PAE (NEW ZEALAND) LIMITED V MARK BROSNAHAN, MICHAEL RALPH CARTER, WAYNE ALBANY PATTINSON HC WN CIV 2005-485-843

PAE (NEW ZEALAND) LIMITED V MARK BROSNAHAN, MICHAEL RALPH CARTER, WAYNE ALBANY PATTINSON HC WN CIV 2005-485-843 10 September 2008IN THE HIGH COURT OF NEW ZEALAND WELLINGTON REGISTRY CIV 2005-485-843BETWEEN PAE (NEW ZEALAND) LIMITED Plaintiff AND MARK BROSNAHAN, MICHAEL RALPH CARTER, WAYNE ALBANY PATTINSON Defendants Hearing: 10, 12 to 14, 17 to 20 September 2007 Further affidavit evidence filed on 28 September 2007 Closing submissions filed on 4 October 2007 Appearances: Mr Dewar with Mr Vincent for the Plaintiff Mr Butler with Mr Palmer for the Defendants Judgment: 10 September 2008 at 9 amJUDGMENT OF MALLON JPAE (NEW ZEALAND) LIMITED V MARK BROSNAHAN, MICHAEL RALPH CARTER, WAYNE ALBANY PATTINSON HC WN CIV 2005-485-843 10 September 2008ContentsIntroduction..........................................................................................................................................[1] The witnesses and documents............................................................................................................[10] The evidence......................................................................................................................................[13] The parties.....................................................................................................................................[13] Housing New Zealand relationship ...............................................................................................[17] Electronic system (Joblink)...........................................................................................................[20] PAE's interest in CPS and due diligence ......................................................................................[25] Price negotiations..........................................................................................................................[53] The Agreement..............................................................................................................................[98] Post-settlement discussion ..........................................................................................................[100] PAE's concerns...........................................................................................................................[101] Housing New Zealand tender......................................................................................................[135] Proceedings issued ......................................................................................................................[136] Confidential document................................................................................................................[137] Mr Carter leaves CPS..................................................................................................................[139] Mr Loader's investigations .........................................................................................................[141] Mr Leonard's investigations .......................................................................................................[145] Information provided by defendants on discovery......................................................................[155] Mr Carter's response to the errors...............................................................................................[159] Duplication of invoices within Joblink – possible explanations .................................................[163] Invoices received by Housing New Zealand? .............................................................................[172] Other investigations – the backup data .......................................................................................[174] Other investigations – Mr Carter's desktop computer ................................................................[176] Investigation of Mr Carter's laptop.............................................................................................[181] Review of data relied on by PAE................................................................................................[189] Pre-contractual statements about profitability .................................................................................[197] The actual financial position as at 31 March 2004 ..........................................................................[199] Accounts payable (creditors) ......................................................................................................[199] Accounts receivable (debtors).....................................................................................................[200] Profit ...........................................................................................................................................[211] Fraudulent or innocent misrepresentations? ....................................................................................[213] Introduction.................................................................................................................................[213] Mr Pattinson's conduct ...............................................................................................................[215] Mr Carter's pre-contractual statements .......................................................................................[224] The errors in the accounts ...........................................................................................................[225] Post-Agreement conduct .............................................................................................................[237] Conclusion on fraud ....................................................................................................................[248] Value of CPS ...................................................................................................................................[253] Mr Wearne's valuation................................................................................................................[254] Mr Leonard's valuation...............................................................................................................[255] Mr Vance's valuation..................................................................................................................[259] Assessment of value....................................................................................................................[264] First cause of action: fraudulent misrepresentations........................................................................[269] Second cause of action: negligent misstatement..............................................................................[275] What representations were made?...............................................................................................[275] Who made the representations? ..................................................................................................[276] Are they representations?............................................................................................................[279] Did the representations induce PAE to enter the contract...........................................................[282] Is the Court precluded from inquiry? ..........................................................................................[292] Third cause of action: warranty .......................................................................................................[300] The issue .....................................................................................................................................[300] The evidence ...............................................................................................................................[302] Submissions ................................................................................................................................[303] My view ......................................................................................................................................[310] Fourth cause of action: Fair Trading Act .........................................................................................[318] Counterclaim....................................................................................................................................[323] Introduction.................................................................................................................................[323] Renewal ......................................................................................................................................[328] No less favourable.......................................................................................................................[342] Result ...............................................................................................................................................[349]PAE (NEW ZEALAND) LIMITED V MARK BROSNAHAN, MICHAEL RALPH CARTER, WAYNE ALBANY PATTINSON HC WN CIV 2005-485-843 10 September 2008Introduction[1] The plaintiff (PAE) purchased the shares in Central Property Services Limited (CPS) and a related company, A1 Electrical Services Limited (A1 Electrical). Before purchasing the shares, PAE received financial information and accounts for CPS. PAE says that it relied on those accounts and information in agreeing to the purchase at the price it did. It is now known that the financial information and accounts provided were highly inaccurate. PAE seeks damages of $960,994 from the directors and shareholders of CPS (the defendants), which it says is the net overstatement of the assets of CPS. [2] This loss is claimed on three alternative bases. The first of these (the first cause of action) is for fraudulent misrepresentation of the value of CPS. PAE says that exaggerated claims about CPS' profitability were made in the pre-contractual negotiations. It says that to support these claims, the financial accounts were deliberately manipulated by or on behalf of the defendants who were selling their interest in CPS. Because of this fraud PAE says that an "entire agreement" clause in the agreement for sale and purchase ("the Agreement"), under which it was agreed that the Agreement superseded all prior representations, does not prevent the Court from inquiring into the question of loss arising from pre-contractual misrepresentations under the Contractual Remedies Act. [3] The second basis on which the damages of $960,994 are claimed (the second cause of action) is for innocent or negligent misrepresentation of the value of CPS. PAE says that even if fraud does not exist, because the errors in the financial information and accounts were so great and the defendants had provided assurances that they were accurate, the Court should not be prevented by the "entire agreement" clause from nevertheless inquiring into the loss from pre-contractual misrepresentations under the Contractual Remedies Act. [4] The third basis on which the loss from the misrepresentations is claimed is under the Fair Trading Act (the fourth cause of action). The misrepresentations relied upon in the first two causes of action are said to be misleading and deceptiveconduct in trade in breach of s 9 of that Act. It is said that the requirements of s 9 are mandatory so that the "entire agreement" clause does not apply. On this cause of action the damages claimed are the difference between the purchase price paid and what PAE says was the true value of CPS. [5] In response to these alternative causes of action the defendants accept that the accounts misrepresented the financial position of CPS although not to the extent that PAE claims. The defendants say that the errors in the accounts were innocent and not fraudulent. As to the other pre-contractual claims about profitability, the defendants say that they were not "misrepresentations". They also say that PAE can only succeed against any defendant who is proven to have made a misrepresentation. They say that the representations in the accounts were not made by the defendants. They further say that PAE was not induced by the misrepresentations to enter into the Agreement and the defendants did not intend that the misrepresentations would influence PAE's decision to purchase CPS. On the Fair Trading Act cause of action they say that PAE was not misled by the defendants' conduct, that it was not reasonable for PAE to have been misled and that any misleading conduct did not cause PAE's loss. [6] They say that the "entire agreement" clause in the Agreement is effective and conclusive and so no liability can arise from any pre-contractual misrepresentations or misleading conduct. They say that even on PAE's view of the extent of the misrepresentations in the accounts there was no loss because PAE's purchase price remained appropriate on those figures. [7] If the misrepresentation claim is not established under any of the three bases, PAE makes claim for breach of a warranty in the Agreement. The warranty was that all liabilities were disclosed in the financial accounts. Amongst other significant errors in the accounts, the accounts understated the liabilities. On this cause of action damages of $235,606 are claimed. The defendants accept that the warranty was breached but put in issue the quantum of damages claimed by PAE for the breach.[8] There is also a counterclaim by the defendants for $350,000 being a component of the purchase price which PAE has not paid. Under the Agreement this sum was payable if a contract held by CPS was renewed. Whether the sum is payable depends on whether "renewal" in the Agreement means regaining the relevant contract through a tender process rather than being rolled-over and whether the renewed contract was on terms no less favourable than the existing contract. [9] There are both factual and legal issues to be determined. I approach the task by first setting out who I heard from and what was before me. I then set out the evidence as to what occurred (starting with the business of CPS before PAE, PAE's due diligence and the negotiations, PAE's concerns after the Agreement was entered into and the ensuing investigations). I then assess the evidence to determine what was said by whom in the pre-contractual negotiations and what was the correct financial position of CPS as at 31 March 2004. I then deal with whether the accounts supplied to PAE during the due diligence were fraudulent, on which much of the evidence in the case centred. I then assess the evidence concerning the value of CPS in light of that financial position. I then determine each of the causes of action relied on by PAE. Lastly I determine the counterclaim.The witnesses and documents[10] PAE called evidence from the following witnesses: a) Mr Peter Leslie – the CEO of PAE; b) Mr Kevin Wearne – accountant and business consultant instructed by PAE in the due diligence process leading to the purchase of CPS; c) Mr John Leonard – a chartered accountant instructed by PAE to investigate the inaccuracies in the financial information provided to PAE during the negotiations; d) Ms Kit Yi – the corporate services manager and financial controller at PAE;e) Mr Clyde Loader – an assistant accountant employed by PAE; f) Mr Paul Watts – the Housing New Zealand contract manager employed by PAE; g) Ms Lisa Turner – an investigator; and h) Mr Jan Jorgensen – a forensic computer analyst instructed by PAE to give expert evidence. [11] The defendants called evidence from the following witnesses: a) Mr Michael Carter – one of the defendants; b) Mr Wayne Pattinson – one of the defendants; c) Mr David Vance – an accountant instructed by the defendants to give expert evidence; d) Mr Michael Spence – a forensic computer analyst instructed by the defendants to give expert evidence; and e) Mr Tony Potts – the creator of the accounting software system used by CPS instructed by the defendants to give expert evidence. [12] Before me was also an agreed bundle of documents comprising 10 volumes. As a general approach, where there is a conflict in the recollection of witnesses I have relied on the documentation as being the more reliable evidence of what occurred where that is relevant to the conflict.The evidenceThe parties[13] PAE is a facilities management company. Its head office is in Lower Hutt. It is a substantial company. At the time of the negotiations to buy CPS it held facilitiesmanagement contracts with a number of entities. It had approximately 400 employees and annual turnover of approximately twice that of CPS. Mr Leslie had been PAE's CEO for around 10 years. PAE was also part of a global entity which had operations in some 20 countries. PAE had experience in other acquisitions before this one. [14] Mr Brosnahan, Mr Carter and Mr Pattinson (the defendants) were CPS' shareholders and directors. Mr Carter was also CPS' general manager. CPS' business was built up by the three defendants from around 1994. All three defendants had background experience in trades. [15] CPS' main business was repairs and maintenance work for Housing New Zealand houses. This was carried out pursuant to a contract between Housing New Zealand and CPS. CPS contracted with subcontractors to perform the work. CPS also carried out work for the New Zealand Defence Force but this only accounted for around $30,000 of CPS' annual income, with most of CPS' income coming from Housing New Zealand work. [16] A1 Electrical held the fixed assets of CPS. It received a rental from CPS equivalent to the rate of depreciation and so did not, and was not intended to, generate a profit. The accounts of A1 Electrical are not relevant to the issues in this proceeding and so are not discussed further.Housing New Zealand relationship[17] CPS was established in Palmerston North and initially it tendered only for Housing New Zealand work in Palmerston North. It secured the Palmerston North work each year from 1994. In around 2000 it also tendered for and secured the work in Wanganui and after that all of Taranaki and the King Country. [18] In 2002 Housing New Zealand sought tenders for a three year contract for the first time. It also indicated that it wished to contract with only one company for the Manawatu and Hawke's Bay regions. As a result CPS formed a company, LMC Construction Limited ("LMC"), with Prestige Limited (which was not connected toCPS) to tender for the Hawke's Bay contract. CPS and LMC were successful in obtaining the contracts. [19] This meant that at the time PAE became interested in purchasing CPS, CPS had a contract with Housing New Zealand for the greater Taranaki region. LMC held the contract for the Manawatu region on CPS' behalf. The three year term of the contracts was due to expire on 30 June 2005.Electronic system (Joblink)[20] Mr Carter's evidence is that on any given day CPS would receive several hundred job instructions (also referred to as work orders) from Housing New Zealand. These were received electronically from Housing New Zealand and needed to be passed on to CPS' various contractors. Electronic accounting software was necessary and CPS used a system called Joblink. Joblink was developed by Mr Potts specifically for Housing New Zealand maintenance contracts. It was developed in 1999, and at the time relevant for this proceeding, it had been used by ten different contractors including CPS. [21] Mr Carter's evidence was that the invoicing cycle began when Housing New Zealand generated its work orders. These orders would be allocated a job number (also referred to as an invoice number) and then be faxed or emailed to the appropriate subcontractor. When the work was completed the subcontractor would fax or email the cost and a description of the work to CPS. The details would be entered on the system and go into a queue to be invoiced that day to Housing New Zealand. [22] At a given point in the day the queued invoices would be sent to Housing New Zealand. Housing New Zealand paid in three lump sums on the 10 th , 20th and 30th of each month. Housing New Zealand paid electronically and would send through a Microsoft Excel spreadsheet recording each invoice being paid. These would be entered into Joblink by office staff. Joblink would match the job numbers and apply the payment.[23] Payments made by Housing New Zealand to LMC would be remitted back to CPS. For this to occur the payment advice slip from Housing New Zealand needed to be analysed so that amounts due to CPS (for work in the Manawatu region) could be separated out from amounts due to Prestige (for work in the Hawke's Bay region). [24] The Housing New Zealand CPS/LMC relationship functioned as follows:PAE's interest in CPS and due diligence[25] The background to PAE's purchase of CPS is as follows. On or about 22 October 2003 PAE's general manager, Mr Peter Leslie, telephoned Mr Carter, having heard that CPS shareholders were interested in selling their shareholding. At this initial discussion, according to a filenote made by Mr Leslie at the time, Mr Carter informed Mr Leslie that CPS had a turnover of $11.8 million which yielded a profit after tax of 9%. Mr Carter also told Mr Leslie that he was keen to stay with CPS for three to four years. Mr Carter indicated that there was no time frame and CPS would look at offers. The note also records a "ball park figure of $2 million". The note records other matters about the shareholders and CPS' operations. The need for a confidentiality agreement was discussed (and this was signed on 28 October 2003). [26] Mr Carter contacted Mr Pattinson, who confirmed that he was interested in meeting with Mr Leslie. Mr Carter says he was surprised by Mr Leslie's approach and was not interested in selling CPS. CPS was providing him with a good income and he was reluctant to leave behind what he had achieved for someone else to reap the awards. He also says that he was reluctant to give too much information toHawke's Bay jobs Hawke's Bay invoices Manawatu invoices Manawatu/Hawke's Bay invoices Wanganui/Taranaki invoicesHousing New Zealand CPS LMC PrestigeWanganui/Taranaki jobs Manawatu/Hawke's Bay jobs Manawatu jobsMr Leslie because he saw PAE as a competitor. He says that he knew that Mr Pattinson was considering relocating to Australia and would be interested to hear of Mr Leslie's call and this was why he contacted Mr Pattinson and had the confidentiality agreement signed. Mr Pattinson confirms that he was interested in selling CPL because he was relocating. [27] Consistent with Mr Pattinson's interest in selling CPS, prior to Mr Leslie's approach to CPS Mr Pattinson had arranged to obtain a valuation of CPS from Kendons, chartered accountants. This valuation was provided on 29 October 2003. Based on the financial statements for CPS, Kendons indicated a valuation of $811,302. Mr Carter wrote to Kendons complaining about the fee and the "presentation" of the valuation and requested that it be redone. Kendons did not redo the valuation but did reduce its fee. [28] The first meeting between PAE and CPS took place on 7 November 2003. At the meeting were Mr Leslie, Mr Carter and Mr Pattinson. They are not in complete agreement about what was discussed about CPS' profitability. Mr Leslie says that he was told at this meeting that the company had a turnover of around $9.6 million and a 9% profit margin. Mr Leslie's filenote of this meeting records the $9.6 million but not the 9%. Mr Carter says he indicated CPS had a turnover of $11 million per year but that they were at pains to point out that the money CPS made each year could not be easily and accurately calculated because it depended on the work required in any one year. His evidence was also that:While I tried to estimate CPS' future profits for the purpose of my own internal management goals, I could not say with any certainty that we would make our profit expectations or not, and I told Mr Leslie that this is what I thought.[29] Mr Pattinson says that he told Mr Leslie that profitability could be measured as a past figure but that it was nearly impossible to predict future profits with any real accuracy because of the nature of the work. The work involved providing "responsive services" and depended on Housing New Zealand needs for maintenance on any one day (eg. fixing toilets/lights/leaks and so on).[30] As a result of these initial discussions the process of due diligence began. PAE contracted Mr Wearne to assist with the due diligence on its behalf. PAE personnel were also involved in the due diligence. This included Ms Yi (PAE's financial controller) and Mr Black (a PAE employee assisting Ms Yi). Amongst other things Ms Yi provided Mr Leslie with an outline of the sort of information which PAE ought to review as part of its due diligence exercise and she was kept in the loop during the due diligence process. The detail of the due diligence follows. [31] As a result of PAE's information request, on 14 November 2003 Mr Carter forwarded some financial books and bank statements to PAE. This included CPS' financial statements for the 2000, 2001, 2002 and 2003 years. Mr Leslie replied by email the same day with details of information sought by Ms Yi and stating:When we first spoke you indicated turnover was $11.8m and NPAT was 9%. This is substantially more than shows up in the latest accounts. We need to reconcile those figures with the accounts.[32] On 25 November 2003 Mr Carter replied to Mr Leslie enclosing a table of turnover figures (divided into projected, actual and variance) for the months April 2003 through to March 2004. He said:This is the source of my comments regarding the turnover of 11.8m. We are certainly aiming for a 9% profit figure, and on current figures will certainly achieve this. (NPBT).[33] On 26 November 2003 Mr Leslie and Mr Pattinson discussed progress. At this time, as is recorded in a filenote made by Mr Leslie, Mr Pattinson said that it was important to the sale that Mr Carter had a future with CPS and Mr Leslie said that he was keen to keep him on. Mr Pattinson advised that Mr Carter was on a salary of $90,000 plus a $30,000 performance bonus. Mr Leslie considered this package to be reasonable. Mr Pattinson's evidence is that his accountant had advised him that Mr Carter was doing a good job and should be paid a bonus. He says that he told Mr Leslie this because he appeared to be interested in Mr Pattinson's view of Mr Carter. On this same day (26 November 2003) Mr Carter forwarded to Mr Leslie some further information including a list of employees and their salaries. Included in this list was Mr Carter's salary said to be $110,000 and, his wife, Mrs Carter's salary of $35,000 for her position as office manager.[34] On 11 December 2003, following a request from Ms Yi, Mr Carter provided further information to Mr Leslie. In this response Mr Carter advised that CPS did not have weekly or monthly management accounts, this form of reporting having been dropped for cost/benefit reasons. [35] On 15 December 2003 Mr Leslie discussed by telephone various matters with Mr Carter, including, as noted on Mr Leslie's filenote, "forecast profitability vs history". Alongside this note is a tick which Mr Leslie says indicates that he received a reassuring reply. [36] On that same day Mr Leslie forwarded to Mr Wearne the information Mr Leslie had received from Mr Carter. In the accompanying letter Mr Leslie said:Mike Carter predicts a net profit after tax of $1m for the year ending 31 March 2004. As you will see from the 2003 Annual Accounts, the net profit after tax for the year ending 31 March 2003 was $270,000. Accordingly, there is a large difference, although Mike Carter's predictions to date do seem to be correct, e.g. revenue targets. A major issue for your analysis will be to calculate the net profit for the year to date for the year ending 31 March 2004. As I see it, the valuation of the company will be the profit until the end of the contracts, plus assets, less interest costs of the purchase and a risk margin. Also as discussed, I would like to structure the deal so that if the contracts are extended for a further 18 months, then a further payment is made at this time. In addition, I would wish to have an arrangement with Mike Carter, in that a further payment is made on successful winning of contracts in approximately 3 years from now. Mike Carter advised me today that Housing Corporation intend to extend the contract for a further 18 months.[37] Mr Wearne replied to Mr Leslie by letter dated 18 December 2003. He agreed that there was a need to understand why the directors' profit estimate substantially exceeded the 2003 performance when turnover was predicted to increase by only 20%. He set out a list of information he thought should be reviewed at an intended site visit Mr Wearne was to make at CPS. Mr Wearne's evidence was that he knew, as in any acquisition, that the level of profit and the ability of the business to maintain profit was the key to determining value.[38] On 6 January 2004 Mr Wearne met with Mr Carter at CPS' offices in Palmerston North. Mr Wearne's evidence is that Mr Carter was forthcoming with information but considered that, at this stage of the process, questions of the external accountant (Mr Watson) should be asked via Mr Carter. Mr Wearne's evidence is that at this meeting: there was a discussion about employment contracts and an outstanding leave report as at 6 January 2004 was provided; Mr Carter assured Mr Wearne that the Housing New Zealand contract due to expire on 30 June 2005 would continue for a further year; the debtors ledger and the reliability of reporting was discussed; and Mr Wearne gained the impression that Mr Watson was involved in CPS' operations in some depth. Mr Wearne formed the view that the only way to verify the outstanding invoices was to go to the customer, but because many thousands of invoices were generated each month it was not realistic to ask Housing New Zealand to verify the data that Mr Carter had provided. [39] Mr Carter confirms that a meeting took place on this day. Mr Carter says that the meeting lasted from about 9.30 am to 3.30 pm during which time Mr Wearne had access to anything he was interested in inspecting. He recalls, amongst other things, explaining how Joblink worked, showing Mr Wearne how to produce the report for leave owing as at 6 January 2004 and how work in progress was valued. He says that he told Mr Wearne he could meet with Mr Watson as the deal progressed. He says they discussed the Housing New Zealand contract and he showed Mr Wearne the provision in the contract that it was to expire on 30 June 2005. He says that he explained that, although the contract was for three years, in previous years they had tendered for and received one year contracts. He also recalls mentioning rumours he had heard about the 2002 contract continuing until 2006 to coincide with the anniversary of the procurement contracts, but that he expected the contract to finish on 30 June 2005 and to be retendered. [40] Mr Carter's evidence is that at this meeting he discussed an intended pay rise for Mrs Carter. He says that in late 2003 he and Mr Pattinson discussed increasing her salary because CPS was losing another staff member and Mrs Carter would therefore be shouldering a heavier workload. He says that it was agreed that her income would be increased to $42,000 per annum but this was to be deferred until the 2004 income year. Mr Wearne says that there was definitely no discussion abouta salary increase for Mrs Carter at the 6 January 2004 meeting. He says that this would have impacted on the budgets he prepared and would have increased the holiday provision. [41] Mr Wearne initially reported to Mr Leslie on this meeting by telephone. Mr Leslie's filenote records that Mr Carter had "let slip that 3 people did due diligence between Xmas and New Year". In respect of the Housing New Zealand contract Mr Leslie's note records "1 year rollover – didn't see a problem". [42] By letter dated 13 January 2004 Mr Wearne formally reported to Mr Leslie on his review of the information and his site visit. The letter covers various matters, a number of which are not presently relevant. Amongst other things this letter noted that monthly statements of financial position had been discontinued on the basis that they were costly and unnecessary. The letter further states:Mike claims to know how the company is performing, but this is not supported by his estimate of profit, which appears to be grossly inflated. It is important that CPS provide year to date financial statements as Mike is unlikely to believe our assessment. Furthermore, my calculations are based upon data Mike provided and it may be that further significant balance day adjustments are necessary. Mike predicts a net before taxation and his salary of 9%. I am doubtful about this in the light of previous performance and my projections. I estimate that full year performance may only equate to 6% before taxation and Mike's salary. It is, therefore, in my view, essential that CPS' Accountant produces year to date results which will either disprove my estimates, or convince Mike that he has under-estimated costs and over- estimated gross margins. The substantial increase in turnover projected for the current year arises from Wanganui being included in the review. CPS did not previously have his [sic] work.[43] Various employment matters are covered in the letter. This includes a list of current rates of pay for staff and included two salaries of $35,000 per annum for office staff. It also refers to accrued annual leave totalling $19,179.16. This is the total figure in the leave owing report as at 6 January 2004 which Mr Wearne obtained from Mr Carter at the meeting on that day. That report showed an amount of 22.81 days owing to Mrs Carter at a daily rate of $134.62 (consistent with a salaryat the $35,000 level) equating to a total accrued amount of $3,070.68. The letter also refers to the need to keep Mr Carter for one year and that Mr Carter had indicated a willingness to remain for three years. It does not refer to any discussion about an intended pay rise for Mrs Carter. [44] The letter also refers to continuation of the Housing New Zealand contract as follows:Housing NZ have indicated that the Contract will be extended to 30 June 2006 to co-ordinate with material supply contracts already in place. Your offer should be conditional upon proof of the contract extension, rather than an additional payment if the extension is secured. The renewal until June 2009 is a possibility, but is entirely dependent upon government policy and Housing NZ strategy in 2006. As discussed, a further instalment of the purchase consideration could be linked to a favourable outcome of the 2006 negotiations.[45] Mr Wearne advised that financial statements to 31 December 2003 would need to be provided and agreed as reliable before an offer could be formulated. [46] Following this, at PAE's request financial statements for the period ended 31 December 2003 were prepared and provided to PAE on or about 14 January 2004. These accounts (management statements) were compiled by CPS' accountant (Mr Watson, from Thompson Watson) from information provided by Mr Carter. They were unaudited and contained a disclaimer of liability by Thompson Watson. Mr Leslie says that on receiving these accounts he calculated the profit margin on the net profit before tax to be 6% (based on sales of $7,269,735 and a profit before tax of $439,975). [47] Mr Wearne had some questions about the accounts. He raised them with Mr Carter who in turn reported by email dated 15 January 2004 that he had discussed these questions with Mr Watson. Mr Wearne did not discuss his queries directly with Mr Watson. [48] One of the questions Mr Wearne asked was whether there were any significant balance day adjustments required for the management accounts as at 31 December 2003 to be fully compliant with Financial Reporting Standards.Mr Carter's response to this question was to advise Mr Wearne that Mr Watson had replied "no". Another question was whether the accounts were prepared in accordance with generally accepted professional practices, consistently applied, and particularly whether there was confidence that costs and revenue were matched. Mr Carter's response to this question was to advise Mr Wearne that Mr Watson had replied "yes". [49] Mr Wearne also noted that based on earnings to date, "annual profit could increase to say $607,000" (if turnover increased by 10% in the final quarter). Mr Wearne said:This is less than you expected but is consistent with the figures I extracted. Please advise if you believe this projection is realistic, or give data to support any significant variation.[50] Mr Carter replied:On past performance it would be correct, however we expect that the final package of "modernisation" projects will lift this higher. As we showed you during your recent visit the margins on this type of work are much higher than on the normal day to day works we carry out.[51] Mr Carter's evidence is that when he received Mr Wearne's email he passed it on to Mr Watson. Mr Carter says that he also had a discussion with Mr Watson in which Mr Watson suggested that due diligence should involve consultation with Housing New Zealand to verify the information provided by CPS. There is a fax from Mr Carter dated 16 January 2004 which passes on this suggestion although Mr Leslie does not recall ever receiving this fax. In this fax Mr Carter says that he is sure Housing New Zealand would be happy to run reports and discuss issues with PAE and that he would be happy to get in contact with Housing New Zealand to set this up. [52] Mr Wearne reported to Mr Leslie on these matters in a memorandum dated 16 January 2004. In relation to turnover Mr Wearne said that a revised estimate of $10.8 million was realistic. He noted that CPS had not commented on expected profit before tax other than to predict turnover and to indicate that gross profit would increase in the fourth quarter due to the nature of the working being undertaken.Price negotiations[53] On 22 January 2004 Mr Leslie, Mr Wearne and Ms Yi met with Mr Carter to make an indicative offer. The offer was to pay a purchase price of $1.5 million, with an additional payment to the directors of $300,000, if the Housing New Zealand contract was renewed for a further three years from 1 July 2006. Mr Carter would also receive a one-off bonus of $100,000. Mr Carter indicated that the offer would need to be discussed with Mr Pattinson and Mr Brosnahan. Mr Carter produced a filenote of this meeting in discovery. Mr Leslie disputes the genuiness of the filenote because it refers to the bonus being payable as soon as the Housing New Zealand contract was awarded, which Mr Leslie says was not the case. [54] Mr Pattinson's evidence is that he received a call from Mr Carter reporting on the meeting. He says that Mr Carter was disappointed with the purchase price, particularly that part of the payment was contingent on winning the Housing New Zealand contract, and that if this was PAE's final offer then the deal was off. Mr Carter's evidence is consistent with Mr Pattinson's. He says he was expecting a figure closer to $2 million and commented to Mr Leslie that the offer was too low. He says he telephoned Mr Pattinson that if this was PAE's final offer then the deal was off. He also wanted the purchase price paid up front in case the 2005 Housing New Zealand contract was not rewon at tender when it ended on 30 June 2005. [55] Mr Leslie prepared a draft Heads of Agreement and a draft employment contract for Mr Carter. Mr Leslie forwarded the draft Heads of Agreement to Mr Pattinson by email dated 1 February 2004. At this stage the purchase price was left blank. At around this time Mr Leslie met with Mr Pattinson to discuss a price and amendments to the agreement. Mr Pattinson says that at the meeting he put to Mr Leslie that PAE could purchase CPS for $1,700,000 upfront. He says he made this counter offer to win Mr Carter over to the idea of selling CPS and so that they would all get their money at settlement rather than waiting until 2005 for a portion of it. [56] The employment contract referred to the Housing New Zealand contract expiring on 30 June 2006 at which time the employment contract also terminated. Italso provided for a one-off bonus of $100,000 "on a successful retention of the existing Housing New Zealand contracts at the retender in 2006". This was also subject to achieving a minimum 5% profit margin. Mr Leslie says that following discussions with Mr Pattinson he agreed to include a clause that if Mr Carter was dismissed or made redundant prior to 30 June 2006 he would still be entitled to the $100,000 bonus provided the criteria for its payment were satisfied. [57] Mr Leslie reported on this meeting to Mr Wearne by email dated 1 February 2004. In this email Mr Leslie stated that Mr Pattinson had said that his advice was that CPS was worth between $1.4 million and $1.9 million, which Mr Leslie commented was "probably fair enough" but would depend on the brief given. (The only evidence of valuation obtained by Mr Pattinson during the negotiations is the valuation obtained from Kendons on 29 October 2003 referred to above ([27]).) Mr Leslie said that Mr Pattinson would accept $1.7 million but indicated he could settle for something closer to $1.6 million with no part of the payment to the shareholders being contingent on the Housing New Zealand contract renewal after 1 July 2006 except a bonus to Mr Carter of $100,000. [58] Mr Wearne prepared for Mr Leslie a report to the PAE board of directors dated 2 February 2004 in which he recommended a counter offer of $1,650,000 together with a one-off bonus to Mr Carter of $100,000 "upon the successful negotiation of the Housing New Zealand contract for three years from 1 July 2006 on terms acceptable to PAE". Mr Wearne said that the major risk with the acquisition was if CPS failed to retain the Housing New Zealand contract after 30 June 2006. But even in that case PAE would not suffer a loss in capital (because of cash, debtors and the value of the plant and equipment). [59] Mr Leslie's accompanying report to the board of directors recommended the purchase. The report referred to revenue of $11 million per annum. In his report he noted that the Housing New Zealand contracts were due to finish on 30 June 2005. He said:CPS has been advised by Housing New Zealand that these contracts will be rolled over to 30 June 2006. Confirmation of this in writing and a satisfactory meeting of PAE with HNZ management concerning on going work levels etc are a condition of settlement.[60] In response to this report PAE directors noted the risk of a single client company. An email says "[w]hilst the HNZ contract is being rolled over to 30 June 2006, there is substantial risk in rewinning the contract". The email said "[g]iven the reliance on basically what is a single client and there being only one year of the contract left, it would appear that the goodwill element is over valued". The email asked whether the relationship with Housing New Zealand was good and whether it was known how Housing New Zealand might rebid the contract. [61] Mr Leslie asked Mr Wearne to respond to the query on the basis that, on a worse case scenario assuming that profit levels continue at present rates, "we will still make a small amount of money". Mr Wearne's response was that the offer was subject to the contract being extended until 30 June 2006 on terms not less favourable than those currently prevailing. He said that in a worse case scenario of the contract not being continued after 30 June 2006 PAE would have recouped its initial investment together with a small return on investment. Mr Wearne said that previous experience suggested that the contracts are normally retained by the incumbent. [62] PAE's directors raised a number of other issues. They also asked about the quality of the financial data and how independent and reliable the accountants who had prepared the 31 December 2003 accounts were. In response to those queries Mr Wearne said:While I did not conduct an audit, I was able to confirm the reliability of the systems and financial results were consistent with the expectations arising from a review of margins on subcontractors' work. In my view, a more detailed examination of the financial records is unlikely to offer any greater assurance of reliability. Furthermore, the financial strength of the companies offer further confirmation of reported profitability. The external accountant is a chartered accountant in public practice and is, therefore, ethically bound to exercise an independent view and be objective about the data provided. It is evident that he applies quantitative checks to the client provided data, as he recently discovered a GST error. Furthermore, I understand that the non-executive shareholders view his involvement as adding to the reliability of financial reporting. Mike advised that the external accountant has been involved in policy development and major decisions.[63] Mr Leslie and Mr Wearne decided to request another set of accounts from CPS. Mr Leslie made this request of Mr Pattinson at one of the meetings that took place in the middle of February 2004. Mr Leslie says he made this request because the accounts to 31 December 2003 did not accord with the profit projections that had been given, although this rationale for the request is not recorded in Mr Leslie's notes at this time as having been conveyed to Mr Pattinson. At one of the February meetings Mr Pattinson's evidence is that he and Mr Leslie agreed on $1.6 million as the purchase price. This is confirmed by Mr Leslie's note of a discussion with Mr Pattinson on 19 February 2004 which records "price agreed" and the $1.6m figure. The note also records that Mr Carter "is apprehensive because it's his baby". In respect of the Housing New Zealand contract Mr Leslie's note records "rollover" and "looking in the eye". [64] Management statements for the period ended 31 January 2004 were provided on or about 24 February 2004. Again these statements were compiled from information provided by Mr Carter, were unaudited and contained a disclaimer of liability by Thompson Watson. In these accounts cash at the bank was shown as $316,190 (current account) and $106,195 (call account), accounts receivable was shown as $659,096, accounts payable was shown as $521,044 and the gross trading profit was shown as $687,875. [65] The first draft Heads of Agreement had been signed but with the price left blank. On or about 24 February 2004 a further Heads of Agreement was signed. Under this agreement a purchase price of $1.6 million was to be paid on 22 March 2004 with the offer being conditional on documentary evidence that the Housing New Zealand contract had been extended until 30 June 2006 on terms and conditions not less favourable to current terms. [66] By email dated 25 February 2004 the directors of PAE raised further questions with Mr Leslie which had come from "our legal advisors". These questions included:(1) The break even analysis assumes that all current assets including "Debtors [accounts receivable] and WIP [work in process] of over $900,000 will be collected in full. How realistic is this assumption?Is WIP unfinished work such as painting? Can a contractor expect to be paid for unfinished work? (2) The Heads of Agreement should include a provision guaranting [sic] a minimum amount of net working capital (ie. cash and collectable accounts receivable) [obscured] WIP.[67] Mr Leslie asked Mr Wearne to respond to these questions which he did by letter dated 1 March 2004. In this letter Mr Wearne refers to how WIP is calculated. He also says that CPS has not experienced any bad debts and, given that the only significant debtor is Housing New Zealand, the debtors ledger is considered to be collectible. He said that the quantum of working capital was addressed in the Heads of Agreement by precluding any unusual transactions, capital expenditure and one- off payments to shareholders; the requirement for possession to be given and taken as at 1 January 2004; and by financial statements being requested for the period ending 31 January 2004, "thereby offering further assurance of the reliability of the 31st December 2003 reports". [68] Meanwhile due diligence continued. Ms Yi and Mr Black met with Mr Carter on 1 March 2004 to inspect Joblink (the software system used by CPS) and to discuss how work in progress was calculated because that was a key component of the profitability of CPS. Mr Black reported to Mr Leslie on 2 March 2004 advising that work in progress was not generated by the system but was calculated manually. He said that this meant there was a potential for the work in progress to be manipulated to overstate the profit. He said that there was a significant difference between the starting and ending work in progress and that this needed to be fully investigated as this figure was being used to value the company. [69] Mr Wearne provided a comparison of the financial position as at 31 January 2004 with the position as at 31 December 2003. Mr Wearne said that the profit for the month was approximately $28,000 below expectations. He recommended seeking an explanation of the poor January performance from Mr Carter and said that, given these results, CPS may struggle to achieve the annualised results PAE had hoped for. He said that if Mr Leslie was unduly concerned about the January result the only remedy was to produce reports for the period ended 29 February 2004.[70] On 2 March 2004 PAE directors and Mr Leslie met with Mr Carter where a number of matters were discussed. Mr Leslie's filenote of the meeting records in relation to the Housing New Zealand contract:Contract RolloverBackground to proposed contract rollover. Housing New Zealand made a mistake on procurement – year out of kilter. Now want to bring procurement and maintenance contracts into phase. Means extend maintenance contract for 1 year. Tender ProcessMC advised tender process last time. Advised that three tenderers for Manawatu area. Other two were Opus and Fulton Hogan. In Taranaki, no other competitors. Went through pre-qualification stage, then bank and accounting checks as well as staff capability.[71] Mr Leslie explained his understanding of the contract rollover referred to. His evidence was that Mr Carter had indicated to Mr Wearne that the contract would be extended to 30 June 2006 because supply contracts with other parties expired at different times. An extension to 30 June 2006 would enable Housing New Zealand to co-ordinate the contracts. Mr Wearne advised Mr Leslie of this in a letter dated 15 January 2004. Mr Leslie also said that there were other discussions with Mr Carter and Mr Pattinson in which they told Mr Leslie that it was a given that the contract would be rolled-over to 30 June 2006. [72] Mr Carter said that he attended this meeting so that he was able to be introduced to the PAE directors. He recalled referring to the rumours amongst the sub-contractors and lower level Housing New Zealand staff that Housing New Zealand might allow the 2002 contract to continue until 2006 to bring the contract into line with the anniversaries of the supply contracts. (Under the maintenance contracts the contractor agreed that materials would be sourced from designated suppliers.) He said that he distinctly recalled saying that this was only the word of the sub-contractors and that he was treating the 2002 contract as ending in 2005 at which point it would be re-tendered as usual. He said that this was consistent with what he had previously told Mr Wearne.[73] On 3 March 2004 Mr Wearne received a report from PAE about the software system at CPS based on Mr Black and Ms Yi's investigations. Mr Wearne's evidence is that he agreed with them that their findings about the system for valuing work in progress was not consistent with the demonstration Mr Carter had given him on 6 January 2004. Work in progress was to be raised again with Mr Carter. [74] On 8 March 2004 Mr Leslie emailed Mr Carter with further requests including an updated set of accounts as at 29 February 2004. Mr Leslie said "[c]an you also ask your accountant to explain the error in the January 2004 accounts and what the monthly profitability would be for January as a result of this correction." This was a reference to an error in the January accounts that Ms Yi had picked up. [75] On 11 March 2004 Mr Carter wrote a note to Mr Pattinson which Mr Pattinson supplied to Mr Leslie. Attached to the note is a schedule of figures for December 2003 to February 2004 showing a margin of 7%. In the note Mr Carter says:As discussed I have spoken with HNZC re this also I am aware that three of the other major contractors have indicated that only a 3 year rollover would be acceptable to them. I personally do not want to stick out for the 12 months if 36 is going to be the norm. I suggest this subject is put on the backburner at the moment. I have set out on the attached sheet the sales to date for the month of DEC and FEB. Also shown is the % margin. As discussed these are probably the two worst months to look at, in December we basically close up on 21st Dec and only essential maintenance is done until everything cranks up again on 12th January (these are HNZC rules not mine). Therefore you really need to look at the end of year figures to get a true picture, even February will still reflect this.[76] On 12 March 2004 Mr Leslie reported to a director of PAE on the various questions the director had raised. Amongst other things Mr Leslie notes that the financial accounts are unaudited, that they were produced by the independent external accountants and that Mr Wearne considered that it was evident that Mr Watson applied quantitative checks to the client provided data. The report referred to Mr Carter having mixed feelings about selling but that the other directors wished to sell.[77] On 15 March 2004 Mr Wearne reported to Mr Leslie on the impact of proceeding with the purchase on the assumption that the Housing New Zealand contract terminated on 30 June 2005 and the consideration was reduced to $1.2 million, with an additional $400,000 if an extension to 30 June 2006 was secured, but no further compensation would be payable if the contract was extended to 30 June 2008. Mr Wearne's calculations showed that the net result of termination in 2005 was better than termination in 2006 given the price reduction. [78] On or about 15 March 2004 PAE received management statements for CPS for the period ended 29 February 2004 prepared by Thompson Watson. Again these were based on information provided by Mr Carter, were unaudited and contained a disclaimer of liability. In these accounts the cash was shown as $92,630 (current account) and $176,452 (business call account), the accounts receivable were shown as $794,302 and the accounts payable were shown as $548,741. The gross trading profit was shown as $775,726. This was an improvement on the January 2004 accounts but profitability was still below the 9% Mr Carter had previously stated. [79] On 17 March 2004 Mr Carter emailed Mr Leslie attaching worksheets for the February work in progress and said "I have personally checked each one of these to ensure accuracy". [80] On 18 March 2004 Mr Leslie met with Mr Pattinson. Mr Leslie's note of that meeting records that it was discussed that if profit before tax fell below 7% then there would be a further discussion about price. The note records that Mr Pattinson said that Mr Carter wanted $700,000 (for his share) and that Mr Pattinson would be taking the price reduction. It was also agreed that another set of accounts as at 31 March 2004 would be obtained. Another agreement was to be signed. There is a second filenote of this meeting which is similar except that it adds that the new agreement was to be for $1.2 million plus $400,000 "roll-over or tender again". Mr Pattinson confirms that Mr Leslie raised the idea of a further discussion on price if the profit figure fell below 7% and also that PAE was proposing $1.2 million upfront and a further $400,000 if PAE "won the 2005 Housing New Zealand contract at tender". (The difference between a "rollover" and winning at tender is relevant to the counterclaim – see [322] to [341] below.)[81] On 19 March 2004 Mr Wearne provided Mr Leslie with some projections based upon a downgraded profit forecast. He considered that the purchase remained viable provided PAE was satisfied with the work in progress calculations. He said that Mr Leslie "could argue for a price reduction of say $50,000" but that would "run the risk of alienating Mike [Mr Carter] and perhaps losing the deal". [82] On 22 March 204 Mr Pattinson telephoned Mr Leslie to advise that another party was again interested in buying CPS but that PAE would have first right of refusal. Mr Pattinson's evidence is that this arose by chance. He had met the second-in-charge at Vector while on holiday in Taupo at this time. He was told that Vector were looking at purchasing an electrical company in Wellington and were looking for businesses to compliment Vector's operations. He said that Vector should get in contact with Mr Carter. Mr Pattinson also says that there were other parties interested in purchasing CPS, one of which was Spotless. [83] On 24 March 2004 Mr Leslie reported to the PAE directors. Amongst other things they discussed the profitability of CPS as indicated by the accounts. In this report Mr Leslie advised that "[a]ssuming the previously stated profit levels are achieved a payment of $1.6 million would be made at the time of settlement and a further payment of $400,000 would be paid when the rollover was achieved". The further payment would remain the same whether the rollover was for one or three years. (The reference to $1.6 million is a mistake and is meant to be $1.2 million as confirmed by Mr Leslie in an email to Mr Wearne on 30 March 2004.) [84] On 26 March 2004 Mr Black and Ms Yi visited CPS' offices to discuss the work in progress valuation. They also met with Mr Watson this day. Ms Yi's evidence is that they stressed that the financial statements ending 31 March 2004 were very important to PAE. She says they went through how work in progress ought to be calculated. She says that he confirmed that he would check this when he prepared the 31 March 2004 accounts. Mr Carter confirms that Ms Yi and Mr Black came to CPS' office on 26 March 2004. He says that Ms Yi and Mr Black looked at the CPS system from nine until around midday and that after lunch they met with Mr Watson. He says that at this meeting they agreed a format for the calculation of work in progress for the next report.[85] On 31 March 2004 Mr Leslie, a director of PAE and others attended a meeting with Housing New Zealand representatives. Amongst other things, Mr Leslie's filenote of that meeting which he made on 1 April 2004 records:3. Possible Rollover GB [Housing New Zealand representative] was quite firm that the current contracts would finish on 31 June 2005 and would be retendered. Initially this advice was given without prompting. In response to a further question as to whether the contracts might be rolled over, he didn't dismiss this option, but said at present, the intention was to retender the contracts.[86] Later under "Conclusions" Mr Leslie notes:Garry Boon says that the contracts will finish at 30 June 2005. It is unlikely that we will get any assurance of a rollover at this stage. Mike Carter remains confident that a roll over will eventually be given.[87] Mr Leslie's evidence was that in light of Housing New Zealand's comments at the 31 March 2004 meeting he followed this up with Mr Carter. He says that Mr Carter told him that he had a close contact with another person in Housing New Zealand, who had seen a document that indicated a rollover was to occur. Mr Carter says that at the meeting on 31 March 2004 Housing New Zealand made it quite clear that the contract would end on 30 June 2005 and would be re-tendered. He denies that he knew or said he knew about an internal document indicating a rollover. He does say that he was "very confident" that if he took the job with PAE they would secure the contract and refers to his 10 years of experience with the Housing New Zealand maintenance contracts. [88] As recorded in an email from Mr Leslie to a PAE director, on 7 April 2004 Mr Leslie met with Mr Pattinson. According to the email Mr Pattinson said that Mr Carter was still of the opinion that CPS would achieve a 7% before tax return on turnover. Mr Leslie said "I shall be pleasantly surprised if they do". Mr Leslie said in his email that based on a 7% return, PAE had anticipated paying $1.2 million at settlement and a further $400,000 "when a rollover was achieved (either 1 year of [sic] 3 years)". He also notes that Mr Wearne's calculations were based on a 6.1% profit before tax and so PAE had "1% up our sleeves".[89] On or about 8 April 2004 PAE received the CPS management accounts for the period ended 31 March 2004. These accounts included a balance sheet listing cash in bank at $540,944 ($364,185 in a current account and $176,759 on a call account), accounts receivable of $969,468 and accounts payable of $538,539. They did not include any sum owing to Mr Carter for the bonus that was part of Mr Carter's salary package although Mr Watson's letter to Mr Carter said that before the accounts were finalised "bonus salaries" to shareholders needed to be addressed. [90] As with the other management accounts, these accounts were prepared by Thompson Watson from information provided by Mr Carter. Although PAE did not know this at the time, the information provided to Thompson Watson in relation to creditors, debtors and work in progress was merely a table of figures as follows: Debtors: CGH New Plymouth HNZC New Plymouth CGH Manawatu HNZC Manawatu $9,795.10 $256,950.60 $58,227.02 $644,494.98 $969,467.79 Creditors All trades $527,497.07 Work in progress: $80,604.52 [91] The Joblink system enabled monthly statements to be printed for each of the debtor figures. Mr Carter says he printed off these statements in early April 2004 and that was how he obtained the totals for each debtors' ledger that he included in the table for Mr Watson. He did not provide these statements to Mr Watson, nor was any other data provided to Mr Watson to enable the figures in the table to be verified. The accounts were not audited, and there was a disclaimer (as per the previous management accounts supplied to PAE) noting this and also that the accounts were a compilation limited primarily to collecting, classifying and summarising the financial information supplied by the client.[92] Mr Leslie forwarded these accounts to Mr Wearne on 13 April 2004. Mr Leslie said that the end of year statements are pleasing, with the profit before tax figure "almost at the 7% figure that has been the benchmark for paying $1.2 million plus an additional $400,000 if a rollover is achieved and the stated profits are achieved". Mr Leslie also said that the net profit before tax for March was $199,000 on a turnover of $1.353 million (ie. 15%) and that "[t]his seems high and it would be good if you could speak to Mike [Mr Carter] to ascertain why it is at this level". Mr Leslie asked Mr Wearne to calculate whether an initial payment of $1.3 million could be justified, followed by a further payment of $200,000 or $300,000 if a roll- over was obtained and the profit was at stated levels. Mr Leslie also notes that at the meeting with Housing New Zealand "no commitment was given about a rollover although it is still conceivable that a rollover will be given". [93] Mr Pattinson refers to a meeting with Mr Leslie after Mr Leslie had reviewed the 31 March 2004 accounts. This appears to have taken place on 13 April 2004. Mr Pattinson says that Mr Leslie said that the accounts showed a profit figure of 6.8% which was too low to justify the agreed price of $1.6 million. Mr Pattinson says that he was not interested in PAE's concerns about profit and he made that clear to Mr Leslie. He says he told Mr Leslie that he was not interested in selling CPS for less than $1.6 million. Mr Pattinson's view from the negotiations to that point was that Mr Leslie was eager to buy CPS and with it the chance to win additional Housing New Zealand contracts. Mr Pattinson proposed that the purchase price be $1.25 million up front and the balance of $350,000 contingent on the 2005 Housing New Zealand contract. Mr Pattinson says he told Mr Leslie that Mr Carter wanted $700,000 up front, Mr Brosnahan wanted $50,000 and he would settle for $500,000 upfront. Mr Pattinson says he was so confident that CPS would win the 2005 Housing New Zealand contract that he was willing to leave in the balance of his share ($220,000) to "put the deal to bed". (The balance of the $350,000 would be shared between Mr Carter and Mr Brosnahan.) [94] Consistent with Mr Pattinson's recollection, on 14 April 2004 Mr Leslie reported to PAE's directors saying that Mr Pattinson's "absolute minimum" was $1.25 million at settlement with a further $350,000 "if the rollover is achieved". He also said that the 31 March 2004 accounts were "a pleasant surprise". Also on thatday Mr Carter emailed Mr Leslie asking if there was any other information required by PAE in order to finalise matters by 21 April 2004 (a date he understood from Mr Pattinson was the target date discussed by Mr Pattinson and Mr Leslie). [95] In a report dated 16 April 2004 Mr Wearne suggested possible explanations for the substantial profit in March but said that PAE should be cautious in assuming that the 31 March 2004 year end figures are sustainable. He noted that Mr Carter's bonus salary was an issue affecting profits and that it would be legitimate for the directors to approve a bonus of $20,000 which was understood to be what Mr Carter had usually received. Mr Wearne concluded that the deal was now better than previously envisaged given that profits in the three months to 31 March 2004 had exceeded projections. Mr Wearne's evidence was that he also considered the variation proposed by Mr Pattinson at the 13 April 2004 discussions ([93] above). His view was that this variation was not material and he recommended to Mr Leslie that the purchase proceed. [96] On 19 April 2004 Mr Leslie provided a draft agreement to Mr Pattinson for his consideration. The agreement had been prepared by PAE's lawyers. On that same day Mr Pattinson indicated that the agreement was fine with him. PAE's directors had not yet approved the deal and in the course of Mr Leslie's further communications with directors he said "we have had a very good opportunity to check that the profits are sustainable". The directors noted that the Agreement did not contain any "holdback" for a breach of the representation as to liabilities or for other potential misrepresentations. An email records that a holdback for undisclosed liabilities "would have resulted in a higher sale price". [97] Mr Pattinson's evidence is that at this stage Mr Carter remained a reluctant seller. He says that Mr Leslie called him a number of times during the last few days leading up to signing the agreement to find out if Mr Carter was going to sign it. Mr Pattinson says that it took him some hours of discussion to convince Mr Carter to sign the agreement.The Agreement[98] The negotiations culminated in the signing of the Agreement dated 26 April 2004. The Agreement was prepared by PAE's lawyers. The agreed purchase price was $1,250,000 to be paid on settlement with an additional purchase sum of $350,000 to be paid if the Housing New Zealand contract was renewed for a period of not less than 12 months (see [323] below for the terms on which the $350,000 was payable). The date of acquisition was 1 January 2004 and the settlement date was 30 April 2004. The agreement contained some warranties, including the warranty as to liabilities which is discussed below (see [299]). It also contained an "entire agreement" clause (see [269] below). [99] On 28/29 April 2004 an employment agreement was signed by PAE and Mr Carter. The agreement provided for a base salary of $120,000 per annum and a lump sum bonus payment of up to $30,000 per annum which was "at the sole discretion of the CEO". The employment contract provided:This Agreement is a fixed term agreement related to Housing New Zealand Contract Nos . These contracts expire on 30 June 2006. This Employment Agreement is for the same period. Should the contracts be further rolled over or rewon at tender, this employment agreement will continue for as long as the PAE contracts with Housing New Zealand continue. This employment agreement commences on 30th April 2004 and is conditional on PAE purchasing Central Property Services Ltd. The Manager [Mr Carter] shall receive a one-off bonus of $100,000 on successful retention of the existing Housing New Zealand contracts at the retender in 2006. This will be subject to achieving a minimum 5% profit margin before any Head Office or finance charges.Post-settlement discussion[100] After the Agreement was signed Mr Pattinson's evidence is that he and Mr Leslie went out to dinner. He says that they were both speaking candidly. He recalls Mr Leslie saying that he would have bought CPS even if it was making only 3% profit and that it was the safe government money that PAE was interested in.PAE's concerns[101] Settlement proceeded and PAE became the shareholders of CPS. Mr Carter was retained as manager. On or about 15 June 2004 Mr Carter and Mr Leslie signed a "personal objectives for 2004" for Mr Carter. This included achieving revenue (assigned a 10% value), achieving a profit margin of 8% (assigned a 50% value), achieving "rollover and/or win contract if retendered" in relation to Housing New Zealand (25% value) and other matters. [102] On 21 June 2004 Ms Yi raised queries concerning wages and salaries. This came about when Ms Yi was going though financial information she had requested from Mr Carter for the purposes of incorporating CPS' financial transactions into PAE's system. She requested Mr Carter's pay information for 1 January 2004 to 17 May 2004, and she wanted to know the nature of the payment of $20,000 made to Mr Carter on 28 April 2004, the name of the staff whose pay was increased since 1 January 2004 and the reason for this change. [103] Mr Carter replied immediately advising that the $20,000 was the final part of his salary package and was based on achieving specified objectives by 31 March 2004. He advised that the staff member was his wife (Mrs Carter) and her wages were to "bring her to the original salary" of $42,000 per annum and that previously he and Mrs Carter had split their incomes for tax purposes. (PAE records show that this change in salary was made on 3 May 2004.) No mention was made at this time of the discussion with Mr Pattinson at which this had been agreed to but deferred or that Mr Wearne had been told about this in January 2004 during due diligence (see [40]). [104] Requests were made by PAE for the documents to support Mrs Carter's salary increase. Also, Mr Leslie raised Mr Carter's bonus with Mr Pattinson. Mr Leslie's note of that conversation records that Mr Pattinson said that he and Mr Carter had discussed the bonus in December 2003. Mr Pattinson said that the practice had been to pay the bonus if the company made money. Mr Pattinson said that Mr Carter had recently asked Mr Pattinson if Mr Carter should take it and thatMr Pattinson had said he should. Mr Leslie said that this should have, but had not, been declared in the accounts. [105] Mr Leslie's note of this discussion is consistent with Mr Pattinson's evidence. Mr Pattinson says that Mr Carter often left his bonus in the company and that he never insisted that it be collected on a particular date. He says that after PAE's purchase of CPS Mr Carter asked him about the bonus. Mr Pattinson says that he told Mr Carter he was entitled to the bonus and he should take it. Mr Leslie's note records that the bonus was not recorded in the accounts and that "any such large payment should be declared" to which Mr Pattinson made no comment. [106] Mr Leslie also telephoned Mr Carter. Mr Carter's response was similar to what Mr Pattinson had told Mr Leslie. Mr Leslie told Mr Carter that there was no right to this payment because it was not declared in the accounts and was in breach of the contract. He said that the auditors would be requesting that it be repaid. Mr Leslie also discussed Mrs Carter's salary. Mr Leslie's note records that Mr Carter said that the schedule he had given to Mr Wearne had Mrs Carter's salary at $42,000. Mr Leslie said that the 26 November 2003 schedule PAE had been given had her salary at $35,000. Mr Carter said he would look into it. The next day Mr Carter couriered to Mr Leslie a schedule of salary and wages dated 10 December 2003 showing Mrs Carter's salary at $42,000. [107] On 28 June 2004 Ms Yi met with Mr Watson. Ms Yi wanted to obtain the supporting schedules for the debtors and creditors on which the financial accounts for the 31 December 2003 to 31 March 2004 statements were based. Mr Watson provided his working papers by letter dated 6 July 2004. Ms Yi says she was surprised to find no debtors and creditors schedule supporting the figures provided. Instead she found that Mr Carter had provided an overall figure for specific debtors and creditors (see [90] above re the table of figures provided for creditors) and had not provided the information in support of that. [108] That day (6 July 2004) Ms Yi sent an email to Mr Carter noting that following her earlier visit she was still waiting for the debtors report and the creditors report for the 31 December 2003 and 31 March 2004 periods. She alsorequested the directors' confirmation of Jane Carter's salary. She also requested other information. Later that day (6 July 2004) Mr Carter replied to Ms Yi by email stating "working on it now, will have it finished by tomorrow am. Sorry but have had a heap on over the past couple of weeks". [109] On 7 July 2004 Mr Carter provided financial details for June 2004 to Ms Yi. Ms Yi says that these details were similar to the kind of documents Mr Carter had sent to Mr Watson for the 31 March 2004 accounts. Ms Yi says that she had been expecting a list of debtors, creditors and work in progress and not the summarised schedule that was provided. [110] On 14 July 2004 Ms Yi formally requested that Mr Carter repay the $20,000 bonus. Mr Carter replied stating that he had again spoken to Mr Pattinson about this who in turn was going to discuss it with Mr Brosnahan and that he intended to clear it up before the end of the week. Mr Pattinson's evidence is that Mr Carter, Mr Brosnahan and he discussed the bonus further. Mr Pattinson said that although they thought Mr Carter was entitled to the payment, they could see how Mr Leslie might be upset given the timing of it. They agreed that it would be in the spirit of the deal to pay the money back. Mr Pattinson says he wrote out a cheque and took it into PAE's offices himself. [111] Ms Yi reviewed the information provided by Mr Watson. She discovered that the financial accounts overstated the bank balance as at 31 December 2003 by $87,525.16, that there was no provision for leave in the 31 December 2003 accounts and that an entity (Oakley Investments Ltd) had been recorded in the accounts but was of no value of CPS. All of these matters concerned her. Based on the information provided by Mr Carter, Ms Yi also prepared a profit and loss statement to 30 June 2004. That showed that the year to date profitability appeared to be 3.6%. She began to question the accuracy of the 31 March 2004 financial statements. [112] On 26 July 2004 Ms Yi sent an email to Mr Carter and asked for the financial details from January to May 2004 as per the spreadsheet he had provided for June. Mr Carter replied that day saying "[c]opies of those were never kept, they were done each month solely for PAE. You should already have these!"[113] On 28 July 2004 Mr Leslie emailed Mr Carter concerning the 30 June accounts. He said that the profit only appears to be 3% and he requested a report as to why it was low and Mr Carter's predictions for the future. [114] Mr Carter replied by email dated 2 August 2004. Mr Carter said that he had looked over the documents, highlighting areas that appeared abnormal. He said:[t]here are numerous items that seem to have been double entered, one credited out and the an [sic] input is added ex Thompson Watson. None of these entries are identified so it is rather difficult to determine where they sit.[115] He said that he had worked through each month – January, February and March. He also said that the history showed that profit was always down until July/August. He also said that he was completely confident of an end of year result of 8%. Mr Carter also noted that Ms Yi had sought supporting information as to Mrs Carter's pay increase and asked whether there was a problem with this. [116] On 17 August 2004 Mr Leslie emailed Mr Carter saying that he was "very concerned" about the profit levels. He requested more detailed information as to why Mr Carter was confident that all would be "OK" despite profit being about a third of projections. He also said that Mr Carter needed to supply the information Ms Yi had requested concerning Mrs Carter's salary as Mr Wearne's information showed a different salary. Ms Yi also renewed her request for the supporting schedule for debtors and creditors as at 31 December 2003 and 31 March 2004 by email to Mr Carter on 23 August 2004. [117] Mr Carter responded to Mr Leslie's email stating that he was confused about the profit level and that his own figures came up with entirely different results (6.5%). Mr Leslie remained unsatisfied and requested further information. Mr Carter responded on 26 August 2004. Mr Carter said that in January to early April 2004 the workflows were normal but in early May 2004, when the units were coming up to the end of their budget periods, "the brakes were applied to spending". He also said that there was a marked increase in the labour component of the works. He said there was a need to progress toward staffing in lieu of subcontractors. Mr Carter said that the traditional high turnover months were mid to late December through to March.[118] On 27 August 2004 Mr Carter provided a list of invoices received by CPS that were still outstanding as at that date. Ms Yi wondered why this information was not available for previous months as it was the kind of information she had been seeking. [119] In late August/early September 2004 Mr Carter went on holiday for a few weeks. During that time Mr Palmer acted as manager of CPS at Palmerston North. Ms Yi requested August financial information from him. Mr Palmer informed Ms Yi that he discovered a lot of errors in the accounts and that he had made electronic adjustments. [120] On 18 September 2004 Ms Yi requested from Mr Carter a report by 30 September 2004 on the inconsistency between the year to date results and the financial statements CPS had provided to PAE as at December 2003 and March 2004. On 20 September 2004 Mr Carter wrote to Mr Leslie tendering his resignation. His concern was a letter he had found on his return from holiday criticising the management of CPS. He said he would welcome the opportunity of assisting CPS with the "rollover/re-tender" on much reduced hours. Mrs Carter also resigned on this day. Upon leaving, she was paid a sum for accrued annual leave without Mr Leslie's approval when Mr Leslie had required that any sum paid be approved by him first. [121] On 21 September 2004 Mr Carter emailed Ms Yi advising on his discussions with Mr Watson about the inconsistencies raised by Ms Yi. On 28 September 2004 Mr Leslie met with Mr Carter. Amongst other things Mr Leslie's note records that Mr Carter said he was concerned about the accuracy of the year end 2003/beginning of 2004 year data and they also discussed Mr Palmer taking over as manager. [122] On 4 October 2004 Mr Carter advised Mr Leslie that Housing New Zealand had advised that the contracts would definitely be retendered in 2004 and that the contract period would be for three years. Mr Leslie says that this was the first he knew that there was to be "no 1 year or 3 year rollover". On 8 October 2004 Mr Carter proposed that his involvement in CPS be reduced to 2½ days a week. Mr Leslie confirmed his agreement to that in an email dated 12 October 2004. Healso said that the plan was to have someone spend time in Palmerston North to get to the bottom of why the profits were so low. [123] On 25 October 2004 Mr Leslie amended Mr Carter's employment contract to reflect Mr Carter's change in hours. He also amended the terms on which the one- off bonus of $100,000 would be paid so that it was payable "on successful retention of the existing Housing New Zealand contracts at the retender in 2005" but subject to achieving a 5% profit margin. [124] The September accounts, received in early October 2004, continued to show a poor performance. On 28 October 2004 Mr Leslie and Ms Yi met with Mr Carter and Mr Palmer. Mr Leslie followed up on supporting information for Mrs Carter's final pay. The employment agreement Mr Carter had produced for Mrs Carter was dated 27 April 2004 (ie. after PAE had purchased CPS) and Mr Leslie wanted a previous version. According to Mr Leslie's notes of this meeting Mr Carter said that he might have a previous version at home. Mr Leslie said that it was "very important" to have the appropriate documentation. Mr Leslie also sought details of Mrs Carter's holiday pay calculation. Mr Leslie's note records Mr Carter as saying that the payroll system did not have the capability of printing an annual leave report for previous years. Mr Leslie also followed up on Ms Yi's request for the creditors and debtors schedules for 31 December 2003 and 31 March 2004. Mr Carter was asked to action this request urgently. Mr Carter indicated a concern with the request to change banks from ANZ to National and Ms Yi was to review this further. After discussion it appeared that the concern about changing accounts could be overcome and Mr Carter was to action this. [125] Mr Leslie confirmed his request for the documentation "as soon as possible" by email on 2 November 2004 and had a follow up telephone conversation with Mr Carter on 12 November 2004. In this telephone conversation, as recorded in Mr Leslie's note, Mr Carter said that he would obtain the debtors and creditors' schedules from Mr Watson, but that if he did not have them Mr Carter could recreate them. He said he would send them to Mr Leslie by 19 November 2004. He was also to supply the information concerning Mrs Carter's contract by that date. He also said that the payroll people had been able to produce a leave report for the previousyear. Mr Leslie's note also records that the initial October result is "terrible" and that Mr Carter believes the income is grossly understated. Ms Yi was to undertake further research. Later Mr Leslie says that Mr Carter told him that he did not have an employment agreement for Mrs Carter and this is noted by Mr Leslie on his filenote. [126] On about 12 November 2004 Mr Carter produced for PAE a leave owing report as at 31 December 2003. The report indicated that it had been generated on 13 August 2004. It was in the same format as the leave owing report dated 6 January 2004 that Mr Wearne had been given on that day but a number of the figures were different. Most relevantly Mrs Carter's days owing of leave were now shown to be 37.52 at a daily rate of $161.54 (equating to a salary of $45,000 per annum) and an amount of $6,060.98 (compared with [43] above). [127] On 15 November 2004 Mr Carter advised Mr Leslie that Mr Watson did not hold any documents as he had forwarded them to PAE and that to recreate the debtors and creditors reports would require substantial work and could not be completed by 19 November 2004. [128] On 17 November 2004 Ms Yi advised that her calculations indicated that the operating profit was 3% of sales. On 18 November 2004 Mr Leslie met with Mr Carter and Mr Palmer. Amongst other things discussed was that Mr Leslie said the focus was on winning the existing contract and a new region and that recreating the debtors and creditors schedules could be done later. [129] At the end of November 2004 Ms Yi received from Mr Carter a "creditor aged trial balance" for November. She says this was the type of document she had been requesting from Mr Carter throughout 2004. After receiving the information she prepared the results for November 2004. This showed an operating profit of around $20,000 for that month at a margin of 1.6%. This led to Mr Leslie instructing Mr Wearne (see below [254]). Also by this stage Mr Carter had still not actioned the transfer from ANZ to National which he had been asked a number of times to attend to.[130] On 13 December 2004 Mr Leslie reported to the PAE directors. He said:It is very disappointing to report that the profit for CPS for the 11 months to 30 November is $207,638 before goodwill, financial and tax expenses. This is on a turnover of $11,173,847. It therefore represents a profit margin of 1.9%. During negotiations and from the information supplied to Kevin Wearne, he formed the view that although Mike Carter was predicting a net profit before taxation and Mike's salary of 9%, his view was that it may only equate to 6%. Our pricing of the company was based on the lower estimate. The business is relatively straight forward but it now appears it is relatively easy to alter the profit situation by varying the timing of the very large number of payments at month end. At the time of our due diligence the profit was slightly below 7%. It is now clear that this profit can not be correct even though it was audited by CPS [sic] external accountants. (emphasis in the original)[131] (The reference in this report to the accounts being audited is incorrect.) Mr Leslie advised the directors that he was taking legal advice on the merits of recovering some of the purchase price and that Ms Yi and Mr Black were working on rebuilding the details of the 31 March 2004 financial statements. [132] Ms Yi began the work of reconstructing the debtors and creditors as at 31 March 2004. By this time she had still not received the schedules she had requested from Mr Carter throughout 2004. Mr Palmer provided to Ms Yi information from "the live system". From this she was able to compile a list of all invoices rendered by CPS over 2004. She also obtained the remittances from Housing New Zealand. By checking what payments were made after 31 March 2004 on invoices dated before 31 March 2004 she was able to construct the debtors as 31 March 2004. She also obtained all the invoices rendered by CPS over 2004 and obtained a breakdown of payments made by CPS from 1 April 2004 onwards. She determined which invoices pre-dating 31 March 2004 had been paid by CPS after that date. Her work concluded that debtors as at 31 March 2004 were $260,218.17 (compared with $969,468 in the 31 March 2004 accounts) and creditors were $763,314.21 (compared with $538,539 in the 31 March 2004 accounts).[133] There is a personal assessment by Mr Carter of his performance which is dated 28 February 2005. In this document he notes the revenue objective as having been achieved, the profit objective as not having been achieved (although there is to be ongoing checks on the validity of the figures) and the Housing New Zealand contract objective as not being able to be determined as yet because "the rollover did not occur and the tenders will not be notified until March 31 2005". [134] Further meetings and discussions took place. On 1 March 2005 Mr Leslie reported to the directors advising that its investigations had reached the point that it was now appropriate to advise the former directors of CPS that the information they provided in the March 2004 accounts was incorrect. This report set out a strategy going forward to seek to recover PAE's loss as a result of the inaccurate accounts by negotiation to avoid the cost of litigation. By this stage PAE's internal calculations (refer [132] above) had been reviewed by external accountants (Sherwin Chan and Walshe Ltd). Their calculations were similar to Ms Yi's: they calculated the debtors' balance at $260,082 and the creditors' balance at $769,063 as at 31 March 2004.Housing New Zealand tender[135] On 30 March 2005 CPS was successful in the Housing New Zealand re- tender. That day Mr Carter requested payment of his $100,000 referred to in his employment contract. Mr Leslie said the issue was one for the new PAE General Manager to consider but he subsequently advised Mr Carter that the bonus would not be paid because it was at the discretion of the CEO and the performance objectives had not been met. Also on 30 March 2005 solicitors acting for Mr Pattinson requested from PAE, via PAE's solicitors, payment of the $350,000 provided for in the Agreement if the Housing New Zealand contract was renewed. PAE's solicitors rejected the claim and said that PAE was "astonished" by the demand for this sum.Proceedings issued[136] Matters were not resolved by negotiations and this proceeding was commenced on 29 April 2005.Confidential document[137] On 11 May 2005 Mr Leslie met with an RNZAF representative to discuss PAE's tender for facilities management work at Ohakea airbase. Following the meeting Mr Leslie prepared a confidential memorandum and emailed it to Mr Orchard (the general manager at that time) and Mr Black. On 17 May 2005 he learnt that a competitor of PAE's had a copy of the document. He does not say how he learnt this. He formed the view that it had been stolen and on 17 May 2005 an investigator was instructed by PAE to investigate the apparent theft. The investigator gave evidence of a discussion with Mr Palmer and a discussion with Mr Carter. She recorded her discussion with Mr Carter but Mr Carter declined to sign her notes of that discussion. She also sought to speak with Mr Pattinson who refused to speak with her. PAE also obtained an injunction restraining Mr Pattinson from using the document. [138] The defendants object to this evidence on the basis that it is of no relevance. In my view the evidence might only be relevant if there was admissible evidence that a competitor did in fact have a confidential document belonging to PAE and that Mr Carter and/or Mr Pattinson were dishonestly involved in that. The admissible evidence produced by PAE establishes only that this was PAE's belief and that PAE obtained an injunction. The injunction judgment indicates that an employee of PAE (who is not said to be Mr Carter) provided it to Mr Pattinson. Mr Pattinson seems to have had concerns about the document and considered these concerns warranted providing it to PAE's competitor.Mr Carter leaves CPS[139] Mr Carter was made redundant as at 30 July 2005. Mr Carter left behind the desktop computer he used at CPS' office and his CPS laptop. Prior to leaving PAE, in the last week of June 2005, Mr Carter's evidence is that he made an electronic copy of all of the LMC data from the Joblink system. He stored this on his new laptop. He says he did this because he remained a director and shareholder of LMC. [140] In December 2005 Mr Carter came to the office to examine his computer. Mr Watts says that Mr Carter said he was unable to find what he was looking for.Mr Loader's investigations[141] Mr Loader joined PAE in the Lower Hutt office in May 2005. He was asked to identify apparent discrepancies in payments received by PAE. Because the Lower Hutt office was not on line to the Joblink system at Palmerston North Mr Loader requested debtor and creditor transactions to be backed up at the end of each month and supplied to him. Mr Loader's view was that there was no obvious system being employed by CPS for reconciling payments against invoices. Mr Loader concluded that money was being paid into the account which did not reconcile with the entry being made in Joblink and that payments were not applied to individual invoices so that there were large "unallocated" payments. Over time PAE developed a system so that payments were reconciled against invoices on a daily basis. [142] In early 2006 Mr Leslie asked Mr Loader to review discrepancies in the accounts. Mr Loader discovered that an invoice of $14,248.43 (invoice no. 673546439) had been entered four times on the same day (31 March 2004). Mr Loader's understanding of the Joblink system at that time was that the same invoice number could not be posted multiple times. Mr Loader checked whether it was simply a case of an identical invoice for identical services four times, to see if Housing New Zealand was genuinely invoiced four times. He ascertained that the sum of $14,248.43 was paid only once.[143] Reviewing the debtors ledger for the period up to 31 December 2004, Mr Loader also determined that on 30 April 2004 an entry was made in Joblink to process what he would describe as a dummy payment. He said that this is no more complicated than telling the system that you have received payment when in fact you have not. The entry records this as a "tidy up" of $43,078.79. This tidy up is shown in the CPS debtors' ledger and audit trail. This corresponds to a document headed CPS "payment allocation" recording invoices of varying dates in January, February and March 2004 of some very small amounts and the three duplicated invoices (no. 673546439) of $14,248.43. Mr Loader says there was no payment on 30 April 2004 for this sum. The tidy up entry was therefore not a physical payment. [144] Mr Loader endeavoured to identify who had done this tidy up. He was aware that the Joblink system would ordinarily allow the person who inputted the data to be identified by reference to a log file which would identify the user name. When he tried to find this from the backup data he found that all user logs up to 2 May 2004 had been deleted.Mr Leonard's investigations[145] In May 2005 PAE instructed Mr Leonard to review the financial position of CPS as at 31 March 2005. To determine the accounts receivable (debtors) Mr Leonard obtained from PAE an electronic record of the entries in the CPS and LMC debtors' ledger from December 2002 through to 31 December 2004. He also obtained data showing all Housing New Zealand payments in respect of invoices rendered from 1 January 2004 to 31 December 2004. From this information Mr Leonard sought to identify what invoices had been generated before 31 March 2004 that were not paid until after 31 March 2004. He did this by constructing a computer programme which enabled invoices to be matched against payments received. To do this he looked at payments received from Housing New Zealand from April 2004 to the end of July 2004 isolating those that related to pre-31 March 2004 invoices. Through this process Mr Leonard calculated that the accounts receivable (debtors) balance as at 31 March 2004 was $256,442.77.[146] PAE's earlier internal calculations had produced a figure of $260,218.17 (refer [132] above). Mr Leonard checked PAE's calculations and identified the differences. In particular PAE took the face value of the invoices rather than the amounts paid; it did not take into account a credit note; and it included smaller unpaid invoices totalling approximately $3,000 that remained unpaid as at 30 June 2006 which Mr Leonard excluded on the basis of the length of time since the invoice was rendered. Having reviewed PAE's workings Mr Leonard remained of the view that the true value of the accounts receivable by CPS as at 31 March 2004 was $256,442.77. [147] Mr Leonard identified the difference in the accounts receivable as stated and the true position as made up of the following: a) Duplicated invoices $142,655.07 b) Cut-off errors $266,792.95 c) Unpaid invoices $115,540.39 d) Other $188,037.00 $713.025.41 [148] By way of elaboration of these differences, Mr Leonard discovered that some invoices were duplicated in the ledgers. Mr Leonard calculated $56,764.16 worth of duplications in the CPS ledger and $83,890.94 worth of duplications in the LMC ledger. These duplications were made up of 40 duplicated invoices of which 37 occurred in March 2004. One example in the CPS ledger was invoice no. 673546439 in the sum of $14,248.43 entered as a debtor in the CPS ledger four times on 31 March 2004 (which Mr Loader had also discovered). In other instances the same invoice had been entered into the system on different days. One example is invoice no. 673549227 in the sum of $1,393.33 which was posted twice on 17 March 2004 and again on 19 March 2004. Another example is invoice no. 673549372 in the sum of $4,991.24 which was posted twice on 17 March 2004 and once on 19 March 2004. [149] As to cut-off errors, this type of error occurs when a payment to the company's bank account is received and entered as an asset but the debtors' ledger is not reduced by the amount of that payment. Mr Leonard determined that:a) A deposit of $120,892.90 was received into CPS' bank account on 31 March 2004 but was not posted to the debtor's ledger until 1 April 2004; and b) A deposit of $142,291.46 was recorded in the LMC cashbook on 31 March 2004 but was not posted to the LMC debtors ledger until 4 April 2004 (at which time the amount entered was $145,950.05). [150] Mr Leonard says that the delay in posting these amounts meant an overstatement in the debtors as at 31 March 2004 of $266,752.95 ($120,802.90 + $145,950.05). [151] As to unpaid invoices, these totalled $7,718.04 on the CPS ledger and $107,822.35 on the LMC ledger. These invoices were all generated in March 2004 (17 of them on 3 March 2004 and 22 of them on 31 March 2004). [152] Apart from the duplicated invoices, the cut-off errors and the unpaid invoices Mr Leonard is not certain as to how the remaining difference between the accounts receivable as stated and the true position arises. He says that this remaining difference ($188,037) may be explained by historical errors in the accounts. [153] Mr Leonard also investigated the accounts payable (creditors) as at 31 March 2004. The accounts payable as shown in the 31 March 2004 accounts was $538,539. Mr Leonard's evidence was that it should have been $763,314.21 (or $763,314.61 as per his reply brief) plus PAYE of $10,831, so that the variance was $235,606. Mr Leonard's calculation is made up of all the liabilities that he identified as having been incurred on or before 31 March 2004 but which were not paid until after 31 March 2004. In making his calculations Mr Leonard proceeded on the basis that a liability existed as at 31 March 2004 where there were: a) Invoices dated on or before 31 March 2004 and paid after 31 March 2004;b) Statements of account from a creditor dated 31 March 2004 and paid after 31 March 2004; and c) Remittance advices generated recording the payment to a creditor after 31 March 2004 for invoices dated on or before 31 March 2004. [154] Mr Leonard says that the understatement occurred because amounts due to creditors were omitted from the total supplied to CPS' accountants. One example he gives, which he says is representative, is the amount owed to Boise Office Solutions for stationery. That amount was said to be $239.84. That sum was the total of two invoices from Boise (one for $122.84 and $117) but it omitted two other amounts in a statement from Boise relating to amounts owing at 31 March 2004 which totalled a further $538.61. Most of the understatement relates to subcontract suppliers, but it also covered a variance of $4,000 relating to overhead and operating expenses.Information provided by defendants on discovery[155] In the course of discovery Mr Carter produced two CPS debtor statements as at 31 March 2004 – one for CGH with a debtor balance of $9,795.19; the other for HNZC with a debtor balance of $256,950.60. Subsequently, on 27 July 2007 Mr Carter produced a further debtors statement. This was the LMC (HNZC) statement, which had a debtor balance of $644,449.98. The final statement, for LMC (CGH), which had a debtor balance of $58,227.02, was not produced until the course of trial. [156] The delay in providing the LMC statements is explained by the defendants as follows. Although Mr Carter had earlier signed an affidavit in which he said that he had printed the LMC (HNZC) statement from his laptop, Mr Carter's evidence was that the four statements were printed in early April 2004 to obtain the debtors' totals for Mr Watson. After the proceedings were commenced Mr Carter provided these to Russell McVeigh for the purposes of discovery. The exact date the four statements were provided to Russell McVeigh is not clear but Mr Dorrans, a solicitor at Russell McVeigh, believes that this was in around May 2005. Initially Russell McVeigh included only the two CPS statements in the discovery provided to PAE, eitherthrough oversight or a view that the LMC schedules were not relevant. It was not until July 2007 that Mr Dorrans realised that one of the LMC schedules (HNZC for $644,494,98) had not been discovered and needed to be provided to PAE. And it was not until the course of trial that it was realised that the remaining LMC schedule (CGH for $58,227.02) had not been discovered. [157] PAE witnesses reviewed those statements and highlighted a number of issues. Ms Yi's review indicated that the LMC (HNZC) statement included $231,731.35 of invoices paid by Housing New Zealand before 31 March 2004 and that there were duplicated invoices. Ms Yi's analysis indicated that only $113,151.82 of the invoices shown on the statement were actual debtors as at 31 March 2004 (compared with the $644,449.98 shown). There was also an addition error on the LMC (HNZC) statement in that the items listed on the statement when added together did not give the total of $644,449.98. [158] There are also problems with CPS' statements. Ms Yi's analysis of the CPS HNZC statement was that, because of invoices paid before 31 March 2004, duplicated invoices and invoices not paid by Housing New Zealand the total amount as at 31 March 2004 should have been $95,439.49 (compared with the $256,950.60 balance shown). Mr Jorgensen also reviewed the CPS statements and noted a number of differences from the data he had received from Mr Loader at PAE. This included a credit of $42,745.29 on 31 March 2004 reversing the extra three entries of the invoice of $14,248.43 (which according to PAE's investigations was not reversed until 30 April 2004 (see [143] above); some invoices shown on PAE's data were omitted; a payment of $145,981.66 was omitted; a credit of $120,137.17 appears as a debit and a further payment of $36,943.90 is omitted.Mr Carter's response to the errors[159] Mr Carter responded to Mr Leonard's findings in his evidence. He says that he relied on Joblink to provide an accurate impression of the company's creditors and debtors at any given time. To determine how much was owed by CPS to its creditors he would use the reporting function which would create a list of what was owed, to whom, and when it was due. Similarly, to assess how much was owed toCPS at any time he would produce a report explaining what was owed, for which jobs, and by whom. He says this is what he did when providing the figures to Mr Watson for the accounts PAE requested during the due diligence. [160] Mr Carter says that when producing the creditors figure of $538.539 for the 31 March 2004 accounts he first directed his office staff to enter every creditor which had been received by that date. He also added in PAYE of $10,831.35. Mr Carter says that he has been through Mr Leonard's calculations of the creditors figure. He produced a line by line schedule of his views about the reason for the differences between the $538,539 and Mr Leonard's figures of $774,145.56. Mr Carter said he could not explain some of the differences, but in other instances the explanations Mr Carter has provided are: a) Some invoices were back-dated. That is, the work was completed after 31 March 2004 but the invoice was back-dated to 31 March 2004. Such invoices would have been received after Mr Carter provided the accounts payable figure to Mr Watson. Mr Carter provides some examples of creditors in this category; b) There were instances where Mr Leonard's analysis did not apply a credit note against a creditor; and c) The amount on an invoice had been incorrectly entered in Joblink. [161] Mr Carter says that he was unaware of the cut-off errors in relation to the accounts receivable and had he been aware of them he would have told PAE and Mr Watson of them. He does not know how the duplicated invoices occurred. He said that from time to time errors such as this occurred. He says that this could occur by office staff entering the same data in error. He says that usually he or Lance Palmer would pick up the errors and remove them from the system. He says that it seems that they did not pick up all of the duplications before 31 March 2004. He does not know why that was.[162] Mr Carter says that the multiple entry of $14,248.43 would have been obvious when he printed the CPS statement for Mr Watson. He believes he noticed it and took the three extra entries out by way of a credit note or a journal entry. He says he did not do the "tidy up" in April 2004.Duplication of invoices within Joblink – possible explanations[163] There was much evidence about whether and how an invoice could be duplicated on the Joblink system. Mr Pott's evidence is that each job that Housing New Zealand requested one of its contractors to undertake was allocated a job number (which is the invoice number). When a user completed a job it was ready to be invoiced and posted. A user selected the job or jobs to be invoiced to Housing New Zealand. This involved a push of a button (which created the physical invoice, assigned the invoice number and printed/generated the pdf email to be sent to Housing New Zealand). The jobs were then posted. Posting involved physically moving the job data from one data file (current) to another one (posted), generating the corresponding debtor invoices in the debtor transaction data file and logging the process in the user log data file. Once this process has been completed the jobs were effectively tagged as having been done. The timing from start to finish could vary from about 30 seconds to up to five minutes depending on whether there were a large number of jobs to process (because processing can be done individually or in a batch). [164] At the relevant time the job numbers were allocated manually by the contractor (here, PAE) upon receipt of the request from Housing New Zealand and it was possible to have duplicate job numbers. Mr Potts explained that this could occur if a user entered a new job and included the job number and, prior to saving this job, a second user entered the same job number for another job. In this way two different jobs for different amounts could have the same job number. This does not explain how one job can have the same job number (ie. give rise to duplicate invoices in the debtors' ledger). Mr Potts says that he does not know how this occurred. He says that by rights the posting process should not allow this to occur. However, he was aware that other contractors using the Joblink system sometimes also had duplicateinvoices (although not of the magnitude that occurred here). He said that the system should have but did not protect against this. [165] Mr Loader discusses Mr Potts' evidence about the posting of more than one job number if the posting has not been completed and another user enters the same job number. He considers this to be "a very very remote thing". He considers that this is just not possible in relation to the invoice of $14,248.43 that was posted four times consecutively on the same day. He says it would require four people to post the same invoice simultaneously. It has to be different people because Joblink will not allow you to move between different areas of the database without completing the task at hand. The four different users would need to each post the same invoice before the other has completed the task. Mr Loader says that there are other examples where he believes there is not even a remote possibility of the invoices being duplicated accidentally. He refers to the two invoices entered on 17 March 2004 for $1,393.33 and $4,991.24 and entered again on 19 March 2004. The duplications have not occurred simultaneously. Mr Potts' explanation cannot apply because the user of 17 March 2004 completed the posting before another user on 19 March 2004 completed their posting of that invoice. Mr Potts does not disagree and says that his explanation related only to two different jobs (ie. for different amounts) having the same job number. [166] One possibility Mr Potts and Mr Loader discuss is that the duplicated invoices (with the same job number and the same amount) were entered manually. Mr Loader had understood that Joblink had a warning system to prevent this and this would need to be overridden. However, Mr Potts' evidence was that at this time there was no such warning system. He said that it was possible to enter duplicated invoices manually (ie. by direct editing rather than via the posting process). Mr Potts is not 100% certain but believes the duplicated invoice no. 673546439 for $14,248.43 was not entered manually because it uses the system standard way of describing/listing it. He also says that he "honestly" did not have an explanation for the quadrupling of the invoice for $14,248.43 on 31 March 2004. [167] Although Mr Potts does not believe the invoice for $14,248.43 was manually duplicated, his view is that the reversal of these four invoices shown on the statementas occurring on 31 March 2004 (but not on the debtors ledger and audit trail) was entered manually. He agrees that the PAE audit trail (produced from backup on Mr Carter's computer) does not show this $42,745.29 reversal. He notes that the narration of the credit on the statement does not have the Joblink narration. It contrasts with another earlier Joblink credit shown on the same statement which does have the Joblink standard narration (and which does show on the audit trail). [168] A further possible explanation discussed by Mr Loader and Mr Potts is that the information was exported from the system and reimported at a later date. This is a process similar to cutting and pasting. Mr Loader said the evidence in relation to LMC was consistent with exporting and importing. In particular the LMC debtor schedule showed on 23 March 2004 a sequence of six duplicated invoices. These were for invoices 872376123, 872377851, 872379131, 8727379131, 872379171, 872379870 and 872380764. On the user log for "Mike" these invoices are posted consecutively at times commencing just a few seconds apart (between 17:48:25 and 17:48) and then again in the same order consecutively just a few seconds apart (between 17:51:59 and 17:52:00). [169] Mr Potts says that Joblink has the functionality to export data but not to import it. To import it the data has to be manipulated (by someone with proficiency in FoxPro database programming language). If it is manipulated then Mr Potts says "that would not automatically appear in the user log". For this reason he says that where the duplication is shown in the user log, as is the case with the invoices Mr Loader has referred to, he does not think it has been imported. Nevertheless he accepts that it is possible to import the duplications and to also show the duplications in the user log – he says to "put it bluntly I could do it" and "apart from myself, someone would need to know the data structures backwards to be able to do that and get it right". [170] The final possible explanation for the duplications which Mr Potts puts forward is some sort of system or network issue. He considers that a network issue is the likely explanation in respect of the 23 March 2004 sequence of duplications because of the timing, sequence and description in the LMC debtor schedule. Hesays a "system" error simply means that he does not know how Joblink allowed it to happen. [171] In summary, the possible explanations for the duplicated invoices offered are: a) Manual duplications/direct editing which the system has not prevented – but, except for the credit for the quadruple entering of the $14,248.43 invoice, the duplications appear to have the system standard description indicating they were not entered manually. b) The exporting and importing of data – but this would require someone with the right tools and knowledge, and if the LMC duplications occurred in this way then someone has had the skill to also show the duplications in the user log under the name "Mike". c) Network and/or system issues – a network issue is a feasible explanation for the LMC duplications which have the name "Mike" and are just a few seconds apart, but seems less likely in relation to duplications which are not so close together. Mr Potts says he does not know how they occurred and duplications are not meant to occur but for some reason the Joblink system did not protect against this and its failure to protect against this was a system error.Invoices received by Housing New Zealand?[172] Irrespective of how the duplications in the statements occurred, Mr Potts considers that Housing New Zealand would not have actually received two invoices for the duplicated LMC postings for 872376123, 872377851, 872379131, 872379171, 87237980 and 872380764 shown in the user log. This is because the user log shows the printing of the invoices (one for HNZC and one for CHNZ) only once. The printing of the invoice is shown on the log before the posting. In this case the first set of invoices have no invoices printed for them. (This indicates that the error has been picked up by the system or by someone manually before the invoices were generated and sent off to Housing New Zealand.) Mr Potts says he cannot tellfrom looking at a debtors' statement whether Housing New Zealand would have received the multiple invoices. [173] Mr Loader checked two items on the LMC (HNZC) statement: invoice no. 899008 for $17,546.20 posted on 12 February 2004 and invoice no. 8990009 for $22,337 posted on 12 March 2004. These invoices also appear on the LMC debtor transaction printout which Mr Leonard was given and the audit trails he had printed. He concluded that these were never invoiced to Housing New Zealand because the unique xml datafile is missing. However Mr Loader is incorrect about the significance of not having an xml datafile. Mr Potts produced evidence that the xml functionality was not added until June 2004. However Mr Loader says he was also basing his view on the fact that no money was received for those invoices.Other investigations – the backup data[174] When Mr Carter was at CPS backup tapes of the financial information on Joblink were created daily and shortly after the end of each financial year. The daily backups were stored on a physical tape, but were then overwritten in the course of business. Mr Carter also took home each night a copy of the daily backup data on his laptop. The end of year backups were stored on a tape in a safe at CPS' office in Palmerston North. [175] In June/July 2005 a new terminal server was installed and the backup tapes were no longer used. In October 2005, at the request of PAE's solicitors, Mr Watts (an employee of PAE who joined PAE in August 2005) sent the backup tapes to them. In November 2005 the solicitors asked Mr Watts if they could be read. Some of the tapes were sent back to Mr Watts for this purpose. The tapes were unable to be read. Since then the tapes have gone missing.Other investigations – Mr Carter's desktop computer[176] When Mr Watts first commenced work with PAE his desktop computer was the one that had been previously used by Mr Carter. Mr Watts used the computer foronly a short time because he wanted a laptop. Once he got the laptop he gave the computer to another employee because it was a faster machine than the one that the employee had. Information on the desktop computer was transferred to Mr Watts' laptop. [177] In late 2005 Mr Watts disposed of an old laptop that was in a cupboard at PAE because it seemed to him it was not worth keeping. He understood this to be Mr Palmer's old laptop although it seems that it may have been Mr Carter's. No data is therefore available from it. [178] In November 2005 Mr Jorgensen was instructed by PAE's solicitors to take a forensic clone of Mr Carter's old desktop computer. Mr Jorgensen highlighted the following from his investigation: a) In January 2004 temporary internet files were deleted on six separate occasions. Also deleted were Avenge AV software, a job management database system, ANZ direct online banking software, 406 spreadsheets and 265 word documents. b) On 8, 26 and 29 July 2005 temporary internet files were deleted; an ANZ Gold accounting system was deleted on 11 July 2005; on 15 July 2005 multiple database files were deleted; on 15, 18 and 25 July 2005 multiple program files were deleted; on 15, 21 and 28 July 2005 84 word documents were deleted; on 15 and 21 July 2005 458 spreadsheets were deleted; on 28 July 2005 multiple internet history and temporary files were deleted. c) A ghost copy of the computer was taken on 8 July 2005; d) Approximately 745 documents were reinstalled on Mr Carter's computer. Eight of these were copied on 28 July 2005, three on 29 July 2005, 446 on 5 August 2005 and most of the balance on 9 September 2005. (The file creation data of these documents indicated that the files either existed on another computer previouslyand were transferred or they were on the hard drive of this computer previously and were reinstalled.) [179] Mr Jorgensen produced a schedule of the activity on Mr Carter's desktop. In addition to the above, the schedule showed internet history files deleted on earlier occasions, and many instances of deletions of temporary internet files in August and September 2005. [180] The ghost copy detected by Mr Jorgenson's investigation was arranged by Ms Yi prior to Mr Carter's departure. Ms Yi's ghost copy does not contain any emails subsequent to January 2004. It did contain a folder "Personal-Mike", but this was no longer present on the computer when Mr Jorgensen examined it in November 2005. If the folder had merely been deleted, Mr Jorgensen says that he could have recovered the folder and reviewed the emails. He was unable to do so leading Mr Jorgensen to the view that either eraser software (which is readily available and can be used sitting at your desktop) had been used or the file space deliberately overwritten to have the same effect. Mr Jorgensen's evidence was that neither the ghost copy nor the clone of the hard drive appeared to contain any items relating to the sale of CPS to PAE.Investigation of Mr Carter's laptop[181] On 23 August 2007 PAE discovered that Mr Carter had LMC backup data stored on his laptop (having copied it before he left). On that day PAE applied for discovery in relation to the laptop. The application was opposed. [182] The defendants then provided a CD containing the electronic LMC data. On 27 August 2007 Mr Jorgensen reviewed this CD. Mr Jorgensen found on that CD a zip file that had the archive date of 1 July 2005 but this was modified on 22 August 2007. He also found that although the data went back to 23 December 2003 he was only able to access data from 7 April 2004. [183] PAE sought High Court orders enabling it to inspect the laptop. On 30 August 2007 Mr Carter says that while working on his laptop an error messagecame up. After that he was unable to restart his computer. Mr Carter says that he sought expert assistance but to no avail. On 3 September 2007 the High Court granted PAE's application. [184] On 4 September 2007 Mr Jorgensen attended at the offices of Russell McVeigh to obtain a clone of Mr Carter's laptop pursuant to the Court's orders. Mr Jorgensen was unable to read the disk. Mr Jorgensen proposed to disassemble the disk but the defendants' expert considered this should only occur in a "clean" environment to prevent dust damaging the drive enclosure. The disk was accordingly sent to an analyst. [185] The analyst which dissembled the disk from Mr Carter's laptop reported that: a) The top head of the assembly arm had been removed. The analyst said that "in rare occasions this can happen due to impact or general wear-and-tear however if this were the case the head would still be inside the drive rattling around, however I could not find it anywhere"; b) On the head assembly arm there was a black line and on heads PCB was the word "twins" also in black felt pen. Other drives of the same model that the analyst examined do not have felt pen marks; c) On removing the platter a score mark on the underside was found. This looked more like a natural fault. It often happens when the head slams into the platter. It can happen from impact or wear and tear; d) The sticker on the drive was undamaged. It would require some cunning to remove this without damaging it. It is however possible. People have been known to steam stickers off. [186] The experts are agreed that the writing in the felt pen is "most unusual" but they are unable to say when the markings were made or what could be taken from that. There is, however, competing evidence as to the inferences that can be drawnfrom the absence of the drive head. Mr Jorgensen views the absence of part of the head assembly as conclusive that the unit had been opened previously. Mr Spence does not. [187] The purpose of the sticker is to protect the drive under warranty. It is intended by the manufacturer to ensure that it is not opened by anyone other than an authorised person. The label is designed to withstand very high temperatures. Nevertheless Mr Jorgensen and the analyst consider that the sticker can be removed without causing obvious physical damage. Mr Jorgensen says that this can be achieved through a careful process of heating or steaming. Mr Jorgensen accepts that, if there was sabotage, then it was clumsy to remove the head altogether when it could have been left inside the drive rattling around. However, it would be successful sabotage because the removal of the head was a certain guarantee that the contents could not be read. Mr Jorgensen accepted that it would be more simple to use eraser software, but said that it would be apparent on examination that it had been used. [188] Mr Spence accepts that the drive head may have been removed by first removing the sticker carefully although he had not heard of this being done in a way that could not be detected. The alternative explanation Mr Spence offers is that the drive head, which measures a few millimetres, was missed when the drive casing was opened and that the computer may have failed of its own accord. Mr Spence says that the drive was three and a half years old which would put it at the end of its life cycle. Mr Spence also says that his research indicated that this particular model was prone to higher than normal mechanical failures.Review of data relied on by PAE[189] The four debtor statements produced by Mr Carter in discovery have a number of differences from the information recorded on the electronic data discovered by PAE on which Ms Yi, Mr Loader and Mr Leonard carried out their analysis. Because there are no longer backup tapes, Mr Carter says he cannot check the PAE discovered electronic data against the backup tapes. He says he is left withinformation created largely by PAE made after the relevant time period which in his view has been corrupted. [190] In support of this, the defendants called evidence from Mr Potts. He reviewed CPS electronic data (dated 31 December 2004, 31 January 2005, 28 February 2005, 31 March 2005 and 30 April 2005), LMC electronic data (same dates as for CPS) and Wanganui data (dated 31 December 2004) all of which had been discovered by PAE. He noted that: a) The CPS and Wanganui data had not been created using the Joblink backup system (ie. they were generated using tools external to Joblink); b) The CPS data contained no Housing New Zealand jobs entered or corresponding debtor invoices raised for jobs from 29 November 2004 to April 2005 (when there would have been many during that period); c) The Wanganui data contained jobs up to November 2004 which should not be there at all because the user log showed that on 22 November 2004 the user "Mike" has deleted all jobs in the system. It also contained no debtor invoices up to April 2004 when there should have been a large number of debtor invoices. [191] Mr Potts says that the Wanganui material is "highly unusual". He says the two most plausible possible explanations are: a) The Wanganui backup tapes have been created by extracting and combining separate data from a number of different sources from different dates; or b) The data has been physically changed in the Wanganui system by directly editing the data tables. To do this the person would need to have the appropriate level of expertise, a detailed knowledge of thedata structures within Joblink and the necessary development and editing tools to do so. [192] At the relevant time Taranaki and Wanganui used separate Joblink systems. The data had to be transferred into the CPS system. This was apparently done by a manual transfer (since Mr Potts says that data could be exported but not imported into Joblink). The summary of debtors provided by Mr Carter to Mr Watson was for CGH New Plymouth, HNZC New Plymouth, CGH Manawatu and HNZC Manawatu. There is no separate category for Wanganui so at this point Mr Carter had included Wanganui debtors in the New Plymouth figures. This does not appear to account for deletions made in November 2004. [193] Mr Loader says that the gaps in the Wanganui database that Mr Potts has referred to are only explained by a substantial effort to remove information from the Wanganui database. He surmises that this may have been necessary to corroborate inconsistencies that were imported into the CPS database. He notes that Mr Carter did not need to be in Wanganui to make changes to that database if Mr Carter had the Wanganui backup data on his laptop which he understood to be the case. [194] Mr Carter denies deleting data on 22 November 2004. He says that he did not have the Wanganui database on his laptop. He also says that he was not in Wanganui that day but that Mr Palmer was. He says he gave his password to Mr Palmer. He says that Mr Palmer was responsible for the weekly backups and he required the password to correct the occasional error in the data entered by the office staff. [195] In response to Mr Carter's concerns that the data relied on by PAE was corrupted Mr Jorgensen also reviewed the PAE data reviewed by Mr Potts. His evidence is that the data on each of these files is consistent with each other. For example, the data as at 31 December 2004 is different from the data as at 26 August 2004 only in that it has additional data for the period 27 August 2004 to 31 December 2004. Because the PAE data was all consistent, but different from the two CPS debtor statements he reviewed (refer [158] above), his view was that thestatements did not come from the same data and the problem was with the statements and not the PAE data. [196] In analysing this data Mr Jorgensen found that user logs from prior to 2 May 2004 were deleted on 5 August 2005. This is consistent with Mr Loader's investigations (refer [144]). Mr Jorgensen's understanding was that the only two people who had access to the user log on 5 August 2005 were Mr Carter and Mr Palmer. He was not cross-examined about this, although Mr Carter had left CPS by this stage and the evidence does not explain how Mr Carter would have had this access on 5 August 2005. Also Mr Jorgensen found that in the "main Joblink system holding the bulk of transactions for all of the CPS work, the log file for the backup to 31 December 2004 shows no data at all". Again he says that the deletions could only have been made by Mr Carter or Mr Palmer as the only two users of the system with access to the log files.Pre-contractual statements about profitability[197] PAE's statement of claim alleges the following misrepresentation:Date How Made Who Whata 28/10/03 Telephone discussion Carter to Leslie "CPS was achieving a 9% return on turnover of $11.8 million" b 07/11/03 Meeting Carter and Pattinson to Leslie "CPS would be making a 9% margin" c 25/11/03 Email Carter to Leslie "CPS will achieve 9% NPBT and on current figures will certainly achieve this (NPBT)" d 15/12/03 Telephone discussion Carter to Leslie Forecasted profit of CPS was accurate e 15/01/04 Email Carter to Wearne Profit projections confirmed f 11/03/04 Fax Carter to Pattinson, and on- supplied to Leslie Recording profit on turnover of 7% for December to February and referring to these being the "worst months to look at" g 07/04/04 Meeting Pattinson to Leslie Confirms advice from Carter of profit based on 7% of turnover before tax h 31/12/04 to 31/03/04 CPS Financial Statements Representations as to the financial position. In particular 31/03/04 accounts represented that CPS wasDate How Made Who Whatentitled to receive $969,468, that it had liability to creditors of $538,539, that it had equity of $961,357 and turnover had risen to approximately 6.9% on an ebit basis.[198] I find as follows (using the same lettering as in the table): a) The most reliable evidence on this alleged representation is Mr Leslie's filenote of the initial discussion (refer [25] above), and his email dated 14 November 2003 which refers to "when we first spoke" and which confirms and is consistent with the filenote of the initial discussion (refer [31] above). The filenote was not dated but the contents make it plain that it predated the signing of the confidentiality agreement which occurred on 28 October 2008 (refer [25] above). I find, therefore, that the statement that CPS was achieving a 9% return on turnover of $11.8 million was made. It was made in a telephone discussion between Mr Carter and Mr Leslie at the commencement of the discussions on or about 22 October 2003. b) Again the most reliable evidence is Mr Leslie's filenote of the meeting on 7 November 2003 (refer [28] above). This refers only to turnover ($9.6m) and not to margin. It is not referred to in Mr Leslie's email dated 14 November 2003 which refers back to the $11.8m and 9% indicated in the first discussion (on 22 October 2003). The absence of any reference to margin in the filenote is also consistent with Mr Carter and Mr Pattinson's evidence that future profits could not be predicted with accuracy because of the "responsive" nature of the work. PAE says that this qualification is inconsistent with Mr Pattinson's evidence that he viewed the Housing New Zealand contract as providing a safe, steady and reliable source of income. I do not agree that is inconsistent with Mr Pattinson stating to Mr Leslie that future profits could not be predicted with accuracy. Housing New Zealand did provide a constant source ofincome but the level of profitability depended upon the level of work required by Housing New Zealand. I therefore find that the statement alleged was not made. c) Mr Carter's email dated 25 November 2003 records the statement as being "[w]e are certainly aiming for a 9% profit figure, and on current figures will certainly achieve this. (NPPT)". This is the statement that was made on this occasion. d) That forecast profitability versus history was discussed between Mr Leslie and Mr Carter on 15 December 2003 is confirmed by Mr Leslie's filenote. However there is no reliable evidence as to what Mr Carter said other than that Mr Leslie felt reassured by it, as indicated by the tick in Mr Leslie's filenote (refer [35]). I am not satisfied on the balance of probabilities that any specific representation about profitability was made on this day. e) The correspondence is the most reliable evidence of what was said on 15 January 2004. The statement made by Mr Carter was that based on past performance Mr Wearne's prediction of profit of $607,000 was realistic but Mr Carter expected it to be higher because of higher margin work. f) The statement that was made, as set out in the correspondence of 11 March 2004, is that Mr Carter assessed the profit margin as being 7% for the months of December 2003 to February 2004 and that December and January were probably the worst months (because CPS basically closes between 21 December and 12 January). g) The most reliable evidence of what was said on 7 April 2004 is Mr Leslie's email to PAE (refer [88]). The statement there recorded is that Mr Pattinson says that Mr Carter is still of the opinion that CPS will achieve 7%. I find that this statement was made by Mr Pattinson.h) There is no dispute that the financial statements were provided by CPS to PAE in the course of due diligence and as to what was stated in the accounts.The actual financial position as at 31 March 2004Accounts payable (creditors)[199] The accounts payable total stated in the 31 March 2004 management accounts provided to PAE in due diligence was $538,539. Mr Leonard's evidence for PAE was that the amount should have been $763,314.21 (plus PAYE of $10,831). Mr Vance's evidence for the defendants is that it should have been $767,500. The difference is minor – as the defendants say in their closing submissions, the parties are now largely in agreement in terms of "the accounting treatment" of the accounts payable. I accept Mr Leonard's figure because Mr Leonard has carefully explained his methodology and he said he had reviewed Mr Vance's evidence and remained of the view that his calculation was correct.Accounts receivable (debtors)[200] The accounts receivable figure stated in the 31 March 2004 management accounts was $969,468. PAE's position is that the true position was $256,442.77, based on Mr Leonard's evidence ([145] to [154]) . The defendants accept that the accounts receivable were overstated but do not accept that the plaintiff has established that the true position was $256,442.77. The defendants say that the only errors which have been proven are: a) Two cut-off errors through delays in posting deposits totalling $263,094.36 ($120,802.90 + $142,291.46). (This is similar to Mr Leonard's view of the cut off errors except that Mr Leonard has used the ledger entry of $145,950.05 rather than the deposit of $142,291.46 in the cashbook see [149] to [150] above).b) The addition error in the LMC (HNZC) statement referred to above ([157]). If the items on that statement are added, the total comes to $507,914.73 and not the total of $644,494.98 that is recorded on the statement. The difference between $644,494.98 and $507,914.73 is $136,580. [201] On the basis of the errors that are accepted the defendants say the true debtors position lies somewhere between $569,794 (being $969,468 – $263,094.36 – $136,580) and Mr Leonard's figure of around $256,000. They also say that due to offsetting missing debtors the accounts receivable should increase by $39,000. They say that the burden of proof is on PAE, and beyond the errors that are admitted, PAE has not established its $256,442.71 figure. They say that PAE has not discharged its burden for the following reasons: a) The defendants say that Mr Leonard has not taken into account any amounts owing by customers other than Housing New Zealand; b) Mr Leonard's approach was to match revenue up to July 2004 on the basis that invoices as at 31 March 2004 would be paid by July 2004 if they were going to be paid at all. The defendants say that this was not a safe assumption and that some invoices may have been paid after 31 July 2007; c) The defendants say that PAE has not provided evidence of who created the list of debtors transactions or how they were created. That list contains many missing data lines (about 5% of the entire list) and that it must be assumed that at least some of them relate to valid invoices. d) The defendants say that if any Housing New Zealand remittances are missing from the data analysed then this will cause debtors to be understated. They say that PAE has not provided any evidence as to how the remittances were compiled or as to its reliability.e) The defendants note that Mr Leonard's analysis produced "unmatched revenue". They submit that "if this was the result of imperfections in his matching process, then it may well relate to accounts receivable as at 31 March 2004". f) The defendants also say that the PAE data is corrupted and that this creates added uncertainty to Mr Leonard's calculations. [202] Mr Leonard accepts that he considered only Housing New Zealand invoices. However there is no evidence that there were any other debtors in the relevant period. The evidence points the other way: a) The evidence was that CPS' business was principally from Housing New Zealand. The schedules Mr Carter provided to Mr Watson did not include any non-Housing New Zealand debtors. If Mr Carter thought in hindsight that these schedules were incomplete because they did not include non-Housing New Zealand invoices he had the time and opportunity to say so and to produce any relevant invoices. While PAE has the burden of proof I would expect the defendants to have pointed to any accounts receivable that fell within this category if they were able to find any evidence of them. b) The only potentially relevant non-Housing New Zealand payment pointed to by the defendants was for $15,000 received on 2 April 2004. This apparently did not appear in the accounts receivable figure in the 31 March 2004 management statements. If this related to a pre- 31 March 2004 invoice then Mr Leonard's figure is understated rather than overstated. Further, as PAE points out this payment did not necessarily relate to non-Housing New Zealand work. It could, for example, have been a payment under an insurance policy. (The defendants point to the fact that legitimate debtors were left off as evidence that the defendants were not intent on deliberately overstating the debtors).[203] Mr Leonard's analysis involved matching payments received after 31 March 2004 and up to July 2004 to invoices generated before 31 March 2004. The evidence was that Housing New Zealand paid promptly – on three dates in the month (see [22]). While it is possible that some invoices were paid after this date, the balance of probabilities is that there were few if any such payments. [204] Mr Leonard says that with the flaws in the system (such as not protecting against cut-off errors) the only reliable method for determining the correct figure was the method of matching which he adopted. He notes that Mr Vance did not challenge his methodology. Mr Leonard accepts that his analysis produced "unmatched revenue" in that in the LMC ledger there were payments that did not correspond with invoices in the debtors ledger system. Mr Leonard was cross- examined as follows:But its quite possible isn't it that unmatched revenue could properly relate to the 31 March period but had been left out or not properly picked up in your analysis because of a non matching process or deleted invoice do you agree with that ? if that was the case and it is possible then we would have a series of unpaid invoices which we have and I went through thoroughly searching for those over and above my computer generated search, I went through the remittance advices manually to try and find those. Again we're talking some 16000 lines of receipt so there is a possibility. I would like to think a very small possibility Ma'am that I have missed something.[205] I accept Mr Leonard's evidence that there is only a very small possibility that something has been missed. [206] In so far as the challenge is to the data on the basis that legitimate invoices may have been deleted, the defendants refer to a passage in Ms Yi's evidence that Mr Palmer "removed invoices that had been paid" when he was addressing the errors he discovered in September 2004. However, as Mr Leonard discussed in cross- examination, it is not clear what is meant by this. The simplest way to correct errors would be to apply a credit. There would be no reason to actually "remove" any invoices, which is a difficult thing to do. [207] As to the source of the data, the evidence is that it was provided to Mr Leonard from PAE after his visit to CPS at the end of May 2005. Mr Leonard's advice was that the data was provided in electronic format from "the live system".Mr Jorgensen has reviewed the electronic data relied on by PAE and says that it is all consistent. That included back-up data dated 26 August 2004 which pre-dated Mr Palmer's corrections. It is not clear why 5% (assuming the defendants' calculations are correct) of the data lines are missing (and Mr Leonard accepted that he had not noticed it) but nor is it clear whether those missing lines contained data (a point made by Mr Leonard) or related to valid invoices and, if they did, why they then would be deleted. Given the number of duplications it seems more likely that any missing data lines relate to duplications. PAE makes the point that Mr Leonard's analysis was based on the money actually received, rather than being dependent on the data alone. PAE makes the further point that three sets of chartered accountants have come to around the same debtors' figure as at 31 March 2004. Mr Leonard's figure was $256,442.77, Ms Yi's figure was $260,218.17 and Sherwin Chan and Walshe's figure was $260,082. [208] The defendants refer to the accounts receivable figures in earlier years as evidence either that Mr Leonard's calculation of the accounts receivable is seriously understated and/or whatever caused the misstatement has been present throughout. The figures from the previous accounts show the following:Year Cash Accounts Receivable Accounts payable Work in Progress Net Assets2000 $66,376 $557,044 $550,956 − $1,752 2001 $177,296 $629,765 $603,158 − $141,758 2002 $213,716 $700,739 $647,548 $32,438 $295,359 2003 $423,007 $826,342 $790,969 $28,620 $523,571 2004 (as supplied in due diligence) $540,944 $969,468 $538,539 $80,605 $961,357[209] It can be seen that the 2004 accounts receivable, cash and work in progress are all significantly higher than in other years, also that 2004 is the only year that accounts receivable are significantly higher than the accounts payable (a difference between accounts receivable and accounts payable of over $430,000 in 2004 compared with a difference in previous years of between $0 and $50,000 in round terms). It is not known to what extent the earlier accounts contained errors. I think all that can be taken from this comparison is that the 2004 accounts presented aconsiderably better financial position than in all prior years. I do not infer that this demonstrates that Mr Leonard has understated the true accounts receivable as at 31 March 2004. [210] In summary, the challenges the defendants have made to Mr Leonard's calculations give rise to theoretically possible, but not probable, reasons for Mr Leonard's figure being understated. I proceed on the basis that the true accounts receivable figure as at 31 March 2004 was $256,442.71.Profit[211] The effect of the overstatement of the debtors and the understatement of the creditors was to overstate the profitability of the business. PAE says that this is borne out by the subsequent performance of CPS. For example, the profit and loss statement for the nine months to 30 September 2004 showed a profit of $89,825 on turnover of $9,196,349, and therefore a margin of 1%. [212] Mr Leonard's evidence is that taking into account the duplicated invoices alone, the profitability of the business reduces from 7% to around 5%. Mr Leonard is unable to calculate the effect on profitability of the cut-off errors, because cut-off errors may also have occurred in prior years. However Mr Leonard says that the cut- off errors, unpaid invoices and the understatement of creditors could also dramatically reduce the profitability of CPS as compared with what was presented in the financial statements provided to PAE at the time of the purchase.Fraudulent or innocent misrepresentations?Introduction[213] PAE alleges that the errors in the accounts were deliberate and fraudulent. PAE's theory is that Mr Carter had "talked up" CPS' performance in the negotiations and later found it necessary to create the accounts to support his exaggerations. PAE says that Mr Carter deliberately duplicated invoices, deliberately entered falseinvoices and knew or was wilfully blind to the $266,000 payment received from Housing New Zealand not being removed from the debtors ledger whilst appearing in the bank balance. PAE says that errors of this magnitude do not appear by accident and point out that the errors were largely entered in March 2004. PAE also refers to Mr Pattinson's conduct during the negotiations and Mr Carter's conduct after settlement as evidence that each was dishonest on other occasions. It sees this conduct as supporting its views that the accounts were deliberately manipulated. [214] The defendants submit that the errors were made through a combination of the haste with which the accounts were prepared, Mr Carter's relative inexperience in accounting matters, and flaws in the accounting system and practices operated by CPS and its accountant (Mr Watson). They submit that the defendants' theory is unlikely for a number of reasons. They also submit that each of the matters relied on by PAE have innocent explanations.Mr Pattinson's conduct[215] I turn first to consider Mr Pattinson's conduct. PAE submits that in making statements about profitability in the negotiations, it was not a case of Mr Pattinson working off incorrect accounting information because the evidence is that no management accounts were kept. PAE submits that Mr Pattinson knew that the pre- contractual statements about profitability were incorrect, or was at least reckless about this, because these statements contradicted Mr Pattinson's knowledge about the historic performance of CPS. [216] PAE relies on Kendons' valuation. For the purposes of this valuation Kendons proceeded on the basis that "future maintainable earnings" were $270,434 which was said to be the March 2003 result. PAE submits that this equates to approximately $400,000 of pre-tax profit. It submits that, to achieve a 9% profit on turnover of approximately $11 million, pre-tax profit would need to be around $1 million, which is approximately $600,000 more than Mr Sheehan's view of the pre-tax profit in 2003.[217] However, I have found the statement that CPS was achieving 9% profit on turnover of $11.8 million was made in a telephone conversation between Mr Carter and Mr Leslie. The evidence does not establish that Mr Pattinson knew of this statement or supported it. Nor is it established that Mr Pattinson knew of or supported the 9% figure that Mr Carter referred to in his 25 November 2003 email to Mr Leslie or Mr Carter's email of 15 January 2004 to Mr Wearne where the profit prediction of $607,000 was confirmed as realistic. At the 7 November 2003 meeting the statement was as to turnover ($9.6m) and not margin and PAE has not made any submissions about how that statement contrasted with Mr Sheehan's figures or Mr Pattinson's knowledge of CPS' performance. Mr Pattinson passed on Mr Carter's view on 7 April 2004 about achieving a 7% profit margin but by then PAE had received accounts for December 2003, January 2004 and February 2004 and would soon be receiving the March 2004 accounts. Mr Pattinson may well have thought that Mr Carter's view that 7% would be achieved would be either confirmed or not as the case might be once the March 2004 accounts were completed. [218] PAE relies on a comment in Kendons' letter of 22 December 2003. This letter had been written in response to the complaint about the fee that Kendons charged (refer [27]). The letter records that when Mr Pattinson provided CPS' financial statements to Kendons for the purposes of the valuation Mr Pattinson "expressed concern at the decline in profitability despite the substantial increase in sales". However this is not evidence that Mr Pattinson knew that the turnover of $9.6 million or the 7% profit margin was inaccurate and the statement appears to be contradicted by the improving net asset position each year from 2000. It also appears to be inconsistent with Mr Wearne's evidence that the gross profit in the 2001 to 2003 years was around the 7% mark. [219] PAE further submits that Mr Pattinson was dishonest in other respects. It refers to Mr Pattinson's "statement" to Mr Leslie on 31 January 2004 that he had advice that the company was worth $1.4 − $1.9 million which was directly contrary to the advice he had from Kendons. Mr Pattinson's evidence was that the Kendons valuation was done very quickly and that it did not take account of PAE's wish to purchase CPS and the importance to PAE of building up its relationship with Housing New Zealand with the potential for securing more than the current two ofthe total fourteen Housing New Zealand maintenance contracts. He also said that the Kendons' valuation was about $1 million and when you add the $800,000 (he does not explain this further) you get $1.8 million. He also said that he had heard of housing companies selling in the $1.4 to $1.9 million range. [220] Whatever the validity of the points made by Mr Pattinson, I consider that a false statement about the advice he had received about CPS' value is an insufficient basis on which to conclude that Mr Pattinson knew that Mr Carter's statements about profitability were false, especially as a profitability of close to 7% was supported by the 31 March 2004 financial statements obtained for PAE and Mr Pattinson was not involved in preparing these accounts. [221] PAE relies on other alleged instances of dishonesty by Mr Pattinson. One of these is an alleged inconsistency as to what Mr Pattinson said about the circumstances in which the $350,000 component of the purchase price would be payable. Another is Mr Pattinson's view that PAE was determined to proceed with the purchase which is said to conflict with Mr Leslie's filenote that unless 7% was achieved the purchase price was to be renegotiated. I do not see these matters as inconsistent evidence given by Mr Pattinson, let alone evidence of dishonesty. PAE and the defendants have a different view about the meaning of the clause under which the $350,000 becomes payable and there is nothing in Mr Leslie's filenote to indicate that PAE would walk away unless an agreement was reached on a lower price. [222] PAE also refers to Mr Pattinson's statements about the presence and interest of other buyers. However PAE has not established that any statement made by Mr Pattinson about this was false. Mr Pattinson gave evidence that there was some other interest (refer [82]). He may have given the impression that they were more interested than was in fact the case. He may have misled Mr Leslie about this. But this is not evidence that he was involved in or knew of the errors in the accounts provided by Mr Carter or that Mr Carter's statements about CPS' profitability were wrong.[223] Finally PAE refers to the taking and use of the confidential documents. I consider there is insufficient evidence about this to place any reliance on it and I disregard it.Mr Carter's pre-contractual statements[224] Mr Carter made it plain that no longer kept monthly management accounts. He expressed his view about what he believed CPS to be achieving. He organised the provision of the monthly accounts that PAE requested. When December to February statements indicated profit of less than the 9% Mr Carter had referred to Mr Carter expressed optimism that a higher profitability would be achieved despite the results indicated by the accounts. The 31 March 2004 accounts showed that Mr Carter's 9% prediction was too optimistic. He remained optimistic when Ms Yi first raised her queries. None of this shows that Mr Carter was knowingly making false statements about profitability in the negotiations.The errors in the accounts[225] The defendants refer to the accounts receivable figures in earlier years as evidence that there was no deliberate contrivance in the 2004 accounts. I do not think this assists the defendants because, although the accounts receivable in other years were above the figure that Mr Leonard calculates as the correct 2004 position, it is apparent that the accounts receivable, the cash in bank and the net asset position were all considerably higher in the 2004 accounts than in other years. [226] The defendants point to the possibility that there were historic errors in the accounts. Mr Leonard accepts this is possible. The defendants also point to the evidence that there was an error in the 2003 accounts in respect of the accounts payable. This error is referred to in the correspondence relating to Kendons' October 2003 valuation (see [27] above). Kendons asked Mr Watson questions about the 2003 financial statements including this question:The accounts payable figure in the Central Property Services Financial Statements was adjusted from $990,970 in the initial version to $790,969 in the final version. What accounted for the $200,000 adjustment.[227] Mr Watson's response was as follows:The payable adjustments were advised to us by Mike after reviewing the first draft. There was an error on the spreadsheet used by Mike to compile the 2003 Accounts Payable totals he provided to us (a 4 20K figure was entered as $200K). Mike did not realise at the time we prepared the first draft forwarded to shareholders for review.[228] The evidence is that the accounting procedures allowed errors to occur. Work-in-progress was calculated manually. LMC payments were manually allocated as between CPS and Prestige. Even with New Plymouth invoices cut-off errors could occur because Joblink did not automatically delete invoices when payment was received. The cut-off errors, whereby the $121,000 and $142,000 deposits were not applied against the accounts payable, are examples of this. These errors may have occurred innocently if the accounts were prepared in haste and without care to ensure cut-off errors were detected. [229] The same is true in respect of the errors in the accounts payable. Mr Carter says he ran a "physical cut off" for accounts. If an account was not in his hands as at 31 March 2004 then it was not listed as a creditor. Given that the accounts were prepared in early April it is possible that some of the 31 March 2004 invoices from creditors were received after the accounts were prepared. Mr Leonard said late invoices should have been provided for or subsequently disclosed. No doubt that is true if the accounts payable were calculated as they should have been on the basis of the date of the invoice (discussed below under the warranty claim) but that is not how Mr Carter says they were in fact calculated. Mr Leonard found that some of the missing invoices had been received before the accounts were prepared but did not check the dates on which each invoice was received because, from an accounting perspective, invoices dated 31 March 2004 but received afterwards should have been provided for. Also it is not clear that invoices to Property Care and ResponsiveMaintenance for $67,000 and $26,000 respectively, which Mr Leonard referred to, were deliberately omitted. [230] The defendants refer to legitimate accounts receivable being left out of the 31 March 2004 accounts. That too is evidence that the accounting practices were inadequate. [231] As to the duplicated invoices, it is unclear how they occurred and, in the main, whether Housing New Zealand received the duplicated invoices. It is possible the duplicated invoices were entered manually (the Joblink system apparently not preventing this) or created by exporting and importing (although this required some skill and seems unlikely in respect of the duplications entered by "Mike" as shown in the user log). It is also possible that there was a network, program or system error. If the duplications occurred through manual editing or exporting/importing then deliberate manipulation occurred. If there was a network/program/system error then the invoices were not deliberately duplicated. PAE relies particularly on the number of duplications in March 2004, which is suspicious but, as the defendants say, this is also consistent with the accounts having been prepared at haste. Also, there was no need to enter duplicate invoices to inflate the management accounts because Mr Carter merely provided totals to Mr Watson. It would have been simpler to inflate those without manipulating Joblink. [232] Like the duplications, the unpaid invoices are inconclusive. It is not clear how they were entered or by whom and in any event 17 of them were entered on 3 March 2004. That was five days before the February accounts were requested and well before Mr Carter knew the March accounts would be requested. [233] The four statements provided by Mr Carter in discovery, if genuine, would be evidence of innocent rather than fraudulent errors. However the statements do not match PAE's data. One of the differences between the statements and PAE's data (a duplicated invoice for $2,101.28) was innocently explained but there are many other differences. The evidence focussed on the invoice of $14,248.43 which was entered four times on 31 March 2004 and then reversed. The CPS statement produced by Mr Carter shows this reversal as occurring on 31 March 2004. The financialinformation produced by PAE (the audit trail, list of debtor transactions and the cashbook) shows it was not reversed until 30 April 2004. On the face of it there are two conflicting sets of information about when the reversal was made. In light of this conflicting evidence the parties put forward competing explanations. [234] One possibility is that the four statements were not those produced by Mr Carter in early April 2004. That is Mr Loader's view. Mr Loader's view that the statement is not genuine is because the credit entry on 31 March 2004 is now shown in the audit trail by debtor. [235] A competing possibility is that the 31 March credit was made on 31 March 2004 but was subsequently deleted and replaced by the entry on 30 April 2004 (why this would be done is not clear and, as Mr Leonard said, in a "business as usual" situation it would not be done). Mr Loader's view was that Joblink would not allow this. On the other hand, Mr Jorgensen accepted that all the backup data he looked at was created after 30 April 2004 and that therefore it is possible that there was the reversal on 31 March 2004 which was deleted and replaced by the 30 April 2004 entry. This is to some degree supported by missing "id" numbers around 31 March 2004 in the PAE information. Also, as Mr Potts says, the statement is "in exactly the same layout and format as those which are produced by Joblink". [236] Another odd thing about the statements is that one of the LMC statements contains an addition error: adding the items listed on that statement gives a different total from the total recorded on the statement. The defendants ask why Mr Carter would "create" a statement with this arithmetic error. They say that this points to the statement being produced from the Joblink system because errors of this kind can and do occur. That is because Joblink does not add the items but obtains the total from another data file and the two can be out of synch.Post-Agreement conduct[237] PAE relies on Mr Carter's failure to provide the four statements or any other information to support the 31 March 2004 accounts as evidence that Mr Carter had deliberately manipulated the 2004 accounts. In my view no adequate explanationhas been provided by Mr Carter as to why he did not produce the statements or any other information to support the 2004 management accounts, despite Ms Yi's repeated requests for them. Mr Carter says that he had these in the bundle of documents he gave to Russell McVeigh when the proceeding was issued. He says he printed them from the live system in early April 2004. If that is so, then he had them when Ms Yi was asking for them. Even if he had somehow forgotten that he had them or misplaced them, Mr Potts' evidence was that information to support the figures could be readily produced from the backup data. This contrasts with Mr Carter telling Ms Yi on 15 November 2004 that to recreate the debtors and creditors reports would require substantial work. Mr Carter says he did not think to use the backup data to produce the supporting information, especially as Ms Yi was asking for the actual statements, but this seems surprising in view of Ms Yi's repeated requests for information supporting the accounts that had been provided to PAE. Mr Carter also said that it took a while for him to understand where Ms Yi and Mr Leslie were coming from with their queries, but even so he had ample opportunity to respond with the supporting information. [238] PAE refers to Mr Carter taking his bonus without authority. Mr Carter and Mr Pattinson have given their explanation as to how this occurred. The explanation is plausible, and Mr Carter had been used to running CPS and doing things his way and not checking things with PAE. He must have known that PAE was likely to find out that he had taken the money and so must have believed he was entitled to it. This evidence does not point to a deliberate manipulation of the accounts. [239] PAE says that Mr Carter was dishonest in respect of his wife's pay. Mr Carter did not explain why he made the holiday pay payment when he had been told to obtain Mr Leslie's approval. More significantly his response to the queries raised by PAE about the salary increase were unsatisfactory. If Mr Carter had discussed Mrs Carter's increase in salary with Mr Wearne, then it seems likely that Mr Wearne would have referred to this in his report to Mr Leslie but he did not ([41] to [45]). Also when questioned about the salary increase, and asked for documentary evidence to support it, Mr Carter was unable to supply it immediately. He initially provided a contract prepared after the PAE purchase, then said he would look for it at home and eventually conceded that there was no earlier employment contract. Asto the leave report, on 28 October 2004 he said that a back dated report could not be produced. He then produced one apparently generated on 13 August 2004 (ie. before he told Mr Carter he could not produce it). The report as produced is a curious document. There are a number of obvious errors in respect of other employees. The defendants say that this is consistent with the warning on the leave printout which said:this report has been produced on 13 August 2004 to provide an estimate of the leave liability on 31/12/2003. Due to the difference between these dates, and the dynamic nature of leave entitlements, it is to be viewed as an estimate only. A more accurate estimate is obtained by producing the report to reflect today's current status.[240] PAE refers to Mr Carter's 22 January 2004 filenote, which PAE believes is not genuine, as evidence that Mr Carter was prepared to make up documents to support his case in the Employment Relations Authority proceeding. If genuine (ie. made at or around the time of the meeting), this filenote does seem to be one of the few examples of a filenote being made by Mr Carter. But it is quite a step from there to infer that it was not genuine. [241] The deletion of the user logs up to 2 May 2004 is suspicious. It meant that Mr Loader could not identify who had done the April "tidy up" entry. It is consistent with someone making changes to the financial information but not wanting anyone to know who had made the changes. It is consistent with covering up either fraudulent accounts or innocent errors. However the date this was done (5 August 2005) suggests it was not Mr Carter since it is not clear on the evidence that Mr Carter had access at this time. [242] The Wanganui data is unusual. It includes the deletions on 22 November 2004 under the user name "Mike". It is possible that the deletions were made by Mr Palmer as Mr Carter suggests. But why he would do so is not clear. In contrast, at this time Mr Carter's management had been questioned; he had still not complied with Ms Yi's request to provide the debtors' and creditors' schedules as at 31 December 2004 and 31 March 2004; and Mr Carter knew that PAE was concerned about the accuracy of the financial information disclosed to them at thetime of the purchase. Ms Yi and Mr Leslie had made persistent requests for an explanation and by early November 2004 Mr Leslie was requesting the documentation "as soon as possible". However if the deletions were made by Mr Carter to hide information that Mr Carter knew he had deliberately manipulated then it is not clear why he would have waited to do this until November 2004. Also such deletions, if made by Mr Carter, may have been to hide innocent errors that Mr Carter had discovered, rather than to hide fraud. [243] The significance of some of the information Mr Jorgensen obtained from Mr Carter's desktop has not been explained by either party. For example, it is not explained what kind of information was on the ANZ accounting system. Nor is it clear whether the pattern of some of the deletions was different from deletions made in other periods. The reinstallation of information in July, August and September (shortly before and after Mr Carter's departure) is consistent with the exporting and importing of information but it is unclear if it was Mr Carter, and how he could have done the reinstallations in August and September 2005 when he was gone from CPS. [244] The deletion of Mr Carter's personal email files is suspicious in that it was either deliberately overwritten or eraser software was used. This is consistent with someone having some degree of computer knowledge. Mr Carter says that he did not use eraser software to do that, and he does not know what eraser software is. Mr Carter points out that another PAE employee would have used his old computer in the three months after he left PAE and Mr Jorgensen started his analysis, but there is no obvious reason to delete Mr Carter's emails in this way rather than to delete the emails in the ordinary way. Also the deletions have been made in July 2005, when Mr Carter is about to leave and the proceedings against the defendants had been issued. In light of the proceedings Mr Carter may well have not wanted PAE potentially trawling through his personal emails. I therefore think it likely that Mr Carter did use or arrange for eraser software despite his denial of this. [245] The data provided by Mr Carter on the CD Rom from the information stored on his laptop is suspicious. Mr Jorgensen was unable to read any data prior to April 2004 although it was apparent that there was data that went back to 23 December2003. This is consistent with an attempt to hide information from PAE – whether to cover up fraud or innocent errors. [246] The crashing of Mr Carter's laptop, and the timing of that, is also suspicious. The defendants accept that it looks suspicious but say that if Mr Carter had wanted to hide information on the laptop then he would not have told PAE of its existence. The defendants say that PAE knew of Mr Carter's laptop in 2006 because it was referred to in correspondence. The defendants also refer to Mr Carter's statement on 27 July 2007 of the LMC schedule produced "from my backup". They say that the request to examine the laptop was opposed because the laptop contained privileged, confidential and irrelevant material. They refer to the offer made for an informal inspection of the laptop. They also say that if Mr Carter wanted to conceal information on his laptop then he had over two years to do so. [247] The defendants also submit that co-incidences can and do happen. Computers can fail of their own accord and Mr Spence's view is that this particular model was more prone to failures than others. Also the analyst referred to scarring on the platter as looking more like a natural fault. It is possible that the drive head was missed by the analyst. On the other hand, the analyst was looking for the drive head and so was careless if he missed it. The analyst also said that it was "rare" for the removal of the drive head to occur due to impact or general wear-and-tear. Further, the experts are agreed that it is possible, albeit difficult, to remove the warranty sticker. Removing the drive head was an effective form of sabotage and would only be discovered if someone went to the trouble of inspecting the disc. Eraser software would have been an easier method to remove the information but its use, and the timing of its use, may have been apparent (as Mr Jorgensen's investigations on Mr Carter's former desktop computer illustrate). The felt markings are strange but inconclusive and I put them to one side.Conclusion on fraud[248] The evidence of alleged dishonesty by Mr Pattinson in the pre-contractual negotiations does not assist PAE's claim that the accounts were deliberately manipulated. Such dishonesty has not been established. Further, there is noevidence that he was involved in the preparation of the accounts provided to PAE. The evidence is that Mr Carter supplied the information for the accounts. [249] The combination of the conflicting documents concerning the reversal of the $14,248.43, the deletion of the user logs up to 2 May 2004, the deletions on 22 November 2004 on the Wanganui data, Mr Jorgensen's evidence concerning Mr Carter's desktop computer (in particular, the use of eraser software or overwriting to delete Mr Carter's personal emails), the failure to provide information to Ms Yi and Mr Leslie to support the March 2004 accounts, Mr Carter's responses to the questions about Mrs Carter's salary, the inability to read the data provided by Mr Carter from his laptop, the crashing of the laptop and its timing, point strongly to the deliberate concealing of information but does not indicate whether this was to hide the deliberate manipulation of accounts or innocent but large errors subsequently discovered. [250] The accounting practices of CPS were inadequate (eg. in how creditors were determined), the system allowed errors to occur, and there appear to have been historic errors in the accounts. There is other evidence that some errors were probably innocent, namely, the six invoices entered twice on 23 March 2004 that appear to have been caused by a network error. The books and systems were open to PAE throughout the due diligence. The only thing Mr Carter withheld until towards the end of the deal were the rates it tendered to Housing New Zealand. PAE was able to meet with Housing New Zealand. It was able to meet with Mr Watson. It did not ask for the supporting statements for the figures compiled by Mr Watson. There was also the risk that PAE would ask for the supporting information and investigate what had occurred after the sale when the performance would not match what was disclosed in the accounts. Because of this risk the deliberate manipulation of the accounts does not make sense. From the outset Mr Leslie made it clear he wanted to keep Mr Carter on and Mr Carter was willing to stay on. Mr Carter would therefore be taking the risk that while still employed by PAE any such manipulation of the accounts would be uncovered.[251] I record that there was nothing in the way Mr Pattinson or Mr Carter gave their answers that was of any concern and as a result this neither pointed in favour or away from a finding of fraud. [252] On balance, reconciling the evidence of concealment with the evidence that indicates innocent errors, I consider that fraud in the pre-contractual statements about profitability and in the preparation of the accounts is not made out. In finding this I bear in mind that strong evidence of fraud is required (based on the principle that the more serious the allegation the less likely it is that it occurred – see, for example,Kain v Hutton [2007] NZCA 199 at [113]) and I consider that the evidence falls short of that. While I am not satisfied that PAE has established that the accounts were a deliberate contrivance (whether to achieve a sale at all, or at a particular price or to support the other pre-contractual statements), I am satisfied that there were deliberate efforts made after PAE's purchase to hide the errors. By the time the deletion of the Wanganui data was made Mr Carter must have known that there were serious errors in the accounts and that PAE was not going to drop the matter. He had already handed in his resignation. By the time Mr Carter produced the CD Rom from his laptop the defendants were facing a significant claim in which fraud was alleged and when the laptop crashed Mr Carter knew that orders to inspect the laptop were being sought from the High Court.Value of CPS[253] PAE claims damages for the difference between what it paid and what it would have paid if the 31 March 2004 accounts had been accurate. There is the following evidence of CPS' value at the time of purchase before the Court:Purchase price $1.25m plus $350,000 (based on the accounts supplied)Wearne evidence $286,000 (based on Mr Leonard's view of the true financial position)Leonard evidence $600,000 (based on Mr Leonard's view of the true financial position)Vance evidence a) $2,031,000 (based on accounts supplied up to December 2003) b) $1,229,000 (based on the defendants' view of the true financial position) c) $1,395,000 (based on Mr Leonard's view of the true financial position) d) $1,680,000 (based on the defendants' view of the financial position)Mr Wearne's valuation[254] In December 2004 Mr Leslie instructed Mr Wearne to reassess the purchase price based on the profit level being slightly less than a 2% margin as per the profit levels PAE considered CPS had obtained. Based on CPS' performance to the end of November 2004 Mr Wearne calculated that the total tax paid profit would be $148,000 for the calendar year of 2004 and extrapolating that through to the contract term of 30 June 2004 the total tax paid for that period would be $222,000. This compared to the $387,000 per annum figure used in his previous calculations. Using the same calculation process as he had used at the time of the purchase of CPS, Mr Wearne recalculated the value of the company at $857,300. Based on the reconstructed creditors and debtors' figures, and the contract terminating at 30 June 2005, Mr Wearne calculated that the purchase price that should have been paid was $286,000 (compared with the $1,250,000 that was paid if the contract had not been extended beyond 30 June 2005). His valuation of $286,000 is well out of line with the other valuation evidence and I accordingly reject it.Mr Leonard's valuation[255] Mr Leonard discussed the two potential valuation methodologies: weighted average cost of capital and discounted cashflow. He considered that the former is not the appropriate methodology in this case. Applying the latter (which is the approach Mr Wearne used at the time of the purchase) he said that the internal rate of return was 26% based on the expected cashflow had the financial data been accurate. He said that applying this rate of return to the correct balance sheet data (the value of the accounts receivable being reduced to $260,000 and the future maintainable earnings to $220,000 per annum) the price would be $560,000. [256] He also said that if PAE was successful in its tender to 30 June 2008 (as it was) the purchaser would have achieved a return of 67% on the purchase price and on the corrected data that would have meant a purchase price on $460,000.[257] Although he did not consider the weighted average cost of capital to be the correct approach, he said that Mr Vance's capitalisation rate (see below) of 18.7% is inappropriate because of the "considerable risk" that the Housing New Zealand contract would be lost in June 2005. He applied the capitalisation rate of 33% because that is the rate Kendons used in its October 2003 valuation. He applied this to future maintainable earnings of $200,000 (cf. the $220,000 he has referred to above) resulting in a value of $606,000. [258] He concluded that if the financial data had been accurate a purchase price of no more than $600,000 would be paid. This valuation took into account the small effect on revenue from some of the understated creditors being recoverable from Housing New Zealand (see below under the warranty claim).Mr Vance's valuation[259] Mr Vance's evidence was that the value of CPS was most appropriately valued on a capitalisation of future earnings basis rather than a discounted cashflow basis. (Mr Wearne and Mr Leonard disagreed with this.) Mr Vance reviewed the financial performance of CPS for the three years ended 31 March 2001 to 2003. He also reviewed the financial performance for the nine months ending 31 December 2003. He did not use the period 31 October 2003 to 31 March 2004 because of the debate concerning the accuracy of the 31 March 2004 accounts. From these he estimated the post tax future maintainable earnings that could be taken from CPS as being $290,000 to $310,000 per annum. In reaching this figure he applied a weighting to the earlier accounts because the figures to 31 December 2003 were only management accounts and therefore subject to uncertainty. [260] To the future maintainable earnings he applied a capitalisation rate of 18.7%. (The capitalisation rate is a combination of an allowance for risk and return that an individual investor may believe is appropriate for the investment opportunity and an adjustment for growth in the future maintainable earnings that can be expected to be achieved for the future life of the business.) Applying his capitalisation rate to the future maintainable earnings provided an indicative value of $1,551,000 to $1,658,000. To this Mr Vance added $427,000 being cash in the bank as atDecember 2003. He viewed this cash as being in excess of the ongoing requirements of CPS and so available to be taken without impacting on CPS' ability to earn profits in the future. This gave a total value range of $1,978,000 to $2,085,000 and a midpoint value of $2,031,000. This value did not factor in any of the possible synergies that might accrue to PAE. [261] Stepping back Mr Vance considered his valuation to be reasonable because of the consistent performance of CPS over the years and the significant build up of cash. In Mr Vance's view this value, as compared with PAE's purchase price of $1,600,000, of which $350,000 was conditional and in any event not payable for at least 15 months, showed that PAE's purchase price was good value. [262] Mr Vance then gave evidence as to his view of what the purchase price may have been if in due diligence it was discovered that the financial position was as PAE says it was. He said that this exercise is not that straightforward because not all of the alleged discrepancies only either reduce income or increase expenses. He concludes that an appropriate future maintainable earnings figure in this scenario is $180,000. To this he applied his capitalisation rate of 18.7% to produce a value of $963,9000. To this he added the surplus cash which by 31 March 2004 had increased to $541,000. But on the basis that debtors were in the ball park of $500,000 and creditors $775,000, some of this cash ($275,000) should be reserved to meet the deficit. This left $266,000 cash to be added to the value of $963,000 and gave a value of $1,229,000. Again, standing back, Mr Vance considered that this valuation was reasonable. [263] Mr Vance updated this evidence in a supplementary brief. Mr Vance used a future maintainable earnings figure of $260,900. (This was based on estimated earnings of $273,000 for the year ending 31 March 2004 to which he applied a 65% weighting.) To this he applied his capitalisation rate of 18.7% to give a value of $1,395,000. There was then the question of whether there was surplus cash to be added which depended upon whether the debtors were overstated by $361,000 (as per the defendants' view of what had been proven) or by $674,000 (as per Mr Leonard's view). If the latter there would be no surplus cash to add and the valuewould be $1,395,000. If the former there would be surplus cash of $285,000 and the value would be $1,680,000Assessment of value[264] In my view Mr Vance's first valuation is far too high. It is way out of line with the others. It is above Mr Pattinson's view of CPS value (as per his position that he had advice that the company was worth between $1.4 and $1.9m) and above what the defendants were prepared to sell at on the inflated financial position in the 31 March 2004 accounts. I take the same view of Mr Vance's valuation of $1.68m. It is too high – I agree with Mr Leonard's evidence that this is demonstrated by the price that the two parties agreed to on the basis of the position set out in the management accounts. I accept Mr Vance's point that the inaccuracies in the accounts do not translate dollar for dollar in the price but the inaccuracies were substantial. The evidence is that PAE relied on the accounts in deciding whether to proceed and at what price (this is discussed further below). [265] The components affecting valuation on Mr Vance's methodology are the future maintainable earnings and the capitalisation rate. As to the former Mr Vance used $180,000 in his second valuation and $260,000 in his third and fourth valuations. Mr Leonard used figures of $200,000 and $220,000. The appropriate amount depends on the figure to be used for the 2004 accounts and the weighting to be given to those results. There appears to be no correct answer to this. I propose to take the approximate midpoint between $220,000 and $260,900 and proceed on the basis of $240,000. [266] Mr Leonard and Mr Wearne criticise the capitalisation rate used by Mr Vance. This is because they say it fails to take into account that the business activity was at risk of being lost when the contract was due to terminate. Mr Leonard refers to Kendons' capitalisation rate of 33%. But Kendons did not give evidence at the trial to explain why it chose this figure and this is not explained in their valuation. It was put to Mr Vance in cross-examination that the impliedly agreed capitalisation rate was 33% based on a purchase price of $1.25 million. For the defendants it is submitted that even on this basis the capitalisation rate would be25.4% because the agreed purchase price was $1.6 million. To this the defendants suggest a further reduction in the rate to allow for growth. [267] Again there appears to be no correct answer. The 18.7% rate is criticised by Mr Leonard and Mr Wearne as too low because of the "substantial" risk of a one contract business. Mr Wearne also refers to the lack of negotiability attaching to shares in an unlisted company. The 33% rate may, however, overstate the risk because there was considerable confidence that the contract would be retained and part of the purchase price was held back and was contingent on that. Mr Leonard accepted that the 33% rate includes a "significant element" for the "good possibility" that the Housing New Zealand contract would not continue. This supports my view that the 33% rate overstates the risk. [268] Again I propose to take the approximate midpoint. I proceed on the basis of a capitalisation rate of 25%. Applying that to future maintainable earnings of $240,000 gives a valuation of $960,000. I do not add any amount for surplus cash because I have accepted Mr Leonard's calculation of the financial position as at 31 March 2004. This is above Mr Leonard's figure of $600,000 using the other methodology, but his valuation appears to be based on the contract terminating in 30 June 2005. If the purchase price was structured as per the negotiations a further $350,000 would be payable on renewal. Mr Leonard accepted that a greater purchase price could be justified if it was structured so that there was a later payment when certain risks were known or reduced. A payment of $600,000 upfront and a further $350,000 in a year's time is not too far from the $960.000 figure I have come to. I therefore do not find it necessary to decide which valuation methodology was more appropriate. The figure I have come to is also not out of line with Kendons' valuation in October 2003. In round terms a purchase price of $1 million may have been offered and accepted (with part of this amount held back and conditional on renewal of the Housing New Zealand contract) once the inaccuracies in the accounts had been corrected.First cause of action: fraudulent misrepresentations[269] A party induced to enter into a contract by a misrepresentation is entitled to damages as if the representation were a term of the contract that has been broken: s 6 of the Contractual Remedies Act 1979. However in this case the agreement for sale and purchase contained an exclusion clause (the "entire agreement" clause) in these terms:This agreement (and any Schedules to it) constitutes the entire agreement between the parties and supersedes all prior agreements, understandings, negotiations, representations, and discussions, whether oral or written, of the parties. The vendors make the representations and warranties set forth in clause 7 and no others. The obligations of the vendors under this agreement are joint and several. Any and all implied warranties are expressly excluded. No supplement, modification, or waiver of this agreement is binding unless in writing and signed by the parties. The vendors and/or the purchaser may, at its or their option, waive, in writing, any or all of the conditions in this agreement to which its or their obligations are subject. No waiver of any of the provisions of this agreement is to constitute a waiver of any other provision (whether or not similar), nor shall such waiver constitute a continuing waiver unless expressly provided.[270] The clause therefore sought to exclude damages for any pre-contractual representations that were not included in clause 7. The only relevant representation made in clause 7 of the agreement about the accounts was that all the liabilities had been disclosed in the 31 March 2004 statements (see from [299] below). The clause therefore sought to exclude any other representation about the financial position of PAE as disclosed in the 31 March 2004 accounts. [271] Despite the exclusion clause, the Court is not precluded from inquiry into whether there was a misrepresentation relied on by PAE: unless the Court considers that it is fair and reasonable that the provision should be conclusive between the parties, having regard to all the circumstances of the case, including the subject-matter and value of the transaction, the respective bargaining strengths of the parties, and the question whether any party was represented or advised by a solicitor at the time of the negotiations or at any other relevant time (s 4(1) of the CRA).[272] If pre-contractual misrepresentations were made fraudulently then it has been accepted that it is not "fair and reasonable" that the exclusion clause is conclusive. Examples cited by PAE are Bird v Bicknell [1987] 2 NZLR 542; and Ellmers vBrown (1990) 1 NZ ConvC 190,568. The defendants submit that if fraudulent misrepresentations were always to override an exclusion clause then this would have been expressly stated in s 4(c) of the Contractual Remedies Act. [273] The parties made submissions about the meaning of fraud in this context and refer to a number of cases (although some of the cases relied on by PAE are not in the context of a claim under the Contractual Remedies Act). PAE submits that the test is an objective one to determine the standard of honesty that would be expected of the defendants in their position. PAE also submits that fraud encompasses wilful blindness. The defendants say that conscious deceit is required (and recklessness is insufficient). They submit that PAE must establish a lack of honest belief, and that because of the seriousness of the allegation the evidence must be strong for the Court to be satisfied that it has been established on the balance of probabilities. [274] I consider that if it had been established that the invoices were deliberately manipulated then it would not have been fair and reasonable for the "entire agreement" clause to apply. However this was not established. Nor was it established that the other pre-contractual statements were made fraudulently. I consider that whether it is fair and reasonable for the "entire agreement" clause to apply if the representations were made recklessly is better dealt with under the second cause of action. This cause of action fails.Second cause of action: negligent misstatementWhat representations were made?[275] Statements relied on by PAE as representations that are proven to have been made are those set out at [198] above, as well as the financial position set out in the 31 March 2004 accounts.Who made the representations?[276] Mr Brosnahan is not said to have made any of the pre-contractual statements about profitability. Mr Pattinson is said to have made two of them. Mr Carter is implicated in all of them. The defendants submit that there can only be potential liability as against those that have made the statements because no form of agency has been alleged or proven. However, the evidence establishes that the negotiations were to buy the shares from all three defendants. Mr Brosnahan may not have known what information was being provided (he did not give evidence) and Mr Pattinson may have relied on Mr Carter to provide the financial information. But in supplying the information Mr Carter was doing so on behalf of all three defendants who were selling their shares. [277] The defendants submit that the representations in the management accounts were made by Mr Watson. They refer to the evidence that Mr Carter passed on Mr Watson's responses (refer [48]), evidence that PAE relied on Mr Watson (eg. Mr Wearne's advice to PAE that Mr Watson was ethically bound to exercise an independent view and be objective about the data provided, that PAE had been assured that the accounts were consistent with the relevant financial reporting standards, and that they understood Mr Watson to be sufficiently involved so that the accounts would be accurate). These matters are all relevant to whether Mr Watson may have owed a duty of care to CPS (although there was a disclaimer of liability which amongst other things purported to exclude liability to anyone other than CPS). That CPS asked Mr Watson to prepare the accounts also means that Mr Watson had contractual and/or tortious obligations to CPS. [278] But obligations owed by Mr Watson to CPS, and the possibility that Mr Watson may have owed a duty of care to PAE were it not for the disclaimer, does not address the issue of whether the statements were CPS representations. The accounts were CPS' accounts. PAE requested them and Mr Carter supplied them. In supplying the accounts, as CPS' accounts, the representations were made on behalf of all three defendants as the shareholders of CPS.Are they representations?[279] There is no dispute that the financial statements are representations. The defendants say, however, that the other pre-contractual statements are not. The defendants submit that a representation relates only to a past or present fact, not a future fact, and the truth of a representation is to be assessed at the time the representation was made (they refer to Transit New Zealand Ltd v Pratt Contractors Ltd [2002] 2 NZLR 313). They submit that a representation under the Contractual Remedies Act "must be a statement of past or present fact and neither a representation as to a future state of affairs nor a mere expression of opinion not coupled with a false assertion, express or implied, that the opinion is a belief honestly held" (per Ware v Johnson [1984] 2 NZLR 518). They submit that the statements concerning profitability are statements of opinion. [280] PAE submits that the statements were intended to be taken as a statement of current profitability. It too refers to Ware v Johnson. It submits that the position is similar to that case where statements that a kiwifruit orchard would produce in two years time were found to be misrepresentations of current fact as they implied the orchard was in a certain state at the time of sale. PAE submits that a case more similar on the facts to the present case is New Zealand Motor Bodies Ltd v Emslie[1985] 2 NZLR 569. In that case a budget forecast was found to be a misrepresentation of current fact because such a forecast had to follow logically from the current state of business. [281] The statement at [198] a) is a statement as to the current performance of CPS and was not a future prediction. The statement at [198] c) is in part a statement of opinion as to what will be achieved, but is also a statement as to CPS' current performance. The statement at [198] e) was in part a statement of opinion but was also a representation about the past performance. The statement at [198] f) was as to the performance in those months (7% for December to February) and was not a future prediction. The statement at [198] g) was a statement about the future performance. Taking all the statements together, the defendants initially represented that CPS was currently performing at 9% and this then became at least 7%. In my view these statements were "representations". These representations were erroneous– even just accounting for the duplicated invoices, profitability was 5% and the true position if it could be established may have been lower still.Did the representations induce PAE to enter the contract[282] PAE must establish that it was induced by the representations to enter the contract. The defendants say that PAE was not induced because it took a deliberate risk as to the truth of the matters stated, it would have entered the transaction even if the true position were known and it relied on its own information. The defendants say that PAE had advice that Mr Carter's predictions as to profitability were not reliable, that PAE had full access to CPS' records and so could make its own assessment, that PAE was aware that there were problems with the accounting system, that PAE ignored the advice that it should check the veracity of the information with Housing New Zealand and that PAE would have been able to verify the information had it taken the appropriate steps. These are matters that go more to the reasonableness of any reliance on the accounts and are better assessed elsewhere (see [292] to [298]). [283] In my view the evidence does not establish that PAE relied on representations of 9%. PAE did not expect the profitability would be 9%. It was described by Mr Wearne as being "grossly inflated" (see [42] above). PAE accepts this because it submits:PAE did take the 9% projections with a grain of salt, given Mr Wearne's observations on Mr Carter's projections. Although he was representing 9%, it down scaled its expectations to 7%".[284] In my view PAE did not rely on the 7% statements either. This is apparent from: a) Mr Leslie's decision to proceed at the negotiated price on the basis of profit of 6.8% (refer [93]); b) Mr Leslie's statement to the PAE board that he would be pleasantly surprised if 7% was achieved (refer [88]).c) Mr Leslie's comment to Mr Pattinson that he would have purchased PAE if the profitability was less. d) PAE obtained the monthly accounts so that it could make its own assessment of the value of CPS (a point accepted by Mr Leslie in cross-examination). [285] In my view (and putting to one side the effect of the "entire agreement" clause which is discussed below) the evidence establishes that PAE did rely on the accounts in deciding to proceed with the purchase and at what price. This is apparent from: a) The series of requests for the accounts as the negotiations proceeded (refer [46], [63], [74] and [89]); b) Mr Wearne's calculations were based on the financial statements (refer [81] and [92]) and, as Mr Leslie said in cross-examination, "we bought it on the basis that we needed to recover our money if the contracts weren't extended"; c) The questioning of the statements about profitability as compared with the accounts ([69] and [74]); d) The PAE directors' questions as to the reliability of the financial records ([62] and [76]); e) Mr Leslie's filenote that the price would need to be renegotiated if the profit before tax fell below 7% (refer [80]) and Mr Leslie's (unsuccessful) attempt to negotiate the price based on the figures of 6.8% (refer [93]); and f) Mr Leslie's report to the PAE board as to the basis for the purchase price (refer [61]).[286] The defendants refer to the requirement to show that the defendants intended to induce "a normal person in the circumstances of the case" to rely on the representation in entering into the contract (they refer to Savill v NZI Finance Limited [1990] 3 NZLR 135, 145). The defendants opened their books to PAE, made available their accountant and offered for PAE to meet with Housing New Zealand. That is all evidence that the defendants anticipated that PAE might wish to make its own enquiries. However, there was no point in providing the accounts if it was not intended that PAE place some reliance on them in its decision to purchase CPS and at what price. I find that the defendants did intend PAE to rely on the statements about profitability and the accounts. [287] The defendants submit that PAE was motivated to purchase CPS "on the basis of what it would become, not what it was". The defendants refer to the evidence that PAE saw CPS as a chance to gain access to Housing New Zealand and to expand its business by performing well under the 2002-2004 contracts. They refer to the evidence that a further motivation was to prevent competitors from entering the market. They also refer to evidence that PAE thought it could make more money with CPS by managing it differently and Mr Leslie's post-settlement discussion at a restaurant where he said he would have purchased CPS even if it were making a 3% profit. [288] The factors the defendants have mentioned may well have been relevant in PAE's decision to purchase CPS. On the evidence, however, the price at which PAE was prepared to purchase CPS was based on the financial position of CPS as represented to PAE in the accounts. I consider that had the financial position been accurately presented PAE would not have been prepared to pay $1.6 million. In view of my findings above, at most it may have offered a sum of around $960,000 and potentially $1 million (as a rounded up assessment of its value). [289] The defendants refer to the large number of reports produced by Mr Wearne and Mr Leslie in deciding whether to purchase CPS in which they made their own profit projections and assessed the worth of the company. They say that PAE relied on its own business acumen and that of its advisers rather than material produced by the defendants. In support of this submission they refer to Attwood v Small & Ors(1838) 6 Cl & Fin 232; 7 ER 684; [1835-42] All ER 258 (HL). In that case the purchaser did not rely on the representation but instead carried out its own investigations. This meant that there was no reliance on the representation by the vendor. However, the important point is not whether PAE carried out any of its own investigations and review, but whether its own investigations and review meant as a matter of fact that it did not rely on the representations. In this case the evidence shows that it did rely on the representations in the 31 March 2004 accounts (refer [285] above). [290] The defendants also refer to Buxton v The Birches Time Share Resort Ltd[1991] 2 NZLR 641 as authority for the proposition that if the risk in the purchase was obvious then those who purchased must have been prepared to run the risk. They say that the risks here were obvious. They refer to PAE's knowledge that Mr Carter lacked hands-on financial appreciation (according to Mr Wearne's assessment), that there were difficulties with Joblink and that the financial accounts provided were a "compilation" (see [90] above) and were unaudited. They also refer to the evidence that Mr Leslie and Mr Wearne considered reasons why the 31 March 2004 accounts were high compared with earlier results, and Mr Wearne's advice that PAE should be cautious in assuming that the 31 March 2004 figures were sustainable (refer [95]). The defendants also refer to other inquiries that PAE could have made and that some PAE personnel now consider its due diligence was inadequate. [291] However Buxton concerned whether misrepresentations were made – that is, because it was obvious from the whole of the material provided by or on behalf of the vendors what the true position was, there was no misrepresentation. Here the question is different – misrepresentations have been established and the issue is whether PAE relied on them in entering the Agreement at the price it did. The matters relied on by PAE are relevant to whether it is just and reasonable to inquire into damages (see [294] to [298] below) but the position remains that the accounts were provided with the purpose of PAE relying on them in deciding whether to purchase CPS and PAE did rely on them.Is the Court precluded from inquiry?[292] The issue is whether it is fair and reasonable for the Court to inquire (s 4(1) of the Contractual Remedies Act) although the accounts were not fraudulently manipulated. Essentially PAE's submission is that the accounts were so wrong and so inadequately prepared, yet there had been assurances as to their accuracy, that it is fair and reasonable for the Court to inquire. [293] The defendants advance the same reasons here as for their submissions that PAE was not induced to enter the Agreement on the basis of the accounts. In my view they are more relevant here although I do not accept all the points that are made. [294] The defendants criticise PAE's due diligence because the errors were not detected. Mr Leonard says that it was apparent to him "at an early stage that at the very least a current receivables figure in the order of $900,000.00 would not reflect an expected average from a business like this". This was because CPS turnover was almost entirely from Housing New Zealand. Housing New Zealand paid CPS three times every month and paid all invoices received five days before each payment cycle. CPS would not therefore be likely to carry a month's work of turnover as a receivable debt. If this was apparent to Mr Leonard then arguably it ought to have been apparent to PAE in the due diligence process. Ms Yi also accepted evidence that PAE could have detected the errors at the time. This is not, however, evidence that the due diligence was inadequate because they were not in fact detected. [295] What is an appropriate level of due diligence is not an exact science, and a full audit will not always be appropriate. Mr Leonard confirmed this when he said "how far you go with enquiries is difficult". However if PAE was not intending to conduct a full audit of the accounts, PAE had the opportunity to discuss the accounts with Mr Watson in order to be satisfied as to how they were prepared. Ms Yi said that she would have wanted to speak with Mr Watson if she had been doing the due diligence. Mr Wearne said in re-examination that initially Mr Carter did not want him to meet with Mr Watson (although there was no reference to that in his reports to Mr Leslie and it contrasts with his view that Mr Carter was forthcoming – see [38]above) and that later in the negotiations he was not back in Palmerston North to do so. But the fact remains that Mr Wearne (or someone from PAE) could have done so. [296] Mr Carter expressed his confidence about the accounts, and passed on comments said to have come from Mr Watson which provided PAE with some comfort. But these assurances must be balanced against the statement that the accounts were a compilation only, the disclaimer, that the accounts were unaudited and that PAE could have but did not discuss them with Mr Watson directly. [297] There was no imbalance in the bargaining power between the parties. PAE was a substantial company. It was making a not insignificant investment and it had the time and opportunity to make whatever inquiries it wished to make. It had access to accounting advice (internal and external). It had access to legal advice in the course of due diligence. That legal advice raised whether the accounts receivable were collectible and whether the Agreement should contain a minimum guarantee in this respect but Mr Leslie and Mr Wearne apparently did not see that as necessary (see [66] and [67] above). The Agreement was drafted by PAE's lawyers. PAE says that the lawyer's involvement in drafting the Agreement was minimal, but that does not matter. The point is that PAE had access to its lawyers and instructed lawyers to assist with the Agreement and could have obtained greater assistance if it wished to. PAE could have included a warranty in respect of the financial position or negotiated an adjustment in price if the audited position was materially different from the accounts supplied. It did none of these things. It considered that it had a good opportunity to check that profits were sustainable and apparently did not want to pay a higher price to obtain increased certainty about that (see [96] above. See also [81].) There is nothing inherently unfair about the content of clauses 7 and 19. [298] The size of the errors in the accounts, and that they were negligently, and perhaps even recklessly, prepared and that some assurances were provided about them via Mr Carter are an insufficient basis in my view to not hold the parties to what they agreed. The defendants' subsequent actions in seeking to conceal the errors that were made are actions after the Agreement was entered into. I do notthink these are relevant to the assessment of whether it is fair and reasonable to hold PAE to what it agreed (although these actions may well be relevant to costs). [299] This cause of action fails. Had the claim succeeded it would have been necessary to determine damages. Because the understatement in the accounts payable is claimed under the warranty, under this cause of action PAE claims as an additional sum the overstatement of the debtors which I have found to be $713,025 ($969,468 - $256,443).Third cause of action: warrantyThe issue[300] Clause 7(c) of the Agreement provided that:The vendors jointly and severally warrant with the purchaser thatall liabilities of the companies have been disclosed in the financial statements as at 31 March 2004 supplied to the purchaser.[301] The defendants acknowledge that this warranty was breached, but contest the quantum of damages claimed by the plaintiffs. The amount claimed as damages for the breach of warranty is $235,606. This is Mr Leonard's calculation as to the difference between the accounts payable as stated in the accounts and the amount Mr Leonard calculates it should have been (refer [153] above). (It is slightly more than the amount claimed in the statement of claim because it includes holiday pay that was owing as at 31 March 2004 but not included in the accounts. This sum was claimed in the misrepresentation cause of action so the defendants were aware of it and are not prejudiced by PAE amending the relief it claims in this way.)The evidence[302] Mr Vance says that in accepting (broadly) Mr Leonard's calculations of the true accounts payable figure as at 31 March 2004 he took an "accounting" approach to the recognition of invoices in particular time periods, which he notes may bedifferent from the legal question of when liabilities arise. Relevant to the submission advanced by the defendants under this cause of action, Mr Vance identified the following errors as having been made: a) A "cut-off" error occurred where invoices were entered into the creditors system, which were then removed because a payment had been set up, but the payment was not made until 31 March 2004. This error occurred in relation to two creditors and resulted in an understatement of $94,402.80. b) A second type of "cut-off" error occurred where an invoice dated on or before 31 March 2004 was not received until after 31 March 2004 and after the March results were prepared for PAE. However some of these related to work that was to be on-charged to Housing New Zealand. If these creditors were included in the accounts payable, then the amount to be on-charged to Housing New Zealand would also need to be included in the accounts receivable (ie. an offsetting benefit to debtors). This second type of cut-off error resulted in an understatement of $108,870.91. Of the creditors of this type, Mr Vance calculates that there are creditors totalling $72,590.02 where the invoice was not received by 31 March 2004 and for which there was no offsetting benefit to debtors. He calculates that there are creditors totalling $36,280.89 where the invoice was received by 31 March 2004 and there was or was likely to be an offsetting benefit to debtors (that benefit he calculates to be $39,117 based on the estimated profit of the on- charge). c) An error arose in respect of a particular creditor because the arrangement between Housing New Zealand, CPS and the subcontractor meant that CPS did not know work had been carried out until Housing New Zealand deposited money in its bank account. The error resulted in an understatement of $25,729.55.d) Two creditor items that were included but should not have been which total $6,527.88.Submissions[303] The defendants' submission is that "liabilities" in clause 7(c) refers to legal liabilities. It sees this as being potentially different from the accounting question of the amount to be included in the accounts payable in the financial statements for 31 March 2004. The defendants submit that if an invoice was not received by 31 March 2004 then CPS cannot have had any liability to pay that invoice by 31 March 2004. The defendants also say that "most" supply contracts provide that payment is due a certain number of days from receipt of the invoice. They submit that an invoice by invoice approach is required to establish "liabilities" for the purposes of clause 7(c). [304] They also say that regardless of what the liabilities should have been, damages for a breach of the warranty must compensate for the loss suffered. They say that where a corresponding debtor has also been left out there is no "loss" because the missing creditor is able to be on-charged to Housing New Zealand. They also say that the calculation of the loss must take account of the GST credits the plaintiff would have received on the additional liabilities it had to pay. [305] The defendants submit that the understatement of liabilities meant that PAE had to pay out more money to discharge its liabilities to creditors than it believed would be necessary when it agreed to purchase the CPS shares. A component of this additional sum was GST. This GST component will have been claimed as a credit against CPS' liability to pay GST on sales (ie. debtors). Accordingly the defendants submit that the plaintiffs' loss in making the additional payments to creditors ought to reflect a deduction for the GST saving attached to those payments. [306] In support of this submission the defendants refer to two cases. The first case is Levison & Ors v Farin & Ors [1978] 2 All ER 1149. In that case there was a warranty in an agreement for sale and purchase of shares that the overall financial position of the company would not change adversely between the balance sheet dateand the completion date. The warranty was breached which meant that the purchaser received shares of a company with a net asset value less than had been warranted. This meant that the purchaser had paid more for the shares than it was worth. On the other hand the trading losses which produced the reduced net asset value were able to be credited against the tax to be paid on the profits that were later earned by the company. The Court held that this benefit should be offset against the loss from the lower net asset value. The damages were therefore reduced by the amount of the tax benefit received from the lesser tax paid. [307] The second case relied on is Gunton v Aviation Classics Ltd [2004] 3 NZLR 836. That case concerned a misrepresentation as to the condition of a helicopter purchased by the plaintiff. Damages were assessed as the cost of repairs less the GST on that cost because the plaintiff could claim the GST cost as an input credit. In addition, damages were reduced to take account of the repairs leaving the plaintiff with a better helicopter in some respects than he had contracted for. [308] On the basis that invoices received after 31 March 2004 and/or in respect of which an offsetting debtor existed were not "liabilities", the defendants concede liability under the warranty to the extent of $120,132.35. However from that sum the defendants contend that GST is to be deducted. That gives rise to a conceded claim under this cause of action of $108,119.12. [309] PAE submits that the date liability arises is the date of the invoice. It submits that clause 7(c) is concerned with whether the accounts payable figure in the financial statements is correct. The purpose of the warranty is to protect the purchaser from paying additional liabilities than had been disclosed to it at a particular date. Damages are the difference between what was provided for in the accounts and what ought to have been provided. It also submits that the damages ought not to be reduced to account for GST. It submits that the defendants would get a GST credit through the payment of the warranty, which they may offset against any GST liability they may have and that PAE may need to account for the GST received from the defendants.My view[310] The warranty is not about when payments are required to be made – that concerns payment and credit arrangements as between CPS and its suppliers. Credit arrangements do not affect whether a liability has been incurred. Nor is a liability determined by the date CPS receives an invoice. A liability exists if a debt has been incurred which has not yet been paid. The warranty relates to the disclosure of liabilities in the financial statements. What should have been disclosed in the financial statements is an accounting question. Mr Leonard's view is that invoices dated on or before 31 March 2004 should be included in the financial statements. I understand Mr Vance to have the same view (although he notes that legal liability is a different issue). [311] I therefore do not accept the defendants' submission that the warranty covered only those liabilities for which an invoice had been received by 31 March 2004. The liabilities are those liabilities that should have been included in the financial statements if they had been properly prepared. According to Mr Leonard the accounts payable should have been $763,314.21 plus PAYE of $10,831, giving rise to a difference between the accounts as they were and as they should have been of $235,606. Mr Vance does not challenge the accuracy of this calculation. [312] The next question is to determine damages for the breach of the warranty. Contract damages are intended to restore a party to the position they would have been in if the contract had been performed. In the case of a warranty, the promisee receives an undertaking that the stated facts exist. If a warranty is breached the promisee is entitled to be put in the position he or she would have been in if the statement had been true. [313] In this case the defendants' submission is that where the loss (through having to pay a creditor omitted from the financial statements) is able to be claimed from a debtor the plaintiff would be over compensated. The same submission is made with GST. If GST is not deducted then the damages would put the plaintiff in a better position than if the warranty had been true. The reason is that there is an offsetting benefit which has the effect of reducing the loss. The two cases relied on by thedefendants provide some support for an approach which looks to the actual loss suffered taking into account any offsetting benefits. [314] There are other examples where benefits are offset against the primary loss and examples where they are not. McGregor on Damages discusses (at para 7-004) the rules that underlie these cases and says "put shortly, the claimant cannot recover for avoided loss". There are some limits as to what can be taken into account – the cases refer to benefits which are "collateral" to the breach, or which have not arisen out of the mitigating steps taken in respect of the breach or which do not arise out of the consequences of the breach: McGregor on Damages at paras 1-027 and 7-102. [315] Burrows Finn & Todd Law of Contract in New Zealand (3ed 2007) at para 21.2.4(b), in discussing benefits accruing to a plaintiff subsequent to a breach, says:Loss may also be said to be mitigated if some benefit in fact accrues to the plaintiff as a consequence of his or her conduct after the breach, even where he or she was not obliged to act. In J & B Caldwell Ltd v Logan House Retirement Home Ltd [[1999] 2 NZLR 99] Fisher J observed that "mitigation" may be the more appropriate word when describing a limitation upon the extent of the primary loss itself, and "betterment" when describing a positive advantage which can be set off against the primary loss. But the two overlap and nothing should turn on the terminology. The preceding principles apply where an act designed to mitigate a loss brings with it additional benefits. They do not apply where the benefit arises out of an independent or disconnected transaction. (footnotes excluded)[316] I approach the matter by considering whether the plaintiff would be over compensated if no deduction was made for offsetting debtors and/or GST. In considering this, the question is whether the offsetting benefit is sufficiently connected to the breach or is disconnected from it. Turning first to the offsetting debtors, the Court is asked to look at the flow on effect of the understatement. If the creditors position as stated was correct then PAE would have paid out less than it was in fact required to pay out because it would have been able to on-charge Housing New Zealand for some of the amounts paid out. I agree that this wouldhave been an offsetting advantage if the debtors had been accurately stated, but they were not. When all the debtors were Housing New Zealand I think it is artificial to say that PAE is over compensated for the breach of warranty because particular amounts could be claimed from Housing New Zealand when other amounts could not. (Further Mr Leonard makes the point that it is unclear what effect this would have on work-in-progress and PAE submits that the understated creditors for which there are off-setting debtors ought to have been captured in the work-in-progress which PAE also purchased.) [317] As to GST, I consider that PAE's submission is not correct. This is because the damages for the breach of warranty would not attract GST. The damages are compensatory. They are not a payment for a supply involving reciprocity: see "GST treatment of Court awards and out of Court settlements" Tax Information Bulletinvol 14, no 10, October 2002. The offsetting advantage claimed by the defendants is that the plaintiffs received the benefit of greater GST credits from having to pay more creditors than it expected to. I accept that this is an offsetting advantage. The next question is whether it is sufficiently connected to the breach. It might be said that it is not. It results in an advantage not through either PAE's or the defendants' actions, but through the operation of tax laws. On the other hand, Gunton andLevison indicate that the advantage should be taken into account. On balance I consider that the GST advantage directly relates to the understatement. When PAE paid out more to creditors than it anticipated, it immediately had GST credits able to be applied to the GST to be paid on debtors. Damages for the understatement should take this into account.Fourth cause of action: Fair Trading Act[318] This cause of action is an alternative to the misrepresentation causes of action ([269] to [274] and [275] to [299] above). Because I have found against PAE on those causes of action it must be considered. The plaintiff contends that the matters relied on as misrepresentations under these causes of action also breached s 9 of the Fair Trading Act. That section prohibits conduct in trade that is misleading or deceptive.[319] This cause of action raises the issue of the interplay of s 9 and clauses 7 and 19 of the Agreement. That is, can there be liability under s 9 when under clause 19 the parties have agreed that the Agreement "supersedes all prior representations" and that the vendors "make the representations and warranties set forth in clause 7 and no others". Relying on Smythe v Bayleys Real Estate Limited (1993) 5 TCLR 454 at 428-9, applied in Borrie v Specialised Livestock Imports Ltd HC AK CP381/97 14 June 2000, and on Kewside Pty Ltd v Worman International (1990) ATPR (Digest) 46-059, 53,222, PAE submits that exclusion clauses do not limit or exclude liability under the Fair Trading Act. [320] The defendants say that for PAE to establish a claim for damages under s 9 it must establish that it relied on the misleading or deceptive conduct and that this caused it to suffer loss. They submit that the view which was expressed in Smythe, that the Fair Trading Act could not be contracted out of, was obiter and was made in a different context. Relying on Netaf Pty Ltd v Bikane Pty Ltd (1990) 92 ALR 490 (FCA); Keen Mar Corporation Pty Ltd v Labrador Park Shopping Centre Pty Ltd(1929) ATPR (Digest) 46-048; and Samaha v Corbett Court Pty Ltd [2006] NSWC 1441, the defendants submit that clause 19 goes to whether PAE in fact relied on the representations at all, the reasonableness of that reliance and whether its reliance was causative of its loss. The defendants submit that in assessing what is reasonable reliance the commercial context is relevant. They refer to a number of cases in support of this submission, of which the most relevant is Des Forges v Wright [1996] 2 NZLR 758 at 764. In that case Elias J (as she then was) said that s 9 of the Fair Trading Act should not be "turned into a general warranty by a vendor of the expectations of the purchaser" and that "[t]he Fair Trading Act 1986 is not designed to provide a guarantee to purchasers who fail to look after their own interests in a manner which is reasonable in the circumstances". [321] I consider that if there were liability under this cause of action then s 9 would be turned into a general warranty despite the parties' agreement to clause 19 and the specific warranties in clause 7. I consider that this cause of action can be looked at in two ways. One way is to say that the defendants' conduct as a whole was not misleading and deceptive because, although it made misrepresentations, the parties agreed that the only relevant representations were those in clause 7. The other wayis to say that if it was misleading and deceptive it did not cause PAE's loss. Either way, the defendants supplied accounts and financial information that misrepresented the financial position of CPS, but PAE had the opportunity to make further inquiry and did not do so. Moreover, they agreed that there would only be liability in respect of representations that were included as warranties in clause 7. In both cases it is relevant to take into account the commercial context of the negotiations. In my view this cause of action fails on either basis. [322] It is not necessary to determine PAE's claim for damages based on the difference between what it paid and the true value of the shares, although my view as to the true value is set out above (at [268]). Nor is it necessary to consider the defendants claim that any damages should be reduced by 50% (essentially for alleged contributory negligence).CounterclaimIntroduction[323] The defendants counterclaim for $350,000 pursuant to clause 5.2 of the Agreement. That clause provides:In the event that the Housing New Zealand contract is renewed for a period of not less than 12 months on terms no less favourable than those in that contract, the purchaser shall pay the additional share purchase price to the vendors within 5 working days of formal renewal or extension of the Housing New Zealand contract.[324] The Agreement has no definition of "renewal", "formal renewal" or "extension". The "Housing New Zealand contract" is defined in clause 1.1 as meaning "the contract for services between Central and Housing New Zealand (expiring on 30 June 2005) provided to the purchaser and upon which the purchaser has entered into this agreement". ("Central" refers to CPS and A1 Electrical. "Purchasers" refers to PAE.) [325] The evidence is that at the time the contract was entered into there were two contracts in place with Housing New Zealand (see above). They were due to expireon 30 June 2005. They were not rolled over. Instead, later in 2004, Housing New Zealand advised that it would require tenders in respect of all housing areas throughout New Zealand. CPS won a further year at this re-tender (taking the contract through to 30 June 2008). This was for different areas because Housing New Zealand divided the Taranaki and King Country regions. Taranaki joined the Manawatu and Wairarapa regions (while the King Country joined the Waikato and Coromandel areas). CPS tendered for and won the contract for the Taranaki, Manawatu and Wairarapa regions. [326] There are two issues: was this was a "renewal"; and was it on terms "no less favourable than" the Housing New Zealand contract. PAE contends that the Housing New Zealand contract was not renewed. It says that a renewal meant a "rollover" and that a rollover is an extension of the existing contract obtained without the need for a re-tender. It says that a renewal assumes a continuation of that which previously existed. It further says that even if a renewal could occur by re-tender (which is denied) the new contract was materially different from that which it replaced, and therefore was not a renewal. [327] The defendants submit that a "renewal" is concerned with re-establishing or restoring a contract that was in existence. They say that renewal means that a similar relationship between the parties will exist in the future as existed at the time, and that it is irrelevant how this comes about. They contend that a renewal might occur by re-tender or by a rollover without the need for a re-tender. They also say that the new contract was on terms no less favourable.Renewal[328] Without objection from the defendants, Mr Leslie gave evidence about his intentions regarding clause 5.2 and his instruction to his lawyer who drafted the clause. His subjective intentions are not relevant to the meaning of clause 5.2 (although they might have been relevant to the defendants alternative causes of action on the counterclaim for rectification and mistake.) I disregard Mr Leslie's evidence as to his intentions.[329] The meaning of clause 5.2 is assessed by what it would convey to a reasonable person having all the background knowledge which would reasonably have been available to the parties at the time of the contract: Investors Compensation Scheme Ltd v West Bromwich Building Society [1998] 1 All ER 98 (HL) at 114; Boat Park Ltd v Hutchinson [1999] 2 NZLR 74 at 82. The starting point is the ordinary meaning of the words in their context. Both parties refer to the ordinary meaning of the words by reference to dictionary definitions. PAE refers to the Shorter Oxford definition which refers to "Grant anew, reaffirm, reinstitute; esp extend the period or application of (a lease, licence, subscription, etc)". The defendants refer to the same definition and also the further definitions of to "restore to the same condition" and to "grant a fresh lease or licence". [330] Both parties also refer to definitions given in legal contexts. The defendants refer to Black's Law Dictionary which refers to the "act of restoring or re- establishing the re-creation of a legal relationship or the replacement of an old contract with a new contract, as opposed to the mere extension of a previous relationship or contract". PAE refers to decisions to the effect that a renewal can occur through the recommencement of an expired contract. PAE also refers toMarsden v Birmingham Licensing Justices [1975] 3 All ER 517 at 519 and Stroud's Judicial Dictionary of Words and Phrases in support of the submission that to be "renewed" the new contract must be the same, or at least not substantially different from, the old contract so that it can be said that the old contract has started again. [331] All of these definitions are concerned with looking at what the outcome is, not how the outcome is achieved. I agree with the defendants that clause 5.2 is about a continuation or re-establishment of the contract. It is not concerned with how that occurs. Conceivably a renewal could take place by re-tender, negotiation or a unilateral extension. Some support for this is found in the "renewed or extended" wording in the second part of the clause. Extended more clearly refers to a rollover or a continuation of the existing terms (perhaps also with minor changes) for a period without any gap. A "renewal" might occur in that way, or it might arise where a contract has come to an end but is then re-established through negotiation or tender or in some other way. (I see no significance in the defendants' pleading that a "new" contract was entered into, which PAE relied on in its closing submissions.)[332] I consider that a renewal is different from a replacement. A contract is replaced where there was a contract but something different has been put in its place. A contract is renewed where there was a contract and that old contract has started again. I consider that it is not enough that the new contract is similar to the old. To be "restored", "re-established", "re-affirmed" or "reinstituted" it must be the same or not materially different from what went before. That is confirmed by the words of clause 5.2. The clause refers to a renewed contract "on terms no less favourable than those in that contract". The parties therefore contemplated that the renewed contract could have different terms, providing those terms were no less favourable. [333] There was evidence, and submissions made, as to whether Mr Carter had said the Agreement would be rolled over. The defendants suggest that the difference in the evidence about this may have arisen through a difference between the two parties as to what was meant by "rollover". For example Mr Carter refers to his letter of resignation dated 20 September 2004 in which he says that he would welcome the opportunity to assist with "the rollover/re-tender" as evidence that he uses the term interchangeably. Sometimes it is not clear what is meant (for example Mr Carter's letter to Mr Pattinson [75] above). On other occasions it seems that Mr Carter appreciates the difference. For example in his February 2005 performance review he says that the Housing New Zealand contracts "cannot be measured as yet, the rollover did not occur and the tenders will not be notified until March 31 2005". Another example is his evidence about the difference between the 2002 and 2005 contracts (see below [342]). [334] My view is that Mr Carter and Mr Pattinson appreciated that there was a difference between a rollover and a retender and that Mr Leslie was given to understand that there might be a rollover, but I do not find any of this evidence helpful. What they said to each other and what they understood because of that is not what was agreed to. The Agreement referred to "renewal" and not a rollover. [335] PAE referred to the negotiations over the price and that $350,000 was split out in that process when Mr Pattinson was unwilling to agree to obtaining Housing New Zealand's confirmation of the contract being extended to 30 June 2006. PAE also refers to a memo from Mr Wearne to Mr Leslie with calculations showing that"[p]roviding the projected profitability is achieved, the net result of termination in 2005 is better than termination in 2006, given the price reduction". However, it is unclear what Mr Wearne means by termination (ie. whether a re-tender is a termination). The agreement to split the $350,000 from the purchase price does not indicate, as PAE submits, that it was payable on a rollover. It is consistent with Mr Pattinson and Mr Carter's view that a rollover was never a certainty. [336] Other background relied on by both parties is Mr Carter's employment contract. This was signed on 28 and 29 April 2004, though drafts were prepared before that (see above). It stated that the Housing New Zealand contract was expiring on 30 June 2006 (and that the employment contract was to expire at the same time). Mr Carter says that this was an error. He says it was known by all parties that the contract expired on 30 June 2005. He says that the one-off bonus referred to for a successful re-tender in 2006 was also a mistake. Mr Leslie disagrees that the references to 30 June 2006 in the employment contract were a mistake. He says that they were deliberate and reflected the confidence that Mr Carter conveyed that this contract would be extended. [337] Initially the bonus was payable "[s]hould the contracts be further rolled-over or re-won at tender". When it became clear that there was to be no rollover in 2005 it was amended so that it became payable on the "successful retention" of the contract "at the retender in 2006" but "subject to achieving a minimum 5% profit margin". When Housing New Zealand advised CPS that it had won the re-tender for a further three years, Mr Carter emailed Mr Leslie that day asking for confirmation that the $100,000 in his employment contract would be paid. Mr Leslie says that he was surprised by the request for an immediate payment because there had not been sufficient time to see whether the 5% profit margin would be achieved. Mr Carter applied to the Employment Relations Authority for the bonus. It was subsequently agreed that the bonus could still be paid if the 5% margin was achieved after a reasonable period of time. [338] In my view the 2006 references may have been an error (reflecting the terms of the Heads of Agreement where it was contemplated that it would be conditional on an extension of the Housing New Zealand contract) – that is consistent with PAEamending the contract so that the bonus was payable in 2005. Alternatively the 2006 references may have been deliberate and may have reflected a confidence that the contracts would be rolled over. Either way, in the event of a re-tender PAE apparently wanted to incentivise Mr Carter to secure the re-tender. Unlike the employment contract which referred to a rollover or a re-winning at tender, the contract referred to "renewed". Overall, I find the employment contract and what occurred in relation to the bonus inconclusive either way as to the meaning of clause 5.2. [339] Both parties refer to the business or commercial reality. In terms of the relevant factual matrix, that is what a reasonable person having all the background would know, the contract was coming to an end at 30 June 2005, there was some possibility that it might be extended for a year to bring it into line with the supply contracts, Housing New Zealand's stated present intention was to re-tender, and there was no certainty about what would occur – a rollover and a re-tender were both possible outcomes and the term might be for one or three years. [340] Against this background the defendants say that it does not make sense that PAE would only be required to pay the $350,000 if there was a rollover but not if there was a re-tender. Mr Pattinson says that never to his knowledge has a Housing New Zealand contract continued without a tender. The value to PAE arose if the contract with Housing New Zealand continued and regardless of how that continuation was achieved. PAE says that if a rollover occurred then PAE had more certainty and hence a payment of $350,000 made sense. If there was no rollover, then PAE had the risk and cost of going through that process. Mr Leslie's evidence was that a "typical PAE tender" can cost $100,000. He says that if PAE had to bear this risk and cost there would be no basis to pay the defendants the $350,000 because they had not "delivered" the new contract. The new contract would be obtained in part through CPS' history with Housing New Zealand but also Housing New Zealand's view of PAE and the work done by Mr Carter, which PAE was paying for, in securing the tender. [341] I agree with the defendants that the value to PAE arose whether the contract was rolled-over or re-tendered. Either way PAE secured the business and part of thereason for that was likely to be CPS' history with Housing New Zealand, particularly because Mr Carter was to be retained as a manager. Although there was greater cost to PAE in a tender, that cost was less than the $350,000 agreed to be paid to the defendants and a three year term was secured. It also seems unlikely that the defendants would have been prepared to forgo $350,000 of the purchase price if the contract was renewed by re-tender rather than by way of a rollover. I therefore consider that the business reality matches the ordinary meaning of the words. The $350,000 was payable if the Housing New Zealand contracts were secured for a period beyond 30 June 2005 of not less than one year on terms no less favourable than the existing contracts – that would amount to a renewal. If PAE had intended that the money was to be paid only if there was a rollover without a re-tender then it needed to have made its intentions more plain in the words that were used.No less favourable[342] PAE submits that the two contracts are completely different. It refers to the following differences: a) The 2002 contract covered Taranaki/King Country whereas the 2005 contract covers Taranaki/Manawatu and Wanganui; b) The 2005 contract is a performance based contract, whereas the 2002 contract was not. Under the 2005 contract Housing New Zealand is entitled to hold back up to 7.5% of revenue dependent on the contractor meeting timeliness and quality standards; c) There are 31 pages of special conditions added to the general conditions in the 2005 contract; d) The 2005 contract was used to introduce the "CIMS" project by which the xml functionality of Joblink was introduced (refer [173] above) and pursuant to which obligations were placed on contractors to use particular forms.[343] PAE refers to these differences solely by reference to a comparison of the two contracts which are in evidence. Certainly, a comparison between the two contracts shows that there are some differences – they are not the same document. However it is not apparent on the face of them whether the differences are material. Counsel for PAE said in opening that the geographical alteration made no difference in terms of the quantity of work. No witnesses for PAE gave evidence as to whether the contract was on less favourable terms. In his reply brief Mr Leslie simply notes that NZS 3910 applies to a wide range of contracts and that this does not imply that the contracts will be very similar. He also refers to the changed regions without commenting on whether that made the 2005 contract less favourable. [344] The defendants' evidence that the contract was no less favourable came from Mr Carter. Mr Carter said that the 2002 and 2005 contracts were "slightly different" but both were based on the NZS 3910 formulation. He said that the "mechanics" of the contracts (for example the specifications) and the standards required of the contractor (such as delivery time and various other quality controls) were very similar. He said that there were two points of distinction. They were: a) The 2005 contract contained performance incentive provisions. Although the 2002 and 2005 contracts required similar standards of compliance, there was no financial incentive for the contractor to meet those standards under the 2002 contract; b) The 2002 contract was for three years and contained no right of renewal or any process whereby it could be extended or rolled-over. The 2005 contract was for three years but included a discretion whereby Housing New Zealand could opt to extend the contract for one or two years. [345] Mr Carter was not cross-examined about this except in respect of PAE seeking to demonstrate that Mr Carter understood the difference between a rollover and re-tender. Mr Carter considered the performance incentives were advantageous because there was a financial gain if the contractor performed. He said that the 2005 contract had "numerous advantages" over the earlier one.[346] On balance I consider that, in the absence of cross-examination of Mr Carter and any direct evidence from Mr Leslie challenging Mr Carter's evidence, the defendants have established on the balance of probabilities that the contracts were on terms no less favourable than the existing contracts. The defendants have established their counterclaim. Interest is payable on the $350,000 sum. [347] The defendants pleaded in the alternative claims of mistake and rectification. However they did not advance submissions in favour of these alternatives preferring to rest their counterclaim on the meaning of the words of clause 5.2 in their context. I therefore do not address the alternatives. [348] The defendants claim increased costs on the counterclaim on the basis that the Housing New Zealand contract had "so clearly been renewed that the plaintiff's refusal to pay is borne out of ill-will towards the defendants". I do not accept this submission.Result[349] The first cause of action fails. PAE has not established that fraudulent misrepresentations were made. However, after the Agreement was entered into deliberate attempts were made to conceal the errors in the accounts (and this may be relevant to costs). [350] The second cause of action fails. In the absence of "the entire agreement" clause, PAE would have established that innocent or negligent misrepresentations were made and that PAE was induced to enter into the Agreement at the price it did on the basis of those misrepresentations. However it is not fair and reasonable to inquire into this and to award relief in view of the respective bargaining strengths of the parties, PAE's access to accounting, legal and business advice, and the opportunity PAE had to make whatever inquiries it considered appropriate in making this not insignificant investment. The scale of the inaccuracies and the defendants' lack of care (or even recklessness) in allowing them to occur is not a sufficient basis on which to interfere with the bargain the parties struck – under which there was no warranty as to the accounts receivable or the profitability of CPS. For completeness,I note that if this cause of action had been made out then the damages claimed are the overstatement of debtors (which I have found to be $713,025) on the basis that the understatement of the liabilities is recoverable under the third cause of action. [351] The third cause of action succeeds. The warranty was as to the amounts that, from an accounting perspective, should have been included in the 31 March 2004 accounts. The damages are $235,606 (763,314.21 + 10,831 – 538,539) but from this is to be deducted the GST component (1/9th ) on the difference between the amount stated in the accounts ($538,539) and the $235,606.21. Interest is payable on this sum. [352] The fourth cause of action fails. The terms of the Agreement and the ability for PAE to make its own inquiries meant that the defendants' conduct viewed as a whole was not misleading and deceptive conduct and/or PAE's loss was not caused by such conduct. [353] The defendants succeed on their counterclaim and are accordingly entitled to payment of $350,000 under clause 5.2 of the Agreement. They are also entitled to interest. [354] If the parties are unable to agree interest calculations or costs, they may submit memoranda within 30 days of the date of this judgment. Mallon JSolicitors:G Dewar, Thomas Dewar Sziranyi Letts, PO Box 31-240, Lower Hutt, phone: 04 570 0442, fax: 04 569 4260 A S Butler, Russell McVeagh, PO Box 10-214, Wellington, phone: 04 499 9555 fax: 04 499 9556