IN THE SUPREME COURT OF BRITISH COLUMBIA

Transcription

1 IN THE SUPREME COURT OF BRITISH COLUMBIA Citation: Between: And Coastal Contacts Inc. v. Elastic Path Software Inc., 2013 BCSC 133 Coastal Contacts Inc. Elastic Path Software Inc. Before: The Honourable Mr. Justice Armstrong Reasons for Judgment Date: Docket: S Registry: Vancouver Petitioner Respondent Counsel for Petitioner: Counsel for Respondent: Place and Date of Hearing: Place and Date of Judgment: R. L. Basham, Q.C. S. H. Stephens R. J. H. Berrow T. Ahmed Vancouver, B.C. June 22, 2012 Vancouver, B.C. January 30, 2013 I. INTRODUCTION [1] Coastal Contacts Inc. ( Coastal ) is an online retailer of eyeglasses, contact lenses and other eyewear. Elastic Path Software Inc. ( Elastic Path ) is a software company that develops and licenses software for the management and operation of e commerce websites. Elastic Path and Coastal entered into a Software Licensing Agreement ( Agreement ) allowing Coastal to use Elastic Path s software in Coastal's business. The Agreement contained a requirement that Elastic Path defend any claims made against Coastal based on allegations that Elastic Path s software infringed any patent. The Agreement also contained a clause requiring the parties to resolve disputes by way of arbitration. [2] Coastal was sued in the United States by Charles E. Hill & Associates ( Hill action ) in respect of an alleged patent infringement connected to Elastic Path s software. Coastal initiated third party proceedings

2 against Elastic Path in the Hill action after Elastic Path refused to defend Coastal subsequent to Coastal s failure to promptly notify Elastic Path of the Hill action. [3] The claims against Coastal were settled and Coastal claimed indemnification for its costs of defending the Hill action and reimbursement of the settlement payment. Elastic Path initiated arbitration proceedings under the Agreement seeking a declaration that it was not obliged to defend Coastal nor indemnify it for the settlement amount or costs incurred in resolving the Hill action. [4] On August 25, 2011, the Arbitrator rejected Coastal's claim for indemnity and relief from forfeiture. This decision ( Award ) was based, in part, on Coastal s delay in giving notice of the Hill action. Coastal was also ordered to pay Elastic Path s costs. [5] Coastal applies for leave to appeal the Award for denying Coastal indemnity for defence and settlement costs arising from the Hill action. [6] If leave is granted, Coastal asks that the appeal be allowed setting aside the Arbitrator's decision and substituting a judgment in its favour in the sum of $278,623 US. II. FACTS [7] In the Agreement dated March 29, 2006, Elastic Path licensed its software to Coastal under terms that included the following: Section Elastic Path shall defend or settle any claim made or any suit or proceeding brought against Licensee insofar as such claim, suit or proceeding is based on an allegation that any of the software supplied to Licensee pursuant to this Agreement infringes (directly or indirectly) any patent [...] or other proprietary and intellectual property rights of any third party, provided that Licensee shall notify Elastic Path in writing promptly after the claim, suit or proceeding is known to Licensee and shall give Elastic Path information and such assistance as is reasonable in the circumstances, at Elastic Path s expense. Elastic Path shall have sole authority to defend or settle the same at Elastic Path s expense. Elastic Path shall indemnify and hold Licensee harmless from and against any and all such claims and shall pay all damages and costs finally awarded or settlement agreed to be paid in the settlement of such claim, suit or proceeding. This indemnity does not extend to any claim, suit or proceeding based upon any infringement or alleged infringement of copyright by the combination of the software in any manner with other components not provided by Elastic Path to Licensee, to the extent such claim could have been avoided but for such combination; [8] The Agreement contains the following arbitration clauses: All disputes under, arising from, in relation to, or connected with this Software License Agreement, will be finally resolved in accordance with the following procedure: If the dispute is not resolved pursuant to Subsection , above, the dispute will be referred to an finally resolved by arbitration administered by the British Columbia International Commercial Arbitration Centre pursuant to its Rules of Procedure and, pursuant to the British Columbia Commercial Arbitration Act. [9] On October 9, 2009, the Hill action was brought in the United States District Court in Texas. This

3 action alleged infringement of three patents against several parties, including Coastal. The pleadings in the Hill action include the following: 22. Each of the defendants is infringing the 490 Patent directly, and/or jointly with other entities, by, without authority, importing into the United States, and/or making, using, selling, and/or offering for sale in the United States, including within the state of Texas and the Eastern District of Texas, their respective electronic catalogs, which electronic catalogs embodied the patented inventions claimed in the 490 Patent. 23. Each of the defendants is infringing the 490 Patent, literally and\or under the doctrine of equivalents. 24. Each of the defendants is actively, intentionally, and/or knowingly inducing or contributing to such infringement of the 490 Patent by others, including, but not limited to, the Defendants respective agents, contractors, and actual and prospective customers who access the Defendants respective electronic catalogs. [10] On October 14, 2009, Coastal became aware of the Hill action. [11] On January 8, 2010, Coastal filed an answer, defence and counterclaim in the Hill action. [12] On January 25, 2010, Coastal notified Elastic Path about the Hill action. Elastic Path denied that it was required to defend the Hill action. [13] On March 12, 2010, Coastal commenced third party proceedings against Elastic Path in the Hill action (notwithstanding the arbitration clause in the Agreement). [14] On March 15, 2010, Elastic Path submitted a notice to arbitrate under the arbitration clause in the Agreement. Elastic Path submitted the request to have the Arbitrator decide whether it was required to defend and/or indemnify Coastal in respect of the claims in the Hill action. Elastic Path denied that it had an obligation to defend or indemnify Coastal for those claims because: A. Elastic Path s software was not implicated in the Hill action and there was no liability for any intellectual property claim that would trigger the defence or indemnity clause in the Agreement. B. Coastal breached the Agreement and prejudiced its rights by failing to give prompt notice of the Hill action. C. Coastal breached the Agreement by involving Elastic Path as a third party in the Hill action. [15] On September 13, 2010, Coastal settled the Hill action. They paid $200,000 US to the claimant and received a dismissal of the Hill action. [16] Coastal expended $78,623 to defend the Hill action. [17] Elastic Path s costs including interest related to the arbitration and defence of the third party proceedings were $54, [18] Coastal defended the arbitration on the issues raised by Elastic Path and advanced a claim for relief from forfeiture.

4 [19] The Award was made on August 25, III. THE ARBITRATOR S DECISION [20] The parties agreed on the question to be addressed by the Arbitrator: Both parties agree that the key issue is to whether or not there is liability for Elastic Path to defend the Hill Action and possibly provide an indemnity as governed by whether or not the software license under the Agreement may be impugned by the Hill Action. [21] During the hearing the Arbitrator also obtained agreement from the parties that it was appropriate for him to review the Hill patents referred to in the pleadings in the Hill action. The Arbitrator concluded that it was highly unlikely that Elastic Path s software directly infringed the Hill patents and, after considering the prospect of an indirect infringement, that the software was not likely impugned by the Hill action. [22] The Arbitrator summarized the issues to be decided at pages 3-4: 1. Is Elastic Path s software, as licensed under the Agreement, impugned by the Hill Action? 2. Was Coastal's alleged failure to provide prompt notice and/or to give sole authority to Elastic Path to defend the Hill action, as preconditions of the duty to defend and indemnify Coastal in respect of legal action, breaches of the Agreement such that Coastal should be denied the right to any or all relief in respect of the Hill Action, and/or this arbitration? 3. Was Coastal's initiation of third party proceedings against Elastic Path in the Hill action a breach paragraph of the Agreement? 4. Did Elastic Path's refusal to defend the Hill action, after having been given notice of that action in January, 2010, result in a breach of the Agreement by Elastic Path? 5. Even if there were breaches of the agreement by Coastal in failure to give prompt notice and/or giving Elastic Path the sole right to defend the Hill action, should Coastal be entitled to relief from forfeiture pursuant to Section 24 of the Law and Equity Act, given the nature of the parties actions and the settlement reached in the Hill Action? [23] The Arbitrator analyzed the allegations in the claim at page 8, stating: However, where the allegations in the Claim or Complaint cannot, by the very nature of the patent claims in issue, cover a product, method or apparatus provided or used by a party, it cannot be said that the action may impugn such product, method or apparatus. [24] The Arbitrator analyzed features of Elastic Path s software that could have caused Coastal to be liable to Hill through direct or indirect infringement of the patent. At page 10 he said: Coastal's e-commerce system as a whole is centered around the Elastic Path Software. Other components of the system include servers, networks, edge-catching technology and web browsers running on customer's computers. Some of these components are controlled by Coastal while others, such as web browsers and parts of the network, are outside Coastal's direction or influence. Combined, these various components basically form the infrastructure required to run Elastic Path s software. All the independent claims in Hill s various patents include at least one element comprising a remote computer or operation out of a remote computer, such as the process of storing data in the memory of a remote computer. Since the Elastic Path Software does not operate on a remote computer, it is

5 highly unlikely that the Software infringes any of the Hill patents on its own. [Emphasis added.] [25] The Arbitrator continued at page 11: However, that is not the end of the inquiry. I must also decide whether there is any possibility of indirect infringement or vicarious liability that may impugn the Elastic Path Software in the Hill Action. Unfortunately, neither party provided clear evidence of the interrelationship between the various components of the Coastal system. Having reviewed the evidence tendered, although Elastic Path s Software appears to be the most substantial part of Coastal's e-commerce platform, the electronic catalog is not the most substantial element in any of the Hill patents. The substantial elements of the Hill patents pertain to optimized delivery of the electronic catalog to remote computers[...]there is no question that there cannot be direct infringement of any of the claims of the Hill patents by use of the Elastic Path Software. [Emphasis added.] [26] He next considered whether it was possible that Elastic Path s software was an indirect infringement of the Hill patent. He said: Nevertheless, again the question does not end there. One must also consider whether there could nevertheless be possible indirect infringement by use of the Elastic Path Software and therefore, a finding that the Software may be impugned under the Hill Action. [27] He concluded at page 12: While, the evidence of both parties fall short of being clear or convincing on possible indirect liability of the Elastic Path Software, and notwithstanding the very able and apt submissions by Coastal's counsel, on a balance of probabilities and based on the evidence that was before me, I find that the Elastic Path Software was likely not impugned by the Hill patent action. [Emphasis added.] [28] In the Arbitrator's assessment of Coastal's failure to give prompt notice of the Hill action he said at page 13: I find that notice was effectively given to Coastal as early as October 12, 2009, and that there was no reasonable excuse for the delay in advising Elastic Path under clause of the Agreement that the Claim had been made against Coastal. In failing to promptly notify Elastic Path of the action, Elastic Path was denied any pre-litigation preparation, strategy, or settlement consideration or negotiation through its choice of counsel, both in Canada and United States this is the very purpose for providing prompt notice to a Licensor to defend or otherwise deal with any cause of action in any license agreement that may create liability for a Licensor. This is particularly true in patent infringement cases, where complex issues of infringement and validity need to be considered by counsel as early as possible, in order to appreciate what steps need to be taken in respect of defending any patent infringement action. [29] The Arbitrator continued on page 13: On January 25, 2010, Coastal's US counsel wrote Elastic Path, advising Elastic Path of the Hill complaint and seeking an indemnity, failing which Coastal would amend its answer in the Hill litigation to name Elastic Path as a third-party defendant, if Elastic Path did not confirm its willingness to provide the indemnity by February 19, By letter dated February 12, 2010, Elastic Path's counsel replied, denying preconditions for the

6 indemnity had been met by Coastal, both in terms of giving proper notice and in Elastic Path having the sole right to defend. Counsel also did not concede that any of the claims in the Hill action or steps taken by Coastal would otherwise attract a right to indemnity from Elastic Path. Elastic Path was, however, prepared to furnish technical assistance to Coastal in meeting the claims asserted in the Hill Action. [30] On page 14 the Arbitrator said: Based on the evidence before me, and in the context of this Agreement, I find that Coastal failed to give prompt notice of the Hill Action to Elastic Path, and thereby breached that condition of paragraph of the Agreement. [31] On page 15 the Arbitrator said: The intention appears to be clear that the sole authority to defend and settle Claims against the Licensee was granted to Elastic Path. Moreover, Coastal's refusal to participate initially in the Arbitration procedure as mandated under the Agreement, thereby refusing use of arbitration to see if there was a duty to defend or even an opportunity to so determine that duty, is inconsistent with the clear and unambiguous language of the Agreement I find that Coastal breached paragraph by failing to give Elastic Path the sole right to defend the Hill Action from the outset, prior to any defence, counterclaim or other proceeding been formally taken by Coastal in the Hill Action. Further, I find that Coastal also breached paragraph of the Agreement by bringing third party proceedings in the Hill Action. [32] On page 20 the Arbitrator said: In this case, I find that the conduct of Coastal, in breaching the conditions of paragraphs and of the Agreement, as discussed above and the unreasonable position taken in respect of these Arbitration proceedings at the outset by Coastal this entitles coastal from relief from forfeiture in respect of this matter. [33] The Arbitrator s conclusions are summarized below: i. Since the Elastic Path software did not operate on a remote computer, it is highly unlikely that the software directly infringed any of the Hill patents on its own. ii. iii. iv. On the issue of an indirect liability, Elastic Path software was likely not impugned by the Hill action. As the Hill action was unlikely to impugn the Elastic Path software, Elastic Path is not liable for any of the costs, expenses or settlement amounts. Elastic Path is entitled to costs and fees of the arbitration, together with interest pursuant to the Court Order Interest Act. Coastal failed to give prompt notice of the Hill action to Elastic Path, and thereby breached that condition of paragraph of the agreement. v. Coastal s breach of paragraph by failing to give prompt notice deprived Elastic Path of the sole right to defend the Hill action from the outset, prior to any defence, counterclaim or other proceeding being formally taken by Coastal and Hill Action. vi. Coastal breached paragraph of the agreement by bringing third party proceedings in the Hill action.

7 vii. IV. In breaching the conditions of paragraphs and of the agreement and taking an unreasonable position in respect of the arbitration proceedings at the outset, Coastal is disentitled to relief from forfeiture. TEST FOR LEAVE TO APPEAL [34] The relevant legal principles regarding when leave to appeal may be granted is uncontested by the parties and can be summarized at the outset. [35] Coastal s appeal of the Award is made pursuant to s. 31 of the Commercial Arbitration Act, R.S.B.C. 1996, c. 55 ( Act ). [36] The Act authorizes an appeal of an arbitration award with leave of the Supreme Court on a question of law. Section 31 of the Act sets out the circumstances in which an appeal of an arbitration award may proceed: 31 (1) A party to an arbitration may appeal to the court on any question of law arising out of the award if (a) all of the parties to the arbitration consent, or (b) the court grants leave to appeal. (2) In an application for leave under subsection (1) (b), the court may grant leave if it determines that (a) the importance of the result of the arbitration to the parties justifies the intervention of the court and the determination of the point of law may prevent a miscarriage of justice, (b) the point of law is of importance to some class or body of persons of which the applicant is a member, or (c) the point of law is of general or public importance. (3) If the court grants leave to appeal under this section, it may attach conditions to the order granting leave that it considers just. (4) On an appeal to the court, the court may (a) confirm, amend or set aside the award, or (b) remit the award to the Arbitrator together with the court's opinion on the question of law that was the subject of the appeal. [37] Section 31 of the Act reflects the importance of the inclusion of an arbitration process in a commercial agreement. Where the parties have chosen this process to resolve disputes, public policy requires the court to give deference to the decisions made by arbitrators who have been chosen by the parties. The absence of an automatic right of appeal is an important feature in the arbitration process. The application for leave to appeal serves to safeguard the importance of the parties choices to arbitrate disputes: Ed Bulley Ventures Ltd. v. Eton-West Construction Inc., 2002 BCSC 826 at para. 6. [38] An application for leave to appeal may be granted only where questions of law are clearly delineated. The court is obligated to consider the integrity of the arbitration system when assessing the criteria in s. 31 (2) of the Act: Elk Valley Coal Partnership v. Westshore Terminals Ltd., 2008 BCCA 154 at para. 17. [39] The starting point for a review of this application for leave to appeal is to determine whether Coastal

8 has established that the appeal raises a question of law. The burden is on Coastal to demonstrate that the basis of the appeal does not rest on a question of fact or of mixed fact and law. [40] The error of law alleged must be one that, if corrected, could result in a different outcome of the proceeding. [41] The question of law must be apparent from the face of the award and a consideration of evidentiary issues should not be engaged to support the allegation of an error in law. [42] In British Columbia v. Canadian Cartographics Ltd., 2007 BCSC 881, Koenigsberg J. described the test as follows: Pure Questions of Law [24] This issue was most recently dealt with in Specialist Physicians and Surgeons of British Columbia v. General Practitioners of British Columbia, 2007 BCSC 423. Garson J. reviewed the principles involved. She found that: a. The issue must be an error on the face of the award. In other words you must be able to find the error in the award itself, not in the evidence underlying the award; b. The issue must be seen to form part of the reasoning leading to the answer to the question submitted to the Arbitrator; c. The onus is upon the applicant for leave to establish that the questions at issue are not factual, or mixed fact and law. The applicant must establish that they are questions of law in order to qualify for leave to appeal. [43] If a question of law is established then leave to appeal can be granted when the applicant has established one of the conditions set out in s. 31(2) of the Act. The criteria in s. 31(2)(a) will be met if the result of the arbitration is sufficiently important to the parties to justify the expense and court time and the point of law would have resulted in the arbitrator coming to a different conclusion: Domtar Inc. v. Belkin Inc., 39 B.C.L.R. (2d) 257, [1990] 2 W.W.R In Domtar Inc., Lambert J.A. said at 267: If the decision of the arbitrator in such cases is so obviously wrong that he cannot have reached his decision on a matter of substance by a considered decision-making process, which is what the parties have contracted for, then leave should be granted. Otherwise, it should be refused. [44] This principle was reiterated in BCIT (Student Association) v. BCIT, 2000 BCCA 496 at para. 28. In BCIT (Student Association) the Court outlined the approach to be followed in the analysis of a leave application: a. The court must satisfy itself that one of the conditions precedent set out in s. 31(2)(a), (b) or (c) is met; b. It should exercise its discretion, and not by establishing a stringent rule applicable to only one subsection, but on a principled basis; c. The result of the arbitration must be sufficiently important, in terms of principle or money, to the parties that the expense and time of court proceedings is justified; d. The importance of the result of the arbitration to the parties justifies the intervention of the court; e. Was the alleged error of law material to the decision? Does it go to its heart?; f. The determination of the point of law may prevent a miscarriage of justice;

9 g. Granting leave is an appropriate exercise of judicial discretion; h. The apparent merit or lack of merit of an appeal is part of the exercise of residual discretion, and applies equally to all three subsections, (a) through (c).consideration of the merits, for consistency in the section as a whole, should be made as part of the exercise of residual discretion; i. The merits of the appeal, while not requiring that the award is obviously wrong, must have sufficient substance to warrant the appeal proceeding; j. An appellant should establish more than an arguable point; k. Discretion is to be exercised judicially, that is, trial judges will take into consideration those matters with which they are well familiar. Those matters include the apparent merits of the appeal, the degree of significance of the issue to the parties, to third parties and to the community at large, the circumstances surrounding the dispute and adjudication including the urgency of a final answer, other temporal considerations including the opportunity for either party to address the result through other avenues, the conduct of the parties, and the stage of the process at which the appealed decision was made. [45] The question of whether there is any evidence to support a finding of fact is a question of law in the arbitral context: UBC v. Assoc. of Administrative and Professional Staff on behalf of Bill Wong and Ken Glasner, Q.C, 2005 BCSC 1286 at para. 30. [46] An arbitrator s failure to apply proper legal methodologies constitutes an error of law: JEL Investments Ltd. v. Boxer Capital Corporation, 2011 BCCA 142, at paras V. FRAMEWORK [47] This application for leave to appeal requires consideration of the following: i. Does Coastal s appeal raise an error of law by the Arbitrator? ii. iii. iv. Does Coastal satisfy the statutory conditions for leave to appeal including whether the point of law is important to a class or body of persons of which Coastal is a member, or is the point of law of general public importance? In view of the importance of maintaining and preserving the integrity of the arbitration system, does the importance of the result of the arbitration justify the intervention by the Court? Should the Court exercise its discretion to allow the appeal to proceed? v. If leave is granted, should the Court decide the appeal as argued by the parties? VI. DISCUSSION: A. Leave to Appeal [48] Coastal argues that the appeal raises a question of law because: a) The Arbitrator erred in failing to apply the correct legal methodology in answering the question of whether Elastic Path had a duty to defend Coastal. b) The Arbitrator fell into error by examining factors extrinsic to the pleadings in his analysis of Elastic Path's duty to defend and failing to accept the facts pleaded in the Hill action as true.

10 c) The Arbitrator erred by misapprehending the decision of the Supreme Court of Canada in Monenco Ltd. v. Commonwealth Insurance Co., 2001 SCC 49. d) The Arbitrator made inappropriate use of the extrinsic evidence weighing the likelihood that Elastic Path s software was impugned by the Hill action. e) The Arbitrator failed to apply the proper rule of law that a party suffering no prejudice as a result of the late notice of claim continues to be obliged to defend the allegations in an underlying action giving rise to the question. f) There was no evidence to support the Arbitrator s finding that Elastic Path suffered prejudice by reason of Coastal's late reporting the claim made in the Hill action. g) The Arbitrator erred in failing to consider the parties relative prejudice in his analysis of Coastal's application for relief from forfeiture. h) The Arbitrator inappropriately relied on Coastal s breach of s of the Agreement and its position in respect of the arbitration proceedings to disentitle it from relief from forfeiture. [49] For the reasons that follow, I conclude the appeal advanced by Coastal raises a pure question of law regarding the methodology and the test applied by the Arbitrator to the question of Coastal's entitlement to a defence of the Hill action. [50] The Arbitrator committed an error of law in engaging in an analysis of the merits of the Hill action and, in essence, conducting a summary trial on the issues raised in that action. The Arbitrator s approach, which resulted in a finding that there was no direct or indirect infringement of the Hill patent, conflated the proper legal test. [51] Furthermore, the Arbitrator erred in denying Coastal relief from forfeiture due to its lack of clean hands. [52] I conclude that Coastal has met the requirements under s. 31(2) of the Act in that the importance of the result of the arbitration justifies intervention by the Court. The amount at issue is significant, the parties have a continuing contractual relationship and there is merit to this appeal. I am satisfied that the issues are such that, if the appeal is allowed, the outcome may be different. [53] I am satisfied that it is appropriate to exercise the Court's discretion to allow the appeal to proceed because in the circumstances surrounding the dispute and the adjudication there may be a miscarriage of justice if the appeal is not heard. For the reasons below I have concluded that the appeal should succeed on the threshold questions of Coastal s entitlement to a defence and relief from its late report of the allegations in the Hill action and their resulting forfeiture. [54] Only errors of law raised on this leave to appeal application which are accepted are addressed. B. Duty to Defend 1. Position of the Parties [55] The parties arguments on the issue of a duty to defend are outlined below.

11 [56] Coastal argues the Arbitrator erred in conducting a hearing of the merits of the Hill action rather than confining his review to an assessment of whether the pleadings triggered Elastic Path s obligation to defend. They contend the duty to defend was triggered by the Hill allegations even if those allegations were groundless because the merits of the underlying action were irrelevant to the determination of whether Coastal was entitled to a defence. [57] In Coastal s submission, the Arbitrator was obliged to assume the allegations in the Hill action were true, and he was not permitted to weigh evidence to assist him in that analysis. Coastal agreed that the Arbitrator was entitled to consider extrinsic evidence in his analysis for the limited purposes of illuminating the true nature and substance of the pleadings. They maintain they did not consent to the review of relevant documents for the purpose of weighing the evidence as part of the Arbitrator's analysis in examining contentious points in the underlying litigation. [58] Coastal says that the Arbitrator fell into error when he answered the question by examining the patent and Coastal s e-commerce platform in determining that Elastic Path s software was highly unlikely to directly infringe Hill s patent. In assessing the issue, the Arbitrator should have accepted the Hill allegations as true and considered whether, if true, the allegation could possibly apply to Elastic Path s software. This software was the only software forming part of the Coastal platform and was therefore the only possible target of the Hill action. They argue that because the Arbitrator s decision dealt with the likelihood of infringement rather than a mere possibility of infringement, he applied an incorrect test; he should have answered the question of whether there was a mere possibility that the Elastic Path software infringed the Hill patent. [59] Coastal says that the Arbitrator s error continued when he considered an indirect infringement of the Hill patent. They say that he also fell into error when he answered the question by examining the patent and software and then weighing the evidence on the balance of probabilities in concluding that it was unlikely Elastic Path s software indirectly infringed Hill s patent. In assessing whether it had been proven on the balance of probabilities that Elastic Path s software might indirectly infringe the Hill patent, the Arbitrator applied an incorrect test. Again, he should have answered the question of whether there was a mere possibility that the Elastic Path software indirectly infringed the Hill patent action. [60] Conversely, Elastic Path argues that the Arbitrator's findings deal with questions of fact or fact and law, which are not reviewable on appeal under s. 31 of the Act. The question of whether Elastic Path was obliged to defend turns on the Arbitrator's findings of fact. [61] Elastic Path contends a pure question of law must be apparent on the face of the award. The error relied on by Coastal must be the application of an erroneous legal proposition which forms the basis of an award: Specialist Physicians and Surgeons of BC v. General practitioners of BC, 2007 BCSC 423. Elastic Path contends that this is not the case advanced by Coastal. Elastic Path argues that the Court must presume that legal principles were applied correctly by the Arbitrator and that his conclusions are factual pronouncements based on a proper application of those legal principles. [62] Elastic Path explains that if it is necessary to consider the evidence in order to argue that an error of

12 law has occurred, then the error is not on the face of the award and should not be reviewed by this Court. They argue that the burden rested with Coastal to establish that an allegation in the Hill action could have impugned its software. The Arbitrator used his expertise in dealing with commercial software agreements and his conclusions must be given deference insofar as he has made findings within that expertise. They argue the Arbitrator concluded that the pleadings did not raise an allegation against their software. [63] A question of mixed law and fact is immune from review and Coastal bears the onus to establish that the grounds of appeal are not factual. Elastic Path argues that the Arbitrator made a finding of fact that the software was not impugned in the Hill action and that Coastal had failed to demonstrate the existence of any allegation in the Hill action that fell within the scope of Elastic Path s obligation to defend or indemnify. [64] Elastic Path disagrees with Coastal s characterization of the Arbitrator s analysis as a consideration of the merits of the Hill action. They point out that the Arbitrator did not decide whether there was infringement. Rather, the Arbitrator dealt only with the allegations in the claim, which by the nature of the patent could not cover the method or apparatus used by Coastal. This was a finding of fact that cannot be reviewed on appeal. [65] Elastic Path argues that the burden rested with Coastal to show that allegations in the Hill action constituted claims that the Elastic Path software infringed Hill s patent. They urge that after consideration of the evidence the Arbitrator rightly concluded that the Hill action did not impugn the Elastic Path software. They contend that the Arbitrator correctly arrived at a factual conclusion that the scope of the patents described in the Hill action did not impugn the Elastic Path software and therefore Elastic Path was not required to defend or indemnify Coastal under the Agreement. [66] Elastic Path contends that the Arbitrator obtained Coastal's ascent to review the contents of the Hill patent because it was necessary to decide whether the Hill pleadings impugned their software. This permitted the Arbitrator to apply his expertise to assess the facts revealed by the patent in the context of Coastal s use of Elastic Path s software. [67] Elastic Path argues that Coastal cannot resile from its agreement that the Arbitrator was entitled to review the underlying patent claims. [68] The Arbitrator concluded that, if the allegations in the pleadings could not possibly cover the licensed product by the very nature of the claims set out in the patents, the pleadings could not be said to impugn that product. Elastic Path argues that when the Arbitrator interpreted the Hill pleadings, the Hill patents and the potential application to Elastic Path s software, his decision was based on considerations of mixed fact and law, and is beyond review. He made findings of fact about the Hill patent and its relationship to features of the Coastal e-commerce platform, rejecting the proposition that a duty to defend was established. [69] Elastic Path submits that if there was an error on question of law, the right to appeal does not arise because the error did not go to the heart of the Arbitrator's decision. 2. Findings

13 [70] The Agreement required Elastic Path to defend or settle any claim based on an allegation that Elastic Path software infringed a third party s patent. The Arbitrator concluded that Coastal's e-commerce system as a whole is centered around the Elastic Path software. [71] Both parties relied on Monenco for the proposition that the duty to defend turns on the true substance and nature of the claim and is governed by the allegations in the pleadings, including documents expressly referred to and incorporated into the pleadings. [72] The legal principles governing the duty to defend are stated in Monenco at para. 29: 29 This reasoning was subsequently adopted by this Court in Nichols v. American Home Assurance Co., [1990] 1 S.C.R. 801, where McLachlin J. (as she then was) indicated that general principles regarding the construction of insurance contracts support the conclusion that the duty to defend arises where the pleadings raise claims which would be payable under the agreement to indemnify in the insurance contract. McLachlin J. also referred to the ruling in Opron Maritimes Construction Ltd. v. Canadian Indemnity Co., (1986), 73 N.B.R. (2d) 389 (C.A.), leave to appeal refused by this Court, [1987] 1 S.C.R. xi, for the proposition that, where it is clear from the pleadings that a suit falls outside policy coverage by reason of an exclusion clause, the duty to defend does not arise. McLachlin J. further noted that it is not necessary to prove that the obligation to indemnify will in fact arise in order to trigger the duty to defend. The mere possibility that a claim falling within the policy may succeed will suffice. In this sense, the insurer s duty to defend is broader than the duty to indemnify (Nichols, supra, at p. 810). [Underline emphasis added, emphasis in italics in original.] [73] In Opron Maritimes Construction Ltd. v. Canadian Indemnity Co., (1986), 73 N.B.R. (2d) 389, 1986 CanLII 89 (C.A.) [ Opron ], the New Brunswick Court of Appeal dealt with the issue as follows: While the insurer's obligation to defend is separate from its duty to indemnify, there is no duty on it to defend an action against its insured if there is clearly no liability to indemnify under the policy. The pleadings must be examined to see if they disclose facts or contain allegations which bring the incident within the terms of the indemnity provisions of the policy. If, of course, the claim against the insured is not related to a subject matter covered by the policy there is no obligation on the insurer to defend. Any doubt as to whether the pleadings bring the incident within the coverage of the policy ought to be resolved in favour of the insured. [74] This proposition is also discussed in Progressive Homes Ltd. v. Lombard General Insurance Co. of Canada, 2010 SCC 33. The Court said at para. 19: [19] An insurer is required to defend a claim where the facts alleged in the pleadings, if proven to be true, would require the insurer to indemnify the insured for the claim (Nichols v. American Home Assurance Co., [1990] 1 S.C.R. 801, at pp ; Monenco Ltd. v. Commonwealth Insurance Co., 2001 SCC 49, [2001] 2 S.C.R. 699, at para. 28; Jesuit Fathers of Upper Canada v. Guardian Insurance Co. of Canada, 2006 SCC 21, [2006] 1 S.C.R. 744, at paras ). It is irrelevant whether the allegations in the pleadings can be proven in evidence. That is to say, the duty to defend is not dependent on the insured actually being liable and the insurer actually being required to indemnify. What is required is the mere possibility that a claim falls within the insurance policy. Where it is clear that the claim falls outside the policy, either because it does not come within the initial grant of coverage or is excluded by an exclusion clause, there will be no duty to defend (see Nichols, at p. 810; Monenco, at para. 29). i. The Correct Test

14 [75] In his analysis, the Arbitrator considered Monenco as standing for the proposition that: [A] party s duty to defend is governed by the allegations in the pleadings, which includes documents expressly referred to and/or Incorporated into the pleadings. [76] In coming to his conclusions regarding the duty to defend, the Arbitrator formed the view that: [W]here the allegations in the Claim or Complaint cannot, by the very nature of the patent claims in issue, cover a product, method or apparatus provided or used by a party, it cannot be said that the action "may impugn" such product, method or apparatus. [77] The Arbitrator then analyzed a number of United States courts summary judgment decisions relating to non-infringement issues. He cited several features of Elastic Path s software and observed that the Hill patents included at least one element comprising of a remote computer or operation out of a remote computer. He said: Since the Elastic Path software does not operate on a remote computer, it is highly unlikely that the Software infringes any of the Hill patents on its own. [78] He made this latter finding based on an analysis of the patents, his analysis of US law, and an assessment of the evidence. As an example he said Elastic Path s software does not appear to cause any information to be stored locally on the customer's computer, except in the usual way in which the customer s computer running a web browser would automatically store any web pages that it downloads. [79] He continued with this conclusion at page 11: Having reviewed the evidence tendered, although Elastic Path s software appears to be the most substantial part of Coastal s e-commerce platform, the electronic catalogue is not the most substantial element in any of the Hill patents. [80] He summarized this part of his analysis with the words: There is no question that there cannot be direct infringement of any of the claims of the Hill patents by use of the Elastic Path Software. [81] The Arbitrator s final conclusion was that, on the balance of probabilities, Elastic Path software was not likely impugned by the Hill patent action due to an indirect infringement. [82] It is difficult to understand why the Arbitrator framed his opinion regarding direct infringement in the words "it is highly unlikely that the software infringes any of the Hill patents " followed by the comment that there "cannot be direct infringement of any of the claims of the Hill patents". The correct test adopted by the authorities is whether there was a mere possibility that the Elastic Path software infringes the Hill patent. The Arbitrator s less certain description "highly unlikely" prior to his more emphatic statement there "cannot be a direct infringement" cannot be reconciled. [83] The Arbitrator s factual finding, that on the evidence it was unlikely that the software was impugned due to a direct infringement went beyond a review of the allegation of infringement into a more detailed assessment of the Coastal e-commerce platform and the functions of the Elastic Path software. [84] The sole question for determination was whether there was a mere possibility that the allegation of

15 infringement might apply to the Elastic Path software used by Coastal. Elastic Path s software was the only software in the Coastal platform that could have been the subject of the Hill action. In circumstances where there is doubt that the pleadings may trigger an obligation to defend, that doubt ought to have been resolved against Elastic Path: see Opron. [85] Unless I can read the Arbitrator s conclusion as stating that there was no possibility that the Hill pleadings alleged an infringement, the duty to defend existed. On this point, the Arbitrator s conclusion that there could be no question of direct infringement creates confusion. If the corollary to his conclusion was that, although unlikely, there was a residual possibility of infringement that would have engaged the obligation to defend the claim, then his methodology and analysis of direct infringement was an error of law. [86] The Arbitrator moved on to discuss the possibility of indirect infringement of the Hill patent by use of Elastic Path s software. He was concerned that the evidence before him was not clear or convincing on the possibility of indirect liability. But he concluded on the balance of probabilities, based on the evidence before him, that the Elastic Path software was likely not impugned by the Hill action. [87] While this finding was not as confusing as his conclusion relative to direct infringement, in the result, the Arbitrator fell into error in his failure to apply the mere possibility test to the facts as he found them. The Arbitrator's reasons relating to indirect infringement reveal an evaluation of the evidence on the balance of probabilities which led him to the conclusion that the software was likely not impugned. The Arbitrator ought to have confined his conclusions to the question of whether there was a mere possibility that the Hill action impugned the software. ii. Extrinsic Evidence [88] The Arbitrator observed that the parties accepted Monenco as having settled the test regarding the duty to defend. I do not understand the Arbitrator to have construed this as an agreement or understanding that he was able to use extrinsic documents for any purpose other than as specified in Monenco. [89] Extrinsic documents may be used to understand the pleadings or determine their true nature, as stated in Monenco at paras : 35 [T]he proper basis for determining whether a duty to defend exists in any given situation requires an assessment of the pleadings to ascertain the substance and true nature of the claims. More specifically, the factual allegations set out therein must be considered in their entirety to determine whether they could possibly support the plaintiff s legal claims. 36 While these principles are instructive for the purposes of the present case, one important question arising in this appeal has been left open by the jurisprudence to date. That is, whether, in seeking to determine the substance and true nature of a claim, a court is entitled to go beyond the pleadings and consider extrinsic evidence. Without wishing to decide the extent to which extrinsic evidence can be considered, I am of the view that extrinsic evidence that has been explicitly referred to within the pleadings may be considered to determine the substance and true nature of the allegations, and thus, to appreciate the nature and scope of an insurer s duty to defend... (a) Reference to Extrinsic Evidence 37 It should be recalled that the question whether an insurer is bound to provide defence coverage in an action taken against the insured arises as a preliminary matter. Of course, after trial,

16 it may turn out that there is no liability on the insurer, and thus, no indemnity triggered. But that is not the issue when deciding the duty to defend. Consequently, we cannot advocate an approach that will cause the duty to defend application to become a trial within a trial. In that connection, a court considering such an application may not look to premature evidence, that is, evidence which, if considered, would require findings to be made before trial that would affect the underlying litigation Reference to [extrinsic evidence] did not require factual findings to be made that would impact this litigation which, in this particular case, had been settled by the time the duty to defend application was brought before the courts. A review of the extrinsic evidence simply illuminates the substance of the pleadings and as such, is consistent with the reasoning in Scalera, supra. [90] In my view, the Arbitrator considered extrinsic facts and evidence to inform his view regarding the possibility or likelihood of the Hill action succeeding. In that process he did not abide by the limitation that extrinsic evidence could be considered only to determine the substance and true nature of the allegations in order to appreciate the nature and scope of the insurer's duty to defend. [91] The Arbitrator analyzed Elastic Path s software as a typical shopping cart application". He said Elastic Path s software did not cause information to be stored locally at a customer s computer. Although the Hill action did not specifically identify the software or Coastal in its claim, the Arbitrator accepted that Coastal s e- commerce system as a whole centered on Elastic Path s software. These and other factual conclusions were derived from extrinsic evidence through a process that was more of an assessment of the claim on the merits than a simple inquiry into the question of whether the Hill action might have impugned Elastic Path s software. [92] It is precisely this approach advocated against in Monenco. [93] The Arbitrator was in error in considering this extrinsic evidence for the purpose of assessing the probability or likelihood of the Hill action succeeding against Coastal. [94] In my view, the Arbitrator s review and analysis of the patent deflected him from the main issue of whether the Hill pleadings contained an allegation of infringement by Coastal's use of Elastic Path software. It is only the allegation that was to be addressed. [95] I do not accept the suggestion by Elastic Path that the appeal is directed at a question of fact or mixed fact and law. The appeal is directed at the methodology employed by the Arbitrator in his fact finding and the method of applying those conclusions to the duty to defend test. Even accepting the Arbitrator s findings of fact as true, his error is found in the method he used in reaching his conclusions on those facts. [96] This application for leave to appeal does not require me to review or consider the Arbitrators findings of fact. The questions raised by Coastal on this point are issues of law alone. [97] Having found that it was merely unlikely that the Elastic Path software directly or indirectly infringed the Hill patent, the Arbitrator accepted that the possibility of alleged infringement by the Elastic Path software existed. The Agreement required Elastic Path to defend any allegation of infringement by its software and Coastal was contractually entitled to a defence subject to the issue of forfeiture. Having found an error of law,

17 Coastal succeeds on this appeal and the result of the arbitration might be reversed. C. Relief from Forfeiture [98] In the arbitration Coastal submitted that it was entitled to relief from forfeiture under section 24 of the Law and Equity Act, R.S.B.C. 1996, c Coastal argued that its breaches did not prejudice Elastic Path, but they would suffer great prejudice by being denied defence costs and the settlement amount. [99] Paragraph of the Agreement required Coastal to promptly notify Elastic Path of a claim or proceeding. The Arbitrator concluded that Coastal breached this clause of the Agreement. [100] Paragraph required the parties to submit any unresolved disputes to arbitration. Following Elastic Path s refusal to defend the Hill action, Coastal initiated third party proceedings in the Hill action. The Arbitrator concluded this action was a breach of the Agreement. [101] The Arbitrator dismissed Coastal's claim for relief from forfeiture at page 20, stating: It is my opinion that to the extent that courts have held that principles concerning indemnity clauses and the duty to defend causes in commercial contracts are similar or the same as insurance contracts, those principles may be applied to this case. To the extent that the facts of those cases are distinguishable from the facts of this case, then those principles may or may not be applicable in the context of the facts of this case. In this case, I find that the conduct of Coastal in breaching the conditions of paragraphs and of the Agreement, as discussed above and the unreasonable position taken in respect of these arbitration proceedings at the outset by Coastal disentitles Coastal to relief from forfeiture in respect of this matter. 1. Position of the Parties [102] Coastal argues three important principles govern the outcome of its application for relief from forfeiture. These three principles are: a. Delay alone in giving notice of a claim is not a proper consideration to deny relief from forfeiture; b. The Court s discretion to grant relief from forfeiture in regard to a failure to notify of a claim depends on the relative prejudice suffered by each party due to the delay; c. In order to invoke the clean hands doctrine as a consideration in denying a plea for relief from forfeiture there must be a nexus between the impugned behaviour and the default which is the subject of the forfeiture. [103] Coastal says the Arbitrator applied the wrong test when considering Coastal's lack of clean hands as a basis for denying relief from forfeiture. They submit that the proper test required the Arbitrator to weigh the relative prejudice to both parties flowing from the breach: Brown & Donnelly, Insurance Law in Canada (Toronto: Carswell, 1999) at [104] In Coastal s submission, the question of whether there was any evidence to support a finding of fact engages an analysis involving a pure question of law. Further, they contend that the Arbitrator made his decision to deny relief from forfeiture without evidence of prejudice to Elastic Path. In their view, this alleged

18 error is a pure question of law. [105] Coastal relies on McNish and McNish v. American Home Assurance Co., [1989] O.J. No. 507 (Ont. H.C.J.) for the proposition that if there has been no prejudice then, in the absence of bad faith or deliberate misrepresentation, relief should be granted. The Arbitrator did not specifically find bad faith on the part of Coastal. [106] Coastal argues that the denial of a defence and indemnity caused it greater prejudice than was experienced by Elastic Path due to the late notice of the Hill action. [107] They submit the Arbitrator erred in relying on Coastal s breach of s of the Agreement. They argue that this was an error of law because the Arbitrator was limited to considering behaviour that was connected to the breach (in this case the late notification of the Hill action). Coastal asserts that there was no evidence to support the Arbitrator s finding that Elastic Path was denied any pre-litigation preparation, strategy, or settlement consideration or negotiation or that Elastic Path intended to pursue any of these options. [108] Coastal argues the Arbitrator erred in taking into consideration Coastal s third-party notice against Elastic Path in the Hill action as a basis for refusing relief from forfeiture. In the absence of a direct relationship between the conduct and the impugned transaction, such conduct cannot be considered a basis for refusing relief from forfeiture. [109] Coastal also argues that because Elastic Path denied any obligation to defend Coastal or indemnify them against damages in the Hill action, Elastic Path could not succeed in arguing prejudice as a basis for denying relief from forfeiture. They say that a more timely notice of the Hill action would not have assisted Elastic Path because they would not have taken any of the steps toward investigating or defending the claim. [110] Conversely, Elastic Path argues that relief from forfeiture is a discretionary remedy based on facts as found by the Arbitrator. On this analysis, the appeal does not raise a question of law. Further, they argue that the Arbitrator s conclusions were based on findings of fact and cannot be reviewed by the Court. [111] Elastic Path says the Arbitrator found on the evidence that Coastal had breached the Agreement, prejudicing Elastic Path, and had therefore not satisfied the conditions for relief under paragraph [112] Elastic Path argues that the Arbitrator exercised his discretion to refuse relief from forfeiture on the basis that Coastal lacked clean hands. Elastic Path notes in particular that: Coastal had filed a third-party notice rather than pursuing the arbitration proceeding as provided for under the Agreement; Coastal refused to participate in the dispute resolution scheme provided for in the Agreement; Coastal failed to provide prompt notice of the Hill Action in breach of section of the Agreement.

19 [113] They submit Coastal provided untrue information to Elastic Path regarding the Hill complaint through correspondence with their American counsel. Although Elastic Path do not accept that insurance principles applied, it was of no consequence because the Arbitrator applied the correct test. [114] Elastic Path notes that Coastal does not appeal from the breaches under s of the Agreement. They argue that Coastal challenges the Arbitrator s factual findings with respect to their conduct and the prejudice suffered by Elastic Path. In Elastic Path s view, the legal questions postulated did not go to the heart of the Arbitrator's decision. 2. Findings [115] Paragraph of the Agreement required Coastal to give prompt notice of the Hill action to Elastic Path. Coastal s failure to give timely notice was a breach of the Agreement. Coastal also breached the arbitration clause by filing the defence and counterclaim in the Hill action. By bringing third party proceedings against Elastic Path, Coastal also breached paragraph of the Agreement. [116] The Arbitrator rejected Coastal's plea for relief from forfeiture in part because Coastal breached the conditions at para of the Agreement. In the Award, the Arbitrator outlines what appears to have been a threat by Coastal to name the respondent as a third-party if Elastic Path did not confirm its willingness to indemnify Coastal by February 19, [117] The Arbitrator made a finding of fact that Elastic Path had been denied pre-litigation preparation, strategy, or settlement considerations or negotiations through their own counsel as a result of inadequate notice. However, it is unclear to me whether he concluded that Elastic Path suffered actual prejudice. The Arbitrator commented that Elastic Path s position was that Coastal had failed to demonstrate an absence of prejudice and did not come with clean hands. [118] Subject to my comments below, I accept the Arbitrator s finding that Elastic Path was denied opportunities they might have had to investigate the Hill allegations. It is a possible inference that Elastic Path suffered some prejudice, but there was no evidence of actual prejudice. [119] Late notice alone does not deprive Coastal of the right to claim relief. Absent actual prejudice to an insurer caused by delayed notice, relief from forfeiture can be granted. In British Columbia Ltd. v. Alta Surety Co., 10 B.C.L.R. (3d) 84, [1995] 10 W.W.R. 100 (C.A.) [ ] the Court of Appeal said at para. 11: The question of whether the giving of notice out of time constituted non-compliance or imperfect compliance was decided by the Supreme Court of Canada in Elance Steel Fabricating Co. v. Falk Brothers Industries Ltd. (1989), [1989] 2 S.C.R. 778, [1990] 1 W.W.R. 29, 39 C.C.L.I. 161, [1989] I.L.R , 62 D.L.R. (4 th ) 236, 80 Sask. R. 22, 99 N.R Madam Justice McLachlin for the Supreme Court of Canada decided that the giving of notice out of time constituted imperfect compliance and not non-compliance and was therefore grounds for invoking s.12 for relief against forfeiture. [120] The presence of actual prejudice is an important consideration in whether to allow relief. In the Court said at paras :

20 15. In my opinion, the question is whether the surety has suffered actual prejudice. But there will be some cases in which the surety can show that it has suffered the potentiality for prejudice but where it is not possible to tell whether there was prejudice because there could be no certainty about what action might have been taken or what events might have been outside of the control of the parties. However, I think this is a case where it is possible to look directly at whether the surety suffered actual prejudice and wherever that is possible that is the key question. 16. In Gulf Plastics Ltd. v. Cornhill Insurance. Co. (1990), 47 B.C.L.R. (2d) 379, 46 C.C.L.I. 144 (S.C.) the question was expressed as whether the insurer lost "a realistic opportunity to do anything it might otherwise have done" by reason of the late notice. That decision of the Supreme Court of British Columbia was upheld by this Court in Gulf Plastics Ltd. v. Cornhill Insurance Co. (1991), 61 B.C.L.R. (2d) 64, 3 C.C.L.I. (2d) 203 (C.A.). This Court did not in any respect change the test expressed in the Supreme Court of British Columbia and I would adopt that test. 17. It was argued in this case that an opportunity to manage the risk had been lost because of the lateness of the notice. That argument was put in those general terms. There was no more precise indication of what could have been done by the surety if notice had been given within the 120 day period. There is no precise indication of what kind of management of the risk might have changed the nature of the risk and resulted in some aspect of protection to the surety which it could be said to have lost. [121] The Arbitrator noted that Coastal had failed to demonstrate an absence of prejudice as opposed to evidence supporting a conclusion that prejudice had occurred. [122] Coastal relied on the decision of Braidwood J, (as he then was) in Kelowna (City) v. Royal Insurance Co. Canada, [1992] B.C.J. No. 147, 1992 CanLII 858 (S.C.) [ Kelowna ] and Canadian Equipment Sales Service Co. Ltd. v. Continental insurance Co., 59 D.L.R. (3d) 333, [1975] O.J. No (C.A.) [ Canadian Equipment Sales ] for the proposition that a finding of prejudice, in the absence of any evidence to support the finding, is a pure question of law. Further, where a party suffers no prejudice as a result of a late notice of a claim and where that party pleads it had no duty to defend because the underlying action was not a covered claim, a failure to give notice ought not to deprive the defaulting part of a right to relief from forfeiture. [123] In Kelowna, Braidwood J. said: I am of the opinion that the onus here lies upon Kelowna to show that forfeiture would be inequitable. To that extent it must satisfy the court that there has been no prejudice to the insurer. [124] In Canadian Equipment Sales, the Ontario Court of Appeal described the situation as follows at 341: It is true that in most of those cases the insurer had notice of the loss and had repudiated liability before the proofs of loss were due. The insurer then sought to rely on the failure to file the proofs of loss and avoid the policy and the Courts invoked a form of estoppel against it. However, the commonsense principle that seems to be recognized by these authorities is that if the insurer is going to deny liability on the basis that there is no insurance or that the accident is not covered by the insurance, then imperfect or indeed non-compliance with some conditions of the policy does not prejudice the insurer in any way. In the instant case, the evidence of Mr. Griffen makes the lack of prejudice plain. If the onus is on the insured to satisfy the Court that there has been no prejudice to the insurer by the late filing of the notice of claim, then I am of the opinion that the insured has satisfied that onus. This is basically a question of fact and the defendant did not suggest in the evidence that it was prejudiced in any way by the failure of the plaintiff to file the notice of accident or occurrence "as soon as practicable". I do not think the Court is called on to conjecture further once

21 the plaintiff has elicited the information it did from the defendant's representative. If the defendant was not satisfied with those answers it could have called evidence at the trial to show what action or position it might have taken if it had received earlier notice, which it could not take subsequently. [125] From these decisions, I conclude that, but for Elastic Path s denial of a duty to defend, Coastal was under an obligation in the arbitration to prove the absence of prejudice to Elastic Path by reason of its late reporting of the Hill action. Coastal did not tender any evidence to meet that obligation. However, Elastic Path denied liability on the basis that there was no obligation to defend and, in that circumstance, noncompliance with the notice requirement did not prejudice Elastic Path because it would not have provided a defence or indemnity. [126] In these circumstances, the combined effect of Kelowna and Canadian Equipment Sales is that if the insurer denies responsibility to defend or indemnify under a policy, the issue of prejudice is, as matter of law, not germane to the claim for relief. In Bare v. Caira, 1996 CanLII 3339 (B.C.C.A.) relied on by Elastic Path, the Court said: This Court will not substitute its discretion for the discretion already exercised by a chambers judge unless it reaches the clear conclusion that the discretion has been wrongly exercised in that no sufficient weight has been given to relevant considerations or that it appears that the decision may result in an injustice. [127] The Arbitrator wrongly exercised his discretion to deny relief in the face of Elastic Path s denial of its obligation to defend the Hill action. [128] In any event, it does not appear that the Arbitrator assessed the extent of prejudice to Elastic Path nor did he weigh the relative prejudice to the parties if relief was granted. On this point, Coastal argues it suffered greater prejudice in view of the costs and settlement amounts and the lack of any demonstrated prejudice to Elastic Path favours relief. I accept that Coastal s prejudice outweighs any actual prejudice suffered by Elastic Path. [129] Coastal relies on three authorities in support of the argument that to invoke the clean hands doctrine, there must be an immediate and necessary relation between the relief sought and the delinquent behavior in question. General depravity does not bar a claim for relief from forfeiture; it is misconduct which has an immediate and necessary relation to the equity sued for. [130] In Turbide v. Moore, 2006 NSSC 71, the Court said that if a claim for equitable relief can be established without reliance on the misconduct of the claimant, then recovery is not barred. In that case, the applicant had continued to receive survivor pension benefits while living in a 30 year common-law union. [131] The applicant was not entitled to certain government benefits because she lived in that common-law relationship; she kept the living arrangement hidden from the government. She retained a separate address on government forms and did not disclose their union for the purposes of income tax. In the litigation, the applicant was seeking that a remedy for unjust enrichment and a resulting trust based on common intention. The respondent argued that the applicant was estopped from claiming equitable relief based on the maxim that equitable relief will be denied to an applicant coming to court without clean hands.

22 [132] In Turbide, the Court allowed the petitioner s claim for equitable relief because it was advanced without reliance on the misconduct. The failure to disclose the true nature of their relationship to the government was not connected to the factors upon which either party relied on in claiming equitable relief. [133] In Ben 102 Enterprises Ltd. v. Ben 105 Enterprises Ltd., 2007 BCSC 1069 [ Ben ], Barrow J. discussed the clean hands doctrine in regard to a joint venture property development dispute. In Ben the parties owned equal shares in a development company that intended to purchase land for future development. When the time arrived to complete the purchase, Ben 105 was short its share of funds by $400,000. That amount was contributed by Ben 102; the latter remained unpaid and Ben 102 sought a declaration that it held an equitable mortgage under the terms of its loan agreement with Ben 105. Ben 102 sought an order for foreclosure because the monies were not paid. Ben 102 relied on the clean hands doctrine to oppose Ben 105 s petition to order a buyout of Ben 102 s interest. [134] Barrow J. accepted that, in the context of an oppressive action, there must be a tangible relationship or immediate and necessary relationship between the conduct complained of and the relief sought. The conduct must be such as to render the granting of the relief unconscionable. In the course of the parties dealings, Ben 102 refused to extend the time for repayment of a pre-construction loan and refused to pay accounts that were due on the project; these actions amounted to conduct that would render it inequitable to grant the equitable mortgage sought by Ben 102. The parties had agreed at the time of the purchase to finance Ben 105's shortfall through a loan from Ben 102. Ben 105 could have raised the funds through the mechanisms provided in the joint venture agreement but chose not to. [135] In that case, the nexus between the impugned conduct and the claim for equitable mortgage was direct and substantial. The loan underlying the claim for an equitable mortgage was the subject matter of the agreement between the parties, and constituted conduct rendering it inequitable to grant relief. [136] First Majestic Silver Corp. v. Davila Santos, 2012 BCCA 5 [ First Majestic ], concerned a claim for damages arising from a breach of fiduciary duties. The respondent had sold shares in First Silver to First Majestic. The defendant had misrepresented to the plaintiff that he was entitled to acquire a silver mine and that that right was a corporate opportunity belonging to First Silver. After acquiring First Silver, First Majestic raised funds through public offering, but did not disclose the potential interest or claim relating to the silver mine. The mine was eventually acquired by Minera Arroyo. First Majestic commenced an action alleging that Santos had violated his fiduciary duties; the claim was defended on the basis that the plaintiffs did not have clean hands because of their alleged non-disclosure of the interest or claim in the silver mine. [137] On applications to strike paragraphs of the statement of claim the defendant applied to plead the alleged non-disclosure of the potential claim against the defendants. The applications dealing with acquiescence, and the lack of clean hands based on non-disclosures were dismissed. [138] The Court of Appeal declared that the defence of lack of clean hands was bound to fail because there was no nexus between the non-disclosure in the prospectuses and the plan approval. The Court said: [36] The chambers judge then reasoned that the defence of lack of clean hands with respect to

23 the prospectuses was bound to fail: [27] Applying that analysis, the purchase of Mr. Davila s shares had no direct relationship to First Majestic s prospectuses. The plaintiffs do not have to rely on the prospectuses to found their claim. The fact that the plaintiffs may have issued shares in order to fund the transaction has no direct nexus with the transaction with Mr. Davila and does not affect him; in fact, the prospectuses were issued after the share purchase transaction between him and First Majestic was concluded. I agree with this reasoning. In addition, there is no direct relationship between the prospectuses and the Bolaños property. [139] Coastal does not appeal the decision that it breached s of the Agreement. They argue that there was no nexus between the breach and its claim for relief from forfeiture due to its late notice of the Hill action. [140] On February 12, 2010, Elastic Path denied any obligation to indemnify or defend. Coastal obtained an order in the Hill action to file a third-party notice against Elastic Path on March 12, It is evident that, notwithstanding issuance of the third-party notice was a breach under the Agreement, notice was not issued until after Elastic Path had denied liability due in part to Coastal's failure to give prompt notice. [141] In my view, the issuance of the third-party notice occurred because Elastic Path had breached its obligations to defend Coastal. The failure to give prompt notice did not have the direct relationship with the third-party notice nor was it unconscionable to such a degree that would disentitle Coastal to relief from forfeiture. Elastic Path cannot rely on Coastal s response to Elastic Path s breach of their obligation to defend to defeat a claim for relief from forfeiture in those circumstances. [142] As in First Majestic, there is no direct nexus between Coastal's failure to give prompt notice and their deliberate breach of the Agreement of adding Elastic Path as a third-party. I do not see how the subsequent disagreement between the parties over the obligation to defend or indemnify would have a bearing on whether relief should be allowed for the delay in giving prompt notice. [143] Next, the Arbitrator did not decide if Coastal's breach of the notice provisions of the Agreement prejudiced Elastic Path. He commented on Elastic Path s argument that Coastal had failed to demonstrate an absence of prejudice, not that Elastic Path had suffered prejudice. [144] The Arbitrator refused to relieve Coastal from forfeiture because Coastal breached the conditions of paras and and took an unreasonable position in respect to the arbitration proceedings [145] If the Arbitrator declined to grant relief on the basis of Coastal's unclean hands, he erred in basing that decision on Coastal s general depravity as opposed to misconduct with a necessary and immediate relationship to the late notice. If Coastal's conduct was not unconscionable then it should not have formed the basis for refusal of the relief claimed. [146] The Arbitrator also concluded that at the outset, Coastal took an unreasonable position in respect of the arbitration. This led to a finding that Coastal was disentitled to equitable relief on the basis it had unclean

24 hands. This is a matter of fact and discretion and affords the appellant no basis for leave to the appeal. So far as this is a clear breach of the Agreement, the question is whether there is a sufficient nexus between the breach of para (the filing of third party proceedings) and the claim for relief from forfeiture to deprive Coastal of its remedy. In my view, the failure of Coastal to give notice promptly, within the meaning of their Agreement, is not sufficiently connected to the third-party proceeding to deny relief from a breach of para The Arbitrator s finding in this regard constitutes an error of law. VII. CONCLUSION A. Leave to Appeal [147] For the reason given above I am satisfied that Coastal has identified questions of law which satisfy the requirements of s. 31(1). I will now consider the criteria set out in s. 31(2) 1. Importance of the Outcome to the Parties [148] Coastal argues that the arbitration is of great importance monetarily and as a practical business matter. The Award resulted in an order requiring Coastal to pay Elastic Path approximately $293,957 for costs and a denial of Coastal's claim for settlement and defence costs of approximately $278,628. The parties have an ongoing relationship with mutual contractual obligations including Elastic Path s enduring obligation to defend patent challenges. [149] Coastal advances this claim as one in damages against Elastic Path for breaching the Agreement when it refused a defence and indemnity. Elastic Path argues that Coastal's analysis of its own financial condition revealed through publicized statements indicates that its current legal actions will not have an adverse affect on ongoing operations and therefore this matter is not sufficiently important to allow leave to appeal. [150] Elastic Path argues that the appeal does not disclose an important issue for the parties. They acknowledge that the arbitration was important to the parties but any future challenge would likely involve a different patent and pleadings. Because a future dispute would involve different pleadings and patents in a different factual matrix, there would be little benefit from a reversal of the arbitration decision in this case. [151] Although the amount involved might not undermine Coastal s financial viability, the amount is substantial and sufficiently important to warrant a review of the Arbitrator s decisions. Further, any future challenge to Elastic Path s software would likely engage considerations similar to those examined in this appeal; consequently the issues on this appeal may have future repercussions for the parties. I am satisfied that the circumstances of this case meet the criteria set out in BCIT (Student Association) and, on the whole, I am satisfied that this factor supports granting leave. 2. Will the Determination of the Point of Law Prevent a Miscarriage of Justice? [152] Elastic Path argues the appeal would not prevent a miscarriage of justice because, as the Arbitrator concluded, Coastal deliberately flouted its obligations under the Agreement. This flouting of the Agreement led the Arbitrator to deny relief from forfeiture.

25 [153] The request for leave to appeal the Award engages the Court s discretion and the Court should exercise restraint in granting leave to appeal to avoid jeopardizing the advantage of finality coming from the arbitration process. [154] I recognize that the conduct of the parties and the goal of arbitration agreements are to provide a speedy and final mechanism to resolve disputes and that the integrity of the arbitration system depends on maintenance of a public policy that safeguards these objectives. [155] The errors of law made by the Arbitrator were important to the manner in which he reached his conclusion. This Court's discretion should be exercised to allow the leave application in order to prevent a miscarriage of justice. 3. Judicial Discretion and Other Factors [156] Elastic Path argues that public policy requires the Court to give substantial deference to the Award in order to preserve the integrity of the arbitration system. They argue that a pure question of law must be apparent from the face of the record and should not involve a detailed review of the evidence. [157] They argue that consideration of interpretation and application of particular contractual provisions involves an analysis of fact and law and are beyond the scope of an appeal. Also, if the correct legal principles are cited in the Award, the Court must presume that those principles were applied by the Arbitrator. In this case, the Arbitrator articulated correct legal principles but he did not properly apply the facts to those principles. Mackay v. British Columbia, 2011 BCCA 470 addressed the type of error that occurred in this arbitration. Hinkson J.A. said noted at para. 21: [21] In my view, the Chambers Judge erred in presuming that because the arbitrator correctly recited the test for nuisance, that he must have applied it correctly. The test for nuisance applied by the arbitrator raised a question of law, and as the remaining requirements for granting leave pursuant to s. 31 of the Commercial Arbitration Act were found to be present by the Chambers Judge, the appeal must be allowed. [158] In the instant case, the Arbitrator did not correctly apply the test to the facts as he found them. [159] In the present appeal, the issues raise questions of law and may result in a contrary decision that will obviate a miscarriage of justice. In my view, all of the criteria for leave have been met and I grant leave to appeal. VIII. DISPOSITION [160] I was told by the parties that it would be appropriate to decide the appeal if leave is granted: see UBC. [161] I accept that Elastic Path s duty to defend the Hill action depended on whether there was a mere possibility that the claims in the Hill action could impugn Elastic Path s software. The Arbitrator created confusion with the phrase that it was highly unlikely that the software directly infringed the Hill patent. His reasons dealing with indirect infringement were formed on a balance of probabilities analysis that the

26 software was likely not impugned by the Hill action. In my view, Coastal correctly asserts that the Arbitrator applied an incorrect methodology to his consideration of the evidence. He erred when he did not correctly apply his evidentiary findings to the question of whether there was a mere possibility of an infringement of the Hill patent. [162] On the question of relief from forfeiture, the Arbitrator erred by taking into account the third-party notice provisions and the objection to arbitration proceedings; both of these were unconnected to the issue of prejudice, occurring as a result of the late notice. I have concluded that applying the correct test to the findings of fact made by the Arbitrator, it is appropriate to grant relief from forfeiture. [163] Coastal argues that its settlement of the Hill action was reasonable and that it should be entitled to reimbursement of its defence coast and indemnity for the settlement. They rely on Cansulex Ltd. v. Reed Stenhouse Ltd. et al, 70 B.C.L.R. 273, 1986 CanLII 898 (S.C.) [In Chambers] where McEchern C.J.S.C. said at 317:...an insured who is entitled to indemnity for damages or costs is entitled to make a reasonable settlement and to recover the amount so paid where the insurer denies its liability under the policy, even though the liability of the insured to the claimant has not been determined by judgment. [164] Coastal argues that the $200,000 settlement payment was reasonable for the following reasons: the settlement was concluded with the benefit of legal advice; the amount of Coastal s settlement in the Hill action was the lowest of all of Hill s previous settlements. [165] Elastic Path raised no objection to the reasonableness of the settlement despite an invitation to review the proposed terms. Elastic Path did not argue against Coastal's assertions regarding damages. Coastal argues their legal advice suggested that costs to defend the Hill action could escalate into the millions of dollars and that they were at risk of suffering judgment after trial against Hill. Coastal were told the defence costs incurred in the Hill action would likely be unrecoverable after trial. [166] Based on the evidence, and in the absence of contrary arguments by Elastic Path, I conclude that Coastal is entitled to recovery of the monies expended to achieve a reasonable settlement of the Hill action, as well as their costs. [167] However, I would not disturb the the arbitration award of costs incurred by Elastic Path in defending the third-party notice. Those costs were incurred due to Coastal s breach of the arbitration clause in the Agreement and should be paid by Coastal. On this hearing, the parties did not address the question of costs of the arbitration, in which Elastic Path was successful on the question of the Coastal s breach of the Agreement by reason of the late notice of the Hill action and the third party action. The parties are at liberty to speak to the questions of the costs of this appeal and the division of costs of the arbitration proceedings, if any. Armstrong J.