A much-discussed decision about liquidated damages has now been put to the test – with implications for contractors, Jane Fender-Allison writes.
Liquidated damages are back in the spotlight.
In 2016, the Supreme Court case of Cavendish Square Holding BV v Talal El Makdessi  UKSC 67 looked at the fundamentals of what liquidated damages are and how they sit with the principle that penalty clauses are generally unenforceable. The decision was much talked about – especially because it found that the test of whether liquidated damages are a penalty is not just about a “genuine pre-estimate of loss”, but whether the liquidated damages are proportionate to the “legitimate interest of the innocent party”.
A fresh case at the Commercial Court – GPP Big Field LLP & Anor v Solar EPC Solutions SL  EWHC 2866 – has put that test into action.
In 2012 and 2013, client GPP engaged contractor Prosolia UK for five separate EPC contracts for solar power generation plants in the UK. Each contract allowed for liquidated damages in the event of the contractor’s failure to achieve the commissioning of the solar plant by the date specified in the contract, at a rate of £500 a day per MWp installed.
There were difficulties. Allegations arose of non-completed works, delays and unpaid sums. There were contract renegotiations and amendments. GPP terminated one of the contracts and Prosolia became insolvent.
GPP raised a court action seeking damages – both liquidated and unliquidated – against Prosolia’s parent company (as guarantor and/or indemnifier of Prosolia’s obligations), which in turn counter-claimed.
A host of issues were before the court. Here are the top two construction ones.
Applying the test
First off, did the liquidated damages amount to a penalty clause, which was therefore unenforceable?
The court applied the test spelt out in Makdessi – ie whether the clause “imposes a detriment on the contract-breaker out of all proportion to any legitimate interest of the innocent party in the enforcement of the primary obligation […] is the sum or remedy stipulated […] exorbitant or unconscionable”.
Here, the liquidated damages were fixed at the same sum across all five contracts, even though the extent of loss at each in the event of delay would vary depending on the output of each plant and the prevailing electricity price.
“The continuing accrual of liquidated damages after termination is more uncertain”
But the court found this did not mean the liquidated damages were unenforceable penalties. The sum was not in any way unconscionable in comparison with the greatest loss that might have been expected when the contract was made and the legitimate interest of GPP in ensuring timely performance.
Plus, it noted that delay damages provisions of this kind are common in construction contracts and here there were experienced commercial parties of equal bargaining power, who were well able to assess the commercial implications of the liquidated damages clause.
Secondly, did the liquidated damages continue to accrue after termination?
GPP had terminated Prosolia’s employment under one of the contracts. Surely that meant the period for applying liquidated damages ended there, Prosolia argued.
Not so, said the court, citing a previous case that said such an approach would reward the contractor for its own default. Instead, the liquidated damages were held to run until the date of actual commissioning, after the works were completed by others.
Challenging liquidated damages as a penalty clause can be an uphill struggle. Here, the Makdessi test was applied and the concept of “legitimate interest” reinforced.
This gives employers more flexibility in fixing liquidated damages, and makes challenges less likely to succeed. However, the continuing accrual of liquidated damages after termination is more uncertain.
Other case law suggests a different approach and we are likely to see more discussion on this front.
Jane Fender-Allison is a senior associate at CMS