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Liquidated Damages Provisions: A Good Idea?


Liquidated Damages Provisions: A Good Idea?In a contract, the parties may agree that damages for breach of that contract by a party shall be "liquidated."  This means that the parties decide in advance what the party that breaches the contract must pay to the non-breaching party as damages for breaching the contract.

Without a liquidated damages provision, the burden will be on the non-breaching party to prove the amount of damages that result from the breach of contract.  Often, it is difficult, if not impossible to prove the amount of damages that result from a particular breach of contract.

In California, a court cannot award damages that are "not clearly ascertainable in both their nature and origin." [Civil Code Section 3301.]  So, where damages are not easily ascertainable, a non-breaching party to a contract may find it impossible to recover damages in arbitration or litigation even if there is no dispute that the other party breached the contract.

In addition to making sure that damages can be awarded for a breach of contract, a liquidated damages provision may also be desirable by one or both parties because it sets the amount of recoverable damages for a breach of contract, instead of leaving the proof of damage amount as a separate matter to be litigated.  For this reason, a liquidated damage provision will often encourage settlement of a dispute prior to the filing of a lawsuit.

In most commercial contexts in California, liquidated damages provisions are enforceable and valid "unless the party seeking to invalidate the provision establishes that the provision was unreasonable under the circumstances existing at the time the contract was made." [Civil Code Section 1671.]  Thus, a party seeking to invalidate a liquidated damages provision faces an extremely difficult burden to overcome, especially having had agreed to the liquidated damages provision in the first place.

In a business purchase agreement, it is common for a liquidated damages provision to apply with respect to a buyer breaching the contract by failing to complete the transaction as agreed.  Typically, the amount of the buyer's deposit is adopted as the amount of liquidated damages.  This is convenient in that the deposit is usually held by an escrow company, which makes it easier for the seller to recover that sum upon the buyer's breach.

I typically recommend to both buyer and seller clients of mine to enter into such a liquidated damages provision.  A buyer that cancels a deal without a valid contingency knows that only his deposit is at stake and that he won't be exposed to expensive litigation regarding the amount of the seller's actual damages.

A seller that has had a buyer walk away from a deal without good reason at least knows that he's got damages already decided and being held in escrow, avoiding the need for expensive litigation, avoiding the risk that a judge will determine that damages cannot be awarded because they are uncertain, and avoiding the challenge of collecting damages if the court does, in fact, award damages.

Joe SandbankAbout The AuthorJoe Sandbank -  I assist buyers, business owners and brokers with all legal aspects of buying, operating and selling a business, from buyer representation to exit planning and everything in between. Call for cost-effective representation for your transactions (consulting, negotiations, letters of intent, due diligence, buy/sell agreements, entity formation, leases, financing, etc.) and disputes (negotiations, demand letters, litigation, arbitration, mediation). Phone Joe at 800-875-1480 for more information and a consultation.


Categories: BizBen Blog Contributor, Deal And Escrow Issues, How To Buy A Business, How To Sell A Business, Legal Topics



  Helpful Resources To Assist In Selling And Buying California Businesses
Jeff Back, Broker: Restaurant Specialist - SF Bay Area

J. Back & Associates Restaurant Real Estate was founded in 1988 as the first bay area real estate company to specialize exclusively in restaurant real estate. I am the past President of Charley Browns restaurants and have been involved in the restaurant business for over 35 years. 925-736-8200.

Prabhjot Randhawa, Broker: SF Bay Area, Northern Central Valley

I'm a Business Advisor at Liberty Business Advisors of San Fransisco. I have over 20 years of experience in all phases of entrepreneurship. During the past 15 years my concentration has been in business of mergers and consulting. I have owned and operated over 10 businesses.

Harry Sidhu, CBB, Broker - SF Bay Area, Central Valley, SAC Region

Assisting both sellers and buyers of businesses - dealing mainly with Liquor Stores, Grocery Markets, Gas Stations, Smoke Shops, Restaurant Related, Retail Related, Service Related. Serving SF Bay Area, North Bay, Sacramento area. Call Harry Sidhu, CBB for assistance at 510-366-6130.

Joe Ranieri, Business Broker, Orange & LA County Areas

Having owned retail/restaurant businesses for over 20 years, my interest turned to listing and selling businesses rather than owning them. I specialize tend to specialize in Orange County high volume restaurants, fast food independents and chains, bars and liquor stores. Call 714-292-5448.

Jim Saxton, Liquor License Broker & Consultant - SF Bay Area

With over 20 years experience of local governmental requirements, such as Police Departments, Zoning / Planning Departments, and ABC District Offices, my company Liquor Licenses of San Francisco Bay Area is very qualified to resolve all of your concerns during the liquor license transfer process.

Michael Floorman, Business Broker, BTI, San Francisco Bay Area

Business Team, San Jose (Campbell) located in the Pruneyard Towers at Bascom and Hamilton. Established in 1981 Business Team with over 6600 sales to date has 1000 business listings to choose from, paid Google advertising. We offer highly trained and experienced professionals.

Joanne Weber, Broker - Preschool Specialist - Southern California

The Ryan Craig Company is in its 35th year as the recognized expert in Southern California, dealing exclusively in the sale of preschools, Montessori schools, day care centers, and private schools. Our extensive list of references speaks for itself. Phone Joanne at 818-760-3684 for more info.

Jeff Sacher, Business Broker - North Bay Restaurant, Retail Specialist

Jeff is a leader in business brokering in the North Bay. Since joining Santa Rosa Business And Commercial in 1999 he has assisted Buyers and Sellers in over 200 business sales and acquisitions. Jeff provides other services for his clients as well. Reach Jeff and his team at 707-888-4972.


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