Consequential Damages (Overview: What It Is And How It Works)

What are Consequential Damages?

How do you legally define it?

What are the essential elements you should know!

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What Are Consequential Damages

Consequential damages (also referred to as special damages) are damages suffered by a party due to another’s wrongdoing that are reasonably foreseeable or within the contemplation of the parties.

In other words, when a person breaches a contract or injures another, the injured party may suffer “direct” damages (directly related to the breach) and “indirect” damages (that are not directly related to the breach but naturally flows from the breach).

For example, if an airline company hires a specialized company to repair certain parts of an airplane who fails to do so, direct damages can be the cost the airline company needs to assume to have the work finished by another company.

Consequential damages can be the potential loss of operating revenues suffered by the airline as the airplane was out of commission for an extra month.

Consequential losses go beyond direct damages and can extend beyond the terms of a contract signed by the parties.

Depending on the nature of the breach, the “consequential loss” can represent an amount significantly larger than the “actual loss” suffered by an injured party.

In our airplane example, the actual damages for the repair of the plane could result in perhaps tens or hundred of thousands of dollars whereas the airline company’s loss of operating revenues for a month could represent millions.

Consequential Damages Definition

Cornell Law School’s Legal Information Institute provides the legal definition of consequential damages as follows:

In other words, they are damages that are suffered by the plaintiff in consideration of its particular circumstances as a result of the defendant’s wrongdoing or breach.

Elements of Consequential Damage

Compensatory damages are not necessarily direct damages but are:

• Directly and naturally flow from the other party’s breach and proximately result from the other party’s breach
• Foreseeable or within the contemplation of the parties when they entered into a contract 

Typically a party may claim lost profits as a form of consequential damages that directly and naturally flows from the other party’s breach and could have been reasonably known by the parties when their contract was signed.

The evidence required to prove consequential damages must convincingly show that the plaintiff’s damages were proximately caused by the defendant’s breach but was also within the contemplation of the parties at the time their contract was signed.

Proximate Cause

Proximate cause means that the damages suffered by the plaintiff are not directly caused by the breach of contract but naturally flow from it.

For example, a contractor signs a contract with a subcontractor to complete certain specialized work.

If the work is not done well and on time, the contractor can suffer direct damages for the poor work performed but also incur interest charges at the bank, have its resources remain idle for extended periods of time, be unable to finish this project to commence another profitable one etc.

These are damages that are suffered by the main contractor as a “consequence” of the subcontractor’s breach of contract.

Foreseeable 

Another factor considered by the court is the foreseeability of the damages.

It’s not always easy to prove that the damage suffered was foreseeable or within the parties’ contemplation when the contract was signed.

The courts will award damages when the plaintiff can demonstrate with reasonable certainty that the defendant knew and understood the possible consequences of a breach to the plaintiff.

Example of Consequential Damages

To illustrate what consequential damages may be, let’s look at an example of a breach of contract in the context of a construction project.

Let’s imagine that a prime contractor receives a contract from the city to build a bridge.

The prime contractor then subcontracts the cement work to another company.

At the time the prime contractor signs a contract with the subcontractor, the subcontractor understands that the main contractor has a contract with the city and that the delays can result in contractual penalties.

Also, the contractor has another project immediately lined up right after the bridge project.

In the event the subcontractor breaches the contract or fails to deliver the work with the expected quality, the prime contract may suffer the following consequential losses (or indirect damages):

• The delays trigger contractual penalties to the prime contractor in its contract with the city
• The prime contractor cannot advance in the bridge construction due to the dependency on the cement work and so its resources remain idle and non-billable 
• The contractor is unable to finish this project on time to start its second project on time
• The contractor loses the second project as it ends up being in breach of contract to start on time

As you can see, these damages are not “direct” but naturally flow from the subcontractors default.

The can legally be claimed in court to the extent it was foreseeable by the parties when they entered into a contract.

Here are other examples of consequential damages:

• Loss of anticipated profits
• Loss of business
• Loss of goodwill
• Loss of production 
• Loss of reputation 
• Loss of sales contract 

Consequential Damage vs Compensatory Damages

What is the difference between consequential damages and compensatory damages?

Typically, parties in a contract may claim compensatory damages for damages suffered due to the other’s breach of contract.

For example, if a subcontractor was to complete its work within a certain delay in the context of a construction project and fails to do so, the prime contractor may claim compensatory damages to have another company finish the work.

You can consider compensatory damages to be the value the prime contractor was expecting to receive under the contract versus the value actually received.

However, the actual damages that result from the subcontractor’s failure to perform can also be classified as “consequential”.

Consequential damages are those damages that “flow naturally and necessarily from the breach” intended to compensate the damages that could have been foreseen by the parties.

A damage is consequential when it relates to the special circumstances of the injured party, it is not necessarily direct damages, but does directly and naturally result from the breaching party’s conduct.

Consequential Damages Waiver

Many contracting parties will consider including a consequential damages clause in their contract to waive the possibility of being held accountable for indirect damages.

For example, imagine a contractor is hired to build a commercial building.

If the contractor is unable to deliver the construction work on time, it can be directly responsible to compensate its client for retaining the services of another company to complete the job (direct damages).

However, without a consequential damage clause or waiver, it may be exposed to much greater financial liability if the client can legally claim loss of rental revenue or profit on the commercial exploitation of the building.

For that reason, the contractor will want to include a discharge or waiver of consequential losses in its contract to prevent such claims to be made. 

Hadley v. Baxendale 

Hadley vs Baxendale is a classic case taught in nearly all common law jurisdictions shedding some light on how the courts interpreted consequential damages in 1854.

The Hadley brothers entered into a contract with a transport company to ship a broken crankshaft for repair to a repair shop.

The crankshaft was crucial for the operation of their mill.

However, due to the delivery service company’s breach of contract, there was a delay in delivery of the crankshaft for repair.

The Hadley brothers sued the delivery company claiming that due to its contractual breach, their factory was shut down and they have lost significant operational profits.

The appeals court split the contractual damages into to parts:

• Damages that are naturally and ordinarily foreseeable from the breach of contract (direct damages)
• Damages that arise from the special circumstances brought to the attention of the defendant when the contract was signed (consequential damages)

In the Hadley case, the court came to the conclusion that the Hadley brothers had not informed the transport company that any delay could result in the entire shutdown of their factory.

As a result, the court did not hold the transport company Baxendale liable for the loss of profits alleged by Hadley.

The court argued that if Baxendale would have known about the true risk, it could have taken additional measures to properly deliver the package, charged more for it, or even refused the delivery.

Consequential Loss Takeaways 

So, what is “Consequential Damages”?

How do you define consequential damages?

When a party suffers damages under a contract, it can suffer:

• Direct damages 
• Consequential damages

Both direct damages and consequential damages are actual losses suffered by the injured party.

Direct damages are those that flow naturally and necessarily from the other party’s breach.

Let’s look at a summary of our findings.

Consequential Damages Defined

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