The Supreme Court held that damages for breach of a non-competition covenant are normally compensation for the financial loss actually caused, not a hypothetical fee for releasing the covenant. One Step (Support) Ltd sued two former associates who competed through another company in breach of covenants given when they left the business. The majority decided that difficulty in calculating lost profits did not entitle One Step to choose a release fee instead.
The covenants and the competing business
In 1999 the first defendant established a business supporting young people leaving care. In 2002 she sold a 50 per cent interest to Mr and Mrs Costelloe through the claimant company, One Step (Support) Ltd. She and Mrs Costelloe became equal shareholders and directors. The business provided rented accommodation and support services to vulnerable people referred by local authorities in West London and the Thames Valley. The second defendant worked in a managerial role.
Law Teacher writing support
Writing a law essay?
We choose a writer who is an expert in your area of law and qualified to at least the academic level you select. Most of our writers hold a master’s degree or PhD, have teaching experience, or both.
Send us your question and, if you wish, any marking criteria. We’ll write an essay to your instructions.
The relationship broke down. In 2006 the first defendant copied confidential market research to her personal email, Mrs Costelloe used a deadlock procedure in the shareholders’ agreement, and the first defendant incorporated Positive Living Ltd with the second defendant. In December 2006 the first defendant sold her shares for £3.15 million, resigned, and accepted three-year covenants against disclosing confidential information, competing, or soliciting clients without consent, which was not to be unreasonably withheld. The second defendant left and accepted similar non-competition and non-solicitation covenants.
From August 2007 Positive Living traded in the same area. One Step’s business declined. A threatened injunction in 2008 was not pursued. The restraints expired in December 2009, and in September 2010 the defendants sold their Positive Living shares for £12.8 million. One Step sued in July 2012.
The claim and the decisions below
One Step alleged breach of the covenants and of an equitable duty of confidence, together with tort claims which the trial judge did not decide. For the competition covenants it sought an account of profits, or a sum it might reasonably have demanded for releasing the defendants, or compensation for its own loss. Accountants estimated that loss at £3.4 million to £4.6 million and a hypothetical release fee at £5.6 million to £6.3 million. Lord Reed noted that, on those reports, the release fee was not the simpler calculation.
Phillips J found breaches of the non-competition covenants from August 2007 to 20 December 2009, less extensive than the experts had assumed, and of the non-solicitation covenants from 20 December 2006 to 20 December 2009 by soliciting seven local authorities. He also found that the first defendant had broken her confidentiality obligations by taking and using the market research. He made no separate order for that breach and refused an account of profits. There was no appeal against those conclusions.
He nevertheless held that One Step could elect damages based on the price that might reasonably have been demanded in 2007 for a release, which he called Wrotham Park damages, because its financial loss would be difficult to identify and some secrecy surrounded Positive Living. He also relied on the fact that the covenants permitted competition with consent. One Step chose that basis. Damages had not yet been assessed.
The Court of Appeal upheld him. Christopher Clarke LJ, with whom King LJ agreed, treated the question as whether a release-fee award was the just response, and said the judge could take account of the difficulty of proving lost placements and goodwill. Longmore LJ relied on a deliberate breach for the defendants’ own reward, difficulty in proving financial loss, and a legitimate interest in stopping their profit-making activity.
When a release fee can measure contractual loss
Lord Reed, with whom Lady Hale, Lord Wilson and Lord Carnwath agreed, preferred the term negotiating damages. He said the older label had been used loosely and was apt to confuse several different situations.
Ordinary damages for breach of contract are a money substitute for performance. The court identifies the difference between the claimant’s actual position and its position if the obligation had been performed, and then values that difference as reliably as the case allows. Where a breach affects a business, that may mean estimating lost profits, lost value, management costs or lost goodwill. Imprecision is tolerated, but difficulty does not justify giving up the attempt to measure the loss. A claimant cannot elect a different measure, and it is irrelevant that the breach was deliberate. Damages are not awarded merely to remove the defendant’s profit, except in the exceptional circumstances in which Attorney General v Blake allows an account of profits.
A hypothetical release fee can itself be the measure of loss only in a narrower situation. If someone wrongfully uses property, or infringes an intellectual property right, the owner may have lost the economic value of controlling that use even though the property is undamaged: the wrongdoer has taken something for nothing. The same idea can apply where damages are awarded instead of an injunction, under the jurisdiction now in section 50 of the Senior Courts Act 1981, and to some contracts whose breach destroys a valuable asset created or protected by the right, such as a covenant over land, an intellectual property agreement or a confidentiality agreement. The imaginary negotiation is only a way of valuing that asset. It is not available whenever a judge thinks it just, and the legal basis of damages is not discretionary.
Lord Reed distinguished a non-competition covenant. Its breach may cause ordinary financial loss, such as lost profits and goodwill. If the claimant’s interest is purely economic and no economic loss is proved, the usual inference is that there is no loss and only nominal damages are available. Evidence of a hypothetical fee may sometimes help to test a conventional calculation, but outside the asset cases it is not itself the measure of loss.
Why One Step could not claim the fee
The majority held that both courts below had asked the wrong question. One Step’s only interest was commercial, and a covenant wider than reasonably necessary to protect that interest would have been unenforceable. The breach exposed its business to competition. The resulting loss of profits, and possibly goodwill, was difficult to quantify but familiar, and the accountant’s report showed that it could be approached conventionally. This was not the loss of a valuable asset created or protected by the right infringed. Considered alone, the confidentiality breach might have looked like that, but the loss was the combined result of several breaches, of which the non-competition and non-solicitation covenants had been treated as the most significant.
Lord Sumption would also have allowed the appeal, but by a different route. He would have treated a notional release fee as a possible evidential technique for estimating pecuniary loss, available only where there was material for it and the judge found it helpful, and he would have modified the declaration so that it neither required nor excluded that technique. Lord Carnwath agreed with Lord Reed, said that Lord Reed’s judgment contained the ratio, and did not accept Lord Sumption’s reorganisation of the earlier authorities.
Verdict: The Court allowed the appeal on the assessment of damages. The High Court was to assess One Step’s actual financial loss. The hypothetical price of releasing the defendants from the covenant was not itself the measure of damages here.
Source: Morris-Garner and another v One Step (Support) Ltd [2018] UKSC 20
