Neutral Citation Number: [2007] EWHC 1998 (Ch)
Case No: NO. 2898 of 2007 
IN THE HIGH COURT OF JUSTICE
CHANCERY DIVISION
COMPANIES COURT
Royal Courts of Justice
Strand, London, WC2A 2LL

Date: 17/08/2007

Before :

MR JUSTICE WARREN
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Between :

	Hammonds (a firm)	Applicant	
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	Pro-fit USA Ltd	Respondent	

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Mr Gabriel Moss QC and Miss Hilary Stonefrost (instructed by Messrs Hammonds) for  the Applicant      
Mr Andrew Sutcliffe QC (instructed by Messrs Gorvins) for the Respondent

Hearing dates: 13th,16th,17th, & 20th, July 2007

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Judgment 

Mr Justice Warren : 
Introduction and overview
1.	This is an application by Hammonds, solicitors, for an administration order in relation to Pro-Fit USA Ltd (“USA”).  Hammonds apply as an alleged creditor of USA in respect of unpaid fees (including work in progress not yet the subject of any invoice) in respect of legal services rendered.  The application notice is dated 20 April 2007.

2.	In order to avoid confusion, I should explain that USA was previously called Pro-Fit International Ltd.  I shall refer to it throughout as USA, even in respect of times when it was in fact operating under its previous name.  There is also a company which is now called Pro-Fit International Ltd, an off-the-shelf company previously called Bondmor Ltd.  I shall refer to it throughout as International, even in respect of times when USA was in fact operating under the name Pro-Fit International Ltd.

3.	At the outset I should say that there has been a large amount of evidence to digest.  I shall refer to some of it.  I have, however, read or re-read all of the affidavits and witness statements filed and the exhibits where relevant.  I have taken it all into account in reaching the conclusions which I do.  The fact that I do not refer to all of the evidence, and in particular that of Mr Clay, does not mean that I have overlooked it.  Mr Clay, I should say, is the partner at Hammonds who principally dealt with the affairs of USA over the relevant period.

4.	USA is one of a number of companies in which the Morris family are concerned.  The relevant members of the family are David Morris and his sons Philip and Paul.  I hope that they will not object to my referring to them by just their first names.  They all have knowledge and experience of the design and use of interlining, strips of fabric that are used in waistbands and other parts of garments to provide strength and support and to improve appearance.   USA owns (subject to certain licences which I will come to) a wide portfolio of intellectual property rights (“IP rights”) and related know-how and confidential information relating to that use, which Mr Andrew Sutcliffe QC (who appears for USA) summarises as “relating to imparting stretch to fabrics” and which IP rights have “a variety of commercial applications, including waistbands, lingerie, shirt collars, tapes, industrial shrinkage and finishing”.  Philip himself considered this to be a rather inadequate description of the technology when Mr Clay used similar language pointing out that the technology is also used in the production of shrink free applications in the production of a branded product used in underwired bras.  Philip also points out that USA has other technologies and know-how for applications such as pucker free tapes, shrink free shirt collars and shrink free elastic applications among others.

5.	The IP rights include two US patents which I will refer to as 721 and 285.  721 concerns an invention relating to a method of imparting stretch to a strip of rigid fabric and the locking it in by affixing a suitable fusible interlining.  The same patent covers the resulting stretch waistband and the process for manufacturing it.  285 relates to graduated fusible interlinings; this technology has application, among others,  to stretch waistbands for trousers and other clothing

6.	David Paul and Philip are all directors of USA.  The shareholders of USA are now Pro-Fit Holdings Ltd (“Holdings”) and Red Kite Capital Partners Ltd (“Red Kite”), although prior to Red Kite’s investment (which took place in the autumn of 2006), USA was a wholly owned subsidiary of Holdings. Holdings is owned and controlled by David, Paul and Philip and other Morris family interests.  Red Kite has two directors, Geoffrey Stuart Pearson (“Mr Pearson”) and John Stewart Ross (“Mr Ross”).  Red Kite is ultimately owned by Mr Ross.

7.	USA has an association with International in that (a) the directors of International are David, Paul, Philip and Mr Pearson and (b) the owners of the shares in International are Philip, Paul and Montpelier Capital Ltd (“Montpelier”) of which Mr Pearson is a director and he his wife and family are shareholders.

8.	Hammonds were instructed by USA in February 2004 in succession to other English solicitors.  The only contract of retainer is with USA but USA and Holdings say that Hammonds owed a duty of care to Holdings as well in relation to certain litigation in the United States.  I will come to that litigation and the circumstances giving rise to the alleged duty of care in due course.

9.	Most, but not all, of the work in respect of which fees are claimed by Hammonds relates to a dispute with a US corporation called Tag-It Pacific Inc (“Tag-It”)  USA had granted a licence to Tag-It (“the 2000 Licence”) to details of which I will come to, in respect of certain intellectual property rights (“IP rights”) known as Straight Stretch Technology to enable Tag-It to make waistbands and certain related items and to sub-license other to do so.  The work done by Hammonds also included commercial work relating to licensing deals and advice concerning a dispute between Tag-It and another company called Narroflex.  

10.	Hammonds claim to be owed £556,450 in respect of (a) outstanding invoices raised between February 2005 and April 2006 and (b) unbilled work in progress.  The breakdown is this, in round figures:

a.	Tag-It v Narroflex file: £6,257.  A costs order was made against Tag-It which has been paid.  The invoices for this work are more than 2 years old.  There is no complaint or allegation of negligence in relation to this work.

b.	Tag-It file: invoiced amounts are £334,336 and unbilled work-in-progress is said by Hammonds to amount to £147,453.  All invoices are more than 1 year old.

c.	IP General: invoiced amounts total £60,338 and unbilled work-in-progress is said by Hammonds to amount to £8,070 for commercial work in relation to licensing deals.

11.	Until comparatively recently, no complaint whatsoever had been raised by USA (nor by Holdings, International and the individuals involved) about the advice and service provided by Hammonds.  Indeed, the obligation to pay fees (and to pay certain other creditors) appears to have been recognised since, during the course of 2006, USA entered into negotiations with Hammonds and other professional advisers and with a Mr Roup to restructure its debts with a view to repayment of these debts over a period of 4 years.  These negotiations failed, so far as Hammonds are concerned, because Hammonds required security for the debt to be given which USA was not willing to provide.  It is only after taking separate advice from Mr Dunnill of Gorvins that USA and Holdings have come to realise that there might be criticisms of the advice which Hammons have given.  
 
12.	The negotiations having broken down, Hammonds indicated that it would have no option other than to invoke some sort of insolvency process.  It was at about the same time that complaint was made about the advice which Hammonds and given.  A substantial claim has now been commenced against Hammonds in the Leeds Mercantile Court which, according to USA, will result in a set-off or damages of an amount in excess of the fees owing to Hammonds.  Hammonds say that this claim is not a genuine claim but has been trumped up in an attempt to stave off administration.  In support of their case. Hammonds point out that numerous allegations of negligence were made but only two of these have found their way into the actual claim in Leeds.  It appears that the other claims have been abandoned.  USA says that the claim is perfectly genuine.  It explains the timing of the claim by reference to its instruction of new lawyers who have reviewed Hammonds advice and conduct, reaching their conclusions and advising USA only at about the time when, as it happens, negotiations broke down.  One of the main issues for me is the genuineness of the claim.

13.	During the course of the negotiations to which I have referred, USA granted a licence of certain IP rights to International.  It is said by Hammonds (a) that these IP rights are very valuable and (b) that the licence was at a substantial undervalue.  Mr Moss (who appears with Ms Stonefrost) for Hammonds relies heavily on this transaction as demonstrating the need for the involvement of an independent office-holder through the mechanism of administration.  Mr Moss also says that the evidence shows perfectly clearly that USA in unable to pay its debts as they fall due.  He says that the cross-claim is spurious so that there is no disputed debt or genuine cross-claim sufficient to bring the case within the practice which applies in relation to winding-up petitions (as to which see in detail below in the discussion of the law).  But even if there cross-claim would bring the case within that practice, it is not a practice which applies in relation to administration applications so that my discretion should be exercised, especially in the light of the licence to International, in favour of granting the order.  

14.	Mr Sutcliffe who appears for USA says that USA is in fact solvent and able to pay its debts as they fall due.  He says that the claim against Hammonds is genuine.  He says that the practice which applies in the case of winding-up petitions should apply in administration and applications.  He says that the transaction was not at an undervalue and was very much in the interests of USA.  This is another matter which I will need to look at in some detail.  His conclusion is that it is Hammonds who are abusing the process of the court in using an administration action as a process of debt recovery when the debt is disputed or subject to a genuine cross-claim.

15.	There are thus three central areas of factual dispute which I need to consider in the exercise of my discretion and which I will come to in due course.  They are:

a.	The alleged transfer at undervalue of the IP rights.

b.	The alleged cross-claim against Hammonds. 

c.	The solvency or otherwise of USA.

16.	Before I do so, I will first look at the applicable law and then turn, by way of more detailed background, to the 2002 Licence and the Tag-It litigation and to Hammonds’ retainer.

The law
17.	The court only has jurisdiction to make an administration order if the centre of main interests of the company in the United Kingdom.  The centre of main interests of USA is, as is common ground and clear on the evidence before me, in the United Kingdom.  That jurisdictional hurdle is therefore passed.

18.	Administration is dealt with in Schedule B1 Insolvency Act 1986.  The purpose of an administration is to be found in paragraph 3 which, so far as material, reads as follows:

“3(1) The administrator of a company must perform his functions with the objectives of
rescuing the company as a going concern, or
achieving a better result for the company’s creditors as a whole than would be likely if the company were wound up (without first being in administration),or
realising property in order to make a distribution to one or more secured or preferential creditors
……
(3)	The administrator must perform his functions with the objective specified in sub-paragraph (1)(a) unless he thinks either -
that it not reasonably practicable to achieve that objective , or
that the objective specified in sub-paragraph (1)(b) would achieve a better result for the company as a whole.
…………….”

19.	There are then two conditions which must be fulfilled before the court may make an administration order.  There are found in paragraph 11 which reads as follows:

“11.	The court may make an administration order in relation to a company only if satisfied – 
that the company is or is likely to become able to pay its debts, and
that the administration order is reasonably likely to achieve the purpose of administration.” 

20.	In contrast with the position under the old law where it was necessary to identify which of the purposes of an administration would be fulfilled, the current provisions refer in paragraph 11(b) to a single purpose.  Whilst not spelt out, this “purpose” is clearly a reference back to the objectives set out in paragraph 3(1).  The purpose is therefore, I consider, the effecting of the objectives set out in paragraph 3(1) in the order of priority there laid down.  It is not necessary to identify in advance with certainty which of those objectives is to be attained.  It is enough, for instance, for the administrator to be able say “I want to achieve the first objective, rescue, and I think there is a real prospect of doing so.  But if that fails, I wish to achieve a better out-turn for creditors and I think I can achieve that.  If even that cannot be achieved, at least I will be able to realise assets and make payments to secured creditors”.

21.	It is to be noted that, unlike the position in the case of a winding-up petition, it is not necessary to show a present inability to pay debts: it is enough to show that the company is likely to become insolvent.  In this context, “likely” means “more probable than not”: see Re Colt Telecom Group plc [2002] EWHC 2815.

22.	In a case, such as the present, where there has been no statutory demand or unsatisfied judgment debt, section 123(1)(e) Insolvency Act 1986 deems the company to be unable to pay its debts “if it is proved to the satisfaction of the court that the company in unable to pay its debts as they fall due”.  A company is also deemed, by virtue of section 123(2) unable to pay its debts if it proved to the satisfaction of the court “that the value of the company’s assets is less than the amount of its liabilities, taking into account its contingent and prospective liabilities”, a test which can loosely be referred to as “balance sheet insolvent”.   

23.	These provisions apply for the purposes of paragraph 11(a), not only in determining whether a company is unable to pay its debts but also, mutatis mutandis, in determining whether a company is likely to become unable to pay its debts.  

24.	Mr Moss,  submits that what is required for the purposes of paragraph 11(b) is for the court to be satisfied that there is a real prospect that the purposes of the administration will be achieved.  He relies on Re Harris Simons Construction Leisure Ltd [1989] 1 WLR 368 where Hoffmann J, declining to follow Peter Gibson J and Harman J in earlier cases (although Peter Gibson J subsequently, in SCL Building Services Ltd [1990] BCLC 98, followed Hoffmann J) held the “real prospect” test to apply in relation to section 8(1)(b) prior to the introduction of Schedule B1 by Enterprise Act 2002.  However, section 8(1)(b) was worded differently: the court needed to “consider” it to be “likely” that the administration order would achieve one or more of the purposes set out.  The current provisions require the court to be “satisfied” that it is “reasonably likely” that the administration order will achieve the purpose of administration.  Hoffmann J had placed considerable weight on the difference between “considers” and “is satisfied”, a distinction which no longer appears.  But now that the threshold is “reasonably likely” rather than “likely”, I see no reason to depart, in the result, from the test which Hoffmann J applied, especially bearing in mind that paragraph (a) uses the word “likely” by itself but paragraph (b) uses the words “reasonably likely”.  The correct approach, in my judgment, is that “reasonably likely” means that there is a real prospect that the purpose of the administration will be achieved.  This is the approach which Lewison J applied in Re Redman Construction Ltd [2005] EWHC 1850 (Ch) although there is no discussion of the point in his judgment.  

25.	An application for an administration order may only be made by one or more of the persons specified in paragraph 12(1).  This includes, at paragraph (c), “one or more creditors of the company”.   There is no definition of “creditor”.    In the present case, USA is, prima facie, liable for Hammonds’ fees; but USA asserts the Hammonds acted negligently and that it has a claim against them for damages in respect of such negligence.  The question then arises whether this cross-claim extinguishes (in whole or in part) USA’s liability for fees, or whether it gives rise to a set-off, or whether it is simply a cross-claim which would lead to a financial obligation in each direction.  Depending on the answer to that question may turn whether Hammons are a “creditor” at all and, if they are, how the set-off or cross claim impinge on the exercise of the court’s discretion.

26.	In the context of winding-up petitions, there is a well-established line of authority concerning disputed debts and cross claims.  The cases show that the court has jurisdiction to allow a petition to proceed even where the debts is disputed on bona fide and substantial grounds.  It does not follow from that that the court has jurisdiction actually to make a winding-up order whist the dispute remains unresolved: there is nothing inconsistent in the court allowing a person who claims to be a creditor to proceed with his petition, leaving the question of whether he actually is a creditor to fought out at the hearing of the petition.  However, I consider that they establish also that the court has jurisdiction to make a winding-up order on the basis of such a debt without having to decide the merits of the dispute.  That that is the jurisdiction emerges, I consider, from the cases concerning the practice of the Companies Court to which I now come.

27.	So far as disputed debts are concerned, the practice of the court is not to allow the insolvency regime to be used as a method of debt collection where there is a bona fide and substantial dispute as to the debt.  Save in exceptional cases, the court will dismiss a petition based on such a debt (usually with an indemnity costs order against the petitioner).  It might be thought that the court should have no discretion where the debt is genuinely disputed on the basis that the petitioner is unable to establish locus standi to present a petition, not being a creditor within the meaning of section 124(1).  In this context, one might refer Re Bayoil SA [1998] BCC (which I come to at greater length in a moment) where Nourse LJ, in his explanation of the practice in relation to disputed debts, refers to the reasons for the normal practice given by Buckley LJ in Stonegate Securities Ltd v Gregory [1980] Ch 576 at p 580C, who, after citing Ungoed-Thomas J in Mann v Goldstein [1968] 1 WLR 1091 at p 1098, expressed the view that the petitioner, in the case of a genuinely disputed debt, is not a creditor within the meaning of the predecessor to section 124(1) at all.  As to that, Nourse LJ observed that 

“the dismissal of the petition in such a case is not, at any rate initially, a matter for the discretion of the court.  It is founded on the petitioner’s inability to establish the locus standi to present a petition under what is now s.124(1) of the Insolvency Act 1986.  The case of a undisputed debt with a genuine and serious cross claim is different, in that the dismissal or staying of the petition can only be a matter for the discretion of the court, albeit that its exercise may have been narrowed by authority.” [my emphasis]

28.	Although a creditor’s petition based on a disputed debt will normally be dismissed, that will not be so where the petitioner has a good arguable case that he is a creditor and the effect of the dismissal would be to deprive him of a remedy or otherwise injustice would result or for some other reason the petition should proceed: see Re Claybridge Shipping Co SA [1997] 1 BCLC 572 (CA), reporting the decision of the Court of Appeal in March 1981. 

29.	In relation to the predecessor to section 124, Lord Denning says this at p 574j:

“It seems to me that a person is a ‘creditor’ so long as he has a good arguable case that debt of sufficient amount is owing to him.”

He goes on to recognise the general rule that a disputed debt may not form the basis of a creditor’s petition, but states that there may be circumstances which warrant a departure from the general rule.  The rule is not one of law as a result of which there is no jurisdiction to hear the petition but is a practice relating to the exercise of the court’s discretion.  Thus, in exceptional cases, it is permissible to depart from the general rule and, where such circumstances exist, it is enough that there should be a good arguable case.  Both Shaw LJ and Oliver LJ agreed.  
 
30.	In his concurring judgment, Oliver LJ said this:

“I do not wish in the least to cast doubt on the practice of the Companies Court – which is well-established – of staying a petition in circumstances where there is a bona fide and substantial dispute as to the existence of a debt and leaving it to the parties to fight the matter out between them in an action.  But that, at its highest, a rule of practice and it must, I think, give way to circumstances which make it desirable that the petition should proceed, although it may be that that would only apply in very exceptional circumstances.  If this petition is struck out, the petitioner is, in the case of this foreign company which is not trading and which has no substantial assets anywhere but here in this country, effectively without remedy.”

31.	Claybridge Shipping was an appeal from a strike out of the petition where the question in issues was not (see Oliver LJ at p 578g-h) “the final disposition of proceedings.  It is solely whether under the rule of practice of the Companies Court the matter should or should not proceed to a hearing at which a winding-up order may or may not be made after a full investigation of the facts”.  But, as he later observes:

“There may well be cases where to compel the creditor to go off to another division of the court to establish his debt would effectively deprive him of any remedy at all.  That may, of course, be inevitable where the court is convinced that the dispute is a genuine one, genuinely raised and persisted in, and one which cannot conveniently be determined in a short space of time on hearing the one application……..But it ought not to be a inflexible rule that the Companies Court should never take upon itself the burden of determining the matter of the hearing of the petition.”

32.	Claybridge Shipping is referred to with approval in Alipour v Ary [1997] 1 WLR 534 as one of two English cases which show that it is only a rule of practice and not one of law for the Companies Court to refuse to determine a dispute about a  petitioner’s locus standi on the petition itself.  

33.	The other authority referred to is Re Russian and English Bank [1932] 1 Ch 663 where Bennett J held that, notwithstanding the general rule, in the case of a foreign company the alleged creditors of which would be without a remedy unless they could proceed by way of winding up petition, the Companies Court could wind up the company on the footing that it would be the duty of the liquidator to consider the claims of the petitioning creditors.   So there one sees the Companies Court actually winding up a company on the basis of a petition by creditors whose debts were disputed; they must, therefore, have been regarded as “creditors” for the purposes of the predecessor to section 124(1).  Equally significantly for present purpose, the court actually made a winding-up order without trying the dispute about the debt – the disputed debt was enough to found jurisdiction to make an order, the ground of the winding-up itself being the dissolution of the company.

34.	Support for that conclusion can be found in the Privy Council case of Brinda Ltd v Offshore Oil NL [1986] BCC 916 (not referred to in Claybridge Shipping) where Lord Brightman said:

“It is a matter for the discretion of the judge whether a winding-up order should be made on a disputed debt, and it is also a matter of discretion whether he decides the substance question of debt or no debt.”

He goes on to agree with the observations of Gibbs J in Re QBS Pty Ltd [1987] QD R 218 at 225, which, like Claybridge Shipping, appears to be concerned with whether the companies court or some other court should determine the merits of the dispute.  Nonetheless, it seems to me that Lord Brightman has in mind two entirely different questions – whether a winding-up order should be made on a disputed debt and whether the judge decides the question of debt or no debt.  It is not a necessary pre-condition to embarking on the first question that the court should have resolved the second question by deciding the disputed debt.  That is not in any sense to detract from the usual practice which is that the dispute should indeed be decided and that that should be done in a separate action.

35.	It may not be possible to reconcile what Buckley LJ said in Stonegate Securities with what Lord Denning and Oliver LJ said in Claybridge Shipping, and it may be that the tension is reflected in the words which I put in bold in the passage just quoted from Nourse LJ’s judgment in Bayoil.  The law today, however, which I regard as clear, is that there is no absolute jurisdictional bar to a petition (or indeed the making of winding-up order) where there is a debt which is bona fide disputed on substantial grounds.   

36.	I turn now to cross-claims.  In Bayoil, HH Judge Roger Cooke had made a winding-up order where the petitioner’s debt was undisputed but where the company had a genuine and serious cross-claim which it had been unable to litigate.  The judge had held that he had a discretion which was at large and that it ought to be exercised by granting the order sought.  It would, of course, have remained open for the liquidator in due course to make the company’s claim against the petitioner if he considered it to be of merit to do so.  It was held that the judge did not have a discretion which was at large.  He should have asked himself whether there were special circumstances which made it inappropriate for the petition to be dismissed or stayed, there being clear authority for the proposition that the petition ought to be dismissed in cross-claim cases except in special circumstances with a residual discretion in the court which was met by the exception of special circumstances as shown by Re LHF Wools Ltd [1970] Ch 27 affirming Re Portman Provincial Cinemas Ltd (1964) 108 Sol Jo 581.

37.	In practical terms, there may not be very much difference between the practice in relation to disputed debts and the practice in relation to cross-claims.  Thus Nourse LJ in Bayoil cites with apparent approval the judgment of the Board in the Privy Council case of Malayan Plant (Pte) Ltd v Moscow Narodny Bank Ltd [1980] 2 Malayan Law Jo 43 (a disputed debt case) where Lord Edmund-Davies said that there is no distinction in principle between a cross claim of substance and as serious dispute regarding the indebtedness imputed against a company.  Ward LJ relies on the same passage in concluding that there seemed to him to be little difference in practice between a disputed debt and a cross claim which does not constitute a set-off properly so called. 

38.	It should be remembered – and this is a point which Nourse LJ makes in the passage from his judgment which I have cited – that in the case of a cross-claim the dismissal or stay of the petition can only be a matter for the discretion of the court.  The creditor whose debt is undisputed but subject to a cross-claim is, quite clearly, a creditor for the purposes of presenting a petition.  The companies court clearly has jurisdiction to allow a petition to proceed in such a case.  It also clear that the court is not deprived of such jurisdiction as it would otherwise have to make a winding-up order by the existence of a cross-claim.  It is a matter of discretion, but that is one that must be exercised in accordance with Bayoil principles. but also clearly has jurisdiction to make a winding-up order without resolving the cross-claim 

39.	I have gone into the cases relating to winding-up at some length because Mr Sutcliffe says that precisely the same approach should be adopted in relation to administration orders based on disputed debts or debts where there is a cross-claim as applies to winding-up petitions based on such debts.  Accordingly, the court should not grant an administration order where the applicant’s debt is disputed or where there is a cross-claim (in either case on bona fide and substantial grounds).

40.	Mr Moss, however, submits that the position is quite different.  He says that in all cases the court has a discretion, one which is at large and not restricted by the considerations which have led to the principles applicable to the exercised of the discretion in winding-up cases.  There is, he says, no case which has decided the extent to which principles applicable in the context of winding-up petitions might apply to administration applications.  I think that that last proposition is one of the few areas of common ground in this case.

41.	Mr Moss has referred me to the decision of the Court of Appeal in Re MTI Trading Systems Ltd & Others [1998] BCC 400.  In that case, Carnwath J at first instance had made administration orders in relation to three companies.  The petitions for the administration orders were made under section 9 as it then stood; in two cases the petitions were brought on behalf of the companies themselves and in one case by the American company which controlled the group of which the three companies formed part.  An application was made by certain directors to Carnwath J, soon after he had made the administration orders, to discharge them.  The application was based on three grounds (1) that there was no valid authority for the individual, Mr Edison, who purported to act on behalf of the companies, to apply under section 9 on behalf of the companies (2) in any event, there was a substantial dispute as to that, which should be determined before the making of an administration order and (3) there had been serious non-disclosure.  Carnwath J refused the application holding: First, that there was a substantial argument that Mr Edison was properly authorised to act as he did.  And secondly, if Mr Edison had no authority he would have had no locus to present the petitions.  Questions of jurisdiction ought normally to be resolved before a final order is made; but it would frustrate administration, which often had to be implemented urgently, if the court had to dismiss a petition if any dispute as to locus arose.  Certainly, once the court had made such an order it was not obliged to discharge it merely because a dispute was raised as to jurisdiction.  As to that dispute, he expressed the view, on the discharge application, that it was not possible to determine whether Mr Edison had authority to bring the petitions on behalf of the companies, his power to do so depending on New York law as to which there was conflicting evidence before the judge.

42.	The directors applied for leave to appeal.  That application was refused.  The principal basis of the application was that the court had no jurisdiction or power to make administration orders in the first place.  This was because, as Carnwath J had concluded on the discharge application, although there were substantial arguments that Mr Edison was indeed entitled to petition the court for administration orders in the way which he had purported to do, it was not possible at this stage to decide whether in fact that was the case.  It was submitted that the court cannot make an administration order unless satisfied that the petitioner falls within one of the classes set out in section 9(1).  Although Mr Purle QC (on behalf of the applicants) was not able to produce any authority on the question in the context of section 9, he relied, by analogy, on the decisions in relation to winding-up orders where, he said, it was clear that the court will not make a winding-up order unless satisfied that the petitioner falls within one of the classes entitled to bring such a petition.   The same should apply to administration orders, especially since the language used in the respective provisions is identical or virtually identical.  Put that way, the matter seems to be addressed to jurisdiction; but as I have endeavoured to show, it is really a question of how the discretion should be exercised.

43.	Mr Purle is then recorded as being disposed to accept that, on the evidence originally before the judge, he was satisfied that the petitioners did fall within one or more of the classes described in section 9.  But he argued that since the judge was clearly not so satisfied at the discharge hearing, he had no option but to discharge the administration orders.  In relation to that argument, Saville LJ says this:

“In my judgment, this argument is misconceived. It seems to me that there is a sharp distinction to be made between winding-up and administration orders. The former bring the life of the company to an end; the latter are designed to revive, and to seek to ensure the continued life of the company if at all possible. The former is in the nature of a final order; the latter is again, by its very nature, an interim measure. In the former case it is to my mind self-evident that before the court will bring the company to an end, it will have to be satisfied, save perhaps in a wholly exceptional case, that the person seeking to achieve that objective has the requisite status to petition the court. Whether that can be described as a limitation on the jurisdiction of the court, or as an obvious common sense rule of practice, does not to my mind really matter. What matters is whether there is a similar jurisdictional or practice bar requiring the rescission of administration orders.
In my judgment there is no such bar. It seems to me that in the context of administration orders there is nothing to suggest that the court has no option but to set aside or rescind an administration order when facts arise which indicate that the petitioners may not fall within the classes of s. 9(1).  Rule 7.47 of the Insolvency Rules, which has been held to apply to administration orders, gives the court a discretion to review, rescind or vary any order made. Mr Purle accepted, in my view correctly, that the administration orders made in this case stand until the court rescinds or varies them. Those orders were made on the basis that the petitioners had, on the material then before the court, brought themselves within the s. 9(1) class.
Those seeking rescission have now persuaded the court that that status is not certain, but only one for which there are, in the words of the judge, substantial arguments. I can, however, see no valid basis for suggesting that the judge is precluded from taking all relevant circumstances into account, in deciding whether or not to review, rescind or vary any order made, but is bound to discharge that order, notwithstanding, as the judge found in this very case, that the continuation of the administration was vital if the companies were to have any chance of survival.”

44.	Mr Moss relies on the sharp distinction which Saville LJ draws between winding-up and administration.  Thus, Saville LJ  regards it as self-evident that the court will not make a winding-up order, save in exceptional circumstances, unless satisfied that the person seeking the order has the required status to petition the court.  The question for Saville LJ then is, on the case before him, whether there is “a similar jurisdictional or practice bar requiring the rescission of administration orders”.  He is careful to answer only that limited question and, in doing so, does not address the wider question whether there is a similar jurisdictional or practice bar in the making (in contrast with the rescission) of an administration order; indeed, he expressly notes that the orders were made on the basis that the petitioners had, on the material then before the court, brought themselves within the section 9(1) class.

45.	As to that wider question, there are two cases which I would mention.  The first is Re Simoco Digital UK Ltd [2004] 1 BCLC 541, a decision of Patten J.  The relevant passage of the judgment is found at paragraph 4

“I should mention at the outset that it is common ground that the Court will not make an administration order on the basis of a disputed debt. A creditor is defined by paragraph 12(4) of Schedule B1 as including a contingent or prospective creditor, but in each case the liability of the company to the creditor must either be established or agreed. The position has long existed in relation to winding-up petitions that if the liability remains the subject of a genuine dispute, the Court as a matter of practice and discretion will decline to entertain the application and leave the parties to resolve their differences in a different forum: see Stonegate Securities Ltd v Gregory [1980] Ch 576.  In my judgment the same rule applies to administration petitions.”
46.	The issue was clearly not argued since it was common ground.  The judge clearly regarded the common ground as correct and based his actual decision on it.  He was not, however, referred to the decision in MIT Trading Systems.

47.	The second case is Europcar Ltd v Top Marques Car Rental Ltd [2005] All ER (D) 388, a decision of Lawrence Collins J.  Unfortunately, all that has been made available to me is that short report and not the full judgment.  However, in refusing the administration order, the judge appears to have said that there was no bona fide dispute as to the indebtedness of the company and no genuine counter-claim aside from one made purely to frustrate the application for administration.  One might infer from that that he considered that the same practice should apply in relation to administration applications as applies in relation to winding-up petitions.  I do not, however, regard the decision as any authority for the proposition that the same practice should apply.  First, I do not know what was argued before the judge nor even whether MTI Trading Systems was cited; secondly, if he was satisfied that there was not bona fide dispute etc, it was unnecessary for him to consider whether an administration order could be made even where such a dispute existed.

48.	Neither of those authorities binds me to conclude that the established practice in relation to winding-up petitions is the practice which applies, or is one which should be adopted, in relation to administration applications.  Patten J did not give any reason for adopting the approach which he did other than the facts (i) that it was there was common ground between the parties and (ii) that there was an established practice in relation to winding-up petitions.  Lawrence Collins J did not even state expressly that there was such a practice and it was not necessary to his decision for him to do so.  I do not, therefore, regard those cases as providing any assistance.

49.	It is clear to me that Mr Sutcliffe is unable to demonstrate that there is an established practice in relation administration applications similar to that which applies in relation to winding-up petitions.  The question is whether I should in effect create such a practice.  In my judgment, it is not appropriate to do so.  The sharp distinction drawn by Saville LJ between, and the entirely different nature of winding-up, on the one hand, and administration, on the other hand, lead me to conclude that there is no prima facie reason for importing into administration the practices developed in relation to winding-up.  

50.	That is not to say that some of the factors which have led to the practice in relation to winding-up petitions will not also play an important part in the exercise of the discretion relation to applications for administration orders.  In particular, there is force in the proposition that the administration procedure is inappropriate for the resolution of disputes about debts or disputes about cross-claims which might exceed undisputed debts, just as it is inappropriate in the context of the winding-up procedure.  

51.	I do not, however, consider that that proposition, even if it is accepted without qualification, leads to the conclusion that the winding-up practice should apply.   As Saville LJ said, it is self-evident that before the court will bring the company to an end, it will have to be satisfied, save perhaps in an exceptional case, that the person seeking to achieve that objective has the requisite status to petition the court.  It is therefore necessary to decide, in the case of a creditor’s petition whether the petitioner is in fact a creditor (unless the case is exceptional).  And a similar rule applies as a matter of practice to cross-claims.

52.	Saville LJ considered that there was nothing in the context of administration orders to suggest that the court has no option but to set aside or rescind an administration order when facts arise which indicate that the petitioners may not fall within the classes of section 9(1) (as was the relevant provision before him).  Similarly, I consider that there is nothing to suggest that the court has no option but to refuse to make an administration order save in exceptional circumstances when facts arise which indicate that the applicant may not fall within the classes of paragraph 12(1) Schedule B1 because his debt is disputed or where there is a cross-claim.  In my judgment, the court’s discretion is at large and is not constrained by any practice similar to that adopted in relation to winding-up petitions.  In particular, in the case of a cross-claim where there can be no argument about jurisdiction, it may be that the facts indicated quite clearly that an administration order would be desirable; in such a case, there would seem to me to be no reason for requiring that a creditor – who clearly has locus standi to make an application – should be forced to defeat the cross-claim as a pre-condition of obtaining an order.

53.	Further, in my judgment, a person is a “creditor” within paragraph 12(1)(c) Schedule B1 so long as he has a good arguable case that debt of sufficient amount is owing to him (to adopt the words of Lord Denning in Claybridge Shipping).  Thus, even in the case of a disputed debt, such a person may make an application for an administration order.  It is then a matter for the discretion of the court whether actually to make an administration order.  The court has jurisdiction to deal with the application without having to resolve the dispute about the debt.

54.	Of course, that is not the end of the story.  The court can only make an administration order if it is satisfied, in accordance with paragraph 11 Schedule B1, that the company is or is likely to become unable to pay its debts for which purpose it is necessary to refer back to section 123.  It does not necessarily follow from the fact that an applicant for an administration order whose debt is disputed is a creditor for the purposes of locus standi to make an application that he is a creditor for the purposes of section 123(1)(a) or that the amount of his alleged debt is a debt or liability for the purposes of sections 123(1)(e) or (2).  The point here is that the mere fact that, on the evidence before it, the court is satisfied that a petitioner has a claim which is sufficient to give him the status of a creditor for the purposes of locus standi does not necessarily mean that that same evidence is sufficient to persuade the court that his purported debt should be taken into account in assessing solvency for the purposes of section 123.  

55.	Thus, focusing on sections 123(1)(e) and 123(2), it has to be proved to the satisfaction of the court that the company is unable to pay its debts as they fall due or that the value of its assets is less than its liabilities.  In carrying out that assessment, the debt (where it is disputed or subject to across-claim) of an applicant is in no different a position from any other debt which is disputed or subject to a cross-claim.  The court will have to form a view on the basis of all the evidence before it whether it is satisfied as required by either of those sections.  There is this difference however.  The court may, in the exercise of its discretion, require the dispute (about the debt or the cross-claim) to be decided before making an order, either requiring the matter to be determined in a separate action or by deciding the issue itself.  In such a case, of course, the court would not need to make a determination about solvency unless and until the dispute had been resolved.

56.	There is one other topic I would mention at this stage, namely transactions at undervalue, these are dealt with by section 238 Insolvency Act 1986.  The section applies only where the company enters administration or goes into liquidation.  Where the company has, “at a relevant time”, entered into a transaction at undervalue, the officeholder may apply for an order restoring the position to what it would have been if the company had not entered into the transaction.   A transaction at undervalue includes one entered into by the company with another person for a consideration (given by that other person) the value of which is significantly less than the value of the consideration provided by the company.  However, the court is not allowed to make an order under this section if it is satisfied (a) that the company entered into the transaction in good faith and for the purpose of carrying on its business and (b) that at the time it did so there were reasonable grounds for believing that the transaction would benefit the company.  

57.	Section 240 explains what is meant by “relevant time”.  A relevant time for the purposes of section 238 is any time within the period of 2 years ending with the date on which the administration application is made.  But the company must, at the time of the transaction, have been unable to pay its debts within the meaning of section 123 or becomes unable to do so in consequence of the transaction.  These requirements are presumed to be satisfied unless the contrary is shown where the transaction is with a connected person.

The Licences
58.	I come now to the various licence agreements which are of relevance.

The 2002 Licence
59.	On 2 April 2002, Holdings and Tag-It entered into an agreement (“the 2002 Licence”) concerning the use of certain IP rights.  After reciting Tag-It’s wish to manufacture and distribute the Products using Holdings’ know how and IP rights and its desire to utilise equipment and raw materials manufactured or supplied by Holdings, it goes on to set out a number of definitions including the following:

a.	“Interlinings”: the fusible interlining components as are necessary to manufacture the finished Products including interlining and made-up waistband linings (including stretch jacquard tape where specified)

b.	“Garments”: finished apparel, bottoms and tops, including but not limited to trousers, shorts, skirts and tops.

c.	“Know-how”: such technical information, know-how, processes and techniques of Holdings as is required to operate the Equipment (as defined), the Processes and manufacture the Products.

d.	“Patent”: 721 and all continuations, divisionals therefrom and patents based on improvements or modifications to the invention.

e.	“Products”: all of Product A (stretch waistbands for Garments), Product B (stretch waistband linings for Garments), Product C (stretch tape for Garments) and Product D (Interlinings for Garments). 

60.	Patent 721 originally belonged to David as inventor.  It was assigned to USA in 2005.  As to this, see further at paragraph 68 below.

61.	Under the 2002 Licence, Tag-It is granted the exclusive (even as to Holdings), sublicensable, transferable and irrevocable right and licence under the Patent and the Know-how to manufacture Products A and B in the Part 1 Territory as defined and set out in Schedule 2 including, in particular, the USA and Mexico; and similar rights to market etc these Products for use in Garments manufactured in the Part 1 Territory.

62.	Tag-It is granted a non-exclusive right to manufacture Products A and B in the Part 2 Territory for use in Garments to be supplied for the US Market.  The Part 2 Territory is any other (non-Part 1 Territory) country in the World (other than Europe and Scandinavia) where Tag-It desires to establish a factory to manufacture Products A and/or B which are to be sold for use in Garments which are to be supplied for the US Market or US brand garments.

63.	Tag-It is granted a non-exclusive right to manufacture Products C and D in the Part 1 and Part 2 Territory for use in Garments to be supplied for the US Market.

64.	Provision is made for the supply and purchase of the Equipment (which is the equipment supplied and installed by Holdings to enable Tag-It to manufacture using Holdings’ processes).

65.	The 2002 Licence contains provision for termination.  It is governed by English law.  There is a provision conferring non-exclusive jurisdiction on the English court.

66.	Tag-It agrees that it will purchase all its requirement for Interlinings to be used in the production of the Products from Holdings (or approved suppliers) which agrees to supply Tag-It with its orders promptly.  If Holdings is unable or unwilling to fulfil such orders, Tag-It has the right immediately and thereafter to source from an alternative supplier.

67.	Provision is made for the payment of royalties with a sliding scale of 6% to 3% on Net Revenues as these increase and a minimum amount in each of the first 4 years rising from $200,000 to $450,000.  Net Revenues are all revenues received by Tag-It from its sales of the Products less taxes and levies, trade discounts rebates, returns etc.

The 2005 Licence
68.	On 16 February 2005, USA entered into a licence with Holdings (“the 2005 Licence”).   The genesis of this licence may have been the realisation (a) that 721 had not been assigned from David to USA (as had been the stated intention in July 2002) so that (b) strictly, Holdings did not have the power to grant the rights which it purported to grant by the 2002 Licence.   Accordingly, Mr Clay drafted two assignments (of 721 and 285) from the inventors to USA which in turn entered into the 2005 Licence to Holdings thus giving retrospective effect to the 2002 Licence.  There is a dispute about whether the 2005 Licence was intended to give to Holdings precisely the rights which Holdings had granted to Tag-It or whether it had a wider effect.  I do not need to resolve that dispute although I do need to look at what the 2005 Licence in fact achieves.

69.	It is recited that USA is the proprietor of the “PIL Patents” and the “PIL Know-how” and that USA had previously agreed to grant Holdings an exclusive licence of the 721 Patent and the PIL Know-how.  It is also recited that USA has agreed to grant an exclusive licence of “the 285 Patent” and “the 285 Divisional Application” on the terms set out.

70.	The “285 Patent” is 285 which I have already briefly described in the introduction.  It is a patent in respect of the invention entitled “interlining material, process of manufacture and use thereof” which names Paul and Michael Horsfield as inventors (and the “285 Divisional Application” appears to be a divisional claim in relation to 285 itself).  The “PIL Know-how” means any Know-how (itself widely defined) of USA which USA “shall in its absolute discretion decide is to be licensed to Holdings under this Agreement”.  And the “PIL Patents” means 285, the divisional application and 721.

71.	There is also a definition of “Insolvency Event” which, in relation to Holdings, means (i) that “its assets exceed its liabilities” (clearly an inversion in error) or (ii) that it is unable to pay its debts as and when they fall due or (iii) that a liquidator, receiver or administrator is appointed or (iv) that it suffers any other event of insolvency.

72.	In consideration of £1 and “such other valuable consideration as the Parties may agree from time to time”  USA grants a number of rights to Holdings including:

a.	An exclusive licence to exploit in the USA the invention claimed in 721 and an exclusive licence to exploit the PIL Know-how.  This carries rights to bring infringement proceedings against third parties and the right to grant sub-licence in the USA (including with retrospective effect).  The licence in respect of Know-how would appear to be little more than an agreement to agree since the only licensed Know-how is such Know-how as USA shall in absolute discretion decide to be licensed to Holdings so that, until a particular piece of Know-how is brought within the scope of the 2005 Licence, there is no exclusive right of Holdings to use it.

b.	An exclusive licence to exploit, in the USA, the inventions claimed in 285 and the divisional application.  This, too, carries rights to bring infringement proceedings against third parties and the right to grant sub-license in the USA (including with retrospective effect).   It also carries the right (but only with USA’s consent which may be withheld at USA’s absolute discretion) to grant sub-licences in the USA of those inventions.

73.	The 2005 Licence terminates when the last PIL Patent expires or if later when the PIL Know-how ceases to be confidential.  It terminates automatically on the occurrence of any Insolvency Event in relation to Holdings (which automatic termination purports to take place one day before the relevant event).

The Stretch Tape Licence
74.	By a licence agreement dated 12 January 2006 (“the Stretch Tape Licence”), USA granted certain rights to Stretch Tape Licensing Ltd (“STLL”).  This license relates to “certain novel apparatus and processes for treating fabrics to import east or stretch to them”.  The definitions section includes the following:

a.	“Know-How” is widely defined in relation to the Licensed Products.  

b.	“Licensed Products” means Stretch Tapes and Stretch Labels.  

c.	“Patents” are defined by reference to Schedule One (and any subsequent agreed additions to that schedule): they include 721 and 285 (and its divisional application).  

d.	“Stretch Label” and “Stretch Tape” are described.  Mr Sutcliffe says that the latter is Product C within the 2002 Licence.  I see no reason to disagree.

e.	“The Territory” is the world.

75.	USA grants to STLL an exclusive worldwide licence of the Patents and the Know-How limited to enable STLL to carry out the business of sub-licensing the manufacture and sale of the Licensed Products (and no further)  It is made clear that no rights are granted in relation to complete waistbands.   The consideration for the licence is £500,000 payable in instalments together with a royalty of 2.5% of royalties received from any sub-license, a royalty which, therefore, is likely to be a very small percentage of the overall product price.  STLL is to grant sub-licenses only in the form set out in the licence or such other form as may from time to time be agreed.

The 2006 License
76.	By a licence agreement dated 24 August 2006 (“the 2006 Licence”) USA granted certain rights to International.   I should mention that this agreement was not drafted professionally.  Philip – it is said to save costs – used the Stretch Tape Licence (which had been drafted by Mr Clay) as a template.  The definitions section includes the following:

a.	“Approved Sub-licence” is a licence in the form set out in Schedule Two.

b.	“Know-How” is widely defined in relation to the Licensed Products.  

c.	“Insolvency Event” means the appointment of a liquidator, administrator or receiver in relation to USA, International or any permitted assign or successor.

d.	“Interlinings” means fusible interlining components to be used in conjunction with the manufacture of the Licensed Products.

e.	“Licensed Products” means “Stretch and Shaped Waistbands and Stretch and Shaped Waistband Linings which have been subjected to any of the treatments or processes, or utilise interlinings, as claimed in any of the Patents so as to provide stretch or shaped characteristics”.

f.	“the Patents” are those listed in Schedule One (or which the parties agree to add to the list).  The list includes 721 (imparting stretch to fabrics) and 285 (interlining design to impart shape).

g.	“the Territory” means the world.

77.	USA grants to International an exclusive licence of the Patents and the Know-How limited so as to allow International to carry out the business of sub-licensing the manufacture, use and sale of the Licensed Products anywhere in the world and to produce Interlinings.  It is expressly provided that no rights are granted for anything other than stretch and shaped waistbands and stretch and shaped waistband linings and Interlinings.

78.	International is obliged to carrying out its business of sub-licensing using licence agreements substantially in the form of the Approved Sub-licence.

79.	The consideration for the grant of the rights is £1 million.  However, this is not payable immediately.  It is payable, as to £50,000 by 24 August 2007.  As to the balance, International is to pay by way of licence fee 8% of the gross revenue achieved with any of the sub-licences it enters into.  This licence fee is payable out of revenues actually received by International (and not on receivables).  

80.	USA represents and warrants that (a) it is beneficially entitled to and/or is the registered proprietor of the Patents and the Know-How and (b) that it has authority to enter into the agreement and that it does not need any third party consents.

81.	The 2006 Licence is to run until the expiry of the Patents or if later when the Know-How ceases to be secret and substantial.   It terminates automatically upon the occurrence of an Insolvency Event in relation to International.  USA is entitled to terminate the 2006 License on a number of events including a failure by International to make any fee payment when it falls due.

82.	The Approved Sub-licence contains a few provisions which I need to mention:

a.	There is a definition of “Approved Interlinings” which means Interlinings which USA has approved and have been manufactured by an approved entity.  There are similar provisions in relation to “Approved Stretch Waistband Linings”.  There is a no similar provision in relation to “Approved Shared Waistband Linings” which may simply be an error since the term is used later in the document.

b.	“Garments” means finished trousers, skirts or shorts incorporating Shaped Waistbands or Stretch Waistbands.

c.	“Interlinings” is defined in a way which reflects the definition in the 2006 Licence.

d.	“Shaped Waistbands” are defined by reference to the methodology claimed in Euro patents 1071349 and also 285 and the divisional application.  Stretch Waistbands are defined by reference to two Euro patents but no mention is made of 721.  There are also definitions of “Shaped Waistband Linings” and “Stretch Waistband Linings, neither of which make reference to any patents or know-how.  Since the “PIL Patents” are those patents set out in the definitions of Shaped Waistbands and Stretch Waistbands, it would appear that on a literal reading 721 is not included.  This is odd given that 285 is included and given that the 2006 Licence itself is a worldwide licence, both of which suggest that sub-licences could be granted in relation to the US.  Given Pro-Fit’s approach that the 2002 Licence has been validly terminated, there is no reason why US business should have been excluded (although no doubt the Tag-It dispute would need to be finally disposed of before further US licenses could safely be granted).  I suspect the omission of 721 is a drafting error.

e.	International grants to the sub-licensee a non-exclusive licence under the PIL Patents and PIL Know-how to manufacture by reference to whatever territory the sub-licence is to relate to.  To protect the reputation and value of USA, the sub-licensee is to use only Approved Interlinings and Approved Shaped and Stretch Waistband Linings.

83.	International is not to charge the sub-licensee any separate licence fee if the sub-licensee purchases all of its requirements for Interlinings from International and, where required, Shaped Waistband Linings and Stretch Waistband Linings from an approved supplied.  This is to avoid what would otherwise in effect be double royalties for the same ultimate product.  

84.	Mr Clay asserts in his first affidavit that the effect of the 2006 Licence is to transfer all the exploitation rights (and hence the value) of USA’s IP rights to International, whilst leaving all the liabilities behind.  Mr Sutcliffe says that this is simply wrong, and relies on what Mr Dunnill and Philip say.  Mr Sutcliffe further says that the 2006 Licence did not relate to the US at all but was granted simply to enable the European market to be exploited.  The evidence of Mr Pearson and Mr Morris is that the purpose of the 2006 Licence was to secure substantial third party investment and funding for the underlying business.  The directors of Holdings/USA decided that the best way to mitigate, or to insulate, investors from the potentially damaging effects of the Tag-It litigation and to develop and exploit the various patents and IP – according to them other than 721 and 285 – on a worldwide basis would be to license some or all of USA’s technology to a company which was not part of the group and which was more likely to be able to secure the necessary funding.  I do not understand why 721 and 285 are said to be excluded.  They are clearly included in the definition of the Patents and the licence granted relates to the Patents so far as concerns waistbands.  There is also a licence to produce Interlinings.  Rather than rely on the (conflicting) views of Mr Clay and Philip/Mr Dunnill about the effect of these licenses, I shall analyse the position myself in a moment.

85.	But before I do so, I should mention some helpful diagrams which Mr Sutcliffe has produced.   I explain them in my own words in this way:

a.	The 2002 Licence: This is stated to be a licence in relation to 721 only.  The views of Mr Hobbs QC and Mr Young QC (as to which see in more detail later) are that it included rights under 285 also.  It must surely include rights under 285 to the extent necessary to produce any of the Products.  There is an exclusive purchase obligation on Tag-It in relation to machinery and interlinings.  It is said to relate only to waistbands for the US market.

b.	The 2005 Licence: USA licenses to Holdings all rights under 721 and 285, but subject, in the case of 285, to USA’s prior written consent to sub-licence.  This is not the whole story since the licences in relation to the inventions claimed in 721 and 285 only extend to the US, although there is a licence to exploit the PIL Know-how worldwide.

c.	Stretch Tape Licence: USA licenses rights under all USA patents (thus including 721 and 285) in relation to stretch tapes and stretch labels only and, expressly, not completed waistbands.  There is an exclusive purchase obligation on STLL in relation to machinery and USA has the right to approve third party manufacturers and sellers of interlinings.

d.	2006 Licence: USA grants an exclusive worldwide license to International of all USA patents and Know-how in relation to waistbands (and I would add waistband linings) only.  There is an exclusive purchase obligation on International in relation to machinery and USA has the right to approve third party manufacturers and sellers of interlinings.  Mr Sutcliffe’s diagram does not include the rights granted in relation to Interlinings.

e.	The result according to Mr Sutcliffe is that USA has the following retained rights: rights under all of USA’s patents (except 721 and 285) in relation to lingerie, shirt collars, industrial shrinkage, industrial finishing and such other applications as may be developed in the future.  721 and 285 are said to be excluded because they are the subject matter of the 2005 Licence to Holdings.  There are also these retained commercial rights: machinery sales and leases and interlining sales and third party interlining manufacturing approval.  That may be so: but if it had not granted the 2006 Licence it would also have the rights granted by the 2006 Licence, although USA’s rights might even then be subject to Tag-It’s rights under the 2002 Licence to the extent that it still subsists and to Holdings’ rights under the 2005 Licence.  One also needs to be careful about 721 and 285: what is licensed to Holdings by the 2005 Licence is the right to exploit in the US, the inventions claimed in those patents.  Accordingly, the 2006 Licence was able to licence the right, throughout the rest of the world to exploit those inventions (which may have been protected by other patents in other countries).

86.	However, it is true, as Mr Sutcliffe says, that the effect of the 2006 Licence is not to transfer all of the exploitation rights out of USA since USA retains revenue from USA’s trademarks, other patented technologies, and sale or rental of machines.  He also includes sale of interlinings but, in fact, production of Interlinings is, I think, included in the 2006 Licence.  It is also true that USA remains entitled to exploit its patented technology for everything except waistbands and stretch tapes: it retains the right to exploit applications relating to lingerie, shirt collars, tapes (other than those licensed to STLL) industrial shrinkage and finishing.   

87.	Subject to the observations which I have made, I agree with Mr Sutcliffe’s analysis and do not accept what Mr Clay says, namely that all exploitation rights were licensed to International by the 2006 Licence.  Whether the retained rights have any value is of course a different question.  

88.	I need to deal with a particular point at this stage.  As I have mentioned, Mr Clay says that the only purpose of the 2005 Licence was to put right the omission to give Holdings the rights which it needed itself to grant the 2002 Licence.  The 2005 Licence is certainly not drafted in such a narrow way.  Philip disputes this.  Mr Clay says that it should be rectified, saying that it is clear beyond doubt that that was its intended purpose.  Whatever the rights and wrongs of that dispute, the evidence before me comes nowhere near establishing, even on Mr Clay’s evidence, a case for rectification.  I proceed on the basis that the 2005 Licence means what is says.

89.	In the alternative, Mr Moss submits that, on the uncontroverted evidence, Holdings has never traded and such business as it has carried out has been done through USA.  I am not quite sure what Mr Moss meant when he says all business has been carried out through USA.  The 2002 Licence was clearly made by Holdings for itself and not as agent for USA, albeit that, if I understand the evidence correctly, USA has always collected the royalty payments due from Tag-It.  Nonetheless, the accounts for Holdings which I have seen do not disclose these payments in its profit and loss account.  Further Mr Pearson says that an agreement was made that costs incurred in the Tag-It litigation by USA on behalf of Holdings should be treated as an inter-company loan and that that loan should be reduced by USA retaining those royalty payments.  None of that is reflected in the filed accounts of either company.  

90.	The relevance of all this is its impact on the value of what USA granted by the 2006 Licence.  I turn now to the valuations.

Valuations
91.	On 27 July 2006, Valuation Consultancy Ltd (“VCL”) provided a valuation report to International (“the 2006 Report”) in relation to certain IP rights.  The July Report is signed in the name of VCR although it was carried out by a Mr Brewer of VCL.  It explains that VCL is dedicated to the appraisal of any asset which does not have a ready market value and directors and partners are accredited experts in the practice of valuing companies, intellectual property and intangible assets in the UK and internationally.  

92.	VCL’s instructions, as recorded in the July Report, are to place a value on the IP rights relating to technology intended to be used to make stretch waistbands in trousers and skirts.  The technology is stated to be protected by UK patents namely EP0705356 (this is the same as 721) relating to Pro-Fit 1, EP1071349 relating to Pro-Fit II and EP1200663 relating to graduated interlinings.  [Pro-Fit I and II are names given to different parts of this technology.]  A fair market value basis of valuation is adopted that is to say the exchange of cash or cash equivalents.  An opinion of valuation, subject to the caveats in the 2006 Reports, is stated at £350,000.  One of these caveats was the assumption that USA “has full and unfettered entitlement and rights to the IPR”.  This is the valuation which was used for the purposes of USA’s accounts for the period ending 30 September 2005 as the value of its intangibles.  The valuation is stated to be required to assist the directors of USA in the context of both investment and a potential sale.

93.	The valuation was reached after a visit to International’s premises and after discussion with Philip who was identified as the director in charge of operation and finance.  It is noted that the technology is intended to be used to make stretch waistbands in trousers and skirts at all price points, but that little interest has been shown other than by Dockers (part of Levi Strauss) in the USA.  

94.	It is recorded that the technology has been available since 1994 at which time it was going to be adopted by Marks & Spencer, but the system was never adopted due to excessive costs.  The system is noted as having a number of advantages and disadvantages.  Included in the latter are prohibitive cost for mass market and that the system has not become widely accepted (part from Dockers).  It is noted that supplies to Dockers have reduced and that Dockers plan (from November 2006) to use an alternative system which does not required the additional machinery required by Pro-Fit technology.

95.	The valuation is based on projected cash-flows as set out in the report.  This is done by reference to four segments (menswear, ladieswear each for US brands and non-US brands), in relation to which the largest segment is the US menswear market.  So, although Mr Brewer refers only to the European patents expressly, his valuation takes account of the US market and by implication the US patents.  It is difficult to tell whether he has taken account of use or the potential use of the technology in products other than waistbands but it appears that the cash-flows (and thus the valuation) related only to waistbands.  Mr Brewer did not refer to – and it is reasonable to infer that he was not shown and was not told about – any business plans for the Pro-Fit business going forward in particular for International.

96.	It is to be noted that the US Menswear segment was projected as producing an income before costs of about £326,000 for 2007 to 2011.  This was based on garment sales of 6,000,000 in 2007 reducing to 2,000,000 in 2011.   The value of segments 3 and 4 (Ladieswear US and non-US brands) is based on an offer from YKK and segment 2 (Menswear non-US brands) is based simply on the expressed view of USA that it would be reasonable to assign the same value as segments 3 and 4.  Notional income over 4 years is taken at $250,000 per segment.  Accordingly, $500,000 relates to the non-US brands.  Well over half of the value of the IPR which Mr Brewer valued (as described in his report) would therefore appear to be attributable to the US market.

Mr Hindley’s draft report
97.	At some time during late March or early April 2007, Mr Clay asked Mr Hindley, also of VCL, to give an indicative opinion of the value of certain IP rights licensed to International (then Bondmor).  His instructions appear to have been oral.  A draft of his report for discussion purposes is included in the court bundle.    The valuation relates to “the patented technologies owned by Pro-Fit” which technologies he understood convert non-stretch fabric into stretch fabric, primarily for use in trouser and skirt waistbands, but with application in many other fields including tapes and lingerie products.  Mr Hindley states that he based his opinion on:

a.	A copy of the Pro-Fit New Business Status Report dated December 2006: this is the two page report sent by Mr Pearson to Mr Clay.

b.	A copy of the Stretchtape Licence.

c.	A copy of the 2006 Licence.

d.	A copy of the Stretchtape Licensing Limited Business Plan from October 2005 (which is in fact not of relevance).

e.	A copy of the Pro-Fit Business Plan dated October 2006.  Mr Brewer would not, of course, have had this when carrying out his valuation in July but, as already noted, it would not appear that he had earlier drafts or any other business plans.

98.	Mr Hindley says that he had also had discussions with Mr Clay during which all aspects of the IP rights were addressed; and states that he had undertaken a limited amount of research to enable him to come to a reasonable and defensible indicative view of the minimum likely value of the IPR.

99.	Mr Hindley then refers to the 2006 Licence, noting that £50,000 is to be paid within 12 months of the commencement date and the balance by way of fees consisting of 8% of gross revenue from sub-licensees.  He notes that the licence is worldwide and covers “the Patent, the Know-How and any Intellectual Property Rights in any improvements”.  He does not examine the definitions of those terms.  He notes that the licence products include stretch and shaped waistbands and waistband linings and the fusible inter-lining components to be used in conjunction with those products.  In fact, that is not quite an accurate description since it includes everything which falls within the licence.  

100.	Mr Hindley’s then expresses the opinion that £1 million is a substantial undervalue: the true value is likely to be materially in excess of £30 million.  This is, of course, a huge difference.  I summarise his own summary reasons for reaching this conclusion:

a.	The patents have considerable life left in them.

b.	He refers to the Stretchtape licence dated 12 January 2006.  This licence appears to Mr Hindley to have materially more value (for much the same rights) than the 2006 Licence. However, this is, in any case, a different technology.  And the 2.5% royalty he refers to is 2.5% of a royalty of 5% - this will not produce very exciting amounts of money.  

c.	There is evidence of significant offers to trade and interest in products from potential customers.

d.	The Stretch Tape 3 year business plan from October 2005 shows turnover increasing.  Whilst not sustainable in the longer term, it indicates a very material value of the IPR in commercial exploitation.

e.	The Pro-Fit Business Plan for October 2006 shows forecasts of turnover rising to £36.6 million over the period 2007 to 2011.  After making necessary adjustments, these figures indicate to Mr Hindley a value materially in excess of £1 million.

Projecting the figures forward for another 2 years indicates a value of not less than £30 million using normal to conservative valuation criteria.

Mr Hindley’s formal instructions and report
101.	The matter was then dealt with more formally.  On 30 April 2007, Mr Clay gave written instructions to Mr Hindley.  His letter of instruction states that Hammonds “would like to engage your services as an expert witness on the issue of the valuation of certain intellectual property rights owned by [USA]".  The letter describes the technology briefly and identifies the principal applications as follows:

a.	Stretch applications such as waistbands – this being stated as by far and away the most important application (something with which Philip disagrees).  Mr Clay calls it the “Straight Stretch Technology”.

b.	“Curve Technology” – a variation of the Straight Stretch Technology resulting in a curved fabric/interlining composite with a particular application for women’s clothing.

c.	Tapes – pre-shrunk fabric strips used on clothing.  Mr Clay calls it “Tape Technology”.

d.	Other technology – this includes modifications and improvements to the above technology and various items of machinery used to implement them.

102.	Reference is made in the letter to the 2002 Licence in relation to the Straight Stretch Technology.  Mr Clay states that under the 2002 Licence, Holdings granted Tag-It a licence of the Straight Stretch Technology so as to enable Tag-It to make waistbands and other related items and importantly to sublicense other to do so.

103.	He then refers to the 2006 Licence which he describes but, being confidential, is unable to provide.  He does disclose the consideration.  He states that the 2006 Licence is exclusive, worldwide and covers many of Pro-Fit’s technologies including the Straight Stretch technology licensed to Tag-It under the 2002 Licence and the Curve Technology.  The products licensed under the 2006 Licence are stated to include straight and curved waistbands and fusible interlining components to be used to make those products.

104.	Mr Clay then refers to what he calls a reference licence, namely the Stretchtape Licence dated 12 January 2006.  Under this licence, USA licensed the same patents to Stretch-tape Licensing Ltd as were subsequently licensed to International under the 2006 Licence and also certain technologies relating to linings.  He explains that the ambit of the licences is different – being stretch tapes and stretch labels rather than waistbands and interlinings.

105.	Mr Hindley’s report is contained in a letter also dated 30 April 2007.  He bases his report on Mr Clay’s letter of instruction and Mr Clay’s affidavit (but not the exhibits).  He has also looked at certain of the US filings for Tag-It.  As with his earlier letter, he states that he has undertaken a limited amount of research to enable him to come to a reasonable indicative view of the likely minimum value of the IP rights.  However, he points out that he has only been able to take account of the information in the public domain and has therefore looked at the value of the IP rights with regard to its likely and potential exploitation by reference to a single (albeit larger) user – Levi Strauss – for which there was information available.  The information base is therefore different from that which was available to him in giving his earlier view.  Moreover, it is given on the footing that business with Levi Strauss will continue as usual when, as can be seen from Mr Brewer’s report, that is not the case,

106.	He gives a brief description of the technology describing the main use for the fabric strips as being in waistbands for trousers and skirts but acknowledging that the technology can be used in many other fields including in decorative tapes and lingerie products.  Mr Sutcliffe says that these are not included in the 2006 Licence but remain with USA: I think that that is correct save that Interlinings are also licensed.  

107.	In referring to the 2006 Licence, he describes it as exclusive, worldwide and covering much of USA’s IP rights including the straight stretch technology and the Patent, the Know-How and any IPR in improvements.  Mr Sutcliffe says that the licence does not include the US patents since those were licensed to Holdings under the 2005 Licence.  As a matter of construction, I think that the US patents are included (in the sense that there is a license under those patents for the purposes set out in the 2006 Licence but no further) so that if the 2005 Licence came to an end or was not binding on USA for some reason, the 2006 Licence would cover them.  I think it is reasonably clear that Mr Hindley has not reduced his valuation to reflect the 2005 Licence.

108.	Mr Hindley then expresses the opinion that £1 million is a material under-value as consideration for the 2006 Licence and that the value is likely to be very materially in excess of £2 million.  He gives his summary reasons.  The first two reflect the first two reasons in his earlier draft report.  He then gives these reasons:

a.	From public filings he can see that Holdings has licensed its straight stretch technology to Tag-It which, in turn had only one customer for this technology – Levi Strauss, which used it for just one type of trousers – Dockers 801 chinos.  Tag-It’s turnover for this customer for the year to 31 December 2006 was $9.3 million.

b.	In the absence of any further information, he has based his opinion on the known turnover of $9.3 million and, as is normal, has used a “relief from royalty methodology” which he goes on to explain briefly.  As Mr Sutcliffe points out, this is based on the income assumed to be derived by Tag-It from Levi Strauss.

109.	Mr Hindley concludes that on the basis of this methodology, the value of the technology in the US alone is likely to be far in excess of £2 million as Levis are only one brand and they have used the technology in only one product line so that “clearly the value of this technology on a worldwide basis in likely to be greater still”.

Consequences of the valuations
110.	Mr Clay was suspicious about the transaction, because USA and Tag-It had spent millions of dollars fighting over what he called “a subset of the IP that was being licensed out in the [2006 Licence]” and accordingly, Hammonds obtained the advice from Mr Hindley which they did.

111.	The 2006 Licence was, I agree with Mr Moss, clearly not a transaction at arm’s length in the light of the overlapping directorships and the overlapping of ultimate ownerships of USA and International.  One needs to view with particular care, therefore, the assertion that the transaction was indeed at a proper value and on commercial terms.  

112.	Mr Moss says that a simple comparison of USA’s position before and after the transaction demonstrates perfectly clearly that the transaction was at an undervalue.  He says USA is “clearly worse off”.  Prior to the transaction, USA had (subject to any prior agreement eg the 2002 Licence if still subsisting) all its rights in the IP with no cap as to its exploitation.  After the transaction, its ability to benefit is both conditional and capped and in return it retains a promise of deferred payment from a transferee which at the time of the transaction had no obvious means of paying.  

113.	As mentioned, Mr Sutcliffe points out that USA remains entitled to exploit its patented technology for everything except waistbands and stretch tapes: it retains the right to exploit applications relating to lingerie, shirt collars, tapes (other than those licensed to STLL) industrial shrinkage and finishing.   That is subject to such rights as had already been granted by the 2005 Licence which provides an exclusive licence to exploit in the USA all of the inventions claimed in 721 and 285.

114.	As to that, Mr Moss says that none of the retained rights have been exploited on any commercial scale, relying on what Mr Dunnill says in his first affidavit.  I do not read Mr Dunnill in that way, although it is true that he give no idea of the scale of any such exploitation or the value of these rights for the future.  I do, however, agree with him when he says that what the 2006 Licence purported to licence were USA’s critical IP rights as a new key vehicle for exploitation free of the creditors of USA.  Those creditors will, instead, have recourse only to the £50,000 payable later this month and the royalty income provided for in it.  

115.	Mr Sutcliffe says that Mr Hindley has in fact valued the wrong rights for the purpose of seeing what value the 2006 Licence transferred, and that his valuation evidence is of no assistance.  In particular, it is said that the valuations are (a) based on the value of the US patents which are in fact already licensed to Holdings and (b) based on a royalty flow in respect of business with Levi Strauss which that company has indicated will come to an end in the not-so-distant future.  In fact what the licence really relates to, it is said, are the non-US rights to exploit the technology in relation to waistbands in respect of which there has been no valuation at all.

116.	Mr Sutcliffe’s submission here is to the effect that, by this time (24 August 2006) the 2005 Licence had already been granted so that it was in Holdings, and not in USA, that the value of the IP rights, so far as concerns the US market, really resided.  Thus both the Stretch Tape Licence and the 2006 Licence both came after the grant of rights in relation to the US market pursuant to the 2005 Licence.  I note that this is not a point which the directors or USA took when including intangibles in the balance sheet of USA for 30 September 2005 (also a date after the grant of the 2005 Licence) at £350,000 and yet Mr Brewer’s valuation, as much as Mr Hindley’s, reflected the value of the US market which accounted for well over half of the value as I have said.  Further, Mr Brewer’s valuation seems to have reflected in fact only the waistband market: no part of his valuation process appears to attach value to other markets.  

117.	Philip says that he and his co-directors did not realise that Mr Brewer’s valuation failed to take account of the 2005 Licence.  I find that a very surprising suggestion.  It is perfectly clear from reading it that it took account of the US market and treated the income derived from Levi Strauss via Tag-It as the basis for valuing the relevant IP rights.  It is clear that Mr Brewer valued these rights as though they belonged to USA.  Indeed, one of his express caveats was the assumption that USA “has full and unfettered entitlement and rights to the IPR”.  

118.	What I would be able to accept – although neither Philip nor Mr Pearson has said as much – is that the directors did not really pay much attention to which entity owned what rights.  In particular, it was only when the absence of a licence to Holdings was appreciated in the course of the Tag-It litigation that the corrective 2005 Licence was granted.  Both before and after that, income from Tag-It appears to have been treated simply as USA’s income, although there has been a recent attempt to treat the costs of the Tag-It litigation which have actually been paid by USA as giving rise to an inter-company debt owed by Holdings to USA with the income receipts by USA being treated as satisfaction of that debt.  

119.	On that footing, the 2005 Licence might be regarded simply as a technicality, which might account for the fact that the directors of USA were content to include intangibles in the balance sheet at the value placed on the IP rights by Mr Brewer.  What I find difficult to accept, if indeed that is suggested, is that they could have included intangibles at that value positively thinking that the value took account of the 2005 Licence.

120.	Mr Moss’s responses to Mr Sutcliffe’s points are these:

a.	The IP rights passed over by means of the 2006 Licence plainly remain very valuable since International is “fighting desperately through its common directors to keep it, despite USA’s insistence in its latest evidence that the 2006 Licence is unnecessary”.

b.	As a matter of common sense, if the 2006 Licence did not transfer substantial value, International would obviously have handed it back and thereby taken away one of its main arguments put forward by Hammonds for putting USA into administration.  Again as a matter of common sense, since it has not handed it back, the IP transferred is plainly very valuable.

c.	This must be combined with the terms of the 2006 Licence itself which even without recourse to any external valuation show that USA was significantly worse off after the transaction than before it.  

d.	At the time of the transaction, International was a £1 shelf company with no assets or business of its own prior to the transfer of the IP.  Indeed, the evidence is that it has not even now started trading.  Whether or not it would later acquire valuable investors and be able to pay significant sums could not be known at that stage.  The value of the covenant was nil at that point.

e.	Although, as Mr Sutcliffe points out, the 2006 Licence could be terminated if there were a default in payment, the only payments required were (a) the initial (comparatively small) payment of £50,000 due only later this month and (b) a percentage of the income stream (so that if there was no income stream there would be no payment obligation).  In contrast, prior to the 2006 Licence, USA had the right to all moneys derived from the IP rights subject only to such prior rights as there may have been.  Even if the 2005 Licence takes the US market out of the picture, the market for the rest of the world is left.

f.	There were other ways in which the IP could have been exploited using a “clean” company under which the rights of USA’s creditors would have been protected, for instance by incorporating International as a subsidiary; alternatively, the IP rights could have been properly valued and sold for a proper cash consideration.  The 2006 Licence was designed, according to Mr Moss, not to look after the interests of creditors (which it is the duty of directors of an insolvent company to do) but was designed to look after the interests of shareholders.

g.	USA’s own valuation from Mr Brewer suggests that the value of the IP transferred was £350,000.  But USA has refused to reveal Mr Brewer’s instructions: Mr Clay’s evidence raises serious question about the extent of relevant information with which Mr Brewer was supplied.  Even so, £350,000 was a cash value and not “a worthless promise from a £1 company”.

121.	I will consider these points in a moment.  But what is apparent is that they do not address the effect of the 2005 Licence or the validity or relevance of the valuations.  

122.	Assuming that the exclusive rights to exploit, in the US, the inventions claimed in 721 and 285 are validly licensed to Holdings by the 2005 Licence, then those same rights could not validly be licensed to International (which clearly had notice of the 2005 Licence).   An assessment of the value of the rights licensed by the 2006 Licence ought not, on this basis, to include any amount in respect of the rights granted by the 2005 Licence.  Manifestly, however, Mr Hindley’s valuations do not reflect the 2005 Licence.  Indeed, his figure of £2 million is based solely on the Levi Strauss business.  He says that other US business would have a value and that the worldwide business is likely to be more valuable still, but he does not place any value on that.

123.	As to the effect, as a matter of construction of the 2005 Licence, it does appear that the US rights were effectively licensed to Holdings.  But if that was intended to reflect reality, there are some curious consequences:

a.	The Stretchtape Licence would be subject to Holdings’ rights whatever they may be.  But there is no suggestion that STLL has conducted its business in a way other than on the basis that it had received the rights granted to it.  Philip and Mr Pearson consider that the 2005 Licence cuts across the Stretch tape Licence and say that they are very concerned about this point now that it had been appreciated, and question how Mr Clay could have drafted the Stretchtape licence in the way he did without ensuring that Holdings allowed the relevant rights to be granted.  Mr Clay says that the Stretchtape Licence does not in any case cut across the 2005 Licence and gives an explanation of why this is so in his fourth affidavit.  I do not propose to attempt to resolve this issue, but it illustrates another complication in the arrangements.

b.	Mr Brewer’s valuation would be unsustainable as a valuation of what USA actually owned (although to be fair to Mr Brewer, he has clearly valued the asset ignoring the 2005 Licence).  First, ignoring royalty payments, the actual rights retained by USA would have to reflect the 2005 Licence; but, as a result of that, the valuable US market (not just in waistbands but in the entire inventions claimed in 721 and 285) was the exclusive province of Holdings.  Secondly, any royalty income in the US would belong to Holdings not to USA and Holdings does not appear to be under any obligation to make onward transfer of any royalty payment, the consideration payable by Holdings being £1 and such other consideration as the parties may agree.  So far as I am aware, no relevant agreement has been made.  The directors of USA saw fit to instruct Mr Brewer to carry out his valuation on the basis that the US rights belonged to USA and it would be idle to suggest that Holdings was not aware of this.

c.	The value placed by the directors of USA on its intangible property in the 2005 balance sheet is £350,000 and is clearly the adoption of Mr Brewer’s valuation, again reflecting the directors’ view that the US rights belonged to USA.  I note again that the balance sheet date (30 September 2005) was after the date of the 2005 Licence.  

d.	If, in fact, the US rights under 721 and 285 were not in USA but in Holdings, so that the £350,000 valuation is not sustainable, then the figure for intangibles shown in the 25 April 2007 pro forma balance sheet is not a reflection of the true value.  Mr Pearson says that the 2007 balance sheet is accurate.   As a matter of accountancy practice he may be right.  But if one is addressing the question whether assets exceed liabilities, it would not seem right to me to bring the intangible property into account at an amount which does no more than reflect Mr Brewer’s valuation and improvements unless one also accepts that the 2005 Licence does not affect the position. It may then follow that Hammonds’ case concerning undervalue is weakened, but its case in relation to insolvency would be strengthened since USA’s balance sheet would not be so strong.

e.	If the £350,000 valuation is not sustainable, then there is no sense in USA’s case that the £1 million consideration was arrived at to eliminate any argument that there was a transaction at undervalue in the light of that valuation.

124.	As to value, it is clear that both Mr Brewer’s and Mr Hindley’s valuations do reflect the US market and the US patents.  They do not reflect the 2005 Licence and Mr Hindley’s formal valuation does not reflect Levi Strauss’ expressed intention to cease in the foreseeable future using Pro-Fit technology.  

125.	There is also this curiosity.  The business plan for International of October 2006 – and thus well after the date of the 2006 Licence – shows royalty payments to USA in 2007 to 2010 of £50,000, £100,000, £350,000 and £500,000 respectively.  The figure of £50,000 is expressly provided in the 2006 Licence as the figure for 2007.  Since the licence fee under the 2006 Licence is 8% of gross revenue achieved with sub-licensees, the underlying corresponding figures for such gross revenue in 2008 to 2010 are £1,250,000, £4,375,000 and £6,750,000 respectively assuming that the business plan reflects the terms of the 2006 Licence.  There is no material to explain how the forecasts in the business plan are arrived at nor how the underlying but unstated gross income from sub-licenses is reached.  It strikes me as surprising that a licence to generate these gross incomes and presumably into the future should be granted for a capped consideration of £1 million which is payable if, but only if, such revenues are in fact generated.  

126.	The business plan also envisages product sales by International.  Thus in 2008, one sees a forecast of royalty and sales of £6,600,000.  Stripping out £1,250,000 in relation to sub-licence gross income, leaves £5,475,000.  The sales must relate to the products that USA was manufacturing – principally interlinings which under the 2006 Licence, International is licensed to produce.  No royalty additional to the £1 million instalment fee appears to be payable.

127.	Moreover, the thrust of International’s business plan is that it is that company which will be carrying out all the trading activities, hence it has a machinery division as well as a waistband division.  It is entirely unclear to me what was intended to be left in USA.  In the event, I am told that International has not yet traded the necessary implication being that such trading as has continued is being carried on by USA.  Indeed, it is USA’s case that it is trading.  This is odd, at least so far as concerns waistbands, since it has granted an exclusive licence of the Patents (including 721 and 285) to International for the purpose of its International’s sub-licensing business.

128.	Further, as already noted, the business plan states that the royalties to USA are required to pay the development and patent protection costs – query whether this includes the cost of the Tag-It litigation – and does not seem to reflect any assessment of market value at all.  If that is the basis of the fee under the 2006 Licence, then it would not be surprising that no royalty remained payable after £1 million had been paid.

129.	Returning to Mr Moss’s points, there is certainly forensic attraction in points a and b.  But it does not follow, I think, that, just because International is keen to keep the 2006 Licence and USA is keen that it should do so, the consideration for the 2006 Licence is less than it should be.  A commercial undertaking may well wish to acquire or retain valuable rights for its business whilst at the same time being willing to pay a proper market value for them.  Having said that, I agree that it is surprising that the 2006 Licence has not been given up in the light of the evidence to which Mr Moss refers at the end of point a.

130.	As to point c, there is a lot of force in what Mr Moss says, assuming, as I consider is justified on the evidence, that the rights granted by the 2006 Licence were certainly worth more than £50,000 (the initial payment).  It is not then easy to see how rights should be licensed for only 8% of the gross income generated by the grant of sub-licenses.  This is not 8% of income generated from the sale of products where the amount of the royalty would be based on the sale price – as in the 2002 Licence where the royalty payable by Tag-It ranged from 6% to 3% of Net Revenues.  

131.	Quite apart from that, point d also has considerable weight.  It is not just that the value of the covenant might be nil; it is that there is no certainty that International would generate any business at all – indeed, as I understand the position, it had not traded yet and may not do so, so that the prospect of any significant payment in 2008 is remote.  One might remark here that International is under an obligation to use best endeavours to find licensees.

132.	Point e seems to me to be correct as does point f insofar as it identifies other ways in which matters could have been dealt with.

133.	The upshot of all this is that the valuations from Mr Brewer and Mr Hindley do not really help me much in assessing whether the 2006 Licence was granted at an undervalue.  I do not know the information on which Mr Brewer based his valuation and it may be that the reservations expressed on behalf of Hammonds have some validity.  In particular, if he had known about the International business plan, and had it explained to him, he might have come up with a larger value of the IP rights in relation to exploitation out of the US than one can divine from his actual valuation.  Mr Hindley’s formal valuation only puts a figure on the value of the US rights, simply saying that by including non-US rights, the figure would be higher.  His earlier report for discussion – if I am entitled to rely on it at all – comes up with a very large figure, but I do not understand how he gets to that from his starting point nor what value he would place in the IP rights were he to take into account the 2005 Licence.

134.	Having said that, it is clear that the 2006 Licence was not a transaction at arm’s length; and it is clear that USA did not take any valuation advice about whether the consideration which it obtained was a fair value.  I am bound to say that I would be surprised to find USA licensing that technology to an independent third party on that basis.

Solvency of USA
135.	The next, and critical, aspect of the case is USA’s solvency.  The questions are:

a.	Am I satisfied that USA is unable to pay its debts as they fall due for the purposes of section 123(1)(e)?

b.	Am I satisfied that the value of USA’s assets is less than the amount of its liabilities (taking into account its contingent and prospective liabilities)?

136.	I have the last filed accounts and a two pro forma balance sheets for 25 April 2007.  The pro forma balance sheets contain no notes and no financial information.  Mr Ellis, one of the proposed administrators, has made a number of comments which I will come to which has produced from Mr Pearson some statements about USA’s financial position.  But he has not produced any documentary evidence in support of his assertions.  He has produced no financial documentation at all to show how the balance sheet has moved from its position in 2005 to its position in April of this year.  

137.	The last filed accounts of USA run to 30 September 2005.  The Chairman’s (Paul) report in those accounts is dated as recently as 29 March 2007.  He states that the company has been locked into defending litigation in California (ie the Tag-It I litigation).  In this period (which I take to be a reference to the accounting period 1 October 2004 to 30 September 2005) it is said that over £1 million has been expended on defence costs.  He also states that the company will be concentrating its future efforts more on licensing and co-operation agreements rather than being actively involved with product manufacture.  However, the company is said still to be involved in product development and the sourcing of materials for its strategic partners.

138.	The Directors’ report discloses the principal activities of the company as the manufacture and design of interlinings, the development of machines for a patented textile process and collection of royalties in respect of licence agreements.  The only licence agreements which I have seen relevant to the period to 30 September 2005 are the 2002 Licence and the 2005 Licence (from February).  

139.	The loss on ordinary activities before taxation was £630,313.  The loss for the year, after taxation, amounted to £455,062 (2004: profit £128,413).  This loss reflects £945,578 (2004: £327,341) relating to the costs of the Tag-It litigation indicating, therefore, a profit apart from that item of about £490,000.  An unrealised gain on revaluation resulted in a loss for the year of £267,944.  A dividend of £127,568 was paid.  The accounts are not sufficient to indicate the breakdown between trading income (interlinings and machines) and royalties.  So far as royalties are concerned, there is no indication of what the relevant licence agreements actually are.  From the evidence in this application as a whole, it would appear that the only significant income from outside the group derives from the 2002 Tag-It Licence.   Given that no royalty income is shown in Holdings profit and loss account for the same period (its only income being a dividend from USA) it is reasonable to think that the Tag-It royalty is in fact shown in USA’s profit and loss account (assuming that it has not simply been omitted altogether).  

140.	The balance sheet shows net assets of £316,580.  Included in this is a value for intangible assets of £350,000.  This clearly reflects the valuation carried out as of July 2006 by Mr Brewer of the patents referred to in that valuation.  A secured bank loan of £101,288 is shown.  The 2006 Licence is a post-balance sheet event.  Mr Moss says that it should have been disclosed in these accounts being a transaction at undervalue with an associated company.  Mr Pearson disagrees on the basis that the transaction was not at undervalue at all.  From the analysis which I have already carried on in relation to the licenses, it will be apparent that this valuation took no account of the 2005 Licence.  

141.	There are no accounts for the year end 30 September 2006.  At least, none have produced in evidence nor have any other accounts of any sort been put in for any period after 30 September 2005 save for two pro-forma balance sheets as at 25 April 2007.  There is no profit and loss account produced for any period after 30 September 2005, nor any management accounts of any sort.  Mr Pearson says that the first of these pro forma balance sheets was prepared by, or at least with input from and the approval of, USA’s auditors and that the second, which simply includes a correction to the first, is also approved by the auditors.  

142.	The figures shown in the first pro forma balance sheet are these (figures in square brackets being those shown on the 25 September 2005 balance sheet):

Fixed assets 	£784,565        	        [£1,076,510]
comprising
Tangible 	         £383,847 	                  [£716,182]
Intangible 	£381,417 	                  [£360,328 ]

Current assets	£1,461,177	                  [£969,062] 
Comprising
Stock		£377,370	                  [£246,399]
Debtors	         £1,064,177	                  [£611,747]
Others debtors and
Prepayment	£13,247	                   [nil]
Bank		£6,206		          [£110.916]

Current liabilities
		        (£1,208,586)	          [(£1,623,910)]

These include trade creditors, other creditors and accruals, NI/VAT and bank loans, in particular for 25 April 2007, £45,846 for NI/VAT which shows, according to Mr Pearson, that USA was trading.

Net current assets therefore\£252,424\	                     [£(654,858)]
Accrued royalties\		       £132,024\
Long-term liabilities\(£365,147)\	                     [(£105,082)]
Net assets\£784,565\	                      [£316,580]

143.	Debtors includes £750,000 which Red Kite has, apparently, agreed to subscribe by way of shares, the balance sheet showing share capital representing that (unpaid) subscription.  Ignoring that investment, net current liabilities would be just under £500,000 as compared with £650,000 in 2005 and net assets would be £34,565 as compared with liabilities of £316,580.  

144.	As to that subscription, Philip says that there has been

“an immediate cash injection of £750,000.  The temporary effect of this transaction has been to transfer the ultimate ownership of [USA] from [Holdings] to Red Kite.”

145.	That is slightly misleading for it gives the impression that £750,000 has actually be paid to USA.  The true position is this.  By the time of the 2007 balance sheets, Red Kite had agreed to make an equity investment of £750,000 into USA.  The whole of that £750,000 is shown in the balance sheet as part of the share capital.  I understand, however, that, as at time none of that amount had actually been paid although I also understand that the obligation to pay it is reflected in the figure of £1,064,177 shown against debtors under current assets. By the time of the hearing before me, I am informed that £250,000 of that total had been paid up.  I have not seen anything which places an obligation on Red Kite to subscribe the balance or which establishes that it able to do so although I have no reason to doubt that Red Kite can pay. 

146.	This rather confirms, to my mind, the insolvent position of USA prior to the taking on of the obligation to make the cash injection.  Now it turns out that there has not been a cash injection at all and that £500,000 remains to be paid in respect of the share issue.  Why the transfer of ownership is described as temporary is explained in the evidence by Mr Pearson in this way.  It is, he says, the intention of management to restructure the group.  Red Kite had originally been intending to invest in International but Hammonds’ actions have resulted in the need to invest in USA instead.  Since that has been done, it is no longer necessary to have the 2006 Licence at all – the need for a “clean” company was to attract investment but that investment has now taken place.  On the restructuring, Red Kite will cease to be majority owner of USA but will take its equity higher up the group.

147.	The second pro forma balance sheet is identical save for two changes.  The first is the cancellation of the accrued royalty.  The second adds a long-term asset of £302,476 against an entry “Pro-Fit Holdings Ltd”.  The Note to that entry explains that figure as representing (£348,037) an amount due from Holdings (legal costs less royalties) less “original intreco balance payable”.   Mr Pearson explains in his evidence that the costs of the Tag-It litigation have been paid by USA but are really the liability of Holdings.  USA has, however, collected royalties which are really due to Holdings.  That, I think, accounts for the figure of £348,037.  It is unclear to me, however, whether that figure treats USA as having received monies which are in fact sitting in the Californian court pursuant to a writ of attachment obtained by Mr Roup.  The inter-company balance of £45,561 is shown in the 2005 balance sheet as an amount due from (an error for due to) Holdings.  I do not know where it is reflected in the first pro forma balance sheet.  It was found under current liabilities in the 2005 balance sheet, but whether it is included in the first 2007 balance sheet under “Debtors (less factoring acc)” I do not know.  If it is not, then it would appear to have been omitted.  It is reflected in the second pro forma balance sheet as explained by the Note.  The result of these adjustments is to produce net assets of £1,000,578.  Ignoring the Red Kite investment would give net assets of £250,578 again as compared with £316,580 in 2005.

148.	In relation to the revision to the 2007 balance sheet, I note that USA’s profit and loss account for the year ending 30 September 2005 has taken into account the legal costs paid by USA.  USA has in fact collected the payments due from Tag-It (which I assume are also reflected in the profit and loss account).  I assume that the revised account reflects this treatment from the inception of the 2002 Licence.  I imagine that the consequential revision of USA’s profit and loss account may have some taxation consequences.

149.	That is all one finds in the accounts.  There has been exchange of evidence between Mr Ellis (one of the proposed administrators) and Mr Pearson.  It is a matter of some importance to see what each of them has to say about the solvency of USA both in terms of ability to pay its debts as they fall due and its net asset position.  But before looking at what they say, it is necessary to give some consideration to the significant debts in respect of professional fees and other matters which Hammonds say are owing not only to themselves but to others but which, in some cases, USA now challenges.  

USA’s professional creditors
150.	The background here is that USA and Holdings had engaged the services of a number of professionals in relation to the Tag-It litigation.  Those professional advisers have run up very significant fees which remain unpaid.  Further, a Mr Roup and his lawyers had a claim against USA arising out of the Tag-It litigation.  During the course of 2006, there were proposals by USA and Holdings for the restructuring of the debts due in respect of fees and Mr Roup’s lawyers’ claim (none of which was, at that stage, challenged).  It is of assistance to carry out a brief review of the negotiations for that restructuring which involved the provision of loan notes to the various creditors repayable over 4 years and also of Hammonds’ retainer and the nature of the claims against Hammonds.

Restructuring of debt
151.	On 24 June 2006, Mr Pearson emailed Mr Clay, among others, attaching terms of the Loan Note which was

“proposed to be issued in settlement of your outstanding debt.  I also enclose a minimum payment schedule.  The Company is grateful for the understanding and cooperation in this matter……”

152.	The attached Loan Note terms indicated that repayment would be on a quarterly basis calculated as a variable amount based on the receipt of royalties arising from “the patents and other intellectual property generated from the worldwide sales of products using the Pro-Fit technologies…..”.  HSBC was a secured creditor and it was to be provided that unless repaid fully from other sources, HSBC would take the first $250,000 in priority to loan note repayments.

153.	It was to be provided that if USA entered into any formal insolvency arrangement, administration, receivership or liquidation, the Loan Notes would become immediately repayable and rank alongside other unsecured debt.  No provision was made for the payment of interest.

154.	Schedule 1 lists the creditors and the debts which would be covered by the Loan Notes:

•	Robins Kaplin Miller Ciresi (“RKMC”). This is a firm of US lawyers acting for USA in the Tag-It litigation.  Debt $596,966

•	Libra Securities (“Libra”).  This is a financial adviser, advising Tag-It in relation to Tag-It and certain IP issues.  Debt $225,000

•	Hammonds. Debt $741,713.

•	Wolke Rifkin Shapiro and Schulman (“WRSS”).  This is a firm of US lawyers acting for Mr Roup in relation to his own dispute with Tag-It, the fees of which USA had underwritten.  Debt $185,000

•	Carle, Mackie, Power & Ross LLP (“Carle”).  This is another firm of US lawyers which, as I understand it, acted for USA.  Debt $12,000

Total debt approximately $1.75 million.

155.	The current position in relation to this indebtedness appears from the following paragraphs.

Libra
156.	Libra was engaged under an agreement dated 1 April 2005 as a financial adviser in relation to Tag-It I and a possible settlement of that litigation.  The agreement with Libra was made by both Holdings and USA.  It was to terminate at a (not very) long-stop date of 31 December 2005.  A fee of $200,000 was to have been payable if a settlement was achieved, but that did not happen.  However, on 12 September 2005, an amendment was made to the agreement.  The long-stop date was extended to 31 January 2006.  In addition, Holdings and USA became liable to pay not only the $200,000 in the event of settlement, but also $25,000 per month (with retrospective effect from 1 May 2005).  This appears to be a fee simply for acting, whether or not a successfully settlement was achieved, although it was not to become payable until the agreement expired.  There then follows a rather unusual provision which appears to permit Holdings and USA to decline to pay more than they could afford if cash constraints so demanded, with the balance being subject to a “good faith” negotiation for a deferred payment programme.

157.	Not having been paid what it claims is owing, Libra sued Holdings and a company which it named as Pro-Fit International Ltd in California.  On 17 April 2007, the two named defendants counter-claimed for negligence.  It is slightly odd to my mind that International is named as a claimant by counterclaim.  It is clear that the agreement with Libra was made by USA not International, albeit that at the time USA was called International.  Whilst Libra might not have appreciated this – and thus could have mistakenly named the wrong company – those in the Pro-Fit camp have always known the true position.  I do not think that Philip can possibly be correct in his suggestion to the contrary in his evidence. 

158.	Be that as it may, the counterclaim has been made.  It alleges three causes of action:

a.	Breach of the agreement by failure to deliver competent financial and legal services.

b.	Negligence in failing to exercise the pleaded duty of care, and negligence in advising (i) that Tag-It was about to go bankrupt (ii) that Pro-Fit should decline settlement in favour of waiting to declare bankruptcy and (iii) that similarly Pro-Fit should await suing Levi Strauss.  As a result, Pro-Fit failed to settle with Tag-It and failed to sue Levi Strauss.  Exposing Pro-Fit to further litigation costs with Tag-It and losing it cause of action against Levi Strauss for failure to file within the period of limitation.  

c.	Declarations are sought that the agreement constituted the unlicensed practice of law by Libra with the result that the agreement is void or voidable.

159.	Mr Moss says that this claim, like the claim against Hammonds, is not either bona fide or substantial.  I am bound to agree with him when he says that the defence is sparse and the counterclaim lacks proper particularity or at least would do so if it were an English proceeding.  

160.	The counterclaim also has to be viewed against the history which is that, just as with the Hammonds debt, Libra were acknowledged as a creditor without any complaint about its advice, in the draft loan note provisions.  It is only when Libra fails to agree to the restructuring of its debt that complaints emerge about its advice.  In the case of Hammonds’ debt, the volte face from praise for assistance to allegations of negligence is at least explained by the review carried out by Gorvins; but in relation to the Libra debt, there is no such explanation.  Philip fails to deal in his evidence with his admissions of the Libra debt in October 2006. In particular, there is no evidence to support any suggestion that Mr Pearson and Philip were simply keeping silent because they wanted Libra out of the way.  

Mr Roup’s claim
161.	Herman Roup was at one time employed by Tag-It.  He subsequently worked for either Holdings or USA as a salesman for USA.  He alleges that he is owed substantial sums in the order of $429,000 for salary and reimbursement of business expenses.  His lawyers, WRSS say that Pro-Fit never responded to his demands.  Consequently, he commenced legal proceedings to collect the amount due in the Californian court.  Mr Roup has obtained a writ of attachment in an amount slightly in excess of $413,600.   In order to obtain that writ of attachment, Mr Roup satisfied the court that he had established “the probable validity” of his claims.   I will have more to say about this later.

162.	Included in the Schedule to the terms of the Loan Note is a figure of debt of $185,000 owing to WRSS.  This is part of Mr Roup’s claim against USA in the larger sum just indicated.  Both Philip and Mr Pearson have, in the past, admitted that the WRSS part of the debt is due.  Although Mr Roup’s claim is now said to be disputed, there is no explanation in the evidence of why the WRSS part of the debt which was previously admitted is now challenged.  It is not explained, either, what the defence to this part of the claim is.  The Californian court, in any case, accepted that Mr Roup had established the probably validity of his claim (ie the whole of it) and that he would suffer irreparable injury absent a writ of attachment.  He gave a cross-undertaking supported by an indemnity bond.  He only issued his writ of attachment after Holdings/USA had failed to respond to repeated requests and a written demand for payment.  Mr Pearson relies on certain emails to demonstrate that Mr Clay himself regards Mr Roup’s claim as some sort of “scam”.  However, my reading of Mr Clay’s emails relate not to the underlying claim but the obtaining of temporary relief without service.  

Carle
163.	Carle is a firm of US attorneys who were early advisers in the Tag-It litigation.  They are owed a modest $12,000 which has been outstanding since January 2006 when they ceased to act for USA.  This debt too was admitted in the loan note proposals.  There is an alleged dispute about the debt.  But Philip’s evidence on this is vague and unparticularised. 

RKMC
164.	RKMC is the only one of the creditors shown in Mr Pearson’s October 2006 Schedule who did agree some form of scheduled repayments of the debt due to them. RKMC acted for Holdings/USA in relation to the Tag-It litigation from May 2004 to December 2006.  They were therefore advising during part of the period when, according to Holdings and USA, Hammonds were acting negligently.  No negligence claim has been made against RKMC.

Restructuring of debt (continued)
165.	Returning to the debt restructuring, on 5 July 2006, Mr Pearson sent a chasing email to Mr Campbell, the partner at Hammonds dealing with the negotiations.  He stated that time was critical as the Company was closing other negotiations with creditors.  Mr Campbell responded, saying that Hammonds has been unable to complete due diligence in terms of input from HSBC.  He noted that Hammonds had not received any details of USA’s business plan and that there were a number of queries relating to the bond proposals.  There seems to have been no response from USA until 31 July when Philip re-sent the proposals sent 5 weeks earlier by Mr Pearson.  He suggested a meeting.

166.	By the end of August, matters had progressed.  On 31 August, Mr Clay sent Philip the latest version of a repayment agreement for his consideration.  The parties to this agreement were to be Holdings, USA, Philip, Paul, David, Hammonds, RKMC, Libra and WFSS.  The agreement recites that Holdings had engaged the professional services of Hammonds, RKMC, Libra and WFSS and that it has agreed to repay the indebtedness in accordance with the terms of the agreement.  

167.	The draft contains definitions of many terms including “Intellectual Property Rights” and “Patents”.  The former is widely defined and would appear to include all IP rights of any sort and not just those relating to stretch tape technology.  The Patents are the patents and patent applications listed in Schedule 2.  There is a long list which includes US application 2005/01/0172875A1.  Under the draft agreement, Holdings was to make payments in accordance with a schedule set out in Schedule 3 and, in addition, was to pay a proportion of royalty income derived directly or indirectly “from or in connection with the licensing of any of their Intellectual Property Rights (including the Patents)…..”

168.	The draft also provided a restriction on the assignment charge, licence etc of the Patents.  It also provided for an assignment of the Patents (by way of security) to the creditors a security which, it seems, would not bite until the occasion of an event of default.

169.	On 8 September 2006, Mr Pearson sent an email to Mr Clay.  He expressed reservations about the rigidity of the repayment programme which he would to amend “to fit into our current cashflow forecast”.    He finished by saying:

“There is no argument that Profit has enjoyed considerable and much appreciated support from you and the litigation team and I hope I can put a satisfactory deal to you within the next two weeks.”

170.	On 11 November 2006, Mr Pearson sent and email to Mr Clay attaching a repayment programme 

“which is suggested in good faith and based on the present sales enquiry levels”.  

      He added

“Of course, I am sure you will understand that whilst the trade creditors are working with Philip on reduction programmes, and we are not at the moment under any litigation/recovery threat, the repayment to yourselves can only be sustained if that position prevails.

      Mr Moss relies on that as an indication of insolvency at that time.

171.	The attached document is headed “Pro-Fit USA Limited [formerly Pro-Fit International Limited] Notes for US and UK Professional Advisers”.  There are three main headings.

172.	The first is “Structural Changes”.  The recitals explain that the name Pro-Fit International Limited has been taken by a Newco (in the event this was Bondmor).  The old International has been renamed Pro-Fit USA Limited (ie the current USA).  It is stated that USA “continues to hold the intellectual properly necessary for the carrying out of the business but this is charged to HSBC Bank plc who are currently owed £200,000 or thereabouts”.  In fact, HSBC held a fixed and floating charge over all assets, so that the charge itself does not reveal what IP rights subsisted.   The “business” is not identified.  Nor is it expressly stated by which company this business is to be carried out, although the next heading makes it clear that it must be Newco.

173.	That second heading is “Trading Outlook”.  It is noted that Newco has made great strides in maintaining confidence and support of its (in fact it had none, not having traded) old creditors and remains confident that their support will continue as trading increases.  This suggests that the trading activities of USA (ex-International) have been hived down to Newco (new International).  Similarly, it is noted that several very promising enquiries have been generated for Newco, and that sampling is underway at both factory level and with merchandisers.  Indeed, all of this that is entirely consistent with the apparent requirement of new investors that their investment should be in a “clean” company and not one which might be adversely affected by the Tag-It litigation.  

174.	The third heading is “Debt Management”.  The first bullet point explains that the Board (I think this means the board of USA rather than Newco/International) are keen to agree a deal with its professional advisers with the Loan Note proposals remaining the cornerstone.  To attract new investment, debt management must be royalty driven for which “the Company needs new investment”.  In this content, the Company” would appear to be Newco.  Thus the second bullet point refers to Newco’s business plan in this way:

“The Newco’s business plan incorporates royalty payments back to Pro-Fit USA to meet the obligations to creditors.  The business plan is being used to raise new working capital for the business – via equity and structured debt – to enable it to support the increasing business being generated by Kufner [commission agents acting for Newco].  Newco’s role will be to provide technical and manufacturing support to the manufacturer leaving Kufner as the ‘sales division’ of the Company

175.	The Schedule to the Notes shows the total debt due to Hammonds as a round figure of £400,000.  

176.	I have been referred to a business plan which is included in the court bundle in a confidential file. The executive summary commences by stating that Holdings owns a number of innovative and patented technologies.  In fact, as I understand it, they belonged to USA although subject to the Holdings Licence.  It is interesting to note, since it fills in the picture slightly more, how the technology is described.  It “converts non stretch fabric into stretch fabric primarily for use in trouser and skirt waistbands.  The technology has applications in many other fields including tapes and lingerie products”.

177.	It is then stated that Holdings is a company established merely to hold the patents and intellectual property of the Morris family (a statement which does not appear to accord with the reality) and that Holdings has licensed its intellectual property to three operating businesses the largest of which is “Pro-Fit International Ltd [PIL]”: that is a puzzling statement given that USA was the largest operating company prior to International coming of the scene and did not receive any sort of licence from Holdings.  It is then stated that “This plan sets out the business of PIL, which is the marketing and distribution of ‘Pro-Fit’ waistbands for men’s and ladies casual and smart clothing”.   In more detail, 

“In essence, PIL is to market waistbands and various other clothing products whereby non stretch fabrics and converted using the Pro-Fit technology (on machines designed and developed by the Company), into stretch fabrics.  The process is enhanced by the use of fusible stretch interlining which locks the stretch of the waist band in permanently.”

178.	It does not, therefore, cover the entire range of activities of all of the group companies since those include other products and more than marketing and distribution (eg manufacturing).  It is, however, intended to be a worldwide business in relation to four distinct product/market types: 

•	Men’s casual trousers (jeans, chinos and sportswear)
•	Men’s formal trousers (tailored and suit trousers)
•	Ladies casual trousers/skirts (jeans and chinos)
•	Ladies formal trousers/skirts (tailored)

179.	However, it does seem from the plan that the machinery division – leasing of machines which use the technology – is to be within International.  Further, since the business is intended to be worldwide, it would include the US market (subject of course, to such of Tag-It’s rights as remained extant).

180.	There then follow in the executive summary as well as later in the plan, references to “the company” and “the Company”.  It is not always clear which company is being referred to, although it is clear that PIL is the company which is now International.  Thus, in the Introduction and Background section, after reciting the history of the Pro-Fit technology and the family companies, it is stated (see paragraph 1.6) that “the Board have decided, with full legal advice and approval, to re-launch the Company’s technologies and products through PIL both in the US and elsewhere”.  These references to the Company and the Board must, I think, be to Holdings and its board, or perhaps to USA and its board.  

181.	Returning to the executive summary, it is said that the worldwide market for the company’s technologies is very large.  I think that what is intended to be identified here is all of the Morris family technology.  It identifies a worldwide market for denim and chino of some 2.75 billion garments per year as well as a worldwide market for tailored trousers for both ladies’ and men’s wear.

182.	It is noted that management have recently injected an additional amount (which is specified but which I do not need to identify).  I am told that half of this came from the Morris family and half from Red Kite (indirectly Mr Pearson and his family interests).

183.	Finally, I would mention that the P&L forecast shows royalty payments to USA.  This is stated to be £1 million over 4 years which ties in, of course, with the 4 year repayment period for the proposed loan notes.  Under the heading “Royalties Payable” is the following:

“The amount payable to Pro-Fit USA is £1m over four years.  The payments, which are required to repay the development and patent protection costs incurred by Pro-Fit USA will be paid in line with cash flow in PIL.  If sales are slower than anticipated, then the royalty payments will be spread over a longer period.

Once fully paid, the patents and intellectual property will be licensed at a peppercorn to PIL or transferred directly to PIL.”

184.	There is nothing in the papers which I have been shown which supports any suggestion that the £1 million represents the amount required to repay development and patent protection costs.  

185.	On 1 December 2006, Mr Pearson sent an email to Mr Clay and to Mr Harrow of Libra.  He stated that a second charge behind HSBC was unacceptable to the bank as it was concerned about overall solvency and the granting of preferences to one class of creditor.  At this stage, Mr Clay knew nothing about the 2006 Licence except what he might have been able to divine from the business plan and Mr Pearson said nothing about it.  The email includes this:

“As you are both aware, the directors are under great financial and time pressure and managing very limited resources and the repayment programme proposed, whilst realistic, is as generous as it could be bearing in mind we are trying to kick start the business, raise new capital and manage the ongoing Tag-It situation.
The Directors remain absolutely committed to paying all the Company’s debt [Mr Pearson’s bold lettering] when, as you are aware, there would be a simpler solution in seeking the protection of formal insolvency….”

186.	Mr Moss submits that this is a clear indication of insolvency at that time.  That may be right if all the professionals who were creditors are brought into account.  But if, as USA says, there are valid defences or cross claims to Hammonds, Libra and Mr Roup, the position may be different.  At least, Mr Pearson’s email could not be taken as an admission of insolvency on that scenario.

187.	There was little progress over the following weeks although it was agreed that a meeting should be convened.   On 9 January 2007, Mr Pearson sent an email to Mr Campbell at Hammonds.  In it he informed Mr Campbell that the board had resolved not to offer security to the US advisers and those advisers had accepted this in their settlement deal.  That was true as regards RKMC but not Libra or WRSS.  Shortly after this, Gorvins were instructed and the review of Hammonds’ advice carried out.

188.	Then on 4 February 2007, after an email on 2 February 2007 expressing some impatience, Mr Pearson sent an email to Mr Clay which included the following:

“…..we both know that Hammonds will only get paid by an agreement between the parties on a deferred, structured repayment basis……I do not seem to have had a constructive reply other than a plea for a second charge on the patents which Pro-Fit has declined for very good commercial reasons.
That proposal is still on offer and does represent a realistic method of Hammonds getting paid.  All other firms have agreed staged repayments.”

189.	In fact not all other firms did agree stage repayments, although it is suggested that the statement that they had was true when it was made.  I do not need to resolve that issue.  But at least at that stage, Holdings and USA were still accepting that the fees were due to Hammonds and had not formulated their complaints.

190.	The “good commercial reasons” are not specified.  Mr Moss contrasts what Mr Pearson says there with the reasons given in his email dated 1 December 2006 when the reason given was the concerns which the bank had about overall solvency.  Mr Moss says that this is an odd reason because the bank was secured and points out that USA had no qualms about the bank when in August 2006 it entered into the 2006 Licence and thereby in his submission had “purportedly deprived the bank of substantially all of the value of its security”.  That, of course, is a highly contentious assertion which can only be resolved by examining precisely what the 2006 Licence achieved.  

191.	In similar vein, Mr Moss goes on to say that “The truth, of course, is obvious: the reasons why USA could not and would not grant security is because they had already purported to strip out the most valuable intellectual property in the shape of the 2006 Licence”.  Had security been granted, it seems that Hammonds would have taken free of the 2006 Licence as bona fide purchasers  at least so far as concerns the patents, by virtue of section 33(1) Patents Act 1977 and corresponding legislation in the US.  In contrast, if Hammonds had been told of the alleged strip-out, that would have ended Mr Pearson’s hopes of achieving an agreed instalment payment programme and could have resulted in insolvency proceedings designed to challenge the 2006 Licence at a time when International was truing to raise money from investors.  That is a very serious allegation to make against Mr Pearson.  He has not had a proper opportunity to defend it and, from what I have already seen, I know that he would vigorously deny it and resent the way in which his honesty is being impugned.  It is not something which I can possibly decide on this application.  

192.	However, what is clear, whether or not the 2006 Licence was a transaction at undervalue or not, is that Hammonds were not provided with a copy of it and were not told what was licensed and on what terms.  Indeed, the Notes for US and Professional Advisers dated October 2006 prepared by Mr Pearson expressly states that USA continues to hold the intellectual properly necessary for the carrying out the business but that this is charged to HSBC Bank.  Whatever the effect of the 2005 Licence, it is clear that by this time the 2006 Licence had already licensed to International whatever interest USA in fact had retained in relation to waistbands and waistband linings.

193.	On Friday 9 March 2007 there was a meeting between Hammonds and USA.  Hammonds again asked for security and guarantees, indicating that if they were not provided, Hammonds would have no alternative but to put USA into formal insolvency.  It was at this meeting that USA, for the first time, indicated some dissatisfaction with Hammonds’ advice.

194.	On 12 March 2007, the Monday after the meeting just mentioned, Mr Pearson emailed Mr Alderton of Hammonds to express the concerns of the Pro-Fit side.  He referred to a legal review of the position which had been carried out, as we now know by Gorvins.  The review had expressed “serious reservations about the advice they had been given by Hammonds” including

•	Certain legal solutions that may have been open to Pro-Fit at an early stage were not pursued.  This appears to be a reference to the suggestion which was later clearly articulated that Hammonds should have advised/ensured that proceedings were commenced against Tag-It in England before Tag-It had commenced proceedings in the US and that, in any event, injunctive relief should have been obtained against Tag-It.

•	The advice given in respect of the overall legal strategy combined with the general commercial approach recommended by Hammonds.

•	The procedures relating the number, timing and effectiveness of the numerous termination  notices to Tag-It under advice from Hammonds.

195.	It is said that an (unidentified) QC also qualified in US law had confirmed these concerns about Hammonds’ advice.  He was also concerned about a limitation issue in relation to potential claims against Levi Strauss.  The complaints as reflected in the proceedings which have been brought in Leeds against Hammonds are much more limited.

196.	In the same email, USA offered not to pursue the negligence claim if Hammonds did not pursue its claim for fees pending determination of the dispute with Tag-It.  The parties would attempt to resolve their own dispute over fees and negligence once the Tag-It dispute had been resolved.  Hammonds response was to say that the legal advice was not deficient.  They asked for a copy of the QC’s opinion but it was not, and has not been, provided.

197.	By a letter dated 13 March 2007, Hammonds formally terminated their retainer by USA.

198.	On 16 March 2007, Gorvins wrote to Hammonds setting out the position of their clients, Holdings, USA and International, referring to the review which they had carried out of advice in relation to (i) the Tag-It proceedings commenced in April 2004 (referred to as “the First Tag-It Claim” and which I refer to as “Tag-It I”) (ii) the purported terminations of the 2002 Licence (iii) possible claims against Levi Strauss and (iv) commercial advice given.  Reference is also made to further proceedings recently issued by Tag-It (referred to as “the second Tag-It Claim” and which I refer to as “Tag-It II”).  There are wide-ranging allegations of negligence.  I do not propose to refer to the detail of this letter because, for present purposes, all that is relevant is the claim against Hammonds as eventually articulated in the Leeds proceedings, to which I will come.  I ought to mention for completeness, however, that Mr Dunnill of Gorvins does make these wider allegations against Hammonds in his affidavit in this application sworn on 10 May 2007.  

199.	Hammonds, for their part, in their letter dated 20 March 2007, express their extreme concern that Gorvins’ clients are insolvent; by clients, it is apparent that Hammonds were referring to Holdings and USA, although the present proceedings are concerned only with the solvency or otherwise of USA.  Hammonds, by this time, are clearly also highly excited by the 2006 Licence from USA to International which had not been provided to Hammonds in spite of requests and assurances that it would be provided.  They assert, in effect, that the 2006 Licence was a transaction at undervalue.  They threatened proceedings unless the 2006 Licence was produced and undertakings given to preserve the status quo.   

200.	A copy of the 2006 Licence was supplied under cover of a letter from Philip and Paul dated 21 March 2007.  They state as follows:

“We [the three companies] are not insolvent.  We believe and are advised that you gave us negligent advice.  We believe and are advised that you were involving us in wasted cost to your own profit by purporting to handle and manage our American litigation throughout, despite being a jurisdiction in which you are not qualified and of whose limitation periods regarding Levi Strauss you showed yourselves ignorant.  You warned us of none of this although (or perhaps because) you knew we were naïve in this field.   We believe and are advised that the consideration for your invoices has therefore failed.  We believe and are advised we have suffered severe losses as a result of that negligent advice.”

201.	These are very serious allegations going rather beyond a conventional allegation of negligence including, as they do, what amount to serious allegations of professional misconduct.

The Cross-Claim
202.	I should now explain how Hammonds became involved, the terms of their retainer and the claim against them.

203.	Almost immediately after the making of the 2002 Licence, things seem to have gone wrong between Pro-Fit and Tag-It.  The Morrises considered that Tag-It was in breach of contract.  Through 2002 to 2004, correspondence aired the parties’ respective viewpoints.  I do not know enough about the actual dispute to express any view at all about the rights and wrongs except to say that Holdings and USA appear to have at least a good arguable case that Tag-It was in breach of contract and that they were entitled to terminate the 2002 Licence.  That is a matter to be resolved in the Californian court where the dispute is being litigated.  The sums of money likely to pass either way (depending on the outcome) are substantial.  Tag-It, for instance has said that it expects to obtain judgment, as a result of combined success in Tag-It I and Tag-It II, for payment in excess of $25 million.

204.	Hammonds did not come onto the scene until February 2004.  At that time, the Morrises were still hopeful that a settlement could be reached and that litigation would be unnecessary.

205.	I do not propose to go into the way in which the dispute developed prior to Hammonds’ involvement – there is simply too much material and, for present purposes, it is not of relevance.  However, on 13 February 2004, Harbottle & Lewis (who acted for Tag-It) wrote what is really a letter before action to Julia Lister of Gordons Cranswick who then acted for Holdings and USA.  She set out a number of contentions in relation to the meaning and effect of the 2002 Licence.  She asked for confirmation that Pro-Fit’s understanding of the 2002 Licence accorded with those of Tag-It as articulated by her with 7 days, failing which “we will have no option but to commence proceedings against your clients seeking declarations to that effect”.  

206.	It was about this time that matters were being handed over to Hammonds.

Hammonds’ retainer
207.	On 12 February 2004, Hammonds sent their letter of engagement to Paul and Philip at USA’s business address.  The copy in the bundle is not signed but there is no dispute that the copy which I have reflects the terms of engagement.  It commences by identifying the client as USA (under its then name of International).  The letter envisaged the provision of a separate matter acknowledgement letter each time Hammonds is instructed on a particular matter.

208.	In accordance with that protocol, there are letters dated 24 and 29 March 2004. The first deals with instructions to advise USA in respect of a number of agreements which USA intends to enter into with third parties designed to safeguard its intellectual property rights.  The Schedule identifies the scope of the work to be undertaken.  Under the heading “Brief Description of Matter”, the subject matter is identified in that way.  The client is identified as USA.

209.	The second deals with instructions to assist USA in its dispute with Tag-It.  It will be remembered that the dispute with Tag-It started almost as soon as the 2002 Licence had been signed and that Holdings and USA had had advice from previous English lawyers in relation to it.  The dispute related to (i) the restrictions imposed upon Holdings (ii) the scope of the rights granted (iii) Tag-It’s sourcing and purchase of interlinings from third parties and (iv) Tag-It’s late payment of royalties, failure to provide a letter of credit and failure to provide quarterly reports.

210.	The Schedule to the 29 March letter identifies the scope of work to be undertaken.  Under the heading “Brief Description of Matter”, the subject matter is identified as “as number of disputes, which have arisen between [USA] and [Tag-It] relating to [the 2002 Licence]”.  The clients are identified as USA (under its then name, International) and Holdings, with USA being “primarily responsible for paying our fees”.  

1 March 2004 meeting and subsequent advice
211.	On 1 March 2004 there was a 2 hour meeting between Mr Clay and Paul (with Mr Crossley, a litigation partner of Mr Clay, joining later in the meeting).  The attendance note in the court bundle of that meeting was made by an assistant solicitor at Hammonds.  This note shows that the jurisdiction clause in the 2002 Licence was mentioned.  It records: 

“Concerned they will get our proposed letter and issue in US – very costly for clients and inconvenient.  Do we issue here to ensure they can’t issue over there?”.

212.	Mr Crossley is then recorded as saying that the correct procedure is that the courts should work out which is the most appropriate forum for a dispute but that that did not always happen.  The courts were supposed to look at choice of law and who commences proceedings first and where, and whether a lot of money has already been spent on proceedings.  This (it is not quite clear which of the factors are being referred to in the Note) is a very material factor.  He expressed the conclusion that on the whole England looks to be the most appropriate forum.  The note does not, however, record an answer being given to the question recorded but Mr Clay gives some further evidence which I will come to. 

213.	It is to be noted that some months previously, there was the letter dated 10 December 2003 from Mr Inman to Paul.  Mr Inman was a lawyer at Carle, Mackie Power & Ross LLP, US attorneys who had acted for Pro-Fit in relation to a share transaction and who was the former head of Hammonds private equity group before joining CMPR.  He had become involved in advising in relation to the Tag-It litigation.  Under the heading “Cross Border Issues” Mr Inman draws attention to the jurisdiction clause in the 2002 Licence and that the non-exclusive nature of the jurisdiction means that Tag-It could seek injunctive relief in the US.  Not having expertise in the area of conflicts of laws, he recommends that the ability to sue and/or be sued in the US be explored further with both US and UK lawyers

214.	It appears that, some time before the meeting, I think on 25 February 2004, Mr Inman had drafted a response to Harbottle & Lewis letter.  After the meeting, Mr Clay emailed Mr Inman.  He said this:

“Please find a draft of the letter for discussion.  I have generally toned it down a bit.
One of the things we have discussed today [ie at the meeting earlier on that day with Paul] is that it would be preferable to avoid litigation in California from Pro-Fit’s point of view as that would be much more expensive to deal with.  
If the proceedings were to start in the US then that would be a factor in favour of them continuing over there.
To this end we think that we should try one more round of discussions with Tag-It first and if that does not yield any results then the clients may at that point commence proceedings in the UK with a view to getting jurisdiction in the UK: starting the UK should assist in holding on to jurisdiction over here.  You will see how I have dealt with this in the final section of the letter….”

215.	The actual response to Harbottle & Lewis’ letter came from Hammonds and was dated 2 March 2004.

216.	Harbottle & Lewis replied on 8 March 2004.  The final section of their letter, again titled “The Way Forward” identifies the problem as being that Hammonds clients are not, and have never been happy with the 2002 Licence and has always wanted to new agreement or else attempted to terminate the 2002 Licence or buy back the rights.  They say that their client, Tag-It, is prepared to meet once again to try and resolve the points in dispute although remaining sceptical that such discussions will be productive.  Any such meeting would have to be held in Los Angeles on or prior to Friday 12 March 2004 as Tag-It believed time to be of the essence.

217.	I do not know if any such meeting took place although I infer that it did not.  Mr Clay warned Paul of the significant costs already incurred and that a contested hearing could cost in excess of £500,000, expressing the view that Tag-It would “fight like Hell to avoid a termination/substantial renegotiation”.  Paul’s response was that he and Philip did not have much option but to proceed and 

“whether we end up getting to a better agreement with Tag-It or alternatively obtaining the necessary financial support from other sources to enable us to terminate the agreement with Tag-It is difficult to forecast at this stage.”
218.	But whether or not a meeting did take place, proceedings had still not been issued in either jurisdiction when, on 6 April 2004, Paul wrote again to Mr Dyne of Tag-It.  He rehearses Pro-Fit’s position concluding that the arrangements between the two companies are not working well.  He writes this:

“…..In these circumstances I have to tell you that we are currently seriously considering terminating the Agreement in light of the breaches that have occurred.  We will shortly be seeing leading UK counsel in relation to this matter and will be writing to you formally within the next few weeks.”
219.	Whether that was what provoked Tag-It’s action or not, I do not know although it seems quite likely from Mr Dyne’s letter dated 19 April 2004 to Paul.  But the fact is that Tag-It issued proceedings against Holdings as sole defendant on 16 April 2004.  Those proceedings were sent to Paul by Mr Dyne by email dated 21 April  and forwarded by Paul to Mr Clay on the same day.

220.	I wonder if Mr Clay actually opened and read the email that day since we find him the next day, 22 April, emailing Paul with a draft without prejudice letter to Mr Dyne and ventilating the possibility of serving him with some proceedings in the UK at the end of a proposed meeting and saying this:

“As I have been saying since very early on after being instructed we need to get in first and need to prevent Tag-It forcing Pro-Fit to play away from home….”
By this time it was too late to be the first to issue proceedings: but perhaps Mr Clay still had in mind being the first effectively to serve proceedings.

221.	On the same day, Mr Inman emailed Mr Clay and Paul, ending with this:

“As for the litigation, I would recommend that we do some research now into the ability of Tag-It to actually sue in the US.  Since you have no place of business here and no equipment or products, it is by no means certain that the Court has jurisdiction.  If the negotiations are not successful, we will want to be up to speed on this particular issue as quickly as possible.”

222.	Mr Moss submits that it is clear that Hammonds advised Holdings of the risk that Tag-It might issue proceedings in the USA and of the strategic, cost and other disadvantages if that were to happen; and that it is equally clear that Paul did not take the advice to issue proceedings in England and decided not to provoke Tag-It to issue proceedings in the US (which it would appear is precisely what the letter of 6 April 204 might well have done).   He also says that the email from Mr Inman shows that the ability of Tag-It to sue in the US was obviously an issue for the US lawyers to research.

223.	Mr Moss refers me to the advice given by Geoffrey Hobbs QC (and which is referred to in the Particulars of Claim in the Leeds proceedings).  His advice included the following:

“In [his] view the US court will be reluctant to release jurisdiction of this case now that it has been given.  There is a powerful disclosure procedure in the US and there are strong local connections and effects in relation to the action in the US.  Our best strategy is to mount a strong counterclaim for breach of contract against Tag-It.  The up side of the litigation is that costs are not payable, but the downside is that damages are assessed in front of juries.  If we wanted to pursue the case in the High Court we would need to get leave to serve outside the jurisdiction.  They have very proactive mediators in the Los Angeles Courts which is something to bear in mind.”

The claim against Hammonds
224.	Having, in correspondence, thrown the proverbial kitchen sink at Hammonds, Holdings and USA brought a negligence claim of more modest proportions.  The Claim Form was issued on 5 June 2007.  The Particulars of Claim run to some 22 pages plus 2½ pages of schedule setting out the losses claimed.    

225.	After reciting relevant provisions of the 2002 Licence, the Particulars of Claim set out the history of the dispute starting with a difference, soon after commencement, about the precise meaning and effect of 2002 Licence in respect of (a) the restrictions imposed on Holdings (b) the scope of the rights granted (c) Tag-It’s sourcing and purchase of interlinings from third parties and (d) Tag-It’s later payment of royalties and other matters.  The involvement of a series of US lawyers instructed by Holdings and USA is set out.  These included Carle, Mackie Power & Ross LLP in relation to a share transaction, the individual responsible being Mr Simon Inman (former head of Hammonds private equity group before joining CMPR).  It is said that he is not a litigator  or an IP specialist and that after Tag-It issued proceedings against Holdings in California in 2004, “CMPR effectively acted as a ‘post-box’ for [Hammonds] in matters relating to the litigation”.

226.	CMPR were it is pleaded, retained as Holdings’ US attorneys until about January 2005 where Holdings and USA instructed Altshuler, Grossman, Stein and Kahan and subsequently, on the recommendation of Mr Harrow of Libra, Holdings instructed Robins, Kaplan, Miller & Ciresi LLP in place of AGSK.

227.	The relevant passages of the retainer of Hammonds are then set out.  It is pleaded, in particular that Hammonds owed a duty of care to both Holdings and USA to consider and advise on the following:

a.	The importance of establishing the English court’s jurisdiction to hear the dispute and on the steps which ought properly to be taken to protect Holdings’ and USA’s position in this regard.

b.	The steps available to Holdings and USA to prevent Tag-It from acting in breach of the 2002 Licence and/or to prevent Tag-It and its sub-licensees from infringing rights of Holdings and USA in respect of the Patents.

228.	In breach of the retainer and the duty of care in negligence, it is alleged that Hammonds acted negligently both in relation to the jurisdiction issue and the injunction issue.

229.	As to the jurisdiction issue, it is said that Hammonds were or ought to have been aware of the advantages to Holdings and USA of having any litigation in England and of the importance of commencing proceedings in England before proceedings were commenced by Tag-It in the US.  Reference is made to the meeting on 1 March 2004 and to the attendance note which, as I have already mentioned, records the question “Do we issue here to ensure that they can’t issue over there?” and which, it is alleged, was never properly answered.

230.	As to that, Mr Clay says that at the end of the meeting he was instructed to engineer a face to face meeting between Holdings and Tag-It and that only if such a meeting did not resolve the issues in dispute, would Holdings consider issuing proceedings in England.  The Particulars of Claim say that this is an inaccurate summary of Paul’s instructions.  Whilst it is true that he hoped to obtain a negotiated settlement, he says that had he been advised by Hammonds that the best way to avoid having to defend litigation brought by Tag-It in the US was to commence proceedings in England and then to negotiate a stay pending negotiations, he would have done so.  That is Philip’s position too.  It is said that in the circumstances which obtained on 1 March 2004, a reasonably competent solicitor practising in commercial cross-border litigation would have advised that it was a necessary, sensible and cost-effective precaution to issue proceedings in England.  The possibility of issuing in England and then negotiating a stay was never discussed.

231.	As to the injunction issue, it is alleged that Hammonds failed to give adequate advice in relation to the importance of preventing Tag-It from acting in breach of the terms of the 2002 Licence and/or preventing Tag-It and its sub-licensees from infringing the rights of Holdings and USA in respect of the Patents (ie 721 and 285).  Three alleged breaches of the 2002 Licence are then identified (unlawful purchases of interlinings from third parties, sub-licensing to an entity in Columbia of its rights to manufacture products for incorporation into garments imported into the US for Levi Strauss and claiming to third parties that it held rights to technologies claimed in 285 when it had no such rights).

232.	It is said that a competent solicitor would have liaised with Holdings and USA’s US attorneys in order to provide advice with regard to the merits of applying for interim injunctive relief against Tag-It and third parties.  It is alleged that, if the matter had been proceeding in England (as it should have been according to Holdings and USA) the prospects of obtaining an injunction in relation to Tag-It’s clear breaches of the 2002 Licence would have been strong.  

233.	The Particulars of Claim challenge and reject Mr Clay’s assertions (i) that the question of injunctive relief in the US could only have been considered by Holdings’ US lawyers and (ii) that it was inconceivable that Holdings and USA could have come up with a banker’s bond to cover the level of potential exposure (ie  on a cross-undertaking).  It is said that the first of these is wrong because Hammonds were the link and were the lead advisers.  They had a duty to consider and raise with Holdings, USA and the US attorneys the possibility of applying for injunctive relief.

234.	In any case, it is said that at that time Holdings and USA had £400,000 available cash balances and would have been able to provide the undertaking.  More importantly, the purpose of the injunction would not have been to prevent Tag-It trading or supplying Levi Strauss.  It would merely have obliged Tag-It to comply with its obligations under the 2002 Licence and to supply Levi Strauss with interlinings purchased from Holdings or USA.  Instead of adopting this course, Hammonds made only empty and ineffectual threats to Tag-It.

235.	Further, the failure to deal effectively with injunctive relief lead to what Mr Clay has called a “multi-termination strategy” under which a series of termination notices relying on various grounds were sent to Tag-It.  It is said that Hammonds failed to develop an effective litigation strategy, effectively failing to analyse the terms of the 2002 Licence and the legal merits of the case properly.

236.	The Particulars of Claim then set out that Tag-It issued proceedings first, on 16 April 2004, which proceedings were served in later April.  Holdings and USA were advised by leading counsel (Geoffrey Hobbs QC) that the prospect for Holdings of obtaining an anti-suit injunction were then remote, principally on the grounds that Tag-It had been first to issue proceedings, in California.  

237.	It is then pleaded that by reason of the breaches in relation to the jurisdiction issue, Holdings has lost the opportunity to commence proceedings in England and was unable to avoid the risks and costs of being involved in litigation in California.  Significant additional costs are said to have been incurred by the need to instruct attorneys in California and from the need for expert evidence to address, for the benefit of the Californian court, issue of English law which arise on relation to the 2002 Licence.  Further, Tag-It has abandoned two heads of claim pleaded in the Californian court.  In contrast with the position in England, Holdings and USA cannot recover costs in relation to those abandoned claims.

238.	Holdings and USA quantify their loss as best they can at present in accordance with the Schedule to the Particulars of Claim.  For the reasons set out there, the estimated increase in cost is £1.1 million to trial.   There are also costs of expert evidence and the irrecoverable costs of the two abandoned claims.

239.	As to the injunction issue, it is alleged that Tag-It has been able to source supplies of interlinings elsewhere with a resulting loss of profit to Holdings.  This loss of profit is estimated at something over £2.5 million.  I should comment here that it seems to me that this is a cash-flow issue rather than an enduring loss.  If Holdings and USA are correct in saying that Tag-It is in breach, then it will be able to recover its loss of profit.  If Tag-It is not in breach, it can be seen that an injunction should not have been granted.  Of course, if an injunction had been obtained, it does not follow that Tag-It would have suffered any loss: it is just that the profit on the interlinings would have been made by Holdings/USA rather than by a third party supplied.  It would, however, be very surprising if Hammonds could be made liable for a loss of profit which could have been made only by obtaining an injunction to which Holdings/USA was never properly entitled.

240.	A claim is also made for loss of profit arising from the inability to develop business in the US which is “potentially the most lucrative market for their technology”.  This inability is said to arise because the absence of advice about a coherent strategy to secure the termination of the 2002 Licence.  This complaint therefore relates to the exclusive licence in relation to Products A and B contained in the 2002 Licence.  I am not sure how that assertion sits with Philip’s evidence in his first affidavit where he disagrees with Mr Clay’s proposition that the stretch waistband market is the most important part of ProFit’s business.  Holdings and USA are unable to quantify this loss at present since, they say, it will depend on the outcome of the Tag-It litigation and the recovery, if any, from Tag-It.  

241.	I have already pointed out that the claim as brought does not include a number of allegations which had originally been made in correspondence (and which Mr Moss submits indicate the wholly unmeritorious approach of USA which is simply to raise hopeless claims to stave off being brought to account for its obligations).  I should also note, in this context, two other arguments put forward by Philip in his evidence:

c.	First, he states for the first time that Hammonds had agreed to act on a contingency or conditional basis.  He relies on the word “Conditional” at the top of the billing guide put in evidence by Hammonds.  But the billing guides sent to USA with the invoices did not contain this word which exists only for Hammonds internal accounting purposes, reflecting the fact that Hammonds considered that USA was in financial difficulties.  I do find it extraordinary that Philip should have raised this argument since it is implicit in it that USA and Hammonds had actually agreed that Hammonds would act on a contingency or conditional basis when, as I am satisfied, it is clear that they did not.  

d.	Philip also suggests that Hammonds had waived its fees.  I am quite satisfied that there is nothing in this suggestion.  

242.	The claim was launched after Hammonds had filed its evidence in the present application and after they had agreed to give USA additional time to file its evidence.  The Particulars of Claim put matters in different way, according to Hammonds, from how they had been put before.  Since the Particulars of Claim were put in evidence in the present application, Hammonds wished to put in evidence in answer.  That evidence, which is contained in Mr Clay’s fourth affidavit, was objected to by USA but I allowed it in.  

243.	In relation to the jurisdiction issue, Mr Clay’s evidence about this is contained principally in his second affidavit served on 23 May 2007 (albeit that there is a further reference in his fourth affidavit).  Mr Clay is clear that Paul was told about the advantages of going first in England at the 1 March meeting, and subsequently, but took a commercial decision to instruct Mr Clay to attempt to engineer a settlement.  Paul confines himself to confirming Mr Dunnill’s evidence in his first affidavit where he says that it appears that no consideration appears to have been given by Hammonds to the need to issue proceeding in England to protect Holdings and that Hammonds had simply assumed that the non-exclusive jurisdiction clause in the 2002 Licence would result in any proceedings being issued in England.  The last of those propositions cannot be correct in the light of the attendance note of the 1 March 2004 meeting and the advice given by Mr Crossley.  

244.	Further, as well as Mr Clay’s own evidence, there is the letter dated 10 December 2003 from Mr Inman to Paul.  Under the heading “Cross Border Issues” Mr Inman draws attention to the jurisdiction clause and that the non-exclusive nature of the jurisdiction means that Tag-It could seek injunctive relief in the US.  Not having expertise in the area of conflicts of laws, he recommends that the ability to sue and/or be sued in the US be explored further with both US and UK lawyers.  As a matter of fact, Mr Clay was never asked to provide that advice.  That would not excuse a failure to address the issue.  But what is clear is that, at the 1 March 2004, meeting the question of jurisdiction was raised and it was raised with a client who knew, from Mr Inman’s letter, the risk that proceedings might be commenced in the US.  It is not the best starting position for an allegation of negligence against Hammonds although not, of course, conclusive in Hammonds’ favour.

245.	Mr Moss submits that the allegations made against Hammonds ignore the advice actually given and Holdings’ reactions to that advice which he says are clear from the contemporaneous documents.  He identifies the main points as these:

a.	The fact that when Hammonds were instructed, the main dispute had been going on for over a year.  I have already set out the history of the correspondence just before and just after Hammonds were instructed: see the letter from Harbottle & Lewis dated 13 February 2004.  Mr Moss points out that the first draft of the proposed response to that letter was prepared by Holdings’ US lawyers.

b.	The matters discussed at the 1 March 2004 meeting and the passage from the attendance note which I have already mentioned, including the record of what Mr Crossley advised about jurisdiction.

c.	The fact that Paul did not instruct Hammonds to issue proceedings in England.  The instructions, according to Mr Moss, were to make another attempt to resolve matters with Tag-It by agreement, a matter reflected in Mr Clay’s email to Mr Inman of the same day.

d.	The correspondence in March and April which I have referred to.

246.	Further, Hammonds position is that it is virtually certain in any event that USA would have then become involved in litigation in two jurisdictions which it could ill afford.  There seems to me to be enormous force in that proposition.

247.	What, then, is the evidence on this application on the part of USA to support what is said in the Particulars of Claim about the jurisdiction issue?  Paul, who instructed Hammonds on behalf of USA, has not sought to address the contents of the contemporaneous documents on which Mr Moss relies and all that Philip says is that Paul would definitely have followed advice to issue a claim if it had been given.  Paul simply confirms and approves the evidence of Philip, Mr Dunnill and Mr Pearson.  Philip does not address the documents either in his evidence in reply to Mr Clay’s second affidavit.  He was not at the 1 March 2004 meeting; he limits himself to confirming that the Particulars of Claim are true and to saying that he does not accept Mr Clay’s evidence where it is inconsistent with the Particulars of Claim.  

248.	Mr Moss submits that the role of English lawyers such as Hammonds was to set out the material potential benefit and disadvantages of starting proceedings in England and that it is for the client to make a decision.  It is, of course, always that case that a decision is, ultimately, for the client although, in the context of any case, there will be decisions which a lawyer can take without reference back to his client.  Further, there will sometimes be decisions to make where the answer is so clear that the solicitor should guide the client in a particular direction and challenge the client if the decision is made in favour of a course which the solicitor regards as perverse or simply misguided.  In the present case, however it seems to me from the material which I have seen that it would be by no means an obvious choice to have proceedings in England; nor, even if England was the better forum, was it obvious that proceedings should be commenced at all.  Those are matters on which the client would need to take a decision.  Of course, the solicitor ought to put the client into the best position to take a fully-informed decision but from what I have seen, including in particular Mr Inman’s letter dated 10 December 2006 and the Note of the 1 December 2006 meeting, quite apart from Mr Clay’s own evidence of what he actually said at and after the meeting, it seems to me that the issue of jurisdiction was discussed.  And so, it seems to me, USA knew of the options available.  What is perhaps more questionable is whether Philip appreciated the full extent of the “risk” (ie that Tag-It might get in first in the US) by attempting further negotiation without at the same time starting proceedings in England: Mr Clay did not, for instance, expressly say to him “It is important that you make a decision now and my recommendation is XYZ”.  

249.	The letter dated 8 March 2004 also needs to be considered.  It will be remembered that in that letter Harbottle & Lewis, for Tag-It, agreed to a meeting but it had to be in Los Angeles on or prior to 19 March 2004, pointing out that Tag-It considered time to be of the essence.  Paul found that letter “not helpful”.  There was, I think, no meeting.  Instead, Paul wrote the letter dated 6 April from which I have set out a passage at paragraph 218 above.  That Paul felt able to write that Pro-Fit would be seeing counsel and responding “in a few weeks” fails to recognise the urgency which Harbottle & Lewis had expressed.  It should not have come of much surprise that Tag-It then commenced proceedings.   Neither the evidence filed on behalf of USA nor the Particulars of Claim allege that Hammonds were negligent in not expressly obtaining instructions at that stage that proceedings should not be issued in England.

250.	It should also be remembered that at this time there was the short email correspondence between Paul and Mr Clay about the possible costs of litigation and Paul’s response that “we do not have much option but to proceed” [ie they could not simply walk away]; Paul’s commercial decision was to write his letter dated 6 April 2004 to Tag-It, not to commence proceedings.  

251.	Accordingly, Mr Moss submits that neither Holdings nor USA has a genuine cross-claim against Hammonds on the jurisdiction issue.  He says that the allegation is plainly contradicted by contemporaneous evidence and again shows that USA is ready to raise plainly inaccurate allegations to try to avoid payment.

252.	Mr Sutcliffe raised a new point in argument.  He suggested that the email receipt of the Tag-It proceedings on 21 or 22 April 2004 was not good service and that speedy action by Holdings/USA could have resulted in English proceedings being commenced and served before service of the US proceedings.  In his email to Paul dated 22 April 2004 (see paragraph 220 above) Mr Clay raised the possibility of trying to force proceedings in England.  There is nothing to suggest that Mr Clay was instructed to proceed along that route.  

253.	In relation to the injunction issue, Mr Clay makes the following points in his fourth affidavit:

a.	As to third party sourcing of interlinings, Holdings/USA had delayed taking any action against Tag-It for over a year before Hammonds became involved, had acquiesced in Tag-It’s purchase of third party interlinings, did not have a clear prima facie case, no injunction would be granted on a balance of convenience taking into account the strength of cross-undertakings and even if Holdings had obtained injunctions it would not have been in a better position.

b.	As to the sub-licensing to the Columbian entity, Mr Clay’s position is that there was delay, the case was not strong enough, no injunction would be granted on a balance of convenience and taking into account the strength of cross undertakings.  Most importantly, an injunction would have been of no practical benefit because Tag-It could and would (as it eventually did to get rid of the argument) have set up its own manufacturing presence in Columbia and thus have complied with the terms of the 2002 Licence on any footing.

c.	As to 285, Mr Clay’s position is, again, that there was delay, the case was not good enough, there could be no injunction on a balance of convenience and the issue of cross-undertakings could not be dealt with.

254.	Further, in his fifth affidavit, he exhibits the letter, which I have already mentioned, dated 10 December 2006 from Mr Inman.  In section 2.2 of the letter (“What Steps Should Pro-Fit Take?”) Mr Inman addresses the possibility of obtaining injunctive relief in relation to the Columbian issue.

255.	The interim injunctions which is alleged could have been obtained are injunctions to restrain Tag-It from

a.	making unlawful purchases of interlinings from third party suppliers;

b.	sub-licensing an entity in Columbia to manufacture products for incorporation directly into garments for import into the USA by Levi Strauss and

c.	claiming to third parties that it had rights in 285.

And, as already mentioned, the Particulars of Claim also plead that interim injunctive relief should have been obtained against suppliers to Tag-It.

256.	Mr Moss submits that there are a number of reasons why interim injunctions would not have been obtained in the case of each injunction which he identifies under four headings:

a.	The Jurisdiction Issue.

b.	The Enforcement Issue.

c.	Delay.

d.	Cross-undertakings in damages.  In this heading I will include consideration of American Cyanamid principles since Holdings/USA would need to show that damages would not be an adequate remedy against Tag-It.

257.	The Jurisdiction Issue:  The first point which Mr Moss makes here is that USA’s allegations against Hammonds can only get off the ground if proceedings ought to have been commenced in England before they were commenced in the US.  I agree with him that this point clearly stands and falls with the main issue on jurisdiction already discussed.

258.	The second point which Mr Moss makes is that whether an injunction could be obtained in California (and whether Californian law is in this respect the same as English law) is a matter for Californian lawyers to advise on.  I agree with that.  But it does not answer the suggestion that it was incumbent on Hammonds, as alleged lead lawyers, to raise with the US attorneys the question of injunctive relief to ensure that Holdings and USA obtained the advice which they needed.

259.	As to that, Mr Sutcliffe suggested in submissions – although there was no evidence which went to this point – that Mr Inman was not a litigator and that therefore Hammonds retained responsibility.  It may be true that Mr Inman himself was not a litigator but his firm had at least one, and for all I know possibly more litigation partners.  In the absence of any evidence to the contrary, I would expect that Mr Inman would either consult a litigation partner to enable proper advice to be given to the client or he would inform the client of his inability to advise – indeed this is precisely what he did do in his letter of 20 December 2006 in relation to his inability to advise on conflict of laws issues in which he was not an expert.  That is the position I take in the absence of any contrary evidence; it is a position which is confirmed by Mr Moss who says in his written submissions – I take comfort from but do not rely on it - that Mr Inman did indeed work with his litigation partner Jeff Terry on this case.  

260.	The Enforcement Issue: Hammonds say that if Holdings had wanted to obtain injunctive relief against Tag-It and/or Tag-It’s suppliers that would be a good reason for starting proceedings in the US since Tag-It and its suppliers are US companies that do not conduct any business in England and have no assets or officers here.   There is no automatic enforcement of English judgments in the US and it would be necessary to bring an action to enforce.

261.	Delay:  It is trite law that, to obtain an interim injunction, it is necessary to act speedily once a claimant has knowledge of facts sufficient to support such relief.  By the time Hammonds came on the scene:

a.	Tag-It had, to USA’s knowledge, been sampling and ordering interlinings from third parties since December 2002.

b.	Holdings had known about Tag-It’s plans to start an operation in Columbia since October 2003 at the  latest.  

c.	Holdings knew that Tag-It had asserted its rights to the invention claimed in 285 from, at latest, 21 March 2003.

262.	Undertaking in damages: This needs to be looked at in relation to each of the three injunctions which it is said should have been obtained:

a.	So far as balance of convenience is concerned, Mr Moss submits that the Particulars of Claim entirely ignore the serious damage that would have been caused to Tag-It had it been restricted to sourcing  only from Holdings.  The damage would not simply be any price differential between Holdings’ product and an alternatively sourced product.  The point is that the waistband technology which had been licensed to Tag-It had in turn been licensed to Levi Strauss for its use.  As Mr Clay explains, Tag-It would be in breach of its agreement with Levi Strauss and thus liable for substantial damages.

b.	Similarly in relation to the Columbia issue, Mr Moss says that an interim injunction would have caused Tag-It to breach its agreement with Levi Strauss which would have given rise to a substantial claim for damages.  

c.	So far as concerns 285, the Particulars of Claim do not plead that Holdings and/or USA could have given a cross-undertaking, either as regards Holdings and USA or as regards third parties.  It is not possible to speculate, without knowing what entities relief should have been sought against, the extent of any cross-undertaking required or, indeed, the amount of any loss which it is said that Holdings and USA might have suffered.

263.	I should say something more about each of those three issues – Interlinings, Columbia and 285.

264.	Interlinings are according to Mr Clay – his evidence is not challenged on this description - strips of fabric that are used in waistbands and in other parts of garments to add strength, support and bulk and to improve their appearance.  It is said that, far from threatening Tag-It with an injunction if it purchased interlinings from third parties, Holdings helped Tag-It to do so.  For instance, Tag-It purchased substantial amounts of elastic from a third party called Narroflex.  Paul was involved with Tag-It in resolving problems with the quality of the Narroflex product.  During this period, Holdings continued, it is said, to accept royalties from Tag-It in relation to these interlinings without any reservation of rights.  This, it is said, is acquiescence which would render any case for an injunction weak if not hopeless.  

265.	In addition, it is said that the court (whether in England or California) would have had to determine complex issues of fact before being able to determine whether Holdings was entitled to an injunction, something which is rarely done on such applications.  In this context, Mr Moss relies on Series 5 Software v Philip Clarke & Others [1996] FSR 273.  

266.	The 2002 Licence listed the countries covered by the licence.  Part 1 covered certain countries but not including Columbia.  Part 2 covered countries (other than Europe and Scandinavia) in which Tag-it had a desire to establish a factory to manufacture Product A or B which are to be used in Garments for the US market.  Holdings took the line that this required Tag-It actually to have set up a factory in the relevant country.  Tag-It’s view was that all that was necessary was for it to have a desire to do so.  Geoffrey Hobbs QC preferred Tag-It’s view; Mr Clay did not.  Mr Dunnill considers Mr Clay’s advice to be wrong.  It is not easy to see how an injunction could have been obtained on the basis that Mr Clay was wrong.  In any case, as I have already pointed out, the solution for Tag-It was to do what it actually did do in April 2004 to avoid any dispute namely lease the factory space, employed the employees and manufactured the waistbands.

267.	In relation to 285, both Mr Hobbs and David Young QC advised that 285 was included in the grant of rights within the 2002 Licence.  Mr Moss says that it would, therefore, have been difficult, to put it at its lowest, for Holdings to establish that it had a good prima facie case in relation to this issue.  

268.	In the light of all of this, Mr Moss submits that USA does not have a genuine cross-claim against Hammonds and that there is no credible evidence of an alleged quantum greater than the sums due to Hammonds.

269.	Without needing to say that the pleaded cross-claims against Hammonds could be subject to defeat on a summary judgment application by Hammonds, it is certainly the case that USA and Holdings could not themselves hope to obtain  summary judgment against Hammonds.  Indeed, I can and do say that the claims against Hammonds appear to me to be weak in the light the totality of the evidence currently before me and in the light of Mr Moss’s submissions and the matters which Mr Clay has highlighted.   However, were this a winding-up petition, I would hold that there is a genuine and substantial claim so that, in the absence of special circumstances, the ordinary practice would apply, provided that the claim is that of USA and not Holdings alone. 

270.	In this context, one of the many difficulties facing USA is that Tag-It’s claims in Tag-It I are against Holdings not against USA as well, and the counter-claim for damages and patent infringement in Tag-It I is brought by Holdings alone.  The costs of the Californian litigation are, it seems to me, the primary liability of Holdings.  That is accepted by Mr Pearson who now says that the costs actually paid by USA should be shown as an inter-company debt owing by Holdings.  

271.	Accordingly, Mr Moss submits that the extra costs allegedly incurred in having to litigate in the US were, ultimately, incurred by Holdings not by USA even if they were paid by USA in the first place.  USA acted throughout as agent of Holdings and is entitled to reimbursement of money’s spent on Holdings’ behalf.   As far as USA is concerned, the resulting liability is one from Holdings to USA.  

272.	One needs to be clear here that the costs which it is sought to recover as damages (or to be set off against Hammonds fees) are not Hammonds’ own costs.  If the litigation had commenced in England, Hammonds would no doubt have incurred more fees than they actually did incur and would have had to carry out the work or much of it which they did carry out.  What it is sought to recover are the costs of the US attorneys and English expert witnesses who would not otherwise have had to be instructed.  These are costs which USA would be entitled to recover from Holdings assuming that USA pays them in the first instance.  Holdings and USA’s case is that they are both solvent so that payment by Holdings would not, on their case, present a problem (subject perhaps to short term cash flow difficulties).  

273.	Now, if Holdings is correct in its claim against Hammonds, Hammonds are liable to it in respect of those same costs so that Holdings will, on its case, be entitled to recover damages from Hammonds.  But that is not a defence to Hammonds’ claim against USA for their own fees nor does it give rise to a cross-claim by USA against Hammonds.  It is a factor to be taken account if in the exercise of the discretion whether to make an administration order but, even if the practice in relation to winding-up petitions were, contrary to my view, to apply to administration applications, it does not follow that a factor of this sort would bring the case within the practice.  

274.	As I have said, this approach is reflected in Mr Pearson’s own evidence where he explains that USA is not a party to Tag-It I but has been meeting Holdings’ legal costs; the payment is in reality an inter-company loan albeit not reflected in the first pro-forma balance sheet which I have referred to.  

275.	It is not to be overlooked, in any case, that some of Hammonds’ fees relate to matters other than the Tag-It litigation.  The negligence claim asserted relates, therefore, to different subject matter from those claims and whilst it would be a matter to take into account in the exercise of discretion, there is no defence to a claim for those fees or a right of equitable set off.

276.	Another problem facing USA is that Tag-It II, in which USA is a defendant, was commenced when Tag-It saw that things were not all going its way in Tag-It I.  No doubt, if proceedings had originally been brought by Holdings in England, Tag-It II would have seen the light of day in California in any event.  This possibility may well have some impact on the damage which can, even if Hammonds’ advice was defective, be said to flow from that advice

277.	I should deal also with a number of points which came up at a late stage – I make no criticism of anyone for that – and are to be found adumbrated in Philip’s third affidavit where he addresses two (but not the others) of the refutations of the negligence claim made by Mr Clay in his fourth affidavit.

278.	The first is this.  Philip says that USA had an average cash balance of £400,000 and unused overdraft facilities of £300,000 throughout 2004 and that USA would have been “prepared to spend whatever was reasonably necessary to ensure our dispute with Tag-It was litigated in England”.  But as the balance sheet for 30 September 2004 available shows, there were creditors with amounts due within 12 months of over £2 million, slightly in excess of current assets (and the bank balance at that date was in fact only slightly over £384,000).  Although current liabilities had reduced to £1.6 million by 30 September 2005, net current liabilities had increased to over £650,000 due to a fall in current assets as a result of a reduction in stocks, debtors and cash in hand.  Mr Moss comments that a company whose current assets are lower than its current liabilities is hardly in a position to take on major litigation against a highly litigious US corporation of much greater size, let alone give any meaningful cross-undertaking in damages.  (Unfortunately, since there is no breakdown in the accounts of debtors, I cannot say how much of the debts to Libra, Hammonds and Mr Roup/WRSS is reflected in the accounts and what impact taking those amounts out of account would have).

279.	The second point is this.  As I have already mentioned, Hammonds say that USA allowed Tag-It to purchase interlinings from third parties without objection (at a time before Hammonds acted) with the result that an application for injunctive relief would be difficult to make.  Philip suggests that when threatened with termination of the 2002 Licence as a result of this breach, Tag-It stopped purchasing interlinings from third parties, confirmed its intention to comply in future with the 2002 Licence, recommenced purchasing interlinings from USA and made an advance royalty payment of $450,000.  Tag-It, according to Philip, subsequently claimed that there were problems with the Narroflex interlinings which had already been supplied and asked Paul to act as an expert in resolving its dispute with Narroflex.  This request, he says, came after Tag-It had resumed taking supplies from USA.  Philip says that it was some time after Hammonds had been instructed that USA became aware that Tag-It had for a second time begun wrongfully to purchase third party interlinings.  According to Philip, Paul says that he, Paul, immediately told Mr Clay about this.  Mr Clay did not, at that time, suggest that an application should be made to prevent Tag-It from doing this.  Indeed, it was not raised or discussed with anyone at Hammonds.

280.	No documentary evidence has been produced to support what Philip says in that regard.  Mr Clay, in his fifth affidavit, explains why, in his view, this is wrong:

a.	First, Mr Clay says that the implication of what Philip says is that Tag-It stopped buying interlinings from Narroflex before Paul started to help with the problems it was having with Narroflex elastic.  That must be right since, if it is wrong, it does not help USA at all – if Paul was helping Tag-It in relation to defective Narroflex products whilst, at the same time, allowing sourcing from Narroflex to continue without objection, then the point being made by Hammonds is entirely correct.  Mr Clay says that it is clear from an email to Mr Dyne sent on 28 July 2004 that Paul was in fact helping Tag-It to use Narroflex interlinings.  That, I think, is perfectly clear from the email and, equally importantly, it was being done at a time when sourcing from Narroflex was continuing.  Thus Paul writes:

“Going back to the start of last year, just how many million garments were made with the previous “US” interlining produced in breach of our agreement, which delaminated under the fusing conditions at the time?  It may be helpful for you to remember that the production wasn’t stopped – in fact every conceivable effort was organised to get the original “US” interlinings to “work”

b.	Secondly, Mr Clay says that the dispute between Holdings and Tag-It about third party interlining supply had begun in late 2002, a proposition which I consider is born out by the contemporaneous correspondence.  He says that Holdings and Tag-It had a meeting on 13-14 March 2003.  Tag-It did not, at that meeting, confirm its intention not to buy interlinings from third parties: certainly there is nothing to the contrary in the note of that meeting prepared by Hammonds.  Even after that meeting, Tag-It were still purchasing interlinings from Narroflex.  That the interlinings issue was still continuing in early 2004  is shown by the correspondence, in particular Harbottle & Lewis’s letter dated 13 February 2004 to USA’s then solicitors, Gordons and Paul’s letter dated 6 April 2004 to Mr Dyne. 

c.	Accordingly, Mr Clay suggests, preservation of the status quo favoured Tag-It being able to continue to source interlinings from third parties as they had done previously.  

d.	So far as the Columbia issue is concerned, Mr Clay points out that Mr Inman did in fact advice Paul about the possibility of seeking an appropriate injunction. This advice is contained in Mr Inman’s letter to Paul dated 10 December 2003. Holdings did not follow that advice.

281.	I would put point (c) in a different way: since injunctive relief had not been sought promptly, an injunction ought not to be granted at least in the absence of a compelling need for one to protect the position of Holdings.  There was no compelling need since there is no reason to think that damages would not provide an adequate remedy for Holdings.  Mr Sutcliffe contends that damages would not be an adequate remedy for USA since, he claimed, Tag-It was in financial difficulties.  It is true that it had been loss-making.  But one can see from the SEC filing for the year end 30 September 2005 that current assets as at December 2004 were $40 million with total assets as $56 million against current liabilities of $11,175,000 and total liabilities of $26,252,000.  This does not appear to me to be a company which would have been unable to meet any damages claim arising from breach of the 2002 Licence.

282.	There are some other points arising out of Philip’s third affidavit.

283.	He makes a point about the serious effect that an administration order will have on USA’s own suppliers.  He refers to 14 suppliers of raw materials, 5 suppliers of special services and 26 suppliers of machine parts and machines who would be affected.  He says that 38 of these suppliers are small companies based in and around West Yorkshire and would be likely to be greatly affected if USA were put into administration.  

284.	Mr Clay makes a number of points in relation to that which, in summary, come to this: the business strategy of the Morris family, as revealed by International’s business plan (and I would add the Chairman’s report (dated 29 March 2007) to the 2005 accounts) is to move away from being a manufacturer and supplier.  Thus “The concentration is now on the commercial exploitation of its waistband technology and the development of additional technologies to be sold or licensed whilst controlling the manufacturer of its products through agreement with outsourced suppliers around the world”.  And “….all other functions, particularly manufacturing and direct selling will be outsourced or run by joint venture partners”.  It is also said, in effect, that Philip is being disingenuous (or worse) in referring to the supply by local suppliers of, for instance, base elastics, whilst failing to mention the intention to source elastic for interlinings from Kufner (a major multinational) which is one of International’s strategic partners.  It is said that the aim of the Morris family is to use Kufner’s worldwide relationships with large clothing brands and their manufacturers to win business and then to supply the local manufacturer with produce sourced from Kufner.

285.	I would add that, just as I have found the lack of financial information presented to me by USA to be remarkable, so too do I find theses references to suppliers to be remarkable in their unhelpful generality.  It may be that some commercial confidentiality constrains USA from being more open (although it is difficult to see why that could not be managed given that Hammonds has no possible commercial rivalry with Pro-Fit) but there is not even an indication of the scale of supplies made by any of these suppliers or the size of the suppliers.  It is wholly impossible to assess what, if any, commercial impact there might be for them if an administration order were made in relation to USA. 

Mr Clay’s note to his partners
286.	On 10 March 2007, Mr Clay prepared a note to his partners entitled “Pro-Fit USA Limited: Dealing With Their Indebtedness To Hammonds”.  It seemed as though there would be a dispute about privilege when Mr Sutcliffe sought to rely on this document.  That was deflected when Hammonds waived such privilege as existed.  They were, it seems, very sensible to do so since the document seems to me to provide no assistance to USA.

287.	In the Note, Mr Clay gives a brief description of the companies – USA, International, Holdings Pro-Fit Stretchtape Technology Ltd, Pro-Stretch Ltd and Pro-Fit North America Ltd.  International is described as having “some kind of licence” which Mr Clay considers later in the Note.  Mr Clay then describes the technology briefly.  It may not be an accurate description – it is certainly not complete – but I do not think anything turns on that.  Mr Clay then describes four licences and then the litigation in the US with Tag-It.  He states that Holdings should win the Tag-It I litigation across a broad front if it had the money to fight the case.  As to Tag-It II, he states that the litigation has a long way to go and contains many wild inaccurate allegations, it having been started “with a view of spending [Holdings] etc into the ground”.

288.	Mr Clay considers two outcome scenarios.  First, “If They Play Ball” and second, “If They Won’t Play Ball”.  In the latter case, Mr Clay envisaged appointing a liquidator (ie of USA) and then liaising with HSBC (secured creditors for bank lending).  He identifies the obvious purchasers of the IP as Tag-It, YKK (the Japanese zip manufacturer whose indicative offer Mr Brewer had relied on in his valuation).  Further, he suggests that the liquidator could seek to “unpack [USA’s] most recent two licence deals (to Stretchtape Licensing Ltd and [International]”.

Solvency (continued)
289.	After that long digression, I now return to the question of solvency. In his first affidavit, Mr Ellis says that in his view USA is insolvent; that view, however, is based exclusively on the financial information given in Mr Clay’s first affidavit.  I do not propose to spend time on this, because matters moved on a great deal from Mr Clay’s first affidavit after which it was possible for a much fuller picture to be painted.  The evidence is as follows.

290.	Intangibles: Mr Ellis, basing himself on Mr Clay’s statement that all of USA’s exploitation rights were transferred by the 2006 Licence, considers that a value placed on this asset should be reduced by £350,000 ie the amount of Mr Brewer’s valuation.  Mr Pearson takes the view that the 2006 Licence only transfers rights to IP in respect of stretch waistbands which, he says, in only a very limited application of the Pro-Fit technology.  Further, he says that he is advised by Mr Dunnill that the 2004 Licence cannot have transferred any rights in the US patents as it is subject to the 2005 Licence.  Accordingly, starting with the figure in the 2005 balance sheet, the 2007 balance sheet is correct.  I find Mr Pearson’ reasoning wholly unpersuasive.  It may explain why the figure in the 2007 balance sheet is correct but it is an explanation which creates two difficulties.  First, it is based on the proposition that the 2005 Licence is superior so that the US IP rights in waistbands are not transferred: but that shows, for the reasons discussed in detail in my analysis of the licences, that the figure of £350,000 cannot be supported as the correct revaluation figure in the 2005 balance sheet – at least, as is the case, if the only basis for that revaluation was Mr Brewer’s valuation.  Secondly, he says that waistbands are only a limited part of the technology.  That may be right.  But there is nothing to suggest that the actual exploitation of non-US waistbands has taken place on a significant scale or that the machinery element of that exploitation has large.  

291.	Neither Mr Brewer’s nor Mr Hindley’s valuations assist me in establishing the real value of the rights which have been licensed by the 2006 Licence either on the basis that they are free from or subject to the 2005 Licence.  One might deduce form Mr Brewer that they were, in July 2006, worth something well under half of his £350,000 value, but that is a matter of some speculation on my part.  One can also see that, if Mr Hindley’s draft report could be relied on, that the rights (including the US patents free of the 2005 Licence and the 2002 Licence) would be very valuable but what value he would place on those rights (let alone the more limited rights granted by the 2006 Licence) subject to the 2005 Licence – or just the 2002 Licence – is not possible to say. 

292.	 I should also remark that the consideration payable under the 2006 Licence does not feature in the 2007 balance sheet: Mr Pearson confirms that it does not feature in the figure for debtors.  In comparing the assets and liabilities of USA, one would expect that to come into account somewhere although, as a matter of accounting practice, I do not know how it should feature in a balance sheet.

293.	Stock: Mr Ellis says that there is no indication of the basis on which stock has been valued.  Mr Pearson says, and I see no reason to doubt what he says on this point, that it is valued at the lower of cost and net realisable value in accordance with UK GAAP.  

294.	Debtors: Mr Pearson says that the figure represents total debtors less factored invoices and therefore presents a true picture of the sums actually receivable.  Whether this is true or not, it is one of the assertions which USA has seen fit not to back up with any documentation or financial information of any sort.  Mr Pearson says that the figure comprises the £750,000 Red Kite share subscription and £314,177 of trade creditors.  The increase from 2005 reflects, he says, the “more buoyant trading of [USA] at the present time” and demonstrates that Mr Clay is incorrect in saying that USA is not a trading company.  

295.	As to that, Mr Pearson, in his first affidavit, says that Mr Clay is wrong in stating that USA is not trading.  He asserts that it does trade and generates revenues of nearly £80,000 per month (he said £100,000 at one point but that was clearly an innocent mistake).   The implication is that that is non-royalty income; he does not state the cost of generating that income or indeed whether it results in a profit.  He has not even produced a bank statement or a single invoice to support his assertion.  He does not give any indication of the cost of producing that income.  Given Hammonds expressed position that they do not consider USA to be trading at all, I have to say that I find the lack of evidence from USA about its activities and financial position to be quite remarkable.

296.	Mr Ellis complained that the figure (£843,265) for trade creditors in the 2007 balance sheet contained no breakdown, something which he considered essential to test whether USA is able to pay its debts as they fall due.  Mr Pearson says that that figure includes Hammonds invoices (£422,199) and therefore not, by inference, work in progress, and sums invoiced by other professional advisers (£82,221).  The balance is, he says, made up of general trade creditors such as suppliers of machinery and stock and services and utilities.  Nothing appears under this head in relation to Mr Roup, or, I assume WRSS.  Nor does anything appear under this head in relation to RKMC save insofar as it is included in the £82,221. Mr Pearson says that the proper accounting treatment of Hammonds fees is to exclude them from the balance sheet but that they have been included to show USA’s solvency even so.  Reading the balance sheet without that explanation, provided after criticism from Mr Ellis, one would not have appreciated this.

297.	Mr Ellis also remarks that the 2007 balance sheet contained no explanation of the figure for other creditors.  Mr Pearson explains these as accrued expenses and income received on advance orders; their inclusion, he says, is further demonstration that USA is trading.  

298.	Mr Ellis also complains about the absence of documentation in support of the entry for Bank Loans and remarks on the substantial reduction since 2005 (of over £630,000).  Mr Pearson says that this reduction is indeed correct and reflects the fact that USA is effectively managed and is reducing bank loans and overdraft in a controlled and structured manner.  Mr Pearson has now explained that the bank facilities are “on demand” but that no demand has been made and he exhibits a facility letter to that effect.  

299.	So far as cash generation is concerned, the first pro forma balance sheet of 25 April 2007 shows a balance (of £152,613) on profit and loss account as compared with £129,402 on 30 September 2005.  This represents a loss over the period of £282,015. or about £14,000 per month.  During this same period, there has been the significant reduction in overall bank indebtedness.    It is true that if one takes the revised 2007 balance sheet figures, the balance on profit and loss account is £63,400.  I have no comparative figure for a revised 2005 balance sheet to assess what the loss over the period might have been.  That it was still a loss and not a profit is shown because the balance shown on profit and loss account in the balance sheet has reduced.  That would give a monthly loss of under £4,000.  

300.	Mr Pearson seems to confirm these losses, stating that they have arisen as a direct result  of the Tag-It litigation.  It is for this reason that USA has been concentrating its efforts on developing business in the UK, Europe and the Far East, it being anticipated that these new areas will eventually compensate for the loss of USA business.  The waistband part of this development, however, has been licensed , so far as concerns sub-licensing rather than direct manufacturing, to International; and waistbands have in the past formed the vast majority of USA/Holdings’ business.  So I am not quite clear what Mr Pearson is really saying.  But what is clear is that there has been a loss so that it is not clear how the business can at the same time have been making losses and yet (as he says earlier in his second affidavit) been more buoyant unless perhaps trade has improved but increased legal costs for the Tag-It litigation have more than matched the increase trading profit.  

301.	Even after Mr Pearson’s explanation, it remains unclear to Mr Ellis and it is unclear to me where the cash has come from to achieve this change.  Production of the underlying financial data might explain this but USA has not seen fit to produce any funds flow statement or management accounts.

302.	Mr Ellis has a number of comments on the items shown under long-term liabilities.  I need only mention one clarification made by Mr Pearson which relates to the entry under trade creditors of (£257,050).  He explains that this is the (outstanding) amount due to creditors after one year, principally RKMC “who are owed £211,240 and who have accepted the financial proposals to professional creditors that were rejected by Hammonds in 2006”.

303.	I have already mentioned Mr Pearson’s explanation of the Red Kite investment of £750,000.  At the 2007 balance sheet date, nothing had been paid and the whole subscription is found under current assets as a debtor.  The subscription, he says, is payable on demand.  Since then, £250,000 has been paid as Mr Pearson puts it “including the monies required to meet the substantial costs of defending these administration proceedings”.  Mr Pearson does not reveal whether that injection of £250,000 has actually been spent.  Presumably it was needed for that, or some other, purpose otherwise there would have been no reason for it to have been paid yet.

304.	Mr Ellis explains that accounting practice is to show contingent liabilities if it is probable that there will need to be a transfer of economic benefit reflecting a liability crystallising.  Accordingly, he accepts that Tag-It’s claim should not be reflected.  A contingent asset (such as an uncertain legal claim being pursued through the courts) should be disclosed as a note where an inflow of economic benefit is probable.  A contingent asset should only be reflected in financial statements if it has become virtually certain that an inflow of economic benefit will arise.  The claim against Tag-It is not shown in the 2007 balance sheet – correctly because it cannot be said to be virtually certain to succeed.  In any case, it is a claim of Holdings, not of USA.

305.	So far as Hammonds fees are concerned, Mr Pearson (who is not an independent expert witness) seems to consider that the balance sheet should not reflect the claim.  This is on the basis that the same treatment should be afforded to Hammonds’ invoices as applies to Tag-It.  That is not, I think, right.  It cannot be said that Holdings’ claim against Tag-It is not “virtually certain” to succeed: nor can it be said that it is “probable” that Tag-It’s cross-claim will succeed.  In contrast, Hammonds have a right to their fees subject only to the cross-claim.  The claim by Hammonds – a liability of USA – is at least “probable” to succeed and should be shown.  The cross-claim by USA/Holdings cannot be said to be “virtually certain” to succeed.  In any event, the issue for me is whether there is an excess of liabilities over assets and accounting treatment is not necessarily conclusive of that issue.

306.	Mr Ellis in his original evidence stated that USA’s evidence did not address the issue of cash-flow insolvency.  Mr Pearson disagrees, but in order to make the matter clear, he gives further evidence in his second affidavit.   What Mr Pearson says is this:

a.	Mr Ellis relies only on non-payment of Hammonds fees as evidence of cash-flow-insolvency something which he says is hardly surprising given that none of USA’s other creditors is prepared to support the application.  He says that USA is meeting its other debts as and when they fall due.

b.	He says that there is no need to produce the funds flow statement or the profit and loss account from September 2005 which Mr Ellis wanted to see because there is no need to produce that commercially sensitive and confidential information since 

i.	The only fact which Hammonds can rely on is the failure to pay Hammonds fees.

ii.	He, Mr Pearson, has provided a detailed analysis of the financial position of USA and thereby established the cash-flow and balance sheet solvency of USA.

iii.	The 2006 Licence has had no adverse effect of the cash-flow nor trading position of USA to date and now will it do so in the future.

iv.	USA has sufficient available turnover, cash reserves and indrawn share capital to support Holdings in the Tag-It litigation.  But if further funds are required, Red Kite has confirmed that funds will be made available.

c.	He deals with various creditors whose debts had featured in Mr Clay’s evidence namely Mr Roup, Libra, RKMC and Carle; there is, of course, Hammonds’ own debt too.  On the footing that all of these debts (except that owing to RKMC which has been restructured), are challenged, Mr Pearson says that there is nothing in the assertion that USA is unable to pay its debts as they fall due.

307.	Mr Ellis does not accept Mr Pearson’s financial assertions which are unsupported by evidence.  He is unable, in particular, to reconcile, without seeing the information which he had identified, how USA is able to generate the cash flow to support its loan to USA and repay its indebtedness to USA.  I would add to that the need to meet the instalment payments which are payable to RKMC.  

308.	Dealing with Mr Pearson’s points, I disagree that the only fact which Hammonds can rely on is the non-payment of its own fees.  It is not right simply to ignore the claims of Mr Roup, Libra and Carle.  I accept, as I do in relation to Hammonds, that the fact of non-payment once the amounts are challenged is not evidence of inability to pay.  But what is clear to me is that, at the time when the Loan Note arrangements were under negotiation, USA was indeed unable to pay its debts (including the professional fees then acknowledged but now challenged) as they fell due.  Even if it is right today to ignore those disputed debts altogether, the fact remains that RKMC’s debt is being paid by instalments.  It has not been demonstrated to my satisfaction that the payment of their debts in full is not something which they could insist on.  But even if they could not, so that USA is entitled to pay by instalments, there is nothing in the material before me which shows how the future instalments are to be paid.  I do not see where the cash for payment is to come from.  Quite apart from that, I have seen nothing to explain that part of Mr Roup’s claim which represents WRSS’s fees is not an obligation of USA.  It cannot simply be left out of account.  

309.	Mr Pearson states that Red Kite has said that it will provide further financial support for the Tag-It litigation if necessary.  What Mr Ross (of Red Kite) actually says that it will do so “subject to agreement of appropriate commercial terms” which is something rather different.  Neither Mr Pearson nor Mr Ross has said that Red Kite will meet RKMC’s debt or any other outgoings of USA.  All of this suggests clearly to my mind that the £750,000 investment, or such of it as remains unpaid, is earmarked for that litigation too.  Red Kite might have something to say if the investment was utilised for other purposes (eg to pay off the bank) leaving insufficient to fight the litigation (as to which the estimates to trial are some hundreds of thousands of dollars).  I cannot say that there is not the cash-flow to pay other creditors since I have not been shown any financial material which would be relevant to establish that; the unwillingness of USA to provide that material is not something which encourages me to think that USA is able to meet its obligations.

310.	I do not agree with Mr Pearson when he says that he has provided a detailed analysis of the financial position of USA and thereby established the cash-flow and balance sheet solvency of USA.  He has made some assertions, which may be correct, but which are unsupported by financial information, and which lead Mr Ellis to harbour serious doubts.  

311.	Mr Pearson says that the 2006 Licence has had no adverse effect on the cash-flow or trading position of USA to date and nor will it do so in the future.  That may be true in relation to USA’s existing non-waistband business, but I do not see how he can say it will have no effect in the future given that, absent the 2006 Licence, it would be open to USA to exploit the rights which it had granted to International (albeit subject to the 2002 Licence and the 2005 Licence to the extent that they are valid and continue).

312.	I am not satisfied that USA has, or will in the future, have sufficient available turnover, cash reserves and indrawn share capital to support Holdings in the Tag-It litigation in the light of its overall obligations, even ignoring the disputed debts.  I would be of that view even if USA did not need to incur legal costs apart from the Tag-It litigation.  But that is not so.  It now has major litigation on foot against Hammonds, Libra and Mr Roup.  The evidence on behalf of USA does not deal with how that litigation is to be funded.  I think that I can take notice of the significant costs which are likely to be incurred in assessing whether USA is, or is likely to become, unable to pay its debts as they fall due.

313.	As to the inter-company debt now shown in the revised 2007 balance sheet, the reality which is that Holdings’ only assets are its subsidiaries, USA itself and another non-trading company, and the value of its claims against Tag-It.  In relation to that other subsidiary, the financial information before me is virtually non-existent.  What little information there is suggests that it has no value.  Accordingly, Holdings’ financial position is no better than that of USA.  Unless and until it succeeds in its claim against Tag-It, Holdings could not possibly afford to meet the inter-company debt which on this analysis is owing if, as Hammonds submit, USA is in fact insolvent (Holdings’ other subsidiary not being of significant value).  The conclusion must be, as Mr Moss says, that recovery of £302,476 is unlikely.  It is certainly inappropriate to regard USA as having an asset of that value when comparing its liabilities with assets for the purpose of ascertaining its solvency.  

314.	Mr Sutcliffe of course, submits that the evidence of Philip and Mr Pearson establishes beyond any doubt that USA continues to trade and is able to pay its debts as they fall due.  This was so, he says, even before Red Kite made its investment of £750,000 on 25 April 2007 (which it did not in fact make but at most agreed to make).  He says that at that time USA had reached an accommodation with its bankers HSBC and with all other creditors whose debts are accepted.  He says that following Red Kite’s injection of capital, USA’s solvency cannot be questioned.  This has never been a proper, let alone an urgent, application.  USA has continued to trade since the application was issued ie for a period of 3 months at the time of the hearing before me, which is, it is said, a clear indication that the appointment of administrators is unnecessary.  As to that, I am not aware of any authority or principle which suggests that an administration order should only be made where the case is one of urgency.  Further, continued trading does not necessarily demonstrate that an administration order is unnecessary.  A company might well be continuing to trade even though it is technically insolvent – either because it cannot pay its debts as they fall due or because its liabilities exceed its assets.  Continued trading may then show that, if an administration order is made, the company can be rescued, in the sense of being placed once again on a sound financial footing, and able to pay its debts as they fall due and, by way of debt restructuring, with its assets in balance with or exceeding its liabilities.

315.	Mr Moss would say that that is somewhat self-serving and begs an important question: it is no coincidence, he says, that precisely those debts where the creditor would not agree to the debt restructuring that one finds a dispute being manufactured.  During the period when USA was negotiating the loan note provisions with its professional creditors, there was no suggestion that monies were not due.  Thus the memorandum of the proposed terms of the loan note showed, as already mentioned, debts of $1,018,000 even excluding Hammonds’ debt of £556,450.  Those other debts therefore amount to well over £500,000, more, as it happens, than the £500,000 balance of the £750,000 subscription from Red Kite which remains unpaid.  Of the £250,000 which has been paid, I am told nothing about where it has gone although there are suggestions that it too has gone on legal costs. 

316.	RKMC, have accepted, as I understand it, the Loan Note proposal.  Accordingly, their debt, which remains undisputed, is payable in four annual instalments.  But the underlying debt has not been extinguished and remains payable in due course.  However, whether RKMC is legally bound to accept repayment in instalments or whether it could decide to claim the whole balance immediately I do not know.  I have not been told the terms of the restructuring and can only assume that it is on the basis of the terms of the Loan Note which I have mentioned.  Those terms do not provide for interest.  Accordingly, there is not – or at least it is not immediately apparent that there is – any consideration for the agreement to accept payment in instalments so that, were English law to apply, the debt could be immediately enforced.  Manifestly, it is said by Mr Moss, USA is unable to pay that debt out of its available resources so that it cannot pay its debts as they fall due.  On this ground alone, Mr Moss submits that insolvency is shown for the purposes of Schedule B1.  I agree.  But even if that is wrong, there is, as I have said, nothing, or nothing sufficient, to show how the future instalments will be paid.  USA is likely to become unable to pay its debts as they fall due.

317.	In relation to the Libra claim, it is suggested that USA might be assisted by a provision in the agreement between Libra and USA which enables payment to be deferred (and then renegotiated) if USA cannot reasonably pay the fee at due time because of cash constraints.  It seems to me that this provision can only be invoked in precisely the circumstances which would lead one to conclude that USA was unable to pay its debts as they fall due; at least the invocation of this provision would lend considerable support to that conclusion even if the conclusion did not follow as a matter of necessity.  It does not really assist USA on the present application. 

Discussion
318.	I am satisfied, on all the evidence before me, that USA “is or is likely to become unable to pay its debts” within the meaning of paragraph 11(a) Schedule B1.  In particular, I am satisfied that USA is unable to pay its debts as they fall due.  I accept that different views could be taken of the evidence.  So I would add this: even if USA is able today to pay its debts as they fall due, I consider it is likely that it will unable to do so in the foreseeable future so that it “likely to become unable to pay its debts”.  I can say without any doubt that I am not satisfied that USA is able to pay its debts as they fall due.  The evidence on behalf of USA is inadequate to show that that is so; I would require a far fuller picture to be presented to me to enable me to understand why that is so.  But that is not the test: instead the test is the other way round and I must be satisfied that the company is unable to pay its debts as they fall due.  I am so persuaded in the light of the analysis of the figures which I have presented that that is so.  I reach this conclusion without drawing any adverse inferences against USA; I am bound to say, however, that I have found the absence of supporting financial material very unhelpful (as did Mr Ellis) and that, were it necessary to do so, I would draw such adverse inferences.

319.	I am less sure that USA’s liabilities exceed its assets.  The pro forma balance sheet may be correct from an accountancy point of view, but in assessing assets, I think the following adjustments would need to be made:

a.	For reasons already given, I do not consider that the figure for intangibles can be right.  I have no basis on which to assess the proper figure other than to take a proportion of Mr Brewer’s valuation as being attributable to non-US business.   The value of the consideration payable under the 2006 Licence would need to be brought into account as an assets but given that International is not trading, and does not appear that it will do so, the value of the Licence must be questionable.

b.	The inter-company loan would appear to be of no real value at the present time.

c.	Debtors includes the entire £750,000 of which £250,000 has since been paid and subsequently, it seems, spent.  A reduction by £250,000 is required.

d.	The WRSS part of Mr Roup’s claim ought to be brought into account.

e.	Hammonds’ debt should remain as the fee claim is a valid claim subject to a cross-claim.  

320.	Taking account of all these adjustments would bring USA close to the line between net assets and net liabilities.  I am not satisfied that it would bring USA to the liability side of that line.  If one were to bring the Libra claim into account, then the case would clearly fall the wrong side of the line from USA’s point of view.  I do not have sufficient material to enable me to say that the Libra claim should be brought into account.  

Purposes of the administration 
321.	I have already considered the meaning of “purpose” in paragraph 11(b) Schedule B1 and concluded that the purpose is the effecting of the objectives set out in paragraph 3(1) in the order of priority there laid down.  

322.	Mr Sutcliffe appears to take a narrower view and submits that the only potential purposes for making an administration order are those stated in paragraphs 3(1)(a) and (b) Schedule B1.   I may have misunderstood his submission – I hope he will forgive me if so – but I understand him to submit that, as under the old regime, it is necessary to be able to say which of those purposes will be achieved.  In the present case, he says that neither of those objects is fulfilled.

323.	As to paragraph 3(1)(a) (“rescuing the company as a going concern”), he says that USA is, and continues to be, a viable “going concern” and that there is no prospect of its ceasing to be so.  It does not therefore need to be, nor could it be, rescued as a going concern.  The stated plan for the administration is to seek to set aside the 2006 Licence and then to realise assets.  It is said that this plan is based on the misapprehension that USA is a non-trading company whereas it is in fact a trading company which continues to trade.  It is said that the effect of this plan would be to bring about the end of the company rather than rescue it.  

324.	I disagree with quite a lot of that.  First of all, the proposals of Mr Ellis and his intended co-administrator are not to dispose of the IP rights come what may.  If he finds, on taking office, that USA is trading, as Mr Pearson says it is, he will examine ways in which it might be possible, if desirable, to continue the business.  Secondly, even if the underlying business is sound, I have concluded that USA is not – or if not already certainly will in the foreseeable future be – unable to pay its debts as they fall due.  It follows that the company is in need of “rescue” (if it can be achieved) within the meaning of paragraph 3(1)(a).  The administrators may be able to deal with matters in a way which enables the business to continue whilst, at the same time, avoiding insolvency.  Or, if they fail to do that, they will realise assets for the benefit of the creditors as a whole, which brings us to the second objective found in paragraph 3(1)(b) (“achieving a better result for the company’s creditors as a whole than would be likely if the company were wound up”).

325.	Mr Sutcliffe says that that paragraph is inapposite.  He says this:

a.	There is no basis for a comparison between the potential outcomes of a winding-up and an administration order.

b.	USA could not be wound up by a petition from Hammonds (or from Tag-It, Libra or Mr Roup) because, whatever the practice in relation to administration applications, the settled practice in relation to winding-up petition is not to allow the petition to proceed (save in very exceptional circumstances) in the case of disputed debts.  Each of those debts, it is said, is bona fide disputed on substantial grounds or is subject to a genuine cross-claim for a sum greater that the alleged debt.

c.	Even if the comparison were valid, there would be no “better result….” from and administration; an administrator would be in no better a position than a liquidator.  

326.	Mr Sutcliffe does not address the third objective set out in paragraph 3(1)(c) – realising property in order to make a distribution to secured and preferential creditors.

327.	The fact that a company cannot be wound-up pursuant to a winding-up petition does not mean that it cannot be made subject to an administration order.  Indeed, the statutory provisions allow for administration orders to be made when there is no jurisdiction to make a winding-up order, for instance where it can be said that the company is likely to become insolvent but where at the time in question is not yet insolvent.  Similarly, in my view, the fact that a winding-up order would not be made on the petition of a creditor whose debt is disputed, does not mean that an administration order could not be made.  It is still perfectly possible to make a comparison between what would happen on each assumption ie winding-up or administration.

328.	Although Mr Moss, in his closing submissions, says that USA has not suggested that if an insolvency proceeding has to take place, administration is not preferable to liquidation in terms of the result for creditors, I think that is precisely what Mr Sutcliffe does say in his skeleton argument.  

329.	As to that, and assuming for the moment that insolvency is established, I agree with Mr Moss that the stay on creditors’ remedies, the ability to continue litigation (eg against Tag-It or Hammonds) to swell USA’s assets and the ability to investigate (and challenge if appropriate) the 2006 Licence (assuming that I am satisfied that there are at least grounds for concern meriting investigation), gives the administrator a reasonable prospect of achieving the objective set out in paragraph 3(1)(a), although I recognise that automatic stay may not take place in California, the effect of an English administration on Californian proceedings being a matter for that court.   But even if that is wrong – or if rescue turns out to be impossible – then the objectives in paragraphs 3(1)(b) and (c) should be capable of achievement.  There is, in my judgment, jurisdiction to make an administration order if I am satisfied that USA is or is likely to become insolvent.

Abuse of process
330.	Mr Sutcliffe submits that Hammonds’ application is an abuse of process and that I should refuse the application for that reason alone.  Six grounds are relied on: 

a.	It is pointed out that Hammonds were aware for over a month before the application was issued that the reason for non-payment of invoices was because the debt was disputed.  They had received a detailed letter of complaint from USA’s new solicitors and had promised a detailed reply.  They did not provide one but instead issued the application.  As it turns out, only two of the complaints are being pursued in the Leeds litigation.  Although I do not regard the cross-claim as other than bona fide and substantial, I have rejected, as a matter of law, the view that the practice in winding-up petitions should apply to applications for administration orders.  Accordingly, I do not think that there is anything in this complaint.

b.	It is said that Mr Clay’s evidence was materially misleading in two critical respects:

i.	Mr Clay referred to USA as having a contingent liability to Tag-It of $25 million with making any mention of the views he had expressed, favourable to USA, of Tag-It’s claim.

ii.	He referred to an “independent valuation”.  The first valuation has, it is said, been abandoned and second has been shown to be wholly unreliable.  In any case, Mr Hindley is clearly conflicted as a director of VCL which had, through Mr Brewer, given the valuation of £350,000 to USA in July 2006.

Mr Clay was, perhaps, less than full in his approach to the $25 million Tag-It claim.  I do not regard his statement, for use on an inter partes hearing and not on an application without notice, as amounting to an abuse.  So far as Mr Hindley is concerned, his evidence, as it turns out, has not been of a great deal of assistance.  USA has not, in any case, produced any subsequent evidence on its own behalf to show that Mr Hindley has placed an incorrect value on what he actually did value: the criticism of his evidence is more that it went to the wrong issue, a matter of criticism to be directed at his instructions rather than his opinion.

c.	It is said that Hammonds have been guilty of breach of confidence.  I am certainly not going to say anything on that subject especially given the time that was spent on it before Morgan J on an earlier interim application in this matter.

d.	It is said that all the parties giving evidence on Hammonds’ behalf have clear conflicts of interest.  In particular, the proposed administrators are Hammonds auditors and they have said they will use Hammonds as their solicitors.  As to that, Mr Moss accepts, hardly surprisingly, that the administrators will have to obtain advice from a different firm in relation to USA’s claims against Hammonds which may, I suppose, lead them to employ a different firm for all the purposes of an administration.  Although Mr Hindley has accepted instructions on behalf of Hammonds to give evidence seeking to undermine a valuation previously given by his own company,  I do not consider that any abuse of process is involved.

e.	It is said that Hammonds have used a completely inappropriate procedure to intimidate USA because they know that the consequences of an administration would be catastrophic for USA.  The negligence claim against Hammonds would be stifled and USA would be prevented from continuing run the Tag-It litigation to its conclusion.  For my part, I do not see why either of those conclusions would necessarily follow since the administrators, as officers of the court, could not possibly properly exercise their powers so as to let Hammonds off the hook if there is a good case against them or to abandon the Tag-It litigation if their advice is that it is a good claim.  Of course, if there are no assets to pursue either set of litigation, the position might be different.  But USA’s own position is that it is and always has been solvent.  There remains the balance of the Red Kite subscription to be paid which should go a long way to funding any litigation which the administrators consider it is proper to pursue.

f.	It is said that Hammonds have displayed an overaggressive approach in writing letters threatening to apply for personal costs orders against certain individuals (David, Paul, Philip, Mr Ross, Mr Pearson, Montpellier Capital Ltd and Red Kite).  I see no ground for complaint.  I do not consider that it would be an abuse of process – such an application may be unsuccessful and I make no comments one way or the other on the merits – to seek a wasted costs order against these persons.  If that is to be done, it is only right that the persons against whom such an order might be sought are warned of the possibility at as early a stage as possible.

331.	Accordingly, I reject Mr Sutcliffe’s submission based on abuse of process.

Discretion
332.	I have already concluded that Hammonds are a creditor for the purposes of paragraph 12(1)(c) Schedule B1 albeit that USA or perhaps Holdings has a genuine and substantial cross-claim, and that USA is “unable to pay its debts”.  My discretion is therefore at large on the basis of the law as I have found it.   Were it not for the 2006 Licence, I would exercise my discretion against making an administration order.  This is not a case where the company is clearly insolvent even though I am satisfied that it is insolvent.  There is no compelling need for an administration before the cross-claim against Hammonds has been determined; and the claims of those who support the application are themselves subject to litigation.  It may be – and I do not intend to indicate one way or the other – that on closer examination the claims by USA in relation to Libra and Mr Roup could be seen without foundation so that there is no bona fide defence and no bona fide counterclaim. But I am unable to assess that on the evidence before me.  

333.	However, the 2006 Licence, in my judgment, makes all the difference.  If, as Hammonds assert, that was a transaction at a substantial undervalue, then that is a very strong reason for making an order so that the administrator can investigate the position and make an application under section 238 within the 2 year time limit under section 240.  Whilst Hammonds have adduced valuation evidence which, on my analysis of the various licences, does not indicate the value of what was actually licensed by the 2006 Licence (largely because the effect of the 2005 Licence was not taken into account), I am satisfied that there is a substantial argument that the value of the rights which the 2006 Licence granted, were the 2002 Licence and the 2005 Licence not in place, far exceed the consideration given.  Quite apart from that, I also consider that there is a substantial argument that the rights actually granted, taking into account the 2002 Licence and the 2005 Licence, were not granted for full consideration.  The transaction was clearly one between parties not at arm’s length and no advice was taken about whether the consideration actually given represented full value (even if one takes £350,000 as the full value).  The terms of the 2006 Licence might be thought not to reflect the sort of terms which one would expect to see between parties acting at arms length.  There is, for instance, nothing which entitles USA to terminate the 2006 Licence in precisely the circumstances which have happened – that is to say, a failure by International to trade and thus give rise to income out of which USA can receive any consideration over and above the £50,000 payment.

334.	Accordingly, I would exercise my discretion in favour of making an administration order.  However, given Mr Pearson’s evidence that the 2006 Licence now serves no function, I am prepared to allow USA the opportunity to obtain a surrender of the 2006 Licence from International if it can obtain one on proper terms. I will delay  making an order in order to afford that opportunity. I will be able to hear submissions at the time to be allowed for that, on or prior to 24 August 2007, otherwise I will be unable to do so until October 2007.  

Conclusion
335.	I will make the administration order sought subject to giving the opportunity to USA to obtain a surrender of the 2006 Licence.