CATCHWORODS TRADE PRACTICES - misleading statements - inducina acquisition of shares - valuation of shares - whether company's right of action to he taken into account. Trade Practices Act, ss.4(2) (alli), 52 David Leslie Lucas & Ors, v. Economic Freedom Phy. Ltd. & Ors. Qld Glll of 1985 PINCUS J. BRISBANE J1 JUNE 1986 QECENE™ NV je. 12 JUN 1986 js \ PEGA ob 1h ur Ly Ww scien />y Wont IN THE FEDERAL COURT OF AUSTRALIA ) QUEENSLAND DISTRICT REGISTRY ) QLD G111I of 1985 GENERAL DIVISION ) BETWEEN: DAVID LESLIF LUCAS First Applicant MICHAEL HORACE RICE Second Applicant ELIAS DOUFAS NOMINEES PTY. LTD. Third Applicant AND: ECONOMIC FREEDOM PTY. LTD. First Respondent ALORVERA OMEENSLAND PTY. LTD. Second Respondent JOHW GARRETT CLARKE Thicd Respondent MINUTES OF ORDER dUDGE MAKING ORDER: PINCUS J. DATE OF ORDER : ll JUNE 1986 WHERE MADE: BRISBANE A Nghe ty a THE COURT ORDERS THAT: NOTE: The first and third respondents pay the applicant the sum of $40,702.25. The second and third respondents pay the applicant the sum of $9,000. The second and third respondents pay the applicant the sum of $15,000. The respondents pav the applicants' costs incidental to the proceedings, to be taxed. Settlement and entry of orders is dealt with of the Federal Court Rules. first second third of and in Order 36 IN THE FEDERAL CQURT OF AUSTRALIA QUEENSLAND DISTRICT REGISTRY GENERAL DIVISTON QLD Glll of 1985 ~—— BETWEEN: DAVID LESLIE LUCAS First Applicant MICHAEL HORACE RICE Second Applicant ELIAS DOUFAS NOMINEES PTY. LTD. Third Applicant AND: ECONOMIC FREEDOM PTY, LTD. First Respondent ALOLVERA QUEENSLAND PTY, LTD. Second Respondent COHN GARFETT CLARKF Thitd Respondent PINCUS J. 11 JUNE 1986 REASONS FOR JUDGMENT This is an application in which each of the three applicants has a separate cause of action. No point is taken, however, as to the propriety of the joinder of the three causes of action in the one proceeding (see 0.6, £.2).Each claim is based on the allegation that the respondents made misleading statements. The first claim, that of the applicant D.L. Lucas, asserts that he subscribed on the basis of certain misleadina statements for 400 shares in the first respondent, Economic Feeedom Ptv. Ltd. (which will be called simply "Economic Freedom"), for $40,000. Althoudh that allegation is denied in the defence, the third respondent, Mr. Clarke, has admitted in evidence that Mr. Lucas paid him §40,000, and that a return of allotment of shares lodged with the National Companies and Securities Commission shows 490 shares in Munro Stevenson Ptv. Ltd. as having been allotted to Mr. Lucas. That company changed its name. on 12 November 1984, ta Economic Freedom Pty. Ltd. The alleqations of misrepresentation made by Mr. Lucas have some complications about them and are set out below. The applicant Mr. Rice. who also took shares, complains of four representations: that Mr. Clarke's accountant had assessed the value of Economic Freedom as being in excess of $100,000, that Economic Freedom owned a computer having a value of $60,000, that it held the right to receive profits from the "Avacare" marketing organisation, and that it had been verv successful in selling a book referred to below. The applicant Elias Doufas Nominees Pty. Ltd.,. another shareholder, alleges that Mr. Clarke told him that the value of a Economic Freedom was $150,000, that that company held the rights to receive profits from the "Avacare" marketing organisation, Marketing rights to the same book and the franchise to market "Avacare" products in Sinaapore, and was engaged in various other direct mailing and multi-level marketing activities, and that Economic Freedom had been verv successful in selling the hook. Because the stories overlap to some extent, it is convenient to set out the principal facts in chronological order. In April 1984, a Mr. Edelsten. who was an employee of a company called "Forever Living Products Australia Ptv. Ltd."", had a conversation with Mr. Clarke about a book on multi-level marketing which Mr. Clarke was thinking of writing. Mr. Clarke asked Mr. Edelsten if the company, Forever Livina Products Australia Ptv. Ltd., would be willing to promote the hook as part of its product rande. By August 1984, Mr. Clarke had the text of the book readv and asked Mr. Edelsten's opinion of if. T infer that that opinion was favourable. On 4 September 1984, Mr. Clarke caused to be incorporated a company called Metqold Ptv. Ltd. That company becomes of importance in this history because 1t seems to have held interests which Mr. Clarke, from time to time. has asserted were owned by Economic Freedom. According to instruction given in 1985 by Mr. Clarke to his solicitors, it was decided on 12 September 1984 at a meeting at Mr. Edelsten's office: "that one of querist's companies, Economic Freedom Pty, Ltd. was to incur the costs of production and distribution of the book: another company Metgold Ptv. Ltd. (a shelf company which querist acquired about that time) was to be paid a ravaltv of $2 per copy sold and Edeisten was to receive $1 per copy of the book sold." Tt is not by any means clear that those instructions are correct, because there is no document to support them and I would he disinclined to accept anything Mr. Clarke said, without eerroboration, about the matters in contest. He was a most unsatisfactory witness. On 19 October 1984. Mr. Clarke's accountant, Mr. Kilby, wrote him a letter enclosina a draft of a "letter reaarding the formation of Metgold". I am satisfied, although Mr. Clarke firmly denied the fact, that at that time Mr. Kilby's instructions were that Economic Freedom was to be owned as to 60% by Metaold and as to 40% by one McAndrew. The proposal further was that the bonk was to be produced by Metgold and sald to Economic Freedom "as required" for $13 per copy, the market price being "approximately $15". It appears from Mr. Kilby's letter that what happened was that Mr. Clarke prepared a draft and read 1t to Mr. Kilby and then sent it to him, but Mr. Kilbv was, on reflection. unhappy with the draft and altered it. The form approved by Mr. Kilby included the following paragraph: "From the information vou have supplied to me, it would appear that the company will be extremelv profitable and although it 1s difficult to value an entity under these circumstances, it would not appear unreasonable to place a value of $100,000 on the entity. It would appear, therefore, that John McAndrew should pay $40,000 for a 40% share." Presumably the purpose of this paragraph was to form a basis for persuading McAndrew that he should pay $40,000 for an interest in Economic Freedom. I must say that I am surprised that Mr. Kilby would even have contemplated siaqning a letter including that paragraph, since, on his evidence, he plainly had insufficient information for estimating the value of the companv. However, it appears that he did not sian the letter and 50 no harm was done by it directly. However, Messrs. Lucas and Rice hoth sav that thev were fold by Mr. Clarke that the latter's accountant had valued the company at $100,000 - ar rather, over $100,900. as to Mr. Rice. That was misleading as (to Mr. Clarke's knowledge) Mr. Kilbv knew nothing about the company except what Mr. Clarke had told him about its prospects: that point is further discussed below. Late in October, Mr. Edelsten gave Mr. Clarke a list of names of people in his company who were to take part in the selling of the book. On 29 October 1984. one Russell Frver, on Ma behalf of Squirrel Data Based Management Systems, signed a receipt for a sum of $1,000 from Mr. Clarke and his wife as a deposit on "Munroe Computers Squirrel Software". The importance ef that document is that the ownership of the computer and software is one of the issues in the case, as will appear. According to a District Court plaint issued on 10 July 1985 on behalf of Mr. Clarke against Mr. Edelsten, Mr. Edelsten told Mr. Clarke on 4 November 1984 that he would not take part in marketing the book. Ido net know if that date is ridqht. However that may be, on 5 November 1984, on which date the book was to be launched, Mr. Clarke qot telegrams from both Mr. Edelsten and his immediate superior to sav that Mr. Edelsten could not take part in the marketing of the book. There was a dispute as to the time at which Mr. Clarke told Mr. Gucas about receipt of the teleqram from Mr. Edelsten,. IT am satisfied that he did not tell Mr. Lucas about 1t until after Mr. Lucas had paid him $40,000 for shares in Economic Freedom, as mentioned above. The fate of the $40,000 is unknown. It does not appear in what Mr. Clarke savs is the company's bank statement. I suspect that part of it went to pay a sum of $13,868 which was expended the next day on a computer and printer, the sum being paid to Squirrel Data Based Management Systems. However, the invoice 1s made out to Aloe Vera Queensland Ptv. Ltd. ("for the Clarke Family Trust"), an indication that there was no intention that the computer should be owned by Economic Freedon. About sy this time. Mr. Clarke'told Mr. Lucas about the computer and that it was in his name; he did not suggest that it belonged to Economic Freedom. On 12 November, the company changed its name to Economic Freedom, as mentioned above, and from then on until February it received and banked sums of money which Mr. Clarke said represented the proceeds of the sale of the book. Their total was less than $2,000. In February 1985, Mr. Clarke started to try to interest Mr. Rice, the second applicant, in taking an interest in Economic Freedom. He told Mr. Rice that Mr. Kilby had valued Economic Freedom at over $100,000. Mr. Clarke also told Mr. Rice, to induce him to buv shares in Economic Freedom, that the company owned a computer worth $60,000. Mr. Clarke aave evidence that the company did in fact own the computer which he had bought, and he explained that it had come to be the property of the company because it was part of his contribution to the company's capital. The only evidence that it had been assianed to the company was a statement by Mr. Clarke that he had had a conversation about it with Mr. Lucas. I do not believe he had anv such conversation. Even if he did. it plainly could not have conveved the property to the company. Mr. Clarke also made other statements to Mr. Rice which are mentioned below and as a result of them, obained $9,000 from him for shares in Economic Freedom. In March, Mr. Clarke beaqan to attempt to induce Mr. Doufas, a director of the third applicant, to put money into Economic Freedom. He made statements to Mr. Doufas to cause him to think that the company would receive substantial moneys from the orqanisation "Avacare". Although Mr. Clarke said that arrangements had been made which led him to expect that such monevs would become available. I donot believe him and am satisfied that there was never anv basis for expectation that substantial moneys would come to Economic Freedom from Avacare; he produced no documents on which such an expectation miqht have been based. About this time, Mr. Clarke told Mr. Doufas that the book was sellina well, which. of course, 1t was not. But in April he succeeded in persuading Mr. Doufas to cause the third applicant to pay $15,000 for shares in Economic Freedom. On 8 April, 1m connection with that transaction, Mr. Clarke wrote a letter to Mr. Doufas saving that activities of Economic Freedom included the marketing riaghts ta books published by Metgold. Aqain. although mention is made of ownership in the next paragraph of the letter, there is no suggestion that the company owned the books. Mr. Clarke was dealing with both Mr. Doufas and Mr. Rice. and telling each of them a different story. He agave Mr. Doufas to understand that an important asset of Economic Freedom was, or would be, ownership of the Avacare oraanisation in Singapore: according to the letter of 8 April 1985 just referred to, he expected that transaction to be finalised about two weeks from that date, and was confident of a turnover of $1 million U.S. in the first vear. But about the same time, Messrs. Clarke and Rice, according to the latter, aqreed to operate the Avacare franchise in Sinaapore through Metaold Ptv. Ltd. and Economic Freedom had no interest in it. I accept what Mr. Rice savs about that. I shall now deal with the alleaation of makind misleadina statements in the order in which they appear in the Statement of Claim. in its final version. Counsel far the respondents made much of the fact that the Statement of Claim was sionificantlv amended twice and that in other respects. the case presented on behalf of the applicants had inconsistencies which should induce me, speaking qenerally. not to accept the applicants' witnesses. Had there been anv credible denials of the applicants' evidence, the1rr case might well have failed as it depends verv larqelv tipon the pitting of their word aqainst that of Mr. Clarke. However, Mr. Clarke was not a witness in whom one could have the slightest confidence. As counsel for the applicants, Mr, Bland, pointed out, both Mr. Clarke's pleading and the affidavits filed an his behalf qave little definite information, , and to a large extent the same could be said of his oral evidence. The applicants placed before me a reasonable account 10. of how thev were induced by Mr. Clarke to invest in his nebulous enterprise; there is no competing account coming from him. Apart from that, Mr. Clarke (although his demeanour as a witness was superficially excellent) made no serious attempt to tell me the truth about a number of critical points. For example, he was unable to give me any 1dea, or so he claimed, what the income of Economic Freedom was. even to the extent of estimating whether it was more or less than $1,000. Again, he did not seem to know what happened to the $40,000 paid by Mr. Lucas. That was in accordance with his basic strategy of not admitting anything, but declining, as far as poassible, to commit himself to any positive statements. In the result, he did himself no acod by placing evidence before the Court. I fand that. as alleged in par.9/a) of the Statement of Claim. Mr. Clarke, acting on behalf of Economic Freedom, represented to Mr. Lucas that an accountant, Mr. Kilbv. had assessed the value of Economic Freedom at $100,000. That was misleading for the reason indicated above and, inmy view, operated as an inducement. Counsel seemed to be agreed that that statement was of no qreat sianificance, since Mr. Lucas knew at the time that the company was merely embrvonic; that is nota view I share. The statement was intended to, and did, give Mr. Clarke's proposal more substance in Mr. Lucas' mind than the true facts warranted. I am satisfied further that, having told Mr. Lucas that the book would be marketed throucah the Forever Living Products orqanisation, he became aware that that prospect had. if il. not disappeared completely, at least been substantially diminished by the information that Mr. Edelsten could take no part: Mr. Clarke failed to inform Mr. Lucas of the fact until he had his monev. The conduct of Mr. Clarke in concealing the vital information he had obtained plainly falls within s.4(2)(c)(i) of the Trade Practices Act: Mr. Clarke refrained, otherwise than inadvertentiy, from aqiving Mr. Lucas the relevant information and is therefore taken to have refused to da sa: so his refusal constitutes engaging in conduct within the meaning of the Act and, in particular, within the meaning of s.52. I do not believe that Mr. Lucas would have paid the $40,000 over if he had known that Mr. Edelsten was no longer able to participate in the venture; Mr. Clarke, for that reason, kept the information from him. As to the second applicant. Mr. Rice. I am satisfied that Mr. Clarke told him that the accountant, Mr. Kilbv, had valued Economic Freedom at over $100,000. That statement was made in February 1985. When a similar statement was made, as I have found, to Mr. Lucas in October 1984, it was misleadina; it was even more so when made to Mr. Rice. Bv February 1985, it had become clear that the book from which Mr. Clarke had professed to believe great profits would be earned was going to make verv little monev indeed and that the initial unsound foundation of Mr. Kilby's "valuation" had disappeared. I also accept that Mr. Rice was told that Economic Freedom owned a computer worth $60,000. It did not in fact own any computer and the one which wt 12. Mr. Clarke had boudht was worth much less. Further, I accept Mr. Rice was told, contrary to the truth, that the book had been very successful. I do not make any finding with respect to par.10(c) of the Statement of Claim concerning profits from the Avacare marketing organisation, but I am satisfied that the other matters found were a substantial inducement to Mr. Rice to put his money in. He was qiven the impression by the statements I have mentioned that the company had some real substance whereas in fact it had none. In consequence, he bought $9,000 worth of shares from the second respondent, whose agent was Mr. Clarke. As to the third applicant, I am not satisfied that Mr. Doufas was told that the value of the company was $150,000, I Fhink he obtained that impression from conversation with Mr. Clarke, but precisely how he came to it 1s not clear. I find, however, that he was told the company held the right to receive profits from the Avacare marketing oraanisation, held the franchise to market Avacare products in Singapore, was engaged in other, similar, activities and was very successful in selling the book. All of these things were said and were false; they constituted an important inducement to Mr. Doufas to cause Elias Doufas Nominees Pty. Ltd. to acquire shares in Economic Freedom from the second respondent. Damages There is a difficulty, acknowledged by counsel for the applicants, in determining the value of the shares at any relevant date. However, it has to be kept in mind that the difficulty 1s entirely due to the respondent, Mr. Clarke. He did not place, or attempt to place, any coherent account of the company's affairs before me, and I am satisfied that only he could do so. The onus is. of course, on the applicants to prove their loss, but the ridqorousness of proof required 15 to be proportioned to the opportunities of proof available to them as compared with those available to Mr. Clarke. He said at one stage that when he got the $40,000 from Mr. lUucas, the company had no assets but also aave evidence inconsistent with that, claiming in particular that it owned the computer mentioned above. One would have thought that at least after payment of the $40,000, the company must have been worth so much: but on the evidence I find that that sum did not qo into the company's bank account, and I do not know what it was used for. As was pointed out by counsel, if it was expended on some purpose not havina to do with the company's affairs, presumably the company acquired a cause of action against Mr. Clarke: however, it does not appear that in these circumstances that cause of action should be qiven any value: compare Gould v. VYaqgelas (1984) 56 A.L.R. 31 at pp.38, 39, 43, 63 and 64, Mr. Clarke also said, in effect, that 14, the company had some interest connected with Avacare. Precisely what connection, if any, it had with that organisation does not appear from the evidence, but on the whole I am satisfied on the balance of probabilities the company had no legal rights in relation to the Avacare organisation. There are only two other assets to be considered: one 1s the bank account. and the other the book. Mr. Bland arqued that the book should be found to have no commercial value because of the sales results, but there is a more fundamental difficulty in relation to it. That is to determine who owned and owns it. Mr. Kilbv's draft. referred to above, contemplated that the book would be sold to Economic Freedom. but amore prevalent idea seems to have been that Economic Freedom would own the "marketing rights". It 1s difficult to be precise, but the balance of evidence favours the view that the intention was not that Economic Freedom would own the book. It received monevs from its sale, but as against that the evidence is that the printer has not been paid. Mr. Clarke accounting for that bv telling the improbable story that the printer made too manv copies. It appears to me likelv that the money which went into the bank account of Economic Freedom in respect of sales of the book was not solely the property of the company. However, it 1s unnecessary to reach a conclusion on that, because counsel for the applicants is content to treat those funds as belonging to the company. It seems probable that, apart from those moneys, the company neither has, nor had, any valuable interest in the book or its marketina. 15. In the result, I accept that the proper finding is as suagested by Mr. Bland, namely that at no relevant time did the assets of the company exceed the sums in the bank account which is in evidence. It appears to me that the proper conclusion, then, is that the shares are valueless; the cost of liquidating the company would no doubt exceed the cash in the account. In the statement of claim, the first applicant alleges that he incurred "interest and expenses particulars of which will be supplied prior to trial". In the course of his address, counsel explained that the sums in question are those set out in exhibit 1, namelv fees and duties in connection with a loan made to Mr. Lucas to enable him to pay the $40,000, half-vearlv loan service charges and interest, Counsel said if he were not entitled to the interest actually paid, he wished the claim to be considered as auncludina one for anterest under s.72 of the Queensland Common Law Practice Act 1972. No objection to that course was made by counsel for the respondent, although the pleading was not amended. I must say that allowing the claim for interest is nota course which is very appealing. Although, as I have found. Mr. Lucas was induced to come into the venture by misleading and deceptive statements made by Mr. Clarke, there is no reason to think that Mr. Clarke regarded the business of Economic Freedom as a trulv worthwhile one. I think he must have appreciated that it was little better than a means of extracting money from the 16. qullible. Further, as counsel for the respondents pointed out, even when Mr. Lucas knew of the withdrawal of Mr. Edelsten, he made no determined attempt to get his money back. He did not even mention the subject until Christmas 1984 and made no formal demand then. He participated further in the enterprise in 1985 and took at least some part in sending out misleading material in an attempt to sell the book. I am not prepared to find that he could not have qot his monev back if he had demanded it, as he should have done, immediately on ascertaining the fact of Edelsten's withdrawal ~ at a time when it presumably had not been expended. In the result, the $702.25 in expenses incurred by Mr. Lucas in obtaining the $40,000 will be allowed. but no interest. There will be 'tudgment for the first applicant, Mr. Lucas, aaqainst the first and third respondents in the sum of $40,702.25: judgment for the second applicant. Mr. Rice, against the second and third respondents for $9,000: and judqment for the third applicant, Elias Doufas Nominees Ptv. Ltd., against the second and third respondents in the sum of $15,000; in each case, , with costs. 1 certify tha: this ancdibe 5" preceding paces are a true cer' of ui2 reascns for beclion tes menour ceFineus lf it topperry 7 Associate