What are Liquidated Damages?

February 4, 2022

Two businesses that work in manufacturing negotiate a deal for a bulk installment of luxury espresso machines to be designed. Each manufacturer puts up collateral in the hundreds of thousands to back this new design, with one manufacturer upfronting costs and the other using its inventor prowess to draw up architectural plans. Both manufacturers also obtain additional funding from silent investors for the new espresso machine poised to change the luxury drink market.

Unfortunately, two months into their partnership, the other manufacturer informs manufacturer A that their lead architectural designer has resigned, and they are unable to find a replacement. He is in breach of contract. When he did resign, he took all plans with him, citing that it was intellectual property. Now manufacturer A and B are both out of major expenses, but where does this leave manufacturer A? Are they entitled to more than just compensatory damages for breach of contract in Silicon Valley?

What are Liquidated Damages?

In California, liquidated damages are actual damages that are incurred by the non-breaching party. The breaching party is the party who allegedly broke the contract, if a contract exists between the parties. If the parties have a clear contract outlining terms and what happens if something should affect either party’s performance, they may have a clause in the contract regarding liquidated damages. Usually, liquidated damages are only awarded if actual damages (such as compensatory damages from a direct financial loss) are impossible or extremely difficult to prove.

In our hypothetical, the designer has taken a trade secret, which is proprietary and confidential company property, with him to his next endeavor. Hypothetically both companies could enjoin the designer in a lawsuit and seek liquidated damages because of the unauthorized disclosure of the trade secret, whose financial value is difficult to assess.

What About Punitive Damages?

Punitive damages are reserved for extreme cases in which the court seeks to make an example of the defendant. They are designed as a punishment and are pecuniary in nature. If a breach of contract occurred due to a mistake, force majeure (act of God), or misunderstanding between parties, punitive damages would not be appropriate, even if the non-breaching party suffered a major loss. Punitive damages are meant to deter the defendant and other bad actors from engaging in future bad behavior. Plaintiffs are awarded punitive damages if the defendant is convicted of oppression, fraud or malice.

Punitive damages are not meant to compensate the plaintiff, although the plaintiff does receive a percentage should the court determine that punitive damages are appropriate. A good example of punitive damages includes the 2010 BP oil spill in the Gulf of Mexico. Due to the irreversible damage caused to the ecosystem, the economy and residents, an award of more than $1.24 billion was assessed against BP.

Next Steps for Silicon Valley Businesses

If you or someone you know has been the victim of a business deal gone wrong, or perhaps you believe a contract is breached, you are not without options. Our lawyers at SAC Attorneys specialize in contract litigation including contract breaches, damages, and other business disputes. We serve clients throughout the Silicon Valley including San Mateo and Santa Clara counties.