Varying Contract Terms: Liquidated Damages and Unenforceable Penalties

Varying Contract Terms: Liquidated Damages and Unenforceable Penalties

It’s common for parties to commercial contracts to seek to vary the contract terms.  However, the application of liquidated damages clauses can pose a problem in the event of future disputes.  The commercial litigation lawyers at Bahamas firm ParrisWhittaker are experienced in advising clients on their contractual terms and responsibilities, and the implications of potential disputes.

Liquidated damages clauses: how effective?

A ruling of the High Court in the UK(1) addressed the important question of, where a contract is amended, at what date and in what circumstances will a liquidated damages clause be an ‘unenforceable penalty’? 

The facts of the case are complex but, essentially, Leighton Offshore entered into a memorandum of agreement (MOA) with Unaoil.  Unaoil argued that under the MOA, Leighton had appointed it as sub-contractor for onshore works (part of the installation of an oil pipeline in Iraq).  The MOA was subsequently amended, reducing the price but not amending the liquidated damages clause.  Later, Leighton entered into the main contract for the installation project.  However, no formal sub-contract was entered into with Unaoil.  Unaoil issued invoices to Leighton for advance payments it said were due under the MOA.  Leighton failed to pay the invoices and sub-contracted the onshore works to a third party. 

Unaoil successfully sued on the debt but the liquidated damages claim failed.  A key issue for the court was - where a contract has been amended, when is the appropriate date for determining whether a liquidated damages clause is a genuine pre-estimate of loss, or an unenforceable penalty?  

Genuine pre-estimate of loss?

The court found that the figure claimed (US $40m) was a genuine pre-estimate of loss at the date that the contract was originally entered into.  However, the amendment of the contract price was relevant to whether the liquidated damages clause was a penalty.  The assessment should therefore take place on that date in light of the amendments.  Even Unaoil’s own evidence accepted that the sum could not be a genuine pre-estimate of loss in light of the new contract price. 

The court held that where a contract had been amended in a relevant respect, the appropriate date was the date of amendment; and the liquidated damages clause in this case was an unenforceable penalty.  The amended contract was effectively a new bargain between the parties.

The ruling reinforces the well-established legal principle that the genuine pre-estimate of loss concept remains at the heart of the issue. 

How can we help?

If you are considering negotiating amendments to an existing commercial contract, it is imperative to take expert legal advice first. We will advise you on how any proposed amendment may impact on existing clauses, including liquidated damages clauses – particularly if the proposed amendment relates to the price.   Contact the expert commercial litigation lawyers at ParrisWhittaker now for specialist advice.

1 Unaoil Ltd v Leighton Offshore Offshore PTE Ltd [2014] EWHC 2965 (Comm)