In Hindsight . . . Supreme Court of Kentucky Reaffirms Its Retrospective Approach to Enforcing Liquidated Damages Provisions
Stites & Harbison Client Alert, May 14, 2019
The Supreme Court of Kentucky recently reaffirmed its decision in Mattingly Bridge Co. v. Holloway & Son Const. Co.1 which established the standard for assessing the enforceability of a liquidated damages provision. In following the Restatement (Second) of Contracts, the Mattingly Court held:
Damages for breach by either party may be liquidated in the agreement but only at an amount that is reasonable in light of the anticipated or actual loss caused by the breach and the difficulties of proof of loss. A term fixing unreasonably large liquidated damages is unenforceable on grounds of public policy as a penalty.
The Mattingly Court interpreted “anticipated loss” to be the loss the parties estimate at the time the contract was formed; “actual loss” refers to the damages assessed at the time of a breach. Therefore, the Court employed a two prong analysis under which a liquidated damages provision is enforceable only where (1) the actual damages sustained from a breach of contract would be very difficult to ascertain, and (2) after the breach occurs, it appears that the amount fixed as liquidated damages is not grossly disproportionate to the damages actually sustained.
The retrospective approach imposed by the second prong of the Mattingly analysis is a departure from a majority of other jurisdictions. For example, a 2016 decision from the Supreme Court of Ohio reversed a lower court’s retrospective approach.2 In Ohio, and the majority of other jurisdictions, a court should utilize a prospective analysis that focuses on whether the liquidated damages provision was unconscionable, at the time of contract formation. Where the liquidated damages amount is not disproportionate from the estimated amount of damages at the time of contracting, the provision will be upheld. As a result, it is unnecessary for a party to provide evidence of the actual damages sustained from a breach in order to recover under a liquidated damages clause.
Yet, in December, the Supreme Court of Kentucky reaffirmed that the retrospective approach has not been abandoned, and must be applied. In Louisville and Jefferson County Metropolitan Sewer District v. T+C Contracting Inc., the Supreme Court stated that the lower court’s failure to consider the actual damages incurred was a “complete contravention” of Mattingly.3 Specifically, the lower court erred in finding that the exact amount of damages was unnecessary because the existence of actual damages, in and of itself, was sufficient to allow the award of liquidated damages.
Additionally, the lower court erred in failing to compel the production of documents relevant to the amount of actual damages suffered. While the Supreme Court easily determined that MSD was not required to calculate its actual damages, but merely produce materials related to the actual damages incurred, the holding may be more difficult in practice. For example, parties that had once agreed on an amount of pre-determined liquidated damages, in part to avoid protracted litigation costs, find themselves performing a damages analysis in order to determine whether the provision is even enforceable. In sum, the retrospective approach to determining the validity of a liquidated damages clause undermines the efficient resolution of such a claim.
For a discussion of the other portions of the Louisville and Jefferson County Metropolitan Sewer District v. T+C Contracting Inc. please see December 21, 2018 E-Alert available here.
1 Mattingly Bridge Co. v. Holloway & Son Const. Co., 694 S.W.2d 702 (Ky. 1985).
2Boone Coleman Constr., Inc. v. Vill. of Piketon, 145 Ohio St. 3d 450, 460, 2016-Ohio-628, ¶36, 50 N.E.3d 502, 514.
3Louisville and Jefferson County MSD v. T+C Contracting, Inc., 2017-SC-000274-DG, 2018 KY Lexis 538, FN 47 (December 13, 2018).