An afternoon discussion on direct payments

An Afternoon Discussion on

Direct Payments

1

Types of Direct Payments

1. Contractual

2. Non-Contractual

2

Contractual Direct Payments

PAM Contract 2006 (With Quantities)

“27.6 The Architect may...request the Contractor to furnish to him reasonable

proof that all amounts stated as due and included in the previous certificates have

been discharged. The Contractor shall provide such proof...If the Contractor has

any reasons for withholding any NSC’s payments...he shall provide the Architect

written details...If the Contractor fails to comply...the Architect may (but not obliged

to) issue a certificate stating the amount in respect of which the Contractor has

failed to provide such proof...the Employer may (but not obliged to) pay such

amounts directly to the Nominated Sub-Contractor and deduct the same from any

sums due or to become due to the Contractor…”

3

Contractual Direct Payments (continued)

PAM Contract 2006 (With Quantities)

“27.10 Neither the existence of or the exercise of the foregoing provisions nor

anything else contained in the Contract shall create a privity of contract between

the Employer and any of the NSCs”.

4


Pam Sub-Contract 2006

“26.5 ...The Contractor shall provide the Architect...reasonable proof that all

amounts stated as due and included in the previous payment certificates to the

Sub-Contractor have been discharged. Where the Contractor fails to discharge his

payment obligations and where requested by the Sub-Contractor, the Architect

may...issue a certificate stating the amount in respect of which the Contractor has

failed to provide such proof. Where the Architect has so certified, the Employer

may (but not obliged to) pay such amounts directly to the Sub-Contractor...Any

direct payment made under Clause 27.6 of the Main Contract Conditions shall not

create a privity of contract between the Employer and Sub-Contractor.”

5


There are direct payment provisions also in JKR, IEM, and FIDIC forms.

In short:

1. Where the contract provides for direct payments, then the clauses of the

contract would apply.

2. Such forms of direct payments does NOT create a privity of contract between

the Employer and the Sub-Contractor.

3. This means that the Main Contractor continues to be responsible for all

payments due to the Sub-Contractor, and for all defects/delays to the

Employer.6

Non-Contractual Direct Payments

The issue becomes more interesting when it involves non-contractual direct

payments, i.e. when the Employer makes direct payments to the Sub-Contractors

not in accordance with a particular express term of the contract, but as a matter of

practice.

7

Problem with Direct Payments

“Main contactors are generally not in favour of such an arrangement as they are

denied the most effective control mechanism against a delinquent sub-contractor,

ie a financial sanction but at the same time are left shouldering the bulk of the

liabilities vicariously, for and on behalf of the latter. Save for the meagre profit and

attendance which is paid directly to them, they do not have any other entitlement

and/or monetary control over a sub-contractor nominated by the employer and

who is reimbursed directly by the latter.”

- Construction of Contingent Payment Clauses: Is there light at the end of the

tunnel by Ir Harbans Singh KS [2006] 3 MLJ ix

8

General Position of the Law- Sigma Elevator

Sigma Elevator (M) Sdn Bhd v Isyoda (M) Sdn Bhd & Anor [2016] 10 MLJ 635,

HC

[61] ...the Settlement Agreement...does not involve (the Sub-Con). By no means is

it a tripartite agreement between the three parties...where it was agreed that (the

Sub-Con) is to be paid directly by (the Employer). It is simply an

agreement...between (the Main Con) and (the Employer)...The parties did not

include (the Sub-Con) directly as a contracting party.

[62] ...the Settlement AGreement does not absolve (the Main Con) from its

obligations to pay (the Sub-Con) for work done under the subcontract.

9

Lessons from Sigma Elevator

1. Court looks at the privity of contracts. Any side arrangement that does not

involve the consent of all parties will not alter the obligations of the contract.

10

Case Study 2: Mega Mayang

Mega Mayang M&E Sdn Bhd v Ehsan Bina Sdn Bhd & Ors [2017] MLJU 630,

HC

[16] ...the (Sub-Con’s) contract is with (the Main Con). The (Sub-Con) has not

pleaded any contract with (the Employer). At the risk of stating the obvious, only

parties to a contract may sue each other. Non-parties to a contract cannot be sued

under contract. This is so even when the consideration for a contract might have

flowed from some third party as in this case where arrangement for payments is

from (the Employer).

11

Mega Mayang (continued)

[17] ...there was no tripartite agreement between (the Sub-Con), (the Main Con)

and (the Employer). In the event that (the Employer) dod not pay (the Sub-Con) as

agreed or arranged, it is still for the (Sub-Con) to sue (the Main Con) and for (the

Main Con) to sue (the Employer).

[18] The matter becomes more obvious when it comes to a claim against the

(Sub-Con) for defective works or damages under the…(LAD) clause. It is for (the

Employer) to sue (the Main Con) and for (the Main Con) to sue (the Sub Con). If

(the Employer) were to sue (the Sub Con) for costs of rectifying defective works or

for LAD, one can almost hear a roar of objection that there is no privity of

contract...Non parties to a contract cannot sue and be sued...

12


[20]...Even though the source of funds for payments to the (Sub Con) had come

from (the Employer), yet the payment is contractually the obligation of (the Main

Con) and to emphasise this point, the cheques concerned were paid through (the

Main Con) handing it over to the (Sub Con). Paying on behalf of a contracting

party does not make the party paying a party to the contract between the

contracting parties…

[32] The fact of payments proceeding from a third party (the Employer), not a party

to the contract between the (Sub Con) and (the Main Con), does not make (the

Employer) liable under contract to the (Sub Con). Consideration can flow from a

third party who is not a party to the contract...

13


[39] A payment arrangement term in the contract between the (Sub Con) and (the

Main Con) where (the Employer) makes direct payment to the (Sub Con) does not

convert the contract between the (Sub Con) and the (Main Con) into one where

the (Sub Con) can enforce the direct payment arrangement against (the

Employer) direct.

[56] ...unless all these various averments and allegations of the (Sub Con) lead to

a pleaded case of the creation of a contract between the (Sub Con) and (the

Employer)...it is just nothing but hot air...

14

Lessons from Mega Mayang

1. Court will strictly observe the privity of contracts.

2. Only exception if there is a tripartite agreement.

15

Case study 3: Bond M&E

Bond M&E (KL) Sdn Bhd v Isyoda (M) Sdn Bhd (Brampton Holdings Sdn

Bhd, third party) 2017 MLJU 376, HC

[1] This case explores the question of who a sub-contractor should sue for

payment due to it under a Sub-Contract with its main contractor when there is a

separate agreement between the Main Contractor and its Employer that the

Employer would pay the Sub-Contractor direct. The Sub-Contractor is not a party

to that agreement between the Main Contractor and its Employer. There has been

some previous direct payments from the Employer to the Sub-Contractor.

16

Bond M&E (continued)

[27]...Back to basics, the rule of privity of contracts dictate that only parties to a

contract may sue and be sued contractually. Even if a benefit is conferred on a

non-party, that non-party cannot sue unless made a party in a tripartite agreement

where the initial obligation of (the Main Contractor) to pay (the Sub-Contractor) is

now taken over by (the Employer) with the corresponding right of (the

Employer) to sue (the Sub-Contractor) for any defective works...

17

Bond M&E (continued)

[36] To be clear, there had been 2 direct payments made by (the Employer) to (the

Sub-Contractor)...Even when these payments were made, it was made by

cheques payable to (the Sub-Contractor) but handed over to (the Main Contractor)

for it to in turn transmit it to (the Sub-Contractor)...I agree that these direct

payments do not corroborate (the Main Contractor’s) alleged Direct Dealing &

Payment Agreement for the following reasons: a) ...main contract

conditions...allows...direct payment…; b) (the Sub-contractor) continued to

demand and pursue its claim against (the Main Contractor) after receiving direct

payments...c) section 2(d) of the Contracts Act 1950 allows for consideration to

come from a third party.

18

Lessons from Bond M&E

1. When Employer makes cheque to Sub-Contractor but passes it to Main

Contractor, it is not considered direct payment, but is a consideration by a

third party.

2. The Court will uphold the privity of contracts.

3. But the Court left open the possibility of a tripartite agreement where the Sub-

Con agreed to be paid directly by the Employer with the possibility that

correspondingly the Sub-Con will be liable directly to Employer for defects

4. If Sub-Con is liable directly for defects, then why not for delays also?

5. That leaves open the possibility for the Main Con to be released from the

obligation of defects and delays if there is such a tripartite agreement19

Therefore, the conclusion so far is...

Main Contractor remains stuck!

a. Liable to the Sub-Contractor for all payments even though the Employer has

agreed to make direct payments.

b. Liable to the Employer for all defects and liabilities of the Sub-Contractor

despite the Employer making direct payments.

20

The darkest hour is

just before the dawn...

21

The Court of Appeal comes to the rescue

JKP Sdn Bhd v PPH Development (M) Sdn Bhd [2007] 6 MLJ 239

Brief facts:

JKP Sdn Bhd is a wholly-owned company of MOF. To revive a project in Bayan

Lepas, it allocated the project to a developer under a privatisation agreement. The

developer appointed PPH Development (M) Sdn Bhd as the Main Contractor.

There was no “privity of contract” between PPH and JKP, but JKP has been

making “direct payments”. PPH sued JKP direct for non-payment of certified

sums. PPH said there were representations made by JKP that it would make

direct payment, and that was the reason PPH continued with the works.

22

JKP v PPH (continued)

[19] ...at the material time when the representation was allegedly made, (JKP) was

well aware that a substantial sum was due and owing by (the developer) to (PPH)

and (the developer) had no means at the material time to satisfy this…(JKP) also

knew that if this was not paid, (PPH) would stop work. (JKP) being the owner of

the project could not risk this...Under such pressing circumstances, and with a

track record for bailing out (the developer) financially with direct payments to

(PPH), we agree with the trial judge’s finding that it is very probable that (JKP) did

make the representation to (PPH).

23


[20] This conclusion is further supported by the comfort letters and the

Supplementary Agreement…

[21] Though...these comfort letters do not expressly declare that (JKP) would be

responsible for the debts incurred by the developer...By themselves, these letters

do not contain the representation nor do their contents bind (JKP) to any

contractual promise to pay (PPH) for the outstanding debts. But by being

contemporaneous documents, they infer that the representation was made by

(JKP) to (PPH).

24


[22] The other document which carries more weight is the Supplementary

Agreement…(PPH) is not privy to the terms and conditions therein. But this is not

the issue. The focus on this document is that it contains provisions to pay the

debts of (the developer) direct to (PPH). This is exactly what (PPH) claimed that

(JKP) represented to them. When there exist such similar undertakings, especially

made in a self declaratory statement in a formal document to a party who is very

much involved in the matter, then it strongly implies that the representation was

made.

25


[23] Then of course there is also, as the trial Judge found, the correspondence

from (PPH) to (JKP) where (PPH) complained that (JKP) had not acted on its

promise to pay...being a contemporaneous document. It strongly adds support to

the existence of the representation.

26

Lessons from JKP v PPH

1. There was strictly speaking no privity of contract between JKP v PPH. But the

Court allowed the claim for direct payment.

2. This claim was based on a “representation” by JKP to make direct payment to

PPH. That representation seems to be an oral representation.

3. That representation was evidenced by various contemporaneous documents.

Although these documents by themselves did not create the contractual

relationship, the Court found these documents to be evidence that there was

in fact the representation made.

27

The Federal Court’s position

Desa Samudra Sdn Bhd v Bandar Teknik Sdn Bhd & Ors [2012] 1 MLJ 729,

FC

Facts

DS (employer) appointed Autoways (main con) to construct an office building. BT

was the sub con. Autoways got into financial difficulty and petitioned under s176

Companies Act 1965. DS terminated Autoways and Autoways surrendered the

site. BT then, with consent of Autoways, re-entered the site and removed their

plants, tools, equipment and goods. DS sued for trespass. BT counter-sued for

monies owed, relying on an oral contract by DS to make direct payment.

28

DS v BT (continued)

[43]...the fact that there had been payment on two previous occasions after the

meeting goes to show that indeed there was an oral contract for direct payment to

be made by DS to the subcontractors. Indeed, there being a legally binding

relationship between DS and the subcontractors...DS must be estopped from

asserting that there was no such oral contract…

[44] ...even if the minutes were not considered in evidence, we are of the view that

there was sufficient oral evidence raised at trial to show that there was indeed an

oral agreement to the effect as alluded to above.

29

DS v BT (continued)

[45]...there was an oral contract between the parties to the present appeal

whereby the (subcontractors) were induced to perform and complete the works.

This is not only established by the said minutes but by other contemporaneous

evidence and also circumstantial evidence. We also note and endorse the

approach taken by the Court of Appeal in JKP v PPH…

[46]...we are of the view that there was an agreement between DS and the

(subcontractors) that DS would make direct payment to the subcontractors to

complete the works. DS’ breach of this agreement towards the tail end of the

project entitled the subcontractors to succeed in their counterclaim.

30

Lessons from DS v BT

1. The Court allowed oral evidence, past payments, and contemporaneous

documents to establish an agreement for direct payment, that allowed the

sub-contractors to sue the employer directly.

2. This was very important in this case because the main contractor was already

in financial difficulty.

31

2 questions arising

1. If sub-contractors can sue employers directly for payment, does that mean

also that sub-contractors can be liable directly to employers for defective

works and delays?

2. What happens to the main contractor’s obligation to make payments to the

sub-contractor?

At this point, we are venturing into legal speculation and we are no longer

standing on terra firma.

32

Direct obligations of sub-contractors to employers

JKP v PPH

In this case, JKP (a non-contracting party) sought to challenge the interim

certificates. Impliedly, JKP is claiming that PPH has direct obligations to JKP for

any defects due to the direct payment arrangement. The Court said:

[29]...We agree with the trial Judge that this should be refused. The reason is

simple. The defence did not plead that the quality of work and materials supplied

as mentioned in Interim Certificates were unsatisfactory….if the employer desires

to challenge this, then it is imperative for him to say so in his defence, otherwise

he is deemed to have conceded to the quality and materials stated therein.”

33

Direct obligations of sub-con to employers (cont’d)

Bond M&E (KL) Sdn Bhd v Isyoda (M) Sdn Bhd

[27] ...Even if a benefit is conferred on a non-party, that non-party cannot sue

unless made a party in a tripartite agreement where the initial obligation of (the

main con) to pay (the sub con) is now taken over by (the Employer) with the

corresponding right of (the Employer) to sue (the sub con) for any defective

works...

34

Direct obligations of sub-con to employers (cont’d)

In other words:

1. Bond requires an express tri-partite agreement to transfer the obligation from

the Main Con to the Sub Con.

2. But JKP v PPH seems to leave open the possibility that where there is a

direct payment agreement, there should also be direct obligations.

3. Therefore, if there is a direct payment agreement with corresponding direct

obligations, the Main Contractor could arguably set up a case for it to be

discharged of any liabilities for defects and delays arising from the particular

sub-con. Emphasis on “arguably”.

35

How would such a case be set up?

In the same way as DS v BT, and as JKP v PPH, through oral representations

evidenced by contemporaneous documents in the form of minutes of meetings,

letters, supplemental agreements, and circumstantial evidence.

Not easy…

But not impossible either.

36

What happens to the Main Con’s obligations to pay?

Section 42 Contracts Act 1950

“When a promisee accepts performance of the promise from a third person, he

cannot afterwards enforce it against the promisor.”

1. Clearly if Sub Con has received direct payment in the past, he cannot claim

the same payment again from the Main Con.

2. But question: Does that apply to “future” payments as well? (i.e. can the Main

Con say because you have this direct payment agreement, you cannot claim

future payments from me?)

37

Possibly, yes

Chinn Swee Onn v Puchong Realty Sdn Bhd [1990] 1 MLJ 108, SC (non-

building contract case)

“...by virtue of the appellant’s letter of 27 May 1985, the provisions of s 42 applied

and therefore the respondents having accepted the performance of the appellant’s

obligation to pay his debt to them by a third party, namely Hock Hin Leong Sdn

Bhd, the respondents were precluded from enforcing the judgement debt against

the appellant…”

Note: HHLSB has not fully paid the judgement debt at that point in time, yet the

Supreme Court said the judgement creditor cannot enforce

38

Possible, yes (again)

Pembinaan Purcon v Entertainment Village (M) Sdn Bhd [2004] 1 MLJ 545,

HC

The “sub-con” through direct negotiation with MDC (JV partner of main-con and a

non-contracting party) had accepted MDC’s offer to assume liability for the

outstanding amount and so the respondent was relieved of the obligation to

pay...And pursuant to that undertaking to pay, MDC had made several payments.

Since the petitioner had accepted MDC’s offer and undertaking to pay, it could not

attempt to enforce payment against the respondent by way of a winding up

proceedings…”

39

Going beyond payments and defects

Pembinaan Juta Mekar Sdn Bhd v SAP Holdings Bhd (previously known as

Shah Alam Properties Bhd) & Anor [2014] 11 MLJ 821

D2 awarded 2 contracts to “Perangsang” (main con) which then appointed PJM as

the subcon. Subcon claimed not only for progress claim, VO and retention sum,

but also loss and expense. Subcon says the defendants had taken over

Perangsang’s responsibility to pay for works done and by conduct represented

that they had a contractual relationship. There had been past direct payments

made.

40

PJM v SAP (continued)

[7] ...there had been an agreement by the defendants to pay directly to the

plaintiff. This together with letters, instructions and meetings attended showed the

existence of a contractual relationship with the defendants…

[8] The words ‘direct payment proposal’ in letter of 12.9.2002 and ‘future interim

progress payment…’ in letter of 23.9.2002 must necessarily mean there was an

arrangement by D1 for future payments to be made directly to the plaintiff…

[10] This direct payment cannot possibly mean the defendant was at liberty to

discontinue making any payments due...There was a contractual arrangement to

pay.

41

PJM v SAP (continued)

[14] The letters, instructions from the defendants and the other consultants and

attendance at meetings together with the direct payment arrangement show that

there was a contractual relationship between the plaintiff and the defendants.

[15] The case of JKP v PPH supports the proposition there can be a liability to pay

on a representation made…

But quite significantly, the Court did not only allow for claims of direct payments,

but also for loss and expense arising from prelim due to EOT, office overheads

due to prolongation costs, overdraft interest and adjustment of fluctuation on

labour and materials!

42

Some thoughts on PJM v SAP

1. Claiming for direct payments (because there were previous direct payments

and representations) does not seem overly far-fetched. After all, the Contracts

Act allows for oral agreements.

2. When there is an obligation to pay, then the fact that there can be a

corresponding obligation to ensure that the works paid for are free from

defects would also not seem far-fetched.

3. But PJM has stretched the principle to the point of allowing for even a L&E

claim. A L&E claim arises from acts of prevention of the main con. So, how

can an employer be liable for acts of prevention of main con leading to L&E,

when employer does not take an active role in the actual construction?43

Conclusion

General rule: privity of contract applies.

The general rule can be replaced by representation, oral agreements, conduct of

parties, minutes of meetings, letters etc.

That can lead to a direct contractual relationship between the employer and the

subcontractor. How that interplays with the main contractor’s obligations for

payment and defects is very much a factual issue.

But perhaps it would be a stretch too far for that direct contractual relationship to

extend to loss and expense claims? One High Court has allowed it, and so the

saga continues.

44

That’s all folks!

Thank You

Chan Kheng Hoe

[email protected]

45

mailto:[email protected]

An afternoon discussion on direct payments

Law

Transcript of An afternoon discussion on direct payments