Opinion ID: 1997619
Heading Depth: 2
Heading Rank: 2

Heading: Punitive Damages for Breach of Contract

Text: The question of punitive damages is more difficult. The nature of the conduct which gives rise to a breach of the Covenant in the context of at-will employment requires consideration of the broader question of punitive damages as a remedy for breach of contract. Historically, damages for breach of contract have been limited to the non-breaching parties' expectation interest. See Restatement (Second) of Contracts § 347. Also, punitive damages are not recoverable for breach of contract unless the conduct also amounts independently to a tort. [17] Id. § 355. See also Farnsworth, Contracts § 12.8 ([N]o matter how reprehensible the breach, damages that are punitive, in the sense of being in excess of those required to compensate the injured party for lost expectation, are not ordinarily awarded for breach of contract) (citing J.J. White, Inc. v. Metropolitan Merchandise Mart, Inc., Del.Super., 107 A.2d 892, 894 (1954)). [18] As the introductory note to the remedies portion of the Restatement (Second) of Contracts states: The traditional goal of the law of contract remedies has not been compulsion of the promisor to perform but compensation of the promisee for the loss resulting from the breach. Willful breaches have not been distinguished from other breaches, punitive damages have not been awarded for breach of contract, and specific performance has not been granted where compensation in damages is an adequate substitute for the injured party. The Uniform Commercial Code also adheres to the traditional view that expectation damages are the standard remedy for breach of contract. 6 Del.C. § 1-106. Although the UCC imposes a duty of good faith and fair dealing, 6 Del.C. § 1-201 & 2-103, punitive damages generally are not awarded for a breach of the Covenant. Unless the bad faith rises to the level of an independent tort, which itself would support an award of punitive damages, mere bad faith on the part of a party to a contract will not give rise to punitive damages. Anderson, Damages Under the Uniform Commercial Code § 11:35 (1992 & Supp. 1995). Traditional contract doctrine is also supported by the more recent theory of efficient breach. The theory holds that properly calculated expectation damages increase economic efficiency by giving the other party an incentive to break the contract if, but only if, he gains enough from the breach that he can compensate the injured party for his losses and still retain some of the benefits from the breach. Restatement (Second) of Contracts, Reporter's Note to Introductory Note to ch. 16, Remedies; see also Barton, The Economic Basis of Damages for Breach of Contract, 1 J.Legal Studies 277 (1972). The notion of efficient breach accords remarkably with the traditional assumptions of the law of contract remedies. Farnsworth, Contracts § 12.3 at 155. [19] Punitive damages would increase the amount of damages in excess of the promisee's expectation interest and lead to inefficient results. Id. at 155-56. The traditional rule has been subject to a number of limited but well recognized exceptions. Judge Friendly, writing for the Second Circuit, listed the following: breach of a contract to marry; failure of a public monopoly to discharge its obligations to the public; breach of a fiduciary duty; breach accompanied by fraudulent conduct; and bad faith refusal by an insurer to settle a claim. Thyssen, Inc. v. S.S. Fortune Star, 2d Cir., 777 F.2d 57, 63 (1985) (citing authorities). This Court has permitted punitive damages in the insurance bad faith context. Most recently, Pierce v. International Ins. Co. of Ill., Del.Supr., 671 A.2d 1361, 1367 (1996), held that: [P]unitive damages may be available in the context of a contract action if the denial of coverage is wilful or malicious ... [and] when the bad faith actions of an insurer are taken with a reckless indifference or malice toward the plight of the injured employee [insured].... Also, in Tackett v. State Farm Fire & Cas. Ins. Co., Del.Supr., 653 A.2d 254, 265 (1995), this Court held that: [A]n insured may be entitled to the recovery of punitive damages in a bad faith action if the insurer's breach is particularly egregious. Whether to expand punitive damages beyond the traditional applications is a question that occurs frequently. Some commentators have argued for greater availability of punitive damages for breach of contract. [20] While these arguments have some force, we are reluctant to depart markedly from the well-established body of law. The reasons for a cautious approach retain much force. The California Supreme Court described these concerns succinctly, stating: [T]he employment relationship is not sufficiently similar to that of insurer and insured to warrant judicial extension of the proposed additional tort remedies in view of the countervailing concerns about economic policy and stability, the traditional separation of tort and contract law, and finally, the numerous protections against improper terminations already afforded employees. Foley v. Interactive Data Corp., 47 Cal.3d 654, 254 Cal.Rptr. 211, 234-35, 765 P.2d 373, 396 (1988). Considerations of policy support this view. Parties would be more reluctant to join in contractual relationships, or would expend more effort explicitly defining such relationships, if they faced the prospect of damages which could be out of proportion to the amounts involved in the contract. Contracting is a bargained-for exchange. It is the primary mechanism for the allocation of goods, labor and other resources in a socially desirable manner. Restatement (Second) of Contracts, Introductory Note to ch. 16. We recognize the need for caution in fashioning common-law remedies which might inhibit such activity. See Harris v. Atlantic Richfield Co., 14 Cal.App.4th 70, 17 Cal. Rptr.2d 649, 653-654 (1993) (restrictions on contract remedies promote contract formation by limiting liability to the value of the promise); Miller Brewing Co. v. Best Beers of Bloomington, Inc., Ind.Supr., 608 N.E.2d 975, 981 (1993) (well-defined parameters ... lend a needed measure of stability and predictability). In Pierce and Tackett, this Court has allowed punitive damages for bad faith breach of an insurance contract. This raises the question: Why should insurance contracts be treated differently from virtually all others? The California Supreme Court has relied upon the special relationship between insurer and insured to support such a distinction. The special relationship, according to the California Supreme Court, is characterized by: (1) the personal interests  as opposed to commercial interests  sought to be protected by insurance; (2) the public service nature of insurance; and (3) the adhesive nature and unbalanced bargaining position between insurer and insured. Foley, 765 P.2d at 390. Also, we have described the essential benefits of an insurance contract as income security and a reduction in uncertainty. Pierce, 671 A.2d at 1366. The California Court distinguished the employment relationship, stating: [I]n terms of abstract employment relationships as contrasted with abstract insurance relationships, there is less inherent relevant tension between the interests of employers and employees than exists between that of insurers and insureds. Thus the need to place disincentives on an employer's conduct in addition to those already imposed by the law simply does not rise to the same level as that created by the conflicting interests at stake in the insurance context. Foley, 765 P.2d at 396. Market forces will not allow an employer consistently to treat valued employees in such a shabby manner as that presented here. An employer has an incentive to retain and motivate employees to achieve its mission. Some will do this better than others, but all employers have an incentive to do it well. Corporations cannot allow their agents systematically to engage in ill treatment of employees, particularly in light of the numerous protections against improper terminations already afforded employees. Foley, 765 P.2d at 396. Insurance is different. Once an insured files a claim, the insurer has a strong incentive to conserve its financial resources balanced against the effect on its reputation of a hard-ball approach. Insurance contracts are also unique in another respect. Unlike other contracts, the insured has no ability to cover if the insurer refuses without justification to pay a claim. Insurance contracts are like many other contracts in that one party (the insured) renders performance first (by paying premiums) and then awaits the counter-performance in the event of a claim. Insurance is different, however, if the insurer breaches by refusing to render the counter-performance. In a typical contract, the non-breaching party can replace the performance of the breaching party by paying the then-prevailing market price for the counter-performance. [21] With insurance this is simply not possible. [22] This feature of insurance contracts distinguishes them from other contracts and justifies the availability of punitive damages for breach in limited circumstances. Economic theory also provides some support for the distinction. The economic theory supporting the notion of efficient breach assumes a world without transaction costs. In some cases, particularly those involving relatively large proportionate transaction costs such as lawsuits involving small amounts, the theory may have less application. Insurance is far from the market ideals of complete information and no transaction costs. Pennington, Punitive Damages for Breach of Contract: A Core Sample From the Decisions of the Last Ten Years, 42 Ark.L.Rev. 31, 54 (1989). The assumption of no transaction costs is a particularly significant defect if the amount in controversy is small. Farnsworth, Contracts § 12.3 at 157. Punitive damages or other supercompensatory remedies may be appropriate where a party exploits the inadequacies of purely compensatory remedies.... Patton v. Mid-Continent Sys., Inc., 7th Cir., 841 F.2d 742, 751 (1988) (Posner, J.); see also Posner, Economic Analysis of Law 104-106 (3d ed. 1986); Kronman & Posner, The Economics of Contract Law (1979). Accordingly, we hold that punitive damages are not available for any breach of the employment contract which may be found by the jury upon retrial of Pressman's claim.