What is the effect if both parties agree that a certain sum will be paid as compensation for breach?

Section 75 of the Contracts Act 1950 states that, ‘when a contract has been broken, if a sum is named in the contract as the amount to be paid in case of such breach, or if the contract contains any other stipulation by way of penalty, the party complaining of the breach is entitled, whether or not actual damage or loss is proved to have been caused thereby, to receive from the party who has broken the contract reasonable compensation not exceeding the amount so named or, as the case may be, the penalty stipulated for.’

 Visu Sinnadurai wrote in the 2nd Edition of The Law of Contract in Malaysia & Singapore : Cases and Commentary that, ‘It is generally said that section 75 of the Contracts Act does away with the distinction between liquidated damages and penalties as understood under English Law’.

Amongst others, the writer quoted Maniam v The State of Perak [1957] MLJ 75 where Thomson J said that, ‘This section boldly cuts the most troublesome knot in the common law doctrine of damages. In brief, in our law in every s\case if a sum is named in a contract as the amount to be paid in case of breach it is to be treated as a penalty.’

 The writer also quoted the observation of Thomson J, Abdul Aziz J in Wearne Brothers (M) Ltd v Jackson [1966] 2 MLJ 155 who stated that, ‘the distinction between liquidated damages and penalty has ceased to be of great legal importance because the result in either case is that the court must determine reasonable compensation.’

 The writer summed all these up to denote that in so holding that under Section 75 no distinction is drawn between liquidated damages and penalties, the courts have said that every fixed sum in a contract will be treated as a penalty. In effect this would mean that any stipulated sum in a contract which is meant to be liquidated damages, even though it is not a genuine pre-estimate of the damages cannot be recovered unless the court is satisfied that it is a reasonable sum. In other words, the court has to be satisfied that every sum of money payable by way of liquidated damages is reasonable.

 In Selva Kumar Murugiah v. Thiagarajah Retnasamy [1995] 5 CLJ 374 it was held that, ‘the evidence shows clearly some actual loss, damages for which could be assessed by settled rules… This is, therefore, a case where damages could be proved by settled rules. But the vendor has brought no evidence to prove damages for the actual loss as explained earlier, so that we could have awarded at least some damages as compensation for loss of use of the medical equipment from some evidence of its rental value should it be rented out. Thus the real damage cannot be quantified. In other words, the damages have not been proved. The sum of RM96,000 paid towards the purchase price, less the sum comprised therein which was paid as earnest money, would have to be refunded to the purchaser by the vendor subject to what is to be further said below about the sum representing the earnest money or the deposit. Apart from the real loss (which has not been proved), the vendor ought to be entitled, in any event, to forfeit any reasonable amount of earnest money or deposit…’

 In reaching this decision, the court considered the following: (i) a restricted or limited construction though the language used in Section 75 of the Contracts Act 1950; (ii) ‘hether or not actual damage was proved to have been caused thereby’, are limited or restricted to those cases where the court would find it difficult to assess damages; (iii) the precise attributes of such contracts in which it is difficult for a court to assess damages for the actual damage or loss, are cases where there is no known measure of damages employable, and yet the evidence clearly shows some real loss inherently and such loss is not too remote; then the court ought to award, not nominal damages, but instead, substantial damages not exceeding the sum so named in the contractual provision, a sum which is reasonable and fair according to the court’s good sense and fair play and (iv) where there is inherently any actual loss or damage from the evidence or nature of the claim and damage for such actual loss is not too remote and could be assessed by settled rules, any failure to bring in further evidence or to prove damages for such actual loss or damage, will result in the refusal of the court to award such damages, despite the words in question.

 However, in reference to the more recent case of Jayaplus Bakti Sdn Bhd v Chip Heng Development (M) Sdn Bhd [2009] MLJU 1509 the court seems to somewhat depart from the approach adopted in the above cases. In this case, the Plaintiff attempted to rely upon clause 12 of the SPA that in the event of the Defendant’s default, the defendant shall pay to the plaintiff a sum equivalent to 10% of the purchase price. The court awarded the liquidated sum as stipulated in the said clause after deducting the deposit (which was also provided for in one of the clauses) for the following reasons(i) it is difficult to quantity and compute the loss of profit that the plaintiff may suffer;

(ii) a fixed figure of damages, which is not assessed for all circumstances but is graduated to correspond with passage of time between the making of contract and its breach, is a proper estimate of the damages to be anticipated from the breach and is recoverable as liquidated damages;

(iii) in attacking the liquidated damage clause as a penalty the defendant is in fact asking the court to relieve the defendant of its contractual obligations which it had freely entered into and undertaken in exchange for good consideration. This Court would incline in favour of preserving the sanctity of the SPA which has been freely

entered into by the parties;

(iv) The terms and conditions of the SPA was finalised by the parties with the benefit of legal advice. It is an agreement between 2 commercial entities and of equal bargaining power. The parties have agreed on the formulation of the compensation to be paid in the event of a breach by either party. The compensation payable is in both cases the same liquidated sum, being an amount equivalent to 10% of the purchase price. The parties entered into the SPA freely and with full knowledge and understanding of the terms and conditions; and

(v) the court relied upon Yap Yew Cheong & Anor v Dirga Niaga (Selangor) Sdn Bhd [2005] 7 MLJ 660. To strike down clause 12 on the ground that it is a penalty clause would be a patent interference with the parties freedom of contract.

 Based on the above cited case, it appears that the court will not depart from the contract between the parties pursuant to the doctrine of freedom of contract. However, it is submitted that it is not a hard and fast rule as there are certain conditions that need to be taken into consideration, as mentioned above.