FEDERAL COURT OF AUSTRALIA
Shomali v Ecolour Pty Limited [2013] FCA 899
IN THE FEDERAL COURT OF AUSTRALIA | |
| First Applicant ANNE SHOMALI Second Applicant |
AND: | ECOLOUR PTY LIMITED ACN 137498438 First Respondent CHIMES MANAGEMENT PTY LIMITED ACN 099061382 Second Respondent STUART MCPHEE Third Respondent BELLE MCPHEE Fourth Respondent |
DATE OF ORDER: | 5 September 2013 |
WHERE MADE: |
THE COURT ORDERS THAT:
1. By consent and without admissions, within 28 days of the date of this order, the respondents shall:
(a) deliver to the solicitor for the applicants all hard copies of documents in their possession or custody which constitute or relate to the formulae for paint provided to the respondents under the licence from the applicants dated 1 June 2009; and
(b) take all reasonably practical steps to delete from any computer or information storage device in their possession or custody information which constitutes or relates to the formulae for paint provided to the respondents under the licence from the applicants dated 1 June 2009.
2. The originating application and statement of claim be dismissed.
3. The cross-claim be dismissed.
4. Each party pay its own costs of the proceedings.
5. If any party wishes to seek an order for costs contrary to order 4 then that party is to notify all other parties in writing within 14 days of the date of these orders and:
(a) order 4 then be set aside;
(b) within a further 14 days thereafter the party seeking the varied costs order is to file and serve a short written submission identifying the costs order sought and the reasons in support; and
(c) each other party may, within a further 14 days from the date of filing and service of the submissions in accordance with order 5(b), file and serve a short written submission identifying the costs order sought and the reasons in support.
Note: Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.
NEW SOUTH WALES DISTRICT REGISTRY | |
GENERAL DIVISION | NSD 2213 of 2011 |
BETWEEN: | BASSAM SHOMALI First Applicant ANNE SHOMALI Second Applicant |
AND: | ECOLOUR PTY LIMITED ACN 137498438 First Respondent CHIMES MANAGEMENT PTY LIMITED ACN 099061382 Second Respondent STUART MCPHEE Third Respondent BELLE MCPHEE Fourth Respondent |
JUDGE: | JAGOT J |
DATE: | 5 September 2013 |
PLACE: | SYDNEY |
REASONS FOR JUDGMENT
BACKGROUND TO CLAIMS
1 This matter, which involves a claim and a cross-claim, arises out of a failed business relationship and a failed business. The business involves the sale and manufacture of paints. The applicants are Bassam and Anne Shomali. Mr Shomali developed what has been described as "the paint technology" over many years. Mr and Mrs Shomali also sold the paint Mr Shomali had developed both in a business venture in Melbourne in the 1990s (which failed) and in another venture in Byron Bay thereafter. They traded under the business name Nature Cover Paints from a factory in the Byron Bay industrial area. A dispute between Mr Shomali and the landlord meant that Mr and Mrs Shomali moved the business to a large shed on their rural property at Tyagarah. Shortly after this move Stuart and Isabelle McPhee, the respondents and cross-claimants, became interested in the business. After negotiations, the substance of most of which is in dispute, Mr and Mrs McPhee (and their company, Chimes Management Pty Ltd, referred to as Chimes Management) purchased the business from Mr and Mrs Shomali and entered into an agreement under which Chimes Management licensed the paint technology from Mr and Mrs Shomali and was bound to pay licence and, depending on profits, other fees.
2 The relationship between the Shomalis and the McPhees deteriorated rapidly once Mr Shomali became aware that the McPhees had incorporated another company, Ecolour Pty Ltd (Ecolour). Although Mr McPhee believed Mr Shomali's concern about the role of Ecolour was thereafter resolved, subsequent events prove this not to be the case. In any event, after about two years of trading, the business as run by Mr and Mrs McPhee (which had been turned from a local into a national business) was still not profitable and Mr and Mrs McPhee were running out of funds. They attempted to renegotiate with Mr and Mrs Shomali by reducing the licence fee payable. The negotiations went nowhere. Mr and Mrs Shomali assert that they terminated the licence agreement by no later than 11 November 2011 (or earlier in October 2011) but that not only were they owed one month's licence fee and other fees at that time, they also never received back the paint technology as required under the licence agreement. Instead Chimes Management, Ecolour and Mr and Mrs McPhee continued to exploit the paint technology in breach of their obligations of confidence and without making any further payments to Mr and Mrs Shomali as the owners of the paint technology. Mr and Mrs Shomali want damages for breach of the licence or equitable compensation to the value of the outstanding licence fees (if the licence was validly terminated) and payment of the licence fees for the period until Chimes Management and Ecolour ceased trading altogether in early June 2013 (if the licence was not terminated). Further, Mr and Mrs Shomali said that they were misled by Mr McPhee about Ecolour and suffered loss and damage thereby, equivalent to the loss and damage otherwise claimed. Mr and Mrs Shomali contend that Chimes Management and Mr and Mrs McPhee, as guarantors of the obligations of Chimes Management, are liable to them in this regard.
3 Mr and Mrs McPhee deny that the licence was terminated. They acknowledge that they continued to use the paint technology but say they did so only until September 2012 (after which they say they no longer used the paint technology). They also acknowledge that they did not pay the licence fees to Mr and Mrs Shomali from October 2011. However, they contend not only that the paint technology is not confidential, being public knowledge and effectively worthless, but that Mr Shomali made misleading representations to Mr McPhee on which Mr and Mrs McPhee relied in purchasing the business and entering into the licence and as a result of which they have suffered loss and damage far exceeding what they owe to Mr and Mrs Shomali in unpaid licence fees.
4 Many claims are no longer pressed. For example, Mr and Mrs Shomali now concede that no royalties or research and development fees were ever payable to them under the licence. Mr and Mrs McPhee no longer claim that the paint technology was inadequate and contravened essential terms of the licence agreement. The claims which remain for resolution in this matter may be summarised as follows:
(1) (a) Did Mr Shomali make certain representations to Mr McPhee about the business Nature Cover Paints before Mr and Mrs McPhee purchased that business and entered into the licence agreement?
(b) If so, were those representations misleading and deceptive?
(c) If so, did Mr and Mrs McPhee act in reliance on those representations and cause Chimes Management also to so act?
(d) If so, did Mr and Mrs McPhee and Chimes Management suffer loss and damage thereby?
(2) (a) Did Mr McPhee, Chimes Management and/or Ecolour make certain representations to Mr and Mrs Shomali by an email dated 29 October 2009?
(b) If so, were those representations misleading and deceptive?
(c) If so, did Mr and Mrs Shomali act in reliance on those representations?
(d) If so, did Mr and Mrs Shomali suffer loss and damage thereby?
(3) (a) Did Chimes Management breach the licence agreement by disclosing the paint technology to Ecolour?
(b) Did Chimes Management breach the licence agreement by not paying the licence fees as required?
(c) Did Mr and Mrs Shomali effectively terminate the licence agreement by or about 29 October 2011 or 11 November 2011?
(d) Did Ecolour and, by reason of Ecolour's conduct, Chimes Management, infringe and wrongly benefit from use of the paint technology which is confidential information belonging to Mr and Mrs Shomali including:
(i) by Chimes Management and/or Mr McPhee acting in breach of cl 10 of the licence agreement;
(ii) by Chimes Management and/or Mr McPhee acting in breach of an equitable duty of confidentiality owed to Mr and Mrs Shomali; and/or
(iii) by Chimes Management and/or Mr McPhee authorising the wrongful use of the paint technology by Ecolour?
(e) If so, did Mr and Mrs Shomali suffer loss and damage thereby?
(4) If Chimes Management is liable for any loss to Mr and Mrs Shomali, are Mr and Mrs McPhee jointly and severally liable in that regard under cl 16 of the licence agreement?
(5) Are Mr and Mrs Shomali estopped from making the claims in (2), (3) and (4) above?
(6) What, if any, remedies should be granted in all of the circumstances?
EVIDENCE (EXCLUDING EXPERTS)
Bassam (Sam) Shomali
5 Mr Shomali is 58 years old. In his main affidavit he said that he had:
…30 years experience in the paint industry in Australia and in particular in the formulation, development, testing and manufacture of new formulas for paints and stains for Australian conditions.
6 He continued:
My particular expertise lies in the development of oil-based and water-based paints and stains using re-refined recycled oil. Such waste oils are toxic pollutants that were previously burnt or disposed of in landfill. The paints and stains which I developed over my 30 years experience in paint manufacturing are "green" paints which use re-refined recycled oil and which do not emit toxic volatile organic compounds as they dry (the "Paint Technology").
7 Mr Shomali worked as a painter and decorator from a time soon after he left school and became interested in using recycled oils in paints in about 1982. Later, he and his wife, Anne, moved to Melbourne. He had discussions with a subsidiary of Shell International Petroleum known as Trifolium about his work on an exterior stain using 100% recycled oils in the hope of establishing a joint venture. Trifolium told him they wanted a contract with him. However, they wanted him to sign over his intellectual property and some patents he had obtained and he did not want to do this so the discussions ended.
8 According to Mr Shomali:
The unique part of our formulas was in using recycled re-refined waste mineral oil (fossil fuel) – this is a non drying oil which had never previously been used in the paint industry. The new water based version of the paint was also patented. I didn't have everything patented though, however, and didn't disclose everything and retained some of the formulas. Some formulas were being developed and so I patented the original formulas and kept the others a secret.
9 In about 1991 Mr Shomali caused Nature Cover Paints Pty Ltd to be incorporated. He established a retail outlet in Aspendale. About this venture Mr Shomali said:
Once we established the shop in Aspendale I started cold calling and attempting to have our paint sold by various paint shops around Melbourne. The response from paint retailers was very strong and within six months of setting up the shop in Aspendale we had approximately 40 paint retailers selling our products. I then approached Mitre 10 and I left them some paint samples. Mitre 10 then sent a manufacturers agent to us named Gil Majors. Gil advised us to words of the effect "Mitre 10 want to take you all around Australia".
…
Mitre 10 were very supportive of our product and they placed our product in their catalogues and we were in over 400 stores Australia wide and Gil Majors organised a network of distributing agents in each state. By 1992 we were in many Mitre 10 stores and other stores including many paint specialists stores and we in fact had our paint in one store in Bunnings and looked like distributing through Bunnings.
We had by this time a marketing agent named Chris who we employed to help promote our business and our products. He sent samples of the paint to television shows thinking that it might spark interest because of the recycled green nature of our product. As a result of this we got media exposure on some morning TV, a show called Our House and Beyond 2000. After the Beyond 2000 show was televised we had a lot of international interest in regard to our product.
In the midst of all this occurring we had been contacted by a corporate lawyer on behalf of Ranleigh Silverware ("RS"). RS wanted to find a new product to manufacture as they had sent some of their manufacturing offshore and had an empty factory and staff ready to work on some other product. Eventually they made an offer to me whereby they would take my products into a public company and then list it on the share market and it would be a combination of their name and my invention. I agreed to this idea and we met with Barry Fry and we went to James Murray and our accountant. At the time I had already applied for patents for Australia and New Zealand but RS wanted patents worldwide, so I applied for and obtained them and paid the cost of doing so. From our beginnings in Aspendale to our factory in Kensington our output had increased by 3,000% and it was the view of RS and their lawyer that we had a tiger by the tail and the business would grow at a very rapid rate and it needed to be fully controlled and organised. The RS deal never came to fruition and so I was left with the cost of the patenting.
We negotiated with them over a period of 4 to 5 months and then the head of the family empire which was RS suddenly passed away and the business and his company was taken over by his wife and children. They decided to make a different proposal to me which was they didn't want to go public or have the business listed as a public company but rather they offered me $250,000 as an upfront cash payment, 50% of the worldwide licence fees and a wage and ongoing royalties. I sought advice on this deal and my experts agreed that it was a good proposition and we decided to proceed.
At about this time because of all the media publicity that we were receiving a fellow by the name of James Camileri who was a representative of a group of investors was continually contacting me seeking me to go into business with me in regard to paint. Their offer was to supply me with the funds and marketing in relation to the product. I advised Camileri that I would give RS a deadline and if they didn't come on board by that time that I would sign up with him.
The deadline passed and I contacted James Camileri and advised that he was in because I had not heard from RS and then that night RS contacted me and said we are ready to go. I advised them that they were too late and declined their offer as I had already given my word to Mr Camileri. I entered into a contract with James Camileri and the contract was drawn up by Barry Fry. Unfortunately James Camileri had not advised the rest of the syndicate about doing business with me and as a result of this the contract was unenforceable and once the syndicate did find out about my business they did make an offer to me in regard to the business, however, it was completely unacceptable and I declined.
10 As a result, Mr Shomali was advised that the company had to go into liquidation. This was done. Mr Shomali said he:
…retained the patents, and the confidential information and trade secrets in the paint and stain formulas comprising the Paint Technology which had not been patented because we were owed wages by the company. I took the patents and the Paint Technology in lieu of our wages. We also retained the name Nature Cover Paints.
11 By the time this was completed in about 1994 Mr Shomali and his wife were left with very little money. They left Melbourne in 1996 and eventually moved to Byron Bay in late 1997. They saved some money and opened a factory in the industrial area of Byron Bay which also acted as a retail outlet from which they made and sold paint trading as Nature Cover Paints. Mr Shomali said:
We marketed direct to the public from our factory which doubled as a retail outlet. We started trading as Nature Cover Paints in or about the early 2000's either 2001 or 2002. We continued operating the business from the factory premises until in or about early August 2008 when we ceased operating from the factory premises because the landlord was doing extensive renovations. We moved the operation to our home as we had purchased a property at Grays Lane, Tyagarah which was a large rural property. The council approved us manufacturing in those premises and we commenced manufacturing from there in 2008.
12 Mr Shomali's version of what happened thereafter includes the following:
(1) In or about October 2008 we [that is, he and his wife] were approached by Stuart McPhee. We did not have the business listed for sale nor were we marketing the business and we were simply manufacturing paint on a small scale and making a modest profit. We had very few overheads and we were selling direct to the public who would come to our premises at Tyagarah.
(2) In late 2008 McPhee approached us at our home business on several occasions expressing an interest in buying the business and advised us that he could make it much bigger and more profitable than it presently was. He advised initially that he wanted to go into partnership and that he would greatly expand the business. Anne and I told him that we were not interested.
(3) When we eventually decided to enter into negotiations with McPhee in November and December 2008 we said we were comfortable as we were, we did not need to sell and so anything he had to offer would have to be better than our current situation to make it worthwhile.
(4) McPhee had no background or experience in the paint industry. McPhee had told me that his background and experience was in furniture manufacturing and sales. I was concerned that Stuart Mc Phee was too optimistic about the benefits that he would reap from the business. I formed the view that he did not seem to appreciate the hard work that he would have to put in and that it would take several years for him to build a reputation in the industry and to grow the business beyond the small scale operation that Nature Cover Paints was under the management of Anne and myself.
(5) The Business Plan for Nature Cover Paints was drawn up by McPhee which he briefly showed us during our negotiations. He did not allow us to retain a copy. During the discussions with Stuart McPhee and our negotiations he never at any stage expressed any interest in looking at our Business Activity Statements or our financial records of Nature Cover Paints such as Profit and Loss Statements or Tax Refunds and he did not do so, although they were available for his inspection at all times.
(6) The financial projections in the Business Plan are entirely those of McPhee.
(7) After McPhee showed me his Business Plan I was concerned that McPhee's financial projections for the first two year's trading of the business to be operated by him were too ambitious, given the past performance of the Nature Cover business which made a very modest profit. My view on this was also influenced by McPhee's lack of experience in the paint industry and specifically his lack of experience in paint manufacturing and paint sales.
13 Mr Shomali also said:
We also provided any information which McPhee requested for example the information about the purchasing invoices and the patents. If anything, we painted a more negative picture than actually exists in regard to the paint industry.
…
I deny making misrepresenting the profitability of the Nature Cover Paints business to McPhee. I specifically deny making any statement to McPhee to the effect that the average gross sales at our shop on Saturdays was $5000.00 and that the gross turnover of the business was $50,000.00 per month. At that rate of turnover our profits would have been much higher and we would have been asking between $500.000.00 to $1 million dollars for the sale of the business, rather than $180,000.00 including paint and stock.
14 The business plan includes a handover and establishment phase (phase 1), a build customer base phase (phase 2), an expand production capacity and refine business operations phase (phase 3), and a secure Australian market share phase (phase 4). The business plan annexes a projected cash flow for 2009-2011. Starting with retail sales of $10,000 in June 2009 retail sales were projected to increase by $10,000 per month for five months until November 2009 and more rapidly thereafter. The business plan showed expenses being paid from the receipts from sales including a monthly $6,500 licence fee to Mr Shomali (referred to as "Sam"), royalties payable to Mr Shomali periodically from August 2009, as well as $6500 per month in wages payable to Mr McPhee. The projection had the business making a loss until April 2010, which was sustainable because of a cash injection up-front of $600,000 identified as "start up capital". Thereafter, the business was projected to be profitable.
15 Before entering into the formal sale of business and licensing agreements, Mr and Mrs Shomali and Mr McPhee entered into a heads of agreement. The document was not binding and was replaced by the sale of business and licensing agreements.
16 The sale of business agreement was entered into between Mr and Mrs Shomali and Chimes Management. The business is identified as manufacture and sale of paint then being undertaken under the registered business names of Nature Cover Paint and Byron Paint Factory. The business was sold on a stock inclusive basis for $180,000. Completion was dependent on execution of the licence agreement, amongst other things.
17 An inventory of fixtures, fittings and equipment is annexed to the sale of business agreement.
18 The licence is dated 1 June 2009. It is between Mr and Mrs Shomali as "the Licensor", Chimes Management as the "Licensee", and Mr and Mrs McPhee as the "guarantors".
19 The recitals in the licence are as follows:
A. The Licensor is the owner of confidential information and intellectual property now and in the future to be developed being trade names, trade marks, inventions, copyrighted materials, formulas, plans, trade secrets, recipes and prescriptions associated with the manufacture and sale of paints.
B. The Licencee is a company of which the Guarantors are the Directors and Shareholders and the Licensee has on even date herewith agreed to purchase the business of the manufacture and sale of paint Products conducted by the Licensor.
C. The Licensor has agreed to grant the Licence to the Licensee on the following terms and conditions.
20 Clause 1 of the licence includes the following defined terms:
"Confidential Information" means business and technical information not in the public domain in the possession of the Licensor and related to the manufacture and sale of paint Products and includes know-how and specifications whether recorded in a document or not.
…
"Gross Profit" means gross paint sales income received less cost of sales paid which means all ingredient inputs and container packaging.
"Fixed Licence Fee" means
a. $6500 per month adjusted on each anniversary of the date of this Agreement by CPI and payable monthly.
…
"Intellectual Property" means trade names, trade marks, inventions, copyrighted materials, formulas, plans, trade secrets, recipes and prescriptions associated with the manufacture and sale of paints.
"Product" means all paint and associated manufactures derived from the formulas and other Intellectual Property of Confidential Information of the Licensor.
"Royalty" means 7.5% of Gross Profit from the sale of Product by the Licensee or any sub-licensee less the Fixed Licence Fee applicable to the relevant accounting period. It is calculated by application of the formula: gross paint sales income – ingredient inputs – packaging and labels = Gross Profit x 7.5% = Royalty payment.
"Term" means the period until termination pursuant to the provisions hereof.
"Territory" means the world.
"Trade Secrets" means all secret processes, formulae and technical information relating to Production of the Product now possessed or developed or acquired by the Licensor or the Licensee prior to or during the Term of this Agreement.
21 Clause 3 is in these terms:
3. Grant of Licence
In consideration of the undertakings herein including the payment of the Royalty and the Fixed Licence Fee, the Licensor grants to the Licensee on the terms herein an exclusive licence for the Territory during the currency hereof to enjoy, commercialise and exploit the Intellectual Property and Confidential Information of the Licensor and to manufacture, have manufactured, use, market and sell the Product.
22 Clause 4(a) provides that:
4. Sub-Licensing
a. With the prior written consent of the Licensor, the Licensee may grant a sub-licence to manufacture, use market and sell the Product outside Australia.
…
23 Clause 5 states:
5. Consideration
5.1 In consideration of the grant of this licence the Licensee must pay the Fixed Licence Fee and the Royalty to the Licensor.
…
a. The Royalty must be computed at the end of each quarter which, for the purpose of this Agreement, ends on the last day of the month of March, June, September and December.
b. If this Agreement is terminated for any reason during a quarter then, for the purpose of this clause, the date of termination is the end of that current quarter.
c. The Licensee must pay the Royalty for each quarter within 30 days of the end of the quarter.
d. The Licensee must provide the Licensor with each quarterly payment of the Royalty proper accounting of the gross sales income and cost of sales expenditure and if required by the Licensor, must be certified as correct by the auditor of the Licensee, or if the Licensee does not have an auditor, by a person approved by the Licensor for this purpose.
e. The Licensor must permit an accountant or auditor of the Licensor from time to time during ordinary business hours to inspect and verify all or any records required to be maintained by the Licensee under this clause. The Licensee must give all assistance necessary to such accountant or auditor to carry out such inspection and verification and permit such accountant or auditor to take copies of any such records.
f. The obligations in this clause on the Licensee to account to the Licensor and maintain relevant records in respect of Royalty applies to any amounts due to the Licensor from the Licensee pursuant to a sub-license.
5.2 In further consideration of the profit of this Licence, in respect of each 12 month period commencing 1 July 2011 the Licensee must pay on 30 June following a supplementary fee to cause the payments of Royalty and fixed Licence fee to amount to $150,000 (one hundred and fifty thousand dollars) in the event that the payments made are less than this amount provided always that the supplementary fees if any payable in the three year period ending 30 June 2014 shall be limited to an amount being the shortfall if any between $450,000 (four hundred and fifty thousand dollars) and the Royalty accrued. The annual sum of $150,000 referred to in this clause shall be subject to annual revision by CPI over a base date of 1 July 2009.
24 Clause 6 is as follows:
6. Assistance of Licensor
a. For three months from the date of settlement of the purchase, the Licensor will use their reasonable endeavours during normal business hours to assist the Licensee with initial factory setup, training, public relations, manufacturing, and research and development of the paint Products.
b. After three months from the date of settlement of the purchase, the Licensor, Bassam Shomali, will hold himself available to assist the Licensee with troubleshooting without charge but shall not be obligated to any particular commitment to time or attendance.
25 Clause 7 provides that:
7. Research, improvements and developments
a. Subject to mutual agreement as to the nature and scope of projects, the Licensor, Bassam Shomali, will address the issues of improvement and developments to the Product and communicate to the Licensee relevant outcomes and supply further Confidential Information and Intellectual Property derived in such projects for use by the Licensee under this Agreement.
b. The manner of implementing such agreed projects shall be at the discretion of the Licensor.
c. The projects shall be dependent on funding from the Licensee and for this purpose the Licensee will allocate an amount being not less than 2.5% of Gross Profit from trading after one year from the date of this Agreement.
d. All Confidential Information and Intellectual Property arising from such projects shall remain the property of the Licensor and may be protected in any part of the Territory by the Licensor using project funding under the previous paragraph.
e. The Licensee will not engage in any research and development otherwise, without the prior written consent of the Licensor.
f. The Licensor may at its discretion establish a company to effect research and development under this clause, and shall notify the Licensee of particulars.
26 Clause 8 states:
8. Exploitation of licence
The Licensee at their expense must use their best endeavours to commercialise and exploit the Licensor's Confidential Information, Intellectual Property and its improvements and to manufacture, market and sell the Products.
…
27 Clause 10 provides that:
10. Secrecy obligations
The parties must:
a. keep confidential all the Confidential Information. However, the Licensee has the right to disclose such information to its employees after execution of a confidentiality agreement acceptable to the parties; and
b. not use the Confidential Information or any Trade Secrets, disclosures or other information or technical data, except for the purposes of the licences granted herein and on the terms of this Agreement.
The parties' obligations under this clause survive termination of this Agreement.
…
28 Clauses 13 and 14 are as follows:
13 Termination
a. The Licensor may at any time immediately terminate this Agreement if substantial default is made by the Licensee in the performance or observance of any provisions of this Agreement, and where such default is capable of remedy such default is not remedied within 30 days after notice specifying such default and requiring the Licensee to remedy the same has been given by the Licensor to the Licensee. Any failure to pay sums due to the Licensor on a timely basis or to provide research project funding under clause 7(c) is deemed to be a substantial default under this clause.
b. The Licensee may at any time terminate this Agreement by notice if substantial default is made by the Licensor in the performance or observance of such provisions of this Agreement, and where such default is capable of remedy such default is not remedied within 30 days after notice specifying such default and requiring the Licensor to remedy the same has been given b y the Licensee to the Licensor.
14. Effects of termination
a. Upon termination of this Agreement for any reason whatsoever, the Licensee must discontinue the use of the Confidential Information and Intellectual Property of the Licensor and have no further rights to manufacture and sell the Products derived from the Intellectual Property of the Licensor and must deliver to the Licensor such instruments and take all other action as the Licensor deems reasonably necessary to ensure the termination of any such rights which the Licensee might otherwise have.
b. Upon any termination up to three years from the date of this Agreement, the Licensee will transfer to Licensor all remaining machinery and equipment, being the business assets transferred pursuant to the Purchaser's Agreement referred to in Recital B, and any remaining Product and stock of labels and containers, ownership of the website and registered business names for Nature Cover and Byron Paint Factory and any printed brochures or other advertising material including signage.
c. The termination of this Agreement must not affect any right of action which may have accrued to either party in respect of any breach prior to the date of such termination.
d. Upon the termination of this Agreement the Licensee is entitled to complete all contracts already entered into for manufacture and/or sale of Products and to the extent necessary use the Intellectual Property of the Licensor.
e. Upon termination of this Agreement, the Licensee must forthwith return all documents and materials relating to the Confidential Information or Intellectual Property to the Licensor.
29 Clause 15(d) states:
d. Business Plan. The Licensee will forthwith provide the Licensor with a copy of the business plan which has been discussed between them.
30 Clause 16 provides that:
16. Guarantee
a. The Guarantors guarantees performance of the Licensee under this Agreement and each of the Guarantors and Licensee are jointly and severally liable.
b. The Guarantors will not allow control of the Licensee to change without the prior written consent of the Licensor, which consent shall not unreasonably be withheld. Where change of control is consented to by the Licensor, this is subject to the Guarantors obtaining like guarantees of the new directors.
31 After the business was sold, according to Mr Shomali:
Shortly after completion on 4 June 2009 Mr McPhee incorporated a company named Ecolour Pty Ltd ("Ecolour")…
I had concerns about this as I believed that McPhee was failing to capitalize on the existing reputation of Nature Cover Paints in paints and stains made using the Paint Technology…
32 Correspondence between lawyers followed culminating in an email of 29 October 2009 from Mr McPhee to Mr Shomali. This email said:
I'm sorry I haven't had a chance to meet up and go over this with you in more detail sooner.
The last couple of months have been very busy as we try to get the business to the point it can turn a profit.
I also thought we had cleared it up when you first brought this up.
My situation with Chimes Management Pty Ltd and ecolour hasn't changed since we last talked.
Chimes Management Pty Ltd is a company that Belle and I have owned for a number of years.
It owns a holiday rental property that has been negatively geared and so has some accumulated tax losses.
Chimes Management Pty Ltd is the company that holds the lease for our building and manufactures and sells the paint.
When we eventually make a profit it will be tax free until we use up those losses.
We always stated we intended to rebrand the business to market it nationally and ecolour is the name we chose.
Instead of applying for state based business names that require renewing every few years we registered a company so this name was automatically ours to use Australiawide indefinitely.
It would be inappropriate to assign the licencing agreement over to ecolour Pty Ltd when the business is owned and being run by Chimes Management Pty Ltd trading as ecolour.
Chimes Management Pty Ltd is the company that pays the licencing fees and should remain with the licencing agreement.
I have spoken with my solicitor about this and he agrees.
We have not assigned the licencing agreement over to anyone and will let you know if and when we intend to.
You are fully protected by the guarantees with Chimes Management Pty Ltd and Belle and myself.
I hope this clears things up so we can move forward together to resolve some of the specific paint issues I am experiencing.
I will be available early next week to meet up and discuss them but leave for Sydney on Thursday.
Please let me know of your availability.
33 Mr Shomali was not happy with the response from Mr McPhee but his lawyer advised him to let the McPhees get on with things. Despite this, Mr Shomali asked his lawyers to offer to the McPhees to transfer the licence from Chimes Management to Ecolour. Mr McPhee said this was unnecessary but Mr Shomali remained concerned even though he believed at that time that Chimes Management was manufacturing and selling the paint.
34 In February 2011 Mr Shomali again instructed his lawyers to write to the McPhees. Their letter of 9 February 2011 said:
We act for Sam and Anne Shomali who have consulted us in regard to the Licence Agreement entered into between themselves and Chimes Management Pty Ltd and yourselves as guarantors.
Our clients have some concerns in regard to some things which have occurred since the agreement was entered into and it appears that these matters need to be addressed so that all parties involved can feel confident that the agreement is being honoured and business between the parties is being conducted fairly.
Referring to the relevant paragraphs of the agreement executed by the parties on 1 June 2009 our client instructs us as follows:
1. Pursuant to paragraphs 5.1(a) & (d) of the agreement the licensee is required to provide proper accounting in regard to the royalty payment. We appreciate that it may be your position that royalties as yet do not exceed the fixed licence fee and therefore are not payable however without the proper accounting our clients are unable to ascertain whether or not this is the case. Our clients are seeking that the accounting of the gross sales income and cost of sales expenditure (limited under the agreement to ingredients and packaging and labels) for each quarter since the commencement of the agreement to the quarter ending on 31 December 2010 be provided to them within 14 days of the date of this letter;
2. In the event that the accounting referred to above is not provided or if our clients wish to verify the information provided then our clients advise that, pursuant to paragraph 5.1(e) of the agreement, they will arrange for their nominated accountant or auditor to inspect the records of the business during ordinary business hours at a date to be arranged but in any event no later than Friday 4 March 2011. Please regard this letter as providing you with reasonable notice of the inspection;
3. Pursuant to paragraph 7(c) of the agreement the licencee is required to allocate an amount of no less than 2.5% of the Gross Profit from trading from 1 June 2010. We are instructed that no payment has been forthcoming and that you are now in breach of this paragraph of the agreement. Further we note that pursuant to 13(a) of the agreement a failure to make the payments pursuant to 7(c) of the agreement is a substantial default which may give rise, if not rectified within 30 days of notice being provided, to a termination of the agreement. Please regard this letter as a notice pursuant to paragraph 13(a). As you would appreciate our client requires the accounting information referred to above to determine and verify the 7(c) payment.
4. Pursuant to paragraph 9(b) of the agreement please provide us with evidence of the product liability insurance within 14 days from the date of this letter.
5. Pursuant to paragraph 9(c) of the agreement our clients are entitled to attend the business to inspect the manufacturing process. We are instructed that to date you have advised our client that they may only inspect the business outside of business hours. This is not satisfactory given that they are entitled to attend whilst the manufacturing process is taking place and that this is the reason for the inspection. We advise that our client is seeking that you nominate an inspection date to take place during the manufacturing process within 14 days from the date of this letter.
Our client has raised several other concerns with us and provided us with instructions that indicate that further breaches of the agreement may have been committed by you and they reserve their rights in regard to these matters.
…
We are further instructed that payments made by the licencee to the licensor in regard to the fixed licence fee are often late and our client requires that a direct debit be set up so as to avoid late payments in the future. We are instructed that our client received a letter from you're the solicitor in November 2009 stating that you would set up a periodic payment authority for the 14th of every month for the Licence Fee to be deposited into our client's account. To date it is apparent that this has not occurred. Our clients reserve their rights in regard to the late payments.
…
Although our clients do not waive their rights in regard to any of the matters raised above we are instructed that they do wish to get the relationship between the parties on a solid footing and hope that the business can continue and indeed flourish to the benefit of all parties. It is necessary for the future good operation of the business and for the preservation of the licensors interests that these matters be addressed.
We look forward to receiving your reply as soon as possible.
35 The response of 17 February 2011 from the McPhee's solicitors said:
We are instructed to reply to your letter of 9 February as follows:
1. By email to your client of 21 December 2010 your client was invited to arrange for his financial adviser to inspect the accounting records at a suitable time. The obligation under clause 5d to provide the accounting backup attaches to the payment of royalties which as your client is well aware are not yet due. However monthly sales figures are attached from which it is readily deduced that no royalties are payable.
…
6. At all times your client was aware that our client would rebadge the business if that was in its best interests and therefore in your client's best interests. Our client paid a substantial amount for and owns the business and its goodwill. The business was not licensed from your client. Clearly the success of the business results in increased revenue to your client via the licence agreement which in turn increases the capital value of his property. With respect our client is not directly promoting a business owned by your client. A great deal of time effort and cost was incurred in rebadging which has seen the business move forward strongly far exceeding that achieved previously. This success is largely due to the marketing and organisational skills of our client.
7. The only time that payments are late is if they fall due on a weekend or if as is presently the case your client has failed to provide a tax invoice. Our client still awaits the current tax invoice.
…
9. All of the alleged breaches of the agreement are denied and any proceeding will be vigorously defended.
36 Despite further correspondence in which it was indicated that the Shomalis would have an accountant inspect the books of the business, this never occurred.
37 On 15 September 2011 Mr Shomali received an email from Mr McPhee saying:
It was encouraging to hear that you think the business has done better than you expected but unfortunately it is still not profitable and I have run out of money.
I can't afford to pay over 10% of our total sales to you as a licencing fee let alone double that within a year.
I had expected and hoped to have sales a lot higher than they are by now so we would be paying you a much smaller percentage of total sales.
Ecolour is now on stop credit with some suppliers and I have run out of funds to contribute.
The market is currently very competitive with leading brands in a price war and raw material prices skyrocketing.
I have approached banks but no one is willing to lend money without 3 years of profitable financials.
To continue we need to come up with a solution that the business can afford.
There are no certainties in business but I think I can afford the following:
1. Reduce your monthly licencing fee to $2500 per month inc. GST.
2. Remove the clause from our contract that doubles your minimum payment in June 2012.
3. Reduce the percentage of gross profit payable to you to 3.75% as my margins are a lot tighter than we originally forecast.
I know you will be disappointed but I hope you can appreciate that I am working flat out to make this business a success and have to come up with a solution very quickly.
I am under a lot of pressure and getting $15,000 worth of paint returned from a hardware chain is another example of the difficulties we are facing.
I want to work with you to make this a success and feel that I have built solid foundations from which we can grow the business in the future.
My staff are great and we now know so much more about the industry and want to continue working with you.
Should you accept these terms I will ensure you are the highest priority on our payables but right now I also need to be able to pay rent, wages and buy raw materials.
38 Mr Shomali refused and instead his lawyers wrote another letter of 29 September 2011 saying, amongst other things:
We enclose a copy of a tax invoice dated 31 August 2011 from our clients to you in the sum of $7,371.65 being for the licensing fee for the period from 1 August to 31 August 2011.
We are instructed by our clients that the company has failed to pay the invoice and is now in breach of the Licence Agreement.
Pursuant to the terms of the Agreement would you please confirm that you will immediately cease using our client's confidential information and intellectual property and immediately cease the manufacture of paints using any of the information and intellectual property provided to you pursuant to the Licence Agreement until payment of the tax invoice has been made to our client.
Further we advise that if your company fails to pay the account within 7 days from the date hereof we are instructed to take action to enforce the Licence Agreement without further notice to you.
We hope that such action does not prove necessary and look forward to receiving confirmation from our client that payment has been made by you.
39 Mr Shomali also said in his main affidavit:
The Paint Technology formulas and manufacturing knowhow which I eventually licensed to Chimes Management was never part of the formulas disclosed in the patents granted to me. At all times I kept the Paint Technology confidential and did not grant licences of it to any third party apart from the confidentiality and manufacturing agreement with the Paint Factory and Nutech Resins discussed below. From 1991 onwards I used the Paint Technology to manufacture paints and stains which were sold by my new business, Nature Cover Paints.
40 In his affidavit in reply Mr Shomali denied versions of events as described by Mr McPhee. He also said that although he did look at the business plan the following then occurred:
"This is too ambitious considering that you are new to the game and it will take time for you to learn all aspects of the business."
Stuart replied:
"I have an uncle who owns a housing development company and he builds a substantial number of houses each year and this could be a steady income."
We went through various parts of the business plan and I expressed generally negative comments in regard to it insofar as I thought it was too optimistic and too ambitious and I made this clear to Stuart. I referred to the setup costs and the cash flow and said words to the effect:
"You haven't taken into account all the costs. For instance, the cash flow should allow for the purchase of some upfront laboratory equipment and setting up costs."
Stuart said:
"I'll make some amendments. But you know Sam, I have enough money to run the business, even at a loss, for more than three years so do not worry, you are assured of your money."
I said:
"That's good, could I have a copy of the cash flow projections and business plan."
Stuart replied:
"No, I need to make a couple of amendments so there is no point in you having a copy now. Once I've made the changes, I will give you a copy."
Despite this assurance, Stuart never provided me with a further copy and I did not see it until the day of handover on 1 June 2009. At no point during the conversation did I mention the amount of $500,000. In regard to representations generally, I say that we did not have our business for sale and it was Stuart who approached us seeking to gain some interest in the business or to purchase it.
41 In a further affidavit Mr Shomali said:
(1) The paint formulas set out in the Patent are for exterior paints and stains using re-refined recycled oil and represented part but not all of the formulae for paints and stains using re-refined recycled oil developed by me up to 1990–1991. The balance of my formulas being for interior paints and stains were kept secret by me and do not form part of the specification describing the invention claimed in the Patent. I also developed several formulas for interior and exterior use, which were not included in the specification of the Patent. These interior/exterior use formulas formed part of the Paint Technology I licensed to Chimes Management. The interior/exterior use formulas concerned were the All in One formula, the Clay Finish formula and the One Coat Timber and Fence Finish formula.
The formulas for interior paints and stains are different to those for exterior paints due to the fact that interior paints and stains do not need to be weather resistant.
The RBO Formula set out in the specification to the Patent was initially developed by me in 1990 whereby recycled re-refined waste oil is emulsified with other ingredients to enable it to accept water, as generally oil and water do not mix. The invention described in the Patent and claimed in claims 1 to 10 of the Patent is for a water-based paint that uses up to 52.50% by weight of petroleum derived oil (Claim 1 of the Patent). However the formulae in the Patent produce paints and stains which are "high volatile organic compound paints" or "high VOC paints".
(2) By contrast the formulas for the paints and stains forming the Paint Technology produce paints which are "low volatile organic compound paints" or "low VOC paints" or "zero VOC paints" . Under its standard GECA 23-2012 Good Environment Choice Australia (GECA) considers a "low VOC paint" to be a paint that contains no more than 5g/litre of VOCs as a solvent or at least as a part of the untinted paint or stain formula. Any tints or colourants used in a low VOC paint must themselves have a VOC level of under 5g/litre.
(3) This revision and further development of the formulas was the result of significant further research and testing by me from 2001 onwards into the production of low VOC paints which were water-based paints that used petroleum derived oil, specifically re-refined recycled oil.
…
(4) Both the invention in the Patent and the Paint Technology use recycled re-refined oil in emulsion. However to compare the formulas in the Patent to the Paint Technology formulas licensed to Chimes Management is like comparing chalk and cheese. In general:
(a) The manufacturing processes used in the formulas in the Paint Technology is different compared to the formulas disclosed in the Patent. The manufacturing process in the Patent is for a two-step process where Step 1 was the creation of an alkyd RBO mixture and step 2 was to add the alkyd RBO mixture to the remaining ingredients to complete the alkyd RBO Emulsion formula. The manufacturing process in the Paint Technology is a one step process.
(b) High VOC ingredients in the formulas disclosed in the Patent have been omitted from the formulas in the Paint Technology or have been replaced with low VOC or zero VOC ingredients.
(c) Ingredients in the formulas for the Patent that have become unavailable have been replaced with new ingredients that are compatible with my RBO technology forming the Paint Technology.
(d) Better paint ingredients and manufacturing methodology has been incorporated into the Paint Technology.
42 Mr Shomali also gave oral evidence.
43 In this evidence Mr Shomali said he was "not interested at all" in selling his business in late 2008. He said that Mr McPhee "asked if I could sell him the business and he would be able to make it much bigger". Further, "Stuart said, "I'm the right person to take it national and I have the experience in advertising and marketing. That's my expertise." Mr Shomali also recalled that:
Stuart said, "I want to leave footprints for my children and this business is absolutely ideal for it."
44 According to Mr Shomali in response he said:
…this business is not easy and that out there, there is, you know – to get out to the market place is pretty hard. It's quite – there are problems in marketing the product. And I did mention to Stuart when we were out there that when I was in Melbourne it went quite large and then we had – or larger – but then we had Dulux go and buy all our stock out of the stores, and that's something that he has to, really, look into – look into that. So it's not that easy and Dulux made it harder for us to get back into the stores.
45 Mr Shomali also said:
I did give him all the raw ingredients as he requested when he was doing his due diligence.
46 He did this because Mr McPhee told him "[h]e wanted to work out the margins between the raw material costs to the actual finished cost of sales cost". As Mr Shomali put it:
At the beginning he [Mr McPhee] needed to certain himself that I was telling him the truth about the margin – the actual costs of the raw metals against the cost of sales. So he wanted to be assured of that. That was part of his due diligence.
47 He also gave Mr McPhee copies of the patents he had, which had lapsed.
48 Mr Shomali gave this evidence in chief:
In November/December 2008, did you express any views about the prospects of your business, Nature Cover Paints, to Mr McPhee?---No, not at all.
49 In respect of the Ecolife proposal Mr Shomali gave this evidence:
I had in my possession, where we had another offer, from another – actually – person who put an offer to us and I showed that business plan to Stuart, but that was confidential to Stuart. But that was someone else, which I didn't take up the offer with. I didn't take the offer because I felt it was too big, too quick, too fast…
50 Mr Shomali also gave this evidence in chief:
I did mention to him that, again, that was a business plan put to me and – what I said before, I did mention to him that felt that was too optimistic, too big and we refused it. It was ... I think in excess of $3 million but the amount of advertising was going to be quite huge and it could make the business grow too fast and we will be going so quick, it will be uncharted territory.
51 According to Mr Shomali:
● I mentioned to Stuart that we went into liquidation and the reason for that was, in our previous experience, we had an investor who came to me after putting some money into the business…
● also I told Stuart, also, of others where we were out in the marketplace and it went quite well and quite good. We told him that it went on Beyond 2000. We told him it went on ABC, SBS Beyond 2000.
52 Mr Shomali gave this evidence in chief:
Did you say anything to Stuart McPhee about the monthly sales figures of Nature Cover Paints?---No.
Were the books of account of Nature Cover Paints available for inspection at that time?---Yes.
Did you offer an inspection of those books of account to Stuart McPhee?---Never asked.
53 This evidence continued:
● You gave some evidence previously that Stuart McPhee didn't ask you to see the – didn't ask to see the financial records of Nature Cover Paints. Did he say to you – did he make any statement about why he didn't need to say those records?---Yes. I recall that – yes. I recall the discussions between Stuart and I that when we moved our shop – our shop into the showroom I explained to Stuart the problems that we had when we had the shop in the – in the ..... estate. When the landlord built several new factories and showrooms and renovated the rest we suffered at least six months that conversation with Stuart and in that time we suffered a lot of income and, you know, we had problems with the – with our income so we moved our place to – to – to – we moved the shop showroom and I recall saying to Stuart, you know, that now the people are getting to know us so our – our takings are really not very good but the people are starting to come here and, you know, this is now two months and Stuart then replied, "That's okay. I'm only interested in the potential of the business." So he is looking at – sorry, forgive me – I'm only interested in the potential of the business. That was what I recall, to my best knowledge.
● Did Stuart McPhee ask you any other question about the current takings of your business, Nature Cover Paints?---Stuart asked to see our sales books, which were at our counter where we would sell paint, and so he viewed through the sales books and I – forgive me – to the best of my knowledge, that's what I recall happened.
54 In cross-examination by Mr McPhee, Mr Shomali gave this evidence:
● And you told me about Shell and Trifolium. Didn't you?---I did.
Yes. And you say that they made you an offer to purchase your business?---Correct.
That was Shell International.
…
You told me it was $2 million. Didn't you?---No. I did not.
55 Further:
● Mitre 10 – you said Mitre 10 wanted to take you all around Australia, and you told me that. Didn't you?---I did. Yes.
● You also told me that you – it took you six months to go to 40 paint retailers. Didn't you?---It took me the first year in Melbourne, and that was only in Victoria. Yes. About 30 to 40 is precise.
● .…Well, I think it got known in the industry, as I told you, it was a leader. And I mentioned that to you, that was a good leader, to go that way.
● You were …in over 400 stores Australia wide. ?---That's correct. And this was by 1992?---That is true.
And you told me that, didn't you?---I told you that, of course.
● You told me you were on Beyond 2000 too, didn't you?---I did, yes. And you had the video on the internet that I gave you, on the website, which you took off.
● During November and December 2008, when we were negotiating, you provided this [the R&D Advisory report] to me, didn't you?---I did, I did. And if we then go to page 990 – yes, 990 – it has there a value of $6.2 million, doesn't it?---That was the amount for the R&D to carry out works, yes. And it was approved.
● Raleigh Silverware …contacted you about taking your products into a public company?---That's correct, yes.
And you told me about that, didn't you?---I did, yes.
● And your output had increased by 3000 per cent?---3000 per cent, that's correct.
Because from the first year to the second year, from the – from the outlets that we had hardly anything and then into the second year, it was a massive growth of 3000 per cent and that is why, as I told you, Raleigh Silverware was very interested.
It was thought that the business would grow at a very rapid rate and needed to be fully controlled and organised, wasn't it?---That's correct. That's what they advised.
And you told me that, didn't you?---I told you what they said, yes.
● And paragraph 32 says that you were offered $250,000 as an upfront payment?---That was the second time. The first time, by Raleigh Silverware, as I said to you, Stuart, that offered to take me to the share market, was to use a good name, Raleigh Silverware, and use the innovation, the invention, and to go on the share market. But unfortunately, as you remember I told you that the father passed away so the second offer came from the children and the mother. They didn't want to go public so they put me – gave me another offer and that was the $250,000-plus.
Plus 50 per cent of the world's licence fees?---Plus a wage.
A wage?---That's right. In a laboratory in Melbourne and a ticket any time to go to their site.
● You marketed direct to the public from your factory in Byron Bay from 2001 to 2008, didn't you?---Yes. I did.
And you told me about that?---I did, yes. Yes, I did, yes.
And you bought a large rural property in Tyagarah during that time?---I did, yes.
● You said you had 30 years experience in the paint industry, didn't you?---Yes, I did.
● You told me the business had grown 3000 per cent, didn't you?---I did.
● You told me about very rapid growth the business had experienced, didn't you?---Yes.
56 Mr Shomali also denied saying some things to Mr McPhee. He gave this evidence during cross-examination:
● And you told me when you were at the factory in Byron Bay that you were making about 10 to 15 per cent net profit, didn't you?---In Byron Bay? No. I have never met you in Byron Bay.
When you were in Byron Bay, when you were at the factory in Byron Bay?---Yes.
You were making 10 to 15 per cent net profit?---10 to 15 per cent? Net profit?
Yes?---That seems to be very low.
● I never mentioned to you anything about profit or net profit. I only mentioned to you about the margins – the margins between raw materials and sales.
● So you stated that in order to proceed with the sale of Nature Cover Paints to Chimes Management you needed to maintain your existing income in order to cover your living expenses, didn't you?---No.
● You told me that you were making paint sales while at the Byron shop of between seven and a half thousand dollars and $15,000 per week, didn't you?---Absolutely denied.
● You told me that you needed to maintain your weekly income, didn't you?---I did not. I told you if we're going to do anything it has to be better than what I am doing now and what now, yes.
● During November/December 2008, you told me that you needed to maintain your living expenses and it needed to be a better offer?---I did not.
● During November/December 2008 when we were negotiating the purchase of the business, you told me you needed to maintain your living expenses; is that true?---No.
● And that is how you told me that you needed to have the minimum 10 licensing fee of $1500 a week, didn't you?---No.
● I put it to you that you told me that you were making a comfortable living and you needed to maintain that and my offer for weekly income needed to be better; is that true?---No. I did not.
● And the factory in Byron Bay you told me was selling between $7,500 and $15,000 per week, didn't you?---I did not.
● And that you were making a thousand to $1500 per week income, didn't you?---We probably sold between $1,000 and $1,500 a week from that – from the shop and we also as I told you we also bartered a lot.
● And we based that figure [in the heads of agreement, the provision "Sam will be employed as a consultant on a consulting fee of $1,500 per week"] on the thousand to $1,500 per week that you told me, didn't we?---No, we did not. You offered me $2,000. No, we did not, sorry.
● During the negotiations, we discussed the value of the business was based on Nature Cover Paints' turnover. Didn't we?---No.
● Now, we valued the business based on sales of approximately $50,000 per month, didn't we?---Absolutely not. That's a made-up plan.
● The profit that you told me was between $1000 and $1500 a week, didn't you?---No, I did not.
● I put it to you that we had a rough price earnings ratio of about three times net profit, and that is how we valued the business, didn't we?---No, we did not.
● You told me that I could get R&D grants and we could further develop the products. Didn't you?---I don't – I really don't remember that. I remember I gave you the R&D because it was mine and I was happy for you to take it home but I don't remember telling you that you could get R&D.
● You told me that the licensing agreement and the licence fees – sorry, the licensing fees, the royalty payments and the supplementary payments were realistic and readily achievable in the context of existing sales and future sales. Didn't you?---No, I did not. One – no, I did not.
57 When asked about his actual profit Mr Shomali said:
● …living expenses? Well, we lived quite light. We had no rent, we had no mortgage. You know, $300 a week, $350, would be sufficient for us. You know, sometimes I made a bit more, sometimes I made a bit less.
● What I'm trying to determine is where did the money come from that you were living off?---I just told you. We were getting supported by Centrelink.
● we did sell some products, your Honour, as well. We had customers come and from both that was enough to keep us going until we felt the business was going to do a bit better and so on.
58 In respect of the financial records of the business Mr and Mrs Shomali were running, this evidence was given:
And you told me these had been lost in a flood when I asked for them, didn't you, in
November 2008?---You never asked for any these.
Yes, I did. And I put it to you that when I asked for them, you said they weren't
available because you had lost them in a flood?---You never asked for any of these, Stuart. We've lost a lot of stuff in the floods, and you know that. We had a severe
flood both at the shop and at our premises, but this you've never asked for.
These tax returns show that you were trading at a loss, doesn't it?---Yes.
And there is little or no wages there either, is there?---Just my wife and I.
…
Your tax return states that they were zero, doesn't it?---Yes. This one here?
Yes?---Yes. Our tax returns are zero, yes.
And you were also trading at a net loss of $11,000?---Yes.
You stated that I never wanted to see the financial records. Now, that's a lie, isn't it?---I don't lie and you know that.
59 On a similar topic Mr Shomali was asked about the statement in his affidavit that "Anne and I truly and fairly presented the monthly sales figures of the cross-respondent's paint manufacturing and paint sales business based on the books of account of Nature Cover Paints". He gave this evidence:
You said that, didn't you, in your affidavit?---Yes, it is true.
So which is correct. Did you provide me with the financial records and books of account, or not?---Did I?
Did you provide me with the financial records of your business, or not?---You never requested them. You never requested them.
…
Paragraph 59 states:
The monthly sales figures were fairly presented.
Is that correct?---Well, in a way, all our sales books were available to you. All on the benches, and Anne went into the office and got the rest of the sales books, and you went through all the sales books and you were quite comfortable with that.
…
You have not set out those monthly sales figures anywhere or at any time in this
court book, have you?---No, I don't think so, no.
60 This evidence was also given:
And previously you said your profit was a lot higher than 10 to 15 per cent?---You're talking about - - -
Is that true?---If you're talking about the business, no, it is not, but the ingredients is different. The ingredients to sales is quite high, as you know, but my business has not made a profit. It has been run as a research and development. Whatever I sold, I bought materials, I made paint. I lived off Centrelink which helped me – helped balance all of these figures. Centrelink had copies of all of this as well, and they supported our living. A lot of these years went into not just ..... but developing the product and getting feedbacks. It didn't go purely to market and do this. I didn't put the energy into really marketing the place. I put my energy into living and improving the formulas.
61 As was the following evidence:
How do you think the business would have been able to afford $2,000 a week, the royalty payments, the R&D and the additional hourly rate?---Well, Stuart, you told me that you could run the business for a loss for the three years, completely at a loss, and you will still have enough money. You're the one who sold himself to me that you have plenty of money to run the business.
62 Other evidence relating to the same issue included the following:
And yesterday you said that I could afford to make some losses for three years?---That's what you told me.
However, there's nothing in the business plan about making a loss for three years, is there?---No, there isn't.
You just made that up, didn't you?---Absolutely not, Stuart.
63 In respect of the business plan, this evidence was given:
● This business plan was developed in consultation with you, wasn't it?---No, it was not.
● You helped me prepare that business plan?---No, I did not.
● You provided me with information to use as part of that business plan?---No, I did not.
● It is from that business plan that we calculated what we could afford to pay for the licensing fee and the research and development, wasn't it?---Absolutely denied.
● You wanted to approve the business plan, didn't you?---I needed to sight the business plan, yes, and that was on advice from my previous solicitor as well.
● Why did you need to see the business plan?---Well, my interest in our relationship was the research and development and I wanted to know what was in that figure but the rest of the business plan was you're the expert, that you came time after time, that you – you're going to market this business and I relied on you. I actually trusted in you. That was the business plan. It was yours.
And yet you had 30 years experience and had built this business up and seen it grow and had provided me with all of that information and input during 2008 negotiations, didn't you?---Well I know the chemistry. I know the manufacturing. I provided you with – you even made some paint at our house, at the factory – at the place. Part of your due diligence you made a few batches with me. You saw everything go in. You saw the ingredients, you saw the paint, you saw the oil, you saw everything go in. And I provided you with the raw material cost via the invoices and there you calculated the margin and thus, you know, you put the offer to me.
You saw the business plan a couple of different times through that – over that period?---I've only see it once and at the end. That's all.
I put it to you that you had direct input in that business plan and needed to approve of it, didn't you?---The only input I had was to say the R & D funding was not enough for the first year. That's all the – that's all the input I had. The rest of the work was your calculation, not mine.
But you saw the business plan?---I saw the business at the beginning and I commented to you, as you remember, I felt it was a bit too ambitious. But then you – then you told us that you had an uncle who makes – who builds – developer – he builds many houses and that's what secured the sale. Because that made it worth your while. Then I had the confidence in that – business plan.
64 After his attention was drawn to some emails he had sent, this evidence about the business plan emerged:
You were prepared to delay settlement if you didn't approve the business plan in its entirety. Weren't you?---Yes. Well, I would but I never got it. I never got the business plan until we signed it, until we met at Giselle's. You gave me the – the second time I have sighted the business plan is at Giselle's.
And you approved of it because the transaction went ahead. Didn't you?---That's correct, yes.
…
So you were prepared to delay settlement if you didn't approve the business plan?---Well, Giselle's – Giselle, as what she advised me, the business plan is very vital to make part of the contract.
Is that a yes?---Yes.
65 When the cross-examination returned to the same topic this evidence was given:
You say that you didn't provide any input into the business plan. Did you?---I say that. Yes.
…
Did you believe that the business had high potential in the future?---Absolutely. I believe it does and I still believe it has high potential.
And what is that based upon?---My previous – it's based on uniqueness of the product. It's based on the – you know, the products itself, how it applies, how it goes on.
66 The emails which led to this evidence were:
(1) An email of 12 January 2009 from Mr and Mrs Shomali to Mr McPhee which said:
Before we can continue any further we require the following information:
1. Full disclosure of your financials
2. Designation of funds for Nature Cover Project
3. A precise Business Plan for the first three years
4. Guaranteed funds to execute the business plan
(2) An email of 17 February 2009 from Mr and Mrs Shomali to Mr McPhee which said:
My frustration came to a head today as there has been so much back and forth with inadequate agreements and no solid commitment from you Stuart. We understand you have put 3 months into this but we have been at it since 1982 and it is time for the negotiations between us to accelerate or finish.
For us to continue our conditions are as follows:
1. Sale Price now $180,000 (one hundred and eighty thousand dollars)
From this we will pay our legal fees with Giselle and revised contract by John, the expert in Sydney. This will include our discussions today, and you will be put to John so he can draft a fair agreement for both of us.
…
2. Deposit
10% deposit is now required and I am happy to sign an unconditional guarantee for you on the following:
Upon receiving of deposit we are happy for you to come to our premises and obtain the costings on products for the lo-sheen and flat (biggest sellers), take a sample product for VOC testing…
(3) An email of 19 February 2009 from Mr and Mrs Shomali to Mr McPhee which said:
We acknowledge the hours you have invested on this project. You show enthusiasm about how brilliant the business could be if our skills were working together, and we agree with you, but yet you hesitate to put down a 10% deposit even after 3 months of negotiations when you have had ample time to know if you wish to carry on with this project.
The conditions stand as in last email to you, 3 pm Friday 20th February 2009 is really the deadline for deposit to be paid. If by 3pm Friday the money is not paid in, I do not want to waste any more of your valuable time….
As to the items discussed during our last meeting, all seem fine but I must stress again the following:
Business plan must be included in the Agreement as it shows me what money is being allocated for the R&D, and what I sighted on Business Plan put me at ease. You then took plan away to make a few adjustments and did not bring it back as you said you would.
Sale Price $180,000 walk in walk out with the figures you already have.
I feel things will move along much quicker if we go this way with strong commitment.
(4) An email of 20 February 2009 from Mrs Shomali to Mr McPhee which said:
Sam has been more than generous with the sale price of business and what comes with it, and any changes he has made have only been to protect us, as when we have received agreements from you and your solicitor there have always been important points omitted that we had previously negotiated and shook hands on. And if you remember Stuart, we were not going to involve our solicitor until we had the agreement right between ourselves first.
Your proposed input of $600,000 into the business is play money compared to what we have invested in this project over many years. We have a product which is now ready to go, especially in the current global situation.
We have been very open with you Stuart, but you tend to hold things close to your chest. You let us sight the Business Plan quickly then took it away to be revised, we have not seen the amended plan. We have also never sighted your financials as requested to confirm you have the money to carry out the project. It would appear, maybe we have more trust than you do, in many ways.
Sam will not change his mind, we do not feel asking for a deposit at this stage is unethical, it is common sense and business appropriate. We will not do business any other way.
(5) An email of 28 May 2009 from Mr and Mrs Shomali to Mr McPhee which said:
Settlement is on for Monday, I believe we will be meeting here at Grays Lane, and Giselle will make a time to suit all.
I trust everything is going well for you.
I just want to have confirmation that the business plan is as I sighted, and agreed upon. If otherwise, we would like to see the plan prior to Monday so three is no room for delays at settlement and things can go ahead smoothly.
67 Other evidence related to this issue included:
You thought that the future sales were realistic and achievable based on your industry experience, the previous history of the business, and the high value of your intellectual property. Didn't you?---Well, I mean, I certainly believed in my product, and I believe in all my products that you never took up. And they do – with the proper management and the proper sales, and the proper things, and the proper amount of money put into it, yes, I think it does have a potential.
And you thought that the business was good value at $180,000. Didn't you?---I felt
it was very good value, yes.
68 In terms of the overall dealings between them, this evidence was given:
You told me about the past successes and the high growth during the 1990s of your business?---I did, yes.
And how it was based on your invention and your intellectual property using recycled, re-refined engine oil. Is that correct?---That's right, yes.
And did you believe that the brand Nature Cover Paints had a high value?---At that time, yes, I did.
And when I bought the business towards the end of 2008, did you believe the brand had a high value?---Well, I thought the name was good, but we – it was two different circumstances, and the answer is no.
No. So we've seen stock at less than $10,000 and goodwill as low value. How did
we come up with the rest of the $180,000 for the purchase price?---You tell me. You
were the one that offered – you know, those were negotiations. It - - -
69 Then this evidence emerged:
Did you say that the goodwill was valued at $70,000?---I didn't say the goodwill. We worked – yes. I did. I said, "It will probably be worth – probably will worth about $70,000", but we didn't work on a goodwill. We worked on in and out. We worked out on a walk in, walk out basis between you and I. The figure we came up with over many times of discussions.
70 Mr Shomali agreed that he had "never sent in an accountant to verify that what [Mr McPhee] had been saying [about the financial performance of the business after sale] was true and correct".
71 This evidence also was given:
You wanted the clause in the licensing agreement about returning the assets bought from you within three years because you thought that the business would fail. Didn't you?---I think you and I discussed it but let me think that. Just give me a moment. No. I never thought it would fail but it was a security.
This is because you really – you knew that the licensing fee was unaffordable. Didn't you?---No. I did not.
Stuart McPhee
72 In his main affidavit Mr McPhee said he first became aware of the paints when he purchased some in 2007 to paint his home after moving to Byron Bay. Before this he had lived in the Southern Highlands where was he involved in a furniture manufacturing business. He purchased and ran this business between 2001 and 2004, after which the business was sold. He became interested in the paint he bought from the Shomalis because of its claimed environmental benefits. He visited the Shomalis in October 2008. According to Mr McPhee they had a conversation to this effect:
Sam said:
"Our customers love the paint. It is a unique product and is what the market is looking for."
Sam also said:
"Many people have approached me over the years in buying the business and grow it into a national and international player. I have won the TV show Beyond 2000 with this unique paint product".
Sam also said:
"After the award the business grew quickly with an investor on board, several hundred stores and paint shops had taken the product and turnover increased rapidly."
Sam said:
"Dulux then bought out the paint from the outlets and replaced it for free as long as the outlets didn't buy from me again."
73 Mr McPhee described the events that followed in these terms:
I cannot recall whether it was on that occasion or another meeting shortly afterwards when Sam said:
"The investor died and I had a legal battle with the investor's family. I took a break then I decided to move to Byron Bay and continue on with the business".
During the course of a meeting with Sam in or about early November 2008, Sam said:
"I have received many offers to buy my business over the years that I refuse them all. Here are some plans from potential purchasers".
Sam also said:
"This business has a real potential for sales over $4 million per year within 2 years."
74 According to Mr McPhee, Mr Shomali also provided him with copies of business proposals he had received from other entities, being a proposal by Ecolife Pty Ltd and a draft report prepared for R&D Advisory Pty Ltd.
75 The Ecolife proposal appeared to involve profits of some $800,000 from the first month based on anticipated sales of the paints of over $2,000,000.
76 The R&D Advisory report was to support the obtaining of a government grant for further development at a cost of over $6,000,000.
77 Mr McPhee said he had a number of meetings with Mr Shomali in November 2008 and that at each meeting Mr Shomali said:
"My paint is revolutionary and different from any other paint on the market. It has huge potential if it is marketed professionally."
78 Mr Shomali also said:
"I don't have the energy to realise it but I am keen to get someone like you involved".
79 Mr McPhee continued:
On about 20 November 2008 I again met with Sam and Anne at their Tyagarah property and we had a conversation to the following effect:
Sam said: "There is an opportunity for huge sales if this business had professional marketing. We have a strong local business with a unique product that has international potential. I have been approached by many business people/investors over the years wanting to buy it. I have been waiting for the right person that I could trust and then the business is for sale."
I said: "I'm looking for an established business with potential to grow and I have experience in running my own business."
Sam said: "The business plan needs to be realistic too. I have experienced high growth in this business and I know that won't work. Here is a proposed business plan (being the Ecolife business plan) showing high projected sales figures from a potential investor who was in charge of marketing for Readers Digest. I didn't go ahead as I thought it was too optimistic in the short term."
I said: "What do you think is achievable sales growth?"
Sam said: "It will take six months to a year to really grow. We have only been selling to the local area with a few longer distance sales. It needs a shop in Byron Industrial Estate like we had to get all the locals back. The only reason we recently moved back to here at Tyagarah was because of an argument with the landlord at Byron shop."
80 Mr McPhee said also:
On or about 28 November 2008 I did meet again with Sam at the Tyagarah property and we had a conversation to the following effect:
I said: "If we open a new shop in Byron and promote the business locally we could rely on at least achieving the sales you were getting when you had your shop in Byron Bay."
Sam said: "We did little advertising and have made a good income out of this business since we opened. Our local customers are loyal and keep coming back."
I said: "That's great, we'll do more local promotions to let everyone know about the new shop and we could also upgrade the website and advertise nationally so sales would grow from there."
Sam said: "We can do a mail out to our customers and let them know you are the new owners. This business has a lot of local goodwill with steady sales that you can rely on. Some of the testimonials we receive are amazing."
I said: "What sales were you achieved from your Byron Bay shop?"
Sam said: "It would vary from week to week but it was between $7,500 and up to $15,000 per week."
I said: "That would pay the basic bills until we got going."
Sam said: "Then it would grow once you moved to a larger shop and began advertising. However, it might take a couple of months for people to get used to a new shop especially if it's not close to your old one."
I said: "Yeah, and also if you can do those sort of sales figures in a regional area we can expect higher volumes in the cities after we get established."
Sam said: "I had planned to take this business nationally again but my bad back has prevented it. I'd love to see it really grow but I didn't need to as we made a good income out of it locally."
81 Mr McPhee said:
After general discussions with Sam in 2008 I came to the opinion that it would be necessary, if we did purchase the business and utilise the Paint technology developed by Sam and Anne that it would be necessary for Belle and myself to develop a market for sales on an Australia wide basis.
82 He also said:
In about mid November 2008 I had a meeting with Sam at Tyagerah. We had a conversation to the following effect:-
Me: "For us to take this product to a national level we will need to get rid of its hippy image, which might be okay for Byron Bay, and use a more commercially acceptable brand and logo".
Sam: "I accept that my logo and website are not right for a national market and need to be upgraded."
83 Mr McPhee described a meeting in December 2008 as follows:
At a meeting on or about 8 December 2008, I visited Sam at his factory and we spoke about the business. We had a conversation to the following effect:
Sam said: "I would need to agree with any business plan before selling the business. I have a lot of experience in this industry and know what is reasonable and what isn't."
I said: "I need to prepare a business plan anyway and would be happy for your input into it."
Sam said: "This is my income that I'm worried about. I won't agree to anything unrealistic."
I said: "I'm preparing cash flow projections for the business and need to put in starting monthly sales figures. What was your average monthly sales?"
Sam said: "Oh, about $40,000 per month is what you could expect. That included a fair bit of cash as well."
I said: "Can I see your business financials?"
Sam: "We had a flood that damaged a lot of our records. I don't have much".
I said: "That's OK what about your tax returns?"
Sam said: "Don't you trust me? It takes a lot for me to trust somebody. I don't like the way this is going. I have had many people try to rip me off! I am a spiritual person and I'm offended that you don't trust me!"
Sam got up and walked out of the factory into the house. Anne came in and said:
"Sam is very black and white and that's why he can get angry. He is a very spiritual man and completely honest. He can get upset quickly but he only wants the best for you. Don't worry, he'll calm down."
I then left and put in work on my cash flow projection worksheet utilizing the information from Sam.
84 Mr McPhee described subsequent events in these terms:
In about mid-January 2009 I finalised a business plan.
On about 28 January 2009 I attended a meeting at Sam's property at Tyagarah. Sam and Anne were present.
At this meeting, I produced to them the documents being the business plan and cash flow projections I had drafted out. Sam and I went through the documents and at the end of reviewing the documents we had a conversation to the following effect:
Sam said: "I think this business plan is realistic and has sufficient funds to achieve sales targets. You need $500,000 to make this really happen and not run out of cash. These sales figures will provide enough money to do ongoing research and development as well. But I need extra money upfront for lab equipment so that should also be in there."
I said: "I'll make some changes to timing of R & D expenditure and get back to you."
85 Mr McPhee received the emails from Mr Shomali in January to February 2009 described above.
86 Mr McPhee said that:
At a meeting in or about 3 March 2009 I delivered a final version of the business plan and cash flow projections to Sam. Sam examined it in my presence and we had a conversation to the following effect:
Sam said: "This is going to work. I've seen many business plans but this is realistic and isn't too optimistic. You have my total support. I only want the best for you."
I said: "Thanks Sam. I think this works for both of us. I have a lot to do starting with upgrading the brand."
I said: "I've got to work out opening hours. I'm not sure about opening on Saturday's as I want to spend weekends with my family. Do you think it's worth opening on Saturday's?"
Sam said: "Sales were often good on a Saturday and we could sell up to $5000 of paint for the day. You often get the couples together on a weekend. We can sell houselots of paint because of this."
87 The business plan which Mr McPhee showed to Mr Shomali is substantially the same as the subsequent plan (albeit with the cashflow projections starting earlier).
88 According to Mr McPhee:
In March 2009, I had a meeting with Sam at Tyagerah. I took along a folder containing sheets of paper each with a different brand name. On one of the sheets was the name "Ecolour".
I handed the folder to Sam and said words to the following effect:-
Me: "We are looking at different names to rebrand the business. I have set out my thoughts on it on the sheets in this folder. Have a look at the different suggestions and tell me what you think.
Sam looked at each of the sheets contained within the folder and said words to the following effect:-
Sam: "I like Ecolour. It will be good for us to have a business name that is close to yours for all licensing fees to be made to."
89 Mr McPhee said:
The company, Ecolour Pty Limited was incorporated on 4 June 2009 with Belle and myself each a director and each a shareholder.
From the date of its incorporation it was my intention to have Ecolour undertake all the marketing and sales of the paints utilising the paint technology.
90 According to Mr McPhee:
In March 2009, I came to a decision with which Belle agreed, to go ahead. In making this decision I relied on Sam's assurances made to me in our various meetings, including the statements by Sam as to the existing takings and sales in the local Byron area. I was certain that with these basic sales Belle and I would have sufficient base takings to meet our obligations to Sam under the proposed licence agreement and to minimise any need to draw on our financial reserves.
I also relied on Sam's projections of the potential for sales of $4 million per annum to be achieved within 2 years especially in light of the success Sam said that they had achieved when they operated nationally.
I also relied on Sam's assurances that the business plan was realistic based on his own experience.
91 According to Mr McPhee:
In the first month after the Licence Agreement was signed Belle and myself commenced manufacturing. As the batches of paint were produced it was placed in mostly 15 litre paint buckets each of which bore the Nature Cover name and brand. We introduced the Ecolour brand to the market about two months after taking over when the website had been built and labels and brochures were printed. When we first took over there was a stock of existing labels and we promoted the business at the new bigger premises and with new owners.
92 Mr McPhee noted that:
On 17 June 2009 whilst Anne was in attendance at our premises at Byron Bay I asked her to witness a confidentiality agreement with Max Manton in relation to confidentiality for the Paint technology…
93 The confidentiality agreement refers to Ecolour as the party but bears the seal of Chimes Management.
94 Thereafter, this occurred:
On 29 August 2009 Sam phoned me and we had a conversation to the following effect:
Sam: "I found out that you have set up a new company called Ecolour. You have done this to try to rip me off just like others have tried in the past."
I said: "I told you before that we were going to rebrand as Ecolour and you agreed to it."
Sam: "You're lying to me, I can't trust you."
95 As noted, correspondence ensued. In addition to that identified by Mr Shomali in his main affidavit it is apparent that Mr and Mrs Shomali sent an email to Mr McPhee saying:
Do not proceed any further with Ecolour until we have had further dialogue with our lawyer. He has brought to our attention that a company Ecolour Pty Ltd., was formed on the 4th June 2009 and he is in the process of ascertaining further information on this.
Our Licensing Agreement concerning our Intellectual Property is with Chimes Management Pty Ltd only, and this matter of change of brand name to Ecolour must be legally addressed if it is attached to a new company entity.
We will talk with you after we have spoken to our lawyers concerning this urgent matter, so any changes, if deemed necessary, can be carried out in the appropriate legal manner so it is in both our interests.
96 After Mr McPhee sent to Mr and Mrs Shomali the email on 29 October 2009 (set out above) their relationship, as emails disclose, deteriorated. On 25 November 2009 Mr Shomali sent an email to Mr McPhee saying that he would not have further verbal communications with Mr McPhee, would not enter the business premises and would not communicate with Mr McPhee's staff.
97 Mr McPhee said that after the email of 25 November 2009 from Mr Shomali he received no further correspondence and assumed there was no longer any issue concerning the division of operations between Chimes Management and Ecolour.
98 However, in February 2011 the correspondence from lawyers recommenced, as identified in Mr Shomali's main affidavit.
99 Mr McPhee described the activities of Chimes Management and Ecolour as follows:
From the commencement of business in June 2009 Belle and myself have operated the business on the following basis:
(a) The acquisition of all ingredients, packaging and labels is paid by Chimes.
(b) The equipment for manufacturing paint was purchased by Chimes from Sam and Anne.
(c) A new mixer was purchased about 4 June 2010 and this was paid for with a deposit from the Chimes bank account and the remaining sum from the Ecolour bank account – the purchase has been accounted for in the MYOB file for Chimes.
(d) Ecolour purchases paint from Chimes and sells it to customers.
The gross paint sales figures by Ecolour are the figures which I have utilised to determine whether any royalties have become payable under the licence agreement to Sam and Anne.
100 In respect of events from September 2011, Mr McPhee said:
Concerning the meeting on 11 September 2011, I had a prior discussion with Sam and Anne at LuLu's cafÉ in Mullumbimby about 9 September 2011. At that meeting:
I said: "We have in spending a lot of time and money promoting the business around the country but as sales haven't been close to where we had thought they would be I am running very low on available funds".
Sam did not respond to this but said:
Sam: "I want to see your factory and inspect the manufacturing as per my rights in the licence agreement. When can I come?"
Me: "You can come on a Saturday when it is quieter and we can look around."
Sam and Anne attended at our factory on 11 September 2011. During the course of the visit on 11 September 2011 Sam and I had a conversation to the following effect:
Sam: "The place looks very impressive and you have done a lot better than I thought you would."
Me: "What do you mean? We agreed on an achievable plan that had sales a lot higher than where they have been. I'm still committed to making this business a success and believe we have a real chance to grow but sales are still not at a level where we can make a profit".
Sam looked around and saw the testing equipment we had purchased to ensure batch consistency and professional quality control methods are followed. We had a conversation to the following effect:
Sam: "What is equipment? What are you doing with it? You have been doing research and development without letting me know. This is against the rules of the licensing agreement and you are ripping me off."
Me: "That's not true. This is only for quality control of each batch to test things like sheen level and that viscosity are within the required parameters. I am not ripping you off I just try to run professional business to the benefit of us all".
101 Mr McPhee noted that:
From the commencement of the business utilising the Paint technology in June 2009 to date the individual formulas for the Paint technology provided by Sam have been kept secure in a locked safe kept on the premises.
Since the commencement of business, the procedure adopted for manufacture is that each morning a respective formula will be taken from the safe to prepare for manufacture of the specific paint and the ingredients are selected and placed into a machine which produces a finished paint. The finished product is then placed into various capacity buckets.
If the buckets are not made available for direct delivery to a customer the buckets are placed in the storeroom or on the retail shelves.
In the case of a retail customer who selects a particular colour, the appropriated base paint, in its tin, is taken to the tinting machine and tinted to the required colour. The tinting does not utilise the Paint technology.
…
To my own knowledge neither Belle nor I have ever disclosed any confidential information concerning the Paint technology to any person other than to persons each one of whom has signed a confidentiality agreement in relation to the Paint technology.
102 Mr McPhee said:
Since June 2009 I have worked long hours to make the business viable and to try and achieve the level of sales sufficient to meet the expenditure incurred and to make a profit. In addition I have travelled interstate on sales trips on average once a fortnight for 2 to 3 days at a time to establish a customer base that included a full range of customers from individual "mum and dad" customers to large commercial customers.
…
Sales of paint products utilising the paint technology had been insufficient to meet the expenses incurred by the companies, including payment of licence fees to Sam and Anne.
103 Mr McPhee said that:
During this period from June 2009 to the end of December 2009 the showroom at our premises was opened on each Saturday during the hours 8 am to 2 pm. During this period, Belle and I only averaged approximately $200 per Saturday. Since Jan 2010 the showroom and retail sales outlet has been opened on Saturdays between the hours of 9am to 12 noon, however staffs are often there until after that time dealing with customer who walks in just prior to 12 noon.
104 Mr McPhee identified other correspondence with the Shomalis or their lawyers including:
(1) An email Mr McPhee sent to Mr and Mrs Shomali on 18 September 2011 which said, in part:
My cash situation is now dire with no more available funds, creditors refusing supply, wages to be paid and my own mortgage payments overdue.
I am now struggling to make the most basic payments for the business and my family. Loans are now more difficult to come by and borrowing is no longer an option for us. This week I will be focussing on chasing money from debtors, making arrangements with our creditors, reducing staff hours and trying to increase sales.
To add to my challenges Choice magazine has also just published an article testing low sheen paints and our product has been rated poorly in comparison to others on the market.
Moving forward I need to increase sales and improve our products performance as we have discussed.
The economic climate is difficult and the leading brands are in a price war with the introduction of Woolies hardware stores (Masters) that has squeezed margins.
As a result customers are more price sensitive but our excellent customer service and growing business relationships are helping us compete.
To try to achieve higher volumes from painters and corporates we are needing to offer discounts that keep our prices competitive.
It's no longer good enough to just offer a 'green' product, it also has to perform as well and be price competitive.
Businesses don't like extra risk in taking on a new paint and the idea of one that contains old engine oil has also slowed their uptake of our products.
Unfortunately I don't think I can make any more payments to you until we come up with a commercially viable solution for the future.
I am committed to making this business a success but believe that the changes to our agreement as per my previous email are essential to give me a chance to do that.
(2) A letter of 11 November 2011 from the lawyer for Mr and Mrs Shomali which said, in part:
Under clause 5.1 of the Licence Chimes Management Pty Ltd has failed to pay the Fixed Licence Fee for August, September and October 2011 of $19,614.95. Chimes Management Pty Ltd has not paid Royalty under clause 5.1(c) of the Licence since the commencement of the Licence to its termination for breach on 31st October 2011. In addition Chimes Management Pty Ltd is liable to pay the supplementary fee under clause 5.2 which was deferred consideration for the grant of the Licence.
Our clients claim the following sums from you
1. Unpaid Fixed Licence Fee under clause 5.1 of the Licence: $19,614.95.
2. All Royalties pursuant to clause 5.1 for the term of the Licence
3. The supplementary fee under clause 5.2 being $450,000.00 calculated in accordance with clause 5.2 of the Licence less any amounts paid under paragraphs 1 and 2.
Our clients have also suffered further loss and damage with respect to Chimes Management Pty Ltd's breaches of the research and development funding obligations in clause 7(c) of the Licence. Our clients reserve the right to bring action to enforce payment of these amounts without further notice.
Our clients also require the following undertakings to be given by you for yourselves, your employees and agents:
…
(3) A letter of 14 November 2011 from the lawyer for Mr and Mrs McPhee to the lawyer for Mr and Mrs Shomali which said, in part:
Your letter of the 11th November is the subject of this reply.
On 29 September you gave notice requiring our client to pay the licence fee for the previous month that was overdue. That letter did not terminate the agreement and in fact it expressed the hope that such action did not prove necessary.
Our client's response was to make a part payment of $2,500.00 and to seek discussions to change the payment arrangements due to the cash flow restraints being experienced by the business.
…
The license has not been effectively terminated and our client has today deposited the funds for August and September which have been borrowed to bring the payments up to date. So far as October is concerned which falls due today our client is seeking discussions thereon.
As to the future our client will not continue unless some clarity is brought to the agreement.
Our client continues to fill orders and take new orders and manufactures the paint using the formulas and will do so until the licence is properly terminated by either party. If this is to be the outcome then a sufficient period should be agreed for the orderly discontinuance of the use of the formulas and the fulfilment of the other obligations under the agreement causing the least disruption to the company and securing the resultant profit to your client.
We trust that reason will prevail and a consultation between our client and an accountant appointed by your client can be arranged to work on an affordable change in arrangements so that future benefits for both parties are secured. However if your client insists upon enforcement of the existing arrangement then our client will need to decide whether or not to continue.
105 In an affidavit in reply Mr McPhee said, amongst other things:
(1) If Sam had been negative about the paint industry and the business's potential I would have either not bought it or if we had the sale price would have been lower and the licencing agreement would not have included generous minimum fees.
(2) We initially began trading under the name of 'Nature Cover Paints' until approximately September 2009. Over the period June – September we developed the new brand and prepared a marketing plan including upgraded website. Despite heavily marketing to the local market sales were far below expectations and we started marketing nationally.
106 Mr McPhee was cross-examined. He gave this evidence:
(1) Mr Shomali had told him that he had recently moved the business from the Byron Bay industrial area to the shed at his home due to problems with the landlord.
(2) Mr Shomali had told him that he had a back problem and a knee problem.
(3) The Ecolife business plan was one of the sources Mr McPhee used to prepare the business plan.
(4) Mr Shomali gave him the costs of the raw materials he used in the manufacture of his paints.
(5) Mr Shomali showed him some invoice books of sales, described as "handwritten invoice books, and there was only a couple, and it only related to a short period of time… since they moved the factory back to Tyagarah".
(6) Mr Shomali did not give him a business plan for Nature Cover Paints or provide him with any written down cash projections. However, Mr McPhee developed the cash flow projections for the business after sale with Mr Shomali. About the business plan and cash flow projections Mr McPhee said:
we [he and Mr Shomali] developed it together.
(7) Mr Shomali "completely said that it [the business] was ready to go national".
(8) Mr McPhee had asked for the financial records of Nature Cover Paints and the tax returns but was not given them as explained.
107 Mr McPhee said:
● …the main ones that I was after were the annual accounts or the monthly sales figures, and I had to rely on verbal representations, because they weren't provided.
● we were moving back to the same area, and we wanted to capitalise on the good will that I had been told was there, and wanted to – needed to know what was the base that we could expect if we marketed, we could start the business at.
108 Mr McPhee said:
● The existing business would have given us a start, a starting turnover and then we expected to change the brand as I said when – to go national and that's what we based our projections on.
● I was mainly basing my – my expectation about the turnover on the shop in Byron Bay and the fact that we were going to be going back to Byron Bay and he had only just moved to Tyagarah and no one really knew that.
● So the point is, the turnover of the business of Nature Cover Paints – the sales made – were really irrelevant to your plans. Weren't they?---No. They were very important, because they gave us a base that we could expect to get to very quickly when we did some advertising, and then grow from there.
109 This evidence was given:
Now, I suggest to you that you never asked for those underlying financial documents?---That's not true.
Right. And you're aware that Mr Shomali says that you never asked for those documents?---I'm aware that's what he claims now.
Right. You knew that you were dealing with a small business, sitting out in Tyagarah swamp. That's correct, isn't it?---Yes.
…
[W]hatever your past view of the reputation of Nature Cover Paints in 2005, the business of Nature Cover Paints, by November/December 2008, had suffered significant reverses. That's true, isn't it?---I didn't know that.
…
I had no idea that there had been anything negative happen to the business between 2005 and 2008.
But Mr Shomali had told you, hadn't he, that he had problems with the landlord, court battle with the landlord, back problems, these were the hallmarks, weren't they, of a business that was in a not very good condition in November/December 2008?---That's not true. It was – he told me that he had had some problems over noise, and needed to move the business in November, and that's all.
110 Other evidence included:
● Mr Shomali said nothing to you in November, December 2008 that would have led you to believe that he had business acumen?---That's not true.
His expertise was in the development of formulations of paint and stains. That's correct. Isn't it?---He said that was one of the things that he had done. Yes.
● You had formed an opinion in November, December 2008 that if you were going to go ahead with the purchase of Nature Cover Paints, you would need to change the brand name it was using. Correct?---Sam and I discussed that and spoke about going to a national market and, yes, changing the brand and making it more commercial.
You wanted the name "Eco" in there somewhere to promote a green image for the paints?---Yes. An environmental.
An environmentally friendly image for the paints?---Yes. Because I was led to believe that was the main benefit of the paint.
● So by 1 June 2009, you were ready to start trading?---Probably took us a week but thereabouts. Yes… We advertised locally for about three months. It took us – we didn't get our labels until December 2009, which were Ecolour. We set up a landing page – a website landing page in September 2009 but we – yes – probably about six months before we did a complete changeover to Ecolour.
111 About the use of the Ecolour brand Mr McPhee gave evidence as follows:
But, really, by September 2009, you were, really, effectively, trading as Ecolour Pty Ltd. Weren't you?---No. We were still advertising in the local market under the name of Nature Cover Paints.
All right?---And we had – even when we went to Ecolour, we had "formerly Nature Cover Paints" in there.
Given your plans were to change the name of the business – the brand name and the products to Ecolour, it didn't make a lot of sense to spend a lot of money promoting Nature Cover Paints. Did it?---We wanted to capitalise on the goodwill that we thought we were buying and so we continued with Nature Cover Paints and expecting – and then do a transition over time to Ecolour.
But that transition, basically, started in September 2009. Didn't it?---We went to an expo up in Brisbane in September 2009 and, I think, that was the first time that we put up a banner of Ecolour. But all of the buckets were still having Nature Cover Paints on them.
112 The following evidence emerged also:
● I am going to put it to you that in November/December 2008 Sam Shomali never said to you that the business – the business Nature Cover Paints was taking in $50,000 worth of sales per month, is that correct?---It's not correct.
● And I put it to you that Sam Shomali never said to you in November/December 2008 that the business was making between seven and half thousand and $15,000 a week turnover?---That's not correct.
● And I put it to you that Sam Shomali never said to you that he wanted an income of $1500 a week?---He told me that that was roughly what they were surviving on and the business was providing and – and that tallied up with the turnover figures that he had told us and he said he needed to have a better income than that or at least maintain that.
● I put it – in November/December 2008 Sam Shomali never said to you that he and Anne Shomali would sell an average of over $5,000 worth of paint for the day from their store?---Of over $5,000?
Yes?---Not – I don't think it was over $5,000. I think it was up to $5,000 is what they would – they would say and then they said that often the mums and dads would come in on a Saturday and buy a house lot because they would be working during the week and so you could have a big day on a Saturday and that's what they told us…
● I suggest to you that Sam Shomali and Anne Shomali never said to you that they sold an average of $5000 worth of paint from their shop on a Saturday?---I don't think it was an average of $5000, no… They told me that they would sell up to $5000 of paint on a Saturday, depending on who came in. But it was – I don't think it was an average of $5000 on a Saturday.
● Sam Shomali never said to you in November/December 2008 anything about the sales figures of Nature Cover Paints. Did he?---Well, that's not true. No. He did tell me about the sales figures.
● Mr Shomali told you he wasn't doing much advertising in the business of Nature Cover Paints. Did he?---Yes. He said that he wasn't doing much advertising, if any, yes.
● So a person who doesn't advertise wouldn't really be expecting the world to beat a path to their door to buy their paint. Would they?---This is why we thought that when we did some advertising we would be able to increase the turnover of the business.
113 Mr McPhee said that the business had ultimately failed in 2013 and he expected both Chimes Management and Ecolour soon to be placed in liquidation. They had ceased trading in early June 2013. Ecolour had purchased all stock and assets from Chimes Management and then a new company, Ecolour Australia Pty Ltd, had purchased the remaining business and assets (excluding the Paint Technology) from Ecolour for $55,000. Mr McPhee knew the director of Ecolour Australia Pty Ltd who had previously helped them with marketing. He also gave this evidence:
Up to the period in 1 June 2013, you were still selling paint made according to the paint technology. Is that correct?---No. We started changing formulations last year, once we realised that we weren't going to get an agreement in this matter and needed to come up with something different. We had hoped, up until that stage, that we would come up with some commercial agreement.
…
[W]e changed a few ingredients and bits and pieces. A number of raw materials that are on the original formulation are – some are no longer available and have been replaced by newer, better, ingredients.
All of the formulations that you used from September 2012 onwards depend upon the RBO formula. Don't they?---No, no, no. They don't. We found that you can – as I said, it's a bit like mayonnaise, and the emulsion that I discussed yesterday, that we get from RLA Polymers, that is what's used as a binder to hold the paint, all the paint together, as the main ingredients in paints. And so you can actually mix up oil with that binder and create, like, a mayonnaise. There's a couple of different ways to do it, but we found that you can actually just literally pour in – when you're talking 0.3 per cent of the oil - - - you can just pour it straight in, and it doesn't make any effect.
114 When asked about payments from Chimes Management to himself Mr McPhee said:
It's a payment to pay some of the bills that we were having but we had injected all of our money into it. And then, as we paid off loans or needed money, we would take money out and pay loans or bills that we had. But our financial records show the income that we have had – and we provided discovery of that – and that is a range of about $50 000 to $75 000 in income per year, from memory. But over the time, as we've provided in discovery, I think we've injected about $1.2 million into the business and what has come out has been, I think, once again from memory, is about 500. But that is to pay bills and pay back the loans that we've put the money in.
115 Mr McPhee also gave the following evidence:
● The point is part of what you advanced to the court is that the reason these companies failed was the license fees were excessive. Correct?---Yes. We couldn't afford them. Yes.
● You could afford to pay yourselves back, of course. Couldn't you?---I think, just when we looked at those bills in September, there was not any money left in the end. It was all going to pay back loans and our commitments that we had at that stage because we would inject - - -
● You were putting yourself first before your licensor, in this instance. Weren't you?---Yes.
● I suggest to you that the reason why these businesses fail lies, in part, in the problems you talk about at court book 925. You want to go back there?---Yes.
There's a price war. Was that a national price war, Mr McPhee?---What it is – Woolies with their master store and Bunnings, that's where the manufacturers were going. They were selling their products in those stores and that had changed things a bit, but not greatly because it was more about the retail market out there, but it was affecting us. Yes.
It was a pretty competitive market. Wasn't it?---Yes, yes. It was.
And you were being squeezed in that market?---Yes.
And you had to discount to make sales of paint in that market. Correct?---If we were going to go through these stores, yes.
You were in competition selling the paint, made according to the paint technology, with the likes of Dulux, for example?---That's right. Yes.
Yes. And British Paints and all the rest of the well-known big, great brands?---That's right.
And you were a minor player in that?---Yes.
And in the end, the net cause of the failure of your business is twofold. Isn't it? You paid yourself too much – you paid yourself back too much. Is that correct?---No.
All right. And you were the loser in ordinary market competition?---No. I don't think that's the case. No.
You couldn't make enough sales to make these businesses viable?---Well, that's true. Yes. We haven't been able to get the sales that we had expected or projected to get to fund that growth.
All right. And that had nothing to do with any representation made by Sam Shomali to you. Did it?---Yes. It did. Yes. It had a lot to do, because - - -
…
We hadn't achieved the sales projections that we thought we were going to achieve and, therefore, we couldn't afford to pay the bills. The minimum license fee was, obviously, costing us a lot at that stage compared to our turnover and that was our biggest bill.
Isabelle McPhee
116 Mrs McPhee was not present at any of the meetings Mr McPhee had with Mr Shomali. Mr McPhee reported back to her about his discussions and she relied on what he told her about those discussions in deciding to proceed with the purchase of the business from Mr and Mrs Shomali. Mrs McPhee said:
I saw many different versions of the business plan that you took to your meetings and brought back with pen marks on and made amendments to take to the next meeting. We had conversations always when you came back about the pen marks and the amendments that you were making, so I sighted that all the way through to the one that was the final product.
117 Mrs McPhee also said:
So I heard the stories through you of the business dealings in Melbourne, the massive increase at 3000 per cent of their turnover, the short timeframe around the increase in that turnover in the retail shops where the product was welcomed and the Ecolife business plan, which was one of the first things that you brought back to commence and base your business plan on, which had been given to you.
DISCUSSION
Some preliminary observations
118 The misleading and deceptive conduct case brought by Mr and Mrs McPhee depends on the making of oral representations. As such, it is appropriate to take account of the frailties of memory, as discussed by McLelland CJ in Eq in Watson v Foxman (1995) 49 NSWLR 315 at 318-319 :
Where the conduct is the speaking of words in the course of a conversation, it is necessary that the words spoken be proved with a degree of precision sufficient to enable the court to be reasonably satisfied that they were in fact misleading in the proved circumstances. In many cases (but not all) the question whether the spoken words were misleading may depend upon what, if examined at the time, may have been seen to be relatively subtle nuances flowing from the use of one word, phrase or grammatical construction rather than another, or the presence or absence of some qualifying word or phrase, or condition. Furthermore, human memory of what was said in a conversation is fallible for a variety of reasons, and ordinarily the degree of fallibility increases with the passage of time, particularly where disputes or litigation intervene, and the processes of memory are overlaid, often subconsciously, by perceptions or self interest as well as conscious consideration of what should have been said or could have been said. All too often what is actually remembered is little more than an impression from which plausible details are then, again often subconsciously, constructed. All this is a matter of ordinary human experience.
119 This is consistent with the submission for Mr and Mrs Shomali, which I accept, that:
Special caution needs to be applied to oral representations that turn on questions of human memory including of conversations back in November – December 2008. In additional oral misrepresentations must be considered in their context and on a consideration of the circumstances at the time which the alleged misleading and deceptive conduct took place. Such oral representations must be proved to the requisite degree of precision required before the Court could be satisfied that whatever representation that has been proved was misleading or deceptive in the circumstances in which it was made; Citrus Queensland Pty Ltd v Sunstate Orchards Pty Ltd (No 7) [2008] FCA 1364 at [97] point 2 and [97] point 3.
120 In assessing the evidence about the conduct of the negotiations leading up to the sale of the business and the licence these observations need to be kept in mind. Moreover, given that the primary witnesses about each side of the negotiations (Mr McPhee and Mr Shomali) both have a direct interest in the outcome, the observations apply to the evidence of each witness, although of course it is Mr and Mrs McPhee who bear the onus of proof in respect of their claims of misleading and deceptive conduct and thus the onus to establish with sufficient precision the words actually said and the circumstances in which they were said.
121 The pleaded misrepresentations are that Mr Shomali, in the presence of Mrs Shomali, represented to Mr McPhee that:
(a) The business being conducted by the Cross Respondent was a successful business but that they wished to get out of the manufacturing and selling of the paint using Paint Technology as they both wished to retire.
(b) Existing sales being made by the Cross Respondents were substantial and that even on a Saturday, they would sell on an average over $5000 paint for the day from their store.
(c) The sales being achieved by the Cross Respondents on a monthly basis were about $50,000 per month.
(d) These monthly sales figures were being achieved notwithstanding that the Cross Respondents did little advertising and were selling only into a small market.
(e) On the basis of the sales figures that the Cross Respondents were already achieving and on conservative projections the business had a very realisable potential for sales of over $4 million per annum within two years at the least.
(f) The Cross Respondents' estimation of future sales were realistic and achievable, based on the Cross Respondents' extensive experience in the industry and the benefit of the paints, utilising the Cross Respondents' Paint Technology leading to increased market penetration by reason of it being an exceptional product in the market.
(g) The price for the purchase of the Cross Respondents business was good value based on the value of existing sales and realistic future sales projections.
(h) The amounts that would become payable under the licensing agreement, by way of license fees, royalty payments and supplementary payments were realistic and readily achievable in the context of the existing sales and projected future sales achievable within the first 2 years.
122 However, during the course of the hearing additional alleged oral misrepresentations emerged as important. In particular, it was apparent that Mr McPhee alleged Mr Shomali had told him that:
(1) When they were conducting the business from the Byron Bay industrial area they [Mr and Mrs Shomali] were making a net profit of about 10 to 15%.
(2) When they were conducting the business from the Byron Bay industrial area they [Mr and Mrs Shomali] were selling between $7,500 and $15,000 of paint per week.
(3) When they were conducting the business from the Byron Bay industrial area they [Mr and Mrs Shomali] had an income from the business of about $1000 to $1500 per week.
(4) To sell the business they [Mr and Mrs Shomali] would therefore have to receive a better offer than the income they were currently receiving from the business.
(5) The financial records and tax returns for the business had been lost in a flood.
123 Further, according to Mr McPhee, Mr Shomali and Mr McPhee agreed that, having regard to the sales achieved by the business when based in the Byron Bay industrial area, the business plan was based on sales of approximately $50,000 per month, with the licence fee and other fees payable to Mr and Mrs Shomali calculated (to Mr Shomali's knowledge) to be affordable having regard to the sales previously achieved (and thus considered to be achievable for the business once it was re-established in the Byron industrial area as was proposed and in fact occurred).
124 It was clear that the case of Mr and Mrs McPhee was that these additional misrepresentations had also been made and were relevant to their claims. Mr McPhee cross-examined Mr Shomali about each of the matters set out above. Mr McPhee was also cross-examined about those matters. The observations in Dare v Pulham (1982) 148 CLR 658; [1982] HCA 70 at 664 are applicable [case references omitted]:
Pleadings and particulars have a number of functions: they furnish a statement of the case sufficiently clear to allow the other party a fair opportunity to meet it… ; they define the issues for decision in the litigation and thereby enable the relevance and admissibility of evidence to be determined at the trial…; and they give a defendant an understanding of a plaintiff's claim in aid of the defendant's right to make a payment into court. Apart from cases where the parties choose to disregard the pleadings and to fight the case on issues chosen at the trial. The relief which may be granted to a party must be founded on the pleadings…But where there is no departure during the trial from the pleaded cause of action. A disconformity between the evidence and particulars earlier furnished will not disentitle a party to a verdict based upon the evidence. Particulars may be amended after the evidence in a trial has closed…, though a failure to amend particulars to accord precisely with the facts which have emerged in the course of evidence does not necessarily preclude a plaintiff from seeking a verdict on the cause of action alleged in reliance upon the facts actually established by the evidence...
125 In the present case there was no departure from the pleaded cause of action. There was some disconformity between the evidence and the particulars of misleading and deceptive conduct. The disconformity, however, did not relate to new matters or matters unconnected with the original pleaded misrepresentations. It was also apparent from Mr McPhee's evidence that the misrepresentation pleaded at (b) was inaccurate. According to Mr McPhee Mr Shomali did not say that even on a Saturday they would sell an average of $5000 of paint from their store. Mr Shomali said they would sell up to $5000 of paint from their store on a Saturday. In respect of all of the particulars of misleading and deceptive conduct I consider that the case should be determined on the facts actually established by the evidence and, if the requisite facts are established, Mr and Mrs McPhee should not be denied relief because of the way in which their case was pleaded.
126 A further preliminary observation is appropriate. It is that, to the extent it was submitted for Mr and Mrs Shomali that Mr and Mrs McPhee had to prove that each and every representation was made in order to succeed, I do not accept the submission. The submission appears to overlook the nature of causation both in terms of conduct constituting a material (rather than the sole) inducement to enter into a contract and a material (rather than the sole) cause of loss. As explained below, however, this observation is not engaged in the present case in any event.
127 Otherwise, I accept the submission for Mr and Mrs Shomali that insofar as Mr and Mrs McPhee claimed misleading and deceptive conduct by Mrs Shomali, the claim must fail. The highest the evidence goes is that Mrs Shomali was present during many (perhaps all, although that is unclear) of the discussions between Mr McPhee and Mr Shomali. It also appears that Mrs Shomali had an email account and sent emails to Mr McPhee. Those emails, however, were created by or with Mr Shomali and sent with his knowledge. But it is not said by Mr and Mrs McPhee that any email was misleading. Their case is one of oral misrepresentation by Mr Shomali. The mere presence of Mrs Shomali, even if during all relevant conversations, is insufficient to establish a case against her. There was no evidence she was actively engaged in the relevant conversations. There is insufficient evidence to be satisfied that she was subject to any duty to correct any misrepresentation. In these circumstances, the misleading and deceptive conduct case is properly to be treated as one against Mr Shomali.
Mr Shomali and Mr McPhee – general
128 Each party challenged the credit of the other. The challenge to credit was unavoidable given that, in essence, Mr McPhee says Mr Shomali made certain representations and Mr Shomali denies outright doing so.
129 A number of matters indicate that the evidence of Mr Shomali, where disputed by Mr McPhee, should not be accepted.
130 For example, Mr Shomali was insistent in his affidavits and his oral evidence in chief that the business plan was the creation of Mr McPhee alone. The impression Mr Shomali must have wished to create was that he, Mr Shomali, had nothing to do with the business plan. Yet on 12 January 2009 Mr Shomali caused an email to be sent requiring Mr McPhee to prepare a "precise" business plan for the first three years and information guaranteeing funds were available to implement the business plan. On 19 February 2009 another email insisted that the final business plan be included in the sale agreement. On 28 May 2009 another email sought an assurance that the business plan was as Mr Shomali had sighted. Mr Shomali's explanation of this evidence was revealing. On the one hand he said that this insistence about the business plan was a result of legal advice, the implication being it had nothing to do with him. On the other hand, he agreed that he needed to see the business plan because it would let him know what money was available for his research and development. It is clear from the business plan that money would be available for research and development only if the business made a profit. Mr Shomali, accordingly, had a keen interest in knowing that the business would make a profit. The notion that he took no interest and had no involvement in the business plan, given that the research and development moneys (let alone any royalties) would all be paid only if the business made a profit, is inherently unbelievable and contradicted by the contemporaneous emails.
131 Other aspects of the evidence of Mr Shomali were also inherently unbelievable. Despite the submissions to the contrary on his behalf, Mr Shomali plainly believed he is an expert in paint products and the paint industry, having been in the industry for thirty years. He believed in his product. He thought the product was unique. Moreover, in cross-examination, he said he thought the sale of the business at $180,000 was "very good value". He also said he believed that the business had "high potential in the future". He accepted that he had told Mr McPhee all about the history of the development of the product and how well it had been received including: (i) the product appearing on the ABC, SBS and Beyond 2000, (ii) the interest of Shell International in the product, (iii) the plans Mitre 10 had for the product, (iv) in only one year in Melbourne, the product had expanded into 40 retailers and 400 stores Australia wide, (v) he had obtained grants based on a research and development program worth some $6 million, (vi) the output increased by 3000% from the first to the second year of business, (vii) Raleigh Silverware also wanted to do a deal in respect of the product, (viii) they had to liquidate the original company because of the fraudulent conduct of an investor, (ix) Ecolife had been interested in a plan for the rapid national and multinational expansion of sales of the product, and (x) after re-establishing in Byron Bay they moved the factory from the industrial area to the shed at their home because of a dispute with the landlord. Despite having acknowledged that he said all these things and truly believed his product had a "very good name" and the business was "very good value" (presumably based on his thirty years in the paint industry) Mr Shomali would have it that during negotiations he said nothing about the performance of the business or about the potential of the business after the proposed sale to Mr McPhee. As noted, this was the evidence:
In November/December 2008, did you express any views about the prospects of your business, Nature Cover Paints, to Mr McPhee?---No, not at all.
132 In the context described above this evidence lacks plausibility. The evidence becomes even more incredible when it is considered that the licence provides for the research and development fees and the royalties all to be paid from profits. It is obvious that Mr Shomali believed his product was unique. This is no doubt the reason that, when he became frustrated with the fact that Mr McPhee had not agreed to purchase by 19 February 2009, he caused an email to be sent saying (in part) "[y]ou show enthusiasm about how brilliant the business could be if our skills were working together, and we agree with you, but yet you hesitate to put down a 10% deposit even after 3 months of negotiations when you have had ample time to know if you wish to carry on with this project". In this email Mr Shomali clearly says he agreed the business would be "brilliant" if he and Mr McPhee put their skills together – yet would have it that he said not one word to Mr McPhee about the performance of the business as it existed or its potential. And in the email of the following day, 20 February 2009, Mr McPhee's input of $600,000 is described as "play money" compared to what the Shomalis had invested in the product since 1982, and the product "is now ready to go, especially in the current global situation". The contemporaneous emails alone, let alone the context, the terms of the licence agreement, and common sense, undermine the credibility of Mr Shomali's evidence.
133 Other examples of inherently implausible and inconsistent evidence of Mr Shomali are apparent. In cross-examination Mr Shomali denied saying anything to Mr McPhee about the need to maintain his level of income or what income he was receiving from the business. He also denied that he had any initial interest in selling the business and, in effect, presented himself as having been persuaded to do so by Mr McPhee. Yet in his own affidavit Mr Shomali had said that, because he and his wife were comfortable as they were, anything Mr McPhee could offer had to be better than their current situation to make it worthwhile. It is difficult to conceive of what Mr Shomali meant by his current situation if he did not mean his financial situation. Nor could Mr and Mrs Shomali being in a "better" situation have been the subject of any meaningful negotiations if Mr Shomali had said nothing to Mr McPhee about their current situation. The notion that Mr Shomali did tell Mr McPhee that in order to sell the business the income Mr and Mrs Shomali would receive had to be better than they were currently receiving from the business is consistent with Mr Shomali's affidavit evidence and accords with common sense. Why else would Mr and Mrs Shomali sell their business unless persuaded they would be better off financially? Moreover, after things began to go wrong, Mr Shomali did not hesitate to remind Mr McPhee in an email of 17 December 2010 that they had "handed over to you our means of income" and in an email of 8 March 2010 that "[w]e had an income, we were making money, but our means to do so, we handed over to you". Yet in cross-examination it became apparent that Mr and Mrs Shomali had not had any real income from the business at all. In fact, they were relying on Mr Shomali's disability pension as their source of income. As to the business, the financial statements (which Mr Shomali said Mr McPhee never requested and Mr McPhee said he asked for but was told had been lost in a flood) showed Mr and Mrs Shomali had not paid themselves any wages at all in 2008 , a total of $970 in 2007 and none in 2006.
134 Moreover, Mr Shomali said in his affidavit that they were making a "modest profit". This was not true. The financial statements show a loss of about $11,000 in 2006, a profit of just over $4,000 in 2007 and a loss of nearly $6,800 in 2008. On this evidence Mr and Mrs Shomali were not making a "modest profit" from the business at all. In total over the three years before the sale, when they were operating from the Byron Bay industrial area, they were running at a loss. It emerged in cross-examination that their real source of income was the disability pension and, insofar as income from the business was concerned, they did sell "some products" and bartered but they lived off the Centrelink benefits. In this context, the notion that Mr Shomali had no interest in selling the business to Mr and Mrs McPhee and said nothing to the effect that his income level would have to be better than his current situation is unbelievable. The inescapable fact is that Mr and Mrs Shomali were going to be vastly better off under the licence, which involved a payment of $6,500 per month to them irrespective of the performance of the business after sale.
135 Yet another example of implausibility is provided by Mr Shomali's presentation of himself as open about all aspects of the business with Mr McPhee yet Mr McPhee never asking to see any of the financial records of the business because, as Mr Shomali put it, Mr McPhee was interested only in the potential of the business and thus did not care how it had previously performed. The notion that a person interested in the potential of a business would have no interest in seeing how the business had previously performed is unbelievable. Moreover, it was intended to re-establish the business in a factory in Byron Bay and the business plan indicates that it was intended to consolidate and then expand the business locally before expanding into the national market. In other words, the first step in the business plan was to re-gain the sales which had been lost when the business had to be shifted from the industrial area due to Mr Shomali's dispute with the landlord. For that first step to make sense Mr McPhee needed to know how the business had performed when it was located in the Byron Bay industrial area. For Mr McPhee (who had previously run a business) to have not asked to see the financial records of the business he and his wife were proposing to acquire suggests he was remarkably naÏve. Yet Mr McPhee did not appear naÏve in giving his evidence. Moreover, when describing why he had provided Mr McPhee with the costs of raw materials Mr Shomali said that Mr McPhee had to be certain that he, Mr Shomali, was telling him the truth about the margin, being the cost of raw materials against sales. This indicates that Mr Shomali had told Mr McPhee the margin but Mr McPhee wanted to see the data for himself.
136 The contemporaneous email communications are again revealing. They disclose that, despite his presentation of himself (both in evidence and in the emails themselves) as open and forthright, Mr Shomali was anything but open about the business. In particular, it is apparent that in the 17 February 2009 email Mr Shomali was saying that he would allow Mr McPhee to see the costs of two products (described as the "biggest sellers") only if he paid in advance a 10% deposit (that is, $18,000). Mr McPhee did get to see the costs without having to pay the deposit but the point is that this shows Mr Shomali making it very difficult for Mr McPhee to see basic information about the business and Mr McPhee insisting on seeing it. This is inconsistent with Mr McPhee not having asked to see the financial records. Mr Shomali, it must be said, had very good reason not to let Mr McPhee see the financial records. The records showed that over the total of the past three years when the business was operating from the Byron Bay industrial area (just as Mr McPhee intended to do during phase one of the business plan) the business ran at a loss despite Mr and Mrs Shomali having only paid themselves $970 in wages over the entirety of that period.
137 Mr Shomali also repeatedly referred to having made the sales books available to Mr McPhee. The very fact that Mr McPhee wanted to see at least the current financial records is inconsistent with him not having asked to see the financial records of the business when it was operating in the industrial area. Moreover, the sales books, according to Mr McPhee, were simply records of invoices over a relatively short period, to the best of his recollection, relating to the months after the business had moved from the industrial area to the shed on Mr and Mrs Shomali's property.
138 When asked about having told Mr McPhee that the net profit of the business was between 10 to 15% Mr Shomali's initial response was that seemed very low but, having been taken to the financial statements, he agreed his business had not made a profit and that it had been "run as a research and development".
139 This may all be contrasted with the cogency, inherent plausibility and internal consistency of Mr McPhee's evidence.
140 Mr McPhee said he asked to see the financial records of the business but was told they had been lost in a flood. The fact that he asked is what would be expected of a person who had previously run a business and had spent time and effort preparing a business plan that was based on the premise that the business, having recently moved out of the Byron Bay industrial area, would be re-established in that area and would relatively quickly reach the same level of sales that Mr and Mrs Shomali had enjoyed without any real advertising effort. The business plan, a contemporaneous document, is consistent with Mr McPhee's evidence and inconsistent with Mr Shomali's evidence. The business plan does not show the business running at a loss for three years, contrary to Mr Shomali's evidence about what Mr McPhee had said. The business plan shows the business quickly gaining sales of $50,000 per month which is consistent with Mr McPhee's evidence of sales of between $7,500 and $15,000 per week. The business plan also shows Mr and Mrs Shomali being paid a licence fee of $6,500 per week. This is consistent with Mr McPhee's evidence that for the sale to proceed Mr and Mrs Shomali had to be better off and Mr Shomali having said that they were currently receiving an income of $1,000 to $1,500 per week income from the business. It is also consistent with Mr Shomali's affidavit evidence that to sell the business he and his wife had to be better off than their current situation. A licence fee, not dependent on the performance of the business, of $6,500 per week meant that Mr and Mrs Shomali would be better off by about $500 to $2,500 per month, if their income from the business had in fact been $1000 to $1500 per week. The only inconsistencies are with Mr Shomali's denial of having said this (which I do not accept) and the financial records which show no income from the business at all (which Mr Shomali ensured Mr McPhee did not see). And on all versions of the evidence it is clear that Mr Shomali never showed Mr McPhee the financial records and never told him that the business had lost money over the last three years despite Mr and Mrs Shomali having paid themselves effectively no wages at all. What Mr Shomali did do, as it emerged during cross-examination, was to tell Mr McPhee all about the past successes of the business. And what he did do, as the emails disclose, is agree with Mr McPhee about the brilliant potential of the business.
141 Against this background, Mr McPhee's evidence about Mr Shomali's representations to him during the negotiations leading up to the sale of the business and entry into the licence agreement are consistent with the contemporaneous records, inherently plausible and internally consistent. The same cannot be said of Mr Shomali's evidence. By reference to the representations both as pleaded and as otherwise identified during the hearing, there is evidence from Mr McPhee that Mr Shomali represented to him that:
• the business being conducted by Mr and Mrs Shomali when it was located in the Byron Bay industrial area was a successful business;
• on a Saturday Mr and Mrs Shomali could sell up to $5,000 paint for the day from their store in Byron Bay;
• when they were conducting the business from the Byron Bay industrial area Mr and Mrs Shomali were selling between $7,500 and $15,000 of paint per week;
• these sales figures were being achieved notwithstanding that Mr and Mrs Shomali did little advertising and were selling only into a small market;
• when they were conducting the business from the Byron Bay industrial area Mr and Mrs Shomali were making a net profit of about 10 to 15%;
• when they were conducting the business from the Byron Bay industrial area Mr and Mrs Shomali had an income from the business of about $1,000 to $1,500 per week;
• to sell the business Mr and Mrs Shomali would have to receive a better offer than the income they were currently receiving from the business;
• the financial records and tax returns for the business had been lost in a flood;
• on the basis of the sales figures that Mr and Mrs Shomali had been achieving from the Byron Bay industrial area and on a conservative projection the business had a very realisable potential for sales of over $4 million per annum within two years at the least;
• Mr Shomali's estimation of future sales was realistic and achievable, based on Mr Shomali's extensive experience in the industry and the benefit of the paints, utilising the paint technology leading to increased market penetration by reason of it being an exceptional product in the market;
• the price for the purchase of the business was good value based on the value of existing sales and realistic future sales projections;
• the amounts that would become payable under the licensing agreement, by way of license fees, royalty payments and supplementary payments were realistic and readily achievable in the context of the existing sales and projected future sales achievable within the first 2 years,
(the representations).
142 I accept that Mr McPhee did not give evidence to the effect that Mr Shomali represented to him that the sales Mr and Mrs Shomali were achieving from the Byron Bay industrial area were about $50,000 per month. However, Mr McPhee did give evidence that Mr Shomali said to him that Mr McPhee could expect that his average monthly sales would be about $40,000 per month. Moreover, this is consistent with the evidence that Mr McPhee gave that Mr Shomali had told him they had been selling from the Byron Bay industrial area between about $7,500 and $15,000 of paint per week. The financial statements, of course, show sales nothing like between about $7,500 and $15,000 of paint per week or about $40,000 per month. In 2006, total sales were close to $70,000. In 2007, total sales were close to $66,500. In 2008, total sales were close to $59,000.
143 The difference in the cogency, plausibility and internal consistency of the evidence of Mr McPhee compared to that of Mr Shomali was striking. For example, when asked about average sales on Saturday Mr McPhee immediately said (and repeated when asked) that Mr Shomali had not told him about average sales on a Saturday but had told him that they made sales of up to $5,000 on a Saturday. Mr McPhee did so despite the pleaded representation relating to an average and despite the fact that the difficulty of proving the falsity of the proposition of sales of up to $5,000 on a Saturday is self-evident. As noted, Mr McPhee's evidence also accords with the contemporaneous records including the content of the business plan and various emails. It accords too with the actual objective and subjective circumstances at the time:
• Mr Shomali had a vital interest in Mr and Mrs McPhee buying the business. The business was not making any money. Sales had in fact decreased after they had to move the business out of the industrial area. He and his wife were living off a disability pension. Mr Shomali genuinely believed his product was good and could succeed with adequate marketing and management (which, of course, required capital that he did not have but Mr and Mrs McPhee did have). The product represented Mr Shomali's life's work and despite the fact that he was not making any money out of it he understandably did not want to give it away cheaply. Lest this last comment be misunderstood, I note that the fact that the paint technology was Mr Shomali's life's work does not mean that it had any substantial monetary value. The inescapable fact is that Mr and Mrs Shomali had not managed to make any money out of the paint technology. My point is that Mr Shomali had every reason to want to encourage Mr McPhee to buy the business because the business was losing money and had never been successful but Mr Shomali believed his product was unique, wanted his product to succeed and Mr and Mrs McPhee had the capital to invest in the product which Mr and Mrs Shomali did not. Mr Shomali thus had good reason to misrepresent the past performance of his business to Mr McPhee.
• There is no inconsistency between my acceptance of Mr Shomali's honest belief that his product was unique and my findings that he knowingly misrepresented the past performance of his business. It may be inferred that Mr Shomali knew also that no rational person would enter into the arrangement represented by the sale of business agreement and licence if that person knew the true performance of the business between 2006 and 2008. Even if such a person had been persuaded to share Mr Shomali's belief that the product was unique and, with adequate marketing and financial support, could be successful, there would have been no possible rational basis for the preparation of a business plan, and valuation of the business and paint technology for the purpose of the licence, on the basis that as Mr and Mrs Shomali had made sales of between $7,500 and $15,000 per week, the business would also make such sales once re-established in the industrial area.
• Mr and Mrs McPhee had no emotional attachment to the product. It did not represent their life's work. They were interested in a business proposition. As such, they were not going to pay more for the business and the licence to use the product than they truly thought it was worth. Nor were they going to invest their capital in a product that had not found a real market even when located in the Byron Bay industrial area. Also, given that they planned to re-establish the business in the Byron Bay industrial area and consolidate its local growth, knowing how the business had performed when it was located in the Byron Bay industrial area was vitally important to Mr and Mrs McPhee.
Had Mr and Mrs McPhee known that the business had made total sales of close to $70,000 in 2006, close to $66,500 in 2007 and close to $59,000 in 2008 (or about $1300 per week even in the best year) they could not have decided to enter into a licence which paid Mr and Mrs Shomali $6,500 per month (or $78,000 per year) for the paint technology from the outset on any rational basis. For Mr McPhee to have prepared a business plan assuming a monthly payment to Mr and Mrs Shomali of $6,500, had he known the true position about product sales by Mr and Mrs Shomali from the Byron Bay industrial area, would have been utterly irrational and inexplicable. For the business plan, as it did, also to build in a payment of wages to Mr McPhee of $6,500 per month would have been equally astonishing.
144 For what it is worth there was also a striking difference between the manner in which Mr Shomali and Mr McPhee gave evidence. Mr McPhee answered questions directly and frankly. His answers were clear and generally he did not attempt to provide additional information of an exculpatory or self-serving nature. Mr Shomali routinely provided material in answer to questions which was of an exculpatory and self-serving nature. Contrary to the submissions on behalf of Mr and Mrs Shomali, Mr Shomali's hearing difficulties and tendencies to loquaciousness do not explain the real problem with his evidence, which was the content. While these tendencies did not enhance Mr Shomali's credit as a witness, it is the inconsistencies within his evidence and between his evidence and the contemporaneous documents, as well as the inherent implausibility of much of his evidence, which leads to the conclusion that Mr Shomali's evidence, where it differs from that of Mr McPhee, should be rejected. In contrast, Mr McPhee's evidence should be accepted.
The misrepresentation case against Mr Shomali (issues 1(a) to (d))
145 For the reasons already given I accept the evidence of Mr McPhee that Mr Shomali made the representations (as identified above) to Mr McPhee during the course of the negotiations leading up to Mr and Mrs McPhee buying the business and entering into the licence agreement.
146 I accept also Mr McPhee communicated the substance of the representations to Mrs McPhee and that Mr and Mrs McPhee were induced into entering into the sale of business agreement and the licence agreement by reason of the representations. It is inconceivable that, had they known the true sales position of the business between 2006 and 2008, Mr and Mrs McPhee would have entered into the licence agreement. This is so because, as explained, by the licence they bound themselves to pay $6,500 per month to Mr and Mrs Shomali from the outset in circumstances where the first phase of the business plan involved re-establishing and consolidating the local business assuming sales consistent with what Mr Shomali led Mr McPhee to believe the business had been achieving before it had to move out of the industrial area. On the true sales figures, the business could never have afforded to pay $6,500 per month to Mr and Mrs Shomali from the outset, let alone $6,500 per month to Mr McPhee as well for running the business. As the sale of business agreement was conditional on entry into the licence it is also apparent that Mr and Mrs McPhee would never have entered into the sale of business agreement but for Mr Shomali's representations.
147 The representations have all been proved to be false, misleading and deceptive other than the representation that on a Saturday Mr and Mrs Shomali could sell up to $5000 paint for the day from their store in Byron Bay. Unsurprisingly, Mr McPhee did not suggest in his evidence that this representation was material to the decision he and his wife made to purchase the business and enter into the licence.
148 Insofar as the representations concerned past matters, it is apparent from the evidence that:
The business being conducted by Mr and Mrs Shomali when it was located in the Byron Bay industrial area was not a successful business. Over the past three years of trading the business had suffered a net loss despite the fact that Mr and Mrs Shomali were not paying themselves wages (but for $970) and thus lived not off any income received from the business but off the disability pension Mr Shomali received. To the extent that it might be said this representation concerned an opinion of Mr Shomali it is not an opinion which had any reasonable basis or one he could honestly have held. While Mr Shomali, I have no doubt, believed passionately in the quality of his product he also knew that the business was unsuccessful.
When they were conducting the business from the Byron Bay industrial area Mr and Mrs Shomali were not selling between $7,500 and $15,000 of paint per week. In the three years before the sale of the business, at the time they were located in the Byron Bay industrial area, Mr and Mrs Shomali never sold more than $70,000 of paint per annum. It follows that they were not selling anything like between $7,500 and $15,000 of paint per week. Mr Shomali could not have honestly held any such opinion.
These sales figures were not being achieved notwithstanding that Mr and Mrs Shomali did little advertising and were selling only into a small market. This follows from the fact that sales figures of between $7,500 and $15,000 of paint per week were not being achieved. Even in their best year Mr and Mrs Shomali, if averaged across the year, sold only about $1,300 per week of paint.
When they were conducting the business from the Byron Bay industrial area Mr and Mrs Shomali were not making a net profit of about 10 to 15%. They were not making any profit at all.
When they were conducting the business from the Byron Bay industrial area Mr and Mrs Shomali did not have an income from the business of about $1,000 to $1,500 per week. They had no income at all from the business. They were living off Mr Shomali's disability pension and the business did not make any money capable of being paid to them as income.
To sell the business Mr and Mrs Shomali would not have to receive a better offer than the income they were currently receiving from the business because they were not in fact receiving any income from the business.
The financial records and tax returns for the business had not been lost in a flood. The inference which I draw from the evidence is that Mr Shomali knew that he could not permit Mr McPhee to see the financial and tax records for the business. As soon as he saw those records Mr McPhee would know that the above representations were false and that, accordingly, the belief he held (which Mr Shomali had induced) that once the business was re-established in the industrial area it would quickly reach the same level of sales that Mr and Mrs Shomali had enjoyed (between $7,500 and $15,000 of paint per week), thereby enabling the payment of the licence fees to Mr and Mrs Shomali and wages to Mr McPhee and providing a foundation for the planned expansion, was a false belief.
149 Insofar as the representations concerned future matters it is apparent that Mr Shomali had no reasonable basis for making any of the representations. Indeed, Mr Shomali knew that the basis for the representations was untrue. Accordingly:
On the basis of the sales figures that Mr and Mrs Shomali had been achieving from the Byron Bay industrial area and on a conservative projection the business did not have a very realisable potential for sales of over $4 million per annum within two years at the least. Mr Shomali knew this was false, misleading and deceptive because he knew that the sales figures Mr and Mrs Shomali had been achieving from the Byron Bay industrial area were nothing like those he had led Mr McPhee to believe.
Mr Shomali's estimation of future sales was not realistic and achievable, based on Mr Shomali's extensive experience in the industry and the benefit of the paints, utilising the paint technology leading to increased market penetration by reason of it being an exceptional product in the market. This is because Mr Shomali knew that the estimated future sales were based on the business being re-established in the industrial area and achieving the same level of sales that Mr and Mrs Shomali had enjoyed when they were located in the industrial area. He knew that the business had not achieved sales of anything like between $7,500 and $15,000 of paint per week, which was the foundation of the anticipated future sales.
The price for the purchase of the business was not good value based on the value of existing sales and realistic future sales projections. This is because Mr Shomali knew that the price being paid for the business reflected Mr McPhee's belief that when they were conducting the business from the Byron Bay industrial area Mr and Mrs Shomali were selling between $7,500 and $15,000 of paint per week. This belief had been induced by Mr Shomali's misrepresentations.
The amounts that would become payable under the licence, by way of licence fees, royalty payments and supplementary payments were not realistic and readily achievable in the context of the existing sales and projected future sales achievable within the first 2 years. As noted, the licence fees alone were not affordable if the profitability of the business had been based on the true sales figures that Mr and Mrs Shomali had been achieving when the business was located within the industrial area.
150 To the extent that it was put for Mr and Mrs Shomali that the business proposed to be and as conducted by Mr and Mrs McPhee was different from the business as conducted by Mr and Mrs Shomali so that, in effect, there were two different business, a number of responses may be given. First, Mr and Mrs McPhee purchased the business of Mr and Mrs Shomali. Second, whatever Mr and Mrs McPhee intended to do with the business after purchase, the evidence is that they purchased the business in the false belief, induced by Mr Shomali's misrepresentations, in particular that when they were conducting the business from the Byron Bay industrial area Mr and Mrs Shomali were selling between $7,500 and $15,000 of paint per week. The level of sales Mr and Mrs Shomali had achieved when their business was located in the Byron Bay industrial area was critical because it is apparent from Mr McPhee's evidence, which is consistent with the content of the business plan, that the first phase involved re-establishing the business in the Byron Bay industrial area and quickly achieving the same level of sales that Mr and Mrs Shomali had achieved. Third, the evidence of Mr McPhee satisfies me that but for the misrepresentations, particularly those concerning the level of sales Mr and Mrs Shomali had been achieving when the business was located in the Byron Bay industrial area, Mr and Mrs McPhee would not have purchased the business or entered into the licence agreement. Mr Shomali's misrepresentations were calculated to induce the purchase of the business and entry into the licence and had that effect. This is not a case of Mr and Mrs McPhee having not acted reasonably to protect their own interests or any failure of due diligence, as the submissions for Mr and Mrs Shomali would have it. It is a case of Mr Shomali having falsely represented to Mr McPhee the true position of the business when it was located in the Byron Bay industrial area and, on that false basis, having falsely represented to Mr McPhee the potential for future sales.
151 For these reasons Mr and Mrs McPhee, Chimes Management and Ecolour have established that Mr Shomali contravened the provisions of s 42 of the Fair Trading Act 1987 (NSW) as in force at the time of the negotiations (the Fair Trading Act) (providing that "[a] person shall not, in trade or commerce, engage in conduct that is misleading or deceptive or is likely to mislead or deceive"). By s 68 of that Act (as then in force) damages may be claimed by a person who suffers loss or damage by conduct of another person that is in contravention of, relevantly, s 42.
152 In respect of the claim for damages, Mr and Mrs McPhee, Chimes Management and Ecolour relied on the evidence of Ian Paul, accountant. The problem with Mr Paul's evidence is that it assumes that the business when purchased and the licence of the paint technology were worth nothing. Mr Paul presents two scenarios. The first calculates the difference between the actual financial position of the business (in effect, that the business failed) and the position the business (and thus Mr and Mrs McPhee, Chimes Management and Ecolour) would have been in had the representations been true. The second calculates the so-called lost opportunity by reference to the loss of the funds Mr and Mrs McPhee invested in the business and their time.
153 Neither method is capable of yielding any rational basis for assessing the loss suffered by Mr and Mrs McPhee, Chimes Management and Ecolour by the conduct of Mr Shomali. In respect of the first scenario, Mr Paul has not taken into account other issues that would impact on the calculation of losses such as the decision of Mr and Mrs McPhee to expand the business despite the foundational sales from the local area not having been achieved as anticipated and the effects of the expansion of the business on costs and expenses. In respect of the second scenario, Mr Paul has not verified the funds that Mr and Mrs McPhee, Chimes Management and Ecolour actually invested into the business or the wages that the business paid to Mr McPhee. There are so many issues left at large in Mr Paul's report that his evidence does not provide a rational foundation for any assessment of the damage.
154 In summary:
(1) The price which was paid for the purchase of the business and the provisions requiring payments to Mr and Mrs Shomali in the licence were based on and thus infected by Mr Shomali's misrepresentations. As such, it is obvious that the price and the payments were excessive. The true value of the business and of the licence to use the paint technology was less, and probably substantially less, than the agreed price and payments. However, there is no evidence from which the actual value of what was purchased and licensed may be assessed.
(2) It cannot be assumed that the business and the paint technology were worth nothing. The actual value of the business and the paint technology at the time the agreements were entered into is a matter for evidence not assumption or speculation.
(3) It cannot be assumed that the failure of the business to achieve the anticipated sales (Mr Paul's first scenario) is all loss caused by Mr Shomali's misrepresentations. Identifying loss by the misrepresentations in this case is a far more complex exercise than simply comparing the position if the representations had been true with the position as it eventuated some three years later.
(4) The money actually invested by Mr and Mrs McPhee, Chimes Management and Ecolour is a matter for proof by evidence not expert assumption. So too, accounting for money taken out of the business in the form of wages cannot simply be disregarded.
155 The parties claiming to have suffered loss bear the onus of proof. It is true that a claimant need only prove damage "with as much precision as the subject matter reasonably permitted" (Placer (Granny Smith) Pty Ltd v Thiess Contractors Pty Ltd (2003) 196 ALR 257; [2003] HCA 10 at [37]), so that some degree of estimation or guesswork is permissible. However, an exercise of pure speculation is not permissible. Unfortunately for Mr and Mrs McPhee, Chimes Management and Ecolour (assuming, for this purpose, that Ecolour can be a person who suffered loss given it did not exist at the time the misrepresentations were made), while I accept that they paid too much for the business and the paint technology (they must have done as the price paid in the agreements was based on Mr Shomali's misrepresentations), I have no idea of their actual loss and no rational foundation in the evidence to undertake an assessment of their loss.
156 For these reasons while I am satisfied that Mr and Mrs McPhee and Chimes Management were induced to purchase the business and enter into the licence agreement by reason of Mr Shomali's misleading and deceptive conduct in contravention of s 42 of the Fair Trading Act, I am not satisfied that they have proved their case in damages against Mr Shomali. Despite this, the fact that they were induced to purchase the business and enter into the licence agreement by reason of Mr Shomali's misleading and deceptive conduct has consequences for the claims by Mr and Mrs Shomali.
The misrepresentation case against Mr McPhee, Chimes Management and Ecolour (issues 2(a) to (d))
157 These allegations are based solely on the email from Mr McPhee of 29 October 2009.
158 The claims are misconceived.
159 First, Mr and Mrs Shomali have not proved that anything said in the email was false. They rely on suspicion to support their case that Ecolour's role was different from that attested to by Mr McPhee. The existence of documents referring to Ecolour does not prove that anything Mr McPhee said was false.
160 Second, Mr and Mrs Shomali received their own legal advice about the communications from Mr McPhee. I infer that they acted in accordance with that advice.
161 Third, Mr and Mrs Shomali have not identified how they relied on the alleged misrepresentations. It was submitted that had they known that the representations about Ecolour were false Mr and Mrs Shomali could have terminated the licence agreement at an earlier time. However, I do not accept that they would have done so. Mr and Mrs Shomali only decided to terminate the licence agreement when they were no longer being paid their licence fee of $6,500 per month. The notion that, while they were being paid $6,500 per month, they would have terminated the licence agreement is far-fetched. That amount of money far exceeded anything they had received over the past three years from the business (after all, they had paid themselves $970 in total from the business over the three years between 2006 and 2008) and, as Mr Shomali must be taken to have known, far exceeded the true value of the paint technology if calculated on any basis taking into account the actual sales that Mr and Mrs Shomali had achieved – or, putting it another way, if calculated on any honest and rational basis. It follows that, even if any representation about Ecolour was misleading and deceptive (which I do not accept), Mr and Mrs Shomali were not caused to do anything by reason of such conduct. They did not lose anything by reason of such conduct. To the contrary they continued to receive the benefit of the payment of $6,500 per month which Mr Shomali knew had been calculated on the basis of his misrepresentations.
162 For these reasons the claim of Mr and Mrs Shomali for misleading and deceptive conduct must be rejected.
Disclosure to Ecolour (issue 3(a))
163 This claim is also misconceived.
164 First, and assuming the paint technology is truly confidential information, I do not accept that the evidence supports the inference that Ecolour, rather than Chimes Management, was manufacturing the paint at any time. The mere fact that documents refer to Ecolour does not undermine Mr McPhee's evidence that Ecolour was a marketing tool only. Accordingly, I do not accept that any information about the paint technology was disclosed to Ecolour.
165 Second, and on the same assumption, there is something odd about an argument that although Mr and Mrs McPhee (the principals of Chimes Management) were authorised to know about the paint technology, as was Chimes Management, Ecolour, another company of which Mr and Mrs McPhee are the principals, was precluded by the licence from knowing about the paint technology. There is no evidence of Mr and Mrs McPhee, in their personal capacity or their capacity as principals of Chimes Management, disclosing the paint technology to themselves as principals of Ecolour or to anyone else on behalf of Ecolour.
166 Third, even if all this were incorrect, what possible loss or damage could Mr and Mrs Shomali have suffered provided that all sales, whether by Ecolour or Chimes Management, were properly recorded? Mr Shomali did not believe this to be the case and, it is apparent, still does not believe it to be the case despite John Robinson, the accountant called by Mr and Mrs Shomali, having had full access to the books and accounts of Chimes Management and Ecolour and having accepted that all sales had been properly accounted for, with the consequence that no payments other than the monthly licence fees were ever owed to Mr and Mrs Shomali at any time. The breach of the licence agreement, if there was one, was trivial and technical and incapable of resulting in any loss to Mr and Mrs Shomali provided the accounts were accurate. And, on the issue of the accounts, Mr and Mrs Shomali chose not to have an accountant review the books until evidence was required in this proceeding despite the right to do so under cl 5 of the licence and the invitation to do so by Mr and Mrs McPhee.
167 This claim also must be dismissed.
Not paying licence fees and termination of licence (issues 3(b) and 3(c))
168 There was no dispute by Mr and Mrs McPhee or Chimes Management that the licence fee was not paid after September 2011 but for a $2,500 payment made as a sign of good faith to prompt the re-negotiation of the terms which Mr and Mrs McPhee sought and which Mr and Mrs Shomali refused. It follows that the monthly fee for October 2011 was not paid in full and no licence fees were paid thereafter. Furthermore, no additional fees were paid in accordance with cl 5.2 of the licence from 1 July 2011 onwards. Contrary to the case put for Mr and Mrs Shomali, the monthly fee had risen to $6,943 due to the increase under the CPI provisions of the licence as calculated by Mr Paul, not the inflated amount of $7,315 as claimed by Mr and Mrs Shomali in their invoices. I accept that the failure to pay constituted a breach of the licence entitling Mr and Mrs Shomali to give notice terminating the licence.
169 By the letter from their solicitor of 14 November 2011, which said that the fees would not be paid in the future, until "some clarity is brought to the agreement", Mr and Mrs McPhee and Chimes Management evinced their intention no longer to be bound by the licence. The fact that their solicitor also maintained that the licence had not been effectively terminated by the notice from the solicitor for Mr and Mrs Shomali is beside the point. By 14 November 2011 Mr and Mrs McPhee and Chimes Management knew that Mr and Mrs Shomali were not prepared to re-negotiate the terms of the licence and insisted on payment of all fees and knew also that they were not willing to continue to pay the fees required by the licence agreement. However the various acts of the parties are characterised, both parties had evinced an intention no longer to be bound by the licence from 14 November 2011 onwards. The licence, accordingly, must be taken to have been terminated at that time. At that time, monthly fees and additional fees were owed to Mr and Mrs Shomali under the licence agreement. I am not satisfied that any party correctly calculated these amounts. For present purposes it is sufficient to say that the monthly fee was $6,943 as calculated by Mr Paul and an allowance must be made for the $2,500 part payment that was made. Otherwise the amount payable in accordance with the licence would have to be calculated on a pro-rata basis for both the monthly and additional fee. Given what follows I have not made this calculation – and in any event the calculation should have been a matter for the parties.
170 The critical point which must not be overlooked is that the claim of Mr and Mrs Shomali for unpaid licence fees and other moneys is based on a licence procured by the misleading and deceptive conduct of Mr Shomali. The fact that Mr and Mrs McPhee and Chimes Management did not seek an order that the licence be set aside (for good reason given that circumstances have so changed that the licence is now moot in any event) is one thing. So too is the fact that they did not prove their own loss and damage. It is another thing altogether to contemplate a court making an order requiring parties that have been misled and deceived to make payments owed solely by reason of a deception to a party that created the deception. This would be not only to allow Mr (and Mrs) Shomali to rely on Mr Shomali's own wrong; it would be to lend the processes of the court to facilitate the wrongful conduct. Such an order would be contrary to the fundamental principle that a person may not benefit from the person's own wrong (Equuscorp Pty Ltd v Cunningham's Warehouse Sales Pty Ltd (2012) 246 CLR 498; [2012] HCA 7 at [25]-[45]). While it is apparent from the reasoning at [25]-[45] in Equuscorp that much could be said about this issue, it is sufficient in the circumstances of this case to note only that the purpose of the legislation proscribing misleading and deceptive conduct in trade and commerce would be undermined by the grant of any relief to Mr and Mrs Shomali (who would then be the beneficiaries of Mr Shomali's misleading and deceptive conduct). Moreover, the real justice of this case lies with Mr and Mrs McPhee and Chimes Management who were misled into the licence about the fundamental issue of the sales of the paints by Mr and Mrs Shomali when the business was located in the industrial area. The fact is Mr and Mrs Shomali have already obtained substantial benefits as a result of Mr Shomali's misleading and deceptive conduct to which they ought never have been entitled. Mrs Shomali has enjoyed and retains those wrongfully obtained benefits just as much as Mr Shomali.
171 For these reasons the claims of Mr and Mrs Shomali for unpaid licence fees and additional fees under the licence must be rejected.
Wrongful continued use of paint technology (issue 3(d))
172 Mr and Mrs McPhee and Chimes Management did not dispute the fact that they continued to use the paint technology even though they were no longer paying the licence fees. The only factual dispute relates to the date on which they ceased using the paint technology and the role of Ecolour. According to Mr and Mrs McPhee they stopped using the paint technology in September 2012 by which time they had accepted that they were never going to reach a negotiated solution with Mr and Mrs Shomali. According to Mr and Mrs Shomali Mr and Mrs McPhee continued using the paint technology until their business ceased trading altogether in June 2013. As to Ecolour, Mr and Mrs Shomali maintain that the disclosure of the paint technology to Ecolour was a breach of the licence and that Ecolour thereafter benefited from the sales of the paint.
173 The Ecolour issue may be dismissed immediately. As noted above, even if Mr and Mrs McPhee did disclose the paint technology to Ecolour, Ecolour is simply another corporate alter ego of Mr and Mrs McPhee. More relevantly, there is no hint on the evidence that Mr and Mrs McPhee did not account properly for all sales whether characterised as sales by Ecolour or Chimes Management. Mr and Mrs Shomali were never owed royalties or any moneys for research and development under the licence.
174 The date on which Mr and Mrs McPhee ceased using the paint technology is also moot. It may be assumed for this purpose that the paint technology was confidential information both subject to an equitable obligation of confidence and cl 10 of the licence (as "confidential information" or a "trade secret" as defined). It then follows that Mr and Mrs McPhee and Chimes Management (and Ecolour) used the confidential information other than in accordance with the licence in breach of cl 10(b) of the licence. It also follows that they used that information without the consent of Mr and Mrs Shomali. The submission for Mr and Mrs Shomali is that they are therefore entitled to "substantial damages or equitable compensation" for the misuse of the paint technology. The "substantial" sum is said to be the amount that would have been payable under the licence.
175 It should be apparent that just as Mr and Mrs McPhee failed to prove their loss because their case assumed that the paint technology and the business they purchased was worth nothing, Mr and Mrs Shomali have also failed to prove any loss because their case assumed that the paint technology was worth the amounts the licence represented. The licence, however, was procured by Mr Shomali's misleading and deceptive conduct. The amounts payable under the licence agreement reflected Mr Shomali's misrepresentations about the sales that the business had been making while located in the Byron Bay industrial area and, based on those sales, the likely future sales the business could make once re-established in that area and expanded. The amounts payable under the licence, accordingly, bear no relationship to any true measure of loss that Mr and Mrs Shomali might have suffered for the period from November 2011. Nor is there any basis in the evidence for any inference (in contrast to speculation) about what the paint technology might have been worth when the licence was executed. If there had been such evidence then the loss suffered by Mr and Mrs McPhee and Chimes Management on their own claims for misleading and deceptive conduct against Mr Shomali could have been quantified and the respective claims set off. It is not difficult to surmise that the loss suffered by Mr and Mrs McPhee and Chimes Management by reason of Mr Shomali's misleading and deceptive conduct would have far exceeded the loss suffered by Mr and Mrs Shomali by reason of the misuse of the paint technology, but surmise is insufficient to base a finding.
176 There is another reason why this claim of Mr and Mrs Shomali must fail. To the extent that the claim reflects the amounts payable under the licence any order for damages in their favour would enable them to benefit from Mr Shomali's wrong which is contrary to principle. To the extent that the claim is for equitable compensation Mr and Mrs Shomali do not have clean hands, Mr Shomali because he made the misrepresentations and Mrs Shomali because she knew or must be taken to have known that the misrepresentations were made and/or has taken the benefit of the misrepresentations. But for the misrepresentations Mr and Mrs McPhee, Chimes Management and Ecolour would not have had anything to do with the paint technology. The misrepresentations are thus directly related to the claims for equitable compensation. I do not see any basis upon which equity would come to the aid or Mr and Mrs Shomali in these circumstances.
Liability of Mr and Mrs McPhee under cl 16 (issue 4)
177 This question does not arise because Chimes Management is not liable to Mr and Mrs Shomali for the reasons given above.
Estoppel (issue 5)
178 The estoppel is said to be based on the common assumptions of the parties from 2 November 2009 onwards that, in effect, the marketing and sales role of Ecolour was not a breach of the licence or of any concern.
179 For the reasons given above it is not necessary to decide this issue. To the extent more should be said it is doubtful that the evidence provides a sufficient foundation for findings of the mutuality of the assumptions or any intention on the part of Mr and Mrs Shomali that Mr and Mrs McPhee should act on the basis of the shared assumptions.
Remedies (issue 6)
180 This issue has also been dealt with above. No party is entitled to any remedy in the form of damages or equitable compensation. Otherwise at the commencement of the hearing Mr McPhee offered, amongst other things, to deliver up the information relating to the paint technology. Mr and Mrs Shomali also sought delivery up in accordance with cl 14(b) of the licence. Clause 14(b) is of dubious validity. It has the characteristics of both a penalty and a restraint of trade. In any event, however, the business has been sold and no such order can be made. Nor should it be made given that the licence was procured by misrepresentation.
181 Otherwise, Mr and Mrs Shomali sought orders restraining the respondents from, in effect, continuing to use the paint technology. The evidence is inconsistent with any threat of continued use. Accordingly, such orders are inappropriate.
182 Mr and Mrs Shomali also sought orders for delivery up of the information relating to the paint technology. The respondents indicated that, without admissions, they were content to do so. Given the history of this matter I am unwilling to make any order the terms of which are likely to lead to future dispute. I have incorporated into the final order an order for delivery up in the simplest terms possible.
183 The remaining issue is costs. I indicated to the parties that I would enable them to make further submissions on costs should they so wish. In effect, both parties have failed. Until they continued to use the paint technology without paying the licence the justice of the case sat solely with Mr and Mrs McPhee and Chimes Management. Although they suffered the use of the paint technology from October 2011 without their consent Mr and Mrs Shomali had and will retain the benefit of Mr Shomali's misrepresentations for the period 1 June 2009 to October 2011 because Mr and Mrs McPhee and Chimes Management failed to prove their loss. My view is that each party should pay its own costs of the proceedings because that best reflects the overall outcomes. I had considered ordering Mr and Mrs Shomali to pay the costs of the hearing itself because the outcome is consistent with the offer Mr McPhee made on an open basis on the first day of the hearing to return the information relating to the paint technology and to withdraw the cross-claim if Mr and Mrs Shomali would withdraw their claims with each party to pay its own costs. My preliminary view is that I should not do so because the offer came late in the day and it is not clear what, if any, legal costs Mr and Mrs McPhee might have incurred given that that Mr McPhee presented the case for the respondents. I have included in the orders a capacity for the parties to make submissions on costs if they so wish.
I certify that the preceding one hundred and eighty-three (183) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Jagot. |
Associate:
Dated: 5 September 2013
