| From: | Saprai, Prince <P.Saprai@warwick.ac.uk> |
| To: | Lionel Smith, Prof. <lionel.smith@mcgill.ca> |
| ODG <obligations@uwo.ca> | |
| CC: | davisk@exchange.law.nyu.edu |
| Date: | 08/07/2009 19:24:48 UTC |
| Subject: | RE: Penalty clauses and unconscionability |
It is important to get clear what is meant by ‘unconscionability’. I don’t think that the word has any stable meaning. Here are two meanings that I have come across in the cases and literature.
Unconscionability is often used to mean that a particular transaction is *substantively* unfair, in the particular sense that it involves an unequal exchange. One party gets too much or too little for what they give (what counts as too much or too little is often judged against what the market price for a commodity would be). However, if that is what unconscionability means then that is a poor explanation for the penalty clause jurisdiction. The consideration that one receives in return for inserting a penalty clause into a contract is irrelevant to the determination of whether that clause is valid. What is important is whether the clause genuinely pre-estimates loss (see, for example, Betts v Burch (1859) 4 H&N 506, the exchange was equal but a penalty clause was still found).
Unconscionability is also used to mean inequality of bargaining power (which is, I think, more of a *procedural* explanation, the greater the inequality of bargaining power, the less choice you have, the less free your consent). But that too does not help with explaining the regulation of penalty clauses. The presence of inequality of bargaining power is not required for the penalty clause jurisdiction to come into play (this was said in Imperial Tobacco Co Ltd v Parslay [1936] 2 All ER 515). The jurisdiction applies even in B2B contracts.
More fundamentally the problem with these two accounts of unconscionability as explanations of the penalty clause jurisdiction is that they are over-inclusive (this is a point that Stephen Smith has repeatedly made). If the courts are concerned with penalty clauses because they make an exchange unequal or because they are the product of inequality of bargaining power, why don’t the courts regulate core terms, for example, relating to price and quality of the subject matter, which create gross inequality of exchange or which are the product of unequal bargaining? The fact that they don’t suggests that we should look elsewhere for a justification for the regulation of penalty clauses.
Best wishes,
Prince.
Dr. Prince Saprai
Assistant Professor
Warwick Law School
University of Warwick
Gibbet Hill Road
Coventry
CV4 7AL
Tel: +44-(0)24 7652 4937
Email: P.Saprai@warwick.ac.uk
Unconscionability is at least in part, and arguably entirely, activated by failures in the process leading to the agreement. This is how it can be made sense of in the light of the principle of freedom of contract.
The rule against penalties (and arguably relief against forfeiture ... also probably many of the rules on mortgage law: 'no clogs on the equity of redemption') are interesting because they seem to be a direct restriction on freedom of contract; that is, in principle they kick in even if we are sure that the bargain was made perfectly freely.
The Sharpe JA project would blur this line. Others have tried to do so; the line Elisabeth quotes from the HCA is in this vein, attempting to justify the rule against penalties as based on a procedural failure. There is a certain amount of US literature which argues that the rule against penalties can be justified on the ground that parties are systematically subject to a cognitive defect that prevents them from properly understanding the possibility that they will be in breach. Again, a procedural explanation.
If we try to make sense of the principles as they appear to be, that is, that some terms are unenforceable even if they were freely agreed to, one of the striking things that unites penalties and relief against forfeiture and equity of redemption is that they are all restrictions on freedom to agree on the consequences of a breach (not restrictions on freedom to agree on primary obligations).
If we thought that parties have freedom of contract in respect of primary obligations, but not in respect of the consequences of a breach of those obligations, then we would need to resist the effort to explain these doctrines under unconscionability.
Lionel
On 07/07/09 21:35 PM, "Elisabeth Peden" <E.Peden@usyd.edu.au> wrote:
John Carter and I have written a paper - available on SSRN - in which we look at penalties and deal with the issue of the menaing of 'unconscionability'. Of course in Dunlop, the PC uses that word, but not in the 1915 English meaning of the word, rather than something else that might be found in Australian law today for example.
In AMEV-UDC Finance Ltd v Austin Mason and Wilson JJ state ((1986) 162 CLR 170 at 194; 68 ALR 185.):
The doctrine of penalties answers, in situations of the present kind, an important aspect of the criticism often levelled against unqualified freedom of contract, namely the possible inequality of bargaining power. In this way the courts strike a balance between the competing interests of freedom of contract and protection of weak contracting parties ...
A few cases have suggested in passing that inequality of bargaining power is a basis on which to strike down an agreed damages clause.(See eg Phillips Hong Kong Ltd v Attorney General of Hong Kong (1993) 61 BLR 41, where the Privy Council suggested that 'situations where one of the parties to the contract is able to dominate the other as a choice of terms of a contract' would be an exception to the normal operation of the penalty principles. See also State of Tasmania v Leighton Contractors Pty Ltd [2005] TASSC 133 at para [31]: 'The question was whether, given the nature of the contract, its complexity, value and the bargaining strength of the parties the amount of $8000 was, in all the circumstances, a penalty as of the date of the agreement.')
Recently, a majority of the Victorian Court of Appeal suggested that:
[T]he better view is that, in Australia, unconscionability is a separate ground for striking down an agreed default provision as a penalty. That this is so seems to have been recognised by Mason and Wilson JJ in the passage of their joint judgment in AMEV-UDC... (Yarra Capital Group Pty Ltd v Sklash Pty Ltd [2006] VSCA 109 at para [19] per Chernov JA, with whom Warren CJ agreed)
On the particular facts there was no need to decide the issue, as the judges were not of the view that the relevant clause would have been considered unconscionable.
The reasoning that the existence of unconscionability may be sufficient to strike down a penalty clause is radical (in Australian law at least). Under statute or as part of the application of vitiating factors, such as unconscionability, inequality of bargaining power can be used to strike down a contract as a whole, rather than one particular term that seems to operate unfairly for one party. In the penalty context, inequality of bargaining power may explain why the amount chosen is excessive. Thus, it is the fact that good faith underlies those rules that they may sometimes operate to prevent exploitation of a superior bargaining position. But that is quite different from saying that consideration of inequality of bargaining power is an integral part of the penalty rules.
Dr Elisabeth Peden | Professor | Faculty of Law | The University of Sydney
Tel: +612 9351 0233| Fax: +612 9351 0200 | E-mail: E.Peden@usyd.edu.au <mailto:E.Peden@usyd.edu.au>
Faculty of Law F10, Eastern Avenue, University of Sydney NSW 2006 Australia | CRICOS Provider No: 00026A
________________________________
From: Tettenborn, A [mailto:A.M.Tettenborn@exeter.ac.uk]
Sent: Wed 8/07/2009 3:08 AM
To: obligations@uwo.ca
Cc: davisk@exchange.law.nyu.edu
Subject: FW: Penalty clauses and unconscionability
________________________________________
From: Davis, Kevin [davisk@exchange.law.nyu.edu]
Sent: 07 July 2009 17:36
To: obligations@uwo.ca
Subject: Penalty clauses and unconscionability
I am wondering whether anyone on the list has come across decisions in which common law courts have seriously questioned whether the traditional rule against enforcing penalty clauses, as opposed to doctrines of more general application such as unconscionability, should be used to analyze the enforceability of stipulated remedies.
I am just finishing up a comment on the decision in Birch v. Union of Taxation Employees, Local 70030 (2008), [2009] 93 O.R. (3d) 1 (C.A.), leave to appeal to the Supreme Court of Canada denied May 7, 2009, in which the Ontario Court of Appeal did just that. The issue was whether a union is entitled to enforce a fine against strike-breaking members pursuant to provisions in the union constitution. What I found interesting about the decision is that the Court of Appeal could have refused to enforce the fine on the grounds that it was penalty. Instead, following an approach suggested in obiter by Justice Sharpe in an earlier decision called Peachtree, the court focused its enquiry on whether the clause was unconscionable (and the majority concluded that it was). Has anyone come across similar decisions (particularly from outside Canada)?
*********
Kevin Davis
Beller Family Professor of Business Law
New York University School of Law
40 Washington Square South Room 335
New York, NY 10011
tel: 212 992-8843
fax: 212 995-4760
There's a very interesting English case showing much the same tendency, Murray v Leisureplay plc [2005] I.R.L.R. 946, [2005] EWCA Civ 963. A senior executive had a highly lucrative golden parachute arrangement that applied if he was fired (including wrongly). It was much more than the loss of earnings he would suffer -- or at least than the amount he would recover. The employers fired him; he sued for the severance, whereupon the employers sought to argue as against their own employee that the clause was a penalty (!!!). The first instance court sided with the employers on the usual "genuine pre-estimate" rhetoric: the Court of Appeal reversed. Although the case was strictly speaking argued on penalties, unlike the Ontario case you mention, the CA was in no doubt that even a non-genuine-pre-estimate amount could be recovered if there was nothing unconscionable or outrageous about the contract.
Andrew