Endorsement – Plaintiff’s Motion for Interim Injunction/Defendants’ Motion for Security for Costs

COURT FILE NO.: CV-22-00688496-00CL DATE: 20231016 SUPERIOR COURT OF JUSTICE – ONTARIO (COMMERCIAL LIST)

RE: VAULTOSE DIGITAL ASSET SERVICES INC., Plaintiff AND: TILO KUNZ, 1946077 ONTARIO INC., WILLIAM (BILL) YAKAMOVICH, IOT CONSULTING, ATLANTIC TRUST COMPANY and QUANTUM SAFE DATA SYSTEMS INC., Defendants

BEFORE: KIMMEL J.

COUNSEL: Edward Babin and Michael Bookman, for the Plaintiff on Injunction Motion Michael Bookman and Daniel Babin, for the Plaintiff on the Motion for Security for Costs Ryan Evans and Malcolm Harvey, for the Defendants

HEARD: June 14, 2023 (Defendants’ Motion for Security for Costs) September 20, 2023 (Plaintiff’s Motion for Injunction)

Procedural Background

[1] This action was commenced by Vaultose Digital Asset Services Inc. (“Vaultose”) on October 11, 2022. The Notice of Motion for an Interlocutory Injunction was served on December 2, 2022 and the supporting affidavit for that motion was served on December 16, 2022. The injunction motion was originally returnable on May 18, 2023. It was adjourned to September 20, 2023 to address production issues.

[2] In the interim, a motion (by the defendants) for security for costs was scheduled and heard on June 14, 2023 and a production motion (by the plaintiff) was scheduled and heard on June 29, 2023. The latter motion led to an order for production on June 30, 2023 (the “Production Order”) and a consent confidentiality and protective order dated July 24, 2023 (the “Confidentiality Order”).

[3] In an endorsement released on June 16, 2023 (a complete copy of which is appended as Schedule “A” to this endorsement), the court first determined that the moving defendants had met their initial onus under r. 56.01(1)(d) and established a prima facie entitlement to costs. Having come to this determination, the court decided (see generally, paras. 18, 20, 30 and 32) to pause and defer the last step in the security for costs analysis and the final decision about whether it would be just to order the plaintiff to post security for costs in the circumstances of this case, since that part of the analysis would involve a balancing of interests and consideration of whether the plaintiff has established that it has a “good chance of success” on the merits of its claim. Recognizing that the injunction test would also involve a merits assessment of the plaintiff’s claim, and even though the two tests are not precisely the same, it made sense for that merits assessment in the context of both motions to be made at the same time, particularly since the injunction motion was scheduled to be heard only a couple of months later and was anticipated to be adjudicated on a more fulsome evidentiary record than was before the court on the motion for security for costs.

[4] The injunction motion proceeded on the more complete evidentiary record on September 20, 2023. This endorsement deals with both the court’s final determination of the motion for security for costs and the injunction motion, starting with the injunction motion.

The Plaintiff’s Request for an Injunction — Factual Predicates

[5] The plaintiff seeks (based on the draft order filed for this motion,) an interim and interlocutory worldwide injunction:

…restraining the Defendants from developing, monetizing, using, disclosing or otherwise making available, any techniques or technology that, directly or indirectly, constitute the QDS Platform and, in particular, any elements of it that make use of one-time pad encryption techniques or know how discovered, derived, developed or learned by or through Vaultose or its shareholders or contractors (or their respective associated contractors). [1]

[6] At the hearing of the motion, the plaintiff agreed that this order should be further restricted to make it clear that it does not include techniques or know-how discovered, derived, developed or learned by the individual defendants prior to May 2018 or after June 2022. One of the individual defendants is a shareholder of Vaultose, and both of them were contractors of Vaultose in the period 2018 to 2022. The periods agreed to be excluded from this order were before and after either of them were involved with Vaultose.

Vaultose and the Consultant Defendants

[7] Vaultose is incorporated in British Columbia.

[8] Vaultose was incorporated to develop and commercialize one-time-pad (“OTP”) encryption technology, solutions and applications to protect digital assets (referred to as the “Vaultose OTP Encryption Solution” or the “Vaultose Solution”). The Vaultose OTP Encryption Solution was being developed initially for use in cryptocurrency products with the intention that it would expand into other sectors, particularly in the field of financial services (the “Project”).

[9] Tilo Kunz, through his company 1946077 Ontario Inc. (collectively, “Kunz”), is one of the six co-founders and a shareholder of Vaultose. Kunz has over 30 years of experience in the information security industry, including with respect to the use and deployment of various encryption technologies (including technologies relating to OTP encryption). Kunz was the only co-founder of Vaultose with working knowledge of the OTP technique and technology.

[10] Kunz was the Chief Business Development Officer of Vaultose. He was involved in the business of Vaultose until June 2022, providing high level advice and recommendations on encryption technologies/applications, and supporting its business development activities.

[11] Kunz had a relationship with individuals at Halo Privacy Inc. (“Halo”), a company that developed OTP technology and made efforts in the past to commercialize it to encrypt and secure voice and video communications for policing and defence industries in the United States (the “Halo Technology”). Kunz explained in a January 8, 2018 email to the founding shareholders that the Halo Technology could be improved to permit scalable quantum-safe encryption for the financial services industry: “this is why we [Vaultose] have this opportunity because it’s difficult, and what we can offer to the market is an elegant solution to the problem that will win us the position that we seek to claim in the industry.”

[12] Halo and Vaultose executed the Halo-Vaultose Licence Agreement in July 2018. Halo granted Vaultose expansive rights “to use, modify, market, make, exploit, sell, distribute, make available, and create derivative works of, including products using or incorporating the [licensed Halo] Technology for use in the Licensed Field (the financial services industry).” The licence included the use of Halo’s commercially available Corona cybersecurity platform, which could host the products that Vaultose envisioned, eventually integrating OTP encryption technologies into the cybersecurity platform.

[13] In exchange for Vaultose's extensive rights to commercialize and own improvements to Halo’s Technology, Halo became a shareholder in Vaultose and agreed to provide engineering support for a fixed development fee.

[14] William (Bill) Yakamovich, through his sole proprietorship IOT Consulting (collectively, “Yakamovich”), provides consulting and advisory services as a subject matter expert in enterprise IT architecture and security. Yakamovich has over 35 years’ experience in information systems and system security, and is a named inventor on multiple patents and patent applications relating to secured digital communications.

[15] Yakamovich was hired by Kunz in or about October 2018 to act as a project manager in the development of the Vaultose OTP Encryption Solution. Mr. Yakamovich provided consulting services for Vaultose and participated in technical client calls on behalf of Vaultose until January 2020.

[16] Separately, and at the request of Vaultose, Yakamovich also agreed to maintain custodianship, and to safeguard, materials that Halo had developed for Vaultose and stored on a USB Drive beginning in or about June 2019. Yakamovich received a full copy of Halo’s development work for the Vaultose Solution, including “backup of all codes and images servers,” “the [development] environment and code repository,” OTP techniques, Corona platform and trade secrets.

[17] Yakamovich continued to be listed and acted as the Vaultose Chief Security Officer until June 2022, and was the only person in possession of Vaultose’s technology until it was returned on December 23, 2022, after this litigation was commenced.

Project Blue Jay and Other Work for Vaultose

[18] After securing the Halo Licence, Vaultose raised CDN$600,000 to pursue development. Vaultose then began working to develop and commercialize an OTP-based encryption platform to provide quantum-safe protected applications for digital assets in the financial services industry (previously identified as the Vaultose OTP Encryption Solution). Kunz and Yakamovich (together, the “Consultant Defendants”) were responsible for the development work.

[19] The initial project, identified as “Project Blue Jay,” was described in the statement of work under which Halo was engaged to design and build “a secure cryptocurrency brokerage platform” for Vaultose, which would eventually be hosted on Halo’s Corona security platform.

[20] The Consultant Defendants worked on this initial phase of the Vaultose Solution. They had almost (80–90 per cent) completed the initial prototypes for a cryptocurrency wallet and smart order router (which they refer to as the “minimal viable crypto product”) by June 2019 and Vaultose had budgeted $500,000 to finish this work. This initial “minimal viable product” had not yet reached the point of integration with OTP encryption technologies on Halo’s Corona platform when work on Project Blue Jay was stopped in June 2019.

[21] There is a factual dispute about whether this was a permanent or temporary stop in the work on Project Blue Jay that the court cannot determine on this motion in the absence of any direct evidence from Halo. Vaultose says it was temporary. The defendants rely on (hearsay) statements in a letter from Halo that indicate that work had been stopped and Project Blue Jay was being wound down due to non-payment of invoices. For purposes of this motion, there is no dispute that no further technical development work was done by the Consultant Defendants on the prototype or in furtherance of Project Blue Jay after June 2019.

[22] Despite having stopped or paused the technical development work in June 2019 on Project Blue Jay, Kunz and Yakamovich continued to be involved with Vaultose. Vaultose continued its work to find funding, including through efforts to monetize its initial prototype, and continued to meet with prospective customers and develop business opportunities. By June of 2022, Vaultose was close to a commercial arrangement with APPS through which they were proposing to combine their technologies to build new encryption products for use with traditional digital payment methods.

The Confidentiality Covenants and Remedial Stipulations

[23] Kunz is party to a Unanimous Shareholders Agreement dated May 17, 2018 (“USA”) and a Founders Restricted Share Purchase Agreement dated June 1, 2018 (“FRSPA”), in which he acknowledged that as a founding shareholder he would gain access to creations, trade secrets and confidential information and would be conducting research and development with Halo engineers in OTP environments.

[24] Yakamovich signed a consulting agreement dated October 10, 2018 that contained similar acknowledgments regarding Vaultose confidential information that he would have access to.

[25] “Confidential Information” is defined in these various agreements to include such things as: “developments, innovations know-how, techniques, source codes, and other ideas possessed or generated by the Vaultose business at any time, including after the termination or expiry of the restrictive covenants” and “research and development activities, ideation, trade secrets, know-how, and technology”.

[26] The Consultant Defendants covenanted and promised to protect and keep in the strictest confidence all Confidential Information pertaining to Vaultose, and to not disclose or use it for purposes other than the business of Vaultose without consent.

[27] Kunz and Yakamovich also agreed to provisions which stipulate that breaches of the restrictive covenants will cause irreparable harm to Vaultose entitling Vaultose to injunction relief.

The QDS Defendants and the Consultant Defendants

[28] Atlantic Trust Company’s (“ATC”) technology group is Quantum-Safe Data Systems Inc., or “QDS”. These corporate defendants are incorporated in Prince Edward Island and will be collectively referred to as the “QDS Defendants”.

[29] Kunz began working for the QDS Defendants in February 2021 and Yakamovich began working for the QDS Defendants in July 2021. Yakamovich signed a consulting agreement with the QDS Defendants that contains similar confidentiality covenants and restrictions as the one he signed with Vaultose. The defendants maintain that there is no written agreement between Kunz and the QDS Defendants.

Alleged Breaches of Confidentiality Covenants

[30] As noted earlier, there is an unresolved factual point of contention about whether Project Blue Jay was terminated by Halo because Vaultose ran out of money and stopped paying invoices for development work, or whether that development work was simply paused. However, the Consultant Defendants do not directly challenge the plaintiff’s evidence that, even while technical development work on Project Blue Jay was on pause or stopped, Vaultose continued its business development efforts and efforts to find the funding to advance the Vaultose Solution.

[31] In other words, there is no suggestion that Vaultose shut down and abandoned the Vaultose Solution or its Project in 2019. There is evidence of continued work and involvement of Kunz until June of 2022 and evidence that Yakamovich had some ongoing involvement with Vaultose and remained in possession of the Vaultose technology and as the Chief Security Officer until then as well.

[32] During this same time period, in January 2021 Kunz began having discussions with the QDS Defendants about developing an encryption product. While his initial evidence was that he did not start working for the QDS Defendants until June 2021, productions made in the course of this litigation pursuant to the Production Order disclosed that he started to be paid by the QDS Defendants for his work in February 2021.

[33] In any event, the defendants say that it was not until the end of June or early July 2021 that Kunz agreed to lead a new project for the QDS Defendants (the “QDS Project”). The QDS Project envisions building a foundational IT infrastructure (or “platform”) on which corporate IT systems can be hosted and operate secure communications/transactions (the “QDS Platform”). The goal is to build the QDS Platform to be “quantum secured” using OTP encryption technologies.

[34] The QDS Defendants claim to have hired Kunz without conducting any real diligence regarding his credentials and without asking to see any agreements that he had signed with the plaintiff or others. Despite claiming to have no written agreement even to this day, Kunz holds senior positions with the QDS Defendants including Executive Senior Vice President/Technology - Digital Assets for Defendants ATC and QDS. He also holds an ownership stake in the Defendant AFG, and is working with Quantum Defense (QD5) which is affiliated with the QDS Defendants.

[35] Kunz later enlisted the assistance of Yakamovich who signed a consulting agreement with the QDS Defendants on July 23, 2021. The appendices to Yakamovich’s QDS consulting agreement state that they will be targeting the financial services sector, among other sectors.

[36] A few weeks after Yakamovich signed his consulting agreement with the QDS Defendants he drafted an initial QDS White Paper. There is a record of this August 21, 2021 White Paper having been circulated among the defendants, but after being ordered to produce a copy of it by the Production Order, they advised that they could not find a copy of it. They have produced the next version of the White Paper dated September 5, 2021.

[37] Further, on October 4, 2021, Kunz, Yakamovich, and Gary Swatton (the QDS Defendants’ Chief Security Officer) filed provisional patent applications relating to the QDS Platform. These patents were later assigned to the QDS Defendants in April 2022.

[38] Kunz has confirmed that both the Vaultose Solution and the QDS Platform were designed to be the “first” platforms to secure digital assets that are: (a) “quantum safe”; (b) “device specific”; (c) “future proof,” meaning no need for updates; (d) able to prevent data harvesting attacks through OTP technology; (e) able to exploit virtual private networks to connect devices within the respective systems; (f) able to use OTP to authorize devices to access the system based on shared keys; (g) able to allow for data storage on a server using OTP such that only a key-holder can retrieve and decrypt to allow access to the data; (h) aimed at the same “camp” for post-quantum solutions; (i) designed to have a lower latency under OTP technology; and (j) all designed to protect digital data.

[39] The White Paper/Patent comparison chart contained in the Confidential Schedule appended to the plaintiff’s factum [2] illustrates the common language and concepts used across the Vaultose White Paper, the QDS White Paper and the QDS patent applications (the “Confidential Schedule”). At a conceptual level, the Vaultose Solution and the QDS Platform are similar in terms of their practical uses and functionality and, if marketed in the same sectors, they would be competitive products. However, there are no contractual non-compete covenants.

[40] The defendants admit that the QDS Platform is a substitute for the Halo Corona platform that Vaultose had licenced but they say that the QDS Platform was built by them without use of or regard to any of the Halo Technology that the Consultant Defendants had access to while they were working with Vaultose.

[41] Kunz and Yakamovich adamantly deny that they have used any Confidential Information that they acquired from Vaultose in their development of the QDS Platform. Kunz says he has been involved in similar projects dating as far back as 2007, and both explain that that there was no need to or utility in drawing on any Confidential Information acquired while working with Vaultose because the Confidential Information that they had access to through Vaultose was not the type of information that they needed or used to build the QDS Platform.

[42] Vaultose alleges that the Consultant Defendants have developed and commercialized an OTP-based encryption platform for the QDS Defendants (the “QDS Platform”) that is identical or nearly identical in concept to the plaintiff’s proposed Vaultose OTP Encryption Solution, in breach of their contractual confidentiality covenants.

[43] Vaultose asserts that it is implausible that Kunz and Yakamovich could have developed the QDS Platform based on OTP technology, written the White Paper and filed the provisional patent applications without drawing on their prior and concurrent work with Vaultose and the Confidential Information that they acquired from Vaultose.

Confidentiality and Sealing Order

[44] Koehnen J. granted a pre-trial confidentiality and sealing order dated July 24, 2023 that remained subject to the discretion of the motion judge. The only document that was provided to the court on a confidential basis with a request for sealing on this motion (in accordance with paragraph 28 of the earlier order) was the Confidential Schedule. This Confidential Schedule was prepared with reference to confidential exhibits 14, 15 and 16 which are marked on the cross examination of Tilo Kunz held in August 2023 and are the provisional patent applications. Counsel agree that the public disclosure of these provisional patent applications (or their contents) in this proceeding could undermine the patent process.

[45] The requested sealing order is of limited scope (just the Confidential Schedule and referenced patent applications) and limited duration (just until the provisional patent applications have been determined). It is agreed that if and when the patents become public (or their confidentiality is no longer a concern) as part of the patent process, the sealing order will automatically come to an end and the sealed Confidential Schedule and exhibits can be unsealed. On that basis, I find that it is appropriate for them to be sealed.

[46] I am satisfied that the proposed partial sealing order appropriately balances the open court principle and legitimate commercial requirements for confidentiality. It is necessary to avoid any interference with the patent application process. These salutary effects outweigh any deleterious effects, including the effects on the public interest in open and accessible court proceedings. I am satisfied that the limited nature and scope of the proposed sealing order is appropriate and satisfies the Sierra Club of Canada v. Canada (Minister of Finance), 2002 SCC 41, [2002] 2 S.C.R. 522 requirements, as modified by the reformulation of the test in Sherman Estate v. Donovan, 2021 SCC 25, 72 C.R. (7th) 223, at para 38.

The Disclosure of the QDS Platform to Vaultose

[47] Kunz disclosed that he was doing some IT consulting for the QDS Defendants but neither Kunz nor Yakamovich disclosed that they were working on an OTP encryption solution for the QDS Defendants prior to June 2022.

[48] Kunz had previously introduced the QDS Defendants to Vaultose and they entered into negotiations about working together. Internally, the QDS Defendants wanted to acquire Vaultose since it was viewed as a potential competitor. The QDS Defendants made an offer in October 2021 to acquire Vaultose for $1 million that was rejected.

[49] By March of 2022, QDS and Vaultose were negotiating a potential collaboration agreement in which the cryptocurrency products that Vaultose planned to develop could be hosted on the QDS Platform. Kunz demonstrated what he had been working on for QDS to Vaultose at two meetings in June 2022 (on June 10 and 13, 2022). Kunz suggested during one of these demonstrations that Vaultose could use it instead of the Vaultose OTP Encryption Solution in a pilot opportunity with Atlantic Pacific Processing Systems (“APPS”). Vaultose had been negotiating and was trying to finalize the pilot opportunity at that time, which Kunz had been directly involved in.

[50] Following his June 2022 demonstrations of the QDS Platform to Vaultose, in a June 18, 2022 founders’ update prepared by Kunz for Vaultose, he again suggested that the QDS Platform could be used by Vaultose in the proposed transaction with APPS instead of the Halo Corona platform that Vaultose had licenced. This is when Vaultose says it first learned of the QDS Platform that Kunz and Yakamovich had developed for the QDS Defendants.

[51] According to Vaultose, the APPS opportunity was lost because Vaultose could not provide the necessary IP assurances and proprietary diligence to APPS to complete the project once Vaultose found out that Kunz and Yakamovich had developed the QDS Platform for the QDS Defendants.

[52] The relationship between the parties soured. Vaultose made several threats that it would commence litigation should the parties not finalize a commercial arrangement suitable to Vaultose. These threats started with a telephone call on June 14 or 15, 2021, then an email of June 21, 2022 and were followed by a lawyer’s letter on August 9, 2022.

The Production Order and Return of Vaultose Technology

[53] Vaultose claims that the defendants have not complied with the Production Order because the August 21, 2021 QDS White Paper was not produced. It also claims that the defendants have not complied with the earlier consent order for the return of IP and corporate property, because they have not returned all of the Halo Technology (licenced and improved by Vaultose) that Yakamovich was holding for safekeeping.

[54] Vaultose asks the court to draw various adverse inferences from:

a. The defendants’ failure to produce all that they were ordered to produce by the Production Order, and in particular, the “mysterious disappearance” of the August 21, 2021 White Paper; b. The absence of any written communications between the Consultant Defendants and the QDS Defendants; c. Delays in producing documents until ordered by the court to do so by the Production Order; and d. The destruction of one of the USB drives that Yakamovich was given for safekeeping.

[55] The defendants insist that they have complied in that they have produced and/or returned everything that they have. They say they do not have a copy of the August 21, 2021 White Paper but that they have produced the next version dated September 5, 2021 and all other available versions. Yakamovich states in his April 3, 2023 affidavit that he received two USB keys containing Halo’s technology and proprietary information that was given to him for safekeeping, but he claims to have destroyed one of the USB drives (thought to be a duplicate, according to him) and returned the other intact.

[56] Vaultose sent the single returned USB drive for Halo to inspect. Halo reviewed the contents of the returned USB key and provided a letter from outside counsel in which it was asserted that Halo “engineering” had advised that the returned USB drive did not contain the full contents of what had been originally provided, namely: the Corona; all instructions, source codes, and techniques to operate the Vaultose demo and developed platform; and the OTP source codes and trade secrets.

[57] The defendants challenge this letter as hearsay, the source of which is not disclosed. Nonetheless, Yakamovich has detailed that he returned what he received in his subsequent affidavit dated August 8, 2023.

[58] While the defendants could and should have been more forthcoming initially with some of their productions, I find that they have now produced what they have. There is no basis for a finding that they have destroyed evidence about their activities.

Issues to be Decided on the Injunction Motion

[59] Vaultose must satisfy the following well-established requirements to succeed in obtaining the extraordinary remedy of an interlocutory injunction against the defendants, derived from the test laid down by the Supreme Court of Canada in RJR-McDonald Inc. v. Canada (Attorney General), [1994] 1 S.C.R. 311, at p. 335–43:

a. that it has a strong prima facie case or that there is a serious question to be tried on the merits of its claim against the defendants; b. that it would suffer irreparable harm if the injunction were not granted; and c. the balance of convenience favours granting an injunction.

[60] The parties confirmed that the plaintiff’s undertaking as to damages, one of the other requirements for the injunctive relief sought, is in the record.

The Merits Test: Has Vaultose Demonstrated a Strong Prima Facie Case or Serious Issue to be Tried?

The Test: Serious Issue to be Tried or Strong Prima Facie Case

[61] Vaultose maintains that because it is only seeking a prohibitory interlocutory injunction, it is only required to demonstrate that there are serious issues to be tried (R. v. Canadian Broadcasting Corp., [2018] 1 S.C.R. 196, 2018 SCC 5, at para. 18), although it maintains that the evidence also demonstrates a strong prima facie case for breach of the restrictive covenants.

[62] Conversely, the defendants argue that the strong prima facie standard applies in cases such as this where the practical consequences of the requested injunction are “intrusive to the responding party”. Examples of such intrusive consequences include where an injunction would render useless years of professional experience gained by a party (thereby limiting his ability to earn a living), or where a business would be required to terminate a significant portion of its business. See Dymon Storage Corporation v. Nicholas Caragianis, 2022 ONSC 5883, at paras. 21–24, leave to appeal refused, 2023 ONSC 1295 (Div. Ct.).

[63] The specific order sought is to enjoin the defendants “from developing, monetizing, using, disclosing or otherwise making available, any techniques or technology that, directly or indirectly, constitute the QDS Platform and, in particular, any elements of it that make use of one-time pad encryption techniques or know-how discovered, derived, developed or learned by or through Vaultose or its shareholders or contractors (or their respective associated contractors)”. The practical effect of granting this order would require the defendants to stop work on the QDS Project that they have been working on since approximately June of 2021, and which the plaintiff has known they were working on since approximately June of 2022.

[64] The predicate for this injunction is broadly speaking to enjoin the misuse of Vaultose’s Confidential Information that the Consultant Defendants agreed to protect and not to use for any purpose outside of Vaultose’s business. However, the practical effect of the requested order is an anticompetitive injunction that would enjoin (i) any further development or commercialization of the Defendants’ QDS Platform; as well as (ii) any use of “one-time pad encryption techniques or know how” emanating from Vaultose’s “shareholders or contractors” (i.e., including Kunz and Yakamovich), regardless of whether those techniques and know-how were derived from work for Vaultose or from work for others.

[65] Notably, Kunz and Yakamovich each have over 30 years of professional experience in the cybersecurity and cryptography industry, including the development and commercialization of OTP technologies, all of which would be rendered useless by Vaultose’s injunction. Similarly, QDS Corp. (one of the Corporate Defendants) was specifically formed out of, and its sole business objective pertains to, the development of the QDS Platform as a commercial offering. Vaultose is asking that the defendants be ordered to stop developing the QDS Platform. All of their commercial activities would therefore be enjoined. The requested Order is not limited to enjoining the Defendants from using any alleged Confidential Information owned by Vaultose or otherwise developed for Vaultose.

[66] The defendants argue that these consequences are of the same nature as what Koehnen J. referred to in Dymon Storage (at paras. 22–24) as “intrusive, draconian forms of relief to which the elevated strong prima facie case test should apply”.

[67] I agree. The strong prima facie case test should also be applied in this case give the breadth of the order sought and its implications for the defendants, but in particular, the Consultant Defendants.

Has Vaultose Established that it has a Strong Prima Facie Case for Breach of Confidence/Misuse of Confidential Information?

[68] The plaintiff contends that the evidence demonstrates it has a strong prima facie case against the Consultant Defendants which would extend to the QDS Defendants who have benefited from the actions of the Consultant Defendants, and who took no steps to ensure that the Consultant Defendants were not acting in contravention of their existing obligations to Vaultose.

[69] The Consultant Defendants continued to work with Vaultose while developing the QDS Platform, and continued to have control over and access to confidential and proprietary Vaultose Confidential Information. As proof of this, by way of example, the plaintiff points to the fact that: (i) Kunz emailed to himself from his Vaultose account to his personal account the Vaultose draft patents in September 2022, and (ii) Yakamovich had the USB drive until later that fall when it was returned after it was requested through counsel (with some controversy around whether all of the Halo Technology that was on the USB drive has been returned and around his evidence that, without telling anyone, he claims to have destroyed the other USB drive that he originally received).

[70] The defendants admit that the QDS Platform is a substitute for the Halo Corona platform that the Vaultose Solution was based upon and that it touts many of the same features as the Vaultose Solution. The plaintiff contends that the inference is obvious and available to the court to draw, that the Consultant Defendants must have used the Confidential Information they acquired while working with Vaultose (including concepts, techniques, and know-how discovered, derived, developed or learned by them through their association with Vaultose) to develop and commercialize the QDS Platform.

[71] The plaintiff contends that Vaultose and Halo were the most proximate source of the confidential, proprietary information, knowledge and know-how necessary for the defendants to create the QDS Platform given the timing of Consultant Defendants’ work with Vaultose and the QDS Defendants and the resulting QDS White Paper and patent applications.

[72] The plaintiff asks the court to infer that they must have used Confidential Information to create the White Paper in August 2021 and file the patents in October 2021. The plaintiff points to the similarities in the description of the Vaultose OTP Encryption Solution and the QDS Platform (summarized in the Confidential Schedule) as further evidence that the latter must have been developed with regard to the former.

[73] The plaintiff suggests that the fact that the Consultant Defendants did not disclose that they were working on this to Vaultose for over a year after they began to work for the QDS Defendants, while continuing to perform services for Vaultose in this same time frame, provides further support for the inference they seek as it suggests that they were hiding the work they were doing because they knew it was improper.

[74] The Consultant Defendants insist that all of the work they have done for the QDS Defendants has drawn on publicly available information and their own many years of experience in this area prior to their involvement with Vaultose. The defendants maintain that a party that alleges a cause of action in breach of confidence must be reasonably specific in describing (i) what Confidential Information is alleged to have been taken; and (ii) how that information is alleged to have been misused, beyond simply bald, conclusory allegations that a group of defendants took or misused “confidential information”. See Evertz Technologies Limited v. Lawo AG, 2019 ONSC 1355 at paras. 32–33; Dymon Storage, at para. 55.

[75] The Consultant Defendants deny that they have used or disclosed any Confidential Information acquired through their association with Vaultose to develop the QDS Platform. The defendants maintain that this is a full defence to the plaintiff’s claims, in the absence of particulars of specifically what information is alleged to have been used by the Consultant Defendants. See Keith G. Fairbairn & Hon. Julie A. Thorburn, Law of Confidential Business Information (Toronto: Thomson Reuters Canada, 2023) at § 3:12 and § 6:9.

[76] The defendants further contend that the plaintiff was only in the cybersecurity field and that their QDS Platform has nothing to do with cryptocurrency software or applications, nor with the cryptocurrency space more broadly, and thus they are not “competing” with Vaultose.

[77] Ultimately, the court must decide whether the plaintiff has established that it has a strong prima facie case against the defendants for the misuse of its Confidential Information, for:

a. failing to return all the Confidential Information on the USB drives that Yakamovich was given; or b. using Confidential Information that they acquired from Vaultose in the work that they have done and continue to do for the QDS Defendants in the development and commercialization of the QDS Platform.

a) Return of Confidential Information

[78] The evidentiary record for the plaintiff in support of the contention that Yakamovich still has not returned a USB drive containing Confidential Information that was entrusted to him by Vaultose suffers from a hearsay problem. In the face of the direct evidence of Yakamovich that he has returned all that was entrusted to him on the USB drives, the plaintiff has tendered a letter from outside counsel for Halo that purports to reflect a review of the material found on the returned USB drive by “engineering”. The person who undertook this review is not identified. This offends the evidentiary requirements of r. 39.01(4). A letter from outside counsel for Halo cannot be given any weight to contradict the direct evidence of Yakamovich.

[79] The plaintiff has not established a strong prima facie case that Yakamovich has failed to return to the plaintiffs Confidential Information that was entrusted to him on the USB drives that he was holding for safekeeping.

b) Use of Confidential Information

[80] The Consultant Defendants say that they, on their own, developed the QDS Platform which is comparable to Halo’s Corona platform, but without using any of the Halo licenced Technology or any Confidential Information. Both had prior experience with OTP encryption technologies pre-dating their time at Vaultose, and they relied upon their general skills and knowledge to create the QDS Platform.

[81] Aside from the information from the Halo development team that was the subject of the Halo-Vaultose License Agreement and stored on the USB Drives, which the Consultant Defendants insist they have not used and Halo has not complained about directly, there is no other specific Confidential Information that the plaintiff alleges the defendants have used to develop the QDS Platform.

[82] Yakamovich explained in his testimony that the software versions of the Halo Technology that he had access to while working for Vaultose do not provide access to any technical details of how the applications are programmed, and that he was never provided access to, nor did he ever access, the source code or technical details for Halo’s applications.

[83] Allegations of the misuse of broad categories of information, such as “confidential know-how, techniques and trade secrets… intellectual property, confidential software, and other confidential and proprietary information like Vaultose’s business plans and product differentiation strategy” are “too vague and general” to support a claim for breach of confidence (nor, therefore, can they establish a strong prima facie case of such). See Evertz, at paras. 32–33.

[84] The examples indicated on the “Confidential Schedule” said to “demonstrate the common language and concepts used among the Vaultose White Paper, the QDS White Paper and the QDS patent applications” suffer from evidentiary frailties. They are simply comparisons of descriptive narratives of the QDS Platform and the Vaultose Solution prepared by lay persons (or possibly lawyers), the author(s) of which the plaintiff has refused to identify.

[85] The evidentiary value of that Confidential Schedule is diminished by the fact that its author has not been identified. That Mr. Caruso (the plaintiff’s witness who admits he has no technical expertise) has adopted it does not enhance its evidentiary value. Further, the Confidential Schedule does not disclose any common underlying Confidential Information. It is not really evidence at all but rather a submission that the court is being asked to consider based on the various descriptions of the two systems.

[86] The similarities in the descriptions of the Vaultose Solution and the QDS Platform, the inferences that the plaintiff asks the court to draw from those similarities, and the proximity of the work done by the Consultant Defendants in the general field of OTP encryption technology and the planned integrated platforms for both Vaultose and the QDS Defendants may provide some inferential evidence in support of the plaintiff’s case, but they are not enough to establish a strong prima facie case.

[87] It is difficult to make out a strong prima facie case based on inferences, and even more so in a case of alleged misuse of Confidential Information and breach of confidence, where the specific Confidential Information has not been identified (for reasons noted above).

[88] According to the Consultant Defendants, who are the only experts in the technology that is at issue who have provided any evidence, the QDS Platform was not developed using Vaultose technology or know-how. The only purported “direct” evidence of any technical correspondence between the Vaultose Solution and the QDS platform is an email that the plaintiff’s affiant sent to himself after litigation had been threatened in which he reports that Kunz told him during a meeting on June 13 (mistakenly referenced as June 20) that “he decided to go off and build the product” after development was stopped by Vaultose in 2019. The plaintiffs rely on this alleged statement by Kunz as an admission that he built the same product for QDS that he was working on for Vaultose. Kunz denies saying this (and denies that there is any technical correspondence between the QDS Platform and the Vaultose Solution).

[89] This internal email record of an earlier conversation, made after the fact and after a threat of litigation, is not sufficient evidentiary support to make out a strong prima facie case that the QDS Platform that Kunz and Yakamovich developed for the QDS Defendants was based upon Vaultose (or Halo) technology or know-how.

[90] The defendants also point to recently produced correspondence from Mark Kearns, a principal at Halo, that indicates that, while Vaultose planned to integrate Halo’s prototype OTP-VPN into a theoretical crypto trading platform, the technical work to advance the planned integration of OTP into a single platform for service delivery had not been done prior to June 2019. This letter is consistent with the evidence of Yakamovich that no integration of OTP based encryption technologies was actually undertaken as part of the Vaultose Project. While the Halo letter is hearsay and not admissible for the truth of its contents, Yakomovich’s evidence is before the court.

[91] Further, whereas the prototype that was developed for Vaultose was for cryptocurrency, it is not disputed that the QDS Platform is not designed for cryptocurrency uses and the QDS Platform has nothing to do with cryptocurrency software or applications, cryptocurrency exchanges, nor with the cryptocurrency space more broadly. So, there is no direct and obvious overlap in use of the technology that the Consultant Defendants actually developed and worked on for Vaultose and the QDS Defendants.

[92] Overall, the evidentiary record does not support a finding that there is a strong prima facie case that the QDS Platform was developed based on technology and know-how (e.g., Confidential Information) acquired by the Consultant Defendants while working on the Vaultose Solution. The suggested inference of this is not sufficiently supported.

[93] What the plaintiff is left with is the allegation that the concept or idea of the use of OTP encryption in a fully integrated secure platform in the financial services field is itself Confidential Information, and the development and implementation of that concept by the Consultant Defendants for the QDS Defendants, was a breach of confidence or misuse of Confidential Information. Confidential Information is defined in all of the relevant agreements signed by Kunz and Yakamovich to include: all information of every kind or nature pertaining to the business of Vaultose. Some definitions give examples of such to include information relating to plans, prospects and other affairs. However, no expert evidence or legal authority for this specific proposition was provided.

[94] The defendants maintain that there is nothing confidential about the idea of creating a quantum secured OTP encrypted platform that can be used to deliver various services, even if that idea is unique and no one else had done it yet. That Vaultose had expected that it would be offering a “unique” platform because it would be the first to do so does not mean it was confidential. The Consultant Defendants insist that this concept or idea has been at large for many years, and it had just not been developed or implemented.

[95] The difficulty with this aspect of the alleged misuse of Confidential Information is it walks a very fine line with what is really a complaint about competition. The alleged admissions made by Kunz relied upon by the plaintiff go to this competition point. One of the admissions that the plaintiff relies upon is exactly to this point: Kunz acknowledged that there is now competition from the QDS Solution in the “Vaultose camp” of integrated solutions to host IT systems and operations for quantum secured OTP encrypted communications and transactions in the financial services field. As noted earlier in this endorsement, at a conceptual level, the Vaultose Solution and the QDS Platform are similar in terms of their practical uses and functionality and, if marketed in the same sectors, they would be competitive products. However, the Consultant Defendants were not bound by any non-competition covenants.

[96] On this evidentiary record, I am not able to find that the plaintiff has demonstrated that it has a strong prima facie case that it will succeed in establishing that there has been a breach of confidence or misuse of Confidential Information by the defendants.

[97] On that basis, the requested injunction will not be granted. I will nonetheless go on to address briefly the other two requirements that the plaintiff would have to establish to obtain an injunction, even if it had made out a strong prima facie case on the breach of confidence and misuse of Confidential Information claim (or if the test should have been serious issue to be tried and that lower merits threshold had been met).

Has Vaultose Demonstrated it will Suffer Irreparable Harm if the Injunction is not Granted?

[98] There is no evidence that the negative/restrictive covenants are unreasonable. In fact, the QDS consulting agreement with Yakamovich contains nearly identical negative covenant provisions and a similar provision that a breach would cause irreparable harm and gives QDS the right to obtain an injunction.

[99] In Van Wagner Communications Company, Canada v. Penex Metropolis Ltd., at para 39, the court held that the last two elements in the test for an interlocutory injunction to restrain a breach of a negative covenant (irreparable harm and balance of convenience) may become less of a factor depending on the strength of the plaintiff’s case. Thus, they may be less important if a strong prima facie case is made out but more important if the merits test only requires demonstration of a serious issue to be tried. Furthermore, when considering issuing injunctive relief in the context of a breach of negative covenants, the court is called on only to enforce a contractual provision by which the responding party has already agreed to be bound and the last two elements may become less of a factor in that circumstance as well. Singh v. 3829537 Canada Inc., at para. 56.

[100] That said, the court in Van Wagner also reinforced that the issues of irreparable harm and balance of convenience cannot be ignored and must be considered by the court—even where the moving party has established a clear breach of a negative covenant. The fundamental question for the court is whether granting an interlocutory injunction is just and equitable given all the circumstances of the case. See Van Wagner, at paras. 37–39.

[101] In this case, the contractual covenants are further reinforced by the remedy stipulation provisions by which the Consultant Defendants agreed that irreparable harm will occur in the event of breaches of their confidentiality obligations. This clearly attenuates the plaintiff’s onus on this branch of the injunction test.

[102] Irreparable harm clauses have been found sufficient on their own to satisfy courts of irreparable harm. See for example, Montreal Trust Co v. Montreal Trust Co of Canada (1988), 24 B.C.L.R. (2d) 238 (C.A.), at para. 30; Universal Concert Canada v. Labatt Brewing Co., 2000 CarswellOnt 288 (S.C.), at para. 28; Renfrew Insurance Lid v. Cortese, 2014 ABCA 203, 575 A.R. 377, at para. 16. Even though the court maintains its discretion concerning injunctions in the face of these provisions, “at the very least, the defendant should be held to its concessions of irreparable harm.” See Telesis Technologies, Inc. v. Sure Controls Systems Inc., 2010 ONSC 5288, at para. 53.

[103] Vaultose contends, in any event, that it has and will continue to suffer irreparable harm. Absent an injunction, Vaultose claims it will lose the value derived from being the first and only source for this particular encryption technology. It maintains that the value of being the first to do something and becoming an industry leader cannot be quantified and that it will have permanently lost market position it worked to develop if the defendants are allowed to continue to develop, market and monetize the QDS Platform.

[104] The main response from the defendants on this aspect of the injunction test is that the plaintiff’s delay in seeking an interlocutory injunction serves as evidence that the risk of irreparable harm is not significant enough to warrant such extraordinary relief. See Hon. Robert Sharpe, Injunctions and Specific Performance, (Toronto: Thomson Reuters Canada, 2021) at § 1:28.

[105] There are three parts to the alleged delay on the part of the plaintiff:

a. The plaintiff’s delay in pursuing Project Blue Jay, which it either terminated or at the very least put on hold in June 2019 and had not resumed by June 2022 when it first was introduced to the QDS System; b. The plaintiff’s delay from when it first threatened to bring an injunction (in June 2022) until when it commenced this proceeding (in October 2022) and when it first served this motion for an injunction (in December 2022); and c. The plaintiff’s delay in the pursuit of this motion which took almost a year to be heard.

[106] The last period of delay in getting the injunction motion on for a hearing cannot be said to be any more the fault of the plaintiff than the defendants. There were scheduling delays and legitimate interlocutory motions that were addressed in the interim.

[107] The first period of delay in the pursuit of Project Blue Jay (putting it on hold in June 2019) could be of some relevance since there does appear to have then been a period of no activity or work for almost two years until sometime in 2021, and one might have to consider whether reliance on the contractual covenant specifying irreparable harm could at some point become stale dated. However, some evidence about that would be required, and there was none that I was directed to on that point.

[108] I would not consider the middle period of delay (4–6 months in 2022) to bring the injunction to be inordinate although it did allow the status quo for the defendants to persist which may be more relevant to the balance of convenience than to the irreparable harm point in this context.

[109] As to the evidence of irreparable harm, the defendants say there is none. They point out that the development and commercialization of digital OTP solutions have been available since at least the late 1990s, and continue to be offered by companies like Qrypt (www.qrypt.com) and Incrypteon (https://incrypteon.com), which were founded in 2019 around the same time that Vaultose paused or ceased work on the Project Blue Jay. The idea that Vaultose could maintain a position as the first and sole provider of an OTP encryption solution in the financial services field is beyond the scope of the restriction on the use of the Confidential Information and would amount, in effect, to a non-competition covenant.

[110] And, according to the defendants, the alleged loss of business (with APPS) is just that: a loss of business for which, if proven, damages would be an adequate remedy.

[111] Having considered the evidence and submissions on this point, if I had to decide the irreparable harm question, I would lean in favour of upholding the contractual agreement regarding irreparable harm and not place too heavy an onus on the plaintiff to establish actual irreparable harm.

Does the Balance of Convenience Favour Granting an Injunction?

[112] Vaultose maintains that, given the strength of its case, that the alleged breaches are of a negative covenant, and the fact that the parties have a stipulated remedy provision for an injunction, it is not necessary for the court to engage in a balancing of conveniences. If the court requires evidence to balance the conveniences, Vaultose says that such evidence weighs in Vaultose’s favour since the only harm to the Defendants is a delay in their ability to market the QDS Platform if they are ultimately successful at trial.

[113] However, this ignores the purpose of an interlocutory injunction, which is to preserve the status quo until the legal right asserted by the plaintiff can be dealt with by the trial court. See Van Wagner, at para. 30. Here, the status quo favours the defendants who have been actively pursuing the development and commercialization of the QDS Platform, unlike Vaultose’s product development which has been on a temporary pause since June 2019.

[114] As discussed in the previous section, Vaultose’s delay in commencing this action and pursuing an injunction after finding out about the QDS Platform (and even threatening legal proceedings) also weighs in favour of the defendant, in terms of the status quo and balance of convenience See LifeScan Inc. v. Novopharm Ltd., 2000 CarswellNat 3004 at paras. 105–106 (FCTD)., 10 C.P.R. (4th) 500. [3]

[115] In this case, while the defendants have been and continue to be working on the QDS Platform since 2021, no development or technical work has been done on the Vaultose OTP Encryption Solution since 2019. Even in the face of the contractual remedy provision, the court still must consider the balance of convenience and the status quo.

[116] The contractual remedy provision (e.g. that the parties have agreed that an injunction would be an appropriate remedy) does not supplant the court’s discretion in its consideration of this equitable remedy. If I had to consider the balance of convenience in this case, I would be inclined to find that, in all of the circumstances, it favours the defendants and I would not have granted the injunction for that reason as well.

The Motion for Security for Costs

[117] In my June 16, 2023 endorsement, the only issue left to be determined on the security for costs motion was whether the plaintiff had demonstrated that it had a good chance of success. As was noted in that endorsement,

a. [para. 9] The defendants have readily demonstrated that they have a prima facie entitlement to security for costs under r. 56.01(1)(d). b. [para. 15] There is no suggestion that the plaintiff has any exigible or liquid assets in Ontario or a reciprocating jurisdiction that could satisfy an award of adverse costs against it. There is no suggestion that the plaintiff is impecunious. Accordingly, the merits standard that applies in this case is whether the plaintiff has a good chance of success on the merits of its claim. c. [para. 16] This merits standard of a “good chance of success” requires something more than a demonstration that there is a genuine issue requiring a trial (the summary judgment motion test) but not as high as proof on a balance of probabilities: see T.S. Publishing Group Inc. v. Shokar, 2013 ONSC 1755, at para. 35 (vii). d. [para. 20] … having determined that the merits assessment to be factored into the balancing of interests in deciding whether it is just to order the plaintiff to post security for costs in the circumstances of this case will require the plaintiff to establish that it has a good chance of success on its claim, I am going to pause the analysis and final determination of this motion for security for costs pending the return of the plaintiff’s injunction motion.

[118] Now the analysis resumes. The plaintiff has not established that it has a strong prima facie case. The inferences it suggested the court draw might have been sufficient to establish a serious issue to be tried. A good chance of success falls somewhere in between these two injunction standards, but in my view it is closer to the higher standard of strong prima facie case. It cannot be established on this record, based on the suggested inferences and in the absence of the particulars of the Confidential Information said to have been (mis)used to develop and commercialize the QDS Platform. Balancing the various interests, I find that it is just that an order be made for the plaintiff to post some security for the costs of the defendants to defend this action going forward. See Friction Co. Ltd. v. Novalex Inc., 2021 ONSC 7714 (Div. Ct.), at para. 27.

[119] The purpose in awarding security for costs “is to provide a measure of protection, not perfect protection, for costs”. The need for protection is strongest in respect of ongoing or continuing costs of a proceeding, the expense of which a party found to be entitled to security for costs should not continue to incur without the prospect of some recovery if costs are later awarded in their favour: see Thrive Capital v. Noble 1324 Queen Inc., 2021 ONCA 474, 156 O.R. (3d) 551, at para. 31.

[120] Accordingly, the defendants’ motion for security for costs is granted. However, I am not granting the requested amount of $335,000, in keeping with the court’s purpose in awarding security for costs, the security granted in this case should only cover steps in the action after these motions and through to discovery. The costs of the preceding motions have been determined and the costs of these two motions, the injunction motion and the motion for security for costs, will be addressed in this endorsement.

[121] The amount estimated in the bill of costs appended to the notice of motion for security for costs for the discoveries was $250,000 (full indemnity) and $150,000 (partial indemnity). In the factum, the costs estimated and requested for the discovery phase were $200,000. Some of the production and examinations that have now already taken place in the context of these motions can be used for discovery purposes, and thus I consider it appropriate to reduce the estimated partial indemnity costs for the discovery phase from $150,000 to $100,000. The additional $21,000 in security for the next phase of mandatory mediation and settlement discussions is reasonable and is also awarded.

[122] Accordingly, I am awarding the defendants security for the defendants’ anticipated partial indemnity costs through to the end of the discovery and mediation phase to be paid by the plaintiff in the fixed amount of $121,000 payable forthwith. This is without prejudice to the defendants right to seek further security for costs if warranted.

[123] The plaintiff shall pay the security for costs and the costs awarded for these motions (below) before it may take any further step in this proceeding, except by way of appeal or leave to appeal.

Costs of Both Motions

Costs of the Motion for Security for Costs

[124] The plaintiff’s costs outline indicates all-inclusive partial indemnity costs for the security for costs motion of $17,206.77. The defendants’ costs outline indicates all-inclusive partial indemnity costs of $47,967.00.

[125] While there was an offer from the defendants in respect of the amount of security for costs to be posted (that has not been disclosed to the court), the defendants advised at the hearing of the motion that they do not rely on that for an elevated scale of costs for this motion. In the court’s June 16, 2023 endorsement, the parties were advised that if the court decides to award security for costs, the quantum of security for costs, as well as the quantum of the costs of this motion, would be fixed at the same time, on a partial indemnity scale.

[126] In the exercise of my discretion under s. 131 of the Courts of Justice Act, R.S.O. 1990, c. C.43 and having regard to the factors under r. 57, including the principles of indemnity and proportionality, the time and effort put into the motion for security for costs, I am fixing the defendants’ all-inclusive partial indemnity costs of the security for costs motion in the amount of $25,000 and order that they be paid by the plaintiff forthwith.

Costs of the Injunction Motion

[127] Costs outlines were to have been exchanged by the parties by September 25, 2023. If an agreement was reached on scale and quantum of costs, counsel were to advise the court by October 11, 2023. The court was not advised of any agreement having been reached.

[128] The court has not been provided with the costs outlines and thus cannot determine the costs of the injunction motion at this time. If there was an offer to settle or some other basis on which the costs of that motion might be fixed on a substantial indemnity scale, or any basis on which the normal rule that the successful defendants should be awarded their costs of the injunction motion might not apply, the parties may agree to a timetable for the exchange of brief cost submissions (up to a maximum of five pages double spaced each, not including the costs outlines previously exchanged which should be attached to the submissions). If cost submissions will be made, the timetable, once agreed, shall be communicated to my judicial assistant at: linda.bunoza@ontario.ca

[129] If not, they may provide their costs outlines to my assistant and I will provide a brief costs endorsement to fix the amount of partial indemnity costs payable by the plaintiff to the defendants as the successful parties on the injunction motion in due course thereafter.

Disposition

[130] The plaintiff’s motion for an interlocutory injunction is dismissed. The costs of that motion shall be determined after the court receives the costs outlines of the parties and, if deemed appropriate, their brief costs submissions (of no more than five pages double spaced each) on the questions of entitlement and/or scale and/or quantum of costs.

[131] The defendants’ motion for security for costs is granted. The plaintiff shall pay forthwith the fixed amount of $121,000 as security for the defendants’ anticipated partial indemnity costs through to the end of the discovery and mediation phases. This is without prejudice to the defendants’ right to seek further security for costs if warranted. The plaintiff shall forthwith pay to the defendants their partial indemnity costs of the motion for security for costs fixed in the all-inclusive amount of $25,000.

[132] The plaintiff shall pay the security for costs and the costs awarded for these motions (once determined, in the case of the injunction motion) before it may take any further step in this proceeding, except by way of appeal or leave to appeal.

[133] This endorsement and the orders and directions contained herein shall have the immediate effect of a court order without the necessity of a formal order being taken out. Any party may take out formal order(s) by following the procedure under Rule 59.

KIMMEL J. Date: October 16, 2023

VAULTOSE DIGITAL ASSET SERVICES INC. v. KUNZ, 2023 ONSC 5790 SCHEDULE “A”

JUNE 16, 2023 PRELIMINARY ENDORSEMENT (MOTION FOR SECURITY FOR COSTS)

SUPERIOR COURT OF JUSTICE (COMMERCIAL LIST)

COUNSEL SLIP/ENDORSEMENT

COURT FILE NO.: CV-22-00688496-00CL HEARING DATE: June 14, 2023 NO. ON LIST: 4 TITLE OF PROCEEDING: VAULTOSE DIGITAL ASSET SERVICES INC. v. KUNZ et al BEFORE JUSTICE: KIMMEL

PARTICIPANT INFORMATION

For Plaintiff, Applicant, Moving Party, Crown:

Name of Person Appearing	Name of Party	Contact Info
Michael Bookman	Lawyers for the Plaintiff/Responding Party	mbookman@babinbessnerspry.com
Daniel Babin		dbabin@babinbessnerspry.com

For Defendant, Respondent, Responding Party, Defence:

Name of Person Appearing	Name of Party	Contact Info
Ryan Evans	Lawyers for the Defendants/Moving Parties	revans@smartbiggar.ca
Malcolm Harvey		mharvey@smartbiggar.ca

For Other, Self-Represented:

Name of Person Appearing	Name of Party	Contact Info

ENDORSEMENT OF MADAM JUSTICE KIMMEL:

The Motion

1. The defendants bring this motion for an order requiring the plaintiff, Vaultose Digital Asset Services Inc. (“Vaultose”), to deposit $335,000.00 as security for their anticipated costs in this action up to the conclusion of the examinations for discovery, without prejudice to their right to seek further security, if warranted.

2. This request is premised on two of the grounds enumerated under rr. 56.01(1)(d) and (e) of the Rules of Civil Procedure, R.R.O. 1990, Reg. 194. Namely, that there is good reason to believe that:

56.01(1)(d): The plaintiff, a corporate body, has insufficient assets in Ontario available to pay a costs award against it, having admitted that it has no “hard assets”, no “cash in the bank”, has never completed development of a commercially available product and has never had a revenue stream; and 56.01(1)(e): The action is vexatious, given it was threatened and pursued to try to coerce the defendants into entering a commercial relationship with Vaultose after nearly a year of commercial discussions between the parties.

The Test for Security for Costs

3. The parties agree on the test for security for costs. The initial onus is on the moving defendants to satisfy the court that there is good reason to believe the matter comes within at least one of the six circumstances enumerated in r. 56.01(1). When moving under r. 56.01(1)(a), there must be a reasonable belief that the corporate plaintiff does not have real, substantial and exigible assets (i.e., those assets having a realizable net value) sufficient to satisfy a costs award: see City Commercial Realty (Canada) Ltd v. Bakich, [2005] O.J. No. 6443 (Ont. C.A.), at paras. 7-9.

4. If there is a good reason to believe that at least one of the grounds enumerated in r. 56.01(1) is applicable, an order for security for costs should prima facie be granted. Whether it is “just” to make an order for security is not an onerous threshold for the moving defendants to meet: see 855191 Ontario Ltd. v. Turner, 2011 ONSC 918, at para. 3; Adrian Peel Architect Inc. v. Al Soorty et al., 2013 ONSC 6183, at paras. 15-16.

5. Once the first part of the inquiry is satisfied, the onus shifts to the plaintiff to establish that an order for security would be unjust: see Know Your City Inc. v. The Corporation of the City of Brantford, 2020 ONSC 7364, at para. 16. This involves a balancing of the underlying purpose of an order for security to afford defendants a reasonable measure of protection for costs that will not be collectable, against the potential impact on the plaintiff: see Adrian Peel Architect, at para. 16. Courts have recognized that a plaintiff may have its access to justice unfairly impaired by having to post security. In Yaiguaje v. Chevron Corporation, 2017 ONCA 827, 138 O.R. (3d) 1, at para. 23, the Court of Appeal for Ontario stated that security for costs motions ought not be used as a litigation tactic to bar a plaintiff from having their case heard on its merits.

6. In this stage of the analysis, the court is required to look at all the circumstances of the case, including the merits of the action and the financial circumstances of the plaintiff (including its shareholders), to determine whether an order for security is unjust: see Know Your City, at para. 19.

7. Unless the plaintiff can demonstrate that it has assets in Ontario or in a reciprocating jurisdiction to satisfy an order for costs against it, or that it is impecunious (such that justice demands that it be permitted to continue with its action because it is not plainly devoid of merit), the plaintiff must, in the context of this balancing of interests, meet the higher standard of satisfying the court that it has a "good chance of success" on the merits of its claim: see Know Your City, at paras. 2-3, 14, 17, 18, 22.

Analysis

Rule 56.01(1)(a)

8. Although the defendants rely upon both rr. 56.01(1)(d) and (e), the analysis under sub-rule (a) is straightforward, and ultimately leads to the same place as under sub-rule (e), namely an assessment of the merits of the plaintiff’s claim.

9. For purposes of r. 56.01(1)(d), the plaintiff does not seriously contest that it does not have real, substantial and exigible assets (i.e., assets having a realizable net value) sufficient to satisfy a costs award. The only assets that it claims to have are intangible, such as intellectual property rights and goodwill, which have not been valued. The defendants have readily demonstrated that they have a prima facie entitlement to security for costs under r. 56.01(1)(d).

10. In addition to the obvious concern about the plaintiff’s lack of existing or incoming revenue or liquid assets to satisfy an adverse costs award against it, the defendants have also provided some historic examples of the plaintiff’s non-payment of outstanding accounts that lead it to question the plaintiff’s ability to pay any adverse costs award.

11. The plaintiff blames the defendants for its inability to raise additional capital or generate cash flow, due to their alleged misappropriation of confidential information, which might be a factor to consider in the balancing of interests and consideration of the merits, but it does not change the fact that the plaintiff does not have sufficient assets to satisfy a costs award against it.

12. However, these cash flow concerns do not appear to have hindered the plaintiff’s ability to retain counsel to prosecute this litigation. The plaintiff has refused to disclose who is funding this litigation despite its acknowledgment that it has no product to sell, no revenue stream and no cash or liquid assets. Although it asserts that it will be prejudiced in the pursuit of its claims if ordered to pay security for costs, the plaintiff has also not provided evidence that it will not be able to continue to prosecute this action if it is ordered to post security for costs.

13. In the absence of any other explanation, it is open to the court to assume that the plaintiff has some source of funding for this litigation. While the plaintiff baldly suggests that the prejudice of an order requiring it to pay security for costs is evident from the fact that it has no liquid assets, its unwillingness to disclose how the litigation is being funded diminishes this asserted but unsubstantiated prejudice.

14. The parties agree that these are all relevant factors to consider in the court’s determination of whether it is unjust to order the plaintiff to pay security for costs in the circumstances of this case. The court is required to look at all the circumstances of the case, including the merits of the action and the financial circumstances of the plaintiff (including its shareholders) and whether the plaintiff will be prejudiced in its ability to pursue its claim to determine whether an order for security for costs is unjust, and if so, the amount.

15. There is no suggestion that the plaintiff has any exigible or liquid assets in Ontario or a reciprocating jurisdiction that could satisfy an award of adverse costs against it. There is no suggestion that the plaintiff is impecunious. Accordingly, the merits standard that applies in this case is whether the plaintiff has a good chance of success on the merits of its claim.

16. This merits standard of a “good chance of success” requires something more than a demonstration that there is a genuine issue requiring a trial (the summary judgment motion test) but not as high as proof on a balance of probabilities: see T.S. Publishing Group Inc. v. Shokar, 2013 ONSC 1755, at para. 35 (vii).

17. The plaintiff has brought a motion for an interlocutory injunction that was supposed to be heard before this motion for security for costs, but it was adjourned on consent to September 20, 2023. There is clearly overlap between the determination of whether the plaintiff’s claim has a good chance of success and whether the plaintiff has a strong prima facie case, which is the standard for the purposes of its interim injunction motion. That is of concern to the court, given that the parties have advised that there is a much larger record upon which the merits aspects of the injunction test is to be determined, which has not yet been closed and that includes multiple affidavits and cross examinations (to be continued after a production motion scheduled for June 27, 2023).

18. To decide the last step in the analysis as to whether it would be unjust to require the plaintiff to post security for costs requires a determination of whether the plaintiff has a good chance of success on the merits of its claim. That is not determinative, but both sides agree that it is a relevant factor for the court to consider.

19. In my view, it would be premature to decide that question on a lesser evidentiary record than what will be placed before the court when deciding whether the plaintiff has made out a strong prima facie case for its injunction, particularly since it could arguably raise an issue estoppel as between the parties, or tie the court’s hands on a subsequent determination of what amounts to the same or a very similar question (whether the plaintiff has demonstrated a “good chance of success” or a “strong prima facie case” on the merits of its claim).

20. I am scheduled to hear the plaintiff’s injunction motion. Thus, having decided the first step (namely that the moving defendants have met their initial onus under r. 56.01(1)(d) and established a prima facie entitlement to security for costs) and having determined that the merits assessment to be factored into the balancing of interests in deciding whether it is just to order the plaintiff to post security for costs in the circumstances of this case will require the plaintiff to establish that it has a good chance of success on its claim, I am going to pause the analysis and final determination of this motion for security for costs pending the return of the plaintiff’s injunction motion.

21. I will address this last aspect of the security for costs analysis when I hear the injunction motion. This also will allow for more fulsome submissions by the parties on the merits, given the time constraint of this motion that was booked for 90 minutes in contrast with the full day booked for the injunction motion.

22. At that time, I will also make the final decision on the quantum of security for costs if an order for such is being made. To the extent that the security for costs may later be ordered, the amount requested covers the work prior to and for this motion and for the anticipated discoveries that will follow. The amount of security for costs, if ordered, will not be impacted by delaying the court’s final determination. Nor will any further work need to be done by the parties in respect of this motion, even though the court’s decision is being deferred.

23. If for some reason I do not hear the injunction motion, I will come back to complete the analysis of the merits after the decision on the injunction motion has been rendered.

24. If the injunction motion is withdrawn, abandoned or does not proceed for any reason in a timely manner, then the parties may schedule a case conference before me so that I may consider whether anything further is required before I decide this motion for security for costs based on the existing record.

25. To be clear, the record on all other aspects of this motion for security for costs is closed. All that has been left open is court’s consideration of the merits of the plaintiff’s claims that will be undertaken in connection with the injunction motion and which may be factored into the merits assessment for purposes of this motion.

26. As an aside, to the extent that the plaintiff intends, for purposes of the injunction motion, to rely upon the law clerk’s affidavit that appends a transcript of a presentation that Mr. Kunz was not asked about during his cross-examination for this motion (except in the most broad way) and that the defendants object to, the admissibility of that evidence should be addressed on the June 27, 2023 production motion. The evidence in its current form strikes me as problematic and it is unlikely that there will be sufficient time when the injunction motion is argued to also deal with evidentiary objections such as this. They should be sorted out beforehand.

Rule 56.01(1)(e)

27. It is unlikely that this motion will need to be decided under r. 56.01(1)(e) (that the plaintiff’s action is vexatious) because only one of the enumerated grounds need be established and the moving defendants have easily satisfied r. 56.01(1)(d). However, if the court must consider that aspect of the test, the merits assessment from the more complete record that will be before the court on the injunction motion could also have some impact on the determination of whether there is good reason to believe that the plaintiff’s action is vexatious.

28. While the defendants assert that this is strategic litigation brought to leverage a commercial transaction, it would be difficult to conceive of a situation in which the court finds that the plaintiff has established a strong prima facie case yet the action is found to be vexatious.

29. The converse is not necessarily true: even if the plaintiff does not establish a strong prima facie case, it does not mean that the action is vexatious. However, given the absence of assets in the jurisdiction, or a jurisdiction with reciprocity to satisfy an adverse costs award, it is not necessary for the court to undertake the more fact specific and credibility laden assessment to make the findings that would be needed to engage r. 56.01(1)(e) since, in a scenario in which the court has determined that the plaintiff does not have a strong prima facie case, the case for security for costs will likely have been made out under r. 56.01(1)(d).

Disposition

30. For these reasons, the court’s final analysis and decision on this motion for security for costs is being deferred until after the plaintiff’s motion for an interim interlocutory injunction has been heard. This motion will be decided at the same time or after the injunction motion is decided.

31. The costs of this motion are likewise deferred. The parties have so far not been able to agree upon the quantum of costs to be awarded to the successful party on this motion, in part due to the fact that their costs outlines are approximately $40,000 apart on a partial indemnity scale. The plaintiff’s costs outline indicates all-inclusive partial indemnity costs for this motion of $17,206.77. The defendants’ costs outline indicates all-inclusive partial indemnity costs of $47,967.00.

32. While there was an offer from the defendants in respect of the amount of security for costs to be posted (that has not been disclosed to the court), the defendants do not rely on that for an elevated scale of costs for this motion. If the court decides to award security for costs, the quantum of security for costs, as well as the quantum of the costs of this motion, will be fixed at the same time, on a partial indemnity scale.

33. This endorsement and the orders and directions contained in it shall have the immediate effect of a court order without the necessity of a formal order being taken out.

KIMMEL J. June 16, 2023