Consequential damages: Overview, definition, and example
What are consequential damages?
Consequential damages (also known as indirect damages or special damages) refer to damages that are not directly caused by the breach of a contract but arise as a consequence of the breach. These damages are typically considered to be a secondary result of the breach, stemming from the particular circumstances surrounding the contract. In other words, while direct damages are those that flow directly from the breach itself, consequential damages arise from the broader impact of the breach on the non-breaching party.
Consequential damages can include:
- Lost profits: When the breach leads to lost business opportunities or sales.
- Loss of goodwill: When the breach negatively impacts a business's reputation or customer relationships.
- Increased operational costs: When the breach causes the party to incur additional costs, such as hiring a new vendor or spending more time on repairs.
In many contracts, consequential damages are specifically limited or excluded through a waiver clause, as they can sometimes be unpredictable or excessively high.
Why are consequential damages important?
Consequential damages are important because they reflect the broader impact that a breach of contract can have on the non-breaching party’s business operations or financial standing. These damages go beyond just the immediate costs or losses resulting from the breach, and can often include lost business or future income that is harder to quantify.
For businesses, understanding and addressing consequential damages in contracts is crucial for managing risks and potential liabilities. By specifying whether or not consequential damages are recoverable, businesses can control the scope of liability in the event of a breach.
Understanding consequential damages through an example
Imagine a supplier fails to deliver critical components to a manufacturer, causing the manufacturer to miss a deadline for delivering finished goods to a customer. As a result, the manufacturer loses not only the immediate sale but also the goodwill and potential future business from that customer. The manufacturer may also face increased costs from expediting another shipment or finding a new supplier. These are all examples of consequential damages that are a result of the supplier's breach, beyond just the cost of the delayed components.
In another example, a company hires an IT services provider to implement a new software system. If the provider fails to deliver the system on time, the company may incur consequential damages like lost profits due to delayed operations, as well as reputational harm from customers who are dissatisfied with the company’s inability to use the new system.
An example of a consequential damages clause
Here’s how a consequential damages clause might look in a contract:
“Neither Party shall be liable for any consequential, incidental, or indirect damages arising out of or related to this Agreement, including but not limited to loss of profits, loss of business, or loss of goodwill, even if the Party has been advised of the possibility of such damages.”
Conclusion
Consequential damages are an essential concept in contract law, addressing the broader and sometimes unforeseen impacts of a breach. While direct damages are easier to calculate and more predictable, consequential damages can involve more complex calculations, such as lost profits or damage to reputation. Understanding and addressing consequential damages in contracts helps businesses manage their exposure to risks and clarify their liabilities in the event of a breach, often by limiting or excluding these types of damages.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.