Andrews’ impact

I would have posted this extract from my forthcoming book on LinkedIn. But it is too long. So here it is. The formatting has come across a bit wonky, but you might get the drift:

  • Notice Provisions that are Penal
    • It has been suggested that the law of penalties might be applied to render some notice provisions void. The suggestion has attracted some controversy[1]. There is a narrow approach and a broader approach.
    • In 2003, the narrow approach was tried before the Inner House in Scotland, and failed, in City Inn Ltd v Shepherd Construction Ltd[2]; this appears to be the only authority on a frontal assault on a notice provision on the ground of it being a penalty. The argument went as follows: Following Dunlop Pneumatic Tyre Co Ltd v. New Garage and Motor Co Ltd[3] the court would regard the framework as a penalty, and therefore unenforceable, if it stipulated for payment by the contractor to the principal of a sum of money which was:

    (a) payable on the occurrence of a breach of contract by the contractor; and

    (b) not a genuine pre-estimate of the loss likely to be suffered by the principal as a result of the breach, but instead was designed to operate in terrorem , or oppressively or punitively.

    But the court found that the facts satisfied neither aspect. First, the absence of a notice by the contractor did not amount to a breach of contract, but was simply an option available to him. Secondly, the liquidated damages were not a consequence of the absence of notice, but of the contractor’s failure to complete on time.

    • Arguably, that approach puts the principle too narrowly. Certainly, Dunlop establishes the basis of the doctrine of penalties in the context of sums of money provided to be payable in the event of a breach of contract. But on at least one view, the law of penalties as explained in Dunlop is grounded in the law of unconscionability[4], which is of rather broader application. Tómas Kennedy-Grant has put it as follows[5]:

    Unconscionability may be looked at in either one of two ways:

    1. a) As a specific ground for avoiding a contract or controlling the operation of a particular provision of a contract; or
    2. b) As the underlying justification for a wide range of principles or remedies.

    In the former sense, a contract will be set aside as unconscionable if a party to it suffers from a disadvantage of which another party to the contract is or ought to have been aware and of which that second party takes advantage[6].

    • The law of New Zealand may well have gone further in this regard than other common law jurisdictions, and certainly the law of unconscionability has been largely developed in the context of cases where one party is under a special disability. But Lord Dunedin was careful in Dunlop to say that he was not deciding anything about the extent to which the narrow rule, as he expressed it in his often quoted formula, derived from the equitable treatment of unconscionable bargains – a issue he characterised as “probably more interesting than material”. It might thus be said that Dunlop is one thread of a broader tapestry, and that – without seeking to stray unduly far from home – a provision in a contract that calls for a procedural step such as the giving of a notice is penal if the effect of not taking that step is unconscionable and extravagant in comparison to the greatest loss which would befall the other party as a result of that step not being taken. But this broader approach is purely speculative; there appear to be no recent authorities on it.

    [1] For the suggestion, see Andrews v ANZ and penalty clauses (2012), Philip Davenport. Against it see Message for adjudicators: Contrary to what you might have heard, a properly drafted contractual time bar will not attract the penalty doctrine (2013), John Bond SC and Time Bars in Construction Contracts will not enliven the Penalty Doctrine (2014), Chris Harriss. There appear to have been a number of adjudication determinations in which notice provisions have been found by adjudicators to be penal; see Harriss at fnn 3 and 4.

    [2] [2003] ScotCS 146, [2003] CILL 2009, [2003] 1 BLR 468. See page 245 below for extracts from the judgment.

    [3] [1915] AC 79, 86.

    [4] See Good Faith, Unconscionability, Reasonableness – What On Earth Do They Have To Do With Construction Law?; Tómas Kennedy-Grant, QC, a paper presented to the Fourth International Construction Law Conference (Melbourne) and others in 2012;

    [5] See the same paper.

    [6] See, in New Zealand: O’Connor v Hart [1983] NZLR 280 at 290/9 – 30 (CA) and [1985] 1 NZLR 159 at 171/7 – 22 and 174/17 – 30 (PC); Moffat v Moffat [1984] 1 NZLR 600 (CA); Nichols v Jessup [1986] 1 NZLR 226 (CA); Contractors Bonding Ltd v Snee [1992] 2 NZLR 157 (CA); Attorney – General for England and Wales v R [2002] 2 NZLR 91 (CA); and

    Gustav & Co Ltd v Macfield Ltd [2007] NZCA 205. The Supreme Court has held that the question of unconscionability is to be determined at the time the contract is entered into: and Gustav & Co Ltd v Macfield Ltd [2008] NZSC 47, [2008] 2 NZLR 735. See also, in Australia: Bridgewater v Leahy (1998) 194 CLR 457 (HCA); and Australian Competition and Consumer Commission v CG Berbatis Holdings Pty Ltd [2003] HCA 18, (2003) 214 CLR 51, (2003) 197 ALR 153, (2003) 77 ALJR 926. See also, for a recent example at State level, Tenth Vandy Pty Ltd v Natwest Markets Australia Ltd [2012] VSCA 103

  • Further, the law of Australia has developed such that it is now clear that the doctrine of penalties is not restricted to cases in which the trigger for the penalty is a breach of contract. In Andrews v Australia and New Zealand Banking Group Ltd[1], customers challenged various honour, dishonour, non‑payment and over limit fees charged by ANZ. These events were found not to be breaches of contract by the customers. The question was whether the fees charged could nevertheless be attacked as penalties. The key finding of the High Court was that the doctrine of penalties may be enlivened, not only by breaches of contract, but by other collateral matters. In the course of its judgment, the High Court set out the structure in the banking context:
  • The customer owed a primary obligation to the bank (referred to as “the second party”) to do various things, such as to stay within overdraft limits, pay balances off by the required time, etc;
  • The obligation of the customer to pay the bank charges in question upon failure of the primary obligation was “collateral” or accessory”;
  • For the penalty doctrine to be enlivened, the prejudice or damage suffered by the bank for breach of the primary obligation had to be susceptible of evaluation in monetary terms;
  • If the “collateral” obligation be categorised as a penalty, the result is that the collateral obligation/penalty is enforced only to the extent of such prejudice or damage.
  • There are some obvious differences between these considerations, and those which apply in the context of a notice provision of the Queens of Hearts clause type:
  • In the ANZ case, the advantage that the bank was seeking was bank charges, allegedly much greater than any true cost attaching to what triggered them. In a Queen of Hearts case, the advantage that the owner is seeking is not having to concede extensions of time, and hence to obtain liquidated damages for periods of delay for which she is responsible, and also not having to pay the cost of variations and other matters which she would otherwise have to pay for;
  • In a Queen of Hearts clause case, the concepts of primary and secondary obligations as understood in the ANZ case are of very limited applicability. It is true that the notice obligations (if obligation they be) are collateral or accessory, in the sense that their failure may be regarded as invoking the doctrine of breakdown of contractual machinery. In the ANZ case, however, it was the failure of the primary obligation (staying within overdraft limits etc) which triggered the penalty. In a Queens of Hearts clause case, the primary obligation is for the owner to concede appropriate extension of time and money in certain events such as owner-required changes, and it is the failure, not of that obligation but of a collateral obligation to give notice, that triggers the penalty, being the disentitlement of the contractor to his primary rights.
  • But of great importance was the ruling by the High Court that the doctrine of penalties remains founded in equity, and is not constrained by any rigid common law rule:

62         Moreover, the applicants correctly submit that the ANZ can point to no reason in principle why the scope of the equitable doctrine should be restricted to those cases today where, hypothetically, an assumpsit action would have lain at common law in the 19th century. Indeed, considerations of principle point in the other direction. It is undoubtedly the case that in fields of private and public law the principles of equity continue to develop by principled advances of traditional doctrine. Sir Anthony Mason has noted that while the common law comprised rules which traditionally existed as a body of customary law, equity “made no secret of its evolutionary development”. Why, with respect to the penalty doctrine, that evolutionary process should be restricted by hypothetical assumpsit actions is not apparent.

  • On this analysis, there appears to be little impediment for a court, if so inclined, to make the principled advance to the effect that a provision which purports to deprive a party of a primary contractual right to additional time or payment merely for failure strictly to comply with a secondary obligation such as one to give a notice is penal and of no effect if the likely cost of such deprivation is extravagant and unconscionable in amount in comparison with the greatest loss that could conceivably be proved to have followed from failure to comply with that secondary obligation. The more onerous and the more unreasonable the terms of such a secondary obligation to give notice, and the more artificial it is in comparison with the likely practical effect of such notice, the more likely it is to be treated as a penalty. A well drafted and reasonable time bar is most unlikely to be penal, but a wholly unreasonable Queen of Hearts clause may well be. It is submitted that a common law court could and should so hold.

[1] [2012] HCA 30

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