Federal Court finally puts Selva Kumar to rest

The case of Selva Kumar a/l Murugiah v Thiagarajah a/l Retnasamy had been a cause of many an advocate’s nightmare. Once liability has been established, you must still strictly proof damage suffered, even if the contract has an agreed liquidated damages clause. Sometimes, the strict proof of damage is not so simple, and as a result, contractors who are late get off the hook just because damages cannot be proven.

We seem to be on the verge of waking up from this nightmare with the recent Federal Court decision of Cubic Electronics Sdn Bhd (in liquidation) v Mars Telecommunications Sdn Bhd. Interestingly, the case of Cubic Electronics in fact concerns the claim for refund of earnest deposit paid. However, the Federal Court took the opportunity to delve into a re-look at section 75 Contracts Act, and specifically overturned Selva Kumar.

The facts of Cubic Electronics are simple:

a. Cubic Electronics was the owner of a piece of land in Melaka together with machineries on the land. When it was wound-up, the land and machineries were put up for sale by way of open tender.

b. Mars Telecommunications made an offer to purchase the properties for a total of RM90 million, and offered an initial earnest deposit of RM1 million. The liquidator did not proceed with the open tender and accepted the earnest deposit paid.

c. Having paid the earnest deposit, Mars Telecommunications failed to sign the sale and purchase agreement within the requisite time frame. Instead, they paid a further RM500,000.00 of earnest deposit in exchange for an extension of time.

d. Mars Telecommunications subsequently paid yet a further RM500,000.00 earnest deposit for a second extension of time.

e. They subsequently paid a further RM1,000,000.00 earnest deposit and RM40,000.00 late interest payment for a third and final extension of time.

f. Even then, Mars Telecommunications did not sign the sale and purchase agreement despite the third extension of time, and consequently, the liquidator forfeited the earnest deposits paid totalling RM3,040,000.00. The property was then sold to a third party.

Dissatisfied, Mars Telecommunications sued for a return of at least RM2,040,000.00 (less the initial earnest deposit of RM1,000,000.00). Their suit was duly dismissed by the High Court.

However, on appeal to the Court of Appeal, Mars Telecommunications was successful, in that the Court of Appeal allowed the refund of RM2,040,000.00. The Court of Appeal held that following Selva Kumar and the subsequent case of Johor Coastal Development Sdn Bhd v Constrajaya Sdn Bhd, there was no evidence to show that Cubic Electronics had in fact suffered damage to the sum of RM3,040,000.00, neither was the same a genuine pre-estimate of loss pursuant to section 75 Contracts Act.

The matter therefore went before the Federal Court. The Federal Court reaffirmed the position of Linggi Plantations to the effect that in the event of a breach of contract, monies paid in advance for performance and as part-payment of the contract price is recoverable, but a deposit paid is not recoverable.

However, the Federal Court goes on to say that a deposit is subject to section 75 Contracts Act (being tantamount to an amount stipulated to be paid in the event of a breach). This is because section 75 does not distinguish between a deposit and other agreed payments or penalties.

The Federal Court then concludes that section 75 allows reasonable compensation to be awarded by the court irrespective of whether actual loss or damage is proven. Therefore, the correct approach in determining any LAD clause would be:

a. The party seeking to enforce a damages clause must adduce evidence that there was a breach of contract and the contract contains a clause specifying a sum to be paid upon breach. Once established, the innocent party is entitled to receive a sum not exceeding the amount stipulated in the contract irrespective of whether actual damage or loss is proven.

b. If there is a dispute as to what constitutes reasonable compensation, the burden of proof falls on the defaulting party to show that the damages clause including the sum stated therein is unreasonable.

In establishing the approach to an LAD clause, the Federal Court has reversed the onus now to lay the burden on the party in breach to show that any LAD clause is unreasonable, instead of the current position where the party seeking to enforce an LAD clause must nevertheless prove its actual damage or loss.

This is a welcome departure and development in the Malaysian position. Where an LAD clause is not patently unreasonable on the face of it, it flies in the face of fairness and good sense to compel the party not in breach to nevertheless jump through the hoop of having to prove its actual loss.

That does not however mean that the party in breach is without remedy.

a. Firstly, the party in breach can still seek to show that the quantum of LAD imposed is unreasonable under the circumstances; and

b. In any event, the Federal Court has not removed the discretion of the judges to determine a reasonable compensation notwithstanding an LAD clause. It is still not claimable per se, although the high bar of proof has been substantially lowered.

It will be interesting to see how this plays out in future CIPAA cases. Currently, in most CIPAA cases, adjudicators have rarely allowed LAD counter-claims to reduce the amount of claim, on the basis of Selva Kumar and the need for the developer to prove actual loss. The scenario may well change quite drastically moving forward.

Kheng Hoe Advocates advises clients in arbitration, litigation, adjudication (CIPAA) and mediation of construction disputes. We can be reached at khenghoe@khenghoe.com.

 

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