ACCOUNTING FOR PROFIT FOR BREACH OF CONTRACT This book defends the view that an award of an account of profits (or ‘disgorge- ment damages’) for breach of contract will sometimes be justifiable, and fits within the orthodox principles and cases in contract law. However there is some confusion as to when such an award should be made. The moral bases for disgorgement damages are deterrence and punishment, which shape the remedy in important ways. Courts are also concerned with vindication of the claimant’s performance interest, and it is pivotal in these cases that the claimant cannot pro- cure a substitute performance via an award of damages or specific relief. The book argues that disgorgement damages should be available in two catego- ries of case: ‘second sale’ cases, where the defendant breaches his contract with the claimant to make a more profitable contract with a third party; and ‘agency prob- lem’ cases, where the defendant promises the claimant he will not do a certain thing, and the claimant finds it difficult to supervise the performance. Moreover, disgorgement may be full or partial, and ‘reasonable fee damages’ for breach of contract are best understood as partial disgorgement rather than ‘restitutionary damages’. Equitable bars to relief should also be adopted in relation to disgorge- ment damages, as should allowances for skill and effort. This book will be of interest to contract and commercial lawyers, and will be especially valuable to anyone with an interest in contract remedies and restitu- tion. It draws on case law in a number of common law jurisdictions, primarily England and Wales, and Australia. Volume 2 in the series Hart Studies in Private Law Accounting for Profit for Breach of Contract Theory and Practice Katy Barnett OXFORD AND PORTLAND, OREGON 2012 Published in the United Kingdom by Hart Publishing Ltd 16C Worcester Place, Oxford, OX1 2JW Telephone: +44 (0)1865 517530 Fax: +44 (0)1865 510710 E-mail: [email protected] Website: http://www.hartpub.co.uk Published in North America (US and Canada) by Hart Publishing c/o International Specialized Book Services 920 NE 58th Avenue, Suite 300 Portland, OR 97213-3786 USA Tel: +1 503 287 3093 or toll-free: (1) 800 944 6190 Fax: +1 503 280 8832 E-mail: [email protected] Website: http://www.isbs.com © Katy Barnett 2012 Katy Barnett has asserted her right under the Copyright, Designs and Patents Act 1988, to be identified as the author of this work. All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, without the prior permission of Hart Publishing, or as expressly permitted by law or under the terms agreed with the appropriate reprographic rights organisation. Enquiries concerning reproduction which may not be covered by the above should be addressed to Hart Publishing Ltd at the address above. British Library Cataloguing in Publication Data Data Available ISBN: 978-1-84946-251-8 Typeset by Hope Services, Abingdon Printed and bound in Great Britain by TJ International Ltd, Padstow, Cornwall To Scott, Eloise and Joshua PREFACE This book is a revised, updated and expanded version of my PhD thesis which was completed at the University of Melbourne between 2007 and 2010. I am grateful that I was given an Australian Postgraduate Award by the Australian Government, without which I would not have been able to complete my PhD. In this book, I advance an interpretive theory of the law which is intended to enhance our understanding of the existing law of disgorgement damages for breach of contract. Of course, such damages are not presently available in Australia, but I argue that the award of the remedy of an account of profits (or ‘disgorgement dam- ages’) for breach of contract is justifiable in some circumstances, and that an award can be situated within orthodox contract law principle and cases. It is important to note that disgorgement damages will not be available for all breaches of contract under my scheme: the availability of disgorgement depends in part upon the nature of the claimant’s interest in performance of the contractual obligations and the availability of a substitute performance (either through an award of compensatory damages or through an award of specific relief). Simply, I argue that disgorgement damages are available in two main categories of case: the ‘second sale’ cases, where the defendant breaches his contract with the claimant to make a more profitable contract with a third party; and the ‘agency problem’ cases, where the defendant promises the claimant he will not do a par- ticular thing, and the claimant finds it difficult to supervise the performance. I focus on the law of Australia and England and Wales, although there are refer- ences to material from all common law jurisdictions, including the recent US Restatement (Third) of Restitution and Unjust Enrichment. I have considered material available to me before 1 October 2011. I am extremely grateful to my two PhD supervisors, Professor Michael Bryan and Professor Andrew Robertson at the University of Melbourne, who have given me encouragement, support, friendship and valuable suggestions as to how to improve my work. I have learned an immense amount from them, and I am very grateful for their guidance. In addition, I would like to thank my thesis examiners, Professor Graham Virgo and Professor Mitchell McInnes, for their insightful sug- gestions and timely, generous feedback on my thesis. Similarly, I found the sug- gestions and comments of Hart’s anonymous reviewer extremely useful. The following friends and colleagues have been kind enough to discuss ideas with me over the past four years: Matthew Harding, Megan Richardson, Elise Bant, Ralph Cunnington, Rob Chambers, James Edelman, Ross Grantham, ‘Rip’ Verkerke, David Brennan, Jeannie Paterson, Helen Dale, Anna Thwaites and Nicole Rich. viii Preface I am also very grateful for the assistance of the Law Research Service at the Melbourne Law School Library, particularly Robin Gardner, Claire Kelly, Tom Kavanagh, Tom Andrews and Chris Lum. Thank you also to the team at Hart Publishing for their professionalism and support – a pleasure to deal with! I would not have been able to finish either my PhD or this book without the support of my parents, parents-in-law, sister, grandparents and friends. My co- authors and those who comment at my blog, www.skepticlawyer.com.au, have generally inspired me, supported me and opened my mind. Finally, I would like to dedicate this book to my wonderful husband Scott and our children, Eloise and Joshua. Scott has held the fort at times when the thesis/ book ‘ate my life’ and has been most understanding and supportive at times when it all just seemed too hard. Eloise, you’ll be glad to hear that Mummy’s book is finally finished! Melbourne, October 2011 TABLE OF CONTENTS Table of Cases xiii Table of Legislation xxiii 1 Introduction 1 I Method 2 A Fit 3 B Coherence 5 C Morality 7 D Transparency 8 II Conclusion 10 2 Rationales Behind Disgorgement Damages 11 I Introduction 11 II Compensatory Rationale 14 A Compensation for Loss 15 B Substitutive Compensation 18 i Compensation for a Lost Right 18 ii Rights-based Analysis 23 C Conclusion 25 III Deterrent Rationale 26 A Deterrence and the Nature of Contractual Obligation 27 B Deterrence and Efficiency 29 C Deterrence and Substitutability 31 IV Retributive Rationale 32 A The Retributive Aspect of Disgorgement Damages 33 B Digital Pulse and Punishment 35 C ‘Cynical Breach’ and the Retributive Rationale 40 i The Nature of ‘Cynical Breach’ 41 ii Reasons Against ‘Cynical Breach’ as a Criterion 42 iii Reasons For ‘Cynical Breach’ as a Criterion 43 iv Moving from ‘Cynical Breach’ to ‘Advertent Breach’ 44 D Retribution, Desert, Mercy and Bars to Relief 46 V Conclusion 46 3 The Claimant’s ‘Legitimate Interest’ and the Role of Substitutability 48 I Introduction 48 II The ‘Legitimate Interest’ Test and Substitutability 52 III Policies behind the Primary Duty to Perform Contracts 53 IV The Performance Interest 58 x Table of Contents A The Courts’ Attitude towards the Performance Interest: Support in Principle 58 B The Courts’ Attitude towards the Performance Interest: Failure to Support Claimants in Practice with Remedies? 60 i The Nature of the Expectation Interest 62 ii The Primacy of Expectation Damages 65 V Substitutability and Disgorgement 67 A Disgorgement should be Available when the Subject Matter of the Contract is Not Substitutable 67 B Substitutability – Blake and Cases Following 72 i Blake 72 ii Cases Following Blake 73 VI Objections to a Substitutability Analysis 77 A Using Availability of Specific Relief as a Peg on which to Hang Availability of Disgorgement Damages 78 B Disgorgement Preferable to an Expanded Definition of Expectation Loss 81 C Disgorgement Damages are not a Fusion Fallacy 84 VII Conclusion: a Different Way of Looking at Disgorgement Damages 86 4 ‘Second Sale’ Cases 87 I Introduction 87 II ‘Second Sale’ Cases 89 A Contracts for Sale of Land 89 B Contracts for Sale of Goods or Chattels 94 C Contracts for Shares and Stock 99 D Contracts of Services 101 III ‘Efficient Breach’ and the ‘Second Sale’ Cases 106 A History of ‘Efficient Breach’ Theory 107 B The Theory of ‘Efficient Breach’ 108 C Critiques of ‘Efficient Breach’ 109 i Third Party Can Acquire Subject Matter of the Contract from Promisee 110 ii Lack of Consideration of Transaction Costs 111 iii Incorrect Factual Predicates 112 iv ‘Efficient Breach’ is Inefficient 113 v ‘Efficient Breach’ Does