Blancco Oy Ltd v. Inside The Box Inc., 2015 ONSC 277

COURT FILE NO.: 31-OR-208015

DATE: 20150119

SUPERIOR COURT OF JUSTICE - ONTARIO

IN THE MATTER OF THE BANKRUPTCY OF INSIDE THE BOX INC.

BETWEEN: Blancco Oy Ltd., Applicant

AND:

Inside The Box Inc., Respondent

BEFORE: Penny J.

COUNSEL: C.J. Hutchinson for the Applicant

R. Crawford self representing the Respondent

HEARD: January 13, 2015

ENDORSEMENT

[1] The applicant and the respondent are parties to a 2007 distribution agreement to sell the applicant’s security software. In 2010 the applicant invoiced the respondent for the supply of software licenses to be paid out over five years with an immediate payment of $9,500 and further payments of $9,500 per year from October 2011 to October 2014. No payments have been made under this invoice since 2010.

[2] Based on the applicant’s calculations, it is owed, in total, about $125,000 for the supply of various software licenses to the respondent.

[3] In January 2011, the applicant terminated the distribution agreement. In October 2011 the applicant sued the respondent in the Superior Court of Justice in Ottawa for the $125,088.56 said to be owed for goods and services provided under the distribution agreement.

[4] The respondent filed a defence. Although a counterclaim was later mentioned, no counterclaim has ever been served nor has the respondent ever provided a draft, or even an explanation, of what the counterclaim would be.

[5] There has been document production in the civil action. The respondent has been examined for discovery.

[6] The principal of the respondent, Ron Crawford, filed a calculation in the civil proceeding which conceded that the respondent owed about $87,000. It is the respondent’s position, however, that it is not liable to the applicant for this sum because the respondent has potential claims against the applicant which offset this amount.

[7] It was in this context that in March 2014 the applicant filed an application for a bankruptcy order under s. 43(1) of the Bankruptcy and Insolvency Act. Section 43(1) provides:

Subject to this section, one or more creditors may file in court an application for a bankruptcy order against a debtor if it is alleged in the application that

(a) the debt or debts owing to the applicant creditor or creditors amounts to $1000; and

(b) the debtor has committed an act of bankruptcy within the six months preceding the filing of the application.

[8] The application states, among other things that:

• Inside The Box is justly and truly indebted to the applicant in the sum of $125,080.56 as of February 27, 2014 and

• Inside The Box within the six months next preceding the date of filing of the application has committed the following act of bankruptcy, namely; it has ceased to meet its liabilities generally as they have become due in that it has failed to meet its obligations to the applicant.

[9] The respondent’s April 2014 responding application seeking the dismissal of the application for the bankruptcy order. It says, among other things, that:

• Inside The Box is not indebted to the applicant in the sum of $125,088.56

• there is an ongoing lawsuit where the applicant is using delay tactics to make it unable for Inside The Box to have its due process

• the applicant is not submitting some of the requested documents for the discovery meeting

• Inside The Box proposes to file a counter claim for unfair termination of its contract with the applicant and

• there are two additional counterclaims that will be made after the evidence is uncovered during the process of discovery.

[10] There are three issues in this case:

(1) whether a debt of at least $1,000 is owing;

(2) whether the failure to pay that debt to a single creditor constitutes an act of bankruptcy under section 42(1)(j) of the BIA; and

(3) whether the discretion of the court to grant a stay of the bankruptcy order (if the test for an order is met) should be exercised on the facts of this case.

Whether a Debt is Owed

[11] Mr. Crawford admitted in cross-examination on his affidavits filed in this proceeding that he performed a calculation which shows that $87,610.44 (as opposed to $125,088.56) was owing by the respondent to the applicant by way of purchase orders issued under the distribution agreement. Thus, the respondent admits that it owes the applicant at least $87,610.44. The respondent argues, however, that it intends to bring a counterclaim against the applicant in the civil proceedings that will offset that debt. It therefore says it will owe the applicant nothing.

[12] I am unable to accede to this argument. The debt is pursuant to the sale and distribution of the applicant’s products to the respondent. The debt is a liquidated sum, and admitted, in the amount of at least $87,610.44.

[13] The civil proceedings were commenced in 2011. The respondent filed a defence but issued no counterclaim.

[14] The first mention of a possible counterclaim arose after the respondent discharged its counsel in September 2013. It was then alleged that the counterclaim was in connection with the unfair termination of the distributorship agreement, which had occurred in January 2011.

[15] It was pointed out to Mr. Crawford by opposing counsel that the Limitations Act would have required any claim on the termination of the distribution agreement to have been commenced by January 2013. Mr. Crawford’s theory of the respondent’s counterclaim, since receiving this advice, has changed somewhat.

[16] Still no counterclaim has been commenced. No draft counterclaim has ever been submitted. Mr. Crawford was cross-examined on the proposed counterclaim in October 2014. He refused to answer any questions about it, other than to say there were two possible claims and that they were not caught by the two year limitation period because he only became aware of the basis for these claims in March of 2014. He also admitted in cross-examination that the counterclaim had nothing to do with amounts owing for any sales under the distribution agreement.

[17] In December 2014, Mr. Crawford attached to his factum an affidavit which he swore on December 16, 2014. The submission of this affidavit was contrary to my scheduling order of September 9, 2014 for the filing of material. It was also after Mr. Crawford’s cross-examination had already taken place, where he refused to provide any information about the proposed counterclaim. As a result, the applicant was deprived of any opportunity to cross-examine on the new affidavit. The affidavit, in contrast to his refusal to answer questions about the counterclaim on cross-examination, sought to explain, albeit extremely briefly, that the counterclaim would involve economic interference and defamation torts which took place and damaged the respondent’s business well after termination of the distribution agreement.

[18] I do not think the respondent can refused to provide any particulars of its alleged counterclaim during cross-examination and then, when it will not be subject to cross-examination, seek to introduce new evidence about what the proposed counterclaim will entail. For this reason, the December 16, 2014 affidavit should be disregarded as inadmissible. Even taking it at face value, however, it provides no basis for concluding either:

(a) that the alleged counterclaim will have anything to do with the applicant’s claim for payment of its debt; or

(b) that there is any prospect of merit or success to the counterclaim.

[19] The fact remains that no counterclaim has been asserted during the roughly 3 years the civil proceeding has been underway. The prospect of the current alleged counterclaim really only arose, on the evidence, after the applicant served its notice of application for bankruptcy order.

[20] In Re Homelife/Browsky Realty Ltd., [1996] O.J. No. 583 (S.C.J.) Chadwick J., in the context of a similar application to the one here, dealt with the existence of a counterclaim that had already been made by the debtor. The respondent in that case argued that, due to the existence of the counterclaim, the bankruptcy order should be stayed. Chadwick J. held that although there had been no determination on the merits, there was “a very serious question as to the merits of the respondent’s claim” and refused to stay the order.

[21] Here, no counterclaim has ever been made. The respondent sought to blame this delay on the fact that the civil proceeding was being case managed but offered no evidence whatsoever to support this allegation. The respondent has refused to disclose any particulars about the nature or basis of this counterclaim. The timing of the latest allegations of the basis for a counterclaim is highly suggestive of a tactic being employed to stave off the inevitable. The proposed counterclaim appears to have nothing to do with the debt which gave rise to the civil proceedings and this application.

[22] In the circumstances, I find that an amount is owed to the applicant in excess of $1,000 and that default in payment has occurred within six months.

Act of Bankruptcy

[23] The applicant’s argument on this point is simple. At least $87,000 is owed. Repeated demands have been made. The amount has not been paid. Amounts of $9,500 came due in October of 2013 and 2014. Payment of those amounts was not made. These facts are not in dispute.

[24] The respondent has only one employee. It has no office and no website, in spite of the fact that it is a software company. There is no evidence that the respondent is paying other suppliers or meeting other obligations. The respondent has refused to answer any questions about its suppliers, revenues, finances, other creditors, etc. Accordingly, the applicant says the only reasonable inference from the failure of the respondent to pay the applicant the amount owed is that the respondent is unable to meet its liabilities as they become due.

[25] Whether failure to pay a single creditor can constitute an act of bankruptcy has given rise to a considerable body of jurisprudence. The concern which underlies this jurisprudence was clearly expressed by Henry J. in Re Holmes and Sinclair, 1975 CarswellOnt 83 (S.C.J.) when he said, at para. 10:

…the petitioning creditor must strictly establish that, in the words of the statute, the debtor “ceases to meet his liabilities generally as they become due”;… In the non-exceptional case… that situation cannot be ordinarily proved by having regard to the experience of one creditor only, even though he may be a major creditor. Resort to the statutory machinery of the [BIA], rather than to the remedies to enforce a debt or claim in the ordinary courts, is intended by Parliament to be for the benefit of the creditors of the debtor as a class, and the act of bankruptcy described in [s. 42(1)(j)] is in my judgment an act that singles out the conduct of the debtor in relation to the class, rather than to the individual… It is for this reason that the court must be satisfied that there is sufficient evidence from which an inference of fact can fairly be drawn that creditors generally are not being paid. This requires as a minimum some evidence that liabilities other than those incurred towards the petitioning creditor have ceased to be met. The court ought not to be asked to draw inferences with respect to the class on the basis of one creditor’s experience where evidence of the debtor’s conduct towards other members of the class could, with reasonable diligence, be discovered and produced. The court’s intuition is no substitute for the diligence of the session creditor

[26] That said, there are three “special circumstances” in which the courts have granted an order under s. 43 on the basis of a debt owed to one creditor:

(i) the creditor is the only creditor of the debtor; and the debtor has failed to meet repeated demands of the creditor; in the circumstances he should not be denied the benefits of the BIA by reason only of his unique character; or

(ii) the creditor is a significant creditor and there are special circumstances such as fraud on the part of the debtor which make it imperative that the processes of the BIA be set in motion immediately for the protection of the whole class of creditors; or

(iii) the debtor admits that he is unable to pay his creditors generally, although they and the obligations are not identified,

see Re Holmes and Sinclair, supra, at paras. 5 to 8.

[27] I am satisfied that the test for special circumstances is met on the facts of this case. The debt is admitted, at least to the extent of $87,610.44. It is a significant debt in the context of a one-man software company with no office and no website. The only mechanism by which the debtor proposes to “pay” the debt is by setting off the proceeds of its as yet unasserted, unparticularized and unquantified counterclaim. The content of the counterclaim, to the limited extent disclosed, leads to the reasonable inference that it would not be in respect of a “mutual cross obligation” in the sense required for set off. In addition, the failure to assert the counterclaim and the lack of any particulars or supporting evidence to show it may have merit call into question the respondent’s intentions and motives in raising it at all.

[28] The respondent has refused to answer any questions about its creditors and whether, if there are any, they are being paid. Thus, the lack of evidence about other creditors arises from the respondent’s own refusal to disclose relevant evidence. This gives rise to an adverse inference. Even if the respondent is paying other creditors, given the significant size of the debt owed by the respondent, it seems more than likely that other creditors are only being paid because the respondent is not paying the applicant, Re Homelife/Browsky, supra at paras. 30 - 35.

[29] In all these circumstances, I do not think the applicant should be denied the benefits of the BIA by reason only of the fact that it is the only disclosed creditor.

Stay

[30] The sole remaining issue is whether the discretion of the court should be exercised to grant a stay of the bankruptcy order.

[31] A stay might be granted, for example, had a plausible basis been advanced for there being a bona fide dispute over whether the $87,000 was actually owed or a valid bona fide counterclaim been initiated. But, where claims have been found to be badly documented, vague or uncertain, or unsupported by the evidence, the court may consider that the debtor’s chances of success in the civil action are remote. This becomes a relevant factor to be taken into account in the exercise of the court’s discretion to grant a stay. This is because the evident weakness in the purported claim has some bearing on the bona fides of the debtor purporting to make the claim.

[32] I find, in the circumstances of this case, the respondent debtor has not met its onus of showing that the litigation it proposes to bring is genuine and intended to be prosecuted. Rather, it appears to me, on the evidence, that the threatened litigation is merely an attempt to hinder or delay the applicant in the enforcement of its rights, Re 1130703 Ontario Ltd., 2003 CarswellOnt 3414 (S.C.J.) at paras. 18 and 24.

[33] Perhaps the better argument for staying the grant of any bankruptcy order would be that if the application is granted, the respondent would, in all likelihood, cease operations. Balanced against this, is the right of the applicant to pursue its remedies for payment of its debt.

[34] In this case, the respondent has refused to answer any questions about the nature, scope and extent of its ongoing business. There is no evidence before the court, in fact, that there is an ongoing business being operated by the respondent.

[35] In these circumstances, I have come to the conclusion that the applicant has far more to lose if the matter drags on as a result of the obstacles sought to be erected by the respondent than the respondent debtor would lose if the order is granted.

Conclusion

[36] The application for a bankruptcy order under s. 43 of the BIA against the respondent is therefore granted. It shall be a term of this order that all proceedings against defendants in the civil proceeding (Court File No. 11-52524) other than the respondent shall be discontinued without costs.

Costs

[37] This is a case where costs should follow the event based on the usual scale. Counsel for the applicant sought costs, if successful, of slightly in excess of $27,000. Of this amount, $20,000 is sought for fees. The allocation of the work by applicant’s counsel is largely appropriate. Mr. Hutchinson, who argued the application, did most of the work. The junior lawyer did the legal research. I found the amount of time spent for preparation of the application (22 hours) and the cross-examination (12 hours) excessive when considered from the point of view of what the losing party might reasonably be expected to pay. I award costs to the applicant in the amount of $15,000 inclusive of fees, disbursements and all applicable taxes.

Penny J.

Date: January 19, 2015