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In the Supreme Court as a Court of Criminal Appeals

 

CrimA 99/14

CrimA 1829/14

CrimA 1899/14

 

Before:                                    The Honorable Justice E. Rubinstein

                                    The Honorable Justice U. Vogelman

                                    The Honorable Justice D. Barak-Erez

           

 

The Appellant in CrimA 99/14, and Respondent in CrimA 1829/14 and CrimA 1899/14:	The State of Israel
The Appellant in CrimA 1829/14	Golan Madar
The Appellants in CrimA 1899/14:	1.Ofer Investments Ltd. 2.Ofer Development and Investments Ltd.

 

                                                     v.

 

 

The Respondent in CrimA 99/14

Melisron, Ltd.

 

                                    Appeals on the verdict and sentencing handed down by the Tel-Aviv District Court on November 19, 2013 in CrimC 23842-11-11 by Judge K. Kabub

 

Date of session:                               1st Av, 5774 (July 28, 2014)

 

 

On behalf of the Appellant in CrimA 99/14, and Respondent in CrimA 1829/14 and CrimA 1899/14:	Adv. A Bachar, Adv. A Tabenkin
On behalf of the Appellant in CrimA 1829/14:	Adv. G. Adereth, Adv. O. Adereth, Adv. J. Chen, Adv. M. Rosen-Ozer, Adv. E. Ben-Moshe, Adv. Y. Shefek, Adv. R. Hotam
On behalf of the Appellants in CrimA 1899/14 and the Respondent in CrimA 99/14:	Adv. P. Rubin, Adv. E. Harel, Adv. H. Shimon

 

 

 

 

Judgment

Justice E. Rubinstein

1.Before us are three appeals on the judgment of the Tel Aviv District Court (Judge K. Kabub) in CrimC 23842-11-11 (verdict dated November 19, 2013; sentence dated January 26, 2014). The case revolves around offenses in securities, and there are two primary issues before us: first, whether one should be convicted of the offense of manipulation under section 54(a)(2) of the Securities Law, 5728-1968 (hereinafter: “the Law” or “the Securities Law”), where it was found that the motivation for committing the offenses was mixed – a fraudulent intent alongside a legitimate financial intent; and second, under what circumstances should a corporation be held criminally responsible for criminal offenses committed by an officer who is considered to be an organ of the corporation.

The Indictment

2.On November 3, 2010, the indictment in our matter was filed with the Tel Aviv District Court against the following defendants:

The First Defendant, Avraham Levi (hereinafter: “Levi”), who served in the time period relevant to the indictment as the CEO of Ofer Investments, Ltd. (hereinafter: “Ofer Investments”), acting CEO of Ofer Development and Investments Ltd. (hereinafter: “Ofer Investments”; both companies together will be hereinafter referred to as “Ofer”), interim CEO of Melisron Ltd. (hereinafter: “Melisron”) and director of Melisron. Additionally, Levi held approx. 3% of Melisron’s shares. As part of his position, Levi was an authorized signatory in all three corporations’ accounts and managed their financial affairs alongside the Second Defendant.

The Second Defendant – the Appellant in CrimA 1829/14 – Golan Madar (hereinafter: “Madar”), served in the relevant time period as the financial manager of Ofer Investments, as well as managed the financial affairs of Ofer Development and Melisron together with Levi. Like Levi, Madar was also an authorized signatory for Ofer Investments, Ofer Development and Melisron, and he was present in Melisron’s Board of Directors’ meetings as part of his position as a financial manager for the Ofer Group. 

The Third Defendant, Eliyahu Haelyon (Hereinafter: “Haelyon”), was a financial consultant who traded in bonds and securities in the trading room of Poalim Sahar Ltd. at the relevant time period.

The Fourth Defendant – Appellant 1 in CrimA 1899/14 – Ofer Investments, is a private company in the fields of real estate, banking, hotels and others. In the relevant time period, Ofer Investments was positioned at the top of the Ofer Group pyramid, which included, among others, Ofer Industry Properties (Nazareth) Ltd., Ofer Properties and Shipping 1980 Ltd. and Ofer Development.

The Fifth Defendant – Appellant 2 in CrimA 1899/14 – Ofer Development, is a private holding company that, during the relevant time period, was entirely but indirectly owned by Ofer Investments: 81.9% of its shares were owned by Ofer Sahaf Ltd., which was fully owned by Ofer Investments. The rest of its shares were owned by Ofer Industry Properties Nazareth Ltd., which was also entirely owned by Ofer Investments.

The Sixth Defendant – The Respondent in CrimA 99/14 – Melisron, is a public company which in the relevant period operated commercial spaces and offices for rent. At the time, 71% of Melisron’s shares were owned by Ofer Investments.

It should be noted here, that at the end of the day, Levi and Melisron were acquitted from the offenses alleged in the indictment, whereas Madar, Haelyon, Ofer Investments and Ofer Development were convicted of all the offenses for which they were charged, as will be detailed below. It should be further noted that Levi and Haelyon are not parties to the appeals before us, and I will therefore elaborate about them only when it is necessary to address the disputes in the matter before us.

3. According to the indictment, in February 2008, Melisron issued bonds at a nominal value of approx. NIS 200 million in a private offering (hereinafter: “Series D Bonds”). Melisron raised approx NIS 200 million for these bonds. In May 2009, Melisron issued a shelf proposal in which the public was offered series D bonds as part of a series expansion. As a result, buy orders were received for bonds at a nominal value of NIS 140 million, in the total amount of NIS 145 million (hereinafter: “the First Expansion”). On November 4, 2009, at a board of directors’ meeting, Levi recommended to the board, on behalf of Melisron’s management, to raise funds by issuing additional bonds. At the end of the meeting, the board decided to issue additional bonds by way of issuing a new series or expanding an existing series.

4.Later in November 2009, Levi and Madar worked together to advance the issuance that was decided upon at the November 9 board meeting. For this purpose, the two selected Clal Finance Underwriting Ltd. as the arranger of the offering (hereinafter: “the Arranger”) and decided to further expand series D bonds. Together with the Arranger, Levi and Madar decided on the date for the issuing, the minimum price and the number of bonds to be issued. Afterwards, Levi and Madar coordinated the issuance with Ofer Group’s institutional investors and legal counsels, who drafted Melisron’s shelf  proposal.

5.On November 25, 2009 Melisron notified the public about the option of a second expansion of series D bonds in December 2009. This occurred through a uniform offering of a tender regarding the price of a unit, which generally takes place in two phases: in the first phase, a preliminary tender is held for confidential investors, as defined in regulation 1 of the Securities Regulations (Offer of Securities to the Public) - 2007 (hereinafter: “the institutional investors tender”.) In the second phase, the securities are offered to the public (hereinafter: “the public tender”). In this method, the price of the security that is set in the institutional investors tender is used as the minimum price in the public tender phase, and the final price is set in the public tender phase. The offers by the investors in the institutional investors tender are influenced by the price of the security in the stock market – the higher the price of the security in the market, the higher the price set by the institutional investors at the tender, and the more funds that can be raised for the company’s securities.

6.According to the indictment, Levi and Madar agreed amongst themselves to use Ofer Group accounts to purchase series D bonds in the period leading up to the institutional investors tender. This was designed to raise the price of series D bonds or to prevent its decline (hereinafter: “the Influence Plan”). As a result, the offers at the institutional investors tender, and in turn the minimum price of series D bonds in the public tender, were expected to be higher.

7.In order to execute the influence plan, Levi and Madar used Ofer Investment’s securities account in Poalim Sahar (hereinafter: “the securities account”). The securities account was managed by Levi and Madar, and they were the ones who gave the buy and sell orders.

8.On November 25, 2009, as part of the execution of the influence plan, Levi and Madar ordered the transfer of NIS 20 million from Ofer Investments’ account in HaPoalim Bank to the securities account. Afterwards, in the days prior to the institutional investors tender, and specifically between November 26, 2009 and December 1, 2009, Madar gave instructions to Haelyon, with Levi’s consent, to make trade transactions that would raise the price of series D bonds before the institutional investors tender or would prevent its decline, through purchases of the bonds. On the last day of trade, Madar even specified a target and asked Haelyon to bring series D bonds to a price of 117 Agorot each. This was, allegedly, with Levi’s knowledge and consent (who as mentioned above, was ultimately acquitted). Additionally, Madar set the time frame in which Haelyon was asked to make transactions in series D bonds, and limited this period to the days prior to the institutional investors tender. This too – as alleged – was with Levi’s knowledge and consent. Additionally, it was alleged, with Levi’s knowledge and consent, Madar made it clear to Haelyon that he was authorized to use the entire sum in the securities account – about NIS 20 million – and that should there be a need for an additional amount, Madar would provide it. Accordingly, in consultation with Haelyon, on December 1, 2009, and before the institutional investors tender, Madar and Levi transferred an additional sum of NIS 10 million into the securities account, and instructed Haelyon to also use that in order to raise series D bonds’ price or prevent its decline.

9.It was also alleged that following Levi and Madar’s instructions, Haelyon made transactions using Ofer Investments’ securities account in Poalim Sahar in order to raise the series D bonds’ price or prevent its decline. Allegedly, Levi, Madar and Haelyon all acted while exploiting the continuous trading, whereby every buy or sell order in the trade influences the fluctuations in the security’s price. As the issuance date approached, Levi and Madar increased the pressure on Haelyon so that their fraudulent activity in the series D bonds became, as alleged, more intense.

10.Among others, it was alleged that the following methods were employed:

Cancelling Layers: giving a sell order in a higher price than the highest sell order and for an amount greater than the overall amount offered at the three best layers of the sell orders. Such a buy order means a safe transaction where the three best sells are “cancelled” as to expose the highest sell prices. At times, the cancellation leaves a “trail” of buy orders at a high price that enters the first level of buy orders and raises it. Such a purchase signals to the stock market that there is a buyer who is willing to buy large amounts at high prices, and that the buyer does not “haggle” over the price.

The trail method: giving a buy order for an amount greater than the nominal value of NIS 1 (or a similar minimal amount) of the amount of the first sell order and for the price of the second level of the sell orders. This way, the price is set according to the second level – that of the higher price – though most of the transaction was made at the lower price. This raises the price to the price of the second level through a “cheaper” purchase, which is made mostly at the price of the first level.

11.As a result of the described activity, between November 26, 2009 and December 1, 2009 (hereinafter: “the Manipulation Period”), the price of series D bonds climbed from 115.72 Agorot on the first trade date, to a price of 116.9 Agorot on the fourth trade day. During this period, Ofer Development, funded by Ofer Investments, purchased series D bonds in a total amount of approx. NIS 23.9 million. Ofer Development constituted between 62-97% of the purchase volume of series D bonds during those four days of trading.

As will be clarified below, both in the District Court and in the appeal, there has been no real dispute between the parties as to use of the above methods and their outcomes. The dispute relates to the purpose that motivated these methods, and on this – further below.

12.On December 1, 2009 the institutional investors tender took place, and it closed at a price of 116 Agorot. Accordingly, the minimum price in the public tender was also 116 Agorot. The following day, Melisron published a shelf proposal, and on the next day, the results of the shelf proposal were published, and it was reported in the immediate report that buy orders for series D bonds were received at a nominal value of NIS 146 million for a total amount of NIS 170 million. Allegedly, Melisron hid the influence plan from the public, even though it constituted an event or matter that is outside of the regular course of business, and avoided publishing it within the shelf proposal or the immediate report published the day afterwards.

13.For the reasons mentioned above, it was alleged that Levi, Madar and Haelyon operated as joint perpetrators and fraudulently influenced the price of series D bonds, an offense under section 54(a)(2) of the Law (hereinafter: “the Manipulation Offense”). In addition, it was alleged that Levi and Madar acted together and induced or attempted to induce a person to buy or sell securities (an offense under section 54(a)(1) of the Law; hereinafter “the Inducement Offense”). Additionally, it was alleged that Levi and Madar caused Melisron’s immediate report to include misleading items designed to mislead a reasonable investor (failing to follow section 36 of the Law and an offense under section 54(a)(1) of the Law; hereinafter: “the First Reporting Offense”). By doing so, they caused the shelf proposal, which is equivalent to a prospectus, to include misleading items (failing to follow section 16(b) of the Law and an offense under section 53(a)(2) of the Law; hereinafter: “the Second Reporting Offense”).

In regard to the companies, it was alleged that Ofer Investments, Ofer Development and Melisron, through their representatives – Madar and Levi – fraudulently influenced the series D bonds’ prices, as well as induced or attempted to induce persons to buy or sell securities. Melisron was also accused of causing, through its representatives Madar and Levi, Melisron’s immediate report to include misleading items with the intent to mislead a reasonable investor, and thus caused the prospectus to include misleading items.

The Judgment Outline

14.The appeals before us challenge both the District Court’s verdict and its sentence. I will first detail the main points in the District Court’s verdict. Then, I will discuss Madar’s appeal of the verdict, after which I will elaborate on the sentence and the appeal challenging it. I will then discuss Ofer Investments and Ofer Development’s appeal against the conviction and the sentence, and finally the State’s appeal against Melisron’s acquittal. It is appropriate here to acknowledge with appreciation the quality of the arguments of the parties’ attorneys.

The District Court’s Verdict

15.In a detailed verdict, the District Court contemplated the various factual and legal issues that arise in our matter, and ultimately decided, as mentioned, to convict Madar, Haelyon, Ofer Investments and Ofer Development in all the charges against them, to acquit Levi due to reasonable doubt, and to acquit Melisron. Levi was acquitted because the State failed to prove, to the level of the burden required in criminal cases, that he participated in Madar’s sell orders to Haelyon, for which Madar was convicted (para. 317 of the verdict). We will address Melisron’s acquittal, which the State appeals, further below.

16.The court noted that most of the factual details of the affair – dates, bond prices, investment details, etc. – are not in dispute among the parties (para. 65 of the verdict), so that the gist of the dispute revolves around the legal meaning that should be given to the events detailed in the indictment. As noted, the State maintains that this is an influence plan with fraudulent characteristics, while the defendants see the very same activities as legitimate and acceptable actions in the stock market, which were conducted with no awareness and with no criminal intent. Concretely, the heart of the dispute is the interpretation of the manipulation offense set in section 54(a)(2) of the Law, which addresses influencing the prices by fraudulent means, and in our case – influencing buy acts of series D bonds by the Ofer Group prior to the institutional investors tender, in an attempt to influence the value of Melisron’s bonds.

17.Section 54 of the Securities Law, titled “Fraud in connection with Securities”, stipulates as follows:

(a) A person who [is convicted of doing] one of the following shall be punishable by imprisonment for a term of five years or to a fine in an amount five times the fine prescribed in section 61(a)(4) of the Penal Law, and if a corporation is so convicted – it will be subject to a fine which is twenty-five times the size of the said fine:

 

(1) Induced or attempted to induce a person to purchase or sell securities by way of a statement, promise or projection - written, oral or otherwise - which the person knew or ought to have known to be false or misleading, or by concealing material facts;

 

(2) Fraudulently influenced the fluctuation of the price of securities. For the purpose of this paragraph, it will be presumed that anyone acting in accordance with the provisions of section 56(a) regarding the stabilization of the price of securities has not engaged in an act of fraudulent influencing as stated above.

 

 The court considered the purpose of the section, and noted that its purpose is to protect the investing public from an artificial intervention in the capital market. It was noted that an efficient capital market is characterized by the fact that the price of securities is set according to the forces of supply and demand, and therefore any artificial intervention compromises its efficiency. The court distinguished the offense established by section 54(a)(1) – the inducement offense – and the offense established by section 54(a)(2) – the manipulation offense, which is the offense relevant for our purposes. The court found, after reviewing the existing case law, that the manipulation offense is a result offense. That is, in order to prove the elements of the offense, the prosecution must show that the defendant’s actions did indeed influence the price. However, as the court noted, a slight influence is sufficient (para. 97 of the verdict). The court additionally found that it is an offense with an intent element. That is, the prosecution must show that the defendant had the intent to change the price of the share. The court also noted, the action itself is often a legitimate action in the stock market, but it is the intent that makes it a criminal offense (para. 101 of the verdict). The court further held that in order for the elements of the offense to be fulfilled, it is not enough to couple the theoretical fraudulent intent to the seemingly legitimate action, but rather the State must point to “indications that have some behavioral basis” in practice in addition to the intent itself, because, of course, “one cannot be punished for what is in their heart” (para. 104 of the verdict). It was also noted that there is no need to point to the existence of a motive, though a motive can be used, where appropriate, as circumstantial evidence of intent.

18.The main issue the court considered, in terms of the manipulation offense, was the issue of mixed purposes – that is, whether one should be convicted of the offense when the prohibited fraudulent intent of influencing the price of the security was accompanied by an additional, legitimate, intent, which was based on a sincere desire to purchase securities. The court reviewed the existing case law and scholarship in the field and ultimately held:

“We must examine whether the influence on the price was a byproduct of the trading action alone, or whether the defendant acted in a manner that intended to influence the price. In other words, even where the defendant had a legitimate economic intent, if he acted (alongside or for this legitimate purpose) in order to influence the price – he should be convicted” (Para. 118 of the verdict) (Emphasis in original).

19.The court reviewed the relevant evidence and ultimately found that Madar and Haelyon should be convicted of manipulation, and that Levi should be acquitted of this offense. The court based its decision on the following evidence: recorded conversations between Madar and Haelyon between November 26, 2009 and December 1, 2009 (the day of the institutional investors tender), in which Madar explicitly instructed Haelyon to reach a price of 117; financial expert opinions submitted by the parties – Mr. Yossi Bahir on behalf of the State, Professor Avner Kalai on behalf of Madar and Professor Aharon Ofer on behalf of Haelyon; as well as the statements Madar, Haelyon and Levi gave to the police and their testimonies in court. We will return to these in more depth below.

20.Relying on the above, the court found that there is a reasonable doubt as to Levi’s involvement in the affair detailed in the indictment, and thus Levi was acquitted due to reasonable doubt (para. 317 of the verdict). As for Madar, it was held that while Levi was acquitted of the charges against him, it was impossible to convict Madar for the influence plan as is. In other words, it could not be said that it has been proven beyond a reasonable doubt that Madar intended to influence the price of the bonds “in the days, weeks or months” prior to the offering (para. 319 of the verdict), but only for several days. However, it was held, on the basis of the evidence, that Madar had dual intent from the beginning of the trade – to purchase bonds as a legitimate investment for Ofer, as well as to support the price in preparation for the offering. The court emphasized that it was not a secondary intent, but “two purposes living symbiotically side by side” (para. 320 of the verdict), and therefore convicted him of committing the offense (para. 324 of the verdict). As for Haelyon, it was held that though he was not equally culpable as Madar, it was proven beyond a reasonable doubt that he executed the instructions he received from Madar in a sophisticated manner and with “commitment to the task,” in order to support the securities price in preparation for the expansion of the series. Haelyon was therefore convicted of this offense (para. 327 of the verdict).

21.The court considered Madar’s argument that he consulted, along with Levi, with Melisron’s attorneys before expanding series D, which would demonstrate that he acted in good faith when making the purchases. In this regard, the court held that the consultation held with the attorneys in regard to the events described in the indictment was lacking and that material details were absent from it. It was also found that it is likely that had the lawyers known that the extent of the purchase was “unlimited” and that the order Haelyon received was to make the purchases only until the date of the offering, and especially had they known that the purchase was designed, among others, to increase or stabilize the price, the attorneys’ advice would have changed accordingly. It was therefore held that the consultation with the attorneys cannot be seen as indicative of Madar’s good faith and lack of intent to influence the price of the bonds (para. 307 of the verdict).

22.Regarding the inducement offense, it was held that the elements of the offense were met in Madar’s case, as his actions caused a material misrepresentation amounting to fraudulent motivation. This is because shortly before the expansion of the series Madar purchased bonds at a scope of 60-97% of the trade, in a manipulative way, and thus could have influenced the investing public’s decision whether to purchase Melisron’s securities (we will not address the question of overlap between the inducement and manipulation offenses, as it is not part of the appeal). As for the first reporting offense, the court found that Madar caused the report published by Melisron on November 24, 2009 to exclude a material detail as to the influence plan, while Madar was also the one who approved the draft to Melisron’s attorneys, and thus the court convicted him of this offense. As for the second reporting offense, the court found that in Melisron’s shelf proposal report dated December 2, 2009, Madar again failed to report the influence plan, and he therefore was convicted of this offense as well.

23.As for the criminal liability of the companies for the offenses, it was held, as mentioned, that Melisron should be acquitted of the charges against it. This was because the activity for which Madar was convicted was not carried out in the course of his duties in Melisron but in the course of his duties in Ofer Group’s private companies. Therefore, on the basis of organ theory, it could not be found that Melisron – and Madar as an organ of Melisron, as argued  – played a part in committing this offense (para. 335 of the verdict). However, the court found that Ofer Investments and Ofer Development should be convicted of the offenses of manipulation and inducement. In this matter, it was found that the companies could not be separated with regard to the commission of the offense because “under the unique circumstances of this case, the conduct of both companies was one and the same.” Therefore, the actions taken by Madar as an organ of both companies – “Number 2 in the organization” as Levi called him (record of hearing dated December 27, 2012, p. 641, l. 31) – form the criminal liability of the two companies, even though the investment was formally made by Ofer Development only (para. 341 of the verdict).

24.Now that we have presented an overview of the main points in the verdict, we can address the appeals before us. At this stage I will only discuss the arguments challenging the verdict, and further below – following the discussion of the verdict – I will address the arguments challenging the sentences imposed on Madar, Ofer Development and Ofer Investments.

CrimA 1829/14 – Madar’s Appeal – the Verdict

The Appellant’s Arguments – Madar’s Verdict

25.At the center of Madar’s appeal against his conviction stands mainly the legal questions of mixed purposes, as discussed above – should a person be convicted of the offense of manipulation when the legitimate intent he had in purchasing securities was coupled with an additional, fraudulent, goal in the form of a desire to influence the price of the security. It was argued that this is the first and only case where a person has been convicted of manipulation in such a case of mixed purposes, and Madar maintains that the interpretation the lower court gave to the manipulation offense is inconsistent with the legislative intent and the case law on similar matters. In his arguments, Madar also presented American law, which supports, it was claimed, his argument that the interpretation given to the manipulation offense in our matter was wrong.

26.In addition, both written and oral arguments emphasized that the appropriate test in the context of mixed motivations is the “fundamental goal test” or the “but for test” – if, but for the legitimate goal, the defendant would not have made the investment, the defendant should be acquitted. Therefore, when the court found that both goals – the legitimate and the fraudulent – “lived side by side in symbiosis” (para. 320 of the verdict), meaning that the fraudulent goal was not fundamental, it should not have convicted Madar. It was also argued that the verdict reveals that the fraudulent goal was “secondary, if not incidental,” which should, of course, also lead to an acquittal (para. 26 of the notice of appeal).

27.It was also argued that the court erred by not considering Madar’s consultation with Melisron’s attorneys as indicative of his good faith and lack of intent to influence the securities. In this context, it was argued that the court’s finding contradicts a different finding - as the court held that during the consultation with the lawyers on November 25, 2009 Madar should have disclosed his intentions to “support” the price, but it also held that Madar’s intention to support the price only materialized on November 26, 2009. It was additionally maintained that Madar and Levi presented to the attorneys the information they had as to the purchase possibility, and that the attorneys were expected to present the legal aspects and potential problems of purchasing bonds, because Madar and Levi are not lawyers and they could not have known that this activity could be problematic. Thus, the court erred by not seeing Madar’s reaching out to the lawyers as an indication of good faith. Madar also emphasized that reliance on a lawyer’s advice would provide sufficient defense in criminal proceedings but was never argued, and thus, there was no reason to examine such claim by the court using the case law’s guidance on a reliance argument.

28.As for the financial expert opinions, Madar argued that the District Court erred in not attributing the appropriate weight to the fact that both Bahir and Professor Kalai’s opinions suggest that the trade activity itself does not reveal a fraudulent intent, but rather that such an intent can allegedly be inferred from the recorded conversations, which are insufficient because they are “intentions of the heart” for which one cannot be convicted in criminal proceedings. It was noted that this is also inconsistent with the court’s own finding that even if there was an intent to influence the security in the defendant’s heart, but in reality he acted as if he would have acted had he not had that intent, he should not be convicted of manipulation (para 104 of the verdict). As for the recorded conversations, it was argued that they reveal that Madar saw the purchase of Melisron bonds as a good investment that fitted the needs of Ofer Development, regardless of the series D expansion. The timing of the purchase was set for four days before the beginning of the trade, because – as was argued –a good opportunity for a significant purchase was created at that time, and not in order to influence the price.

29.At the end of his appeal, Madar also challenges his conviction of the offenses of inducement and causing a misleading item in a report. I will expand on his arguments on this further below. As mentioned, the issue of the sentence will be discussed separately.

The Respondent’s Response – Madar’s Verdict

30.It was argued that although Madar presented his appeal primarily as legal, the notice of appeal weaves in factual assumptions that contradict the District Court’s various findings. First and foremost, Madar’s argument that the primary purpose at the base of the series D bonds’ purchase was a legitimate financial investment is inconsistent – as said – with the District Court’s finding that the legitimate purpose stood alongside the fraudulent purpose, without determining a greater relative weight to one over the other, and while emphasizing that the fraudulent intent was neither secondary nor incidental (para. 3 of the main arguments).

31.As for the legal aspect, it was held that the District Court’s interpretation of the manipulation offense is consistent with the legislative objective and the Supreme Court’s case law on the issue, and as it was proven that Madar acted with a prohibited purpose to influence the price, it is immaterial that this goal was accompanied by a legitimate financial goal. This is because the legitimate goal cannot mitigate the adverse influence his activity had on the stock market’s proper trade. Additionally, the Respondent maintains that Madar’s failure to disclose the activities detailed in the indictment to the public in the prospectus or in the report is sufficient to unequivocally meet the “fraudulent means” element of the manipulation offense. Regarding the case law Madar presented from American law, it was argued that it did not provide a comprehensive picture of the applicable law there, and thus the conclusion Madar seeks to reach on its basis is incorrect.

32.The Respondent claims that the numerous conversations between Madar and Haelyon during the four days of trade clearly point to Madar’s intention to influence the price of the bonds, and that this is detailed in the District Court’s verdict. This is coupled with Madar’s notices to the Israel Securities Authority dated April 27, 2010 and April 28, 2010, in which he admitted that his actions was designed to influence the outcome of the series D bonds offering.

33.With regard to the financial expert opinions it was argued that at this point there is no dispute that Madar’s actions did indeed influence the price, and thus the opinions are used primarily as evidence to prove Madar’s intention to influence the price. It was argued in this context that Mr. Bahir’s opinion is the only one that includes a discussion of the financial aspects, in addition to the recorded conversations, whereas in his opinion, Professor Kalai intentionally avoided discussing these conversations. Therefore, the District Court rightly preferred Bahir’s opinion, as it provides a broader picture of the events, and it reveals that Madar acted with intent to influence the price.

34.As for Mardar’s appeal as to the inducement and reporting offense, it was argued that his claim that he should not be convicted because he was not an officer of Melisron and was not responsible for its reports should be rejected. This is because in order to meet the elements of the offense it is sufficient that the offender caused the misleading reporting in his actions, as Madar indeed did, and whether he was an officer or was responsible for the reports is irrelevant (even if the Respondent disputes the claim that Madar was not an officer in Melisron at the relevant time, and on this in Melisron’s appeal, below).

CrimA 1899/14 – Ofer Investments and Ofer Development Appeal – The Verdict

The Appellants’ Arguments – Ofer Investments and Ofer Development – The Verdict

35.This appeal was filed by Ofer Investments and Ofer Development against their conviction by the District Court for the charges detailed in the indictment. It was claimed that the District Court erred by viewing the two companies as one and convicting both of the charges in the indictment, while, at most, there was room to only convict Ofer Development, which in reality made the purchase of the series D bonds. In this context, it was argued that the fact that Ofer Development made the purchase, and not Ofer Investments, was based on Ofer Development’s legitimate tax considerations, rather than an artificial transaction in a manner that warrants “joining” the two companies for the purpose of a conviction. In effect, the court performed a sort of “lifting of the veil” between the two companies where there was no need to do so. It was also maintained that insufficient weight was given to the fact that Levi, CEO of Ofer Investments, was acquitted from the charges, which, too, should support Ofer Investments’ acquittal.

36.It was also argued that even had the decision to invest in Melisron – a decision which is not disputed to have had legitimate financial purposes – had been made by Ofer Investments, then in the four relevant trade days, in which Madar decided – according to the District Court’s finding – to influence the price with prohibited intentions, the trade took place with Ofer Development rather than Ofer Investments. At this point, Ofer Investments no longer served as a relevant party to the decision to invest in Melisron. It was also argued in this context that policy considerations lead to a conclusion that Ofer Investments should not be convicted for the offenses committed, at most, by Ofer Development because this would constitute a conviction of a company because a “finance officer in a grandchild company got spontaneously carried away” (para 58 of the appeal).

37.As for the conviction of Ofer Development, it was argued that Madar’s investment in Melisron only caused Ofer Development damages, which result from purchasing bonds of large amounts and high price, when in contrast to the District Court’s finding, Ofer Development did not even enjoy Melisorn’s success as it is no more than a sister company to Ofer Development. Hence, the court should have applied the exception to the organ theory that when the organ acted against the best interest of the company, the company should not be found criminally liable for the organ’s actions. It was also argued that Ofer Development did not significantly profit from Madar’s investment and should be acquitted for this reason as well. Finally, it was claimed that there was no place for the lower court’s finding that Ofer Investments and Ofer Development were in a position to supervise Madar’s activity and prevent what had transpired, because this is a single failing that was hard to detect and was centered in the telephone conversations between Madar and Haelyon, and it could not be expected of other officers in the corporation to have to participate in such conversations and prevent what happened.

38.In the hearing before us, Ofer’s attorney also challenged Madar’s conviction and the District Court’s holding that the two purposes at the basis of the manipulation offense were of equal status. In this context, it was argued that as it is impossible to find that the fraudulent goal was the dominant of the two, the situation of a “tie” between the purposes does not allow for Madar’s criminal conviction, and thus neither does it allow for the companies’ convictions.

The Respondents’ Arguments – Ofer Investments and Ofer Development – The Verdict

39.The State argued that there is no basis for the appellants’ argument that the District Court “lifted the veil” between Ofer Investments and Ofer Development and relied on this to convict Ofer Investments. It is obvious from the verdict that the court examined the direct responsibility of each of the companies and convicted them on that basis. It was argued in this regard, that in contrast to the appellant’s argument, the activity described in the indictment was carried out by Madar in the course of his duties as an organ of the two companies, and not only of Ofer Development. Therefore, the District Court’s finding that the appellants operated as one was required in order to show that Madar acted as an organ of both companies when committing the offenses and not for “lifting of the veil,” as was argued. This finding by the District Court was built – so it was argued – upon solid foundations: Levi’s testimony that from an organizational perspective, the management of the Ofer Group views the group as a whole “as if there are no companies” (record of hearing dated December 27, 2012, p. 589, l. 13-22); the testimony of Ms. Yochi Yaakovi, Ofer Group’s treasurer, that Ofer Development had no independent investment policy, but that it relied on the group’s policy (record of hearing dated September 11, 2012, p. 121, l. 23-33), and more.

40.As for the argument regarding the exception for an activity that harms the company, it was argued that it must be rejected. At the basis of the offense of manipulation is a short term loss, which the manipulator is willing to absorb for future gains. As mentioned, this happened in our case as well. This occured when Ofer Development and Ofer Investments – which, according to the State and the findings of the District Court, should not be separated in this context – absorbed the short term loss caused to them by the purchase of the bonds at a high price, in order to produce profits for the Ofer Group in the long term when the value of Melisron’s bonds would rise, as eventually did in fact happen.

CrimA 99/14 – The State’s Appeal against Melisron’s Acquittal

The Appellant’s Claims – The Appeal against Melisron’s Acquittal

41.This appeal was filed by the State against Melisron’s acquittal of the charges against it. The State claimed that Madar was an organ of Melisron. It seems this is also reflected in the District Court’s sentence regarding Madar, where it was found that the latter ran Melisron’s financial matters and was an authorized signatory of it. As for the manipulation offense, it was argued that the District Court erred in finding that Madar did not commit the offense attributed to him within the course of this duties as an organ of Melisron, but in the course of his duties with Ofer Development and Ofer Investments only. This is from both an objective and a subjective examination of the circumstances. From the objective perspective, raising the value of the bonds by Madar served primarily Melisorn’s interests as it raised its financial worth. From the subjective perspective, Madar said in his statements and testimony that he acted to benefit Melisron, and he therefore committed the offenses within the course of his duty (record of hearing dated January 16, 2013, p. 732, where it was said: “I also had the goals of Melisron in mind”).

42.As for the reporting offense, it was argued that the Court erred in acquitting Melisron of these offenses. The court noted, as mentioned, that it was acquitting Melisron because Madar did not have powers that merit attributing his intent to Melisron, and because the appellant did not prove that any of Melisron’s employees knew of his intent. It was argued in this regard that Madar held a senior position in Melisron, and was even considered to be Levi’s – the CEO – right hand, and that additionally, he played an active role in issuing the bonds. Therefore, he must be seen as an organ for the purposes of the reporting offense. It was also noted that Mader indeed took an active part in Melisron’s reports and particularly those concerning the purchase activity at the heart of the indictment, which also supports his consideration as an organ in this respect. This is true also for the offense of including a misleading item in a prospectus – even according to the findings of the District Court, Madar knew that the shelf proposal report was incomplete, as it did not include the manipulation that he himself executed, and thus the court convicted him for this offense. Yet, as argued, for these very reasons Melisron should also be convicted, and the court’s finding that these offenses were not committed in the course of Madar’s duties as organ in the company is incorrect. It was also maintained that the fact that none of Melisorn’s employees knew of Madar’s activities is immaterial here because this is not a relevant requirement for a conviction under the organ theory. The District Court itself noted this when finding that Ofer Development and Ofer Investments should be convicted of the offenses for which they were indicted, even if it has not been proven that any of their employees were aware of Madar’s activities (para. 342 of the verdict).

The Respondent’s Arguments – Appeal against Melisron’s Acquittal

43.It was argued that Madar’s actions should not be viewed as actions taken as an organ of Melisron’s, but instead as actions taken in the course of his duties in Ofer Development and Ofer Investments. Thus, the District Court was correct in acquitting the Respondent. It was also argued that Madar was merely an external services provider, as part of this position at Ofer Investments, rather than an organ of Melisron, and that he was not named as a high officer in the prospectus at the relevant time (para. 13 of the main arguments). Additionally, even though the District Court found Madar was an authorized signatory, the Respondent emphasizes that he was an authorized signatory in Melisron’s accounts, but he never signed its financial reports, prospectuses or the shelf proposal report nor the immediate report mentioned in the indictment. Therefore, Madar should not have been viewed by the court as an organ of Melisron.

44.Alternatively, it was argued that even if Madar could have been seen as an organ of Melisron, in effect, the specific actions for which he was convicted were not executed in the course of his duties as an organ of Melisron, but – as the District Court noted – as an organ of Ofer Investments and Ofer Development. Thus, Melisron’s conviction will contradict the legal rationale at the basis of convictions under the organ theory – a conviction where the corporation could have supervised in advance and could have prevented the offense committed by the organ, yet, in this case, Melisron had no possibility of doing so.

Judgment: The Statutory Framework

The Manipulation Offense

45.The main issue at the core of the appeals is Madar’s conviction (and in turn Ofer Development and Ofer Investments’ convictions, but Meliseron’s acquittal) for the manipulation offense found in section 54(a)(2) of the Securities Law, which establishes as follows:

 

“(a) A person who [is convicted of doing] one of the following shall be punishable by imprisonment for a term of five years or to a fine in an amount five times the fine prescribed in section 61(a)(4) of the Penal Law… (2) Fraudulently influenced the fluctuation of the price of securities ….”.

 

The Legislature therefore found it appropriate to prohibit, in the form of a non exhaustive list, with a broad definition, artificial intervention in the stock market that has the potential to influence the price of the security. Professor Goshen discussed the rationale behind this criminal prohibition:

“Manipulation that takes place through prohibited intervention in the stock market’s pricing mechanism causes a distortion of the information produced in the trade itself (trade cycles, price fluctuations, etc.)… The sophisticated investor is particularly vulnerable to fraud and manipulation due to his reliance on information in making investment decisions… However, in effect, protecting the sophisticated investors, who ensure the efficiency of the stock market, indirectly protects unsophisticated investors as well. In an efficient market, each security is traded at its correct value, which allows the unsophisticated investor to trade in securities without fear as to whether their price is distorted.” (Zohar Goshen, Fraud and Manipulation in Securities: Non Identical Twins, Mishapatim 30, 591, 599-600 (2000) (hereinafter: Goshen).

To this we can add a moral tone, beyond the efficacy component – the voice of decency that should be expected to exist, not just in terms of “person to person – a person” (as coined by President Barak in LAC 6339/97, Rocker v. Salomon, IsrSC 55(1) 199, 279 (1999)), but also in light of the inherent sophistication involved with securities and working with them.

The Offense of Manipulation – The Result Element

46.The elements of the offense, as mentioned, are that the person committing it (1) influenced the fluctuation of the price, and (2) did so fraudulently. The question is whether this is a result based offense, meaning that in order to convict the defendant for having committed the offense, it is necessary to show that the security’s price was actually changed, or whether this is only a conduct based offense. Although the issue does not have to be determined here, because as noted above, the District Court found that the security was indeed influenced as a result of Madar’s actions and this point is no longer in dispute between the parties, I find it fitting to briefly address this issue. The first precedent in this regard, as set by this Court in CrimA 8573/96, Mercado v. The State of Israel, IsrSC 51(5) 481, 517 (1999) (hereinafter: “the Mercado Case”), is that the offense is a result offense. This, primarily on the basis of the language of section 54(a)(2), which requires, as one of the elements of the offense – “influenced.” That is, an actual influence on the price is required and a mere attempt is insufficient (p. 517 of the opinion). In CrimA 1027/94, Zilberman v. The State of Israel, IsrSC 53(4) 502 (1999) (hereinafter: “the Zilberman Case”), President Barak left this issue for future consideration, yet still noted that in order to prove the result element, to the extent it is necessary, “the existence of influence is sufficient, even if it is not extreme but as long as it is not negligible.”

47.Various positions can be found in the professional literature. For example, Professor Z. Goshen believes that “searching for actual influence of the price’s fluctuation is pointless” because even if actual influence has not been proven, the mere attempt to influence the price still causes the harm which is reflected in the investors’ need to guard themselves against manipulative trade orders. This self protection itself carries costs – costs that may harm, in and of themselves, the stock market’s efficiency, and therefore an awareness requirement should suffice for a conviction of this offense (Goshen, p. 634.) Scholar Assaf Ekstein expresses a similar position (Assaf Ekstein, Mixed Goals in the Offense of Securities Manipulation, 16 277, 292 (2004) (hereinafter “Ekstein”)). Ekstein also refers to the Yadin Commission and the Gabai Commission, which were formed in order to examine different issues in the Israeli stock market and respectively found, in terms of the manipulation offense, that “it is immaterial whether the action caused damage or not” and that “it is immaterial whether the outcome that the person conducting the transaction intended to achieve was reached or was not reached.” (Report of The Commission for Issuing and Trading Securities, para. 208 (1963) (the Yadin Commission); Report of The Commission for Proposal of Legislation in the Field of the Stock Market, para. 52 (1985) (the Gabai Commission); Ekstein, p. 292).

48.Professor O. Yadlin holds a different position. In his opinion, section 54(a)(2) of the Law requires actual influence on the price of the security, because in the absence of influence, no damage was caused – neither to the market as a whole nor to those trading in it. This is contrary to section 54(a)(1), which, as mentioned, establishes the inducement offense and does not require existence of actual influence, because even in its absence damage might still be caused to a concrete trader who purchased a security based on misleading information and thereby entered into a transaction at a loss (O. Yadlin, Fraud in the Market – The Limits of Professional Responsibility for Misrepresentations in the Secondary Market, , 249, 270 (1997) (hereinafter: “Yadlin”). Judge (now Deputy President) Dr. O. Mudrik holds a similar position (O. Mudrik “‘Ramping’ Securities as an Offense – “Shall I Win… and in the Pocket the Rocks of Deceit”” 509, 536-539 (2001, Eli Lederman ed.) (hereinafter: “Mudrik”). It should be noted that Dr. Mudrik believes that the mens rea element of the offense, which we will get to below, is not of intent but merely of awareness. This may influence, it seems, his desire to restrict the scope of the offense through raising a stricter actus reus requirement, as well as a requirement for actual influence rather than conduct alone (Mudrik 540-45).

49.As for me, I believe, and noted, that this need not be decided now, and even had the requirement for an outcome been significantly diminished in the Zilberman case, it is highly doubtful whether it is appropriate from a policy perspective. The purpose of the Securities Law, from its inception, is to provide protection to investors – whether they are sophisticated investors who invest out of knowledge or unsophisticated investors who do not utilize external information (Goshen, 594). Both need to know that when they come to invest, the price of the security reflects, to the greatest extent possible, its value, and that artificial efforts to change it have not been made. When this certainty does not exist, serious investors must invest time and money to acquire relevant information to ensure that the estimate of the security is “clean”, as much as possible, of any considerations that are external to the market. The words of President Barak in CrimA 5052/95, Vaknin v. The State of Israel, IsrSC 50(2) 642, 655 (hereinafter: “the Vaknin Case”) are fitting here as well:

“The price of a security reflects a balance between the actual supply and the actual demand, which stems from the investor’s forecast regarding the future profit from that investment. This ensures the public’s trust in the stock market and the economic information it represents. To be sure, there is no guarantee of success. These forecasts may fail. But a market mechanism, based on economic estimations, was established in order to determine the price of the security. Against this utilitarian approach we must examine the different situations which, arguably, constitute fraudulent influence on fluctuations of the securities’ price.”

See also the Mercado case, p. 519; Zilberman, 515; LCrimA 2184/96, Haruvi v. The State of Israel, IsrSC 54(2) 114, 121-122 (1998) (hereinafter: “the Haruvi Case”); Gurary v. Winehouse, 190 F.3d 37, 45 (2d Cir. 1999).

50.Therefore, even in the absence of direct influence on the fluctuations of the securities’ price, it is impossible, in my view, to say that no harm was caused to the stock market and to the investing public, by the very fraudulent activity designed to influence the price of the security, in a manner that does not justify a conviction for the offense. Indeed, even Professor Yadlin himself, who, as mentioned, believes that the offense should be regarded as requiring actual influence, noted that the “mere potential of the existence of misleading information causes investors to waste resources on verifying the information” (Yadlin, p. 269, emphasis added). As for the concern brought up by Dr. Mudrik regarding the overreach of the offense over seemingly legitimate activity, I believe that this concern must be relieved within the mens rea element rather than the actus reus element, and I will discuss this further below. I will once more add the moral component and decency, which in my eyes are a necessary foundation of the stock market that the investor can put trust and faith in. This factor, in my humble opinion, cannot be overstated.

51.Nonetheless, I am afraid that the language of section 54(a)(2) of the Law does not permit leaving out the result element completely. As noted in the Mercado case, the use of the verb “influenced” requires the existence of influence, and this is evident particularly when comparing the language of this section to section 54(a)(1) which uses the term “induced or attempted to induce” (emphasis added.). This demonstrates that the Legislature was aware, with regard to the fraud offense (including inducement and manipulation,), of the possibility to include attempt in the elements of the offense. As for the inducement offense the Legislature elected to include the attempt as an element of the offense as well, whereas in the offense of manipulation – it opted not to do so. Therefore, without the proper legislative amendment, I believe that section 54(a)(2) encompasses a requirement for actual influence, despite the fact that in the Zilberman case, as discussed, “the existence of influence is sufficient, even if it is not extreme, as long as it is not negligible.” I believe influence must be interpreted broadly, to include indirect influence, which could fall under the definition of “pulling strings.”

52.Recall that today, after the enactment of section 34D of the Penal Law, 5737 - 1977 (hereinafter: the Penal Law), which mandates that “any statue enactment that applies to the primary commission of a completed offense also applies to an attempt”. The significance of the result element of this offense is not as great as it once was (even if this may have some implication, for example, for the difference in social stigma on those convicted of an attempt to commit an offense and those convicted of committing the complete offense, see Mudrik, p. 539-40). Therefore, should one be convicted, under the current version of the Law, of attempting to commit a manipulation, the court may consider, in the sentencing phase, the importance of guarding the value protected by this offense, whether it was an attempt to influence or actual influence, and then decide on the sentence accordingly.

The Manipulation Offense – The Intent Element

53.Another question is what is the required mens rea for the manipulation offense. As opposed to the result element, which is explicitly included in the Law, section 54(a)(2) does not explicitly state the mens rea required. This is different from section 54(a)(1) which explicitly establishes a mens rea of negligence (“knew or should have known”). In the Vaknin case, President Barak held that “in order to convict the defendant, the court must find that the defendant committed the offense ‘with the intention to achieve price fluctuation.’ The intent is the thing indicating whether the defendant’s action was done in ‘fraudulent ways’, as the language of the section states, or whether it was merely a legitimate activity with real economic meaning” (Id., p. 656; emphasis added). Later, in the Mercado case, Justice Goldberg expanded on this matter and mentioned that because section 54(a)(2) is silent on the issue, a criminal mindset of recklessness is seemingly sufficient. However, as for the offense of manipulation by means of participation in trade, as in our case, Justice Goldberg noted, “the intent to artificially influence the price is the thing that constitutes the offense. In such cases, the intent creates the distinction between permitted activity and prohibited activity” (Mercado, 524-25).

54.Accordingly, it seems that the approach that the manipulation offense requires a mens rea of intent to achieve fluctuations in the price has since settled in the case law of different levels of the courts. See for example Haruvi case, p. 123-124; CrimC (Mag. Tel Aviv) 7019/00, The State of Israel v. Mualem, para. 99, 102 (2002); CrimC (Mag. Tel Aviv) 4131/05 The State of Israel v. Opmath Investments, para. 24 (April 15, 2008) and the appeal on the matter: CrimA (Dist. Tel Aviv) 70384/08 The State of Israel v. Opmath Investments, para. 24 (November 23, 2009); CrimC (Mag. Tel Aviv) 2617/04, The State of Israel v. Greenfield, under the heading “The Second Charge”, para. A (February 25, 2008) (hereinafter: “Greenfield – Mag. Case”) and the appeal in that same matter: CrimA (Dist. Tel Aviv) 70226/08, The State of Israel v. Greenfield, para. 44 (December 21, 2008) (hereinafter: “Greenfield – Dist. Case”).

55.It seems that even the scholarship is almost unanimous in its position that the mens rea required for the manipulation offense is a mens rea of intent, both in terms of interpreting the current law and in terms of the desirable legal policy. Thus, for instance, Goshen notes that “manipulation, in contrast (to the inducement offense – Rubinstein,) is based entirely on the mens rea of the trader – the intent to commit fraud. On the factual level alone, the trader’s conduct is identical to any other legitimate commercial activity” (Goshen, 602). Professor Yadlin voices a similar opinion (Omri Yadlin, Prohibited Manipulation – What Is It?, li Lederman, ed.), as well as the scholars Fischel and Ross:

“[T]here is no objective definition of manipulation. The only definition that makes any sense is subjective – it focuses entirely on the intent of the trader. Manipulative trades could be defined as profitable trades made with ‘bad’ intent…” (Daniel R. Fischel & David J. Ross, “Should the Law Prohibit ‘Manipulation’ in Financial Markets?” 105 Harv. L. Rev. 503, 510 (1991) (Emphasis added – Rubinstein).

Even Mudrik, who believes that the existing Law requires only a criminal mindset, noted that his conclusion causes “‘discomfort’ due to the attribution of criminal responsibility to those who influence the security’s price with ‘real activity’, without having ‘intent’ regarding this outcome” (Mudrik, p. 545).

56.Reviewing American law leads to a generally similar conclusion. Section 10(b) of the Securities Exchange Act of 1934 authorizes the United States Securities and Exchange Commission (The US SEC) to set regulations as to the use of financial tools that may cause manipulation, deception, or contrivance in securities. Accordingly, the Commission drafted Rule 10b-5 (17 CFR 240.10b-5) entitled “Employment of Manipulations and Deceptive Devices”, which reads as follows:

“It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,

(a)To employ any device, scheme, or artifice to defraud,

(b)To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or

(c)To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person in connection with the purchase or sale of any security” (17 CFR 240.10b-5).

In the matter of Ernst & Ernst v. Hochfeder, 42 U.S. 185 (1976) the United States Supreme Court held that the very use of the term “manipulation” reflects the existence of an intent requirement:

“Use of the word ‘manipulation’ is especially significant. It is and was virtually a term of art when used in connection with securities markets. It connotes intentional or willful conduct designed to deceive or defraud investors by controlling or artificially affecting the price of securities” (Id., p. 199).

In addition, in the matter of Santa Fe Indus. v. Green, 430 U.S. 462 (1977), the United States Supreme Court reiterated this rule and held that:

“The term [manipulation – Rubinstein] refers generally [494] to practices, such as sales, matched orders, or rigged prices, that are intended to mislead investors by artificially affecting market activity” (Id., p. 476.).

See also: Maxwell k. Multer “Open-Market Manipulation under SEC Rule 10b-5 and its Analogous: Inappropriate Distinctions, Judicial Disagreement and Case Student: Ferc’s Anti-Manipulation Rule” Securities Regulation Law Journal, 97, 97-98 (2011).

And indeed, it is clear to all that the term “manipulation” is generally, and certainly in the financial and government world, a negative term (in the world of medicine and natural sciences there may be an act of manipulation where the purpose is beneficial, but of course that is not what we are discussing). Influence by fraudulent means is a negative act of course; see the distinction between manipulation as “treating something with one’s hands” and that which means “using fraud or contrivance to achieve some advantage” (Even Shushan Dictionary for the 2000’s) (2007), under the entry “Manipulation”).

57.It seems that there is unanimity in the case law and scholarship regarding the requirement for intent in the manipulation offense. In effect, intent is inherent to the element “by fraudulent means” of section 54(a)(2), and in the words of Justice Goldberg: “The intent to artificially influence the price is what constitutes the offense” (Mercado, 523-24. Emphasis added). As discussed, it is possible that one’s investment influences the price, but this would be a side effect of a legitimate economic activity, and without that person intending to do so. In such a case, though one’s activity influenced the price, it is doubtful whether an injury warranting protection was caused to the stock market or the investing public, and so such a case does not fall under the offense of manipulation. However, when one’s activity was based on a fraudulent intent, and the activity did in fact influence the price, an actual harm has been caused to the market, and that harm is what the Law was designed to prevent. Indeed, this must be an actual intent, and the intent cannot be simply inferred from one’s awareness to do the act. In other words, the expectation doctrine cannot be applied to the offense of manipulation. We learn this, in my view, from the very import of the intent among the elements of the offense, because, as discussed below, but for the intent, it is highly doubtful whether any activity could be found to have been done “by fraudulent means” as the provision requires. I will simply add: there is no fraud without intent. Whoever presents something to another without any intent to harm, but in the regular course of business and in good faith, will not be trapped in the net of this offense.

58.In this spirit, as a rule, the existence of an intent to commit a particular act also indicates an additional, abstract, harm to the protected value at the basis of the offense, which, in the long term, could also erode the status of that value (see Yitzhak Kogler, 294-95 (1997)). It seems that these things are especially true with regard to the manipulation offense – when one acts in order to influence the price. Then, aside from the actual harm caused as a result of the influence to the price of the specific security, there is conceptual harm caused to the value at the basis of the manipulation offense, that is, protecting the stock market as a whole and ensuring that the prices of securities reflect, as much as possible, their true economic worth. As I explain below, in my opinion, these things apply even when the fraudulent intent does not stand alone.

59.As for the existence of a motive – as the District Court noted, in order to convict the defendant for the offense of manipulation it is not necessary to show that the defendant had a motive to commit the offense, but insofar as such a motive existed, it is possible that the motive would serve as circumstantial evidence in proving the offense, with emphasis on the intent element (Greenfield – Dist. Case, para. 46; see also Bryant v. Avado Brands Inc. 187 F.3d 1271, 1286 (1999); Carley Capital Group v. Deloitte & Touche, 27 F. Supp.2d 1324, 1339 (1998)).

60.We learn from the above, on the one hand, about the importance of the intent requirement to meet the elements of the offense and, on the other hand, about the importance of a conviction for manipulation in those cases where there was indeed intent. Still, a separate question is whether, for the purposes of a conviction of manipulation, the prosecution must prove that the defendant’s entire intent was to influence the price, or whether the mere existence of the fraudulent intent is sufficient, even if it was coupled with a sincere intent to make a legitimate financial investment. On this in the next part.

The Manipulation Offense – Mixed Purposes

61.We discussed the importance of the intent requirement to the offense of manipulation. There can be no dispute then that when “the appellants’ entire intent was to cause the increase in the stock’s price” (Haruvi case, President Barak, para. 7. Emphasis added); or when “their entire intent was but to fraudulently cause the price to increase” (Vaknin case, President Barak, p. 646. Emphasis added); or when our case falls within “the deliberate intervention in the trade of the stock, whose entire purpose is to influence the price” (CrimA 5383/97, Tempo Beer Industries Inc. v. The State of Israel, IsrSC 54(1) 557, 569, President Barak (2000) (hereinafter: “the Tempo Case”) Emphasis added); and in other words – when the defendant’s entire intent in the manipulation was to influence the fluctuations of securities’ prices by fraudulent means, then the intent requirement has clearly been met.

Yet what is the law when we are concerned with mixed intents or mixed purposes – that is, when the defendant’s fraudulent purpose, to influence the price by fraudulent means, was coupled with the sincere intent of a legitimate financial investment. First, is it at all possible to convict such a defendant of the manipulation offense where mixed purposes motivated his actions? And if the answer for this is in the affirmative, we must ask – what is the necessary proportion required between the defendant’s different intents in order to convict him of the offense? In other words, is any fraudulent intent that is added to the legitimate financial intent sufficient, or is it necessary to show that it is a primary or fundamental intent, and the stronger the evidence is, that but for the legitimate purpose the defendant would not have committed the offense, then the defendant must be acquitted?

62.This is what the District Court held in this case regarding this issue (para. 118):

“I believe that in the instance of a ‘true transaction’ (an action that is seemingly permitted but the purpose behind that action makes it prohibited), in order to achieve the purpose underlying the prohibition in section 54(a)(2) of the Securities Law, we must examine whether the influence on the price was merely a byproduct of the trade activity, or whether the defendant acted in a manner intended to influence the price. In other words, even if the defendant had a legitimate financial purpose, as long as he acted (in addition or for the proposes of this legitimate purpose) in order to influence the price – he should be convicted” (Emphasis in the original – Rubinstein).

As I will show below, my position is as that of the lower court, and even more strongly so. To me, the existence of the intent to influence the price is, on the criminal level, the dominant factor in the decision.

63.Indeed, it seems that this issue of mixed purposes has yet to warrant this Court’s attention. At the very least, not explicitly. Madar argues that this Court’s various decisions on the issue of manipulation – including the decisions in the Vaknin, Haruvi, and Tempo cases – indicate that a conviction of this offense is appropriate only when the defendant’s entire intent was to influence the price. In other words, that the positive indicates the negative, and where mixed purposes are at issue, and it is impossible to find that the defendant’s intent was entirely fraudulent, the defendant should not be convicted (para. 58 of the Notice of Appeal).

64.I am afraid that I cannot accept this reading of the case law. The fact that it was found in the Vaknin, Haruvi and Tempo cases that the appellants only intent was to influence the price, and they were thus convicted, does not mean that under different circumstances where the fraudulent intent was coupled with a legitimate intent, the court should not convict the defendant of manipulation. Naturally, the court does not engage theoretical issues and does not determine legal issues that are unnecessary in a concrete matter. It is therefore clear that in the circumstances of the above cases the court was not called upon to consider this situation of mixed purposes, but rather to only consider what was before it – that is, the sole purpose of influencing the price. But, this does not at all indicate that according to these cases when there are mixed purposes the defendant should be completely acquitted of the manipulation offense.

65.The District and Magistrates Courts adjudicated several cases where a defendant was found to have acted with mixed purposes. A Review of the different opinions reveal that the dominant approach is that in the case of mixed purposes, the defendant should be convicted of manipulation when the primary purpose was to influence the price, while the legitimate financial purpose was only secondary. Thus, for instance, in CrimC (Mag. Tel Aviv) 1349/98, The State of Israel v. Orasis (October 31, 2004), the court adjudicated the case of a person indicted for manipulation and it was found he acted with mixed purposes, and the purpose of “supporting the price was the determinative one” (para. 145 to Judge Dr. Binyamini). In that case, the court convicted the defendant of manipulation, noting the following:

“There certainly may be a case where an investor believes in a stock and is interested in purchasing additional stock, but decides to do this on a certain trade day in a manner that would raise the price of the stock, or would prevent its fall, while creating a misrepresentation to the reasonable investor. It is similarly possible that a person conducting activity in the stock exchange honestly wishes to sell his stock, but does so in a fraudulent manner that is designed to influence the price in order to make the sale at a price desirable to him, rather than at the market price. Such a case also falls within section 54(a)(2) of the Law” (para. 343).

66.Similarly, in CrimC (Mag. Tel Aviv) 8044/99, The State of Israel v. Tzafrir Engineers (January 3, 2005), the court convicted the defendant of manipulation under circumstances of mixed purposes where the fraudulent purpose was a primary purpose (para. 159-161 to Judge Dr. Binyamini’s verdict). In the Greenfiled – Mag. case, the court held that “in order to convict of the offense it must be shown that the dominant primary intent was impermissible” (para. 9 of then Deputy President Hadasi-Herman’s opinion, emphasis added – Rubinstein). Hence, when it was found that the fraudulent intent was secondary and the defendant’s primary intent was a legitimate financial purpose, the court acquitted the defendant. The appellate judges embraced this approach and held that “we are faced with a clear case of ‘mixed purposes,’ and it is extremely difficult to determine which was the defendants’ primary purpose and which was their secondary purpose” (Greenfield – Dist. Case, para. 76 of the opinion of President Goren and Judges Dr. Binyamini and Ronen).

67.Examples of certain exceptions for the main purpose test can be seen in the next two cases. In CrimC (Mag. Tel Aviv) 2587/06, The State of Israel v. Kabiri (March 15, 2008) the court held that “it should be examined whether participation in trade, as mentioned there – was merely an artificial activity… whose one and only purpose is to influence the price” (para. 26 of Judge Mor’s verdict, emphasis in original – Rubinstein). Since under the circumstances of the specific case it was found that “there is no activity before us whose purpose – as mentioned there – was exclusively to cause the price to fluctuate” (emphasis added – Rubinstein), the defendant was acquitted of manipulation. On the other hand, in CrimA (Dist. Tel Aviv) 70384/08, The State of Israel v. Opmath (November 23, 2009) (hereinafter: “the Opmath Case”) the court noted in obiter dictum that in order to be convicted of the manipulation offense, it must be shown that the defendant’s fraudulent intent was an actual intent, in addition to the legitimate financial purpose, and not necessarily the primary intent to which the financial purpose is merely secondary.

68.In his article, scholar Ekstein proposes the “fundamentality test” or the “but for test”. According to this test, “if but for the permissible/financial/business purpose one would not have conducted the security transaction under the given circumstances, then the offense of manipulation does not form” (Ekstein, p. 333). Ekstein adds that this is a one directional test: “where the defense can show that but for the permissible purpose the defendant would not have acted, he should be acquitted. However, where the prosecution can show that but for the fraudulent purpose the defendant would not have acted, it is not necessary for the defendant to be convicted” (there, p. 334).

69.Both parties before us refer to the American law to support their arguments, however, it seems that established jurisprudence regarding mixed purposes has yet to be developed there, and to the extent the issue was discussed it appears to have been raised mainly in obiter dicta. In US v. Mulheren, 938 F.2d 364, Court of Appeals, 2^nd Circuit (1991) (hereinafter: “Mulheren Case”) the court did in fact find that in order to convict a person of manipulation it must be shown that his single intent was fraudulent, however, as we will elaborate below, this was said beyond the necessary scope of the circumstances of the case at hand there (Id., 396). In SEC v. Masri, 523 F. Supp. 2d 361 (2007) (hereinafter: “Masri Case”), the court established (in a civil- administrative matter) a variation of the “but for” test (id. 372-73). Yet there, too, reviewing the circumstances of the matter reveals that there were no direct evidence to show a primary fraudulent intent (id. at footnote 19). However in SEC v. Kwak, F. Sec. L. Rep. 579 (2009) (hereinafter: “Kwak Case”), the court rejected (again, in a civil administrative manner) the defendants’ attempt to rely on the “but for” test established in the Masri case, and held that as long as the defendant’s fraudulent intent impacted the way he ultimately made the investment, the “but for” test loses its value (id., footnote 10). Thus, in my view, we cannot infer from American law any clear theory on this issue. I will add, analogously, that in Jewish law we find the idiom “this and this causes,” and according to the definition in the Talmudic Encyclopedia under this term (vol. 11, 70 1936/7) it means “a thing that has two causes to its being, or raising, one of permission and one of prohibition,” with the review of the different relevant laws on the matter.

70.In my opinion, neither the main purpose test nor the “but for” test reviewed above fit the manipulation offense. In my eyes, and clearly so, there is no real significance to the question of whether the activity also had a legitimate purpose. The tainting of the act by the fraudulent purpose fulfills the dominant element of influence by fraudulent means. When one fraudulently influences the price, and does so in order to influence the price by fraudulent means, he compromises the proper operation of the stock market; he distorts the information it represents, in order to produce an artificial profit, while harming the protection of various types of investors. “When there is ‘intent to harm’ there is an additional injury that does not exist in a situation of ‘recklessness’” (Kogler, 292); and in the manipulation offense, when a defendant acts with the purpose of influencing the price, he causes both an actual harm, as a result of obstructing the pricing of the concrete security, and a harm to the protected value at the basis of the manipulation offense, which is protecting the proper operation of the stock market. These harms are caused even when there is a legitimate financial purpose that accompanies the fraudulent intent, and even where, but for the legitimate financial purpose the defendant would not have made the investment.

71.As a result, I believe that where the defendant had intent to influence the price by fraudulent means, even if such intent was coupled with a legitimate financial purpose, we must find that the intent requirement had been met for purposes of the manipulation offense. This, as discussed, without necessarily finding that the fraudulent intent was primary whereas the legitimate financial intent was secondary to it. And note, so that no doubt remains, that where no intent to influence the price has been shown, but ultimately, as a result of legitimate financial activity the defendant influenced the price of the security, this will be insufficient for a conviction of the manipulation offense. In other words, I will again add the moral dimension – the fraudulent intent pollutes the activity, and this pollution is highly significant when examining whether the activity was proper.

The Manipulation Offense – From the General to the Particular

72.With regard to the result element: as discussed, the District Court was presented with three financial opinions which addressed this question – one by Mr. Yossi Bahir, on behalf of the State; a second by Professor Avner Kalai, on behalf of Madar; and a third by Professor Roni Ofer, on behalf of Haelyon. Even as early as when the District Court’s verdict was handed down, it seemed that there was no real dispute between the parties that as a result of the purchases Ofer Development made, the price of series D bonds increased (paras. 211 and 318 of the verdict); and we will recall that at the beginning of the first purchasing day, November 26, 2009, the price of series D bonds stood at 115.72 Agorot, while at the end of the last purchasing day, December 1, 2009, the price was 116.99 Agorot (see para. 143.2 of Bahir’s opinion). Madar does not challenge these facts before us, either. Thus, there is no dispute that the result element is met in our case.

73.As mentioned, Madar’s appeal challenges, primarily, the intent element. The District Court held that as Levi was acquitted from the charges against him, Madar could not be convicted of the influence plans as is. In other words, it could not be said that it was proven beyond a reasonable doubt that Madar intended to influence the price of the bonds “in the days, weeks or months” prior to the offering (para. 319 of the verdict). However, the District Court found that from the beginning of the trade days, Madar had a dual intent – a legitimate financial intent and a fraudulent intent to support the price of the bonds (para. 320 of the verdict). It seems that the State does not dispute, at least not at this stage, that at the basis of Madar’s activity was also a legitimate financial purpose. The dispute revolves, then, around the question whether, in addition to the legitimate financial purpose, Madar also had, as found by the District Court, a fraudulent intent, and if so – does the fact that there were mixed purposes mean that he should not be convicted of the offense of manipulation.

74.Madar maintains that the evidence relied upon by the District Court in the verdict demonstrates that his desire to influence the price was incidental to his legitimate decision to invest in Melisron’s bonds, and that the evidence – including the financial opinions – cannot lead to a conclusion that any of his actions were taken in a way that is inconsistent with the intent to make a legitimate investment. In addition, he claims that the court convicted him based on “things of the heart”, that is, on Madar’s alleged manipulative intent as inferred from his conversations with Haelyon prior to the offering of the series D bonds, but without the manipulative intent having any actual manifestation in his actions. In other words, the element of “by fraudulent means” required for a conviction of manipulation was not proven.

75.I believe that the evidence paints a different picture. The primary evidence used to prove Madar’s guilt in the District Court was a series of conversations between Madar and Haelyon, beginning on November 26, 2009 and ending on December 1, 2009. These conversations were recorded by the managers of the offering (recall that the series D bonds were offered on December 2, 2009). For example, in a conversation held between Madar and Haelyon on November 26, 2009 (Prosecution exhibit 8-1) the following was said (emphasis added – Rubinstein):

“Madar: Ok, listen, we can actually start… uh… to make purchases of Melisron’s series D bonds…

…

Ok, you know… like what’s called “market making”?

Haelyon: Yes, yes.

Madar: Collect exactly… start collecting.

Haelyon: Without going wild.

Madar: What?

Haelyon: Without going wild. Slowly.

Madar: Exactly. So we’ll have… the right gains as they say

Haelyon: I understand. For how much money?

Madar: Look, you have 20 million there. I need four trade days.

Haelyon: Alright.

Madar: You have no limit. And even if…even if there won’t be enough, so we’re talking, it’s not like…

Haelyon: Sure, sure.

…

Madar: But don’t go through it all today. You know I need till next week.

Haelyon: Everything slowly.

Madar: Exactly.

Haelyon: I understand.”

And later that day (Prosecution exhibit 8-3):

“Haelyon: Right now there’s not much need… no need to fire a lot of the ammunition.

Madar: Yes. Exactly, exactly.  

Haelyon: That’s what I’m doing. You see, not running, not…

Madar: That’s excellent for me. Excellent for me.

Haelyon: You see that I’m standing, if they throw I stand further below, they throw… no, not taking risks, not trying to… the market is going down but there’s a buyer here… that’s what… there are buyers.

Madar: That’s not good because it calls attention, you see? They go in, see the turnovers, see this… this, this is perfectly all right.”

And a conversation dated November 30, 2009 (Prosecution exhibit 8-10) reveals the following:

“Haelyon: We bought 5.3 million.

Madar: What a crazy turnover.

Haelyon: Yeah, so I don’t know what that is (chuckles).

Madar: Crazy turnover!

Haelyon: Yeah, yeah. There are buyers and soon there will be some more buyers, God willing.

Madar: Yeah, I see everything increasing or going our way.

…

All right. Give it a nice push toward the end.

Haelyon: Definitely.”

76.Things become crystal clear in conversations between Madar and Haelyon on November 1, 2009, the day before the offering, where Madar sets for Haelyon a target price for the bonds. First, the following (Prosecution exhibit 8-12):

“Haelyon: … Wait a minute, I’ll tell you how much we bought. Ok. Let’s say from the 20^th there wasn’t… we bought, we bought 2.2 million, 2.2 million and 8.6 let’s say.

Madar: 13 total.

Haelyon: 13.

Madar: Ok, good, so… uh… keep going. Try to get to even a price of 117.

Haelyon: All right. So I have about 13… About 6 million more. Right?

Madar: If you see you’re falling apart and that, tell me and I’ll get more money.

Haelyon: Good.”

And later that day (Prosecution exhibit 8-14):

“Madar: You got another 10 million.

Haelyon: All right.

Madar: All right?! Ohh… Try to get to 117 with it.

Haelyon: I’ll do everything.”

And more from that day (Prosecution exhibit 8-16):

Madar: I’m starting a new job with you, and new job, and we will continue it tomorrow too, tomorrow you’ll get more money.

Haelyon: No, not all right. So today I’m giving it my all… (laughing)

Madar: You’re giving it all you’ve got on series D to complete the mission – you need to get to 117.

Haelyon: I’ll try my best. 

Madar: Try your best, exactly. Now beyond this you won’t use all the ammunition.”

77.During his interrogations at the Israeli Securities Authority, Madar confirmed that he instructed Haelyon to achieve a price of 117 (see his interrogation dated April 27, 2010, p. 18, l. 30-31, p. 19, l. 28-29 (Prosecution exhibit 2-1); his interrogation dated April 28, 2010, p. 2, l. 28-30 (Prosecution exhibit 2-2)). In his testimony in court he changed his version and said this was a maximum price (a “limit” order). In other words, he intended for Haelyon to make the purchases of the bonds as long as their price does not go over 117, rather than in order to achieve a price of 117 (p. 732 of the record hearing, l. 16-25.) In my opinion, the courts was correct in preferring Madar’s version in his interrogation rather than the one he offered on the witness stand – his version on the stand is a testimony that is inconsistent with the content of the conversations themselves and the manner in which Madar gave the buy orders, and it is in fact contradictory to what he said at the Securities Authority: when Madar was asked, explicitly, whether this was a “limit” order, because Levi had claimed in his interrogation that what they meant was “buy up to the 117 limit,” he replied – “I don’t remember such a thing” and later – “beyond 117 was never discussed, so it’s irrelevant to try to get beyond 117…” (his interrogation dated April 28, 2010, p. 3, l. 16-30 (Prosecution exhibit 2-2.) Additionally, even on the stand, Madar noted that on the last day of trade he “had Melisron’s goals also in mind” (Record of hearing, p. 732, l. 31-32.)

78.Haelyon’s testimony sheds additional light on the above. Haelyon noted that on December 1, 2009 there was an explicit order to buy at a price of 117, and from the moment that order was given he did not try to purchase for less, as this was a “client’s order” (Record of hearing, p. 1174, l. 32 through p. 1175, l. 10.) When he was asked if it was unusual for a client to explicitly specify a price, he replied in the affirmative (Record of hearing, p. 1175, l. 30 through p. 1176, l. 1).

79.Madar disputes the way the District Court interpreted the financial opinions in this regard. He argues that both Bahir’s opinion and Kalai’s opinion reveal that the trade data in and of itself do not conclusively indicate fraudulent intent on Madar’s part. Additionally, he argues that the “further step” that Bahir took towards concluding that Madar had intended to act by fraudulent means, relies on the transcripts of the above conversations, which he received from the State. In this regard, it is argued that Bahir, as a financial expert, should have reached his conclusion solely on the basis of relevant financial information, and therefore no weight should be attributed to his opinion as to the conversations’ transcripts which point, primarily and at most, to “intentions of the heart” and are an insufficient basis for Madar’s conviction.

80.I cannot accept this argument. The role of an expert witness is to paint the court a fuller picture of the issue at hand within his expertise (Goren, 484 (11^th edition, 2013). For such purposes, the court may, when appropriate, consider the expert’s professional conclusion on the issue at hand in reliance on the relevant evidence (CA 1639/01, Ma’ayan Tzvi Kibbutz v. Krishov, para. 25 of (then) Justice Naor (2001)). Of course, this may not substitute the discretion of the presiding judge, who alone, is responsible to reach a judicial conclusion based on all the evidence and testimonies presented, including relevant opinions and expert testimonies (CrimA 1839/92, Ashkar v. The State of Israel, para. 4 (1994); HCJ 5227/97, David v. The Great Rabinical Court in Jerusalem, IsrSC 55(1) 453, Justice Kedmi’s opinion (1998)). The specific relevant evidence is part of the context that the witness must consider, in addition to general professional knowledge. After all – “for this it was created.”

81.In our case, from the outset, the financial opinions were brought in order to examine, inter alia, the purpose that motivated the purchase of series D bonds. Kalai found, based on the trade data alone, that “Ofer Development’s choice to purchase in the market and the characteristics of the purchases fit, financially speaking, the conduct of an investor aimed at an investment opportunity” (Defendant’s exhibit 45, para. 199.) In his initial opinion from March 2011 (Defendant’s exhibit 23,) before receiving the transcripts of the conversations between Madar and Haelyon, which were presented above, Bahir noted the following:

“It is possible to interpret the trading activities in two ways: One: this was a deliberate activity designed to raise the price to 117. The second: the broker was instructed to purchase bonds in a high quantity up to a price of 117… In light of this it is difficult to conclusively determine, based on the trade information alone, that the broker conducted deliberate activity in order to raise the price on this day…” (id. para. 2.4.4.4.; emphasis in the original – Rubinstein).

And later, in his opinion from March 2012 (Prosecution exhibit 9), after he received the transcripts of conversations from the four days prior to the issuing, Bahir found as follows:

“On December 1, 2009 an employee of Poalim Sahar (HeAlion – Rubinstein) was instructed by a representative of Ofer Development (Madar – Rubnistein) to bring the series D bonds to a target price of 117 Agorot at the stock exchange. Analysis of the methods of executing the trade orders for Ofer Development on December 1, 2009 reveals that indeed it exhibited signs of a (successful) attempt to raise the price of the bond to 117 Agorot” (Id., para. 163).

82.In my opinion, the distinction that Madar wishes to create between the way Bahir examined the pattern of investment and the way he examined the conversations’ transcripts, claiming that the latter was outside of Bahir’s expertise, is an artificial distinction. It is clear that both are important in order to understand the financial objective behind the investment, and it is not out of the scope of either party’s experts’ discretion. Therefore, the fact that Kalai did not address the transaction results in his opinion leads it to be considered – with all due respect – as lacking. Additionally, as the District Court noted, Bahir’s conclusion in relying on the transcripts, though it contributes to clarifying the matter, is not necessary – as Bahir mentioned, in his first opinion, that it is possible that Ofer’s activity was meant to influence the price and bring it to 117. This is joined by the conversations’ transcripts which show that Madar in fact instructed Haelyon to bring the price to 117. Given these, the court can also “put two and two together” and come to a similar conclusion that Madar intended to influence the price.

83.As for applying American law, first I will note that indeed in financial matters, and unlike obvious “local” issues, additional room exists to consider comparative law, since other countries also face similar problems and Israel did not “invent the wheel” (see LCrimA 779/06, Kital International Holdings and Development Inc. v. Shaul Maman, para 11 (2012)). And yet, as always, we must consider it carefully and mindfully. As noted at the time by President Barak:

“Comparative law is not about merely comparing the provisions of the law. Such comparison is of no importance. Comparative law is fruitful if a broad area is explored, on the basis of common premises. In the matter before us, comparison with other countries as to the arrangement of managing investment portfolios is not conclusive. Indeed, the complexity of the arrangements in each and every state, the difficulties and the flaws which it comes to address, and the differences in the stock market and financial systems in each of the states – all of these impede the intelligent and informed use of comparative law” (HCJ 1715/97, Office of Investment Managers in Israel v. The Minister of Finance, IsrSC 51(4) 367, 403 (1997)).

And in our case, American law sets different regulations (termed Regulation M) with regard to the intervention in the offering of a new security, in order to prevent potential future manipulation, in instances which have inherent potential for dangerous intervention in the market. In such cases, the state is not required to prove the existence of fraudulent intent, and thus the question of mixed purposes does not arise. The preamble reads as follows:

Rather than addressing manipulation after the fact, Regulation M seeds to prevent it by generally precluding certain persons from engaging in specified market activities. Also, unlike the more general anti-manipulation provisions, Regulation M does not require the Commission to prove in an enforcement action that distribution participants have a manipulative intent or purpose” (Amendments to Regulation M: Anti-Manipulation Rules Concerning Securities offerings, available at:
http://www.sec.gov/rules/proposed/33-8511.htm#P42_7646)

Accordingly, Regulation 17 CFR 242.101 establishes:

“Unlawful Activity. In connection with a distribution of securities, it shall be unlawful for a distribution participant or an affiliated purchaser of such a person, directly or indirectly, to bid for, purchase, or attempt to induce any person to bid for a purchase, a covered security during the applicable restricted period.”

Thus, it is possible, and of course without setting anything in stone, that according to the above rules, the incident before us, in which Madar decided, as he was serving as an officer of Ofer, to purchase Melisron’s series D bonds, while he himself took an active role in offering such bonds, should have been prohibited in advanced per se. As such, we would not even be called upon to consider the application of the manipulation offense in general, and the element of intent in particular. As discussed, we must take this into consideration when comparing the manipulation offense in American law to our case.

84.As for applying the American case law on mixed purposes – as mentioned, these do not reveal a coherent and consistent jurisprudence. In contrast to Madar’s position, I believe it is insufficient to support his argument that the fact that he had a legitimate financial purpose for purchasing the series D bonds lessens his fraudulent intent and he therefore must not be convicted of the offense of manipulation. Madar refers to the Mulheren case where it was held:

“[W]e will assume, without deciding on this appeal, that an investor may lawfully be convicted under Rule 10b-5 where the purpose of his transaction is solely to affect the price of a security.” (Id. p. 369, emphasis added – Rubinstein).

Accordingly, once it was not found there that the appellant’s sole purpose was to influence the price, it was decided to acquit him. However, reviewing the opinions show that ultimately, the court found that it was not at all proven that he acted by fraudulent means to influence the price (id., 370-72). Thus, the court’s holding with regard to the sole intent requirement was merely theoretical, and should be weighed accordingly. Additionally, it is interesting to note that the opinion also includes the following:

“Clearly, this case would be much less troubling had Boesky (the investor – Rubinstein) said ‘I’d like to bring it up to 45’ or, perhaps, even ‘I’d like to see it trading at 45.’ But to hand a conviction on the threadbare phrase ‘it would be great if it traded at 45,’ particularly when the government does not suggest that the words were some sort of sinister code, defies reason and a sense of fair play. Any doubt about this is dispelled by the remaining evidence at trial” (id., 370)”.

And recall that in our case, Madar explicitly told Haelyon “try to bring it to 117” (Prosecution exhibit 8-14) and “you should bring it to 117” (Prosecution exhibit 8-16) and not – as in the American example – “it would be great if it traded at 117.” Therefore, I believe that if anything is to be inferred from that case to ours, it is the opposite conclusion that Madar wishes us to make.

85.In the Masri case, the court developed a certain variation of the “but for” test discussed above, and held that in order to prove the intent element, the state must show that but for the fraudulent intent, the defendant would not have taken the relevant actions (id., 372-73). Yet, in that same case, it was held that, under the circumstances, there was no direct evidence pointing to the defendants’ intent to artificially influence the price, and therefore it is unclear how the court applied the test under the circumstances relevant there (id., fn 19). As discussed, this significantly differs from our matter, where Madar’s intent to influence the price is learned directly from what he said to Haelyon before the offering. Hence, I believe, that this decision too can lead to no conclusive conclusions in our matter.

86.On the other hand, in the Kwak case, the court rejected the defendants’ attempt to rely on the “but for” test established in the Masri case. It was held, inter alia, that the “but for” test loses its importance if it has been factually found that the defendant’s fraudulent intent altered the way he intended to make the investment, even if it was motivated by legitimate financial purposes (there, fn. 10). In any event, it was held that while the state proved that the defendants had fraudulent intent, it was sufficient to find them culpable for manipulation. It seems that the circumstances of this case fit ours more than the previous cases, because – as opposed to the other cases presented – it was explicitly found that the defendants intended to execute a manipulation, even if such intent was coupled with a legitimate financial intent. Additionally, as in our case, the fraudulent intent influenced the means in which the legitimate financial purpose was executed – even if Madar had intended to make a legitimate financial investment, his conversations with Haelyon reveal that his fraudulent intent influenced the means by which the investment would take place – in four days alone, without “using all the ammunition” too early. Thus, in our case, and similar to the American law, the legitimate financial intent cannot mitigate the fact that Madar operated by fraudulent means to an extent, that he must not be convicted of the offense of manipulation.

87.Madar also challenges the court’s conclusions regarding his consultation with Ofer’s attorneys. Madar argues that this consultation indicates that he had no intention of influencing the price, as had he wished to do so, he would not have consulted the attorneys to make sure that his actions were lawful (para. 75 of the notice of appeal). Yet Madar emphasizes that he is not making a claim of reliance on attorney’s counsel, which may, in extreme cases, absolve the consulting party from criminal responsibility (para 34(19) of the Penal Law), but claims that this can indicate both his good faith and that he did not act with intent to influence. As for the District Court’s finding that Madar did not share relevant information with the attorneys, which indicates he lacked good faith, it was argued that the court erred in this finding since the attorneys – as experts on the matters – were the ones who should have raised the potential problems in circumstances such as ours, and to request information accordingly. Madar’s good faith is seen, as argued, by the mere fact that he brought the issue to them.

88.In my opinion, Madar’s consultation with the attorneys does not indicate his good faith, as argued. In an email sent by Ofer’s attorney to Levi and Madar on November 25, 2009, it was written: “The purpose of the report is to prepare the purchase of series D bonds (without concern for use of inside information) one trading day after publishing the information to the public (Prosecution exhibit 18). Another email from the same day sent to Levi, Madar and Yaacovi reveals that the consultation revolved around the way the offering report must be prepared (Prosecution exhibit 20). Madar did not argue, and certainly did not present any evidence to this effect, that he presented the attorneys with information that could have raised their suspicions that he intended to influence the price, and therefore, I do not think that this can indicate he acted in good faith. This is true even if we went as far as to say that he tried to “launder” his activity by acquiring the attorneys’ approval while they had only partial information.

89.Nevertheless, and with the warranted caution because we do not have full information regarding this matter and the Ofer attorneys are not a party in the proceedings before us, I will note that in my view, it should be internalized that these cases necessitate careful legal advice from the lawyers consulted. When the senior officers in each of the companies relevant to the transaction are the same people, and these companies are connected by ownership, there is a concern that they will take unlawful action, whether knowingly or not. This is despite the law’s requirement that each company act as a separate legal entity working toward its own profit, and thus there is supervision accordingly. And so, when it comes to the senior officers in each of the companies, there is a concern – and this is said, or course, without “generally” tainting anyone – that with the intention to benefit the conglomerate as a whole, they will act in ways that may harm one of the corporations or the investing public, and that in some cases, as in ours, this may amount to a criminal offense. The business sense motivates those heading financial corporations and their desire to achieve profits as expected, and they may from time to time fail and fall in traps that lawyers could have prevented, as “you shall not place an obstacle before the blind”. Therefore, the legal advice in these matters must be “active” and clarify the legal boundaries and the different nuances, by virtue of the corporate structure and the identities of the officers, even if the client did not explicitly reveal to the lawyers any wishes to execute acts that may amount to criminal offenses. I highly doubt that the client would come to the attorney and ask, for example: “I wish to manipulate the stock market, what is your legal opinion on the matter?” And still, the lawyer should convey to the client the legal complexity of the matter and the different nuances beforehand, so that the lawyer can be seen to properly serve the client.

90.Before concluding this part, and beyond the necessary scope, I will note that Madar’s motive in taking the fraudulent action was clear – to benefit Melisron, to which he provided financial services, as well as ultimately benefited Ofer Group, where Madar served as financial manager. Though Madar did not enjoy personal financial gains, benefiting the companies’ financial state would clearly have favorable consequences for Madar as the one  responsible for their financial management, and contribute to solidifying his status. In any event, this is said beyond the scope, as the evidence clearly points to Madar’s fraudulent intent, after being carried away and being overly eager in fulfilling his duties, that led him, regrettably, into the boundaries of criminal behavior and therefore there is no need to address the motive at the basis of his activity.

91.To conclude this part: the evidence reveals that when he came to purchase series D bonds, Madar acted out of mixed purposes. One purpose was a legitimate financial purpose to invest in the bonds to benefit Ofer Development. His second purpose – a clear fraudulent intent to influence the price and bring the price of the bond to 117 Agorot, as he did successfully. Therefore, Madar acted in order to influence the price, by fraudulent means, and the District Court properly convicted him for the offense of manipulation under section 54(a)(2) of the Law.

Offenses of Reporting and Inducement

92.First, I will comment that from the outset, Madar’s challenge to his conviction of the offenses of reporting and of inducement were presented at the end of his notice of appeal (paras. 94-95) and were not included in the main arguments. Substantively, it was claimed that should Madar’s appeal of the offense of manipulation be granted, his conviction of the other offenses would be voided. But, even if Madar’s appeal of the manipulation offense be rejected, his appeal of the offenses of inducement and reporting should be granted because the purchase of the bonds was done spontaneously, rather than in the course of Madar’s duties in Melisron, and in any event Madar was not responsible for Melisron’s reports, and thus must not be convicted of these offenses. At the hearing held before us, it was argued that the District Court erred with regard to the first reporting offense, as the court found Madar to have omitted a material detail from the report dated November 25, 2009, for which he was convicted of the first reporting offense. However, the court also found that Madar’s fraudulent intent materialized only the day after, on November 26. Therefore, there was no place to find that he omitted a material detail from the prospectus and for this reason too, there was no place to convict him for this offense.

93.I believe that these arguments by Madar should be rejected. As for the first reporting offense – the report with the intention to mislead according to section 53(a)(4) of the Law. Even if Madar’s argument that he was not an officer of Melisron during the relevant period should be accepted – and as I will detail below in discussing the State’s appeal against Melisron, in my opinion this argument should be rejected – this could not mitigate Madar’s responsibility in this regard. As this Court has held before:

“The provision of section 53(a)(4), according to its language, does not limit the type of people who may be considered as ‘a person who… caused” the reporting duty to be breached. The provision does not restrict the duty to report to a corporation or its officers… Therefore, even one who is not an officer of the corporation, who caused the corporation to mislead in its reports, may be criminally responsible under the section, and the case before us is one such case”. (CrimA 5307/09, Davis v. The State of Israel, para. 92 of Deputy President Rivlin (2010) (hereinafter: “the Davis Case”).

And in our case, Madar – who was charged with Melisron’s financial matters – chose not to include in Melisron’s report from November 25, 2009 the massive purchases of series D bonds by Ofer Development, which were made, as mentioned and among others, with the goal of influencing the price of Melisron’s bonds. This failure amounts to a report with the intention to mislead, in violation of the provision is section 53(a)(4) as mentioned. And in any event, the evidence shows that on November 25, 2009 Madar emailed Melisron’s attorney about his report regarding the purchase of the bonds, and wrote: “Alright with me, if Avi does not have any comments we can issue the report” (Prosecution exhibit 19). Hence it is difficult to accept Madar’s argument that he was not responsible for Melisrons’ report (even though Levi, as CEO of the company, was also required to approve it).

94.As for Madar’s argument in regard to the date of the fraudulent intent’s materialization – the court reached a factual finding that Madar’s conduct during the purchase of the bonds, including his choice not to consult his attorneys on this matter, shows that as early as the date of the report’s publication, the day prior to purchasing the bonds, he intended to conceal the influence plan from the investing public (para. 356 of the verdict). Therefore, his argument, as raised in the hearing, that it was impossible to conceal his fraudulent intent from the report on November 25, 2009 when it only materialized, according to the District Court, on November 26, 2009 must be rejected. Further, even if it had been found that his fraudulent intent only materialized the day after the report was published, I am hard pressed to accept the argument that this could mitigate his criminal responsibility. As the State pointed out, Madar could have corrected the report after its publication, and once he had chosen not to do so, knowing that the report may mislead investors, it must be found that the elements of the offense were met in this regard.

95.As for the second reporting offense – including a misleading item in a prospectus under section 53(a)(2) of the Law: the District Court discussed the difference between this section and section 54(a)(4) of the Law, particularly before Amendment 45 of the Law (and as discussed, the relevant offense was committed prior to the amendment). Madar does not challenge this interpretation and so I will repeat it briefly. Section 53(a)(2) concerns the prohibition of breaching the duty to report in the initial market (in a prospectus, including a shelf proposal report, as in our case), whereas section 53(a)(4) concerns the prohibition of breaching the duty to report in the secondary market (the ongoing duty to report). Prior to Amendment 45 of the Law, there seemed to be some difference between the two sections’ actus reus. Section 53(a)(4) established (and still does) that it must also be applied to “A person who… caused a report, notice, registration document or purchase offer specification, pursuant to this Law or regulations enacted hereunder and submitted to the ISA or the stock exchange to contain a misleading item - all with the intention of misleading a reasonable investor”. Section 53(a)(2), prior to its amendment, did not include this possibility explicitly, and seemingly only allowed the convictions of those who were responsible for ongoing reporting, and not of those who were not responsible for the report, but through their actions (or failures, as in our case), caused it to be published with a misleading item. As the District Court noted, relying on the relevant discussions in the Knesset, it is doubtful whether the legislature wished to create this distinction between the actus reus of the two offenses – the rationale behind the expansion of the responsibility for reporting in the initial market to those who caused the inclusion of a misleading detail in the report, rather than those who were responsible for the report, is no less and no more important than that which exists for the secondary market. Therefore, even if Madar had not been responsible, as he argues, for the publication of the shelf proposal report in our matter, this is insufficient to establish in advance that he must not be convicted of committing the offense.

96.As a result, I believe that even if Madar had not been the one to sign the shelf report dated December 2, 2009, this would not have mitigated his criminal responsibility in this matter. First, the rationale for the court’s finding in the Davis case, which we discussed above with regard to the offense under section 53(a)(4) of the Law, also applies here (see and compare CrimA 2103/07, Horovitz v. The State of Israel, paras. 55-60 (2008) (hereinafter: “the Horovitz Case”)). Any other interpretation is inconsistent with the purpose of the provision, which is aimed at preventing the misleading of stock market investors. In our case, Madar, who was responsible for managing Melisron’s finances at the time, and was present at the board of directors meeting on December 2, 2009 (as indicated by the meeting’s minutes, Prosecution exhibit 33), failed to report in the shelf report from December 2, 2009 about the purchase of the bonds, which were bought several days prior in order to influence the price. Even if he was not the person directly responsible for the shelf report’s publication and did not sign the report, it is enough that he was responsible for managing Melisron’s financial matters and played a dominant role in the actual offering, to establish that he should be convicted of the offense of including a misleading item in a prospectus by way of failure to act – by not including a material detail in the report, that is, the purchase of the bonds – which was done to influence the price.

97.As for Madar’s conviction of the offense of inducement: the court held (para. 392 of the verdict), that the way in which Madar acted amounts to making a material false representation. The court held that this had real potential to influence the discretion and consideration of investors when deciding whether to purchase Melisron’s bonds, and that this false representation fell within the scope of the offense of inducement under section 54(a)(1) of the Law. In the appeal, Madar does not raise a substantive argument against the well founded holdings of the District Court on this matter, and I therefore find no need to address it. However, it should be noted, and we will return to this point in the sentencing phase as well, that the mere conviction of this offense has no real weight in setting the appropriate sentence, because both the offense of manipulation and the offense of inducement stem from the same events, and the activities at their root are similar.

Madar’s Sentence And The Appeal Against His Sentence

98.The District Court set the range of Madar’s sentence between 9 and 24 months’ imprisonment, with additional imprisonment time suspended. In doing so, the court considered, on the one hand, the nature of the offenses which Madar was convicted of, and the harm caused to the stock market as a whole as a result, and on the other hand, the fact that Madar did not commit the crimes for his own immediate personal financial gain, and that it had not been proven that long term planning preceded the commission of the offenses. The court additionally mentioned that the range of the sentence was set in light of the offenses for which Madar was convicted as a whole, because it was one ongoing event – instructing the purchase of series D bonds in order to influence the price without reporting to the investing public.

99.As for Madar’s sentence within the range of sentencing, the District Court sentenced Madar for a year of imprisonment, 9 months of suspended imprisonment, and a fine of NIS 100,000. The court considered the character witnesses presented: Adv. Doron who has professional ties with Madar and wished to testify as to his character as an honest financial manager; Mr. Gutterman, Madar’s father in law who testified about Madar’s positive performance as a family man and about Madar’s difficult state of mind since the events occurred and the investigation began; and to Madar’s personal appeal, in which he described how the events and the criminal proceedings that followed caused him years of shame and insomnia. The court also considered different persons and entities who wrote the court and testified to his good character, both personally and professionally. Further, according to section 40.11 of the Penal Law, the court noted the relevant circumstances around Madar’s sentencing: his positive background and the impact of the sentence on his family – his wife and three children, including a baby born about a month prior to the sentencing; his good behavior and contribution to society, his lack of any criminal history; as well as the fact that he did not commit the offenses out of greed or personal financial gain but in order to benefit the companies.

100.In conclusion, the court noted that his sentence was part of a recent trend to increase sentencing for financial and economic offenses, which are usually committed, by their very nature and substance, by normal, positive people who may even invest some of their time and money to contribute to society. The past years’ amendments to the Penal Law and the Securities Law, so it was held, require significantly heavier sentences for such offenses in order to deter actors in the stock market from committing unlawful activity, as well as to provide a sense of security to the investing public, whoever they may be.

101.With regard to his sentence, Madar argued that in setting a range for the sentence the court failed to sufficiently account for Madar’s belief that his actions were indeed lawful, and that in any event – he did not act out of personal greed. He also argued that not enough weight had been given to the fact that this was the first instance where a court convicted a person in a case of mixed purposes, and that this should lower the bar for the proper sentence. In addition, it was argued that in previous cases, which were much more egregious than ours, when the defendants acted with full awareness of the unlawfulness, and out of personal greed, the sentences were lighter. It was claimed that the court did not consider that had Madar’s activity taken place now, then under Amendment 45 of the Law the appropriate proceeding likely would have been administrative rather than criminal, and thus the sentencing range appropriate for our case is lower than that set by the District Court.

102.Madar further maintains that the District Court erred by holding that there is no room to stray from the sentencing range it established. It was noted in this regard that in a different cases adjudicated by the District Court, it was decided that there was room to lower the sentence as the defendant was a positive person with no criminal history, whereas in our case the court did not find this to be a significant mitigating factor, which constitutes a departure from the principle of uniformity in sentencing. It was also argued in this regard that precisely because Madar was a positive person with no criminal history, his chances of rehabilitation are greater, which the court should also have considered. It was thus argued that his sentence should be lighter and he should not be sentenced to incarceration. It was finally claimed, in the alternative, that the court erred in setting the sentence within the sentencing range established because under the circumstances of this matter, the sentence should have been set, at most, at the lowest point of the sentencing range – that is, nine months incarceration.

103.The State argues, in contrast, that Madar’s argument that in a case of mixed purposes, such as this case, the sentence should be lighter must be rejected. This is because the social value protected by the offense of fraud – protecting the stock market and the investing public – is similarly harmed even when the offender had a legitimate financial purpose along with the fraudulent one. It was argued that although in the cases on which Madar relies the offenders were given lighter sentences, this was at a time when the sentencing standard for securities offenses was lower than the standard common in recent years. Currently, courts repeatedly emphasize that the appropriate sentence for these offenses is incarceration.

104.As for Madar’s claim that had the offense been committed today the proper sentence would have been administrative rather than criminal, it was maintained that this claim is incorrect. Administrative enforcement is designed to target offenses where no intent was proven, and this is unlike the relevant offense here, where the intent is one of the elements of the offense of manipulation and the court did in fact hold in no uncertain terms that Madar had such intent. Therefore, even had this case been adjudicated today, it likely would have reached the criminal enforcement track. In conclusion, it was noted that to the extent that mitigating factors exist in our matter – and primarily, that Madar did not operate out of personal greed – these were considered by the District Court, which sentenced the appellant to a light sentence in considering the severity of the offense.

105.After reviewing and hearing the parties’ arguments in this regard, should my opinion be heard, we would not intervene in the sentence to which the District Court sentenced Madar. This is because it does not stray from the recent years’ trend of heavier penalties for white collar crimes, which stems from the unique nature of such offenses:

“Let us not mischaracterize financial offenses as ‘white and pure’. These are sophisticated offenses, which are difficult to detect, usually committed by offenders with status and education who use others’ finances while exploiting their power and status and breaching their fiduciary duties. Often these offenses remain hidden for many years, and when they are discovered, the serious harms they caused are also revealed. Such harms are generally much more severe than the harms caused by ‘regular’ property offenses. It was with good reason that this Court has found over the past several years that it is time to raise the standard of penalties for financial offenses, including incarceration when appropriate.” (CrimA 4430/13, Sharon v. The State of Israel, para. 22 of Justice Danziger’s opinion (2014); see also CrimA 9788/03, Topaz v. The State of Israel, IsrSC 58(3) 245, 250 (2000); the Horovitz case, para. 339; CrimA 677/14, Dankner v. The State of Israel, para 37 (July 7, 2014) (hereinafter: “the Dankner Case”)).

I am aware that we are concerned with private companies, aside from Melisron, but particularly in light of the proposed outcome in terms of Melisron, recall that the sentence for offenses in the field of securities in an “area” other than inside information was discussed in CrimA 6020/12, The State of Israel v. Eden, (2013) (hereinafter: “the Eden Case”), where my colleague Justice Barak-Erez discussed (para. 29) the “justified weight of the clear public interest in enforcing the law in the field of financial offenses in the stock market… as a counter balance of this temptation (for ‘normative’ officers wishing to exploit an opportunity – Rubinstein) the legislature opted to establish a difficult sanction, which must come to life as part of the battle against crime that harms investors’ private interests, and even more seriously – the public interest of the entire Israeli market in an efficient and reliable stock market.” Recall that we were concerned there with the offense under section 52C of the Securities Law, the sentence for which is identical to that for the offense in section 54(a), that is, up to five years imprisonment, a fine five times – and according to the new version of the Law, for a corporation up to twenty five times – the fine set in section 61(a)(4) of the Penal Law. And in the Eden case the Deputy President discussed the “tipping point” in terms of the sentence there, and I myself noted:

“Let us remember that the legislature set a sentencing tag of five years, among others, to the offense under section 52C as discussed in this case. I myself believe that there is no escaping raising the sentencing bar in such cases. The nature of these offenses is of clear harm to the public’s trust and there are no clichés, in the common ‘laundered’ termination. But let us put ourselves in investors’ shoes, for example, who learn that the heads of a company in which they invested their funds are profiting at the expense of the investing public. Indeed, a criminal conviction is a blemish, community service that substitutes incarceration is unpleasant – but they cannot at all be compared to incarceration behind bars, doubtfully a pleasure even in the best of prisons. It means the denial of freedom, removal from family, being constantly subjected to the control of others, generally unpleasant company, and the like. We cannot therefore analogize such incarceration to other forms of punishment, certainly not for a person who had been considered normative and for his entire life only read about prisons or watched them in films. Perhaps incarceration behind bars would deter, assuming deterrence has true efficacy, and should it be expressed – as it should – that this is the expected fate of an inside information offender.”

It would seem this applies to our matter as well.

106.As discussed, the actions for which Madar was convicted were harmful. As mentioned in a similar context “their outcome is not manifested only in harm to one investor or another, but in the loss of public trust in the stock market” (the Tempo case, para. 33 of President Barak’s opinion). We will also mention that our matter concerns significant amounts of funds, since the expansion of series D bonds by Melisron and the purchase of the bonds by Ofer were at sums of tens on millions of Shekels.

107.The sentence handed down by the District Court certainly is not light. Especially in light of the fact that Madar did not act for personal gain, and that in addition to his fraudulent intent, his investment had a legitimate financial purpose. On the one hand, I agree with Madar that there was room to give the latter consideration more weight in the sentencing phase, as the fate of those who acted out of fraudulent intent should be harsher than those who also acted out of legitimate financial purposes. This is especially true when, as in our case, the legitimate purpose motivated the investment for a long time, while the fraudulent intent materialized, as the evidence reveals, only several days before it was carried out.

108.On the other hand, I believe the District Court did not give sufficient weight to the deterrence considerations in cases such as this, as it did not address considerations of general deterrence (para. 22 of the verdict). The court addressed general deterrence in terms of the trend of heavier sentencing beyond the range, but section 40G of the Penal Law addresses heavier sentencing within the established ranged. As I have noted in a similar context:

“In my opinion, even those who do not believe that general deterrence, perhaps as opposed to specific deterrence, usually works within the context of ‘classic’ crime such as murder, robbery, rape, assault and the like (see CrimA 7534/11, Mizrahi v. The State of Israel, (2013), para. 3 of my opinion), could think that it has a chance with regard to financial offenses, or ‘white collar’. The planner of offenses – or should we say ‘schemer’ – who learns that his fate may be incarceration, might perhaps think twice. As noted, it seems in our case that a deterring sentence is designed to deter not just the appellant himself going forward, but just as much the public, and primarily – as noted by the District Court – those serving in high offices within corporations, lest they betray the trust given to them. Perhaps precisely for essentially regular, good people who plan their conduct, the ‘planning’ would also include the risk of criminal prosecution” (the Dankner case, paras 35-36).

In my view, these things are particularly apt for our case, once we are concerned with a conglomerate, and when the senior officers are the same people for each of the companies, there is real concern that while the officer works under one hat, he would consider factors that are relevant to his other hat. As Madar noted in his testimony:

“There was no conflict of interests whatsoever between Ofer and Melisron, it was exactly the same. Both had the same interests, but somehow I must have become confused, I had Melisron’s goals in mind, too.” (Record of hearing, p. 732, l. 29-32; emphasis added – Rubinstein).

I believe that the concern for such “confusion” is almost inherent to the situation described. Though the legislature did not find it fit to prevent the possibility of wearing several hats, the courts must send forth a clear message of deterrence: while one serves as a senior officer in several companies related by ownership, one must take extra precautions when operating in the intersection between them, particularly when one company is a public company, with all that it entails, and particularly when it comes to the decision by one of the companies to purchase securities of another. For if one does not, one risks the significant sentence of incarceration.

109.As for the claim that administrative enforcement is appropriate for our purposes and therefore the range of sentencing should be lighter, I fear I  cannot accept it. The legislative memorandum of the bill regarding the mechanism of financial sanctions in the Securities Law explicitly states that “the administrative enforcement mechanism proposed is designed to target the violations where the required mens rea needed to prove they have been committed is at most negligence” (Bill for Increased Efficiency in Securities Enforcement (Legislative Amendments) 2010, Bills 489, 440.) Our matter, as mentioned, is concerned with an offense requiring intent, and it seems here that the proper means of enforcement was not administrative enforcement, even if this had been available at the time the offense was committed. This must therefore be rejected as a basis for reducing the sentence.

110.I must note that I am sorry for Madar – a young man, and as I understand, talented, who held a senior position in important companies in our economy and who mis-stepped by being overly eager to reach his goals, to the extent that he reached the boundaries of crime. I do not make light of the difficult implications of his incarceration, and I regret he came to this. But in light of everything discussed, there is no escape from incarceration behind bars. In conclusion, as said, I did not find it fit to intervene in the District Court’s decision in terms of Madar’s sentence.

The Appeals Regarding The Companies

111.The charges against Ofer Investments, Ofer Development and Melisron were submitted under organ theory. Ofer Investments and Ofer Development were indicted – and convicted – for committing the offense of manipulation and offense of inducement through Madar, as an organ of the companies (the indictment also touched on the offenses having been committed through Levi, and another organ, but as mentioned he was acquitted), whereas Melisron was indicted – and acquitted – of committing the offense of manipulation, offense of inducement and offenses of reporting, through Levi and Madar. We will now address the relevant legal framework and then the two appeals – by Ofer Development and Ofer Investments against the State (CrimA 1899/14) and by the State against Melisron (99/14). I will say at the outset that I have reached a conclusion that the appeals by Ofer Development and Ofer Investments should be rejected, whereas the State’s appeal against Melisron should be accepted.

The Legal Framework – Organ Theory

112.A corporation does not operate by itself in the “physical” sense. It – the corporation, an abstract legal entity created by the law – does not decide on investments, does not actually sign reports, does not hire or fire employees and does not take any action reserved to humans, even if these are legally associated with it. For this reason, it has employees and people who operate on its behalf, whether they are senior or not, who on a daily basis execute a variety of actions which are primarily meant, ordinarily, to increase the corporation’s profits (section 11 of the Companies Law, 1999). Additionally, in the words of then Justice Barak: “A corporation has no natural existence. A person has a natural existence. There is no corporation without law, but there is no law without people. People are a prerequisite for the law, and the law is a prerequisite for the corporation”. (CrimA 3027/90, Modi’im Company Construction and Development Inc. v. The State of Israel, IsrSC 45(4) 364, 381 (1991) (hereinafter: “the Modi’im Case”); see also CrimA 4670/03, I.M.S. Investments Inc. v. Klal (Israel) Inc., para. 11 of President Barak’s opinion (2006); O. Haviv-Segal , chapter 3(b) (2007) (hereinafter: Haviv-Segal)).

113.When an individual takes a particular action in the course of their role in a corporation, there is a range of situations where the commission of the action by him justifies imposing personal liability, as opposed to vicarious liability, on the corporation itself (Y. Gross, 121 (4th edition, 2007)). This is the source of the organ theory (which sadly also has no Hebrew name) which “presents the organ as the ‘human face’ of the corporation and sees them both as one ‘combined entity’ meant to provide the corporation with human character that enables imposing on it – as a corporation – personal criminal liability” (CrimA 7399/95, Nehoshtan Elevator Industries Inc. v. The State of Israel, IsrSC 52(2) 105, 124 (Justice Kedmi) (1998) (Hereinafter: “the Nehoshtan Case”); see also CC 230/80, Pneidar, Investments Development and Construction Company Inc. v. David Kastro, IsrSC 35(2) 713, 726 (1981)). A primary goal in imposing liability under the organ theory is deterring the corporation and corporations like it, so that going forward they would prevent further offenses by creating supervision mechanisms that would be able to prevent, in advance, situations which lead to criminal behavior:

“When shareholders opt to incorporate as a company, and when they act to increase the scope of the company’s activity, then they create an organizational structure vulnerable to certain legal violations, when the organizational structure challenges law enforcement authorities and prevents them from being able to properly enforce legal norms. Therefore, there is a normative consideration as well that guides those shareholders who start the corporation and enjoy its existence. They are required to ensure that they each follow the law’s provisions. They must create internal supervision mechanism that may ensure the prevention of corporate crime and ensure that the law is obeyed by the organs who operate within the corporation” (Haviv-Segal, chapter 2, section 4.c; see also Hamdani, Transactions between Interest Holders and Corporate Liability for Securities Fraud, Mehkarei Mihspat 23 769, 772-74 (2007)).

As for the status of a corporation – a modern legal creation – in Jewish law, see Rabbi Sinai Levi, An Incorporated Company’s Liability to a Third Party, Tchumin 26 (2006), 362 and the sources therein. The author points to (p. 364) the difficulty in applying Jewish agency law, among others because of the rule that “there is no agent in a crime” (Bavli Kidushin 42, 2; and see Mishna Bava Kama 6, 4), it is therefore preferable to see this as “the law of the kingdom shall be the prevailing law,” see also Dr. M. Vigoda (with H.Y. Tzafri) Agency (1984) 384 (note 295). The rationale for “there is no agent in a crime” (Bavli Kidushin, Id.) is that “the words of the Rabbi (G-d – Rubinstein) and the words of the student are the words of those who hear” and thus the agent cannot take upon himself the commitment of a crime. Though our case is different, as a corporation did not instruct the agents to commit the crime, but rather their actions are seen as its long arm.

114.This is true both for civil law and for criminal law (the Modi’im case, p. 379-80; CrimA 7130/01; Solel Boneh Construction and Infrastructure Inc. v. Yigal Tanami, para 19 of Justice Tirkle’s opinion (2003); Haviv-Segal, chapter 3(b)). As for the criminal aspect, which is relevant to our case, though it is essentially a creature of the case law, it has been anchored in Amendment 39 of the Penal Law from 1994, in section 23(a)(2), which states as follows:

“(a) a corporation will be held criminally liable –

(b) for an offense that requires proving a criminal intent or negligence, if, under the circumstances and in light of one’s position, authority and responsibility for managing the corporation’s affairs, the act that constitutes the offense and the criminal intent or negligence must be seen as the act, intent or negligence of the corporation.”

As it was held in the case law, this section does not narrow the application of the organ theory as it was developed in the case law, but anchors it in primary legislation (CrimA 2560/08, The State of Israel – The Antitrust Authority v. Yaron Vohl, para 78 (2009) (hereinafter: “the Vohl Case”).

115.At the center of the organ theory stands, of course, the organ – that high ranking long arm of the corporation. In the case law and the scholarship, two alternative tests are common for inquiring whether a certain person is to be considered an organ in a particular corporation. The first test, the organizational test, examines whether the individual is an organ according to their formal role and position in the corporation. Thus, the case law recognized “the general assembly of shareholders, members of the board of directors, the CEO and the COO” as clear organs of the corporation (the Modi’im case, p. 383; see also Groos, p. 123-24; M. Kremnitzer and H Ganaim, A Corporation’s Criminal Responsibility, , 87 (2003) (hereinafter: Kremnitzer and Ganaim)).

The second test, the functional test, asks whether the function committed by the particular officer warrants seeing their acts as the acts of the corporation “whatever the hierarchical status of the corporate actor may be” (Gross, p. 124; see also the Modi’im case p. 383; CC 8133/03, Yitzhak v. Lotem Marketing Inc., IsrSc 59(3) 66, 84 (2004); CrimA 3891/04, Arad Investments and Industry Development Inc. v. The State of Israel, IsrSC 60(1) 294, 349 (hereinafter: “the Arad Case”); Kremnitzer and Ganaim, p. 87-88.

116.Both tests, which are rooted in common sense, do not exhaust the list of officers who may be considered as organs, and for a good reason:

“Indeed, out of the necessity of reality, the terms organs and other senior officers of a corporation are somewhat amorphous and do not form an accurate and unified framework for discussion. But their logic is clear. They are designed to encompass all the decision-making persons and high institutions of a legal body, who are responsible for shaping its policy and executing most of its actions internally and externally, regardless of their position titles or jobs. The list of offices and positions is not identical in every corporation and may somewhat change according to the organization’s structure, the nature of its activity and the division of powers and authorities of the examined body. Considerations of legal policy may often take part in establishing the framework, and naturally may prevail in borderline cases” (A. Lederman, Criminal Responsibility of Organs and Other High Officers of a Corporation, Plilim – Vol 5 101,107 (1996); see also Kremnitzer and Ganaim, p. 89).

117.Melisron argues that the organizational test and the functional test must be combined as cumulative tests. In other words, a corporation could be found responsible under the organ theory only when one committed the offense as a senior officer of a corporation and in line with the function they fill (para. 11 of the main arguments). This argument must be rejected. First, the case law clearly points out that these are alternative tests:

“A body or a senior officer of the corporation (the general assembly of shareholders, members of the board of directors, the CEO and the CFO) will certainly be an organ of the corporation. But an officer who is not a senior officer may also be considered an organ of the corporation, and this when, according to the articles of incorporation or under another legal source, we may see their actions and mindsets as those of the corporation itself” (the Modi’im case, p. 383, then Justice Barak; emphasis added – Rubinstein; see also Gross, p. 123-124).

Second, with all due respect, I am hard pressed to find the logic in this argument – would it make any sense, for example, for the corporation’s CEO, who acts in the course of their position in the company and in the best interest of the company, not to represent the company in his actions? In such a situation it is hard to meet the requirement to prove that the function the CEO fills justifies seeing his activity as that of the corporation – something that is the outcome of their very role in the corporation. At most, it may be said that when the corporation wishes to distance itself from the actions of a person who served as a senior officer, who has acted in the course of his role in the corporation and did not act with the intent of harming the corporation – it would carry the burden of showing they did not represent it in their actions, as “there is no agent in a crime”, and this is a heavy burden. Still, I will emphasize that a CEO, for example, is not similarly situated to a “professional manager” or a “regional manager” and the like whose title does not necessarily point to their being senior officers (see CrimA 16/08, The State of Israel v. Best Buy, para. 15 (2009)). In such cases, there is room to examine the function filled by the specific officer on a case by case basis. In other words, there are organs who, for purposes of the matter, are one and the same with the corporation, and there are officers whose actions must be specifically examined.

The fact that these are alternative tests is emphasized particularly in terms of the functional test. As noted, this test attaches the individual’s actions to the corporation in light of the function they hold within the corporation, “whatever the hierarchical status of the corporate actor may be” (Gross, p. 124, emphasis added – Rubinstein). Therefore, absolving a corporation from criminal responsibility solely because the individual, who committed the act on behalf of the corporation and for its benefit, did so without being formally placed in the corporate hierarchy is illogical and contradicts the purposes at the basis of the organ theory.

118.All this as for the identity of the organ, but it is all insufficient. In order to find a corporation responsible under the organ theory for actions taken by the corporation’s organ, courts should find that it is appropriate to impose responsibility on the corporation for the concrete actions of the organ (the Modi’im case, p. 383-84). This is a question of legal policy, and over the years the case law has developed the following tests: first, did the legislation not intend to exclude the corporation’s responsibility from its scope (Modi’im, p. 385); second, was the organ’s action taken in the course of fulfilling his duties (Kremnitzer and Ganaim, p. 97-98); and third, was the action to the benefit of the corporation, or at the very least not aimed against it (Arad, para. 66; CrimA 5734/91, The State of Israel v. Leumi and Partners Investment Bank Inc., IsrSC 49(2) 4, 28-29 (1995) (hereinafter: “the Leumi Case”)).

119.As for the first test, as we know, section 4 of the Interpretation Law, 1981 stipulates that as a rule, anywhere Israeli law refers to a “person”, the law or regulations also apply to a corporation. There is no dispute that this is also true for imposing criminal responsibility, and that this is long enshrined in our legal system in these strong words by our predecessors: “in offenses as those before us, not only does this seem strange and undesirable, but should we consider the legislative intent, if we were to allow incorporated bodies qua incorporated bodies to say: ‘the law applies only to that whose hand took part in the act, and we escaped.’” (HCJ 125/50, Beit HaShita Circles Group v. The Chairman and Members of the Court for Prevention of Stealing Goals and Scalping in Haifa, IsrSC 5 113, 139 (President Zmorah) (1950); and see also the Modi’im case, p. 384-85; CrimA 4855/02, The State of Israel v. Borovitz, IsrSC 59(6) 776, 862 (2005)).

However, when it comes to offenses of a “human” nature, such as bigamy, rape and the like, it has been noted that there is no place to apply the organ theory and attribute the conduct and criminal intent of the organ to the corporation (the Modi’in case, p. 385; Lederman, p. 103), and common sense supports these examples. But there may be different cases. A review of the jurisprudence of this Court reveals that so far no use has been made of this test as a means to entirely negate the application of organ theory, and the discussion – insofar that there has been any discussion – has been merely theoretical (the Modi’im case, p. 385). Thus, for example, even in the context of the offense of negligent manslaughter, which arguably has a “human” nature, it was found that the corporation should be held criminally responsible for violating the Workplace Safety Ordinance (New Version), 1970 and the regulations under it (LCrimA 8174/05, Doron v. The State of Israel (2005); and for in depth discussion of that same case see CrimC (Jer) 1267/03, The State of Israel v. John Doe, para. 4(a) (2004)). I will add that, as pointed out by Kremnitzer and Ganaim, it is highly doubtful whether it is appropriate to set blanket rules, and any case must be considered on its merits (Kremnitzer and Ganaim, p. 94-95).

120.As for the second test, the question whether the organ acted in the course of their position is not necessarily a simple one. On one extreme, it is obvious that an activity of a clear personal nature, which the organ conducted out of work hours and out of the workplace, is unlikely to fall under the course of their position. On the other extreme, it is likely that activities that the organ conducted and are inherently related to their position and were executed under instructions from his managers would come under activity within the course of the position.

In the range between the two ends of the spectrum there might be many cases. However, it seems that the approach taken by the case law, and in my view rightly so, is that the range of situations that may come under “in the course of the position” should be broadly interpreted. For example, it was held that when the organ commits the criminal activity on behalf of the corporation but in a manner that was seemingly beyond the scope of the authorization he received, this may not serve as a defense for the corporation against applying the organ theory and imposing responsibility on the organization for the organ’s actions (the Nehoshtan case, p. 122-123; the Leumi case, p. 26-27). Even when the board of directors of the corporation opposed a move made by the organ, the corporation was found criminally responsible for his actions (the Vohl case, para. 78). Simply put, the test is whether the organ generally acted as a “corporation person” rather than a private individual, and should the answer be in the affirmative, this test has been met (Nehoshtan, p. 122-123). Analogously, in administrative law, at times an estoppel is created when one relies in good faith on an administrative authority even when the latter has acted outside its authority (Daphne Barak-Erez, Administrative Law A 153 (2010), AA 7275/10, The Special Committee Under The Disengagement Plan Execution Law v. Amiram Shaked, para. 24 and the sources there (2011).

121.The third test is essentially a subset of the second test. The case law held in this context that the activity that the organ committed intentionally against the interests of the corporation would not trigger the corporation’s responsibility, since in such a case the organ did not act as an organ but as a private individual. Thus, his conduct should not be attributed to the corporation. As noted by Kremnitzer and Ganaim, a primary justification for imposing responsibility on the corporation for the individual’s actions is that the individual acted to benefit the corporation and therefore, in acting against the corporation it would not be justified to impose responsibility on the corporation for those actions. Thus, for instance, when it was found that the manager of the company made a false statement in the corporate documents in order to produce profits to someone other than the company, it was held that the corporation should not be held criminally responsible (CrimA 24/77, “Pan-Lon”, Engineering and Construction Company Inc. v. The State of Israel, IsrSC 33(1) 477, 493-494 (1979)). Furthermore, in a (civil) case where the directors embezzled funds from the bank where they served as directors, it was held that the bank could not be attributed the directors’ awareness of the embezzlement (CC 7276/07, The Official Receiver Acting as Dissolver of North America Bank Inc. v. Assurance General De France, para. 31 of Justice Melcer’s opinion (2012)). In contrast, when it was found that the organ operated both for the benefit of the corporation and for his own personal benefit and that of the conglomerate of which he was a part, it was held that this could not mitigate the corporation’s criminal responsibility for his actions (the Leumi case, p. 28.) And now to our matter.

CrimA 1899/14 – Ofer Investments and Ofer Development v. The State

122.As noted, Ofer Development and Ofer Investments challenge the District Court’s holding that they should be convicted, under the organ theory, for Madar’s actions. Ofer Investments argues, as mentioned, that since it is a sister company of Melisron it did not at all benefit from Madar’s activity. Their argument is because to the extent that Ofer Investments profited from the increase in the price as a result of the manipulation and their holdings in Melisron – this profit was to begin with lower than the loss it took because the bonds were purchased at an inflated price. Additionally, Ofer Development did not hold any share of Melisron and thus was actually harmed as a result of such activity. On the other hand, Ofer Investments argues that Ofer Developments was the one to make the transaction and thus Ofer Investments should not be found responsible in the matter. Additionally, it was argued that the District Court effectively lifted the corporate veil between the two companies and attributed the wrongdoings of one to the other, without having presented any rationale for doing so.

123.The many testimonies reveal that the decision to purchase series D bonds was made by Ofer Investments, however due to tax planning it was decided to conduct the transaction through Ofer Development (p. 644, l. 28-32 (Levi’s testimony); p. 744, l. 26-30 (Madar’s testimony); p. 146, l. 4-16 (Yaacovi’s testimony)). Madar testified that though the investment was actually made by Ofer Development, Ofer Investments was at the center of the decision to invest:

“The purpose of Ofer Investments’ investment was to invest in series D bonds… The opportunity presented itself, it was a good investment, and we took advantage of it.” (Record of hearing dated January 16, 2013, p. 731, l. 16-17).

And in addition:

“… at that point where I had Melisron’s interest in mind, and this god forbid, god forbid it did not conflict with Ofer Investments’ interests. It fit Ofer Investments, the activity of Ofer Investments.” (Record of hearing dated January 16, 2013, p. 757, l. 28-30).

124.Therefore, it is not necessary to address the appellants’ claims regarding the lifting of the corporate veil in the criminal law. This is because, in effect, the offenses were committed as a joint commitment of sorts; each of the companies played a separate and independent role in the offenses – as said, Ofer Investments was the one to decide upon the investment, and Ofer Development was the one to actually make the investment (and as we will see below, it seems Melisron was the one to benefit from it). Therefore, each of the companies was effectively separately and independently responsible for the offenses committed by Madar, and there is no need to discuss their conviction together as a conglomerate. Similar things were said in this context by President Barak in Tempo, addressing the District Court’s opinion in that matter:

“In finding the appellants 1-2 responsible, the court did not find it fitting to separate them, although the purchase of ‘Tempo Beer’ bonds was made by ‘Tempo Plastic’ and although the prospectus – and its lack of disclosure – was published by ‘Tempo Beer’ rather than ‘Tempo Plastic.’ The court held so because the two companies designed together – through their organs – the entire plan of purchasing ‘Tempo Beer’ bonds, and executed it jointly.” (The Tempo case, p. 564).

Similar things were held by the United States Supreme Court in United States v. Bestfoods, 524 U.S. 51, 71 (1998) (hereinafter: “the Bestfoods Case”). There, it was held that a mother and daughter companies may be convicted as directly responsible for the offense when the companies operated together as a joint project of sorts. In regard to a conglomerate in the civil law context, see Lahovski Corporations Law: A Single Company and A Conglomerate, 65 (2014); see also Stern Purpose of the Business Corporation, 164 (2009).

125.Furthermore, there is no prospective prohibition against one’s service as a senior officer of two companies connected by ownership, and this is even common in the reality of the economy, and it is generally not controversial:

“[It is a] well established principle that directors and officers holding positions with a parent and its subsidiary can and do ‘change hats’ to represent the two corporations separately, despite their common ownership” (Lusk v. Foxmeyer Health Corp., 192 F. 3d 773, 779 (CA 5 1997).

Still, I believe that in many cases where the officer operates, while serving as an officer in one company, to promote the interests of the other company and factors those into his actions, this may lead to a conclusion that each of the companies is directly responsible for such actions, even if those were seemingly made only by one of them (if, of course, it is found that he is in fact an organ of each of the companies and the matter fulfills the organ theory tests, as discussed above). Having one’s cake and eating it too, and enjoying both worlds cannot be allowed. In other words, taking action for both companies – yes, the responsibility of both – no. This cannot be acceptable here. Things to this effect were said in Bestfoods, for example:

“[A] dual officer or director might depart so far from the norms of parental influence exercised through dual office holding as to serve the parent, even when ostensibly acting on behalf of the subsidiary…” (Id. at p. 71.)

And as said, in our case, this does not constitute lifting the corporate veil between the companies, as the appellants argue, but to indicate that each of them is directly responsible for Madar’s activity, should it be decided to apply the organ theory in our case. Now, we turn to the application of the organ theory itself with regard to Ofer Investments and Ofer Development.

126.As discussed, the first question is whether Madar should be considered an organ of the companies. Levi’s testimony sheds light on Madar’s high position in Ofer Group, including Ofer Investments and Ofer Development:

“Ofer’s management consists of a team, the senior team included Golan Madar, who is the Group’s financial manager, Golan joined the group immediately after I was appointed as CEO in 2003, and serves with us – serves us and with us – to this day. Golan Madar is the Group’s financial manager, is responsible for all the Group’s financial activity.” (Record of hearing dated December 27, 2012, p. 641, l. 31).

And later:

“Golan is the company’s financial manager, and he is number 2 in the organization.” (Record of hearing dated December 27, 2012, p. 641, l. 31).

As noted, according to the organizational structure, the mere senior status of the officer leads to him being considered an organ in the corporation. In our case, it is seemingly undisputed that Madar was the Group’s financial manager, “number 2” in Levi’s words, and this is sufficient to find that he served as an organ in the companies. The companies themselves conceded, at the end of their main arguments, that Madar operated as an organ of both, even if they maintain he was not a senior organ (para. 60.4 of the main arguments).

127.In this regard, the companies argue, among other things, that since Levi was CEO and he was acquitted, there is no place to convict the companies for Madar’s activity as he served at a less senior position. I am afraid this argument should be rejected. It was held in a similar matter:

“There is no dispute that Avraham served as a senior officer in the company. The defense even argues that though he served as a senior officer, Aharon held a higher office than him. This, in my opinion, is immaterial. Organ theory does not mean that a company has a single alter ego, whose actions alone and no one else’s may lead to its responsibility. Even under a narrow approach that recognizes only a few senior people as organs, we accept that there is more than one organ…” (the Leumi case, Justice Strasberg-Cohen, p. 24).

This is suitable for our case. Therefore, even if Levi, who served in a position senior to Madar was acquitted (for reasonable doubt) from the charges against him, this does not mitigate the companies’ responsibility for Madar’s actions, himself an organ in the companies.

128.However, as noted, this is not enough. A criminal conviction of a company under organ theory is first and foremost a question of legal policy – is it appropriate to convict the company, or in our case the companies, for the actions of the organ. Three tests may assist us:

First, did the law not intend to exclude the possibility of convicting the company for the organ’s actions? In our matter, we are concerned with the Securities Law. It seems almost redundant to note that the Securities Law does not exclude the conviction of corporations. As held in Arad, the contrary is true:

“The offense for which Arad was convicted – of including misleading items in the reports and the prospectus published – are offenses under the Securities Law. This Law was designed to direct the financial activity of public corporations while placing direct conduct duties on them. When the Securities Law is violated, using organ theory is thus natural and obvious” (Id., para. 66 of then Justice Rivlin’s opinion).

Second, did Madar act in the course of his duties? Here, too, it seems the answer is simple – clearly, when Madar decided on the purchase of series D bonds, and the manner in which the bonds would be purchased, he did so in his corporate hat, not his personal one. Madar made the investment in Melisron with the knowledge, if not on the initiative, of the CEO of Ofer Investments and Ofer Development (Record of hearing dated December 27, 2012, p. 623, l. 6). The fact that it was not proven that the companies’ CEO or their board instructed Madar to make the investment in manipulative ways, does not mitigate the finding that Madar committed the offenses of which he was accused in the course of his position (the Leumi case, p. 26-27; the Nehushtan case, p. 122-123; the Vohl case, para 78). In addition, it is very difficult to accept the companies’ argument that Madar operated at the time at most as an organ of Ofer Development rather than of Ofer Investments, and therefore Ofer Investments must not be found criminally responsible (para. 55 of the notice of appeal). As mentioned, each of the companies played a role in committing the offense – as an organ in Ofer Investment, Madar took part in the decision to invest; as an organ in Ofer Development, Madar took an active role in the actual investment. Therefore, there is no basis to the claim that Madar did not commit the offenses as an organ in each of the corporations.

Third, was Madar’s activity directed against the companies’ interests? As mentioned, Ofer Investments and Ofer Development argue that Madar’s activities did not benefit them. Ofer Investments argued that although it controls Melisron, the harm it was caused as a result of the bonds’ overpriced purchases outweighs the benefit of the raised prices. Ofer Development argued that since it is merely a sister company of Melisron’s, it only suffered loss as a result of purchasing series D bonds at a higher price than what it would have needed to pay but for the manipulation. I believe that these arguments should be rejected, to the extent that they concern the relationship between Madar and the companies. As the District Court held – and seemingly this is undisputed – Madar did not wish to make personal gains (p. 130 of the verdict) aside from possibly promoting himself as a good financial manager. As for the companies’ argument that Madar’s activity benefited, at most, Melisron, but harmed them – throughout his testimony, Madar insisted that the purpose of the investment was, among others, to benefit Ofer Group, including Ofer Investment and Ofer Developments:

“The purpose of the investments by Ofer Investments was to invest in series D bonds… The opportunity presented itself, it was a good investment, and we took advantage of it.” (Record of hearing dated January 16, 2013, p. 731, l. 16-17).

And later:

“Madar: the goal was to make these investments. The goal was to invest in cash.

Adv. Chen: Whose?

Madar: All along the way. Ofer’s. All along the way that was the basis for all these activities.” (Record of hearing dated January 26, 2013, p. 733, l. 9-6).

Even when Madar admitted he also acted with the intent to benefit Melisron, he emphasized that the investment was consistent with Ofer’s business interests:

“… at that point where I had Melisron’s interest in mind, and this god forbid, god forbid did not conflict with Ofer Investments’ interests. It fit Ofer Investments, the activity of Ofer Investments.” (Record of hearing dated January 16, 2013, p. 757, l. 28-30).

I believe these things should be taken at face value.

129.I will emphasize that in order to find that Madar’s activity was not designed to harm Ofer, if this need be addressed at all, it is unnecessary to discuss the actions’ final outcome, that is – it is unnecessary to find that this activity actually did in effect benefit either of the companies:

“Intention to benefit the corporation is sufficient and the action need not actually benefit it, and even had the outcome been to the contrary, the corporation’s responsibility still exists.” (Leumi, p. 28 of Justice Strasberg-Cohen’s opinion).

I therefore do not see it necessary to discuss the companies’ “score keeping” in terms of the precise profit the Ofer Group enjoyed as a result of Madar’s activity in comparison to the harm caused as a result of purchasing overpriced securities. It is sufficient, as mentioned, that it was proven that Madar acted to benefit Ofer Group, including Ofer Investments and Ofer Development, in order to fulfill the requirements of this test.

130.Indeed, the fact that Madar intended to benefit both Ofer and Melisron with his actions, does not mitigate Ofer’s responsibility. As it was noted in a similar matter:

“Avraham also operated for the benefit of the companies. This is true even if he wished to simultaneously promote his own interests and those of his group.” (Leumi case, p. 29, emphasis added – Rubinstein).

Therefore, Madar’s intention to benefit Melisron is immaterial with regard to the finding that he acted to benefit Ofer Investments and Ofer Development. However, and I will address this further below, I believe this is relevant to the issue of Melisron’s responsibility for Madar’s actions.

131.All of the sub-tests regarding the imposition of responsibility under the organ theory are then met in our case. Additionally, recall that the question whether we should impose criminal responsibility on a corporation for an act committed by its organ is primarily a question of legal policy. In our matter, as the District Court noted, the policy considerations clearly lean toward imposing responsibility on the corporations:

“We are concerned with managing a portfolio of about NIS 150 million. Despite the defendants’ argument that the relevant amounts are negligible for Ofer, it is obvious that when an organ of a company is given ‘free reign’ in managing NIS 150 million (and restricted only by general limits – 20% shares and 80% bonds – which the Board of Directors defined in advance), then this is an activity of the corporation that carries responsibility alongside it. This is not negligible or insignificant activity, which cannot tie the company to any criminal act it involved, but rather a meaningful action, both for Ofer, and certainly from an objective perspective. Even when taking a closer look, we are dealing with the significant amount of about NIS 24 million which was invested in Melisron’s bonds within the expansion of the series in December 2009. From this perspective, too, Madar was authorized, with the knowledge of Levi – the company’s dominant CEO – to invest tens of millions of shekels in bonds of the daughter company Melisron, when nearing the expansion of the series. In other words, in filling the function of the investment activity in Ofer investments, and particularly with regard to the investments in the bonds during the series expansion, it is clear that Madar was the party authorized by the company, who expressed its voice and will” (p. 127 of the verdict).

I do not see it necessary to add to this. Therefore, should my opinion be heard, we will not accept the companies’ appeal against their convictions.

Obiter Dictum – Conviction in a Conglomerate

132.Once it was found that each of the companies was independently responsible for Madar’s actions, under the organ theory, it is unnecessary to decide whether to convict the Ofer Group as a whole. I will note, however, that it is possible that even if it was not found that each of the companies was directly criminally responsible, our matter would have warranted examining both companies as if they were one company, and establishing their responsibility accordingly. Indeed, as known, “ordinarily, a corporation which chose to facilitate the operation of its business by employment of another corporation as a subsidiary will not be penalized by the judicial determination of liability for the legal obligations of the subsidiary” (Anderson v. Abbot, 321 U.S. 349, 362 (1944)). However, there are situations where it would be appropriate to convict the conglomerate as a group, because the law must trace the nature of the activity rather than the formal structure of incorporation, so that one cannot hide wrongdoings behind the corporate veil as an artificial shield:

“The inherent power of the Commonwealth to prosecute those who violate the law, whether they be individuals or corporations, dictates that such offenders should not be permitted to insulate themselves from criminal prosecution by shielding themselves behind instrumentalities which they promulgate to conceal their criminal acts. This is especially true of large endocratic corporations, which are structured to enable themselves to create a flow of authority from the upper echelons of directors and officers to lower ranks of corporate executives. Such a structure makes the responsibility for a criminal act more easily susceptible to concealment. Even greater clouding of responsibility by a corporate principle takes place where a corporation principal creates subsidiaries and business trusts to carry out its everyday administration and business operations. We find it appalling that such a corporate structure would be allowed to shield those corporate entities which directly or indirectly receive the monetary benefit of criminal activity and at the same time avoid the sanctions which may be imposed upon those corporate employees who commit the actual criminal act” (Commonwealth v Beneficial Finance Co., 275 N.E.2d 33, 94 (Mass 1971) cert. denied 407 U.S. 914 (1972) (Hereinafter: “the Beneficial case”).

And so, for example, it has been established in American law that conglomerates should be criminally convicted as one when one of the companies completely or almost completely controls the daughter company; when the senior officers of the companies are the same people; when the companies consider themselves to be one; and when the daughter company was essentially run as a department in the parent company (the Beneficial case; Garett v. Southern Railway Company, 173 F. Supp. 915 (1959); Richard S. Gruner Corporate Criminal Liability and Prevention, s. 5.02 (2004)). It is clear that the existence of each of these indications cannot lead to a finding that the companies operated, at least insofar as the concrete offense is concerned, as if they were one, but it should be examined whether the totality of circumstances indicates so. Here, too, it is ultimately a question of normative legal policy:

“Because society recognizes the benefits of allowing persons and organizations to limit their business risks... sound public policy dictates that imposition of alter ego liability be approached with caution... Nevertheless, it would be unjust to permit those who control companies to treat them as a single or a unitary enterprise and then assert their... separateness in order to commit frauds and other misdeeds with impunity” (Las Palmas Associates v. Las Palmas Center Associates 235 Cal.App.3d 1220, 1249 (1991) see also Beneficial, p. 289).

As we have said – one cannot hold the stick at both ends and enjoy both worlds according to changing considerations of convenience.

133.And in our case – from the way the companies’ arguments were made, one could think that we are dealing with two stranger companies – as if Ofer Investments’ CEO is not Ofer Development’s CEO; as if Ofer Investments’ financial manager is not the same as Ofer Development’s; and as if Ofer Investments does not fully own Ofer Development. In addition to these initial given circumstances, the different testimonies heard by the court reveal that, on its face, the companies operated – at least to the extent that our matter is concerned – as one. As Levi noted in his testimony:

“In reality, when we look at how this whole mechanism is managed, all the daughter companies are fully transparent as if there are no companies, we view them with full transparency directly toward the assets, there is no significance but for the aspects of accounting – that they must have different balances – or for the aspects of taxation – that they have separate reports. But from a perspective, from a business perspective, we consider this as full transparency as if it is one company… from a management perspective, too, Ofer Investments’ leadership manages all the companies under it”. (Record of hearing dated December 27, 2012, p. 589, l. 13-22).

And additionally:

“As far as we are concerned, Ofer Investments and Ofer Development does not mean anything. It doesn’t matter who the buyer is, because to us if Ofer Development made the purchase, it is as if Ofer Investments made it”. (Record of hearing, dated December 27, 2012, p. 638, l. 25-26).

Additionally, throughout Madar’s entire testimony, and we already discussed parts of it above, Madar addressed the interests of Ofer Group, without distinguishing between Ofer Investments and Ofer Development (see for instance the record of hearing dated January 26, 2013, p. 731, l. 16-17; p. 733, l. 6-9; p. 757, l. 28-30).

Ms. Yochi Yaacovi, who served as an accountant and Vice President of finances in Ofer Investments, said similar things, too:

“Ofer Investments and Ofer Development operate together because all the private companies are managed by the leadership together. There is no difference.” (Record of hearing dated September 11, 2012, p. 121, l. 1-2).

And later, when she was asked about the investment policy of Ofer Development, she replied:

“Ofer Development itself didn’t have a policy, there was a policy in the private company within Ofer Investments…” (Record of hearing dated September 11, 2012, p. 121, l. 24).

Mr. Mordechai Meir, who served as a director of Ofer Investments, similarly noted:

“Adv. Negev: …when we’re talking about Ofer Investments, it is a private company, right?

Mr. Meir: Yes.

Adv. Negev: And it has a pretty large number of daughter companies, and when we talk about Ofer Investments, about its investments, its activity and so on, is it true that you, as a board of directors, viewed it as one entity, not as each of the daughter companies on its own?

Mr. Meir: Certainly.

Adv. Negev: So it does not matter if it operates through Ofer Development or another Ofer, you saw it as one entity?

Mr. Meir: Correct.”

(Record of hearing dated September 13, 2012, p. 166, l. 3-11).

In other words, we are concerned with two companies who are closely tied by ownership, and are almost identical with regard to their officers. Ofer Investments served as a “headquarters” and decided upon the investment, while the investment was in fact made with Ofer Development’s funds. It is doubtful whether Ofer Development had any independent decision making mechanism that did not rely on Ofer Investments. As reflected in the testimonies of the two companies’ senior officers, even they did not distinguish between the two companies and regarded them as one. Therefore, on its face, at least with regard to the investment at hand here, the two companies acted as one entity, and thus even if we had not found that each of them should be held specifically responsible for Madar’s actions as an organ in each of the companies, it is doubtful that we should have accepted the companies’ request that “this honorable Court view each of them separately as related to the acquittal of the first defendant, the rejection of the theory about the influence plan, the timing of the offense and the exception to the organ theory” (para. 44 of the notice of appeal). However, as noted, these things are said beyond the necessary scope, as it was found that each of the companies is in itself responsible for the actions of its organ.

Ofer Investments and Ofer Development’s Sentence and the Appeal against It

134.The court considered the State’s arguments that the fine imposed on the companies should be heavy in light of their substantial trading volume and the need for a severe sentence that would deter them in the future. On the other hand, the court considered the companies’ argument that, until today, the fine for such offenses was set at only NIS 140,000-150,000, and when fines exceeded these sums, it was under much more serious circumstances. The companies also argued that they took upon themselves a restrictive corporate regime beyond what is required of them because they are not traded in the stock exchange, and that their conviction relied on the organ theory, and the organ committing the offense was not the most senior, and it was not proven who of the senior officers instructed him to do so. Finally, it was noted that Ofer Investments must be distinguished from Ofer Development for these purposes, as Ofer Development is the one who made the actual investment.

135.The court held that the companies’ argument that they should be distinguished from each other is to be rejected, as noted in the verdict, because such distinction is artificial. As to the amount of the fine, it was noted that under section 54 of the Law, following Amendment 45 dated January 27, 2011, had the offenses been committed today it would have been possible to impose a fine of NIS 22,600,000 on the two companies for the two offenses. Therefore, even if at the time the offenses were committed section 54 permitted imposing a fine of only up to NIS 1,100,000 on each company for each offense, Amendment 45 reflects the Legislature’s desire to increase the level of sentencing for these offenses, and this should be taken into account when deciding the fine in our case. The court therefore noted that the proper fine in our case is the maximum fine of NIS 1,100,000 for each company, however, separate fines should not be imposed for the manipulation offense and the inducement offense as both were a result of the same action. It was also noted that had the court been authorized to rule under the Amendment to the Law, it would have set the amount of the fine between NIS 2-4 million for each company, given their significant trading volume and the fact that they did not adequately supervise Madar. Rather, they allowed him to do as he wished with millions of shekels, and did not instruct him against making transactions that belonged entirely to the same conglomerate.

136.In their appeal, the companies argue that the court erred by imposing the maximum fine on Ofer Investments and Ofer Development without examining the appropriate sentencing range. It was additionally argued that the mere fact that the Securities Law was amended to allow imposing a higher fine is not in itself a reason to impose the maximum fine on the appellants. It was then argued that examining the fines previously imposed in similar cases, including more serious ones, points to the fine here being extremely unusual in its severity.

137.On the other hand, the Respondent argues that although the District Court did not explicitly mention the sentence range appropriate in this case, it did substantively consider the factors detailed in the amendment to the Penal Law that influence this range. Thus, for instance, the court correctly attributed a significant weight to the companies’ financial strength, and the fact that a fine lower than that imposed would not meaningfully deter the companies from committing similar offenses in the future. This consideration is consistent with section 40H of the Penal Law, which stipulates that when imposing the appropriate sentence, the court must consider the defendant’s financial circumstances. Therefore, there is no room to intervene in the fines imposed on the companies.

138.I believe there is no room to intervene in the amounts of the fines that were imposed on the companies. As opposed to Ofer’s arguments, I believe there is great significance to the fact that the Legislature considered the issue, and that today – as the District Court mentioned – it is possible to impose in a case such as this a much higher fine (though, of course, the new legislation should not be applied retroactively). Section 40H of the Penal Law states that while imposing a fine on a criminal defendant, the court must consider the defendant’s “financial situation, in order to establish the appropriate range of fine.” I believe this is even more apt insofar as the conviction of corporations is concerned, and this was explicitly taken into account in the creation of the financial sanctions mechanisms in the provisions of financial legislation (see section 52.17(b) of the Securities Law; section 50D of the Antitrust Law 1988, and section B(8) of G 2/12 – The Considerations of the Antitrust Authority in Setting the Amount of a Financial Sanction, dated July 24, 2012). And recall that a conviction under the organ theory was designed first and foremost to deter, whether the specific corporation or a corporation like it, from committing similar acts in the future, and therefore deterrence considerations must be given substantial weight in setting the fine amount. This is also consistent with section 40F and section 40G of the Penal Law, which address considerations of specific and general deterrence, respectively, when imposing a sentence.

139.In our case, as Ofer Group presents itself, it is “one of the leading business groups in the Israeli economy” (see the company’s website: http://www.oferinvest.com/ofer-investments/group/). Ofer’s financial strength can also be inferred from Levi’s testimony, which noted that at the time relevant to the commission of the offenses, the insurance system of the Group included NIS 6 billion in assets, and at the time of the testimony reached NIS 15 Billion. The Group’s investment portfolio stood at the time at NIS 150 million (Record of hearing dated December 27, 2012, p. 594, l. 3-7). Therefore, in our case, imposing a fine lower than the maximum fine would not sufficiently deter the companies, or companies like it, from committing similar offenses in the future, and it would be inconsistent with the trend, which we pointed to above, of increasing the level of sentencing in these offenses. Additionally, as the District Court noted and I must agree, had the new amendment to the Law applied here, it would have been appropriate to impose a much higher fine upon each of the companies.

CrimA 99/10 – The State v. Melisron

140.In this appeal, the State challenges Melisron’s acquittal. It was agued that the court’s finding that Madar committed the offenses of manipulation and inducement, as well as the reporting offenses, outside of his role at Melisron was incorrect. This, because Madar was an organ of Melisron while conducting this activity, because the activity was designed to benefit the company and did in fact benefit it. Therefore, according to the principles on which organ theory is based, as we discussed above, it is both desirable and necessary to convict Melisron for Madar’s actions.

141.According to the legal framework of the organ theory, we will now examine whether the main aspects of the doctrine apply to Melisron. The preliminary question is of course whether Madar can be seen as an organ of Melisron for our purposes. The District Court refrained from making such explicit findings. However, according to the State, Madar’s sentence reveals that his role in Melisron was significant – as its financial manager, signatory and participant in board meetings (p. 6 of the sentence). The appellant maintains these claims are unfounded because Madar did not serve as an organ of Melisron, rather as merely an external service provider (para. 13 of the main arguments). Alternatively, even if the Court was to find that Madar did in fact serve as an organ, he did not commit the offenses attributed to Melisron in the course of his duties there, but rather – as noted by the District Court – in the course of his role in Ofer Investments and Ofer Development.

142.I will first note, that in my opinion, Melisron’s argument that Mader should not be considered an organ of the company merely because he did not serve as a financial manager in the company, but externally as a “financial services provider” should be rejected. This is because the law is not satisfied by how things look on their face, but instead examines them substantively. This is necessary in order to realize the law’s most basic purpose – justice (on the tension between form and substance, see A Barak, 196-197 (1992)). This was established in this Court in different areas of the law (see e.g. HCJ 107/59, Itzhak Mey-Dan v. The Local Committee for Construction and Planning of the City of Tel Aviv Yaffo, IsrSC 14, 800, 808 (1960) (construction and planning laws); CA 6926/93, Mispanot Israel Inc. v. The Electric Company Inc., IsrSC 48(3) 749, 771-72 (1994) (administrative law); CA 455/89, Colombo, Food and Drink Inc. v. Trade Bank Inc., IsrSC 45(5) 490, 495 (1991) (property law); CA 345/87, Hughes Aircraft Company v. The State of Israel, IsrSC 44(4) 45, 106 (1990) (patent law); CFH 3962/93, Shlomo Minz v. Tax Assessor of Large Factories, IsrSC 50(4) 817, 831 (1996) (tax law); CrimFH 188/94, The State of Israel v. Abutbul, IsrSC 51(1) 1, 10 (1996) (evidence law); and LCrimA 7946/09, New Makefet Pension and Benefits Management v. Yael Anuch, para. 14 (2012) (insurance law). Corporate law, which is the relevant area of law to our case, is no different, and as Gross notes: “the common approach in corporate law emphasizes the nature of the organ’s activity rather than the formal appointment” (Id., p. 124).

143.Indeed, Melisron does not argue that its financial matters were not managed by Madar, and even refers to the District Court’s finding that Madar managed the finances with Levi (para. 19 of the main arguments). Mardar himself testified that he did actually manage Melisron’s finances:

“When I need to operate for Melisron, I wear the hat of Melisron’s financial manager, and work towards Melisron’s goals.” (Record of hearing dated January 16, 2013, p. 731, l. 25-27).

And this is also supported by Levi’s testimony:

“I said, and I am saying, I was also the strong person in Melisron, and in Ofer too, I said Golan managed Ofer’s finances and Melisron’s finances.” (Record of hearing dated December 27, 2012, p. 647, l. 20-21).

Melisron’s claims, then, relies on the technical aspect of how Madar provided his services to the company. This is particularly puzzling because this is not an “external service provider” who is foreign to Melisorn, but rather Ofer Group, who, as noted, controls Melisron. Therefore, even if only for this reason, Melisron’s argument that Madar must not be considered an organ of the company should be rejected.

144.In addition, I believe that the function Madar filled in Melisron indicates that he should be considered an organ of the company in all regards concerning the offenses at hand. As mentioned, and as the District Court ruled, and as undisputed by Melisron, Madar managed Melisron’s financial affairs along with Levi. Additionally, Madar participated in the specific Board of Directors meeting where the offering of the relevant bonds was decided (Prosecution exhibit 15: minutes of meeting dated November 4, 2009), as well as played an active role in promoting the offering, including reporting to the stock exchange (see Prosecution exhibits 19 and 21, email messages in which Madar approves the report to Melisron’s attorney, and his testimony dated January 16, 2013, p. 740-41, where he detailed his part in the offering). As a result, examining the nature of Madar’s role in Melisron, to the extent this case is concerned, demonstrates that he should be seen as an organ of the company.

145.Recall that under organ theory, in order to impose criminal liability upon Melisron, it is insufficient that Madar operated as an organ. In our case, the core of the issue is whether it can be shown that Madar committed the offenses, particularly the offenses of manipulation and inducement, within the course of his duties in Melisron and not just in the course of his duties in Ofer. The District Court found that “the criminal activity at the center of the inducement was committed in the course of bond purchases that Ofer made and in which Melisron had no part (and as a result neither did Madar, as an employee or organ of Melisron (para. 335 of the verdict). Indeed, there is no dispute that the funds relevant to the offense were Ofer Development’s funds. However, I believe – with all due respect – that this finding by the District Court does not take into account the circumstances of this particular case: Madar operated as the financial Manager of both Melisron and Ofer. As noted, he did not see a conflict of interests in his work for both companies, and he mentioned that while committing the offense “he had Melisron’s goals in mind” (Record of hearing, p. 732, l. 29-32). As we discussed above in regard to Ofer, when one holds office in two companies that are related by ownership, and operates within one company in order to benefit the other, this can tip the scales in favor of imposing criminal responsibility on both companies, directly, as a result of that person’s activity as an officer in both companies. In addition, the case law tends to interpret this requirement – which is designed to distinguish one’s activities in their private hat from their activities in their corporate hat – broadly, and it is undisputed that Madar’s activity was committed in the latter.

146.Further, it is certainly impossible to say that Madar did not operate in Melisoron’s interest. Quite the contrary, as mentioned above, Madar noted that in his activities he meant to benefit Melisron, and indeed he did. While his activities could benefit Ofer indirectly (as a result of Ofer’s ownership of Melisron, and the rise in the value of its bonds), Melisron was the primary beneficiary of his actions, since the result of Madar’s support of the price meant the rise of Melisron’s bonds price. See Bahir’s opinion, according to which, any rise of a single Agora of the series D bonds would have resulted in revenue of NIS 1.46 million to Melisron (section 169 of the opinion). As discussed above, the fact that one operated to benefit the company where they serve as an organ is a subset of the test as to whether they operated within the course of their duties. Thus, once it was found that Madar acted to benefit Melisron it was sufficient to support the finding that he executed the influence plan in the course of his role in Melisron – and therefore convict Melisron under the organ theory.

147.We will mention that a conviction based on the organ theory is a matter of desirable legal policy. We are concerned with a conglomerate, in which one company in the conglomerate (Ofer Investments) decides upon a certain investment, another company (Ofer Development) is the one to actually make the investment, and a third company (Melisron) enjoys the investment. The person who made the investment, in a manner that amounts to a criminal offense, served as an organ in each of the companies and took an active role in the relevant decisions in each of the companies. The other senior officers (Levi and Yaacovi) served in parallel positions in the companies where the relevant decisions were made, and were therefore in a position to supervise the organ’s activities. When putting all of this together, a proper legal policy leads to a conclusion that each of the companies must be convicted for the action of the person who served as an organ in each of them.

148.I will emphasize that this finding applies to both the offenses of manipulation and inducement and the reporting offense. In terms of the manipulation and inducement offenses – the points above speak for themselves, where Madar took part both in Melisron’s decision to expand the series and in Ofer’s decision to purchase series D bonds. With regard to the reporting offenses, I myself do not believe the District Court’s finding that Madar’s position in Melisron does not warrant attributing his actions to the company can stand (paras. 348 and 367 of the verdict). As mentioned, Madar effectively served as Melisron’s financial manager and was an authorized signatory; At the April 5, 2009 Board of Directors meeting he was appointed to set the terms of the prospectus based on which the expansion was executed (Defense exhibit 11), and on November 25, 2009 he emailed Melisron’s lawyer about the report regarding the bonds purchase, where he wrote “Alright with me, if Avi does not have any comments we can issue the report” (Prosecution exhibit 19). As for the shelf report, at the December 2, 2009 Melisron Board of Directors meeting, which – as found – was held after Madar’s fraudulent intent had materialized and where Madar was present, the shelf proposal report was discussed and approved (Prosecution exhibit 33). Therefore, I am afraid that the District Court’s finding that Madar’s position does not justify attributing his conduct to Melisron in this matter should be reversed, and Melisron should be convicted of the reporting offenses.

149.As a side note, as I mentioned with regard to Ofer Investments and Ofer Development, it is possible that here, too, Melisron should have been found criminally responsible by virtue of Ofer’s criminal responsibility (even if we had not found that Madar served as an organ of Melisorn or thought that he did not commit the offense in the course of his duties). At the relevant time, Ofer Investments owned 71% of Melisron’s shares. As mentioned, Levi, who at the time served both as CEO of Ofer Investments and as acting CEO of Melisron, played a role both in the decision to expand the series, as an officer of Melisron, and in the decision to purchase the bonds, as an officer of Ofer Investments. The same is true for Madar, who was charged with both companies’ financial management, and for Yaacovi, who served as financial vice president in Ofer Investments and took care of Melisron’s financial reports (Record of hearing dated September 11, 2012, p. 120, l. 10-11, p. 122, l. 20-21). As mentioned, they all attended the Board of Directors meeting in which Melisron decided to expand the series (see record of hearing dated November 4, 2009, Prosecution exhibit 16). In addition, Levi testified that Melisron was in effect managed by Ofer:

“Ofer Investments also controlled Melisron, and in Melisorn, Melisron did not have its own management. In other words, all the financial management, all the accounting, and essentially managing of the transactions were done through the management of Ofer Investments, which I headed. So from a business perspective, I effectively also managed Melisron.” (Record of hearing dated December 27, 2012, p. 588, l. 21-25).

However, as opposed to Ofer’s matter, I believe that we were not presented with sufficient evidence and testimonies to suggest that the companies operated as one. As said, convicting a conglomerate as a group is the exception rather than the rule. With regard to Ofer, many testimonies were presented to show that the companies were managed, to a great extent, as one, and were treated as such by the senior officers. Similar evidence was not presented with regard to Melisron, and I therefore believe that there was no room to impose criminal responsibility on it as part of Ofer Group’s responsibility as a group. As mentioned, this is said beyond the necessary scope, as Melisron has been found to be directly responsible for Madar’s actions, both with regard to the offenses of manipulation and inducement and to the reporting offenses.

150.To summarize, I believe the State’s appeal should be granted, and that Melisron should be convicted of the offenses for which it was indicted: fraud in regard to securities by means of influencing the fluctuation of the securities’ price – an offense under section 54(a)(2) of the Securities Law; fraud in regard to securities by means of inducement or attempt to induce to purchase securities – an offense under section 54(a)(1) of the Securities Law; violating section 36 of the Securities Law and the Periodic and Immediate Reporting Regulations – an offense under section 53(a)(4) of the Securities Law, and violating section 16(b) of the Securities Law – an offense under section 53(a)(2) of the Securities Law.

151.As for the sentence: in the time relevant to the commission of the offenses, section 53(a) and section 54(a) of the Law stated that the maximum sentence for each of the offenses for which Melisron was convicted is a fine five times the fine set in section 61(a)(4) of the Penal Law, which, as we noted with regard to Ofer, was set at NIS 1,100,000 (5x220,000). As discussed, following Amendment 45 the fine allowed is much higher. As a result, in our case, the maximum sentence that may be imposed on Melisorn is NIS 4,400,000 for the four offenses for which it was convicted. However, as the District Court noted with regard to Ofer and Madar, the offenses were born out of the same activity, and thus, it is inappropriate to impose upon the company more than the maximum fine for committing a single offense.

152.On one hand, it could be said that Melisron’s responsibility is lower compared to Ofer’s, because the purchase activity at the basis of the offense was committed from within Ofer – the funds were Ofer’s funds, and the decision was made by Ofer’s directors. On the other hand, as opposed to Ofer, at the end of the day Melisron was convicted for committing fraud and manipulation and for the reporting offenses that were committed within this company.  This should be taken into account in establishing the severity of the sentence. Melisron is a public company, and according to its financial reports, its income for 2009 – at the time the offense was committed – was NIS 382.2 million (and for 2008 – NIS 283.1 million). Given all the above, and for reasons similar to those discussed regarding Ofer, I believe that the fine to be imposed on Melisron should be identical to that imposed on Ofer Development and Ofer Investments. That is, the maximum fine permitted by the Law at the time relevant to the offenses – NIS 1,100,000. As we mentioned regarding Ofer, any amount lower than this would not deter the company, or others like it, from committing similar offenses in the future.

Conclusion

153.Should my opinion be heard, with regard to Madar, Ofer Invetsments and Ofer Development, we would reject the appeals before us – CrimA 1829/14 and CrimA 1899/14 – and uphold the judgment of the District Court, both for the conviction and for the sentence. On the other hand, we would grant the appeal by the State in CrimA 99/14, and hold that Melisron should be convicted of the offenses of manipulation, inducement and reporting, and impose upon it a fine of NIS 1,100,000.

Madar will report to serve his sentence on December 1, 2015 at the Y.M.R. Nitzan Prison by 10am.

                                                                                    Justice

Justice U. Vogelman:

                  I join the comprehensive opinion by my colleague Justice E. Rubinstein.

                  The question whether the manipulation offense is a result offense does not require determination in our matter (as noted by my colleague) and I leave it, as I do the side note regarding conviction within a conglomerate, for future determination.

                  As for the mens rea of the manipulation offense – I accept my colleague’s conclusion that an intent to artificially influence the price must be proven. Where the defendant’s intent to influence the price by fraudulent means was proven, that is a sufficient infrastructure for a conviction, even if this intent was coupled with a legitimate financial purpose. It is not necessary to prove that the fraudulent intent was the primary purpose, and that the other purpose was secondary.

                  I also join my colleague’s concrete findings regarding each of the defendants, both in terms of the convictions (including accepting the State’s appeal in regard to Melisron) based on the relevant legal framework, and in terms of the sentences. In its sentence, the District Court attributed proper weight to public interest in combating financial offenses in the stock market and to the jurisprudence of this Court, which my colleague also detailed at length. This consideration was balanced with mitigating factors resulting from the particular nature of the case and the people at hand, particularly that of Madar’s, whose lapse is indeed unfortunate. I also believe that there is no reason to intervene in the outcome of this balance between the factors considered in this case.

                                                                                    Justice

 

Justice D. Barak-Erez:

1.I join my colleague’s Justice E. Rubinstein’s comprehensive opinion, and wish to not decide the issues discussed here beyond the necessary scope, and acknowledge that the current scope is too narrow to fully and exhaustively address them. For instance, insofar that the issue of conviction within a conglomerate is concerned, although I believe that there is good reason for the trend my colleague pointed out, I wish not to take a stand as to the conditions and circumstances under which it would be appropriate to do so.

2.I wish to add that in my opinion, the finding that the offense established by section 54(a)(2) of the Securities Law (the “manipulation” offense) is also committed under the circumstances of “mixed purposes” – committing an act in securities in order to influence their price with the additional purpose of making a “good investment” – is understandable, and even obvious. Let us imagine a case where a person who trades in securities is faced with a choice between two avenues of action – influencing the price of a security, an investment which will also yield “legitimate” financial benefits, versus influencing a price of a security, an investment which will not yield any financial benefits, and he opts for the former. Did he not commit an offense? The manipulation offense is designed to prohibit acts in securities in order to influence their value in the market. What is it to us if the person committing the prohibited act thinks that the activity will also financially benefit him or the corporation in which he is employed? The harm to the value protected by this offense – protecting the investing public from artificial changes in the securities price in a manner that distorts their trading – is caused either way. It is easy to understand that there are additional possibilities of completely lawful investments in securities, which may also have financial benefits. These were not made by the person committing the offense because the decision on the investment was joined all along by the intention to also impermissibly influence the prices of the securities. This is, essentially, the distortion caused to the market when securities are traded out of “mixed proposes.” An ordinary decision by an actor in the stock market is based on factoring the financial utility that may result from the investment. This is how the market maintains its efficiency – each security is traded according to “pure” financial considerations. However, in a case of “mixed purposes” there is an illegitimate consideration, which is unlawful, of influencing the value of securities. Of course, this manipulation, which is not visible to other investors, inherently distorts the market (because it introduces “foreign” considerations to the trade) and may mislead investors. These investors may believe that the security achieved a certain price as a result of “pure” financial considerations, whereas in reality, its trade resulted from irrelevant considerations in order to influence its price.

3.By way of analogy, it could be noted that even in other contexts, in and outside criminal law, an activity that is motivated by two purposes (one legitimate and one prohibited), and even a double motive (legitimate and prohibited), may be considered unlawful and prohibited, all according to the purpose at the base of the relevant statute. For instance, let us imagine a situation where a public official appoints people to whom he has close political ties in order to advance the official’s own self interest. The wrongdoing here is not “wiped” only because the official chose good and qualified people in the official’s mind who also happen to be closely tied politically to him. The mere fact that selecting good and qualified people was limited to the relevant political circle seemingly lays the foundation for the conclusion that this is prohibited and wrong conduct. The argument that the appointee is qualified is immaterial. Discrimination law is similar: an employer’s decision to hire a male candidate over a female candidate because he prefers working with men is wrong and prohibited, even if an additional consideration supporting the decision was that the man’s compensation requirements were lower than the woman’s – the mere consideration of the woman’s sex as a “disadvantage” is prohibited (see and compare HCJ 706/94, Ronen v. The Minister of Education and Culture, IsrSC 53(5) 389, 421 (1999)). This is the law applicable here, too, with the necessary changes. The mere fact that the activity in the securities intended to manipulatively influence their price also had, arguably, a legitimate financial reason, does not cure the harm to the protected societal value. As a result, an activity in securities with the intent to influence the market is always wrong. The fact that this intent was coupled with other purposes, and even if these purposes were substantial in the eyes of the perpetrator, they cannot serve as a defense against a criminal conviction. This unequivocal message ought to be internalized by all those acting in the stock market.

 

                                                                                    Justice

Decided according to the opinion of Justice E. Rubinstein.

 

Given today, December 25, 2014.

 

 

Justice                                                 Justice                                                 Justice

 

CA 563/11

ADIDAS SALOMON AG

 

v.

 

1.    Galal Yaasin

 

2.    State of Israel – Customs and V.A.T. Branch  - Formal

 

 

The Supreme Court Sitting as the Court of Civil Appeals

[15 February 2012]

 

Before Vice President (Ret) E. Rivlin, Justices E. Hayut, E. Rubinstein

 

Appeal of the judgment the Tel-Aviv Jaffa District Court of 13.12.2010 in CF 2177/05 handed down by Hon. Judge M. Agmon-Gonen.

 

Israeli Legislature Cited

Trademarks Ordinance, s.1

Commercial Torts Law 5759-1999, s. 1

Unjust Enrichment Law 5739-1979

 

 

Israel Supreme Court Cases Cited  

 [1]  LCA 5768/94 ASHIR  Import, Export and Distribution v. Forum for Fixtures and Consumption Products Ltd [1998] IsrSC 52 (4) 289.

[2]  (LCA 9307/10 Adidas Salomon A.G. v. Yaasin (not yet reported,21.12.2010).

[3]  C.A. 715/68 Pro-Pro Biscuit v Promine Ltd [1969], IsrSC 23 (2) 43.

[4]  CA 3559/02 Center for Toto Zahav Subscribors v. Council for Regulation of Gambling in Sport [2004] IsrSC 59 (1) 873.              

[5]  CA 9191/03 [2004] V & section Vin Spirt Aktiebolag v. Absolute Shoes, IsrSC 58 (6) 869

[6]  CA 18/86 Israel Glass Factories Venice Ltd v. Les Verrcies De Saint Gobain, IsrSC 45 (3)  224

[7] CA 11487/03 August Storck v.  Alfa Intuit Food Products Ltd. (not reported, 23.3.2008);

[8]. CA 5792/99 Tikshoret Religious-Jewish Education Family (1997) Ltd "Family" Newspaper v. S.B.C Publication, Marketing and Sales Ltd - Mishpacha Tova Newspaper[2001] IsrSC 55 (3) 933. 

[9] CA 3581/05 Shehana'al Mat'ima Ltd v. ADIDAS-SALOMON (not reported – 7.7.2005).

[10]  LCA  3217/07 Brill Footwear Industries Ltd v.  ADIDAS SALOMON A.G. (not reported, 16.8.2007).

[11] HCJ 144/85 Kalil Non-Metallic Steel Industries  Ltd. v. Registrar for Patents and Designs and Trademarks[1988] IsrSC 42 (1) 309.

[12]    LCA 5454/02 Ta'am Teva (1988)  Ltd v. Ambrozia Sofharb Ltd [2003] IsrSC 57 (2) 438, 450 (2003), IsrSC 57 (2) 438,

[13]  C.A. 9070 Tali Dadon Yifrach v. A.T. Snap Ltd  (not yet reported, 12.3.2012).

[14]  CA 261/64 Pro-Pro Biscuit v. Promine Ltd [1964] IsrSC 18 (3) 275.

[15] CA 4116/06 Gateway Inc. v. Pascul Advanced Technology Ltd  (not reported, 20.6.2007) 

[16] CA 10959 Tea Board India v. Delta Lingerie, S.A. OF Cachan (not reported, 7.12.2006).

[17] CA 8441/04 Unilever P v Segev (not reported, 23.8.2006)

[18] LCA 2960/91 Wizzotzky Tea and Co. (Israel) Ltd v. Matok (not reported, 16.1.1992).

[19]  LCA 6658/09 Moltilock ltd v. Rav Bariah(08) (not  yet reported, 12.1.2010).

[20] LCA 1400/97 Picanti Food Industries  (Israel) Ltd v. Osem Food Industries Ltd [199]] IsrSC 51 (1) 310.

[21] CA 8981/04 Avi Malka - Avazei Hazahav Restaurant v. Avazei Shechunat HaTikva (1997) Restaurant Management Ltd (not reported, 27.9.2006).

[22] 210/65 Iggud Bank Ltd v. Agudat Yisrael Bank Ltd [1965] IsrSC 19 (2) 673.

[23] CA 3975/10  Phillip MORRIS PRODUCTS S.A נ' AKISIONERNO DROUJESTVO (not yet reported 21.10.2011)

[24] CA 6181/96 Kardi v. Bacardi and Company Limited [24], IsrSC 52 (3) at p. 276.

[25] LCA 10804/04 Prefetti Van Melle Benelux B.V. v. Alfa Intuit Food Products Ltd  (2005) IsrSC 59 (4) 461.

[26] 6025/05 Merck and consideration. Inc v, Teva Ta’asiot v. Teva Pharmaceutical Industries Ltd (not yet reported, 19.5.2011).

[27] (CA 945/06 General Mills Inc. v. Meshubah Food Industries Ltd (not yet reported, 1.10.2009)

[28] LCA 371/89 Leibovitz v. Etti Eliyahu Ltd [1990] IsrSC 44 (2) 309.

[29]  CA 588/87 Cohen v. Zvi Shemesh [1991] IsrSC 45 (5) 297.

[30]  FHC 10901/08 Beizman Investments Ltd v. Mishkan Bank Hapoalim Mortgages Ltd (not yet reported 17.7.2011)

[31] CA 2287/00 Shoham Machines and Dies Ltd v. Shmuel Harar (not reported, 5.12.2005)

[32] see CA 347/90 Soda Gal Ltd v Spielman [1993] IsrSC 47 (3) 450.

 

For the appellant — Adv. Eitan Shaulski; Adv. Inbal Nabot-Eizenthal.

For the respondent — Adv. Israel Sadeh; Adv. Amir Freedman

 

JUDGMENT

Justice E. Hayut

       This is an appeal against the decision of the Tel-Aviv Jaffa District Court (Hon. Judge M. Agmon – Gonen) of 13 December 2010 which dismissed the action filed by the Appellant against Respondent 1 for a violation of trademark, passing off, damage to good will, and unjust enrichment.

Factual Background

The Appellant, ADIDAS-SALOMON A.G. (hereinafter: Adidas or the Appellant) is a company engaged in sport products, footwear and clothing and the owner of a trade symbol registered in numerous states around the world, including Israel. Adidas owns three trademarks in Israel that are relevant to this appeal: Trademark No. 45237, Trademark No. 33479 and Trademark No. 118277, all of them in category 25, consisting of three parallel diagonal stripes on the sides of sports shoes, simple comfortable shoes, athletic shoes and every day shoes (hereinafter – “Three Stripes Ossiman trademark”).

Respondent 1, Mr. Galal Yaasin (hereinafter: the Respondent) deals in the importing of shoes to the area of the Palestinian Authority.  In 2005 the Respondent imported sports shoes from a factory in China and  per his order the shoes featured four stripes with the name “SYDNEY” embossed on them in three different places (hereinafter: the shoes, or the Respondent’s shoes). The consignment of shoes arrived in the Ashdod port and at the end of August 2005 a notification was sent to Adidas by Respondent  2 – the Customs and V.A.T. Authority (hereinafter: the Customs Authority) stating that it was delaying the consignment because according to the appearance of the shoes, the Respondent was prima facie infringing its intellectual property rights.  As against the deposit of a bank guarantee the Authority personnel gave the Adidas attorney the details of the Respondent and one sample shoe from the consignment (in his cross examination the Respondent confirmed that the shoe is representative of the other shoes in the same consignment).  Adidas was of the opinion the appearance of the shoes was similar to the extent of being misleading to the shoes that it produced, and that it therefore constitutes an infringement of its trademark. The Respondent on the other hand, claimed that the shoes he had imported did not infringe the registered trademark of Adidas, but for the sake of compromise he proposed to Adidas to make a certain change in the design of the shoe so that a fifth stripe or the mark X would be added to the four stripes, and that this addition would be made at in the precincts of the port.

Adidas rejected the Respondent’s proposals, and the Authority therefore continued to delay the shoes in its storerooms. Moreover, on 4 September 2005 Adidas filed an action against the Respondent in the Tel-Aviv Jaffa District Court, petitioning for a permanent injunction that would prohibit the Respondent from making any use of the shoes that without authorization featured its trademark or a mark that was similar to it, including upon shoes featuring four parallel, diagonal marks on the sides. In addition, Adidas petitioned for an order to destroy the Respondent’s shoes and for a remedy of damages, and for a detailed accounting regarding the actions and transactions that had been done in relation to these shoes and similar products. It bears mention that in the wake of the application filed by the Customs Authority concerning the matter, the parties agreed that the storage costs and the responsibility and cost of destroying, to the extent that the court gave an order to that effect, would be born by Adidas or by the Respondent, in accordance with the results of the action, and the Customs Authority was also added as a formal respondent to these proceedings.

The Decision of the Trial Court

2.    On 13 December 2010 the Trial Court rejected the action and ordered the Customs Authority to release the shoes from its storerooms and to deliver them to the Respondent, and that the latter would be permitted to sell them. The court likewise ordered Adidas to bear all of the costs occasioned by the delaying of the shoes and their storage in the storerooms of the Customs Authority.

First, the Trial Court considered the analytical basis and the purposes of trademarks law, as well as their development over the years. The court ruled that the principal purpose of these laws was the prevention of unfair competition that stems from the misleading of consumers with respect to the source of the product they had chosen to purchase. Accordingly, in the absence of any misleading, it could not be ruled that there had been an infringement of a trademark.

In the case at hand, the Trial Court rejected Adidas principled claim that the mere use of an emblem comprising four diagonal stripes, even though the shoes did not feature any other sign or elements that resembled those of Adidas or an embossment mentioning its name, constitutes an infringement of the three stripes trademark. In this context the court ruled that the decision on whether there was a “confusing resemblance” was a normative (and not an empiric) decision, and its purpose was to  identify cases which posed a threat to fair competition and an attempt to benefit from the good will of others.  In our examination of whether there is a "confusing resemblance" as stated, between the Adidas trademark and the design of the Respondent's shoes, the Court applied the "three way test" established in case law in this context: the test of appearance and phonetic sound, the test of the class of merchandise and circle of customers, and the test of the remaining circumstances.  For purposes of the application of the first test, of appearance and sound, the Court examined in shoes in its entirety and determined that in view of the embossment of the name "SYDNEY" on three different places on the shoe, and given the use of four stripes (and not three) there was no fear in the current case of the misleading of the consumer public.  In this context the court rejected Adidas' claim that the comparison should only be between the "signs" that appear on the shoe and that the shoe should not be related to as a whole. In applying the second secondary test that relates to the class of merchandise and of clients, the Court gave consideration to the class and brand of the product, and ruled that since Adidas shoes are marketed as an expensive brand name whereas the Respondent's shoes are sold at a minimal price in the markets, there is no danger of confusing between the products on the consumers’ part. The Court further ruled that the fact that the three stripes sign is so well known and identified with Adidas removes any concern that consumers will make a connection between it and a shoe with a different number of stripes. As such, the Court ruled that a person who purchased the Respondent's shoes at all events had no intention of purchasing an Adidas shoe and even had he wanted to purchase a shoe resembling that of Adidas, this in itself attests to the fact that there was no misleading.   The Court further ruled that there were no grounds for protecting the proprietary and commercial interest of the owner of the trademark - Adidas- at the expense of the freedom of occupation of the principal business competitors, in the absence of any attempt to benefit from Adidas good will and in the absence of misleading.  This is especially so given that even if the business of the Respondent disturbs the Adidas business; it constitutes regular business competition and not unfair competition.  Accordingly, the Trial Court ruled that there had been no infringement and emphasized that for as long as the consumer is not deceived with respect to the product that he is purchasing there are no grounds for the limitation of his freedom of choice and his freedom of expression, while extending the protection of trademarks, and in its own words: 

'The public should be allowed the choice of purchasing a cheaper product, even though, or perhaps even because of the fact that there is certain similarity between it and the brand name product, provided that it is not deceived regarding the origin or the class of the product that he is buying”

3.         The Trial Court further rejected the Appellant's claims that the importing of the shoes constitutes the civil tort of passing off, in accordance with section 1 (a) of the Commercial Torts Law, 5759 (hereinafter - Commercial Torts Law). The Court noted that the tort of passing off has two foundations: good will, and the reasonable concern about misleading, and that it is intended to prevent unfair competition.  The Court further ruled that it is undisputed that Adidas has extensive good will in the area of sports footwear in Israel and around the world, and that accordingly the question to be examined in our case is whether there are reasonable grounds for the fear of misleading consumers.  The Court answered this question in the negative, pointing out that the tests for whether there is a “confusing resemblance” as far as it concerns passing off, are identical to the tests applicable in this context to the infringement of trademark.  However, whereas with respect to the infringement of trademark the examination relates to whether there is deceptive resemblance between the marks, regarding the tort of passing off, the question is whether the person’s actions in their entirety caused misleading in relation to the origin of the product.  In the case at hand, it was ruled that there is no fear of misleading regarding the origin of the product even in accordance with the tests applicable to the tort of passing off and the Appellant’s claims in this respect were likewise rejected.

The Court further rejected the alternative claims of the Adidas to the effect that the Respondent, in attempting to benefit from its own good will had become unjustly enriched at its expense, even were it to be ruled that he did not infringe the trademark registered in its possession. Regarding this, the court ruled that in LCA 5768/94 ASHIR  Import, Export and Distribution v. Forum for Fixtures and Consumption Products Ltd [1]  at p. 289 (hereinafter: ASHIR ) did establish a narrow opening for establishing the grounds of unjust enrichment in cases in which there was no infringement of the laws of intellectual property, but noted that the rule did not apply in this case, because even within the framework of unjust enrichment there must be an examination of the conflicting values in the concrete case. In that context the court’s view was that the use of the four stripes mark does not harm Adidas and the Respondent’s acts are not irregular, outrageous or such as give rise to unfair competition. The Court further noted that under the circumstances it was actually the filing of an action by Adidas that was outrageous, and that expanding the protection granted to Adidas under the grounds of unjust enrichment would damage competition and have a “chilling effect” upon manufacturers and merchants.

Finally, the Trial Court rejected Adidas’ claims concerning theft and the dilution of good will. In this context, the Court ruled that the Respondent had not made any unfair use of Adidas’ reputation, and that the central reason for the use of the four stripes could be the “creation of a market for designer sports shoes for a population that lacks the means of buying brand name sports shoes”. The Court noted that there was no tort of unfair exploitation of good will and hence any remedy under those grounds could only be given by force of unjust enrichment, and regarding that grounds that the Court had already concluded that Adidas cannot claim it. The Court further ruled that there can only be dilution of good will when there was use of a registered trademark other than in a field of the same “description” (within the meaning s.1 of the Commercial Trademarks Ordinance [New Version], and since it is undisputed that the Respondent did not use the registered trademark (three stripes) or that he used a name or another recognized feature of Adidas, then this grounds too was not proved.

It was for all of these reasons that the District Court concluded that no proof had been brought for misleading and unfair competition on the Respondent’s part, or an attempt on his part to benefit from Adidas’ good will. The Court further held that given the aforementioned situation, whatever is not considered to be included in the trademark should remain within the class of a public asset, and in its own words:

‘In order to ensure a competitive market with products from the entire range of prices and qualities, those with brand-names and without brand-names, in order to prevent harm to consumers that stems from costs related to trademarks and from the chilling effect as it touches upon manufacturers and small tradesmen, and in order to ensure the public assets, protection should be given by way of the trademarks law in accordance with their original purposes, which is the prevention of unfair competition, No protection in excess thereof should be given’

Accordingly, the Court dismissed the claim, and ruled that the shoes were to be released from the storerooms of the Customs Authority and that the Respondent should receive the shoes and be allowed to sell them “and in doing so to maintain a market of designer, non-brand name sports shoes, at a price payable by all of its consumers”. The Court further ruled that Adidas would bear the costs stemming from the delay and the storage of the shoes and it was also ordered to pay for the Respondent’s costs and legal expenses, for the sum of NIS 85,000 + V.A.T. 

4.  Adidas refuses to accept this result, and hence the appeal.

Notably, before filing the appeal, Adidas filed an application to stay the execution of the decision, arguing that the release of the shoes from the Customs Authority storerooms would irreversibly impair the right of appeal granted to it by the decision. The Court initially refused to rule on the application, inter alia in view of Adidas’ failure to pay the court costs imposed upon it under the ruling, and against that background, Adidas filed an application for leave to appeal to this Court (LCA 9307/10 Adidas Salomon A.G. v. Yaasin [2]. On 21.12.2010 the Court ruled (Justice Hendel) that the execution of the decision would be temporarily stayed until the Trial Court’s decision on the application to stay execution, and he further added an order to pay the legal costs to the respondent (it bears note that the payments were not finally paid by Adidas until 9 January 3022, and only after additional decisions that the Trial Court was forced to give regarding the matter). On 2 February 2011 the Trial Court ruled on the application for a stay of execution, ordering the attorney for Adidas to receive the shoes in trust, and that Adidas alone should bear the storage costs, including with respect to the period in which they were stored in the Customs storerooms, but that this sum would be returned to it by the Respondent should it win the appeal.

The Claims of the Parties

       5.         Adidas claims that the Trial Court failed to apply the rules determined by this Court with respect to the manner of examining an infringement of a trademark and passing off, and that its examination in this respect was novel and mistaken. It further claims that the decision of the Trial Court has far reaching implications for the trademarks law in Israel and that it creates uncertainty with respect to the scope of rights vesting in owners of such a mark.  Adidas maintains that contrary to the ruling of the Trial Court, the comparison should be drawn between the registered trademark and the mark appearing on the allegedly infringing mark, and not the overall appearance of the products on which the marks appear, in accordance with the initial impression that they evoke. Its claim is that the Trial Court applied these tests mistakenly when comparing its own trademark with the overall appearance of the respondent’s shoes, and it stresses that as distinct from its determination, the marks should be compared separately from the product.  Adidas claims that application of the current test - that was determined as the central test in this context and which stresses the test of appearance and phonetic tone - leaves no room for doubt that the infringing mark is confusingly similar to its own mark and it claims that in the past courts in the world and in Israel have ruled in that vein. Adidas further rules that the Trial Court conducted a particularly specific comparison between the products, placing one next to the other, and accordingly ruled that there was no confusing similarity based on the fact that the respondents’ shoes had four stripes and not three. According to its approach the sample of the Respondent’s shoes contains the Adidas trademark in its entirety with the addition of one stripe and that infringing mark should have been viewed in that manner, given that the consumer does not “count stripes” but rather will identify any number of diagonal stripes on the side of the shoe with its own shoes. Adidas further claims that the Trial Court applied the test of the class of clients in a mistaken manner and that its ruling that there is a distinction between the public that purchases Adidas shoes and the public that purchases the Respondent’s shoes is unfounded and mistaken.

Adidas further claims that the Trial Court ignored the proprietary protection conferred by the Trademarks Ordinance and in case law to a registered trademark against the use of marks resembling a registered mark. As such, it claims, preventing the use of a four stripe mark is not a matter of policy or of an extension of a vested protection, as determined by the Trial Court, but rather a simple application of the statutorily determined protection. Adidas stresses that it is not attempting to entirely prevent any marking of shoe products with a stripe, but rather their marking with stripes, number and style that are confusingly similar to its own trademark.  Likewise it claims that its trademark does not consist of a simple geometric shape, being rather a combination of marks, of which an exact copy was made by the Respondent, but with the addition of one more stripe, and as such these are not weak marks that merit less protection. In this context Adidas stresses that even a mark which the consumer is liable to view as a variation of an existing trademark, infringes a protected trademark.

6. In addition, Adidas claims that the Trial Court erred in its examination of the tort of passing off.   It argues that the examination should be of the overall appearance of the products, with emphasis on the faulty memory of the client, as distinct from making an exact comparison. It adds that insofar as the tort of passing off confers broad protection, it suffices if the consumer is liable to think that there is some kind of connection between the product and Adidas, or that no justified reason was given for the use of a design that resembles a trademark, in order to establish the concern for misleading required for the proving of this tort. Furthermore, Adidas alleged unjust enrichment on the part of the Respondent stressing that as opposed to the decision of the Trial Court, the acts of the Respondent are outrageous and constitute unfair competition.

With respect to stealing and dilution of good will, Adidas claims that the Court erred in ruling that the Respondent did not attempt to build itself on the basis of its good will despite its additional holding which acknowledged the possibility of the shoes having been designed in a manner that would make them somewhat similar to its own shoes. The Appellant especially emphasizes that the Trial Court’s holding to the effect that the purchasers of the Respondent’s shoes “would be able experience the feeling of wearing shoes with four stripes which are somewhat reminiscent of Adidas shoes” demonstrates that this is case of exploitation of good will, impairing and dilution of good will, and it claims that the marketing of shoes that provide an experience of Adidas shoes is illegitimate.  Furthermore, Adidas claims that the Respondent’s shoes were marked with four stripes purely out of economic considerations, and that the Respondent knows that the consumer’s eyes would be attracted to shoes that resemble the general appearance of its own shoes, without investing in advertising.  Adidas also claims that there are also grounds for dilution of good will, because it suffices that there was use of a trademark or a mark similar to it in order to establish grounds, without having to prove the foundation of misleading, Finally, Adidas claims that it was denied the right to present its claims in the Trial Court because the latter devoted considerable parts of its judgment to issues that were not even raised by the parties and in respect of which no claims had been made, while establishing factual findings for which no evidence had been presented and in areas that were not in purview of its judicial knowledge.

7.    The Respondent, on the other hand, affirms the decision of the Trial Court and argues that the decision is based on a firm factual foundation and upon   reasoned and detailed legal analysis that leaves no grounds for intervention. The Respondent claims that Adidas did not present any evidence for the alleged fear of misleading, and argues that there is no justification for interfering with the Court’s ruling that no grounds can be laid for similarity between the footwear imported by the Respondent and Adidas shoes.  The Respondent adds that it was proven in the Trial Court that one can easily find footwear of other companies which feature varying numbers of stripes and accordingly it cannot be argued that he attempted to benefit from the goodwill of Adidas or that a reasonable consumer would mistakenly think that he was actually marketing Adidas footwear. The Respondent claims that Adidas widespread fame and its three stripe mark does indeed it confer it with an absolute protection of that mark, but it is precisely for that reason that no consumer would think that the Respondent’s footwear was produced by Adidas. This is especially so given that the footwear is sold in shops or stands located in the markets of the Palestinian Authority and not in the shops that sell Adidas footwear, and also in view of the numerous visual differences, such as the commercial name “SYDNEY”, and the element of the four stripes.  The Respondent further   argues that the claim that the mark should be compared directly against another mark for purposes of examining the question of the trademark infringement is only correct for purposes of registration of the mark in a registration record and not when the mark appears on a product, where the mark should not be removed from its context. Furthermore, the Respondent claims that the four stripe mark is not confusingly similar to the three stripe mark, even if when directly comparing one mark to another, especially due to the extensive advertising of the three stripe sign, as stated. 

The Respondent further claims, affirming the Trial Court’s decision, that absent the fear of unfair competition or an attempt to benefit from the goodwill of Adidas, he cannot be said to have infringed its trademark, and he emphasizes that Adidas only has a proprietary right with respect to a three stripe mark, and that the protection conferred to this mark should not be extended.  Furthermore, the Respondent claims that Adidas is attempting to attain a monopoly over the actual use of stripes. In this context he notes that given that our concern is with a decorative mark, it is a “weak mark” with a limited protective scope and which does not cover the use of a different number of stripes.  Furthermore, the Respondent claims that Adidas’s claim concerning passing off should likewise be rejected, arguing that the according to the Court's factual finding there was not, nor could there be any mistake concerning the identity and the origin of the footwear that he was attempting to market, and that there is no confusing similarity between a mark consisting of three stripes and a mark consisting of four stripes. The Respondent further claimed that the Adidas claim regarding stealing or dilution of goodwill should likewise be rejected and in this context he stresses that his footwear intentionally distinguishes itself from any other footwear by way of his trade name “SYDNEY” which appears on the shoe itself in three places, as well as on the box in which the shoe is sold. Moreover, the Respondent claims that as opposed to Adidas's claim, it acted in absolute good faith, and hence its claim regarding unjust enrichment should likewise be rejected.

Deliberation

8.    The central question for our deliberation is whether the registered trademark of Adidas - the three stripes mark – was infringed in this case, by reason of use of an embossment of four stripes on the sides of the footwear that the Respondent seeks to market, and whether in this context his act establishes actionable grounds under any of the laws intended to protect Adidas’ intellectual property.  By way of introduction I will say that like the Trial Court, I too am of the opinion that the Respondent’s shoes do not infringe the three stripes mark and that the action should likewise be rejected with respect to the other grounds argued for by Adidas. All the same, I do not think that the reasons of the Trial Court should be endorsed and in what follows I will explain the reasons for my conclusion. 

 

 

Trademark

 

The principal legislative arrangements relevant for our purposes and treating the issue of trademarks are unified in the Trademarks Ordinance,  s.1 of which defines the following terms:

 

      “mark” means letters, numerals, words, figures, or other signs, or the combination thereof, whether two dimensional or three dimensional;

“trademark”  means a mark used, or intended to be used by a person in relation to the goods he manufactures or trades;

“registered trademark” means a trademark registered in the Register of Trademarks under the provisions of this Ordinance, and which is a national trademark or an international trademark registered in Israel;

The institution of trademarks originated in the need to distinguish between the products of one trader and those of his competitor, and in this context, to protect the interests of both the trader and the consumer. The trader enjoys the protection of his good will and reduces the fear that the consumer will confuse his product with that of another trader.  The consumer will have an easier time in identifying the particular products that he wishes to purchase and is protected from misleading with respect to the source of the goods. To attain these goals, s.46 of the Ordinance confers the proprietor of the registered trademark “the right to exclusive use” to use the mark in every matter relating to the good in respect of which his mark is registered” (see C.A. 715/68 Pro-Pro Biscuit v Promine Ltd [3] (hereinafter: (Pro - Pro ) at p. 48; CA 3559/02 Center for Toto Zahav Subscribors v. Council for Regulation of Gambling in Sport [4] (hereinafter – Toto ruling) at p. 888 .

The law of the trademarks and the protection it provides to the owner of a registered trademark is one branch of a broader field of law – the laws of intellectual property – that confer protection to an intellectual product that may be of economic value. It is similarly important to mention that the right to intellectual property, like any other property right, is one of the "privileged" rights enjoying constitutional protection in the law and Basic Law: Human Liberty and Dignity instructs as not to violate it (s.3 of the Law).  However, the protection of intellectual property, by its very nature clashes with another constitutional right – the freedom of occupation and the right to free competition deriving therefrom.  (see CA 9191/03 V & S Vin Spirt Aktiebolag v. Absolute Shoes [5] at p. 877 (hereinafter: the Absolute ruling). Similarly, granting a broad monopoly to the owner of intellectual property to makes exclusive use of his property may impede the existence of a free and varied market of products which assists in the development of the economy and commercial life. In sketching the borders of the protection of a trademark, an effort must be made, to strive wherever possible to strike a balance between the protection required for the registered trademark and the “abrogation” of any other mark, irrespective of the level of resemblance between them, from the public realm.

The Unique Nature of the Three Stripes Mark

9.    As mentioned, the trademark is intended to aid the consumer in distinguishing between the products of one merchant and those of competing merchants.  To that effect, in order for it to be eligible for registration, it must have a "distinctive nature".  In other words, it must be ascertained that the mark does in fact enable the desirable differentiation from the goods of the mark owner of the mark and the goods of his competitors (regarding the requirement of a distinctive nature see s. 8 of the Ordinance). The distinctive nature may consist of the inherently distinctive nature of the product from the time of its creation. In most cases, the concern in this context is with marks that are the product of imagination and as such are unique, original, or non-foreseeable, and bearing no natural connection to the type of product which  it marks, so that the connection between the mark and the product is arbitrary. An example of this is the arbitrary use of the mark "Apple" as the mark of the computer company. However, even in cases in which the mark does not possess any inherently distinctive character the mark may also acquire secondary significance by dint of its extensive use, so that the consumer public will associate it with goods from a particular source. This is known as a mark with an acquired distinctive nature (this distinctive nature was also defined by case law in other contexts as "secondary" as opposed to "principal" meaning.  See CA 18/85 Israel Glass Factories Venice Ltd v. Les Verrcies De Saint Gobain [6] at pp. 234-235  (hereinafter - Venice) ;  CA 11487/03 August Storck v.  Alfa Intuit Food Products Ltd [7]. par.8 (hereinafter - Alfa  Intuit).  As for the distinctive nature of names, see CA 5792/99 Tikshoret Religious-Jewish Education Family (1997) Ltd "Family" Newspaper v. S.B.C Publication, Marketing and Sales Ltd - Mishpacha Tova Newspaper [8] at pp. 943-946  (hereinafter - Family ). Thus for example, the marks of Office Depot or General are marks with an inherently weak distinctive nature because they are descriptive signs that are neither arbitrary nor imaginative and their connection to the cars manufacturer or the shop selling office products is a natural one.  Even so, over the years these marks acquired a distinctive character to the extent that today that there is almost not a single consumer in the world who would come across then and not connect them to those particular companies (on the distinction between inherent distinctive nature  and acquired distinctive nature see also in the  Alfa Intuit [7] matter, para. 8). Even more precisely, the acquired  meaning supplements the inherent meaning of the mark and does not replace it, and their combination establishes the extent of the protection given to the trademark against its infringement (see  Amir Friedman, Trademarks - Law, Case Law, and Comparative Law, 211, 214) (third edition, 2010) (hereinafter:  Friedman).

10.  The acquired distinctive character attests to the demand and the popularity of the merchandise and to the good will that it accumulated from the day of its "birth" as a result of marketing and advertising efforts made by and on behalf of the patent owner.  For our purposes it is undisputable that the Adidas trademark - three diagonal stripes of identical breadths and spaces between them on the side of the shoe - is today absolutely identified with the company all over the world and constitutes a distinctive sign by which its footwear is identified.  Accordingly, there is no question of whether this trademark has an acquired distinctive character. However, in my view the decision is not as simple regarding the inherent distinctive nature of the mark.  This mark, which Adidas chose as one of the trademarks that identifies it with its products, consists as mentioned, of three stripes but  for a person not previously familiar with it might be viewed exclusively as one of the shoe’s design components (as distinct from a trademark).  It seems difficult to claim that if not for Adidas’s choice of this mark, no other shoes would have been manufactured with stripes on their sides (compare to the trademarks identified with the competing footwear companies such as "Reebok", "Nike", "Puma" and others. A comparison should also be made to the Patent Registrar Decision No. 129015 Nike v. Shai Mecher Sachar (1996) (26.8.2008)). Accordingly, I accept the Trial Court's decision according to which the inherent nature of the three stripe mark is weak (regarding the appropriate scope of protection in a request to register a three dimensional trademark with aesthetic value, compare to Alfa Intuit  [7], paras, 10 - 12.

It bears mention in this context that this is not the first time  that Adidas has filed a claim in Israel for an alleged infringement of the three stripe mark, following the use of a similar mark, two or four stripes (see CA 3581/05 Shehana'al Mat'ima v. ADIDAS-SALOMON [9] (hereinafter -Shehana'al Mat'ima); LCA  3217/07 Brill Footwear Industries Ltd v.  ADIDAS SALOMON A.G. [10] (hereinafter – Brill) and in the District Courts see e.g. Civ.App (District, Tel-Aviv) 15544/05 ADIDAS SALOMON v. Sh.I. Klipp Import and Trade Ltd. Proceedings in these  cases all ended without any decision on the merits)  (See also C.A (District - Tel-Aviv - Jaffa) 2326/07 ADIDAS SALOMON v. Gentom Shoes Ltd,  in which Adidas’s claim was accepted following the Defendant's failure to submit evidence on its behalf). In other states too Adidas filed suits concerning the infringement of its three stripe trademark, in view of manufacturers' use of two or four stripes on their products and a quick search shows that dozens of suits have been brought in courts at various levels all over the world. A large portion of Adidas’s claims all over the world ended without a decision on the merits, similar to those in Israel, but in the proceedings that were decided on the merits, Adidas' position  was for the most part accepted (see for example, in the decision of the District Court in Oregon, U.S. (No. CV 01 – 1665-KL) Adidas America, Inc. v. Payless ShoeSource, Inc and also adidas-Salomon A.G. v. Target   Corp.,228F Supp. 2d 1192 (D. Or. 2002) as well as the decision in Corp and the decision of the Court of Appeal in Athens, Greece, Decision Number 5749/2009 Adidas Salomon A.G. v. Alysida A.E.B.E . On the other hand, see the references in the matter of Shehan'al Mat'ima [8[ para. 3. But see also  in  the decision of the High Court in Capetown South Africa,: adidas A.G. v. Pepkor Retail Ltd (1 A11 SA 636 (WCC) (5 December 2011);  the decisions of the -European Court of Justice: adidas-Salomon AG V. Fitnessworld Trading LTD., Case C-408/01 (23 October 2003); adidas AG v. Marca Mode CV, Case C-102/07 (10 April 2008).   All the same, it is important to remember that that each case is different and hence any attempt to draw analogy should be done with the requisite caution. 

11.  The weak nature of the inherent distinctive character of the three stripe mark affects the scope of the protection that it should be awarded.  On the one hand, the fact that the three stripe mark has, as noted, attained a powerful distinguishing nature points to the need for maximum protection (see s. 46A of the Ordinance which relates to “well known trademark” and see and compare to the matter of Absolute [5] which relates to the scope of protection for such a mark). However, the weakness of the inherent distinctive nature justifies protection that will be limited to the trademark itself and to its derivates that are particularly similar to it. In other words, granting a monopoly to Adidas to two stripes and to four stripes (or, naturally, to any different number of stripes) would be problematic because it would mean the removing the designing of stripes from the public realm and would prevent other manufacturers from using this kind of design for their footwear. Our intention is not that Adidas' investment in advertising and in marketing did not create a situation in which the design of stripes became popular and in demand, but one cannot infer from that fact that any use of stripes by an Adidas competitor is a prohibited use (compare to HCJ 144/85 Kalil Non-Metallic Steel Industries  Ltd. v. Registrar for Patents and Designs and Trademarks [11],  

Having considered the nature of trademarks in general, and having examined the nature of the trademark forming the subject of the appeal specifically and the appropriate scope of protection deriving therefrom, we will proceed to examine whether the trademark of ADIDAS was actually infringed.

Infringement of a Trademark

"infringement means the use by a person not entitled thereto

 (1)  of a registered trademark or of a mark resembling such a trademark in relation to goods in respect of which the trademark is registered or to goods of the same description .... (addition added).

     12.  Section 1 does not explain the nature of the similarity between the marks required for it to be regarded as an infringement of a registered trademark. However, case law has noted on more than on occasion that in this context the test to be applied is the one appearing in s. 11 (9) of the Ordinance that sets forth the manner of examining the mark for purposes of its registration, and according to which a mark "identical with .....or so resembling such a mark as to be calculated to deceive" is not eligible for registration.  The consideration of two factors are at work here: protection of the public from misleading and protection of individual title and his acquired goodwill (see e.g. LCA 5454/02 Ta'am Teva (1988)  Ltd v. Ambrozia Sofharb Ltd [12] (hereinafter - Ta'am Teva). Accordingly, where it concerns use made of a similar mark as opposed to a use made of an identical trademark, a plaintiff claiming infringement must prove that one mark resembles the other to a degree that may confuse the public, and the examination in that context   relates to "people with regular common sense, who conduct themselves with reasonable caution"). (See Ta'am Teva[12], at p. 450). The requirement for resemblance between the two products is at a threshold that exceeds that of a "connection" alone (compare to s. 46 A(b) of the Ordinance and the matter of Absolute [5], at p. 885).  It has already been held that the act of copying as such does not necessarily attest to the intention to mislead clients and that even the intention to mislead does not does not dictate the conclusion that there is a fear of actual misleading (see C.A. 9070 Tali Dadon Yifrach v. A.T. Snap Ltd [13] para. 11which concerns the tort of passing off). 

The accepted test for the existing of a confusing resemblance is the "three part test" which was discussed by the Trial Court, consisting of the test of visual and phonetic similarity; the test of the type of customer and class of goods; and test of the other relevant circumstances (see CA 261/64 Pro-Pro Biscuit v. Promine Ltd [14], at p. 278). The manner of implementing these tests in each case is not a function of uniform standards and is influenced by the distinctive character of the registered mark and the appropriate degree of protection it merits (see CA 4116/06 Gateway Inc. v. Pascul Advanced Technology Ltd [15] para.16). The weight to be given to each of the tests is similarly not uniform, changing in accordance with the circumstances (see CA 10959 Tea Board India v. Delta Lingerie, S.A. OF Cachan [16] (hereinafter:  Tea Board).  It bears note that along with the three part test, there cases in which case law also applies the "common sense test" particularly when it is necessary to examine whether the trademarks have a shared ideological message (see CA 8441/04 Unilever P v Segev [17] at para. 9 (hereinafter Unilever ); Ta'am Teva [12] at p. 453 and Tea Board [16] at para. 10).  It further bears mention that in most of the cases involving the determination of confusing similarity the trial court has no particular advantage over the appellant forum because the appellant instances, in general has at its disposal the same tools as the clarifying instance (see LCA 2960/91 Wizzotzky Tea and Co. (Israel) Ltd v. Matok [18].

13.  In our case, both parties agree that the Respondents' shoes are the same kind of goods in respect of which the Adidas trademark was registered- sports shoes, or at least they are goods of the same description, in other words, from the same "commercial family" (for elaboration on the meaning of the word "description" in the Ordinance, see Toto [4] at pp. 894-895). Furthermore, all are agreed that in our case the issue does not concern footwear designed with a mark that is identical to a registered trademark. As such, there has been no attempt at the forging of shoes and hence there must be an examination of the similarity between the shoes, and a determination on whether there is indeed a "confusing resemblance" between them. As mentioned, the acquired distinctive character even when particularly powerful as in the case before us, does not obviate the need for an inherently distinctive character. As such, even if the strong distinctive nature acquired by the three stripes compensates to a certain extent for its weak inherent nature, given that the consumer public today is aware of the connection between the trademark and Adidas, one cannot ignore the weakness of the inherent distinctive nature when applying the three  part test.

14.   At the stage of applying these tests, it should be remembered that the comparison must be between the trademarks in their entirety and not between specific parts thereof  (See Ta'am VaTeva [12] , at p. 451; LCA 6658/09 Moltilock Ltd v. Rav Bariah [19] at para. 8 (hereinafter: Moltilock), and the examination should focus on the existence of a confusing resemblance between the trademarks themselves, as opposed, for example, to the tort of passing off, in which all of the particular acts of the infringer are examined (see LCA 1400/97 Picanti Food Industries  (Israel) Ltd v. Osem Food Industries Ltd [20] at p. 313 (hereinafter: Picanti). Hence it was held., for example, that when verifying the infringement of a registered trademark, "lesser weight should be ascribed, or in certain cases no weight at all, to the degree of resemblance in the appearance of the goods or their packaging” (the case of Teva Ta'am [12] pp. 450 - 451). In the case at hand, however, it seems that one cannot examine the trademarks - the three stripe sign of Adidas as opposed to the four stripe sign of the Respondent -  in absolute isolation from the goods on which they appear.  First, even if the consumer doesn't stand with both products in his hand, making a comparison between them in all their details, it cannot be presumed that he disassociates the marks from the shoes themselves  and examines the marks in isolation from the shoes  (for a similar approach in American law, see for example, Filipino Yellow Pages, Inc. v. Asian Journal Publications, Inc., 198 F.3d 1143, 1150 (9th Cir. 1999); ; Goto.com, Inc. v. Walt Disney Co., 202 F.3d 1199, 1206 (9th Cir. 2000); Entrepreneur Media, Inc., v. Smith, 279 F.3d 1135, 1144 (9th Cir.2002). Second,  the rule whereby the comparison should be restricted to the marks themselves was articulated in decisions that were concerned with verbal and not visual signs, such as in the case before us,  (see also CA 8981/04 Avi Malka - Avazei Hazahav Restaurant v. Avazei Shechunat HaTikva (1997) Restaurant Management Ltd [21], para. 28  (hereinafter - Avazei).  This distinction is important since whereas it is easier and even more reasonable to separate phonetic trademarks from the product they  mark, especially where it concerns phonetic marks used for purposes of advertising and marketing the product (for example the mark of "bamba" that was used in Picanti [20]), the absolute severance of the visual trademark from the product upon which it is imprinted, especially when it can be construed as decorative element, as in the case before us, is both an artificial and a problematic severance.   Accordingly, the manner of applying these tests must be adjusted to the unique circumstances of the case at hand, and having consideration for the circumstances of this case, it seems that even though "the entirety of the defendant's acts" are not to be examined, as is the case with the tort of passing off, the shoe itself must be examined in its entirety.

I will preface by saying that it has not escaped me that in applications for leave to appeal on decisions for temporary relief (in the cases of Shehana'al Mat'ima [9] and Brill [10]his Court (Justice A. Grunis, as per his former title) accepted the prima facie conclusions of the hearing forum regarding the similarity to the point of confusion between shoes with four parallel stripes and the shoes of Adidas, following a comparison of the two marks conducted in isolation from the shoes on which these signs appeared. However, as the Trial Court noted, those decisions were given in applications for temporary relief and at that stage, as opposed to our case, the court was only required to be convinced of the existence of a prima facie similarity, without conducting, in the framework of those proceedings, a thorough hearing  of the various claims of the parties. And at all events, given the reasons I mentioned above, my view is that in our case the trademarks should be examined together with the shoes on which they appear and not in detachment therefrom, as was the case in the intermediary proceedings mentioned above.

15.  The required examination will be conducted, as mentioned, in accordance with the three sub-tests that I referred to above, that were determined for purposes of locating a confusing similarity

       (a)          The test of appearance and sound.  This is the most central of the three sub-tests (see Ta’am Teva [11] at p. 451 and at this stage of the examination the appearance and the sound – when relevant – of the two marks should be examined in order to determine the degree of similarity between them.  In this test the emphasis is on the initial impression gained from a comparison of the marks, having consideration for the fact that the average consumer’s memory is not perfect.

Apart from the clear difference between the Respondent’s shoes and Adidas shoes, which stems from the fact that the Respondent’s shoes feature four and not three stripes, the comparison also indicates other clear and blatant differences. The name “SYDNEY” appears on Respondent’s shoes in two prominent places – at the back of the shoe and on its tongue.  In addition, the name “SYDNEY” appears on the inner tongue of the shoe, and this name bears no similarity, neither in design nor in sound to the name Adidas or to any trademark registered in its name. To a large extent this removes the concern of misleading the consumer public, as correctly held by the Trial Court (see and compare to CF (DIS-Tel-Aviv) 2554/01 Buffalo Boots v. Naalei Loxie 2000 Import and Marketing Ltd,  at  para. 3 (b) (hereinafter – Buffalo). 

    (b) Test of the type of customer and class of goods. This test is concerned with the influence of the class of goods on the danger of confusing consumers.  Regarding the test of the class of goods, it has been held in the past that where it concerns expensive products or particularly important services, it may  reasonably be presumed that the consumers would conduct a more thorough scrutiny prior to executing the transaction which would lessen the chances of confusion (see Ta’am Teva[12] at p.453; CA 210/65 Iggud Bank Ltd v. Agudat Yisrael Bank Ltd,[22]at p. 676. The test of the type of customers examines two complementary matters. The first is whether the same type of customer would take an interest in both of the products; and the second is how the particular characteristics of the relevant type of client influence the chances of confusion. Hence for example it was held that where there is a difference between the prices of the products, but the difference is not great, it will not lead to the conclusion that each one of the products has its own distinct circle of clients in a manner that prevents the chance of confusion, especially insofar as the allegedly infringing product is only slightly cheaper than the second product, in which case it may reasonably be presumed that the client will prefer to pay the lower price without enquiring into the nature of this price (see: CA 3975/10 Philip Morris Products v. Akisionerno Droujestvo [23]para. 8)

A comparison of the two categories of merchandise in this case shows that indeed both cases concern sports shoes, but belonging to entirely different price categories (the difference in prices being significant). Adidas shoes are marketed as a successful brand at prices ranging between medium to high in select sports shops all over the country, whereas the Respondents’ shoes are intended for marketing at low prices and primarily in the stands at the markets, as determined by the Trial Court in its ruling. I find no reason for interfering with these factual determinations, and this difference in the price and the manner of marketing, in my eyes, significantly reduces the danger of confusion among clients, not because the Adidas consumer is a “specific consumer” but rather because it is unlikely that a consumer seeking to purchase a simple, cheap shoe would mistakenly think that the shoes sold at a low price in the market are Adidas shoes. On the other hand, it may be presumed that the consumer seeking to purchase high quality shoes from a reputed company and who is prepared to pay a price accordingly, would examine the shoe before buying it.

(c) The Test of the Remaining Circumstances.  This test accompanies the previous tests and takes the specific circumstances of the case into account, to the extent that they were not examined in the framework of the two previous tests (see Ta’am Teva[12]  at p. 453. In this case no special circumstances were presented which might have been relevant.

16. The conclusion flowing from application of the aforementioned tests, having consideration for the preliminary normative determinations with regard to the appropriate scope of protection for the triple stripe mark, is that the Respondent’s shoes do not give rise to the fear of deceiving the public and as such do not infringe the Adidas trademark. To be even more precise, our ruling that there is not fear of misleading does not mean that there is no similarity between the shoes of the Respondent and the shoes of Adidas (compare to Yifrach [13], but rather that as a matter of the policy to be applied in this case the similarity is of a kind that does not constitute an infringement of the trademark,

Passing of

17,  The tort of passing off in s. 1 of the Commercial Torts Law, states as follows:

(a)        A dealer shall not cause the asset he sells or the service he offers to be mistaken for the asset or service of another dealer or related to another dealer.                                                            

       The tort of passing off has two foundations, the proof of which rests with the party claiming the commission of the tort against him. The good will that he has acquired in the asset or the service that he offers, and the fear of misleading the public into thinking that the asset being offered by defendant belongs to the plaintiff (see Avazi [21], para. 12, Mishpaha [8] p. 942; Venice [6] at pp. 232 – 233). The requirement for the simultaneous proof of both foundations balances the trader's proprietary interest with other interests such as freedom of occupation of competing manufacturers and the desire to encourage free competition and to prevent the creation of a monopoly that is harmful to the market.   Regarding this it has been held that “misleading concerning an asset or service in respect of which the  plaintiff has not proved that he acquired good will in respect thereof does not come within the purview of the tort of passing off…. similarly, an imitation of an asset with good will where it was not proven that there was a chance of confusion, is likewise not within the purview of the tort (Yifrah [13], para. 8). Notably, despite the similarity between the tests for establishing an infringement of a trademark and those for the tort of passing off, this does not dictate an identical result in all  cases. Occasionally the ruling must be that a trademark was infringed but that the tort of passing off was not proven. For example, when a manufacturer uses a mark that is identical to a registered trademark, but where there are other features of the product that distinguish it from the products of the trademark owner (see Buffalo [ ]).  And vice versa too - occasionally the entirety of the manufacturer's acts lead to the conclusion that he committed the tort of passing off, even if he did not infringe the registered trademark relating to that matter.

18.  There is no dispute over Adidas' reputation and its trademarks in the areas of sport shoes in Israel and around the world. In our case the first foundation exists and the focus must be on the second foundation of the tort, the fear of misleading. In examining the existence of this foundation with respect to the tort of passing off, as mentioned, there must an examination of the entirety of the defendant's actions and conduct. This examination does not yield a conclusion that differs from our conclusion regarding the absence of any fear of confusion in relation to the trademark. The reason for this is that the Respondent's actions in our case further reduce the fear of confusion, including the attachment of a label to the shoe, featuring the name "SYDNEY" in large letters, and the packaging of the product in a box on which that name also appears quite clearly. It therefore seems that under these circumstances there is no fear of confusion. The matter of Yifrah [13], which was handed down recently, concerned a perfect replica of a product that was sold cheaply alongside the original product, and it was held that it does not establish grounds under the tort of passing off because a label was attached bearing a different name, the products were presented separately in the shop and when the sellers were asked about the price difference they explained that it was an imitation (paras. 11- 12). In that case the good will the was proven was actually far weaker than that of Adidas, but on the other hand the circumstances of the case were more extreme given that unlike the case at hand, the similarity of the products was absolute (see also in the Buffalo [  ]case, where it was held that almost identical shoes at a lower price and with another trade name does not deceive the public and the plaintiff does not have any grounds under passing off. Accordingly, I accept the conclusion of the Trial Court according to which in the case before us it has not been proved that the Respondent committed the tort of passing off against Adidas.

Dilution of Good Will

19.  As noted by the Trial Court, the doctrine of dilution of good will is relevant to a situation  in which:

"A powerful trademark is used without the consent of its owner and without creating confusion, leading to the erosion and blurring of the unique, quality image that the mark conveyed to its clients.... the erosion of the image of the mark among the consumer public also diminishes the commercial value of the trademark, in wake of the decrease of its selling capacity (or power)" (Yaakov and Hana Kalderon Commercial Imitations in Israel 189 (1996). On the adoption of the doctrine according to this definition, see CA 6181/96 Kardi v. Bacardi and Company Limited [24],.

This description indicates that the doctrine of dilution of good will does not require proof of the fear of misleading consumers. However, it seems to me that the cases in which it may be appropriate to determine a dilution of good will even when no misleading is proved are the exceptional cases in which the absence of confusion was the result of the fact that the product is of an entirely different description (as was the case when this doctrine was applied for the first time in Eastman Photographic Materials Co. v. John Griffith Cycle Corp 15 R.P.C. 105 (Eng. 1898), (hereinafter - Kodak), and at all events, this doctrine should not be applied as a default option for every case in which confusion of consumers was not proved  - as in the case before us.

As mentioned, the doctrine has its source in the  Kodak case, where it was held that when a bicycle company uses the name of  the Kodak photography company it does not confuse the consumers but does dilute the company's good will (see also in the matter of Tea Board [16]). The conclusion is that the doctrine seeks to protect the positive good will and image attaching to a well known trademark and provides a quasi proprietary protection to the good will itself against unlawful attempts of traders to build themselves up on the good will of the mark owner by creating a misrepresentation of having supposedly acquired a license, authorization, sponsorship, promotion or any other connection between the product with the good will and their own product (Friedman, p. 121- 127). Indeed, as claimed by Adidas and as mentioned above, to establish grounds based on dilution of good will it is not necessary to prove confusion. However, this does not obviate the need to prove the erosion and blurring of the good will acquired by the registered mark as a result of  the use of the other mark, by reason of creating some kind of link between the allegedly infringing product and the product of the party claiming damage. This conception also receives expression in section 46A (b) of the Ordinance, which establishes the unique use of “well known” trademark which is a registered trademark, also for products not of the same description. Concededly, the section does not require proof of confusion and suffices with use that "may indicate a connection between the goods" alone, but it makes this protection contingent upon it being proved that the "owner of the registered mark may be harmed as a result of the said use" (see regarding this the application of the doctrine in the matter of Absolute [5] pp. 878-879, 887). On the other hand, where our concern is with the use of a mark for products of the same description and to the extent that there is no confusing similarity between the products or  the marks and there is a distinction between them, it would seem that it cannot be claimed the mark owner’s good will, will be diluted (see Civ. App. (District - T.A) 35447/99 Super Farm  v. Blue Square Network [  ] where it was held that there was a likelihood of confusion, and further on it was held that there was a dilution of goodwill, and see also in Unilever [17] at para. 24). In our case, in view of the holding that it was not proven that the average consumer would be confused into thinking that the Respondent's shoes were manufactured by Adidas, there is no likelihood that the consumer would link the quality of the Respondent's shoes to the Adidas company, and by extension, there are no grounds for the claim of dilution. It bears note that in the absence of the likelihood of confusion, there is  likewise no grounds for Adidas' claim regarding the theft of its good will or harm to it (see LCA 10804/04 Prefetti Van Melle Benelux B.V. v. Alfa Intuit Food Products Ltd [25] at  p 466 (hereinafter  Prefetti).

 Unjust Enrichment

20      The leading decision on the issue of the relations between the laws of intellectual property and unjust enrichment is the decision in the matter of ASHIR [1].  That case concerned three instances in which the respondents had not registered a patent or sample for the disputed product.  Likewise, the Trial Court rejected the claims made by those respondents concerning the tort of passing off, and the common question in the appeal forum was whether under those circumstances there were grounds for granting the respondents relief in accordance with the Unjust Enrichment  Law, 5739-1979 (hereinafter - Unjust Enrichment Law). In two of the three cases considered in the ASHIR [1] matter it was decided unanimously to overrule the decisions of the district court and the remedies given by it on the grounds of unjust enrichment, and in the third case the court decided, by majority, to reject the appeal and to leave intact the decision rendered by the district court. The path taken by the four majority justices (Justice T. Strasbourg-Cohen, President A. Barak, Justice T.Or and Justice Y. Zamir) in reaching their conclusion was not uniform, but it seems that the rule deriving from the  ASHIR [1] case received exhaustive expression in the ruling of Justice T. Strasbourg-Cohen, who stated that “the individual’s interest in the non-copying of a work that he created and in which he invested his time, his energy, his thoughts and his resources is in principle worthy of protection within the framework of the laws of unjust enrichment and the application of such an interest cannot be ruled out a priori just because it is not an “established right” under the laws of intellectual property” (ibid, at p. 417).  All the same, in the ASHIR [1]  case it was held that applicatory scope of the laws of unjust enrichment was dependent upon the question of the extent to which the specific law that applied constitutes a comprehensive arrangement that negates the intervention of any law external to it; that the condition for grounds under the Unjust Enrichment Law is that the enrichment of the beneficiary be “by unlawful cause”. In other words, that the copying or imitation must be supplemented by another foundation of a negative nature; and that prior to awarding compensation by force of the laws of unjust enrichment, it must be ascertained that there is no double compensation, and that by force of unjust enrichment it is possible to grant, when necessary, remedies that also include injunctions, despite the fact that these remedies are not mentioned in the Unjust Enrichment Law (ASHIR [1], at pp. 337, 363-365, 417, 486; LCA 6025/05 Merck and consideration. Inc v, Teva Ta’asiot v. Teva Pharmaceutical Industries Ltd [26] para. 30)(hereinafter;  Merck  case)). As mentioned in one of the three cases heard in ASHIR [1] (LCA 5614/95) the majority view was that the respondents indeed had grounds for claim under the Unjust Enrichment Law, given that the applicants in that case had executed a “complete imitation” of the product by way of “Reverse Engineering” and given that the respondents had invested a protracted effort in the development of the product, which was not a simple, standard product.

21. The current case differs in a number of aspects. First, Adidas owns a registered trademark and its action is based primarily on the infringement of that trademark, notwithstanding that in addition to that ground it also raised other grounds, including passing off and unjust enrichment. The question which arises is whether in a case in which it was held that the foundations that confer protection to the owner of a mark under the laws of intellectual property were not established,  and where it was further established that under the circumstances there were no grounds for the tort of passing off, the plaintiff should be allowed to raise alternative grounds of unjust enrichment. The majority judges chose to leave open the question of whether in a case in which the plaintiff was entitled to sue on the basis of intellectual property he should also have he option of suing simultaneously or alternatively on the basis of unjust enrichment (see ibid [1]  at pp. 418, and 455). In other cases that came before this Court after the handing down of the ASHIR [1] ruling, the court opined that where the plaintiff had failed to prove the infringement of a registered trademark and not being entitled to proprietary protection in the form of an “institutionalized right”, he should not be given a remedy under an alternative grounds in reliance on the Unjust Enrichment Law, and in the words of the court in the Absolute [5]   case “In the case of  registered trademark, the appellants were able to take the high road of the laws of intellectual property, whereas in that decision ASHIR [1], there were no registered rights of intellectual property, Once the high road had not been successful,  the side roads too would not be successful “ (ibid [4], p. 888; see also Prefetti [25], at p,466; Friedman, 1989 -1090; Miguel Deutch, Commercial Torts and Trade Secrets pp. 50 – 51 (2002). However, even if we assumed for argument’s sake that the dismissal of the claim concerning the infringement of a trademark does not ipso facto preclude the alternative grounds of unjust enrichment, it seems indisputable that such a dismissal should carry significant weight in determining whether there are foundations for the alternative grounds, especially in view of the holding concerning the absence of misleading. In our case the Respondent used the sign of four stripes on the sided of the shoe (as distinct from the three stripes of Adidas), and, most importantly, the word SYDNEY was embossment in two prominent places in the shoe, as well as in the inner sole). In my view these data make this case significantly different from the case considered in ASHIR [1] which concerned, as mentioned, a “complete imitation” of the product, by way of “Reverse Engineering” and a product comprising development and invention, (as opposed to the use of the element of the stripes, which as mentioned,  is weak in terms of inherent distinction).

This Court reached a similar conclusion in rejecting a claim of unjust enrichment (even in the absence of claims concerning the infringement of intellectual property laws, apart from the tort of passing off) in another case in which it did not find that there had been a “complete imitation” of the Apropo snack. In that regard the court stated further that:

‘[G]ranting protection against partial copying of the product may spread the protective umbrella of the laws of unjust enrichment over a large number of cases. Hence, for example, acceptance of the appellant’s position could lead to an almost blanket prohibition on the use of a hollow cone in the designing of snacks. Protection of this kind involves a grave impingement on the freedom of competition and this carries significance in the balancing of the considerations (CA 945/06 General Mills Inc. v. Meshubah Food Industries Ltd [26], para. 20

For all of the reasons set forth above, my view is that Adidas’s claims regarding unjust enrichment were rightly dismissed.

22.  After writing my opinion, I read the opinion of my colleague, the Deputy President (Ret.) E. Rivlin, and notwithstanding my argument with his conclusion on the matter of unjust enrichment, I wish to note that I too do not concur with the District Court’s approach to the effect that it is a “legitimate goal” to enable a person lacking sufficient means to “experience the feeling of wearing shoes with four stripes which are somewhat reminiscent of Adidas shoes”  However, as opposed to my colleague I think that our case does not concern the giving of such an experience, by reason of the significant differences between the shoes, chief among them being the specification of the word “SYDNEY” in no less than three places on the shoe.

Final Word

23.  In view of which I propose to my colleagues to dismiss the appeal and to order Adidas to give the Respondent the shoes that he imported, and which are in its possession. For the removal of all doubt, it will be clarified that Adidas will bear all of the costs involved in the storage of the shoes in Customs, and in its own possession, as per the decision of the Trial Court and its decision in the application for a stay of the execution of the decision. Likewise, I propose to my colleagues to obligate Adidas to pay to the Respondent attorneys fees in the appeal for the sum of NIS 25000.  The suggested sum of expenses has taken into account the significant sums of expenses that were already awarded against Adidas in the Trial Court.

 

JUSTICE

 

Justice E. Rubinstein

            A.                    After consideration, I concur with the decision of my colleague Justice Hayut. I confess, that I consented after some hesitation, which also found expression in the hearing before us, and having read the decisions of Justice (former title) Grunis in LCA 3217/07 Brill  v. Adidas [ 10  and his decision in LCA 3581/05 Shehana'al Mat'ima v. ADIDAS-SALOMON [9] (not reported).  At a first blush, the shoe produced by Respondent 1 may remind one of the Appellant’s shoes in accordance with a comparison of the pictures in the file. This is the case even without having consideration for the decisions of courts around the world with respect to the Appellant’s trademark. Furthermore, in the matter of Shehana'al Mat'ima [9], Justice Grunis stated that “when examining the existence of a resemblance for purposes infringement of a registered trademark, the comparison must be conducted between the registered mark and the mark alleged to be infringing, and not between the products on which the mark appears” (para. 3).

B.    However, at the end of the day I accept my colleague’s approach, that in our case “one cannot examine the trademarks…. in absolute detachment from the goods on which they appear” (para. 14). However, it would not be amiss to mention (further to the comments of my colleague (ibid), that even the decision in Ta’am Teva [12], which is relied upon in the decision in Shehana'al Mat'ima [9], deals with a phonetic trademark, regarding which there is almost no escape from examining it in detachment from the product to which it relates.

C. In examining the shoe itself, from close up, even though as stated it may be reminiscent of the Appellant’s shoes, it seems doubtful whether anyone would mistakenly think that he was actually holding an “Adidas” shoe, even though it bears a connection of some kind to the Appellant. Indeed, our concern is with stripes, but both on the surface of the shoe in the back and on its tongue, there appears the inscription of “SYDNEY” and inside it too. Furthermore, the price of the shoe is not in the same categories of that of the Appellant’s shoes, and they are evidently intended for a different public, even without giving consideration to broader societal observations, which, with all due respect, I do not agree with in their current form, and which emerged from the decision of the Trial Court.  Against this background, the use of the four stripes pattern would not cause clients coming to buy the shoe, upon taking a second look at the shoe as it is, to mistakenly think that it was one of the Appellant’s shoes (and hence it does not answer the requirement of passing off). There would seem to be no reason for thinking that these clients would think that the Respondent’s shoes, even though featuring stripes, are connected to Appellant (and hence there is no dilution of good will), in as much as the word SYDNEY is embossed on them.

D.   My approach is also based on my colleague’s point of departure with respect to the weak inherent character of the trademark, and her assessment, which I accept, that “It seems difficult to claim that had Adidas not chosen this mark, that no other shoes would have been manufactured with stripes on their sides” (para. 10). This is my position even though I cannot but mention that my assumption is that the respondent did not chose the stripes in vein. In this context one should remember that words of Justice Nethanyahu in the Kalil[11] case:

The registered marks of Kalil (ibid – the stripes on the samples that serve for identification – E.R) are indeed limited to three stripes, but a monopoly on any particular number of stripes would prevent many others from using stripes because of the restriction on the possible number of stripes dictated by the breadth of the profile” (HCJ 144/85 Kalil No-Steal Metals Ltd v. Registrar of Patents and Samples and Trademarks [11] at p. 323)

       This is the rule even though the metal stripes industries is not the same as stripes on shoes in terms of their frequency and their visibility. Examples of stripes on pieces of clothing are at least as old as the Bible, “Now Israel loved Joseph more than all his children, because he was the son of his old age; and he made him a coat of many stripes” (Genesis 37:3. The same is true of Tamar the daughter of David, who, as the practice for daughters of kings, wore a striped coat (11 Samuel 13, 18). Extreme care is therefore required in conferring absolute exclusivity in this context, which may, unintentionally disrupt the delicate balance between the protection of intellectual property and the protection of freedom of occupation and free competition (see my comments in the matter of CA 9191/03 V & section Vin Spirt Aktiebolag v. Absolute Shoes [5]  , at  pp, 877, 884)

E.  After all this, we received the judgment of my colleague, the Deputy President (Ret) Justice E. Rivlin, in which he seeks, in a manner which, undeniably, possesses a certain charm, to broaden the protection in the field of trademarks, by enlisting the grounds of unjust enrichment. In his view, there should be a broadening of the rule determined in ASHIR [1], according to which in a case in which the rules of intellectual property do not apply given the absence of registration, it should be possible to recognize the grounds of unjust enrichment. According to my colleague, in our case the consumer is purchasing an imitation those benefits from the good will of the manufacturer – Adidas, for a cheap price, and the imitator (Respondent 1) benefits from the manufacturer’s efforts without giving consideration. My colleague’s view is that this subject is not adequately regulated in the trademarks law, and a remedy should therefore be granted against the imitation of a registered trade mark. and contrary to the view of the Trial Court enabling the cheap purchase of shoes “that are somewhat reminiscent of Adidas shoes” should not be regarded as a legitimate goal. As mentioned, I am not a partner to the societal conceptions to the extent that they work at Adidas’s expense. However, I am doubtful as to whether the ASHIR [1] rule can be of assistance in the case at hand. The rule is intended for cases in which the laws of intellectual property are inadequate, not because matters of substance but rather because of the absence of registration, and hence a certain protection is offered based on the laws of unjust enrichment. The question however is whether the law provides a protection to a quasi-intellectual property for cases in which the laws of intellectual property were indeed examined, but not infringed, as in the case before us, and where it was unanimously decided that Adidas does not have trademark protection, notwithstanding its registered mark?  In the ASHIR [1]case the imitation was complete and the question was whether the laws of unjust enrichment should apply. However, this did not happen in the case before us. On the level of the desirable law, my heart is with my colleague, the Deputy President. But is this the existing law?  Indeed, the case is not similar to the aforementioned ruling in Absolute [5], which concerned the differentiation between shoes and vodka, whereas our case concerns the difference between one shoe and another. However, my colleague seeks to construct a protection for cases in which the law gives no protection, and in this sense differs from the ASHIR [1] rule, and even, so it would seem, from the minority opinion in that case. Summing up, I am not certain that the grounds of unjust enrichment can supplement the laws of intellectual property in cases in which they do not apply by reason of an internal, substantive reason, and not just because of an external procedural one, such as the absence of registration,  as was the case ASHIR [1]. Even if the notion that my colleague has attempted to develop was commendable on its merits, and even were we to adopt the path of my colleague, is it sufficient to "assume" that Adidas was harmed by the "enrichment".  Perhaps such a case would be governed by what is referred to in Jewish law as "He benefits and he does not lose" (Talmud Bavli, Bava Kamma, 20a). Isn't there a need for a firmer evidentiary basis, showing that the person who purchases a cheaper product of the Respondent would have purchased “Adidas” shoes had he not come across  the Respondent's shoes, or that the good will built up by Adidas is what caused the consumer to buy the Respondent's shoes, even though one look at the name "SYDNEY" suffices to make it clear that that it is not the same shoe.  And at all events, the question is whether, in order to come within the purview of the ASHIR  [1] rule, it is sufficient to prove – assuming that it was actually proved - that the association with the Appellant's shoes is what caught the eye of the consumer.  I am not certain that this is the case. Indeed the question of the slippery slope may arise here, but at the end of the day the solution provided in the domain of trademarks is generally expected to provide the answer, without locking the door upon future development of the law in accordance with the circumstances.

 

JUDGE

 

Deputy President (Ret) E. Rivlin

1.    I have read the judgment of my colleague Justice E. Hayut in depth, and while I share her position regarding the grounds of the infringement of trademark, were my opinion to be heard, we would accept the appeal with respect to the grounds of unjust enrichment.

2.    Trademark law has a dual objective: On the one hand, protection of the consumer against a mistake in the identification and purchase of a product that differs from his original intention; and on the other hand, protection of the manufacturer’s good will and title in the trademark (see for example, LCA 5454/02 Ta'am Teva (1988)  Ltd v. Ambrozia Sofharb Ltd [12] at p. 450). It bears emphasis that the protection of the manufacturer’s property does not just consist of the indirect protection granted to him by the very fact that the consumer seeking to purchase his goods will be able to identify them. The protection of the manufacturer’s interest in the trademark is also a direct one, stemming from its being an independent purpose of the law (and not just a means of protecting the consumer). This direct protection finds expression, for example, in the fact that misleading is not a necessary foundation of the infringement. For example, an infringement under s. 1 (1) of the Trademarks Ordinance [New Version] 5732-1972 is defined as follows:

"infringement means the use by a person not entitled thereto -

(1)  of a registered trademark or of a mark resembling such a trademark in relation to goods in respect of which the trademark is registered or to goods of the same description .... (addition added).

In other words, when use is made of a mark that is identical to a registered trademark (for purposes of goods defined in the aforementioned s. 1 (1)) an infringement occurs even if the infringing use does not mislead the consumers. For example - were shoes to be sold with a trademark identical to the Appellant’s registered trademark, we would not even consider the question of whether there was a danger of misleading potential consumers,  even in the absence of such a danger, i.e. where the consumer had received precise information regarding the identity of the manufacturer on the packaging,  It may be presumed that if the trademark rule was intended exclusively for the protection of the consumers, then the element of misleading would be required as one of the foundations of the grounds of action. In fact, in certain cases protection is given to a trademark even in the absence of misleading, and in such a case the grounds serves primarily for protection of the manufacturer’s title and his goodwill.  In this way, inter alia, the grounds of trademark infringement is distinguished from the tort of passing off. Whereas misleading is one of foundations of the tort of passing off, in the framework of the grounds of trademark infringement, misleading is only relevant for purposes of determining what constitutes a “mark resembling" a registered trademark.   

3.    The examination of the existence of the danger of misleading both in the framework of the grounds of infringement of trademarks and in the framework of the tort of passing off, is done by way the "three part test" expounded upon at length by my colleague, Justice Hayut.   Even so, it was held in the past that the subject to be examined for each of these grounds is different. In the framework of the tort of passing off, the misleading is examined in relation to the entirety of the defendant's acts, whereas with respect to the ground of trademark infringement, the subject of the examination is the marks themselves (see Ta'am Teva [12], at p. 450).  My colleague, Justice E. Hayut opined that in the case before us, the marks should not examined in isolation from the shoes on which they appear, also having consideration for fact that the law according to which the comparison should be between the marks themselves, was formulated in the framework of decisions that concerned phonetic trademarks as opposed to visual ones. I concur with this position, and in fact it flows naturally from the nature of the "three part test". Two of the secondary tests included therein are the test of the "type of customer and class of goods"; and test of the "other relevant circumstances". These tests, as indicated by their names, instruct us to examine the circumstances accompanying the use of the mark. For example, in the matter of Ta'am Teva [12] it was written that:

'Is the phonetic resemblance sufficient to satisfy the requirement of resemblance specified in the definition of "infringement"? This depends on the individual circumstances of each particular case, and the degree of concern about misleading and confusion among the consumers notwithstanding the different appearance of the marks... For this purpose consideration should be given to the methods of marketing, and advertising of the products for  which the trademarks are intended. In this context there must also be an examination of the possible results of the confusion (ibid pp. 455- 456).

       The additional circumstances to be examined are for example: the costs of the products: capacity for discernment on the part of potential customers; and the degree of overlap between the circles of customers for both products.  Indeed, the types of circumstances to be taken into account in the framework of the "three part test" are numerous, a factor which may also be derived from the very existence of a secondary test referred to as "all the other circumstances of the matter").   In practice, this leads to a situation in which within  the framework of the infringement of trademark too, just like in the tort of passing off, the assessment relates to the defendants' conduct in the broad sense, and is not limited to the comparison of the marks themselves (even though the comparison between them continues to be a relevant consideration). It is difficult to say that the entire complex of circumstances is relevant but that the general appearance of the product upon which the mark appears cannot be taken into account. The appearance of the product on which the mark is embedded is certainly closer to the "mark itself " and more influential upon the way it is perceived than, for example, the price of the product or the manner in which it is marketed.  Naturally, the weight attaching to the appearance of the product will change from case to case, and there are cases - for sample in Ta’am Teva [12] in which its importance is minor. All the same, one cannot rule out having reference to general appearance of the product in cases in which such attention is inevitable, such as in the case before us. Accordingly, I concur with the conclusion of my colleague, that in the case before us the marks should not be examined in isolation from the shoes upon which they appear and that the "three way test" leads to the conclusion that there is no confusing similarity (in terms of consumers) between the Respondent's shoes and the registered trademark of the Appellant, and it cannot sue on the grounds of trademark infringement.

4.    Matters differ however with respect to the grounds of unjust enrichment, for which the Appellant has grounds.

In the decision in LCA 5768/94 - ASHIR [1] it was held that there is no impediment in principle to recognition of the grounds of unjust enrichment (which will be hereinafter be referred to for the sake of brevity as: enrichment) in a case in which the laws of intellectual property are also applicable.  In accordance with the criteria outlined there, recognition of these grounds is possible in our case both because the law of trademarks does not establish a negative arrangement in this particular subject and because a right arises under the “internal law” of enrichment.

5.    The matter before us is this. A person wishes to use a mark that resembles (in the regular sense of the word )the registered trademark of another person, in respect of whom it is not disputed that he acquired extensive and significant goodwill.  The consumer prefers the resemblant product over the product that carries the registered trademark. because of the high price of the latter (inter alia due to the good will that he has acquired). In other words: The consumer is aware of the fact that the product that he is purchasing is a copy, and precisely because of that he prefers this product. The imitator and the consumer both benefit from this situation. The imitator benefits from the advantage of selling a product that resembles a well known product in demand and with a brand name, while benefitting from the good will built up by the manufacturer by the investment of effort and resources.  The consumer benefits from an experience that closely resembles that of purchasing a well known product that is in demand, without having to pay a high price for it.  In such a case harm is caused to the manufacturer and to the good will that he created for himself. This harm may take various forms: The imitator enjoys the investment made by the manufacturer in the development and the advertising of the brand-name (one of its expressions being the registered trade mark); the consumers (or at least some of them) would not have been interested in the copy and would not have derived the same amount of pleasure from it were it not for the efforts invested by the manufacturer in the promotion of the original product, but at the same time they pay no consideration to the manufacturer. Presumably at least some of the consumers would have been prepared to purchase the original product for a high price had they not had the possibility of purchasing an imitation at a cheapened price. And finally, the existence of an "imitations market" may, in some of the cases, harm the prestige of the original product and the commercial value of the registered trademark.

6.    Trademarks law today does not regulate this subject -  of imitations purchased by the consumer intentionally and not mistakenly – insofar as it protects against  harm suffered jointly by the manufacturer and the consumer, and not just against harm suffered by the manufacturer, and which the consumer is a party to.   Even more precisely, this is not the regular case in which there are no grounds for trademark infringement given that the resemblance between the products does not reach the level of "confusing similarity". One could argue that indeed there is a confusing similarity, but not with respect to the consumer but rather with respect to third parties who perceive the consumer as having purchased the original product.  The non-applicability of the grounds of trademark infringement in relation to cases of "classic" imitation (in other words products that are clearly an imitation, where even the consumer is aware of their being an imitation) does not reflect a policy decision in accordance with which the "imitations market" is desirable in the legislator’s eyes.   Were this the case it is clear that a complete imitation as well of a trademark would be permitted, provided that it did not involve the misleading of the consumer (this situation can transpire when "external circumstances" such as packaging, price and manner of marketing, indicate that it is an imitation). Our concern is therefore, at the very most, with a lacuna in the law of trademarks. It should further be remembered that this lacuna is the product of the formulation of the law by the courts, who applied the "three part test" for defining an infringement of a trademark by way of a "similar" mark, and it is not necessarily dictated by the language of the law.  The formulation of the law in this manner was not intended in the first place for protection against the "imitations market". Hence for example, the following words were written in relation to this context already about twenty years ago.

'the imitation of a product by another, as such, is not prohibited in Israel for as long as it does not constitute the offense of passing off, or is not contrary to the statutory provisions that protect intellectual property, such as the laws of copyright, trademarks, patents and designs, or any other law.

A separate question is whether the imitation of a product is desirable.... regardless of our position on that question, for as long as the plaintiff has not proved that he has a legal right  that allows him to prevent the copying of his product by another person, this court will not offer him any remedy (comments of Deputy President M. Elon, in CA 18/86 Israel Glass Factories Venice Ltd v. Les Verrcies De Saint Gobain [6 ] at pp. 253-254 ) .

I think that the time has come, following the establishment of the law in the ASHIR [1] case, for the Israeli law to offer a remedy against imitation, at least where it concerns the imitation of a registered trademark, the entire purpose of which is to benefit from the good will of another, when the latter even took the trouble to legally register the trademark that is bearer of good will. I am not a partner to the approach expressed by the District Court, according to which it is a "legitimate goal" to enable one who cannot afford it to purchase Adidas shoes and to  “be able experience the feeling of wearing shoes with four stripes which are somewhat reminiscent of Adidas shoes". This goal is totally illegitimate. The experience of wearing Adidas shoes has no independent value or social benefit other than the value conferred to it by Adidas, and accordingly I do not think that the existence of an imitations market is a positive phenomenon.  It will be clarified that there can be no doubt regarding the tremendous value of competition in the footwear market, so that potential consumers are offered a variety of shoes of a variety of qualities and prices. However, free competition can exist without the abuse of another's person's good will.

7.    It further bears mention that the comments made in C.A. 9191/03 V &S v. Absolute  [5] and which were cited by my colleague in para. 21 of her opinion, do not lead to a different conclusion. In that case the owners of the registered trademark named "absolute" (a category of alcoholic drinks - Vodka and a category of bar-restaurant services) attempted to prevent a network of shoe stores from using the name "absolute shoes".  Their suit was dismissed, primarily due to the fact that the word "absolute" is a descriptive, dictionary word, the use of which cannot be excessively restricted, and its confusion potential when combined with a word from a totally different realm from that of beverages, is particularly low. Accordingly, in that case there were substantive policy considerations that negated the protection of the laws of intellectual property and hence it was not an appropriate case for applying the enrichment laws.  It cannot be argued that the laws of intellectual property did not regulate the subject of using descriptive terms, whether in framework of the same category or other categories, and in that sense "the appellants were able to take the high road of the laws of intellectual property" which if not successful - then "the side road too would not be successful" (ibid at p. 888). The matter before us, on the other hand, has not been substantively regulated in the framework of the laws of intellectual property, and hence it cannot be said that the high road of the laws of intellectual property was open to the Appellants before us.

To sum up: In terms of the laws of intellectual property there is no impediment to the recognition of a grounds of claim based on enrichment in relation to the imitation of a registered trademark regarding which there is no "confusing similarity" insofar as the consumer is aware of its being an imitation.

8.    The next stage is the examination of whether the Appellant has grounds for claim under the laws of enrichment themselves. It is known that this ground has three foundations: the first condition is the existence of enrichment; the second condition is that the enrichment came to the beneficiary from the benefactor; and the third condition is that the enrichment was received by the beneficiary "without legal cause" (see LCA 371/89 Leibovitz v. Etti Eliyahu Ltd  [28] (hereinafter Leibovitz) at p. 321; CA 588/87 Cohen v. Zvi Shemesh [29] at p. 320; FHC 10901/08 Beizman Investments Ltd v. Mishkan Bank Hapoalim Mortgages Ltd [30] para. 34 of Justice  Naor's decision. In the matter of ASHIR [1] it was held that enrichment “without legal cause” for our purposes means enrichment which has "an additional foundation" of inappropriate conduct.  The majority judges were disputed regarding the essence of this foundation but still,  the majority opinion was  that conduct in bad faith or unfair competition would constitute “an additional foundation”  and there were those who were even prepared to suffice with a lower threshold. For a review of the various positions, see ASHIR[1] , at p. 431 (the judgment of Justice Strasbourg-Cohen), at pp. 450, 473-480 (judgment of President A. Barak), at p. 488 (judgment of Justice T.Or), at p. 493 (judgment of Justice Y. Zamir) and p. 499 – 500 judgment of the Deputy President S. Levin).  In CA 2287/11 Shoham Machines and Dies Ltd v. Shmuel Hadar [31] (hereinafter = Hadar)I dwelt on the more specific criteria that had crystallized in relation to the subject considered in ASHIR [1], which concerned the imitation and design of a product that was not registered as a patent or design.  Where a person attempts to copy a trademark that enjoys good will with economic value, with the aim of benefitting from that good will in order to sell his products, following the original manufacturer’s investment of resources and effort in the development of his good will in that mark, while the imitator benefits from them without having been compelled to invest a similar effort – it becomes unfair competition, and in bad faith. I find it difficult to locate a real difference between use of the  trade mark that is actually registered,  regarding which it was explicitly declared that it is an imitation (so that the owner of the registered trademark will merit protection) and the use of a trademark which is highly similar to it, while declaring that it is an imitation (in which case the owner of the registered mark will not be protected by the  trademark rule). The negative element of a complete imitation of a trademark continues to exist even where a minor change was made in that mark).

This is the case before us. The addition of one stripe,  retaining the colors of the registered trademark and using only one color for the stripes, while placing them in the same direction, in the same location on the surface of the shoes and with an identical breadth and distance between them – all amount to a substantial and bad faith resemblance to the registered trademark of the Appellant.  And in fact, the District Court also held that purchasing the Respondent’s shoes serve the consumers’ goal of having “the experience” of wearing shoes similar to those of the Appellant. The shoes in their current form were clearly designed so that they would resemble the Adidas shoes of the Appellant in order to enhance their attractiveness in the eyes of consumers.

9.    The existence of the first two foundations is essentially a question of fact, which must be proved in each and every case. In the case before us the Respondent’s profits from the sale of the shoes (had he been given the opportunity to do so) would have generated enrichment. This enrichment would have been “at the expense” of the Appellant, because presumably the sales of shoes resembling Adidas shoes would be higher than the sales of shoes that are not similar to any known brand. Likewise, it may be presumed that at least some of the consumers of the Respondent’s shoes would have purchased original Adidas shoes had they not had the possibility of purchasing a cheap imitation. The case is similar to the case discussed in the matter of Leibovitz [29], concerning the adjudication of an action brought by a pens distributor against someone who imported the same pens in “parallel import”. In that case it was held that the first two foundations of the grounds of unjust enrichment were satisfied (even though the third foundation was not satisfied):

‘In the circumstances of this case, it may prima facie be presumed that the appellant received a benefit that came to him from the respondents. The benefit consisted of the profits derived by the appellant from the sales of the products under discussion here. By these sales the appellant benefitted from the market created by the respondents for the said products. In that sense, the respondents were the source of the benefit and it can be argued that it “came” from them (see Leibovitz [29], at p. 321).

This is also applicable to the case before us, in which the Respondent is attempting to benefit from the market developed by the Appellant and the good will created for its trademark.

10.  Having reached the conclusion that the Appellant can make a claim on the grounds of unjust enrichment, the question arises regarding the relief to which he is entitled in that framework. It is known that the court has the authority to grant  injunctive relief in the framework of the grounds of unjust enrichment (see CA 347/90 Soda Gal Ltd v Spielman [32], IsrSC 47 (3) at p. 479; ASHIR[1] at p. 484; Harar [31] para. 27 of decision).  In the case before us, the Respondent suggested that the Adidas make certain changes in the shoes by adding a fifth stripe, or adding an X sign on the four stripes.   The introduction of such a change would diminish the resemblance between the mark on the shoe and the trademark of the Appellant. Accordingly, were my opinion to be accepted I would propose the issuing of a permanent injunction that would prohibit the Respondent from marketing or distributing the shoes in dispute, in their current design.  This order will remain in place until one of the changes suggested by the Respondent is done, in which case the shoes will be given to the Respondents. As mentioned, the parties agreed that the storage costs would be imposed upon one of the parties according to the results of the suit, and so, in accordance with my position, it would be proper for these to be imposed on the Respondent. Under these circumstances I would also recommend not making an order for expenses.

                                                                                                       Deputy President (Ret)

It was decided in accordance with the decision of Justice E. Hayut.

Handed down this day, 9^th Elul  5772 (27.8.2012)

 

 

CA 2833/04

 

Regis Ltd.

v.

Gabriel Trabelsi CPA, Trustee for Dan Rolider

 

 

The Supreme Court sitting as the Court of Civil Appeals

[3 August 2009]

Before Justices M. Naor, E. Arbel, E. Rubinstein

 

Appeal from the judgment of the Haifa District Court in Bankruptcy File 66/02 of 23.2.2004 (Judge G. Ginat) of 23 February 2004.

 

Facts: The respondent company, Dan Rolider Ltd., purchased heavy engineering equipment from the appellant, Regis Ltd., and agreed that a charge would be placed upon the equipment in favor of the appellant. The appellant failed to register the charges with the Registrar of Companies within the statutory 21 days. The appellant defaulted on its debt to the respondent, the CEO and controlling shareholder of the appellant company died, and an application was made to liquidate the company. Following the application for liquidation of the company, the respondent filed an application with the Registrar of Companies to extend the period for the registration of the charges, pursuant to s. 191 of the Companies Ordinance. The request was granted, and the Registrar issued registration certificates to Regis pursuant to s. 185 (a) of the Companies Ordinance. The appellant therefore claimed that it was a secured creditor in regard to the charged equipment, whereas the trustee appointed to liquidate the respondent company dismissed this claim. The District Court ruled that once the Registrar had issued a registration certificate, the charge was to be regarded as having met all the requirements of s. 178(a) of the Companies Ordinance with respect to the date of registration. The court therefore rejected the trustee’s claim regarding the invalidity of the charge vis-à-vis third parties. Nevertheless, the court ruled that the registration of the charge was void due to it being a fraudulent preference, within the meaning of s. 98 of the Bankruptcy Ordinance  and s. 355 of the Companies Ordinance.

Held: The Court denied the appeal. Justice M. Naor (Justices E. Arbel and E. Rubinstein concurring) differed in her opinion regarding fraudulent preference from that of the District Court , and ruled that the case did not involve “unlawful pressure or persuasion on the part of that creditor or on his behalf” under s. 98 of the Bankruptcy Ordinance. However, the Court nonetheless decided to deny the appeal, as it held that a charge that was registered late could not be validated for three reasons: First, as a rule, the registration of a charge should not be allowed after the commencement of liquidation proceedings, because once the liquidation has commenced, the parties’ expectations crystallize, and a charge that harms those expectations should not be recognized. Secondly, allowing the late registration of a charge, following the commencement of liquidation proceedings, undermines the goals of registration. Finally, the late registration of a charge after liquidation proceedings have commenced should not be recognized in the case at hand for reasons of good faith at the time of registering the charge and because of the delay involved in registering the charge. .

 

 

Israeli Supreme Court cases cited:

[1]   CA 2734/92 Iskoor Steel Services Ltd. v. Liquidator of Elkol Ltd. (in liquidation) [1992]  IsrLR  46 (4) 289.

[2]   CA 315/89 Bialostotzky Ltd. v. Graph Paper (Industries) Ltd. (in liquidation) [1991] IsrLR 45(1) 698.

[3]   CA 4548/91 Emek Hayarden Farms Central Agricultural Cooperative Society Ltd. v. Haspaka Central Company for Agriculturalists Ltd. (in liquidation) [1999] IsrSC 53 (4) 8.

[4]   C.A. 6/89 Israel Discount Bank Ltd. v. Maof Airways Liquidators Ltd. [1994] (not reported).

[5]   LCA 1096/97 Abu Juba v. Feiman Ltd. [1999] IsrLR 53(1) 481.

[6]   CA 4351/01 Liquidator of C.A. Food Company Ltd.  v. State of Israel, Department of Customs and V.A.T. [2005] IsrSC 60(1) 467.

[7]   CA 126/89 Liquidator of Koppel Tours Company Ltd. v.  Dan Hotels Company Ltd. [1992] IsrSC 46(3) 441 

[8]   CA 558/88 Itung Ltd. v. Levi David and Sons Ltd. (in liquidation) [1994] IsrSC 48(2) 102.

[9]    CA 1689/03 Israel Credit Cards Ltd.. v. Official State Receiver [2004] IsrSC. 58(6) 126.

[10]      CA 5789/04 Hamashbir Hayashan Ltd. v. Logistiker Ltd. (2007) (not yet reported).

[11] CA 2070/06 Equipment and Construction Infrastructures Ltd. v. Receiver (2008) (not yet reported).

[12] CA 6400/99 Mirage Construction and Investments Company Ltd. v. Hapoalim Bank Ltd. [2002] IsrSC 56(4) 830.

[13] CA 4316/90 Haspaka Central Company for Agriculturalists Ltd. (in liquidation) v. Agra-Even Yehuda Cooperative Agricultural Society Ltd. [1995] IsrSC 49(2) 133.

[14] CA 790/85 Israel Airports Authority v. Gruss [1990] IsrSC 44(3) 185.

[15] CA 2641/97 Ganz v. British and Colonial Company Ltd. [2003]  IsrSC 57(2) 385.

[16] HCJ 566/81 Amrani v. Rabbinical Court of Appeals (1982) (unreported).

[17] CA 610/94 Buchbinder v. Official Receiver [2003] IsrSC 57(4) 289.

[18] CA 6416/01 Benbenisti  v. Official Receiver [2003] IsrSC 57(4) 197.

[19] LCA 6339/97 Roker v.  Solomon [1999] IsrSC 55(1) 199.

[20]      HCJ 164/97 Conterm Ltd. v. Minister of Finance, Department of Customs and V.A.T. [1998] IsrSC 52(1) 289.

[21] LPA  426/06 Hava v. Prison Service (2006) (not yet reported).

[22] HCJ 987/94 Euronet Golden Lines (1992) Ltd. v. Minister of Communications [1994] IsrSC 48(5) 412.

[23] CA 8434/00 Delek Israel Gas Company Ltd.. v. Gazit and Shaham Construction Company [2002] IsrSC 57(3) 693.

[24] CrApp 2236/06 Hamami v. Ohayon (2006) (not yet reported).

[25] CA 839/90 Raz Building Company Ltd. v. Erenstein [1991] IsrSC 45(5) 739.

[26] CA 603/71 Bank Leumi LeIsrael Ltd. v. Land of Israel-Britain Bank [1972] IsrSC 26(2) 468.

[27]      CA 181/73  Shtukman v. Spitani [1974] IsrSC 28(2) 182.

[28]      CA 248/77 Hapoalim Bank Ltd. v. Garburg Ltd. [1977] IsrSC 32(1) 253.

Israeli District Court cases cited:

[29] CApp (T.A.) 19875/05 (BR 1795/05) 19875/05 (BR 1795/05) Council for Production and Marketing of Plants v. A.S. Li Growing, Selecting and Marketing of Agricultural Produce (in temporary receivership), (2006) (not yet reported).

[30] CApp (T.A.) 1355/03 (BR 2118/02) Trustee of the Rubenenko Group v. Department of Customs and V.A.T. [ 2003] (not reported).

[31] M (T.A.) 8663/91 (CC 1247/88) Crates Center Ltd. v. Industrial Development Bank of Israel Ltd. [1993] IsrDC 5754 (1) 68.

[32] M (Dis-T.A.) 14564/89 (CC 511/88) Liquidator of Razmig – Tires Marketing Company v. Bukshpan [1991] (not reported).

[33] AC (Dis-Jer) 43/92 Hapoalim Bank Ltd. v. Tadmir Feed Mix Institute Cooperative Agricultural Association Ltd. (in liquidation) [1993] IsrDC 5754 (1) 379.

 

Israeli laws cited:

Companies Ordinance [New Version], 5743-1983, s. 179 (a)(1)

Bankruptcy Ordinance [New Version] 5740-1980

 

 

For the Appellant — M. Azura; V. Gwilli-Zolman

For the Respondent — R. Rogin

 

 

JUDGMENT

 

Justice M. Naor

Should a charge registered late, after the commencement of liquidation proceedings of a company, be deemed valid? This is the question that arises in this appeal.

1. The respondent, Dan Rolider Ltd. (hereinafter: “the Company”), over whom the respondent was appointed as a trustee, purchased heavy engineering equipment from the appellant, Regis Ltd. (hereinafter: “Regis” or “the appellant”). The purchases were made on various dates: 18.6.2000; 24.8.2000; 15.4.2001. The Company gave an undertaking to charge the purchased equipment to Regis. The charge documents were deposited with Regis, but Regis did not send the documents to the Registrar of Companies and therefore the charges were not registered at the Registry within 21 days of their creation, pursuant to s. 179(a)(1) of the Companies Ordinance [New Version], 5743-1983. Some time later, the Company encountered financial difficulties and failed to pay its debts to Regis (or to others). The Company CEO and controlling shareholder, Dan Rolider, passed away. On 27 December 2001 an application to liquidate the Company was filed. The application was published and proceedings commenced for an operating arrangement in the framework of a stay of proceedings order. At this stage, and following the publication of the application, on 2 January 2002, Regis filed an application with the Registrar of Companies to extend the period for the registration of the charges, pursuant to s. 191 of the Companies Ordinance. In the application, it explained that “due to our having received the equipment in two separate consignments, an error occurred and the charges were not registered with the Registrar of Companies, despite the fact that the form had already been prepared when the equipment arrived.” The Registrar of Companies extended the period, and the charges were registered at the beginning of January 2002, between the date of filing the application for liquidation and the stay of proceedings order. The Registrar of Companies gave Regis certificates, pursuant to s. 185(a) of the Companies Ordinance. Regis claims — and this is the focus of the appeal before us — that it is a secured creditor in relation to the equipment that was charged as stated. As per the agreement between the parties, the court gave its approval for the trustee to sell the heavy engineering equipment, and the dispute over the question of whether Regis was a secured creditor was transposed from the equipment to the consideration paid.

2.    Regis filed a debt claim for failure to make the payments for the equipment as prescribed in the sale agreement, for a principal of NIS 1.5 million. As stated, Regis claimed that it was a secured creditor in relation to the charged equipment. The trustee did not deny that the Company had given an undertaking to Regis to register the charge, but claimed that the charges had no validity vis-à-vis the trustee: all the charges were registered long after the twenty-one day period prescribed for the registration of a charge in s. 179 of the Companies Ordinance; and the extension granted by the Registrar ex parte, without Regis having even notified him of the filing for liquidation, was invalid. Some of the charges were registered, as stated, several days after the filing for liquidation, and others were not registered at all, because — as claimed by the Registrar — Regis had been registered (mistakenly) in them as “the borrower” and not as “the lender”. The trustee’s decision to dismiss Regis’s claim that it was a secured creditor was appealed by Regis in the District Court.

3.    The District Court judge (Hon. Judge Ginat) dismissed the trustee’s claim regarding the significance of non-registration of the charge within twenty-one days of its creation. The trustee sought to rely on s. 178 of the Companies Ordinance, whereas the court relied on the decision in CA 2734/92 Iskoor Steel Services Ltd. v. Liquidator of Elkol Ltd. (in liquidation) [1], and ruled that once the Registrar had issued a registration certificate, the charge was to be regarded as having met all the requirements of s. 178(a) of the Companies Ordinance with respect to the date of registration. The court therefore rejected the trustee’s claim regarding the invalidity of the charge vis-à-vis third parties. The court effectively ruled that claims pertaining to the laws of registration of the charge should not lead to non-recognition of the charge.

4.    Nevertheless, the court ruled that the registration of the charge was void due to it being a fraudulent preference, within the meaning of s. 98 of the Bankruptcy Ordinance [New Version], 5740-1980 and s. 355 of the Companies Ordinance.

 Section 98(a) of the Bankruptcy Ordinance states:

98(a) Every transfer of property or charge, however made, every obligation incurred, and every judicial proceeding taken or suffered, by a person unable to pay his debts as they become due from his own money, in favor of a creditor or of a trustee of any creditor, with a view to giving such creditor or any guarantor of the debt due to such creditor, a preference over other creditors, or in response to undue pressure or persuasion by or on behalf of such creditor if such person is adjudged bankrupt on a bankruptcy application presented within three months after the date of making, incurring, taking, or suffering as aforesaid, shall be deemed fraudulent and void as against the trustee.’

‘Voidance of Preference

And s. 355(a) of the Companies Ordinance provides:

355(a) Any transfer, mortgage, delivery of goods, payment, execution or any other act in relation to assets — which, if committed by or against a person would be deemed in his bankruptcy a fraudulent preference—, when committed by or against a company — shall be deemed in the winding up a fraudulent preference of its creditors, and shall not be valid; for the purposes of this section, the beginning of winding up shall replace the application for bankruptcy.’

‘Fraudulent Preference

5.    The court gave the following reasons for its conclusion that the charges were invalid under the sections cited: the debts between Regis and the Company, in accordance with which the Company had undertaken to charge the equipment, were admittedly authentic and not fictitious, but fraudulent preference relates precisely to real debts that have become due, and which, by law, the debtor is obligated to pay and the creditor is entitled to collect. Fictitious debts are void debts, in respect of which there is no need to resort to the rules of specific voidance under s. 98 of the Bankruptcy Ordinance, or s. 355 of the Companies Ordinance. Fictitious debts may be voided under the general law, irrespective of the three month time period or the company’s ability to pay its debts. Preference of creditors under the aforementioned sections may, in principle, also find expression in the upgrading of a creditor’s status. The registration of a charge in a company’s favor at a time of insolvency may be regarded as fraudulent preference in precisely the same way as would the payment of a sum of money where no valuable consideration was given. A debtor’s intention of fraudulently preferring (“with a view to giving preference” in the words of s. 98) is just one of the alternatives that leads to a declaration of a payment as being a preference that must be voided. Section 98 also recognizes a preference grounded in “pressure or unlawful persuasion” on the creditor’s part, and the court ruled that this indeed was the case at hand. Applying pressure, or unlawful persuasion, may in and of themselves be legal. In our case, the court added, registration of the charge was a legal act. Both by virtue of its contract with the Company and by virtue of the laws of registration, Regis was legally entitled to register the charge. However, in the court’s view, the execution of the registration within the “prohibited” three months called for an examination of whether the registration took place in the regular course of business, or whether the act of registration was intended to “pressure” the Company into upgrading the status of Regis at the time of insolvency. Regarding this matter the court ruled that for purposes of fraudulent preference, it is desirable and appropriate to determine that the arrangements that are applicable at the time of insolvency and in anticipation of liquidation, should also apply as of the crystallization of an application for a stay of proceedings. However, in this case the liquidation application against the Company was pending as of 27 December 2001, and therefore the court ruled that  the charge was in any event executed during the “prohibited period”. Note, incidentally, that it emerges from the written pleadings that the liquidation order was ultimately issued on the basis of a later application, after the efforts to rehabilitate the Company in the framework of a creditors’ settlement failed, but all the insolvency proceedings took place consecutively.

6.    The court concluded that it was both appropriate and desirable to determine, under the circumstances, that the date of the transaction would be considered as the date on which the charges were registered (at the beginning of 2002), i.e., the date on which they entered into effect regarding third parties, and not the date on which they were created. However, the charges were registered during what the court as referred to as the “prohibited period”. The court relied on the decision in CA 315/89 Bialostotzky Ltd. v. Graph Paper (Industries) Ltd. (in liquidation) [2], and clarified that if the charges had been registered within 21 days of having been created, the registration would have gone into effect retroactively, in accordance with the aforementioned ruling. However, if the charge was registered late, as in the case at hand, it does not come into effect from the date of its creation, but only from the date of its registration. In that regard the court noted that a decision to recognize a charge registered belatedly, during the prohibited period, as being in effect from the registration date so that the date on which the transaction was executed for purposes of fraudulent preference would be the date on which the charge was perfected, prevents a situation of preferential transactions by a consensual delay in the registration, to enable the company to present a better financial situation. The court summed this up as follows:

‘24. Regis acquired a legal right to request the extension of the registration in order to upgrade its status to that of a secured creditor, or more precisely — to upgrade its status in relation to all the creditors by way of registration, seeing as it already had status as a secured creditor of Rolider from the date of the agreement, and as such it remained. This right, when exercised within the prohibited period, after a period of almost two years during which Regis did nothing to secure the debt, its sole purpose being to create an advantage over other creditors, does not satisfy the condition of s. 355 of the Companies Ordinance and s. 98 of the Bankruptcy Ordinance, insofar as it constituted “unlawful pressuring” of Rolider. Nor can we accept Regis’ claim that regarding the date of the execution of the charge transaction (in accordance with the date of the creation of the charges), and in circumstances in which the charge was registered late, the rule in Bialostotzky Ltd. v. Graph Paper (Industries) Ltd. [2] ought to be interpreted such that the date of the transaction will be the date of the perfection of the charge in relation to third parties (i.e. the date of its registration). The operative result of my decision is that the trustee’s decision of 29 August 2002 remains intact, meaning that Regis is not to be regarded as a secured creditor with respect to the funds that were received from the sale of the presses.’

7.    Regis has appealed this ruling before us. It claims that the ruling in Bialostotzky Ltd. v. Graph Paper (Industries) Ltd. [2] concerning the retroactive effect of a charge from the date of its creation and not of its registration should not be interpreted as applying only to a case in which the charge was registered within twenty-one days of its creation. The creation of the charge preceded the “prohibited period” thereby preventing, according to Regis, the cancellation of the charge. Once the charge has been registered, even if late, its legal standing is that of a charge duly registered on time, and no distinction should be made between a charge registered on time and a charge registered late. Regis stresses that no other property right was created between the date of the creation of the right and the date upon which the charge was registered, so that there was no violation of any right that was “in competition” with Regis. In any event, the regular creditors cannot presume that no charge will be registered at a date later than the date of their creditorship.

8. Regis further claims that this is altogether not a case of fraudulent preference: the act of registration was effected solely by the creditor (Regis) based on real time documents in its possession, whereas the Company did not undertake any additional act. As such, Regis did not “pressure” the company into “preferring” it.

9.    The trustee endorses the decision of the District Court. According to the trustee, after the process of liquidation has begun, transactions in the property of the Company cannot be allowed without court approval. Since no such approval was forthcoming in our case, registration of the charge is not valid. The trustee adds that when Regis requested and received the extension from the Registrar, it did not disclose the fact that an application for liquidation had been filed and that the Company was collapsing. Had the Registrar known these facts he would not have granted the extension. The trustee is therefore entitled to claim in the liquidation court that the extension is void regarding him. The trustee claims that Regis registered the charges in a completely improper manner. Granting Regis the status of a secured creditor would lead to its preference even over other preferred creditors, including debts for workers’ wages, debts to income tax and other debts with priority status. The trustee also endorses the decision of the court with regard to fraudulent preference.

Deliberation  

10.  Before addressing the substance of the matter I wish to clarify that one of the arguments raised by the parties does not require our resolution: Was the trustee obliged to file a separate proceeding on his own behalf, requesting that the liquidation court invalidate the late registration of the charge, by reason of its being (so he claimed) a fraudulent preference and because the Registrar should not have granted an extension after the beginning of the liquidation, or can this question be clarified in the course of the hearing of the creditor’s request to be recognized as a secured creditor? In my view, we should take the bull by the horns and examine whose right takes preference: the right of the creditor whose charge was not registered on time, i.e., within the twenty-one days mentioned in s. 179(a)(1), and which was actually registered only after the filing of the liquidation application, or the right of the insolvent company and its creditors.  In other words, our concern is with the validity of the charge, both in terms of the laws of charges and the laws of insolvency. In the matter before us nothing prevents the issue of the validity of the charge being resolved by the liquidation court, and the decision of the Registrar cannot be the final word with respect to the  liquidator, who was not a party to the extension proceeding, and when in any event, “s. 185 confers the status of conclusive proof of the fulfillment of all of the requirements relating to registration and not to the validity of the charge (Iskoor v. Elkol [1], at p. 297C; see also the comments of Judge D. Keret-Meir in CApp (T.A.) 19875/05 (BR 1795/05) Council for Production and Marketing of Plants v. eGrowing, Selecting and Marketing of Agricultural Produce (In Temporary Assets Receivership) [29], at para. 4(b). 

11.  The matter before us is located on the “seam” between the laws of charges (including the laws of the registration of charges) and the laws of insolvency. Were it not for the insolvency, there would have been nothing preventing (in this case) the registration of the charge, even if late. There were no later charges and there is no conflict of rights between competing charges. As such, in my view, the solution to the question I posed must be found on the seam between the laws of charges and those of insolvency. The dividing line between them is not always clearly demarcated, and the comments of Professor Lerner in this context are particularly apposite, as though they were written specifically in reference to our case:

‘That the border between the laws of insolvency and the laws of charges is a difficult one to demarcate is also evident in the case-law ruling that unregistered charges are invalid at the time of the company’s liquidation, and secured creditors who did not perfect their right will be regarded only as regular creditors’ (Shalom Lerner, Charging of Company Assets (1996), p. 26).

Indeed, in our case I have reached the conclusion that validity cannot be conferred on a charge registered late, after the commencement of the liquidation proceedings, and the appeal should thus be denied.  My path to that conclusion differs from that of the District Court. The District Court ruled that under the laws of charges the charge should be validated, but under the laws of insolvency which prescribe the invalidity of transactions involving fraudulent preference, Regis cannot be accorded the status of a secured creditor. In my view, our case does not involve fraudulent preference and in that respect my view differs from that of the District Court.  However, my position regarding the holding that the charge should be validated differs from that of the District Court as well, and so, at the end of the day, the result is that the appeal must be dismissed. I will explain below.

12.  First, I wish to explain why I believe that the District Court should not have ruled as it did regarding fraudulent preference. Section 98(a) of the Bankruptcy Ordinance prescribes four cumulative conditions for the determination that a case is one of fraudulent preference (see Shlomo Levin and Asher Grunis, Bankruptcy (2^nd ed., 2000) at p. 329; Irit Haviv-Segal, Corporate Law in Israel – After the New Companies Law, vol. 2 (2004) at p. 288):

(a) The acts took place within the three-month period that preceded the filing of the bankruptcy application;

       (b)        The acts were executed for the benefit of a creditor or his trustee;

(c) The acts were executed for the purpose of giving preference to that particular creditor, or to the person who guaranteed his debt, over other debtors, or by reason of unlawful pressure or persuasion on the part of that creditor or on his behalf.

(d) At the time of the act, the debtor was unable to pay his debts from his own money upon their becoming due.

13.  It seems to me that in our case there is no dispute regarding the conditions specified in items (b) and (d) above.  Item (a) will be resolved in accordance with the answer to the question of whether the charge should be viewed as having come into force on the date of its creation or on the date of its registration. Without ruling on the matter, I am prepared to assume that the District Court was correct in ruling that the determining date was the registration date (unless the charge was registered within twenty-one days of its creation, in which case it will be viewed as having retroactive effect, in accordance with the rule in Bialostotzky Ltd. v. Graph Paper (Industries) Ltd. [2]). The District Court cited in this regard an explanation mentioned in the legal literature, to the effect that such recognition of the determining date (as being the registration date) will prevent dubious deals between the holder of the charge and the debtor, in which the charge would not be registered so as not to prejudice the company’s ability to raise funds. As noted by Professor Lerner:

‘In jurisprudential literature, the issue of invalidation of transactions is accorded an additional purpose — as a barrier against the conferral of concealed rights. For example, the concealment of a charge may mislead potential creditors and assist the company in presenting its financial position as being better than it is in reality. In order to prevent an agreement between the debtor and the creditor to create a charge and defer its registration to a later date, the law allows the liquidator of a company to petition for the cancellation of a charge that was registered just prior to the time of liquidation. It is for this reason that with respect to the laws of cancellation, the execution of the transaction is identified with its perfection regarding others, and not with the conclusion of the agreement. The secured creditor is thereby given a double incentive to register the charge in his favor without delay: the fear of the creation of an additional charge on the same asset, and the possibility of challenging the charge at the time of liquidation. The goal of preventing the concealment of charges is therefore one that is common to the two sets of laws: the laws of charges and the laws of insolvency’ (Lerner, at p. 427).

As noted by the District Court, this question is one of legal policy. In our case I am not required to rule on the question, for even if the determining date was the date of registration of the charge, and the charge was not “immune” to cancellation in any event due to fraudulent preference, in our case it would still not be possible to cancel the charge by virtue of the laws of fraudulent preference. I will now address this issue.

14.  Regarding the question of fraudulent preference, the crux of the appeal is the third condition specified above, and in greater detail in Regis’s argument that the case did not involve “unlawful pressure or persuasion on the part of that creditor or on his behalf.” It will be recalled that in this case the court did not invoke the alternative of “in order to give priority to a particular creditor” but rather the alternative of “pressure” referred to in s. 98 of the Bankruptcy Ordinance. My view is that the District Court “stretched” the expression “pressure” beyond its linguistic limits, and beyond the situation of “pressure” as in the case-law ruling in a similar case.

15.  Under the present circumstances, the act of registration was executed entirely by the creditor (Regis) and not by the Company. In executing the registration Regis did not require the assistance of the debtor, as it was already in possession of all the charge documents. A matter similar to the one before us arose in CA 4548/91 Emek Hayarden Farms Central Agricultural Cooperative Society Ltd. v. Haspaka Central Company for Agriculturalists Ltd. (in liquidation) [3]. The Court ruled there that in terms of the sections pertaining to fraudulent preference, there was nothing unlawful about acts of assignment of the right of a creditor of the company to its debtor which resulted in the litigating societies having a right of set off against the company in liquidation. The Court explained that the assignment of a right does not require the debtor’s consent, and the act of setting off is a unilateral legal act which is perfected upon giving notice of the set off. These acts were executed by the creditors of the company in liquidation and not by the company itself. In our case, the District Court, as stated, based its decision on the alternative provided by s. 98(a) of the Bankruptcy Ordinance, under which there had been “unlawful pressure or persuasion”. In this regard the court relied on the judgment of Judge Alshich in CApp (T.A) 1355/03 (BR 2118/02) Trustee of the Rubenenko Group v. Department of Customs and V.A.T. [30], whereby the court decided not to recognize a charge on the company assets created by the Tax Authority during the prohibited period. The Tax Authority is able, by law, to upgrade its standing from that of a regular creditor to that of a secured creditor, and it did so in the prohibited period. The District Court ruled that inasmuch as the charge was registered on the eve of the company’s collapse and its entry into the stage of a stay of proceedings, the act constituted the exercise of a right with the express intention of gaining priority over the other creditors, and this constituted fraudulent preference. The test, according to the decision in Rubenenko v. Department of Customs and V.A.T. [30], was whether the act fitted into the regular course of business between the creditor and the debtor or whether it deviated therefrom with the aim of “upgrading” the creditor vis-à-vis all the other creditors, without value having been given in consideration. The court in Rubenenko v. Department of Customs and V.A.T. [30] noted that the tax authorities were obligated to make use of the tool they had been given to upgrade their status lawfully and in good faith, and that the prohibition against according preference to creditors on the eve of a company’s collapse is a general principle. It also ruled that upgrading the status a few days before the collapse of the company, when the tax authorities were aware of the position of the company, might expose it to the logical presumption that this was an act of “pressure” applied by the tax authority to cause the debtor to pay his debt, and its intention was solely to gain preference for itself over the debtor’s other creditors. This is the natural and necessary meaning of the registration of a charge just before the company’s collapse.

16.  The District Court’s comments in Rubenenko v. Department of Customs and V.A.T. [30] were, as stated, endorsed by the court in the judgment forming the subject of appeal before us, which held that the registration of the charge constitutes “pressure” or “persuasion”, as it is not an act performed in the regular course of business. I see no need to take a position on the question that has not arisen before us — concerning the duties incumbent upon the tax authorities, which are public authorities, with respect to  the other creditors. However, I am unable to concur in the conclusion that Regis’ actions in our case fall into the category of “pressure”. The comments of this Court in Emek Hayarden v. Haspaka [3] are apposite here, concerning the alternatives of pressure or persuasion:

‘Haspaka further argued that the case falls into the category of section 98 of the Ordinance, in the Bankruptcy Ordinance Amendment Law 5743–1983. That is to say: the act was done “or in response to undue pressure or persuasion by or on behalf of such creditor” Indeed, the aforementioned amendment broadened the laws of fraudulent preference by also enabling the invalidation of actual acts of preference carried out without intention on the debtor’s part to prefer the creditor. As indicated by the Explanatory Note to the Bankruptcy Ordinance Amendment Bill, 5741-1981, which added this amendment, “It is proposed that a transfer of the bankrupt’s property, which is unlawfully received by a creditor by way of collection of his debt involving coercion or temptation, should be equated to the fraudulent preference of a creditor and will likewise be invalid with respect to the the trustee (ibid, at pp. 155-156). Justice Bein in CA 1621/92 and Justice Strasburg-Cohen in CA 767/93 correctly stressed the existence of two foundations included in the aforementioned paragraph: one – the act was unlawful and a set off — assuming it was executed lawfully — is the legitimate way of paying debts. The other – even when there is undue pressure, the act must be committed by the debtor himself and not only by his creditor. Haspaka argues that the section refers to the act of surrendering to a legal proceeding, and that in the matter at hand, it surrendered to the legal proceedings instituted by the Associations. This situation, it was claimed, is analogous to the failure to file a statement of defense against a statement of claim. It was likewise claimed that the result of the set off was that Haspaka had actually paid its debt to the factories, and by doing so committed an act of fraudulent preference. These arguments disregard the unilateral character of acts of setting off. Not contesting a claim or actively paying a debt is not the same as a debtor passively standing by while the act of setting off is being carried out’ (ibid., p. 18).

Further on, the court in Emek Hayarden v. Haspaka [3] explained that the scope of s. 355 of the Companies Ordinance could not be extended to include acts of a creditor in which the company played no part (see also Levin and Grunis, at pp. 329, 332 and 338). In our case Regis registered the charge based on signed documents that had long been in its possession. Therefore, and notwithstanding my assumption that in terms of the dates, the laws of fraudulent preference are applicable to this case, they cannot be applied in the concrete circumstances of this case, which fail to meet the conditions specified in s. 98(a) of the Bankruptcy Ordinance or the alternative relied upon by the District Court (“undue pressure or persuasion”) as explained in Emek Hayarden v. Haspaka [3]. In other words, even in a case of “undue pressure”, an act must be performed by the company itself, and in absence of such an act on its part, there can be no “fraudulent preference”.

17.  This concludes our comments regarding fraudulent preference. As mentioned, my view on this matter differs from that of the District Court, but the matter does not end here. We must consider whether in our case, we can validate a charge registered late, after the commencement of the liquidation proceedings. I would answer this question in the negative, for three reasons. First, for the reason that as a rule the late registration of a charge should not be allowed after the commencement of the liquidation proceedings; secondly, because allowing the late registration of a charge, following the commencement of liquidation proceedings, undermines every one of the goals of the registration; and thirdly, for reasons of good faith at the time of registering the charge and because of the delay involved.

Liquidation Proceedings

18.  As stated, the District Court concluded that the charge in the case at hand was valid, despite having been registered after the beginning of liquidation proceedings, in reliance on Iskoor v. Elkol [1]. However, in Iskoor v. Elkol [1], the question of the status of a charge registered after the commencement of liquidation proceedings was explicitly left undecided. In fact, the question in Iskoor v. Elkol [1] was different. At the very beginning of the decision, Justice S. Levin stated that “the question that arises in these appeals is what validity a charge created by the company has — regarding the liquidator —a, when the particulars of the charge were submitted for registration after the passage of twenty-one days from the date of its creation; and which, even though no application for an extension of the registration date was submitted, was registered by the Registrar, and a certificate of registration of the charge was issued, well before the commencement of liquidation proceedings against the company” (ibid, at p. 291 para. d) [emphasis added]. Thus, the charge in Iskoor v. Elkol [1] was indeed registered late, but the registration was effected “well before the commencement of liquidation proceedings”. This is not so in the case before us, in which not only was the charge registered late, but it was registered after the commencement of liquidation proceedings. Consequently, the rule laid down in Iskoor v. Elkol [1] does not govern our case. To be precise: the Iskoor v. Elkol [1] ruling stresses that the registration was indeed late, but that it occurred before the commencement of the liquidation (this expression appears repeatedly, see paras. 10, 11, and 12) and Justice Levin even states that he is not deciding on a situation in which the charge was registered after the commencement of the liquidation (see para. 7). In Iskoor v. Elkol [1], therefore, no ruling was made on the validity of a charge registered late after the commencement of liquidation proceedings, but the general thrust of the judgment seems to be that validity should not be conferred on such a charge (as opposed to a situation in which the charge was indeed registered late, but “well before the commencement of liquidation proceedings, ”in which case it should be deemed valid). As noted by Professor Deutch:

‘A special question arises when the Registrar issues the certificate after the commencement of liquidation proceedings, whereas the charge itself was created before the commencement of those proceedings. The court [in Iskoor v. Elkol — M.N.] did not decide on that situation, but it is clear that it deemed it possible that the situation under those circumstances would differ from what it was in the case at hand [when the registration was executed well before the commencement of liquidation proceedings — M.N.] (Miguel Deutsch, Property, vol. 1, 162, n. 111 (1997) (hereinafter: Deutsch, vol. 1).

And Professor Lerner wrote:

‘The court in Iskoor v. Elkol [1] refrained from expressly stating its position on  the matter, but from reading the decision it emerges that the court would not have been inclined to grant the secured creditor a similar extension after the commencement of the liquidation. A similar approach finds expression in the ruling of the District Court [ … ]. According to this approach, the status of the creditors — as regular or secured — is determined at the commencement of the liquidations, i.e. at the time of the submission of the liquidation application’ (Lerner, at p. 350).

19.  Indeed, if the charge was registered within the time specified in s. 179 of the Ordinance, i.e., within twenty-one days of its creation, it would be valid (in terms of the laws of charges), even if an application was filed in the meantime to liquidate the company. In other words, if the charge was created before the application for liquidation, and its registration was executed after the application but before the passage of the twenty-one days prescribed in s. 179, the charge would be valid (CA 6/89 Israel Discount Bank Ltd. v. Maof Airways Liquidators Ltd. [4], at para. 5). The basis for this rule is that although the charge was registered after the submission of the liquidation application, it was within the twenty-one day period specified in s. 179. In our case, however, the registration took place after the submission of the liquidation application and considerable time after the twenty-one days. What is the law in such circumstances? In my view, it should be decided that the charge is invalid. After the liquidation has commenced, the parties’ expectations crystallize, and a charge that harms those expectations should not be recognized. When the liquidation began, there was no valid charge in favor of the appellant, and therefore, after the commencement of the liquidation, the charge that was registered late should not be deemed valid. This point was elucidated by Prof. Cohen:

‘In my view the date for registration of charges should not be extended after the beginning of the liquidation. The liquidation crystallizes the rights of the parties, as they were at the time of its commencement, and these rights should not be changed by registration at a later date’ (Tzipora Cohen, Liquidation of Companies (2000) p. 582).

Instructive comments in this context were also made by Professor Deutch:

‘It is clear that the commencement of bankruptcy or liquidation proceedings against the mortgagee crystallizes the picture of the conflict, such that the registration of a pledge after that stage will not usually lead to the proprietary preference of the mortgagor over other creditors (Miguel Deutch, Property vol. 2 (1999), p. 143 (hereinafter: Deutch, vol. 2)).

The issue was also addressed by Professor Lerner:

‘The meaning of the retroactive application of the liquidation is that the division of the company’s assets amongst the various creditors will take place in accordance with the state that existed when the liquidation application was filed. Any act done thereafter, even if the company was not partner to it, will not change the manner of allocation that existed at the beginning of the liquidation’ (Lerner, at p. 446).

20.  In his book, Prof. Lerner presents both the English caselaw that negates the possibility of extending the date for registering the charge after the filing of the application for liquidation of the company, as well as the Australian caselaw which does not regard the application for liquidation as an exclusive consideration, but he immediately adds that “nevertheless, there would not be a significant gap between the two approaches in practice, since only rarely would the court extend the registration date when a request to liquidate the company had already been filed (Lerner, p. 351) (emphasis added). In Israel, the extension is at the discretion of the Registrar of Companies, and according to Prof. Lerner, “particular care” is required concerning the question of extending the date for registration of a charge after liquidation proceedings have commenced; in his view, “it is doubtful whether it is desirable to leave a quasi administrative-judicial authority such as the Registrar broad discretion after liquidation proceedings against the company have begun” (ibid). Prof. Deutch similarly notes that “it is doubtful whether the period can be extended, when in any case the company is going through liquidation proceedings” (Deutch, vol. 2, p. 132) and that “it is doubtful whether the Registrar of Companies is authorized to extend the date for the registration of a charge against the company, after the commencement of liquidation proceedings, when the charge was not registered on time” (Deutch, vol. 2, p. 143, n. 373). The fact that in England, “the homeland of our Companies Ordinance” (in the words of Justice Goldberg in LCA 1096/97 Abu Juba v. Feiman Ltd. [5], at p. 493), the court does not generally allow the late registration of a charge after the commencement of liquidation proceedings, and the reasons for this are explained by Gower:

‘Section 404 enables the holder of a registrable charge which has not been registered within 21 days from its creation to apply to the court for an order extending the period for the registration of the charge. The jurisdiction of the court is very wide but normally the court will not make an order under section 404 once a winding up has commenced. The reason for this is that winding up is a procedure for the benefit of unsecured creditors and the registering of a charge after the commencement of winding-up would defeat their interests.’ (Paul L. Davies, Gower’s Principles of Modern Company Law 380 (6th ed. 1997) (1954)).

Prof. Cohen takes a similar view:

‘Whereas there is nothing to prevent the timely registration of a charge, that is, within twenty-one days of its creation, even if the company began liquidation within the period between the creation of the charge and its registration, the time for registration of the charge may not be extended after the commencement of the liquidation. As mentioned, the period for registration of a charge may not be extended when it is harmful to the creditors. Liquidation is a procedure intended to benefit regular creditors. The late registration of a charge, after the commencement of liquidation, is detrimental to the creditors’ interests. The Supreme Court in the matter of Iskoor v. Elkol [1] did not express its view on this question of late registration, after the commencement of liquidation, of a charge that was created before the liquidation began […]. In England too, the accepted view is that as a rule the court will not exercise its authority to grant an extension after the commencement of liquidation, for the reason of harm to the regular creditors. All the same, it was held there that in exceptional cases the court was entitled to extend the period, despite the commencement of liquidation proceedings. This would be the situation, for example, in a case in which the failure to register was the result of fraud’ (Cohen, at p. 581; and see Lerner, at p. 424).

21.  In our case, the non-registration was not the result of fraud and that exception does not apply. Furthermore, in Iskoor v. Elkol [1], one of the reasons for the conclusion that a charge would be valid even if registered late but “well before the commencement of the liquidation proceedings” was that “there was nothing to prevent the company from creating a new, identical charge and from filing the registration documents pertaining thereto on time” (ibid, at p. 298). This reasoning has no application in the case before us, because after the beginning of the liquidation, no transaction in the company’s assets can be made without the approval of the court (see s. 268 of the Companies Ordinance; regarding the purpose of this section and the conditions for its application, see CA 4351/01 Liquidator of C.A Food Company Ltd.  v. State of Israel, Department of Customs and V.A.T. [6], at p. 478ff.). Prof. Lerner’s comments in this regard are incisive:

‘The court justified the harm by saying that in any event, the secured creditor would be able to conclude a new pledge agreement with the company and to register it on time. However, this reasoning does not apply after the filing of an application to liquidate the company, since during that period, transactions made by the company with others are not valid, unless approved by the court. It may reasonably be presumed that the court would not approve a transaction granting one of the company’s creditors a charge regarding an old debt that the company owes to him’ (Lerner, at p. 350).

22.  To be precise: it might be argued that even if the charge was created before the commencement of liquidation, the fact that its registration was effected after the commencement of the liquidation should suffice for it be viewed as a “transaction in the company’s assets” which is impermissible under s. 268.  As ruled by Judge Levitt of the District Court:

‘Were we to recognize the Administration’s retroactive consent to the charge, after the commencement of the liquidation, we would thereby prejudice the rights of the company’s other creditors and confer upon the bank the preferred status of a secured creditor, which it did not have at the beginning of the liquidation. It would not be amiss to note that under s. 268 of the Companies Ordinance no transaction may be made in the company’s assets other than with the consent of the court. I see no grounds for allowing the bank to change and improve its status as a company creditor on the basis of an act done after the beginning of the liquidation, even if it is nothing more than the completion of an act taken by the company before the beginning of the liquidation (M (T.A.) 8663/91 (CC 1247/88) Crates Center Ltd. v. Industrial Development Bank of Israel Ltd. [31] at p. 80; see also and compare (M (T.A.) 14564/89 (CC 511/88) Liquidator of Razmig — Tires Marketing Co. v. Bukshpan [32], at para. 3; AC (Jer) 43/92 Hapoalim Bank Ltd. v. Tadmir Feed Mix Institute Cooperative Agricultural Association Ltd. (in liquidation) [33], at p. 379).

According to Judge Levitt, even the completion of an act by a creditor is tantamount to a transaction by the company, which is not allowed under s. 268, and as previously cited in the name of Prof. Lerner (emphasis added):

‘The division of the company’s assets amongst the various creditors will take place in accordance with the state that existed when the liquidation application was filed. Any act done thereafter, even if the company was not partner to it, will not change the manner of allocation that existed at the beginning of the liquidation (Lerner, at p. 446).

In the matter of Crates Center Ltd. v. Industrial Development Bank of Israel Ltd. [31] cited above, at issue was the retroactive consent of the Israel Lands Administration to a mortgaging of land, and Judge Levitt’s comments there concerning the Administration’s consent are also applicable, prima facie, to the matter at hand with respect to the Registrar’s consent to the extension of the period for registration. However, my decision is not based on s. 268, and therefore I will not rule on the question of whether registration per se constitutes a “transaction” within the meaning of s. 268, and I will leave the matter as pending further examination (see and compare: CA 126/89 Liquidator of Koppel Tours Co. Ltd. v. Dan Hotels Co. Ltd. [7] at p. 451; CA 558/88 Itung Ltd. v. Levi David and Sons Ltd. (in liquidation) [8] at pp. 138-139, in which, inter alia, the question arose as to how to distinguish between the continued existence of the power of attorney and the extent to which the right secured by the power of attorney continues to exist after the commencement of liquidation proceedings).

23.  Moreover, as stated, the rights of the parties crystallize with the commencement of the liquidation, and in addition, the principle of equality is accorded priority status. Prof. Cohen even adds that “by virtue of this principle the courts will prefer an interpretation that preserves the principle” (Cohen, at pp. 19–20). Dr. Bahat adds that “the principle of equality is the starting point in the laws of liquidation, and its application may also be of importance in those cases in which there is an exception which sets in law any kind of priority right. For example, even exceptions to the principle of equality are given a restrictive interpretation, and equality of creditors occasionally serves as a principle that often redirects the rights of the secured creditor back towards the starting point of equal division” (Yechiel Bahat, Corporations — The New Ordinance and the Law, vol. 3 pp. 1445-1446 (10^th  ed., 2008) (hereinafter: Bahat, vol. 3). It appears that there is no dispute that this principle is based on considerations of justice, and as noted by Prof. Lerner: “The classical explanation for the rule of equality in liquidation and bankruptcy is rooted in foundations of justice and fairness” (Lerner, at p. 18). This point was also made by Dr. Bahat, who noted that —

‘… the rule is based on considerations of justice. Considerations of justice play a central role in the laws of liquidation, whose English source is in the laws of equity. These considerations of justice dictate not only equal distribution of the property remaining at the end of the liquidation process, with the liquidator’s examination of the creditors’ proofs of debt, but also the ensuring of equality for the duration of the process. For example, by the invalidation of transactions and transfers executed after the beginning of the liquidation’ (Bahat, vol. 3, at p. 1443)

24.  In the present case the respondent claims that the parties’ rights crystallized with the commencement of the liquidation, and that considerations of justice should therefore lead to the conclusion that these rights cannot be affected by validating a charge registered late, after the commencement of liquidation proceedings. The appellant claims, on the other hand, that justice is on its side, because it was the appellant that sold the heavy engineering equipment which is the subject of the appeal to the Company, and there is no reason that other creditors should be able to enjoy this property, for which no payment was made. Indeed, it is undeniable that concretizing the consideration of justice in this case is not simple. What I said in another case is appropriate in the present context:

‘In any situation of bankruptcy or liquidation of companies, a situation of injustice is created vis-à-vis innocent parties. Justice dictates that any person who is indebted should pay his debts. In a state of insolvency, innocent bystanders gain, if anything, a dividend, and the morsel does not satiate the lion. When the blanket is short, pulling the blanket in any direction will perforce expose to the cold the party from whom it was pulled. Many are pulling the blanket in different directions: creditors with priority rights, owners of charges, parties with setting off rights, regular creditors and the like. Any solution that prefers one of them is necessarily at the expense of another […]. Either way, we must determine a uniform rule which does not take into consideration the question of whom the legal solution “will enrich” (CA 1689/03 Israel Credit Cards Ltd. v. Official State Receiver [9]).

In this case too, a uniform rule should be established that does not take into consideration the question of whom the rule will “enrich”. In formulating such a rule we must tread, as I stated in another case, “the path which will benefit the party looked upon favorably by the legislator” (CA 5789/04 Hamashbir Hayashan Ltd. v. Logistiker Ltd. [10]). In the circumstances of this case, where the charge was registered late, and only after the liquidation proceedings had commenced, the legislature has taken the side of the liquidator (and the other creditors). This is evinced by s. 178(a) of the Ordinance:

Charges requiring registration

178.(a) Any charge of the types listed below, which was created by a company registered in Israel, shall be void in respect of  the liquidator and any creditor of the company, to the extent that it places a guarantee on its assets or plant, unless the prescribed details of the charge and the document that creates or attests to it — if there was such a document — were delivered to the Registrar or received by him by the time and in the manner specified in s. 179, , for the purpose of registration as required under this Ordinance.

25.  In the legal literature, explicit reference is to be found regarding the purpose of s. 178 as being to protect the liquidator and any other creditor:

‘The purpose of s. 178 is to grant full assurance that any charge on the company’s assets which was not registered with the Registrar of Companies within the period prescribed by law, or within the extended period [ ... ] will be void toward the liquidator and any other creditor of the company in the event that it places a guarantee on the company’s assets or its plant. In other words, the lender in whose interest the charge was created will not enjoy any preferential right in relation to other creditors, or toward the company liquidator, since they were entitled to assume that the company was free of any charges and it was on that basis that they provided credit, and the law therefore protects them from being harmed. (A. Felman, Company Law in Israel – In Theory and in Practice, vol. 2 (4th ed, expanded and updated by Hadara Bar-Mor, 1994), at p. 956).

Indeed, s. 178 instructs that when the charge was not registered on time, the legislator preferred the liquidator and the creditors of the company. In view of s. 178, Zaltzman and Grosskopf argue that no validity should be ascribed to a charge registered late, after the beginning of the liquidation, and “from this  the importance of the act of perfection is derived. Only a pledge or charge that were perfected before the bankruptcy or liquidation proceedings were initiated, will be valid toward the trustee or the liquidator” (Nina Zaltzman and Ofer Grosskopf, Pledging of Rights (2005), p. 303. In this context they stress that:

‘Where the liquidation of a company is concerned, the determining date for purposes of examining the validity of the charge against the liquidator must in our opinion be the date of the commencement of the liquidation proceedings, which is the day on which the application for liquidation is filed (ibid., n. 168).

Therefore, the rule that ought to be established in our case is that no validity should be granted to a charge that was registered late, after the commencement of the liquidation proceedings, when the rights of the parties had already crystallized. I believe that this ruling also adheres to the path that gives preference to the party favored by the legislator under these circumstances, and is consistent with the purposes of registration with the Registrar of Companies. I will now address this.

Objectives of Registration with the Registrar of Companies

27.  The objectives of the register of charges maintained by the Registrar of Companies has been addressed in both caselaw and the legal literature. Some writers have stressed the traditional-historical role, which was to attest to the authenticity of the charge transaction, whereas others have stressed its publicity role. Here we are not required to decide which of these objectives takes precedence, because allowing registration after the commencement of liquidation undermines both objectives (see and compare CA 2070/06 Equipment and Construction Infrastructures Ltd. v. Receiver [11]; it bears note that in that case, an application for a further hearing was denied (FHC 9048/08)).

28.  There is a tendency to view the judgment in Iskoor Steel Facilities Ltd. v. Elkol Ltd. [1] as one that focuses on the historical-traditional role (Lerner, at pp. 357-358). Indeed, the historical-traditional role was to view the register as proof of the charge. This point was made by Prof. Lerner:

‘In order to prevent collusions between the debtor and one of his creditors, the court only recognized charge transactions that were registered in the public register of charges. The register attested to the authenticity of the transaction, and to its not being first conceived of at the time of liquidation for the purposes of detracting from the portions of the regular creditors of the company’ (Lerner, p. 364).

In this sense, the register is evidentiary — it attests to the transaction and obviates the need for factual clarification. The evidential aspect is of particular importance after the liquidation proceedings have commenced. As noted by Prof. Lerner:

‘The additional purpose of the register is evidentiary — to attest to the existence of a right in favor of a particular transferee. This evidence is of particular importance when the company is insolvent and its assets do not suffice for the payment of all of its debts. In that situation the company may wish to benefit a particular person and to claim that specific assets are charged to him. To prevent this claim being raised for the first time during insolvency, the law negates the validity of an unregistered charge toward the liquidator of the company. In that sense, registration plays a key role in the conflict between a secured creditor and regular creditors (Lerner, at p. 368).

Thus, the historical-traditional role is intended to protect the secured creditor who registered the charge, but on the other hand, as noted by Prof. Lerner, the registration according to this objective is also intended “to protect the general creditors of the company” (Lerner, at p. 382); and therefore, he says, “the law prescribes that an unregistered charge is invalid with respect to the liquidator of the company and its regular creditors” (Lerner, at p. 362). Justice Englard ruled that “the historical-traditional role of the register was to attest to the authenticity of the charge transactions so as to prevent collusions between the debtor and his creditors. An unregistered charge was invalid because it was viewed as fraudulent” (CA 6400/99 Mirage Construction and Investments Co. Ltd. v. Hapoalim Bank Ltd. [12], at p. 853a). In the case before us, it was only after the beginning of the liquidation proceedings that the appellant sought to register the charge. If we say that a charge registered late, after the beginning of the liquidation proceedings, is similarly valid, it would undermine the historical role of the register, which is, inter alia, to protect the regular creditors of the company. Moreover, it would also detract from commercial certainty and stability (see Lerner, at p. 336). In addition, it would render the register irrelevant as a means of attesting to the absence of any collusion, and each case would require complex factual clarification and litigation, contrary to the historical-traditional objective. As stated, according to the historical-traditional objective, a charge that was not registered “was viewed as fraudulent” (in the words of Justice Englard), and granting it validity even after the beginning of the liquidation would undermine that objective and create a dangerous outlet for collusions (see and compare CA 4316/90 Haspaka Central Company for Agriculturalists Ltd. (in liquidation) v. Agra — Even Yehuda Cooperative Agricultural Society Ltd.  [13], at 182.

29.  So it is regarding the historical-traditional objective of the registration. At a later stage of its development, the “publicity” role of the register was also recognized, i.e., “as a source of information for someone considering doing business with the company […] [and] providing information to third parties regarding the nature of the rights in the company’s assets” (see Mirage v. Hapoalim Bank [12], at p. 853. The question is often asked whether the objective of publicity is relevant for all the creditors, or only for those creditors interested in being secured. Prof. Cohen notes that indeed, “the regular creditors do not normally rely on the register of charges, but rather on the economic strength of the company and its state of liquidity. Still, it does not follow from this that the register of charges is absolutely irrelevant for the purposes of the regular creditors. For example, […] regular creditors may examine the register of charges after granting credit in order to assess the degree of danger to which they are exposed and to request repayment of the loan they made to the company, as well as refuse to grant additional credit to the company” (Cohen, at p. 580). Prof. Deutch also takes the view that “the regular creditors have a reasonable protected interest that an examination of the position of the debtor’s charges will provide them with a reliable picture regarding the claims to the debtor’s assets which may serve for future payment. This picture also enhances their ability to evaluate and plan the degree of danger in which they may be (Deutch, vol. 1, at p. 195, and see Haviv-Segal, at p. 156). According to Prof. Lerner, the purpose of publicity may be relevant primarily to the creditors seeking to take securities and not to regular creditors, “since the register reflects the position of the charges at a given point in time and [the regular creditor] is exposed to charges that may be created at a later point” (Lerner, p, 360). He notes, however:

‘Some are of the opinion that regular creditors too have an interest in examining the register of charges. These creditors are likely to examine the register periodically, and if they notice a significant change in the scale of the company’s charged assets, they can, if necessary, demand the repayment of existing loans and refrain from giving additional loans. The list of charged assets provides the creditors with a general, non-binding indication of the company’s activities, and they may demand that it avoid creating further charges in the future (ibid, p. 381)

Either way, in matters of property and charges, publicity is important per se and “in the law of securities and in the law of property in general, the rule is that to create a right that is effective vis-à-vis third parties, the right must have some element of publicity (CA 790/85 Israel Airports Authority v. Gruss [14], at p. 212e . In this context Justice Procaccia ruled that the aspect of publicity is the “principal determinant of the power of the property right and its immunity when confronted by third party claims” (CA 2641/97 Ganz v. British and Colonial Company Ltd. [15], at p. 422). As noted by Professor Deutch:

‘Given that property affects the entire world, the manner in which it is created mandates, in principle, the existence of a component of publicity’ (Deutch, vol. 1 p. 127).

It would therefore seem that recognition of the validity of a charge registered late, after the beginning of the liquidation proceedings, would undermine the objective of publicity. Prior to the liquidation there was no public charge, and after the beginning of the liquidation the other creditors are powerless to do anything. Allowing the late registration of a charge after the beginning of liquidation proceedings would also detract from the reliability of the picture that the register is intended to provide in real time, and from the expectations of the creditors. As noted by Justice Or, “The idea is that all those who do business with the company, as in the case before us, will be able to clarify the situation relating to charges and collaterals that the company has given, by means of an inquiry at the Registry of Companies” (Haspaka v. Agra [13], at p. 175). Late registration after liquidation would also be detrimental to commercial and legal certainty. In fact, it would seem that it was the objective of publicity that constituted the basis of Prof. Deutch’s conclusion that validity should not be given to a charge registered after the beginning of liquidation proceedings. In his words:

‘The regular creditor’s reliance on the dimension of publicity is a legitimate, protected interest, and cannot be negated on the spur of the moment […]. The regular creditor also has an interest in being able to rely on the public presentation of charges regarding past transactions, both in order to receive reliable information regarding the financial position of the debtor and because, in view of this [presentation], he relies on various evaluations relating to anticipated developments in the future […]. This ability of the regular creditor to rely on the register, according to our approach, may — in view of the element of publicity — mean that no retrospective recognition should be granted to the charge of a competing creditor in circumstances in which liquidation proceedings have begun in the meantime, for in such a case the regular creditor — whose status as a creditor materialized during the interim period — would prima facie be entitled to claim that he did not assume the risk of the creation of a property pledge after the beginning of the liquidation. The creation of a pledge under these conditions is a future development which from a legal perspective could not have occurred originally at the time of the extension; this development relies on the past; and in relation to the past, as noted, protection should also be given to the reliance of creditors whose creditorship materialized during the interim period’ (Deutch, vol. 1, pp.164-165; see also Cohen, p.581).

30.  Furthermore, particular importance attaches to the absence of publicity in the current case of liquidation proceedings in which the principle of equality has prime status. Dr. Bahat maintains that under these circumstances, “any request directly related to the relations between the secured creditor and other creditors, and especially any property request based on the rules of publicity set forth in the law, concerning requirements for registration or deposit, will be meticulously examined (Bahat, Corporations — The New Ordinance and the Law vol. 1 (10^th ed. 2008), at pp. 614-615 (hereinafter: Bahat, vol. 1). He adds that “the property format recognized by the law and the fulfillment of the requirements of publicity are the minimum necessary conditions, before we allow the creditors as a group to be deprived of equal treatment in bankruptcy and liquidation, and create a preference for the secured creditor […]. As a rule we explain this by the need to create a warning for creditors or the need to prevent creditors from relying on a particular factual representation” (ibid, at p. 620). Finally, he argues:

‘As a matter of principle, any deviation from the equality of creditors in bankruptcy and liquidation proceedings, in my view, mandates particular stringency in the fulfillment of the property-based requirements, including publicity  […]. This is “ the end of the game”, and these proceedings leave no further outlets for the creditors. As I stressed above, a person uncomfortable with the seemingly “formalistic” stringency can view it as the result of distributive justice, which does not look kindly on the obtaining of preference over other creditors, and which therefore induces the courts to be meticulous about fulfillment of the conditions that confer priority” (ibid, at p. 622).

Another reason for being meticulous about the publicity requirements, according to Dr. Bahat, is that there must be “some kind of formal act by a person seeking priority status, in a manner that stresses his reliance on the collateral” (ibid, at p. 621).

31.    Thus, it is immaterial whether the principal objective of the register is the historical-traditional one of verifying the authenticity of the charge transaction, or whether the objective is publicity, since ascribing validity to a charge that was registered late, after liquidation proceedings had begun, undermines both of these objectives. Support for the conclusion that in the case before us a charge that was registered late, after liquidation proceedings had begun, should not be considered valid, may also be found in aspects of good faith, which I will discuss below.

Good Faith

32.    The principle of good faith is, as we know, a foundational principle of our legal system. It functions as “a binding principle guiding conduct and legal policy with respect to legal actions and obligations throughout the entire Israeli legal system” (HCJ 566/81 Amrani v. Rabbinical Court of Appeals [16]. “The principle of good faith also applies in the framework of the laws of property” (Ganz v. British and Colonial Company [15], at p. 401c). The obligation of good faith “is imposed upon every person in Israel in his execution of legal acts”(CA 610/94 Buchbinder v. Official Receiver [17] at p. 332). These comments are also applicable, of course, to creditors seeking to secure their right, and as this Court has already ruled:

‘The protection of the creditors’ interest in securing their right, and the debtor’s interest in his rehabilitation do not stand alone, but rather are subject to the principle of good faith (CA 6416/01 Benbenisti  v. Official Receiver [18], at p. 205 d–e).

The requirement of good faith applies to all relationships. It determines what constitutes fair conduct in the particular circumstances. The scope for fairness differs from case to case, and is influenced by the balancing of a number of considerations. Indeed, the good faith requirement is not detached from personal interests but it also compels consideration for the other and his interests. As noted by President Barak:

‘The principle of good faith determines the manner of conduct of people brought together by reality. It demands that people conduct themselves with integrity and fairness as dictated by the sense of justice of Israeli society […]. Good faith does not assume a “quality of piety” […]. Good faith does not require a person to disregard his own self-interest. […] The principle of good faith establishes a standard of conduct for people, each of whom is concerned about his own self interest. The principle of good faith determines that a person’s preservation of his own self interest must be fair, taking into consideration the justified expectations and appropriate reliance of the other party. Man is to man — not a wolf and not an angel; man is to man — a man.  […]. The quality of fairness is influenced by a broad spectrum of considerations […]. The scope of fairness required is the product of a balance struck between these considerations and others. The judge must weigh up the various considerations and determine which of them has the upper hand (LCA 6339/97 Roker v Solomon [19], at p. 279).

In another case President Barak stated:

‘Good faith starts with the assumption that the individual takes care of his own interests. Good faith seeks to guarantee that he does so appropriately, taking into consideration the justified expectations of the other party’(HCJ 164/97 Conterm Ltd. v. Minister of Finance, Department of Customs and V.A.T. [20], at p. 348 f–g).

33.  In our case, as specified, the expectations and reliance crystallized on the date on which the liquidation began, and the appellant should have taken that into consideration. The respondent claimed that the knowledge of Rolider’s financial collapse had spread to the Company’s creditors. News of the application for liquidation, which as stated was filed on 27 December 2001, appeared immediately in the financial press and in the commercial data bases, and Regis never claimed otherwise. According to the respondent (and the claim was not denied), Regis tried to seize the equipment but then realized that it had never registered the charge and so, it “frantically” (in the words of the respondent) applied to the Registrar of Companies on 2 January 2002, almost two years after the date on which the equipment was first transferred, and just a few days after the liquidation application.  However, despite all this, all that was said in the extension application was that “due to the arrival of the equipment in two separate consignments, an error occurred by us and the charges were not registered with the Registrar of Companies.” Such an application does not contain all the information that should have been included. Fairness and honesty demand that in an application for extension, the Registrar should be presented with the complete picture, fully disclosing the entirety of the important information. The existence of an application for liquidation is an important fact that ought to have been mentioned, and its non-inclusion in Regis’ application demands an explanation. What Felman wrote in his book on English law is apposite here:

‘In an application to the court to issue an order [for an extension of the period for registration of a charge – M.N.] the words “incidentally” or “accidentally” will not suffice. The applicants must provide a detailed account of all the circumstances that led to the non-registration of the charge […]. The affidavit in support of the application to the court must include: a declaration stating that no application has been filed for the liquidation of the company and that no notice of voluntary liquidation has been given by the company to its shareholders, or that a judgment for payment issued against the company was not paid, and that the non-registration is not liable to prejudice the position of the creditors or the shareholders of the company’ (Felman, at pp. 967-968; see also and compare: Council for Production and Marketing of Plants v. A.S. Li [29]).

In our case too, Regis could have been expected to present the complete picture to the Registrar, including the fact of the filing of the liquidation application. Above and beyond the issue of Regis’ conduct, this is also significant in terms of the Registrar’s decision. As is well known, the exercise of authority “necessitates first and foremost the existence of a factual foundation upon which the administrative authority bases its discretion when making a decision” (LPA 426/06 Hava v. Prison Service [21], para. 14). Likewise, it was held that “the law does not tolerate an unfounded decision. The law is that an administrative decision must be based on a factual foundation” (HCJ 987/94 Euronet Golden Lines (1992) Ltd. v. Minister of Communications [22], at p. 423 b–c). The absence of a full picture is detrimental to the Registrar’s ability to “reach a well considered, balanced decision which takes into account all of the relevant interests” (CA 8434/00 Delek Israeli Gas Co. Ltd. v. Gazit and Shaham Construction Company [23], at p. 703 d–e). It may also prevent the Registrar from providing all those liable to be harmed by the decision with the opportunity of stating their claims (see and compare: Eliad Shraga and Roi Shachar, Administrative Law – Grounds for Intervention 130 (Tova Elstein ed., 2008); CrApp 2236/06 Hamami v. Ohayon [24]). In the absence of a full picture the Registrar is liable to fail to exercise his discretion correctly and desirably, and this failure is attributable to Regis, which in its application did not provide the full factual picture as required. Since the matter ultimately came before the liquidation court, as it should have done, I will not base my decision on this.

34.  However, concerning the aspect of good faith beyond that which was (and which was not) included in the application for an extension, the time that elapsed until the filing of the application for an extension cannot be ignored. In this context it must be recalled that it was possible for Regis to register the charge on time, and in so doing to prevent this entire litigation — but it failed to do so. Here, an analogy may be drawn from Ganz v. British and Colonial Company [15], in which President Barak ruled that the extent of application of the duty of good faith takes into consideration the entire range of variable factors, and that in principle, good faith requires that a person executing a transaction in land make every effort to register a caution in order to avoid a “legal accident”; and if indeed he could have avoided the “accident” but did not do so, he will be regarded as having breached his duty of good faith. President Barak added that the caution must be registered within a reasonable period. Our case indeed differs from Ganz British and Colonial Company[15], but there also points of similarity, and as President Barak stated there: “The general doctrines of law apply to all parts of the law” (Ganz v. British Colonial Company [15], at p. 400 b–c; see and compare Equipment and Construction Infrastructures Ltd. v. Receiver [11], para. 30). It seems to me that from an overall perspective, the fact that Regis had the opportunity to register the charge over a long period of time, and failed to do so until after the filing of the application for the Company’s liquidation, erodes its good faith. It also demonstrates that Regis did not take any measures to demonstrate “its reliance” on the collateral, and this too operates to its detriment. The comments of Justice Goldberg are apposite in this context:

‘A person who leaves his contractual right exposed without protection, when the effort involved in acquiring the protection is minimal and insignificant, must be prepared for a situation in which he is saddled with the consequences of the risk stemming from his omission. A legal system which imposes the duty of preventing damage (and as result — the risk of the damage materializing) on the party for whom the effort expected of him in preventing the damage is minimal is an efficient legal system’ (CA 839/90 Raz Building Company Ltd. v. Erenstein [25], at p. 743).

35.  In Ganz v. British Colonial Company [15], it was held that “good faith assumes that the holder of the right will ensure the security of his right. At the same time, good faith seeks to prevent the exercise of a right in a manner that disregards the existence of the other party and that disregards the social interest (ibid, at p. 400 f–g). It seems to me that not registering the charge over a protracted period, even though all of the documents were in Regis’ possession, is not consistent with the requirement not to disregard the existence of other parties and social interests. In my remarks above I already discussed the interest of publicity and certainty and its influence on other creditors, and I will not repeat what I said. I will only add that as regards the period of time that passed, it must not be forgotten that the legislator allotted a period of twenty-one days for the registration. In our case the equipment was transferred during the second half of the year 2000 and at the beginning of the year 2001, but the application for an extension of the filing period was only submitted at the beginning of the year 2002, i.e. a long time after the statutorily prescribed period. The deviation is a significant one, especially as we are dealing with a serious, professional creditor, and this too cannot be ignored when examining the entirety of factors and the duty of good faith.

Additional Claims

36.  The appellant argues (in its responding summations) that because the liquidation order was issued by virtue of another liquidation application (which was filed on 14 April 2003), one cannot return to the date on which the first liquidation application was filed (27 December 2001), after it had been cancelled. I cannot accept this argument. First, the argument was not raised in the appeal; it was raised for the first time in the responding summations, even though the lower court also relied, inter alia, on the submission date of the first liquidation application (see paras. 14 and 15 of its judgment). It will be recalled that the court ruled that registration of the charge on 2 January 2002 took place during the “prohibited period”, and that this constituted fraudulent preference. If indeed there was justification for considering (as claimed in the responding summations) only the liquidation application filed in 2003, then in any event there would have been no reason to speak of fraudulent preference, because the registration was carried out long before 2003. In other words, if indeed the appellant’s claim was that the only relevant liquidation application was the one filed in 2003, then this claim should already have been raised within the framework of the appeal, because this would have refuted the lower court’s finding that the case involved an event that took place during the “prohibited period”, insofar as the liquidation application was concerned. It will be recalled that the appellant argued against the ruling of the lower court that the date of the transaction for purposes of fraudulent preference was the date of perfection (2 January 2002) and not the date of creation (during the years 2000 and 2001). The appellant attempted to persuade us that the court erred in this holding. However, if the only relevant liquidation application is the one filed in 2003, the question of the perfection date or the creation date is of no significance whatsoever. The appellant, as specified, did not make this claim in the appeal, and hence it is clear that it agreed that the determining date regarding the liquidation application was 27 December 2001. Furthermore, as I mentioned at the outset, all of the insolvency proceedings took place in succession, and the cancellation of the first liquidation application (by consent) and the filing of the new liquidation application (by the trustee himself) were part of the sequence of insolvency proceedings. In fact, this can be regarded as akin to a “substitution” as provided in reg. 10 of the Companies (Liquidation) Regulations, 5747-1987, in accordance with which the court may, at any stage of the proceedings, order that the applicants be substituted and that the hearing of the application be continued even after the cancellation of the first liquidation application (see Cohen, at pp. 224-225).

37.  An additional claim made by the appellant in its appeal is related to contractual stipulations that prohibited the Company from transferring the equipment to others without the appellant’s consent, its claim being that the court erred in its failure to decide on the claim, on the grounds that it was raised belatedly. I cannot accept this claim. Having examined the various documents that were submitted to the court, I accept the court’s ruling on the matter. Moreover, the respondent is correct in claiming that not only was the claim raised belatedly, but it also assumed varying forms. Thus, what began (belatedly) as a claim concerning the conservation of ownership subsequently became a claim on the contractual plane. However, the hearing as a whole, as determined by the court, focused on the plane of property law, and there is no place to allow for belatedly raising claims on the contractual plane. Furthermore, the respondent argues, with reason, that claims on the contractual plane, as distinct from claims on the plane of property law such as ownership and charges, would in any event be of no avail to the appellant, and what is more, in all matters pertaining to the relations with the Company, there is no dispute regarding the rights of the appellant (see para. 24 of the lower court’s judgment, cited above). It bears note that no claims of “equitable rights” were made before us and therefore I will not express any opinion on the matter (see in this context CA 603/71 Bank Leumi LeIsrael Ltd. v. Land of Israel-Britain Bank [26], at pp. 477–478; CA 181/73 Shtukman v. Spitani [27], at pp. 187; CA 248/77 Hapoalim Bank Ltd. v. Garburg Ltd. [28], at pp. 261–262).

 

Epilogue

38.  The late registration of the charge after the commencement of liquidation proceedings does not, in this case, constitute fraudulent preference as ruled by the District Court; nonetheless, in my view the charge cannot be deemed valid. As a rule, the late registration of a charge should not be permitted after the commencement of liquidation proceedings thus violating of the principle of equality among creditors. Enabling the late registration of a charge after the commencement of liquidation proceedings would also undermine each of the goals of the register. Our case also involves aspects of good faith with respect to the period of time during which the appellant waited before filing the application for an extension, and with respect to the contents of the application, and certain weight must also be attached to these factors. I would therefore propose to my colleagues to deny the appeal. Under the circumstances, I would not make an order for costs.

 

Justice E. Arbel

I concur.

 

Justice E. Rubinstein

1.    I concur in the result reached by my colleague Justice Naor and the main points of her informative analysis. There are only two matters that I would like to address.

First, I will add another reason in support of my colleague’s decision on the matter of fraudulent preference (s. 98(a) of the Bankruptcy Ordinance). The term “fraudulent” carries the connotation of “malicious”; therefore, exceptional caution is required in the attribution of fraud, even in the framework of a civil rather than a criminal proceeding, because it implies the performance of a highly negative act, and its result is a stain of sorts. In my view, the courts must give this matter consideration. In the case at hand, I, like my colleague, believe that it is difficult to apply the word “pressure “ as per s. 98(a) to a situation in which there was no act on the part of the Company itself, as opposed to its creditor, as explained by my colleague.  I too see no need to take a position on the tax authorities as a “pressuring” factor, even though it is clear that their powers as public bodies are greater than those of individual actors, and hence their “pressure” or “constraints” are more significant.

2.    Secondly, regarding good faith, I agree with my colleague that “fairness and honesty demand that in an application for extension, the Registrar should be presented with the complete picture, fully exposing the entirety of the relevant information,” including an application for liquidation. In this context there is certainly a problem with the good faith of the appellant. On the other hand, in my view, caution is required when ascribing bad faith with respect to the period of time that elapsed, since human experience shows quite often that a person does not do that which is required of him purely due to negligence, and in such a case, he may lose in court and be harmed, but this would not taint him with a lack of good faith.

3.    Subject to the above, I concur in the opinion of my colleague, Justice Naor.

 

Held as per the opinion of Justice M. Naor.

 

13 Av 5769.

3 August 2009.

 

 

C.A. 817/79

(1) EDWARD KOSSOY

(2) FILCO FINANCE AND INVESTMENT CO.

v.

(1) BANK Y.L. FEUCHTWANGER LTD.

(2) NATHAN DRORI

(3) RAANAN AMIR

(4) BANQUE COMMERCIALE S.A. GENEVA

 

 

           

C.A. 818/79   

BANQUE COMMERCIALE S.A. GENEVA

v.

BANK Y.L. FEUCHTWANGER LTD. ET AL.

 

 

C.A. 585/82

NATHAN DRORI

v.

BANQUE COMMERCIALE S.A GENEVA

 

 

In the Supreme Court sitting as a Court of Civil Appeal

[July 9, 1984]

Before: Barak, J., S. Levin J. and D. Levin J.

 

Definition, functions and obligations of a director - Remedies for breach of duties - Obligations and duties of holder of controlling shares - Liabilities for breach of duties - Sources of agents' knowledge and their significance.

 

The appeal is centred on the question of the liability of shareholders of a bank who sold their shares knowing that the bank's funds would be used to finance the acquisition of the shares and that it would endanger the existence of the bank, and on the question of the liability of the directors of the bank, who allowed the aforesaid sale of the shares.

 

Held by the Supreme Court:

A.      (1)     The director is the "brain" and "nerve center" of the company's activities. He acts in its name towards outsiders and manages its affairs internally.

          (2)     For some purposes, the director is an organ of the company. For other purposes, he is its agent; he may sometimes be treated as an employee.

          (3)     The principles of penal law, which are part of general law, specify norms of proper conduct which must be followed by directors. Thus, for example, there are "friendly relations" (within the meaning thereof in section 36 of the Penal code [New Version]) between the director and the company, and the director must take all measures that a reasonable director would take under the circumstances (in accordance with the provision of section 35 of the Penal Code [New Version]).

          (4)     The general legal system is incapable of dealing directly with the problems arising from the power of control wielded by the director. The solutions of these problems are found by applying the duty of loyalty to the holder of the power.

          (5)     The principle of loyalty has broad application. It is applicable to any case in which someone wields power and control over someone else. The list of situations to which the duty of loyalty is applicable is not a closed list, and it pertains in a wide range of legal relationships.

          (6)     The duty of loyalty is a general duty which is incumbent upon the holder of the power. The content of the duty is that the person holding the power must act in good faith, honestly and for the good of fulfilling his function. It is a general rule inherent in our system, and its practical implementation requires concretization.

          (7)     The fundamental principle of the duty of loyalty of a director has been accepted by case law and has been developed by it according to our needs. as part of the Israeli equivalent of common law.

          (8)     A director must act loyally in conducting the affairs of the company. He must act honestly in his dealing with the company. Should there arise any substantive suspicion that he is not acting in good faith and for the good of the company, the burden to disprove it rests upon him.

          (9)     The standards of conduct by which a director is bound are not those of the marketplace, and they are not the result of a struggle between equal forces. Therefore, a director may not be in a situation of conflict of interest between the good of the company and his or someone else's good.

          (10)   The duty of loyalty is a personal duty, and it incorporates the duty to prevent other directors from breaching their duty.

          (11)   The list of situations to which the duty of loyalty is applicable is not a closed list. The duty was intended as a solution to the changing problems of life with which we are constantly confronted. With the development of commercial life, new secondary rules are created, in order to protect the intent of the fundamental principle.

          (12)   In our case, the directors breached the duty of loyalty they owed the bank in that they approved the financing by the bank of the acquisition of its shares in contravention of the law and with the knowledge that it would lead to the insolvency of the bank.

B.      (1)     In parallel to the development of the various duties of loyalty which are incumbent upon a director, the remedies available to a company for breach of those duties have also developed. The relief must suit the duty, and the remedy must suit the breach.

          (2)     A director must make available to the company all the monies that it expended as a foreseeable result of the breach of his duty towards it, even if those monies were not received by him but by a third party.

          (3)     If each of several directors breached his duty and thereby caused the company to part with sums of money, then the aforesaid obligation of indemnity rests upon the directors "jointly and severally."

C.      (1)     The fact that a director did not act because of a personal interest and sought no benefit for himself is insufficient in itself to entitle him to the forgiveness specified in section 90(a) of the Companies Ordinance [New Version], 5743-1983; a condition for the exemption of a director in accordance with this section is that the director must have acted honestly and reasonably.

D.      (1)     A holder of controlling shares who wishes to sell his shares owes a duty of loyalty to the company with regard to such sale, and he must act towards it in good faith and honestly. He will be in breach of his duty if he sells his shares to a purchaser who to the best of his knowledge will strip the company of its assets and lead it to insolvency.

          (2)     In this regard, if the transaction consists of several stages, which in commercial terms could be viewed as a series, then the whole may also be interpreted as a single entity in legal terms. It is therefore possible to attribute a breach of loyalty to a shareholder because of actions which are to take place in the future, provided that they are foreseeable and constitute a part of the entire entity.

          (3)     This duty is based on the fundamental principle that the holder of power over a company is under a duty to prevent the abuse of that power. From this well-known fundamental principle we may infer new secondary duties to suit our needs.

          (4)     The content of the duty of loyalty is not identical in all the legal relationships to which it is applicable. The duty of loyalty of a director is not identical to that of a shareholder.

          (5)     A shareholder is the owner of property, and according to the general law of title he is entitled to do whatever he wishes with his property. This freedom is not unrestricted, since one of the restrictions stems from the fact that ownership of the shares gives him control of the company, and this control necessitates honesty, good faith and acting for the good of the company. The content of the conduct -which belongs to the general realm of the duty of loyalty - is a product of an appropriate balance between the right of ownership on the one hand and control of the company on the other hand.

          (6)     The term "control" means different things in different contexts. As for the applicability of the duties of loyalty relating to the sale of shares, it is sufficient that the shareholder belongs to the controlling group, and he need not necessarily be the holder of control himself.

E.      (1)     A holder of controlling shares who sells his shares to a purchaser who leads to the insolvency of the company is liable to repay the company all the monies it parted with as a foreseeable result of his breach which caused the said insolvency.

          (2)     This relief consists first and foremost of the monies of the company which came into the possession of the holder of the controlling shares himself, but it is not limited thereto. The liability for repayment also extends to monies received by third parties, be they the company's money which was used to finance the purchase or the company's money which it parted with as a foreseeable result of the transfer of control.

F.       (1)     The knowledge of an agent is attributed to the principal, if such knowledge is related to his function as an agent.

          (2)     Where an agent serves two principals, his knowledge with regard to one is not automatically attributed to the other.

          (3)     Where the agent's knowledge is attributed to his agency on behalf of both principals, it is attributable to both.

 

 

 

Israeli cases referred to:

 

[1]   C.A. 725/78 British Canadian Builders Ltd. et al. v. Oren et al., P.D. 35(4) 253.

[2]   H. C.J. 531/79 "Likud" Faction of Petah Tikva Municipality v. Petah Tikva Municipality Council et al., P.D. 34(2) 566.

[3]   C.A. 793/76 Motion 506/78 Michael Lockman v. Haim Schiff, P.D. 33(2) 533.

[4]   D.N. 7/81 Pneidar Investment, Development & Construction Co. Ltd. et al. v. Castro, P.D. 37(4) 673.

[5]   Motion 100/52, Jerusalem Industrial Co. Ltd. v. Agiun et al., P.D. 6 887.

[6]   C.A. 667/76 L. Glickman Ltd. et al. v A.M. Barkai Investment Co. Ltd. P.D. 32(2) 281.

[7]   C.A. 247/47 "Raphael" Hospital Co. Ltd. v. N. Pailan, P.D. 257; P.I. A 68.

[8]   C.A. 267/55 Tokatli v. "Shimshon" Ltd. and Cross-Appeal, P.D.11 1569.

[9]   C.A. 283/62 Hassess v. Laslo et al., P.D. 17 758.

[10] Cr.M. (T.A.) 3788/75 A.M. Barkai et al. v. L. Glickman Ltd. et al., P.M. 5733 (1).

 

English cases referred to:

 

[11]      Wallersteiner v. Moir [1974] 1 W.L.R. 991 (C.A.)

[12]      In re Carriage Co-operative Supply Association (1884) 27 Ch. D. 322.

[13]      In re National Funds Assurance Company (1878) 10 Ch. D. 118.

[14]      Ramskill v. Edwards (1885) 31 Ch. D. 100.

[15]      Selangor United Rubber v. Craddock [1968] 2 All E.R. 1073 (Ch.)

[16]      Allen v. Gold Reefs of Western Africa Limited [1900] 1 Ch. 656 (C.A.).

[17]      Scottish Co-operative Wholesale Society Ltd. v. Meyer [1959] A.C. 324 (H.L. Sc.).

 

Australian case referred to:

 

[18]      Mills v. Mills (1937-38) 60 C.L.R. 150.

 

American cases referred to:

 

[19] Securities Commission v. Chenery Corp. 318 U.S. 80; 63 S. Ct. 454; 87 L.Ed. 626 (1942).

[20]      Litwin v. Allen 25 N.Y. Supp. 2d 667 (1940).

[21]      Meinhard v. Salmon 249 N.Y. 458 (1928).

[22]      Insuranshares Corporation v. Northern Fiscal Corp. 35 F. Supp. 22 (1940).

[23]      Levy v. Feinberg 29 N.Y. Supp. 2d 550 (1941).

[24]      Dale v. Thomas H. Temple Co. 208 S. W. 2d 344 (1948).

[25]      Pepper v. Litton 308 U.S. 295; 60 S. Ct. 238; 84 L. Ed. 281(1939).

[26]      Levy v. American Beverage Corporation 38 N.Y. Supp. 2d 517 (1942).

[27]      Gerdes v. Reynolds 28 N.Y. Supp. 2d 622 (1941).

[28]      Perlman v. Feldmann 219 F 2d 173 (1955).

[29]      Algonac Marine Hardware Co. v. Cline 159 N.W. 2d 150 (1968).

 

 

C.A. 817/79

            S. Toussia-Cohen and A. Toussia-Cohen for Appellant No. 1.

            A. Goldenberg and R. Behar for Appellant No. 2.

            M. Kirsch. L.D. Kommissar and A. Adar for Respondent No. 1.

            N. Amitai for Respondent No. 2.

            No defence filed for Respondent No. 3.

            A. Persky for Respondent No. 4.

           

C.A. 818/79

            A. Persky for Appellant.

            M. Kirsch. L.D. Kommissar and A. Adar for Respondent.

C.A. 585/82

            N. Amitai for Appellant.

            A. Persky for Respondent.

           

JUDGMENT

 

Barak J.: In January 1967 the Bank of Israel took control of Bank Y.L. Feuchtwanger Ltd. (hereinafter: "the Bank"). The board of directors of the bank resigned; the Bank of Israel was given a management share, and a director was appointed in its name. This brought to an end a period of over thirty years during which the bank had been active in Mandatory Palestine and in the State of Israel.

 

 

The Claims

 

2. Following the seizure of the Bank by the Bank of Israel, several actions were brought in the courts. Filco Finance and Investment Company S.A. of Luxemburg (hereinafter: "Filco") sued the bank (Civil File 2679/67) for the sum of $12,840, which had stood to Filco's credit at the Bank. The Bank initially refused to pay it, but the sum was eventually paid by the agreement. Criminal charges were brought against Joseph Epstein, who was a member of the board of directors of the Bank and held the controlling interest in it prior to its seizure, and against Raanan Amir, who was the managing director of the Bank prior to the seizure, with respect to their activities at the Bank. They were convicted of the crimes of theft through an agent, aggravated fraud and conspiracy to defraud, and were given harsh jail sentences (Cr. A. 164/69, P.D. 23(I) 825). Kimche had been the general manager of the Bank for a long period. Upon acquisition of control by Epstein and the appointment of Amir, Kimche was removed from his post (on 6 February 1966). As part of the agreement with him which assured his resignation, the shares which he held in the Bank were acquired by Ibicor Trust and Development Ltd. (hereinafter: "Ibicor") and the Bank guaranteed payment of Ibicor's debt. Part of the guarantee proceeds were paid by the Bank to Kimche, but upon seizure of the Bank by the Bank of Israel, payment of the outstanding balance was halted, for which the Bank was sued by Kimche. His claim was dismissed, in view of the provisions of section 98(1) of the Companies Ordinance, now section 139(a) of the Companies Ordinance (New Version, 5743-1983 (C.A. 486/89- P.D. 24(I), 527).

 

3. In January 1968, the Bank brought action against Edward Kossoy, Filco, Amir and Drori. At this time Kossoy was a member of the board of directors of the Bank and a shareholder in it. Filco was a shareholder in the Bank. Amir, as mentioned, was the managing director of the Bank and Drori was a director of the Bank. Kossoy and Drori were sued for payment of 1,755,000 Israeli Pounds to the Bank. Kossoy, Amir and Drori were sued for payment of $427,000 to the Bank. All four defendants were sued to pay the Bank the sum of $1,211,378 plus interest and costs. The claim was heard in the Tel Aviv-Jaffa District Court, before Judge S. Loewenberg.

 

4. In 1968, the Bank was sued by way of summary procedure in the Jerusalem District Court by Banque Commerciale S.A. Geneva (hereinafter: "Banque Commerciale"). The claim was for the sum of $88,000, being a test claim and part of an over-all claim for the sum of $352,000. The Bank petitioned for and was granted leave to defend. On its part, the Bank served third party notices on Kossoy and Filco. After a while, these claims were transferred to the Tel Aviv-Jaffa District Court, and following a procedural arrangement between the parties, the hearing of the claims was joined with that of the Bank.

 

5. Hearing of the claims of the Bank and Banque Commerciale in substance began in 1976. The testimony of a large number of witnesses was heard, some of whom, pursuant to the procedural arrangement, were heard outside of Israel. Hundreds of exhibits were submitted and hundreds of pages of minutes recorded. The procedural arrangement also gave rise to disputes which were also resolved by this Court (C. A. 781/77 - unpublished). Amir did not file a defence. In September 1979, judgment was given. The four defendants in the Bank's claim were ordered, jointly and severally, to pay the Bank 1,755,000 Israeli Pounds and $1,633,378. Interest and linkage (on the sum in Pounds) and costs were also awarded. Banque Commerciale's claim was dismissed. Accordingly, there was no basis for hearing the third party notice.

 

6. The present appeals were filed against the decision of the District Court. Kossoy and Filco (C. A. 817/79) and Drori (C. A. 585/82) appealed against their conviction. Banque Commerciale appealed against the dismissal of its claim (C. A. 818/79). The hearing of the appeals was consolidated. During numerous sessions, we heard the pleadings of the representatives of the parties. We thank them for their commendable, practical appearance, which was of great assistance to us in understanding the complexity of activities in this difficult episode.

 

The Factual Background

The Acquisition of Control by Kossoy-Appelbaum

 

7. The Bank was founded in 1934. Four years after it was established, the Bank was purchased by the "Y.L. Feuchtwanger" partnership. In 1959, Leo Feuchtwalnger, a founder of the partnership, passed away, and control of the Bank passed to Wallter Feuchtwanger and the Federman group. In that year, Kimche was appointed general manager of the Bank. Arnold Appelbaum also became a shareholder and joined the Feuchtwanger group in that year. In 1960. Kossoy, acting in co-operation with Appelbaum, also acquired shares in the Bank. In 1961, the Sahar group, joined the Bank. In early 1964, the Feuchtwanger family left the Bank. Its shares were sold to the Kossoy-Appelbaum group. The consent of the Sahar and Federman groups was required for the purpose of approval of the transfer, and they made their consent conditional on the sale of their shares. Indeed, in March 1964, the Sahar group, followed by the Federman group, left the Bank, and were replaced by the Kossoy-Appelbaum group, which also included Joseph Epstein. The distribution of the shares of the Bank, after increasing the issued capital to six million, was as follows: Kossoy personally-11,521 shares; Appelbaum and his family - 156,633 shares; Filco, which was at that time controlled and owned by Kossoy and Appelbaum's daughter-1,2000,000 shares; Orico Ltd., which was owned by Kossoy and Appelbaum - 425,000 shares; Appelico Ltd., which was owned by Kossoy and Appelbaum - 1,932,145 shares; and Joseph Epstein - 1,965,598 shares. The remaining shares were divided among the directors of the Bank, Kimche (175,297), Levshinski (48,050) and Drori (85,756). Appelbaum was elected chairman of the board of directors, with Kossoy as his deputy. Other members of the board of directors were Gutkovski, Vered, Epstein and Schrem. As mentioned, Kimche was the general manager of the Bank, with Levshinski and Drori operating at his side. As part of the arrangement for his joining the Bank, Epstein granted Kossoy, Appelbaum and Appelico an option to acquire their shares, which they had acquired from the Sahar and Federman groups.

 

The "Closing of the Tap"

 

8. At the time of the acquisition of control of the Bank by the Kossoy-Appelbaum group, the Epstein group's debt to the Bank stood at the sum of 1.3 million Israeli Pounds. This debt continued to mount quickly, and in August 1964 reached some 4 million Israeli Pounds. In late 1964, the Epstein group's indebtedness amounted to 6.6 million Israeli Pounds. In February 1965, the debt grew to some 7.1 million Israeli Pounds and in April 1965 it totalled a sum of over 10 million Israeli Pounds. This situation was disturbing to Kimche. In late March 1965, a check for the sum of 390,000 Israeli Pounds drawn on the Bank to the order of Appelico was due for payment. Upon Kimche's orders, the check was not honoured. On 14 April 1965, a meeting of the board of directors was held, at which Kimche's action and Epstein's request that his credit be increased to 11 million Israeli Pounds were discussed. No resolution was adopted at the meeting. In practice, no further credit of any significance was extended to the Epstein group until early 1966, when control of the Bank passed to the Epstein group, following the "Tiberias Agreements."

 

9. Thus in late March 1965, the period of "the closing of the tap" began. Mr. Bavli, the Bank's certified public accountant, was asked to examine the credit and collateral of the Epstein group. He reported (on 20 April 1965) that the collateral and registered charges were equal to a mere fraction of the credit, and that additional collateral and charges should be registered. The Bank began to implement this. In a report prepared by Kimche in late April 1964, he had noted that in actuality there were sufficient collateral and charges to cover the Epstein group's indebtedness to the Bank. Epstein was in a rather difficult situation at the time, because on the one hand he was heavily in debt (for a total of over 9 million Israeli Pounds and $500,000), including a sizeable debt to Appelico for the shares in the Bank he had purchased from it, whilst on the other hand the liquidity of his real estate holdings, which, inter alia, consisted of plots of land and the Zirahtron theatre, had fallen as a result of the "recession" in Israel at that time. Epstein asked the Bank to raise his credit limit. Kimche opposed it. Kimche was supported by members of the boards of directors, including Kossoy and Vered, Kimche's confidant. Kossoy expressed his opposition to any increase in credit to the Epstein group, in addition to his surprise that his own debt to the Bank had grown to such proportions without it having been reported to him. The common opinion, which was shared by Kossoy himself, was that the solution should be found in the sale of Epstein's shares to a wealthy foreigner. Kossoy expressed the opinion the "the good of the Bank does not allow the credit line to continue or to be increased" (Exhibit 40 of 3 May 1965). Attempts were also made at that time to sell the Bank's shares to foreign purchasers, but with no success. During the entire period, from April 1965 to February 1966, Epstein's credit was not increased. Even credit of extremely small amounts (5,000 Israeli Pounds) was extended only after approval by management. Towards late 1965, the Bank was solvent, since credit of up to 10 million Israeli Pounds, in the opinion of the Bank's certified public account, did not endanger the Bank.

 

 

The Tiberias Agreements

 

10. In January 1966 and early February 1966, a fundamental change took place at the Bank in the form of several agreements which were entered into at that time, and of changes made in the structure of the Bank pursuant thereto. The main changes were as follows: Firstly, Filco sold its shares in the Bank to Michael Rapp, David Rapp and Morris Bialchik, three South African financiers (Exhibit 8). The consideration for the shares was $1,237,000. The consideration was to have been paid in part (the sum of $327,000) by 7 February 1966, which was indeed the case. The balance (the sum of $910,000) was to have been paid in nine two-monthly payments of $100,000 each, beginning on 1 May 1966 and ending on 1 September 1967. Secondly, Appelico and Orico sold 725,000 shares in the Bank (420,000 shares owned by Appelico and 305.000 shares owned by Orico) to Ibicor (Exhibit 184). The consideration for the shares was 1,755,000 Israeli Pounds. This agreement also incorporated an option for the sale of the remaining shares in the Bank held by the vendors, as well as the shares held personally by Appelbaum and Kossoy, to Ibicor. Payment was to have been made partly by crediting the accounts of the vendor companies with the Bank (for the sum of 310,600 Israeli Pounds). and the balance (in the sum of 454,400 Israeli Pounds) by releasing Appelico and Orico from their liability to certain creditors and by Ibicor assuming the debt. Thirdly, an agreement was made between Kossoy and Epstein, according to which the two undertook to ensure that an extraordinary general meeting of the Bank would be convened, at which a decision would be taken to terminate Kimche's term as general manager and to appoint Amir in his stead (Appendix 443). This package of agreements was called "the Tiberias agreements" by all, signifying a meeting which took place on 14-16 January 1966 in Tiberias between Kossoy and Appelbaum on the one hand and Epstein on the other, at which the principles thereof were agreed upon. Pursuant to these agreements, a general meeting of the Bank's shareholders was convened on 10 February 1966, and a meeting of the board of directors was also convened. At these meetings, Kimche's resignation was submitted and the conditions of his retirement approved, which - as we saw (paragraph 2 above) - included acquisition by Ibicor of the shares he owned in the Bank for the sum of 554,000 Israeli Pounds and the Bank's guarantee for payment thereof. On that day, a new board of directors was elected, chaired by Appelbaum. Kossoy and Epstein were elected as his alternates. Amir was appointed - together with Levshinski - to the position of general manager. Drori became the deputy general manager. The sale of shares was approved. For the purpose of carrying out its acquisitions, Ibicor was granted credit in the sum of 2.3 million Israeli Pounds, in order to finance the acquisition of Kimche's shares (554,000 Israeli Pounds) and the acquisition of the shares held by Appelico and Orico (1,755,000 Israeli Pounds).

 

11. The meaning of the "Tiberias agreements" is the subject of bitter dispute between the parties. The Bank's approach is that Kossoy reached the conclusion that he and Filco - which is nothing but a company owned and controlled by him - must leave the Bank. To that end, he entered into an agreement with Epstein in Tiberias with regard to his total departure from the Bank, in phases, and the transfer of control of the Bank to Epstein. At the time, Kossoy was - or should have been - aware that the South African investors were nothing but Epstein's front men, and that the funds for the acquisition of shares by Epstein would not come from them, but from the Bank itself. For the purpose of implementing the over-all plan, which would enable Epstein to exact funds from the Bank and to rob it, as well as to finance the acquisition of the shares themselves, it was necessary to get rid of Kimche and place control in Epstein's hands immediately. The "Tiberias agreements" assured that this would be done. Kossoy and Appelbaum's approach is different. They argue that no decision was made in Tiberias regarding Kossoy and Filco's departure from the Bank in general and in phases, but merely for the sale of certain shares, whilst Kossoy was to remain at the Bank, both as a shareholder and as a director. The purchasers of Filco's shares were South African investors, and the financing of the transaction was to have come from external sources. Kossoy and Filco did not know - and could not have known - that in the end the finance would come in part from the Bank's resources, and that Epstein would commit illegal acts at the Bank. The reason for Kimche's removal was not the transfer of control to Epstein, but dissatisfaction with his professional conduct. Amir, a successful businessman with a recommendation from Pinchas Sapir, was appointed to replace him.

 

 From the "Tiberias Agreements" to the "July Agreements"

 

12. The increase in credit extended by the Bank to Ibicor worried the accountants. On 4 March 1966, they conducted a meeting with Kossoy, Amir, Epstein and Drori, and expressed a warning to that effect. They pointed out that it contravened the previous resolution not to increase the credit granted to Epstein. The Bank's management was warned that it must make plans to reduce Epstein's debt. The accountants noted that the Bank was not permitted to lend money to Epstein for the purpose of financing the acquisition of shares in the Bank. They added that if the situation were not remedied, "we will have to reconsider our attitude." At that time, the accountants were not advised that Filco's shares had been sold to South African investors. On 17 April 1966, a meeting of the board of directors took place. The accountants noted that they would be unable to approve the Bank's balance sheet unless far-reaching remedial action was taken. They complained about the provision of loans without sufficient collateral and stated that the management had eight months in which to remedy the situation. The accountants met Kossoy and informed him of the severity of the situation. In their opinion, the sale of the shares to Epstein endangered the solvency of the Bank. Kossoy replied that he was not leaving the Bank and that both he and Appelbaum would remain until Epstein's payments were concluded, which was to have been a considerable length of time (from eighteen months to two years). He noted that he was aware of his responsibility, and that it was most important that Epstein's credit be under supervision. On 21 April 1966, the accountant wrote to the board of directors that the loan in the sum of 1,755,000 Israeli Pounds which had been granted to Ibicor for the purpose of the acquisition of the shares of Appelico and Orico without sufficient collateral was not a loan in the ordinary course of business of the Bank, and that there was reason to believe that it violated the provisions of the Companies Ordinance. Towards the end of May, the credit provided to Epstein continued to grow, and stood at approximately 17 million Israeli Pounds. In May, Filco, pursuant to the "Tiberias agreements" received a further payment of $100,000, so that the total of all sums received until then stood at $427,000 (see paragraph 10 above).

 

 

 

The "July Agreements"

 

13. Two further agreements, which expedited the departure of Kossoy and Appelbaum from the Bank, were made on 5 July 1966. One agreement (Exhibit 9) was made between Filco of the first part - and Michael and David Rapp and Morris Bialchik - the parties to the original Filco agreement (Exhibit 8) - of the second part, whereby the price of the original transaction (which stood at $1,237,000) was reduced by $70,000, in consideration for early payment of the instalments which had not yet been effected (in a total sum of $740,000, after $427,000 had already been paid) and for transfer thereof to Kossoy and Filco. Once the payments were made, all of Filco's shares were to be transferred to the ownership of Feda Finance and Investments S.A. (hereinafter: "Feda"). Feda was established in May 1966 in Luxemburg by Epstein, Amir and Drori, and it was to have purchased Filco's shares and to have paid for them. A short time after this agreement was signed the transactions prescribed therein were carried out. The shares were transferred to Feda, which on its part transferred the sum of $740,000 to Kossoy ($416,000) and ($324,000) to Filco during the month of July. Feda did not obtain the funds from the South African investors, but from the Bank itself, this by means of a Vaduz company called IERA, which acted as the Bank's agent for trade in foreign securities, and all the transactions were carried out by the Bank. The second agreement (Exhibit 225), which was made on 5 July 1966, was between Appelico and Orico of the first part and Ibicor, "Hadarim Holdings and Development Ltd." (hereinafter: "Hadarim") and Epstein. According to this agreement, Hadarim - which is a company controlled by Epstein - undertook to purchase all of the shares in the Bank held by Appelico, Orico, Appelbaum or Kossoy, provided that the option was exercised not later than 2 July 1967. If the option would be exercised, the consideration would be paid in six quarterly instalments commencing on 15 February 1968. Epstein guaranteed this obligation.

 

14. The meaning of the July agreements is the subject of dispute between the parties. The Bank argues that it is one more phase of the performance of the agreement in principle reached in Tiberias. It contends that Kossoy wished to expedite his departure from the Bank, since in view of the accountants' warning, he understood that the Bank was about to collapse and once it did there would no longer be any funds with which to pay for Filco's shares. The Bank argues that Kossoy and Filco knew that no South African investors existed, and that the entire balance of the price (the sum of $740,000) would come from the Bank's funds, and that Feda and IERA were nothing but vehicles of the Bank itself. As regards the second agreement, its objective was to ensure that there would be an option to sell the balance of Kossoy's shares to Epstein (both his personal shares and the balance of his shares in Orico and Appelico). As aforesaid, this option was incorporated in the original agreement with Ibicor (Exhibit 184), but it was important to Kossoy to obtain an undertaking by Hadarim and by Epstein personally. On the other hand, Kossoy and Filco argue that nothing changed between the "Tiberias agreements" and the "July agreements," and that the objective of effecting payment earlier was to satisfy the requirements of Filco, which was in need of funds for its affairs in Switzerland. They contend that even at that stage they believed that the South African group was the purchaser of the shares and that it would be providing the finance. According to this approach, Kossoy and Filco believed that Feda was a consortium of those investors, and that their funds were being paid by Feda.

 

The Elran Affair

 

15. In mid-July 1966, Kossoy discovered, by chance, that since March 1966, Appelbaum, Epstein, Amir and Drori had been conducting negotiations to purchase Bank Elran. This was done without informing Kossoy and with deliberate intent to conceal it from him. When Kossoy discovered that the transaction had been carried out, he was incensed. His pride had been injured.

 

The "September Agreements" and Kossoy's Final Departure

 

16. Two further agreements leading to the sale of Kossoy's shares in the Bank were made in September 1966. In one agreement (Exhibit 95), Kossoy sold Feda his privately held shares in the Bank (12,673 shares) for the sum of $10,983. He received this sum on 20 September 1966. In the second agreement (Exhibit 60), Kossoy sold Feda the balance of his shares in Appelico, which in turn held shares in the Bank. The consideration for this transaction was $812,000. Of this sum, Kossoy received $100,000 directly from Feda on 11 September 1966. The balance of the consideration (the sum of $712,000) was transferred by Feda to Filco's account at the Bank. From this account, Filco purchased securities and assets for the sum of $200,000, thus leaving $512,000 in its account at the Bank. This sum was to have remained in the Bank, in the form of a foreign resident's deposit in dollars (Exhibit 200). The aforesaid deposit was to have matured as follows: $160,000 was to have matured on 20 January 1967, and $88,000 was to have matured on each of the following dates: 15 February 1968, 15 May 1968, 15 August 1968 and 15 November 1968. This agreement was also carried out. On 28 September 1966, Filco notified the Bank (Exhibit 202) that it had transferred the sum of $512,000 to the sole possession of the Union Bank of Switzerland (hereinafter: "UBS"). The Bank replied (Exhibit 203) that it was unable to modify the ownership of the deposit prior to the agreed maturity dates. On 1 November 1966, Filco replied thereto (Exhibit 204) that it had not requested the Bank to modify the ownership of the deposit, and that all that had been requested was the Bank's approval to transfer the deposit to UBS ("to transfer those deposits to the Swiss Bank"), since the Bank lacked the legal capacity to object to the transfer. After negotiation, the Bank decided on 27 November 1966 (Exhibit 207) to approve the arrangement, as follows:

 

"to transfer your N/R deposits with us in the name of Union Bank of Switzerland Geneva, special deposit account, on the same condition as we hold the deposits in your name."

 

            UBS was asked to approve this transfer, and it so approved it on 25 November 1966 (Exhibit 208), whilst noting that:

           

"We confirm to you that the deposits are to remain with you at the terms as originally agreed between you and Filco S.A."

 

            In view of the above, the Bank notified UBS on 5 December 1966 (Exhibit 261) that pursuant to Filco's instructions:

           

"We shall transfer value 20.12.66 all the deposits in a new special account opened in your name with us."

 

UBS was also asked to return to the Bank the deposit certificates for these sums, which had been held by Filco and had been transferred to UBS. Further thereto, the Bank notified UBS on 20 December 1966 (Exhibit 212) that the sum of $512,000 had been transferred to a new special account in UBS' name, with the account comprising five deposits with various maturity dates. The Bank again requested in its letter that the deposit certificates, which were in Filco's name, be returned to it.

 

17. Whilst these transactions between Filco, the Bank and UBS were taking place, Kossoy's involvement in the Bank came to an end. On 28 October 1966, Kossoy's letter of resignation as a director of the Bank was accepted by the board of directors. At that meeting, the share transfers in accordance with the "July agreements" and the "September agreements" were approved.

 

18. On 16 January 1967, UBS sent Filco's certificates of deposit which it had held (Exhibit 210). On 20 January 1967 - the date of maturity regarding $160,000 from the deposit of $512,000 in UBS' name - the Bank was also asked to pay the aforesaid sum to the beneficiary it would name. This was done, and the money was withdrawn from the Bank. The next sum, in the amount of $88,000, was to mature on 15 February 1968 (see paragraph 16 above), but the Bank refused to release it, as it was seized by the Bank of Israel on 24 January 1967. On 17 April 1968, UBS assigned its rights in the deposit - which at that time stood at $352,000 - to Banque Commerciale, which in the District Court claimed the release of the sum of $88,000, which was to have matured as aforesaid on 15 February 1968.

 

19. The meaning of the "September agreements" is also disputed. The Bank contends that it is the final phase in the abandonment of the Bank, whereby Kossoy would exercise the option available to him pursuant to the "July agreements." The Bank argued further that Kossoy and Filco knew that Feda, the buyer of the shares, was nothing but Epstein himself, and that the funding would come from the Bank's resources. The Bank agrees that knowledge of the Elran affair gave Kossoy "added impetus" to leave the Bank, since it was evident to Kossoy that the purchase of Elran was an adventure which was likely not only to dilute the Bank's resources, from which he was to have been paid for his shares, but also to expedite the collapse of the Bank. On the other hand, Kossoy and the Bank argue that the only reason for Kossoy's final departure from the Bank (Filco had already left by virtue of the "July agreements") was the Elran affair, and that at that stage Kossoy did not know, and could not have known, that the payment would be made with the Bank's funds.

 

20. As regards the claim of Banque Commerciale, the Bank's attitude is that Banque Commerciale has no more rights than does Filco, and the latter is entitled to nothing from the Bank, since the funds derived from the breach of the obligations of Kossoy and Filco. On the other hand, Banque Commerciale contends that it has an independent right which is not subject to the claims by the Bank against Filco.

 

 

The District Court's Decision.

 

21. A complex series of documents describing the agreements and actions performed pursuant thereto was brought before the lower court. The central character, who could have shed some light on the events, did not appear in Court, since none of the parties called Epstein as a witness. At the time, Epstein had been declared bankrupt and was serving a prison sentence for a criminal charge. Amir did not defend himself against the claim brought against him, nor was he called as a witness. Appelbaum had passed away. Kimche, who had suffered a heart attack, did not testify. On the other hand, extensive testimony was heard from Kossoy, Drori, Vered and Schrem. Michael and David Rapp and Morris Bialchik also testified. On the basis of all of the aforesaid, the lower court found that in Tiberias "agreement had been reached whereby Epstein gained control of the bank." "Kossoy, in entering into the over-all agreement to sell his shares in the bank... must have been aware that Epstein was buying control, by acquiring shares, or control of the shares by means of powers of attorney and other such means." In any event, "if I am found to have erred in reaching this my conclusion (which I believe is logical), then since Kossoy remained a member of the board of directors until July, how could he have been unaware that Epstein controlled the bank as a result of the sales of shares?" In the opinion of the lower court, control by Epstein meant the financing of Epstein's affairs - including the purchase of the shares from Kossoy and Filco - with the Bank's resources. Epstein himself had no money, and all the payments were to have come from - and indeed came from - the Bank's resources. The objective of this over-all agreement was, in the lower court's opinion, "to eject Kossoy from the bank" by means of selling all his shares, and Kossoy was aware of the objective for which Epstein was purchasing the shares. In doing so, Kossoy abandoned the company "to a villain who was robbing it." The lower court found that "Kossoy was aware of Epstein's aspirations in acquiring control of the bank without having the money to pay for the shares. Epstein's unconcealed intention was to receive money, not to pay money." In summarizing its approach, the court said:

 

"Since Kossoy was evidently aware that Epstein was the true purchaser of the shares, since control of the bank passed to him thereby, Kossoy is responsible for what happened by virtue of two things: because of he sales, which resulted in the largest debtor of the bank acquiring control of the bank; and because he remained on the board of directors until July and failed to prevent new loans from being made to Epstein, which formed the beginnings of Epstein's plot to strip the bank so as to fill his coffers and save his property; he failed to prevent this. He abandoned the bank when he sold control of it as long as he remained there."

 

22. In the opinion of the lower court, Filco was owned and controlled by Kossoy. "He remained the owner of Filco and controlled it, and Filco was "Kossoy's company." Since Kossoy's actions were carried out within the scope of his authority at Filco, the fact that he knew means that Filco knew. His knowledge of the bank's situation and its largest creditor's plan to gain control of it means that the company he represented, which was a formal party to the agreements, also knew it."

 

23. Drori is an honest man who, in the opinion of the lower court, became Epstein's "helpless"... "lackey," was "carried away" with him and "was as pliable as putty." He knew "what was going on." He knew already in July that the designation of Michael and David Rapp and Bialchik as purchasers was untrue, and that the Bank was paying for the purchase of the shares with its own funds.

 

24. On the basis of its findings, the District Court, ruled that Kossoy had breached his obligations towards the Bank. He violated the obligation of trust incumbent upon him as the manager of the Bank. A director owes loyalty to his company, and one who allows the theft of the company's money by fraud is liable towards it. Furthermore, Kossoy breached the obligation of carefulness towards the Bank incumbent upon him. To the Bank, he committed a "crime of negligence in abandoning the bank" to Epstein. The court saw Kossoy's main liability in breaching his obligations as a holder of controlling shares. The court said:

 

"Liability lies at Kossoy's feet mainly because he is a shareholder in the company. A shareholder and a holder or joint holder of a controlling interest, who sells shares and thus abandons the company to a villain who robs it, is held liable for the outcome."

 

Kossoy was also found liable by virtue of the fact that he allowed the Bank to pay for the purchase of his shares with its own funds, this in violation of section 98 of the Companies Ordinance (now section 139 of the New Version). In so doing, Kossoy acted "contrary to the trust" which had been placed in him.

 

25. The lower court also found Filco liable towards the Bank: "Filco lent its name to the agreement for the sale of shares... All liability stemming from the agreement falls upon it as well." "Although Filco held no position in the Bank, it nevertheless took part in the injustice perpetrated by Kossoy against the Bank." "Filco bears liability to the Bank by virtue of its participation in Kossoy's actions."

 

26. Drori was found liable because of breach of his duties as a director of the Bank. In the opinion of the lower court, the power available to the court pursuant to the provision of section 78(1) of the Companies Ordinance (Section 90(a) of the New Version), which enables a director acting honestly and reasonably to avoid liability, in whole or in part, should not be exercised. In this regard, the court said:

 

"I originally thought that I would impose no liability on Drori... Drori knew what was happening there, but was unable to prevent it. He may have lacked the courage to resign, but he should have had the courage. However, I doubt that he acted reasonably, although he may have acted honestly. The result is that according to the law I cannot absolve him of liability."

 

27. After all the defendants were found liable - as mentioned, Amir did not defend himself - and it was ruled that "whatever judgment should be given should apply to Amir," the relief was also determined. The lower court ruled that Kossoy, Filco, Amir and Drori should "jointly and severally" pay the Bank 1,755,000 Israeli Pounds (linked to the Cost of Living Index and bearing interest at the rate of 3% from 21 January 1968 until payment) and $1,633,378 (bearing interest at the rate of 7% from 21 January 1968 until payment). Costs of the hearing and fees were also awarded, in the sum of 1 million Israeli Pounds, together with Value Added Tax.

 

28. The court rejected the claim of Banque Commerciale. It was determined that, by virtue of the agreement between the Bank, Filco and UBS, Filco's right to receive payment had been transferred from the Bank to UBS. This transfer is not a novation: "The previous terms of the deposit and the maturity thereof remained unchanged. According to those terms, Filco is subject to the original transaction whence the debt originated." Accordingly, "Banque Commerciale Geneva did not purchase a new debt, but an old debt subject to conditions and right of retroactivity. Its claim for payment of the debt regardless of its source and terms must fail." Banque Commerciale was ordered to pay the costs of the hearing, and also fees in the sum of 75,000 Israeli Pounds.

 

The Appeal to the Supreme Court

 

29. Kossoy and Filco - each represented by his own counsel - challenged the District Court's decision on a broad front. On the factual level, it was argued that the factual findings of the lower court were erroneous and defective. The representatives of these Appellants have called on us to set aside the judgment because of lack of sufficient findings upon which to base the decision. Nevertheless, we were asked in particular to examine the entire body of evidence and determine new findings in accordance therewith. In the view of the Appellants, these findings must be that Kossoy was not interested in leaving the Bank, neither in the Tiberias agreements nor in subsequent agreements. The Tiberias transaction was an honourable transaction, and did not harm the Bank, which was in a good position at the time. The sale of some of the shares, and not all the shares, was to South African investors, who were paying for the shares with their own money. This , in any case, was the opinion of Kossoy. Accordingly, there is no basis for ruling that the objective of the Tiberias agreements was to enable Epstein to withdraw funds from the Bank for his own purposes. The purpose of the "July agreements" was not to expedite Kossoy's departure, but to provide Filco with the capital it required for its activities in Switzerland. The funding was actually provided by Feda, but - as Kossoy was aware - Feda was acting on behalf of the investments of the South African investors, and it was their funds which were used to pay for the sale. The "September agreements" indeed caused Kossoy's final departure from the Bank, and the only reason for this was his anger over the Elran affair, which had been concealed from him. In that case, Kossoy also believed that the funds came from sources other than the Bank. Both Filco and Kossoy emphasized that Filco is an independent company, which at the relevant times was neither owned nor controlled by Kossoy. On the legal level, Kossoy argued that his conduct did not involve the breach of any obligation towards the Bank. Filco argued that as a shareholder only it owned no duty of trust towards the Bank, either because a shareholder owes no duty of trust whatsoever, or because even if such a duty does exist, it is incumbent upon a controlling shareholder and Filco was not a controlling shareholder, or because Filco did not actually know what Epstein was apt to do. In that regard, it was argued that Kossoy's knowledge should not be attributed to Filco. Filco further argued that even if responsibility rests with it, it should not be exercised in the matter before us, since the funds which were to be repaid to the Bank were likely to come into Epstein's possession, and under such circumstances no ruling for repayment should be given. Finally, Filco argues that it was wrong to be found liable for the entire sum of the claim, since its liability should be limited to the sale of its shares. Kossoy and Filco both argued that it was wrong to oblige them to repay the sum of $427,000, since this sum was obtained from sources other than the Bank. They further argued that they should not be obliged to repay the sum of $352,000 (see paragraph 16 above), which was the subject of the claim of Banque Commerciale, since this remained in the Bank's coffers.

 

30. Drori joined the pleadings of Kossoy and Filco regarding everything related to the "Tiberias agreements." He contended that he believed in the existence of South African investors. In any case, he was not a party to the "Tiberias agreements" and did not take part in the preparation thereof. Drori's pleading was directed mainly towards exemption of liability pursuant to the provision of section 78 of the Companies Ordinance (section 90 of the New Version). His counsel pleaded before us that Drori acted honestly and reasonably, with no personal motive and with the objective of preventing the collapse of the Bank. He argued that if he had resigned from the Bank after the Tiberias agreements, it would have wreaked havoc on the Bank and its clients. Regarding the relief, Drori argues that he is not obliged to make any repayment, since he never received anything.

 

31. Counsel for Banque Commerciale argued before us that the lower court was wrong in holding that an assignment, as distinct from a novation, was involved. Moreover, even within the framework of the assignment, the Bank was not permitted to air to UBS suspicions it had against Filco, since it was not proven that UBS acted in good faith and for value, and in any event the Bank's defences are valid against Filco alone.

 

The Factual Basis

 

32. The starting point of counsels for the Appellants (Filco and Kossoy) was that the judgment of the lower court was defective, and that it lacked sufficient data for making a decision. In their opinion, the judgment was defective to such an extent that the few factual data arrived at therein were not to be relied upon, and it should therefore be set aside; the matter should be referred for re-hearing or new findings should be determined by the court of appeal. Verily, a first reading of the judgment raises difficulties. It contains inaccuracies. Errors were made in it. The chronological sequence of events was confused. It lacks express reference to a great deal of evidence submitted during the course of the hearing, and it lacks any clear ruling as to which witnesses were believed by the judges and which not. Nevertheless, after re-reading the judgment, it became evident that the inaccuracies and errors were in marginal matters, and the judgment of the lower court determined findings - and thus also determined an attitude towards the credibility of the evidence - relevant to all the main factual questions required to be decided in the appeal. Accordingly, we will not deviate from our custom, and we will not act as a lower court. We will not re-hear the case and we will not open a new page. The lower court arrived at a series of findings which served as the foundation for its decision, and we will examine whether those findings were established on the evidence before it. Should we find that the findings of the lower court are warranted by the evidence, we will uphold those findings. Should we find that the findings of the lower court were not warranted by the evidence, we will set aside the findings determined by the lower court and determine in their stead new findings - either positive or negative - as arise from the evidence, and as required by the burden of proof.

 

33. The lower court ruled that at all relevant times Epstein acted, in everything related to the acquisition of the shares. without having been granted any authority whatsoever (whether ab initio or retroactively) by the South African investors, and that the financing of the acquisition of the shares (including the sum of $427,000) was entirely from the funds of the Bank itself. These findings were attacked by counsels for Kossoy and Filco. In their opinion, the evidence supports the view that at the time the "Tiberias agreements" were made, South African investors actually existed, and that Epstein acted with their authorization. In their opinion, there is nothing to support the finding that all of the funds came from the Bank's resources, since the sum of $427,000, which at about the time of the Tiberias agreements was paid for Filco's shares, did not come from the Bank. Kossoy and Filco's representatives drew attention to the testimony of the Feuchtwanger couple, which was not mentioned at all in the lower court's judgment. They testified that in November 1966 they met Michael Rapp and Bedah-Bir, who told them that they were partners in the Bank. In actual fact, the two, as well as David Rapp and Morris Bialchik, denied it, but no importance should be attributed to those denials, since they stem from their fears of criminal liability in South Africa with regard to their investment in Israel. The Appellants argued that there was no reason not to give full credibility to the Feuchtwanger couple, whose testimony was the truth.

 

34. The lower court's findings that Epstein acted without authorization of the South African investors is based on the evidence, and we will not interfere therewith. David Rapp and Michael Bialchik testified that Epstein acted on the basis of a previous Power of attorney, which he had been given for a different matter, and that authority to invest in the Bank had neither been requested nor received. They became aware of the entire affair after the act. The lower court was entitled to prefer this testimony over the testimony of Kossoy and the Feuchtwanger couple, and to determine its findings on the basis thereof. It is also noted that this finding conformed to the other evidence, which showed that no inquiry or request had been made at any stage by investors from South Africa, neither directly nor indirectly, for repayment of their funds. There is also no evidence that any inquiries were made on behalf of the investors by any economists, accountants or lawyers with regard to possible investment in the Bank. It is difficult to imagine that a financier would invest considerable sums of money without making any independent examination - simply by trusting Epstein - and this on the basis of a previous Power of attorney, which was devoid of any mention that the purchase of a bank was involved.

 

35. The lower court's findings to the effect that "the bank was paying for the shares, from the first to the last, and that includes the sum of $427,000" were corroborated by the evidence with regard to all the payments, with the exception of the sum of $427,000. It is obvious from the evidence - nor was it ever disputed - that the funding of the transaction between Orico and Appelico of the first part and Ibicor of the second part (Exhibit 184, which constitutes a part of the Tiberias agreements), came from the increase ("opening of the tap") in Ibicor's credit at the Bank, without any financial contribution from outside the Bank. It is equally evident - and neither was this ever disputed - that the financing of the "July agreements" (Exhibit 9) and the "September agreements" (Exhibits 94 and 60) was provided by Feda from funds it obtained from IERA, which were the Bank's funds. On the other hand, there is no basis for the ruling that the sum of $427,000 also came from the Bank's funds. Indeed, the lower court itself noted that "The bank's representative argued in his Statement of Claim that he has no knowledge of the source of the consideration of Exhibit 8, which was attributed to the period preceding 30th January 1966, and he repeated this in his final Summation. In so far as this involves an admission, the sum claimed with respect to Exhibit 8 and Exhibit 9 is reduced by $427,000." This notwithstanding, in the relief granted by the lower court, the Defendants were ordered to pay this sum as well.

 

36. The District Court ruled that in the "Tiberias agreements" control was transferred to Epstein, and that Kossoy was aware of it. This finding is established upon and is rooted in the evidence. According to the Tiberias agreements, Ibicor purchased 15% of the shares of the Bank, and Rapp and Bialchik purchased 20% of the shares of the Bank. By adding these shares to Epstein's personal shares (32.7%), the formation of a "control package" was made possible. The lower court had before it ample evidence of the fact that all of the purchasers were in fact a single "package," under Epstein's control. Ibicor belonged to the "Epstein conglomerate," and was its major shareholder. Kossoy knew of this. Even if Epstein did not purchase Filco's shares, and the purchasers were Rapp and Bialchik, Epstein in effect had control, and Kossoy knew it.

 

37. The lower court did not satisfy itself with the ruling that control passed to Epstein in the "Tiberias agreements." According to the approach adopted by the lower court, in Tiberias an "over-all and general" arrangement was made "to eject Kossoy from the bank and to put Epstein in control." This approach is supported by the findings of the lower court that Kossoy knew that the funding of the acquisition of the shares would come only from the Bank's resources, and that Epstein's objective in effecting the acquisition was to use the Bank as a source of funds for all his affairs, including acquisition of the shares in the Bank, and that this would cause the Bank to collapse. This is also the reason for the lower court's conclusion that Kossoy "abandoned" the Bank to someone who was plotting to strip it bare. My first impression was that the lower court had further ruled that agreement had been reached in Tiberias for the sale of all of Kossoy's shares, but after re-reading it I concluded that there was no such ruling in the judgment, and that the general and over-all agreement entered into was to transfer control, and not necessarily to sell all the shares. As for Kossoy's desire to "flee" from the bank, my first impression was that the lower court ruled that this desire took shape within the framework of the "July agreements." This is doubtless what was meant by the passage in the judgment to the effect that: "I have no doubt that in July 1966, when Kossoy saw what was happening at the bank after he had sold the majority shares thereof, under control by Epstein and to the favour of Epstein, he decided to run for his life from the bank." Further perusal of the judgment indicates that the lower court was of the view that the "Tiberias agreements" themselves were intended to eject Kossoy from the Bank.

 

38. As we have seen, the evidence serves as the basis for and provides the roots of the lower court's ruling that control of the Bank passed to Epstein in the "Tiberias agreements." However, is there support for the lower court's ruling that in the "Tiberias agreements" Kossoy attempted to run for his life from the Bank, and in so doing abandoned it? I believe that this difficult ruling can stand only if there is a basis in the evidence to show that Kossoy knew prior to the "Tiberias agreements" that the funding of the purchase of the shares would come from the Bank itself. Indeed, if Kossoy knew prior to the Tiberias agreements that the funding for the acquisition of the shares would come from the Bank itself, then it involves "abandoning" the Bank and a desire to "flee," since - as we will see - finance on such a large scale, with no collateral, led to the collapse of the Bank. However, if Kossoy did not know prior to the Tiberias agreements that the funding would come from the Bank's resources, and if he believed that the funding would come from sources outside the Bank, then there is no basis for the ruling that he "fled" the Bank and "abandoned" it to someone who planned to strip it. It must be remembered that prior to the Tiberias agreement the Bank was not in a state of collapse, and the collateral was more than sufficient to cover the debts. Epstein's personality and Amir's personality, as far as the parties were aware, were of themselves insufficient to indicate that Epstein wanted to strip the Bank of its assets, and that Amir would assist him. Dr. Goldenberg rightly pointed out that we must assess the facts as the parties knew them prior to the "Tiberias agreements," not as we now know them.

 

39. When the Tiberias agreements were made, did Kossoy know that the funding of the acquisition of the Bank's shares would come from the Bank's own resources? It appears to me that discussion of the question requires that proper distinction be made between the various transactions made in Tiberias. As mentioned (see paragraph 10 above), two transactions of sale were made in Tiberias, one a transaction in Israeli Pounds whereby shares in the Bank held by Appelico and Orico were sold to Ibicor for 1,755,000 Israeli Pounds (Exhibit 184), and the other a transaction in dollars, whereby shares in the Bank held by Filco were sold to Rapp and Bialchik in consideration for $1,237,000 (Exhibit 8).

 

40. The transaction in Israeli Pounds (Exhibit 184) was funded entirely from the Bank's resources. Part of the price (300,000 Israeli Pounds) was transferred to the vendors by way of crediting their account with the Bank and at the same time debiting Ibicor's account. The balance (1,455,000 Israeli Pounds) was transferred by releasing Appelico and Orico from their liabilities to certain creditors and transferring the obligation in respect thereof to Ibicor, whilst debiting Ibicor's account. For the purpose of financing Ibicor's liabilities as aforesaid in the sum of 1,755,000 Israeli Pounds - as well as for the purpose of financing the bank guarantee relating to Ibicor's purchase of Kimche's shares - Ibicor's credit at the Bank was increased by the sum of 2.3 million Israeli Pounds. This was effected on 10 February 1966, at a meeting of the board of directors of the Bank. On this matter, the lower court ruled that "Ibicor had no money, merely real estate, such as the Zirahtron theatre in Tel Aviv. Who then paid for these shares? Once again, it was the Bank, from the Bank's own funds. Everyone knew that Epstein himself had no money at that time." This finding is properly established in the evidence, both in regard to the fact that the financing of Ibicor's acquisition was made entirely with the Bank's funds, and in regard to the fact that Kossoy was aware of it. Kossoy himself testified that he knew that Ibicor's indebtedness to the Bank would increase by the sum required to cover the purchase price.

 

41. What of the dollar transaction (Exhibit 8)? Kossoy testified that he believed that Filco's shares had been purchased by South African investors and that they were paying for them. From the lower court's findings it seems that this testimony was not accepted by the judge. Nevertheless, rejection of Kossoy's testimony is insufficient to result in a positive finding to the effect that Kossoy knew that no South African investors existed. The lower court heard a large number of other witnesses, who testified that they also believed that foreign investors had joined the Bank. Drori, whose testimony was accepted by the judge ("his testimony has convinced me"), related that he himself had believed prior to the "Tiberias agreements" that the South African investors existed, and that they were financing the purchase of Filco's shares. As for the circumstances in general, they can be interpreted in several ways. In support of the lower court's conclusion, we may point out the following: Firstly, in the first draft of the Filco transaction, a company called "Efi" is named as the purchaser (Exhibit 400), and the transaction with it is a cash transaction. "Efi" no longer appears in the second draft, instead of which David and Michael Rapp, Morris Bialchik and Selfins Guzel were to purchase the shares in a credit transaction (Exhibit 401). In the final agreement (Exhibit 8), the names of Rapp and Bialchik appear, whilst Selfins' name was omitted. None of this indicates the serious existence of foreign purchasers, but rather manipulation by Epstein who was replacing the "purchasers," who were merely front men. This is also supported by the fact that it was not Epstein who signed the contracts, but Schrem, by transfer of Powers of attorney from Epstein, as if he were trying to conceal something or to hide himself. Secondly, in discussions held at the Bank soon after the "Tiberias agreements" (e.g., on 20 January 1966), there is no mention whatsoever of the existence of the foreign investors. Accountant Bavli pressed his demand that Epstein's shares be sold, but nobody mentioned to him that there had been a change at the Bank and that the South African investors had joined it. On 1 February 1966, Drori wrote a letter to a friend, in which he mentioned that a "revolution" had taken place at the Bank, and that Epstein had joined, but he made no mention of the existence of the foreign investors. When Bavli met Kossoy (on the 17th or 18th of April) and expressed his concern over the increase in Epstein's debt, Kossoy did not inform him that a change had taken place at the Bank, in that South African investors had joined it.

 

 

            On the other hand, we may point out several considerations which rule out the lower court's approach: Firstly, most witnesses testified, as we saw, that following the "Tiberias agreements" they believed that South African investors had actually joined the Bank. In actual fact, $427,000 had been paid by parties from outside the Bank, which reinforced the belief that foreign investors had joined the Bank. Secondly, according to the terms of sale, the payments for Filco's shares were to have continued until September 1967, which indicates trust and confidence that the purchasers were able to shoulder the financial burden. Both Kossoy and Appelbaum continued to operate at the Bank, both as shareholders and as directors, which indicates their confidence in the Bank's situation.

           

42. On the basis of this body of evidence did the Bank satisfy its burden of proof that according to the "Tiberias agreements" Kossoy "fled" from the Bank? Did he know when he made the agreement with Epstein in Tiberias that Epstein's aim was to strip the Bank and finance all his affairs, including the acquisition of the shares in the Bank, with the Bank's funds? I believe that the Bank has satisfied this burden of proof and has shown that Epstein did acquire control of the Bank. The Bank has also proven that in actual fact the funds for the purchase - with the exception of the sum of $427,000 - came from the Bank itself. The Bank has also proven that Kossoy knew that Ibicor's purchase would be made with the Bank's money. On the other hand, the Bank has failed to satisfy the burden of proof, has nor it shown with sufficient certainty- as required in civil law-that Kossoy and Filco knew that the funding of the sale of Filco's shares would also be made with the Bank's shares. It should be borne in mind that the burden resting on the Bank in this case is not light, since proof of breach of trust is involved here. The Bank has failed in this respect. In my opinion, the scales are evenly balanced, and there is nothing at all to show that in selling Filco's shares Kossoy knew that the Bank was providing the funds. It is difficult to ignore the fact that the sum of $427,000 was in actual fact paid by sources outside the Bank, and that not only Kossoy but many others (mainly Drori) thought that foreign investors actually existed. Since this is so, I believe that there is insufficient basis for the lower court's ruling that in the "Tiberias transaction" Kossoy knew that Epstein would strip the Bank and cause its collapse, and that in selling the shares in Tiberias he "abandoned" the Bank. As long as there was any belief in the participation of investors, no finding of abandonment can be established. I therefore believe that the hypothesis that Kossoy "fled for his life" in Tiberias, is not sufficiently established. Indeed, it is difficult to reconcile flight from the Bank with the extended terms of payment (until September 1967) and with the fact that neither Kossoy nor Appelbaum sold all of their shares in Tiberias.

 

43. In analyzing matters thus far, we have presumed that Kossoy controls Filco's activities. Counsel for Filco attacked this presumption. Filco was founded in 1964 in Luxemburg, and at the time of establishment it was controlled by Kossoy. In time, the number of Filco shares owned by Kossoy dwindled, and the company was registered on the stock exchange. Kossoy was not a director, and it was administered formally by directors, who carried out the formal acts as required by Luxemburg corporate law. Kossoy had a general Power of attorney from Filco to act in its name. The lower court ruled that Kossoy was the "owner and controller of Filco." The question of ownership has not been made sufficiently clear, and no finding can be determined on this matter. On the other hand, Kossoy's control was made fully clear to the lower court, and its finding on this matter is based on the evidence. Kossoy acted with Filco as if it were his own. This was testified to by Drori and Bavli. The formal directors did as he bid them. He made all the decisions as he saw fit.

 

44. Thus far we have examined the findings of the lower court regarding everything related to the "Tiberias agreements." We will now move to the findings of the lower court regarding everything related to the "July agreements" (see paragraph 13 above). On this matter, the District Court ruled that "to my mind, there is no doubt that in July 1966, when Kossoy saw what was happening at the Bank after he sold the majority shareholding to Epstein, placing it under his control, he decided to flee for his life from the bank." In the course of the hearing on this ruling, the lower court cited Kossoy's contention that he wished to expedite his departure because of the Elran affair. The lower court erred in so doing, since Kossoy found out about the Elran affair only after the "July agreements" had been concluded, and it was not enough to affect him regarding these agreements. This error notwithstanding, I have no doubt whatsoever that the lower court's findings that in the "July agreements" Kossoy wished to flee for his life from the Bank are firmly established in the evidence. The meaning of "flight" is total departure from the Bank, both by Filco and by Kossoy. Kossoy testified that he wished to make early payment to Filco because the latter needed the money. It is evident that this explanation by Kossoy was not accepted by the court. On the other hand, the accountants testified that they were concerned over the growth in credit extended to Ibicor. The accountants stated that consequently they would have to reconsider their attitude, and that they would be unable to approve the Bank's balance sheet unless far-reaching changes were made. They gave the Bank's management eight months to rectify the situation. Kossoy was apprised of all this personally. They advised him that the solvency of the Bank was in jeopardy and that the existence of the Bank, which was in a severe crisis (see paragraph 11 above), was threatened. This information was sufficiently convincing for Kossoy to take steps for Filco's immediate departure and to obtain a renewed option for Appelico's complete departure and for his own. Of course, if the Bank had had its own sources of funds, by means of which the necessary remedial action could have been taken quickly, the situation would have been likely to change. However, the Bank had no such funds, and Kossoy knew it. At the time he entered into the "July agreements," Kossoy knew that the payments for the shares would come from the Bank's funds, not from South African investors. Thus testified Drori, and the court accepted his testimony. Corroboration thereof can be found in Schrem's testimony - which was cited by the lower court and found to be credible in part-that he himself had doubts, at the time he signed the "July agreements" in the name of the purchasers as to whether Rapp and Bialchik were the true purchasers of the Filco shares. Moreover. Filco's balance sheet of that year states that the reason for making early payment was because the performance of the original payment could not be assured. In their arguments before us, counsels for Kossoy and Filco attempted to convince us that the evidence taken as a whole shows that at that stage Kossoy still believed that South African investors actually existed, and that the funds for the "July agreements” would be provided by them. The advocates were aware that Drori's testimony, which was believed by the lower court, stood in their way. In their desire to overcome it, they asked us to rule that Drori should not have been believed, because he had an interest in assisting the Bank, in order to save his skin. We cannot accept this line of argument. The court believed Drori and the finding determined on the basis of this belief is fully reconcilable with all external circumstances. We have seen that the lower court's main theory was that the intention of the sale of the shares was to enable Kossoy and Filco to flee from the Bank, since they knew that the funds for the purchase of the shares would come from the Bank's own resources, and this was likely to lead to the Bank's insolvency. As mentioned, we have determined that this theory is not based on the evidence in, so far as the Tiberias agreements are concerned. But in our opinion, this theory is firmly established on the evidence in so far as the "July agreements" are concerned. The ruling by the lower court that Kossoy "abandoned the Bank when he sold control thereof," is firmly established on the evidence, in so far as it concerns abandonment with regard to the financing of the purchase of shares in the Bank, those sold previously as well as those to be sold subsequently from its own resources.

 

45. In September, as we have seen, further and final agreements were made, which led to Kossoy's complete departure from the Bank. As mentioned, these agreements related to Kossoy's shares in the Bank (Exhibit 94) and to Kossoy's shares in Appelico, which in turn held shares in the Bank (Exhibit 60). The lower court did not deal with these agreements separately, and it seems to have confused them to some degree with the "July agreements." Nevertheless, the lower court's general theory is considerably reinforced by the circumstances of the preparation of these agreements. In both agreements, Feda was the purchaser. It was obvious to Kossoy that Epstein was the real purchaser. It was obvious to Kossoy that Feda's funding was being provided by the Bank, and - according to the accountants' warning - this constituted a threat to the Bank's existence, made it insolvent and overdrew its reserves. Counsels for Kossoy and Filco argued that the Elran affair was the motive for the September agreements. The lower court mentioned this incident, noting that the expediting of the departure preceded the abandonment of the management of the Bank.

 

 

Liability

Kossoy and Drori: Directors' Liability

 

46. Kossoy and Drori were directors of the Bank, one as a "director" and the other as "manager" at all the relevant times. In these capacities they approved the sale of shares in the Bank and carried out all the actions required to finance the purchase with the Bank's funds. Are they under any liability towards the Bank by virtue of those actions, and if so, to what relief is the Bank entitled?

 

47. There is a comprehensive, complex network of legal relationships between a director and his company. The director is the "brain" and "nerve center" of the company's activities. He acts in its name with outsiders and manages its internal affairs. A lengthy series of provisions - some embodied in the Companies Ordinance [New Version], others in the memorandum and articles - grant him powers with regard to the management of the company's affairs. For certain purposes, he is an organ of the company; for other purposes, he is its agent; at times he can be considered to be an employee. In all his activities at the company, whether day to day management or formulation of policy and supervision of acting management, he wields extensive power. This power is vested in him on behalf of the company. However, there is some fear - and experience shows that this fear is well founded - that the person wielding the power will abuse it. The temptation to do so is great. That is why it is necessary to enact a series of laws to restrain the powers, since "power without liability resembles lawlessness" (A. Procaccia, "Dissolution of Companies at the Request of Minority Shareholders," Mishpatim VIII (5738) 13, 17). The problem is not limited to the relationship between directors and companies. Similar power-subservience relationships exist in other situations, both in the area of private law (such as principal-agent, guardian-legally incompetent; trustee-beneficiary; promoter-company) and in the field of public law (public servant - public authority). The general principles of law can certainly help us solve the problem. Thus, for example, criminal law lays down a series of prohibitions to deter a director from abusing his power. Special provisions were enacted in regard to violations by directors (e.g., see sections 423, 424 and 425 of the Penal Code, 5737-1977). Similarly, the law of torts lays down rules for proper conduct which must be followed by the director. Thus, for example, there are "friendly relations" between the director and the company (within the meaning thereof in Section 36 of the Civil Wrongs Ordinance [New Version]: C. A. 725/78 [1]), and the director must take all steps that a reasonable director would take under the circumstances (according to Section 35 of the Civil Wrongs Ordinance [New Version]: see T. Cohen, "Duty of Care of Director of Registered Company," Mechkerei Mishpat 1 (5740) 133). These areas of the law are themselves insufficient to deal directly with the problematic aspects created by the power of control vested in the director. The solution to this problem lies in the concept of loyalty. The law imposes a sense of trust on a person who holds power, thus helping to "create supervision and impose restraint on the holder of power in exercising his power" (Supreme Court of Justice 531/79 [2]), at 570.

 

48. The principle of trust has wide application. It is applicable to every situation where someone has power and control over another (see L.S. Sealy, "The Director as Trustee" [1967] Camb. L.J. 83). Accordingly, it is applicable to principal-agent relationships, since the agent exerts control over the power to contract in the name of the principal. The principle of trust is similarly applicable to guardian-legally incompetent relationships, since the former controls the actions and assets of the latter. Thus also the applicability of this principle to relationships between a promoter and the company which is to be established, since the promoter controls it. The list of situations to which trust relationships pertain is not a closed list, and they pertain "to a wide range of legal relationships" (C. A. 793/76, Motion 506/78 [3], at 557-Judge Y. Cohen). One of those legal relationships is that between a director and his company. The director controls the company. He manages its affairs externally and internally. All this requires that the power be accompanied by responsibility, since power without liability will result in chaos.

 

49. The obligation of trust is a general obligation, and is incumbent upon the holder of power. The meaning of this obligation is that the holder of the power must act in good faith, honestly, and for the purpose of doing his job well. It is a general principle which is inherent in our system, and putting it into practice requires concretization (see T. Frankel, "Fiduciary Law," 71, Calif. L. Rev. 795 [1983]). Judge Frankfurter rightly stated in Securities Commission v. Chenery Corp. (1942) [19], at 85-86:

 

"...to say that a man is a fiduciary only begins analysis. It gives direction of further inquiry: To whom is he a fiduciary? What obligations does he owe as a fiduciary? In what respect has he failed to discharge these obligations? And what are the consequences of his deviation from duty?"

 

These words apply particularly to the matter of the obligation of trust incumbent upon the director. This obligation raises many questions: To whom is the director obligated? Does the obligation apply towards the company only, or does the director also owe loyalty to the shareholders, employees and perhaps even to others connected to the company (see F.H. 7/81 [4], at 695)? What does the obligation of trust entail? What relief is given against a director who violates his obligations, and other such questions. However, we will not, of course, answer all these questions in this opinion. Within the present framework, we need examine only two questions: Firstly, what does the obligation of trust entail with respect to the sale of shares in the company, and was it violated in the present case? Secondly, is the company entitled to compensation for the damages it suffered as the result of the violation of trust?

 

50. The obligation of a director makes him act in good faith, honestly and for the purpose of fulfilling his function as a director, as Judge Sheintag said in the case of Litwin v. Allen (1940) [20], at 677-78. In reference to a director, the Judge said that he :

 

"... owes loyalty and allegiance to the company - a loyalty that is undivided and an allegiance that is influenced in action by no consideration other than the welfare of the corporation. Any adverse interest of a director will be subject to the scrutiny rigid and uncompromising. He may not profit at the expense of his corporation and in conflict with its rights; he may not for personal gain divert unto himself the opportunities which in equity and fairness belong to his corporation. He is required to use his independent judgment. In the discharge of his duties a director must, of course, act honestly and in good faith..."

 

The words of Justice Cardozo in this context are well known:

 

"Many forms of conduct permissible in a workaday world for those acting at arm's length, are forbidden to those bound by fiduciary ties. A trustee is held to something stricter than the morals of the market place. Not honesty alone, but the punctilio of an honour the most sensitive, is then the standard of behaviour." (Meinhard v. Salmon (1928) 119], at 463).

 

            These fundamental principles are also applicable under our legal system. In truth, they were not formally expressed in the Companies Ordinance [New Version], since the legislature left the development of this subject to the courts. The Ordinance is at times merely a skeleton, taking on flesh and blood in the form of case law. Indeed, the courts perceived this fundamental principle at the very beginning of case law, and has since been developing it according to our needs, as part of the Israeli version of common law. Over thirty years ago, Justice Chesin already determined:

           

"Company directors act as agents and servants of the company. To a certain extent, they are trustees of the company, and as directors the intent of their actions must be for the good of the company, and for its good only. No other personal, extraneous interest may influence them or distract them from the company and its good" (Motion 100/52 [5], at 889).

 

            There have since been many rulings with the principal requirement that the director act loyally in serving the interests of the company. A director knowingly acting to the detriment of the company is in breach of his obligation towards it. A director acting without commercial logic, knowing that his acts will harm the company, is in breach of his obligation towards it. A director must act honestly in his relations with the company (see O.M. (T.A.) 3788/75 [10], following Mills v. Mills (1937-38) [18]), and when substantive suspicion arises that he is not acting in good faith and for the good of the company, the burden to refute it rests on him (C. A. 667/76 [6], at 287). The standards of behaviour, as Justice Cardozo said, are not those of the marketplace and are not the result of a struggle between equal forces. Therefore, the director may not be in a situation of conflict of interest between the good of the company and his own or someone else's good (C. A. 247/47 [7]; C. A. 267/55 [8]; C. A. 667/76 [6]). The duty of loyalty is a personal duty, and incorporates the duty to prevent other directors from breaching their obligations. These rules reflect the various aspects of the fiduciary, but are not exhaustive, since the list of situations to which the duty is applicable is not a closed list. The intention of the trustee is to provide a solution for commonly occurring problems in real life. It does not rest on its laurels. The general principle gives rise to secondary rules, and as commercial life develops, new secondary rules are created, to protect the intent of the fundamental principle.

 

51. What remedy is available to a company against its director who breached the obligation of loyalty towards it? This question should not be answered restrictively, since along with the development of the various duties of loyalty, there is a parallel development of remedies, for the "punishment must fit the crime." It would be unfortunate if the law were to recognize the various obligations but fail to provide suitable solutions for the breaches thereof. The relief must suit the duty, and the remedy must suit the breach. In this matter also, we have no need to examine all aspects of the subject, since the question arising in this appeal is merely thus: Is the company entitled to receive from the director all the monies it expended as a foreseeable result of the director's breach of trust? The answer to this question is in the affirmative (see Wallersteiner v. Moir (1974) [11]), at 1015). The director must make available to the company all the funds it lost as the foreseeable result of the breach of his obligation towards it (see L.C.B. Gower, "Principles of Modern Law," London, 4th ed., by L.C.B. Gower and others, 1979 at 607). The term "repayment" may be adopted in this regard, although the director does not repay what he received from the company, since the company's funds may sometimes be transferred directly to a third party, without the director receiving a penny. The term "restitution" may also be adopted in this regard, although the director is not compensating the company for the damaging act he committed towards it, but ensuring the return of the money it expended as a result of the breach of his duty of loyalty towards it. This can be interpreted as a form of special compensation (that is, compensation which is not damages: see Gower, ibid.). In effect, the semantic rubric is not decisive. It is the principle that is decisive, and its meaning is that the company be given effective remedy, with the aim of redressing the civil balance. Accordingly, a director who breached the duty of trust he owes the company, must "repay" the company or "compensate" it or "indemnify" it for the money it expended as a foreseeable result thereof, even if the money was not received by him, but by a third party (see R.R. Pennington, Company Law (London, 4th ed., 1979) 549). If several directors all breached their individual duties, thus causing the company to lose money, the aforesaid liability for indemnity rests on the directors "jointly and severally" (see In re Carriage Co-operative Supply Association (1884) [12]; In re National Funds Assurance Company (1878) [13]; Ramskill v. Edwards (1885) [14].

 

52. In applying these tests to the circumstances of the matter before us, did Kossoy and Drori act with the degree of loyalty required of them as directors of the Bank? As we have seen, no breach of trust can be attributed to them regarding the sale of Filco's shares in the Tiberias agreement. Kossoy and Drori believed that the purchasers of the shares were South African investors, and there is no breach of trust in the transaction with them. On the other hand, the two breached the duty of trust they owed the Bank regarding everything related to the Appelico and Orico transaction in the "Tiberias agreement," and everything related to the July and September agreements. As mentioned, commencing in March 1965, extensive discussions were held at the Bank regarding the provision of credit to Epstein and his group. The approach which was acceptable to the board of directors and active management was that the good of the company required the "closing of the tap" and refusal of additional credit to Epstein. Kossoy himself expressed this view by stating that "The good of the Bank does not permit the credit line to be expanded or continued" (Exhibit 40 of 3 May 1965). But here, in spite of this clearly stated attitude, "the tap was opened" following the "Tiberias agreements" and the Epstein group received credit from the Bank for the sale of the shares in the Bank held by Appelico and Orico, in the sum of 1,755,000 Israeli Pounds. This act was not made in good faith and for the good of the Bank. There was no commercial justification, in terms of the Bank, for extending this credit to Epstein. Not only was this extension of credit tainted with illegality - since the company was financing the purchase of its own shares, in violation of the prohibition specified by section 139 of the Companies Ordinance [New Version] - but in commercial terms the transaction endangered the solvency of the Bank. It was made without any further collateral. Therefore, even if Drori and Kossoy believed at the time that South African investors would join the Epstein group, they should not have assisted in the extension of further credit without appropriate collateral. No such collateral was provided. In performing this transaction, Kossoy placed himself in a position of conflict of interest; placing his own interest - as a shareholder in Appelico and Orico - before the Bank's interest. This breach of loyalty increased in severity when the July and September agreements were made, in which the Bank also financed - illegally - the purchase of its own shares, and the directors knowingly assisted it, thus breaching the obligation of loyalty they owed the Bank. Drori, who gave the actual instruction to transfer the funds, was aware that the July and September agreements were being financed by the Bank, and that the Bank was parting with its money without sufficient collateral. He caused injury to the Bank with his own hands. Within the framework of the July and September agreements, Kossoy acted in his own interests, not in good faith and for the good of the company. He knew that with the approval of the sale of the shares, Epstein and his group were acquiring control of the Bank. He knew that they would finance the purchase with the Bank's resources. He knew that this would make the Bank insolvent. In spite of everything, he assisted in the performance of the transaction as a director, this so as to flee from the Bank as a shareholder. Kossoy was aware - following the accountant's findings - that the solvency of the Bank was in danger, and that it was undergoing a severe crisis, which Epstein would cause to worsen. By all this, Kossoy breached the fiduciary duty he owed as a director of the Bank.

 

In his arguments before us - as in his arguments before the lower court - Mr. Amitai, pleading for Drori, depended mainly on section 90(a) of the Companies Ordinance [New Version], which states:

 

"The court is permitted, under such conditions as it sees fit, to exempt an officer from liability as aforesaid in section 89, in whole or in part, if it found that he acted honestly and reasonably and that he should lawfully be forgiven therefor."

 

            Mr. Amitai argues that Drori acted honestly and reasonably and that accordingly "he should lawfully be forgiven" for the breach of the obligation of trust. The provision of Section 90(a) of the Companies Ordinance [New Version] is difficult, and study of the literature and English case law does not make it any easier to understand. If the director acted honestly and reasonably, what obligation did he breach, and according to what criteria should he be "forgiven," and what does this forgiveness involve? These questions are evidently not simple at all, but we have no need to resolve them, since in our opinion Drori acted dishonestly and unreasonably. For Drori knew that the financing of the purchase of the shares was being made with the Bank's money. He assisted in it, in spite of the damage it was likely to cause the company. Drori clearly saw how the Bank's interests were being harmed by the illegal activities of the board of directors and the other managers, but did nothing to prevent it. Thus, for example, it is natural under such circumstances to bring all the facts, without any exception whatsoever, to the notice of the accountants and the Bank of Israel. He failed to do so. It is true that Drori acted neither in his own interest nor sought any benefit for himself. In this respect, his situation differs from that of Kossoy. However, that fact alone is insufficient to entitle him to the "forgiveness" specified in Section 90(a) of the Ordinance, a condition of which is that the director acted honestly and reasonably. Drori failed to satisfy these conditions (see Selangor United Rubber v. Craddock (1968) [15]).

           

54. To what relief is the Bank entitled from Drori and Kossoy? As we have seen, the two violated their functions, each violating his own function by his own actions. Their actions caused a single damage to the Bank, for which they are liable jointly and severally. The damage they caused the Bank is as follows: Firstly, the extension of credit in the sum of 1,755.000 Israeli Pounds for the purchase of shares in the Bank from Appelico and Orico; secondly, the extension of credit for the purchase of Filco's shares (in the July agreement), the purchase of the balance of Appelico's shares (in the September agreement), and the purchase of Kossoy's personal shares (in the July agreement). For the purchase of Filco's shares, the Bank provided credit in the sum of $740,000. Kossoy and Drori must repay this sum in entirety, regardless of the question of whether or not the funds were received by them. For the purchase of Kossoy's personal shares, the Bank provided credit in the sum of $10,983, and Drori and Kossoy must repay these sums to the Bank. For the purchase of Appelico's shares, the Bank paid $812,000. Of this sum, $352,000 remained in the possession of the Bank, and forms the basis for the claim of Banque Commerciale. Since Banque Commerciale's appeal should be dismissed, this sum is available to the Bank directly, and no ruling is made in favour of the Bank in respect thereof against Drori and Kossoy. Accordingly, Kossoy and Drori must compensate the Bank for the sale of Appelico's shares in the sum of $460,000. Thus Kossoy and Drori's total liability, jointly and severally, is for the sum of 1,755,000 Israeli Pounds and $1,210,983.

 

 

Filco: Shareholder's Liability.

 

55. Filco and Kossoy are not one and the same. The latter was a director of the Bank, who by his actions breached the fiduciary duty he owed the Bank as one of its directors. Filco was not a director of the Bank, nor was it bound by any duty of a director. Filco was, however, a shareholder in the Bank. It belongs to the Appelbaum-Kossoy group, which controlled the Bank. As a shareholder, and a member of the controlling group, is it bound by any duty towards the Bank? Is a shareholder in general, and a controlling shareholder in particular, bound by any duty towards the company? The starting point of the principle of English common law is that a shareholder is entitled to do whatever he wishes with his shares, and is not bound by any duty, neither to the company nor to the other shareholders. A share is property, and the shareholder is entitled to do whatever he wishes with his property (see Gower, supra, at 615). This approach has never been absolute, since English common law recognized the duty of a shareholder not to commit a fraud on the minority. Within this framework, the duty of the shareholder to act in good faith and for the good of the company has been recognized (see Allen v. Gold Reefs of West Africa Limited (1900) [16], at 671) as has the duty to act honestly towards it (see Scottish Co-operative Wholesale Society Ltd. v. Meyer (1959) [17]). Unlike the narrow English approach, a different approach has been developed in the United States, where a controlling shareholder is under a duty of loyalty both in wielding control within the company and in the sale of his shares, and this duty is incumbent upon him towards the company and towards the minority shareholders (see H.G. Henn and J.R. Alexander, Laws of Corporations (St. Paul, 3rd ed., 1983) at 653). Israeli case law has yet to deal with this matter at length, although it has been ruled that in a private company, which is similar to a partnership in this regard, a shareholder may owe a duty of trust towards the other shareholders (C A. 283/ 62 [9]), this in parallel to the recognition by Israeli case law that shareholders owe a duty not to act in a manner resulting in a "fraud on the minority" (see A. Felman, Applied Israeli Corporate Law (Karni, 3rd ed., 1981) vol. II, at 594).

 

56. Within the scope of this appeal, we have no need to discuss at length whether a shareholder is under any general duty of loyalty towards the company and towards the other shareholders. We are dealing with a new matter, with extensive practical and theoretical implications, and we will therefore do well if we act cautiously in developing this matter, answering any concrete questions arising and aiming to formulate an over-all approach on the basis of past experience. For the purpose of the appeal before us, the following proposition will suffice: a controlling shareholder who wishes to sell his shares owes a duty of loyalty to the company with respect to the sale, and must act in good faith and honesty toward it, and he will be in breach of his duty if he sells his shares to a buyer who to the best of his knowledge will strip the company of its assets and lead to its insolvency. This duty has been recognized in the United States for many years (see Insuranshares Corporation v. Northern Fiscal Finance Corp. (1940) [22]; Levy v. Feinberg (1941) [23]; Dale v. Thomas H. Temple Co. (1948) [24]). In this regard, where the transaction takes place in a number of stages, which in commercial terms could be viewed as a series, its entirety can also be viewed as a single entity in legal terms. Accordingly, a breach of loyalty can also be attributed to a shareholder with regard to actions which are to take place in the future, provided that they are foreseeable and constitute a part of the entire scheme, or series of actions (see Pepper v. Litton (1939) [25]). The basis of this duty rests on the fundamental principle discussed earlier: the controlling shareholder wields power in the company. He controls the property of others. The source of this power is the controlling shares, which entitle him to vote at the shareholders' general meeting and to appoint directors. Upon transferring this power to the purchaser, these rights are accorded to the latter. This power is likely to be abused. Accordingly, the law imposes a duty of trust upon the shareholder, so as to prevent him from abusing the power (see F.H. Easterbrook and D.R. Fichel, "Corporate Control Transactions" 91 Yale L.J. 698; A.A. Berle, "Corporate Powers as Powers in Trust" 44 Harv. L. Rev. 1049 (1930-31); D.C. Bayne, "A Philosophy of Corporate Control" 112 U. Pa. L. Rev. (1963-64) 22). It is true that a share is property, which its owner may treat in any way he desires. These options, however, are not unlimited. Shares may not be used to create a disposition which will, to the vendor's knowledge, lead to the company being stripped. The shareholder may not act with the attitude of "apres moi le deluge."He must consider the company he controls. He may not sell his shares to a purchaser with the knowledge that by the sale the purchaser will gain control of the company, exploit it, and cause its demise.

 

57. One may well ask what is the source in our law of this duty of loyalty of shareholders? We have already provided the answer. It is a known, recognized principle in our law that a holder of the controlling interest is subject to a series of duties of loyalty, which are designed to limit the one in control from abusing his power. This principle is expressed in many branches of the law, and is also expressed in corporate law. Accordingly, the duty of loyalty is incumbent upon the promoter and upon the director. By virtue of the self-same principle, the duty of loyalty also rests upon the holder of the controlling shares with regard to their sale. The promoter, director and controlling shareholder wield power, which they hold in trust, as Professor Berle said more than fifty years ago, "corporate powers as powers in trust" (see Berle, supra, and Pepper v. Litton (1939) [25], at 306). Indeed no formal specific recognition of this duty of loyalty on the part of a shareholder has yet been made in our legal system, but the fundamental principle upon which it is based has been part of our system for years. On the basis of this well-known, recognized fundamental principle, we are fully entitled to deduce new secondary duties, to suit our needs. An example of another field in which there has been a similar development is the field of negligence in torts, in which from time to time this court recognizes new duties of care in regard to negligence - this on the basis of the general principle of negligence as recognized by our system. This being so, we are no longer required to examine whether the very same result could be arrived at on the basis of the application of the principle of good faith specified in Section 39 of the Contracts Law (General Part), 5733-1973.

 

58. I have already stated that the duty of loyalty requires concretization, within which the unique legal relationship upon which the duty of loyalty is based must be expressed. The content of this duty of loyalty is not identical in all legal relationships in which it lies. The duty of loyalty of a director is not the same as the duty of loyalty of a shareholder. It must not be forgotten that a shareholder is an owner of property, and according to the general law of title, he is entitled to do whatever he pleases with his property. This freedom is not unrestricted, since one of the restrictions derives from the fact that the holding of the share gives him control of the company and this control requires him to act honestly, in good faith and for the good of the company. This conduct - which is part of the general regime of the duty of loyalty - is the result of a suitable balance of the right of ownership on the one hand, and control of the company on the other. The need for this balance is unique to a shareholder, and is not present in other relationships. A director is not permitted to sell his position, and there is no need to balance any such "freedom of sale" with his status as a director. Therefore, one cannot say that the duty of loyalty of a controlling shareholder is the same as the duty of loyalty of a director. Each duty of loyalty has its own content, since every power has its own extent. What balance is appropriate in the case of a controlling shareholder? This question has many facets, and we are interested in the balance appropriate to the sale of shares. In the matter at hand, it may be said that the controlling shareholder is free to sell his shares to any purchaser. unless he knows that the purchaser is about to acquire control of the company and strip it of its assets. This provides the appropriate balance between the prerogative of ownership on the one hand, and the protection of the good of the company on the other. This law is similar to another principle present in our system, whereby ownership does not justify the carrying out of an act which harms someone else (which is equivalent to section 14 of the Lands Law, 5729-1969). This principle protects the freedom of property and the shareholder's right to do whatever he pleases with his shares on the one hand, and assures protection of the interests of the company on the other. This principle is common in the United States both in the literature (see A. Hill, "The Sale of Controlling Shares," 70 Harv. L. Rev. 986 (1956-57); A.A. Berle, " 'Control' in Corporate Law," 58 Colum. L. Rev. (1958) 1212; Comment, "Sales of Corporate Control and the Theory of Overkill," 31 U. Chi. L. Rev. (1963-64) 725) and in case law (see Insuranshares [22]; Levy v. American Beverage Corporation (1942) [26]; Gerdes v. Reynolds (1941) [27]; Dale [24]). Note: I do not mean to say that we must adopt the balance extant in the United States between the ownership of a share and the power of control granted by the share, or that we must follow their approach in everything related to controlling shares. The matter before us raises a specific question, involving the breach of loyalty in the sale of controlling shares and liability to indemnify the company for the loss it suffered. Here we can learn from the balance present in the United States. Should other problems arise in the future - such as the "price" of control; whether the consideration for the sale of control belongs to the company itself, and whether a basis for the formation of the duty is the vendor's actual knowledge of the purchaser's intentions, or whether it suffices that he did not know in a case where a reasonable shareholder should have known; and other similar questions which have been raised in the United States - we will deal with them when, as and if they arise.

 

59. Is Filco a controlling shareholder? As is known, Filco itself held approximately 20% of the shares of the Bank. It belonged to the Kossoy-Appelbaum group, which prior to the "Tiberias agreements" was the controlling shareholder of the Bank, and which upon the sale of its shares to the Epstein group transferred control to it. Under these circumstances, I believe that the duties of loyalty which are incumbent upon controlling shareholders are incumbent upon Filco, since in this regard whoever belongs to the controlling group is subject to the duties of loyalty that control entails (see the Gardes case [27] and Perlman v. Feldmann (1955) [28]). It is membership of the controlling group that gives the power and imposes the duty of loyalty, since otherwise control is likely to "crumble," thus defeating the purpose of the fundamental principle underlying it. Since this is so, we are not required to examine whether Filco in itself, without regard to the Kossoy-Appelbaum control group, is in a position of control. Indeed, the concept of control is complex (see Berle, " 'Control' in Corporate Law", supra; W.N. Snell, Reflections on the Practical Aspects of "The Sale of Corporate Control" [1972] Duke L.J. 1193; Bayne, supra; A. A. Berle, "The Price of Power: Sale of Corporate Control," 50 Cornell L.Q. (1964-65) 628). The concept means different things in different contexts. Regarding the applicability of the duties of loyalty with regard to the sale of shares, it is sufficient that the shareholder is part of the controlling group, and he need not be the controlling shareholder himself.

 

60. As we have seen, a director who is in breach of the fiduciary duty he owes the company must repay the company any money it lost as a foreseeable result of the breach of his duty, whether such sums were received by the director himself or by a third party. A similar rule should rightly apply to a shareholder who is in breach of the duty of loyalty he owes the company. Accordingly, a controlling shareholder who sells his shares to a purchaser who makes the company insolvent must repay the company all sums the company lost as a foreseeable result of his breach which caused the insolvency. This relief includes, first and foremost, the company's money which came into the possession of the controlling shareholder himself, but it is not limited thereto. The liability for repayment also extends to sums received by third parties, whether such sums are the company's money, which it used to finance the purchase, or whether such sums are the company's money, which it lost as a foreseeable result of the transfer of control (see Algonac Marine Hardware Co. v. Cline; Insuranshares [22], and Dale [24] (1968) [29]; Henn, supra, at 659).

 

61. Filco belonged to the controlling group. It sold its shares to the Epstein group, thereby transferring control of the Bank to Epstein. Was Filco in breach of its duty towards the Bank as a shareholder? As we have seen, Filco owes a duty of loyalty towards the Bank. It must act towards it in good faith and honesty. It may not sell its shares to a purchaser with the knowledge that it will cause the destruction of the Bank. These duties of loyalty were breached by Filco. This did not take place in the "Tiberias agreements," but took place in the July agreements. In selling its shares in July, Filco knew that the purchasers of the shares were not South African investors, but the Israeli Epstein group. Filco knew that the financing would be provided by the Bank itself and that it would bring about the insolvency of the Bank. Filco knew that Epstein would purchase with the Bank's money not only its own shares, but also the other shares of the controlling group (in regard to which the option was renewed in July), as actually took place in the September agreement. At the time Filco agreed under those circumstances to sell its shares to the Epstein group, it was in breach of its duty to the Bank and it is liable to repay the Bank all the money that the purchaser took from the Bank to finance the purchase of those shares and other shares of the controlling group.

 

62. As we have seen, the shares in the Bank held by Filco were first sold in the "Tiberias agreement." We have ruled that this sale involves no breach of trust by Filco to the Bank. The July agreement replaced the "Tiberias agreement," and by virtue thereof a new sale took place, at a reduced price, and the shares were transferred to Feda. We have ruled that in this agreement Filco was in breach of the duty of loyalty it owed the Bank. Under these circumstances, the question is likely to arise whether one should deem the main transaction to be the one made in Tiberias. in regard to which there is no breach of trust, with the July agreement being merely a secondary agreement. for the purpose of carrying out that which had already been agreed upon. I believe that the answer is that each agreement must stand on its own merits. According to the Tiberias agreement, Filco undertook to transfer the shares in the Bank to the purchaser only upon full payment of the price of the shares. Failure to effect any of the payments entitled Filco to cancel the transfer of the shares. When it was discovered that no South African investors existed, and that the only source of the financing of the purchase was the Bank itself, Filco - as a shareholder in the Bank - should have objected to the financing of the acquisition by the Bank, which would have had the effect of rescinding the "Tiberias agreement." Filco did not do so. On the contrary: instead of rescinding the "Tiberias agreement," by virtue of the contractual power given to it, Filco entered into a new agreement, which worsened the Bank's financial situation. Under those circumstances, it is but natural that the July agreement stands on its own merits, and it suffices to establish the breach of trust by Filco.

 

63. It was argued before us that Kossoy's knowledge should not be attributed to Filco, since Kossoy's knowledge was acquired as a director of the Bank, and it should only be attributed to the Bank, not to Filco. Indeed, an agent's knowledge is attributed to the principal, if the knowledge is related to his function as an agent. Accordingly, in the case of an agent acting on behalf of two principals, knowledge regarding one principal is not attributed to the other. Nevertheless, where the agent's knowledge concerns his agency on behalf of both principals, it can be attributed to both. Such is the case before us. Kossoy's knowledge that the shares were being acquired by the Epstein group and that the funding was being provided by the Bank, and that no group of South African investors existed, was acquired both as a director of the Bank and as an agent - holding Filco's Power of attorney - and this knowledge should therefore be attributed to Filco itself.

 

64. To what relief is the Bank entitled against Filco? As we have seen, the Bank is entitled to indemnity for the damages it suffered as a result of the breach of trust by the controlling shareholders. In this regard, the question of whether or not the Bank's money, which was taken from it as a result of the breach of loyalty, came into the possession of the controlling shareholder or the possession of a third party is irrelevant. The controlling shareholder is liable for the Bank's damages, not only for its enrichment. Accordingly, Filco must indemnify the Bank both for the money that was taken from the Bank for the purchase of its shares and Kossoy's shares (in the July transaction), and for the money taken from the Bank for the purchase of Appelico's shares (in the September transaction), since the latter was a foreseeable result of the breach of loyalty. As we have seen, the total of these sums is $1,210,983.

 

65. We have discussed the joint and several liability of Drori and Kossoy. We have discussed Filco's liability. We believe that the liability of all three for payment of the sum of $1,210,983 is joint and several, since in spite of the fact that the duties differ - Kossoy and Drori breached director's duties, whilst Filco breached a controlling shareholder's duty - and the breaching acts differ, the damage is the same.

 

66. The lower court found Filco liable "jointly and severally" to compensate the Bank for the sum of 1,755,000 Israeli Pounds. It erred in so doing. This sum involves the sale of shares of the Bank held by Appelico and Orico in the "Tiberias agreements," and at the time they were entered into Flico was not in breach of any duty of loyalty towards the Bank, since it was entitled to assume, as Kossoy assumed, that the purchase would be made by South African purchasers.

 

67. The lower court found all the defendants liable to repay the Bank the sum of $427,000. As mentioned, this sum was received following the "Tiberias agreement" on account of the sale of Flico's shares. The lower court erred in so doing. This sum did not come from the Bank's resources, and there is no reason why the Bank should receive it. In their arguments before us, the Bank's representatives attempted to defend the conclusion reached by the lower court with the argument - which had already been discussed by the lower court - that by their conduct all the defendants caused heavy damages to the Bank, amounting to some 50 million Israeli Pounds, and that they were therefore entitled, within the framework of this general damage, to repayment of the sum of $427,000. We do not accept this argument. The scope of the hearing was fixed; it involved the breach of loyalty and repayment of sums related to the sale of the shares. On this matter, the plaintiffs brought evidence and a defence was deployed. A change to a completely different track should be avoided. We do not know what the other losses are, nor whether they resulted from the breach of loyalty by Drori, Kossoy and Filco.

 

68. Dr. Goldenberg, who pleaded for Filco, raised a general argument for the defence - in which Mr. Toussia-Cohen (pleading for Kossoy) and Mr. Amitai (pleading for Drori) joined - that no liability for compensation should be imposed upon Filco, Kossoy and Drori because the money which would be repaid to the Bank is likely to find its way into Epstein's account. According to Dr. Goldenberg, the law is that money involved in a breach of trust should not be repaid to the company if the money is destined to be returned to those who breached the trust (see Pennington, supra, at 549). We cannot address ourselves to this argument. It was not raised before the lower court, and it is presented here for the first time. In order to examine it, the factual basis concerning the matter trust be established, for example, a finding that the money which the Bank will receive will be transferred to Epstein's account. No such factual basis was established by the lower court, and we will not establish it in the court of appeal. For this reason only, without entering into an examination of the correctness of the argument itself, we cannot address ourselves to it.

 

69. The lower court based Filco's liability on the fact that it participated in Kossoy's activity. On the other hand, we based Filco's liability on the breach of its own duty. Since this is so, we have no need to adopt any position regarding the question as to whether we would have reached our conclusion on the basis of the lower court's approach. Within the framework of Filco's liability, we acted on the factual assumption that Filco knew - by virtue of Kossoy's own knowledge - that the Epstein group was gaining control of the Bank and financing the acquisition of the shares with the Bank's money, which was making it insolvent. Since this is so, we have no need to adopt any position with respect to the question as to whether liability should be imposed upon Filco, had we established as a factual finding that Filco did not know these facts, but that as a reasonable person, it should, under the circumstances, have known them. The question of "constructive knowledge" does not arise here and we wish to leave it unanswered. As to Kossoy's liability, the lower court based its ruling mainly on his liability as a shareholder in the Bank. On the other hand, we based Kossoy's liability on the basis of his status as a director of the Bank, and we therefore find it unnecessary to examine further the question of whether a corresponding liability should be imposed because of the few shares he held in the Bank. Moreover, Kossoy's liability was based on the breach of the duty of trust, which he owed the Bank as a director thereof. Accordingly, it was unnecessary to examine whether to impose liability upon Kossoy as a director for the breach of the duty of care he owed the Bank. Indeed, this appeal raises a great many questions in the area of corporate law, and we on our part have made every effort to decide only questions whose resolution are essential to the appeal.

 

 

Banque Commerciale's Claim

 

70. As we have seen (see paragraph 16 above), Banque Commerciale obtained its right by way of assignment from UBS, and accordingly Banque Commerciale has no more than does UBS. Does UBS have any right against the Bank? We have seen that UBS received the deposit by transfer from Filco. Filco itself is liable to repay the deposit to the Bank, since its receipt by Filco involves a breach of trust by Filco towards the Bank. The question is therefore whether the Bank's right of repayment against Filco stands against UBS as well, or is it the law that UBS's right is not affected by Filco's breach of trust? I believe that UBS has no more rights than does Filco, and just as Filco is liable to repay the deposit to the Bank - or more precisely, is not entitled to withdraw it from the Bank - UBS is equally liable to repay the deposit to the Bank. The reason for this is that in the tripartite agreement between the Bank, Filco and UBS, which serves as the basis for the transfer of the deposit from Filco to UBS, it was expressly specified that UBS was holding the deposit "on the same conditions" as Filco was holding it. I believe that this means that any claims the Bank has against Filco also pertain to UBS, both whether we deem the agreement between Filco and UBS to be an "assignment" or whether we deem it to be a novation. For this reason the appeal of Banque Commerciale is dismissed.

 

71. The result is thus as follows:

 

a.     We reject the appeal of Banque Commerciale (C A. 818/79). Banque Commerciale shall pay Bank Feuchtwanger the costs of the hearing, including advocates' fees, in a total sum of 500,000 Shekels. This sum is linked and shall bear interest until actual payment is made.

 

b.     We allow Kossoy's appeal (C. A. 817/79) in part and reject it in part, in such manner that Kossoy's liability towards Bank Feuchtwanger shall be set at the following sums: 1,755,000 Israeli Pounds and $1,210,983. These sums are to bear interest and linkage, as stated in the lower court's judgment. In view of the result, Kossoy shall bear the Bank's costs, including advocates' fees, in a total sum of 10 (ten) million Shekels. This sum is linked and shall bear interest at the rate of 4% until actual payment is made.

 

c.     We allow Drori's appeal (C. A. 585/82) in part and reject it in part, in such manner that Drori's liability towards Bank Feuchtwanger shall be set at the following sums: 1,755,000 Israeli Pounds and $1,210,983. These sums shall bear interest and linkage, as stated in the lower court's judgment. In view of the result, Drori shall bear the Bank's costs, including advocates' fees, in a total sum of 10 (ten) million Shekels. This sum is linked and shall bear interest at the rate of 4% Until actual payment is made.

 

d.    We allow Filco's appeal (C. A. 817/77) in part and reject it in part, in such manner that Filco's liability towards the Bank shall be set at $1,210,983. The sum is to bear interest and linkage, as stated in the lower court's judgment. In view of the result, Filco shall bear the Bank's costs, including advocates' fees, in a total sum of 5 (five) million Shekels. This sum is linked and shall bear interest at the rate of 4% until actual payment thereof.

 

e.     Kossoy and Drori shall bear the liability for the sum of 1,755,000 Israeli Pounds jointly and severally. Kossoy, Drori and Filco shall bear the liability for the sum of $1,210,983 jointly and severally. Kossoy and Drori shall bear the liability for the payment of costs jointly and severally.

 

Judgment given on 9th Tammuz 5744 (9 July 1984).

 

 

 

 

 

 

CA 6601/96 Appeal and Counter-Appeal

 

1.   AES Systems (appellant in appeal and respondent in counter appeal)

2. Bamberger Rosenheim Ltd. (appellant in appeal and respondent in counter appeal)

v.

1.  Moshe Sa’ar (respondent in appeal and appellant in counter appeal)

2.   State of Israel (respondent in appeal and appellant in counter appeal)

 

 

The Supreme Court Sitting as the Court of Civil Appeal

[August 28th, 2000]

Before President A. Barak, Justices T. Or, E. Rivlin

 

Appeal and counter appeal on the Judgments of the Tel-Aviv District Court (Justice A. Goren) on June18th, 1996 in CC 1331/87, 500/88, 565/89.

 

Facts: Appellant No.1 developed independent computer word processing systems.  Appellant no.  2 was the exclusive distributer of the systems in Israel, and also provided its customers in Israel with maintenance and repair services.  The respondent had been an employed by the appellant as a computer technician, and had at the time of his employment, signed both an agreement not to compete with the appellant in anything related to the marketing and repair of Linear systems, as well as an “Agreement to Protect Confidentiality,” according to which he was obligated to maintain the absolute confidentiality of information that he may obtain in the framework of his employment.

 

The respondent was fired after twenty eight months of work, and started a business of computer systems services.  He advertised his services in the newspaper as a repair and maintenance technician for computer systems, including Linear systems, he approached the customers of the appellant directly, using a customer list of the appellant’s.  The newspaper advertisement led to a contract with The Armament Development Authority (RAFAEL-operated by respondent number two), according to which respondent would provide Linear services to RAFAEL.  These services replaced the repair and maintenance services that had been given in the past to RAFAEL by the appellant.

 

Against the background of these events three suits were filed in the District Court.  In one suit, in the framework of which a temporary injunction was issued prohibiting the respondent from dealing directly or indirectly in the sale or provision of service to Linear word processors for a period of eighteen months from the day the respondent was fired, which did not apply to the contract with RAFAEL, the appellant sued the respondent, for violation of his obligations to it, for doing damage to its property rights and its reputation, and for appropriating its trade secrets.  In the second suit the appellants claimed that the respondent made use of the magnetic disks and diskettes which store backup programs, application programs and diagnostic programs that were developed by the appellant and disks that were prepared for use by them, thereby doing damage to their property rights, and violating their copyright.  In this suit it was claimed that RAFAEL is assisting the respondent in his prohibited actions.  The appellants demanded damages from the respondents, and from RAFAEL. RAFAEL filed a third-party notice.  The third suit, directed by the appellant against RAFAEL, sought the return of hardware equipment and software lists that were lent by the appellant to RAFAEL and for payment of fair use.  RAFAEL filed a countersuit in which it sought removal of a barrier that the appellant created in its workspaces.  It also demanded equipment that it purchased and did not receive, and payment in the amount of NIS 7,022 for expenses it incurred as a result of violation of the agreement that the appellant had with RAFAEL.  Consideration of all these suits was joined. 

 

The District Court (Vice-President, Justice A. Goren), in its judgment, dismissed the appellants’ claims inasmuch as they related to violation of copyright or damage to reputation.  It was also held that the respondent violated the agreement not to compete with the appellant’s business, and that the respondent made use of the customer list of the appellant within the eighteen month period, and that a contract with RAFAEL resulted from the violation of the agreement not to compete.  It was also held that it was not proven that contracts with other customers resulted in agreements between those customers and the respondent, within the eighteen month period, and therefore it was not shown that agreement of the respondent in this matter was violated.  The court also held that as a result of the agreement between the respondent and RAFAEL, RAFAEL ceased receiving Linear System maintenance services from the appellants.  The court determined compensation for the appellants in the amount of $25,000.  Additionally, the State of Israel (under whose aegis RAFAEL was operating) was ordered by the court to pay the appellant for the value of certain hardware and software items, which were given to RAFAEL by the appellants, and which remained in their possession.  The appeal and the counter-appeal were directed against the judgment of the District Court.

 

Held:  The Court allowed the respondent’s appeal voiding the award of damages to the appellant for the contract with RAFAEL.  The court denied the appellants’ appeal and the appeal of respondent no. 2.  The Court also denied the respondent’s appeal inasmuch as it related to software and hardware. The appellants were ordered to pay the respondent’s costs in the sum of NIS 15,000.

 

For the appellant—Z Hubers

For Respondent no. 1 —A. Loit

For Respondent no. 2 –R. Zakai-Newman

 

Basic laws cited:

Basic Law: Human Dignity and Liberty, s. 8.

Basic Law: Freedom of Occupation, s. 4.

Legislation cited:

Contracts (General Part) Law 5733-1973, ss. 19, 25(b), 30, 31..

Restrictive Trade Practices Law 5748-1988.

Commercial Torts Law 5759-1999.

Contracts (Remedies for Breach of Contract) Law 5731-1970, ss. 3(4), 4.

 

Israeli Supreme Court cases cited:

CA 614/76 Jane Doe v. John Doe IsrSC 31(3) 85.
CA 294/91 Chevra Kadisha KAHSHA “Kehillat Yerushalayim” v. Kestenbaum IsrSC 46(2) 464.
CA 239/92 “EGGED” Israel Transport Cooperation Society v. Mashiach IsrSC 48(2) 66.
HCJ 1683/93 Yavin Plast Ltd. v. The National Labour Court IsrSC 47(4)702.
LCA 5768/94 A.S.I.R Import, Manufacture, and Distribution v. Accessories and Products Ltd. IsrSC 52(4) 289.
HCJ 1703/92 C.A.L. Cargo Airlines Ltd. v. The Prime Minister, IsrSC 52(4) 193.
HCJ 28/94 Tzarfati v. Minister of Health IsrSC 49(3) 804.
CA 2247/95 General Director of the Antitrust Authority v. T’nuvah Center for Cooperation and Marketing of Agriculture Products in Israel Ltd. 52(5) 213.
LCA 371/89 Leibovitz v. Eliyahu Ltd. IsrSC 44(2) 309.
HCJ 588/84 K.S.R.  Asbestos Trade Ltd. v. President of the Antitrust Tribunal IsrSC 40(1)29.
CA 312/74 Cable and Electric Cable Company in Israel Ltd. v. Martin Christianpalour IsrSC 29(1) 316.
CA 4/74 Berman v. Misrad Lehovalat Masaot Pardes Hana – Carcur “Amal” Ltd. IsrSC 29 (2) 718.
CA 618/85 Ma’ayanot Hagalil Hamaravi Ltd. v. Tavori BEHAR Soft Drinks Ltd. IsrSc 40(4)343.
CA 2600/90 Elite Israeli Company for Manufacture of Chocolate and Candies Ltd. v. Serengah IsrSC 49(5) 796.
CA 1142/92 Vargus Ltd. v. Camax Ltd.  IsrSC 51(3) 421.
CA 136/56 Fuchs. v. Eylon and Etzioni Ltd. IsrSC 11 358.
CA 136/64 “Francitext”Ltd. v. Utzitel Ltd. IsrSC 18(3) 617.
CA 238/73 Sharabi v. Chamtzani, IsrSC 28(1) 85.
CA 157/88 “EGGED” Israel Transport Cooperation Society v. Meiron IsrSC 44(1) 522.
HCJ 935/89 Ganor v. State Attorney IsrSC 44(2) 485 at pp. 513.
CA 155/80 Rav Bariach Ltd. v. Amgar IsrSC 35(1) 817.
CA 566/77 Dicker v. Moch IsrSC 32(2) 141.
CA 1371/90 Damati v. Ganor IsrSC 44(4) 847.
CA 901/90 Nahmias v. Columbia Trade and Manufacture Ltd. IsrSC 47(1)252.
LCA 672/96 “EGGED” Israel Transport Cooperation Society v. Rachtman (not yet reported).
CA 369/74 “TromAsbest” Company for Assembly of Pre Structures Ltd. v. Zakai, IsrSC 30(1) 793.
CA 4628/93 State of Israel v. Efromim Residence and Initiative (1991) Ltd. IsrSC 49(2) 265).
CA 214/89 Avneri v. Shapira IsrSC 43(3) 840.

 

Israeli National Labour Court cases cited:

LA 164/99 Frumer and Checkpoint Software Technologies Ltd. – Redguard Ltd. (not yet reported).
LC 54 3-110/ First Class Service Ltd. – Mati Kosacks LCC 26, 451 at p. 462.
LC 42 3-74/ Vardi-City of Netanyah LCC 14 59.

 

English cases cited:

Hepworth Manufacturing Co. v. Riyott, [1920] 1 Ch 1, 12.
Nordenfelt v. Maxim Nordenfelt Guns and Ammunition Co. Ltd [1894] A.C.535.
Gledhow Autoparts Ltd v. Delaney [1965] 3 All. E.R. 288, 291.
Esso Petroleum Co. Ltd. V. Harper’s Garage (Stourport) Ltd [1967] 1 All E.R. 699.
Kores Manufacturing Co. v. Kolok Manufacturing Co. [1959] Ch. 108.
Lansing Linde Ltd v. Kerr [1991] 1 W.L.R 251.

 

French cases cited:

Cass. 5OC. 14 Mai 1992 Droit Social No. 12, 976 (1992).

 

Israeli books cited:

D. Friedman and N. Cohen Contracts 15 (Vol. A, 1991).
E. Zamir Contract Interpretation and Supplementation (1996).
A. Barak Interpretation in Law, Vol. 2, Statutory Construction (1993).

 

Israeli articles cited:

Porat ‘Considerations of Justice Between Parties to a Contract and Considerations of Guiding Behaviors in Israeli Contract Law’ Iyunei Mishpat 22.
Friedman “Contracts of Adhesion, Good Faith and Public Policy” Iyunei Mishpat 7, 431 at p. 433 (1979).
Gilo, ‘Toward a New Legal Policy toward Non-Compete Terms,’ Iyunei Mishpat 23, 63 (2000).
Cohen, ‘Freedom of Trade and Commercial Competition’ Iyunei Mishpat 19, 353 (1995).
Hermon, ““Public Policy” and the Limitations on Freedom of Occupation in the Perspective of Israeli and English Case Law,” The Cohen Book, 393,403 (1989).
Goldberg, ‘Limiting Freedom of Occupation of the Employee by Contract’ Mechkarei Mishpat 4, 7 (1987).
Goldberg ‘Freedom of Contract in Labour Law’ 672, 678 (1972)
Goldberg ‘Good Faith in Labour Law’ Sefer Bar-Niv 13 (1987).

 

Foreign books cited:

I.  T.  Smith and G.  Thomas, Industrial Law 86 (1996).
R. Upex, The Law of Termination of Employment 432 (5th. Ed., 1997)). 
Cheshire, Fifort and Furmston's, Law of Contract 420 (13th. Ed., 1996);
Chitty, On Contracts 890 (Vol. 1, 28th ed., 1999).
Trertel, The Law of Contract 416 (9th ed., (1995).
M. Weiss, Labour Law and Industrial  Relations in Germany 105 (1995).
A. Berenstein, Labour Law and Industrial Relations in Switzerland 134 (1994).
R.W. Arthure et al, Labour Law and Industrial Relations in Canada 138 (1993).

 

Foreign articles cited:

Hanna Bui-Eve, ‘To Hire or Not to Hire: What Silicon Valley Companies Should Know About Hiring Competitor’s Employees,’ 48 Hastings L. J. 981 (1997).
Gilson, ‘The Legal Infrastructure of High Technology Industrial Districts: Silicon Valley, Route 128, and Covenants Not to Compete,’ 74 N.Y.U.L. Rev. 575 (1999).
O’Malley, ‘Covenants Not to Compete in the Massachusetts Hi-Tech Industry: Assessing the Need for a Legislative Solution,’ 79 B.U.L.Rev. 1215 (1999).

 

Other:

Restatement 2d, Contracts, §§188, 188(1)(a).

 

 

JUDGMENT

 

President A. Barak

The Facts

 1.  Appellant No.1 developed independent computer word processing systems.  It used systems called “Linear systems”.   Appellant no.  2 (hereinafter, “the appellant”) received from appellant no. 1 the right of exclusive distribution of the systems in Israel.  It provided its customers in Israel with maintenance and repair services.  The respondent was an employee of the appellant.  He was employed as a computer technician.  At the time of his employment, he signed an agreement not to compete with the appellant in anything related to the marketing and repair of Linear systems.  This is the language of the agreement:

“The employee hereby undertakes not to compete with B/R [the appellant A.B.]  either directly or indirectly, whether or not he acts in his capacity as an employee of B/R, to the extent that any loss is caused by such competition to the business of B/R as distributor, marketer and service provider for equipment made by Linear and/or any other name by which such equipment will be called in the future.  So too the employee undertakes not to take any action that would undermine, eliminate, or damage B/R’s relationships with its customers."

The respondent signed an “Agreement to Protect Confidentiality.”  According to it he was obligated to maintain the absolute confidentiality of information that he might obtain in the framework of his employment.  The respondent was obligated not to make use of such information nor utilize it for commercial purposes.  Information that the respondent already possessed before beginning his employment and information that was available to the public was outside the purview of the agreement.  Both agreements were not limited in time. 

2.  After twenty eight months of work, the respondent was fired.  He started a business of computer systems services.  He took out an advertisement in the newspaper offering his services as a repair or maintenance technician for computer systems, including Linear systems.  In addition, he directly approached the customers of the appellant, using a customer list of the appellant’s that he had. As a result of the newspaper advertisement a contract was signed between the respondent and the Armament Development Authority (RAFAEL-operated by respondent number two) according to which the respondent would provide Linear services to RAFAEL.  These services came in place of the repair and maintenance services which the appellant had given in the past to RAFAEL.

3.  Against the background of these events three suits were filed in the District Court.  In one suit, the appellant sued the respondent for violation of his obligations toward it, for doing damage to its property rights and its reputation, and for appropriating its trade secrets.  In the framework of this suit the District Court granted a temporary injunction which prohibited the respondent from dealing directly or indirectly in the sale or provision of services for word processors of the Linear type until the expiry of eighteen months from the day the respondent was fired.  The injunction did not apply to the contract with RAFAEL.  In the second suit the appellants claimed that the respondent made use, in the course of providing services to his customers, of the magnetic disks and diskettes which store backup programs, application programs and diagnostic programs that were developed by the appellant and disks that were prepared for use by them.  In this the respondents, according to the appellants’ claim, violated their property rights and infringed on their copyright.  In this suit it was claimed against RAFAEL that it is aiding the respondent in his prohibited actions.  The appellants demanded compensation from the respondents, and from RAFAEL, for causing by their behavior the breach of contracts between the appellant and its customers, the breach of an implied term that arose from the work relationship between the appellant and the respondent, and for unjust enrichment.  RAFAEL for its part filed a third-party notice.  The third suit was directed by the appellant against RAFAEL, for the return of hardware equipment and software materials that were lent by it to RAFAEL and for payment of fair use for them.  RAFAEL for its part filed a countersuit in which it requested removal of a block that the appellant created in its workspaces.  It also demanded the supply of equipment that it purchased and did not receive, and payment in the amount of NIS 7,022 for expenses it incurred as a result of breach of the agreement that the appellant had with RAFAEL.  All of these suits have been joined for the purpose of consideration by the court.

 4.  In a comprehensive and thorough judgment the District Court (Vice-President, Justice A. Goren) dismissed the claims of the appellants inasmuch as they related to infringement of their copyright or damage to their reputation.  On the other hand, it was held that the respondent breached the agreement not to compete with the appellant’s business.  So too it was held that the respondent had made use of the customer list of the appellant.  Breach of the agreement not to compete yielded – within the eighteen months during which the temporary injunction was issued (this being the period to which the appellant limited its claims) – the contract with RAFAEL.  As for contracts with other customers based on the customer list in the possession of the respondent, it was held that it was not proven that these yielded -- during the limitation period of eighteen months -- agreements between those customers and the respondent and therefore it is not to be said that the respondent’s agreement in this matter was breached.  The Court held that as a result of the agreement between the respondent and RAFAEL, RAFAEL ceased to receive maintenance services from the appellants for the Linear systems in RAFAEL’s possession.  For these losses the court held that the respondent was to compensate the appellants in the amount of $25,000.  So too, a court ordered the State of Israel (under whose aegis RAFAEL was operating) to pay the appellant the value of certain hardware and software items given to RAFAEL by the appellants, and which remained in their possession.

The Appeals

5.  The appeal and the counter-appeal before us are directed against this judgment.  The appellants’ claim that it should be determined that the respondent made prohibited use of the programs that were developed by them and these actions damaged their property rights and their reputation.  They also claim that the District Court erred in holding that the marketing and advertising actions undertaken by the respondent during the eighteen months are not to be seen as a breach of their agreements with the appellants, even if this breach did not result in transactions.  The respondent, for his part, appeals the decision requiring him to pay damages to the appellant for his contract with RAFAEL.  He also appeals (alternatively) the amounts that were awarded.  The State of Israel (which operates RAFAEL) claims, in an appeal that was filed on its behalf, that it was inappropriate to require it to pay the appellants the value of the software and hardware items, either because they were not supplied to it at all or because the appellant is not entitled to payment for them.

Property Rights of the Appellant, Damage to Reputation, and Compensation for Software and Hardware Items

6.  The parties’ claims on these matters ask us to intervene in the factual findings of the trial court.  We will not do so.  The decisions of the District Court are based on findings that were determined on the basis of expert opinions and testimony.  These findings are well anchored in the evidentiary material and we will not interfere in them.  This also applies to the property rights of the appellant and to the damage to its reputation.  We have also not found that it would be appropriate to intervene in the judgment of the District Court as to the compensation for software and hardware items that were handed over to RAFAEL.  The factual findings in these matters rely on proper interpretation of the relevant documents and of the evidence that was brought before the District Court; we will not interfere in them.

Limiting Freedom of Occupation

7.  There are two questions before us: The one is whether the obligation of the respondent not to compete with the appellant is lawful; the second is whether it was lawfully determined that the respondent is not liable for the use that he made of the customer list, as this usage did not result in a contract with the customers within the period of eighteen months.  These two questions are related to one central issue, which relates to the validity of agreements which limit the freedom of occupation.  But the fundamental starting point for examining these issues is found in the provisions of section 30 of the Contracts (General Part) Law 5733-1973 which establishes:

"a contract whose execution, content, or purpose are illegal, immoral or against public policy -- is void."

"Public policy" reflects the fundamental approaches of Israeli society as to the appropriate level of behavior in contractual relationships.  It expresses the position of Israeli law as to what is permitted and what is prohibited in contractual relationships.  The content of public policy changes from society to society; it changes in any given society from one point in time to another point in time (see CA 614/76 Jane Doe v. John Doe [1] at p. 94).  The judge learns about the core values of Israeli society and the approach of Israeli law as to what is permitted and what is prohibited from the totality of values of the legal system.  Primary among these values are the constitutional values of the law and the regime.  Therefore, human rights anchored in the basic laws constitute a central source – even if not the only source -- from which the judge draws the values which come together to form the Israeli “public policy".  And note: human rights in the basic laws are directed toward public entities.  They do not grant, on their own and directly, rights to an individual as against another individual.  However, the basic rights -- and other constitutional provisions anchored in the basic rights -- establish a system of values and core concepts in the framework of which the law (the public and the private) operates and develops (see CA 294/91 Chevra Kadisha KAHSHA “Kehillat Yerushalayim” v. Kestenbaum  [2] at p.  531; see CA 239/92 “EGGED” Israel Transport Cooperation Society v. Mashiach [3]).  These core values also determine the content of "public policy."  They are not the only ingredients of "public policy."  The approaches of Israeli society to what is permitted and prohibited in contractual relationships are not only determined by the values which express human rights.  Public policy extends over further values, goals and interests, which reflect the policy of Israeli society (its public policy).  Therefore, national security, public peace, the welfare and strength of the nation are also values and interests which shape its  "public policy."

8.  The values of a legal system, its core values, purposes and interests, are in constant conflict.  When this conflict takes place in the framework of the basic laws themselves, it is resolved by the balances (vertical and horizontal) which apply to the matter (as to the vertical balance, the limitation clause in section 4 of the Basic Law: Human Dignity and Liberty and in section 8 of the Basic Law: Freedom of Occupation).  When this conflict takes place in the framework of private law -- and in our case, in establishing the parameters of "public policy" -- it is resolved by the proper balance between the conflicting values and interests.  This balance is determined by the relative weight of the competing interests and values in the framework of the private law.  And it should be noted that these values and interests are not solely the values and interests of the individual versus another individual.  These are also and primarily the values and interests of society as to the validity of contracts between individuals.  Indeed, "public policy" reflects the public interest which within its purview also takes into consideration the interests of various individuals.  It constitutes, by its very essence, a limitation on the parties’ free will.  Against this background we will focus our gaze on terms limiting the freedom of occupation.

Public Policy and Clauses Limiting Freedom of Occupation

9.  What does "public policy" require as to terms between employer and employee which limit the freedom of occupation, and in our case, terms by which upon termination of employment an employee agrees not to compete with the employer and not to make use of information received during his period of employment?  In order to develop "public policy" in this context it is necessary to understand the values, principles and interests competing for primacy, and the proper balance between them (see the judgment of the National Labour Court LA 164/99 Frumer and Checkpoint Software Technologies Ltd. – Redguard Ltd. [29] (para. 11) (hereinafter: "the Checkpoint case”)).  We will open with values, principles and interests which support granting validity to the contractual obligations the parties have taken upon themselves.  A first principle that is to be taken into account is freedom of contract.  From this principle the approach is derived that contracts are to be kept: pacta sunt servanda.  The contract is the "law" that the parties have established between themselves and which they must keep.  A civilized society cannot exist and develop if contracts that are made are not honored.  The public interest – an interest that reflects concepts of justice, morality and social efficiency together – is that obligations that a(n adult) person takes upon himself will be honored by him (see D. Friedman and N. Cohen Contracts 15 (Vol. A, 1991)[39]; E. Zamir Contract Interpretation and Supplementation (1996)[40]; A. Porat ‘Considerations of Justice Between Parties to a Contract and Considerations of Guiding Behaviors in Israeli Contract Law’ [42] at 647).  And note: I do not hold that it is "public policy" that contracts are to be kept.  Public policy is the weighted result which results from the internal balancing of values and principles which are under consideration.  However, I am of the opinion that freedom of contract and the performance of contracts are central values and interests which come together to form – in their balancing with other interests and values -- "public policy" in Israel (see Friedman “Contracts of Adhesion, Good Faith and Public Policy” [43] at p. 433).  The principle of freedom of contract is to be given substantial weight, as it reflects a constitutional right and a central public interest.

10.  A second interest that is to be considered is the personal advantage (to the employer) and the public advantage (to society as a whole) in protecting the employer from competition by the employee in general, and from use of information that he acquired from the appellant, in particular (see HCJ 1683/93 Yavin Plast Ltd. v. The National Labour Court [4] at p. 708).  In this context the investment of the employer in his business overall is to be particularly emphasized, as well as his investment in training his employees and in his trade secrets, in particular.  (See Gilo “Toward a New Legal Policy toward Covenants not to Compete” [44] at 63).  This would be the interest (private and public) that the employer be given protection for his investments in training his employees, and in building a client base and work methods.  Certain aspects of this interest are anchored in the freedom of property itself.  Other aspects stem from the public interest.  Indeed, there is a concern that if the employer is not able to protect these interests, he will not invest the necessary investments, and the public interest will be damaged (compare LCA 5768/94 A.S.I.R Import, Manufacture, and Distribution v. Accessories and Products Ltd. [5]).

11.  I have explained two considerations which support the validity of clauses limiting freedom of occupation.  What are the values, principles, and interests which are found at the core of the approach which desires to invalidate these clauses?  A first principle that is to be considered is freedom of occupation.  This is a constitutional principle, and is anchored in the Basic Law: Freedom of Occupation.  It is derived from human dignity, and from freedom of thought and action.  The significance of freedom of occupation is, inter alia, the freedom of an employee who concluded an employment relationship with his employer to contract with any employer with whom he desires as well as the freedom of the employee to start a business of his own, without being bound by agreements limiting trade.  Freedom of occupation is derived from freedom of competition.  (See HCJ 1703/92 C.A.L. Cargo Airlines Ltd. v. The Prime Minister [6]; HCJ 28/94 Tzarfati v. Minister of Health [7]).  However, freedom of competition is a public interest that stands on its own (see CA 2247/95 General Director of the Anti-Trust Authority v. T’nuvah Center for Cooperation and Marketing of Agriculture Products in Israel Ltd. [8] at p. 229). It was justly noted that "free competition is likely to bring about reduced prices, improved quality of the product and improvement of the service which is given with its sale" (President Shamgar in LCA 371/89 Leibovitz v. Eliyahu Ltd. [9] at p. 327; HCJ 588/84 K.S.R.  Asbestos Trade Ltd. v. President of the Antitrust Tribunal [10] at p. 37; Cohen “Commercial Competition and Freedom of Occupation [45] at p. 354 (1995)).  Expression for this public interest has been given in Israeli law inter alia  in anti-trust legislation (See the Restrictive Trade Practices Act 5748- 1988)  At the foundation of this law is competition, which was intended to ensure efficient allocation of resources and increased efficiency (see 2247/95 supra, at 229)  Judge Adler rightly emphasized in the Checkpoint case that: 

“The modern market is based on the existence of free competition in the open market and a free economy, inter alia, as to capital, and particularly human capital....  Free competition advances the marketplace and brings about, inter alia, reduction in prices for the consumer.  A competitive market encourages establishment of new companies, including companies started by employees who compete with their previous employers.  The employees offer their talents to various employers and compete with each other for places of work.  The employers on their part, offer improved working conditions with the goal of attracting skilled labor. . .  Society is interested in rapid and free transfer of information in the marketplace."  (Ibid. para. 14).  

This principle of freedom of occupation -- and the freedom of competition derived from it -- is to be given heavy weight, as it reflects a constitutional right and important public interest.

12.  A second interest which is to be considered is the employee himself.  His labor is his property, spiritual and physical.  It is the basis for his self-realization and fulfillment.  His freedom of choice is his life.  His capacity to choose an occupation for himself is the source of his existence and his property.  His training is the means by which he will be able to compete in the workplace.  Keeping him from his work for a specified period of time may remove him entirely from the workforce and bring about the destruction of many years of training.  "A person's place of work, where he spends at least a third of his day, is not merely a means of support, but a place from which he hopes to achieve self-realization and fulfillment.  Limiting the mobility of the employee will damage his right to personal fulfillment" (The Checkpoint case, paragraph 14).  This is primarily so in the context of employment in the field of high-tech.  These interests are first and foremost the interests of the employee.  But they also constitute the interest of the public.  "The good of the public demands that generally, knowledge, rules and professional skills acquired by an employee in his work will be used without limitation, as such use is a blessing to the individual and the public as one" (Justice Berinson in CA 312/74 Cable and Electric Cable Company in Israel Ltd. v. Martin Christianpalour [11] at p. 320; Hermon, ““Public Policy” and the Limitations on Freedom of Occupation in the Perspective of Israeli and English Case Law,” [46] 403).  This is primarily so in the fields of high-tech, in which the public as a whole has an interest in their development for the good of society.  Indeed, the public good justifies recognizing the freedom of the employee to choose for himself employment at his will.  This was justly noted by Judge Astbury in the Hepworth case (Hepworth Manufacturing Co. v. Riyott [1920] [32]) when he said:

“A man’s aptitude, his skill, his dexterity and his manual and mental ability may not, nor ought to be, relinquished by an employer.  They are not his masters [sic] property, they are his own, they are himself.”  Moreover, in a contractual relationship, the employer and the employee are not of equal status.  The employer generally is in a stronger bargaining position.  Justice Berinson discussed the “weakness of the employee versus the employer, who may dictate the terms of the employment contract."  (CA 4/74 Berman v. Misrad Lehovalat Masaot Pardes Hana – Carcur “Amal” Ltd. [12] at p. 722). 

The National Labour Court emphasized that "labour law is guided by a basic principle, which is based on the presumption of the fundamental inequality between the power of the employee and the power of the employer".  (Checkpoint case, paragraph 14).  Of course, this inequality changes over time.  The matter is conditioned on the structure of the labour market and the strength of the professional association.  However, in principle it may be said that the employee's interest and the public interest is to protect the work capacity and creative capacity of the employee.

Balance between Conflicting Considerations

13.  The various considerations which come together to form "public policy" do not all lead in one direction.  We have before us "competing" considerations (Vice-President Ben-Porat in CA 618/85 Ma’ayanot Hagalil Hamaravi Ltd. v. Tavori BEHAR Soft Drinks Ltd. [13] at p. 348; see also CA 2600/90 Elite Israeli Company for Manufacture of Chocolate and Candies Ltd. v. Serengah [14] at p. 808).  The one pair of considerations leads in most cases to the recognition of the validity of contractual clauses limiting the freedom of occupation of the employee.  The second pair of considerations also leads in most cases to invalidating such contractual terms.  The normative content that will be given to the concept of "public policy" constitutes, therefore, the result of the balance between the conflicting values, principles, and interests.  I have explained this in one of the cases, when I noted:

“As against the freedom of occupation stand other values, which the law also seeks to protect.  The protection given to freedom of occupation is a result of the balance that stems from the confrontation between freedom of occupation on the one hand and other individual liberties (such as freedom of property, freedom of contract (as part of human dignity and liberty) on the other, and the confrontation between the freedom of occupation and the public interest (such as the public interest in the protection of professional secrets).  . . . as against the freedom of occupation of the employee and the new employer stand the interests of the original employer that are worthy of protection, including his property (section 3 of the Basic Law: Human Dignity and Liberty) and perhaps also his privacy (section 7).  The freedom of contract of the original employer and the public interest are also to be considered.” (HCJ 1683/83 [4] supra at p. 708; see also CA 239/92 supra, at p. 72; CA 1142/92 Vargus Ltd. v. Carmax Ltd. [15]; see also LC 54 3-110/ First Class Service Ltd. – Mati Kosacks [30] at p. 462).

14.  Israeli case law, in the footsteps of English case law, has determined that the criterion for balance between the competing interests is reasonableness.  A contractual limitation on the freedom of occupation of the employee will not damage “public policy” if the limitation is reasonable in terms of the interests of the parties and in terms of the public interest.  Lord MacNaghten’s words are well known:

 “It is a sufficient justification, and indeed it is the only justification, if the restriction is reasonable -- reasonable, that is, in reference to the interest of the parties concerned and reasonable in reference to the interests of the public, so framed and so guarded as to afford adequate protection to the party in whose favour it is imposed, while at the same time it is in no way injurious to the public” (Nordenfelt v. Maxim Nordenfelt Guns and Ammunition Co. Ltd [1894] [33]).

These words and similar ones have been quoted at length in Israeli case law (see CA 136/56 Fuchs. v. Eylon and Etzioni Ltd. (hereinafter: “the Fuchs case”) [16] at p. 361; CA 136/64 “Francitext”Ltd. v. Utzitel Ltd. [17] at p. 626; CA 238/73 Sharabi v. Chamtzani [18]; CA 4/74 [12] supra; CA 157/88 “EGGED” Israel Transport Cooperation Society v. Meiron [19] at p. 526).  Of course the reasonableness test is an appropriate and good test.  However, it does not advance us very much, as the key question is what are the tests for determining the reasonableness of the contractual limitation.  Reasonableness means proper balance between competing values, interests and principles.  (See HCJ 935/89 Ganor v. State Attorney [20] at p. 514; A. Barak Interpretation in Law, 663 (volume two, 1993) [41]).  The balance is appropriate if we give the correct weight to the various considerations that are to be taken into account.  What is the proper weight -- and what, therefore, is the proper balance -- among the various considerations that are to be taken into account in providing an answer to the question whether the employee’s agreement not to compete is reasonable?

"Legitimate Interests”

15.  The fundamental starting point should be to avoid the approach of "all or nothing".  It is not to be said that all clauses limiting the freedom occupation of the employee who departs his workplace are consistent with "public policy."  So too, it is not to be said that all such clauses go against "public policy."  The validity of clauses which limit freedom of occupation should be determined by the legitimate interests which they protect.  Indeed, this was the approach taken by the Supreme Court when it placed the "legitimate interests of the parties and the public” in the center of its analysis.  Justice Berinson explained this, noting:

"the limitation must meet the double condition that it is necessary for the protection of the legitimate interests of the employer from whose workplace the employee has departed and that it is for the good of the public" (CA 312/74 [11] supra  at  319). 

Justice Bechor reiterated this approach noting:

"the general law is that there exists the right to freedom of occupation in the field of the employee who has left a place of work with an employer.  And if there is an agreement which limits him in this freedom of occupation after the conclusion of his work with the employer, two conditions must be met, in order for this limitation to be valid.  The first condition is that it is necessary to protect the legitimate interests of the employer from which the employee has left, and the second condition is that this is also necessary for the good of the public in terms of the interests of the two parties" (CA 155/80 Rav Bariach Ltd. v. Amgar  [21] at p. 825).

M. Goldberger wrote in a similar vein:

"there is nothing wrong with limiting the right of a person to choose their occupation and employment up to the boundaries of the ‘limited right’ of his former employer in protecting his legitimate interests" (Goldberg, ‘Limiting Freedom of Occupation of the Employee by Contract’ [47] at 27 (1987)).

Professor Cohen takes a similar approach:

"a valid limitation of freedom of occupation is one that protects a legitimate interest of one in whose favor it is applied, and it must be reasonable both in terms of the parties and in terms of the public (Cohen, ‘Freedom of Trade and Commercial Competition’ [45]).

Comparative law undertakes a similar approach (as to the appropriate use of comparative law in the matter of limitation of freedom of occupation see CA 566/77 Dicker v. Moch [22] at p. 146).  The American Restatement 2d (Contracts) [61] establishes that a non-competition clause between an employer and employee is not reasonable if (section 188(1) (a)):

"The restraint is greater than is needed to protect a promisee’s legitimate interests."

English law takes a similar approach (see I.  T.  Smith and G.  Thomas, Industrial Law 86 (1996) [50] as well as Gledhow Autoparts Ltd v. Delaney [1965] [34]).  This approach is also common in French law (see Cass. 5OC. 14 Mai 1992 Droit Social No. 12, 976 (1992) [38].  Indeed, the relevant question is what are the interests considered legitimate -- in terms of the parties and the public --by the legal system, which clauses limiting freedom of occupation lawfully protect.

16.  In connection with "legitimate interest" it has occasionally been emphasized in the case law that both the legitimate interests of the parties and the legitimate interests of the public are to be considered, and that the public interest is secondary to the legitimate interests of the parties.  The following words of Justice Berinson which relate to the consideration of "the public good" are typical:

"the public good remains important; however, it has always been of secondary importance compared with the first reason which relates to the interest of the parties themselves" (CA 4/74 [12] supra, at p.722; see also CA 1371/90 [23] supra; CA 238/73 [18] supra at p.  91).

However, it has been emphasized "there exist extraordinary cases, as in the example of the creation of a harmful monopoly, in which the public interest would be sufficient to justify invalidating a clause of that type" (CA 901/90 Nahmias v. Columbia Trade and Manufacture Ltd. [24] at p. 264).  Personally, I do not believe it is appropriate to distinguish between the legitimate interests of the parties and the legitimate interests of the public.  This is a matter of invalidating a contractual clause on the grounds of "public policy."  It appears that the perspective is that of the public.  The legitimacy of the parties’ interest is determined, therefore, from the perspective of public policy.  Moreover: the various human rights -- such as freedom of contract, freedom of occupation, property rights and other human rights -- express both the private interest and the public interest.  Indeed, we must not separate between the legitimate interests of the parties (as opposed to an undefined interest) and the public interest.  This is a matter of the public interest, which takes account of the totality of the facts, including the legitimate interests of the parties.  Lord Pierce discussed this in a key case on this issue:

“Although the decided cases are almost invariably based on unreasonableness between the parties, it is ultimately on the ground of public policy that the court will decline to enforce a restraint as being unreasonable between the parties...  There is not, as some cases seem to suggest, a separation between what is reasonable on the ground of public policy and what is reasonable as between the parties.  There is one broad question: is it in the interest of the community that this restraint should, as between the parties, be held to be reasonable and enforceable?"(Esso Petroleum Co. Ltd. V. Harper’s Garage (Stourport) Ltd [1967] [35] 724).

Indeed, the employer has his own interest and the employee his own interest.  Those interests may be different from the public interest.  But we are not interested in the parties’ interest.  We are interested in the legitimate interests of the parties.  And the legitimacy of the interest is determined by general considerations of the legal system, its principles and approaches.  The public interest and the legitimate interests of the parties are one and the same.  Therefore, whilst I will continue to discuss the legitimate interests of the parties and the legitimate interests of the public, I do not see them as separate concepts, but a uniform concept of the legitimate interests of the public ("public policy") which takes into account for its part, inter alia, the parties’ interests, whereby some of them will be protected (the "legitimate" ones) and the others will not be protected.

17.  From the perspective of the legitimacy of the interests the following conclusion is warranted: as a rule, the employer does not have "a legitimate interest" that a non-competition agreement will be given validity, without any other connection to the other interests of the employer; similarly, as a rule the employee does not have a "legitimate interest" that a non-competition agreement will be invalidated, without any connection to the other interests of the employer.  Indeed, as a rule, the employer's interest in preventing a former employee from competing with him, without this coming to protect additional interests (beyond the non-competition), such as trade secrets or customer lists, is not a legitimate (nor a "protected") interest.

Non-Competition for its Own Sake

18.  I will open with the employer’s interest that a former employee not compete with him.  In this matter we must presume that the employer does not have trade secrets or customer lists or another “legitimate interest” which he seeks to protect.  The single interest claimed by the employer is his wish – a wish that is expressed in a non-competition clause– that his employer not compete with him.  Is this “bare” interest – non-competition “on its own” – a “legitimate” interest to be protected, in such a manner that a non-competition clause will not be considered against “public policy”?  This problem came before the court in the Fuchs case, in which Justice Landau distinguished between an employee’s agreement with his employer not to compete with him and a contract in which the seller of goodwill undertakes an obligation vis-à-vis the buyer not to deal in a competing business.  In relating to the first type of case – the type we are dealing with in this appeal – Justice Landau writes:

“The tendency to invalidate the agreement is much greater in the first type.  The reason for this is that in such cases the employer is not protecting an existing interest but is trying to obtain an advantage he is not entitled to, as the rules of commerce require him to resign himself to the competition of any person dealing in similar trade, and this includes the competition of his employee, after he has left his employment, with the condition that the employee is not utilizing to his advantage the trade secrets of his employer or the special ties which he made with the clients of his employer during the period of his employment with the employer.  Therefore, the court provides a remedy for the employee on whom the employer has imposed, due to his superior bargaining position, an agreement which limits his freedom of occupation – and permits the prohibited.” (Fuchs case, p. 361)

In a similar vein Justice Bechor held:

“The general law is that there exists a right to freedom of occupation in the profession of the employee who has left his employer’s workplace.  If there is an agreement which limits him in this freedom of occupation after the conclusion of his work with the employer, two conditions must be met so that this limitation will be valid.  The first condition is that it is necessary for the protection of the legitimate interests of the employer which the employee has left, and the second condition is that the matter also is necessary for the good of the public in terms of the interest of both parties.  The good of the public requires that the departing employee will generally be able to make use, without limitation, of the general knowledge and skill that he acquired in his work.  The legitimate interest of the employer is to protect his trade secret, and that is the first condition necessary to justify the conditioning of the limitation of freedom of occupation” (CA 155/80 [21] supra, at p. 825).

Justice Bejski repeated the same principal:

“Inasmuch as it is a matter of general knowledge and even professional skill that was acquired during the course of employment, the public interest requires that the employee will be able to used them with another employer or as an independent.  If you say otherwise, this may sentence the employee to abandoning the immediate profession for which he has qualified and he may become a burden on the public.  Not so as to special trade secrets which typify a specific business, the use of which by the employee may cause a loss to the employer.  As to the latter, and this includes ties with suppliers and customers, the employer is entitled to protection” (CA 1371/91 [23] supra, at p. 854).

This is also the approach of the National Labour Court.  In the Checkpoint Case the National Labour Court emphasized that “absent ‘trade secrets’ the principal of freedom of occupation prevails over the principal of freedom of contract” (Ibid, para. 14). 

President Adler noted that “a legal system protects the property of the employer, even during consideration of suits whose purpose is to limit an employee who worked with an employer from handing over trade secrets which belong to him.”  We find that as a rule a “bare” agreement not to compete, which does not protect the interests of the employer beyond the interest of non-competition “for its own sake” (such as his interests in protecting trade secrets and customer lists) does not shape a “legitimate interest” of the employer, and is subject to be invalidated as being against “public policy” (but see LCA 672/96 “EGGED” Israel Transport Cooperation Society v. Rachtman [25]).

19.  This is also the law in England.  In discussing non-competition agreements by an employee Professor Upex writes:

“To be enforceable, such covenants must protect the employer’s legitimate business interests, either trade secrets or goodwill and trade connections. It is not possible to prevent competition as such” (R. Upex, The Law of Termination of Employment 432 (5th. Ed., 1997)) [51].  Cheshire, Fifort and Furmston's, Law of Contract 420 (13th. Ed., 1996) [52]; see also Chitty, On Contracts 890 (Vol. 1, 28th ed., 1999) [53]; Trertel, The Law of Contract 416 (9th ed., (1995) [54]).

Jenkins, L.J. discussed this, noting:

 “An employer has no legitimate interest in preventing an employee, after leaving his service, from entering the service of a competitor merely on the ground that the new employer is a competitor” (Kores Manufacturing Co. v. Kolok Manufacturing Co. [1959]  [36] 125). 

Similar law applies in the United States.  The employer does not have a legitimate interest in preventing competition for its own sake.  He must point to an additional interest beyond the non-competition itself, such as trade secrets or customer lists (see Restatement [61] ibid, par. 188).  The German, Swiss, and Canadian, law take a similar approach. (see M. Weiss, Labour Law and Industrial Relations in Germany 105 (1995) [55]; A. Berenstein, Labour Law and Industrial Relations in Switzerland 134 (1994) [56]; R.W. Arthure et al, Labour Law and Industrial Relations in Canada 138 (1993) [57]).

20.  We will now turn to the employee's interest in competing with the employer.   Our premise here is that the employee undertook not to compete with his employer after the conclusion of his employment.  The employee seeks to be released from this obligation.  His claim is that this obligation damages his ability to compete with his employer.  Is this "bare" interest -- the competition "for its own sake" -- a "legitimate" interest that is to be protected, in a manner that a contractual obligation which limits it will be against "public policy"?  Similar to the matter of the employer, here too the answer is that only a legitimate interest of the employee will be sufficient to justify invalidating clauses limiting freedom of occupation.  The employee does not have a "legitimate interest" in competing with his employer under all circumstances.  There exist employer interests (such as his interest in protecting trade secrets and customer lists) which are worthy of protection.  In the framework of these interests, the employee's interest in competing retreats, and the employee's obligation not to compete with his employer is validated (see the Fuchs case, p. 361; CA 155/80 [21] supra, at p.  825).  Justice Berinson explained this, noting:

"The big difference between the employee's duty to protect the employer’s professional secrets and secret information and the limitation of freedom of occupation of the employee after his departure from employment with the employer must be pointed out.  Trade secrets and secret information are property rights of their owners and the employee is prohibited from using them for his own purposes or from revealing them to others at any point in time" (CA 312/74 [11] supra at 319). 

In a similar vein Justice Bejski noted, when relating to a term between an employer and employee limiting the freedom of occupation of the employee:

"The tendency to invalidate a restrictive clause  in an agreement of the first type is stronger -- because in that case the employer attempts to achieve an advantage that he is not entitled to, and this is as long as the employee does not take advantage of trade secrets or commercial ties that he established  during his work with the employer.” (CA 369/74 [26] supra at 796)

21.  What are the reasons that lie at the base of the approach that freedom of competition is not absolute, and that it does not always exist (as the employee claims) and is not always to be prevented (as the employer claims relying on a contractual obligation)?  My answer is that at the base of this approach there are three reasons: First there is the proper balance between the constitutional rights of freedom of contract on the one hand and freedom of occupation on the other.  This balance requires mutual concessions.  Freedom of contract is recognized.  The obligation of the employee not to compete with his employer is fulfilled.  However, it holds only where it protects a legitimate interest of the employer.  Similarly, freedom of occupation and the right to compete which derives from it -- are recognized.  The right of an employee to find himself an occupation, even if he is competing with his employer, is fulfilled.  However, it does not apply where it damages a legitimate interest of the employer.  Thereby, a proper balance between human rights which are competing for supremacy is found; second is the proper balance between the employer's interest in protecting his business and the employee's interest in fulfilling his employment potential.  This balance is achieved according to considerations of the public good.  As a rule, the public good demands that the trade secrets and customer lists of the employer are protected from use by an employee after his departure.  The same public good generally demands that the employee be enabled to compete with his employer and develop his employment potential, without being bound by an obligation that he undertook under conditions of what are largely unequal bargaining conditions.  Goldberg explained this, noting:

 “The public, as such, has an interest in developing the potential of the employee, and an employer is not entitled to prevent competition by his former employee even if said employee obtained all his knowledge from the employer.  However, if the employer has "a pure property interest" in preventing competition of this type, it is possible... to enforce a clause limiting freedom of occupation." (Goldberg ‘Freedom of Contract in Labour Law’ [48] at 678 (1972); 1371/90 [23] at 854).

Third, this balance reflects the relationship of trust that exists between an employee and employer.  This relationship of trust justifies obliging the employee not to do damage to the employer by means of use of secret information that has come into his possession during his employment (see LC 42 3-74/ Vardi-City of Netanyah [31] 59; Goldberg ‘Good Faith in Labour Law’ [49]).  I explained this in one of the cases when I noted:

"The employee has an obligation, derived from the relationship of trust between him and his employer and anchored in the contract with the employer and in the need to implement a contract in good faith, to protect the employer's trade secrets, not to use them for his own purposes or for the purposes of others and not to reveal them other than with the employer's permission" (HCJ 1683/93 [4] supra at 707).

So too this balance reflects the proper laws of commerce (see Commercial Torts Law 5759-1999), the principle of good faith and the fair conduct between employer and employee in our society (compare LCA 5768/94 [5] supra).  Justice Strasberg-Cohen explained this in one of the cases:

"One must consider the public interest in establishing a behavioral norm characterized by fairness and good faith.  In principal, such a balance requires that an employee who has left a workplace protect the trade secrets of his previous employer, live up to his duty of trust in him and not be unjustly enriched at his expense" (CA 1142/92 [15] supra at 429).

22.  Thus, the reasons I have explained justify a middle ground, according to which in the overall balance freedom of occupation prevails when all that stands against it is the employer's interest in non-competition, while freedom of contract prevails when alongside it stands a legitimate interest of the employer such as a "proprietary" or "quasi-proprietary” interest of the employer.  It is then the case that limiting competition “for its own sake” – a “bare” limitation which does not protect the employer’s interest beyond the interest in non-competition – does not protect any “legitimate interest” of the employer at all.  It goes against the public good and it will be invalidated in the framework of “public policy”.

On the other hand, limitation of competition which is intended to protect the interests of the employer in trade secrets, customer lists, reputation and the like the "legitimate interests" of the employer, and as a rule does not go against public policy.  This overall balance is achieved entirely in the framework of “public policy” and is shaped by “public policy” considerations...  ,There may therefore in a special case be a public interest that will justify deviation from this overall balance (see Gilo, ‘Toward a New Legal Policy toward Non-Compete Terms’ [44] at p. 75 (2000)).

Protection of the “Legitimate Interests” of the Employer

23.  Thus, limitation of freedom of occupation operates, as a rule, in the framework of the “legitimate interests” of the employer.   Examining  these interests raises three questions: the first, what are these interests, and how are they characterized; the second, what is the extent of the protection given to “legitimate interests” and what are the limitations which apply to a contractual obligation not to compete in the framework of the “legitimate  interests”; the third, what are the remedies that the employer is entitled to when the employee breaches his obligation not to compete in the framework of the “legitimate interests.”  We will discuss these questions separately.  We will do so only to the extent that the appeal before us raises those questions.

The Essence of the “Legitimate Interests”

24.  The case law recognizes trade secrets and customer lists as legitimate interests of the employer worthy of protection.  Occasionally these interests are described as “proprietary rights” of the employer (see for example CA 312/74 [11] supra, at 319).  In English literature the “proprietary interests” of the employer are referenced (see Upex [51] Ibid. at 433).  This list is not comprehensive and is not closed.  The “proprietary” language in this context raises difficult questions.  In my opinion, it is appropriate to move away from these characterizations.  The reasons found at the basis of the law, and not the label given to them, should determine the scope of the “legitimate interests” of the employer.  In the framework of this appeal it is not necessary to examine these questions in depth.  Thus, for example, I accept that the appellant’s customer list, in the circumstances of the matter before us, constitutes a “legitimate interest” for the appellant which enables limitation of the freedom of occupation of the respondent.

The Scope of the Protection Given to the Protected Interests

25.  Identifying the “protected interests” – such as trade secrets and customer lists – is only the beginning of the road in establishing the legality of limitation on freedom of occupation.  After it was determined that the contractual clause limiting freedom of occupation relates to the employer’s “legitimate interests”, the question arises whether the extent of the limitation is lawful.  Smith and Thomas discussed this, noting:

“Once there is a legally protected interest, the question which then arises concerns the extent to which the employer can bind the employee’s future conduct in order to protect that interest” (Ibid. [50] p. 88).

In a similar vein Chestire, Fifoot and Furmston note:

“The existence of some proprietary or other legitimate interest... must first be proved, and then it must be shown to the satisfaction of the court that the restraint as regards its area, its period of operation and the activities against which it is directed is not excessive”  (Chestire, Fifoot and Furmston’s, Law of Contract 420 (13th.  Ed., 1996)).

Even if an employer is entitled to the protection of his “legitimate interests” such protection is not absolute.  This is relative protection which must take into account the public interest (including the “legitimate interests” of the employee).  Justice Strasberg-Cohen explained this when she noted:

“Hand in hand with the recognition of the right to protect trade secrets, barriers and brakes have been created and relevant considerations have been established for bounding the limits of the protection that is afforded . . .  the confidentiality is relative and is not viewed as absolute.  It changes in accordance with the circumstances” (CA 2600/90 [14] supra at 807).

The test is one of reasonableness or proportionality.  The employer is entitled to protection of his “legitimate interests” to the appropriate proportion.  Beyond this proportion, the interest ceases to be legitimate.  What is this reasonableness or proportionality and how does it operate?

26.  The reasonableness or proportionality test seeks to ensure that the protection of the “legitimate interests” of the employer do not deviate beyond that which is necessary.  In this context the extent of the limitation is to be examined in terms of time, place, and type of activity.  The question in every case is whether the timeframe, limits, and type of limitation do not deviate beyond that which is reasonable and necessary in order to protect the legitimate interests of the employer.  President Adler explained this in the Checkpoint case, noting

"In the framework of the judicial balance, the courts must apply the proportionality and reasonableness test; –that is, they must examine whether the limitation on freedom of occupation passes the reasonableness test under the circumstances.  In this context, one must consider the reasonableness of the period of limitation, including the need to safeguard the trade secrets which belong to the prior employer, its scope, and its geographic range...  So too the measure of damage to the employee is to be examined as well as the measure of damage to the prior employer...  It is to be noted that the reasonableness test is a broad test, which includes the protection of many and varied interests of the employer.  However, the protected interest, generally, is the trade secrets which belong to him" (Ibid. paragraph 12).

The restrictive means must be adapted to the "legitimate interest" entitled to protection, and must not deviate from it (the test of time, place and type).  In this context the “legitimate interests” of the employee are also to be considered.  A limitation which denies to the employee the capacity to work in his field of expertise should not be recognized.  A limitation that denies to the employee his ability to make a living is not to be justified.  The restatement explains this, noting:

"The harm caused to the employee may be excessive if the restraint inhibits his personal freedom by preventing him from earning his livelihood if he quits” (Restatement, Second, Contracts [61] par.  188, comment c.  p. 43).

It is in this context that one may consider, inter alia, the question whether an employment contract guarantees the employee a (full or partial) salary during the period of limitation.  This practice (known as "Garden leave") is common in England (See I.T. Smith and G.H. Thomas, Industrial Law 306 (3th. Ed., 1996) [50]).  In Germany the law itself establishes that a contractual clause limiting freedom of occupation is legal only if the principal promises the agent a salary payment equal to at least half of his salary during the period of limitation (section 74(a) of the Commercial Code).  The case law has broadened this approach to include all employer-employee relations (See. M. Weiss, Labor Law and Industrial Relations in Germany 105 (1995) [55]).

27.  Alongside the employee interest one must also consider the public interest.  The public interest may demand invalidation of the limitation on freedom of occupation, which from other perspectives appears proportional.  The public interest is expressed, inter alia, in the needs of the marketplace, the development of industries and encouragement of competition.  Such is generally the case (see Gilo [44] Ibid.).  This is so in particular in high-tech industries (see Hanna Bui-Eve, ‘To Hire or Not to Hire: What Silicon Valley Companies Should Know About Hiring Competitor’s Employees’[58];Gilson, ‘The Legal Infrastructure of High Technology Industrial Districts: Silicon Valley, Route 128, and Covenants Not to Compete’ [59]; O’Malley, ‘Covenants Not to Compete in the Massachusetts Hi-Tech Industry: Assessing the Need for a Legislative Solution’ [60]).

28.  One may ask: if the validity of clauses limiting freedom of occupation is  limited only to situations in which the employer has a "legitimate interest," what need is there for such clauses, as generally the "proprietary" interest or the "quasi-proprietary" interest of the employer is protected without the need for an explicit clause (see HCJ1683/93 [4] supra)  The answer is that with the development of duties in the law which protect the "legitimate interests" of the employer, indeed the importance of clauses limiting freedom of occupation has diminished.  However, they are not superfluous, and this is so for two primary reasons: First, there is not complete overlap between the protection given by the general law to the "legitimate interests" of the employer and the protection given them in the framework of clauses limiting freedom of occupation; this is primarily so in all that relates to considerations of trust, fairness, good faith and fair dealing.  In these matters the general law is still in its early stages of development (compare LCA 5768/94 [5] supra) and therefore there is importance to the explicit contractual clause; second, the contractual clause has “evidentiary” importance.  On can see by it what is regarded by the parties as a trade secret or customer list or other "legitimate interest,” the importance attributed to it, the degree of knowledge that they had as to it, and the proportionality of the limitation (see Chitty [53] at 891).

Remedies

29.  Clauses limiting freedom of occupation beyond the legitimate interests of the parties go against "public policy," and are therefore void (section 30 of the Contracts (General Part) Law, also taking into consideration section 31 of the Contracts Law).  A clause which limits freedom of occupation in the framework of the legitimate interests of the parties is valid, and the party in breach is entitled to all the remedies given for breach of contract.  These remedies raise complex questions inasmuch as they relate to fulfilling the "legitimate interest" of the employer and to his protection.  These questions do not arise before us and I will not express an opinion on them.  I will only note that occasionally the question arises as to whether the court may limit the scope of a limitation on freedom of occupation in order to bring it within the requirements of reasonableness and proportionality.  Such was the action of the court in the case before us in limiting a limitation which had no timeframe to the timeframe of eighteen months.  The court will do so first and foremost through the use of the rules of construction.  “Where a contract is open to various interpretations, an interpretation which validates it is preferable to an interpretation according to which it is void” (section 25(b) of the Contracts (General Part) Law).   Indeed the presumption is that the purpose of a contract is that the freedom of occupation of the employee is limited as far as the legitimate interests of the employer.  If this presumption can be realized – taking into consideration other presumptions and the parties’ perspective, as it emerges from the contract and from the circumstances (see CA 4628/93 State of Israel v. Efromim Residence and Initiative (1991) Ltd. [27]) – via the language of the contract, the court will do so.  In this context, it is possible, in a suitable case, to limit general language by the purpose at its core, in such a manner that it will be constructed as applying only to the “legitimate interests” of the employer.  But what if the general rules of construction are not sufficient to save the clause from being voided?  In such a case the court may bring the limitation on freedom of occupation within the boundaries of the proportional or reasonable, and this by way of “severance” between the void portion and the valid portion (section 19 and section 31 of the Contracts (General Part) Law), but even in the absence of the option of severance -- and as a condition of enforcement (section 3(4) and section 4 of the Contracts (Remedies for Breach of Contract) Law 5731-1971) -- the court may limit the scope of the limitation to its proper proportion (see CA 1371/90 [23] supra at 856).  “If a person has undertaken an obligation as to the protection of a trade secret of another and it is too broad an obligation, there is no bar to limiting it and adjusting it to the proportionality of the secret within the information” (Justice Strasberg-Cohen in CA 2600/90 [14] supra at 808).

30.  Frequently in the type of case before us an interlocutory order is sought.  Generally the granting of an interlocutory order is sufficient to determine the entire conflict as the final order may be granted after the period of limitation has passed.  From this derives the importance of taking great care in this area.  An interlocutory order should not be general, and should be adapted to the legitimate interests of the employer.  Thus, for example, the order would not prevent employment of the employee by a new employer, but would prohibit him from handing over trade secrets and customer lists (see Lansing Linde Ltd v. Kerr [1991] [37]).  Such a careful approach is necessary partially due to the nature of freedom of occupation as a constitutional right (compare CA 214/89 Avneri v. Shapira IsrSC [28]).  The remedy of the employer will be in the proportion of damages he will be awarded, if it turns out at the end of the day that limiting the employment protected his “legitimate interests".

Interim Conclusion

31.  Before I move on to the special circumstances of the appeal before us, it would be proper to summarize the main points.  My position can be summarized by the following four propositions: first,  a clause between employer and employee limiting the freedom of occupation of the employee after the conclusion of his employment without protecting the ”legitimate interests" of the employer is void as going against "public policy"; second, a "legitimate interest" of the employer -- that gives validity to a clause limiting the freedom of occupation of the employee -- is a "proprietary" or "quasi-proprietary" interest of the employer in his trade secrets and customer lists (to the extent they are confidential).  This is not a closed list, and in determining the list of "legitimate interests” the relationship of trust between the employer and the employee, proper trade laws, and the duty of good faith and fairness between the employer and employee are to be considered; third, the protection given to the "legitimate interests" of the employer are not absolute.  Its extent is determined by tests of reasonableness and proportionality, which take into account its timeframe, scope and the type of the limitation; fourth, as a rule, an employer does not have a "legitimate interest" in his employee not competing with him after conclusion of his employment.  Therefore, limitation of the freedom of occupation of the employee which only realizes the employer’s interest that the employee not compete with him ("non-competition for its own sake") is against public policy.  The voidness of this limitation stems from the lack of a "legitimate interest" at its core, and therefore, as a rule, it is not appropriate to examine the reasonableness or proportionality of such a limitation.

From the General to the Specific

32.  The factual basis in the framework of which the legal problems in this appeal are examined is the one established by the District Court.  According to it the one legal question before us is whether the respondent breached a duty to the appellant by contracting with RAFAEL?  In my opinion, the answer to this question is in the negative. 

33.  What is the duty that was breached by the respondent in the RAFAEL case?  The respondent did not breach his duty not to make use of the customer list of the appellant.  The reason for this is that it has not been proven that the respondent approached RAFAEL on his own initiative and in any case his business ties with them are not to be seen as a result of use of the appellant's customer list.  Indeed, the duty that was breached by the respondent is the duty not to compete with the appellant. This agreement of the respondent not to compete with the appellant is a "bare" agreement (see paragraph 18 supra).  This is an agreement of "non-competition for its own sake".  Let us re-examine (see paragraph 1 supra) this agreement:

“The employee hereby undertakes not to compete with B/R [the appellant] either directly or indirectly, whether in his capacity as an employee of B/R or not, to the extent that there shall be in such competition any loss caused to the business of B/R as a distributor, marketer and service provider for equipment made by Linear and/or any other name by which such equipment will be called in the future.  So too the employee undertakes not to take any action that would undermine, eliminate, or damage B/R’s relationships with its customers."

This agreement-- in accordance with its construction, language and purpose – was intended to protect the appellant from competition “for its own sake”.  When the appellant wanted to protect itself from damage to its property, it did so in the framework of an additional agreement signed by the respondent, which included an “Agreement to Protect Confidentiality,” according to which the respondent undertook to keep in confidence information that he might obtain in the framework of his employment.  Indeed, the obligation of the respondent not to compete with the appellant – and this is the only obligation that was breached by the respondent – does not protect the “proprietary” or “quasi proprietary” interest of the appellant.  It does not protect a “legitimate interest” of the appellant.  It goes against “public policy,” and therefore is to be declared void.  All the appellant sought was to ensure for itself immunity from competition.  It is not entitled to do this, as such immunity goes against “the public interest.”  As to this, there is no significance to the reasonableness or proportionality of the obligation that the respondent took upon himself.  It is not proper to examine whether the limitation to eighteen months is reasonable or proportional.  The obligation in its entirety is void and voided.

34.  Until now I dealt with the obligation of the respondent not to compete with the appellant.  What about the additional obligation that he undertook to keep in confidence any information that he may obtain in the framework of his employment?  As to this matter, the appellant’s appeal is to be denied, if only for the reason that no causal connection has been shown between the breach of the obligation and the appellant’s losses.  Indeed, even if in the use of the respondent’s customer list the respondent breached his obligation, this breach did not cause the appellant any loss, as it has not been proven that within the eighteen months to which the obligation was limited, relationships between the respondent and those customers were developed.  This is sufficient to deny the appellant’s appeal on this matter.  Therefore, there is no need for me to deal with the question as to whether limiting the extent of the obligation not to make use of the information that he obtained in the framework of his employment, is reasonable and proportional.  As to this it is acceptable to me that this information is, under the circumstances, confidential information, entitled to protection in the framework of the “legitimate interests” of the employer.  But is the scope of the protection proportional and reasonable?  This question is not simple in the least.  It is sufficient for me to note, without making a determination on the matter, that there is room for the argument that the scope of this obligation under the circumstances is not reasonable and is not proportional.  We are dealing with the field of computers, this is a dynamic arena.  The scientific developments in this area are many.  Within a matter of months the reality changes unrecognizably.  Against this background there is room for the argument that a period of eighteen months is too long.  Indeed, I would be ready to examine whether in this evolving arena – in which not taking advantage of expertise for such a long period of time may do significant damage to work capacity– a stricter approach is not necessary.  However, as said, this is not to be determined in this appeal and I will leave it as open for future discussion.

In conclusion, we allow the respondent’s appeal and cancel the award of damages to the appellant for the contract with RAFAEL.  We deny the appellants’ appeal and the appeal of respondent no. 2.  So too, we deny the respondent’s appeal in all that relates to software and hardware. Under the circumstances, the appellants shall pay the respondent’s costs in the sum of NIS 15,000.

 

Justice T. Or  

I agree.

 

Justice E. Rivlin

I agree.

 

Decided as per the judgment of President Barak.

 

27 Av 5760

August 28, 2000