UK Supreme Court Substantially Re-Formulates Contractual “Penalty” Principles

In the landmark recent decision in Cavendish Square Holding BV vs Talal El Makdessi, the UK Supreme Court substantially re-formulated the English law principles relating to contractual penalty clauses. In doing so, the Supreme Court remarked that the previously applicable English law relating to penalties had become an “ancient, haphazardly constructed edifice which has not weathered well” adding that it had “become a prisoner of artificial categorisation”.

In Cavendish, the Supreme Court applied the new principles to hold that a series of clauses which, amongst other things, forfeited deferred consideration payable under an acquisition agreement if the seller breached certain non-competition covenants were enforceable and were not penalties.

Importantly, in applying the new principles, there will now be a strong initial presumption that well advised and sophisticated parties bargaining on equal terms will be the best judge of the legitimacy of their agreement. In addition, the Supreme Court has made clear that the courts will not seek to invalidate the primary terms of a transaction (such as, for instance, the wider set of terms which determine the price payable in a commercial transaction) even if those terms operate on, or are triggered by, a breach of contract.