The Supreme Court of Queensland has found that a liquidated damages clause in a construction contract was not a penalty in circumstances where failure by the construction company to achieve timely Practical Completion (even for failure to achieve a minor requirement) would mean that the developer would suffer significant loss (as it would not be able to settle contracts for sale with potential purchasers). Rather the Court found that the liquidated damages clause was the result of a genuine attempt between the parties to pre-estimate the loss which the developer would suffer if Practical Completion was delayed. This decision demonstrates the importance of ensuring that liquidated damages clauses are negotiated as a genuine pre-estimate of loss to minimise the possibility of the clause being challenged as a penalty.
A development contract between Grocon Construction (Qld) Pty Ltd (Grocon) and Juniper Developer No 2 Pty Ltd (Juniper) (Contract) provided that:
- Grocon had to complete the work so as to achieve Practical Completion by the Date for Practical Completion;
- Practical Completion included requirements that the works were complete and “fit for use or occupation”, as well as “free from all identifiable omissions and defects”, as well as a number of very specific requirements, for example that there were 2 sets of keys with plastic labels having approved label inserts;
- the Date for Practical Completion was defined as the date certified by the Independent Certifier to be the date upon which Practical Completion was achieved (and could be extended in accordance with time extensions allowed for under the Contract); and
- if Grocon failed to achieve Practical Completion by the Date for Practical Completion, Grocon would be indebted to Juniper for liquidated damages in accordance with a schedule which set out daily liquidated damages rates which depended on the length of the delay in reaching Practical Completion (Liquidated Damages Clause).
In submitting that the Liquidated Damages clause was not a penalty, Grocon argued that:
- on the analysis in Andrews v Australia and New Zealand Banking Group Limited, achieving Practical Completion by the Practical Completion Date was a “primary stipulation” and the Liquidated Damages Clause was a collateral (or accessory) stipulation which imposed upon Grocon an additional or different liability or detriment, in the event of failure to satisfy the primary stipulation. As such, the Liquidated Damages Clause was in the nature of security for and in terrorem of the satisfaction of the primary stipulation and was therefore a penalty; and
- a presumption from Dunlop Pneumatic Tyre Co Ltd v New Garage and Motor Co Ltd applied, that a clause is a penalty when “a single lump sum is made payable by way of compensation, on the occurrence of one of more of several events, some of which may occasion serious, and others but trifling, damage” applied to building contracts. On this basis, the Liquidated Damages Clause was a penalty because it imposed the same penalty on Grocon for different breaches, some of which were serious and some of which were trivial (eg failure to have the correct label insert in a set of keys).
Juniper argued that:
- the relevant test was whether the amount of liquidated damages payable was extravagant or unconscionable in comparison with the greatest conceivable loss that could flow from the breach (and in this case, that greatest loss was the inability of Juniper to give vacant possession and complete the sale contracts); and
- the Liquidated Damages Clause only operated when Grocon failed to achieve timely Practical Completion and did not operate in respect of several events.
Lyons J in the Supreme Court of Queensland found that the Liquidated Damages Clause was not a penalty. Specifically, Lyons J found that:
- the Liquidated Damages clause operated when there was breach of a single event, namely the failure to achieve Practical Completion by a specified time, and so the amount was payable for delay and thus the particular presumption in Dunlop did not apply; and
- any delay, even for a minor matter, would have been expected by the parties to prevent Juniper from settling contracts for sale with potential purchasers because it would not be able to give vacant possession of the units (as under the Contract, Grocon still had control of the site up until Practical Completion). As such the damages payable under the Liquidated Damages Clause were neither extravagant nor unconscionable in comparison with the loss suffered.
Lyons J also distinguished Paciocco v Australia and New Zealand Banking Group Ltd as he considered that the obligation to pay on time could be breached many times in different ways, with each breach having different consequences (whereas in this case, the only breach was the delay in achieving Practical Completion).
Lyons J also found that the evidence showed that the Liquidated Damages Clause was the result of a genuine attempt between Grocon and Juniper to pre-estimate the loss which Juniper would suffer if Practical Completion was delayed. In so finding, Lyons J held that in the process of determining whether a clause is a penalty, courts can consider a wider range of extrinsic evidence than is ordinarily admissible in other construction exercises.