Articles

1. Introduction

1. 1. The Singapore Court of Appeal ("SGCA"), in Denka Advantech Pte Ltd v Seraya Energy Pte Ltd [2020] SGCA 119, recently reviewed the law relating to the enforceability of liquidated damages clauses and provided important guidance on the correct legal test to be applied when deciding whether such clauses should be struck down for being penal.
   2. Importantly, the SGCA affirmed that (i) the rule against penalties only applies to clauses which are triggered by a breach of contract and not by other events (ii) the correct legal test to be applied is the "genuine pre-estimate of loss" test formulated in the English case of Dunlop Pneumatic Tyre Company, Ltd v New Garage and Motor Company, Limited [1915] AC 79 and not the more recent “legitimate interests” test formulated by the UK courts.

2. Background Facts

1. 3. The garnishee application is a form of execution for the purposes of a successful plaintiff to enforce his judgment against debts owed by third persons to the defendant. A third person who owes debts to a defendant is then designated as the garnishee in a garnishee application.
   4. After obtaining judgment against a defendant, a plaintiff may have difficulty in obtaining payment of the judgment sum from the defendant owing to a myriad of reasons. In a garnishee application, the plaintiff steps into the shoes of a defendant, and claims against the debtors of the defendant.
   5. This article will examine the legal burden of proof required to be discharged in order to convince the Court to make a provisional garnishee order ("PGO") into a final garnishee order and order for payment to be made from the garnishee to the plaintiff.
   6. In turn, Denka (i) denied that it had wrongfully terminated the ERAs for various reasons, (ii) argued that the LD Clauses were unenforceable penalty clauses and (iii) argued that Seraya's claim for common law damages was limited by express provisions in the ERAs that neither party would be liable for indirect or consequential losses, including loss of profits.
   7. At first instance the Singapore High Court ("SGHC") had to consider, amongst other things, whether (i) Denka was in repudiatory breach of the ERAs and (ii) the LD clauses in the ERAs were penal and therefore unenforceable.
   8. In this regard, the SGHC held that:
2. 8. 1. Denka was in repudiatory breach of the ERAs and had therefore wrongfully terminated the same;
      2. the LD Clauses in the ERAs were not enforceable as they were not genuine pre-estimates of Seraya's damages (applying the principles in the English case of Dunlop Pneumatic Tyre Company, Ltd v New Garage and Motor Company, Limited [1915] AC 79); and
      3. Seraya was entitled to common law damages.
   9. Seraya appealed against the SGHC's decision on the LD Clauses and Denka cross-appealed against the SGHC's decision on liability and the quantum of common law damages awarded.
3. The SGCA's Decision

1. 10. The key issues before the SGCA were:

1. 1. 1. Whether Denka was in repudiatory breach of the ERAs and is thus liable for the wrongful termination of the same;
      2. Whether the LD Clauses in the three ERAs are enforceable or should be struck down under the rule against penalties ("Penalty Rule");
      3. If the LD Clauses are unenforceable because they are penalties, what common law damages are payable by Denka to Seraya

1. 11. On the first issue, the SGCA found that Denka had wrongfully repudiated all three ERAs
   12. On the second issue, the SGCA noted that the case law on the Penalty Rule had seen recent developments in the Australian and UK courts. The SGCA therefore took the opportunity to clarify the scope and substance of the Penalty Rule under Singapore law :

1. 1. 1. In relation to the scope of the Penalty Rule, the SGCA:

• • • • 1. noted that the Australian courts, in Andrews and others v Australia and New Zealand Banking Group Limited [2012] 247 CLR 205, had recently held that the Penalty Rule should not only be limited to clauses that took effect upon a breach of contract and should be extended to other situations.
        2. confirmed that under Singapore law the Penalty Rule will only apply where a clause, in substance, requires a party to pay a liquidated sum for breaching the contract and does not apply where a contract requires money

2. 1. 2. In relation to the substance of the Penalty Rule, the SGCA

1. 1. 1. 1. confirmed that the correct legal test under Singapore law remains the "genuine pre-estimate test" formulated in the Dunlop case which entails an examination of whether "the sum stipulated for is extravagant and unconscionable in amount in comparison with the greatest loss that could conceivably be proved to have followed from the breach".
         2. declined to adopt the wider approach recently developed by the UK Supreme Court in Cavendish Square Holding BV v Makdessi [2016] AC 1172 in which the court held that a liquidated damages clause may not be considered a penalty if it could be construed as protecting the "legitimate interest" of the innocent party, as opposed to seeking to punish the party in breach of contract.
         3. held that the "legitimate interest" test in Cavendish was too vague and general a concept to apply.
         4. clarified, however, that its rejection of the "legitimate interest" test did not mean that the key factors the court in Cavendish took into account (including parties' commercial interests and relative bargaining power) were irrelevant. These factors had to be viewed in light of the fact that the focus was on whether the clause in question provided a genuine pre-estimate of the likely loss.

3. 1. 3. Applying the Dunlop test, the SGCA held that the LD Clauses in the ERAs were not extravagant or out of all proportion to the greatest loss that could arise under the ERAs, and were therefore a genuine pre-estimate of loss and not a penalty. Accordingly, the SGCA reversed the SGCA's decision on this issue and upheld the LD Clauses.

13. 13. Given the SGCA's decision on the second issue above, it was not necessary for the SGCA to determine the third issue, i.e. the question of common law damages.

4. Conclusion

14. 14. The SGCA's decision in Denka Advantech Pte Ltd v Seraya Energy Pte Ltd [2020] SGCA 119 provides much needed clarity on the scope and substance of the Penalty Rule, which has seen recent and significant developments in other common law jurisdictions.
    15. The key takeaways contractors should note from this case are that:

1. 1. 1. Under Singapore law, a liquidated damages clause will only apply where there has been a breach of contract. This is significant because in cases where a counter-party alleges that it has exercised its rights under an express contractual provision (for instance where it purports to terminate a contract pursuant to an express right of termination) it will be open to that party to argue that a liquidated damages clause that is triggered by termination does not apply.
      2. When deciding whether to uphold a liquidated damages clause or strike it down as a penalty clause, the focus of the Singapore Courts will be on whether the liquidated damages clause in question provides a genuine pre-estimate of the likely loss at the time of contracting.
      3. While the Courts may look to other factors such as the parties' legitimate commercial interests and relative bargaining power, these will be ancillary to the genuine pre-estimate test above.

Contributed by:

Rakesh Nelson - Associate, Pinsent Masons MPillay