Supreme Court clarifies when to regard contract clauses as
In two conjoined appeals, the Supreme Court has provided a
landmark restatement of the law relating to contractual penalty
clauses. It did this in order to better reflect the complexity of
modern day transactions.
In Cavendish, Mr Talal El Makdessi agreed to sell Cavendish
Square Holding BV a controlling stake in the holding company of the
largest advertising and marketing communications group in the
Middle East. Two clauses of the agreement provided that if he
breached certain restrictive covenants, Mr Makdessi (a) would not
be entitled to receive the final two instalments of the sale price
(clause 5.1); and (b) may be obliged to sell his remaining shares
to Cavendish at a price that excluded the value of the goodwill of
the business (clause 5.6). When Mr Makdessi breached them, he
argued that the two clauses were unenforceable penalties.
In ParkingEye, ParkingEye Ltd and the owners of the Riverside
Retail Park in Chelmsford agreed to manage a car park together.
ParkingEye put up several notices around the car park stating that
any failure to comply with a two hour parking time limit would
"result in a Parking Charge of £85." When Mr Barry
Beavis overstayed that two hour limit by almost an hour, he argued
that the £85 charge was a penalty at common law and therefore
unenforceable, and/or that the charge was unfair and unenforceable
by virtue of the Unfair Terms in Consumer Contracts Regulations
1999 (SI 1999/2083) ("the 1999 Regulations").
The Supreme Court held that asking whether a clause is a genuine
pre-estimate of loss or not (as per leading case, Dunlop v
Pneumatic Tyre (2015)) is unhelpful since the fact that the clause
is not a pre-estimate of loss does not automatically mean it should
be regarded as a penalty. There may be other justification for the
clause and the true question is whether the clause is penal, not
whether it is a pre-estimate of loss. The penal character of a
clause is a question of construction, to which evidence of the
commercial background is relevant.
Further, the Court must ask whether the provision imposes a
detriment out of all proportion to any "legitimate
interest" of the innocent party in the enforcement of the
primary obligation. The penalty must be a secondary obligation
flowing from a primary obligation, rather than a primary obligation
itself: "if the contract does not impose (expressly or
impliedly) an obligation to perform the act, but simply provides
that, if one party does not perform, he will pay the other party a
specified sum, the obligation to pay the specified sum is a
conditional primary obligation and cannot be a
In Cavendish, the Supreme Court held that both clauses 5.1 and
5.6 were primary obligations and not subject to the penalty rule.
The clauses were price adjustment clauses and had a legitimate
function that related to achieving Cavendish's commercial
objective in acquiring the business and protecting its
In ParkingEye, Mr Beavis had a contractual licence to park in
the car park on the terms of the notices put up around the car
park, including the two hour limit. The £85 was a charge for
breaching the terms of that contractual licence. Whilst the penalty
rule was engaged in this case, the £85 charge was not a
penalty. The charge protected two legitimate business interests:
(a) the efficient use of the car park, which benefited the Retail
Park's shops and customers by deterring long-stay or commuter
traffic; and (b) the generation of income in order to run the
scheme, which benefited ParkingEye. These interests extended beyond
the recovery of any loss and the charge was no higher than
necessary to fulfil those interests.
In the recent decision in Joyce Whitfield v Revenue & Customs Commissioners  UKFTT 685 (TC) the Tribunal considered that inflexible and disproportionate behaviour by a party's legal representative...
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