ENFORCEMENT OF UNDERTAKING AS TO DAMAGES IN NIGERIA

BY

HARRISON OGALAGU, ESQ.[1]

 

“The object of the undertaking is to protect a party, normally the defendant, in respect of such damage as he may sustain by reason of the grant of the interim relief. Consequently, it is for the party seeking to enforce the undertaking to show that the damage he has sustained would not have been sustained but for the injunction.”[2]

 

1.0 introduction

Temporary injunctions are commonly obtained to preserve assets or a state of affairs until a dispute is finally resolved. These injunctions which may be interim or interlocutory constitute serious restrictions, nay infractions, on the respondent’s rights. They are usually ordered in limine, before the merits of the parties’ cases have been fully considered at trial, and the court is concerned if it is ultimately shown that the injunction should not have been granted when the full facts emerge. The court will take care that the order for an injunction is so framed that neither party will be deprived of the benefit he is entitled to, if in the event it turns out that the party in whose favour it was made is in the wrong. For this purpose it will, if necessary, impose terms upon the applicant as a condition of granting the injunction. The applicant may also be required to undertake to prosecute the action with due diligence or, if the action has reference to the payment of money, to pay the amount in dispute into court.

2.0Injunctions and undertaking as to damages

As a necessary ingredient of injunctions, an applicant is invariably obliged to promise that it will pay compensation to the person who is restrained from dealing with its assets or exercising its rights, if it is discovered that the injunction was obtained improperly and that in all the circumstances of the case injunction ought not to be given in the first place. In New South Wales, for instance, Regulation 25.8 of the Uniform Civil Procedure Rules 2005 (NSW) defines “usual undertaking as to damages” to mean:

“an undertaking to the court to submit to such order (if any) as the court may consider to be just for the payment of compensation (to be assessed by the court or as it may direct) to any person (whether or not a party) affected by the operation of the interlocutory order or undertaking or of any interlocutory continuation (with or without variation) of the interlocutory order or undertaking.”

Undertaking as to damages is the price which the person asking for an interlocutory or interim injunction has to pay for it and it is a reasonable provision made to indemnify a respondent or indeed a third party adversely affected by the grant of the injunction if it is adjudged later that there was no legal basis for its grant against the respondent or third party. By the undertaking the party obtaining the order undertakes to abide by any order as to damages which the court may make in case it should afterwards be of the opinion that the defendant has, by reason of the order, sustained any damages which such party ought to pay. As a general rule, the benefit of the undertaking applies to all the defendants, even though only one or some are restrained.

Put differently, an applicant will normally be obliged to undertake as a term of the order to indemnify any third party against costs and expenses reasonably incurred by the third party in seeking to comply with the order as well as all liabilities which may flow from such compliance.[3]

In Nigeria, undertaking as to damages takes a similar complexion with foreign jurisdictions. Thus, the body of case laws in Nigeria has developed the frontiers of undertaking as to damages. In Kotoye vs. CBN[4], Nnaemeka.Agu JSC at Page 450 said, obiter

‘’It is my view that a necessary corollary to the fact that an undertaking , as to damages is the price that an applicant has to pay for an order of interlocutory injunctions is that failure to give the undertaking leaves  the order without a quid pro quo, and , so should be a ground for discharging the order. This ought to be more so in respect of ex parte orders in which the order is made without the other side being heard. Indeed the need for it to be so is stronger in Nigeria where no Registrar has got the power to insert the order for undertaking to be given , while drawing up the order’’

In underscoring the significance of undertaking as to damages or adequate compensation in the absence of such undertaking being extracted, the Supreme Court in Afro-cont. (Nig) Ltd vs. Ayantuyi [5] endorsed the judgment of the Court of Appeal[6] which held thus:

‘’On the issue of damages which may result from the order of injunctions, once a decision has been taken by the court of first instance after hearing the parties, such damage may occur any way whether there is an undertaking as to damages or not. What is important is that at the end of day when the case is determined, and the injunctions is no longer effective, if the party restrained has succeeded in his actions, he should be adequately compensated by damages. Where the court of first instance earlier failed to do this by ordering undertaking as to damages, it should be in the interest of such a party that he can secure such an undertaking from the Court of Appeal.’’ (Underlining for emphasis)

Development of Undertaking as to damages

The practice of requiring an undertaking as to damages became an ‘‘almost universal practice’’[7] of the Court of Chancery for applications made ex parte. The defendant who ordinarily would not present at the hearing and determination of the ex parte application could suffer immediate loss. Sir George Jessel MR said in Smith v. Day[8] that the practice had been ‘‘invented’’ by Sir James Knight Bruce following his appointment as Vice-Chancellor in 1841, and this has been repeated subsequently by Ashburner in the Principles of Equity,[9] Lord Diplock in F. Hoffman-La Roche v. Secretary of State,[10] and by judges in other cases.[11] However, the concept of imposing an appropriate term, such as requiring security from the plaintiff for the possible loss to the defendant, as the price for granting an injunction, appears in cases which predate that appointment.

It came to be recognized that with an inter partes application on motion, where the court did not know who would eventually prevail, the requirement of an undertaking in damages facilitated the court in two objectives. First, the court would be able to abstain from expressing premature views on the merits. Secondly, the procedure enabled the court to grant an injunction knowing that if the defendant prevailed he would usually obtain some compensation for having been subjected to the injunction. Accordingly, the requirement of undertaking as to damages has become an indispensable ingredient in determining the exercise of discretion of the court to granting injunctions, interlocutory or interim.

Admittedly, undertaking as to damages has assumed a growing notoriety in application for injunctions generally. It is significant to observe that undertaking as to damages has over the years become a stronger requirement of the law in respect of applications for mareva injunction.

Undertakings in Mareva injunctions

The ultimate essence of a suit is for a successful party to realize the fruits of his judgment. Often times, this goal is jeopardized because the defendant surreptitiously caused his assets to be removed from the jurisdiction of the court, thus, defeating the course of justice. Mareva injunction is granted not only in cases where the defendant intends to remove his assets from the jurisdiction of the court but also in cases where the granting of a mareva injunction will provide some form of security to the plaintiff and whenever it is just and convenient to do so. The granting of mareva injunction provides a veritable exception to the rule that a plaintiff would take his queue with other creditors of the defendant and if he obtained a judgment against the defendant he would simply be subject to the rules on priorities of debts[12].

Contrary to the classic view that an interlocutory injunction against a defendant was based upon a cause of action against him[13], this limited exception accommodates cases in which the plaintiff could seek specific performance against a defendant based on a contract solely with him, and an injunction might be granted against a stranger to the contract, against whom the plaintiff had no substantive cause of action, to preserve the position pending a decree of specific performance.[14] What marked out the Mareva injunction was the lack of connection between the substantive claim and the injunction, and its incursion into the general principle that at least up until judgment a defendant’s assets were his to be dealt with as he chose.

The development of the jurisdiction to grant orders against non parties when there is no cause of action against them also recognizes the practice of protecting persons affected by an injunction not granted against them. For ease of appreciation, we include the following illustrations;

Searose Ltd v. Seatrain UK Ltd[15] concerned a Mareva injunction which would affect an account of the defendant at a specified bank, and the bank would be put to expense. Robert Goff J required an undertaking from the plaintiffs that they would ‘‘pay reasonable costs incurred by any person (other than the defendant) to whom notice of the terms of the injunction is given, in ascertaining whether or not any asset to which the order applies . . . is within his possession or control’’. The undertaking required payment of the costs without any further exercise of discretion. The bank, although entirely innocent and unconnected with the dispute, might otherwise have to incur substantial expense which would not be reimbursed. The plaintiff ought to bear those costs and he might be able to recover them in due course as part of the costs incurred by him in the proceedings.

Clipper Maritime Co Ltd v. Mineralimportexport[16] concerned a Mareva injunction granted over a cargo on a ship in port. There, the judge was concerned with the potential effects on the port authority and required undertakings from the plaintiff to pay the actual loss of income from the berth, and administrative costs, caused by the injunction. In Z Ltd v. A-Z[17] the Court of Appeal approved the approach in Searose, and Kerr LJ said[18] that ‘‘the plaintiffs should be obliged to undertake, as a term of the order, to indemnify any third party against any costs, expenses or fees, reasonably incurred by the third party in seeking to comply with the order, as well as against all liabilities which may flow from such compliance’’. Lord Denning MR said that the purpose was so that ‘‘the bank or other innocent third party [should] not suffer in any way by having to assist and support the course of justice prescribed by the injunction’’.[19]

In Nigeria, however, courts are guided by a number of factors in determining whether or not to grant a mareva injunction. Some of these factors include;

a.    existence of cause of action against defendant that is justiciable in Nigeria;

b.     imminent danger or risk of evacuation of assets from jurisdiction to render judgment nugatory;

c.     disclosure of material facts relevant to the application;

d.     disclosure of full particulars of assets within jurisdiction;

e.     balance of convenience tilting to the applicant;

f.      willingness of applicant to give undertaking as to damages.

The parameters for Mareva injunction are more than for interlocutory injunction which dwells on serious issue for trial whereas Mareva injunction deals with totality of evidence. We commend the under-listed Nigerian authorities.

Ø  Dr. T. Braithwaite vs. China Civil Engineering Construction Corporation[20]

Ø  Efe Finance Holdings Ltd vs. Osagie, Ekeke, Otegbola & Co.[21]

Notably in A.I.C. Ltd vs. NNPC[22], the Supreme Court in referring to Sotuminu vs. Ocean Steamship[23] (1992) 5 SCNJ 17-22; (1992) 5 NWLR (Pt. 239) 1, where the jurisdiction and power to entertain and in appropriate cases grant a Mareva injunction, stated that it is to stop a defendant against whom a plaintiff has a good arguable claim from disposing of or dissipating his assets pending the determination of the case or pending payment to the plaintiff. The injunction can be granted against a person who is in possession of the defendant’s assets.

In E.S. & C.S. Ltd vs. N.M.B. Ltd[24] Akaahs J.C.A. (as he then was) while concurring with the lead judgment opined thus;  

“A rather disturbing feature of this case is the devastating effect which the use of the ex parte injunction has wrecked on the business of the appellant. The appointment of a receiver/manager was totally uncalled for. Courts are ever cautious of the fact that because of its very nature, mareva injunction could be open to abuses.”

“In view of the high risk and hardship that are usually involved in an order of mareva injunction, such an undertaking is the price and a sine qua non to the grant of it. In the instant case the undertaking as to damages was not extracted from the respondent and to add insult to injury a receiver manager was appointed. I consider the action taken by the learned trial judge as a reckless exercise of discretion.”

Ogunbiyi J.C.A. (as she then was) @ 257-258 paragraphs A-B also lent eloquent voice, thus;

“In the light of the authority in Sotuminu’s case, it was incumbent upon the court in the exercise of its discretion to have carefully examined the plaintiff’s writ of summons, the statement of claim and the motion ex-parte seeking an “interlocutory” order of Mareva injunction restraining the defendant “pending the determination of the suit” as shown at pages 1-13 of the record.”

Accordingly, in Nigeria for an application to be able to properly invoke the jurisdiction of the court to order Mareva injunction, the applicant would normally not only have a reasonable cause of action against the defendant but would also give an undertaking in damages as the price of the injunction. Furthermore, the suit must have the whole plenitude of competency in the sense that the court must have jurisdiction to entertain the case as against the respondent to be affected by the mareva injunction. This is because jurisdiction is the life-wire of any action and a court that lacks jurisdiction to entertain a suit cannot make any valid order thereto.[25] If a plaintiff wishes a third party to be bound by a Mareva injunction he must give notice of it to that third party. The court will where possible implement the Mareva injunction in a manner which takes account of innocent third parties’ interests if they may be affected by the injunction.[26]

An applicant who wishes to avoid giving that undertaking ought to raise the point specifically with the court and obtain express dispensation. Not to offer the undertaking required under the Rules, to remain silent about it on the application, and afterwards to assert that the applicant did not give the required undertaking, is an abuse of the process of the court, of which the applicant cannot be permitted to take advantage. As in Oberrheinische MetallwerkeGmbH v. Cocks,[27] the court should treat the undertaking as having been given.

Scope and limit of undertaking as to damages

Often, the assessment of undertaking as to damages is approached in the same way as damages for breach of contract. A party to a contract who suffers a loss as a result of its breach is entitled to be placed in the same position with respect to damages, so far as money can do it, as if the contract had been performed[28]. The extent of recovery is limited by the rule in Hadley v Baxendale[29].  That is, a plaintiff may only recover losses that may be expected to result from the breach in the usual course of things or such damages as may reasonably be supposed to have been in the contemplation of both parties concerned at the time they made the contract as the probable result of the breach. But an undertaking as to damages is given to the court, for enforcement by the court; it is not a contract between parties or some other cause of action upon which one party can sue the other. As will be demonstrated below and subject to certain exceptions, the undertaking as to damages does not confer a distinct cause of action to the respondent adversely affected by the undertaking. In the light of this therefore, it is arguable if the enforcement of the undertaking can be carried out otherwise than through an application for enquiry to the court where the undertaking is made.

The High Court observed, in Air Express Ltd v Ansett Transport Industries (Operations) Pty Ltd[30], that:

“In a proceeding of an equitable nature it is generally proper to adopt a view which is just and equitable, or fair and reasonable, in all the circumstances rather than to apply a rigid rule. However the view that the damages should be those which flow directly from the injunction and which could have been foreseen when the injunction was granted, is one which will be just and equitable in the circumstances of most cases …”

It is preferred to look to the purpose served by the undertaking and to identify the causal connection which is most appropriate to that purpose.  The Court usually applies the same principles relating to assessment for breach of contract; the Court assesses loss which is the natural consequence of the injunction on the facts of the particular case; and the general nature of the enquiry is to consider what the parties would have contemplated would be a “serious possibility” of the loss or damage that might flow.

It must be emphasized that where the applicant has voluntarily deposed in the affidavit in support of his application that he undertakes to pay damages, the necessity for the court to extract an undertaking in damages would not arise.[31] This point was made abundantly clear in the case of Onyesoh vs. Nnebedun[32] where it was held that:

‘’In the instance case, as Chief (Dr) Ejike-Ume correctly pointed out, plaintiffs had voluntarily deposed in the affidavits in support of the application to an undertaking as to damages as follows:

‘’3. That I and the plaintiffs, on behalf of the entire Akamkpisi Community hereby give an undertaking to defray or meet any cost if adjudged due to the defendant arising from this case, no matter the amount involved.’’

In the light of this deposition the necessity for extracting an undertaking in damages did not arise’’

Taking a cue from Onyesoh vs. Nnebedun (Supra), failure to extract an undertaking as to damages from the applicant may do no harm to an application for enquiry provided that the applicant in his affidavit in support bounds himself to indemnify the respondent. In Afro-Cont. (Nig.) Ltd’s case, the Court of Appeal drew inspiration to order undertaking as to damages from the concession or disposition of the plaintiffs/respondents who filed a Respondent notice of intention to vary the order of injunctions granted by the Ondo High Court. In Ground 7 of the grounds relied upon, the Respondents’ Notice stated as follows:

“The plaintiffs/respondents do hereby undertake to indemnify the Party Interested/appellants and the defendants/respondents against all losses, pecuniary or material that may arise from the lower court’s order of interlocutory injunction of the day if they lose the substantive suit still pending in the said lower court or which the lower court may find to have been wrongly granted in the first place.’’

The quantum of the undertaking is not a matter for consideration when an applicant in an affidavit undertakes to pay damages or when the court is extracting an undertaking. It is only an enforceable promise to pay any amount so found to have been involved. This is the dictum of Uwaifo J.C.A. (as he then was) in Onyemelukwe vs. Attamah[33]

‘’It should be realised that an undertaking in damages is meant to realistically meet any damages which may afterwards be determined to have been sustained by the defendant. It is in the form of an enforceable promise to pay any amount so found to have been involved. The undertaking will not therefore contain any specific sum’’

The raison d’être for a refrain from putting financial limit to the undertaking as to damages is because the undertaking is against loss to be suffered in the future and no proof of such loss can be ascertained as at the time of making the undertaking. The amount of damages can only be ascertained after an enquiry.

In Victory Merchant Bank vs. Pelfaco Ltd[34], Edozie J.C.A (as he then was) held thus:

‘’Counsel for the applicant submitted and I agree with him that an undertaking as to damages is the price which an applicant for interim or interlocutory injunction has to pay for its grants and that the quantum of the undertaking cannot be ascertained or limited without proof of the loss suffered by the party in whose favour it is extracted. In my judgment in the sister appeal, referred to the relevant passage in the Halsbury’s laws of England(supra) and held that as a matter of proper practice , the amount of an undertaking as to damages, to be extracted as a price for granting of an interlocutory injunction is not fixed at the time the injunctive relief is granted. It is fixed afterwards at the dissolution of the injunction or after trial and after due enquiry.’’

In Victory Merchant Bank vs. Pelfaco ltd (supra) at pages 356-357 Paragraphs H – A, the Court of Appeal dismissed the appeal but varied the order of undertaking as to damages. Edozie J.C.A. (as he then was) who delivered the leading judgment held thus:

‘’The instant case is not one of a total failure to give an undertaking and therefore does not come within the principle in Kotoye’s case supra. Even if the principle in Kotoye’s case can be reasonably stretched to extend to cases where undertakings extracted are inadequate, it is my view that this court has the power pursuant to section 16 of the Court of Appeal (sic) to impose the appropriate undertaking in the case in hand. This is so because, as the Kotoye’s case supra would appear to have been given per incuriam for which, see Anike vs. Emehelu & 3 Ors (1990) 1 NWLR (Pt. 128) 603 and the case of Afro Continental Nig. Ltd vs. Joseph Ayantunyi & Ors (1991) 3 NWLR (Pt. 178) 211 delivered by the Benin Division of this court on 1/3/91, I am of the view that Order of undertaking as to damages extracted from the respondent be varied by jettisoning that part of it that limits the undertaking to N100,000.00. Subject to this, this appeal lacks merit and is accordingly dismissed.”

In a similar vein, the court of appeal in Anike vs Emehule[35] described undertaking as an enforceable promise at large – a precautionary safeguard to pay the defendant what he might suffer by way of damages to be determined at a later stage because of the interim injunction. Uwaifo J.C.A. (as he then was) said

‘’when an undertaking is given in a case of this nature it is not predicated on what damages are known beforehand that the defendants is likely to suffer as a result of the injunction. Such damages are usually not ascertained in advance and cannot be made a wholly arbitrary figure. The undertaking to pay damages which the party obtaining the order gives is to abide by any order as to damages which the  court may make in case it should afterwards be of the opinion that the defendants has , by reason of the order sustained any damages which such a party ought to pay; See Griffith vs. Blake[36]. Therefore, to all intents and purposes, an undertaking is an enforceable promise at large, a precautionary safeguard – to pay the defendants what he might suffer by way of damages to be determined at a later stage because of the interim injunction.”

The common thread running through the authorities is that it is legally impracticable to limit in the undertaking as to damages the liability of the applicant for injunction as the extent of the liability can only be determined subsequent to the making of the undertaking.

Whenever an undertaking as to damages has been given and the plaintiff ultimately fails on the merits an enquiry as to damages will be granted unless there are special circumstances to the contrary. For, example, an interlocutory injunction may be dissolved for delay or for some cause which disentitles the plaintiff to an interlocutory injunction, although not to a relief at the trial. Regard must also be had to the amount of the damage and if it is trifling or remote, the court will not be justified in granting an inquiry, nor will it be ordered where the court can satisfy itself as to the amount of the damage without it. Where an action is dismissed, but without costs, because the court thinks that it was rightly instituted, no inquiring will be ordered.[37]

Effects of undertaking:

The undertaking as to damages on an order for an injunction remains in force notwithstanding the dismissal[38] or discontinuance of the action,[39] and if the plaintiff ultimately fails on the merits the defendant is entitled to an enquiry as to damages sustained by reason of the interlocutory injunction,[40] unless there are special circumstances.[41] The undertaking applies, even if the plaintiff has not been guilty of misrepresentation, suppression or other default in obtaining the injunction,[42] and is equally enforceable whether the mistake in granting the injunction was on a point of law or on facts[43].

Lord Diplock in sifkina (cargo owner) vs. Distol Compania Naviera S.A[44]had this to say:

 “A right to obtain an interlocutory injunction is not a cause of action. It cannot stand on its own. It is dependent on there being a pre-existing cause of action against the defendant arising out of an invasion, actual or threatened, by him of the legal or equitable right of the plaintiff for the enforcement of which the defendant is amenable to the jurisdiction of the court”.

In Kotoye vs. CBN[45], the Supreme Court said as follows:

‘’The undertaking to pay damages applies whether the plaintiff has not been guilty of misrepresentation, suppression or other default in obtaining the injunction. Griffith vs. Blake (1884) 27 Ch.D. 474 CA dissenting from contrary dictum of Jessel M.R in Smith vs. Day (supra).The undertaking is equally enforceable whether the mistake in granting the injunction was on a point of law or fact. Hunt vs. Hunt (1884) 54 L.J.Ch. 289.

It is safe to argue here that the major reason of making enquiry as to damages is that the injunction was improperly obtained or ought not to have been made in the first place. Ideally, the scope of factors that would necessitate the inference that the injunction was improperly procured or ought not to have been made is not closed. Our conviction is reinforced by the fact that the court is enjoined not to delve into the substantive issues when exercising discretion to grant or refuse injunctions. A subsequent consideration of the substance of the case may expose certain fundamental issues that would, otherwise, have operated against the grant of the injunction.

In the light of judicial opinions on the side of the authorities, fundamental legal issues such as absence of jurisdiction on the court to entertain the suit, lack of reasonable cause of action against the defendant/respondent against whom injunction was obtained, lack of competence in the suit, failure to perform a condition precedent to filing of the suit and some other points of law benefit of which can be taken by the adverse party (defendant/respondent), even in limine.

Enquiry as to damages

After the grant of injunction, interim or interlocutory, and it turns out that order of injunction has been improperly granted, the defendant is entitled to apply to the court for indemnity by way of damages occasioned by the order of injunction. The basis of the defendant’s application is the plaintiff’s undertaking as to damages. A defendant or respondent wishing to enforce an undertaking does so by applying to court for an enquiry as to damages by way of motion on notice entitled “Application for Enquiry as to Damages”[46]

The application to enforce an undertaking as to damages should be made in the High Court division in which the undertaking was given.[47] A defendant may apply for an enquiry as to damages at the trial or before trial if it is established that the injunction ought not to have been granted in the first instance. It is good practice to apply for enquiry as to damages to the court wherein the undertaking was given. Nonetheless, it is still hazy whether where the trial court struck out the suit or indeed the name of one or more of the respondents from the suit for want of jurisdiction on the trial court to entertain the suit or proceed against such respondent, an application for enquiry as to damages can be made to the same court.

It is significant to observe that the law has been settled on the strength of the authorities that where a court lacks jurisdiction to entertain any matter, it also lacks jurisdiction to issue any process in respect of same matter. We commend the case of The M.V. ‘’Med Queen’’ vs. Erinfolani[48]. A corollary to this settled state of the law in Nigeria is the fact that a defect in competence of a court is fatal to the adjudication and renders the entire proceedingsand findings invalid, nullity, null and void ab initio, however brilliantly the trial must have been conducted and concluded[49].

It is contended that undertaking as to damages derives its paternity from a subsisting suit whereof injunction has been given against a respondent. Application for enquiry as to damages pursuant to the undertaking is an incidental claim to the substantive claim in the main suit. It is almost inconceivable that when a court lacks jurisdiction to entertain the substantive suit the same court can entertain an incidental claim emanating from the same suit. In Gafar vs. Govt., Kwara State[50], the Supreme Court held thus;

“Where ancillary or incidental or accessory claims are so inextricably tied to or bound up with the main claims in a suit before the court, a court cannot adjudicate over them where it has no jurisdiction to entertain the main claims if such incidental or ancillary claims cannot be determined without a determination at the same time, of the main claims, or where the determination of such incidental or ancillary claims must necessarily involve a consideration or determination of the main claims.”

Similarly, preponderance of judicial opinion holds the view that where reasonable cause of action is absent in a suit, the court is divested of jurisdiction to entertain the suit. Cause of action impacts on the jurisdiction of the court such that when a party submits to the jurisdiction of the court for adjudication of a matter for which he is seeking redress without cause of action, it cannot clothe the court with jurisdiction to hear and determine any matter therein[51]. Taking shelter in Orji vs. Ugochukwu (Supra), it is arguable whether a court whose jurisdiction is divested on account of absence of reasonable cause of action against a defendant/respondent in the main suit, can assume jurisdiction to entertain an application for enquiry as to damages.

It is crystal clear from the foregoing authorities that there may exist circumstances where application for enquiries as to damages cannot be made to the same court wherein the undertaking as to damages was extracted. In that circumstance, resort can only be had to the court with the jurisdiction to enforce undertakings generally.  

Before the court can order an enquiry it must be satisfied that the injunction was obtained improperly and that in all the circumstances of the case injunction ought not to be given. The court will not order an enquiry if the damage is trifling or remote or if it is likely to be fruitless, if there has been a great delay in making the application.

In England, the approach that is taken is to consider the relevant practice note and then apply the principle set out by Lord Diplock in Hoffmann-La Roche & Co AG v Secretary of State for Trade and Industry[52]:

“…the court exacts the undertaking for the defendant’s benefit. It retains a discretion not to enforce the undertaking if it considers that the conduct of the defendant in relation to the obtaining or continuing of the injunction or the enforcement of the undertaking makes it inequitable to do so, but if the undertaking is enforced the measure of the damages payable under it is not discretionary. It is assessed on an inquiry into damages at which principles to be applied are fixed and clear. The assessment is made on the same basis as damages for breach of contract would be assessed if the undertaking had been a contract between the plaintiff and the defendant that the plaintiff would not prevent the defendant from doing that which he was restrained from doing by the terms of the injunction. (See Smith v Day (1882) 21 Ch D 421 at 427 per Brett LJ.)”

In Al-Rawas vs. Pegasus Energy Ltd[53], directors and shareholders of a company whose business was supplying fuel oil to purchasers in southern Africa, fell out, and one party then obtained worldwide search and freeze orders for 33m pounds upon a material misrepresentation to the court. As per the requirement in the UK practice notes, cross undertakings as to damages had been given in forms which provided: The undertaking in respect of the search and seizure order was in these terms:

“(1) If the court later finds that this order or carrying it out has caused loss to the Respondent, and decides that the Respondent should be compensated for that loss, the Applicant will comply with any order the court may make. Further if the carrying out of this order has been in breach of the terms of this order or otherwise in a manner inconsistent with the Applicant’s solicitors’ duties as officers of the court, the Applicant will comply with any order for damages the court may make.”

The undertaking in respect of the freezing order was as follows:

“If the Court later finds that this Order has caused loss to the Respondents and decides that the Respondents should be compensated for that loss, the Applicant will comply with any Order the Court may make.”

These were each in the prescribed form. As the court noted, the second sentence of the former is an addition to the form that was previously used. The orders were dissolved for non disclosure, and the court applied the principles above and allowed claims as follows:

(i)           for management time in dealing with the disruption caused by the carrying out of the massive search;

(ii)          (ii) general damages for loss of personal and business reputation;

(iii)        (iii) punitive damages, which were granted,

with Mr. Justice Jack saying this:

“The contrast between the references to compensation and to damages in the first and second sentences of the standard undertaking given to support a search and seizure order is marked. The second sentence applies where the order has been carried out in breach of its terms or the applicant’s solicitors have acted in breach of their duty to the court. These are matters which may be considered to give rise to a possible claim for exemplary damages, and that seems the only explanation for the change in wording. The undertaking thus appears to have been framed with the distinction between compensatory and punitive damages in mind. I accept that the undertaking is to be construed in that manner. Thus the applicant for an order accepts liability for compensatory damages only, save where the second sentence applies. Further, exemplary damages are not available by reason of misrepresentation in the obtaining of the order: for the second sentence is not framed to cover that. It follows that the standard undertaking in the freezing order is to be construed in the same way: it covers only compensatory and not punitive damages.”

However, Australia has taken what appears to be a substantially different approach, at least on a conceptual level, in European Bank Ltd vs. Robb Evans of Robb Evans & Associates[54].  European Bank Ltd’s case involved the usual undertaking given as the price for an appeal to the High Court, against a judgment of the NSWCA which awarded close to $8m to the Bank. Hence the studied choice of words, viz, apparently a difference; because the High Court had before it a case regarding the construction of a rule of court regulating the usual undertaking as to damages in the context of an appeal; whereas the Al Rawas case specifically dealt with construction of the ambit of the usual undertaking in practice notes regarding freeze and search orders.

In European Bank, the money was placed in an interest bearing deposit pending the outcome of the special leave application, upon Mr. Evan’s cross undertaking as to damages. In the High Court, the special leave application met with failure, and the net effect was that the Bank was entitled to its money but had been kept out of the use of it in the interim. Had it not been kept out of its money, it would have profited from currency trading, to the tune of over $1m. Mr. Evans knew of these facts.

The test there postulated by the High Court was to emphasize that the usual undertaking is given to the court, and does not constitute an inter partes contract; that the principle has its origin in the requirement that a party seeking equitable relief must “do equity” by submitting to an order for the payment of such compensation as the court considers just; and given the diverse circumstances to which the principle applies, “the process of assessment and compensation cannot be constrained by a rigid formulation”.

However, in most cases, the just and equitable view is that damages should be those that flow directly from the order or injunction and which could have been foreseen when it was granted. The enquiry to be made is not whether the actual loss suffered was foreseen at the time the undertaking was given; rather it is whether a loss of the kind actually sustained could have been foreseen.

Conclusion

Application for enquiry as to damages pursuant to an undertaking as to damages is still novel in Nigeria. Even though injunctions are granted almost on daily basis and undertaking as to damages usually extracted. Litigants and lawyers in Nigeria are yet to explore the benefits of such undertakings, the merit of the substantive suit notwithstanding. This perhaps accounts for dearth of judicial authorities on enforcement of undertaking as to damages in Nigeria. This recondite area of the law is not, however, without some guides from foreign authorities. These foreign authorities are quite persuasive on Nigerian courts and in the absence of local authorities our courts should feel bound to follow them.

The time at which the application for an inquiry as to damages is made is material. It may be made when the injunction is dissolved or at trial, but if made when the injunction is dissolved, it will probably be ordered to stand over until the trial. Where an action is dismissed at the hearing it may be dismissed without prejudice to any application by the defendant in respect of damages; the defendant will then be required to show a prima facie case sufficient to justify an inquiry. It may be made after trial, but if so should be made speedily, and if not made within a reasonable time it may be refused[55].

The damages must be confirmed to loss which is the natural consequence of the injunction in the circumstances of which the party obtaining the injunction had notice when he makes his application[56].

 

 

 

 

 

 

 

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[1] LLB, BL Senior Associate at Tope Adebayo LLP (www.topeadebayollp.com)

[2]Australian decision in Air Express Ltd v. Ansett Transport Industries (Operations) Ltd (1979) 146 CLR 249

[3] Z Ltd vs. A-Z and AA-LL (1982) QB 558 @ 586; (1982)1All ER 556 @572 – 573, CA per Kerr LJ

[4] (1989) 1 NWLR (Pt.98) 419

[5] (1995) 9 NWLR (Pt.420) Page411

[6] Reported in (1991) 3 NWLR (Pt.178) Page211

[7]In Chappell v. Davidson (1856) 8 De G M & G 1, 2, Knight Bruce LJ described this as the practice for

‘‘the last twelve or thirteen years’’

[8](1882) 21 Ch D 421, 424.

[9]1st edn (1902), 476

[10][1975] AC 295, 360

[11]W v. H [2001] 1 All ER 300, 310; SmithKline Beecham Plc v. Apotex Europe Ltd (No. 3) [2005] EWHC

1655 (Ch); [2005] FSR 44, [25].

 

[12] Sotuminu vs. Ocean Steamship Nig. Ltd (1992) 5 NWLR (Pt. 239) Page 1

[13]Siskina v. Distos SA [1979] AC 210, 256C–G, per Lord Diplock

[14]Nicholson v. Knapp (1838) 9 Sim 326; Fry on Specific Performance, 6th edn (1921), § 1162; Kerr on

Injunctions, 3rd edn (1888), 485.

[15][1981] 1 WLR 894.

 

[16][1981] 1 WLR 1262.

[17][1982] QB 558.

[18]Ibid, 586.

[19]Ibid, 575C–D.

[20] (2001) FWLR (Pt. 71) 1882 @, 1890 – 1 CA

[21] (2000) 5 NWLR (Pt. 658) 536

[22] (2005) 5 SC (Pt. I) 60 @ 78-9

[23] (1992) 5 SCNJ 17-22; (1992) 5 NWLR (Pt. 239) 1

[24] (2005) 7 NWLR (Pt 924) Page 215 @ 272 Paras F-G; 273 Paras D-E

[25] Uti vs. Onnoyibve (1991) 11 NWLR (Pt. 166) 175

[26] Clipper Maritime Co. Ltd of Monrovia vs. Mineral importex port (1981) 3 All ER 664; (1981) 1 WLR 1262

[27][1906] WN 127.

[28]Robinson v Harman 154 ER 363 at 365

[29](1854) 9 Exch 341

[30](1981) 146 CLR 249 at 266-267

[31] Afe Babalola (2007), Injunctions and Enforcements of Orders, 2^nd Edition, Ibadan, Emmanuel Chambers

[32] (1992) 3 NWLR(Pt.229) 315@340

[33] (1993) 5 NWLR (Pt.293)350@366:

[34] (1993) 9 NWLR (Pt.317)340@356

[35](1990) 1NWLR (Pt.128) 603 @ 610

[36] (1884) Ch.D.474.

[37] Novello vs. James (1854) 24 L.J.Ch III, where the defendant was held entitled to an inquiry in the dismissal of the action, although at the time the plaintiff began his action the law was conflicting and the balance of authority in his favour.

[38] Newby vs. Harrison (1861) 3 De G.F & J 287

[39] Newcomen vs. Coulson (1878) 7 Ch.D 764

[40] Kino vs. Rudkin (1877) 6 Ch. D 160

[41] S. Griffith vs. Blake (1884) 27 Ch. D 474

[42] Griffith vs. Blake (supra)

[43] Hunt vs. Hunt (1884) 54 LJ Ch 289; See also Halsbury’s Laws of England 4^th Edition – Reissue vol.24 1991 page 524-25 paragraph 983

[44] (1979) AC 201 at page 256

[45] (1989) 1 NWLR (Pt.98) 419 @ 456,

[46] Afe Babalola, Op. Cit

[47] Re Hailstone, Hopkinson vs. Carter (1910) 102 LT 877, CA

[48] (2008) 3 NWLR (Pt.1074) Page 314 @ 327

[49] George vs. S.B.N. PLC (2009)5 NWLR (Pt.1134) page 302 @ 319 Paragraph A-C.

[50] (2007) 4 NWLR (Pt. 1024) Page 375 @ 398 – 399 Paragraphs G – C.

[51] Orji vs. Ugochukwu (2009) 14 NWLR (Pt. 1161) Page 207 @ 283 – 284 Paragraphs H – D

[52] [1974] 2 All ER 1128 at 1150, [1975] AC 295 at 361

[53] [2008] EWHC 617 (QB), [2009] 1 ALL ER 346

[54] [2010] HCA 6 (10 March 2010) CLR 432; 84 ALJR 239

[55] Newby vs. Harrison (supra)

[56] Smith vs. Day (1882) 21 chD 421 @ 480, CA per Cotton LJ

LEVERAGING AS AN ALTERNATIVE TO MARGIN FINANCING

BY

HARRISON OGALAGU, ESQ.[1]

Leveraging is defined as the use of various financial instruments or borrowed capital, such as margin, to increase the potential return of an investment. Leverage is so often used as a synonym for debt. Most companies use debt to finance operations. By doing so, a company increases its leverage because it can invest in business operations without increasing its equity.

In financial terms, leverage is reinvesting debt in an effort to earn greater return than the cost of interest[2]. When a firm uses a considerable proportion of debt to finance its investments, it is considered highly leveraged. A company may leverage its equity by borrowing money. The more it borrows the less equity capital it needs, so any profits or losses are shared among a smaller base and are proportionately larger as a result.

Leverage allows a firm to invest in assets that have the potential to generate high returns. Unfortunately, a leveraged firm brings about additional risk because if the investment does not provide the returns expected, the firm still has to pay back the debt and interest. When a firm is leveraged it ultimately means that it depends somewhat on debt to finance its investments. A leveraged firm does have its advantages, however. For example, it can increase shareholders’ return on investment by giving the company the ability to take on more high return yielding projects and there is also a tax advantage that is related with borrowing.

On the other hand, margin is a form of debt or borrowed money that is used to invest in other financial instruments[3]. It is often used as collateral to the holder of a position in securities, options[4] or futures contracts[5] to cover the credit risk of his or her counterparty. A margin is also considered borrowed money that is used to buy securities. This can be a practical way of obtaining funds in order to invest in a profitable investment.

A margin is collateral such as cash or securities that are deposited into an account to cover credit risk that the other investor must take on when they have a position in a security, option or futures contract. The margin account is used to cushion any losses that may occur from fluctuations in prices. It helps to decrease default risk because it constantly monitors and ensures that the investors are able to honor the contract.

The concept of leverage and margin are interconnected because you can use a margin to create leverage. Both concepts relate to investments.

LEVERAGE AND RISKS

Financial leverage refers to the proportion of a business’s operations that is financed by debt as opposed to equity. Because the cost of capital for debt financing is fixed at the particular interest rate, there is a potential to gain or lose money depending on how well the organization invests the borrowed money relative to the interest rate. An organization may benefit from having a certain amount of financial leverage if it anticipates increased sales and earnings from additional investments. But in times of business difficulties, financial leverage, especially an excessive amount of financial leverage, can enlarge operating losses, while still demanding cash outflows to meet debt payments, especially the interest elements. Financial leverage also has a negative impact on an organization’s overall financing cost and increases the risk of bankruptcy.In unprofitable years, the increased size of the assets as funded by borrowed money results in multiplied losses that can erode the equity base and put equity holders at bankruptcy risks.

INHERENT DISADVANTAGES IN LEVERAGING

While leverage can be applied to great effect in boosting trading returns and investments, it also comes with series of disadvantages, and is by no means a sure-fire way of making money. Leveraged positions can lead to a total wipe-out of a company’s trading balance, and many traders over the years have found themselves falling victim to the negative effects of leverage, leading to significant losses without proper management of their risk. For this very reason, it’s important to make sure you understand the disadvantages of leverage, and take care to ensure you don’t fall victim to overexposure when the markets inevitably turn sour.

·         Multiplied Losses

Lenders and debt holders are guaranteed to receive their interest income whether a company has earnings or not. In profitable years, companies can easily pay interest out of profits and may still have earnings left for distributions to equity holders. However, it becomes a financial burden for companies with financial leverage in years of losses when interest expenses must be covered with portions of the equity rather than profit. Moreover, the amount of losses is multiplied as compared to those from companies that only employ equity or fewer debts[6].

Leverage helps both the investor and the firm to invest or operate. However, it comes with greater risk. If an investor uses leverage to make an investment and the investment moves against the investor, his or her loss is much greater than it would’ve been if the investment had not been leveraged – leverage magnifies both gains and losses. In the business world, a company can use leverage to try to generate shareholder wealth through bonus shares and rights issues, but if it fails to do so, the interest expense and credit risk of default destroys shareholder value. When losses are made and reflected in the books of the company, investor confidence plummets and this negatively impacts of the share value of the company in the market.

Excessive financial leverage sometimes can put a strain on an organization’s cash flows. Using equity capital, while an organization has to share any additional profits with equity investors, it does not have to make any cash distributions to investors if it has not earned enough profits. However, using financial leverage, while an organization can keep any earnings beyond the amount of promised interest, it must still make interest payments even though it has incurred losses. Such a demand on cash flows by financial leverage can make a difficult financial situation worse.

·         Increased Equity Risk

A company’s equity risk profile changes after management decides to take on certain level of financial leverage. The more debt a company uses, the more risk it increases to equity holders. In company liquidation, debt holders have a prior, fixed claim on company assets before equity holders and only the residual values, if any, go to equity holders[7]. Such repayment standards shift business risk and concentrate it on equity holders. As risk for equity holders increases, the cost of their equity investments also increases. The higher the investment cost is, the lower the value of the investment. Thus, a lower appraisal of asset value suggests potentially lowered proceeds from asset sales, reducing a business’s ability to cover debt payments. When companies use financial leverage, equity holders face uncertainties about the return of their investments. As equity holders require a higher rate of return on their investments, the cost of equity increases, which decreases a company’s equity valuation and reduces capital proceeds raised from equity investors.

The more a company invests in a losing operation, the more the losses may be. Unlike equity investments in which an organization makes equity investors to absorb the losses, using financial leverage, an organization must come up with the amount of loss shortage to pay back the borrowed capital at maturity. The failure of many conglomerates in Nigeria can be attributed to excess financial leverage involving both the lender and borrower. In 2009, over N746.19 billion non-performing loans were recorded against the mega debtors in the five banks.[8] Similarly, as at 27^th March, 2011, AMCON had spent well over N770 billion to buy banks’ bad loans[9].

·         Insolvency Exposure

A company’s total equity value changes over time as earnings or losses that the company generates are added to or subtracted from the equity base. Meanwhile, the amount of debt as outstanding is fixed and has due dates. If borrowed money was leveraged onto risky investment projects that later incurred substantial losses, without a solid equity base, companies using financial leverage could face certain degree of financial distress. Depending on the amount of debt and the resulting losses, as the equity base further erodes, debt obligations could present an insolvency risk to the company.

It is important when deciding to borrow money that a thorough investigation be done to make certain that the investment is reliable and not excessively risky. This is because inability to pay back the principal and interest element on a loan could result in bankruptcy. Financial organizations in Nigeria have made a practice of executing an All Asset Deed of Debenture with the catastrophic effect of appointment of receiver or receiver/manage on the assets or undertakings of the borrower company upon default in repayment obligations[10]. A receiver and manager appointed pursuant to a security document has a primary duty to realise the assets charged by that debenture with a view to liquidating the debt owing to the mortgagee and by extension set the borrowing company on the path of financial recovery. This is often not the case in Nigeria as many companies that have been exposed to receivership never survived the receivership but transited to the eventual liquidation of the company.

While an organization can lose its equity capital without direct financial consequences, taking on excessive financial leverage and not being able to pay back the borrowed capital when due can put the organization at the immediate risk of bankruptcy. An organization’s solvency depends on its ability to absorb losses with the amount of equity capital it has. With a higher ratio of debt to equity, an organization has not only less equity to rely on, but also potentially greater losses to take in. Absent cash flows from other sources, excessive financial leverage is a potential threat to an organization’s financial solvency.

·         Reduced Investment Returns

Aware of the magnifying effect of financial leverage on potential losses, a company’s management may become overly cautious when choosing investment projects that are financed with debt. To reduce the possibility of incurring potential increased losses, management may try to avoid risky projects. However, riskier investments often generate higher returns if they turn out to be successful. By focusing on only safe projects, a company can earn only average returns, reducing its competitiveness over time and its ability to fend off any future bankruptcy threat.

Knowing about the potential downsides associated with using financial leverage, management may be reluctant to commit borrowed money to highly risky investment projects that nonetheless have potentially high returns, and opt for safer investments. In the meanwhile, companies without as much financial leverage are in a better position to pursue investments of higher returns. At the end, even though companies intend to increase returns with the multiplying effect of financial leverage, they may be operating too many average projects and that could actually hurt investment returns.

PRACTICAL APPROACH TO THE OPTION OF LEVERAGING

While there are no guarantees in investments, there are a number of ways in which you can stack the odds in your favour, and by employing a considered, intelligent leverage strategy, it can be possible to reduce the likelihood of total financial meltdown, while preserving profitable positions and your trading capital.

Whenever an organization intends to use leverage in boosting its capital and revenue base, it is vital to make sure the organization keeps its trading within tight, affordable parameters, and that certain steps are taken to minimize risk exposure whenever possible to avoid a leveraged catastrophe.

Notwithstanding the inherent dangers in financial leverage, it can be a fantastic tool when used properly, and plays a pivotal role in the strategies of most serious traders worldwide. With the appropriate attitude to risk, and a cautious approach to diversifying your trading portfolio, leverage can provide the rocket fuel necessary to multiply your investment capital and take your business to the next level.

The most direct way of limiting your losses is to position a stop loss underneath a recent low-point price for the stock, commodity or index on which your contract relies. A stop loss is an instruction given to the broker or agent ahead of time to close a position when it looks certain that it could be heading south. The tighter the stop, the more likely it is that a blip could close your position, while looser stops obviously pave the way for more significant losses. Wherever you position your stop loss, it’s important to see stops as a hand-in-hand companion of organizational trading, and a vital component of sensible margined trading.

Further to positioning stops on your leveraged businesses, it is also possible to take steps to mitigate losses by a process known as ‘hedging’ – effectively taking two contrary positions in the hope that one will offset the other and lead to a profit regardless of the movements of the market. This might be with two differing contracts, or may involve cross trading instruments and bases. However the hedge is composed, it must take account of inverse correlations, and should attempt to identify trends of contrary price movement to highlight indexes and assets which seem to respond in sync with price movements of another[11].

Along a similar vein, ensuring you have a diverse trading portfolio is a good way of minimizing the effect of organization losses. Too much exposure to one asset class or instrument can never be a good thing, and by spreading your wings to encompass other trading strategies and instruments, it is feasible to spread much of the risk associated with more volatile trades or businesses.

That said, by starting off on a cautious footing and with an understanding of the basic ways in which you can protect your trading capital and cut short losses before they take full swing, it can be possible to limit the damage caused by positions that turn out to be less profitable than anticipated.

CONCLUSION

Companies can go out of business with or without financial leverage because of the inherent business risk in operating any enterprise. However, the decision to use debt adds additional risk that can further compound the effect of business risk in times of operation losses. Still, companies will always be tempted to use debt to fund parts of their operations. Debt financing is normally cheaper than equity financing, as debt holders do not bear the ultimate business risk. An optimal capital structure in which the portion of debt relative to equity is not excessive may enable a business to take advantage of the low-cost debt financing while avoiding potential bankruptcy threats posed by financial leverage.

There is therefore no need to be afraid of leverage once the organization has learned how to manage it. The only time leverage should never be used is if the organization takes hands-off approach to its investments. Otherwise, leverage can be used successfully and profitably with proper management. Like any sharp instrument, leverage must be handled carefully – once you learn to do this, you have no reason to worry about adopting leverage as an alternative to margin financing.

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[1] LLB, BL Senior Associate at Tope Adebayo LLP (www.topeadebayollp.com)

[2]www.ehow.com/info

[3]www.investorpedia.com

[4]Option is a derivative financial instrument that specifies a contract between two parties for a future transaction on an asset at a reference price. The buyer of the option gains the right, but not the obligation, to engage in that transaction, while the seller incurs the corresponding obligation to fulfill the transaction. The price of an option derives from the difference between the reference price and the value of the underlying asset (commonly a stock, a bond, a currency or a futures contract) plus a premium based on the time remaining until the expiration of the option.

[5]Futures contract refers to a contractual agreement, generally made on the trading floor of a futures exchange, to buy or sell a particular commodity or financial instrument at a pre-determined price in the future. Futures contracts detail the quality and quantity of the underlying asset; they are standardized to facilitate trading on a futures exchange. Some futures contracts may call for physical delivery of the asset, while others are settled in cash.

[6] Despite the fact of making losses by the company, the lender or finance company would still require the principal sum and interest elements due and owing to be paid.

[7] Sections 492 & 494 of CAMA on priority of claims and distribution of assets on liquidation/winding up.

[8]www.cenbank.org

[9]www.amcon.com.ng

[10] Sections 388 – 390 of CAMA

[11] www.cfdspy.com

DEFECTS AND RECTIFICATION PERIOD IN CONSTRUCTION CONTRACTS: THE CONTRACTOR’S DILEMMA

BY

HARRISON OGALAGU[1]

ABSTRACT

“Defects will occur in buildings. It is one of the great certainties in construction, the equivalent of death and taxes in life more generally”.

Professor Anthony Lavers

The unique and sometimes complex nature of the building and construction sector with different professionals and groups with their different interests pose a sort of different requirements which compete with one another. Virtually all construction contracts contain very detailed specifications, drawings and details relating to contract requirements, and a combination of the complexity of the construction itself and human nature gives ample scope for minor deviations from the contractual specifications. Defects can take place in any part of a construction project and at any stage of the construction. This paper examines defects in building and civil engineering work which occur or become apparent after completion of work (contract) and after expiration of the maintenance period otherwise known as “defects liability period” or what has recently been dubbed “rectification period”.

Ordinarily, issuance of Certificate of Practical Completion brings the contractor’s obligation to an end and only defects due to workmanship and materials not in accordance with the contract are required to be made good at the contractor’s cost. Oftentimes, contractors believe that liability is limited to what is written in the contract. Most contractors also believe that after the defects liability period has expired, liability of maintenance or effecting repairs of any further or subsequent latent defects is borne by the employer or his successor-in-title. In many circles, it has been contended that the issuance of final certificate discharges the contractor of liability for the defective works and the cost of remedying same. The paper is a product of examination of necessary legal literature and judicial authorities on the legal position of construction contract in relation to rights of the parties and whose liabilities are the defects after issuance of final certificates.

INTRODUCTION

Construction contracts can be divided into an initial construction period followed by a post-completion period during which different types of contract impose different requirements. The contractor’s basic obligation is to comply with the terms of the contract. The contract documents consist of plans, specifications and the building code within the required time. In a construction contract therefore, a contractor who undertakes to do work and supply materials impliedly undertakes;

(a)          To do the work undertaken with care and skill or, as sometimes expressed, in a workmanlike manner;

(b)         To use materials of good quality

(c)          That both the workmanship and materials will be reasonably fit for the purpose for which they are required, unless the circumstances of the contract are such as to exclude any such obligation[2].

In the simplest case the contract may contain provisions which apply post-completion, for correction of latent defects which appear during a stipulated period. Alternatively, the contract may require works to be maintained for a stipulated period[3]. The achievement of completion of work is unaffected by the subsequent manifestation of defects that were latent at the date of completion[4], although such defects will entitle the owner to an abatement of, or set-off against, the contract price or any installment payable upon completion[5]. Dealing with construction failures requires various degrees of familiarity with the law, building technology and practice.

RECTIFICATION PERIOD (DEFECTS LIABILITY PERIOD): DEFINITION

There is frequently a clause in building contracts that provides that the contractor shall make good defects, or repair or maintain the works for a certain period after completion. This period is sometimes referred to as the “defects liability period” or “maintenance period”[6]. The 2005 Suite of JCT Contracts has now replaced the phrase “defects liability period” with what is now called a “rectification period”. The principle remains the same but the phraseology has been simplified. The Rectification period is akin to a guarantee period and the contractor usually has the obligation, and indeed the right, to remedy defects appearing within this time.

Defect liability period is therefore a period whereby the contractor must repair any defect identified by the supervisory officer after a particular work was duly completed. All expenses to repair the defects shall be borne by the contractor and no additional costs charged to the employer. It is a period usually between 6 and 12 months following practical completion, during which the employer can require the contractor to return to the site to complete any omissions in the works and to make good any defective work or materials. When all omissions and defects have been made good, the contract administrator or Employer’s Agent must issue a certificate or statement of completion of making good defects.

The effect of the “defects liability” provisions is not only to render the contractor liable to correct the defects (such liability existing in any event) but also to afford the contractor a right to receive notice of defects in the stipulated period and to have the opportunity of correcting them at his own expense, as opposed to what may be the greater expense of bringing in other contractors. The underlying consideration for the commencement of the rectification period under the JCT Suite is practical completion. Conversely, defects appearing before the achievement of completion may be regarded as “temporary disconformity” not ordinarily sounding in separate damages[7].

The construction defects in contemplation may arise from improper soil analysis/preparation, site selection and planning, architectural design, civil and structural engineering, negligent construction or defective building materials[8]. Summerlin and Ogborn acknowledge that construction defects can be the result of design error by the architect, a manufacturing flaw, defective materials, improper use or installation of materials, lack of adherence to the blueprint by the contractor, or any combination thereof[9]. Defect in this context connotes a failure of the completed project to satisfy the express or implied quality or quantity obligations of the construction contract[10]. Four categories of typical defects can be identified as design deficiencies, material deficiencies, construction deficiencies and subsurface/geotechnical problems.

LIABILITY FOR DEFECTS

Liability in this context connotes duty owed another in contract or by operation of common law of tort. The failure to perform these duties or responsibilities constitute a breach, therefore the person will be answerable or accountable to the other party who may have suffered as a result of his/her wrongful act. In Greaves & Co. v. Bayham Meike[11], Lord Denning M.R. in his clinical finesse held thus:

“Apply this to the employment of a professional man. The law does not usually imply a warranty that he will achieve the desired result, but only a term that he will use reasonable care and skill. The surgeon does not warrant that he will cure the patient. Nor does the solicitor warrant that he will win case”

In the words of Oliver J. in Midland Bank v. Hett, Stubs & Kemp[12], the learned jurist opined that the obligation to exercise reasonable skill and care is not the only contractual term which ought to be considered in a professional negligence action, there are implied terms that he will draw up the option agreement and effects registration.

Specifically, in Schmauch v. Johnston[13] it was laid down that a builder, in execution of his duty, should do so in a good and workmanlike manner. In engineering and construction contracts, there are statutory parameters which cut across all the activities of a contractor/builder and which may be used to determine the standard of his product. These parameters may be summed up as implied warranties of fitness and habitability and usually form the basis of building regulations, codes, and byelaws. The parameters include structural and dimensional stability, durability, freedom from damp, adequate drainage, service installations such as electrical, mechanical, sanitary fitments and waste disposal installations[14].

It is significant to underscore that absence of privity of contract does not often discharge the liability of a party in building and construction contracts. Put differently, the liability of a party for defects in the construction work is not limited between the parties inter se. Third parties who have acquired interest in the construction work and indeed others who are privies in estate can claim damages or indemnification for breach. The builder’s position becomes precarious because his liability is not only contractual. Other parties having to do with the building (trespassers, licencees, visitors, etc.) may institute an action against him based on torts except where the builder (contractor) can successfully establish prima facie the elements of contributory negligence, or plead an ” Act of God” or take refuge under the statutes of limitation.

In Linden Gardens Trust Ltd v. Lenesta Sludge disposals Ltd[15], the House of Lords held that the recovery of damages for breach on a contract was not depended or conditional on the plaintiff having a proprietary interest in the subject matter of the contract at the date of the breach. The Court further held that the present owner could recover damages for defective work even though the owner suffered no actual damage as the building had been sold for full value before the damage was discovered. In Barnes v. Mac Brown & Co.[16], the plaintiff in 1971 bought a home built in 1967 from the original owners. On moving in, large cracks among other defects were observed around the basement walls. The plaintiff’s suit against the builders for breach of an implied warranty of habitability which was earlier dismissed by a lower court was upheld on appeal notwithstanding the absence of privity between the builder and the subsequent vendee.

Similarly, the Supreme Court of Queensland in Director of War Service Home v. Harris[17] held with a finality that “if the owner subsequently sold the building, or gave it away, to a third person, that would not affect his accrued right against the builder for damages.” In this case the defective works carried out by the defendant for the plaintiff were not discovered until after the houses were sold. By the verdict of the learned judge, Sir Harry Gibbs and concurred by Stable and Hart JJ, the owner is entitled to recover damages for the cost of rectification of the defective works. The builder would however be relieved of liability if the vendor makes himself the principal contractor behind the construction and disposition of the property as in the case of Le Blanc v. Ellerbee Builders Inc.[18]

During the defects liability period, which commences on the completion of the works, standard forms of contract generally give the contractor a licence to return to the site for the purpose of remedying defects. In effect, such condition of contract confers upon the contractor a right to repair or make good its defective works, which can (usually) be carried out more cheaply and oftentimes more efficiently than by some outside contractor brought in by the employer[19]. Engineering and Construction contracts envisage that defects might occur during the defects liability period, and such defects shall not be considered as a breach of contract. Upon the receipt of notice the contractor is obliged to return to the site to make good the defects. However, if the contractor fails to rectify the defects upon receipt of notice, he is clearly in breach of contract and the employer reserves the right to seek remedy in form of damages to recover the cost of remedying the defect. Thus, a cause of action for failure to comply with defects liability obligations normally arises at such later date after practical completion as the contract prescribes for carrying out those obligations.

The liability of the contractor/builder is not limited to defects that occur during the defects liability period and before the issuance of Certificate of Practical Completion. Notwithstanding the issuance of a certificate of practical completion, the subsisting contractual relationship inures beyond the 6 to 12 months’ defects liability period. In the eyes of the law, it stretches through the life of the builder or the period in which any composite element or component erected by him would reasonably be expected to last, whichever is shorter.

In United Kingdom where the standard of Engineering and Construction contracts are modeled, for instance, in the absence of words to the contrary, the contractor’s liability for not completing the works in accordance with the contract continues until barred by the Limitation Act 1980 and thus extends for the period of 6 years for a simple contract, and 12 years for a deed, from the date when the cause of action against him arose[20].

The liability of the contractor/builder also extends beyond the defects liability period especially where there is an expressed or implied warranty as to fitness for purpose, a builder will be held liable for structural defects created even by a nominated sub-contractor. The general position of law is that an employer under a construction contract does not impliedly warrant the feasibility of the design set out in the contract documents. Similarly, an architect or engineer does not warrant to the contractor or builder the practicability of the plans, drawings and specifications prepared by him, or of the temporary means of construction indicated in the specification. It is therefore the duty of the contractor to investigate these matters for himself, and it has been held that any usage or custom for him to rely on the drawings or specifications will not assist him. Traditionally, when an employer engages a contractor to construct a building on the basis that the building will be constructed in accordance with an architect’s (or other design professional’s) design supplied by the employer, then the contractor whilst accepting to carry out the works in accordance with the design documents, makes no promise that the building will fulfill its intended purpose, save in those rare instances where such can be objectively shown to have been the case.

Nonetheless, some limited design responsibility may be placed on a contractor outside the total package deal such as design and build contracts. In some instances and by virtue of design documents failing to specify all materials, a choice of materials is left to the skill and judgment of the contractor and this is a rich vein for disputes affecting liability for defects. In Overcast v. Baldwin[21], the plaintiff recovered from the general contractor the cost of hiring a third party to underpin the foundation and fix the seriously cracked walls initially erected by a subcontractor.

It is in the interest of a contractor to take care to prudently consider the implications of the design, even where he thinks he owes no responsibility whatsoever to. In some jurisdictions a contractor is under a duty to warn the employer of any problems with the design. The Supreme Court of Canada in Brunswick Construction v. Nowlan[22] held that a contractor executing a work in accordance with plans of the employer’s architect is under a duty to warn the employer of obvious design defects. The situation in England is slightly different. The case of Aurum Investments Limited v. Avonforce Limited (in liquidation)[23], has resolved the spate of conflicting authorities[24] on the duty to warn. In Aurum’s case where an underpinning subcontractor was held not to be liable under the duty to warn principle when part of the excavation work collapsed. Mr. Justice Dyson opined that;

“the law is moving with caution in this area … a court should not hold a contractor to be under a duty to warn his client unless it is reasonable to do so” (Underlining for emphasis)

The law is settled on preponderance of authorities that in a “design and build” contract the contractor, in the absence of an express contractual rebuttal, will be under an obligation to ensure that the finished product will be reasonably “fit for its intended purpose” Where the contract is not a design and build but it is reasonable to deduce into the contract implication for fitness for intended purpose, a prudent contractor is advised to alert the employer to any obvious design defects that he may come across. This is because at Common Law, the fitness for purpose duty is stricter than the ordinary responsibility of an architect or other consultant carrying out design where the implied obligation is one of reasonable competence to “exercise due care, skill and diligence. Thus, in Greaves v Baynham Meikle[25], the illustrious Lord Denning had this to say of the fitness for purpose obligation;

“Now, as between the building owners and the Contractors, it is plain that the owners made known to the Contractors the purpose for which the building was required, so as to show that they relied on the Contractor’s skill and judgment. It was, therefore, the duty of the Contractors to see that the finished work was reasonably fit for the purpose for which they knew it was required. It was not merely an obligation to use reasonable care, the Contractors were obliged to ensure that the finished work was reasonably fit for the purpose”

The contractor/builder’s liability is strict particularly where the defect in question is latent, except a plaintiff acquiesces beyond the prescriptive date after discovery. Thus, in Austen v. Keck[26], an architect, joined with the vendors, were sued in respect of a ceiling that collapsed 12 years after construction. The action was dismissed at first instance on the ground of having exceeded the 5-year prescription of the statute of limitation. On appeal, the decision was reversed because the statute could only run from when the plaintiff had knowledge or could have known of the defect. In deserving circumstances punitive damages may also be awarded against a builder, who fraudulently conceals the existence of structural defects well known to him before handing over[27].

Lord Diplock in P&M Kaye Ltd v. Hosier & Dickson Ltd[28], held inter alia;

“Condition 15 imposes upon the contractor a liability to mitigate the damage caused by his breach by making good the defects of construction at his own expense. It confers upon him the corresponding right to do so. It’s a necessary implication from this that the employer cannot, as he otherwise could, recover from the contractor the difference between the value of the works if they had been constructed in conformity with the contract and their value in their defective conditions, without first giving the contractor the opportunity of making good the defects.”

 

There was a lingering controversy among contractors and industry players as to whether a contactor should be liable to third party or only to the client. This controversy has been substantially laid to rest by Lord Wilberforce when in the case of Anns v. Merton London Borough Council[29], the Law Lord held that the contractor owed a duty of care to subsequent purchaser to ensure that the building was safe for occupation and use, and the owed duty of care could result in liability for damage to the building itself.

LIABILITY OF CONTRACTOR AFTER FINAL CERTIFICATE

Final certificate is usually due about a year after Practical Completion. The contention among scholars in this regard is how final indeed is the final certificate in construction projects with respect to defects on the works and after the expiration of the defects liability period. In England, for instance, there has been some controversy as to whether the Final Certificate is conclusive as to quality matters. Abundant judicial authorities are of the common view that issuance of the final certificate relieves the contractor from any obligation from the employer and transfers all other responsibilities to the employer to make good any ‘discoverable’ defects on the works. In Shen Yuan Pai v. Dato Wee Hood Teck & Ors[30], the court held that as the architect in this case had issued his final certificate, thereby showing his satisfaction with the works carried out by the plaintiff, the plaintiff was entitled to the amount claimed.

There is thus a growing assumption in the industry that contractors take relieve from a final certificate and assume that no new or further claims can be made against them for defective or incomplete works under the final certificate, other than latent defects, if latent defects are discovered during defects liability period. Outside the defects liability period, the issuance of final certificate prevents the employer from bringing claims for defects in the works from a breach of contract and/or tort irrespective of whether those defects may be said to be latent or patent[31].

Johnson I Ikpo[32] is however is of the view that notwithstanding the issuance of final certificate, the subsisting contractual relationship inures beyond the 3 to 6 months’ defects liability period. He further opined that in the eyes of the law, it stretches through the life of the builder or the period in which any composite element or component erected by him would reasonably be expected to last, whichever is shorter.

The binding effect of the Final Certificate is capable of substantially affecting the rights of the employer in relation to certain defects. In reality though, the effect of the Final Certificate is to rule out any action with respect to ongoing patent defects. Understandably, it is impossible for an architect or project consultant to know with any certainty whether there are any latent (or hidden) defects in the contractor’s work. Therefore an employer will ordinarily expect to have the benefit of the usual limitation period (between 6 and 12 years), so that if any latent defects appear during that limitation period, then he is able to sue the contractor, whether a Final Certificate has been issued or not.

In the same token, it should be noted that if defective work or workmanship or design has been knowingly covered up or concealed so as to constitute fraud, the commencement of the limitation period may be delayed. The decided period may be delayed until discovery actually occurs; or at least the defect could have been discovered with reasonable diligence, whichever is earlier. The case of Robinson v. PE Jones (Contractors) Limited[33]  provides a reminder to contractors and consultants that their liability for defects will normally extend beyond any contractual defects liability periods to include a liability for breach of duty of care not to cause economic loss to its client where a special relationship exists between the contracting parties. Cause of action for breach of the tortious duty of care is not circumscribed by specific provisions in the contract in relation to defects liability period. The contractor in this case was only able to plead a limitation defence in respect of the negligence action as it was able to locate a copy of the contract and rely on its specific provisions. This case certainly confirms that it is possible to include contractual provisions which expressly exclude a concurrent tortious liability and expressly disavow any ‘assumption of responsibility’. Builders should be advised to ensure that such provisions are included in their contracts.

CONCLUSION

Prior to the commencement of any construction project, it is worth thinking about how defects and completion issues should be addressed at procurement stage. Whether something is defective will often depend not so much on whether it is completed competently from a workmanship perspective but on the precise standard and specification to be met. Similarly, if specific tests are to be passed these will need to be provided for contractually, and consideration given to whether general or liquidated damages should apply in the event of failure. The precise standard and level of completion required for Practical Completion is something which can often cause arguments, so careful consideration should be given to whether the completion requirements are clear and what risks they may hold.

Clearly, early consideration should be given to the contractual procedures and relevant notices. Even if the defects liability period has ended the contractor will in the vast majority of cases remain liable in damages. An employer who discovers latent defects after the expiry of the defects liability period would still be well advised to notify the contractor of the same. The employer will still have a claim in damages against the contractor if the defects are a result of the contractor’s breach of contract and/or negligence and the employer suffers loss as a result (assuming the claim is not time-barred of course). Nevertheless, if an employer wishes to enter into a ‘full and final settlement’ with a contractor, it should ensure that that its right to claim in respect of latent defects is preserved.

An end user of a construction project who did not employ the contractor or design team should be careful to consider whether he has the benefit of any assignment of the relevant building contract or professional appointments, or alternatively whether he has collateral warranties or third party rights. An assignee of any construction project should, as a matter of necessity prior to the assignment, conduct a structural integrity test[34] on the project before closing the deal just to determine the ‘margin between safety and disaster’. The consequences of structural integrity failure can be tragic in terms of loss of life and financially crippling due to loss of value.

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[1] LL.B; B.L; Senior Associate, Tope Adebayo LLP (www.topeadebayollp.com)

[2] Ayodeji S. Ojo: Defect Liability: Employer’s right and Contractor’s Liabilities examined.

[3] Chitty on Contracts Vol. II 29^th Edition

[4] Jarvis v. Westminster C.C. (1969) 1 W.L.R. 1448

[5] Gilbert-Ash v. Modern Engineering (1974) A.C. 689, HL

[6] Keating on Construction Contracts 2006, 8^th edition.

[7] This is based on the (dissenting) judgment of Lord Diplock in P & M Kaye v. Hosier & Dickinson (1972) 1 W.L.R. 146, but see further Lintest v. Roberts (1980) 13 B.L.R. 38, where defects prior to completion were held to give rise to a vested right of correction.

[8] Frankel E. R. (2005). Insurance Coverage for Construction Defect Claims.

[9] Summerlin & Ogborn (2006). Construction Defects. Construction Law Attorneys, Thomson Business.

[10] Cama J. (2004). Who Pays to Fix Building Defects

[11] (1975) 1 WLR 1095

[12] (1979) Ch. 384

[13] P. 2d 119 (1976)

[14] Johnson I Ikpo (2005). The Builder’s Liability Beyond the Defects Liability

[15] (1993) 3 All E.R. 417

[16] 342 N. E. 2d 619 (1976)

[17] (1968) Qd R 275

[18] 317 So. 2d I (Ct. App., 1975)

[19] Harbans Singh (2003). Engineering and Construction Contracts Management – Post Commencement Practice.

[20] Keating on Contract, op cit.

[21] 544 P. 2d 464 (1976)

[22] (1974) 21 BLR 27

[23] (2001) CILL 1729

[24] See Victoria University of Manchester v. Hugh Wilson and Lewis Womersley and Pochin (Contractors) Limited (1984) CILL 126 and University of Glasgow v. W. Whitfield and John Laing Construction Limited (1988) 42 BLR 66

[25] [1975] 3 All ER 99

[26] 349 N.E. 2d 20-65 (1975/76)

[27] Mitchell Homes Inc. v. Tens, 319 So. 2d 258 (1975)

[28] (1972) 1 W.L.R. 146 at p.166

[29] (1978) AC 728

[30] (1976) 1 MLJ 16

[31] Ayodeji S. Ojo Op. Cit.

[32] Op.cit.

[33] (2011) EWCA Civ 9

[34] Structural Integrity test is conducted to determine the reliability and safe design of all engineered structures  and is vitally important to prevent catastrophic failure and ensure continuous profitable operation.

CORPORATE GOVERNANCE IN NIGERIA; THE GROWING NEED TO DEEPEN INVESTOR CONFIDENCE

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