Consequential Damages
Rule
A breaching party is liable for special or consequential damages only if those damages were reasonably foreseeable at the time the contract was formed — either arising naturally from the breach, or arising from special circumstances communicated to the breaching party at contracting. (Hadley v. Baxendale)
Elements
- General (direct) damages: losses arising naturally from breach in the usual course of things — automatically recoverable
- Special (consequential) damages: losses arising from particular circumstances of the plaintiff
- Breaching party must have had reason to know of those special circumstances at the time of contracting
- The loss must have been a probable result of the breach in light of those circumstances
Exceptions
- Expert knowledge: If the breaching party had superior knowledge of the risks, it will be charged with foreseeing consequential damages that ordinary parties would not (Bangor Mill Supply Corp.)
- UCC § 2-715(2): Consequential damages include any loss from general or particular needs of the buyer of which the seller had reason to know and which could not be prevented by cover
- Tacit agreement test rejected (UCC Comment): Seller need not have explicitly agreed to bear consequential loss risk; reason-to-know is sufficient
- Rest. 2d § 351(3): Court may limit consequential damages to avoid disproportionate compensation, especially for lost profits on new or speculative ventures
- Mitigation: Injured party must take reasonable steps to mitigate; failure to cover reduces available consequential recovery
Policy
The Hadley rule operates as a “penalty default” — parties with special risk circumstances have an incentive to disclose them so the breaching party can price in the risk, obtain insurance, or take extra care. This promotes efficient contracting and information sharing (Ayres & Gertner).
Key Cases
- Hadley v. Baxendale — mill shaft case; lost profits not recoverable because carrier had no reason to know mill was stopped
- Laclede Gas Co. v. Amoco Oil — specific performance appropriate when long-term supply contract has no adequate substitute and consequential loss of service would be difficult to measure