CHAPTER 13: NEGOTIABLE INSTRUMENTS
Meaning of Negotiable Instruments
A negotiable instrument is a written financial document that can be transferred from one person to another, giving
the holder the right to receive payment.
According to the Bills of Exchange Act 1882, a negotiable instrument allows the transfer of ownership by
delivery or endorsement and delivery, and the holder may obtain good title even if the transferor had a
defective title, provided the holder acted in good faith.
Because it is an instrument, it is usually in writing. Negotiable instruments are like substitutes for money as they
are a medium of exchange in commercial transactions.
Negotiable instruments are also types of chose in action like copyright, patents, shares, and trademarks because
the property in them cannot be physically possessed but the rights to them can only be enforced by action in
court.
Negotiable instruments are an exception to the general common law rule of nemo dat quod non habet which
means that no one can give that which he has not got. This is because a thief in possession of a negotiable
instrument can pass the title thereto validly to a third party who will acquire a good title provided he takes it in
good faith, without notice and for value.
Types of Negotiable Instruments
Common negotiable instruments include:
✓ Bills of Exchange
✓ Cheques
✓ Promissory Notes
✓ Bearer Bonds
✓ Treasury Bills
✓ Dividend Warrants
These instruments facilitate payment and credit in business transactions.
Attributes (Features) of Negotiable Instruments
A negotiable instrument has the following features:
✓ Transferability: Title in the instrument passes by mere delivery. where it is a “bearer” instrument; and, where
the instrument is an “order” instrument, title thereto would pass by endorsement and delivery.
✓ A holder of a negotiable instrument can sue in his own name. For example, if Newton Michael negotiates a
financial instrument drawn on Angela Bank to Christopher Blessing in settlement of his debt, but at maturity
Angela Bank refuses to pay, Blessing can sue Angela Bank in her own name to recover the face value of the
instrument without recourse to Newton Michael;
✓ A bona fide transferee can obtain good title even if the transferor had defective title.
✓ Transfer must take place before the instrument is overdue. An instrument becomes overdue after maturity;
✓ Good Faith Requirement: That means that the transferee must have acted with all honesty and without
knowing about the defective title of the transferor. For example, if a transferee receives an instrument from
someone, he knows to be of questionable character who is unlikely to be able to afford such instrument, such
a transferee cannot claim to have received the instrument in good faith. His knowledge of the kind of person
from whom he has received the instrument ought to put him on notice as to ignore such facts will be fatal to
his claim to good faith).
✓ If there is a restriction on transferability on the face of the instrument e.g. a cheque marked, “Account Payee
Only”, it cannot be a negotiable instrument, as negotiability requires transferability.
Bills of Exchange
A bill of exchange is a type of negotiable instrument. Section 3 of the Bills of Exchange Act, 2004 defines a bill of
exchange as,
“… an unconditional order in writing, addressed by one person to another, signed by the person giving it,
requiring the person to whom it is addressed to pay on demand or at a fixed or determinable future time a
sum certain in money to or to the order of a specified person, or to bearer”.
Essential Elements
A valid bill of exchange must:
✓ Be in writing
✓ Contain an unconditional order to pay
✓ Be signed by the drawer
✓ Be addressed to another person
✓ Specify a certain sum of money
✓ Be payable to a specified person or bearer
✓ Be payable on demand or at a determinable future time
Parties to a Bill of Exchange
There are three main parties:
Party Meaning
Drawer Person who draws the bill and orders payment
Drawee Person directed to pay the money
Payee Person entitled to receive payment
Once the drawee accepts the bill, he becomes the acceptor.
Order Bill vs Bearer Bill
Order Bill Bearer Bill
Payable to a named person Payable to whoever holds the instrument
Transfer by endorsement and
Transfer by delivery only
delivery
Example:
“Pay John or order” → Order bill
“Pay bearer” → Bearer bill
Acceptance of a Bill
Acceptance means the drawee agrees to pay the bill.
It usually occurs when the drawee writes “Accepted” and signs on the bill.
Types of Acceptance
1. General Acceptance
A general acceptance occurs when the drawee as sends a bill to the order of the drawer without conditions. A
general acceptance is a confirmation that the drawee is in agreement with the terms of the bill as drawn.
2. Qualified Acceptance
This occurs when the acceptance is made subject to certain conditions. The effect of such acceptance varies the
terms of the bill as drawn. Acceptance of a bill is said to be qualified:
(a) when it is made subject to the fulfilment of certain conditions;
(b) where the acceptor varies the place of payment;
(c) where the accept or agrees to pay only part of the face value of the bill; and
(d) where some, and not all the drawees, accept the bill.
Endorsement of a Bill
A bill is said to be endorsed when the holder of the bill places his signature on the back of the bill. The effect of
endorsement is to transfer title in the bill from the endorser (person who endorsed the bill) to the endorsee person
to whom the bill is transferred). Endorsement may be in ink, print or any other indelible substance. Every
signature written on the back of such an instrument is an endorsement even if placed there for the purpose of
identification or as a receipt. Its ordinary legal meaning is the signing of a name on the back of an instrument
animus indorsandi, that is with the intention of endorsing the liability of an endorser.
Requirements for Valid Endorsement
✓ Must be written on the bill
✓ Must be signed by the endorser
✓ Must transfer the entire amount
✓ All payees must endorse where multiple payees exist.
Negotiation of a Bill
Negotiation refers to the transfer of a negotiable instrument so the transferee becomes the holder.
Methods of negotiation:
Bearer instrument → delivery
Order instrument → endorsement + delivery
Capacity and Liability of Parties
Only persons with legal capacity to contract can incur liability on a bill. Persons who cannot be liable include:
i. Infants
ii. Corporations lacking authority.
However, other parties may still be liable even if one party lacks capacity.
Liability of Parties
Liability of Drawer
The drawer promises that:
The bill will be accepted and paid.
If dishonoured, he will compensate the holder (provided notice of dishonour is given).
Liability of Acceptor
The acceptor is primarily liable to pay the bill when due.
Liability of Endorser
An endorser guarantees payment if the bill is dishonoured.
Holder of a Bill
A holder is the person in possession of the bill who is entitled to payment.
Rights of a Holder
The holder of a bill has the rights in respect of the bill to:
(i) sue on the bill in his own name;
(ii) sue anybody who might have signed the bill prior to him; and
(iii) if he is a holder in due course, to hold the bill free from any defect of title of prior parties.
Holder for Value
A holder for value is someone who has given valuable consideration for the bill. However, such a holder cannot
obtain better title than the transferor.
Holder in Due Course
A holder in due course enjoys the strongest legal protection.
He holds the bill free from defects of title.
Conditions for Holder in Due Course
A holder in due course is a holder who has taken a bill:
(a) complete and regular on the face of it;
(b) before it was overdue;
(c) without notice of previous dishonour;
(d) in good faith;
(e) for value; and
(f) without notice of any defect in the transferor’s title.
However, there can be no holder in due course where a bill:
(a) is marked, “Not Transferable”;
(b) bears, “Pay Brown Only”; or
(c) carries the forgery of an essential signature.
The right of a holder in due course shall be forfeited by forgery. Also, a payee cannot be a holder in due course
because the bill is issued to him and not negotiated.
Discharge of a Bill
A bill is discharged when the obligations under it are terminated.
Methods include:
Payment in due course
Holder renouncing rights
Intentional cancellation
Acceptor becoming the holder
Material alteration of the bill
Dishonour of a Bill
A bill is dishonoured when it is not accepted or not paid.
Types of Dishonour
✓ Dishonour by Non-Acceptance
✓ Drawee refuses to accept the bill.
✓ Dishonour by Non-Payment
✓ Acceptor fails to pay at maturity.
Notice of Dishonour
When a bill is dishonoured, the holder must notify the drawer and the endorsers. Failure to give notice
discharges those parties from liability.
ASSIGNMENT
(1) Explain negotiable instruments.
(2) Explain the circumstances in which a person becomes a holder in due course of a bill of exchange.
(3) Explain what amounts to a discharge of a negotiable instrument.