Thursday, March 6, 2014

The Bombay High Court on the Agreed Sum and Penalties: A Missed Opportunity?

It has often been said that a court cannot arrive at the right answer unless it asks itself the right question. This resonates particularly in the field of private law, because—as it is perhaps more technical and complex than some other areas of the law—the applicability of certain rules depends upon the characterisation of the issue at hand (for eg, is it a sale or a licence, a penalty or liquidated damages, negligence or breach of contract, causation or remoteness and so on). A good example of this is the field of remedies for breach of contract: what distinguishes the agreed sum from damages and penalties? In the one case (debt), an immediate obligation has crystallised which the claimant may enforce through an action for the agreed sum. In most common law jurisdictions, although India is perhaps a notable exception, the action for the agreed sum is by far the most frequently used contractual remedy (see for eg A Burrows Remedies for Tort and Breach of Contract at 433).

The Bombay High Court has recently considered some of these questions in Indiabulls Properties v Treasure World Developers. For the reasons that follow, it is respectfully submitted that the Court erred in its analysis of the difference between the agreed sum and damages and in omitting to consider the important cases of Andrews and Makdessi. Indiabulls is the latest of a series of High Court cases dealing with ‘leave and licence’ agreements: in outline, the typical dispute is something like this. The claimant (in this case Indiabulls) gives (usually expensive) property on a medium or long-term licence to the defendant, with what is described as a ‘lock-in’ period during which the defendant licensee cannot ‘terminate’ the agreement. The contract usually provides that the defendant is liable to pay the licence fee for the remainder of the lock-in period whether it occupies the property or not. An analysis of the contractual language is important in this respect, because on it turns the question whether the defendant’s decision to leave the property prematurely constitutes a breach of contract or the exercise of an option for a price. In the present case, clause 3.1 provided that Indiabulls thereby granted ‘leave and licence’ to use the Property for a period of 60 months and that:

3.1 … there shall be a 36 (thirty-six) months Lock in period for the Licensee during which period the Licensee shall not be permitted to terminate the Leave and License Agreement.   
Clause 13.2 provided that Treasure World,

13.2 …‘if it desires to terminate this Agreement prior to the expiry of the Lock in Period or the Licensor is compelled to terminate this Agreement before the expiry of the Lock in Period for defaults of the Licensee not cured within a period of one month as provided in clause 12, then the Licensee shall be required and liable to pay to the Licensor the License Fee, Car Parking Fees, Maintenance charges for the entire un-expired Lock in Period.

Treasure World occupied the Property on 15 June 2011. It fell into arrears with respect to the licence fee for the period June 2012-October 2012. In late October it expressed a desire to leave and soon after left the Property. The learned judge, Patel J, finds that this constituted a termination of the contract. It is unnecessary to consider for present purposes whether that finding is correct, although one may be permitted to respectfully question the accuracy of the observation (see [16]) that it must constitute a termination simply because ‘possession… is the sine qua non of a [leave and licence] agreement’. Indiabulls then demanded that Treasure World pay inter alia the licence fee for the remainder of the lock-in period (what Patel J calls ‘Claim 3’, at [22]) under clause 13.2 above. When Treasure World refused, it served notice under section 433 of the Companies Act, 1956, and the question of law that Patel J had to decide was whether the sum claimed by Indiabulls constituted a ‘debt’ for the purposes of sections 433 and 434.

Patel J begins his analysis by considering the recent High Court cases on this subject, the effect of which is summarised at [41][45]. The learned judge then says, in the light of well-known authorities that describe this concept with the aid of the expression ‘debitum in praesenti solvendum in futuro’ that Treasure World’s obligation under clause 13.2 is:

53 ...a sum of money payable now; expressed even at the time of the execution of the agreement to be payable but only on the happening of a contingency; and that contingency having happened, the amount is ascertained, payable immediately and is therefore a debt due and a debt owed sufficient to sustain a petition for winding up. The obligation was ever eo instanti; it was only, at the time of the execution of the agreement, solvendum in futuro. Now that the contingency contemplated by the contract has occurred, it is solvendum in praesenti
(it is not clear if [53] is counsel's submission or a finding but [58] below is a finding to the same effect)

58…I must disagree with Mr. Andhyarujina when he says the contingency requires determination. That is only another way of saying that Indiabulls must establish that an oral understanding of abandonment of the written contract did not exist. The moment the contingency occurs, Treasure World’s liability is instantly crystallised. It immediately incurs a debt payable immediately.

With respect, it is submitted that even if Treasure World ‘immediately incurs a [sum] payable immediately’ under clause 13.2, one cannot conclude that it is an enforceable ‘debt’ without asking two further questions: (1) was thatimmediate obligation triggered by a breach or by an event other than breach; and (2) even if was triggered by an event other than breach (and was therefore arguably an ‘agreed sum’), does the penalty doctrine nevertheless apply so that the claimant is not entitled to the sum specified in clause 13.2? Unfortunately, neither question appears to have been considered by the Court.

On the first question, Patel J finds that clause 13.2 is not ‘damages’ (see [59]), but it is difficult to see how this is consistent with the finding at [16] that Treasure World’s decision to leave the property constituted a ‘termination’ of the contract. One can conceivably reconcile the two findings by positing that the finding at [16] was only that the ‘option to terminate’ was exercised by Treasure World although that sits uncomfortably with the ‘possession is a sine qua non’ comment. Even assuming that is what [16] means, the Court did not consider whether the decision to leave constituted a breach of contract or not, and it is this question that is decisive of whether clause 13.2 is liquidated damages. If it was a breach of contract for Treasure World to leave before the expiry of the lock-in period, it must follow that the sum payable under clause 13.2, whether described as ‘consideration’ or ‘damages’, is not a debt in Indian law. If the Court had dealt with this issue, it would, in particular, have had to determine whether premature exit is a breach of clause 3.1, in which event the sum specified in clause 13.2 would have been triggered by breach. On the other hand, if Treasure World was contractually entitled to leave before the expiry of the lock-in period by paying the ‘price’ specified in clause 13.2, then clause 13.2 is a debt. 

The second question—which would only have arisen if the Court had answered the first question in the negative—is whether a sum named in a contract as payable on the happening of an event other than breach is nevertheless subject to the penalty doctrine: this depends on whether the penalty doctrine applies only to breach or also to non-breach events. Although s 74 of the Indian Contract Act opens with the words ‘when a contract has been broken…) it was settled by the cases decided before the 1899 amendment that it is not exhaustive of the Indian court’s penalty jurisdiction (see for eg Chowdhury v Chowdhury 2 CWN 234 and Lal v Dayal ILR 26 Cal 300). Further, two well-known cases have discussed this recently but neither appears to have been considered by the Bombay High Court—Andrews (High Court of Australia) and Makdessi (Court of Appeal). We have previously commented on Andrews, which raised exactly this question: it undermines the assumption at in Indiabulls that an obligation not triggered by breach is always recoverable once it has accrued. Makdessi was slightly different, as the sanction was triggered by breach although it was not in the form of a sum of money; nevertheless, Christopher Clarke LJ’s analysis of the law is instructive.

An alternative argument—which Patel J rejected on the facts at [16]—was that Treasure World had left the Property but without terminating the contract. If this had been correct, it would have given rise to the question whether Indiabulls could have rejected the repudiation and sued for the licence fee that would have accrued each month. The Indian law on this point is presently uncertain, because the Supreme Court has endorsed the rule in White & Carter without indicating whether Lord Reid’s exceptions (cooperation and legitimate interest) are also good law in India. There are some High Court cases that effectively reject the cooperation exception but also Privy Council authority to the contrary.

In sum, it is interesting that Patel J observed that the defendant’s conduct was ‘commercial deceit’ ([20]) and that its defence to the claim was ‘speculative, spurious, specious, illusory … and no defence at all’ ([64]). However, the merits apart, was it not arguable (for all the reasons above) that Indiabulls had at best a claim and not a debt? One respectfully wonders whether it was appropriate to exercise the jurisdiction to wind-up a company for its refusal to pay a claim which (whatever its strength) is only a debt if these potentially difficult questions of law are resolved in the creditor's favour.


vswami said...


".....unless it asks itself ...."
As understood, this talks of what needs to be the most idealistic or ideological , but the rarest of rare happening ever in the court room ; not only in our mother land, but elsewhere as well. Further, asking itself' might, for obvious reason, serve no useful purpose, unless put across to the representing counsel (s) for an answer.

Though not often said, as one of those very few of renowned legal legends once said,quoting a jurist, to the effect that, - it is only a judge who. if at all, can have a good excuse for not knowing/being ignorant of all the laws on the statute book.
Underlining the self-same firm conviction of his, again once said, :

" A lawyer with a well furnished mind alone can be truly a counselor at law; he alone can, not merely look up precedents, but guide his client along the path of wisdom, even of generosities which may appear irrelevancies to the preoccupied client. In the hands of such a lawyer, the law represents the application of reason to noble and purposeful ends.”

If intelligently viewed, that simply means it is the representing counsel, and counsel alone, who can be of assistance to court to adjudicate any issue on hand, judiciously /objectively, so as to pronounce a right or better judicial opinion.

For more such earnest lamentations of that towering personality, Palkhivala, a lawyer par excellence himself, if interested, one may care to read his published thought provoking speeches and writings rich in worldly wisdom.

Anonymous said...

Thanks for the wonderful analysis of the decision.

I was wondering, whether such lock in clauses in leave and license agreement are valid at all, in law. License, as differentiated from lease, has an essential characteristic where it can be terminated at will. A lock in period clause would go against the logic of a license itself. This is one point of view. The other being, that an agreement is entered into as a lease but masked as a license to give the landlord certain advantages. That being so, if the landlord wishes to ensure his licensees presence for a fixed term, he could always insert a lock in period.

What in your opinion is the stance on the validity of a lock in period in a license agreement?