SPOUSES LYDIA AND VIRGILIO MELITON, PETITIONERS, VS. COURT OF APPEALS AND NELIA A. ZIGA, REPRESENTED BY HER ATTORNEY-IN-FACT RAMON A. AREJOLA, RESPONDENTS.

In its judgment in CA-G.R. No. 25091^[1]
promulgated on August 9, 1991, respondent Court of Appeals annulled and set
aside the orders dated February 22, 1991 and March 18, 1991 of the Regional
Trial Court of Naga City, Branch 27, in Civil Case No. RTC 89-1942 thereof and
ordered the dismissal of petitioner’s complaint filed therein, hence this
appeal by certiorari.

On June 22, 1988, private respondent Nelia Ziga, in her own
behalf and as attorney-in-fact of Alex A. Ziga and Emma A. Ziga-Siy, filed a complaint, docketed as Civil Case No.
RTC 88-1480 of the Regional Trial Court, Branch 27, Naga City,^[2] against herein petitioner Lydia Meliton for
rescission of a contract of lease over a parcel of land situated at Elias Angeles Street, Naga City. Alleged as grounds therefor were said
petitioner’s failure, as lessee, to deposit the one month rental and to pay the
monthly rentals due; her construction of a concrete wall and roof on the site
of a demolished house on the leased premises without the lessor’s written consent; and her unauthorized sublease
of the leased property to a third party.

On July 29, 1988, petitioner Lydia Meliton filed an answer to the
complaint denying the material averments thereof and setting up three
counterclaims for recovery of the value of her kitchenette constructed on the
leased parcel of land and which was demolished by private respondent, in the
amount of P34,000.00; the value of the improvements introduced in the
kitchenette to beautify it, in the amount of P10,000.00, plus the value of the
furniture and fixtures purchased for use in the kitchenette in the amount of
P23,000.00; and moral damages in the amount of P20,000.00 aside from attorney’s
fees of P5,000.00 and P250.00 per court appearance, with litigation expenses in
the amount of P1,000.00.^[3]

On May 29, 1989, the trial court, on motion of private respondent
contending that her cause of action had already become moot and academic by the
expiration of the lease contract on February 7, 1989, dismissed the complaint. The counterclaims of petitioner Lydia
Meliton were also dismissed for non-payment of the docket fees, ergo the trial
court’s holding that thereby it had not acquired jurisdiction over the same.^[4]

On December 6, 1989, petitioners Lydia Meliton and Virgilio
Meliton filed a complaint against private respondent for recovery of the same
amounts involved and alleged in their counterclaims in Civil Case No. RTC
88-1480, which complaint was docketed as Civil Case No. RTC 89-1942^[5]
and likewise assigned to Branch 27 of the same trial court.

On February 15, 1991, private respondent filed a motion to
dismiss the complaint on the ground that the cause of action therein was barred
by prior judgment in Civil Case No. RTC 88-1480, the order of dismissal wherein
was rendered on May 29, 1989.^[6]

On February 22, 1991, the court below denied private respondent’s
motion to dismiss the complaint in Civil Case No. RTC 89-1942 on the ground
that the dismissal of the petitioner’s counterclaims in Civil Case No. RTC
88-1480 is not an adjudication on the merits as the court did not acquire
jurisdiction over the counterclaims for failure of petitioner Lydia Meliton to
pay the docket fees, hence the said dismissal does not constitute a bar to the
filing of the later complaint.^[7]

Private respondent’s motion for reconsideration of the foregoing
order was denied by the lower court for lack of merit in its order of March 18,
1991.^[8]
Dissatisfied therewith, private respondent filed a petition for certiorari
with this Court. In our resolution
dated April 29, 1991, we referred this case to the Court of Appeals for proper
determination and disposition pursuant to Section 9, paragraph 1, of B.P. Blg.
129,^[9]
where it was docketed as CA-G.R.
SP No. 25093.

In a decision promulgated on August 9, 1991, the Court Appeals
granted the petition, the pertinent part of which reads:

x        x          x

“The respondents’ counterclaim against the petitioner in Civil
Case No. RTC 88-1480 (Annex E, petition) is a compulsory counterclaim; it
having (arisen) out of or being necessarily connected with the transaction or
occurrence subject matter of the petitioner’s complaint. The failure of the respondents to seek a
reconsideration of the dismissal of their counterclaim or to take an appeal therefrom rendered
the dismissal final. Such dismissal
barred the prosecution of their counterclaim by another action (Section 4, Rule
9, Revised Rules of Court; Javier vs. IAC, 171 SCRA 605).

“The respondent Court, therefore, in issuing the orders
complained of (Annexes G and I, petition), gravely abused its discretion
amounting to lack of jurisdiction.

“WHEREFORE, the petition for certiorari is
GRANTED. Accordingly, the orders
complained of (Annexes G and I, petition) are annulled and set aside and the
respondents’ complaint in Civil Case No. RTC 89-1942 before the respondent
Court, DISMISSED. Costs against the
respondents, except the respondent Court.”^[10]

Petitioners are now before us, assailing the said judgment of the
Court of Appeals and praying for the annulment thereof.

The present petition requires the resolution of two principal
issues, to wit: (1) whether or not the
counterclaims of petitioners are compulsory in nature; and (2) whether or not
petitioners, having failed to seek reconsideration of or to take an appeal from
the order of dismissal of their counterclaims, are already barred from
asserting the same in another action.

1.  Considering Section 4 of
Rule 9 of the Rules of Court, a counterclaim is compulsory if (a) it arises out
of, or is necessarily connected with, the transaction or occurrence which is the
subject matter of the opposing party’s claim; (b) it does not require for its
adjudication the presence of third parties of whom the court cannot acquire
jurisdiction; and (c) the court has jurisdiction to entertain the claim.

It has been postulated that while a number of criteria have been
advanced for the determination of whether the counterclaim is compulsory or
permissive, the “one compelling test of compulsoriness” is the
logical relationship between the claim alleged in the complaint and that in the counterclaim, that is,
where conducting separate trials of the respective claims of the parties would
entail a substantial duplication
of effort and time, as where they involve many of the same factual and/or legal
issues.

The phrase “logical relationship” is given meaning by
the purpose of the rule which it was designed to implement. Thus, a counterclaim is logically related to
the opposing party’s claim where, as already stated, separate trials of each of
their respective claims would involve a substantial duplication of effort and
time by the parties and the courts. Where multiple claims involve many of the same factual issues, or where
they are offshoots of the same basic controversy between the parties, fairness
and considerations of convenience and of economy require that the counterclaimant be permitted to maintain his
cause of action.^[11]

In the aforesaid Civil Case No. 88-1480, all the requisites of a compulsory
counterclaim are present. The
counterclaims, as this term is now broadly defined, are logically related to the complaint. Private respondent’s complaint was for rescission of the contract of
lease due to petitioner Lydia Meliton’s breach of her obligations under the
said contract. On the other hand,
petitioner’s counter­claims were for damages for unlawful demolition of the
improvements she introduced pursuant to her leasehold occupancy of the
premises, as well as for the filing of that civil suit which is contended to he
clearly unfounded.

Both the claims therein of petitioners and private respondent
arose from the same contract of lease. The rights and obligations of the parties, as well as their potential
liability for damages, emanated from the same contractual relation. Petitioners’ right to claim damages for the
unlawful demolition of the improvements they introduced on the land was based
on their right of possession under the contract of lease which is precisely the
very same contract sought to be rescinded by private respondent in her
complaint. The two actions are but the
consequences of the reciprocal obligations imposed by law upon and assumed by
the parties under their aforesaid lease contract. That contract of lease pleaded by private respondent constitutes
the foundation and basis relied on by both parties for recovery of their
respective claims.

The relationship between
petitioners’ counterclaims and private respondent’s complaint is substantially
the same as that which exists between a complaint for recovery of land by the
owner and the claim for improvements introduced therein by the possessor. As we have ruled, in actions for ejectment
or for recovery of possession of real property, it is well settled that the
defendant’s claims for the value of the improvements on the property or necessary
expenses for its preservation are required to be interposed in the same action
as compulsory counterclaims. In such
cases, it is the refusal of the defendant to vacate or surrender possession of
the premises that serves as the vital link in the chain of facts and events,
and which constitutes the transaction upon which the plaintiff bases his cause
of action. It is likewise an
“important part of the transaction constituting the subject matter of the
counterclaim” of defendant for the value of the improvements or the
necessary expenses incurred for the preservation of the property. They are offshoots of the same basic
controversy between the parties, that is, the right of either to the possession
of the property.^[12]

On the foregoing considerations, respondent Court of Appeals
correctly held that the counterclaims of petitioners are compulsory in nature.

2.  Petitioners having
alleged compulsory counterclaims, the next point of inquiry is whether or not
petitioners are already barred from asserting said claims in a separate suit,
the same having been dismissed the preceding one. The answer is in the negative.

It is indeed the rule,
embodied in Section 4, Rule 9 of the Rules of Court, that a counterclaim not
set up shall be barred if it arises out of or is necessarily connected with the
transaction or occurrence that is the subject matter of the opposing party’s
claim and does not require for its adjudication the presence of third parties
of whom the court cannot acquire jurisdiction. However, said rule is not applicable to the case at bar.

Contrary to the claim of private respondent, it cannot be said
that herein petitioners failed to duly interpose their causes of action as
counterclaims in the previous action. Petitioners’ claims were duly set up as counterclaims in the prior case
but the same were dismissed by reason of non-payment of docket fees. The ruling of respondent Court of Appeals to
the effect that the failure of petitioners to appeal or to move for
reconsideration of the said order of dismissal bars them from asserting their
claims in another action cannot be upheld.

Firstly, where a
compulsory counterclaim is made the subject of a separate suit, it may be
abated upon a plea of auter action pendant or litis pendentia and/or dismissed on the ground of res judicata,^[13]
depending on the stage or status of the other suit.

Both defenses are unavailing to private respondents. The present action cannot be dismissed
either on the ground of litis pendentia since there is no
other pending action between the same parties and for the same cause, nor on
the ground of res judicata.

In order that a prior judgment will constitute a bar to a
subsequent case, the following requisites must concur: (1) the judgment must be final; (2) the
judgment must have been rendered by a court having jurisdiction over the
subject matter and the parties; (3) the judgment must be on the merits; and (4) there must be between the
first and second actions, identity of parties, of subject matter, and of causes
of action.^[14]

The first case, Civil Case No. RTC 88-1480, was
dismissed upon motion of private
respondent, plaintiff therein, under Section 2 of Rule 17. Dismissal thereunder is without prejudice,
except when otherwise stated in the motion to
dismiss or when stated to be with prejudice in the order of the court.^[15] The order of dismissal of the first case was unqualified, hence
without prejudice and, therefore, does not
have the effect of an adjudication on the merits. On a parity
of rationale, the same rule should apply
to a counterclaim duly interposed therein and
which is likewise dismissed but not on the merits thereof.

Moreover, in the same order of dismissal of the complaint, the
counterclaims of herein petitioners were dismissed by reason of the fact that
the court a quo had not acquired jurisdiction over the same for
non-payment of the docket fees. On that
score, the said dismissal was
also without prejudice, since a dismissal on the ground of lack of jurisdiction does not constitute res judicata,^[16]
there having been no consideration and adjudication of the case on the merits.

The dismissal of the case without prejudice indicates the absence
of a decision on the merits and leaves the parties free to litigate the matter
in a subsequent action as though the dismissal action had not been commenced.^[17]
The discontinuance of a case not
on the merits does not bar
another action on the same subject matter.^[18]
Evidently, therefore, the prior dismissal of herein petitioners’ counterclaims
is not res judicata and will not bar the filing of another action
based on the same causes of action.

Secondly, a reading of the order of dismissal will show that the
trial court, in dismissing the complaint of private respondent, did not intend
to prejudice the claims of petitioners by barring the subsequent judicial
enforcement thereof. As stated therein,
“(t)he court in dismissing the counterclaim(s) has taken into account the fact
that a counterclaim partakes of the nature of a complaint and/or a cause of
action against the plaintiffs.”^[19] This
is a clear indication, deducible by necessary implication, that the lower court
was aware of the fact that petitioners could avail of the causes of action in
said counterclaims in a subsequent independent suit based thereon and that
there was no legal obstacle thereto. That this was the import and intendment of that statement in its order
dismissing petitioners’ counterclaims in Civil Case No. RTC 88-1480 was
categorically confirmed by the very same court, wherein Civil Case No. RTC
89-1942 was also subsequently filed in its assailed orders denying private
respondent’s motion to dismiss the latter case on the ground of res judicata.

This is also concordant with the rule governing dismissal of
actions by the plaintiff after the answer has been served as laid down in Rule
17 of the Rules of Court, which is summarized as follows: An action shall not be dismissed at the
request of the plaintiff after the service of the answer, except by order of
the court and upon such terms and conditions as the court deems proper. The trial court has the judicial discretion
in ruling on a motion to dismiss at the instance of the plaintiff. It has to decide whether the dismissal of
the case should be allowed and if so, on what terms and conditions.^[20]

In dismissing private
respondent’s complaint, the trial court could not but have reserved to
petitioners, as a condition for such dismissal, the right to maintain a
separate action for
damages. Petitioners’ claims for
damages in the three counterclaims interposed in said case, although in the
nature of compulsory counterclaims but in light of the aforesaid reservation in
the dismissal order, are consequently independent causes of action which can be
the subject of a separate action against private respondent.

An action for damages specifically applicable in a lesser-lessee
relationship is authorized in Article 1659 of the Civil Code which provides
that:

“Art. 1659. If the
lessor or the lessee should not comply with the obligations set forth in
articles 1654 and 1657, the aggrieved party may ask for the rescission of the
contract and indemnification for damages, or only the latter, allowing the
contract to remain in force.”

Paragraph 3 of Article 1654 of the same Code requires that the
lessor must “maintain the lessee in the peaceful and adequate enjoyment of
the lease for the entire duration of the contract.”^[21]
The aggrieved party has the alternative remedies, in case of contractual
breach, of rescission with damages, or for damages only, “allowing the
contract to remain in force.”

The act of private respondent in demolishing the structures
introduced by petitioners on the property leased and the improvements therein
during the existence of the lease contract is a clear violation by her, as
lessor, of her obligation mandated by paragraph 3, Article 1654 of the Civil
Code. The said violation gave rise to a
cause of action for damages in favor of herein petitioners.

Lastly, even assuming arguendo that the bar under the rule
on compulsory counterclaims may be invoked, the peculiar circumstances of this
case irresistibly and justifiedly warrant the relaxation of such rule.

The court a quo dismissed petitioners’
counterclaims for non–payment of docket fees pursuant to our then ruling in Manchester
Development Corporation, et al. vs. Court of Appeals, et. al.,^[22]
before its modification. The failure of
petitioners to seek reconsideration of or to take an appeal from the order of
dismissal of the counterclaim should not prejudice their right to file their
claims in a separate action because they were thereby made to understand and
believe that their counterclaims
were merely permissive and could be the
subject of a separate and independent action. Under the Rules, there is no need to pay docket fee for a
compulsory counterclaim.^[23] The
ruling in Manchester applies specifically to permissive counterclaims
only, thereby excluding compulsory counterclaims from its purview,^[24]
and that was the ruling of the court below to which the litigants therein
submitted. Had the trial court
correctly specified that petitioners’ counterclaims were compulsory, petitioners could have
objected to the dismissal sought
by private respondent on the ground that said counterclaims could not remain
pending for independent adjudication.^[25]

Furthermore, under the Manchester
doctrine, the defect cannot be cured by an amendment of the complaint or
similar pleadings, much less the payment of the docket fee. Hence, only remedy left for the petitioners was to file a separate action for their
claims and to pay the prescribed docket fees therein within the applicable and
reglementary period, which is what they did in the case at bar in obedience and
deference to the judicial mandate laid down in their case. At any rate, the ambivalent positions
adopted by the lower court can be considered cured by what we have construed as
effectively a reservation in its order of dismissal for the filing of a
complaint based on the causes of action in the dismissed counterclaims.

This, then, is one case where it is necessary to heed the
injunction that the rules of procedure are not to be applied in rigid and
technical sense. After all, rules of
procedure are used only to help secure substantial justice. They cannot be applied to prevent the
achievement of that goal. Form cannot
and should not prevail over substance.^[26]
Absent a specific requirement for stringent application, the Rules of Court are
to be liberally construed to the end that no party shall be deprived of his day
in court on technicalities. The courts
in our jurisdiction are tribunals both of law and equity. Hence, under the antecedents of this case,
we are persuaded that even if only to approximate that desirable measure of
justice we are sworn to dispense, this controversy should be resolved on the
merits.

WHEREFORE, the questioned judgment of respondent Court of
Appeals is hereby REVERSED and SET ASIDE. Civil Case No. RTC 89-1942 is hereby REINSTATED and the Regional Trial
Court of Naga City, Branch 27, or wherever the case has been assigned, is
directed to proceed with deliberate dispatch in the adjudication thereof.

SO ORDERED.

Narvasa, C.J., (Chairman), Feliciano, Nocon, and Campos, Jr., JJ., concur.

* The petition erroneously
impleaded the presiding judge of the court a quo, hence the
deletion of his name in the title of this case.

** The names of the members of the
Seventeenth Division of respondent court have likewise been deleted herefrom
for having been improperly included.

^[1]
Penned by Justice Pedro A. Ramirez, with the concurrence of Justices Fernando
A. Santiago and Fermin A. Martin, Jr.

^[2]
Rollo, 14-15.

^[3]
Ibid., 16-21.

^[4]
Rollo, 22.

^[5]
Ibid., 23-27.

^[6]
Ibid., 12-15.

^[7]
Ibid., 33; per Judge Antonio N. Gerona.

^[8]
Ibid., 30.

^[9]
Rollo, CA-G.R. SP No. 25093, 32.

^[10]
Ibid., id., 41.

^[11]
National Marketing Corporation vs. Federation of United Namarco Distributors,
Inc., 49 SCRA 238, 264 (1973).

^[12]
Id., citing Berses vs. Villanueva, 25 Phil. 473 (1913);
Carpena, et al. vs. Manalo, et al., 1 SCRA 1060 (1961); Castro vs.
Montes, et al., 107 Phil. 533 (1960) and other cases.

^[13]
Visayan Packing Corporation vs. Reparations Commission, et al., 155 SCRA
542 (1987).

^[14]
Filipinas Investment and Finance Corporation vs. Interme­diate Appellate Court, et al., 179
SCRA 728 (1989); Sta. Monica Industrial and Development Corporation vs. Court of Appeals, et al., 189 SCRA 792
(1990); Suarez vs. Court of Appeals, et al., 193 SCRA 183 (1991).

^[15]
Vergara, et al. vs. Ocumen, et al., 114 SCRA 446 (1982).

^[16]
Tuhalla vs. De la Cruz, et al., 1 SCRA 742 (1961); Montinola, et al. vs.
Barrido, et al., 114 Phil. 561 (1962).

^[17]
46 Am. Jur., Judgment 646; Alona vs. Wing Sing Wo Co., 45 Hawaii 427,
368 P2d 879.

^[18]
Hays vs. Sturgill, 302 Ky 31, 19 SWD 2d 648, 164 ALR 868.

^[19]
Rollo, 22.

^[20]
Suarez vs. Court of Appeals, et al., supra.

^[21] See
also CMS Investment and Management Corporation, et al. vs. Intermediate
Appellate Court, et al., 139 SCRA 75 (1985).

^[22]
149 SCRA 562 (1987).

^[23]
Sec. 5, Rule 141, Rules of Court.

^[24]
Metals Engineering Resources Corporation vs. Court of Appeals, et al.,
203 SCRA 273 (1991).

^[25]
Sec. 2, Rule 17, Rules of Court; Lim Tanhu, et al., vs. Ramolete, et
al., 66 SCRA 425 (1975).

^[26]
Alonso vs. Villamor, 16 Phil. 315; (1910); Gotico vs. Leyte
Chinese Chamber of Commerce, 136 SCRA 218 (1985); Visayan Packing Corporation vs.
Reparations Commission, supra.