adler said he agreed to review the documents and that following his review he was interested in speaking with Berry and Kensey about the matter. He telephoned Berry and made an appointment to meet with him and Kensey, which he did shortly thereafter. He had a conversation with Berry in which he asked him why Pongrass was selling the business. Berry replied that: "Stephen (sic) Pongrass is restructuring and he sees this as a very good opportunity for me. You'll be getting a real bargain. He is looking after me because I've run it for him for so long. It's a very profitable business. It's undervalued. There are a lot more earnings there so it can be a lot more profitable." 35 Adler had a number of discussions with Berry and Kensey about the business at some of which Cooper was present. He recalled conversations in which he asked Berry and Kensey about the core products of the business. One or other of them told him the core products included Rossignol skis but he could not recall what else they said. He only had a limited knowledge of the ski industry. Asked how much capital would be needed, he said he was told he would have his money back in two years. 36 He received Whittaker's report, discussed it with Cooper and then said to Cooper: "I'm not interested in putting any money into the business but I will stand behind you and be your partner in an informal sense. I don't want to be formally involved with the business." Cooper was content to proceed with negotiations on that basis. Adler discussed the proposed acquisition in principle with his accountant, Storey, but cannot remember what was said. He was not relying on Storey for advice in relation to the proposed acquisition. 37 In Cooper's affidavit he deposed to a number of meetings which he had with Berry, sometimes with Adler and sometimes without. At these meetings the proposed acquisition was discussed in more detail. Berry told him it was a great business. It did not need any management. It made a minimum of $1 million every year, but would make a lot more than that. If he bought it then he would get a million dollars in a month's time and would not have to do anything. Asked why Pongrass was selling it, Berry said: "He's not interested in the business any more. He's a playboy. He doesn't turn up to work. He's not growing the business. We'd (Berry and Kensey) love to have equity in it. We want to share in the upside." Asked what sort of money was needed to run the business, he was told all that was needed was $3 million. Berry said they would probably get that from their own bank, especially if Cooper and Adler were involved. Asked how the brand and equipment stood up in the market, Berry said: "The equipment is Rossignol and Mambo, it's the world's best. Their reputation and quality are world renowned." Cooper also recalled a meeting with Berry and Pongrass at a coffee shop in Double Bay. He asked Pongrass why he was selling the business and was told: "It's a fantastic business but I'm not interested in it any more. It's been very kind to me. I've done very well out of it. You're buying it cheaply. I like Rodney (Adler) but I want you to look after Stephen (Berry). I've had long enough with the business and it's time for Stephen (Berry) to take over." 38 Initially, Cooper and Adler decided against the acquisition. On 23 April, Adler sent a fax to Berry saying that he and Cooper had spoken the previous night and had decided against investing with him and Kensey. In the fax he said: "We want you to know that investing with you and Peter would have been interesting, enjoyable and profitable. However, we decline your offer purely from a time commitment and a lack of synergy perspective." Berry and Kensey did not accept this rejection and began what Cooper described as a campaign to convince Adler and himself to buy the business. On 23 April, they sent a fax to Adler requesting a meeting. On 26 April, they sent him a further fax attaching a one page document entitled "Why Rodney Adler & Brad Cooper should do the deal with Steve Berry and Peter Kensey". A copy was supplied to Cooper. In the document they said that since joining Pongrass Leisure Group in February 1993 they had been responsible for taking the company's EBIT performance from $400,000 to $1,350,000, an increase of 237% with minimum input from Steven Pongrass. They claimed a joint venture with them would work because they had to make it work to "regain wealth". Adler and Cooper's lack of knowledge of the industries would not matter. They had a growing business that was already working and had the potential to grow dramatically. The transaction was simple with vendor financing and negotiations finalised. They had an exceptional window of opportunity of delivering two years' net profit in fourteen months. They would not take up Adler or Cooper's time. They said: "This transaction will make you both a lot of money." 39 A further letter to Adler dated 1 May 1996 attached a document with the same title and the subheading "Part II". In that document Berry and Kensey said that if Pongrass were assured that the deal was done then after completion of a stocktake they could begin shipping goods on Monday, May 6, despite the fact that paperwork would not be completed. Their representatives had been preselling ex-stock inventory for delivery to stores in May and June 1996. This had the effect of increasing the net profit before tax over the eight week period to $1.3 million. Theirs was essentially a question of funding. It was not a greenfield investment but a going concern which needed to be refunded. They were personally guaranteeing $2.5 million in bank debt. They said the business displayed conservative projections and had enormous growth potential. As managers they were both capable and hungry. They attached a cashflow which they described as illustrating "a substantial and beneficial change from the original". The documents attached were entitled "Projected Facility Usage" and "Projected Trading Results". According to Adler and Cooper they relied upon the representations set out in the documents of 26 April and 1 May in coming to their ultimate decision to acquire the business. They did not specify which representations they relied upon. 40 In ongoing negotiations around these communications Cooper asked Berry whether the stock was going to be acquired at the right price. Berry told him "Your getting it at a steal. We're stealing it. There's plenty of stock that Stephen Pongrass doesn't even know about." (sic) According to Adler, Berry said similar words to him. Cooper followed up with a further conversation with Berry about the stock. Berry assured him they were getting it at the right price but that it was a very written down price. He said: "There's some old camping equipment we are getting which you couldn't give away, like jaffle irons and old BBQs." Then, according to Cooper, he said to Berry: "Are we buying it at the right price? Rod and I will never get involved in running the business, so we are buying you. Are we buying a good business at the right price?" Berry responded that this was his last shot in life. Cooper and Adler were financially secure. He, Berry, had a wife and young family. He said: "Do you think I'd do this deal if it wasn't a good deal? It's a great price and it's an even better business. You and Rodney will be very proud of it." According to Cooper he relied upon what Berry told him about the stock and his assurances about the profits the business would make.

[14]

The Applicant's Evidence - Agreement in Principle and Subsequent Negotiations - May 1996 to July 1996 41 The negotiations led to an agreement in principle in early May 1996, according to both Cooper and Adler's affidavits. Berry arranged to sit next to Cooper and Adler on a flight from Sydney to Brisbane. He had their attention for about an hour. Adler was impressed with Berry's salesmanship skills. Cooper also was impressed by Berry's persistence and was convinced by him that the business would make money. Berry said during the flight: "We've been in this business for years. You guys don't know how lucky you are. It's going to make you so much money. We're going to pick up some major retailers and we've got plenty of orders coming through." According to Cooper it was Berry and Kensey's apparent expertise, their energy and persistence which caused him to rely on representations they made about the business and ultimately caused him to agree to buy the business. Adler said that in his view the most important thing for a wholesale business was to have somebody who is a good salesman. 42 Adler and Cooper were told that a firm called Love & Rogers were retained to do a stock audit or stocktake. In a fax to them on 17 May 1996, Berry reported that the stocktake was completed satisfactorily with write-offs and write-downs on the appropriate inventory. The auditors had found only negligible discrepancies. Adler did not recollect ever seeing a stocktake or audit. 43 Adler observed that in May 1996, Berry and Kensey estimated the earnings before income tax for the business as follows: 1. Year ending 30 June 1997 - $1.8 million 2. Year ending 30 June 1998 - $2.1 million 3. Year ending 30 June 1999 - $2.3 million He understood the agreement to be that equity injections were to be as follows: Immediate upon the opening of the bank account for the proposed corporate purchaser, Phoenix, - $500,000 1 July 1996 - $500,000 1 February 1997 - $500,000 44 On 20 May 1996, Kensey wrote to Adler enclosing a copy of a draft contract. Adler was concerned, after looking at the contract, that the basis of the deal had changed. He sent a memo to his accountant, Storey, and a copy of the draft contract requesting that he review it. He did not remember what, if any, discussions he had with Storey about the contract. On 21 May 1996, he wrote to Pongrass raising issues about timing, namely whether sales were going through at the time and who would be entitled to the profit from them. On 22 May 1996, Kensey wrote to him indicating that Pongrass was insisting upon a guarantee for the deferred acquisition payments. This also concerned Adler as a departure from the original agreement. 45 Ian Levi, in 1996, was a director of Hill Rogers, Chartered Accountants. His affidavit of 17 May 2001 is also relied upon as part of the applicant's evidence in the proceedings. He said that between May and August 1996, Adler, who was an acquaintance, telephoned him and asked him if he would be interested in advising him about his investment in a company which operated in the ski industry. Coincidentally, Levi knew Kensey and knew he had acted as finance director of a ski business, carried on by Casa Alpina Sports Pty Ltd now known as Acme Avalanche Pty Ltd, the fourth respondent. Levi contacted Kensey to make some general inquiries about the industry. Kensey told him that they were about to be bought by Adler. Levi said he had been approached to act on behalf of Adler but had not been aware it was in respect of Kensey's business. 46 Levi met with Adler the following week and agreed to advise him. He sent him a letter of engagement but was told that his fees were to be paid by the proposed acquirer of the business, Phoenix. He was therefore retained by Phoenix to advise generally in relation to the business. His retainer did not commence until after agreements for the sale of the business had already been exchanged although settlement had not occurred. He was not asked to advise on the merits of the purchase and was not involved in negotiating the terms of the deal or documenting it. Adler's description of Levi's function was that he was retained shortly prior to settlement to streamline the business and implement a reporting regime. He was also to put together a budget and was responsible for operations, procedures and accounting control.

[15]

Applicant's Evidence - Settlement - 2 July 1996 47 Settlement took place on 2 July 1996. Cooper was represented at settlement by his solicitor, Paul Etherington. 48 The acquisition documents were set out in the lever arch file "BDC2" exhibited to Cooper's affidavit of 17 May. They were as follows:

Asset Sale Agreement dated 2 July 1996. The parties were: (a) Pongrass Leisure Group Pty Ltd, Mountain Sunset Pty Ltd, Acme Avalanche Pty Ltd, Pongrass Associates Pty Ltd as Vendor. (b) Phoenix Leisure Group Pty Ltd as Purchaser. (c) Stephen Charles Berry, Peter George Kensey as Guarantors. (d) Bradley David Cooper as Covenantor. 2. Licence Agreement dated 2 July 1996. The parties were: (a) Pongrass Leisure Group Pty Ltd as Licensor (b) Phoenix Leisure Group Pty Ltd as Licensee (c) Stephen Charles Berry and Peter George Kensey as Guarantors
Deed of Guarantee and Indemnity dated 2 July 1996. The parties were: (a) Stephen Charles Berry and Peter George Kensey as Guarantors (b) Pongrass Leisure Group Pty Ltd, Mountain Sunset Pty Ltd, Acme Avalanche Pty Ltd and Pongrass Associates Pty Ltd as Vendors. 4. Deed of Charge dated 2 July 1996. The parties were: (a) Phoenix Leisure Group Pty Ltd as Chargor (b) Pongrass Leisure Group Pty Ltd as Chargee (c) Stephen Charles Berry and Peter George Kensey as Guarantors. 5. Promissory Note dated 2 July 1996. The Promisor was Bradley David Cooper promising to pay Pongrass Leisure Group Pty Ltd the sum of $850,000 on 1 July 1997 if that agreed sum was not received from the Phoenix Leisure Group Pty Ltd by 1 July 1997. The document was signed by Etherington as Cooper's attorney. 6 Deed dated 2 July 1996. The parties were: (a) Stephen Charles Berry and Peter George Kensey as Covenantors. (b) Phoenix Leisure Group Pty Ltd (c) Cervale Pty Ltd and Two Gables Pty Ltd as Investors. 7. Option Agreement dated 2 July 1996. The parties were: (a) Two Gables Pty Ltd and Cervale Pty Ltd as Grantors (b) Peter George Kensey and Stephen Berry as Shareholders. In this deed Kensey and Berry were referred to as Trustees of the Snowflake Trust and the Berry Trust respectively. 8. Letter of Employment dated 2 July 1996 from Phoenix Leisure Group Pty Ltd to Berry appointing him as Managing Director of the Company. 9. Letter of Employment dated 2 July 1996 from Phoenix Leisure Group Pty Ltd to Kensey employing him as Finance Director of the Company. 10. Minutes of a meeting of shareholders of Phoenix Leisure Group Pty Ltd held on 2 July 1996. The minutes altered the Articles of Association so that a quorum of the Board had to comprise at least two persons, one of whom must be a director of Adler's company, Two Gables, and the other a director of Cooper's company, Cervale. Two Gables was to be given the right to nominate the chairman. The Articles were also amended to create "K" Class Redeemable Preference Shares. 11. Notice of meeting of shareholders. This was a notice of the meeting of shareholders of Phoenix Leisure Group the minutes of which comprise the previous item. 12. Application for shares. This was an undated application by Cervale and Two Gables to Phoenix for 1,500,000 "K" class redeemable preference shares. 49 50 Whittaker, who took no part in the negotiations for the sale of the business, remembered speaking with Berry a number of times on the phone prior to the completion of the sale so that he could be updated on how the transaction was proceeding. He met with Berry and Kensey to discuss the proposed banking facility for the business. He recalled a conversation with Berry about the stocktake before the completion of the purchase. Berry said words to the effect: "I am really happy with the stock take because they (Love and Rogers) missed heaps of stock in the warehouse. Pongrass (Stephen (sic) Pongrass) has no idea what's in the warehouse and we are picking up heaps of stock for nothing." 51 The agreed sale price of the assets, including the stock, was $6,955,875 which was to be paid in instalments commencing on 7 June 1996 with the final instalment due on 1 July 1997.

[16]

Applicant's Evidence - The Asset Sale Agreement and the Deed - The Warranties - 2 July 1996 52 The recitals to the Asset Sale Agreement set out that Pongrass Leisure Group owned premises and provided staff and other facilities used by Mountain Sunset, Acme Avalanche and Pongrass Associates in connection with their respective businesses. Mountain Sunset was engaged in the manufacture, importation and distribution of camping and leisure equipment. Acme Avalanche was engaged in the importation and distribution of ski equipment, clothing and accessories. Pongrass Associates was engaged in the importation and distribution of a limited range of footwear. Berry and Kensey, directors of Mountain Sunset and Acme Avalanche had caused the purchaser, Phoenix, to be incorporated for the purpose of purchasing the assets of the businesses together with certain assets owned by Pongrass Leisure Group. 53 The term "the Assets" was defined to mean the Pongrass Leisure Group Assets, the Mountain Sunset Assets, the Acme Avalanche Assets and the Pongrass Associates' Assets. The Assets of each of those entities other than Pongrass Leisure were in turn defined as the assets of the business conducted by the entity. The term "the Stock" was defined to mean the stock in trade of the three businesses as itemised in the Inventory. The "Inventory" was defined as the Inventory of the Stock and its values at the effective date as inspected by Phoenix and initialled by the parties for identification. 54 The first operative clause was cl 2.1 under which the Vendors sold the Assets to Phoenix for the price and on the terms and conditions set out in the agreement. The purchase price for the Assets was $6,955,875 (cl 3.1). The value of the Assets and their constituent items was agreed to be the amounts set out in Schedule 1 and the Inventory. The price was to be paid by instalments in the amounts and on the dates specified in Schedule 2. That Schedule set out twenty three instalments commencing on 7 June 1996 and concluding on 1 July 1997. If Phoenix were to fail to pay an instalment on or before the due date for payment and the Vendors were not in breach of any of the warranties contained in cl 14.1 of the agreement, then the entire unpaid balance of the price would become due and payable if the instalment were not paid within ten business days following a written notice from Pongrass Leisure Group (cl 3.6.1). The agreement provided for a charge to be given by Phoenix to Pongrass Leisure Group over its assets reflected in a Deed of Charge to be executed and delivered to the Vendors on the making of the agreement. 55 Clause 4 dealt with stock, plant and equipment and motor vehicles. In particular, it provided that Phoenix would accept the stock in its condition at the Effective Date and the Vendors would not be responsible for any defects or if it should be found that any quantities, sizes, values or other particulars in the Inventory were incorrect. 56 It was provided in cl 13.1 that the directors, defined in cl 1.1 as Berry and Kensey, were also directors of Phoenix and that all facts, matters and things which were or were deemed to be within their knowledge would be deemed to be within the knowledge of Phoenix and the Investors. The "Investors" was not defined in the Asset Sale Agreement. It was a term however used in the Deed signed on the same day to refer to Cervale and Two Gables. Under cl 13.3 it was said the Purchasers and the Guarantors acknowledged and agreed that, except for the warranties in cl 14.1 they had not, in entering into the Agreement, relied on any warranties, representations, statements or inducements made by the Vendors or any person on behalf of the Vendors in relation to the Assets, the Business or any other matter referred to in the Agreement but had relied entirely upon their own enquiries, inspections, assessments and knowledge. 57 Clause 14 contained a number of warranties. Clause 14.1 set out the Vendors' warranties. It included cl 14.1.11 in the following terms: "[t]he Vendors are not aware of anything which would hinder the Purchaser from carrying on the Business which has not been disclosed to the Purchaser." 58 Under the Agreement Berry and Kensey guaranteed to the Vendors that they would be, with Phoenix, jointly and severally liable to the Vendors for the due payment of all moneys payable under the Agreement. In cl 17.4 it was provided: "The Covenantor hereby unconditionally and irrevocably guarantees to the Vendors the payment of the Instalment of $850,000.00 which is payable to the Vendors on 1 July 1997 and upon the making of this Agreement the Covenantor shall deliver to the Vendors a Promissory Note in the form of Annexure "D" duly executed by the Covenantor." Clause 21.5 provided: "This Agreement constitutes the sole and entire agreement between the parties and any warranty, representation, guarantee or other term or condition of any nature which is not contained or recorded in this Agreement is of no force or effect whatsoever." 59 Schedule 1 set out the Assets and their valuations. Mountain Sunset's Assets were referred to separately and were called MLP Assets by virtue of the fact that the company used to be known as Mountain Leisure Products Pty Ltd. The MLP Assets included stock as per Inventory valued at $2,430,337. Acme Avalanche was called CA as it had formerly been Casa Alpina Sports Pty Ltd. The CA assets included stock as per Inventory valued at $3,300,744. The Pongrass Associates' Assets, called PA Assets, included stock as per Inventory valued at $215,391. 60 On the same day as the Agreement was executed, Cooper signed a Promissory Note in respect of his promise as Covenantor. 61 The other relevant acquisition document was designated DEED. The parties were Berry and Kensey who were called Covenantors. Phoenix was also a party. So too were Cervale and Two Gables which were called "the Investors". Clause 2 of the Deed set out warranties given by Berry and Kensey in favour of Phoenix, Cervale and Two Gables. They were in the following terms: "2 WARRANTIES 2.1 The Covenantors together and separately provide the warranties and representations to the Investors and Phoenix set out in this Clause 2 and covenant that all of the warranties contain no material omissions and one not misleading. (sic) 2.2 The Projections have been prepared in a manner consistent with applicable accounting standards and practices required by the Corporations Law and the statements of accounting standards issued by or on behalf of the Australian Society of Accountants, the Institute of Chartered Accountants and the Accounting Standards Review Board. 2.3 The Stock and the Stock on Order are or will be of merchantable quality. 2.4 None of the Stock is obsolete. 2.5 The Prepayments and the Orders are appropriate and necessary for the Business and all potential liabilities arising from the Orders have been taken into account in the Projections. . . . 2.10 The Assets constitute everything of a substantial nature reasonably necessary or desirable for carrying on the Business. 2.11 All current operational records necessary or desirable for carrying on the Business have been delivered to or are in the possession or under the control of Phoenix. . . . 2.17 To the best of the Covenantors knowledge, information and belief all information given to the Investors, Phoenix and their respective officers and representatives by the Covenantors and each statement made by them in relation to the Business, the Asset Sale Agreement or any matter incidental to the acquisition by Phoenix of the Assets and the Business is complete, correct and not misleading." 62 Under cl 3 the Covenantors warranted that the warranties expressed to apply at the date of the Deed would continue to apply until the third instalment date. In cl 4 it was provided: "The Covenantors acknowledge that Phoenix has relied on the Warranties as an inducement to enter into the Asset Sale Agreement and that the Investors have relied on the Warranties as an inducement to subscribe for capital in Phoenix." Clause 8 provided: "This Deed does not constitute an exhaustive list of all of the representations or Warranties upon which the Investor and Phoenix have relied. This Deed does not limit or vary any rights or causes of action which the Investors or Phoenix may have against the Covenantors."

[17]

Applicant's Evidence - Phoenix in Operation - The Funding Crisis - July 1996 to December 1996 63 Following the sale of the business to Phoenix, Whittaker was appointed a director to represent Cooper's interests. Adler appointed Storey to represent his interests. Terry Youngman, Deputy Chief Executive Officer of FAI Home Security, also attended Phoenix board meetings. 64 At an early stage, after having agreed to advise Phoenix, Levi had been shown around the premises by Berry and Kensey. He could not recall seeing any stock, but if he had he would not have been able to assess its quantity or quality as he had no experience of the ski or camping industries. Shortly after that meeting, Berry and Kensey provided him with a copy of the Alternative Report. Not long after Levi gave Kensey a spreadsheet model for the cashflow of the business for the following three years and asked them to fill in the blanks. Two or three weeks later he still did not have the document from Kensey. In the end they sat down and together constructed a model. The figures from the Alternative Report were put into the spreadsheet. They revealed a $2 million shortfall in funding. Levi was of the view that the error arose because of Kensey's incompetence as the financial details of the Alternative Report were not cross referenced or reconciled. He raised the matter with Berry and after some discussion the spreadsheet was left with Kensey to review. The shareholders were told and Levi remembers Adler saying to him words to the effect: "Berry and Kensey will just have to fix the funding problem. We are not going to provide any funding." 65 On 28 June 1996, Heller Financial had written to Berry confirming an offer of an "Availability Plus Factoring Facility and Trade Finance Facility" for Phoenix on terms and conditions set out in their letter. The facilities were worth $3.75 million. The factoring facility involved acquisition by Heller Financial of debts owing to Phoenix at 70% of their face value after deduction of credit notes. Among the conditions of the offer were: "(o) Our legal advisors to be satisfied with satisfactory completion of the sale of assets from Pongrass Leisure Group to Phoenix." 66 Difficulties in cashflow and funding emerged not long after settlement. In a letter dated 3 September 1996, Berry told Adler that Pongrass had been short paid on the instalment due on 15 August which was remedied by catch-up payments. He also advised Adler that Phoenix had short paid the September second instalment. Under the terms of the Asset Sale Agreement Phoenix was to pay an instalment of $834,119.68 on 2 September. It was only able to pay $250,000. Pongrass sent a default letter to Phoenix on 3 September which required the situation to be remedied within ten working days. As Storey reported to Adler by memo on that day, following a meeting with Berry, Kensey and Youngman, Phoenix had ten working days to find $584,119.68. He put to Adler in his memo that it would be advantageous to Phoenix if the equity injection of $500,000, being $250,000 from each of Adler and Cooper respectively due on 1 October, could be paid on 12 September. Storey noted there was a $1.7 million bill due for settlement on 15 September. He wrote: "At this stage if all goes well we should be OK until March and April 1997. The cash flow takes a dip then and we have huge collections in May June and July. A seasonal hiccup. Remember we rely on our cash flow from profits to pay Pongrass." 67 In Berry's letter to Adler of the same date he observed that the real difficulty they had had in recent times was to get to grips with Heller's facility guidelines and how factoring debtors affected their business. Levi's model had taken some time to digest and required extensive modification to deal with the factoring question. A problem had been discovered with the facility/security ratios. Berry told Adler he believed they had resolved the problem and they were meeting with Hellers on Thursday of that week to confirm the model as it then stood. Storey would be joining them at that meeting. There is no direct evidence of the outcome of the meeting with Hellers. However, in a letter to Adler of 12 September 1996, Berry mentioned that they were on schedule for "a Friday settlement at Heller's". He asked Adler whether their early injection of the remaining $500,000 capital would be available if required. On the same day Levi sent Berry draft financial statements for the period from 6 May 1996 to 30 June 1996 for Phoenix. The accounts reflected a profit after income tax of $644,721. 68 On 16 September, Berry again wrote to Adler advising that Hellers had been provided with all their required documentation. The documentation from Pongrass was yet to be provided but Pongrass indicated that he had instructed his solicitors to provide it. This cleared the way for settlement to take place with Hellers. He noted that although Adler had said that $500,000 remaining had been deposited, in fact a cheque for only $350,000 was brought in by Michael Storey. 69 Subsequently a problem developed with Hellers. In Levi's evidence he recalled that an instalment payment for the purchase of the business fell due about this time. A notice of default was served on Phoenix. Hellers somehow found out about the notice on the day it was served and refused to release another $1 million in funding. 70 Among the documents exhibited to Cooper's affidavit is a memo from Whittaker to Cooper dated 15 October 1996 in which he said that the promised finance by Hellers had not materialised and there was a $1 million shortfall in the facility. He and Storey had seen the State Bank, Westpac and ANZ in relation to obtaining finance. The State Bank was not interested due to the under capitalisation of the company. 71 Berry wrote to Adler on 15 October stating that as a result of the Heller's facility failing to satisfy requirements, Phoenix found itself in a position where it was "hard against the wall". He put the position thus: ". Hellers have effectively ignored the Levi model which embodied both a cash flow and a detailed facility projection. Our projected facility at the end of September was to have been $2.4 million. Our actual facility was $1.3 million. Essentially we were unable to utilise $1.1 million in trade finance. Our projected facility at the end of October was planned to be $3.1 million. At the moment it stands at $950,000. Our current funding shortfall is $1.5 million and we are being strangled. . We have orders to satisfy, inventory held on the wharves, more inventory on the water and further inventory ready to leave foreign ports awaiting the establishment of letters of credit. We are at risk of losing substantial orders over the coming weeks. . Day to day creditors are not being paid due to the lack of funds. This will cause considerable problems and embarrassment unless we resolve this situation quickly. This cash shortage reached a stage where we personally paid the wages last Thursday." He went on to say that submissions had been made to a number of banks. His conclusions were that Phoenix needed Adler's help. The business was trading well, the only problem was one of funding. The company was both under capitalised and under borrowed. 72 A further letter on 21 October to Adler, copied to Cooper, indicated, inter alia, that as at that date the company was in default in the amount of $584,991.32 to Pongrass and that Steven Pongrass was calling frequently regarding payment. To bring trade creditors up to date and to meet freight and duty payments for imports, $350,000 was required. He proposed bridging finance of $1.5 million from Adler and Cooper. He concluded: "We are in a perilous situation." A memo of 23 October 1996 included statements in the following terms: "As each day passes our goal becomes a little more unattainable. Within a week we will have lost $300K in sales, approximately $100K in profit. In two weeks we will lose another $300K in sales. And so on… Staff morale is dropping. Customer confidence is dropping. We are a trading company with orders, but no inventory to satisfy those orders. Our reps and agents are on the back foot, our competitors are enjoying the free kick." He concluded by saying: "We have a terrific company, we are trading to forecast, we have paid Pongrass $5 million from steam, we have committed people, it is all worth fighting for and I will not give up - we just need your help." Adler responded indicating a minimum deposit of $250,000 would be made the following day and hopefully more. He also proposed that he and Cooper meet with Berry to redefine the percentage ownership between the respective parties. He said: "We don't feel that we should be taking on the level of responsibility that we are currently taking for only 50% of the long term upside. This may mean a reduction in Peter Kensey's interest alone, or a combination of both interests." 73 The critical funding situation continued for a time. On 4 November 1996, Berry again wrote to Adler enclosing a trading summary for the week ended 31 October and observing that sales were being decimated by the lack of new and pre-sold inventory. Inventory was unavailable due to the $2 million shortfall in funding. He commented that the erosion of sales would escalate dramatically over the following two weeks. On the other hand, in a letter sent seven days later on 11 November, he told Adler that sales were excellent when their current financial situation was considered. He said: "We will get through until 25 November, however we can expect problems subsequent to that date." He indicated that he was trying to keep Steven Pongrass "schmoozed". On 14 November he wrote to Adler thanking him for agreeing to increase the capital of the company by $500,000. Adler wrote back on 29 November again foreshadowing changes in ownership arrangements with Phoenix. He said: "I would like you to come back to us and advise what equity you and Peter should now hold based on the same performance criteria as previously agreed." 74 On 11 December 1996, the National Australia Bank wrote to Phoenix approving the grant of a number of facilities including a Trade Refinance Facility with a limit of $2,600,00 and an expiry date of 31 December 1997. One of the securities it required was lease guarantees from Kensey, Berry and Cooper. It also required a mortgage over property owned by Cooper in Mosman. In Levi's affidavit, he said that thereafter the business went on and the funding crisis was over. 75 Whittaker said that in or about December he began to lose confidence in management and the figures being presented to the board by Berry and Kensey. It was about this time that Levi replaced Storey as chairman of the board. A monthly analysis of budget for Phoenix for the period May 1996 showed that in relation to budgeted stock written off for that year the total of $6,000 related to normal wastage. However, in Whittaker's analysis of the trading results for the year ending 31 December 1996 he observed that $70,506 was written off for stock. Budgeted profit for the same period was to be $920,509. The Monthly Analysis of Actual Trading Results for the year ending 31 December 1996 showed an actual profit of $156,040. The budget variance was negative ($764,469) representing an 83% variation. Applicant's Evidence - Phoenix in Operation - The Profitability Crisis - January 1997 to June 1998 76 Levi described the next crisis as the "profitability of the business". He recalled the board deciding to appoint auditors. The audit went to tender. There was an agreement to appoint Love & Wallace as auditors. They were never appointed. In 1997, Kensey was replaced as financial controller by a Michael Greer. Levi described the focus of board meetings as being on operational issues such as debt collection, revenue, new products, product mix and sourcing as well as insurance. He assumed that both Berry and Kensey were honest people. He accepted the figures being presented to the board. He said that at no stage did he consider it part of his role to investigate Berry's probity and/or that of Kensey or Greer. Between board meetings he also attended financing meetings with Storey, Berry and the financial controller to look at operational results and statistics for the business. Again, at those meetings he assumed the figures on the table were accurate. 77 A letter from Berry to Adler on 20 January 1997 indicated that sales were soft and that they had two weeks trading left for the month and were expected to be close on budget. As to inventory, he told Adler that it had always been the company's strategy to reduce the inventory level by $1 million to $1.5 million from the Pongrass stewardship of the company. He said that they were essentially on track to achieve that goal and results would be evident by 30 June 1997. He said: "It is clearly very pleasing to have our funding problems behind us. We are now concentrating on the ongoing inventory reduction, margin maintenance and the positive influence John Tsekouris will have on our camping business." A further report to Adler on 28 April 1997 indicated the company was continuing to claw back losses with a forecast net profit of $700K for the period 1 May 1997 to 30 June 1997. The National Australia Bank had been approached with a request that the covenants could be revised so that they "become more appropriate for a business at our level of development".

[18]

Applicant's Evidence - Admission of Obsolete Stock - May 1997 78 On 19 May 1997, Berry and Kensey wrote to Mark Gosbell, the Business Banking Manager of the National Australia Bank in Sydney attaching draft financial accounts for the period 6 May 1996 to 31 December 1996 and for the period 1 January 1997 to 30 April 1997. They also attached an analysis of budget against actual for the corresponding periods. In their comment on the trading figures for the period 1 January 1997 to 30 April 1997, they included a paragraph under the heading "Stock Written Off" which stated: "As part of the arrangement with Steven Pongrass, we were obliged to assume considerable amounts of inventory which were old or obsolete. We negotiated reduced consideration when purchasing the stock, however in some cases we considered further write offs were prudent. Stock shrinkage was also higher than anticipated and we have spoken with you concerning the steps taken to stop this in the future. Finally the amount expensed includes stock written off as damaged. This amounts to some $74,000 and we are in the process of preparing claims against suppliers for restitution. These claims have not yet been finalised or booked in the accounts as each supplier treats the situation differently. Consequently, the amount written off has been overstated at the present time." 79 Cooper in his evidence commented on this passage saying that he was not aware of any arrangement with Pongrass to assume considerable amounts of inventory which were old or obsolete. He asserted: "The Vendors as defined in the [sale agreement], warranted that they were not aware of anything which would hinder the carrying on of the business (as defined in the Sale Agreement). The Vendors failed to disclose that a considerable amount of inventory that was old or obsolete was being assumed which would obviously hinder the carrying on of the business." 80 Whittaker's evidence also commented on this passage. He said he was not aware of any arrangement with Pongrass in relation to old or obsolete stock. That information was inconsistent with conversations he had with Berry prior to the sale. There was no reference to any agreement for Phoenix to acquire old or obsolete inventory in the forecasts. He said that if such an arrangement had been disclosed he would not have reached the same conclusions in his report to Cooper and Adler. He would have made them aware that the cashflow forecasts needed to be revised as the realisation of the inventory into cash was critical to the success of the business and the ongoing funding of the business. If the inventory were not saleable or were outdated or slow moving, it would either not convert to cash or would take longer to convert to cash than forecast. This would have a material effect on the cash in-flows of the business and would mean that more money was required from the Bank or lender to keep the business going. Had he been aware of such an arrangement he would have also taken a different path as a director in relation to the management of cash and the banking facility. Had he known of the existence of old stock, he would have taken a more hands-on approach by assisting to liquidate it. He did not accept Berry and Kensey's argument that initial funding problems were the reason for the business's failure to perform. He regarded them as responsible for problems with the Heller's facility because they were responsible for arranging it and the fact they got the funding wrong had set a precedent for them being unreliable. This was the meaning of his handwritten note "creates precedent" on his copy of the letter sent to the National Australia Bank.

[19]

Applicant's Evidence - Phoenix in Operation - Profitability Problems Continue - July 1997 - June 1998 81 On Cooper's evidence the final deferred acquisition payment was made in July 1997. In August 1997, he swore an affidavit in proceedings commenced by Bancorp against Pongrass Leisure Group. He said in that affidavit that he reached the agreement to proceed with the acquisition "because of, inter alia, my impression of Berry and because of my reliance on the information contained in the Bancorp Report". In his evidence in these proceedings he said that the words "inter alia" referred to representations that Berry, Kensey and Pongrass made to him during negotiations for the sale of the business in early 1996 as well as representations made in the various documents. 82 Adler also swore an affidavit in those proceedings. In par 9 of his affidavit he said that but for the information contained in the Bancorp Report and the Alternative Report he would not have proceeded further with his inquiries concerning the Pongrass Leisure Group business. He also said it was only the information in those Reports, in particular the Bancorp Report, that convinced him there was significant potential in the business that warranted further investigation and ultimately led to his decision to be a party to its purchase. In his evidence in these proceedings he said that the further investigations he was referring to in his affidavit included Whittaker's report followed by his numerous discussions and correspondence with Berry and Kensey leading up to the agreement to purchase the business in early May 1996. 83 Berry sent Adler a trading summary for July 1997 in a letter of 7 August 1997. He observed that the poor ski season that year would negatively impact on indent sales at the Canberra Trade Show in October. He expected those sales to fall by $500K. On the other hand he was encouraged by the acceptance of new camping product groups presented to key retailers. 84 On 19 September 1997, Berry and Kensey wrote to Cooper following up on recent correspondence and discussions regarding Phoenix. They summarised what they described as "abnormal events" in the period 6 May 1996 and 1 January 1997 to 31 August 1997. They attached the 1998 budget. That budget projected camping sales of $7.7 million, representing 61% of total sales, ski sales of $4.9 million, representing 39% of total sales and an overall gross margin said to be conservatively forecast at 36.6%, yielding a gross profit of $4.6 million. Net profit before tax was forecast at $845,000. Current bank facilities were said to be sufficient and to be running down. Inventory debtor levels and stock turn were improving. By way of conclusion they observed that the only missing ingredient was that of acceptable net profit. They promised, however, that profitability would improve dramatically in the coming year and they would be in a position to benefit from the hard work invested. Cooper's evidence dealing with the 1998 year indicated that Berry and Kensey prepared monthly reports to the board which continued to forecast profits that were not realised. He said that because Adler and he had no experience in the ski wear/camping equipment industries they relied on Berry and Kensey's expertise for decision-making. 85 A memo from Storey to Adler and Cooper dated 1 April 1998 refers to a $1.2 million loss in 1997 caused by a disastrous final four months in that year. According to Storey, the company suffered solely because of lack of sales in particular in the camping and backpack division. He set out the monthly figures from July 1997 to December 1997 to demonstrate that point. However in the March quarter for 1998 the company had had sales of $750,000. Storey said: "So there you see, all being well, the correct products are in place and we now should reap the benefits with the increase in sales volume." 86 On 8 April 1998, Adler wrote to Berry about his equity in the company. He said that Cooper and he had entered into the purchase of Phoenix on the basis that Berry and Kensey would build up over three years a reasonable equity position in the company. Further to previous correspondence and judging by performance to that time, it was very clear that they would have a very small equity interest in the company, if at all. However Cooper and he believed in the concept that the managing director should have an equity interest. Accordingly he requested Berry to place before Cooper and himself a new proposal that, subject to performance over the next three fiscal years (not including fiscal 1998), they earn say a ten per cent interest. He also congratulated Berry on the March result, noting that although one month did not make a year the trend was certainly in the right direction. 87 Berry wrote to Adler on 25 June 1998 responding to a facsimile about the board papers. He referred to the mistakes of the past and the lessons learnt and the extraordinarily poor ski season in 1997 which, linked with the Thredbo disaster, caused an overstocking of ski inventory. He also told Adler in his letter that despite his assistance with the $400,000 L/C facility they were always around $200,000 short of requirements. Cooper responded to Berry on 26 June 1998 saying, inter alia: "I did not know you were $200,000 short until the Board meeting. If you needed $400,000 why did you not ask for it so you could get the sales?"

[20]

Applicant's Evidence - Phoenix in Operation - The Slide to Disposal - July 1998 - July 1999 88 On 20 July 1998, Adler wrote to Berry. Adler had by this stage become "very concerned about the poor performance of the business and Mr Berry's management generally". He was of the view that Berry was not doing enough to grow the business. He told Berry in his letter that the result for the month of June and therefore for the half year ending 30 June 1998 had greatly upset both Cooper and himself. He said the constant excuses just did not stack up. He put to Berry that there were only three alternatives:

Dismiss him as Managing Director and employ a new one.
Sell the business or part of it. 3. Buy another business and merge the operations and by definition bring on more and better management. He described the performance of the company as "pathetic" and said it was unacceptable to himself and Cooper. He said that neither Cooper nor himself was interested in the first option but it had to be stated. There needed to be a much better emphasis on budget setting, inventory management and cashflow. He noted that Levi had made some recommendations about inventory management that had not been adopted and he asked why. He wanted a meeting with Berry, himself and Cooper. They wanted a very precise understanding of what the second half of the calendar year would produce. By precise he meant "getting the figures right within a 5% standard deviation". He said no excuses would be tolerated. 89 Berry responded to Adler on 21 July. He described the June result as disappointing. He answered the various points made by Adler. He indicated that they would achieve the turnaround required that year, control inventory and develop the brands and record an acceptable profit. In the course of that response he told Adler that when Phoenix took over the Pongrass Leisure Group its camping division was operating like a 1960s disposals business. Inventory was absurdly high, stock turns ridiculously low, management was "seat of the pants" and "absolute idiots" were responsible for product development and purchasing. Warranty claims on products averaged 20% with some categories reaching 50%. There was no employee pride in either the brand or the company. Adler in response, on 22 July, pointed out to Berry that he had been managing director of Pongrass Leisure Group. The fact that the camping division was in such poor shape was his responsibility. He also observed that Berry had not pointed out the deficiencies in the camping division to himself or Cooper during due diligence. He said "… we hold you responsible, then and now". In Adler's evidence he said that despite poor performance Berry remained adamant that things would improve. Berry requested more meetings with Cooper and himself despite having informed them at the outset that he and Kensey would not tax their time. Adler referred to Berry's letter in which he had said that the budget setting had been poor and difficulties in forecasting were due to a number of things including "accurate historicals". His evidence, argumentatively, was that he expected Berry and Kensey to have accurate historicals because of their long standing involvement with the business prior to it being purchased. 90 On 23 September 1998, Berry wrote to Cooper. Figures attached to his letter showed the following monthly profit and loss figures before tax: March 1998 - $234,350 profit June 1998 - $225,814 loss July 1998 - $96,490 loss August 1998 - $76,264 loss He nevertheless stated that the period September through December would be profitable. The September quarter results would not create a disastrous reaction from the bank. 91 Whittaker in his evidence indicated that there was a net loss before tax for the year ending December 1998 of $856,000 of which $792,000 was lost in the month of December. Cooper recalled a conversation with Berry at that time in which he told Berry he wanted him to change the budget. He said the bank needed to know what they were facing. They needed integrity with the bank. Berry responded: "There's nothing wrong with the budgets. They are about to turn positive. Sales are about to go through the roof." Cooper said he was suspicious of a cover up at the board level and he placed pressure on Levi and the new financial controller, Greer, who replaced Kensey in 1997, to find out what was happening. 92 At or about this time another player entered the picture. This was David Gale who in late 1998 was retained as consultant for Phoenix to investigate what he described in his evidence as "certain irregularities in the results of Phoenix" and to advise the board. He prepared two reports in relation to Phoenix. The first was a comparison of its 1998 results with board submissions for the end of that year. The report disclosed a number of areas where the board figures were inaccurate or incomplete. A copy was submitted to the chairman, Levi. Gale's investigations revealed what he described as "… poor practices in regarding reporting to management, inventory and sales recording which, in my view, were to the point of reckless." He said there was stock which was old and obsolete and was valued in excess of its realisable value. In his view management had failed to realise the stock because it would crystalise a loss which was unpalatable to the board. 93 Gale visited the Phoenix premises and inspected the stock early in 1999. He said that he discovered that there was old and obsolete stock which was made up of skis and camping equipment. He had skied for about thirty years. Many of the skis in stock were straight profile skis which had been made obsolete by parabolic skis. He said he could recall as early as 1994 hiring a pair of parabolic skis in Canada. He recalled being told, although he cannot recall by whom, that some of the stock had been acquired at the time Phoenix purchased the business. 94 Sometime between May and September 1998, Levi had recommended that Berry be replaced as Chief Executive Officer. In the event, it was agreed between Levi, Cooper and Adler that David Gale would be appointed as a joint CEO with Berry. He was appointed late in 1998 or early 1999. Levi's recollection was that two or three weeks into the job Gale told him that the accounts were grossly inaccurate and that Berry and Greer had under-stated losses by many hundreds of thousands of dollars. He also recalled that Gale identified stock that had been sitting in the premises prior to 1996. Levi took that information to Cooper and Bradley. His recollection was that Berry was given a "window of opportunity" to sell the business which he managed to do shortly thereafter. On 8 February 1999, Levi wrote to Adler and Cooper about the situation and accepted responsibility for what he called the "deceptive conduct" of both the managing director and the financial controller going undetected. 95 Cooper received a letter from Greer about this time in which he alleged that the management of Phoenix distorted the progressive results in 1998 with the intention of painting the best possible picture of the company's picture. He recalled Greer saying words to the effect: "There's about $1.1 million of stock in the warehouse which is obsolete and can't be given away. It's all out of fashion." According to Cooper that, to the best of his recollection, was when he first became aware that the stock was obsolete.

[21]

Applicant's Evidence - The Business is Sold 96 Cooper decided that there was no option other than to sell the business. In the event the business was sold to Armenilla Pty Ltd which acquired the shares in Phoenix held by Goodwill and Two Gables. Goodwill recovered $450,000 from the sale as did Two Gables. According to Cooper's evidence the loss suffered by Goodwill was calculated as follows:

$3,150,000 for K class shares plus
$5,350 for ordinary shares plus
$10,655.42 for legal fees. Offset against this was $250,000 contributed by Two Gables and $450,000 recovered on the sale of Phoenix. The total loss was $2,466.005.42. Applicant's Evidence - Secret Commissions Admitted - Late 1999 97 Cooper's evidence was that late in 1999 or early 2000 he confronted Berry about his conduct. He said he had a conversation with Berry in which he accused him of having been paid a secret commission by Steven Pongrass to sell the business. He put to Berry that his bank records would show that he received money from Pongrass. Berry said they would show that. According to Cooper, he said to Berry: "And I'll bet he paid it to you about the same time we bought the business didn't he?" Berry admitted this. Cooper also put to Berry that a year later, Pongrass had given him more money when the $850,000 instalment was paid. Berry said Pongrass paid him about $40,000 for a car but there was nothing improper about it. Cooper asked Berry whether he had received any more money from Pongrass. He said Berry did not respond. He said Berry has never denied to him that Pongrass paid him a secret commission for his part in selling the business. He said Berry then offered him his Rolex watch which was a Christmas present he had given him at the end of 1996, but he refused to take it. Applicant's Evidence - Cooper's Reliance on Projected Profits 98 An affidavit sworn by Cooper on 21 May 2001 referred to his affidavit of 17 May 2001 and said: "The applicant made a decision to acquire shares in Phoenix Leisure Group Pty Ltd ("Phoenix") with the intention that the capital injected into that company would be used to acquire stock from the first to fourth respondents. That decision was made in reliance upon various representations made by or on behalf of the first to fourth respondents which were to the cumulative effect that the purchase of stock at valuation would enable Phoenix to make an annual profit of between $1,100,000 and $1,300,000. The applicant relied on those projected profits. In the event, the failure of Phoenix to achieve the projected profits necessitated the injection of funds over and above those originally contemplated by the applicant. If the applicant had been aware of the true position I would not have allowed the applicant to proceed with the purchase from the first to fourth respondents." Further affidavit evidence in support of the applicant's case was sworn by Brian Ferguson on 22 May. He became financial controller of Goodwill Group in March 1998. It was his responsibility to maintain all the financial records of the Cooper Investment Trust Group of Companies and to ensure that all statutory accounts and tax returns were prepared and filed on behalf of the Group. He exhibited to his affidavit various documents relating to the purchase of shares by the Goodwill Group in Phoenix and various other documents concerned with payments made in respect of the acquisition of those shares and other documents which it is not necessary to detail here. Applicant's Evidence - Expert Report on Historical Profits 99 The applicant also filed an affidavit of Darryl Swindells, a director of HLB Mann Judd (NSW) Pty Ltd, sworn on 21 May. Annexed to that affidavit was a copy of a report prepared by him. He identified errors in the Bancorp Report and the Alternative Report including overstatement in the Bancorp Report of the 1994 and 1995 Pongrass group profit figures and in the Alternative Report of the Casa Alpina and Mountain Leisure profits. The 1994 Casa Alpina profit was understated by $80,374. Financial statements of the relevant companies set out in the Reports did not show EBIT, they showed operating profit before tax. Some of the EBIT calculations in the Reports had included mathematical errors. He had corrected these errors. Overall he stated: "The above table shows that in almost all cases the information provided to Goodwill in the Bancorp Report and in the Alternative Report overstated the historical profits of the companies in the Pongrass Group."

[22]

Whether the Application Stands Dismissed for Want of Compliance with the Springing Order of 1 May 2001 100 The terms of the springing order were: "The Applicant's evidence (for the purpose of the hearing of the application) be put on by 25 May 2001 in default of which the application will stand dismissed with costs." At the time the order was made, the applicant's pleaded case was (and indeed still is) as set out in its amended statement of claim filed on 19 May 2000. The applicant there claimed to have acquired its shares in Phoenix both initially in 1996 and later in the period October 1996 to January 1997, in reliance upon the Asset Sale Agreement and upon the representations of Berry and Kensey (par 7). Paragraphs 8 and 9 of the amended statement of claim assert: "8. It was a term and condition of the Asset Sale Agreement that the assets the subject of the sale were valued at $6,955,875 being the stipulated purchase price calculated on the basis of, inter alia, represented levels of stock and value of stock as set out therein. PARTICULARS SCHEDULE 1 OF THE ASSET SALE AGREEMENT 9. Further, the Respondents and in particular the Sixth and Seventh Respondents represented to the Applicant that the levels of stock so specified were not obsolete stock and could achieve certain specified earnings generated from potential sales." Paragraph 10, pleads by way of falsification, essentially the negative of the representations as to value and obsolescence pleaded in pars 8 and 9. The representations are attributed to all the corporate respondents although it does not appear from the pleading how the oral representations relied upon are attributed to Pongrass Associates and Pongrass Investments. And although it is alleged that Steven Pongrass was knowingly concerned in the conduct complained of, it is not apparent from the pleading how this was so. 101 Order 10 r 7 of the Federal Court Rules provides that where a party fails to comply with an order of the Court directing that party to take a step in the proceeding, any other party may move the Court on notice, if the party in default is an applicant, for an order that the proceeding be stayed or dismissed as to the whole or any part of the relief claimed in the proceeding. Alternatively, the Court may be moved for an order that the step in the proceeding be taken within a time limited by Court order. There is a discretion in the Court under O 10 r 7(2) to make an order of the kind mentioned in O 10 r 7(1) or any other order or to give such directions and specify such consequences for non-compliance with the order as the Court thinks just. Within this framework the Court may make a self-executing order of the kind made by Katz J on 1 May 2001. The present case is not concerned with the appropriateness of that order, but with its operation. 102 The summary dismissal of a proceeding for non-compliance with directions is a drastic measure, particularly where, as in this case, it would raise the real possibility that a cause of action relied upon would thereafter be statute barred - see s 82 Trade Practices Act 1974 (Cth). Where compliance requires, as in this case, filing of the applicant's evidence, the failure to file anything at all would have the clear consequence that the application would stand dismissed. Where the evidence filed could be characterised as so incomplete in material respects as to be a derisory or colourable compliance then again there would be little difficulty in concluding that the self-executing order had not been complied with and that the application stood dismissed. 103 The Court does have power to extend the time for compliance with a self-executing order - O 3 r 3(1). In FAI General Insurance Co Ltd v Southern Cross Exploration NL (1988) 165 CLR 268, the High Court held, in relation to a like provision of the Supreme Court Rules 1970 (NSW), that time for compliance with a self-executing order could be extended even though that time had passed. Wilson J said of the almost identical words in Pt 2 r 3 of the Supreme Court Rules: "It is a remedial provision which confers on a court a broad power to relieve against injustice. The discretion so conferred is not readily to be limited by judicial fiat. The fact that it manifestly is a power to be exercised with caution and, in the case of conditional orders, with due regard to the public policy centred in the finality of litigation does not warrant an arbitrary limitation of the power itself, not expressed in the words of the Rule, so as to deny its capacity to apply to circumstances such as those which are to be found in the present case. It would be wrong to so read the Rule as to deny a court power to prevent injustice in circumstances where the party subject to a conditional order ought to be excused from non-compliance." (283-284 (Brennan, Deane and Dawson JJ agreeing)) 104 There is no application before the Court for an extension of time for compliance with the order of 1 May 2001 but that does not preclude the Court from considering that option if, for example, it were to hold that there had not been substantial compliance and that it were desirable that the matter be reprogrammed to trial with the applicant being given leave to amend its pleading (as it now seeks to do) and to file further evidence in relation thereto. The question whether any such step should be taken would raise considerations of the kind which arise on a motion for dismissal under O 10 r 7 where there has been no self-executing order but the fact of the default is relied upon. In this case the respondents' motion for summary dismissal seeks, inter alia, dismissal for default pursuant to O 10 r 7 as well as summary dismissal pursuant to O 20. 105 Within the general framework outlined above it is necessary first to consider whether there has been substantial compliance with the order of 1 May 2001. If there has been non-compliance in certain respects, eg in the failure to put on any evidence relevant to the pleaded case against a particular respondent, then the question would arise whether, notwithstanding that the application as a whole should not be dismissed, it should be dismissed as against that respondent. 106 In considering whether an action should stand dismissed without extension of time pursuant to a self-executing order or otherwise be dismissed under O 10 r 7, there is a number of relevant factors to be considered including:

The seriousness of the non-compliance.
The reason for the non-compliance.
The history of delay or breach of orders in the past on the part of the applicant.
Any prejudice to the applicant arising from the dismissal of the proceedings.
Any prejudice to the respondents from permitting the proceedings to continue.
The authority of the Court. The question whether the particular order of 1 May 2001, has been obeyed also requires an evaluative judgment. That judgment must be informed by the proposition that the Court will not lightly deny a party a trial for failure to meet a procedural requirement. There must be a realistic appreciation that in complying with this particular order, it could not be expected that the filing of evidence by the applicant would, as it were, capture its case in amber. There may be witnesses to be called who are not prepared to swear affidavits and who would be required to produce documents or give testimony under subpoena. There must also be retained a degree of flexibility which will allow the matters in dispute in the case to be brought into sharper focus, the real issues identified and false issues discarded. Litigation is a dynamic process and the rules and directions under which it is managed must be able to accommodate that reality. On the other hand, where there is a history of failure to obey the Court's orders there may be a more rigorous approach to the minimum requirements of a self-executing order. 107 Counsel for the applicant submitted that in motions of the kind made by the respondent under O 10 r 7 and O 20 r 2 evidence should not be led except in so far as necessary to explain the proceedings or to demonstrate, by reference to other circumstances, that the applicant's case is hopeless. He further submitted that the use of affidavits as they presently stand to demonstrate insufficiency of evidence to establish the facts pleaded, clearly falls outside those permitted exceptions. This, it was said, is especially so when proposed changes in the pleadings make it necessary to file additional affidavits notwithstanding a variation of self-executing orders may be required. These broad propositions may be accepted in so far as they require recognition of the practical realities of litigation. The question of compliance with the order of 1 May 2001 must nevertheless be approached by considering the content of the evidence filed against the applicant's case as pleaded. Generally speaking the evidence filed by the applicant, like the amended statement of claim which it seeks to support, has the indicia of a rush job. It comprises discursive affidavit material and associated documentation which encompasses an extensive penumbra of facts extending well beyond what is pleaded. It comprises inadmissible material embodying, inter alia, argumentative and conclusionary statements which are evidence of nothing except the deponent's lay opinion or his ability to read documents. There is little evidence of any serious attempt to confine the evidence to what is relevant to the pleaded case such as it is. On the other hand, it is difficult to imagine that the evidence could be exhaustive of that which the applicant would need to adduce in any forensically realistic way to make its case at trial. I do not say that this necessarily reflects upon the applicant's solicitors for they appear to have experienced significant difficulty in getting timely instructions from Cooper. 108 The core of the applicant's case as pleaded is to be found in pars 7 to 10 of the amended statement of claim as it presently stands. Paragraphs 8 and 9 identify the representations relied upon and par 10 the facts by reason of which they are said to be false. 109 It is convenient, in this context, to deal with a submission made by counsel for the respondents in relation to par 8. It was made under the rubric of the O 20 argument for dismissal for failure to state a reasonable cause of action. On that submission the matters referred to in par 8 of the amended statement of claim are not representational. The paragraph particularises representations as to the value of the assets sold entirely by reference to Schedule 1 of the Asset Sale Agreement. That Schedule must be read with cl 3.2 of the Asset Sale Agreement which provides: "The value of the Assets and each constituent item thereof are agreed to be the amounts respectively set out in the Schedules and the Inventory." Reading par 8 by reference to the content of Schedule 1 and generously, by reference to cl 3.2 of the Asset Sale Agreement, does not yield any representation as to levels or value of stock. There is an agreement as to value, the allocation of which, between various components of the assets being sold, could be attributable to a number of considerations. While the values that are attributed to stock in the Agreement might conceivably be evidence of anterior representations, they are not in themselves representational. Paragraph 8 of the statement of claim therefore provides no basis for a cause of action dependent upon misrepresentation. That is to say it provides no basis for a cause of action in misleading or deceptive conduct or negligent misstatement or any other cause of action pleaded in the statement of claim. It would stand to be struck out pursuant to O 11 r 16(a). 110 In relation to par 9 as it presently stands, the relevant representations are:

[23]

Whether the Application Should be Dismissed Under Order 20 Pursuant to the Respondents' Amended Motion of 12 July 2001 117 As emerged in the hearing before Katz J the respondents, notwithstanding the terms of their motions for summary dismissal rely upon all available grounds under O 20 r 2. As might be expected, counsel for the applicant properly drew the Court's attention to the high threshold which the law sets for the summary dismissal of a proceeding whether on the basis of defective pleadings or otherwise. Without traversing all the authorities cited, it may be accepted that a case must be shown to be manifestly untenable before it can be struck out or dismissed on the basis that, as pleaded, it does not disclose a reasonable cause of action or is otherwise frivolous or vexatious. It may of course be the case that by reference to the pleadings and/or evidence it can be shown "that in relation to the proceeding generally or in relation to any claim for relief in the proceeding" no reasonable cause of action is disclosed, the proceeding is frivolous or vexatious or is an abuse of process of the Court. As already indicated, I do not consider that par 8 of the statement of claim discloses any reasonable cause of action against anybody in the case. 118 The evidence filed by the applicant pursuant to the order of 1 May 2001 discloses no case against Pongrass consonant with the pleading. It is difficult to see how the pleading itself discloses any cause of action against him. The representations in par 9 are alleged against "… in particular the sixth and seventh respondents" and Pongrass was said to be "knowingly concerned in them". But at the hearing before Katz J on 26 July 2001 counsel for the applicant disclaimed any reliance upon knowledge of falsity on the part of any of the respondents in connection with the pleading of knowing concern under s 75B. On the basis of the material thus far considered, I would dismiss the proceedings in so far as they relate to Pongrass. At this stage however it is necessary to have regard to the proposed further amended statement of claim. In this document the original pleading has undergone major surgery. 119 In the proposed further amended statement of claim a new par 6 is introduced by which it is asserted that each of Pongrass, Berry and Kensey was in a position to control and/or influence the conduct of each of the corporate respondents in or about the events leading up to the acquisition of the shares. After pleading the Asset Sale Agreement (par 7) and the acquisition of shares in Phoenix by Goodwill (par 8) there is a new par 9 which is in the following terms: "Immediately prior to the acquisition of the shares by the Applicant the Respondents ought reasonably have been aware that the Applicant, its officers (other than the Sixth and Seventh Respondents) and agents had no experience in or, knowledge of the business being acquired namely, a ski/camping and outdoor equipment business ("the business") and the Respondents ought reasonably have known that the Applicant, its offers and agents were relying on the accuracy of the information provided by, or on behalf of, the Respondents when deciding to acquire the said shares in the Purchaser. PARTICULARS (a) The Respondents' knowledge of the industry and its participants. (b) Conversations between Rodney Adler and Bradley David Cooper on behalf of the Applicant and the Fifth to Seventh Respondents on behalf of the Respondents at various times during the course of negotiations leading up to the acquisition of the shares." (Doc 72A) Paragraph 10 is in the terms of the old par 8 and as indicated earlier, in my opinion, discloses no reasonable cause of action. Paragraph 11 is the old par 9 recast as follows: "Further, the Respondents represented to the Applicant that the levels of stock so specified were not obsolete stock and that if the stock of the First, Second, Third and Fourth Respondents was to be purchased by the Applicant and/or the Purchaser or any prospective purchaser, the business to be conducted by any such purchaser would achieve earnings before interest and tax of between $1,100,000 and $1,300,000 per annum generated from potential sales ("the Stock/Profitability Representations"). The Stock/Profitability Representations were made by the Respondents expressly and/or, by silence. The Respondents had a duty to disclose that the stock was or, was about to become obsolete and that the business could not achieve earnings before interest and tax, generated from potential sales, of between $1,100,000 and $1,300,000 per annum as represented. PARTICULARS (a) Information Memorandum on Pongrass Leisure Group of Companies dated February 1996 ("the Bancorp Report") commissioned by the Fifth Respondent on behalf of the First to Fourth Respondents in or about November 1995. (b) A report prepared by the Sixth and Seventh Respondents in early 1996 ("the Alternative Report"). (c) Representations made by the Sixth Respondent on behalf of the Respondents to Bradley David Cooper and/or Rodney Adler on several occasions between January 1996 and June 1996. (d) Representations made by the Respondents to Bradley David Cooper and Rodney Adler in a letter dated 1 May 1996 from the Sixth and Seventh Respondents to Rodney Adler and the enclosed document titled "Why Rodney Adler and Brad Cooper should do the deal with Stephen Berry and Peter Kensey". (e) Undated document titled "Briefing Notes" prepared by the Sixth Respondent and handed to Bradley David Cooper to assist him in negotiations with Stephen Pongrass. (sic) (f) Representations by Stephen Pongrass (sic) to Bradley David Cooper in or about April 1996 to the effect that the businesses and/or stock proposed to be sold by the First to the Fourth Respondents was being sold on terms which were cheap in comparison to their true worth. (g) In clause 3.2 of the asset sale agreement, the First to Fourth Respondents represented that the items set out in the schedules thereto and the inventory had a true value aggregating $6,955,875. (h) The asset sale agreement taken as a whole and, in particular, by reference to clause 4.1 thereof amounts to a representation by silence that the stock being sold by the First to Fourth Respondents could be resold in the ordinary course of business so as to give rise to future annual earnings before interest and tax of between $1,100,000 and $1,300,000. (i) The covenants made by the Sixth and Seventh Respondents in deed made on 2 July 1996 between the Sixth and Seventh Respondents on the one part and the Purchaser, Two Gables Pty Ltd and Cervale Pty Ltd (now the applicant) of the other part, namely: Clause 2.2 provided: "The projections have been prepared in a manner consistent with applicable accounting standards and practices required by the Corporations Law and the statements of accounting standards issued by or on behalf of the Australian Society of Accountants, the Institute of Chartered Accountants and the Accounting Standards Review Board." Clause 2.3 provided: "The Stock and Stock on Order are or will be of merchantable quality." Clause 2.4 provided: "None of the stock is obsolete." Clause 4 provided: "The covenantors acknowledge that Phoenix has relied on the warranties as an inducement to enter into the asset sale agreement and that the Investors have relied on the warranties as an inducement to subscribe for capital in Phoenix." (j) The knowledge of the Sixth and Seventh Respondents concerning the representations referred to in (i) was provided by the First to Fourth Respondents (see paragraph 5 of the defence of the Sixth Respondent to the amended statement of claim and paragraph 4 of the defence of the Seventh Respondent to the amended statement of claim). (k) Notwithstanding (i), the First to Fourth Respondents failed to disclose the falsity of the representations to the Applicant and those acting on behalf of the Applicant in circumstances where they had a duty of disclosure. (l) The Respondents knew that the stock included straight skis and that straight skis were soon to be made obsolete by parabolic skis." It is then asserted in par 12 that the various representations referred to in par 11, designated the Stock/Profitability Representations, were false. Section 51A is also invoked. The particulars of falsity of the old par 10 are expanded in the new par 12 to include: "(d) Overstatement in Bancorp Report of profits of the First to Fourth Respondents in 1994 by $881,799 and in 1995 by $607,821. (e) Overstatement in Alternative Report of profits by Casa Alpina Sports Pty Ltd in 1995 by $178,429. (f) Overstatement in Alternative Report of profits for Mountain Leisure Products Pty Ltd in 1994 by $594,009 and in 1995 by $55,514." 120 A new par 13 brings in an entirely new allegation thus: "Further, the Fifth, Sixth and Seventh Respondents failed to disclose to the Applicant that the Fifth Respondent had been taking cash out of the business and that the financial records pertaining to the business were inaccurate or incomplete in circumstances where they had a duty to disclose that information to the Applicant ("the Representations by Silence")." This is particularised by reference to the Bancorp Report which it is said did not disclose that the financial information contained in it was at variance with the annual accounts and tax returns relating to the companies. Thus the misleading or deceptive conduct relied upon now are the Stock/Profitability Representations and the Representations by Silence, each of which is said to have been misleading or deceptive in contravention of s 52 of the Trade Practices Act or s 42 of the Fair Trading Act as the case may be. 121 There is another new allegation in a new par 22 that Pongrass, Berry and Kensey, in causing The Goodwill Group to acquire shares in Phoenix engaged in conduct which was unconscionable in breach of s 43 of the Fair Trading Act. The balance of the amendments are relatively minor. 122 The aspect of the amendments that relates to the so called Representations by Silence is new. The other primary amendment relating to the Stock/Profitability Representations is, in substance, elaboration of the previously existing pleading albeit it puts the primary emphasis on representations as to profitability. In respect of the Representations by Silence so called, these are said to have been introduced following the late discovery in April 2001 of the tax returns of the Pongrass respondents. The amendment in one sense adds little to the representation in relation to profitability pleaded in the proposed new par 11 which representations are falsified by reference, inter alia, to overstatements in the Bancorp Report and the Alternative Report. 123 In determining whether the proposed amendments should be allowed, I have regard to but do not consider that I should be unduly influenced by the possibility that they may introduce a cause of action which is out of time. The Court may permit such an amendment pursuant to O 13 r 2(3) and 2(7). There is no doubt however that the amendment, generally speaking, puts a new focus on the case very late in the piece for reasons which are not really explained apart from the explanation proffered in relation to the alleged Representations by Silence. In my opinion, however, the amendment should be allowed save as against Pongrass. The action as against him should be dismissed. 124 In coming to the conclusion that the action against Pongrass should be dismissed pursuant to O 20 I have regard to: 1. The history of the proceedings including their late initiation and late service upon Pongrass and the repeated delays caused by the applicant's non-compliance with Court timetables, failure in no small part attributable to the unavailability of Cooper to give instructions to his solicitor. 2. Primarily the failure of the applicant to file evidence in response to the order of 1 May 2001 disclosing a case against Pongrass. 3. The prejudice suffered by Pongrass through his continuing involvement in the litigation. 4. The lateness of the attempted construction of a new case against him. The application against Pongrass as presently pleaded, and having regard to the proposed evidence against him, discloses no reasonable cause of action and is frivolous and vexatious. I will not permit an amendment to be made in order that a case may now be constructed against him. 125 I do consider that there is the possibility of an arguable case on the statement of claim as presently pleaded against the corporate respondents and Berry and Kensey. That is not to make any comment upon the strength of the case. The order of 1 May 2001 having, in my opinion, being complied with so far as they are concerned. I will allow the statement of claim to be further amended in relation to those respondents. The applicant will have to pay costs thrown away by reason of the amendment in any event.

[24]

Security for Costs 126 It is not really in dispute that there should be additional security for costs provided by the applicant. These are sought in the amount of $150,000 by the first, second, fourth and fifth respondents in their motion filed on 19 September 2001. The fifth respondent will of course fall out of the picture now so that no security will be ordered in relation to him. Additional security is also claimed in the sum of $150,000 for the costs of Berry and Kensey pursuant to their amended motion of 10 October 2001. 127 In relation to the first, second, fourth and fifth respondents, security for costs in the sum of $80,000 was lodged with the Court on 2 November 2000 pursuant to the order of Katz J made on 3 August 2000. According to the affidavit of Jarvin, their solicitor, their legal costs incurred up to and including the part hearing of the motions on 26 July 2001, amounted to $85,455. On the assumption that the proposed amendments to the amended statement of claim would be allowed, Jarvin estimated that costs incurred by these respondents up to and including the hearing would amount to $144,700. This was broken down into solicitors' costs of $82,200, counsels' fees of $52,500 and expert witness fees of $10,000. 128 I do not accept that the costs incurred thus far for these respondents and the prospective costs as estimated by Jarvin necessarily reflect the costs recoverable as between party and party. Nor do I accept that security for costs must necessarily provide a complete indemnity against prospective party and party costs. I also have regard to the fact that Pongrass who will have a costs order to his benefit arising out of the dismissal of the action, sshould have the right, if it be necessary, to access at least part of the security in order to recover the costs ordered in his favour. In the circumstances, I propose to direct that there be additional security for costs in the sum of $80,000 with liberty to apply, prior to trial, for further security. 129 In relation to the security for costs sought by Messrs. Berry and Kensey, they have already had the benefit of a bank guarantee in the amount of $70,000. This was lodged on 14 November 2000. As at 19 September 2001 their solicitors had rendered costs of $51,521.50 and the fees of senior and junior counsel were $18,067.50. Their solicitor, Price, estimated costs up to but not including the first day of trial at $101,805. Costs at trial are estimated at $62,750. Breakups of these estimates are given. Again, I do not accept that all of the costs charged to date or estimated would be recoverable on a taxation as between party and party or that the security should provide a full indemnity. In my opinion, however, it is appropriate again that further security be ordered in the sum of $80,000. There will be liberty to apply prior to trial for further security if that can be justified.

[25]

Conclusion 130 For the preceding reasons the following orders will be made: A. On the respondents' amended notice of motion filed 12 July 2001 seeking dismissal of the application: 1. The application is dismissed as against the Fifth Respondent. 2. The Applicant is to pay the costs of the Fifth Respondent as taxed or agreed. 3. The motion is otherwise dismissed. 4. The costs of the motion as against the remaining respondents are the applicant's costs in the proceedings. B. On the First, Second, Fourth and Fifth Respondents' Motion filed 19 September 2001 for security for costs: 1. The Applicant is, on or before 24 October 2002, to provide security for the costs of the First, Second and Fourth Respondents of and incidental to these proceedings in the amount of $80,000 by way of bank guarantee to be deposited with the District Registrar at the New South Wales Registry of the Court or in such other form as is agreed between the parties, such security to be in addition to the security given by the Applicant pursuant to the order of Katz J made on 3 August 2000. 2. The costs of the motion be in the cause. C. On the Sixth and Seventh Respondents' amended motion for security of costs filed 10 October 2001: 1. The Applicant is, on or before 24 October 2002, to provide security for the costs of the Sixth and Seventh Respondents of and incidental to these proceedings in the amount of $80,000 by way of bank guarantee to be deposited with the District Registrar at the New South Wales Registry of the Court or otherwise in such form as is agreed between the parties, such security to be in addition to the security given by the Applicant pursuant to the order of Katz J made on 3 August 2000. 2. The costs of the motion be in the cause. D. Further Amended Statement of Claim: 1. The Applicant has leave to amend its statement of claim in the terms of the further amended statement of claim filed in Court on 6 September 2001. 2. The Applicant is to pay the Respondents' costs thrown away by reason of the amendment. 3. Amended Defences are to be filed and served by 7 November 2002. E. Directions 1. The parties are at liberty to apply for further and consequential directions. 2. The matter will be listed for further directions on 29 November 2002 at 9am EST with a view to programming to trial and fixing provisional trial dates. 3. At the relisted directions hearing the parties are to be aware of the availability of counsel and witnesses and be in a position to provide reliable estimates of time for trial on the basis that the matter may be listed for trial in March or April 2003.

That the stock specified in the Asset Sale Agreement was not obsolete. (This disregards, in favour of the applicant, the illogical reference to "levels of stock" as "not obsolete stock").
That the stock specified in the Asset Sale Agreement could achieve certain specified earnings generated from potential sales. As to the first representation, there is evidence in Whittaker's affidavit of a statement by Berry that Phoenix would not be purchasing any of the old stock from Pongrass and that any stock they did not think they could move they would purchase at a reduced price and sell immediately to realise cash. On Whittaker's evidence this was a consideration which affected his assessment of the business. The existence of obsolete stock would affect the cashflows and funding. If the stock did not sell it would be more difficult to utilise the funding facility. 111 There is an obvious question whether Whittaker's report played any part in the decision taken by Cooper and Adler to invest in the business. Whittaker did not give the business a great review. On Whittaker's advice, according to the applicant's evidence, Cooper said they were not going to buy the business. Similarly Adler, according to his evidence, after receiving Whittaker's report, told Cooper he was not interested in putting money into the business. However he would stand behind him and be his partner in an informal sense. There was other evidence that gives rise to a question about the effect of Berry's alleged representation to Whittaker. That emerges from Cooper's account of his conversation with Berry about stock and the price of stock. According to Cooper, Berry told him they were getting stock at a very written down price and that there was some old camping equipment "which you couldn't give away, like jaffle irons and old BBQs". 112 There does not appear to be any evidence of a direct representation to Cooper or Adler that the stock was not obsolete. Nevertheless there is evidence, so far as it goes to implicate Berry in a representation of the kind alleged. There does not appear to be evidence which directly implicates Kensey in the making of a representation about obsolescence. There is no evidence to implicate Pongrassas making or being knowingly concerned in the making of such a representation. So far as the first alleged representation is concerned therefore, there does not appear to have been filed evidence which touches the position of the fifth and seventh respondents. The question whether, and to what extent, Berry's representations are attributable to the first and second respondents may be debatable and in part a question of law. 113 Evidence as to the actual obsolescence of the stock is confined to a letter of 19 May 1997 sent by Berry and Kensey to the National Australia Bank and Gale's personal observation based upon his inspection in 1999 and his experience as a skier. The case thus disclosed suggests that evidence as to the state and extent of the relevant stock is far from complete. That however is not a basis upon which a finding of non-compliance with the order of 1 May 2001, in whole or in part, should be made. 114 The second representation in par 9 as it presently stands is that the level of stock "… could achieve specified earnings generated from potential sales". There was evidence of statements contained in a letter from Berry and Kensey to Adler dated 6 May 1996 that ex-stock inventory had been pre-sold for delivery to stores in May and June 1996 which would increase net profit before tax over the eight week period to $1.3 million. While the pleading of the representation is somewhat uncertain in time and place, it cannot be said that the evidence does not relate to it albeit it leaves open obvious questions about the extent to which the representations were relevant to the post-acquisition period and the extent therefore to which they were relied upon and were causative of loss to the applicant. Again, there is nothing to implicate Pongrass in making such a representation or being knowingly concerned in its making. 115 The evidence of the applicant otherwise covers other matters pleaded including the corporate identities, the functions of the respondents with respect to them, the acquisition and the losses eventually said to have been suffered by the applicant. In my opinion therefore, the applicant has complied with the order of 1 May 2001 in relation to its case against Berry and Kensey and Pongrass respondents other than Steven Pongrass himself. That much being said, the linkage to the responsibility of the corporate respondents is not particularly clear albeit reliance is placed upon s 84 of the Trade Practices Act in relation to the claims of contravention of that Act. 116 In my opinion, the applicant has done enough, in filing evidence which puts in case in part, to avoid dismissal of the application pursuant to the order of 1 May 2001. It has failed however to put on evidence which could reasonably support the pleaded case against Steven Pongrass. The fate of the claim against him therefore falls to be considered in the light of O 20 which is also invoked by the respondents in support of summary dismissal of the proceedings.

At a glance

Court

Decision date

Before

Source

Judgment (34 paragraphs)

Parties

Legislation Cited (4)

Cases Cited (1)