Overton Holdings Limited v Owens Properties Limited
[2002] NZCA 260
•24 October 2002
| IN THE COURT OF APPEAL OF NEW ZEALAND | CA114/02 |
| BETWEEN | OVERTON HOLDINGS LIMITED |
| Appellant |
| AND | OWENS PROPERTIES LIMITED |
| Respondent |
| Hearing: | 17 October 2002 |
| Coram: | Blanchard J Robertson J Ronald Young J |
| Appearances: | A R Davie and N Levy for Appellant S J Moylan for Respondent |
| Judgment: | 24 October 2002 |
| JUDGMENT OF THE COURT DELIVERED BY BLANCHARD J |
Introduction
The appellant, Overton Holdings Ltd, appeals against a decision of Master Gendall delivered in the High Court at Wellington on 28 May 2002 refusing it summary judgment against the respondent, Owens Properties Ltd, in a claim brought under a guarantee given by Owens in respect of the obligations of Kenson Realty Ltd to Overton as lessee under a deed of lease of a large commercial property at Wainuiomata.
The facts
The lease was granted to Kenson by the original lessor on 25 March 1987 for a term of 12 years from 6 March 1987. Clause 1.1 of the deed of lease said that the parties to the lease were the lessor, the lessee and the guarantor. Much of the lease document consisted of covenants by the lessee and powers of the lessor but section 13 contained four covenants by the lessor. They were to pay rates, taxes and assessments, for quiet enjoyment, to maintain the exterior of the building and an insurance covenant in the following form:
13.4Lessor to Insure:
The Lessor shall insure all buildings and other improvements for their full replacement value on a full replacement basis in the joint names of the Lessor and the Lessee.
The arbitration and guarantee provisions are also important in the case:
14.5Arbitration:
(a)If any dispute or difference shall arise between the parties as to:
(i)The meaning or application of any part of this document; or
(ii) Any other matter touching or concerning this document
THEN the dispute or difference (“the Issue”) shall be referred to the award of a single arbitrator to be agreed upon between the Lessor and the Lessee.
(b)If the Lessor and the Lessee are unable to agree upon a single arbitrator within ten (10) days of either the Lessor or the Lessee notifying the other in writing of their wish to have the Issue arbitrated then either party (“the Notifying Party”) may at any time thereafter by notice in writing to the other party (“the Receiving Party”) require the Issue to be determined by two arbitrators (one to be appointed by the Lessor and one to be appointed by the Lessee) and their umpire (to be appointed by the arbitrators before proceeding to determine the Issue). The notice to be given by the Notifying Party pursuant to this subclause shall:
(i)Nominate the arbitrator appointed by the Notifying Party: and
(ii)Require the Receiving Party to nominate its arbitrator by a date not less than ten (10) days after the date of receipt of the notice by the Receiving Party: and
(iii)Warn the Receiving Party of the consequences under subclause (c) below of failure to appoint an arbitrator by the date specified by the Notifying Party.
(c)If the Receiving Party shall fail to appoint its arbitrator by the date specified then the Notifying Party may by notice in writing to the Receiving Party have the Issue determined solely by the Notifying Party’s arbitrator.
(d)If any arbitrator appointed pursuant to subclause (a) or (b) preceding refuses or fails to act in pursuance of the arbitration (including appointing an umpire if necessary) within a reasonable time of his appointment then either the Lessor or the Lessee may (after having first given in writing the defaulting arbitrator a reasonable time in which to act) request the President of the New Zealand Law Society to appoint a replacement arbitrator or an umpire (if the arbitrators are unable to agree on an umpire) who shall apply in lieu of the defaulting arbitrator or as the umpire as the case may be.
(e)Time shall be of the essence under this Clause.
(f)The parties agree to be bound by any decision or award completed pursuant to this Clause.
15.1Guarantee and Indemnity by the Guarantors:
Each of the Guarantors covenants with the Lessor that each of them will duly and punctually pay all rent interest and other moneys now or hereafter payable pursuant to the within Lease or any renewal or variation thereof as and when the same shall become payable and will fulfil observe perform and keep all and singular the covenants in the within Lease and any renewal or variation of the Lease whether contained or implied and it is hereby agreed and declared that although as between the Lessee and each of the Guarantors the latter may only be sureties yet as between each of the Guarantors and the Lessor each of the Guarantors shall be deemed a principal debtor and the winding up of the Lessee and/or any of the Guarantors or the giving of time or any indulgence by the Lessor to the Lessee or any other person or persons and/or any of the Guarantors or the exercise or non-exercise of waiver by the Lessor of any of its powers expressed or implied hereunder or the variation of this Lease (including pursuant to any rental review) shall not exonerate or release any of the Guarantors from their liabilities hereunder nor shall any of the Guarantors be released by any other act omission matter or thing whatsoever whereby a surety only would be released and it is expressly agreed by each of the Guarantors that their guarantee as stated herein will remain notwithstanding any subsequent rent reviews and renewals of this Lease pursuant to Clauses 2.5 and 2.8 respectively and notwithstanding any subsequent assignments transfer demise subletting or parting of possession of the premises by the Lessee in terms of Clause 8.1 or any succession of any Lessee hereafter during the term of this Lease and any renewal.
(Although cl 15.1 speaks of guarantors in the plural there was in fact only one guarantor, namely Owens.)
The document was executed by each of the three parties.
In January 1997 Overton purchased the original lessor’s interest subject to the lease to Kenson. In March of that year Overton and Kenson entered into a deed under which, inter alia, two changes were made to the insurance provision. From henceforth the insurance was to be arranged by the lessee instead of by the lessor; and the insurance was to be for indemnity value rather than for replacement value. The consent of Owens to these rearrangements was not obtained. Indeed, it was not even told about them.
In October 1998 Kenson vacated the premises. On 6 December 1998 a fire caused substantial damage to part of the building. It transpired that, despite a previous written assurance from Kenson to Overton, the building was not insured. Between that time and the expiry of the lease on 5 March 1999 significant further damage was caused by vandals.
Overton sought to recover from Kenson the cost of reinstating the premises and consequential losses. Matters in issue between Overton and Kenson were referred to arbitration under cl 14.5. Two arbitrators and an umpire were appointed. The hearing was to begin on 2 May 2001. But on 30 April 2001 Kenson was placed in liquidation by special resolution of its shareholders. One of the liquidators, Ms Mason, approached the arbitrators the same day seeking an adjournment of the hearing. She wrote on 1 May pointing out that the arbitration agreement could not bind the liquidators without their consent, which was not given “as the liquidators have had no opportunity to evaluate the merits of the claim”. That afternoon Overton sought ex parte in the High Court an order under s248 of the Companies Act 1993 permitting the continuance of the arbitration. Copies of the papers were sent to the liquidators. The High Court heard and granted Overton’s application on the morning of 2 May. There was no appearance on behalf of the lessee. It appears that no mention was made to the Judge of the existence of the guarantee.
A two day hearing was conducted on 2 and 3 May and the arbitrators delivered a reserved decision on 27 July 2001. They concluded that Overton was entitled to recover $297,179 plus GST from Kenson to put the premises back into proper order as required by the terms of the lease. They also determined that Kenson was liable for a substantial sum for consequential damages and for interest up to the date of the award. An order was made for payment of a large amount for costs.
It appears that the first Owens knew of any of these developments was when Overton sought from it payment of $528,954.72 being the amount awarded by the arbitrators against Kenson. When Owens declined to pay, Overton commenced the present proceeding and sought summary judgment.
The Master’s judgment
In his judgment Master Gendall said that the impact upon the defendant, as guarantor, of the change to the insurance arrangements to which it had not consented, could well be “quite major”. He envisaged a situation where a lessee had neglected to arrange insurance cover on a building and it was subsequently destroyed by fire. The lessee would be in breach of the new insurance provision and rent would continue notwithstanding the absence of insurance moneys to effect replacement. Under these circumstances the guarantor could well be looked to under its guarantee not only for ongoing rent, but also for other moneys including damages and building replacement costs payable by the lessee for its breach of the lease provisions. Major problems might also arise for a guarantor even if the lessee carried out its obligation under a clause like that negotiated between the lessor and the lessee in this case, and had insured the building for indemnity value. If there was a catastrophic fire and replacement proved impossible because of the inadequacy of insurance moneys, then rental and other obligations would continue and a guarantor would remain liable. Whereas in the lease as originally prepared the lessor had a liability to insure buildings to their full replacement value and the guarantor could rely upon this obligation, the change in the insurance clause without reference to the guarantor brought about a significant potential alteration to the guarantor’s liability. On this ground, the Master held that Overton had not satisfied the Court, in terms of r136 of the High Court Rules, that Owens had no defence.
For the sake of completeness, he turned to consider a second ground of defence advanced by Owens, which was that Owens was not bound by the arbitration award; that it was not a party to the arbitration agreement and had no notice of it; that it had not been notified of the arbitration or given an opportunity to be heard and that the arbitration had been conducted without representation, evidence or submissions on behalf of the lessee or the guarantor. The Master said that, although he did not need to make a decision concerning this defence, he tended to the view that, given the clear statement in the lease that the guarantor agreed to be bound by any arbitration award, it was bound by the award which had occurred. To hold otherwise would, in effect, create new obligations for the lessor not contracted for and, in the Master’s view, would unnecessarily prolong and complicate the arbitration proceedings. But the application for summary judgment was unsuccessful on the first ground.
Issues on appeal
The issues before us are whether Owens has an arguable defence that the variation of the insurance covenant had the effect of releasing its guarantee and, alternatively, whether, even if the guarantee has remained in existence, there is an arguable defence that the arbitration award is not enforceable against Owens.
The effect of the variation
Mr Davie, for Overton, contended that despite the adverse potential effects of the change to the insurance arrangements, as outlined by the Master, the guarantee had not thereby been released. He naturally sought support for that submission in the line of New Zealand cases upholding the efficacy of principal debtor clauses, of which cl 15.1 is an example (Bank of New Zealand v Baker [1926] NZLR 462; Orme v De Boyette [1981] 1 NZLR 576 and Pogoni v R & W H Symington& Co (NZ) Ltd [1991] 1 NZLR 82). He submitted that cl 15.1 contemplated a variation of a lease covenant and expressly provided that it should not release the guarantor.
Mr Moylan, for Owens, accepted that what had occurred when the insurance obligation was shifted to the lessee and the nature of the insurance altered was a variation, and did not amount to a rescission of the lease contract and entry into a new contract. But he said that a principal debtor clause is very onerous for a guarantor and must be strictly construed. He sought to distinguish the Baker line of cases on the ground that in each of them the changes made to the guaranteed obligations merely altered the degree of the guarantor’s risk, not its fundamental character or kind, as he argued had occurred in the present case. He submitted that a change of the latter kind was outside the contemplation of a parties when the lease was entered into and therefore outside the ambit of the word “variation” in cl 15.1.
It is settled law that a variation of the contract between an obligor and an obligee has the effect of discharging a guarantee of the obligor’s performance unless it is patently obvious that the guarantor has not been prejudiced. Jordan CJ said in Hancock v Williams (1942) 42 SR(NSW) 252, 255:
A guarantor is responsible only for the obligation which he has guaranteed. Hence, if the obligee and obligor, without his consent, agree between themselves to alter the nature of the obligation, the guarantor is discharged because the obligation in its altered form is not that which he guaranteed.
In cases where it is evident “without inquiry” that the alteration is unsubstantial or cannot be other than beneficial to the guarantor there may not be a discharge of the guarantor; beyond this, the guarantor is to be the sole judge of whether it is reasonable that he or she should consent to remain liable notwithstanding the variation (Holme v Brunskill (1878) 3 QBD 495, 505-6).
The consequences of this rule for the obligee has led to the use of clauses in guarantees intended to overcome its effect and to preserve the guarantor’s liability notwithstanding that a variation may occur without the guarantor’s consent. The “principal debtor” clause is an established means of achieving this purpose (see O’Donovan & Phillips, The Modern Contract of Guarantee 3ed (1996) pp349-353). But, as was pointed out in Pogoni (p85), the question in cases on such clauses is purely one of construction to determine whether the guarantor’s right to treat the guarantee as discharged has been effectively excluded.
Our reading of cl 15.1 leads us to conclude that the clause did not preserve the guarantee when the lessor and the lessee chose, without Owens’ consent, to cancel the lessor’s insurance covenant, of which indirectly the guarantor had the benefit and protection, and to substitute a lessee’s covenant. It is helpful in explaining our view to set out the relevant words of the clause, modifying them as they apply to a single guarantor:
[The guarantor] covenants with the Lessor that [it] will…perform…the covenants in the within Lease and any renewal or variation of the Lease whether contained or implied… .
Pausing there, we observe that the covenants referred to are obviously only those of the lessee. Owens was not agreeing to perform covenants of Overton, such as its insurance covenant. So the “variation” contemplated was a variation of a lessee’s covenant. The clause then continued:
…and it is hereby agreed and declared that although as between the Lessee and [the guarantor] the latter may only be [a surety] yet as between [the guarantor] and the Lessor [the guarantor] shall be deemed a principal debtor and…the variation of this Lease (including pursuant to any rental review) shall not exonerate or release [the guarantor] from [its] liabilities hereunder…
In our opinion, when the clause for the second time used the word “variation” it was referring to the same kind of variation, namely of a lessee’s covenant, as on the first occasion.
We agree with Mr Moylan that a clause of this kind is onerous for a guarantor and ought to be read strictly. If the lessor wanted to preserve the guarantee in the event of a variation of one of its covenants, of which the guarantor had the benefit, that needed to be expressly stated. We do not consider that the inclusion subsequently in the clause of the familiar formula “nor shall [the guarantor] be released by any other act, omission, matter or thing whatsoever whereby a surety only would be released” could have sufficed – even if it had not included the word “other” which plainly indicated that it was not speaking of a variation.
For these reasons the appeal must fail.
Enforceability of award against guarantor
We should however say something briefly about the other question arising from the High Court judgment which was argued before us: whether, if the guarantee had survived the variation of the insurance covenant, the award made in the arbitration would have been enforceable against the guarantor.
Mr Moylan submitted that the Master was in error in his provisional view that the award was enforceable against Owens, for three reasons. The first was that in the absence of a special agreement an award against an obligor is not binding on the guarantor and is not evidence in an action against the guarantor by the obligee; that the guarantor is entitled to have the liability proved against it in the same way as against the obligor (Ex parte Young; In Re Kitchen (1881) 17 Ch D 668). James LJ said in that case (at p672):
If a surety chooses to make himself liable to pay what any person may say is the loss which the creditor has sustained, of course he can do so, and if he has entered into such a contract he must abide by it. But it would be a strong thing to say that he has done so, unless you find that he has said so in so many words. The arbitration is a proceeding to which he is no party; it is a proceeding between the creditor and the person who is alleged to have broken his contract, and if the surety is bound by it, any letter which the principal debtor had written, any expression he had used, or any step he had taken in the arbitration would be binding upon the surety. The principal debtor might entirely neglect to defend the surety properly in the arbitration; he might make admissions of various things which would be binding as against him, but which would not, in the absence of agreement, be binding as against the surety. It would be monstrous that a man who is not bound by any admission of the principal debtor, should be bound by an agreement between the creditor and the principal debtor as to the mode in which the liability should be ascertained.
But, as Ms Levy pointed out for Overton, cl 14.5(f) of the lease stated that the parties agreed to be bound by any decision or award completed pursuant to the arbitration clause and, as we noted in para [2] above, the parties to the lease included the guarantor (cl 1.1). Where in the arbitration clause a reference to a party or parties excluded the guarantor, it was submitted, that was made clear by reference to the “Notifying Party” or the “Receiving Party”. Although the clause is not entirely consistent (see the opening words of para (a)), we think Ms Levy is most probably correct, for if “parties” in para (f) refers only to the lessor and the lessee it would merely state a proposition which is true of every arbitration, namely that the parties to it are bound by the award.
Mr Moylan’s second proposition was that enforcement of the award can and ought to be refused under Article 36(1)(a)(ii) of the First Schedule to the Arbitration Act 1996 because the “party against whom the award is invoked” was not given proper notice of the appointment of the arbitrators or of the arbitral proceedings or was otherwise unable to present that party’s case. It is doubtful, however, that the guarantor comes within the description of a “party against whom the award is invoked”. “Party” is defined in s2 of the Arbitration Act as follows:
“Party” means a party to an arbitration agreement, or, in any case where an arbitration does not involve all of the parties to the arbitration agreement, means a party to the arbitration.
The better view appears to us to be that the arbitration did not “involve” the guarantor even though it had agreed to be bound by the award. It was a party to the arbitration agreement in cl 14.5 but was not a party to the award. Nonetheless, it is arguable that the award ought not to be enforced in circumstances where the lessee was, through its very recently appointed liquidators, “unable to present [its] case” because of the refusal to them of an adjournment.
That leads directly to the last of the arguments for Owens on this part of the case. Enforcement of an award may also be refused if the Court finds that would be contrary to the public policy of New Zealand (Article 36(1)(b)(ii)). Article 36(3) declares that an award is contrary to the public policy of New Zealand if, inter alia, a breach of the rules of natural justice occurred during the arbitral proceedings or in connection with the making of the award. We consider that it is distinctly arguable that there was a breach of natural justice in the denial of an adjournment to the liquidators who had only just been appointed, particularly when there was an absence of any notification to a person bound by the award (the guarantor) which might have given it an opportunity to intervene. (See, by way of analogy, Rule 97 of the High Court Rules and Gartner v Circuit [1968] 2 QB 587.) Accordingly there would be an arguable defence that enforcement of the award should be refused under Article 36(1)(b)(ii).
Result
The appeal is dismissed with costs to the respondent in the sum of $5,000 together with its reasonable disbursements, including the travel and accommodation costs of counsel, to be fixed if necessary by the Registrar.
Solicitors:
Andrew R Davie, Wellington for Appellant
Minter Ellison Rudd Watts, Auckland for Respondent
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