FEDERAL COURT OF AUSTRALIA

PRACTICE AND PROCEDURE  - interlocutory proceeding- application for security for costs under sub-s. 1335(1) Corporations Law - whether “credible testimony” that corporation will be unable to pay the costs of respondents - insurance policy for legal costs - recoverability of loans - matters peculiarly within the knowledge of the applicant

Trade Practices Act 1974 s 46

Federal Court of Australia Act s 56

Corporations Law s 1335

Federal Court Rules o 28, o 14 r 9

Fencott & Associates Pty Ltd v Eretta Pty Ltd (1987) 16 FCR 497

Hunt Contracting Co Pty Ltd v Roebuck Resources NL (unreported Federal Court No. 521 of 1995, R.D. Nicholson J, 26 July 1995)

Warren Mitchell Pty Ltd v Aust Maritime Officers Union 12 ACSR 1

Regent’s Pty Ltd v Subaru (Aust) Pty Ltd (1996) ATPR 41-463

Keriswey Pty Ltd v Granny May’s Management Pty Ltd (unreported, Federal Court No. 295 of 1995, Olney J, 24 April 1995)

Jones v Dunkel (1958) 101 CLR 298

Gillies: Law of Evidence in Australia 2nd Edn

Cross on Evidence 5th Aust Edn, Butterworths 1996

REGENT’S PTY LTD  v  SUBARU (AUST) PTY LIMITED

WAG 150 of 1995

JUDGE:          R.D. FARRELL JR

PLACE:          PERTH

DATE:            12 JANUARY 1998

THE COURT ORDERS THAT:

1.    The application is dismissed

2.    The respondent pay the applicant’s costs of this application.

Note:             Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.

REASONS FOR INTERLOCUTORY DECISION

This is an application for security for costs. On 28 December 1995, the applicant brought a claim against the respondent alleging a breach of section 46 the Trade Practices Act 1974 andseeking an injunction and damages. An application for an interlocutory injunction was dismissed on 29 December 1995. The pleadings closed in mid-1996. On 25 July 1997 the matter was set down for trial before a Judge of this Court over nine days commencing on 9 February 1998.

The respondent filed a Notice of Motion on 16 December 1997 seeking an order that the applicant provide security for the respondent’s costs.

The interlocutory application has been referred to me for hearing and determination. It was first before me on 19 December 1997 but, due to the speed with which the matter was listed, doubts were raised as to the comprehensiveness of the affidavit evidence filed by the applicant in response to the interlocutory application. It was therefore agreed between the parties that the application be adjourned for further hearing on 9 January 1998.

Statutory Framework

The Court has power to order security for costs in these circumstances by reference to both section 56 of the Federal Court of Australia Act and Section 1335 of the Corporations Law. The rules governing such applications are set out in Order 28 of the Federal Court Rules.

Section 56 of the Federal Court of Australia Act provides that the Court may order an applicant in a proceeding in the Court to give security for the payment of costs that may be awarded against him. The section specifically provides that it does not affect the operation of any provision made under any other Act or by the Rules of Court in relation to the furnishing of security.

Section 1335 (1) of the Corporations Law provides:

“(1)     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 security is given”.

The Nature of the Discretion.

The discretion to make an order for security for costs is a wide and unfettered discretion to be exercised judicially according to how justice would best be served on the merits of each case without any particular predisposition: eg Fencott & Associates Pty Ltd v Eretta Pty Ltd (1987) 16 FCR 497 at 511; Hunt Contracting Co Pty Ltd v Roebuck Resources NL (unreported, Federal Court No. 521 of 1995, R.D. Nicholson J, 26 July 1995.

However, as French J noted in Fencott & Associates Pty Ltd v Eretta Pty Ltd at 504-5, in most cases the general power conferred by Section 56 of the Federal Court of Australia Act will be exercised the same way as would the special power conferred by Section 1335(1) of the Corporations Law where, as here, the facts are within the range of application of the special power.

The respondent acknowledges that the threshold issue is therefore whether it appears by credible testimony that there is reason to believe that the applicant will be unable to pay the respondent’s costs if the respondent is successful in its defence. Under the terms of Corporations Law, the discretion arises only in those circumstances. The respondent bears the burden of showing, by credible testimony, that those circumstances exist.

When considering the operation of Section 1335 of the Corporations Law, Lee J observed in Warren Mitchell Pty Ltd v Aust Maritime Officers Union 12 ACSR 1 that:

“...an evidentiary burden is undertaken by the party seeking the order. It amounts to an obligation on an applicant for an order to show that the material before the Court is sufficiently persuasive to permit a rational belief to be formed that, if ordered to do so, the corporation would be unable to pay the costs of that party upon disposal of the proceedings. To what extent the satisfaction of that standard may fall short of the demonstration of a likelihood that the corporation will be insolvent at the relevant time is unnecessary to decide. It is enough to say that speculation as to insolvency or financial difficulties likely to confront the corporation will be insufficient to ground the exercise of the discretion.”

If the respondent succeeds in crossing the threshold on this issue, then the Court can proceed to weigh in the balance the other relevant factors. The quantum of the risk that the applicant will be unable to pay the respondent’s costs if it is successful is one of those factors.

Whether there is Reason to Believe that the Applicant will be unable to Pay the Respondent’s Costs

The respondent contends that there is credible testimony that there is reason to believe that the applicant will be unable to pay the respondent’s costs if the respondent is successful in its defence.

The testimony advanced by the respondent consisted of two affidavits sworn by a law clerk in the employ of the Western Australian agents of the respondent’s solicitors. She has exhibited to the first affidavit:

·      a bundle of correspondence concerning the question of security for costs between the respondent’s solicitors and the applicant’s solicitors in the period from 26 September 1996 to 1 April 1997, and between the respondent’s Western Australian agents and the applicant’s solicitors in the period from 27 November 1997 to 16 December 1997; attachments to the correspondence include a Legal Cost Insurance Policy, correspondence from the insurer’s claims broker advising of confirmation that indemnity had been granted under the policy and a balance sheet for the applicant as at 30 June 1996;

·      financial statements for the applicant for the year ending 30 June 1997; and

·      a draft bill of the respondent’s costs showing costs incurred together with anticipated costs.

The second affidavit deposes to costs incurred to date by the respondent’s solicitors and their Western Australian agent, and to the manner in which the solicitors and agents have allocated between them the various tasks involved in the respondent’s defence to the claim.

When considering whether there is reason to believe that the applicant will be unable to pay the respondent’s costs, I must assess what the costs are likely to be if the respondent is successful in its defence.

The applicant disputes the adequacy of the draft bill of costs, which estimates total costs of $436,169. The applicant also challenges some of the items claimed, including Senior Counsel fees of $7,500 per day and a claim for $175,000 for “General Care and Conduct”. The matter was not argued exhaustively, but I have concluded from my consideration of the draft bill and other relevant evidence that a fair estimate of the respondent’s eventual recoverable costs for the purposes of this threshold test would be about $300,000.

The respondent, while acknowledging that the material exhibited to its affidavit disclosed the existence of:

·      an insurance policy for legal costs up to $500,000; and

·      financial statements showing that the applicant had net assets of $569,485 as at 30 June 1997

nevertheless contends that there is reason to believe that the applicant will be unable to pay the respondent’s costs if the respondent is successful.

The respondent points out that, because it is not in privity with the insurer, it cannot directly enforce the policy. However, from its examination of the terms of the policy and the circumstances of this litigation, it has raised several potential concerns in connection with the insurance policy and the applicant’s capacity to enforce it.

The first concern is the extent of disclosure by the applicant to its legal insurer. The respondent submits that the weakness of the applicant’s case is such that it calls into question the willingness of a legal costs insurer, if properly informed, to fund the case.

In support of its submission that the applicant’s case is weak, the respondent points to the result of the application for an interlocutory injunction. In his reasons for decision when refusing that application, Nicholson J, while acknowledging that there was “an arguable legal case to be made and a serious legal question to be tried”, went on to observe that the evidence before him at that time did not disclose a strong case to be argued that the respondent acted for the purpose of deterring or preventing the applicant from engaging in competitive conduct either in the wholesale or any other market (my emphasis). He ultimately concluded that the applicant’s case did not show that there was a serious question to be tried: Regent’s Pty Ltd v Subaru (Aust) Pty Ltd (1996) ATPR 41-463 @ 41,630

The respondent questioned whether the insurer has been informed of the Court’s interlocutory finding that the application did not to raise a serious question to be tried.

The applicant filed an affidavit of Steven Michael Standing, one of the applicant’s solicitors. It did not address the issue of disclosure. However, there was other evidence before the Court as to the extent of disclosure.

A letter from the insurer’s claims broker dated 22 February 1996, which was forwarded by a director of the applicant to the applicant’s solicitors, requests that the solicitors be instructed to keep the insurer informed of progress in the matter, and to send copies of their fees; the evidence is that the insurer has since been paying the applicant’s legal fees, from which it may be inferred that the insurer is satisfied with the extent to which the solicitors are keeping it informed.

In a facsimile dated 18 December 1996, annexed to the respondent’s affidavit, Mr Standing advised the respondent’s solicitors that:

“The insurer has been kept fully informed as to the progress of court proceedings, and has been paying our costs in this matter. There can therefore be no question that the insurer is aware of the proceedings (we provide the insurer with reports on the proceedings from time to time) and the liability of the insurer for your client’s costs (if successful) is explicitly provided for in... the policy.”

No further evidence on the issue was presented by the applicant after the adjournment. The respondent submits that, given that it expressly challenged the bona fides of the applicant’s claims under the insurance policy before the adjournment, Mr Standing should have deposed to the extent of disclosure to the insurer in a second affidavit.

The respondent sought, on this issue among others, to rely upon the proposition that, because the extent of disclosure to the insurer is a matter peculiarly within the knowledge of the applicant, the applicant’s failure to present evidence in relation to the matter, and inferences arising from that failure, may be taken into account in determining whether the respondent has satisfied its burden of proof.

I will consider this proposition in more detail later in these reasons. For now it will suffice to say that I do not draw any inference in these circumstances from the fact that no additional evidence was led concerning disclosure to the insurer. Notwithstanding the interlocutory decision and the other authorities cited by the respondent as to the state of the law in this area, I do not consider the insurer’s decision to fund the case so inexplicable as to give rise to an inference that the applicant has not met its obligations concerning disclosure. Such other evidence as was before me supported the proposition that the applicant was meeting its obligations to the insurer in that regard.

Given the state of the evidence, I draw no inference from the applicant’s decision not to add to the evidence on this issue. In any event, the respondent could have addressed the issue by cross-examining Mr Standing on his affidavit if it wished: Order 14 rule 9 Federal Court Rules.

The respondent’s second concern is that the litigation does not fall within the ambit of the policy, because the applicant’s claim really relates to the respondent’s conduct after the termination of the franchise agreement, rather than during it.

The applicant disputes this analysis of its claim, and in any event points to the fact that the insurer has accepted liability for the applicant’s costs in these proceedings.

The respondent’s third concern relates to the insurer’s right under the policy to withdraw from the litigation if it decides that it is not economically viable to continue, subject to the applicant’s right to submit the matter to final and binding independent legal advice. In Keriswey Pty Ltd v Granny May’s Management Pty Ltd (unreported, Federal Court No. 295 of 1995, Olney J, 24 April 1995), security of costs was ordered where the applicant had the benefit of a legal insurance policy, in part because the policy contained a similar clause.

In these proceedings the applicant has undertaken to immediately advise the respondent if the insurer seeks to invoke this clause. It submits, I think correctly, that it would be effectively entitled to an indemnity for all costs incurred both by itself and the respondent up to the date of withdrawal, which withdrawal would have to be by leave of the court. The respondent could, if necessary, immediately seek security for any future costs. No such undertaking was given in Keriswey Pty Ltd v Granny May’s Management Pty Ltd.

Dealing with the matters canvassed to this point, I do not find there to be credible testimony that there is reason to believe that the applicant will not be able to have recourse to the benefit of the insurance policy to pay the respondent’s costs, if it is successful.

The respondent’s final concern is that the insurance cover will be inadequate to meet both parties’ costs.

According to Mr Standing’s affidavit, accounts rendered to the applicant by its solicitors as at 1 November 1997 amounted to $96,433, of which the insurer had already paid at least $75,935. In correspondence dated 1 December 1997 to the Western Australian agents of the respondent’s solicitors, he advised that costs to date were $107,000, of which $86,600 had been paid. He estimated that future costs would be up to $130,000. I will assume therefore that the applicant’s total costs will be $240,000. Given my estimate that the respondent’s recoverable costs would be about $300,000, the policy, being limited to $500,000, is therefore likely to be insufficient to meet all of the legal costs if the respondent is successful. The applicant would need to be able to meet the shortfall.

The respondent went on to make submissions concerning the applicant’s financial position.

Before the adjournment, the evidence before the Court on this issue was comprised of the respondent’s first affidavit, described above, and an affidavit from Mr John Miller. Mr Miller is an accountant employed by the Regent Motors Pty Ltd Group (“the Group”) of which the applicant forms part. His affidavit annexed the applicant’s financial statements as at 30 June 1997. The financial statements were prepared by Mr Miller in accordance with Schedule 5 of the Corporations Law and specified accounting standards. Those standards included AASB 1017 requiring provision for any doubtful receivables from related third parties. The financial statements show the applicant to have net assets of $569,485.

However, the respondent noted that:

·      two entries listed as assets of the applicant effectively depended upon the financial position of other companies within the Group. They were a $274,092 loan to Scarboro Motors Pty Ltd (“Scarboro Motors”) and a $225,000 investment in shares in Regents Finance Pty Ltd (“Regents Finance”). The total exposure of the applicant to these Group companies was $499,092;

·      The applicant has a further contingent liability of $525,000, being the balance of uncalled capital on its shares in Regent Finance, so that its exposure could potentially total $1,024,092; and

·      The applicant’s assets secure the liabilities of Group companies (which liabilities are, however, also secured by land with a total value of over $5,000,000).

Before the adjournment, the evidence on the financial position of the other companies within the Group was limited to statements in Mr Miller’s affidavit that:

·      Scarboro Motors had total net shareholders equity of $1,914,121 as at 30 June 1997;

·      Regents Finance had net assets of $1,150,356, of which $3,038,501 were inter-company loans, and that there was no reason of which Mr Miller was aware to treat the applicant’s investment in Regents Finance as worth anything less than the $225,000 shown in the applicant’s balance sheet; and

·      the net assets of the Group as a whole was $2,776,000.

The respondent indicated before the adjournment that it again intended to rely upon the proposition that, because the financial position of the Group companies is a matter peculiarly within the knowledge of the applicant, the applicant’s failure to present evidence in relation to the matter, and inferences arising from that failure, should be taken into account in determining whether the respondent has satisfied its burden of proof.

An adjournment was granted when the parties agreed that they have further time to present additional evidence as to the financial position of the other companies within the Group.

During the adjournment, a further affidavit of Mr Miller was filed, annexing financial statements for the year ending 30 June 1997 for each of the other companies within the Group, together with correspondence answering questions from the respondent’s solicitors pertaining to those accounts. Those accounts were prepared by Mr Miller on the same basis as the applicant’s accounts.

The respondent raised two matters after the adjournment.

First, the respondent notes that part of the Group’s assets is comprised of “goodwill” of $1,100,000, listed on the balance sheet of Galleria Motors Pty Ltd (“Galleria Motors”). Galleria Motors is a Group company to whom Regent Finance has a loan of $1,603,098 and Scarboro Motors has a loan of $447,990. The amount shown as goodwill reflects the price paid for the purchase of Galleria Motors in March 1997. Galleria Motors made an operating loss of $327,772 after tax in the year ending 30 June 1997. As at 30 June 1997, Galleria Motors’ liabilities exceeded its assets (including goodwill) by $317,772. The respondent therefore casts doubt to that extent on the weight the Court should place on Mr Miller’s statement that the net assets of the Group were $2,766,000.

Secondly and more importantly, it was apparent from Mr Miller’s second affidavit that the financial position of each of the companies within the Group, including the applicant, ultimately depends upon whether loans totalling $3,575,240 made by Scarboro Motors to entities outside the Group are readily recoverable.

The loans by Scarboro Motors are detailed by Mr Miller as follows:

No further information is provided about the loans or the debtors.

Mr Miller makes the following statements of opinion in his affidavit, which he says are based upon the Group companies’ books of account and his knowledge of those companies generally:

·      Each inter-company loan appearing in the financial statements could be recovered in full by the company to which it is owed as and when it falls due (they are repayable on demand);

·      Each inter-company investment appearing in the financial statements has the value allocated to it in those statements;

·      There are reasonable grounds to believe that each company in the Group will be able to pay its debts as and when they fall due; he notes that all companies within the Group have been able to pay their debts as and when they fell due for the past five years.

The respondent submits that no regard should be had to this opinion evidence when part of the factual basis for the opinions, specifically facts relevant to the recoverability of loans to the listed debtors of Scarboro Motors, are not available for scrutiny by the Court.

I am however attracted to the approach adopted by Lee J in Warren Mitchell Pty Ltd v Aust Maritime Officers Union, which is illustrated by the following passage in which he discusses the evidence concerning the financial position of the applicant corporation in that case:

“Although the balance sheet may show a substantial surplus of assets over liabilities, and for the purpose of these motions I accept the unaudited accounts prepared by a practicing accountant as a sufficiently accurate reflection of the affairs of the corporation, it cannot be assumed that any such surplus would result if secured creditors were caused to execute the securities they hold. It is not suggested in the material before the court that Warren Mitchell is, or will be, unable to meet its commitments to secured creditors causing those creditors to resort to their securities. Bearing in mind that a breach of the Corporations Law would be involved if the corporation continued trading activities if reasonable grounds existed for a belief that the corporation would not be able to pay its debts as they became due, the proper conclusion on the evidence is that the company, as presently managed, is able to carry on its trading profitably and is able to meet the commitments of that trading within the normal terms of business.”

The applicant’s financial statements and those of the companies within its Group show, on their face, a surplus of assets and liabilities both for the applicant and for the Group. I do not consider it surprising or inappropriate that the applicant has chosen to rely on those financial statements and on the applicant’s history of solvent trading in circumstances where no positive evidence has been led to challenge the reliability of those statements.

The respondent contends that the ability to recover the Scarboro Motors loans from the listed non-Group entities is a matter peculiarly within the knowledge of the applicant, which has failed to lead evidence on that issue.

It is arguable that the respondent has not established that this is a matter peculiarly within the knowledge of the applicant. The respondent infers from the name of two of the entities that they are related to one of the directors, one A.R.R. Van Helvoort. Assuming that inference is reasonable, it does not follow that they are all so related. Alternatively, it may be that, as a creditor, one might expect Scarboro Motors to have more knowledge of the debtor in any event.

Accepting then that such peculiar knowledge exists, and that no evidence has been led as to the recoverability of the loans, the respondent submits that the Court is therefore entitled to, and should, infer that there is reason to believe that the loans made by Scarboro Motors are not readily recoverable, in whole or in substantial part.

The respondent cites Gillies: Law of Evidence in Australia 2nd Edn p59-60. Gillies considers this principle, which has arisen for discussion chiefly in the context of criminal proceedings, citing relevant authorities. The learned author states that:

“Common sense dictates... that where a defendant who has unique knowledge of the facts of a matter in issue, declines to testify in relation to it, this matter must be taken into account in determining whether the plaintiff or prosecutor has discharged his or her onus of proof... (T)he defendant’s failure to testify or call other evidence in relation to a matter uniquely within his or her knowledge..., along with inferences arising from it, may be taken into account in determining whether the plaintiff or prosecutor have established this fact according to the applicable standard.”

However, the author goes on to stress that:

·      the knowledgeable party’s failure to present evidence does not reverse burden of proof in relation to matter in issue; and

·      while in such a situation very slight evidence may suffice to discharge the burden of proof, the plaintiff’s evidence must establish a prima facie case, even if the so-called scintilla doctrine is applied indulgently.

In my view, the proper application of this principle does not assist the respondent.

If the Scarboro Motors loans are recoverable, then the applicant’s financial position is such that there is no basis for a reasonable belief that the applicant could not pay the respondent’s costs. The respondent has not led even a scintilla of evidence that those loans are not recoverable. It cannot therefore establish a prima facie case. It could only succeed on this issue if the burden were reversed.

The respondent seeks to draw additional support for such an inference that there is reason to believe that the loans made by Scarboro Motors are not readily recoverable from the rule in Jones v Dunkel (1958) 101 CLR 298. Given that an adjournment was granted to ensure the parties had the opportunity to lead all necessary evidence as to the applicant’s financial position, the respondent submits that the applicant’s unexplained failure to present evidence concerning the recoverability of the loans made by Scarboro Motors should lead the Court to infer that such evidence would not have assisted the applicant’s case.

Such an inference would not, however, solve the respondent’s problem. The rule in Jones v Dunkel cannot give rise to an inference that the uncalled evidence would actually damage the applicant’s case. It does not “convert conjecture and suspicion into inference”: JD Heydon “Cross on Evidence”, 5th Aust Edn, Butterworths 1996 at [1215]. If the inference were drawn that the uncalled evidence would not have assisted the applicant’s contention that the loans made by Scarboro Motors are wholly recoverable, there would still be no evidence supporting of the respondent’s proposition that the loans are not readily recoverable, in whole or in substantial part.

Conclusion

I am not satisfied, therefore, that there is credible testimony which gives reason to believe that the applicant will be unable to pay the costs of the respondents if the respondents succeed in their defence in this matter.

The respondent having failed on this threshold issue, it is not necessary for me to consider the other discretionary factors.

I have ordered that the motion be dismissed with costs.

I certify that this and the preceding thirteen (13) pages

are a true copy of the reasons for decision of

Judicial Registrar R.D. Farrell

Associate:

Dated:              13 January 1998

APPEARANCES

Counsel appearing for the applicant:                  Mr Ley

Solicitors for the applicant:                                Freehill Hollingdale & Page

Counsel appearing for the respondent:   Mr D Stone

Solicitors for the respondent:                             Williams & Hughes

Date of Hearing:                                               9 January 1998

Date of Decision:                                              12 January 1998

Date of Reasons:                                              13 January 1998