Liquidated Damages: Friend or Foe?

BUT FIRST: (Recurring theme here, right!) There’s legal stuff in here!

?This is hopefully helpful background info, but it is not intended to be considered legal advice. It’s always better to speak to a lawyer who can take your personal circumstances into account. We have lawyers on our team – if you need one, you know where to find me: [email protected] (or a PM is just fine.)

The Crime

You’re 12 years old. You’re kicking a football around the yard of your family home with a couple of mates. 

Things are getting tense. Pete from down the street is lining up for a corner – and looking to nab an almost impossible goal. To score, he needs to get the ball between the azalea bush and the steps leading up to the back door. 

He’s steadying himself, running in, dodging a pothole in the lawn, foot’s connecting with ball, the shot looks good-

Thud! 

Oh no. 

Ohhhh no, no, no, no, no. 

Petey’s broken a window. You’re in trouble now. 

The Aftermath

Your mum’s not happy about this. Let’s say she’s got three choices:

1. She can let it go – forgive and forget (yeah, right!),
2. She can charge you to replace the glass, or;
3. She can charge you for new glass AND forbid you from playing football, ever again.

Well, the first option would be great – but it’s not going to happen. 

Second option? Yeah, that’s a soft ‘maybe’ at best.  

But let’s talk about the third option for a moment. Would you say that this punishment is “extravagant and unconscionable”? Or just lacking proportion? 

(For 12 year-old you: totally bogus? Or just a bit bogus?)

Now, mate, you’re thinking like a judge. 

Liquidated Damages: mate or hate?

If you’re a contractor, and you fail to complete work on time, your client is going to suffer. That’s why we have Liquidated Damages – or LDs. 

LDs make sure that if you don’t get it done, your client is compensated to the tune of an amount that reflects the financial hit they’re taking as a result of you running behind. Simple so far, right?

Like your mum ordering you to fix that window, it’s annoying, but fair. 

Which gets us to a new point. LDs aren’t just there to make sure mum doesn’t suffer due to your mistake – they’re also there to save you from more outrageous punishments.

For example, if mum decides that you need to first fork out for the window AND THEN never play football again, we’re potentially wading into penalty territory. 

So what’s a penalty?

When it comes to football, getting a penalty (penalty kick, that is) is a pretty good thing. 

But contracts, on the other hand? They’re a whole new ball game. 

In contract law, penalties are punishments doled out for breaches of part of your contract: for example, rules, laws or performance conditions. 

Now I doubt you signed a contract with mum before you picked up the ball, but you know where I’m going here. 

LDs, Penalties – what’s the difference?

The problem is, sometimes there’s a fine line between LDs and penalties. 

Originally, a seminal case in 1915, Dunlop v Selfridge, provided a precedent. As part of his ruling, Lord Dunedin identified three guidelines for determining what should be considered a penalty: 

1. An “extravagant and unconscionable” sum being stipulated, compared to the greatest loss that could be proved to occur as a result of the breach,
2. A larger sum stipulated than the amount that should have been paid, if the breach in question was the non-payment of an amount of money, and sometimes; 
3. A single lump sum made payable as compensation for one or several events, where some events may be serious but others could be considered trivial.

Unfortunately though, it’s never quite that black and white. More recent cases have shown that the line between LDs and penalties can be a fine one indeed. 

Like the one below, for example. 

Grocon v Juniper

A contractor (Grocon) sues a developer (Juniper) for unpaid moneys for work and other delay costs. Juniper responds by hitting Grocon with LDs to the tune of over $33m, for failing to achieve practical completion by the specified date. 

Some of the things Grocon has failed to do include: 

• Providing Juniper with two sets of keys that comply with Juniper’s specific requests around style of labelling, tags and locks supplied
• Replacing light globes that don’t work
• Professionally cleaning and removing all rubbish and unwanted equipment from the site

The list does go on – but many of Grocon’s missteps are, just like these, relatively small. 

Grocon argues that Juniper’s being unfair. It says that this sum can’t be considered LDs, but rather, a penalty, because: 

• The amount requested ($33m) doesn’t match the conceivable financial hit to Juniper at all (it’s totally bogus)
• It’s a lump sum payable over a variety of events, some significant and others trivial

Juniper responds. The $33m is actually not “extravagant and unconscionable” from its perspective. Unable to settle its sales contract until practical completion has occurred, the developer is stuck in no-man’s land. What’s more, yes, there have been many trivial (and some less trivial) events that have lead to the LDs – but together, they constitute one larger event: the failure to complete the agreed works. 

The court agrees with Juniper. The $33m is deemed LDs, not a penalty, and all because of a couple of reasonably minor issues. 

Faulty light globes, mess – mum probably wouldn’t even get up in arms about that!

The problem is, one person’s trivial is another person’s livelihood. And the law has to consider both sides. 

So what’s the verdict?

I wonder all sorts of things when I read about these cases – and I question whether there’s an untold story leading to these messy endings we read about. 

For example: 

• What provisions did the contract provide Grocon for EOTs? Could it have claimed and bought itself more time?
• Was it a mad rush to the end for Grocon? Is that why these little things were abandoned? Or was it complacency?

The bottom line is, when you can’t possibly know what’s going on at the other end, assuming that something is going to be considered NBD in the eyes of the law is a monumental mistake. 

Just like letting Petey go for goal. 

…You’ve been warned.