Drafting Or Enforcing A Liquidated Damages Provision? Make Sure The Amount Is Reasonably Proportionate.

Oftentimes, the “bite” of a liquidated damages provision is dictated by either the relative negotiating strength of the parties or by the failure of one of the parties to pay sufficient attention to that provision.  For those practitioners whose clients are able to dictate such a provision under these or any other circumstances, the Eleventh Circuit reminds us to be careful about overdoing it.  See Circuitronix, LLC v. Kinwong Electronic (Hong Kong) Co., 993 F.3d 1299 (11th Cir. 2021).

In Circuitronix, the plaintiff-distributor alleged that the defendant-manufacturer violated a restrictive covenant that precluded selling directly to customers.  The contract contained a liquidated damages provision that called for the payment of $2 million for each breach of the covenant.  The Eleventh Circuit affirmed the District Court’s grant of summary judgment on the provision, and explained:

The question of disproportionality operates as a proxy for the parties’ intentions at the time of contracting, so we ask what damages could have reasonably been expected at that point. Here, the parties set liquidated damages at $2 million for each breach of the covenant not to circumvent, among other provisions. That sum well exceeds the actual damages that might have been expected from any individual breach. The owner of [the distributor] acknowledged that [the manufacturer] would owe liquidated damages if it sold $10,000 of printed circuited boards to a distributor which then resold the boards to a customer covered by the covenant. And most of the allegedly breaching sales involved much less than $10,000. We grant that the value of the sales is not the full measure of damages; [the manufacturer’s] breaches affected [the distributor’s] relationships with its customers and its access to future business opportunities. But however much value we could ascribe to “goodwill” or “relationship building,” the parties were doing only about $3 million of total business each year when they adopted the liquidated-damages clause—five years into their contractual relationship. So $2 million a breach was grossly disproportionate to the foreseeable actual damages, and the disproportionality amounts to an unenforceable penalty.

Id. (citations omitted).

The motto of this story, and reminiscent of the Eleventh Circuit’s opinion in Pier 1 Cruise Experts v. Revelex Corp., 929 F.3d 1334 (11th Cir. 2019): Remedy provisions must be reasonable.

Matthew J. Meyer is a Partner in our Florida office.