Substituted Remedies Clauses

1. Substituted Remedies Clauses • Substituted Remedies clauses are enforceable as the exclusive remedy for breach of contract when: • The parties expressly agree that the substituted remedy is exclusive • UCC 2-719(1)(b) • The substituted remedies clause does not fail of its essential purpose • UCC 2-719(2) • Substituted remedies clause fails in Kearney & Trecker: • Because K&T didn’t repair/replace and refused to refund $

2. Buyer’s Remedies When Substituted Remedies Clauses “Fail of Their Essential Purpose” • Does the “failure of essential purpose” standard really protect non-breaching parties? What if both parties to a contract agree to a clause that states: “Buyer agrees to assume the sole risk of loss due to failure of the machine except that Seller will try to repair in good faith.”? • Isn’t that clause fail proof? Is there any way plaintiff can get around such a problem? • What remedies are available to P if the substituted remedies clause is found to be unenforceable?

3. Limitations on Consequential Damages • There was also a limitation on consequential damages in K&T as well. UCC 2-719(3) allows contracting parties to limit consequential damages. • Clauses limiting consequential damages will be upheld as long as they are not “unconscionable” • Unconscionable= whether under circumstances existing at the time K formed in light of the general commercial background and commercial needs of a particular case, the clause is so one-sided as to be oppressive. • Unconscionability is a difficult standard to meet so clauses like this are not often struck down. • Every case depends on the circumstances and evidencepertaining to the general commercial practices, needs of a particular case and the operation of the clause against P. You really need to pay attention to the circumstances at the time of contract in such cases.

4. What happens when contract contains both clauses and substituted remedies clause fails? (actual issue in Kearney & Tracker) • There are two major approaches by the courts: • Majority approach (maybe only just barely) – If the substituted remedies clause fails, the clause limiting consequential damages still stands (unless it fails on its own as unconscionable). • Why this approach? • Minority approach – Both clauses (substituted remedies & clause limiting consequential damages) fail and are unenforceable – B can go after all available remedies under the UCC. • Why this approach?

5. Liquidated Damages • Defined: clauses where parties agree that breaching party will pay a sum certain in damages if one party breaches • Purposes: • To allow risk allocation in situations where damages are often difficult to measure. • Avoid lengthy litigation regarding damages. • To compensate plaintiff (roughly) for losses. • Due to the fixed nature of liquidated damage awards, questions arise as to whether liquidated damages clauses operate as a penalty. • Courts will NOT enforce them if the clauses are operate as a penalty.

6. Liquidated Damages & Penalty Analysis • Most common standard applied by courts (In re TWA): • Liquidated damages provision will be sustained if the amount “bears a reasonable proportion to the probable loss and the amount of actual loss is incapable or difficult of precise estimation.” (judged at time of contract) • What does this standard mean? • Applied as a sliding scale – The harder it is to estimate actual damages at time of contract, the less carefully one must prove liquidated damages & anticipated damages actually approximate one another. The easier it is to estimate actual damages at time of contract, the more closely courts will scrutinize the approximation between liquidated and anticipated damages • Missouri courts apply a standard nearly identical to TWA standard • “Are damages a reasonable forecast of just compensation in event of breach and are actual damages difficult to accurately estimate at time of contract”

7. More on standards re liquidated damages • Restatement (Second) Contracts §356 & UCC 2-718 – worded slightly differently from TWA/Missouri common law standards • Both allow liquidated damages if LD provision reasonably approximates anticipated damages OR actual damages • It is common for courts to interpret Restatement & UCC in light of the prevailing common law approach. So even though the test’s look sort of different they are often applied as the TWA court applied its standard

8. Why was Sec. 17 of the contract in In re TWA a penalty? • TWA standard: Liquidated damages provision will be sustained if the amount “bears a reasonable proportion to the probable loss and the amount of actual loss is incapable or difficult of precise estimation.” • What did the L.D. clause provide? • What were Interface’s anticipated damages?

9. Applying the Rules of Liquidated Damages • A, who had 15 years experience in the jewelry business working with others, decided to open his own company. He acquired some land in a commercial business area and contracted with B’s Engineering Co. to construct a building for his store. A wanted the building completed by 9/1 in order to take advantage of the historically strong jewelry sales that occur in the last quarter of the calendar year. Accordingly, the parties agreed that B would pay $200/day for every day past 9/1 that the building was not completed. This amount represented a rough estimate of A’s daily lost profits while the store wasn’t open. • B was two weeks late finishing the construction of the building. A wants to enforce the clause. Can A– i.e., is it a valid clause? • Assume the liquidated damages clause called for the amount (initially $200) to double each day that the work was not finished. B was two weeks late finishing the construction of the building. A wants to enforce the clause. Can A?

10. A few twists on the rules – cont’d: Assume the clause called for $200/day liquidated damages (a reasonable estimate of potential losses at the time of contract). B finished the building two weeks late. But A took and filled sale orders over the Internet; he worked during those weeks anyway. Thus, there is strong evidence that A’s actual damages were $0. A wants to enforce the clause. Can he under the most common approach to assessing such clauses? Depends. Some courts would enforce the clause if it was a reasonable estimate of damages when the contract was entered and actual damages were hard to estimate. BUT: “Second look courts”:Some jurisdictions require P’s actual and anticipated damages to be roughly proportionate – when actual damages are much lower than anticipated/liquidated they won’t enforce the clause “Actual loss” requirement: Some courts require actual economic harm before a party can invoke a liquidated damages clause. • Here A has no harm. Even $100 in total damages would allow him to invoke the clause.

11. No. Illinois Gas – a twist on Liquidated Damages • What are P’s actual versus liquidated damages? • Under UCC 2-718, how would P avoid enforcement of this under-compensatory liquidated damages clause? • So how does P argue that the liquidated damages clause should not be enforced? • How does the court respond to P’s argument? • Is the court’s bright line distinction between clauses covered by 2-718 and 2-719 sensible?

12. Situations like N.I. Gas often turn on whether the LD clause is exclusive - How do courts handle? If clause is expressly “exclusive:” Courts will enforce it as the exclusive remedy. If clause is expressly “non-exclusive:” Courts usually treat the liquidated damages as an optional remedy and allow P to pursue actual damages. If clause is silent as to exclusivity: Courts are split. • Some will enforce it as the exclusive remedy • Others will allow P to pursue actual damages instead