Opinion ID: 4465425
Heading Depth: 2
Heading Rank: 1

Heading: The liquidated damages provisions are

Text: unenforceable penalties. A. Defendants have shown that the provisions are facially unreasonable. At issue is whether the liquidated damages provisions in the Knowles, Day and Lancet agreements constitute unenforceable penalties. 2 The Court of Appeals opinion incorrectly states that summary judgment was granted on this issue as to the Lancet Agreement, but it was actually denied. Indiana Supreme Court | Case No. 18S-PL-00437 | December 18, 2019 Page 4 of 12 Defendants argued, and the trial court determined, that they are. Specifically, Defendants argue the liquidated damages in this case are not fairly correlated to ASI’s actual loss and therefore constitute a penalty. For its part, ASI agrees with the Court of Appeals majority: because the agreements at issue were freely negotiated and the amount of damages resulting from the contract breaches are difficult to ascertain, these liquidated damages clauses are enforceable. For reasons discussed herein, we agree with the Defendants and find that the liquidated damages provisions in this particular case are unenforceable penalties. “Liquidated damages” refers to a specific sum of money that has been stipulated by parties to a contract as “the amount of damages to be recovered by one party for a breach by the other, whether it exceeds or falls short of actual damages.” Time Warner Entm’t Co., L.P., v. Whiteman, 802 N.E.2d 886, 893 (Ind. 2004). “A typical liquidated damages provision provides for the forfeiture of a stated sum of money upon breach without proof of damages.” Gershin v. Demming, 685 N.E.2d 1125, 1127 (Ind. Ct. App. 1997). Reasonable liquidated damages provisions are permitted. Skendzel v. Marshall, 261 Ind. 226, 232, 301 N.E.2d 641, 645 (1973), reh’g denied. “While liquidated damages clauses are ordinarily enforceable, contractual provisions that constitute penalties are not.” Weinreb v. Fannie Mae, 993 N.E.2d 223, 232-33 (Ind. Ct. App. 2013). Whether a contract provision providing for liquidated damages is an unenforceable penalty is a question of law for the court to decide. Corvee, Inc. v. French, 943 N.E.2d 844, 847 (Ind. Ct. App. 2011). “We have refused to enforce contracts when their provisions are unconscionable or when they offend the laws of this State, but there must be a clear showing by the party urging it that the contract provision was nothing more than mere penalty.” Court Rooms of America, Inc. v. Diefenbach, 425 N.E.2d 122, 124 (Ind. 1981). As the moving party, Defendants have the initial burden of demonstrating that the contract provisions at issue are unenforceable penalties. Here, the facts regarding the contents and financial consequences of the liquidated damages clauses are undisputed. The facts show that the employee solicitation restriction in the Knowles agreement provides that he pay 50% of the annual salary of each Indiana Supreme Court | Case No. 18S-PL-00437 | December 18, 2019 Page 5 of 12 employee that leaves ASI due to his actions. The trial court found that this would amount to approximately $272,165 in damages. The Day and Lancet agreements provide that they must each pay 100% of the salary for each employee that leaves ASI due to their actions. This would amount to approximately $238,374 for Day and $176,813 for Lancet. The client solicitation restriction in the Knowles agreement provides that he is responsible for 45% of ASI’s prior 12 months of revenue generated by the client if Knowles violates the agreement and that client purchases services from HWC. The trial court found that these damages could be in the range of millions of dollars. While ASI is correct that the damages in this case are difficult to ascertain and this Court has previously noted its unwillingness to interfere in the freely negotiated contracts of the parties (see Time Warner, 802 N.E.2d at 886), this alone is not enough to enforce a liquidated damages provision. The liquidated damages provisions related to employee recruitment in this case are facially problematic for several reasons. 3 First, it is not clear how an employee’s salary for the prior year correlates to the loss to the company as salary alone is not reflective of revenue to ASI. While the salary of an employee factors into revenue to some extent, it is not the only variable that determines revenue, and ASI could hire other employees. It is also not clear why Knowles, who held a higher rank and made more money than Day or Lancet, is responsible for 50% of a recruited employee’s salary while Day and Lancet are responsible for 100% of it. Additionally, as Judge Riley aptly noted in her dissent in the Court of Appeals below, because several employees were recruited in violation of all three agreements at issue, ASI was seeking 250% of their respective salaries. Even if we were to assume that the lost employee’s salary was an appropriate measure of damages, it is highly 3While the dissent believes we are relieving the Defendants of their burden on summary judgment, this is not the case. Instead, we are acknowledging that Defendants’ burden here was not especially hard to meet given the flaws in the parties’ contract. Indiana Supreme Court | Case No. 18S-PL-00437 | December 18, 2019 Page 6 of 12 unlikely it would cost ASI 250% of a recruited employee’s salary to replace them. Prior case law is also instructive. In cases where liquidated damages were enforceable in an employment context, the sum was certain and reasonably tied to the actual losses. For instance, in Raymundo v. Hammond Clinic Ass’n., 449 N.E.2d 276, 284 (Ind. 1983) and Harris v. Primus, 450 N.E.2d 80, 85-86 (Ind. Ct. App. 1983), our courts enforced liquidated damages in two cases where doctors breached their employment contracts. In each of those cases, the doctors were subject to liquidated damages clauses that set forth a specific sum for the breach, both $25,000, which represented a portion of the revenue each doctor earned prior to the breach. Unlike those cases, the liquidated damages clauses in the present case: 1) do not provide for payment of a specific sum, but rather, provide for a percentage of a yet to be ascertained sum; 2) the percentages provided for in the provisions are not tied to ASI’s actual lost revenue from losing its employees; and 3) the liquidated damages are not a portion of Defendant’s salaries; they far exceed the salaries of the Defendants. Further, in cases where the liquidated damages in an employment contract were not enforceable, the liquidated damages provision applied the same punishment for a broad range of conduct and served to punish the breaching employee. See Hahn v. Drees, Perugini & Co., 581 N.E.2d 457 (Ind. Ct. App. 1991); Seach v. Richards, Dieterle & Co., 439 N.E.2d 208 (Ind. Ct. App. 1982). Here, Knowles’ contract provides that he must pay liquidated damages if he solicits or recruits, or assists anyone else in soliciting or recruiting, ASI employees. It also punishes him whether he hires or merely attempts to hire an ASI employee. As for Day and Lancet, two hourly employees, their contracts provide that they pay damages in excess of their own salaries should they solicit ASI employees. The liquidated damages provisions would not serve as a mechanism for Defendants to pay those damages instead of perform the contract. Thus, on their face, it seems these penalties are meant to secure performance and punish the breaching party, not to compensate ASI’s actual losses. As for Knowles’ agreement to not solicit ASI’s clients, the penalty of 45% of the prior year’s revenue from that client to ASI is in no way tied to Indiana Supreme Court | Case No. 18S-PL-00437 | December 18, 2019 Page 7 of 12 ASI’s actual losses. As discussed by Judge Riley in her dissent, ASI is seeking damages for contracts it was ineligible for and the contracts gained by HWC involving ASI clients are far less valuable than those ASI previously had with the client. Thus, this liquidated damages provision is a penalty meant to secure performance and one that is not proportional to ASI’s actual losses. Accordingly, in light of the evidence in the record and our case law, we find that Defendants met their initial burden of showing that the liquidated damages in this case are facially unreasonable and as such, the burden is on ASI to show an issue of material fact. That is, it must show that the liquidated damages are somehow correlated with the actual damages and thus, an issue of fact remains as to whether the liquidated damages are unenforceable. B. ASI has not shown the liquidated damages are correlated to their actual losses. While “a party who seeks to enforce a liquidated damages clause need not prove actual damages,” it “may be required to show a correlation between the liquidated damages and actual damages in order to assure that a sum charged may fairly be attributed to the breach.” Harbours Condo. Ass’n v. Hudson, 852 N.E.2d 985, 993 (Ind. Ct. App. 2006). When liquidated damages are grossly disproportionate to the loss that results from the breach or are unconscionably in excess of the loss sought to be asserted, appellate courts will treat the sum as an unenforceable penalty rather than as liquidated damages. Art Country Squire, L.L.C. v. Inland Mortg. Corp., 745 N.E.2d 885, 891 (Ind. Ct. App. 2001) (quotation and citation omitted). “The distinction between a penalty provision and one for liquidated damages is that a penalty is imposed to secure performance of the contract and liquidated damages are to be paid in lieu of performance.” Gershin, 685 N.E.2d at 1125 (citation omitted). When determining whether a provision constitutes liquidated damages or an unenforceable penalty, appellate courts “consider the facts, the intention of the parties and the reasonableness of the stipulation under the circumstances of the case.” Art Country Squire, 745 N.E.2d at 891. Indiana Supreme Court | Case No. 18S-PL-00437 | December 18, 2019 Page 8 of 12 For its part, ASI argues that the damages provisions are in fact reasonable forecasts of the loss they suffered. They argue that they lost seven valuable employees who generated revenue over a million dollars. However, they introduced no evidence that they could not replace these employees or their billing, in whole or in part. Also, as discussed above, it is not clear how a portion of the recruited employee’s salary is correlated with damages. ASI’s position assumes replacing an employee who made $40,000 costs $20,000 if recruited by Knowles and $40,000 if recruited by Lancet or Day, despite how much the replacement employee is actually paid or how much revenue they generate, and an employee who made $60,000 would cost $30,000 to $60,000 to replace. Certainly, the person who recruited an employee is in no way tied to the value of the employee or the loss suffered by ASI. ASI has not demonstrated otherwise. Thus, even accepting ASI’s position that it was damaged by Defendants’ actions, that those damages are hard to calculate, that the employees who were recruited were valuable and that ASI incurred costs to replace these employees, the liquidated damages provisions as written are not correlated to the actual loss, and ASI offers no reasonable explanation or nexus between the two. For instance, ASI could have offered evidence regarding how much they spent on the employee recruitment process or other evidence demonstrating some correlation between the liquidated damages provision and actual damages. It did not. As for damages resulting from Knowles’ solicitation of ASI clients, ASI has put forth evidence that since Knowles arrived at HWC, it booked projects with ASI clients with revenues totaling over $14 million. This would make Knowles liable for millions of dollars in liquated damages based on a broad range of conduct. As the trial court stated: Given the potential activities that Knowles could engage in to violate the [ ] Agreement, ASI has provided no rational relation to how damages arising from such actions could reasonably result in damages nearly 45% of the client’s previous annual business with ASI. The possibility of several millions of dollars’ worth of damages appears to have been included to serve more Indiana Supreme Court | Case No. 18S-PL-00437 | December 18, 2019 Page 9 of 12 as a threat to Knowles against breach than a mutual understanding of what likely damages would result in the event of a breach. . . . (App. Vol. II at 55; Trial Court Order at 35.) We agree that this provision is punitive in nature, and ASI has not shown the correlation between its actual damages and the liquidated damages sought. To be clear, ASI is asserting that if it had a contract with a client for $1 million immediately prior to Knowles’ departure from ASI, and after Knowles joined HWC it obtained a contract with that same client for $100, Knowles would be responsible for $450,000 in damages. This would be a windfall to ASI and a penalty to Knowles. The liquidated damages provision as written is too broad and captures too much conduct to be construed as a reasonable measure of damages resulting from a breach. In sum, we find that all of the liquidated damages provisions at issue are unenforceable penalties. ASI may seek its actual damages for its breach of contract claims.