Damages are the usual remedy awarded by the courts when a contract is breached. Damages are generally a sum of money that the party in breach is ordered to pay to the innocent party.
In calculating damages, the usual basis is that the sum awarded should compensate the innocent party for any loss he has suffered. However, only certain types of loss (“heads of loss”) are recoverable through damages:-
Expectation measure of loss
This is the most common measure, and effectively compensates for the loss which an innocent party has suffered as a result of the breach. Expectation losses are assessed by comparison to what the claimant’s position would have been were the contract performed.
Reliance measure of loss
Reliance loss is assessed by money which the claimant may have spent (or loss which they may have incurred) in reliance upon performance of the contract. An example of this (from a supplier’s point of view) is the purchase of raw materials or the loss of another order.
Where an innocent party has paid money or rendered some other service to the party in breach (or a third party), he may call for it to be returned or paid for in the event of a breach of contract.
There are limitations on the recoverability of damages:-
The breach of contract must have been the dominant cause of the innocent party’s loss. This may not be the case where:-
- There is an intervening act of a third party;
- The innocent party himself contributes to his loss (Contributory Negligence)
Recovery of damages is subject to the rules on mitigation:-
- The court will not allow the recovery of loss by the innocent party where he could have avoided this loss by taking reasonable steps;
- Where loss is avoided by such reasonable steps the loss that would have been suffered cannot be recovered;
- However, the cost of these reasonable steps is itself recoverable.
The court will only allow recovery of damages if the loss suffered is not too remote. There are two limbs to the common law test:
- The loss arose according to the usual course of things, i.e. it was within the reasonable contemplation of the parties; or
- The party in breach knew of special circumstances that would cause the innocent party an unusual kind or extent of loss.
Penalty clauses and liquidated damages
Contracts often provide for payment of a fixed sum in the event of a breach. These types of clauses may be either:-
- A penalty clause (which are designed to deter parties from breaching their obligations under the contract by imposing a penalty); or
- Liquidated damages (which are characterised as a “genuine pre-estimate of loss”).