Philippine Charter Insurance v. Petroleum Distributors
REITERATIONFacts
The Antecedents: Petroleum Distributors & Service Corporation (PDSC) entered into a building contract with N.C. Francia Construction Corporation (FCC) for the construction of a four-story commercial and parking complex. The contract stipulated a completion date and liquidated damages for delays. To ensure performance, FCC's officers signed an undertaking of surety, and FCC procured a performance bond from Philippine Charter Insurance Corporation (PCIC). Construction commenced, but FCC fell behind schedule, leading to PDSC reminding FCC of the penalty clause and later terminating the contract due to FCC's failure to complete the project within the agreed period. PDSC subsequently demanded payment from FCC and PCIC. Procedural History: PDSC filed a complaint for damages against FCC and its officers, later impleading PCIC as a defendant, claiming coverage under the performance bond. FCC, in its defense, argued that PDSC's actions, including outsourcing materials and subcontracting work, led to a reduced contract price and a revised work schedule, and that a subsequent Memorandum of Agreement (MOA) extinguished their liabilities. PCIC contended that its liability was conditional, subsidiary, and limited by the bond's terms, asserting that the MOA, executed without its consent, extinguished its obligation and that its liability under the bond expired before the contract termination. The Regional Trial Court (RTC) ruled in favor of PDSC, holding FCC and PCIC jointly and severally liable. Both FCC and PCIC appealed. The Court of Appeals (CA) affirmed FCC's delay but modified the damages, holding FCC and PCIC solidarily liable for a reduced amount of liquidated damages, with PCIC's liability capped by the bond amount. The CA denied their motions for reconsideration. The Petition: Philippine Charter Insurance Corporation (PCIC) filed a petition for review under Rule 45 of the Rules of Court, seeking to reverse the CA's decision. PCIC argued that the performance bond covered only actual and compensatory damages, not liquidated damages, and that the awarded liquidated damages were iniquitous. PCIC also contended that the MOA between PDSC and FCC, executed without PCIC's consent, novated the contract and discharged PCIC from liability. Furthermore, PCIC argued that certain amounts received by PDSC from receivables and auction sales should be deducted from the awarded damages. The Supreme Court, in its review, focused solely on PCIC's liability, noting that the CA's decision had become final and executory with respect to FCC and the other parties.
Issue(s)
Whether or not PCIC is liable for liquidated damages under the performance bond. Whether or not the Memorandum of Agreement dated September 10, 1999, executed without PCIC's knowledge or consent, discharged PCIC from liability under the performance bond. Whether or not certain amounts (₱ 2,793,000.00 and ₱ 662,836.50) should be deducted from the liquidated damages awarded by the Court of Appeals.
Ruling
The petition is denied. The Decision of the Court of Appeals is affirmed, with the modification that the receivable in the amount of ₱ 2,793,000.00 acquired by PDSC from Caltex and the proceeds from the auction sale in the sum of ₱ 662,836.50 should be deducted from the award of ₱ 3,882,725.13.
Ratio Decidendi
On whether PCIC is liable for liquidated damages under the performance bond: The Court held that the Building Contract clearly stipulated for liquidated damages in case of delay, as provided in Article 2.3. This stipulation is in the nature of a penalty clause fixed by the parties as compensation for damages in case of breach, and the contractor is bound to pay without need for proof of damages. Article 2226 of the Civil Code allows such stipulations to ensure performance. The performance bond issued by PCIC guaranteed the full and faithful compliance by FCC of its obligations under the building contract. The primary purpose of the bond was to guarantee PDSC that the project would proceed as per the contract and to ensure payment in case of contractor's failure. As a surety, PCIC is directly and equally bound with the principal debtor (FCC), and its liability arises upon FCC's default. The Court found no merit in PCIC's argument that the bond only answers for actual or compensatory damages, as the bond's language guarantees "full and faithful performance," which encompasses all obligations under the contract, including payment of liquidated damages for delay. On whether the September 10, 1999 MOA discharged PCIC from liability: The Court found PCIC's contention that the MOA constituted novation and extinguished its liability to be untenable. A surety agreement involves two relationships: the principal relationship between the obligee and obligor, and the accessory surety relationship between the principal and surety. The obligee's acceptance of the surety's undertaking does not alter the obligee's relationship with the principal obligor, nor does it give the surety the right to intervene in the principal contract. Novation requires an express declaration or an incompatibility between the old and new obligations, neither of which was present here. The MOA merely revised the work schedule due to PDSC's subcontracting, and explicitly stated that "all other terms and conditions of the Building Contract... not inconsistent herewith shall remain in full force and effect." There was no new contract that substituted the original building contract, and the revised schedule was not incompatible with the original terms. Furthermore, the MOA led to an extension of the performance bond's coverage until March 2, 2000. On whether certain amounts should be deducted from the liquidated damages: The Court agreed with PCIC that the receivable in the amount of ₱ 2,793,000.00 assigned by FCC to PDSC from Caltex, and the proceeds from the auction sale of FCC's equipment amounting to ₱ 662,836.50, should be deducted from the awarded liquidated damages. The Court noted that PDSC automatically stepped into the shoes of FCC regarding the assigned receivables, and the proceeds from the auction sale served as partial payment of PDSC's claim. It is in keeping with justice and equity that these amounts be deducted from the total claim for liquidated damages, as affirmed by the CA's ruling.
Main Doctrine
A performance bond guarantees the faithful performance of a building contract, and the surety is liable for liquidated damages in case of the contractor's delay, as stipulated in the contract. Modifications to the contract, such as a revised work schedule, do not constitute novation and do not automatically extinguish the surety's liability unless they are expressly declared as such or are incompatible with the original obligations. Amounts received from assigned receivables or auction sales of the contractor's assets should be deducted from the awarded damages.