UKSC 19
On appeal from:  CSIH 56
Inveresk plc (Respondent) v Tullis Russell Papermakers Limited (Appellant) (Scotland)
Lord Hope, Deputy President
JUDGMENT GIVEN ON
5 May 2010
Heard on 1 and 2 March 2010
Richard Keen QC, Dean of Faculty
(Instructed by Dundas & Wilson CS LLP )
Heriot Currie QC
Jonathan Lake QC
(Instructed by McGrigors LLP )
The Additional Consideration
(b) Part 3 of the Schedule
"4 Finalisation of draft Consideration Accounts
4.1 The Purchaser shall prepare and serve on the Vendor within 5 Business Days of 1 November 2006 a draft of the Consideration Accounts (draft Consideration Accounts).
4.2 The Vendor may, within the period of 10 Business Days after service of draft Consideration Accounts on the Vendor in accordance with paragraph 4.1 (Review Period):
(a) notify the Purchaser in writing of any adjustments they consider need to be made to the draft Consideration Accounts (together with the reasons for such adjustments); or
(b) elect that the Purchaser's Accountants carry out a Tonnage Audit in accordance with paragraph 5 of this Schedule.
(a) the Vendor notifies the Purchaser during the Review Period that no adjustment needs to be made to the draft Consideration Accounts; or
(b) the Vendor notified (sic) the Purchaser during the Review Period that it does not wish to elect that a Tonnage audit be undertaken;
(c) the Vendor does not notify the Purchaser during the Review Period of any proposed adjustment to the draft Consideration Accounts,
the draft Consideration Accounts, Tonnage and Additional Consideration specified in it shall be the Consideration Accounts, Tonnage and Additional Consideration for all the purposes of this Agreement.
4.4 If the Vendor notifies the Purchaser during the Review period that certain adjustments need to be made and:
(a) the Purchaser and the Vendor agree, in writing, on the adjustments to be made to the draft Consideration Accounts and/or Tonnage, and/or Additional Consideration they shall jointly incorporate such adjustments into the draft Consideration Accounts and the draft Consideration Accounts as so adjusted and the Tonnage and Additional Consideration Accounts specified in it shall be the Consideration Accounts and the Tonnage for all purposes of this Agreement; or
(b) if the Vendor and the Purchaser are unable to so agree within 5 Business Days then paragraph 5 of this part 3 of the Schedule shall apply.
4.5 The Payment Date shall be:
(a) in the case of paragraph 4.3(a) above, the date the Vendor notifies the purchaser that no adjustments need to be made; or
(b) in the case of paragraph 4.3(b) above, the date the Vendor notifies the Purchaser that it does not require that a Tonnage Audit be undertaken; or
(c) in the case in the case (sic) of paragraph 4.3(c), the last day of the Review Period;
(d) and, in the case of paragraph 4.4(a) above, the date of the written agreement, of the adjusted Consideration Accounts and/or Tonnage and or Additional Consideration.
5 Tonnage Audit
5.1 Within 14 Business Days from the date that the Vendor notifies the Purchaser that it requires a Tonnage Audit, the Purchaser shall procure;
(a) that the Purchaser's Accountants carry out the Tonnage Audit to confirm and verify the Tonnage;
(b) deliver to the Vendor the Tonnage Audit Statement.
5.2 In undertaking the Tonnage Audit, the Purchaser's Accountants shall act as experts and not as arbitrators, and their decision as to any matter referred to them for determination shall, in the absence of manifest error or fraud, be final and biding in all respects on the parties and shall not be subject to question on any ground whatsoever.
5.3 The fees and expenses of the Purchaser's Accountants, and any other professional fees incurred by them shall be borne and paid as they direct or, failing such direction, shall be shared equally between the Vendor and the Purchaser.
5.4 Within 5 Business Days of receipt by the Vendor of the Tonnage Audit Statement, the Vendor and the Purchaser shall jointly incorporate in the draft Consideration Accounts the Tonnage as determined by the Tonnage Audit Statement and shall date the Consideration Accounts and calculation of Tonnage with the date on which such adjustments are made (which date shall be the Payment Date). The draft Consideration Accounts as amended, and the Tonnage stated in it, shall be the Consideration Accounts and the Tonnage for all the purposes of this Agreement."
The nature of the plea
"Retention may be defined as a right to resist a demand for payment or performance till some counter obligation be paid or performed… The law on the subject is complicated by the fact that the word retention is used to denote various rights, widely different in their origin and extent. Thus the right of a party to withhold performance of his obligation under a mutual contract, if the counter obligation is not performed, is often spoken of as a right of retention, and may result in a right to retain money or goods."
This use of the word is contrasted with the right of a creditor in bankruptcy to set off the debt owed to him against a debt which he himself owes to the bankrupt, which is said to be in origin a right of retention. As the authors explain at p 304, the law of retention of debts is an equitable extension of the statutory right of compensation under the Compensation Act 1592, c 143. They then provide this summary of the law of retention at p 305:
"The cases where retention of debts is permissible form the exceptions to the general rule that an illiquid cannot be set off against a liquid claim. These cases may be grouped under four heads: (1) Where the illiquid claim admits of instant verification. (2) Where both the liquid and the illiquid claim arise out of a mutual contract. (3) Where one or other of the parties is bankrupt or vergens ad inopiam. (4) Where, in exceptional circumstances, retention has been allowed to meet the justice or convenience of the particular case."
As their seventh plea-in-law makes clear, Tullis Russell's claim for retention falls under the second of these four heads, it being assumed that Inveresk's claim will become liquid when the amount due as Additional Consideration has been ascertained. They do not seek an exercise of the court's equitable jurisdiction under the fourth head. That is the second kind of retention to which Lord Rodger helpfully draws attention in his judgment. I agree with him (see para 106) that Tullis Russell's seventh plea-in-law would not be appropriate if their case was that they should be allowed, in the exercise of the equitable power, to retain any sum due to Inveresk pending the resolution of their claim of damages.
"Compensation is pleadable only between liquid debts, with an exception, largely in the discretion of the court, in cases where an illiquid debt may be rendered liquid without delay….The right of retention when debts arise out of the same contract, or where bankruptcy has supervened, is considered further in a later chapter."
A footnote to the last sentence in this passage refers to paras 10.14-10.17. In para 10.14 it is stated that the right, when it takes the form of refusal to pay a debt, is always known as a right of retention. In para 10.16 the rule that applies where debts arise from the same contract is set out:
"When two claims, one liquid, the other in the nature of a claim for damages, arise from the same contract the creditor in the claim for damages may withhold payment of his debt until the amount due to him as damages is established."
The chapters in which the sentences which I have quoted appear have been re-organised by the editors of the latest edition, but the sentences themselves can be traced at least as far back as the 6th edition of Gloag and Henderson's Introduction to the Law of Scotland (1964). In my opinion they correctly state the law on this subject, which has been settled since at least 1693: see also Gloag on Contract, pp 626-628; Stair Memorial Encyclopaedia, vol 13, Judicial and Other Remedies, para 94; British Motor Body Co Ltd v Thomas Shaw (Dundee) Ltd 1914 SC 922, 926, per Lord President Strathclyde. It follows, of course, that Tullis Russell's case for retention stands or falls on the issue of mutuality. As McBryde explains, it must be appreciated that the mutuality principle applies only where the obligations are counterparts of each other: The Law of Contract in Scotland, para 20-70. So I do not think that either the Lord Ordinary or the Extra Division can be said to have fallen into error by dealing with the case on this basis, although I agree with Lord Rodger that the way the Extra Division dealt with the matter might be taken as suggesting, incorrectly, that retention was governed entirely by fixed rules and that there was no room for the equitable remedy.
"No party in a mutual contract, where the obligations on the parties are the causes of one another, can demand performance from the other, if he himself either cannot or will not perform the counter-part, for the mutual obligations are regarded as conditional."
It was held that, as the evidence showed that the object of the two contracts was to give effect to an agreement for the sale of the two ships together, the purchasers were entitled to refuse to accept delivery of one ship without the other. Viscount Finlay said at p 135 that it is always open to inquiry whether the existence of two separate documents represented the real bargain between the parties. That was a case of a refusal to perform a contractual obligation on the ground that it was impliedly conditional on performance of his obligation by the other party. In this case retention is relied on to delay performance until a claim of damages is satisfied. The distinction between these two forms of retention is noted by Gloag on Contract, p 623. But Viscount Finlay's observation supports the view that it would be wrong in either case to insist that retention can only be relied on where the obligations are both to be found in the same contractual document. That would be to give preference to form over substance, and the nature of the plea indicates that it cannot be the right approach. I think that the position is accurately stated by McBryde, The Law of Contract in Scotland, para 20-67 as follows:
"The principle of mutuality of obligations applies to all contracts, and so in any type of contract a claim for the sums due under the contract may be met by the defence that the defender has claims arising from the pursuer's failure to perform that contract." [emphasis added]
"Where a plaintiff sues to enforce performance of an obligation which is conditional upon performance by himself of a reciprocal obligation owed to the defendant, then the performance by him of this latter obligation (or, in cases where they are not consecutive, the tender of such performance) is a necessary pre-requisite of his right to sue and should be pleaded by him. Conversely in such a case the defendant may raise as a defence, known as the exceptio non adimpleti contractus, the fact that the plaintiff has failed to perform, or in the appropriate case, tender performance of, his own reciprocal obligation."
The basis for retention
The Parties' Submissions
The Approach of the Inner House
"The approach of the reclaimers, before us, appeared to be that a proper reading of the two agreements together led to the implication that the parties intended that performance of the obligation to pay the additional consideration was dependent on the fulfilment of the obligations under the services agreement and Clause 15.4 of the acquisition agreement and that was so because of the obvious interconnection of the matters covered by the two agreements. In our system, at least, where the matter is not covered by express agreement, what the court is searching for is identification of obligations which might fall to be seen to be mutual. There is, we think, a danger of focusing on the expression 'mutuality of contract' rather than on 'mutuality of obligation' in this context. Within a single mutual contract, there may be obligations which are mutually dependent upon each other and can truly be described as reciprocal. There may also be within that single contract an obligation, or obligations, in respect of which there is no direct reciprocal counterpart. That is what Lord President Rodger in Macari v Celtic Football and Athletic Co Ltd 1999 SC 628, 640G-H took from the speech of Lord Jauncey in Bank of East Asia Ltd v Scottish Enterprise 1997 SLT 1213 and what Lord Caplan had to say about the matter at page 650. In a single contract situation, the obligation of an employee to carry out his employer's instruction was not regarded as the counterpart of his employer's implied obligation not to seek to damage the relationship of trust and confidence between the parties. Accordingly, the operation of retention even within a single mutual contract, where not expressly provided for, operates subject to these requirements and qualifications."
Applying that approach, the Division went on to say, at p 696,
"Applying the law, as set out authoritatively in Bank of East Asia and Macari, it does not appear to us that, on any view, the reciprocal obligation for payment of the additional consideration under the acquisition agreement was the performance of obligations under the services agreement. The reciprocal obligation in relation to the payment of the additional consideration arose solely from the acquisition agreement and constituted the obligation to transfer the assets in question in accordance with that agreement. The reciprocal obligation for the performance of the obligations in the services agreement was to be found in the terms of the services agreement itself. While it can, no doubt, be said that there was a connection between the obligations contained in both agreements, in that they both came into existence in the context of the whole transaction between the parties, that could have been said of the respective obligations in Macari and in the respective obligations in the South African case, [ESE Financial Services (Pty) v Cramer 1973 (2) SA 805 (C),] but, as in those cases, their enforcement was not, in our opinion, made dependent one upon the other."
Retention - withholding performance
"Rent is not liquid in the sense that a sum due by bond is. It is matter of contract in consideration of something to be done. It is paid for possession of the subject let. If the tenant says he has not got entire possession, that is a good answer to the claim for rent."
In such a case there is no question of the tenant withholding or retaining rent that is due to the landlord: on the contrary, the tenant withholds the rent on the ground that he has no obligation to pay it because the landlord has not performed the obligation for which the rent is the consideration. See also, for example, Lovie v Baird's Trs (1895) 23 R 1.
"Every action on a mutual contract implies that the pursuer either has performed, or is willing to perform, his part of the contract; and it is, therefore, always open to the defender to say that under the contract a right arises also to him to demand performance of the contract before the pursuer can insist in his action."
Withholding Performance and Claiming Damages
Retention of liquid debt for purposes of compensation
"Oure Souerane Lord and estaitis of parliament statutis and Ordanis that ony debt de liquido ad liquidum instantlie verifiet be wreit or aith of the partie befoir the geving of decreit be admittit be all Jugis within this realme be way of exceptioun Bot nocht eftir the geving thairof In the suspensioun or in reductioun of the same decreit."
The Act provides that judges are to admit any liquid debt that can be instantly verified by writ or oath before judgment is pronounced. Suppose, for example, A sues B for £20,000 as the price of a car which B bought from A and which A has delivered to B. Suppose, further, that A owes B a liquid sum of £10,000 under, say, a bond. In A's action for the price of the car, B can plead compensation. In other words, B pleads that A's liability to pay him £10,000 under the bond should be set off against B's liability to pay A £20,000 as the price of the car. In that situation, the effect of the plea of compensation is that B's debt to A is reduced by £10,000. The court therefore orders B to pay, not the full price, £20,000, but only £10,000. Provided that the two debts are liquid, the basis of the debts does not matter. So, for instance, B's obligation to pay £20,000 as the price of a car which he bought from A can be compensated by a judgment debt of, say, £20,000, arising out of an action of damages in which B sued A successfully for injuries which A negligently caused him in a ski-ing accident.
The equitable nature of retention for purposes of compensation
"Though the foresaid act 1592 requires that all grounds of compensation be instantly verified, yet by our uniform practice for near a century, which seems grounded on the Roman law, C.4.31.14, if a debtor in a liquid sum shall plead compensation upon a debt due by his creditor to him which requires only a short discussion to constitute it, sentence is delayed ex aequitate against the debtor in the clear debt, that he may have an opportunity of making good his ground of compensation, according to the rule, Quod statim liquidari potest, pro jam liquido habetur" (punctuation and citation modernised).
"Our ancient Scots Act (1592) sanctions the pursuer's plea, as it only admitted mutual claims which are liquid, to be compensated. We have no such case here. The ploughman's wages are liquid, while his master's claims are illiquid, and of a very unfavourable, if not an incredible aspect. No doubt, in practice, we sometimes allow counter claims not yet constituted, to be held pro jam liquido, when they admit almost of immediate ascertainment. But it is always a question of circumstances, and of sound judicial discretion and equity, in what cases that should be allowed. I cannot hang up a labourer's wages, by such claims as those now in question."
So the defender had to pay the wages that were due and, if so advised, seek to establish his claims against the pursuer in a separate action.
Early cases on retention for the purposes of compensation
Later cases on retention for the purposes of compensation
"I think, that not only by the law of England and of Scotland, but by the law of other civilized countries, that cannot be done; the inconvenience of it would be excessive. If a person has an actual liquidated money demand, which he seeks to enforce, the amount undisputed, it would be unjust, or might be unjust to him, to involve him in a question whether the person who is bound to pay him that liquidated sum may or may not have a right of action against him upon some collateral matter in respect of some damage on account of which he may have a right of action, for a fraudulent representation, or for an assault, or for a trespass, or any other of those various wrongs which may be inflicted upon the man, and for which he may be entitled to compensation. It is clear, in my opinion, that that cannot be the case either by the law of England, or the law of Scotland, or, as I believe, by the law of any other country."
"The rule which prevents illiquid claims being set off against liquid claims is founded in justice. It is intended to prevent parties from being kept out of their money by claims which may turn out to be altogether groundless, and which may be put forward for the mere purpose of delay."
"Perhaps if the case had been set down for trial next week, and no risk as to the condition of parties, it would be a different matter. But when the defence is in reference to an action of damages involving an inquiry into disputed facts in New Orleans and Hobson's Bay, it becomes a more serious question for the intervention of the Court."
Similarly, Lord Robertson said, also at p 1064, "Had this action been with issues adjusted, and set down for the next sittings, one might have been induced to interfere ex equitate: but it will never do to suspend this liquid obligation till proofs are taken at New Orleans and Hobson's Bay." In short, the circumstances favoured following the general rule.
"is not without exception. If a claim is in the course of being made liquid, it may be pleaded by way of compensation. The word statim in the rule, as expressed in Erskine, implies some discretion on the part of the Court. A great deal of inquiry may be necessary in order to ascertain and make a claim liquid. But if it is in the fair course of being made liquid by decree at an early date, and there is no allegation of unnecessary delay, I think that the Court is entitled to exercise a discretion."
The fact that the court resolved the problem simply by postponing consideration of the defenders' reclaiming motion is a further illustration of the flexible approach that the court can adopt when dealing with such matters.
"In disposing of the pleas in this case I think that the Lord Ordinary has rightly dealt with the plea of compensation, because that is a matter of statutory regulation, and the plea is confined to cases where both debts are liquid or capable of immediate ascertainment; but then there is another principle under which one obligation may be suspended until the performance of a counter obligation – the principle of retention, and that, not being subject to the conditions of any statute, must be regarded as an equitable right to be applied by the Court according to the circumstances of each case as it shall arise. The doctrine has received much extension in cases of bankruptcy and insolvency… But the principle is not limited to bankruptcy cases, and it seems to me that the circumstances of the present case constitute a very clear ground for its application, because Lady Ross while in the management of her son's estates appears to have wholly neglected the duty of keeping strict accounts, which is incumbent upon every administrator of the property of others, and when she is called upon to account she states that the whole of the money has been expended, and that of a very large sum, amounting to nearly £4,000 a-year, she is unable to give any particulars. Now, that is a position which no guardian or administrator is entitled to assume, and upon the statement of these accounts, and also the claim of legitim, I cannot doubt that, if it appears to the Court that there is a probability that Lady Ross has already in her hands as much of her son's money as would satisfy this jointure, she would not be entitled to immediate decree. The judgment which I understand your Lordship will pronounce will be one merely suspending the procedure in this case, and if it turns out, contrary to all the probabilities, that the whole of the son's income has been legitimately and properly expended by his mother, and also that there is no legitim due to him, then of course Lady Ross will be entitled to decree for her jointure."
Conclusions on retention for purposes of compensation
The Present Case