Jones v Environcom Ltd & Anor

I am asked to determine preliminary issues arising in respect of the claimant insurers’ (“Insurers”) application for security for the costs of the counterclaim brought by the defendants, Environcom Limited (“Environcom Scotland”) and its subsidiary, Environcom England Limited (“Environcom England”), (collectively, “the Defendants”). Environcom England is a trading company which at all material times operated an electrical goods and waste recycling plant in Grantham, Lincolnshire. At all material times the principal activity of Environcom Scotland, a company incorporated in Scotland, was to act as a holding company for its subsidiary.

The background to the claim is as follows. Insurers provided cover for Environcom England’s recycling facility, pursuant to two policies covering the period 25 May 2007 to 24 May 2008 (“the Policies”). Insurers sue the Defendants for a declaration that Insurers were entitled to avoid those Policies as a result of the Defendants’ alleged failure to disclose the use of plasma guns on their refrigerator disassembly line. It is alleged that the reasons that such use ought to have been disclosed is that the use of these tools involved a risk of fire, and that, indeed “small fires” had occurred on the line. It is also alleged that there were other undisclosed fires which occurred at the facility, both before and after the inception of the policies.

The Defendants’ position is that Insurers knew of the use of plasma guns at the facility; that Insurers had obtained a survey of the premises in June 2006; that they obtained a further survey in July 2007, after inception of the policy, but took no exception to the use of the plasma guns. There had previously been two significant fires at the facility, in October 2005 and December 2006. As a result of this claims records, Insurers imposed onerous conditions on the policy, including a co-insurance provision for 20% of the risk. The Defendants contend that other ignitions that had occurred were not significant; that they were part and parcel of the recycling business and would not materially have added to Insurers’ assessment of the risk (particularly given that the policy was subject to survey). As to fires that had occurred after conclusion of the insurance contract, the Defendants contend that these are irrelevant.

On 16 September 2007, a major fire occurred, destroying the whole of the plant and machinery, and giving rise to the need to demolish the facility. By 10 October 2007, Insurers had already decided that they had a right to avoid. On 30 November 2007, they sent a letter purporting to avoid the Policies. There was then correspondence between the parties’ respective solicitors, culminating in a letter dated 8 February 2008 from the Defendants’ solicitors asking for an unequivocal assurance that Insurers’ accepted liability for the claim, and stating that, in the absence of such an assurance, their instructions were to issue proceedings against Insurers without further notice. It was suggested by Mr Waller, during the course of the hearing, that, because of a concern that the Defendants might issue proceedings in Scotland, rather than in England, Insurers issued the present claim on 22 February 2008, without waiting for the Defendants to issue their own proceedings. I was not shown the terms of the Policies and I accordingly I have no knowledge as to whether they contained an exclusive, or non-exclusive jurisdiction, clause, or as to whether Insurers obtained any tactical advantage in this respect.

Accordingly, Insurers, by their Particulars of Claim, seek a declaration that they have validly avoided the policies of insurance on the grounds of the Defendants’ failure to disclose. Alternatively, Insurers claim a declaration that they are entitled to claim damages in the amount of any sum which they might otherwise have become liable to pay to the Defendants under the Policies, by reason of any claims which arose on or after the date when the Policies would, but for the Defendants’ alleged breach, have been cancelled, namely on or shortly after 24 July 2007.

The Defendants, in their Defence, set out their case as described above as to why they contend that there had been no non-disclosure on their part. In their Counterclaim, they go on to set out the circumstances of the fire, the losses which they have suffered as a result of the failure of Insurers to indemnify them in respect of such losses, and to claim a declaration that they are entitled to be indemnified in respect of such losses, or, in the alternative, to be paid damages. The damages claimed in relation to property damage and estimated third party claims amount to some £2.9 million; business interruption losses have not yet been quantified, but I was informed that this claim is also likely to be substantial. The Defendants have also issued a third party claim against their brokers for negligence.

By their application dated 12 September 2008, Insurers sought security in the sum of £147,001.46, which comprised £114,640.21 in respect of costs already incurred and £32,371.25 in respect of costs to be incurred up to the date of exchange of witness statements, although Insurers anticipated that the last figure was in fact an underestimate of the costs that they would incur to that stage. That sum basically reflected Insurers’ incurred and anticipated costs of the entire action and not merely the costs of the issues exclusively referable to the counterclaim.

The basis of the application was Insurers’ concern, on the basis of the financial information available, about the Defendants’ ability to meet an adverse costs order in the event that the counterclaim failed and Insurers were held to have validly avoided the Policies. Accordingly, Insurers contended that they had satisfied the condition set out in CPR Rule 25.13(2)(c), namely that there was reason to believe that the Defendants would be unable to pay Insurers’ costs if ordered to do so.

Very shortly before the hearing, the Defendants served their evidence in answer to Insurers’ application, with the result that Insurers had only one working day with which to consider such evidence and serve evidence in reply. However, the thrust of the Defendants’ late evidence was that they were on the brink of concluding a major new contract which they were confident would transform their fortunes, and that, accordingly, amongst other arguments, the condition set out in CPR Rule 25.13(2)(c) was not satisfied.

In the circumstances, counsel for Insurers, Mr Richard Waller, sensibly suggested that, as there was no urgency for there to be any resolution of Insurers’ application (since they were, in the short term, at least in part protected by their retention of the premium in the sum of £109,650, which would in all probability have to be returned to the Defendants, in the event that the counterclaim were dismissed), the court should decide certain preliminary issues raised on the application. If such issues were resolved against Insurers, then no further application for security would be likely to be made; if resolved in Insurers’ favour, then the application could be finally determined as to liability and quantum at an adjourned hearing, when the position about the proposed contract and its effect on the Defendants’ financial position would be clearer. Counsel for the Defendants, Mr Neil Hext, agreed to this suggestion. The court also acceded to the proposal, as it appeared to be a sensible way of ensuring that the work that the parties had put in to the preparation for the hearing would not be wasted.

The preliminary issues which, at the court’s direction, the parties formulated in writing after the conclusion of oral argument, are as follows:

Whether the Defendants’ counterclaim is to be regarded as having an “independent vitality of its own”, within the meaning of the concept as used in Hutchinson Telephone (UK) Limited v Ultimate Response Limited (Footnote: ¹);

whether the costs of the counterclaim for the purpose of an application for security for the costs of the counterclaim are, as a matter of law, confined to those costs that are exclusively referable to the counterclaim (as contended by the Defendants); or whether such costs can include, as a matter of law, costs relating to issues which are common to both the claim and the counterclaim (as contended by Insurers)?

Although the formulation in the above terms might suggest that the issues are ones of law, their determination is, in reality, heavily dependent upon the facts and circumstances of this particular case, and the nature of the claim and the counterclaim made in these proceedings. Moreover, as all the authorities emphasize, even once the condition set out in CPR Rule 25.13(2)(c) is held to have been satisfied, the decision whether “it is just” (Footnote: ²) to make an order for security is “largely discretionary” (Footnote: ³). The court has to have regard to what is fair and just in all the circumstances.

Accordingly, my decision in relation to the preliminary issues should not be taken to pre-empt the discretion of a court hearing any restored hearing of this application, when all factors would need to be taken into account. These might include, but would not necessarily be limited to, the Defendants’ argument that their financial position has been caused by Insurers’ wrongful refusal to pay and that, accordingly, the factors articulated in Lindsay Parkinson & Co v Triplan (Footnote: ⁴) had come into play; any argument that an order for security might deny the Defendants the right to access to the court in breach of article 6 of the European Convention for the Protection of Human Rights and Fundamental Freedoms (Footnote: ⁵); and any argument that the court should have regard to the respective merits of each party’s claim.

Indeed, during the course of writing this judgment, I have had some concerns as to whether, on reflection, it was indeed appropriate to decide the preliminary issues on their own, rather than deciding the whole question of whether it was just to award security, in the round, at an adjourned hearing when the financial position of the Defendants had been clarified. However, I have concluded, with some reservations, that it is nonetheless appropriate to express my views as to the issues raised, since, as I have already said, a decision adverse to Insurers on the preliminary issues would be likely to have the consequence that no further application for security would be pursued (save, possibly, in relation to discrete quantum issues). But it will be seen that I am not persuaded that the preliminary issues, as drafted by counsel, in fact address the real issues that arises in the present case.

Mr Hext, on behalf of the Defendants, submitted as follows:

The application stood on its head what jurisdiction there is to grant costs of a counterclaim. The application was oppressive, because it sought something which the court had never permitted, namely security against a defendant for the costs of a claim brought against him. It was

The court had a discretion to depart from that rule where there was a counterclaim made, but that discretion will only be exercised where “the counterclaim has an independent vitality of its own”; but it was the substance of the position that counted. (Footnote: ⁷)

The authorities by and large dealt with the situation where both claimant and defendant have claims for damages arising out of the same transaction. In that situation, the counterclaim will not be regarded as having independent vitality if it is, in substance, an equitable set-off. (Footnote: ⁸)

In Hutchinson Telephone (UK) Limited (supra), Dillon LJ identified another case where independent vitality was not established, because the counterclaim was just the automatic counterpart of the defence:

In the present case the only real issue is Insurers’ entitlement to avoid. If that is rejected, the Defendants will, on the pleadings, inevitably be entitled to an indemnity under the Policies as no other coverage issues are raised. Thus the Defendants’ case is the automatic counterpart of Insurers’ claim. Quantum issues, if not agreed, could be dealt with separately once liability had been determined, and, if it were thought to be appropriate, security could be applied for in respect of those separate quantum issues.

There is little point in ordering security of the costs of the counterclaim (even if the amount ordered were to include the costs of the whole action), since if security for the counterclaim were ordered and not paid, the claim will in any event proceed, since Insurers cannot formally ask that the Defendants be debarred from defending the claim; but the effect of such an order would be to remove all practical benefit that would accrue to the Defendants if they were to succeed in their defence; the effect of the order would either be highly unfair – if the Defendants were prevented for all time from proceeding with their counterclaim, even after their defence had succeeded, or pointless as just giving rise to delay, if the counterclaim were in the event allowed to proceed once Insurers’ claim for a declaration had failed. This was part of the reasoning that led the court to refuse security in BJ Crabtree v GPT Communication Systems (Footnote: ¹⁰).

Mr Waller, on behalf of Insurers, submitted as follows:

This was a case where the Defendants’ counterclaim went beyond mere self-defence and where the counter-claim had a vitality all of its own; in such circumstances, security may be awarded against a defendant; see The Silver Fir (Footnote: ¹¹); Hutchinson Telephone (UK) Limited (supra); Thistle Hotel Limited v Gamma Four Limited (Footnote: ¹²).

A relevant consideration was that, if Insurers had not issued proceedings for a declaration, the Defendants would clearly have done so, seeking an indemnity under the terms of the Policies. In circumstances where it is a matter of chance which party would have issued proceedings, then, as The Silver Fir shows, that fortifies the inference that the counterclaim has an independent vitality of its own and is not a mere matter of defence. Reliance was also placed on Hutchinson Telephone (UK) Limited (supra)at 317F-H.

In a case such as the present, it was not appropriate to confine the quantum of Insurers’ security to that tranche of the costs that were exclusively referable to the counterclaim (which in reality would be limited to questions of quantum). Had the Defendants issued proceedings before Insurers, then the fact that Insurers had counter-claimed for declaratory relief that they were entitled to avoid, would not have precluded them from obtaining security for the costs of establishing their entitlement to avoid, as an integral part of the defence to the claim. As the authorities stress, it is the substance of the action that matters and not the form; Hutchinson Telephone (UK) Limited (supra)at 317D-E. The substance of the dispute here was that Insurers were defending a multi-million pound insurance claim on the basis that the contract of insurance was allegedly procured by various material non-disclosures.

My reservation as to the way in which the preliminary issues, as drafted by counsel, are formulated, is that the real issue is not whether the counterclaim in the present case falls within the straitjacket definition of

As Bingham LJ emphasised later in the same case, no simple rule of thumb exists to determine the question whether a defendant is doing more than simply defending himself, when he counterclaims. He said:

So the approach which I adopt, for the purposes of my determination of the preliminary issues, is to ask myself the question whether, leaving aside all the Defendants’ other arguments and potential arguments as to oppression, access, strength of case etc, and on the assumption that the condition set out in CPR Rule 25.13(2)(c) is satisfied, it would be just in the circumstances here to require the Defendants to provide security for the costs of their counterclaim.

In the present case it is true, in one sense, that the Defendants’ counterclaim is the counterpart of Insurers’ claim, as Mr Hext submitted. If the claim were to fail, then, since no other coverage issues arise, the counterclaim would succeed as to liability. But, on the other hand, the substance of the matter here, as Mr Waller pointed out, is that this counterclaim is a claim that the Defendants had, and have, to bring in order to recover an indemnity under the Policies. Now that the jurisdiction of this court has been engaged, and the counterclaim has been issued, Insurers in reality have no interest in pursuing their claim for a declaration; that claim could, with the leave of the court, be discontinued at any time and the overwhelming likelihood is that the Defendants would nonetheless continue their claim. Indeed, they have to do so in order to recover. On the other hand, Insurers do not need to maintain their claim to resist payment under the Policies; all they need to do is to defend the counterclaim. Even their alternate claim to their avoidance claim (namely the claim for a declaration that they are entitled to claim damages in the amount of any sum which they might otherwise have become liable to pay to the Defendants under the Policies, by reason of any claims which arose on or after the date when the Policies would, but for the Defendants’ alleged breach, have been cancelled) could be raised by way of set off in the defence to the counterclaim.

Moreover, the circumstances here were indeed circumstances where it was a matter of chance which party issued proceedings first. As The Silver Fir and Hutchinson Telephone (UK) Limited (Footnote: ¹⁵)shows, that fortifies the inference that the counterclaim has an independent vitality of its own and is not a mere matter of defence.

Nor does the fact that Insurers themselves chose to issue proceedings, or that they have the burden of proof of establishing their entitlement to avoid the Policies (Footnote: ¹⁶), or that they have not, as yet, discontinued or undertaken to discontinue their claim, undermine this analysis of the substance of the position. Those facts might lead to the conclusion (as in The Silver Fir) that it would be appropriate also to order security for the costs of the claim as against Insurers in favour of the Defendants, if the jurisdictional conditions of CPR Rule 25.13(2) were satisfied. Moreover, contrary to Mr Hext’s submissions, I do not derive assistance from the case of B J Crabtree (Insulation) Ltd v GPT Communications Systems Ltd (Footnote: ¹⁷) where the facts were very different from the present case. Although in that case (where the court declined to give a counter-claiming defendant security for the costs of the claim), the same facts, arising out of a transaction involving the removal of asbestos, were going to be canvassed both on the claim and on the counterclaim, both sides were clearly intending to proceed with their respective monetary claims (the plaintiff for the alleged price of the work, and the counter-claiming defendant for damages for defective work) in any event, and needed to do so to obtain a recovery. Furthermore, it is clear from the judgments (Footnote: ¹⁸) that the court gave particular weight in the exercise of its discretion to the fact that the plaintiff was a small private company for which an order for security would impose such a severe burden that it would prevent the plaintiff from pursuing its claim.

In the context of the determination of the preliminary issues, upon the assumptions which I have described, no such consideration arises. I would therefore determine preliminary issue i) by stating that, in my judgment and leaving aside the other factors, which I have described, that might inform the exercise of a court’s discretion on a consideration of all the circumstances, the present case is one where, upon analysis of the counterclaim, it would be just that security should be provided by the Defendants. Whether this is because the real substance of the case is the Defendants’ claim to receive an indemnity from Insurers, or because the counterclaim can be characterised as having an independent vitality of its own, or a combination of the two factors, does not appear to me to be significant.

So far as preliminary issue ii) is concerned, it must follow from the approach adopted in The Silver Fir that, as a matter of law, all costs of a counterclaim can be included in such an order, including costs relating to issues which are common to both the claim and the counterclaim. Accordingly, I reject the Defendants’ submission that costs of the counterclaim for the purpose of an application for security for the costs of the counterclaim must, as a matter of law, be confined to those costs that are exclusively referable to the counterclaim. It is clear from the wording of the rule that there is nothing to prevent the court in an appropriate case from awarding security in respect of the entire costs of a counterclaim, notwithstanding that there are common, or related, issues that arise on both claim and counterclaim.

Moreover, it is clear from the case of Petromin SA v Secnav Marine Ltd (Footnote: ¹⁹) that, in a case such as the present, where it is a matter of chance which party starts the proceedings, and both claim and counterclaim arise out of the same facts, there is no justification for confining the claimant’s costs in the way suggested by Mr. Hext to the “additional” costs of the counterclaim. The claimant in such a case is entitled to be secured in respect of costs no less fully than if he were merely the defendant to the claim advanced in the counterclaim and not also claimant in the action.

Thus, in Petromin (where the structure of the claim was similar to the present), Colman J said as follows:

In my judgment, the situation is precisely the same in the present case. Accordingly, my determination of the issues raised by the preliminary issues is that security should be awarded to Insurers in the full amount of their costs of the counterclaim. Of course, whether, taking into account all the circumstances of this case, the court hearing any restored hearing of Insurers’ application, considers it just to make an order for security in an amount equal to the full costs of the counterclaim will depend on the arguments then presented by the parties.

It follows that I determine the preliminary issues in Insurers’ favour. I will hear argument as to costs and any consequential orders after the formal hand down of this judgment.