Dunlop Pneumatic Tyre Co Ltd v New Garage & Motor Co Ltd [1915] AC 79 (HL)

Facts

  • Dunlop Pneumatic Tyre Co Ltd, a tire manufacturer, entered into a contract with New Garage & Motor Co Ltd, a retailer.
  • The contract included a clause requiring the retailer to pay £5 per tire if tires were sold below a specified minimum price.
  • New Garage & Motor Co Ltd breached this clause by selling tires below the agreed price.
  • Dunlop sought to enforce the stipulated £5 per tire damages.

Issues

  1. Whether the £5 per tire clause in the contract was a valid liquidated damages provision or an unenforceable penalty clause.
  2. Whether the stipulated sum represented a genuine pre-estimate of loss caused by the breach.
  3. Whether it was relevant that the parties labeled the clause as "liquidated damages" or "penalty."

Decision

  • The House of Lords held that the £5 per tire clause was a valid and enforceable liquidated damages provision.
  • The sum was not deemed extravagant or unconscionable in relation to the loss that could result from the breach.
  • The enforceability of the clause did not depend on the terminology used by the parties, but rather on its substance.
  • Difficulty in estimating potential damages did not convert a genuine pre-estimate into a penalty.

Legal Principles

  • A clause is a penalty if it is extravagant and unconscionable compared to the greatest loss conceivably resulting from the breach.
  • An enforceable liquidated damages clause must represent a genuine pre-estimate of loss, not a punitive imposition.
  • The parties’ designation of a clause as "penalty" or "liquidated damages" is not determinative; the courts examine the clause's actual effect.
  • Difficulty in estimating loss does not invalidate a clause if the pre-estimate is reasonable.

Conclusion

The case established the key criteria distinguishing between liquidated damages and penalty clauses, holding that stipulated damages must reflect a genuine pre-estimate of loss rather than serve as a deterrent or punishment for breach. The judgment remains influential in contract law and the enforcement of damages provisions.

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