Smart Company Pty Ltd v Clipsal Australia Pty Ltd

THE RESPONDENTS' CONTENTIONS 32 The respondents submitted that on an application for further security for costs: 1. the Court's discretion to make further order for security for costs will be enlivened if it appears by credible testimony that there is reason to believe that the applicant will be unable to pay the costs of the respondents if successful; 2. in light of the applicant's conduct of its case, the evidence respecting costs that have been incurred since the October 2006 orders, and the costs that will likely be incurred before trial in this matter, the Court ought to exercise its discretion by making a further order for security for costs. They claim that there has been a material change in circumstances since the October 2006 orders; and 3. the appropriate order is that the applicant pay into the Court or procure bank guarantees to the value of $500,000. 33 In support of the first point the respondents contend that the applicant will be unable to pay the costs of the respondents if successful, because: 1. the applicant conceded on the previous application for security for costs which led to the order of 6 October 2006 that the threshold question for the operation of s 1335(1) of the Corporations Act, had been met even though the applicant now contends that the threshold test has not been met; 2. the applicant also has other proceedings which have been brought against it; 3. the applicant's net assets are comprised of assets which are difficult to value and the values it puts upon its assets is questionable; and 4. the applicant's financial accounts do not indicate any reliable source of revenue. 34 In support of the second point that there has been a material change in the proceeding since the last order for security for costs was made in October 2006, the respondents relied upon three matters: 1. the proceedings have been significantly delayed and, the proceedings are now, in mid-2009, no further progressed than they were in mid-2006; 2. since October 2006 the respondents have incurred significant costs; 3. because of significant amendments to the applicant's case the respondents' preparation for trial will need to be more extensive. 35 In relation to the third point and the amount claimed for security for costs the respondents contend that since 22 February 2006, its party and party costs are in the order of $900,000, and it will incur further party and party costs in the order of $1,500,000 in preparing the matter for trial. However the respondents say that taking a conservative approach provision of further security in the amount of $500,000 by way of bank guarantee, or by payment into Court should be ordered.

THE APPLICANT'S CONTENTIONS 36 The applicant acknowledged that at the hearing of the previous application for security (October 2006) that it accepted it might not be able to pay the respondents' costs if an order were made in the respondents' favour. However, on this application the applicant contends that its circumstances have changed such that now the Court can no longer find that the applicant is not in a position to meet the respondents' costs if the applicant's claim was unsuccessful. 37 The applicant contended that the respondents, in order to succeed in this application must demonstrate: 1. that there is reason to believe that the applicant will be unable to pay the costs of the respondents if successful; 2. that there has been a material change in circumstances sufficient to warrant the provision of additional security; and 3. that in all the circumstances the Court's discretion ought to be exercised in favour of the grant of additional security. 38 The applicant has tendered evidence of its financial position to show that there is not credible testimony that the applicant could not pay the respondents' costs. It tendered financial statements for the financial years 2006, 2007 and 2008. It also relied upon evidence of Ms Tomazos who has been a director of the applicant since 2005, who said that the applicant's financial position has markedly improved since October 2006. The applicant submitted that its most recent balance sheet showed that the applicant's net assets were in the order of around $15-18 million. 39 The applicant took issue with the respondents' contention that the current proceeding has changed such as to warrant an award of further security. 40 The applicant relied upon the affidavit of a solicitor with experience in costs, Mr Ericson of 11 May 2009 that the quantum of costs was not such as to warrant the need for further security. In particular, the applicant submitted that the respondents' estimation of costs contained in the evidence of another solicitor experienced in costs, Mr Cogan was too high because: 1. the respondents erred in the method they used to calculate the costs; 2. the highest rates for the National Guide to Counsel Fees were adopted, rather than using the local market rate for counsel fees in South Australia; and 3. an over estimation as to time and resources required in the preparation of a trial had been used.

APPLICATION UNDER SECTION 1335 41 The application for further security for costs is brought under s 1335(1) of the Corporations Act 2001 (Cth) (Corporations Act): Where a corporation is plaintiff in any action or other legal proceeding, the court having jurisdiction in the matter may, if it appears by credible testimony that there is reason to believe that the corporation will be unable to pay the costs of the defendant if successful in his, her or its defence, require sufficient security to be given for those costs and stay all proceedings until the security is given. 42 Section 1335(1) assumes that the proceeding under consideration will go to trial and that the applicant's claim will fail. However to enliven s 1335(1) the respondents must establish that there is credible testimony which establishes that there is reason to believe that the applicant will be unable to pay the costs of the successful respondents. This has been described as the threshold condition for the exercise of the discretion in the exercise of the power given to the Court in s 1335(1). In Beach Petroleum NL v Johnson (1992) 7 ACSR 203 at 205 von Doussa J identified the test: In my opinion the power of the court under s 1335 arises if credible evidence establishes that there is reason to believe there is a real chance that in events which can fairly be described as reasonably possible the plaintiff corporation will be unable to pay the costs of the defendant on service of the allocatur, if judgment goes against it. This will be so even if in other events which can also be described as reasonably possible the plaintiff corporation would be able to pay the costs. The degree of likelihood of the plaintiff corporation being unable to pay the costs along with all the circumstances, actual and possible, about its financial position, would be then taken into account in the exercise of discretion, and in framing the orders of the court if the decision is to order security. 43 However in Livingspring Pty Ltd v Kliger Partners (2008) 66 ACSR 455 the Court of Appeal in Victoria warned against the adoption of a test different from the test posed by the statute. The test it said was, "[i]s there reason to believe that the corporation will be unable to pay the defendant's costs?": Livingspring Pty Ltd 66 ACSR 455 at 459. The Court of Appeal was right in my opinion to return to the wording of the statute to identify the statutory test. The words of the statute must govern the exercise of the power, not like words or any restatement of the statute: Central Bayside General Practice Association Ltd v Commissioner of State Revenue (2006) 228 CLR 168 at [84].

INABILITY TO PAY COSTS 44 The respondents complained of the applicant contending that the applicant was in a position to meet the respondents' costs if an order for costs were made. They wrote a long letter dated 2 June 2009 setting out why in the respondents' view the applicant was not entitled to maintain that stance. They argued in that letter as they did at the hearing that in view of the history of the matter the applicant was not entitled to claim that it could meet an order for costs. 45 The applicant did apparently concede in 2005 and again in 2006 that the respondents had made out the threshold test. The respondents pointed to the fact that the letter dated 2 June 2009 had not been responded to by the applicant, which might indicate that the applicant had not altered its position. 46 The respondents' contention that the applicant should not be entitled to change its position and claim on this application that its financial position has changed is with respect untenable. 47 The applicant was quite entitled on this application to adduce evidence that supported its now financial position showing that it could pay the respondents' costs if so ordered. 48 Whilst it had conceded the threshold test three years earlier, that did not prevent it at the hearing of this further application from contending that its current financial position meant that an order for security for costs should not be made. The respondents' righteous indignation at the applicant's stance in claiming on this application that the threshold test in s 1335 has not been made out is misconceived. The threshold test must be addressed by reference to the evidence concerning the applicant's financial position at the hearing. 49 The present directors of this applicant are Ms Tomazos, Mr Gerblich and Mr Clift. 50 Ms Tomazos swore four affidavits and was examined on them. She exhibited to an affidavit sworn on 2 June 2009 the respondents' tax returns for the financial years 2006, 2007 and 2008. Included in those tax returns are the respondents' financial statements. The 2008 balance sheet shows: Current Assets Cash $880,011 Receivables $249,012 Stock on Hand $970,000 $2,099,023 Non-Current Assets Property Plant & Equipment $2,277 Receivables Loans Unsecured $1,694,084 Intangible Assets ACMA Numbers $1,042 Intellectual Property $15,400,000 (less accumulated amortisation) ($750,000) $14,651,042 Total Non-Current Assets $16,347,403 Total Assets $18,446,426 Current Liabilities Creditors $52,945 Provision for Income Tax $19,245 Total Current Liabilities $72,190 Non-Current Liabilities Loans $73,050 Total Liabilities $145,240 Net Assets $18,301,186 51 The applicant earnt revenue in the financial year 2008 of $713,301 and incurred expenditure (including legal costs and disbursements of $274,574) of $712,078 as a result of which it made a net profit of $1,223. 52 The applicant's net assets were much the same in the financial year ending 2007. A feature of the 2007 financial year was revenue of $3,253,975 resulting in a $2,541,001 profit. Ms Tomazos said in her affidavit that an amount of $2 million was received in the 2009 financial year in licence fees. Ms Tomazos also said in her affidavit that the applicant expected to earn income in the 2010 financial year of in the order of $3.3 million whilst the budgeted expenses are $924,000 and the cost of goods $300,000 (given the stock on hand). 53 Three items in the applicant's assets need to be addressed. The figure of $880,011 has been deposited with the applicant's bankers to secure the bank guarantees which were given to satisfy the earlier order for security for costs. In those circumstances, that sum would not be available to satisfy any additional costs of the respondents. 54 The respondents do not accept that the unsecured loans included as non-current assets are recoverable. Those loans have been made to entities associated with or related to the applicant. The unsecured loans include a loan of $1,135,659 to Smart America. 55 The respondents have identified a number of proceedings in the District Court of South Australia, the South Australian Industrial Relations Court and the Supreme Court, in which former directors of the applicant and companies associated with the applicant, including Accordent Pty Ltd, which is one of the parties to whom a loan has been made by the applicant have been involved. It would appear from those proceedings that Accordent Pty Ltd, which owes $66,501 to the applicant, might be unable to repay that amount. None of the proceedings concern Smart America. 56 I am not in a position on this application to make a judgment on the recoverability of so much of the applicant's non-current assets which relate to loans from associated or related entities. The directors have included those loans in the financial statements of the applicant, including its balance sheet at the amount of the loan. The directors have an obligation to assess recoverability of the loans so it would appear that the directors are of the opinion that the loans are recoverable. That was Ms Tomazos' evidence in her cross-examination. 57 I am not prepared to hold as has been urged by the respondents that those non-current assets should be excluded. However they have been identified as non-current assets which would suggest that the directors do not expect the loans to be repaid within 12 months. In those circumstances, they would not be immediately available to satisfy an order for the respondents' costs if an order were made. 58 The third, and of course most important, asset which the respondents were not prepared to accept at the value indicated in the balance sheet is the intellectual property. 59 The directors have valued the intellectual property which consists of Domain names, Trademarks and a pending application for a patent at the amortised value of $14,651,042. The intellectual property is the applicant's primary asset. It appears from Ms Tomazos' cross-examination that the valuation was apparently adopted by previous management of the applicant in 1998, but continued by the current directors on the advice of the applicant's accountants. 60 The difficulty with adopting a valuation in 1998 as the valuation of the intellectual property of the applicant in 2008 is that the intellectual property in 2008 is quite different to the intellectual property that the applicant owned in 1998. 61 Ms Tomazos maintained that the applicant owned the Domain names even though a search of 'Who is' showed the owner of some of these names in Smart World Enterprises Pty Ltd (Smartworld). Smartworld has the same shareholders as the applicant. Enterprise Global Resources Pty Limited holds its shares in the applicant upon trust for the Smart Card Trust, the beneficiaries of which Ms Tomazos refused to identify because she did not have the beneficiaries' permission. She said there was an agreement in place between the applicant and Smartworld to that effect. She also said the applicant owned trademarks notwithstanding they were not registered and have not been used publicly. She agreed that the patent property has been filed in August 2007 and lapsed and refiled in February 2009. 62 Ms Tomazos agreed that the applicant had been into and come out of administration. As at 21 March 2006 it was not trading at all. She said that sometime after that date the applicant took over the trading activities of Smartworld. 63 The applicant was paid $3,077,000, which was included in the revenue for 2007 in relation to the sale of intellectual property in that financial year. A domain name was sold and an ongoing relationship arose with a third party. Ms Tomazos agreed that the sale of the domain name did not result in the directors revaluing the intellectual property to reflect the sale. 64 The respondents have urged me to disregard the directors' valuation of the intellectual property because of the unsatisfactory way in which the directors have approached their valuation of that intellectual property. 65 I must say that I have some reservations as to whether or not the amount included in the balance sheet as the value of the intellectual property has been arrived at after an appropriate valuation of that intellectual property. 66 I think, however, that the applicant does own intellectual property which has a value which would allow the applicant to include a sum in its balance sheet against intangible assets. I am simply not in a position to determine what that figure is. I think it is probable that the applicant's net assets are less than that stated on the balance sheet. However, I am not able to say how much less. 67 The applicant claims to have receivables of $249,012, stock on hand of $970,000, the unsecured loans and intellectual property with a value of $14,650,000. Whilst I am not confident that the applicant's assets are of that magnitude, I cannot find on the evidence available that the applicant would not be in a position to meet the respondents' costs if so ordered. I have to take into account in making that assessment that the respondents' costs have already been secured by the amount ordered on 3 October 2006. 68 In those circumstances, in my opinion, the respondents have not made out the threshold test that it appear by credible evidence that there is reason to believe that the corporation will be unable to pay the respondents' further costs if the respondents were successful. 69 For that reason alone, the application should be dismissed. 70 That would not lead, of course, to a discharge of the orders made on 3 October 2006 because I have assumed for the purpose of this application that that order will stand and that the respondents' costs are secured to the amount ordered at that time. 71 I will in case the respondents wish to take this application further address the other arguments that were advanced on the assumption that the threshold test had been satisfied. 72 On this hearing, the respondents led evidence from Mr Timothy Cogan, who is a solicitor in South Australia experienced in costs, estimating the respondents' further costs if the matter were to proceed to trial, but not the trial costs. He estimated those costs at $1,382,570. Subsequently, various adjustments were made to that figure but they are irrelevant for the purpose of the point I am about to make. The applicant on the other hand tendered evidence from Mr William Ericson, also a solicitor in South Australia experienced in costs. He estimated the respondents' further costs up to trial at $355,522. 73 Below is a table that summarises the differences in cost estimates for each item provided by Mr Cogan in his affidavit sworn on 15 April 2009, and Mr Ericson in his affidavit sworn on 11 May 2009. Mr Cogan Mr Ericson Respondents' Discovery Counsel Fees $19,250.00 $1,400.00 Respondents' Discovery Solicitors' Fees $119,390.00 $38,464.20 Applicant's Discovery Solicitors' Fees $39,796.80 $3,979.68 Applicant's Discover Counsel Fees $19,250.00 $0.00 Electronic Database $28,366.00 $0.00 Directions Hearing - Solicitor $9,949.70 $1,600.00 Directions Hearing - Counsel $19,250.00 $0.00 Interlocutory Hearing - Counsel $16,970.00 $10,950.00 Interlocutory Hearing - Solicitor $10,898.90 $3,233.49 Respondents' Witness Statement - Counsel $193,600.00 $9,800.00 Respondents' Witness Statement - Solicitor $119,390.90 $64,669.80 Expert Witness Statement - Counsel $78,712.00 $21,900.00 Expert Witness Statement - Solicitor $59,695.20 $7,461.90 Reviewing Applicant Information - Counsel $3,850.00 $1,200.00 Reviewing Applicant Information - Solicitor $11,939.04 $1,989.84 Reviewing Applicant Information - Experts $13,200.00 $4,400.00 Expert Witness Reports and Evidence $240,000.00 $102,300.00 Pre-trial Preparation - Counsel $149,125.00 $50,500.00 Pre-trial Preparation - Solicitor $198,989.00 $14,923.80 Document Reproduction $25,000.00 $16,750.00 Travel and Accommodation $5,948.00 $0.00 Total $1,382,570.54 $355,522.71

74 The difference in the methodology used to calculate these two estimates is largely explained by Mr Ericson in his two affidavits sworn on 11 May 2009 and 18 June 2009. The respective witnesses' use of the different methods in part explains the differences between the two estimates. 75 Mr Cogan came to his estimation using a lump sum basis approach, looking at costs in a broad sense, estimating the overall time and work it would take for the matter to proceed to the conclusion of a trial. He adopted that approach instead of a bottom-up assessment because otherwise the amount of work that would be required would be the same as producing a long form bill of costs. However he did accept that the lump sum basis approach was less accurate. Mr Cogan further noted that his estimation did not include the costs of: · Telephone attendances by clerical staff; · Engrossing documents; · Receiving and filing incoming letters; · Out of office allowances; and · Attendances by clerks to files documents to the Court. 76 Mr Ericson on the other hand was of the opinion that Mr Cogan had adopted an inappropriate method of ascertaining costs for the purposes of security for costs. Mr Ericson noted that the lump sum approach is used for calculating costs after the conclusion of a matter. For a calculation of costs on an application for security for costs the method that should be adopted should seek to arrive at a more conservative estimate of costs. On the information available, Mr Ericson was of the opinion that a "bottom-up" approach should be used, noting that the method used by Mr Cogan "may well grossly overstate the allowable party-party costs". 77 Mr Cogan's estimate of costs is more than three times Mr Ericson's estimate. It is difficult to think that two experts could reasonably come to such startlingly different estimates. 78 The difference between the two estimates is so great as to suspect that neither estimate can be relied upon. In my opinion, the respondents' costs are likely to be higher than Mr Ericson has estimated and lower than Mr Cogan has estimated. However, apart from that, I cannot put any meaningful estimate on those costs. However, I am not able on the evidence adduced to arrive at a more precise estimate of the respondents' costs to trial. 79 It has to be remembered that the consent orders of 3 October 2006 was predicated upon the basis of an estimate of the respondents' costs at that time to trial. 80 The respondents now claim that that estimate with which they then agreed is no longer appropriate for two reasons. First, because of the costs incurred by the respondents for the period between 12 June 2007 and the grant of leave to the applicant to file its fourth further amended statement of claim on 20 February 2008. Secondly, the respondents claim that the fourth further amended statement of claim is a larger claim than was contemplated in October 2006. 81 I accept that the parties entered into their agreement in relation to the consent orders of 3 October 2006 upon the mistaken assumption that the applicant's statement of claim would be in the form of the statement of claim which the applicant then relied upon. I accept that the respondents have been put to additional costs by reason of the applicant's inability to articulate its claim over the period which I have mentioned. That has been recognised in the orders for costs which I have already made. I was not, however, at that time that those orders were made, prepared to allow the respondents to tax their costs in advance of the proceeding ending. 82 Initially the parties were ordered to make discovery by category in relation to the third further amended statement of claim. However before discovery was made, arguments were advanced resulting in the redrafting of the applicant's statement of claim which resulted in the fourth further amended statement of claim. The respondents claim that the result of the filing of the fourth further amended statement of claim rendered the initial preparations for discovery wasted. 83 I have no doubt that the filing of the fourth further amended statement of claim did mean that the respondents had to revisit the work already done on discovery. However, I do not accept that all that had been done was wasted. I am not on the evidence available able to estimate the further costs incurred in relation to the respondents' discovery by reason of the filing of the fourth further amended statement of claim. 84 The respondents also claim that they ought to be entitled to further costs for the more complex litigation which is contemplated in the fourth further amended statement of claim. I am not persuaded that the matter has been so enlarged that the estimate made by the parties in October 2006 is no longer valid and if I had been disposed to make an order for security for costs I would not have allowed any further amount to cover a more complex proceeding. However, I would have, if I had found that the respondents had made out the threshold test, ordered the applicant to give security for the additional costs which have been incurred over the period to which I have referred. 85 However, for the reasons which I have given, I have reached the conclusion that the application should be dismissed. The respondents must pay the applicant's costs of the application. I certify that the preceding eighty-five (85) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Lander.

Counsel for the Applicant: Mr M Solomon with Mr L McCusker

Solicitor for the Applicant: Tindall Gask Bentley

Counsel for the Respondents: Mr R Cobden SC with Mr B Doyle