FEDERAL COURT OF AUSTRALIA

Australian Pipe & Tube Pty Ltd v QBE Insurance (Australia) Limited (No 2) [2018] FCA 1450

ORDERS

THE COURT ORDERS THAT:

1.    The applicants within 7 days of the date hereof file and serve proposed minutes of orders and written submissions (limited to 3 pages) to give effect to these reasons.

2.    The first respondent within 7 days of service upon it of the applicants’ proposed minutes of orders and written submissions file and serve its proposed minutes of orders and responding written submissions (limited to 3 pages).

3.    Liberty to apply.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

REASONS FOR JUDGMENT

BEACH J:

1    This case concerns the quantification of a loss of profits claim made by assignees of an insured’s claim against the insurer. It is the type of case that ought to have been determined by a special referee, although when I suggested this course early in the interlocutory stages, senior counsel for the insurer displayed little enthusiasm. It was said that there were significant legal issues that it was more suitable for me to resolve. As it turns out, this case has principally involved an exercise of elementary arithmetic applied to counterfactual production profiles of a damaged steel mill, albeit that the selection of the methodology used and the input assumptions have involved uncertainty and estimation. I would note that I have previously disposed of any concern relating to the apparent absence of a federal matter. As I said in Australian Pipe & Tube Pty Ltd v QBE Insurance (Australia) Limited [2015] FCA 1135 at [14]:

Finally, it is necessary to say something about jurisdiction. Section 39B(1A)(c) of the Judiciary Act 1903 (Cth) is a general conferral of original jurisdiction on this Court. It is to be construed as expansively as the plain meaning of its words can tolerate (cf the different approach to construing words excluding jurisdiction). Limitations and implications not found in the plain meaning are to be eschewed unless unavoidable (see Truthful Endeavour Pty Ltd v Condon (as trustee of the bankrupt estate of Rayhill) (2015) 321 ALR 483 at [50] per Allsop CJ, Katzmann and Gleeson JJ). It is difficult to conceive of a contractual dispute involving an insurance contract that would not involve a matter arising under the Insurance Contracts Act 1984 (Cth). Even if the claim is purely a contractual claim, its boundaries will always be circumscribed by the terms of that Act, whether going to the ambit or existence of cover on the one hand, or the scope of recovery under the contract on the other hand. Any contractual dispute between the parties would necessarily proceed on the foundation of the contract within the statutory matrix. For a matter arising under a federal law, it is not necessary that the proceeding itself be founded on federal law or be a dispute about federal law (Truthful Endeavour at [58]). If it were so founded, it would be such a matter, but the converse proposition, viz if it were not so founded it would not be such a matter, does not follow. But where it was not so founded, one would need to point to some subject matter of the contract, or right, liability or limitation applying to the contract, that existed as a result of federal law.

2    The applicants have litigated three claims against the first respondent (QBE) under an Industrial Special Risk Insurance Policy (“the policy”) being:

(a)    first, a claim for business interruption losses constituted by a loss of gross profits claim in the sum of $9,423,887;

(b)    second, a claim for increased cost of working in the sum of $2,041,379.50, constituted by $1,000,000 for increased cost of working and $1,041,379.50 for additional increased cost of working; and

(c)    third, claim preparation costs in the sum of $450,620.30.

3    The policy includes the following limits and sub-limits:

(a)    Section 1 – unspecified damage to property – $1 million;

(b)    Section 2 – business interruption – $26.5 million, which includes the following sub-limits being:

(i)    loss of gross profit due to: (A) reduction in turnover; and (B) increased cost of working – $25 million;

(ii)    additional increased cost of working – $1 million; and

(iii)    claims preparation costs – $500,000.

4    To date, QBE has made payments of $3.8 million under Section 2 of the policy for business interruption losses. It has also paid $1 million for material property damage. The applicants seek the following additional payments under Section 2:

(a)    first, $6,623,887 for business interruption losses, being $9,423,887 less $2.8 million already paid on account of loss of profits;

(b)    second, $1,041,379.50 for additional increased cost of working, but subject to the relevant sub-limit; and

(c)    third, $450,620.30 for claim preparation costs, but with the applicants no longer seeking $86,000 with respect to the fees of Chris Klenkowski & Associates.

5    Now although QBE has paid $3.8 million under Section 2 of the policy as I have said, the applicants say that only $2.8 million of this should be allocated to the loss of profits claim. In terms of a further $1 million paid by QBE under Section 2 ($3.8 million minus $2.8 million), the applicants say that this $1 million was paid on account of increased cost of working. But this allocation is disputed by QBE who says that the full amount of $3.8 million paid under Section 2 should be allocated to and subtracted from the applicants’ loss of profits claim, and not allocated to any increased cost of working, which it says has not in any event been substantiated. I would note that the concept of increased cost of working (ICW) is a separate concept to additional increased cost of working (AICW) which I will explain later.

6    The context for the claims which have been made is material damage occurring in 2010 to a steel mill then owned by the insured, Independent Tube Mills Pty Ltd (in liquidation) (ITM) and located at 2-14 Independent Way, Ravenhall, Victoria (the mill). The material damage comprised a misalignment of some of the mill components by reason of defects in the concrete slab(s) on which the mill was resting. QBE accepts that the mill misalignment had some impact on the efficiency of the steel mill, principally by affecting the speed at which the mill could be run or by increasing down-time. As I have said, QBE has paid ITM $1 million for material damage to the mill. And as I have also said, QBE has also paid $3.8 million to ITM under Section 2 of the policy for business interruption losses. QBE contends that it has fully indemnified ITM within the policy limits for such losses. Such a contention is disputed by the applicants.

7    Now the central issue in this case has concerned the claim for loss of gross profits. The claim for loss of gross profits turns on a counterfactual or ‘but for’ scenario. The relevant question is what the production and consequent profit of the mill would have been during the indemnity period if the slab(s) had not been uneven and the mill had not suffered from a resulting diminished functionality. The applicants have principally relied on the evidence of Mr Tony Benson, the mill’s production supervisor, as to the ‘but for’ production levels. Based upon Mr Benson’s evidence as to the ‘but for’ production levels, the applicants’ claim for loss of gross profits for the indemnity period has been calculated as $9,423,887 based on an average price per tonne of the relevant product as being $1,396. An alternative and lower claim of $8,434,975 is based on an average price per tonne of $1,300 instead of $1,396.

8    The principal forensic issues posed for my determination have been the following:

(a)    First, but for the movement of the slab(s) and the resulting misalignment issues with the mill’s production, how many tonnes of steel would have been produced by ITM during the indemnity period in excess of the tonnes of steel actually produced?

(b)    Second, at what price would ITM have sold those additional tonnes of steel?

(c)    Third, did ITM have the capital or access to capital to produce and sell the steel volumes reflected in the assumed counterfactual production levels?

(d)    Fourth, as a result of the movement of the slab(s), and its impact on the mill’s operations, what increased cost of working, additional or otherwise, did ITM experience during the indemnity period and is claimable under the policy?

(e)    Fifth, what costs have been incurred in preparing the insurance claim that are the subject of indemnity for claim preparation costs?

9    Now the applicants have relied upon the evidence of Mr Benson, Mr David Brandi, ITM’s chief financial officer, Mr David Luckeraft, sales manager, Mr Michael Doubleday, sales manager, and employees or officers of customers of ITM or the first applicant (APT), namely: Mr Kevin MacGibbon, Mr Terence Wilson, Mr Darren Shelton, Mr Robert Curphy, Mr Neal Douglas, Mr Darren Tredgold, Mr Terence Thorpe, Mr Shane Robinson and Mr Matthew Quick. QBE did not call any lay evidence.

10    The applicants have also relied upon the expert reports of Mr Greg Meredith, a forensic accountant, of Ferrier Hodgson dated 30 June 2017, 6 July 2017 and 14 February 2018. This expert evidence was responded to by QBE who relied upon the expert reports of Mr Tony Samuel of Sapere Forensic dated 2 August 2017 and 21 March 2018.

11    I should say now that in terms of the lay witnesses who were cross-examined, credibility issues did not loom large. The principal forensic contest that was pursued through cross-examination concerned the reliability of the opinions expressed by Mr Benson relating to the counterfactual production profile of the mill absent any problem of misalignment. I will say something more about this later. So far as the cross-examination of Mr Brandi was concerned on questions of access to capital and commercial dealings with suppliers, customers and financiers, such cross-examination did not take the matter far. Other cross-examination of other witnesses, for example Mr Luckeraft, was on the periphery of the central issues that I need to resolve. As for the experts, the differences between them more depended upon the underlying factual assumptions that they had made rather than upon methodological differences.

12    Now I should say at the outset that there are difficulties in precisely quantifying the loss of profits claim. The applicants have not adduced and cannot adduce precise evidence on this question. And necessarily I am dealing with estimates of a counterfactual production profile and other variables. Such a counterfactual profile has also involved a forecasting component from the start of the indemnity period. But I must do the best that I can given the imponderables and uncertainties. Estimation is necessarily involved. Generally, the analysis must be based on the possibilities or probabilities inherent in the selection of the methodology, the input assumptions and the robustness or otherwise of the output, all questions I might say that could as well have been addressed by a special referee. Now the applicants encouraged me to take a “broad brush” approach, but I think I can do a little better than that as should become apparent later. Let me now descend into the detail.

RELEVANT BACKGROUND

13    It is useful to set out a chronological sequence of relevant events before turning to the key questions.

14    Some time in 2008, the ITM business concept was first conceived of by Mr Peter Wilson. The ITM business was to be a start-up business. It was proposed that ITM manufacture tubular steel products using an Italian made OTO Mills cold-pressed steel mill, some 125 metres in length, that would mill raw and unfinished steel coil into a range of square, rectangular and circular tubular steel products.

15    In October 2008 a proposed business plan envisaged that the mill would be purchased in November 2008 and that production and distribution would commence in August 2009. The October 2008 version of the business plan contained no production estimates. Let me set out some relevant extracts of this proposed business plan:

Our initial sales target, reached by implementing the below strategies, will be $27 million in Sales Revenue in Year 1 of production. By focusing our efforts on obtaining a realistic 8% share of the independent distributor marketplace, we will be well on our way to achieving and surpassing our Goals. Expected 1st year Nett Profit (based on the above goals being met) of $2.7 million (Pre-GST).

…

FINANCE

Forecast turnover $22.9 million

Forecast gross profit $5.03 million

Forecast net profit $3.57 million

Independent Tube Mills is seeking an AU$8M term loan to fund initial costs of plant set-up and ongoing operating costs. It is anticipated this loan will be repaid over a ten year period.

16    On 16 April 2009, ITM was incorporated and the ITM Unit Trust was established with ITM acting as trustee. Its first directors were Mr Peter Wilson and Mr Robert Whitbourne. Mr Wilson had 25 years of experience in the steel industry. Mr Whitbourne came from an advertising and marketing background and had little experience in the steel industry.

17    Apparently, by at least July 2009, Mr Brandi had become ITM’s chief financial officer and became a director of ITM on 9 September 2009. Like Mr Whitbourne, Mr Brandi had little experience in the steel industry.

18    On or around 27 July 2009, ITM finalised its business plan. It contained a production forecast of 30,000 tonnes of finished product in the first 12 months of operation with $54.8 million in total sales revenue in that first year. That forecast was said in the “Executive Summary” to be derived from “confidential estimates of the potential market based on intelligence gathered by Peter Wilson, David Luckeraft and Michael Doubleday”. Apparently, the production forecast was based more on anticipated demand rather than on anticipated supply capacity. Further, it was stated that:

Our initial forecast sales target, reached by implementing our business strategies, will be $54.8 million in total sales revenue in Year 1 (Y1) of production. This is based on a conservative production of 30,000 tonnes of finished product. Initial production capacity is up to 50,000 tonnes per annum based on two 5-day, 10 hours production shift (dependent on product mix).

By focusing our efforts on obtaining a realistic and conservative 13% market share of the independent distributor / stockist business, anticipated Y1 Profit (before tax) will be A$25 million.

These forecasts are based on current revenue per tonne of A$1,890 and raw materials cost (steel) of A$880 per tonne.

19    The business plan outlined the following:

(a)    ITM had been established to specialise in the manufacture of high quality steel tubular products, commencing about July 2010 from premises strategically located in Melbourne.

(b)    ITM sought to capture a 13% market share of the $1.3 billion tubular steel market in Australia, competing against 2 local manufacturers, namely Orrcon and Australian Tube Mills, as well as imported product.

(c)    The total tubular steel market in Australia was approximately 700,000 tonnes per annum, of which Orrcon and Australian Tube Mills supplied approximately 65% with the remaining 35% being supplied through imports.

(d)    Orrcon and Australian Tube Mills were both manufacturers and distributors, which meant that other distributors either had to buy from their competitors or had to source imported product.

(e)    ITM’s business model involved only supplying to distributors, unlike Orrcon and Australian Tube Mills, so as to avoid competing with its own customers at the distribution functional level.

(f)    By producing Australian made product, ITM would be able to distinguish itself from imported product in the marketplace.

(g)    ITM’s so described “conservative” production forecast for its first year of operation was 30,000 tonnes.

(h)    ITM had recruited a team of what were said to be highly experienced steel operators, including Mr Peter Wilson (operations), Mr Luckeraft (sales) and Mr Doubleday (sales), as well as experienced professionals in complementary fields, being Mr Whitbourne (marketing), Mr Brandi (accounting) and Mr John McKew (business management).

20    Around mid-2009, ITM appointed Mr McKew as general manager. He later became CEO. Mr McKew had a background in the dairy industry. Like Mr Whitbourne and Mr Brandi, Mr McKew had little experience in the steel industry.

21    Further, around mid-2009, ITM purchased the mill. The mill was an OTO 1276 Steel Tube Mill, manufactured in Italy by OTO Mills SpA (OTO Mills). Along with the paint line, it cost just under $8 million ($7,818,128). That figure excluded the costs of installation and commissioning. The “nameplate” capacity of the mill was 55,000 tonnes per annum. The mill was capable of operating at a maximum mill speed of 120 metres per minute. The mill produced welded pipes and tubes of different sizes which were made by forming a strip of steel into a round shape and then welding the edges together. The mill could be tooled to produce three types of tubular products: a circular hollow section tube, a square hollow section tube or a rectangular hollow section tube. Products ranged in diameter from 33.7 mm to 124.9 mm, with the wall thickness (gauge) ranging from 1.6 mm to 6 mm. Rolled coil was the raw product used by the mill to produce these products.

22    On 9 September 2009, one of the ITM directors, Mr Whitbourne, circulated by email to the other directors and ITM executives a budgeted profit and loss statement for the initial 12-month period to be adjusted “as you see fit to send to the bank”. The spreadsheet attached to the email contained a budgeted ramping-up forecast of production tonnes per month. It started at 1,000 tonnes per month at month 1, rising to 3,500 tonnes per month at month 12 although that figure was budgeted to be reached by month 10. Apparently, it was intended that “month 1” be equated to February 2011, being the first month of production after the commissioning process and after the Christmas shut-down.

23    As at 30 September 2009, three instalment payments had been made on the purchase of the mill.

24    On 7 December 2009, Mr Brandi hosted a private offering involving potential investors in ITM. From late 2009 to early 2010, ITM was pledged $3.8 million (and received $3.7 million in cash) from investors by way of debt capital pursuant to formal loan agreements. With the exception of one loan (which had an interest rate of 10%), the loan agreements were substantially similar and interest was payable by ITM twice a year at a fixed rate of 20% per annum. At the conclusion of the trial, the evidence remained unclear as to whether any and if so which of those interest payments were made, and if made, by whom. Mr Brandi said in cross-examination that three instalments were paid to lenders, but there is evidence that no payments at all were made to some of those lenders.

25    On 8 February 2010, the Bank of Queensland (BOQ) provided ITM with approval advice for an equipment finance facility in relation to the mill. The proposed loan was for a term of 5 years, with an indicative interest rate of 11.26%. The limit of the facility was $4.75 million and the repayments were stated to be $102,940.81 per month. This facility was not finalised until 30 August 2010, when a chattel mortgage was executed. That mortgage listed the repayments as $101,693.06 per month.

26    In around July 2010, installation of the mill commenced. It was completed on 2 August 2010. The mill was a complex machine, although it was not technologically advanced or electronically controlled. Mr Benson described it as “going back another 10 years’ time, where you didn’t rely on technology”. But Mr Benson also said in cross-examination that he was no longer sure if an electronically controlled mill had productivity advantages over the one ITM purchased, because “[y]ou’re relying totally upon electronics. If something goes wrong, you haven’t got a hope in hell of working it out”. Now I would note that the manual set up of the mill made it harder to learn for people who did not know that type of mill.

27    Prior to August 2010, ITM engaged production personnel to run the mill. But largely the production personnel were inexperienced. Further, few of the production staff had worked in a steel mill before.

28    Between July 2010 and mid-to-late August 2010, the production staff were trained by one of the Italian engineers. Apparently no further formal training was afforded to the production staff after that point. On Mr Benson’s observation, training stopped too early. On the evidence, it would appear that many of the production staff did not know their job properly. The mill was being stopped because of fundamental mistakes that inexperienced staff were making, including pressing the wrong button at the wrong time and not knowing what to do when situations arose. Many of the staff members had few relevant problem solving skills.

29    The Italian manufacturer supplied ITM with full manuals which they claimed was their training equipment. But Mr Benson later wrote procedures for positions so other operators could come in and understand what was necessary. Mr Benson said in cross-examination that his procedures were easier to understand and more relevant than the Italian manuals.

30    Around this time frame, ITM, in conjunction with ProTube Asia Pty Ltd and representatives of OTO Mills (who were on site), conducted a period of performance testing and staff training in relation to the operation of the mill. This testing period, being the “commissioning” or “ramping up” phase, occurred prior to the mill being scheduled to operate at full capacity.

31    As at the beginning of August 2010, there was an urgency to start production at the mill. ITM had already paid for the mill and was making monthly interest payments of approximately $100,000 to BOQ. ITM had also commenced paying rent of approximately $50,000 per month and had engaged a workforce.

32    On or about 2 August 2010, ITM commenced operating the mill.

33    On 2 August 2010, ProTube Asia Pty Ltd provided ITM with a commissioning certificate which relevantly stated:

[The mill] has been delivered, installed and commissioned to applicants satisfaction.

Operator training has been carried out, using the instruction manual.

The machine / system is accepted herewith. The warranty period starts from this date.

34    On or around 26 August 2010, and notwithstanding the provision of $3.8 million in seed capital loans as I have discussed earlier, ITM applied to Oxford Funding for debtor finance for cash flow purposes.

35    On 27 August 2010, the first piece of tubular product came off the mill. ITM (and now APT) supplied tubular steel to the wholesale market only as the business plan contemplated, in order to avoid competing with its clients in the retail market.

36    From August to December 2010, there was a further period of commissioning of the mill. Now ITM encouraged its workers to reach a production target of 2,000 to 2,500 tonnes in the first month, but production in August 2010 was only 70 tonnes (excluding scrap) for that month.

37    From August 2010, the production staff commenced working as one large crew, but 6 to 8 weeks later they split into two separate crews, each with approximately 5 to 6 production staff and one supervisor. Apparently, this arrangement was different to how Mr Benson would have structured it had he been the decision-maker. If Mr Benson had been making the staffing decisions, he would have started with one crew of 5 to 6 people, working 5 days per week on eight hour shifts per day. After 6 to 8 weeks, if the mill was running to plan, Mr Benson would have taken on a second crew.

38    For the first few months of production, there was only one crane available for use by the production staff. That crane was used to load the coils into the de-coiler. Whilst that crane was being used, the production staff could not change over the tooling for the next set-up, because there was not a crane available. As a consequence, Mr Benson worked until midnight every night setting up the rafts for the next day.

39    On 1 September 2010, Mr Brandi ceased as a director of ITM. The reasons for this were not explored during the trial. But I note that he nonetheless continued to have influence in decision making beyond this time. Also on 1 September 2010, Mr Whitbourne ceased to be a director of ITM.

40    In or around late September 2010, Oxford Funding approved ITM’s application for debtor financing with a maximum draw down limit of $4 million. The term of the facility was 6 months, and Oxford Funding agreed to initially advance 80% of the face value of an accepted invoice. Ultimately however, according to Mr Brandi’s evidence in re-examination, the peak drawdown on the facility was $1.3 million. Apparently, the structure of that facility was sub-optimal for ITM because it excluded funding in respect of invoices that were or could be subject to any set-off or counterclaim. The facility originally precluded invoices from Bluescope, which was both a supplier to and a purchaser from ITM.

41    In around October 2010, Mr McKew was sacked as CEO of ITM.

42    By October 2010, ITM was running two separate production crews working 39 hours per week each. There were many unplanned stoppages of the mill. Further, of the production staff, only about 30% had hands-on mechanical aptitude. In Mr Benson’s view, this was in contrast with the production staff he was familiar with at his former workplace (Onesteel) who were highly skilled.

43    By around early November 2010, ITM began to experience diminished functionality in the operation of the mill, in that products produced by the mill were bent out of alignment during their manufacture. I would note that on 1 November 2010, the indemnity period under the policy commenced. Over the following months after 1 November 2010, the diminished functionality was investigated. It was discovered in February or March 2011 that the issue arose from:

(a)    defects in the concrete slab(s) on which the mill was resting, meaning that the slab(s) inadequately resisted the loads associated with the normal operation of the mill; and

(b)    misalignment issues affecting the mill and its components, which issues stemmed from such defects.

44    I am prepared to accept on the evidence that the movement of the mill and the misalignment issues caused:

(a)    mechanical parts of the mill being worn out more quickly than they were supposed to;

(b)    the requirement to run the mill at a slower speed than desired, to reduce waste;

(c)    the use of significant amounts of labour spent in carrying out regular adjustments to the mill alignment;

(d)    the inability to operate the mill at full production capacity for any sustained period of time or at all; and

(e)    ITM’s inability to produce tubing products at rates and levels that would have been applicable had there been no movement of the mill or misalignment issues.

45    Let me continue with the chronology.

46    In November 2010, ITM investigated finance options with the ANZ. On 10 November 2010, ANZ circulated to Mr Brandi a non-binding discussion paper for a refinancing proposal. The ANZ package involved a refinance of the existing BOQ facility, an overdraft to replace the Oxford Funding debtor finance facility, and a facility to fund the purchase of the freehold property on which the mill stood.

47    In late November 2010, Mr Whitbourne left the business. On 23 November 2010, Mr Whitbourne’s lawyers wrote to Mr Peter Wilson and Mr Brandi, informing them that Mr Whitbourne had resigned as manager of ITM.

48    By no later than December 2010, Mr Nick Wilson, Mr Peter Wilson’s son, became ITM’s production planner. He had no background in the steel industry.

49    In early December 2010, Oxford Funding learned that Southern Steel Group (SSG), one of ITM’s customers, was a common debtor/creditor and accordingly ceased invoice funding for that customer.

50    On 13 December 2010, the Commonwealth Bank approved a loan to RAW United Holdings Pty Ltd (RAW), an entity controlled by the Brandi family, in an amount of $4.62 million for 2 years for the purchase of the freehold of the land on which the mill stood.

51    On or around 16 December 2010, ITM sacked the second of its production crews. Mr Brandi said that the second production crew was sacked because of cash flow problems in the business. Contrastingly, Mr Benson said that the sacking was related to the unsatisfactory output caused by the bending issues. According to Mr Benson, the second production crew had a greater yield loss on first grade product.

52    On 20 December 2010, Mr Alexis Andonas of Oxford Funding wrote to Mr Brandi regarding the Oxford Funding facility. He wrote inter-alia:

The account is currently overdrawn by $540K. This is due to the disapproval for the Southern Steel Group, and also various funding limits. The reason that this has increased significantly is due to the fact that the system calculates funding limits on approved debt only.

To assist in improving this position:

•    Southern Steel to make payment – As the account is disapproved in its entirety, when payment is made, 100% of the payment value will be updated in your available funds

•    Bluescope to make payment – As the concentration limit is exceeded, once payment is made, the available funds position as the account balance will be reduced, and the concentration limit will not be exceeded to the value that it is now

•    Factoring Batch – Uploading your sales this week will also assist in this regard as your available funds will update by 80% of the invoices that are approved for funding

53    On 21 December 2010, Mr Brandi replied to Mr Andonas of Oxford Funding “re cashflow and survival” and noted, inter-alia:

As discussed, we had budgeted for a minimum additional $400k release, which would then bring our Funds in Use to just over $1mil, with a Sales Ledger of over $2mil. Without the proper working capital support structure here, this relationship will not work going forward, especially with the growth we are expecting into 2011.

54    On 31 December 2010, Mr Brandi wrote to Oxford Funding stating inter-alia that:

Over the past 2 weeks Oxford has shut us down on both Southern & now looking at Bluescope. Obviously we cannot survive running our business during the leanest period like this.

55    Oxford Funding responded on the same day, noting that if they were aware of the common debtor/creditor arrangements prior to the commencement of the facility they would have suggested an alternative funding tool. The response stated, inter-alia:

As previously advised, the information provided to us over recent months has not given us the confidence that we are aware of the arrangements with your debtors. Whilst we are willing to assist you as much as possible, this leaves us in a difficult position.

We increased the limit on Southern until we discovered post our 30 November meeting that they are a significant common debtor / creditor.

We increased the limit on Bluescope on the basis that you are not buying from them any more. Peter tells us that you will again soon be buying from Bluescope. Peter tells us that this will "always" be the case. As advised previously, we cannot provide funding against this debtor if you are buying from that group. In addition, we were not made aware of the rebate arrangement with Bluescope until we requested the bank statements. As such, we are not able to provide any funding against Bluescope. We are therefore left with no choice but to reduce this limit back to nil.

I outlined to Peter that a possible solution to assist would be a caveat over a property. We have also suggested Non-Offset Deeds in every endeavour to assist you. The Non-Offset Deeds are a usual way of mitigating the common debtor/ creditor risk for us. If these are not available, then unfortunately there is little we can do.

As I outlined to Peter, if we were aware of the common debtor / creditor arrangements prior to the commencement of this facility, we would've have suggested an alternate funding tool. With the reduction in limits for Southern & Bluescope, the Debtor Finance account remains overdrawn.

56    In late December 2010 and early January 2011 and because Oxford Funding had refused funding in respect of Bluescope’s invoices, Mr Brandi injected around $880,000 into ITM, to address the cash flow problem in the business.

57    Up to and including December 2010, actual production was as follows:

58    The mill ceased production over the Christmas period from about 17 December 2010 to 9 January 2011.

59    Shortly after January 2011, Mr Peter Wilson and Mr Brandi started looking at obtaining a more significant finance package, in order to improve the cash flow position of the ITM business.

60    In February 2011, the second of ITM’s production supervisors, Mr John Dodd, resigned. The production crew that Mr Dodd had supervised had been sacked in December 2010.

61    In around February or March 2011, Mr Benson reached the conclusion that the slab(s) supporting the mill was uneven.

62    Production of the mill in 2011 was variable and less than the 2009 forecasts. Production for the first 6 months of 2011 was as follows:

63    Throughout 2011, the mill was subject to various unplanned stoppages from a variety of causes some of which were unrelated to misalignment, including:

(a)    unreliable coil supply;

(b)    problems with the mill saw;

(c)    unplanned stoppages related to the clamps;

(d)    stoppages required when changing from galvanised to non-galvanised products;

(e)    problems with the quality of the paint (dull paint); and

(f)    problems with the filtration system.

64    In 2011, on the finance side, the business needed cash. On occasion from April 2011, Mr Peter Wilson encouraged Mr Luckeraft to move stock, if necessary by providing discounts. Mr Wilson told Mr Luckeraft that ITM needed cash and instructed him to sell steel in order to get cash in the door. On 13 April 2011, ITM engaged M&A Partners in conjunction with Brandi Financial Services to assist ITM with refinancing. The engagement was negotiated by Mr Peter Wilson and Mr Brandi on behalf of ITM. The scope of work for the services to be provided by these firms set out two stages:

Stage One: Strategy Formulation

•    Undertake a review of Independent Tubemills to form the strategy for restructuring the debt;

•    Present a ‘Debt Restructure Plan’ to management and the Board, from which M&A Partners/Brandi FS will raise debt for Independent Tubemills.

Stage Two: Independent Tubemills Debt Restructure

•    M&A Partners/Brandi FS will prepare a ‘Debt Funding’ plan that will be presented to financial institutions to pursue the appropriate debt requirement.

•    M&A Partners/Brandi FS will advise on options available to the Independent Tubemills for raising debt capital, appropriate structure and costs;

65    Bankwest was identified as a possible financier to provide refinancing for ITM. Now no application for refinance was adduced in evidence, however a number of internal Bankwest documents were tendered. These documents established that the proposed ITM Bankwest refinance included the refinance of:

(a)    the Oxford Funding facility;

(b)    the CBA facility to RAW in respect of the freehold of the property; and

(c)    the BOQ equipment finance facility.

66    Further, a credit risk submission by Bankwest dated 7 June 2011 noted that the Bankwest refinance proposal included the refinance of personal property loans of the ITM directors:

•    Proposal will consolidate existing Banking arrangements with CBA (debt relating to Land & Buildings), BOQ (debt relating to purchase of Mill) and Oxford Finance (working capital facility).

•    Existing Housing Loans relating to Directors will also be refinanced under a Private Banking package with equity utilised to support business borrowings. MPG debt relates to David Brandi and wifes family trust.

67    On one view, the refinance of the freehold and mill machine facilities was added by ITM to give Bankwest “more comfort” in the proposed lending. I will discuss this aspect in more detail later when I address the question of AICW. The total value of the refinance was $13.1 million.

68    On 24 June 2011, Bankwest provided ITM with a formal offer letter. That document is not in evidence but is referred to by Bankwest in its loan disbursal letter of 1 August 2011.

69    On 11 July 2011, upon finalisation of the Bankwest refinance, M&A Partners and Brandi Financial Services issued a joint invoice to ITM in the amount of $465,300 being a “Success Fee as agreed for Provision of Corporate Advisory Services” ($393,000), a monthly fee for their services ($30,000) and GST ($42,300). $232,650 was payable to each of M&A Partners and Brandi Financial Services. On 13 and 14 July 2011, ITM and M&A Partners exchanged communications disputing the invoice. It was pointed out that ITM should not be wearing a fee in respect of finance provided to RAW, which was independent of ITM. But ultimately, ITM paid the full amount of the invoice, being $232,650 to M&A Partners and $232,650 to Brandi Financial Services. As the 60% equity partner in Brandi Financial Services, Mr Brandi took a benefit from the $232,650 payment by ITM to Brandi Financial Services.

70    On or around 14 July 2011, Bankwest disbursed funds under the refinance. On 1 August 2011, Bankwest provided a loan disbursal letter to ITM, confirming that a total of $12,500,437.99 had been disbursed on 14 July 2011, being less than the $13.1 million apparently set out in the letter of offer. In respect of the BOQ mill machine equipment refinance, the change to Bankwest was cash flow neutral. In respect of the freehold purchase refinance, it too was effectively cash flow neutral. In circumstances where the CBA owned Bankwest, the refinance concerning the freehold purchase was on one view in order to make the refinance simpler.

71    In July 2011, ITM reintroduced a second production shift. In the months July to October 2011, ITM ran double shifts, but still experienced significant variability in actual production. Further, the mill misalignment, being a constant over this period, provided no sufficient explanation in and of itself for the variability. Mr Benson suggested in cross-examination that the likely reasons for the production variability included:

(a)    shortages or delays in the supply of coil; and

(b)    lack of demand.

72    Production for the second half of 2011 was as follows:

73    In October 2011, the second production shift ended. According to Mr Benson, the other crew was inexperienced and produced more scrap. Mr Benson said in cross-examination that mill misalignment was not the cause of the sacking of the second shift in October 2011.

74    In the latter half of 2011, ITM communicated further with Bankwest. On 2 September 2011, Mr Brandi sent to Bankwest an email in the following terms also attaching the June 2011 ITM management accounts:

Please find attached the Actual 2011 P & L management accounts as requested.

Some of the Budget to Actual variances are summarized with brief commentary below;

MAY A fair bit of market pressure flushed through the months of May & June, led by Onesteel and Orrcon reducing prices to combat imports, thus driving down both volumes and margin.

We also spent some extra costs bolstering the mill floor area in maintenance, as well as the office in regards to uplifts and operational necessities. This is reflected with ~$85k to P & L items such as Office costs and Mill Maintenance.

JUNE Pricing pressure carry over from MAY led to continued margin squeeze (with carrying stock our resultant go to market pricing meant dearer production costs, and less margin etc).

Prices are improving, and this is reflected in July, but mainly August Accounts.

BSS released an Import Parity Rebate to help the Import Pricing margins - also reflective in future months.

We again invested on Mill Floor items and racking that would save us costs going forward as well as maintain the lifetime of our equipment - eg, racking and tool shelving. These costs are isolated in Mill Maintenance within the P & L. Travis, Greg & Amy may have witnessed some of these additions at their most recent visit. We continue to focus on opportunities and long-term cost saving exercises as we run.

We also implemented a 2nd shift in late June – hence a slight jump in Payroll.

75    On 9 December 2011, Mr Brandi sent an email to Bankwest setting out ITM’s performance for the months of September, October and November 2011. The email stated in part the following:

Please find attached Sept Qtr figures FYI.

Commentary:

September

•    Was our record month in both tons shipped and production tons.

•    Providing there is a steady stream of Coil arriving, we had no trouble converting this coil to completed product and our Mill and operators are getting stronger daily.

•    Efficiency was paramount, and we focused on exercises to manage these processes better for the future growth.

October

•    Coil Supply was still improving mainly due to cashflow – Bluescope as they were still running roughly a few weeks behind & they took a while to ramp up to over 500t/week

•    Margin Squeeze due to import dumping & therefore pricing/margin was affected.

•    We mainly concentrated on out (sic) Painted Coil supply backorders – PTD Coil has a lower sale price & margin – so our avg sales price was lower for the month;

•    We managed to truck out & Invoice over 1500 tons.

November

•    We achieved just shy of 1600 tons shipped out & invoiced.

•    We have a large amount of Sales Orders to be shipped ($700k+), as well as achieving an incredible Back Order list (future orders) through from Jan – March 2012. Included from March is Bluescope Distribution’s request at our cap of 1200t per month alone, Steelforce’s Jayco business growing and other import offers we have managed to secure.

•    Production throughout the shorter months of Dec & Jan will be full steam ahead in line with order delivery requirements of our clients in Feb onwards. We have requests monthly exceeding 2000t in 2012 already.

76    There was nothing in these communications concerning misalignment problems, although I accept that ITM may not have necessarily wished to communicate any problem to Bankwest if the problem had become apparent by this time.

77    On 31 October 2011, the indemnity period under the policy ended.

78    Let me step away from the chronology for a moment. One particular problem which ITM had during 2011 was coil supply. More particularly, raw coil suppliers refused to supply coil to ITM unless payments including overdue payments were received and/or ITM came within agreed credit limits. A number of ITM’s major suppliers, including CITIC, Bluescope and SSG took this approach.

79    Bluescope ceased supply to ITM on a number of occasions during 2011 until ITM paid down debt and/or came within agreed credit limits. So:

(a)    On 1 July 2011, Mr Steve Weine wrote to Mr Brandi that “Unfortunately, BSL will have to suspend deliveries until the due debt (approx.$lm) is paid”.

(b)    On 10 October 2011, Mr Greg Tilden wrote to Mr Brandi that:

We are keen to see ITM continue to grow to ensure more Australian steel is used in the Domestic Pipe and Tube Market. It is with a great deal of disappointment that we have been forced to put a hold on all deliveries and new orders until the ITM account is within the agreed credit limit and all overdue amounts are paid on the account.

To recommence supply we require the overdue amount of $786,189 to be paid immediately and a firm commitment to pay the invoices totalling $1,039,912 by the end of October. All of the current invoices are detailed on the attached invoice summary. At a mutually convenient time we will need to meet to discuss the ongoing status of your account and ITM’s intentions to make future payments on time and operate within the negotiated credit limit.

(c)    On 15 November 2011, Mr Tilden wrote to Mr Brandi regarding recent payments made by ITM that:

Based on receival of these payments we should be able to supply the next weeks orders but will need to program further payments in order for us to deliver the December requirements. The account is above the credit limit today and the next payment will bring it back under the credit limit but once the credit limit is again reached we will have to suspend deliveries unless additional payments are made.

80    Further, on the other side of their relationship, when ITM did not deliver to Bluescope on the delivery date finished goods specified in Bluescope’s order, Bluescope would cancel that part of the order that was not delivered on time, which left ITM holding a quantity of finished goods that had been produced but not sold. Nevertheless ITM still had to pay for the raw coil supplies that the goods were processed from.

81    Further, SSG was both a significant coil supplier to ITM and also one of ITM’s largest customers. In the first half of 2011, SSG refused to supply slit coil unless its own orders for final products from ITM were delivered. For example:

(a)    Between 6 and 11 April 2011, SSG was in dispute with ITM over a failure to meet orders in a timely fashion. Mr Kevin Smaller wrote to Mr Brandi saying that SSG would only recommence supply of slit coil if ITM could satisfy him of a definite supply schedule for the material on order.

(b)    On 29 April 2011, Mr Smaller wrote to Mr Brandi telling him that the slow supply of slit coil was because of ITM’s slow supply of finished product to SSG.

82    In respect of CITIC’s relationship with ITM, on 15 June 2011 “Griff” from Wright Steel (which had an arrangement with CITIC) wrote to Mr Brandi chasing a $522,000 payment that had been due 15 March 2011 and an $11,000 shortfall payment that had been due on 15 January 2011. On 2 November 2011, ITM was served with a statutory demand by CITIC. There was subsequent litigation between these parties that eventually settled.

83    These coil supply problems had a significant impact on ITM. ITM had to continually amend and update its rolling program to suit coil deliveries. It also affected ITM’s cash flow. In Mr Brandi’s words to Bluescope “[w]e are being crucified cashflow wise with the timing & required payment of this coil”.

84    On 20 August 2012, Mr Peter Wilson ceased as a director of ITM. He was replaced by Mr Brandi.

85    On 10 September 2012, ITM notified QBE of a claim for material damage and business interruption under the policy.

86    On 26 November 2012, FMG Engineering delivered a report to QBE concerning the slab and mill misalignment. A debate took place between the parties as to its admissibility. I have received it as relevant to the chronology in terms of QBE’s investigation and processing of the claim, but not as evidence as to the truth of the assertions of the opinions expressed. In my view it does not qualify as expert opinion evidence under s 79 of the Evidence Act 1995 (Cth). Further, it is not an admission. Further, even if it were a business record it is not admissible to prove the truth of the opinion expressed, but only the fact of the opinion being expressed. Further, even if s 62 or s 63 of the Evidence Act otherwise apply, the terms of s 67 have not been complied with. But in any event, even if I am wrong about all of this, I would make a limited use order under s 136 of the Evidence Act preventing this report from being used as evidence as to the truth of the opinions being expressed. Let me move to another matter.

87    By no later than 1 March 2013, the applicants (and previously, ITM) were assisted by Marsh Pty Ltd in the preparation of their claim.

88    On 1 May 2013, QBE granted indemnity under the policy for both material damage and business interruption. In its letter granting indemnity, QBE stated:

QBE is satisfied that ITM has established that it has suffered “damage” to insured machinery. This “damage” is constituted as physical damage to machinery and also diminished functionality and value of machinery as well as increased wastage and other costs as a result of diminished functionality. It is understood that the physical losses have also led to probable losses in revenue and attendant gross profits and possible increases in costs of working.

89    From June 2013 to November 2017, Marsh performed work and billed ITM for work done in relation to the claim. Internally, Marsh categorised its work as being either “claims preparation”, “claims management” or “claims reporting”. Some other items of work also appeared on its invoices such as “administration”, “consulting/analysis” and “computer modelling”.

90    On 29 July 2013, QBE made its first payment under the policy, being a payment of $1 million as a first progress payment said to be in partial settlement of claims under Section 1 and Section 2 of the policy.

91    On 5 September 2013, QBE made its second payment under the policy, being a payment of $1 million as a second progress payment said to be in partial settlement of claims under Section 1 and Section 2 of the policy. This payment is relevant to the ICW question that I will discuss later.

92    On 14 November 2013, QBE made a payment under the policy, being a payment of $1 million made in full settlement of claims with respect to material damage. Apparently the $1 million received for material damage was not used to fix the mill misalignment.

93    On 19 December 2013, QBE made its fourth and final payment under the policy, being a payment of $1.8 million as a third progress payment in partial settlement of claims for business interruption under Section 2 of the policy.

94    Excluding the payment of $1 million with respect to material damage, QBE has paid a total of $3.8 million under Section 2 of the policy.

95    By deed dated 16 May 2014 between ITM (as trustee for the ITM Unit Trust) and APT, ITM assigned to APT all of its rights under the policy and any relevant choses in action, including the rights to pursue the claims the subject of this proceeding. On 19 August 2014, APT gave notice of the said assignment to QBE. ITM has been joined as the second respondent to the present proceedings given its position as assignor. Although notice was given to QBE, nevertheless the assignment still remained an equitable assignment as I explained in Australian Pipe & Tube Pty Ltd v QBE Insurance (Australia) Limited (supra) at [5] in the following terms:

On 1 July 2014, ITM became subject to a creditors’ voluntary winding up by virtue of a resolution passed on 1 July 2014. In August 2014, as I have said, notice of the assignment was given to QBE. Normally such a notice would have been sufficient to convert the equitable assignment into a legal assignment (s 134 of the Property Law Act 1958 (Vic)). But as the liquidation of the assignor commenced before the notice, the legal interest was not validly assigned by the operation of the subsequent notice per se. Accordingly, notwithstanding the notice, the assignment continued only to be effective in equity.

96    By deed dated 1 July 2016 between APT and the second applicant (Leaning Back Pty Ltd), APT assigned to the second applicant all of its rights under the policy and any relevant choses in action, including the rights to pursue the claims the subject of this proceeding. On 1 February 2018, the second applicant gave notice of this assignment to QBE.

RELEVANT TERMS OF THE POLICY

97    Let me now address the policy and some issues that arise in its application.

98    The policy describes itself as an Industrial Special Risk Mark IV Insurance Policy.

99    The policy contains the following preamble:

Preamble

This Policy incorporates the Schedule, Sections, Definitions, Conditions, Exclusions, Endorsements, Memoranda and Warranties (if any) and any other terms herein contained which are to be read together and any word or expression to which a specific meaning has been given in any part of this Policy shall bear this meaning wherever it may appear unless such meaning is inapplicable to the context in which the word or expression appears.

WHEREAS the Insured named in the Schedule has paid or agreed to pay to the Insurer(s) specified below the Premium shown on the Schedule, now the Insurer(s) agree(s), subject to the terms, Conditions, Exclusions, Memorandum, Warranties, limitations and other provisions contained herein or endorsed hereon, to indemnify the Insured as specified herein against loss arising from any insured events which occur during the Period of Insurance stated in the Schedule or any renewal thereof.

PROVIDED THAT the total liability of the Insurer(s) at any one Situation shall not exceed the appropriate Limit or Sub limit(s) of Liability as stated in the Schedule or such amount(s) as may be substituted therefore by Endorsement or Memorandum hereon or attached hereto.

100    The schedule to the policy describes ITM as the insured, the “Business” as being a “Cold press steel mill/ manufacturers of tubular steel products including some importing of raw materials” and “any other activities incidental thereto” with the “Situation and/or Premises” being 2-14 Independent Way, Ravenhall Victoria. The “Period of Insurance”, as distinct from the indemnity period, is stipulated as 13 May 2010 to 13 May 2011. The schedule later stipulates the “Indemnity Period” as 12 months. In the present case the parties have agreed on the indemnity period being 1 November 2010 to 31 October 2011. The schedule also stipulates the following:

101    For present purposes I do not need to discuss relevant limits, save to say that the policy refers to some sub-limits relevant to Section 2 – Consequential loss, being $500,000 for “Item 2 – Claims Preparation Costs” and $1,000,000 for “Item 4 – (Additional) Increased Cost of Working”.

102    Section 2 of the policy sets out detailed provisions concerning consequential loss.

103    First, the indemnity clause is expressed in the following terms:

The indemnity

In the event of any building or any other property or any part thereof used by the Insured at the Premises for the purpose of the Business being physically lost, destroyed or damaged by any cause or event not hereinafter excluded (loss, destruction or damage so caused being hereinafter termed ‘Damage’) and the Business carried on by the Insured being in consequence thereof interrupted or interfered with, the Insurer(s) will, subject to the provisions of this Policy including the limitation on the Insurer(s) liability, pay to the Insured the amount of loss resulting from such interruption or interference in accordance with the applicable Basis of Settlement.

Provided that the Insurer(s) will not be liable for any loss under this section unless the Insured’s property lost, destroyed or damaged is insured against such Damage (loss arising out of destruction or damage by explosion of Boilers and/or Economisers excepted) and the Insurer or Insurers by which such property is insured shall have paid for, or admitted liability in respect of such Damage unless no such payment shall have been made or liability shall not have been admitted therefore solely owing to the operation of a provision in such insurance excluding liability for loss below a specific amount.

104    Second, there are then detailed provisions concerning the “Basis of settlement”, by reference to 4 items set out thereunder. Only Item Nos 1, 2 and 4 and the provisions relating thereto are relevant.

Item No 1

105    Item No 1 is expressed in the following terms:

Item No. 1

The insurance under this item is limited to loss of Gross Profit due to: (a) Reduction in Turnover and (b) Increase in Cost of Working and the amount payable as indemnity thereunder shall be:

(a)    In respect of Reduction in Turnover;

the sum produced by applying the Rate of Gross Profit to the amount by which the Turnover during the Indemnity Period shall, in consequence of the Damage, fall short of the Standard Turnover;

(b)    In Respect of Increase in Cost of Working

the additional expenditure necessarily and reasonably incurred for the sole purpose of avoiding or diminishing the reduction in Turnover which, but for that expenditure would have taken place during the Indemnity Period in consequence of the Damage, but not exceeding the sum produced by applying the Rate of Gross Profit to the amount of the reduction thereby avoided;

less any sum saved during the Indemnity Period in respect of such of the charges and expenses of the Business payable out of Gross Profit as may cease or be reduced in consequence of the Damage.

Provided that if the Declared Value of Gross Profit at the commencement of each Period of Insurance be less than the sum produced by applying the Rate of Gross Profit to the Annual Turnover, (or its proportionately increased multiple thereof, where the Indemnity Period exceeds 12 months) the amount payable hereunder shall be proportionately reduced.

106    ICW is not a separate item within the Basis of Settlement. Rather, ICW is an element, along with “Reduction in Turnover” which together comprise “actual loss of Gross Profit”. That these two elements are combined in order to constitute an amount which may be the subject of a payment (or progress payment), is reflected in the fact that from the combination of the two, must be subtracted “any sum saved during the Indemnity Period in respect of such of the charges and expenses of the Business payable out of Gross Profit as may cease or be reduced in consequence of the Damage”. As a matter of construction, Item No 1 is to be treated as a composite whole. A progress payment made in respect of it, accordingly falls to be considered in that light.

107    An endorsement to the policy modifies Item No 1 as follows:

(a)    It provides that “In the first paragraph of this Basis of Settlement, the words “loss of Gross Profit” are amended to read: “actual loss of Gross Profit”.

(b)    The endorsement also provides:

The final paragraph of Item No 1 is amended to read:

“Provided that if the estimated value of Gross Profit declared at the commencement of the Period of Insurance is less than eighty per cent (80%) of the sum produced by applying the Rate of Gross Profit to the Annual Turnover (appropriately increased if the Indemnity Period exceeds twelve months) which would have been achieved if the Damage had occurred on the day of commencement of the Period of Insurance, the amount payable hereunder shall be proportionately reduced.

This provision shall not apply if the amount of the loss does not exceed ten per cent (10%) of the estimated value of Gross Profit declared at the commencement of the Period of Insurance.”

108    For completeness I would note that the proviso to Item No 1 is not triggered as the estimated value of “Gross Profit” declared at the “Commencement” of the “Period of Insurance” was $25 million. ITM’s estimate was well in excess of the gross profit now claimed. The proviso was designed to ensure that the insured did not provide an unrealistically low estimate of gross profit in order to reduce its premium. That vice did not exist here.

109    Before turning to Item Nos 2 and 4, it is necessary to set out some definitions relevant particularly to Item No 1, including some modified definitions.

110    The policy, putting to one side the memorandum to Section 2, contains the following definitions:

Gross Profit

the amount by which:-

(a)    the sum of the Turnover and the amount of the Closing Stock and Work in Progress shall exceed

(b)    the sum of the amount of the Opening Stock and Work in Progress and the amount of the Uninsured Working Expenses as set out in the Schedule

…

Turnover

the money (less discounts, if any allowed) paid or payable to the Insured for goods sold and delivered and for services rendered in course of the Business at the premises.

Indemnity Period

the period beginning with the occurrence of the Damage and ending not later than the number of months specified in the Schedule thereafter, during which the results of the Business shall be affected in consequence of the Damage.

…

Shortage in Turnover

The amount by which the Turnover during a period shall, in consequence of the Damage, fall short of the part of the Standard Turnover which relates to that period.

Rate of Gross Profit

The rate of Gross Profit earned on the Turnover during the financial year immediately before the date of the Damage to which such adjustments shall be made as may be necessary to provide for the trend of the Business and for variations in or other circumstances affecting the Business either before or after the Damage or which would have affected Business had the Damage not occurred, so that the figures thus adjusted shall represent as nearly as may be reasonably practicable the results which but for the Damage would have been obtained during the relative period after the Damage.

Annual Turnover

The Turnover during the twelve months immediately before the date of the damage.

Standard Turnover

The Turnover during that period in the 12 months immediately before the date of the Damage which corresponds with the Indemnity Period.

111    The Memoranda to Section 2 stipulate the following modifications:

New business

In the event of Damage occurring at the premises before the completion of the first year's trading of the Business the terms ‘Rate of Gross Profit’, ‘Annual Turnover’, ‘Standard Turnover’ and ‘Rate of Payroll’ shall bear the following meanings and not as within stated:

Rate of Gross Profit:

The rate of Gross Profit earned on the Turnover during the period between the date of the commencement of the Business and the date of the Damage.

Annual Turnover:

The proportional equivalent, for a period of 12 months of the Turnover realised during the period between the commencement of the Business and the date of the Damage.

Standard Turnover:

The proportional equivalent, for a period of 12 months of the Turnover realised during the period between the commencement of the Business and the date of the Damage.

112    Further, to the modified definitions of “Rate of Gross Profit”, “Annual Turnover” and “Standard Turnover” there is stipulated the subclause:

to which such adjustment shall be made as may be necessary to provide for the trend of the Business and for variations in or other circumstances affecting the Business and for variations in or other circumstances affecting the Business either before or after the Damage or which would have affected the Business had the Damage not occurred so that the figures thus adjusted shall represent as nearly as may be reasonably practicable the results which but for the Damage would have been obtained during the relative period after the Damage

113    Where, as in the present case, the insured’s business is a new business (where the relevant damage occurred before the end of the first year of trading) the policy definitions (incorporated in the formula above) of Rate of Gross Profit and Standard Turnover are amended so as to provide for pro rata figures based on the relevant period of trading. Importantly, where due to the short effluxion of time between the commencement of the business and the date of the damage, there were no relevant historical trading figures against which to compare trading during the indemnity period, the Rate of Gross Profit and Standard Turnover figures must also be further adjusted in accordance with the said adjustment subclause.

114    The adjustment subclause is designed to give purpose to the principle of indemnity under the policy. As stated in Roberts H, Riley on Business Interruption Insurance (10th ed, Thomson Reuters, 2016) at 48:

Without this clause the policy cannot be regarded as fulfilling the basic principle of an insurance that is to indemnify, because the turnover, charges and profits which would have been realised during a period of interruption are hypothetical and never capable of absolute proof. By the use of this clause it is possible to make adjustments in a loss settlement to produce as near as is reasonably possible a true indemnity for an insured’s loss, albeit within a restricted period, i.e. the maximum indemnity period and also limited to the sum insured.

…

The other circumstances clause seeks to accommodate all such influences on the business that would have occurred but for the incident itself. This may seem like an enormous, if not insurmountable challenge, but to ignore all these factors and merely rely on the previous year’s trading would lead to a lottery in which the insured was either over or under indemnified.

115    Further, as was stated in Honour WB and Hickmott GJR, Honour and Hickmott’s Principles and Practice of Interruption Insurance (4th ed, Butterworths, 1970) at 444:

It is essential to ascertain as accurately as practicable the hypothetical results which the business itself would have produced apart from the fire or other peril happening, as to determine what adjustments to the rate of gross profit, the annual turnover and the standard turnover figures would be equitable.

116    The relevant adjustments contemplated by the adjustment subclause are trend, variation and other circumstances. These adjustments have been described by Honour WB and Hickmott GJR, Honour and Hickmott’s Principles and Practice of Interruption Insurance (4th ed, Butterworths, 1970) at 293 in the following terms:

(a)    “Trend” means the general tendency of the business in the expansion or contraction of trading or operating activity;

(b)    “Variations” embraces:

all developments, extensions, modifications or alterations in the organisation, production or trading arrangements of the business, subject however to their being within the scope of the business and premises as insured by the policy … so as to approximate the results that might have been reasonably expected to have accrued from such factors as the projected or actual installation of new plant or equipment, the opening up of new agencies, the close-down of unprofitable sections or departments, the introduction of new methods and processes and the like.

(c)    “Special Circumstances” means circumstances of a somewhat exceptional nature not generally occurring within or without the business.

117    There are no special circumstances relied upon by the applicants in the application of the adjustment subclause.

118    Let me at this point say something about the concepts of “increase in cost of working” and “additional increase in cost of working”.

119    Let it be assumed that an insured is allowed to claim for loss of gross profit by reason of the diminishment or cessation of normal trading conditions caused by the insured event. Now normally there would be a loss of gross profit by reason of a reduction in turnover. But an insured may take steps to ameliorate or avoid the reduction in turnover by incurring expenditure designed to avoid the reduction in turnover i.e. an increase in the cost of working. In such a situation there will not be a loss of gross profit by reason of the reduction in turnover, for this will be maintained by the increased expenditure. Rather, the loss of gross profit will come about by the increased cost i.e. an increase in the cost of working. So, an allowance is made for the increase in the cost of working in the calculation of the loss of gross profit. But normally, the allowance under this heading for increase in cost of working cannot exceed the amount of the gross profit preserved by the increase in the cost of working which has had the effect of ameliorating or avoiding the reduction in turnover.

120    To get any excess amount for the increase in the cost of working, one needs cover for additional increase in cost of working, as Item No 4 provides.

121    Let me now turn to Item Nos 2 and 4.

Item No 2

122    Item No 2 is expressed in the following terms:

Item No. 2

The insurance under this item is to cover such reasonable professional fees as may be payable by the Insured, and such other reasonable expenses necessarily incurred by the Insured and not otherwise recoverable, for the preparation of claims under the Insured’s Material Damage and Consequential Loss insurance policies and the Insurer(s) shall indemnify the Insured for such reasonable fees and expenses.

123    It is not in dispute that the applicants are entitled to indemnity for the following claims preparation costs:

124    But the applicants allege, and QBE denies, that they are entitled to indemnity for all of the costs incurred with Marsh Risk Consulting in the sum of $419,037.

Item No 4

125    Item No 4 is expressed in the following terms:

Item No. 4

The Insurance under this item is limited to increase in cost of working (not otherwise recoverable hereunder) necessarily and reasonably incurred during the Indemnity Period in consequence of the damage for the purpose of avoiding or diminishing the reduction in Turnover and/or resuming and/or maintaining normal business operations and/or services.

126    Consonant with the phrase “not otherwise recoverable hereunder”, this item is referred to as “(Additional) Increased Cost of Working” (AICW) in the policy Schedule. It is to be contrasted with the second limb of Item No 1 which is described as Increase in Cost of Working (ICW). There is a sub-limit of $1 million for AICW.

127    The applicants claim $1,041,379.50 for AICW. Largely, that claim comprises refinance fees which the applicants say ITM incurred, as AICW, in consequence of the damage to the mill.

128    The differences between the ICW and AICW clauses of the policy are the following:

(a)    First, there is no subtraction to be made from AICW of sums saved during the indemnity period as may cease or be reduced in consequence of the damage; this may be contrasted with ICW. For example, such savings might be the costs of raw materials, which might be expected to be less if the machine is shut down due to damage.

(b)    Second, the provision regarding “estimated value of Gross Profit declared at the commencement of the Period of Insurance” that applies to ICW does not apply to AICW.

(c)    Third, AICW amounts are recoverable if “necessarily and reasonably incurred … in consequence of the damage for the purpose of … resuming and/or maintaining normal business operations and/or services”. Contrast this with the language concerning ICW. Further, ICW is subject to a “sole purpose” test, whereas AICW is not.

(d)    Fourth, ICW is recoverable subject to the recoverable amount not exceeding the sum produced by applying the Rate of Gross Profit to the amount of the reduction avoided, whereas there is no such cap on AICW.

(e)    Fifth, there is a sub-limit for AICW ($1 million) but no separate sub-limit for ICW, although there is a sub-limit for Item No 1.

129    QBE submits that the applicants seek to make out a claim for AICW, without identifying why, within the terms of Item No 4, such a claim is “not otherwise recoverable hereunder”. QBE says that it is not clear as to the basis on which the applicants contend that the approximately $1.04 million re-finance costs claimed by them fall into the AICW category, and not the ICW category. I think the reason is obvious. On no view would the refinance costs satisfy the sole purpose test for ICW.

130    Mr Brandi’s evidence is that some of the re-finance costs were required because of the production problems that ITM experienced shortly after it commenced trading. Now accepting that premise, and putting to one side the issue of the required connection with the material damage, QBE submits that such costs fall within the definition of ICW, being “the additional expenditure necessarily and reasonably incurred for the sole purpose of avoiding or diminishing the reduction in Turnover which, but for that expenditure would have taken place during the Indemnity Period”. I disagree. On the evidence, there was no satisfaction of the sole purpose test required for ICW, but not AICW.

Other provisions

131    Finally, there are several general conditions that should be set out.

132    Condition 6 provides:

6.    Notification of claims

On the happening of any loss, destruction or damage, the Insured shall forthwith give notice thereof in writing to the Insurer(s) and shall (within thirty (30) days after such loss, destruction or damage or such further time as the Insurer(s) may in writing allow), at the Insured's own expense, deliver to the Insurer(s) a claim, in writing containing as particular an account as may be reasonably practicable of the several articles or portions of property lost, destroyed or damaged and of the amount of loss, destruction or damage thereto, having regard to their value at the time of the loss, destruction or damage, together with details of any other insurances on any property hereby insured.

The Insured shall use due diligence and do and concur in doing all things reasonably practicable to minimise any interruption of or interference with the Business to avoid or diminish the loss and shall also deliver to the Insurer(s) a statement in writing of any claim certified by the Insured's auditor, with all particulars and details reasonably practicable of the loss and shall produce and furnish all books of accounts and other business books, invoices, vouchers and all other documents, proofs, information, explanations and other evidence and facilities as may reasonably be required for investigation and verification of the claim together with (if demanded) a statutory declaration of the truth of the claim and of any matters connected therewith.

No claim under this Policy shall be payable unless the Insured has complied with the terms of this condition.

133    Condition 15 provides:

15.    Progress Payments

Provided that liability has been admitted progress payments on account of any claim may be made to the Insured at such intervals and for such amounts as may be agreed upon production of a report by the Loss Adjuster (if appointed) provided such payment(s) shall be deducted from the amount finally determined upon adjustment of the claim.

LOSS OF GROSS PROFITS

134    As I have said, because ITM’s business was a new business or, more precisely, because the event of damage occurred before the completion of the first year’s trading of the business, certain terms in Item No 1 attracted amended definitions. As I have indicated, such amendments are necessary because a start-up or new business has no “12 months of turnover” against which to assess any shortfall of turnover. So, the phrases “Rate of Gross Profit”, “Standard Turnover” and “Annual Turnover” in Item No 1, attract amended definitions to cater for a new business. In general terms, the changes require consideration of the business between commencement and the date of damage, with adjustments as may be necessary to provide for the trend of the business and for variations in or other circumstances which would have affected the business had the damage not occurred.

135    Now QBE rightly contends that insofar as the policy contemplates and accommodates a claim being made in the first year of business operations, the policy amends but does not abandon the traditional analysis. One ordinarily has to examine the money paid or payable to the business in the preceding 12 months (the Standard Turnover) and ascertain the shortfall in consequence of the damage. The amended definitions, which cater for damage in the first 12 months of trading, continue to require consideration of the turnover realised in the period before the damage but after the commencement of trading, to which adjustments are made, and then shortfall ascertained. Now all of that may be so to some extent. But I do not consider that the point being made necessarily invalidates Mr Meredith’s methodology that I will explain in a moment.

136    The applicants’ loss of gross profits case centred on the evidence of Mr Benson as set out at paragraph 100 of his affidavit sworn 5 May 2017, which stated the following:

At the Somerton tube mill, in the start-up phase, we started with very low levels of production throughput. I can’t remember the exact figure in terms of tonnage, but it wasn’t much. After that first month, the production rate doubled each month. As I said above, you can’t just flick a switch and begin producing big numbers, even if the mill itself is capable of producing those numbers. It takes time to train the operators, learn efficiencies and get the procedures bedded down. I believe that, if the Mill did not experience the production problems it did experience, and we had taken on staff as I have set out above, we would have achieved the following production rates: in first month, 100 tonnes; in the second month, 200 tonnes; in the third month, 500 tonnes; in the fourth month, 1,000 tonnes; in the fifth month, 2,000 tonnes; in the sixth to twelfth months, 3,000 tonnes; and, each month after twelve months, 4,000 tonnes per month. This is based on my experience at other steel mills, my actual experience at the Mill (including my knowledge of the workers that we had at the time) and my understanding of the Mill’s production capabilities and running speeds.

137    In summary, the applicants contend that had there been no material damage, the mill would have produced 2,000 tonnes of prime production in December 2010, 3,000 tonnes of prime production per month in January to July 2011, and 4,000 tonnes of prime production per month in August to October 2011, as well as a further 7% by way of scrap. This was the foundational set of assumptions used by Mr Meredith for his analysis.

138    In simplistic terms, Mr Meredith calculated and then took the ‘but for’ sales in the indemnity period, being the level of sales which would have been achieved by ITM but for the damage to the mill, and subtracted the actual sales, thereby calculating the lost sales. Of course, the ‘but for’ sales were a function of both the counterfactual production profile and the expected sale price (average selling price per tonne) of that counterfactual production profile. The lost sales adjusted for scrap were then multiplied by the gross margin percentage to produce the figure of the loss of gross profits after further adjustment concerning variable costs. In summary, the applicants’ loss of gross profits claim can be evaluated by reference to Annexure Y1 of Mr Meredith’s report of 14 February 2018 which identifies the methodology the applicants propose for the quantification of their loss of gross profits claim over the indemnity period. The following features of that quantification may be noted:

(a)    The value of actual sales is identified to be $16,072,582.

(b)    The value of ‘but for’ sales is calculated to be $50,017,167.

(c)    Gross margin is calculated as 29.5%.

(d)    Allowance is made for incremental variable costs as relevant on the ‘but for’ case in the amount of $589,766.

139    Now within the ‘but for’ sales calculation, there are two central integers: (a) first, assumed monthly production and; (b) assumed price per prime tonne. The quantification is of a total lost profit in the amount of $9,423,887. As I have said, the most important assumption in the applicants’ case is the assumption made as to the ‘but for’ production, which is based on evidence from ITM’s production supervisor, Mr Benson.

140    Now in assessing the validity of the asserted ‘but for’ production volumes, it is important to differentiate between production volumes in an ideal world and production volumes in the real world but for the material damage to the mill. QBE says that the relevant question is what volume of material would ITM have been able to produce and sell, with all of its real-world constraints, including problems with the experience of staff, cash-flow constraints, litigation with suppliers, entering a new market in which there existed an entrenched oligopoly, and other unrelated production problems, but without the mill misalignment. I agree that that in summary is the relevant forensic question.

141    Let me now elaborate on some of the detail.

(a)    Standard turnover and rate of gross profit – as adjusted

142    The applicants have proposed the following inputs:

143    The rate of gross profit as adjusted on Mr Meredith’s analysis (29.5%) is less than the average rate of gross profit during the period August 2010 to October 2010. QBE’s expert, Mr Samuel, did not disagree with the adjusted rate of gross profit figure of 29.5%. There was also no dispute on the assumptions concerning variable costs.

(b)    Calculation of reduction in turnover

144    Applying Mr Meredith’s methodology with the above factors, the applicants’ loss of gross profit by reason of reduced turnover from misalignment issues, and assuming a price per tonne of $1,396, was on the applicants’ analysis $9,423,887, calculated as follows:

145    If one applies the same methodology based on a selling price of $1,300 per tonne, one gets a total loss figure of $8,434,975 for the indemnity period.

(c)    Counterfactual production – the Benson estimates

146    Mr Benson has been the production supervisor for the mill since its commissioning and was involved in its unpacking, installation and commissioning. He manages all production runs, manages the operation of the mill and deals with any issues that crop up. Almost all of his time is spent on the factory floor.

147    Mr Benson gave evidence with over 26 years in the steel fabrication industry, including substantial experience at BHP Somerton. Mr Benson gave evidence that after commissioning, the BHP mill took 6 months to ramp up to 120 metres per minute for small gauge products, 90 metres per minute for medium gauge products and 70 metres per minute for large gauge products. He says that it took another two years or so to reach maximum speeds of up to 200 metres per minute.

148    Before Mr Benson started work at ITM he considered that the mill could produce 35,000 tonnes/year. Mr Benson gave evidence that he believed the mill could ramp up to 3,000 tonnes/month within the first 6 months. His initial estimates were based on his experience working on other mills and his understanding of the advanced technology of the mill. In cross-examination he gave evidence that 30,000 tonnes/year was a small and easy amount to produce. But Mr Benson agreed in cross-examination that the mill was less technologically advanced than he had anticipated, but considered that this did not impact the productivity of the mill. Further, it was accepted by Mr Benson that the mill was not running, and still does not run, as efficiently and as much as it should be able to.

149    Mr Benson gave evidence of counterfactual monthly production figures as follows:

150    The estimates are in some respects supported by the workings in the third Benson affidavit and are reasonable, subject to a 25% discount that I propose to make as I will explain later, when compared with contemporaneous and other evidence such as:

(a)    the business plan, which uses a first year production forecast of 30,000 tonnes, based on input from Mr Peter Wilson, Mr Luckeraft and Mr Doubleday;

(b)    the spreadsheets attached to an email from Mr Whitbourne dated 9 September 2009, which support the first year production forecast of 30,000 tonnes;

(c)    Mr Luckeraft’s evidence of the ramp up period of a new mill and his role in the preparation of the first year production forecast of 30,000 tonnes; and

(d)    the “nameplate” production capacity of the mill that was 55,000 tonnes per annum and was capable of operating at speeds of up to 120 metres per minute.

151    I would also note that Mr Benson’s third affidavit sets out a methodology that in some aspects might be described as ‘bottom up’ to support his 4,000 tonnes per month estimate. He stated at [13], which was not fully attacked in cross-examination:

13.    By way of example:

13.1    assuming I ran shifts of 13-hours/day on 6 days per week (see paragraph 98 of my First Affidavit) I would have on average 25 working days or 338 hours per month;

13.2    if I discount the available hours by 35% to take into account what I consider to be a conservative estimate of “downtime” from the “facts of life” (see paragraph 3 and 8 of my Second Affidavit), I am left with 219.7 hours/month;

13.3    in order to produce 4000 tonne of prime product a month, assuming what I consider to be a conservative estimate of scrap at 7% (see above paragraph 9), I need to produce 4301.08 tonnes of product;

13.4    to produce 4301.8 tonnes of product in 219.7 hours/month I would have to run the Mill at an average speed of 19.58 tonnes/hour during “up time”;

13.5    the highest and lowest Mill speeds (drawn from the table at AJB-07) for each of the Top Products is set out in the table below:

152    Further, the applicants contend that the said documents and figures that I have summarised at [150] above are of significance because they were approved by, inter-alia, Mr Peter Wilson, Mr Whitbourne and Mr McKew. QBE filed witness statements for these individuals but did not call them. Therefore, so the applicants contend, there is a compelling Jones v Dunkel inference that the evidence from these witnesses would not have assisted QBE’s case, that is, they would not have given evidence of lower estimates of steel production. I will deal with this point later.

153    Further, as the applicants point out, the ramp up in tonnage was described by Mr Benson in cross-examination as a natural progression as part of the ramp up as operators learned how to operate the machine. He gave evidence that he anticipated that the gradual ramp up from 3,000 to 4,000 tonnes in month 13 would already have occurred well before then, but he was trying to be conservative. He stated that the only factor that you would have needed to change to ramp up production from 3,000 to 4,000 tonnes would have been mill speed.

154    Mr Benson further said that in coming to his estimates, he took into account the time to train operators, learn efficiencies and get procedures bedded down. Further, Mr Benson also stated that he had regard to the range of products produced on the mill, and the “facts of life” being the things that slow down or stop production even if you do not have problems like the ones he experienced at the mill. Mr Benson stated that he also took into account tool changes, gauge changes, product changeovers, a more efficient rolling schedule than actually applied given the problems experienced, teething problems in the mill’s compressed commissioning process and the inexperience of the staff that needed on the job training.

155    Let me at this point deal with another question concerning uptime/downtime relating to the mill’s operations.

156    Mr Benson gave evidence that if the mill ran well then having regard to the relevant product range, the mill would experience 65 to 75% of “uptime”, with downtime being used on raft changes, stoppages, repairs and maintenance. Contrastingly, Mr Benson said that for most mills he had operated (BHP in particular), uptime was up to 90%, partly due to less frequent changeovers and longer product runs.

157    He further gave evidence that, as at May 2017, by which time he had had over 6 years to find “work arounds” for the production problems caused by the movements in the floor, the floor was still “a big problem”. And the “uptime” of the mill was still only around 45 to 50%. He said that the difference between ideal uptime and actual uptime in 2017, when he had implemented workarounds, was due to stoppages, changeovers and breakdowns. In particular, when the mill produced bent product, the mill had to be stopped to trace everything back and determine the cause of the problem and how to fix it.

158    Now Mr Benson was cross-examined extensively on the 65% question and on the Elettra data in order to demonstrate that many of the stoppages and problems were unconnected with mill misalignment questions. But Mr Benson endeavoured to explain why many of the problems could be traced back to misalignment even though the Elettra data may not have made this explicit. He stated during cross-examination in relation to the Elettra data that:

(a)    “The only problem is that a lot of times there’s other issues that they fix at the same time that extends out the tool change and that’s where there’s space to put comments in and a lot of times they haven’t done that”;

(b)    “… normally they will be stopping to do the paint, and then they will decide they will do something else as well, and they would not have bothered entering, making a secondary entry on that”;

(c)    “No, I would say there’s other issues in there that, again, have not been entered”.

(d)    he would not have looked at Elettra data in 2011 because: “More than likely we knew what was going wrong and too busy trying to get product out the door”;

(e)    there is no record in Elettra for bent product stoppages;

(f)    “It’s hard to record stock just for bent product because you can’t – if you have a bent product you don’t just stop the line … you try adjusting your turkshead to straighten the product up. You need to keep the mill running to get straight product”;

(g)    if the Mill was stopped for bent product, it would probably be recorded as being stopped to adjust Turk’s head and not for “bent product”; and

(h)    Elettra data was not always accurate “because the proper information was not recorded at times”.

159    But on any view, many of the stoppages recorded in the Elettra data were unconnected with mill misalignment.

160    Further, in relation to cross-examination on the Elettra data, Mr Benson appeared to accept that the uptime for the mill unconnected with misalignment was less than 65% and that it may have been more like 50%. But in re-examination, Mr Benson seemed to indicate that his 50% estimate was only limited to the entries in the Elettra data. He suggested that 65% uptime was more realistic in normal operating conditions with properly trained staff. I must say that to my mind there was confusion in his evidence on this aspect. On balance, the realistic uptime was more likely to have been closer to 50% than 65% assuming no misalignment problem.

161    Now let it be assumed that the uptime was only 50%. According to the applicants, the relevant recalculation simply involves a recalculation of paragraph 13 of Mr Benson’s third affidavit such that:

(a)    if downtime was 50% not 65%, then there were only 169 productive hours per month, not 219.7 hours;

(b)    to produce 4301.8 tonnes per month in 169 hours/month you would have had to run the mill at an average speed of 25.45 tonnes per hour;

(c)    but based on the top products and tonnes per hour in his table, an average speed of 25.45 tonnes per hour was still at the low end of the average tonnes per hour for those top products, in the absence of a bent floor (the average speeds there range from 25.88 tonnes per hour (lowest gauge) to 43.93 tonnes per hour (highest gauge)).

162    According to the applicants, what such a calculation demonstrates is that even at 50% uptime due to factors other than the misalignment issues, the mill was capable of producing well in excess of Mr Benson’s estimates.

163    Now in my view, Mr Benson’s estimates should be discounted, and I would suggest by a factor of 25%.

164    First, it is to be observed, as QBE correctly contends, that the relevant counterfactual is the actual world, but without mill misalignment. In the words of the policy, the relevant enquiry is as to the results which, but for the damage, would have been obtained during the indemnity period absent the damage. This encompasses all of the real world constraints on ITM’s business, except for mill misalignment.

165    Second, it is necessary to make allowance for other production problems which affected the mill during the indemnity period, as distinct from the mill misalignment problems. The evidence revealed that there were other production problems which affected the mill production during the indemnity period, which were unconnected with mill misalignment. These problems included, as QBE correctly enumerated at least in terms of qualitative identification:

(a)    an inexperienced workforce;

(b)    unreliable coil supply;

(c)    problems with the mill saw;

(d)    unplanned stoppages related to the clamps;

(e)    stoppages required when changing from galvanised to non-galvanised products;

(f)    problems with the quality of the paint (dull paint);

(g)    problems with the filtration system;

(h)    the lack of a second crane;

(i)    the commissioning process being too short and not properly conducted;

(j)    training being inadequate (stopping too early);

(k)    the manufacturer’s manuals being unhelpful; and

(l)    bent product as a result of gauge changes and product changes.

166    Indeed, it is well apparent that part of the problem had nothing to do with misalignment, but more to do with the fact that the commissioning process ended too soon, inadequate training of personnel, and in some respects employees who did not have the requisite experience.

167    For example, the following exchange took place between myself and Mr Benson:

HIS HONOUR: But when you say training stopped too early, was that belief of yours based upon observation of what you were seeing by these contractors, and, if so, what were you observing that caused you to reach that particular view?---They didn’t know their job fully. We were stopping because of mistakes, fundamental mistakes they were making, and for – at other steel mills, you don’t stop for those reasons. It was just inexperience and people not knowing what they were doing.

And we’re talking about your observation over how many weeks or how many months?---This went over three months.

MR SOLOMON: And is the three months you just referred to in answer to his Honour’s question approximately September, October and November 2010?---Yes.

168    In fact, the reduction from 2 production crews to one crew just before Christmas 2010 may be in part attributable to such difficulties. But I accept that it may also have been due to market demand and other issues including cash flow. I note that between July and October 2011, a second shift was again re-introduced, no doubt to meet market demand.

169    Generally, one can observe significant variability in the actual production volumes. The following observations may be noted. First, production in the earlier months is reflective of the ramping up phase for a new mill. Second, the July to October 2011 figures are reflective of the re-introduction of a double-shift operation. Third, the dropping back after that period is likely to reflect in part a fall of market demand. Fourth, some of the variability may have been due to a lack of coil. Fifth, and more generally, the significant variability throughout 2011, when misalignment was said to be causative, suggests that many other factors other than misalignment had a causative role. If misalignment was the only significant causative element, one would not have expected such variability. One would have expected the actual volumes per month to be at a relatively consistent, albeit low, level.

170    Now I agree with the applicants that Mr Benson’s estimates are not based on a ‘perfect world’. In his estimates, Mr Benson:

(a)    had regard to uptime of up to 90% at the BHP Somerton Mill;

(b)    determined that 65% uptime was appropriate in ITM’s ‘but for’ world and had regard to “the facts of life” including tool changes, gauge changes, adjustments to Turk’s heads, product changeovers, teething problems due to commissioning and inexperienced crew members;

(c)    had regard to the actual crews employed, the training required for those crews and the input of Mr Benson and Mr Dodd as experienced supervisors; and

(d)    took into account both known and unknown teething problems associated with the commissioning of a new mill.

171    But in my view some discount is appropriate. Let me deal with some other points.

172    Now QBE says that Mr Benson’s ‘but for’ figures should not be accepted because they were produced by a ‘top-down’ process without the benefit of proper calculation or workings. Mr Benson made no working notes nor prepared any working papers to calculate the ‘but for’ production tonnes. He did not for example reverse engineer monthly tonnages from an hourly rate of finished coil. QBE says that the absence of workings of itself causes concern for the reliability and accuracy of the figures. Now this is a legitimate criticism but in my view does not justify a wholesale rejection of his estimates.

173    Further, QBE says that Mr Benson’s ‘but for’ production figures should not be accepted because they were not calibrated against ITM’s actual production figures, nor even against ITM’s forecasted production figures. There is, for any particular month in the indemnity period, a significant difference or gap between Mr Benson’s ‘but for’ figures and the actual production figures. Mr Benson acknowledged that this could not be explained by mill misalignment alone. Further, QBE has noted that Mr Benson’s figures (with scrap added back in) total 37,450 tonnes, in contrast with the 30,000 tonnes (plus scrap) forecast in ITM’s 2009 Business Plan. According to QBE, by not being calibrated against actual or forecast figures, Mr Benson’s figures were not stress-tested against the real world nor stress-tested against even ITM’s forecasts. This is also a legitimate criticism in relation to the comparison with the actual production figures, but it should not be taken too far. Moreover, my discount of 25% should accommodate to some extent these concerns.

174    Finally, the applicants have also submitted that I should draw a Jones v Dunkel inference against QBE because it filed and served witness statements for former ITM executives, namely, Mr Peter Wilson, Mr Whitbourne and Mr McKew, but did not call these witnesses. It is also said that such an inference should be drawn against QBE for its failure to call Mr Wright, who in 2010 and 2011 was a supplier of coil to ITM. For the reasons discussed with counsel at the trial I do not propose to draw such an inference. The applicants have the onus, and such an inference cannot be used to plug any evidentiary gap in their case. Further, QBE is not in the relevant sense putting an inferential case, such that if it were not to call a witness in ‘its camp’ that could be expected to support the inference, then an adverse inference can be drawn. It is for the applicants to establish the counterfactual production profiles. Moreover, I doubt whether the relevant witnesses could necessarily be said to be in QBE’s camp as such.

175    In summary, I consider in all the circumstances that it is reasonable to take Mr Benson’s forecasts but to discount them by 25% for the imponderables, possibilities, contingencies and uncertainties. On any view, there were substantial difficulties with the mill’s operations not causally related to misalignment and where the up time in any event would have been lower than 65%.

(d)    Alternative approach to counterfactual production

176    Let me now dispose of an alternative methodology that QBE has contended for.

177    QBE has contended that a better approach to determining the production of the mill absent mill misalignment is to take actual production and multiply that by a percentage or factor of production. QBE submits that the appropriate methodology for determining ITM’s loss of gross profits is to add an allowance to ITM’s actual production over the indemnity period. It says that this approach is preferable to a ‘top down’ approach for various reasons.

178    First, it says that this approach fits with the evidence, which was that ITM had to run the mill at a slower speed so as to avoid producing bent product. It also says that this better reflects the realities of the mill, which was that misalignment caused some slow-down of the mill, although not significant. It says that this is how to explain the notable absence of any dialogue about mill misalignment between ITM and its major suppliers, between ITM and its financiers, and between ITM and its advisors. Let me elaborate on this aspect.

179    What is apparent is that ITM does not appear to have informed Bankwest of any substantial problems flowing from the mill misalignment. For example, a Bankwest internal memorandum dated 20 May 2011 stated: “No material trading interruption e.g. quality issues, experienced to date…”

180    Further, according to a Bankwest memorandum dated 31 May 2011, ITM forecasts provided to Bankwest, apparently via M&A Partners, implicitly enshrined an expectation of a doubling of production for the 2012 financial year as compared with the 2011 financial year, with little reference to mill misalignment problems, although I accept that the ramifications of the misalignment may not have been fully known at the time.

181    Further, in dealing with its suppliers and customers ITM made little reference to attributing any of its difficulties to mill misalignment issues. But I accept that possible explanations for such an absence of reference may be that at particular times ITM may not have been fully aware of the ramifications of the problem. Alternatively, ITM may have wanted to remain silent to protect its reputation or to maintain the confidence of its suppliers and customers, although on the other side one might have expected disclosure to buy more time to pay.

182    Second, QBE says that its alternative approach is less likely to suffer from the problem of aggregating (or, on the flip side, being unable to disentangle) the multitude of disparate causes of low production volumes from the mill during the indemnity period.

183    Third, QBE says that its methodology conforms with the policy, insofar as it aims to isolate the results which, but for the damage, would have been obtained during the indemnity period absent the damage.

184    But I do not prefer this alternative approach. Let me explain.

185    In my view it is not realistic to ‘disentangle’ the drop in production caused by misalignment issues as between direct and indirect consequences. Apparently the problem was pervasive and affected the mill’s operations. In re-examination Mr Benson stated that the mill was chaotic in late 2010 because:

… no one could explain why we couldn’t get straight product out the door, including the Italians and Argentinians, who came over to have a look at the mill

…

A lot of times we couldn’t run the mill. We were always assuming that it was we were doing something wrong. It wasn’t till we found out that the mill had actually moved that far that we realised we had been doing our job properly. Just the movement of the slab that was causing the problems.

186    Further, how should QBE’s additional multiplication factor be determined? On this point QBE offered little by way of quantitative stipulation. Instead it referred to a number of qualitative observations.

187    Further, there is something to be said for Mr Benson’s initial view that actual production should not be the starting point as the actual production may merely have been a reflection of lower speeds and other issues caused by mill misalignment. Now in a purple patch of Mr Philip Solomon QC’s close cross-examination, he enticed the witness into conceding that QBE’s approach was reasonable if not preferable. But notwithstanding this apparent success, the appropriate methodology is a matter for me.

188    Now QBE points out that Mr Benson’s evidence was that in 2011, mill misalignment produced bent product unless the mill was run at a slower speed, but the applicants did not produce any documents at trial setting out the proportion or volume of bent product produced by the mill in 2010 or 2011 or in the early stages of production, before ITM began to run the mill slower than it otherwise would have.

189    Further, QBE says that the evidence of percentages of scrap are not reflective of mill misalignment because the mill was expected to produce scrap in any event. QBE points out that the applicants adduced no probative evidence as to how much slower the mill was run, by reason of mill misalignment alone.

190    Further, QBE contends that it would be rational for me to infer from a general lack of contemporaneous dialogue about mill misalignment (or slower mill speeds, or excessive bent steel) that the misalignment had only a moderate effect on the speed and/or efficiency of the mill.

191    Accordingly, QBE contends that the additional multiplication factor ought suitably to comprise only a moderate uplift from actual production. But in my view, if I was to apply this method, I would use a 100% increase for reasons similar to those discussed earlier when dealing with Mr Benson’s estimates. Moreover, if I had used such a 100% uplift, I agree with the applicants that it would not have been necessary to double the production staff. I do not need to discuss this further. I prefer to use Mr Benson’s estimates discounted by 25%. Let me finish this part of the discussion by making two other points.

192    First, it is to be noted that QBE’s payment of $3.8 million (with no allowance for ICW), implicitly accepts a production tonnage of 23,200 tonnes over the indemnity period. This is over double the actual production tonnage of 10,809 tonnes. Accordingly, even on QBE’s own ‘bottom up’ analysis, it would seem that a substantial uplift may be justified.

193    Second, the applicants contend that the declared value for gross profit in the policy of $25 million and the implicit production profile in such a figure is supportive of their case that they reasonably estimated production in the first year of operation of a type that is reflected in ITM’s business plan that I have referred to. That may be so, but I do not think that this contention takes the applicants far. ITM’s optimism at the earlier time and its desire not to under-insure is one thing. But it is not strongly probative of the relevant counterfactual production profile that needs to be determined.

(e)    Price

194    The previous discussion concerns the question of calculating the counterfactual production volumes over the indemnity period. But in order to determine the ‘but for’ turnover, some measure of price must be used.

195    There have been two competing suggestions for price. One figure suggested was $1,300 per tonne, which figure has been accepted by QBE. I might say that this was the price used by Mr Meredith in his initial analysis. It was calculated using the weighted average actual sale price of products by ITM. It was based on invoiced sales taking what was considered to be a representative sample. The prices for the invoiced sales reflected any discounts given. Another figure now contended for by the applicants is $1,396 per tonne, which is based on the weighted average offer price based on price lists. The difference relates to the question of discounts. The latter and higher figure does not include any discounts.

196    Mr Luckeraft gave evidence of the impact of the misalignment issues, bent steel, and the flow-on issues that followed on invoiced sales. Mr Luckeraft described the situation he and Mr Doubleday were faced with and the discounts they had to offer to customers in order to achieve invoiced sales and get cash in the door. Based upon such evidence, Mr Meredith analysed the price lists at which ITM was offering steel for sale during the indemnity period, although there were some problematic aspects of the lists used. As explained by Mr Luckeraft, these lists were prepared after considering the prices of competitors like Orrcon and Australian Tube Mills. Mr Meredith concluded that the weight average offer price based on the price lists was $1,396 per tonne. The difference between the $1,396 sales price and the $1,300 represents an effective discount of approximately 7% on every invoiced sale by ITM.

197    Now in cross-examination, Mr Luckeraft conceded that some level of discounting (other than causally connected to misalignment) for volume did occur, but not very often. In his previous employment at Orrcon, when volume discounts were given the discount was generally around 5%. Mr Luckeraft also conceded that in ITM’s early days there was some level of discounting to chase customers.

198    Now the applicants say that discounting which was otherwise normal in the ‘but for’ world does not and cannot explain the overall difference of approximately 7% between the price ITM offered its product at and the price ITM actually sold product for during the indemnity period.

199    Further, the applicants say that were one to assume that in the ‘but for’ world ITM might have provided a 5% discount approximately one-quarter of the time, then that would equate to an average discount across the board equal to 1.25% which on an average sales list price of $1,396 provides for an average discount of $17.45, and a discount average sales price of $1,378.55. The applicants contend that if I reject the $1,396 figure I should accept a sales price of $1,378.55 as a reasonable estimate of ITM’s sales price in the ‘but for’ scenario.

200    I reject the applicants’ higher figure of $1,396 per tonne over the entirety of the indemnity period. It does not reflect the fact that discounts would have been given irrespective of the misalignment question.

201    It is plain that at least some discounting occurred both at ITM and at ITM’s competitors by reason of volume or market conditions, and in respect of ITM alone, for early payment.

202    Further, Mr Luckeraft’s evidence was clear that there would have been discounting, even if minimal, whether or not bent steel was an issue. Mr Luckeraft said that even if bent steel had not been an issue, there would usually have been some discounting, for example to deal with slow moving stock.

203    But I accept that discounting occurred by reason of mill misalignment. Further, the evidence adduced at trial supports a conclusion that the earliest that discounting occurred, which was referable to the misalignment, was in or about April 2011. By contrast, the quantification relied upon by the applicants from Mr Meredith’s evidence uses the $1,396 figure from October 2010 onwards.

204    Finally, QBE says that the definition of “Turnover” in the policy excludes discounts. It says that insofar as the task of identifying the “Reduction in Turnover” involves applying the rate of gross profit to the amount by which the turnover during the indemnity period shall, in consequence of the damage, fall short of the “Standard Turnover”, discounts are to be excluded. I am not sure that this is correct when the discounts are causally related to the insured event as distinct from being given in the ordinary course of business. The expression “the money (less discounts, if any allowed) paid or payable to the Insured for goods…” is in consequence concerned with discounts in the ordinary course.

205    In my view the figure of $1,300 per tonne should be used up to the start of April 2011, and thereafter the figure of $1,378.55 per tonne should be used. The discounting before April 2011 is likely to have been due to the start-up, seeking to gain market share and the like. In and after April 2011, the applicants’ more sophisticated figure of $1,378.55 should be used.

(f)    Demand and scrap

206    I am able to proceed on the assumption that there was sufficient demand in the marketplace at the price per tonne that I have indicated to purchase from ITM the counterfactual production that I have determined. By the end of the trial, QBE had so conceded.

207    Further, to the tonnage estimates of prime tonnage should be added an amount of 7% for scrap. Although it was suggested that the relevant range was 5% to 7%, I consider 7% to be reasonable on the evidence.

(g)    Capitalisation and liquidity

208    Now QBE contended that ITM lacked sufficient capital and liquidity to produce the counterfactual production volumes. I disagree.

209    First, I agree with the applicants’ contention that ITM was not under-capitalised and that it had sufficient capital including finance facilities to meet the counterfactual production estimates if the misalignment had not occurred.

210    More particularly, as the mill was new there was little need for substantial additional capital expenditure during the indemnity period, absent the misalignment. Mr Samuel’s assertions to the contrary were not convincing. Let me elaborate on the capitalisation question.

211    QBE maintains a case that financial constraints and problems meant that ITM could not have achieved its counterfactual production estimates.

212    Now the mill and associated paint line cost $7,818,128. Instalments of the purchase price were paid before it was installed and the balance was financed with $4.75 million of equipment finance from BOQ.

213    By August/September 2010, ITM had the following facilities and loans in place:

(a)    a $4.75 million five year equipment finance facility with BoQ;

(b)    a $4 million factoring facility with Oxford Funding for working capital;

(c)    loans from “seed” investors totalling $3.8 million to fund start-up costs and cash flow; and

(d)    approximately $1.4 million from Mr Brandi to fund the purchase of the mill.

214    In cross-examination, Mr Brandi rejected a characterisation of the business as having been undercapitalised from its inception. The adequacy of ITM’s initial capitalisation is further supported by ITM’s cash flow forecast prepared in 2009 and the liquidity modelling of Mr Meredith in the ‘but for’ world. Both the cash flow forecast and the liquidity modelling of Mr Meredith demonstrate a business with the capability of generating sufficient net profit each month to fund the following month’s coil requirements. ITM’s business model as provided for in the cash flow forecast of funding coil purchases out of trading receipts, and without the need for further capital to fund purchases of coil, is supported by the analysis of Mr Meredith.

215    Further, in late 2010 Mr Brandi explored financing options, both to re-finance ITM’s existing facilities, and also to finance the then purchase of the land and buildings on which the business was situated by RAW.

216    It would appear that the relevant refinancing options consolidated ITM’s banking facilities with one bank, and enabled RAW to finance its then purchase of the land.

217    Now the slab misalignment had an impact on production, sales and cash flow. This in turn impacted on ITM’s ability to purchase coil, which in turn fed into the inability to achieve sales and production. Mr Brandi gave evidence concerning ITM’s decision to seek more extensive finance for ITM in about February 2011, and his efforts in procuring such finance. The need for such finance was connected to the production problems (and consequent cash flow) difficulties that the business had been experiencing. This evidence is supported by Mr Meredith’s opinion.

218    Now on 24 June 2011 Bankwest issued executable letters of offer to ITM and RAW to provide:

(a)    to ITM, a multi-option facility (2 year facility) with a $4 million limit, that included a $1 million overdraft facility to refinance the Oxford Funding factoring facility;

(b)    to ITM, as a commercial advance facility (2 year facility) with a limit of $4.5 million to refinance the equipment finance facility with BOQ; and

(c)    a commercial advance facility with a limit of $4.6 million for RAW to refinance the above facility with CBA.

219    The only aspect of the Bankwest facility that introduced new funds into ITM was the multi-option facility (other than the $1 million overdraft facility).

220    In my view, in a counterfactual world ITM would either have not required the additional funding or alternatively would have received more favourable offers of finance and been a viable ongoing business.

221    Generally, I reject the under-capitalisation thesis of QBE.

222    Second, on the question of liquidity, I also accept the testimony of Mr Meredith to the effect that “if the mill had operated in accordance with the instructed and calculated assumptions, ITM would have maintained its liquidity over the [indemnity] period”. Now in terms of his liquidity analysis, Mr Meredith was cross-examined about the absence of interest payments on the loans from investors. And he conceded that his liquidity model did not take into account those payments. The loans were treated in Mr Meredith’s liquidity model balance sheets as trust funds, and payments of interest were not taken up in his liquidity model profit and loss statements and cash flow statements. But on Mr Meredith’s analysis of the profitability and cash flow of the business in the ‘but for’ world, the business would have generated more than enough cash to make the interest payments.

223    Let me deal with one final matter which was raised during the trial but went nowhere so far as QBE was concerned. A question was raised as to a version of ITM’s balance sheet as at 31 October 2010. This mainly related to the reduction of $1 million of accounts payable in respect of the cancellation of a $1 million order for coil from CITIC. But on proper analysis, the net assets properly remained at $2,925,199.

(h)    Conclusion

224    Let me state shortly my principal conclusions.

225    First, in any calculations, the counterfactual production profile that should be used is 75% of Mr Benson’s estimates for the indemnity period. But if I am wrong, I would otherwise have taken the actual production profile and increased it by 100%. Second, a figure of 7% should be used for scrap. Third, the price for sales should be $1,300 per tonne before April 2011 and $1,378.55 per tonne in and after April 2011. Fourth, there would have been sufficient market demand to purchase such counterfactual production tonnages at the said price(s). Fifth, no capitalisation or liquidity issues would have prevented the production and supply of such counterfactual production tonnages absent the mill misalignment issue.

INCREASED COST OF WORKING (ICW)

226    QBE has paid ITM a total of $4.8 million under the policy. Details of those payments are as follows:

227    The parties agree that the third payment on 14 November 2013 in respect of material damage was in full and final settlement of the material damage component of ITM’s claim. Accordingly, a total of $3.8 million has been paid under Section 2 of the policy.

228    In relation to Section 2, Item No 1 of the Basis of Settlement requires identification of ITM’s ICW. A question arises concerning the applicants’ claim for $1 million for ICW.

229    The applicants say that no deduction should be made in respect of the $1 million progress payment that they characterise as being in respect of ICW. So rather than subtracting $3.8 million from the amount sought by the applicants, they submit that only $2.8 million should be subtracted. In summary, I reject the applicants’ contention. Let me explain.

230    The applicants contend that under Basis of Settlement – Item No 1(b) the insured can claim loss of gross profit by reason of ICW in addition to the loss of gross profit by reason of reduced turnover. The ICW clause provides as follows:

the additional expenditure necessarily and reasonably incurred for the sole purpose of avoiding or diminishing the reduction in Turnover which, but for that expenditure would have taken place during the Indemnity Period in consequence of the Damage, but not exceeding the sum produced by applying the Rate of Gross Profit to the amount of the reduction thereby avoided.

231    The applicants contend that the 5 September 2013 payment of $1 million by QBE was in respect of ICW. Accordingly the applicants say that they do not now need to lead evidence in respect of the ICW claim as it has been paid. In support of this contention the applicants rely, inter-alia, on the following documents:

(a)    a report (redacted) dated 30 August 2013 from Forensic Advisory Services (FAS), which sets out in schedule 1 a calculation of increased costs as a result of the mill running slower (FAS Report);

(b)    a Cunningham Lindsay (loss adjusters) report dated 30 August 2013 referring to the FAS Report;

(c)    the Partial Form of Release dated 5 September 2013; and

(d)    an email from Mr David Kneipp of QBE dated 29 October 2013, which stated, inter-alia, that “[to] date we have paid the insured $2m, based on the section 1 loss and probable ICOW losses” (Emphasis added).

232    The applicants say that the analysis at schedule 1 of the FAS Report is a carefully considered analysis of these additional costs, totalling $1.06 million. They say that it is noteworthy that FAS performed this analysis on behalf of and for the benefit of QBE. The applicants say that the relevant calculations are not disputed and nor were they disputed by ITM before them.

233    The applicants say that the FAS Report was provided to QBE’s loss adjuster, Cunningham Lindsay, who recommended that a payment of $1 million be made to ITM, based on FAS’ assessment of increased costs of working. In its recommendation, Cunningham Lindsay stated:

We attach a report from Forensic Advisory Services (FAS) dated 28 August 2013 in regard to the current status of the Consequential Loss aspects of this claim.

In order to propose a further payment recommendation, FAS has conducted a review of increased costs of working incurred by the insured as a result of the damage sustained to the mill. Depending on the outcome of the claim for loss of sales, some of these costs will then be considered savings in a future loss of profit calculation.

The proposed further payment is for $1,000,000.

234    The applicants point out that QBE made a $1 million part payment 5 days later. And they say that Mr Kneipp of QBE subsequently acknowledged that such payment was made for “probable” ICW losses.

235    In summary, the applicants say that QBE adjusted and paid an amount of $1 million with respect to the increased cost of working of ITM, in accordance with Item No 1(b) of the policy. They say that the applicants and ITM before them were satisfied with QBE’s quantification and payment of the ICW losses, and accordingly accepted the payment and made no claim with respect to ICW in this proceeding.

236    But in my view the applicants have not made out their case under this heading.

237    The applicants have put their case on this aspect in two ways. The first approach seeks to avoid directly proving that ITM incurred additional expenditure necessarily and reasonably incurred for the sole purpose of avoiding or diminishing the reduction in turnover etc. Rather, the applicants seek to refer to part payments by QBE under the policy and characterise the 5 September 2013 payment narrowly as being “in respect of ICW”. Accordingly, the applicants consider that it is unnecessary to prove this part of their claim. So, the applicants have not adduced evidence as to the incurring of additional expenditure for the sole purpose of avoiding or diminishing a reduction in turnover. The second approach of the applicants is to tender a report (redacted) dated 30 August 2013 by FAS, which they say proves the ICW claim.

238    Now if the applicants are successful with either approach then they will obtain a judgment in their favour if they prove that ITM suffered more than $2.8 million (rather than $3.8 million) of other business interruption losses under the policy.

239    Let me address the first approach, which I will say now that I reject.

240    In respect of this approach, as QBE rightly points out, there is an analogy to be drawn with the way that material damage has been treated by the parties. At an earlier point prior to the litigation, ITM made a claim for material damage to the mill, which was paid by QBE ($1 million). Now there is no dispute as to the material damage and the associated payment, and no question arises in respect of the material damage claim. By using the first approach, the applicants are in effect seeking to put ICW into the same basket as material damage. But there is an important difference.

241    In my view, on its face the relevant progress payment by QBE of $1 million on 5 September 2013 is not correctly characterised as being narrowly in respect of ICW or even in settlement of any claim for ICW. The $1 million “Progress Payment” is said to be “in partial settlement of [the] claims on Section 1 and Section 2” of the policy. The correct characterisation is not a narrow one.

242    I have already set out condition 15 of the policy, which relevantly provides:

Progress Payments

Provided that liability has been admitted progress payments on account of any claim may be made to the Insured at such intervals and for such amounts as may be agreed upon production of a report by the Loss Adjuster (if appointed) provided such payment(s) shall be deducted from the amount finally determined upon adjustment of the claim.

243    On the proper construction of the relevant partial form of release, the applicants’ first approach fails. But in any event, such an approach of the applicants also fails for other reasons.

244    First, ICW is not a separate Item within the Basis of Settlement. Rather, ICW is an element, along with “Reduction in Turnover” which together comprise “actual loss of Gross Profit”. That these two elements are combined in order to constitute an amount which may be the subject of a payment (or progress payment) is reflected in the fact that from the combination of the two must be subtracted “any sum saved during the indemnity period in respect of such of the charges and expenses of the Business payable out of Gross Profit as may cease or be reduced in consequence of the Damage” as the policy makes clear. I agree with QBE that as a matter of construction of the policy, Item No 1 is to be treated as a composite whole. A progress payment made in respect of Item No 1 falls to be considered in that light.

245    Second, the two limbs of Item No 1 in the Basis of Settlement (being limb (a) (Reduction in Turnover) and limb (b) (Increase in Cost of Working)) are necessarily interconnected. This is because where additional expenses are incurred in order to avoid a reduction in turnover, the insured may get a reimbursement for those additional expenses precisely because those expenses were for the sole purpose of ameliorating the insured’s reduction in turnover. Accordingly, there is a direct relationship between the two limbs of Item No 1. So, a progress payment under Section 2 is not to be construed as being in respect of ICW alone.

246    In summary then, the applicants’ first approach fails. Let me now deal with the applicants’ second approach based upon the FAS Report, which approach also fails.

247    As QBE correctly points out, the matters set out in the FAS Report do not establish that:

(a)    ITM incurred additional expenditure; indeed, the items such as electricity and factory expenses etc. appear to be existing expenditure which is alleged to have been wasted;

(b)    additional expenditure was necessarily and reasonably incurred, the FAS Report being silent on this point; and

(c)    additional expenditure was incurred for the sole purpose of avoiding or diminishing the reduction in turnover; again, the FAS Report is silent on this point.

248    FAS undertook a different task. As the FAS Report makes clear (at page 8), FAS had considered “additional costs as a result of the damage sustained by the mill”. But that task involved an analysis of existing, wasted costs, not additional costs. This is not what the policy responds to. Let me set out an extract of the FAS Report:

FAS CALCULATION

Increased Costs of Working

It is evident that the Insured has incurred additional costs as a result of the damage sustained by the mill. In an effort to progress this matter whilst the Insured attempts to obtain further information, we proposed that an analysis of these additional costs would be an avenue for a further progress payment.

As shown on Schedule 1, the actual tonnes produced during the claimed indemnity period was 13,647. This includes waste tonnes produced. The expected tonnes if running at the Protube rate of production is calculated as 33,415 tonnes. The basis of the increased costs calculation is that the Insured would have been able to produce the same number of tonnes in 82 days rather than the 200 days that their production records indicate. Consequently, for costs that vary with production they should have only incurred 40.8% of the costs that they actually did.

We have reviewed the actual cost incurred by the business during the claimed period of indemnity. We have identified certain costs that would have varied with the rate of production, being

•    Electricity

•    Factory Expenses

•    Plant & Equipment – factor and mill

•    Tools and Machinery

The additional cost due to the reduced production rate calculated for these items is $310,505.

We also consider that staff production costs would have been lower as staff would be required for less days. Other administration and sales costs may well also have been impacted, but have not been considered for the purpose of our current calculation. On the basis of the budgeted costs for the production staff, we have estimated that additional cost of $224,802 have been incurred due to the reduced production rate.

The final impact of the damage sustained by the mill is in the increase in the level of waste produced. The Insured has stated that the expected level of waste would be minimal, especially considering this was a new machine. We have conservatively estimated the level of waste at 0.5%.

As per our analysis on Schedule 6, the actual level of waste was 4%. We have applied the incremental level of waste to the actual cost of goods sold expense for the 12 month indemnity period to calculate the additional waste cost. The additional costs calculated due to additional waste is $525,057.

As shown on Schedule 1, the total additional costs calculated is $1,060,034. Whilst we believe that further detailed investigation of costs is required, we believe that this is a satisfactory indication of the level of increased costs incurred due to the damage sustained by the mill.

249    Further, as correctly pointed out by QBE, of the $1,060,364 “additional costs” set out by FAS in its 30 August 2013 report, over half of that related to “waste”. The FAS Report notes that the insured informed them that expected waste was 0.5% compared with actual waste of 4%. Putting to one side the issue that “waste” is not additional expenditure incurred for the purpose of diminishing the reduction in turnover, the instructions provided to FAS are inconsistent with the evidence of Mr Benson, which was to the effect that expected waste was in the vicinity of 5% to 7%.

250    I would reject the applicants’ second approach as well. In summary, the applicants have not proved the amount of $1 million in respect of ICW.

ADDITIONAL increased cost of working (AICW)

251    As I have already pointed out, the AICW clause in the policy provides as follows:

… increase in cost of working (not otherwise recoverable hereunder) necessarily and reasonably incurred during the Indemnity Period in consequence of the damage for the purpose of avoiding or diminishing reduction in Turnover and/or resuming and /or maintaining normal business operations and/or services

(Emphasis added.)

252    As the applicants point out, AICW is designed to indemnify an insured for costs necessarily incurred, but not falling under any other part of the policy. It has been described by Riley at [3.18] as follows:

… there may be occasions where additional expenditure has been incurred as a result of an incident but may not be recoverable because it either does not meet the criteria to qualify as an increase in cost of working, or because the expenditure has not, or cannot be shown to have been economic. There may be occasions where there was good reason to incur such expenditure.

253    As the applicants also point out, AICW is distinguished from ICW, the latter being subject to the sole purpose test, namely “expenditure necessarily and reasonably incurred for the sole purpose of avoiding or diminishing the reduction in Turnover…”. ICW and AICW are mutually exclusive, given that AICW only relates to an amount “not otherwise recoverable hereunder”.

254    The applicants claim for AICW relates inter-alia to the following costs (excl GST):

255    The AICW claims made by the applicants can be grouped as follows:

(a)    costs incurred in connection with the Bankwest re-finance including break costs incurred with BOQ; and

(b)    costs incurred with OTO Mills to inspect the mill.

256    The applicants contend that the Bankwest re-finance costs and ITM’s poor financial position as a result of slab misalignment necessitated a new finance facility to introduce additional funds into the business.

257    Further, the applicants contend that the costs incurred with OTO Mills were the costs of having the mill technicians come out to Australia to inspect the mill and to seek to ascertain the reasons why it was not working properly and what could be done to remedy those problems.

258    Generally, it is said by the applicants that the costs the subject of the AICW were both necessary and reasonably incurred to maintain normal business operations or services. And it is said that each of the above costs are not ICW costs, in that they do not fall within the sole purpose test relevant to ICW. It is said that such costs were not “… necessarily and reasonably incurred for the sole purpose of avoiding or diminishing the reduction in Turnover…” or otherwise recoverable under the policy.

259    Now the applicants point out that QBE challenged the AICW claim through its cross-examination of Mr Brandi on two fronts. First, QBE challenged half of M&A Partners’ fee that was payable to Brandi Financial Services, of which Mr Brandi was a 60% owner at the time. Second, QBE challenged the size of the fee and that part of the fee that arose as a result of RAW’s property finance forming part of the re-financing package on which the fee was based.

260    But in relation to Brandi Financial Services’ share of the fee, the applicants contend that QBE seeks to “lift the corporate veil” in a manner that is not consistent with the policy. The relevant test is whether the insured incurred a fee that was “reasonable and necessary”. It is said that the fee was approximately 3% of a total re-finance package of $13.5 million and is a reasonable fee for a broker to charge. The applicants contend that the fact that the broker may ultimately be part-owned by the owner of the insured is irrelevant.

261    Further, the applicants say that RAW’s facility was required in order for ITM to obtain re-finance. They contend that RAW did not need to re-finance, but did so to accommodate ITM’s funding requirements. As a result, ITM became liable to pay the broking fee for RAW’s land re-finance. The applicants say that as RAW’s finance was a necessary condition of ITM’s finance, that portion of the fee connected with RAW’s re-finance was “reasonable and necessary” for ITM to incur, and should be treated as part of AICW.

262    It is appropriate to address the two types of costs in turn.

(a)    Finance costs

263    The claimed finance costs comprise:

(a)    the M&A Partners/Brandi Financial Services (BFS) broking fee ($423,000);

(b)    various Bankwest establishment/line/valuation fees (totalling $188,588.59); and

(c)    an amount for early repayment of interest under the BOQ equipment finance facility ($357,490.91).

M&A Partners/BFS broking fee

264    The quantum of this fee was a function of the total finance re-financed with Bankwest. As per the engagement letter, the M&A/BFS broking fee was to be charged at 3% of the total debt structure completed. Now as QBE correctly points out, ultimately the ‘total debt structure’ included not only a cash-flow facility for ITM but additionally:

(a)    a re-finance from CBA to Bankwest of the purchase of the freehold property owned by RAW; and

(b)    a re-finance of the BOQ equipment finance facility for the purchase of the mill.

265     In approximate terms:

(a)    the Bankwest cash flow facility totalled $4 million;

(b)    the re-finance of the freehold property purchase was to the value of $4.6 million; and

(c)    the re-finance of the BOQ mill facility was to the value of $4.5 million.

Re-finance of the freehold purchase

266    I agree with QBE that the part of the M&A/BFS fee charged on the value of the freehold purchase re-finance is not properly owing as AICW.

267    First, the re-finance of the CBA facility did not occur ‘in consequence of the Damage’. Nothing about the mill misalignment had any effect on the pre-existing CBA loan and mortgage. The evidence given by Mr Brandi for the reason for re-finance was that “Commonwealth Bank owned Bankwest. They just transferred the security across to make this simpler, to tighten up security structure for the Bankwest deal”. In those circumstances, this portion of the M&A/BFS fee was:

(a)    not a fee ‘necessarily incurred’;

(b)    not a fee ‘necessarily incurred’ … ‘in consequence of the Damage’; and

(c)    not a fee incurred for the ‘purpose of avoiding or diminishing the reduction in Turnover and/or resuming and/or maintaining normal business operations and/or services’.

268    Second, whilst ITM ultimately agreed to foot the bill for the freehold purchase re-finance, ITM was not the purchaser of the freehold. It had no liability to the CBA nor did it end up with any liability to Bankwest in respect of the freehold property. Whilst ITM and RAW were related parties, ITM was essentially a third party to this transaction. Accordingly, this was not a fee ‘reasonably incurred’ within the terms of the AICW clause. As Mr Brandi noted “It was just another added security to Bankwest in this whole refinance. Separate entity. Separate property”.

269    Further, as QBE correctly points out, there was no direct evidence that Bankwest made it a requirement of re-financing ITM’s debtor funding facility that other facilities and parties get “dragged into the tent” to use QBE’s description. Mr Brandi’s evidence rose no higher than an assertion that Bankwest would obtain ‘comfort’ from having the other facilities included or that it would help to ‘get the deal over the line’. Now these were bare assertions by Mr Brandi. It was within the power of the applicants to adduce direct evidence of these matters. They did not.

270    Accordingly, I agree with QBE that there is thus no tenable link between the re-finance of the freehold purchase and the mill misalignment. The claim to this aspect of AICW relating to the M&A/BFS fee is rejected.

Re-finance of the BOQ chattel mortgage

271    Further, I reject the AICW claim in respect of the re-finance of the BOQ equipment finance facility, being that portion of the M&A/BFS fee attributable to the value of this re-finance and also the $357,490.91 early repayment of interest fee on that facility. There is no tenable link between this re-finance and the mill misalignment. The act of this re-finance and the incurring of associated fees was not done ‘in consequence of the Damage’. Further, this re-finance was cash-flow neutral. No funds were thus freed up to permit ITM to, for example, advertise to its customers that it was resuming normal operations or to outsource production temporarily. Indeed, in M&A Partners’ correspondence with Bankwest, they stated that “we have assumed that the new Mill Loan will be a direct replacement of the current term debt and the effect on the cash flow is neutral”. In my view the BOQ liability was a pre-existing and continuing requirement of the business. The fees associated with re-financing that facility are not claimable as AICW.

Cash flow funding/re-finance

272    The third part of the Bankwest re-finance concerned the re-financing of ITM’s debtor funding facility with Oxford Funding.

273    The Oxford facility had a limit of $4 million, as did the Bankwest trade finance facility. The difference was that the Bankwest facility could be fully drawn down in a way that the Oxford facility could not, because Oxford Funding refused to fund common debtors/creditors. ITM’s full use of the Oxford Funding facility was constrained by ITM having a number of common debtors/creditors. Now Mr Brandi sought to attribute ITM’s inability to access the full extent of the Oxford Funding facility on bent steel/mill misalignment by asserting that the Oxford facility did not work because ITM could not invoice in turn because of bent steel. But QBE says that this explanation ignores restrictions on that facility, by reason of the fact that some of ITM’s major debtors were also creditors and therefore invoices to those debtors were ineligible for funding. QBE says that the explanation further ignores that ITM entered into the Oxford Funding arrangement in the first place because of existing cash-flow difficulties it was having as early as August 2010. Further, QBE says that the explanation ignores the role that underperformance in terms of production volumes for reasons independent of mill misalignment played in ITM not being able ‘to invoice’.

274    In summary, QBE says that the fees associated with the Bankwest re-finance of the Oxford Funding facility were incurred because of a pre-existing need of the business for cash-flow finance. The fees were not incurred ‘in consequence of the Damage’.

275    But I am inclined to agree with the applicants that that part of the M&A/BFS fee attributable thereto should be allowed. By reason of the misalignment, more flexibility was needed. Further, this facility in substance “released” additional funds. Further, invoicing problems were partly attributable to misalignment. I will allow an appropriate amount of the success fee referable to this facility. Moreover, I reject QBE’s contention that I should reduce the allowance further by reason of Mr Brandi’s interest in Brandi Financial Services.

Other Bankwest fees

276    Equivalent points to those set out above apply in respect of the remaining claimed Bankwest fees, being the $150,000 establishment fee for re-finance, $23,976.09 Bankwest interest, a $4,612.50 business valuation fee and a $10,000 line fee. I will allow directly attributable amounts or pro-rata amounts thereof referable to the Bankwest refinancing of the Oxford Funding facility.

(b)    Technician’s fees

277    The applicants’ evidence in support of their claim for the technician’s fees are two OTO Mills invoices. The first invoice is dated 1 June 2011 for 2 days of travel and 3 working days between 6 May 2011 and 12 May 2011. The narration on that invoice is “Intervention by our technician at your plant site”. The second invoice is dated 24 November 2011 for travel and working days from 5 September 2011 to 19 September 2011. The narration reads “Intervention by our technician at your plant site: On Field Additional Training on tube mil OTO 1276 RTC”.

278    Now QBE says that on their face neither invoice relates to work performed in consequence of mill misalignment. It is said that given the multitude of non-misalignment production problems experienced by the mill and the hiring and firing and re-hiring of production staff, the work performed by the OTO technicians can reasonably be understood to concern non-misalignment production issues. Further, QBE says that it must have always been within the applicants’ power to produce evidence that these fees were incurred as additional cost of working in consequence of mill misalignment and that the applicants have not adduced that evidence. It is also said that Mr Benson was the production supervisor of the mill at this time but he did not give evidence about these costs being incurred and the reason they were incurred.

279    Not without some hesitation, I am inclined to accept the applicants’ contentions on this aspect that at least some part of these fees was referable to the misalignment and would satisfy AICW. I think it reasonable to allow 50% thereof given the deficiencies in proof.

CLAIMS PREPARATION

280    The claims preparation clause in the policy provides as follows:

The insurance under this item is to cover such reasonable professional fees as may be payable by the Insured, and such other reasonable expenses necessarily incurred by the Insured and not otherwise recoverable, for the preparation of claims under the Insured’s Material Damage and Consequential Loss Insurance policies and the Insurer(s) shall indemnify the Insured for such reasonable fees and expenses.

281    The applicants claim the following claims preparation costs totalling $450,620.30 consisting of:

(a)    Marsh Pty Ltd – $419,037;

(b)    R I Brown Surveyors – $10,290; and

(c)    Professor Allan Manning (of LMI) – $21,293.30.

282    QBE accepts liability to pay $259,568.19 of the amount claimed. QBE accepts in full the costs incurred with R I Brown and Professor Manning, but asserts that it should pay the Marsh costs only to the amount of $227,984.89. In substance, the dispute relates to those costs paid to Marsh for work performed by Marsh from 3 July 2014, being the date on which QBE formally rejected the claim.

283    Now as the applicants correctly point out, the policy does not expressly state any temporal limit on claims preparation costs at the point the claim is formally rejected by the insurer. And nor does the policy definition exclude claims preparation work performed to assist an insured to litigate its claims.

284    Now a review of the relevant later invoices reveals that:

(a)    the majority of the work performed was by one person, Mr Colin Gill;

(b)    the majority of the activity types recorded in the invoices were either “claims preparation” or “claims management”;

(c)    the line item narrations are consistent with much of the work performed for the purpose of preparing the claim; and

(d)    there is little discernible change in the nature or activity type of work performed before or after 3 July 2014, with the narrations both before and after 3 July 2014 identifying work such as extracting data, performing calculations and analysis, preparing spreadsheets, collating documents and information relevant to the claim and the like.

285    Now as was submitted to me by the parties, I could approach the question of the claims preparation costs in any one of the following three ways:

(a)    first, permit all Marsh costs up to 3 July 2014 but none thereafter on the basis that the work performed by Marsh post 3 July 2014 did not constitute “claims preparation” as contemplated by the policy;

(b)    second, permit all Marsh costs up to a later point such as the commencement of the proceeding and none thereafter; or

(c)    third, permit only those costs noted to be “claims preparation” costs in the individual Marsh invoices post 3 July 2014.

286    Now as I have said, the date of 3 July 2014 is significant because on that date QBE wrote a detailed letter to ITM (via Marsh) setting out its position regarding ITM’s claim and stating that QBE would not be making any further payments beyond the $3.8 million paid in respect of Section 2 of the policy to ITM. Its letter was dated some 10 months after ITM’s claim was made. QBE says that by that stage, ITM had had more than sufficient opportunity to prepare and present its claim to QBE. QBE says that the work performed by Marsh after that date should be considered to be claims advocacy rather than claims preparation, and accordingly not payable under Item No 2 of the Basis of Settlement. I would reject such a broad brush approach. In all the circumstances and given the forensic deficiencies in the case, I propose to adopt the third option. I may reasonably use the internal Marsh allocation or description of work as “claims preparation” as the distinguishing criterion. This approach is reasonable on the basis that the relevant individuals at Marsh performing the work might reasonably be said to have been best placed to assess and characterise the nature of the work performed.

287    I will leave it to the parties to work out the relevant arithmetic based upon applying such an allocation method.

INTEREST

288    Now at this stage I am unable to assess whether any amount is due and owing by QBE until the parties apply my reasons and undertake the necessary calculations. But if any amount is due, then the applicants also seek an award of interest thereon.

289    The applicants seek interest on the amount of the claim under the policy pursuant to s 57 of the Insurance Contracts Act 1984 (Cth). Section 57 provides as follows:

(1)     Where an insurer is liable to pay to a person an amount under a contract of insurance or under this Act in relation to a contract of insurance, the insurer is also liable to pay interest on the amount to that person in accordance with this section.

(2)     The period in respect of which interest is payable is the period commencing on the day as from which it was unreasonable for the insurer to have withheld payment of the amount and ending on whichever is the earlier of the following days:

(a)     the day on which the payment is made;

(b)     the day on which the payment is sent by post to the person to whom it is payable.

(3)     The rate at which interest is payable in respect of a day included in the period referred to in subsection (2) is the rate applicable in respect of that day that is prescribed by, or worked out in a manner prescribed by, the regulations.

(4)     This section applies to the exclusion of any other law that would otherwise apply.

(5)     In subsection (4):

law means:

(a)     a statutory law of the Commonwealth, a State or a Territory; or

(b)     a rule of common law or equity.

290    The relevant regulations (now reg 38 of the Insurance Contracts Regulations 2017 (Cth), but previously reg 32 of the Insurance Contracts Regulations 1985 (Cth)) prescribe, in substance, for an interest rate of 3% more than the mean of the 10 year Treasury Bond yields over the relevant period rounded down to the nearest quarter of 1%

291    Under s 57(2), the period in respect of which the insurer is required to pay interest commences on the day on which it became unreasonable for the insurer to refuse to pay the claim. An objectively determined reasonable period is to be given to the insurer to investigate the claim and determine its position. But where that position constitutes a refusal to pay the claim, in circumstances where a court has held that a liability to pay the claim does exist, such refusal cannot relevantly extend this period to the point of adjudication, regardless of whether that position was formed and held bona fide (see Fitzgerald & Anor v CBL Insurance Ltd [2014] VSC 493 at [415] and [416] per Sloss J). In short, the award of interest is to be calculated taking into account a reasonable time for completion of the insurer’s investigation of the claim.

292    In the present case, the loss first arose on 31 October 2010. Further, the claims the subject of this proceeding were notified to QBE on 10 September 2012. I am inclined to the view that if any amount is ultimately owing by QBE after my reasons have been considered and relevant calculations undertaken, that interest ought to accrue on the amount ultimately found to be owing from 3 July 2014, which is the date upon which QBE notified the insured that it would not make any further payments on the claim. Up to that point in time, in my view it was reasonable for QBE to have taken that time to complete its investigation, given the complex nature of the tasks involved.

conclusion

293    I have found for the applicants with respect to some of its claims.

294    The parties will need to consider further my reasons and undertake the necessary calculations applying the methodologies and input assumptions that I have determined to be appropriate in order to determine what sum is owing by QBE. I will give the parties an opportunity to make further submissions on this question.

Associate:

Dated:    21 September 2018