IAC (Leasing) Ltd v Humphrey

I agree with my brother Walsh's reasons for reaching this conclusion and for the conclusion that the amounts claimed for rent and for repossession charges were recoverable. I agree that judgment should have been given for the amount claimed.

In this matter I have had the advantage of reading the reasons for judgment prepared by the Chief Justice and those prepared by my brother Walsh. I agree that the appeal should be allowed.

This is an appeal from a decision of the Supreme Court of Western Australia (Virtue J.) by which it was declared that the moneys which the appellant sought to recover in an action against the respondent were irrecoverable as constituting a penalty and it was ordered that the appellant pay certain costs of the respondent and that the appellant should recover against the respondent damages to be assessed by the Master.

The learned trial judge stated that the only issue before him was whether certain terms of an agreement between the appellant as lessor and three persons including the respondent as lessees, which purported to confer rights on the appellant as against the respondent, "are unenforceable as a penalty and because they are harsh and unconscionable". He stated that it was agreed by the parties that if he were to hold that they were a penalty he should refer the matter to the Master "to assess the damages for which the respondent was liable for the breach"; but if he were to hold that they did not constitute a penalty, it was conceded that the appellant was entitled to judgment for the amount claimed by the amended statement of claim, which was $17,852.

The amended statement of claim, the statement of defence and the agreement of the parties that, according to the decision reached by his Honour on the issue debated before him, there was to be either a subsequent assessment of damages or a judgment for the amount claimed failed, I think, to define with accuracy the real questions concerning the rights and liabilities of the parties which arose from the terms of the agreement and from the events which occurred. However, I am of opinion that this does not prevent this Court from dealing with the questions raised by the appeal.

The agreement was made on 6th December 1967. By cl. 1, the lessee agreed to lease from the lessor the equipment, described in the schedule, as Hitachi tractor with blade, rake, canopy and ripper, for a term of eighteen months "at an entire rent equal to the total of the instalments provided in the schedule subject however to adjustment of such rent as provided in Clause 4". The instalments specified in the schedule were $1,304 per month, payable in advance. In the schedule it was stated, "It is agreed that the above rent is based on an appraisal value of $25,190 at termination of the lease". In cl. 2, there were several covenants by the lessee, including a covenant, expressed to be subject to cl. 4, to pay the rent by the instalments and at the times set out in the schedule. In cl. 3, there was a covenant in these terms:

(b) To indemnify the Lessor in respect of any loss of or destruction of the equipment howsoever caused the measure of which shall be the then outstanding rent hereunder rebated as provided in Clause 4 hereof together with the appraisal value hereunder or the value of the goods, whichever is the greater less the value (if any) of the salvage.

There was a covenant to pay certain charges and expenses, including the expenses of retaking possession of the equipment. There was also a covenant (cl. 3 (w)) to deliver up the equipment in good order and condition at the expiration of the lease or upon its sooner determination or upon the lessor becoming entitled to possession pursuant to cl. 4 and, if the lessee should fail to deliver up the goods on the expiration of the lease, the lessee was to pay "by way of liquidated damages for detention a daily sum equal to one-thirtieth of the above monthly rent instalments". There were other covenants in cl. 3 to which some reference will be made later.

Clause 4 provided for the acceleration of the liability to pay rent instalments and for the right of the lessor to retake possession of the equipment, upon the occurrence of a number of specified events. The rent instalments not then accrued due were to be payable "rebated to reflect their then value, ascertained by applying an interest rate of ten per cent per annum to each such instalment over the period by which the date for payment thereof is by virtue of this clause brought forward". The events upon which the clause might become operative were, (1) the ascertainment by the lessor that the lessee had made a false statement in or in relation to the agreement or had been or was convicted of an indictable offence or sentenced to imprisonment; (2) default continuing for fourteen days in payment of any rent instalments; (3) the committing of an act of bankruptcy; (4) the issue or levying of execution or distress against the lessee's goods or land; (5) the declining of an insurance proposal in respect of the goods or the cancelling of any insurance cover; (6) failure within fourteen days after notice to make good any default in payment of money, other than rent, payable under the agreement; (7) the breach of certain provisions of cl. 3; and (8) doing or committing any other act or thing likely to endanger the safety, condition or safe-keeping of the equipment. The subclauses of cl. 3 to which cl. 4 referred contained covenants to the following effect: (a) to keep the equipment in good order and condition; (c) to insure it; (d) to prevent it being used or kept in any manner which would permit the insurer to decline a claim arising out of theft fire or accident; (g) to notify the lessor in writing of loss or damage to the equipment; (h) without consent not to sell or encumber the equipment or to assign the lessee's rights under the agreement; (i) not to conceal the equipment or to part with possession of it without consent or to alter it or any identifying number or mark; (j) to produce it for inspection or test on request; (k) to comply with all requirements of the law relating to the equipment and the premises in which it was kept and to pay fees and charges payable in respect of it; (m) to use it only for a purpose that has been specified or in accordance with its normal usage; (o) not to remove it without consent; (p) to notify the lessor in writing of any change in the lessee's address; and (w), to the effect stated above.

Clause 6 provided that if upon the equipment being received into the lessor's possession at the end of the period of the lease it was disposed of for the best price that could be reasonably obtained and the net proceeds were less than the appraisal value, the lessee undertook to pay to the lessor "by way of indemnity for the capital loss so sustained" the amount of such deficiency, additionally to any rent or other moneys payable by the lessee. To that provision there was a proviso concerning the mode of disposal, which is not material. The same clause provided further that in the event of the lessor not being able to effect a sale within two months it might obtain a valuation by a competent valuator and the provisions of the clause should apply as if the equipment had been sold for a price equal to that valuation.

Clause 7, to which much of the argument in this appeal was directed, was in the following terms:

(a) In the event of the Lessor agreeing to the Lessee returning the equipment to it prior to the expiration of the period of the lease, there shall forthwith become due and payable by the Lessee to the Lessor a sum or sums equal to that which would have been payable under Clause 4 hereof, and the Lessee agrees to deliver up the equipment to the Lessor or its nominee at the time and place nominated by the Lessor and in the event of such return or in the event of the Lessor having retaken possession of the equipment pursuant to Clause 4 the Lessor shall dispose of the equipment as soon as reasonably practicable at the best price it can reasonably obtain at the time of disposal and if the net proceeds of such disposal (after allowing for all costs and expenses incidental to such disposal including storage) are less than the appraisal value stated in the schedule the Lessee undertakes (additionally to any rent or other moneys payable by the Lessee) to pay to the Lessor by way of indemnity for the capital loss so suffered the amount of the deficiency; if such net proceeds exceed the appraisal value the excess shall be set off against any unpaid rent in respect of the unexpired portion of the lease rebated as provided in Clause 4 hereof and or paid to the Lessee to the extent of any rent paid in advance in respect of such unexpired portion provided always that the amount set off shall not exceed the balance of the rent for the unexpired period;

(b) In the event of the Lessor not being able to effect a sale of the equipment within two (2) months of the date of the same being received into the Lessor's possession, the Lessor may obtain a valuation of the equipment by a valuator approved by the Lessor in good faith as being a competent valuator in relation to the type of equipment in question and the provisions of sub-clause (a) shall apply as if the equipment had actually been sold for a set price equal to such valuation.

It is to be noticed that this clause, which might come into operation either at an early or at a late point of time within the period of the lease, provides for a set-off against unpaid rent of any excess of the proceeds of sale over the appraisal value. No such provision is contained in cl. 6, which operates after the period of the lease has come to an end. In the agreement there is an acknowledgment that payment of any indemnity under cl. 6 or cl. 7 is to be "a capital payment and not a tax deductible item".

There was evidence that shortly before the date of the lease the appellant purchased the equipment for $41,980 and that it made an estimate that over the term of the lease it would depreciate by $16,790, so that its value then would be $25,190. If it were assumed that that estimate was correct, then the total hire payment of $23,472 would exceed the amount of the depreciation by $6,682, which would represent the appellant's return on its capital outlay. His Honour said that this amount did not seem excessive.

If the agreement had run its full course so that cl. 6 operated and if the value of the equipment proved to be less than the appraisal value, the lessee would have to pay the difference. Thus the agreement ensured that in that event the appellant would not sustain a capital loss, but would be entitled to receive the same profit return for the outlay of its money as it would receive if the actual value at the end of the term should be equal to or greater than the appraisal value.

Until February 1969 the rent instalments were duly paid. In that month instead of $1,304 there was a payment of $704. There was a total default in paying the instalments for March and April 1969. On 10th May 1969 the tractor was repossessed. It is to be noticed that the final monthly instalment payable in advance would have become payable on 6th May 1969, if no acceleration of the liability to pay it by reason of an earlier default were to be taken into account. The tractor was displayed for sale and on 24th July 1969 it was put up for auction but was not then sold. Subsequently it was sold for $12,000. It was agreed that that was the best price reasonably obtainable at that time.

In its amended statement of claim the appellant alleged in par. 5 that "in terms of the agreement", its loss was a total of $17,852 made up of three items. These were (1) the unpaid balance of instalments $4,512; (2) repossession costs $150; and (3) the appraisal value less the sale price, $13,190.

In his statement of defence the respondent denied that the appellant had sustained loss as alleged or at all and as to par. 5 he alleged that "the terms therein referred to are unenforceable as a penalty and because the same are harsh and unconscionable". As already stated, the issue which the parties brought before the trial judge was the issue raised by that defence to par. 5.

After setting out the facts and the relevant provisions of the agreement, his Honour stated the question before him as being:

whether the provisions of cl. 7 impose upon the defendant a liability in the nature of a penalty for its breach of the agreement so that the amount claimed which is calculated in accordance with its terms, is irrecoverable, or whether the sum so calculated is to be regarded as liquidated damages. The parties appear to have assumed that the whole of the amount claimed was recoverable in accordance with cl. 7 and to have assumed, also, that if that clause provided for the recovery of a penalty, nothing could be recovered by the appellant from the respondent. But in fact rent instalments had become due, under the covenant contained in cl. 2, and these had remained unpaid. It is true that that covenant was expressed to be subject to cl. 4. But the only relevant operation which cl. 4 could have had, in the events which happened, on the liability to pay the instalments was that the total of the instalments payable in March, April and May, rebated as provided in cl. 4, would have become due and payable at an earlier time, unless the appellant waived its rights under that clause. In fact, it appears that the appellant did not exercise any rights earlier than 10th May 1969. If cl. 4 did not operate to accelerate the payments, either because it was in that respect waived or because the provision for such acceleration was unenforceable as a penalty, it is difficult to see upon what basis the respondent would be relieved from liability to pay the instalments which became due whilst the equipment was in his possession. Likewise, the liability to pay the expenses of repossession would appear to be incapable of being affected by any decision, if such were made, that the provisions of cl. 7 considered alone or in conjunction with cl. 4 or some of those provisions constituted a penalty. In the events which happened the unpaid instalments and the expenses of repossession were not payable under cl. 7, but were payable under other provisions of the agreement.

In the circumstances, I do not think that any question really arose as to whether the provisions in cl. 4 for the payment of future instalments constituted a penalty or not. But if, as a result of the manner in which the parties conducted the case at the trial, it must be taken to have arisen for decision, my opinion is that this provision did not constitute a penalty. That conclusion would be required if the agreement ought to be construed in the way in which the majority of this Court construed the agreement under consideration in Lamson Store Service Co. Ltd. v. Russell Wilkins & Sons Ltd. [1] , that is, as an agreement to pay a total rent, being the sum of the monthly instalments, subject only to such adjustments as were specified in the agreement. It could be urged, in support of that construction, that the agreement was expressed to be an agreement to lease the equipment for a term of eighteen months "at an entire rent equal to the total of the instalments provided in the schedule subject however to adjustment of such rent as provided in Clause 4". But even if the agreement ought to be read as one in which the liability under cl. 4 to pay instalments, rebated as provided therein, at a time earlier than the time when they would have become payable in the ordinary course of time was, so far as is relevant, a liability which would fall upon the lessee in consequence of a breach of the agreement, I am of opinion that the provisions of cl. 4 should not be held to constitute a penalty. The fact that those provisions could operate upon breaches varying greatly in their seriousness and in their likely consequences might suggest a conclusion that the imposition of such a liability as a consequence of a breach, followed by a termination of the contract, could not be a genuine pre-estimate of damage. Such a conclusion might be warranted if the lessor might regain the possession and the right of disposal of the equipment when only a small part of the term of the lease had gone by and might do this in consequence of a minor breach, which would really have little damaging effect upon the value of the equipment, and if the lessor might thus receive in those events a large profit not related to any damage which had actually been suffered. But the agreement provides its own limitation upon the ability of the lessor to gain a large profit by reason of the equipment being repossessed after a relatively short period. If the period has been short and if the equipment has not suffered any substantial deterioration by reason of the breach it is reasonable to suppose, looking at the matter as at the date of the making of the agreement, that the actual value at the date of termination of the agreement will be substantially in excess of the appraisal value. That excess will be set off against the rebated instalments which the lessee will be required to pay. Expressing this in another way, it will be only if it turns out in fact that there has been such a depreciation in the value of the equipment that this does not exceed the appraisal value, that is, the value which has been estimated as the value the equipment will have at the expiration of the lease period, that cl. 4 will impose an obligation upon the lessee to pay the (rebated) amount of all the instalments. If the actual value exceeds the appraisal value, the lessee will be relieved, either wholly or in part, of his obligation with respect to instalments which have not yet become payable at the date when the lease is terminated.

There remains for consideration the question whether or not, having regard to the terms of the agreement and to all the surrounding circumstances, the provision of cl. 7 which requires the respondent to pay any amount by which the appraisal value exceeds the actual value of the equipment is enforceable. Now this provision does not purport to be one which provides a preestimate of damage which might be sustained by reason of a breach of the agreement. If the respondent committed no breach at all but kept the equipment for the full term of the lease and then delivered it up to the appellant and if its actual sale price or valuation should be less than the appraisal value, the respondent would be obliged to pay the difference, in accordance with cl. 6 of the agreement. If the equipment realised more than the appraisal value, the respondent would obtain no benefit, in a case in which cl. 6 operated. Both in cl. 6 and in cl. 7, the payment by the respondent of any amount by which the actual value is less than the appraisal value is expressed to be by way of indemnity for the capital loss sustained by the appellant. In my opinion the agreement in cl. 7 for the payment of that amount is not an agreement in respect of which it is appropriate to ask the question whether it constitutes a penalty or is a genuine assessment of damages caused by breach of the agreement. We were referred to several authorities dealing with the circumstances in which that question must be resolved and with the rules that have been formulated for answering it. I shall refer to some of the recent cases on this subject. They indicate in my opinion that, although the rules of this branch of the law are not in all respects finally settled, there is no accepted principle which would make unenforceable the indemnity agreement contained in cl. 7. There has been a conflict of judicial opinion on the question whether a provision, which is so expressed that it may operate in the same manner in cases in which there is a breach of contract and in other cases where there is not any breach, can be affected by the rules of law relating to penalties. The view has prevailed in England that those rules may be applied in appropriate circumstances to make such a provision unenforceable, in so far as it operates, in the events which happen, as a consequence of a breach of contract, notwithstanding that the same results may be attached by the agreement to acts or events which involve no breach: see Bridge v. Campbell Discount Co. Ltd. [1] . in which the opinion of the majority of the Court of Appeal in Cooden Engineering Co. Ltd. v. Stanford [2] was approved. But there has been a preponderance of opinion in favour of the view that it is only when a provision operates so that the event upon which an obligation is placed upon a party to pay a sum of money to another party to a contract is the breach by the former party of a term of the contract, that the question arises whether an obligation arising upon that event is a penal provision. Thus if a sum has become payable because a party has exercised an option given by the agreement, the exercise of which is conditional upon a payment, the view has been taken that the question of a penalty does not arise. See the differing opinions stated in Bridge's Case [3] and see United Dominions Trust (Commercial) Ltd. v. Ennis [4] .

1. [1962] A.C. 600. 2. [1953] 1 Q.B. 86. 3. [1962] A.C., at pp. 613, 614, 625, 626, 629 and 634. 4. [1968] 1 Q.B. 54, at pp. 64, 67 and 69.

It has been held that each case must be considered, not only in relation to the particular terms of the agreement under which an obligation is created, but also having regard to all the surrounding circumstances, including the subject matter of the agreement. In such a case as the present one, it may be important to consider whether the subject matter is likely to depreciate in value quickly or slowly: see Lombank Ltd. v. Excell [5] .

The cases to which I have referred provide guidance as to the principles of law that have to be taken into account. But the decision of this appeal depends upon the nature and the terms of the agreement and upon the circumstances. There has been no suggestion in the evidence and no finding that the appraisal value was not based upon a bona fide estimate of the expected depreciation of the equipment during the period of the lease. In my opinion, there was no principle of law which precluded the parties from making an enforceable agreement that the hirer not the owner should run the risk of the occurrence of a greater amount of depreciation than was estimated, whether this should occur as the result of the actual use of the equipment by the hirer or as the result of changes in the market value of goods of that description. The respondent undertook an obligation which was stated in the agreement to be by way of indemnity for a capital loss. There is no reason to hold that that statement was a sham or a pretence. There is no basis for a conclusion that the provision was really intended simply as a sanction against a breach by the respondent of the agreement. It is a mistake, in my opinion, to speak of the sum payable under this provision as being a sum payable as damages for a breach of contract and then to ask whether it is penal in amount or is a genuine pre-estimate of damage. As the learned trial judge said, a lender of chattels must take into account the loss of capital resulting from depreciation, particularly when hiring vehicles which have a high rate of depreciation. The circumstance that in this case the actual sale price was a long way below the appraisal value does not provide any reason for concluding that the provision which obliged the respondent to pay the difference was a penal one. It was agreed that it was the best price available and, as I have said, it was not suggested that the original estimate of depreciation was a sham.

I conclude, therefore, that the question whether the provision for making up the deficiency in value was a penalty or was an estimate of damages does not really arise in relation to cl. 7. It could not, in my opinion, arise in relation to cl. 6. The circumstance that, in many instances, the similar obligation imposed by cl. 7 would come into operation after there had been some breach of the agreement, in consequence of which the appellant had retaken possession (although it would arise also if the respondent had returned the equipment before the end of the term), does not have the result that this provision is to be regarded as an attempt to recover a sum of money as a penalty for a breach of contract. I am of opinion that there is nothing in the authorities to which I have referred which is inconsistent with these conclusions.

The learned trial judge considered some examples of the way in which the provisions of the agreement might operate. He took the case of a repossession following a breach at the end of the first month of the hiring. He calculated that in that event the appellant would receive as profit for the outlay of its capital, in addition to the return of lost capital resulting from depreciation, about $5,000 or 140 to 150 per cent per annum. He took as another example a termination of the agreement after six months. He calculated the appellant would get as profit $5,567 for the period of six months, which would be greatly in excess of the profit received if the agreement ran its course without default. His Honour was much impressed by the consideration that there would be entirely different and inconsistent results, in relation to compensation for the loss of the profit element involved in the hiring, according to the stage at which default occurred. But his Honour does not appear, when considering the examples given by him, to have taken into account the matter to which I have already referred, that is, that against the rebated instalments payable to the appellant, there would be set off in favour of the respondent any excess of actual value over appraisal value.

I am of opinion that no part of the amount claimed was made irrecoverable for the reason that it was a penalty. I am also of opinion that no part of the amount claimed arose from an obligation against which equity would grant relief upon the ground that it was harsh and unconscionable.

If I had been of opinion that the amounts claimed were not recoverable, because they constituted a penalty, I should have been of opinion that it would not have been necessary to have an enquiry, conducted by the Master, as to the damages suffered by the appellant. The only breaches alleged to have occurred were the failures to pay the instalments which became payable in the last few months of the hiring period. There was no allegation that the respondent in breach of the agreement had committed acts which caused the equipment to have a diminished value. The agreement itself provided that the respondent was to pay interest at ten per cent per annum upon any moneys payable under the agreement which might be from time to time overdue.

In my opinion the appeal should be allowed. The appellant should have judgment for the amount claimed in the action.