Commercial Transactions- Negotiable Instruments
INTRODUTION
1. THE DEVELOPMENT OF COMMERCIAL LAW
Commercial Law as it developed in Europe in the middle ages evolved from the customs and procedures,
institutions and rules established by the merchants. Most European legal systems were very slow in adapting
to the demands of commerce at the time. Hence, a separate legal system conceptually different from the
rest of the law grew into what became known as “commercial law”
In England, for example, a separate system of commercial courts was created to enforce commercial customs
as law in commercial transactions. Along with this were developed principles of equity in the Chancellor’s
courts to supplement and correct common law.
For commercial purposes a person may own something which is not actually in his possession. In common
law this was merely a right to obtain possession of the thing – a “chose in action”, that is, a thing which
could be obtained by legal action as distinct from a chose in possession.
Chose in action
The word “chose” used in this context comes direct from the French word which simply means “thing”, an
object. Property, as a thing, can be classified depending upon whether it is in material form or is in the form
of a right or an interest in something of value, a right which may be enforced through orders of the courts.
Property that is tangible or capable of physical possession may be referred to as chose in possession. Any
other property which is merely in the form of a right claimable or enforceable through court action but which
does not exist in a material form is called a chose in action.
In both cases, such possession or right will be evidenced also in writing. The written document is itself often
called the chose in action.
Common law did not recognize the commercial practice of a merchant reselling something he has bought
but has not taken delivery of yet. The only way common law would recognize this was by the transfer or
assignment of the right to obtain delivery, a chose in action.
Thus if A had sold but had not delivered something to B, B could only transfer to C the right to obtain delivery
from A. Even then, C could obtain no more from A than B could have done; so if, for example, B had not yet
paid A,C could not get delivery even if he paid B in full and knew nothing of the state of affairs between A
and B.
Common law found if difficult accommodating the rights of parties who were not privy to a contract even if
they had acquired interests in the subject matter. But commercial custom proceeded to develop various
means of ensuring that promise to pay money is as good as money itself, even for persons not party to the
original promise to pay.
A merchant dealing with items in bulk will find it impossible to carry large amounts of money in coins and to
make each purchase on the basis of a physical exchange of cash for goods. To him the essence of the
1
,transaction is the agreement to sell and buy at a particular price among other considerations such as
convenience of the business. The physical control of goods is not important because the merchant does not
usually need the goods for personal use. He invariably needs them for resale or for use in production. In
other words, what is more important to the merchant in commerce is ownership of goods and not
possession. His major concerns are with proprietorship of the capital, who takes the profit from the use of
the goods for production or their resale and who bears the loss should the goods be lost or destroyed or lose
value. Today the essence of commerce is not the physical exchange of articles or trade; it is primarily an
exchange of promises. Thus, wealth today is largely made of promises, not goats, sheep or herds of cattle as
it was at the turn of the 20th century.
Such a system of commerce must of necessity thrive on confidence. The agreements are made on the
presumption that the parties to them will honour them and carry out their obligations under them. In
general, the businessman stands to gain more in his observance of the rules than by their breach.
4. NEGOTIABLE INSTRUMENTS
4.1 Negotiability
Meaning of negotiability - There are certain classes of documents or choses in action which are freely used
in commercial transactions and monetary dealings called negotiable instruments. They can be transferred
(or negotiated) without the formalities necessary in assignments of choses in action under section 3, Law of
Contract Act, or the rules of equity. The word “negotiable” as used here means transferable from one
person to another in return for consideration. An “instrument” means a written document by which a right
is created in favour of some person. Thus a negotiable instrument is a document which entitles a person to
a sum of money and which may be transferred from one person to another. Essentially, it is a method of
transferring a debt from one person to another. The term is not even defined in any of the primary statutes
in Kenya.
More technically, a negotiable instrument may be defined as a chose in action, the full and legal title to
which is transferable by mere delivery of the instrument (possibly endorsed by the transferor) with the result
that complete ownership of the instrument and all the property it represents passes free from equities to the
transferee, providing the latter takes the instrument in good faith and for value: See Guide to Negotiable
Instruments and the Bills of Exchange, 7ed. by Dudley Richardson, p. 15.
Put another way, it is a document evidencing an obligation, which:
(i) is transferable by mere delivery (or by delivery plus endorsement),
(ii) such delivery operating to transfer all legal rights to the obligation evidenced,
(iii) free of any defects in the transferor’s title.
A negotiable instrument payable to bearer, such as a bank note, is transferable by delivery alone. One
payable to the order of a specified person, such as most cheques, is transferred by delivery of the instrument
endorsed (signed) on the back by the payee or other transferor.
4.2. Characteristics of negotiable instruments
Title passes by delivery (or by delivery + endorsement); whereas a legal assignment of an ordinary chose in
action must be in writing under s. 3, Law of Contract Act and any assignment not in writing is merely
equitable. An equitable assignment (such as an oral assignment) is an assignment which though valid fails to
comply with requirements that it be in writing: s. 3, Law of Contract Act.
2
,No notice is necessary to the debtor or other obligee; whereas ordinary assignments must be notified under
s. 3, Law of Contract Act or the rule in Dearle v. Hall (1823) 3 Russ 1.
The holder can sue in his own name; whereas an equitable assignee of an ordinary chose in action cannot.
A bona fide transferee for value takes free of any defects in the transferor’s title; whereas an assignee of an
ordinary chose gets no better title than his assignor had.
A transferee in due course takes free of any defences which could have been raised by the debtor against
the transferor; whereas any defence available against an assignor of an ordinary chose in action can be
raised against the assignee.
4.3 Examples of negotiable instruments
A chose in action may become negotiable either
(a) by statute, or
(b) by mercantile custom judicially recognized. Essentially all cases of statutory recognition of negotiability
merely confirms previous judicial acceptance of a mercantile usage which had recognized an instrument
as negotiable: see Text and materials in Commercial Law by L.S Sealy and RJA Hooley at p. 474. In Kenya
bills of exchange, cheques and promissory and bank notes are expressly recognized by the Bills of
Exchange Act as negotiable.
With respect to other instruments, it has been observed that “these days [mercantile] usage is established
much more quickly than it was in days gone by; more depends on the number of transactions which help to
create it than on the time over which the transactions are spread” per Bigham J. in Eldeisten v. Schuler & Co,
(1902) 2 KB 144 at 154. Thus even if the usage is of recent origin the courts will still recognize it. See
Bachuanaland Exploration Co. v. London Trading Bank Ltd (1898) 2 QB 658.
The following rules will be applied by the courts to recognize an instrument as negotiable through mercantile
usage: -
(a) the usage must be “reasonable certain and notorious”: see Devonald v. Rosser & Sons (1906) 2KB 728, p.
743, per Farwell L.J.’ CA;
(b) the usage must be general and not “a custom or habit which prevails only in a particular market of
particular section of the commercial world” see Easton v. London Joint Stock Bank, 1886 34 ch. D. 95 at
p. 113, per Bower L.J. CA.
(c) the instrument’s terms must not be incompatible with negotiability (for example not marked “Non-
negotiable”) nor stated to be transferable by some other method than delivery; see London and Country
Banking Co. Ltd v. London and River Plate Bank Ltd (1887) 20 QBD 232, at 239, per Manisty J.
As seen already, instruments negotiable by statute include bills of exchange including cheques and
promissory notes including bank notes. Instruments negotiable by custom include banker’s drafts, share
warrants, bearer debentures, treasury bills, dividend warrants, interest warrants, bearer bonds, floating rate
notes, bearer scripts and certificates of deposit issued by commercial banks.
But they must be in a deliverable state, that is, in favour of the bearer. Bills of exchange, cheques, divided
warrants and interest warrants are often drawn in favour of a specified person; and to create the deliverable
state they must be endorsed by that person.
3
, 4.4. Test of Negotiability
(a) complete transfer is made by mere delivery i.e. handing over from one person to another; no notice is
necessary to the party liable;
(b) a full and legal title passes;
(c) title passes free from all equities (including defects in title)
4.5. Non-negotiable instruments
The following documents of title to money or security for money are not negotiable instruments, though
they are freely transferable: bills of lading, Post Office orders, money orders, registered share certificates,
IOUs and receipts, dock warrants, delivery orders, insurance policies and registered debentures. Documents
of title to goods such as bills of lading are not negotiable.
EXAMPLE: A postal order and 100-shilling note are stolen from X. The thief sells both to Z.
(i) the bank note is a negotiable instrument payable to bearer and Z becomes the legal owner of it: X
cannot recover it from Z and can only sue the thief.
(ii) The postal order is transferable, but not negotiable; therefore the seller of it cannot give a better
title than he has himself. The thief has no title, therefore Z can get no title; X can recover the postal
order or its value from Z (who can only sue the thief for damages).
4.6 Who can sue on a Negotiable instrument?
If a negotiable instrument is dishonoured (i.e. not paid when due), a holder for value can sue any person who
signed the bill before it came into his possession.
The persons who may be liable are:
(a) the drawer, i.e., the person who first issued the instrument;
(b) the acceptor, i.e. the person (if any) who has accepted liability on the instrument, and
(c) any endorser, that is, any person who has transferred the instrument to another and endorsed it to
effect the transfer (he will also have a right of action against accommodation parties, i.e. persons who
have signed an instrument merely to lend the credit of their names to the instrument).
EXCEPTIONS: A signatory may avoid liability in the following cases: -
(i) where he signed under a fundamental mistake as to the nature of the document: see s. 15;
(ii) Where his signature was forged (since then he has not signed it himself), unless he is estopped from
denying the genuineness of the signature, e.g. where he facilitated the forgery.
(iii) Where he signed sans recours (‘without recourse”), indicating that he accepted no liability on the
instrumentThe drawer of a bill and any endorser may insert therein an express stipulation negativing
of limiting his own liability to the holder: s.16 BEA.
(iv) Where for some reason the law will not allow him to be sued, e.g. infants, bankrupts, enemy aliens,
etc.
5.0 BILLS OF EXCAHNGE
4
INTRODUTION
1. THE DEVELOPMENT OF COMMERCIAL LAW
Commercial Law as it developed in Europe in the middle ages evolved from the customs and procedures,
institutions and rules established by the merchants. Most European legal systems were very slow in adapting
to the demands of commerce at the time. Hence, a separate legal system conceptually different from the
rest of the law grew into what became known as “commercial law”
In England, for example, a separate system of commercial courts was created to enforce commercial customs
as law in commercial transactions. Along with this were developed principles of equity in the Chancellor’s
courts to supplement and correct common law.
For commercial purposes a person may own something which is not actually in his possession. In common
law this was merely a right to obtain possession of the thing – a “chose in action”, that is, a thing which
could be obtained by legal action as distinct from a chose in possession.
Chose in action
The word “chose” used in this context comes direct from the French word which simply means “thing”, an
object. Property, as a thing, can be classified depending upon whether it is in material form or is in the form
of a right or an interest in something of value, a right which may be enforced through orders of the courts.
Property that is tangible or capable of physical possession may be referred to as chose in possession. Any
other property which is merely in the form of a right claimable or enforceable through court action but which
does not exist in a material form is called a chose in action.
In both cases, such possession or right will be evidenced also in writing. The written document is itself often
called the chose in action.
Common law did not recognize the commercial practice of a merchant reselling something he has bought
but has not taken delivery of yet. The only way common law would recognize this was by the transfer or
assignment of the right to obtain delivery, a chose in action.
Thus if A had sold but had not delivered something to B, B could only transfer to C the right to obtain delivery
from A. Even then, C could obtain no more from A than B could have done; so if, for example, B had not yet
paid A,C could not get delivery even if he paid B in full and knew nothing of the state of affairs between A
and B.
Common law found if difficult accommodating the rights of parties who were not privy to a contract even if
they had acquired interests in the subject matter. But commercial custom proceeded to develop various
means of ensuring that promise to pay money is as good as money itself, even for persons not party to the
original promise to pay.
A merchant dealing with items in bulk will find it impossible to carry large amounts of money in coins and to
make each purchase on the basis of a physical exchange of cash for goods. To him the essence of the
1
,transaction is the agreement to sell and buy at a particular price among other considerations such as
convenience of the business. The physical control of goods is not important because the merchant does not
usually need the goods for personal use. He invariably needs them for resale or for use in production. In
other words, what is more important to the merchant in commerce is ownership of goods and not
possession. His major concerns are with proprietorship of the capital, who takes the profit from the use of
the goods for production or their resale and who bears the loss should the goods be lost or destroyed or lose
value. Today the essence of commerce is not the physical exchange of articles or trade; it is primarily an
exchange of promises. Thus, wealth today is largely made of promises, not goats, sheep or herds of cattle as
it was at the turn of the 20th century.
Such a system of commerce must of necessity thrive on confidence. The agreements are made on the
presumption that the parties to them will honour them and carry out their obligations under them. In
general, the businessman stands to gain more in his observance of the rules than by their breach.
4. NEGOTIABLE INSTRUMENTS
4.1 Negotiability
Meaning of negotiability - There are certain classes of documents or choses in action which are freely used
in commercial transactions and monetary dealings called negotiable instruments. They can be transferred
(or negotiated) without the formalities necessary in assignments of choses in action under section 3, Law of
Contract Act, or the rules of equity. The word “negotiable” as used here means transferable from one
person to another in return for consideration. An “instrument” means a written document by which a right
is created in favour of some person. Thus a negotiable instrument is a document which entitles a person to
a sum of money and which may be transferred from one person to another. Essentially, it is a method of
transferring a debt from one person to another. The term is not even defined in any of the primary statutes
in Kenya.
More technically, a negotiable instrument may be defined as a chose in action, the full and legal title to
which is transferable by mere delivery of the instrument (possibly endorsed by the transferor) with the result
that complete ownership of the instrument and all the property it represents passes free from equities to the
transferee, providing the latter takes the instrument in good faith and for value: See Guide to Negotiable
Instruments and the Bills of Exchange, 7ed. by Dudley Richardson, p. 15.
Put another way, it is a document evidencing an obligation, which:
(i) is transferable by mere delivery (or by delivery plus endorsement),
(ii) such delivery operating to transfer all legal rights to the obligation evidenced,
(iii) free of any defects in the transferor’s title.
A negotiable instrument payable to bearer, such as a bank note, is transferable by delivery alone. One
payable to the order of a specified person, such as most cheques, is transferred by delivery of the instrument
endorsed (signed) on the back by the payee or other transferor.
4.2. Characteristics of negotiable instruments
Title passes by delivery (or by delivery + endorsement); whereas a legal assignment of an ordinary chose in
action must be in writing under s. 3, Law of Contract Act and any assignment not in writing is merely
equitable. An equitable assignment (such as an oral assignment) is an assignment which though valid fails to
comply with requirements that it be in writing: s. 3, Law of Contract Act.
2
,No notice is necessary to the debtor or other obligee; whereas ordinary assignments must be notified under
s. 3, Law of Contract Act or the rule in Dearle v. Hall (1823) 3 Russ 1.
The holder can sue in his own name; whereas an equitable assignee of an ordinary chose in action cannot.
A bona fide transferee for value takes free of any defects in the transferor’s title; whereas an assignee of an
ordinary chose gets no better title than his assignor had.
A transferee in due course takes free of any defences which could have been raised by the debtor against
the transferor; whereas any defence available against an assignor of an ordinary chose in action can be
raised against the assignee.
4.3 Examples of negotiable instruments
A chose in action may become negotiable either
(a) by statute, or
(b) by mercantile custom judicially recognized. Essentially all cases of statutory recognition of negotiability
merely confirms previous judicial acceptance of a mercantile usage which had recognized an instrument
as negotiable: see Text and materials in Commercial Law by L.S Sealy and RJA Hooley at p. 474. In Kenya
bills of exchange, cheques and promissory and bank notes are expressly recognized by the Bills of
Exchange Act as negotiable.
With respect to other instruments, it has been observed that “these days [mercantile] usage is established
much more quickly than it was in days gone by; more depends on the number of transactions which help to
create it than on the time over which the transactions are spread” per Bigham J. in Eldeisten v. Schuler & Co,
(1902) 2 KB 144 at 154. Thus even if the usage is of recent origin the courts will still recognize it. See
Bachuanaland Exploration Co. v. London Trading Bank Ltd (1898) 2 QB 658.
The following rules will be applied by the courts to recognize an instrument as negotiable through mercantile
usage: -
(a) the usage must be “reasonable certain and notorious”: see Devonald v. Rosser & Sons (1906) 2KB 728, p.
743, per Farwell L.J.’ CA;
(b) the usage must be general and not “a custom or habit which prevails only in a particular market of
particular section of the commercial world” see Easton v. London Joint Stock Bank, 1886 34 ch. D. 95 at
p. 113, per Bower L.J. CA.
(c) the instrument’s terms must not be incompatible with negotiability (for example not marked “Non-
negotiable”) nor stated to be transferable by some other method than delivery; see London and Country
Banking Co. Ltd v. London and River Plate Bank Ltd (1887) 20 QBD 232, at 239, per Manisty J.
As seen already, instruments negotiable by statute include bills of exchange including cheques and
promissory notes including bank notes. Instruments negotiable by custom include banker’s drafts, share
warrants, bearer debentures, treasury bills, dividend warrants, interest warrants, bearer bonds, floating rate
notes, bearer scripts and certificates of deposit issued by commercial banks.
But they must be in a deliverable state, that is, in favour of the bearer. Bills of exchange, cheques, divided
warrants and interest warrants are often drawn in favour of a specified person; and to create the deliverable
state they must be endorsed by that person.
3
, 4.4. Test of Negotiability
(a) complete transfer is made by mere delivery i.e. handing over from one person to another; no notice is
necessary to the party liable;
(b) a full and legal title passes;
(c) title passes free from all equities (including defects in title)
4.5. Non-negotiable instruments
The following documents of title to money or security for money are not negotiable instruments, though
they are freely transferable: bills of lading, Post Office orders, money orders, registered share certificates,
IOUs and receipts, dock warrants, delivery orders, insurance policies and registered debentures. Documents
of title to goods such as bills of lading are not negotiable.
EXAMPLE: A postal order and 100-shilling note are stolen from X. The thief sells both to Z.
(i) the bank note is a negotiable instrument payable to bearer and Z becomes the legal owner of it: X
cannot recover it from Z and can only sue the thief.
(ii) The postal order is transferable, but not negotiable; therefore the seller of it cannot give a better
title than he has himself. The thief has no title, therefore Z can get no title; X can recover the postal
order or its value from Z (who can only sue the thief for damages).
4.6 Who can sue on a Negotiable instrument?
If a negotiable instrument is dishonoured (i.e. not paid when due), a holder for value can sue any person who
signed the bill before it came into his possession.
The persons who may be liable are:
(a) the drawer, i.e., the person who first issued the instrument;
(b) the acceptor, i.e. the person (if any) who has accepted liability on the instrument, and
(c) any endorser, that is, any person who has transferred the instrument to another and endorsed it to
effect the transfer (he will also have a right of action against accommodation parties, i.e. persons who
have signed an instrument merely to lend the credit of their names to the instrument).
EXCEPTIONS: A signatory may avoid liability in the following cases: -
(i) where he signed under a fundamental mistake as to the nature of the document: see s. 15;
(ii) Where his signature was forged (since then he has not signed it himself), unless he is estopped from
denying the genuineness of the signature, e.g. where he facilitated the forgery.
(iii) Where he signed sans recours (‘without recourse”), indicating that he accepted no liability on the
instrumentThe drawer of a bill and any endorser may insert therein an express stipulation negativing
of limiting his own liability to the holder: s.16 BEA.
(iv) Where for some reason the law will not allow him to be sued, e.g. infants, bankrupts, enemy aliens,
etc.
5.0 BILLS OF EXCAHNGE
4
