14.1 Theory of Contract Remedies

People choose to enter contracts because they genuinely want the benefit of the bargain that they made with the other party. To get that benefit, each promisor will generally perform their end of the deal. Thus, most contracts are discharged by performance, not breached. But, when a valid agreement has been made and the promisor’s duties have not been discharged there is a breach of contract. This Chapter is concerned with the rights of the parties in a situation where there is a breach of contract, when there is a failure of performance, or when the contract has been avoided because of incapacity or misrepresentation or other justifications for voidable contracts.

Contract remedies are intended to make the non-breaching party whole. The two categories of remedies for breach of contract are legal remedies and equitable remedies. Legal remedies are mostly monetary damages, while equitable remedies are focused on ways to make a party whole like specific performance, injunctions, and restitution. Generally, a party to a contract is not forced to perform. Either party has the power (though not the right) to breach. Sometimes it may make more sense to breach a contract when it is economically more advantageous to breach and suffer the consequence than to perform.

To illustrate this, imagine that TechSoft Inc., agrees to create a sophisticated chatbot for another company, BusinessTech Enterprises, for $1 million. As TechSoft gets started working on the project, BusinessTech discovers that a new technology makes it possible to create a more accurate chatbot for $500,000, half the price. Because of this, BusinessTech decides to breach the contract. As long as the penalties for breach are less than $500,000 it makes financial sense to breach the contract. In addition, the breach also allows BusinessTech to use a newer and more accurate technology. TechSoft gets some money in the form of penalties for breach, and BusinessTech gets a cheaper and more advanced technology. A breach, in such a case, is economically and technologically smarter.

The focus of this Chapter is the way in which the law seeks to make the aggrieved party whole when there is a breach of contract.

Purpose of Remedies

The overall purpose of contract remedies is to ensure that contracts are enforced and that parties are held accountable for fulfilling their obligations under a contract. The existence of such remedies helps to promote trust and reliability in business transactions, and can provide a way to resolve disputes that may arise during the course of a business relationship. Contract remedies aim to put the non-breaching party in the position he or she would have been in had there been no breach. The purpose is not to punish the breaching party, but to make the non-breaching party whole.

Contract remedies can be either legal or equitable in nature, and they may include monetary damages, specific performance, or cancellation and restitution. Legal remedies are damages to compensate the non-breaching party for any losses suffered as a result of the breach. Damages are money paid by one party to another due to a breach. These remedies may include compensatory damages, which are intended to put the non-breaching party in the position they would have been in had the contract been fully performed, or consequential damages, which are intended to compensate the non-breaching party for any additional losses that were caused by the breach.

Equitable remedies, on the other hand, are designed to discourage, prevent, or remedy a breach of contract rather than to compensate for losses. One common equitable remedy is specific performance, which requires the breaching party to fulfill their contractual obligations. Another equitable remedy is cancellation and restitution, which allows the non-breaching party to cancel the contract and recover any payments or property that they provided to the breaching party. Finally, an injunction, or judicial order, can direct a party to stop doing something that would violate the contract. Both legal and equitable remedies are explored more fully throughout the Chapter.

Parties Have the Power—but Not the Right—to Breach

In view of the importance given to the intention of the parties in forming and interpreting contracts, it may seem surprising that the remedy for every breach is not a judicial order that the obligor carry out his or her undertakings. But it is not. Some duties cannot be performed after a breach, because time and circumstances will have altered their purpose and rendered many worthless. Some duties have a lesser value after a breach, and so the non-breaching party may no longer be interested in receiving the performance that was originally promised. If a Court were to order a contract be performed, it may require the parties to continue a relationship when neither are interested in or willing to do so.

Even when it would be theoretically possible for courts to order contracting parties to carry out their contracts, this remedy is rare. A party is permitted to breach a contract. As noted in the TechSoft example above, the law of remedies often provides the parties with an incentive to break the contract in order to make a good business decision. If breached, a contract that requires performance without exception will also require a court to manage and oversee that performance to assure it is acceptable under the original terms of a contract. This calls on courts to manage relationships – an admittedly difficult task. For example, take a contract for a construction contract for a large building project. Such a contract would include detailed specifications and timelines that the contractor must adhere to in order to complete the project according to the owner’s expectations. Now imagine that there is a breach of contract and the contractor fails to meet the specified requirements or timelines. If a court orders that the contractor continue to perform, the court can potentially be required to manage and oversee the performance of the contract. As part of the court’s order, there could be regular progress reports, site visits, or other measures to ensure that the project is proceeding as planned and that the contractor is meeting their obligations under the contract. And, it is certainly possible that the non-breaching party will not be satisfied with the performance of the contractor anyway, or be concerned about the quality of the work or other aspects of the deal that caused the breach in the first place. Thus, they would need a vehicle to lodge these complaints with the court. Now, think about this for a moment. Have you ever seen a judge at a construction site checking in to make sure that a contractor is hard at work on contracting duties? There is a reason you’ve never seen this – courts are ill equipped to provide this level of supervision when ordering that contractual duties are completed as opposed to breached. Providing remedies in the form of damages instead simply makes more sense in most breach situations.

For these reasons, the common law looks more toward compensating the promisee for his or her loss than toward compelling the promisor to perform. In short, the promisor has a choice: perform under the original contract or pay a court’s award in the event of breach. In general, the fundamental purpose of contract remedies is to put the non-breaching party in the position it would have been in had there been no breach.

14.2 Promisee’s Interests Protected by Contract

Contract remedies serve to protect three different interests: an expectation interest, a reliance interest, and a restitution interest. A promisee will have at least one of these interests and may have two or all three.

An expectation interest is the benefit for which the promisee bargained; the remedy is to put him in a position as good as that which he would have been in had the contract been performed.

A reliance interest is the loss suffered by relying on the contract and taking actions consistent with the expectation that the other party will abide by it; the remedy is reimbursement that restores the promisee to his position before the contract was made.

A restitution interest is that which restores to the promisee any benefit he conferred on the promisor: the remedy is return or repayment of the benefit conferred by the promise.

Consider a scenario where a landowner repudiates an executory contract with a builder to construct a garage on her property for $100,000. The builder has not yet started the work. When the project was completed, the builder had anticipated a $10,000 profit (in other words, the garage would have cost $90,000 to build). In a lawsuit against the landowner for breach of contract, what remedies can the builder expect to recover? It is unlikely that a court would order that the garage be constructed anyway, so instead the court will look to the builder’s three possible interests. Since the builder has not yet started his work, he has given the owner nothing, and therefore has no restitution interest. Nor has he any reliance interest, since we are assuming that he has not paid out any money for supplies, hired a work crew, or advanced money to subcontractors. But he anticipated a profit, and so he has an expectation interest of $10,000.

Let’s change the scenario to include that the builder had already dug out the foundation and poured concrete, at a cost of $15,000, when the landowner repudiated the contract. His expectation interest has become $25,000 (the difference between $100,000 and $75,000, the money he will save by not having to finish the job). His reliance interest is $15,000, because this is the amount he has already spent. He may also have a restitution interest, depending on how much the foundation of the house is worth to the owner. (The value could be more or less than the sum of money actually expended to produce the foundation; for example, the builder might have had to pay his subcontractors for a greater share of the job than they had completed, and those sums therefore would not be reflected in the worth of the foundation.)

Normally, the promisee will choose which of the three interests to pursue. This is called election of remedies. Election of remedies in contract law refers to the principle that allows a party who has been wronged in a contract to choose among different available legal remedies or courses of action to address the breach. Once a party elects a particular remedy and pursues it, they generally cannot change their mind and pursue a different remedy for the same breach of contract. As is to be expected, the choice hinges on the circumstances of the case, his feelings, and the amount at stake.

14.3 Legal Remedies: Damages

Damages are a common legal remedy used to compensate the non-breaching party for the harm caused by the breach. The aim of awarding damages is to put the injured party in the position they would have been in if the contract had been performed, insofar as money can accomplish this. The promisee, also called the non-breaching party, has the right to damages (a money award) in a breach of contract action if that is required to make her whole, unless the contract itself or other circumstances suspend or discharge that right.  Six types of damages are discussed below.

Compensatory Damages

Compensatory damages are damages paid (i.e. money) to directly compensate the non-breaching party for the value of what was not done or not performed under the contract. Compensatory damages are based on the expectation interest and aim to put the non-breaching party in the position they would have been in if the contract had been performed as promised. In other words, compensatory damages are calculated to cover the actual financial loss suffered by the non-breaching party due to the breach of contract. For example, if you hired someone to paint a room in your house for $500, and that person breached the contract, your damages would be the difference between $500 and the cost of the replacement painter. If the new painter got $750, then damages would be $250. Yet, the calculation is frequently difficult, especially when the performance is a service that is not easily duplicated. If Rembrandt breached a contract to paint your portrait, the loss could not be measured simply by inquiring how much Van Gogh would charge to do the same thing. Nevertheless, in theory, whatever net value would ultimately have been conferred on the non-breaching party is the proper measure of compensatory damages.

Since the non-breaching party usually has obligations under the contract also, a breach by the other party discharges his duty to perform and may result in savings. Or he may have made substitute arrangements and realized at least a partial profit on the substitution (because the substitution cost less). Or, as in the case of the builder, he may have purchased goods intended for the job that can be used elsewhere. In all these situations, the losses avoided—savings, profits, or value of goods—are subtracted from the losses incurred to arrive at the net damages. The non-breaching party may recover his actual losses, not more. Suppose an employer breaches a contract with a prospective employee who was to begin work for a year at a salary of $35,000. The employee quickly finds other, similar work at a salary of $30,000. Aside from whatever he might have had to spend searching for the job (incidental damages), his compensatory damages are limited to $5,000, the difference between what he would have earned and what he is earning.

Lost volume can be a troublesome problem in calculating damages. This problem arises when the non-breaching party, a supplier of goods or services, enters a second contract when the buyer repudiates. The question is whether the second contract is a substituted performance or an additional one. If it is substituted, damages may be little or nothing; if additional, the entire expectation interest may be recovered. For example, an automobile dealer contracts to sell a car in inventory. Shortly before the deal is closed, the buyer calls up and repudiates the contract. The dealer then sells the car to someone else. If the dealer can show that he could have sold an identical car to the second purchaser regardless of what the first purchaser did, then the second sale stands on its own and cannot be used to offset the net profit recoverable from the first purchaser. The factual inquiry in lost volume cases is whether the non-breaching party would have engaged in the second transaction if the breach had never occurred.

Incidental Damages

In addition to compensatory damages, the non-breaching party may recover incidental damages. Incidental loss includes expenditures that the non-breaching party incurs in attempting to minimize the loss that flows from the breach. Incidental damages are the direct and immediate costs incurred as a result of a breach of contract. Examples of incidental damages may include expenses related to finding a replacement for the non-performing party, such as additional shipping costs, storage fees, or travel expenses. To arrange for substitute goods or services, the non-breaching party might have to pay a premium or special fee to locate another supplier or source of work. These premiums or fees are part of the damages calculation.

Consequential Damages

Consequential damages are damages that are not directly caused by the breach, but rather arise as a consequence of the breach. They are typically more remote and indirect than incidental damages. Consequential damages may include lost profits, lost business opportunities, and other economic losses that result from the non-performance of a contract. The key difference between incidental and consequential damages is the degree of proximity between the damage and the breach. Incidental damages are more closely connected to the breach and are therefore easier to quantify, while consequential damages are more remote and may be more difficult to calculate. These are damages incurred by the non-breaching party without action on his part because of the breach. Consequential damages are also sometimes referred to as indirect or special damages.

Consider an example of a business that contracts with a shipping company to deliver goods to its customers. The shipping company fails to deliver the goods to customers on time, and as a result, the business incurs losses. In this scenario, incidental damages might include the cost to the business of storing the goods while waiting for them to be picked up and delivered by the shipping company, or the cost of hiring another shipping company to deliver the goods instead. Consequential damages, on the other hand, might include the lost profits the company suffered as a result of the delayed delivery, or the cost of losing customers who were unhappy with the late delivery and decided to take their business elsewhere. So, incidental damages are the direct costs incurred as a result of the breach, such as storage or shipping fees, while consequential damages are the indirect losses that result from the breach, such as lost profits or lost business opportunities.

Foreseeability is an important factor in determining whether consequential damages are recoverable in a legal case. In general, a party can only recover consequential damages that were foreseeable at the time the contract was entered into. If the consequential damages were not foreseeable at the time of the contract, then they may not be recoverable. For example, if the shipping company in the example above failed to deliver goods on time and, as a result, the business lost a major client, the lost profits from that client might be recoverable if it was foreseeable that the late delivery could lead to the business suffering the loss of the client. On the other hand, if the loss of the major client was not foreseeable at the time of the contract, then the damages associated with this loss would not be recovered as consequential damages. In sum, if the damages were foreseeable, then they may be recoverable, but if they were not foreseeable, then they may not be recoverable.

Nominal Damages

Nominal damages are symbolic in nature and are awarded when a contract has been technically breached, but no actual loss has been suffered by the non-breaching party. These damages are typically a small amount, such as $1, and serve as recognition that a breach occurred even though it did not result in significant harm. In a case where there has been a breach of contract, courts can award nominal damages when the losses associated with the damages are trivial or when losses associated with the damages are speculative and cannot be proven.

In the shipping contract situation above, if the delay in the delivery of the shipped goods did not result in any quantifiable loss to the business, a court may award nominal damages. This would be a very small symbolic amount that would reflect that the business was wronged by the shipping company’s breach of their contract. Nominal damages might also be awarded if the business is unable to provide evidence of the exact amount of damages it suffered as a result of the delayed delivery of the goods by the shipping company. The court may find that the damages suffered by the company are speculative and therefore uncertain. Damages are speculative when it is difficult to quantify the exact financial harm suffered by the non-breaching party, or when it is unclear whether the damages claimed can be directly attributed to the breach of contract. So, the court might award nominal damages to reflect that the business was wronged but could not prove precisely how it incurred damages.

Liquidated Damages

Liquidated damages refer to a predetermined amount of money that a party agrees to pay in the event of a breach of contract. This amount is typically agreed upon and specified in the contract at the time the contract is formed. Liquidated damages are often used in contracts where it may be difficult to calculate the actual damages that would result from a breach of contract. Liquidated damages may also be used in situations where it makes more sense to designate an amount of damages in advance of a breach, as a way to minimize disputes over damages and potential litigation between contracting parties. It’s important to note that the liquidated damages clause must be reasonable and proportional to the harm that may result from a breach, or it may be deemed unenforceable by a court. Liquidated damages cannot be used to punish a party for breaching by requiring the payment of damages far in excess of what the law would otherwise allow. In our shipping company example, the contract could specify that the shipping company must pay the business $100 for every day beyond the agreed-upon delivery date that the goods remain undelivered. That means if the goods are delivered three days late, the shipping company would have to pay the company $300 in liquidated damages. If you have a cell phone contract, you likely have a liquidated damages clause in that contract, which you might be calling an ‘early termination fee.’ Courts will enforce a liquidated damages provision as long as the actual amount of damages is difficult to ascertain and the sum is reasonable in light of the expected or actual harm. If the liquidated sum is unreasonably large, the excess is termed a penalty and is said to be against public policy and unenforceable.

Punitive Damages

Punitive damages are those awarded for the purpose of punishing a defendant in a civil action. These damages are meant to punish the breaching party for their behavior rather than to compensate the injured party. They are proper in cases in which the defendant has acted willfully and maliciously and are thought to deter others from acting similarly. Punitive damages are more common in cases of intentional torts (civil wrongs) rather than breach of contract. Since the purpose of contract law is compensation, not punishment, punitive damages have not traditionally been awarded, with one exception—when the breach of contract is also a tort for which punitive damages may be recovered. Punitive damages typically awarded in tort claims when the tortfeasor’s behavior is malicious or willful (reckless conduct causing physical harm, deliberate defamation of one’s character, a knowingly unlawful taking of someone’s property), and some kinds of contract breach are also tortious. For example, when a creditor holding collateral as security under a contract for a loan sells the collateral to a good-faith purchaser for value even though the debtor was not in default, he has breached the contract and committed the tort of conversion; punitive damages may be awarded, assuming the behavior was willful and not merely mistaken. But in the shipping company example that we’ve used throughout this section, punitive damages would not be available absent some indication of willfully tortious conduct on the part of the shipping company.

Punitive damages are not fixed by law. The judge or jury may award at its discretion whatever sum is believed necessary to redress the wrong or deter like conduct in the future. This means that a richer person may be slapped with much heavier punitive damages than a poorer one in the appropriate case. But the judge in all cases may remit (reduce) some or all of a punitive damage award if he or she considers it excessive.

14.4 Equitable Remedies

When legal remedies are inadequate to make the non-breaching party whole, or a breach of contract involves unique circumstances that make monetary compensation insufficient, equitable remedies may be available. Equitable remedies are non-monetary remedies that are designed to put the non-breaching party in the position they would have been in if the contract had been performed as promised. Equitable remedies include specific performance, injunctions, and restitution. Specific performance requires the breaching party to fulfill their contractual obligations, while injunctions prevent the breaching party from taking certain actions. Restitution is a remedy that allows the parties to return to the consideration the non-breaching party gave so as to return the parties to the precontract status. Each of these types of equitable remedies are discussed below.

Three types of Equitable Remedies

Specific Performance

Specific performance is an equitable remedy that is available in limited situations when one party to a contract fails to perform their obligations under the contract. It is a court-ordered remedy that requires the breaching party to fulfill their contractual obligations as promised. In other words, specific performance is a remedy that compels the breaching party to do what they promised to do in the contract. For example, Emily signs a contract to sell Charlotte a gold samovar, a Russian antique of great sentimental value because it once belonged to Charlotte’s mother. Emily then repudiates the contract and refuses to transfer gold samovar. In a lawsuit, a court may properly grant Charlotte an order of specific performance against Emily, which means that Charlotte will get the gold samovar instead of legal damages. Specific performance essentially gives the non-breaching party the benefit of their bargain, by requiring the breaching party to fulfill their obligations under the contract.

Specific performance is a very limited remedy: it is only available for breach of contract to sell a unique item, that is, a unique item of personal property (the samovar), or a parcel of real estate (all real estate is unique). But if the item is not unique, so that the non-breaching party can go out and buy another one, then the legal remedy of money damages will solve the problem. Specific performance is not available as a remedy to force a person to perform a service, as this would be involuntary servitude. Courts will generally only order specific performance if the non-breaching party can show that monetary damages are inadequate and that specific performance is necessary to avoid an unjust result.

Injunction

An injunction is the second type of equitable remedy available in contract (it is also available in tort). It is a court order directing a person to stop doing that which she should not do. In the context of contract law, injunctions are often used as an equitable remedy to prevent a breach of contract. For example, if an employer has a valid noncompete contract with an employee, and the employee, in breach of that contract, nevertheless undertakes to compete with his former employer, a court may enjoin (issue an order of injunction), directing the former employee to stop such competition. Or if Seller promises to give Buyer the right of first refusal on a parcel of real estate or a unique work of art, but Seller, in breach of a written promise, offers the thing to a third party, a court may enjoin Seller from selling it to the third party. Injunctions are often used when monetary damages would not be an adequate remedy for a breach of contract. This may be because the harm caused by the breach is ongoing, or because the harm is difficult to quantify in monetary terms. Injunctions can be particularly useful in cases where the harm caused by a breach of contract is irreparable, meaning that it cannot be undone through monetary compensation alone.

It is important to note that injunctions are a discretionary remedy, meaning that a court may choose to grant or deny an injunction based on the particular circumstances of the case. Additionally, injunctions can be temporary or permanent, depending on the circumstances of the case. If a person violates an injunction, which is a court order, he may be held in contempt of court and even wind up in jail.  

Restitution

The third type of equitable remedy is restitution. Restitution is a remedy applicable to several different types of cases: those in which the contract was avoided because of incapacity or misrepresentation, those in which the other party breached, and those in which the party seeking restitution breached. As the word implies, restitution is a restoring to one party of what he gave to the other. Therefore, only to the extent that the injured party conferred a benefit on the other party may the injured party be awarded restitution. The point is, a person who breaches a contract should not suffer a punishment, and the non-breaching party should not be unjustly enriched.

Total Nonperformance by Breaching Party

The non-breaching party is always entitled to restitution in the event of total breach by nonperformance or repudiation, unless both parties have performed all duties except for payment by the other party of a definite sum of money for the injured party’s performance.  For example, Calhoun, a contractor, agrees to build $3,000 worth of fences for only $2,000 and completes the construction. Arlene, the landowner, refuses to pay. Calhoun’s only right is to get the $2,000; he does not have a restitution right to $2,500, the market price of his services (or $3,000, the amount by which her property increased in value); he is entitled, instead, only to $2,000, his contract price. Had Arlene repudiated prior to completion, however, Calhoun would then have been entitled to restitution based either on the market price of the work or on the amount by which he enhanced her property. If the one-party breaches, the non-breaching party is generally entitled to restitution of property that can be returned. Suppose Arlene gives Calhoun a valuable Ming vase in return for his promise to construct the fences. Upon Calhoun’s breach, Arlene is entitled to specific restitution of the vase.

Measuring restitution interest can be problematic. The courts have considerable discretion to award either what it would have cost to hire someone else to do the work that the non-breaching party performed (generally, the market price of the service) or the value that was added to the property of the party in breach by virtue of the claimant’s performance. Calhoun, the contractor, agrees to construct ten fences around Arlene’s acreage at the market price of $25,000. After erecting three, Calhoun has performed services that would cost $7,500, market value. Assume that he has increased the value of Arlene’s grounds by $8,000. If Arlene repudiated, there are two measures of Calhoun’s restitution interest: $8,000, the value by which the property was enhanced, or $7,500, the amount it would have cost Arlene to hire someone else to do the work. Which measure to use depends on who repudiated the contract and for what reason. In some cases, the enhancement of property or wealth measurement could lead to an award vastly exceeding the market price for the service. In such cases, the smaller measure is used. For a doctor performing lifesaving operations on a patient, restitution would recover only the market value of the doctor’s services—not the monetary value of the patient’s life.

Part Performance and Then Breach

A party who has substantially performed and then breached is entitled to restitution of a benefit conferred on the injured party, if the injured party has refused (even though justifiably) to complete his own performance owing to the other’s breach. Since the party in breach is liable to the injured party for damages for loss, this rule comes into play only when the benefit conferred is greater than the amount the non-breaching party has lost. Arlene agrees to sell her property to Calhoun for $120,000, and Calhoun makes a partial payment of $30,000. He then repudiates. Arlene turns around and sells the property to a third party for $110,000. Calhoun—the breaching party—can get his money back, less the damages Arlene suffered as a result of his breach. He gets $30,000 minus the $10,000 loss Arlene incurred. He gets $20,000 in restitution. Otherwise Arlene would be enriched by Calhoun’s breach: she’d get $140,000 in total for real estate worth $120,000. But if he gets $20,000 of his $30,000 back, she receives $110,000 from the third party and $10,000 from Calhoun, so she gets $120,000 total (plus, we hope, incidental damages, at least).

Restitution in Other Cases

Upon repudiation of an oral contract governed by the Statute of Frauds, the non-breaching party is not entitled to her expectation interest, but she may recover in restitution unless the purpose of the statute would be frustrated. When one party avoids a contract owing to lack of capacity, mistake, misrepresentation, duress, or the like, she is entitled to restitution for benefit conferred on the other party. Restitution is also available if a contract duty is discharged or never arises because (1) performance was impracticable, (2) the purpose of the contract was frustrated, (3) a condition did not occur, or (4) a beneficiary disclaimed his benefit.

14.5 Limitations on Contract Remedies

We have observed that the purpose of remedies in contract law is, where possible, to put the non-breaching party in as good a position as he would have been in had there been no breach. There are, however, several limitations or restrictions affecting when a person can claim remedies, in both law (damages) and equity. Of course the contract itself may—if not unconscionable—limit remedies. Beyond that, the non-breaching party must be able to articulate with some degree of certainty what her damages are; the damages must be foreseeable; the non-breaching party must have made a reasonable effort to mitigate the damages; she must sometime elect to go with one remedy and forgo another; she cannot seek to avoid a contract if she has lost the power to do so. We turn to these points.

Foreseeability

If the damages that flow from a breach of contract lack foreseeability, they will not be recoverable. Failures to act, like acts themselves, have consequences. As the old fable has it, “For want of a nail, the kingdom was lost.” To put a non-breaching party in the position he would have been in had the contract been carried out could mean, in some cases, providing compensation for a long chain of events. In many cases, that would be unjust, because a person who does not anticipate a particular event when making a contract will not normally take steps to protect himself (either through limiting language in the contract or through insurance). The law is not so rigid; a loss is not compensable to the non-breaching party unless the breaching party, at the time the contract was made, understood the loss was foreseeable as a probable result of his breach.

Of course, the loss of the contractual benefit in the event of breach is always foreseeable. A company that signs an employment contract with a prospective employee knows full well that if it breaches, the employee will have a legitimate claim to lost salary. But it likely would have no reason to know that the employee’s holding the job for a certain length of time was a condition of his grandfather’s gift of $1 million.

The leading case, perhaps the most studied case, in all the common law is Hadley v. Baxendale, decided in England in 1854. Joseph and Jonah Hadley were proprietors of a flour mill in Gloucester. In May 1853, the shaft of the milling engine broke, stopping all milling. An employee went to Pickford and Company, a common carrier, and asked that the shaft be sent as quickly as possible to a Greenwich foundry that would use the shaft as a model to construct a new one. The carrier’s agent promised delivery within two days. But through an error, the shaft was shipped by canal rather than by rail and did not arrive in Greenwich for seven days. The Hadleys’ sued Joseph Baxendale, managing director of Pickford, for the profits they lost because of the delay. In ordering a new trial, the Court of Exchequer ruled that Baxendale was not liable because he had had no notice that the mill was stopped:

Where two parties have made a contract which one of them has broken, the damages which the other party ought to receive in respect of such breach of contract should be such as may fairly and reasonably be considered either arising naturally, i.e., according to the usual course of things, from such breach of contract itself, or such as may reasonably be supposed to have been in the contemplation of both parties, at the time they made the contract, as the probable result of the breach of it. 

Thus, when the party in breach did not know and has no reason to know that the contract entailed a special risk of loss, the burden must fall on the non-breaching party. As we have seen, damages attributable to losses that flow from events that do not occur in the ordinary course of events are known as consequential or special damages. The exact amount of a loss need not be foreseeable; it is the nature of the event that distinguishes between claims for ordinary or consequential damages. A repair shop agrees to fix a machine that it knows is intended to be resold. Because it delays, the sale is lost. The repair shop, knowing why timeliness of performance was important, is liable for the lost profit, as long as it was reasonable. It would not be liable for an extraordinary profit that the seller could have made because of circumstances peculiar to the particular sale unless they were disclosed.

The special circumstances need not be recited in the contract. It is enough for the party in breach to have actual knowledge of the loss that would occur through his breach. Moreover, the parol evidence rule does not bar introduction of evidence bearing on the party’s knowledge before the contract was signed. So the lesson to a promisee is that the reason for the terms he bargains for should be explained to the promisor—although too much explanation could kill a contract. A messenger who is paid five dollars to deliver a letter across town is not likely to undertake the mission if he is told in advance that his failure for any reason to deliver the letter will cost the sender $1 million, liability to be placed on the messenger.

Actual knowledge is not the only criterion, because the standard of foreseeability is objective, not subjective. That means that if the party had reason to know—if a reasonable person would have understood—that a particular loss was probable should he breach, then he is liable for damages. What one has reason to know obviously depends on the circumstances of the case, the parties’ prior dealings, and industry custom. A supplier selling to a middleman should know that the commodity will be resold and that delay or default may reduce profits, whereas delay in sale to an end user might not. If it was foreseeable that the breach might cause the non-breaching party to be sued, the other party is liable for legal fees and a resulting judgment or the cost of a settlement.

Even though the breaching party may have knowledge, the courts will not always award full consequential damages. In the interests of fairness, they may impose limitations if such an award would be manifestly unfair. Such cases usually crop up when the parties have dealt informally and there is a considerable disproportion between the loss caused and the benefit the non-breaching party had agreed to confer on the party who breached. The messenger may know that a huge sum of money rides on his prompt delivery of a letter across town, but unless he explicitly contracted to bear liability for failure to deliver, it is unlikely that the courts would force him to ante up $1 million when his fee for the service was only five dollars.

Mitigation of Damages

Contract law encourages the non-breaching party to avoid loss wherever possible; this is called mitigation of damages. The concept is a limitation on damages in law. So there can be no recovery if the non-breaching party had an opportunity to avoid or limit losses and failed to take advantage of it. Such an opportunity exists as long as it does not impose, in the Restatement’s words, an “undue risk, burden or humiliation.”  The effort to mitigate need not be successful. As long as the non-breaching party makes a reasonable, good-faith attempt to mitigate his losses, damages are recoverable.

Mitigation crops up in many circumstances. Thus, a non-breaching party who continues to perform after notice that the promisor has breached or will breach may not recover for expenses incurred in continuing to perform. And losses from the use of defective goods delivered in breach of contract are not compensable if the non-breaching party knew before use that they were defective. Often the non-breaching party can make substitute arrangements—find a new job or a new employee, buy substitute goods or sell them to another buyer—and his failure to do so will limit the amount of damages he will recover from the party who breaches. Under the general rule, failure to mitigate when possible permits the promisor to deduct from damages the amount of the loss that the non-breaching party could have avoided. When there is a readily ascertainable market price for goods, damages are equal to the difference between the contract price and the market price.

A substitute transaction is not just any possible arrangement; it must be suitable under the circumstances. Factors to be considered include the similarity, time and place of performance, and whether the difference between the contracted-for and substitute performances can be measured and compensated. A prospective employee who cannot find substitute work within her field need not mitigate by taking a job in a wholly different one. An advertising salesperson whose employment is repudiated need not mitigate by taking a job as a taxi driver. When the only difference between the original and the substitute performances is price, the non-breaching party must mitigate, even if the substitute performer is the original promisor.

The non-breaching party must mitigate in a timely fashion, but each case is different. If it is clear that the promisor has unconditionally repudiated before performance is due, the non-breaching party must begin to mitigate as soon as practicable and should not wait until the day performance is due to look for an alternative.

As long as the non-breaching party makes a reasonable effort to mitigate, the success of that effort is not an issue in assessing damages. If a film producer’s original cameraman breaches the contract, and if the producer had diligently searched for a substitute cameraman, who costs $150 extra per week and it later came to light that the producer could have hired a cameraman for $100, the company is entitled nevertheless to damages based on the higher figure.

Certainty of Damages

A party can recover only that amount of damages in law which can be proved with reasonable certainty. Some damages are more difficult to prove than others – such as lost profits and loss of goodwill. For example, Alf is convinced that next spring the American public will be receptive to polka-dotted belts with his name monogrammed in front. He arranges for a garment factory to produce 300,000 such belts, but the factory, which takes a large deposit from him in advance, misplaces the order and does not produce the belts in time for the selling season. When Alf discovers the failure, he cannot raise more money to go elsewhere, and his project fails. He cannot recover damages for lost profits because that number is entirely speculative; no one can prove how much he would have made, if anything, because no one would be able to say how much he would have sold without a track record. He can, instead, seek restitution of the monies advanced. If he had rented a warehouse to store the belts, he would also be able to recover his reliance interest.

Proof of lost profits is not always difficult: a seller can generally demonstrate the profit he would have made on the sale to the buyer who has breached. It becomes more difficult, as Alf’s case demonstrates, when the seller has breached the contract. A buyer who contracts for but does not receive raw materials, supplies, and inventory cannot show definitively how much he would have netted from the use he planned to make of them. But he is permitted to prove how much money he has made in the past under similar circumstances, and he may proffer financial and market data, surveys, and expert testimony to support his claim. When proof of profits is difficult or impossible, the courts may grant a nonmonetary award, such as specific performance.

Loss of Power of Avoidance

You will recall that there are several circumstances under which a person may avoid a contract: duress, undue influence, misrepresentation (fraudulent, negligent, or innocent), or mistake. But a party may lose the right to avoid, and thus the right to any remedy, in several other ways, as well.

Delay

If a party is the victim of fraud, she must act promptly to rescind at common law, or she will lose that right and her remedy will be limited to damages in tort.

Affirmation

An infant who waits too long to disaffirm (again, delay) will have ratified the contract, as will one who—notwithstanding being the victim of duress, undue influence, mistake, or any other grounds for avoidance—continues to operate under the contract with full knowledge of his right to avoid. Of course the disability that gave rise to the power of avoidance must have passed before affirmation works.

Rights of Third Parties

The intervening rights of third parties may terminate the power to avoid. For example, Michelle, a minor, sells her watch to Betty Buyer. Up to and within a reasonable time after reaching majority, Michelle could avoid—disaffirm—the contract. But if, before that time, Betty sells the watch to a third party, Michelle cannot get it back from the third party. Similarly, Salvador Seller sells his car to Bill Buyer, who pays for it with a bad check. If the check bounces, Salvador can rescind the deal—Bill’s consideration (the money represented by the check) has failed: Salvador could return the check and get his car back. But if, before the check from Bill bounces, Bill in turn sells the car to Pat Purchaser, Salvador cannot avoid the contract. Pat gets to keep the car. There are, however, some exceptions to this rule.

Agreement of the Parties Limiting Remedies

Certainly it is the general rule that parties are free to enter into any kind of a contract they want, so long as it is not illegal or unconscionable. The inclusion into the contract of a liquidated damages clause—mentioned previously—is one means by which the parties may make an agreement affecting damages. But beyond that it is very common for one side to limit its liability, or for one side to agree that it will pursue only limited remedies against the other in case of breach. Such agreed-to limitations on the availability of remedies are generally acceptable provided they are conspicuous, bargained-for, and not unconscionable. In consumer transactions, courts are more likely to find a contracted-for limitation of remedies unconscionable than in commercial transactions, and under the Uniform Commercial Code (UCC) there are further restrictions on contractual remedy limitations.

For example, Juan buys ten bags of concrete to make a counter and stand for his expensive new barbecue. The bags have this wording in big print: “Attention. Our sole liability in case this product is defective will be to provide you with a like quantity of nondefective material. We will not be liable for any other damages, direct or indirect, express or implied.” Such a limitation on liability is acceptable. If the concrete is defective, the concrete top breaks, and Juan’s new barbecue is damaged, he will get nothing but some new bags of good concrete. He could have shopped around to find somebody who would deliver concrete with no limitation on liability. As it is, his remedies are limited by the agreement he entered into.

Election of Remedies

At Common Law

Another limitation on remedies—at common law—is the concept of election of remedies. The nature of a loss resulting from a contract breach may be such as to entitle one party to a choice among two or more means to redress the grievance, where the choices are mutually exclusive.

At classic common law, a person who was defrauded had an election of remedies: she could, immediately upon discovering the fraud, rescind, or she could retain the item (real estate or personal property) and attempt to remedy the fraudulently defective performance by suing for damages, but not both. Buyer purchases real estate from Seller for $300,000 and shortly discovers that Seller fraudulently misrepresented the availability of water. Buyer spends $60,000 trying to drill wells. Finally he gives up and sues Seller for fraud, seeking $360,000. Traditionally at common law, he would not get it. He should have rescinded upon discovery of the fraud. Now he can only get $60,000 in damages in tort.  The purpose of the election of remedies doctrine is to prevent the victim of fraud from getting a double recovery, but it has come under increasing criticism. Here is one court’s observation: “A host of commentators support elimination of the election of remedies doctrine. A common theme is that the doctrine substitutes labels and formalism for inquiry into whether double recovery results in fact. The rigid doctrine goes to the other extreme, actually resulting in the under compensation of fraud victims and the protection of undeserving wrongdoers.”   

Some states have eliminated the requirement that an aggrieved party make an election of contract remedies, allowing a party to an action to pursue multiple remedies for breach.

Under the UCC

The doctrine of election of remedy has been rejected by the UCC, which means that the remedies are cumulative in nature. According to Section 2-703(1): “Whether the pursuit of one remedy bars another depends entirely on the facts of the individual case.” UCC, Section 2-721, provides that neither demand for rescission of the contract in the case of misrepresentation or fraud, nor the return or rejection of goods, bars a claim for damages or any other remedy permitted under the UCC for nonfraudulent breach.

Tort versus Contract

Frequently a contract breach may also amount to tortious conduct. A physician warrants her treatment as perfectly safe but performs the operation negligently, scarring the patient for life. The patient could sue for malpractice (tort) or for breach of warranty (contract). The choice involves at least four considerations:

• Statute of limitations. Most statutes of limitations prescribe longer periods for contract than for tort actions.
• Allowable damages. Punitive damages are more often permitted in tort actions, and certain kinds of injuries are compensable in tort but not in contract suits—for example, pain and suffering.
• Expert testimony. In most cases, the use of experts would be the same in either tort or contract suits, but in certain contract cases, the expert witness could be dispensed with as, for example, in a contract case charging that the physician abandoned the patient.
• Insurance coverage. Most policies do not cover intentional torts, so a contract theory that avoids the element of willfulness would provide the plaintiff with a surer chance of recovering monetary damages.

Legal versus Extralegal Remedies

A party entitled to a legal remedy is not required to pursue it. Lawsuits are disruptive not merely to the individuals involved in the dispute but also to the ongoing relationships that may have formed around the parties, especially if they are corporations or other business enterprises. Buyers must usually continue to rely on their suppliers, and sellers on their buyers. Not surprisingly, therefore, many businesspeople refuse to file suits even though they could, preferring to settle their disputes privately or even to ignore claims that they might easily press. Indeed, the decision whether or not to sue is not one for the lawyer but for the client, who must analyze a number of pros and cons, many of them not legal ones at all.

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References

Canal, E. (2022, October 12). We fact-checked seven seasons of Shark Tank Deals. here are the results. Forbes. https://www.forbes.com/sites/emilycanal/2016/10/21/about-72-of-deals-that-happen-on-shark-tank-dont-turn-out-as-seen-on-tv/?sh=4cab7f334ed1

Hadley v. Baxendale (1854), 9 Ex. 341, 354, 156 Eng.Rep. 145, 151.

Head & Seemann, Inc. v. Gregg, 311 N.W.2d 667 (Wis. App. 1981).

Merritt v. Craig, 746 A.2d 923 (Md. 2000).

Restatement (Second) of Contracts, Section 350.

Restatement (Second) of Contracts, Section 373.