Charterparties and Agreed Damages Clauses under English Law and the PECL

PROF D. RHIDIAN THOMAS

Copyright Rhidian Thomas, 2014 All rights reserved

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Agreed Damages Clauses

• Agreed damages/liquidated damages• Familiar feature of mature legal systems• Consistent with ‘freedom of contract’• Facilitate certainty and avoidance of disputes• Also – usually- some mechanism to protect

against abuse

Agreed Damages Clauses in Charterparties

• Voyage charterparties – laytime/demurrage• International sales – laytime/demurrage

clauses• Charterparties more widely – agreement of

the parties• Standard forms – save for V/C not included• Other maritime contracts

PECL - Art 9:509 (ex. art 4.508) – AGREED PAYMENT FOR NON-PERFORMANCE

• Where the contract provides that a party who fails to perform is to pay a specified sum to the aggrieved party for such non-performance, the aggrieved party shall be awarded that sum irrespective of its actual loss.

• However, despite any agreement to the contrary the sum may be reduced to a reasonable amount where it is grossly excessive in relation to the loss resulting from the non-performance and other circumstances.

Art 1:102 Freedom of Contract - Good Faith

English law – liquidated damages

• Valid – if genuine attempt at a pre-estimate/approximation of the damages likely to be suffered in the event of breach

• Not valid if ‘penalty’ - object to deter party from breaching contract – in terrorem

• Test – question of construction –intention of parties• Test applied at the time the contract entered into –

not at time of the breach – interesting implications• Penalty – clause invalid – damages independently

assessed

Genuine attempt at a pre-estimate/approximation of the damages

likely to be suffered

• Test of intention - objective exercise• Evidence which may be examined• Need not be an equivalence between agreed

sum and actual loss• If the agreed sum is extravagant and

unconscionable in amount compared with the greatest conceivable loss - PENALTY

English law – Modern Approach• Operates within framework described• Leaning towards freedom of contract – commercial

relations – parties possessing comparable bargaining power

• Test raises a broad and general question –look at all the evidence and the commercial context

• Fact of disparity (significant) between stipulated and likely damages- not conclusive, only some evidence

• Crucial question – is the disparity “commercially justifiable” – may sanction wide margins

Approach in PECL – Art 9:509

PAYMENT FOR NON-PERFORMANCE•Where the contract provides that a party who fails to perform is to pay a specified sum to the aggrieved party for such non-performance, the aggrieved party shall be awarded that sum irrespective of its actual loss.•However, despite any agreement to the contrary the sum may be reduced to a reasonable amount where it is grossly excessive in relation to the loss resulting from the non-performance and other circumstances.

Art 1:102 Freedom of Contract – Good faith

Approach in PECL – Art 9:509 - Observations

• Clause 1- commitment to freedom of contract and acceptance of possibility of disparity

• Clause 2 – mandatory rule - right to intervene – if agreed sum grossly excessive – reduce to reasonable sum

• Grossly excessive – relative to actual loss and other circumstances

• Regulation - the sum agreed may be reduced to a reasonable sum.

Comparison – English law and PECL

• Each commits to freedom of contract subject to protection against abuse.

• Each accepts that validity is not dependent on equivalence between agreed damages and actual loss

• Regulate differently: PECL regulates the sum agreed; E/L the agreement itself – rendered invalid and damages assessed as if the clause had never existed .

Comparison – English law and PECL

• Different basis of regulation: PECL – “grossly excessive”; E/L – “grossly excessive and absence of commercial justification”.

• PECL does not embody a concept similar to that of a ‘penalty’ as understood in English law.

Two issues of interest

• What if the agreement – (a) did not provide for the payment of damages, but e.g. the forfeit of a right to payment or the transfer of property at an under-valuation?(b) provided for the payment of damages in a sum which was less (or substantially less) than the actual loss suffered?

Final comment

• Demurrage clauses in voyage charterparties –agreed damages agreements.

• Valid under E/L and PECL subject to regulatory provisions.• E/L - if a penalty – agreement invalid and damages for

detention quantified by reference to general principles.• PECL – if grossly excessive – sum reduced to a reasonable

amount.• E/L – to date no instance of a demurrage clause being struck

down as a penalty.