On the Importance of Contract Damages in China Contracts

One of the things I love about my job is the different sort of clients we get. Some of our clients care little to not at all about the rationale behind what we as lawyers do. Other of our clients prefer an explanation for everything. The other day, one of our China lawyers cc’ed me on an email she sent to a client who wanted to know more about the contract damages provisions (a/k/a liquidated damages) we had put into a number of contracts we had just drafted for this client. I am running that e-mail below (modified slightly) because it is relevant to most China contracts and therefore relevant for just about anyone doing business with China or doing business in China.

The PRC Supreme Court has ruled that contract damages are always subject to being adjusted to actual damages. Adjustment can be up or down, based on the facts. That is why we never provide for a contract damage amount that is high. We always draft  our contract damage provisions to comply strictly with the actual and foreseeable damages standard.

For the following reasons, we nearly always provide for contract damages (subject, of course, to the Chinese company on the other side going along with them):

1). Injunctive relief is extremely difficult to get in China.

2. One of the best ways to stop a Chinese company from infringing on your intellectual property rights (IPR) is with a prejudgment writ of attachment. But to to get that you need a reasonable standard for the amount of damage that will set the amount of the writ. Contract damages provides that reasonable standard. Though it may be adjusted later we draft them very carefully and conservatively and clearly so that is likely not to happen. The amount we specify in our contract damages provisions is both clear and fair and because of that it serves as a good basis for a prejudgment write of attachment motion.

3. Under PRC Supreme Court interpretations, contract damages is not a replacement for actual damages as proved at trial or as the basis for a final judgment. This renders the contract damages provision weak, but it does not render it meaningless because it provides the basis for the court decision on the damage amount. If the contract damage provision is reasonable and is based on a specific method of calculation that is ultimately based on an external fact (how many infringing items sold and their value), then it will be very unusual for a defendant to be able to convince a court to reduce the amount. On the other hand, if the contract damages is based on nothing or is clearly a penalty amount, the court will simply ignore it. When a court ignores the contract damages amount set forth in your contract, your having had such a provision does you more harm than good. See China Contract Damages: More Art Than Science.

For more on the benefits of contract damages provisions and how to draft such provisions, check out the following:

• China Commercial Contracts: Writing the Contract Damage Provision
• China Contract Damages: What To Do, What To Do
• China Supply Chain Contracts: The Contract (Liquidated) Damages Provision

We will be discussing the practical aspects of Chinese law and how it impacts business there. We will be telling you what works and what does not and what you as a businessperson can do to use the law to your advantage. Our aim is to assist businesses already in China or planning to go into China, not to break new ground in legal theory or policy.