Telstra Corp Ltd v First Netcom Pty Ltd

REASONS FOR JUDGMENT 1 Previous judgments have outlined the facts of this matter. On 26 June 1997 First Netcom gave an undertaking to pay any damage suffered by Telstra in connection with and as a result of an interlocutory injunction then sought by and later granted to First Netcom to compel Telstra to continue to supply telecommunications services to First Netcom's customers even though First Netcom was not paying for the services. The injunction, made on 16 July 1997, was dissolved on 2 September 1997 and Telstra claims to have suffered damage in the period it continued to supply the services. On 12 March 1998 an expert accountant Roger Amos was appointed by the Court to produce a report on the losses sustained. For a variety of reasons Mr Amos has not yet been able to report, so by motion of 6 August 1999 Telstra sought an order, pending the report, for security for the damages Telstra says are likely to be ordered in due course in the order of $1.3 million. This amount was said to be or to include the cost of the unpaid calls made by First Netcom's customers in the period concerned. Pending the provision of the security, Telstra has sought an order restraining First Netcom from dealing with its assets otherwise than in the ordinary course of business. The motion also sought orders for further security for Telstra's costs of defending First Netcom's cross claim in the sum of $150,000 and the payment into Court of $125,000 for First Netcom's share of the expert's fees. This last sum has since been paid into Court and, I believe, paid out to Mr Amos but the expert process, delayed by the failure to pay this sum earlier, as was clearly agreed at the time the process commenced, and for other reasons, is still stalled and far from completion. 2 The argument on each side was simple. Telstra said that First Netcom was knowingly insolvent from the time it first sought the injunction, indeed from the time it commenced business with Telstra, and that its insolvency was the reason it was not paying Telstra's accounts. It said that First Netcom's claim not to be paying because it genuinely disputed the accounts was humbug and dishonest. First Netcom argued that it did not pay the accounts because Telstra owed it more than it owed Telstra and that its insolvency or impecuniosity was due to Telstra's conduct as set out in its cross claim. It said that the cross claim is serious and substantial and that the uniqueness and either lateness or prematurity of this application for security (depending on which part of the submissions is being read at the time) should give way to the cross claim's weight. 3 I do not accept First Netcom's contentions at all. As disclosed by the evidence, it has taken the quite untenable position that it could bill and collect from its customers the amounts charged for the services supplied by Telstra during the period in question but not pass on to Telstra even what it received in payment. It has not even set aside funds to cover, still less paid, the undisputed parts of Telstra's bills. I reject absolutely First Netcom's justification for this approach to its agreements with Telstra that it disputed in effect every or almost every bill from Telstra. Whatever the ultimate fate of the cross claim, First Netcom presented no evidence to support such an approach. The only source for its approval, as disclosed by the evidence, was an instruction to employees and consultants by its Chief Executive Officer Neil Macdonald. The disclosure that in the period of operation to 30 June 1996, before the current dispute, it had collected from its customers about half of what it had billed them which was twice what it had paid Telstra, and that what it had paid Telstra was about one quarter of $10 million worth of billed services, was very telling in this regard. So was the fact that the expected receipts from the cross claim were not recorded as an asset in First Netcom's last 2 balance sheets to 30 June 1998 and 1999 which do not even mention the matter, although it had been included and quantified in the 1996 and 1997 annual returns. 4 Despite some tortuous efforts by an accountant called by First Netcom, I do not doubt that the company is insolvent. Indeed the contrary was not seriously contested except in submission after the hearings. There is or appears to be a fairly stark inconsistency between the submissions of solvency and the suggestion made frequently in the case, both expressly and impliedly, that an order for security should not be made because First Netcom's inability to meet the order will abort the case. Insolvency means that the company cannot meet its liabilities, including its potential liabilities to Telstra, out of its assets which I believe is the position, and there was no evidence of any seriousness that it could access a source of off balance sheet funds to do so other than from or through Macdonald himself. His evidence on the subject was quite unconvincing. First, he strained to put forward a reading of the accounts and a quite unlikely reorganisation or reclassification of shareholder loans, especially of a company called Matloft Pty Ltd, that he said proved solvency. Whatever the truth of his evidence on these matters, it cannot and does not change the position that the company has a substantial deficiency of liabilities over assets running into several million dollars. Although it is not appropriate that the Court form a definitive view on the cross claim now - and it could not realistically do so - significant doubts arise at this stage that damages on the cross claim could make up that deficiency. While Telstra's defaults or defects as alleged in the cross claim may arguably have contributed to First Netcom's position, it is not possible to conclude that its insolvency was due to these failings. Second, Macdonald did not once offer to meet any liability of his company as a consequence of its undertaking as to damages. Third, his capacity to assist the company was in truth wholly or largely limited to bringing in equity partners. Why someone would want to invest in a company with the accounts put forward by First Netcom was not explained; who might do so was not proffered. 5 Telstra argued that instead of paying its bills, First Netcom applied its funds to meeting the liabilities of other companies in its group. There was evidence to support this contention but it is not necessary to make specific findings in this regard. According to the evidence, First Netcom's approach to Telstra's bills was quite deliberately not to pay because it was not or ought not to be required to pay. If this approach were justified, it would be free to use its funds in any other legal way it liked. The problem is that its attitude was quite unjustified, not because the cross claim argument may not be available and correct, but because a company acting bona fide in this regard would have presented a quite different picture both in its own accounts and in its handling of Telstra's accounts than was presented in these proceedings. 6 Although no case was cited as a precedent for doing so, I am satisfied that it is appropriate to order security and that there is jurisdiction to do so. The evidence presented by Telstra of its losses suggest a figure of around the $1.3 million sought. This figure would not be appropriate, however, because First Netcom's rate of recovery from its customers may only have been about 50% of what it billed, the inference apparently being that the other 50% were disputed by the customers. Telstra argued for a finding that by comparing other figures, a rate closer to 80% was collected. On the other hand, the cross claim covers the period in question here as well, and allowance must be made for its impact. The choice in these circumstances will always be difficult but I have chosen a little over 30% as a fair proportion of the amount claimed. Security is therefore to be provided in the sum of $400,000, $200,000 within 28 days and $200,000 within 21 days thereafter in a form and manner satisfactory to a Registrar. I grant a partial Mareva injunction on the basis of the evidence that the financial situation of First Netcom appears to be worsening and that there is a real risk that it otherwise might dissipate the funds it has. Until the first amount of security is provided, First Netcom is therefore ordered not to deal with its funds and other assets other than in the ordinary course of business. 7 As to Telstra's costs on the cross claim, an order for security in the sum of $90,000 was made on 31 October 1997. The possibility of further orders was contemplated at the time and I am satisfied on the evidence that a further order is appropriate at this time. There is no need to repeat what was said earlier about First Netcom's insolvency and its causes. Nor is it necessary to repeat the doubts I expressed in 1997 about the quantum of First Netcom's cross claim or what has been said at other times about the responsibilities of those behind the company who presumably stand to benefit from the cross claim's success. If they believe, as I accept, that the cross claim is serious, they should be prepared to back their belief with their financial support. In my view, a further amount of $50,000 is appropriate for security for Telstra's costs on the cross claim. This amount is to be secured to the satisfaction of a Registrar within 28 days. 8 The costs of Telstra's motion of 6 August 1999 will be paid by First Netcom. The costs may be taxed forthwith and are to be paid promptly after taxation. I certify that the preceding eight (8) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Marcus Einfeld.