Does Actual Loss Need to be Proven to Claim LAD?

The Federal Court decision in Cubic Electronics Sdn Bhd v Mars Telecommunications Sdn Bhd [2018] MLJU 1935 (“Cubic Electronics”) is much celebrated as it revisits previously decided cases on the claim of LAD and restates the law on liquidated ascertained damages (“LAD”) in Malaysia.

What is liquidated ascertained damages (“LAD”)?

LAD refers to a fixed sum of money that has been contractually agreed to be payable by the defaulting party upon a breach of contract. LAD may also refer to the predetermined damages to be paid to the innocent party when there is a delay and/or failure of the other party to achieve certain milestones or completion in construction work within a stipulated time.

What are the purposes of inserting a clause stipulating LAD in a contract (“LAD clause”)?

The intention of parties inserting a LAD clause in a contract would be to increase certainty and to avoid lengthy and expensive legal costs of determining actual damages later if the contract is breached. A LAD clause is negotiated by the parties, at the time of contract, to pre-estimate compensation for the probable damage that will result from a breach of contract.

What is the law governing LAD in Malaysia pre-Cubic Electronics?

In Malaysia, the LAD is governed under section 75 of the Contracts Act 1950 (“CA”) whereby the section provides 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.”

A literal interpretation of section 75 seems to suggest that actual damage or loss need not be proven to claim for LAD. However, a string of cases in Malaysia suggests that the authorities have different thoughts.

In Selva Kumar a/l Mrugiah v Thiagarajah a/l Retnasamy [1995] 1 MLJ 817, the Federal Court decided that the phrase of “whether or not actual damage or loss is proved to have been caused thereby” is intended to cover two kinds of situations:

1. situation where the court would find it difficult to assess reasonable compensation for the actual damage or loss suffered (“the first type of case”); and
   

2. situation where the court could assess reasonable compensation with settled rules (“the second type of case”).

The said phrase only applies to the first type of case where the evidence clearly shows some real loss and the loss is not remote but no known measure of damages employable. In that case, substantial damages not exceeding the sum stipulated in the contract which was deemed reasonable and fair by the court should be awarded. However, for the second type of case, the claimant of LAD must prove that actual loss has been suffered. Failure to prove damages for such actual loss will cause the refusal of the court in awarding LAD.

The decision in Selva Kumar had cast some doubts and confusion in drawing a line between the first type of case and the second type of case. Besides, the need to prove an actual loss to claim LAD has defeated the main purpose of inserting a LAD clause as discussed above.

Be that as it may, the decision in Selva Kumar has then been affirmed by the Federal Court in Johor Coastal Development Sdn Bhd v Constrajaya Sdn Bhd [2009] 4 MLJ 445.

How does the decision in Cubic Electronics affect the law on LAD in Malaysia?

In Cubic Electronics, the plaintiff offered to buy a piece of land from the defendant together with the plant and machinery thereon for RM90 million. According to the terms, the plaintiff had to pay an earnest deposit of RM 1 million should the defendant accept the offer. The plaintiff had to execute the sales and purchase agreement within one month from the date of acceptance unless otherwise extended, failing which the earnest deposit would be forfeited. A 10 percent of deposit had to be paid by the plaintiff upon execution of the sales and purchase agreement. There were several requests to extend the time to execute the sales and purchase agreement. The plaintiff had paid a total of RM3 million when the final request for an extension of time for execution of the sales and purchase agreement had been rejected by the defendant. The issue that arose was whether the additional deposit, RM 2 million paid for the extension of time, is subject to forfeiture.

With respect to the issue of whether an actual loss has to be proven to claim LAD, the Federal Court held that:

• A deposit is subject to Section 75 of CA;

• Section 75 of CA allows reasonable compensation to be awarded without the need to prove actual damage or loss;

• What amounts to reasonable compensation under section 75 of CA will rely on the concepts of legitimate interest and proportionality as laid down in Talal El Maksessi v Cavendish Square Holdings BV [2015] UKSC 67;

• A sum payable on breach of contract will be an unreasonable compensation if it is extravagant and unconscionable when compared with the highest conceivable loss which could possibly flow from the breach unless there is proper justification;

• The initial onus lies on the party seeking to enforce the damages clause covered under Section 75 of CA to adduce evidence that there was a breach of contract and the contract contains a clause specifying a sum to be paid upon breach. Once the two elements have been proven, the innocent party is entitled to receive a sum not exceeding the amount provided irrespective of actual loss. Nevertheless, suppose there is a dispute as to what constitutes reasonable compensation. In that case, the defaulting party bears the burden of proof to show that the sum stipulated in the damages clause is unreasonable.

In short, the interpretation of Section 75 of CA in Cubic Electronics has overruled the decision in Selva Kumar and Johor Coastal and reinstated the significance of liquidated ascertained damages clauses, resolving the previous problematic judicial approach in interpreting Section 75 of CA in Malaysia.

This article is only intended to provide general information to our Firm's clients and it should not be regarded as professional legal advice. Should you require any professional legal advice, you are advised to consult us.