1 Alternative Remedies for Breach of Contract Remedies may include money damages or specific performance may be required. In this section we want look at different remedies that might occur. Later we will develop models to compare the incentive effects of different remedies.

2 Expectation damages We have already seen expectation damages as a remedy for breach of contract. Let’s add some new ideas to this notion. Had the agent performed, the principal would have attained a certain value. This value is the ‘baseline’ for computing injury. Perfect expectation damages makes the principal just like he would have been had the contract been performed. Thus, the principal is indifferent between performance and breach under perfect expectation damages. Note: if the contract is performed, but at lesser value than agreed upon, then the principal is entitled to be paid the ‘diminished value.’ The would be what they should have gotten minus what they actually obtained.

3 Reliance Damages If the principal relies on the agent we saw the principal may want to make some additional expenditures to enhance the contract with performance. If breach occurs this reliance means the agent has an additional loss. The principal is worse off under the contract with breach than not having the contract. The ‘baseline’ for remedy of injury is the non-contract value, or replace the value lost. Perfect reliance damages leaves victims indifferent between no contract and breach.

4 Opportunity cost damages The principal may forfeit another opportunity when agreeing with the agent. The lost opportunity provides the ‘baseline’ for remedy of injury. With perfect opportunity cost damages the potential victim is indifferent between performance of the best alternative and breach. Summary table Under perfect ….. damagesPrincipal is indifferent to Expectationperformance and breach Relianceno contract and breach Opportunity costnext best alternative and breach These are the baseline measures for remedy of injury.

5 Hawkins V. McGee – The case of the hairy hand Hawkins had an injured hand with a scar. The condition of the hand was about 50% of perfect. Dr. McGee convinced Hawkins to have the injured hand operated on and the doc said he could make it 100% perfect. Another doc would have done the surgery, but only claimed to be able to make it 75% perfect. Dr. McGee does the surgery by taking skin from the guys chest to put on the hand. It is a real failure. The scar is larger, the hand grows chest hair and the usage is only 25%. Hawkins wins a breach of contract case, but what should be the amount of the award of damages?

6 In order to think about the damages, the authors have us return to indifference curves and utility theory. It seems safe to assume Hawkins would prefer a 100% perfect hand to a 75% perfect hand, and that would be preferred to a 50% perfect, which would be preferred to a 25% perfect hand. On the next slide I how indifference curves to indicate the varying degrees of utility for Hawkins.

7 25% 50% 75% 100% Hand condition $ A B C Expectation curve Opportunity cost curve Reliance curve

8 Notice along the horizontal axis we have the condition of the hand. If the surgery went as Doc McGee said it would the hand would be 100% and no money damages would be paid. Perfect expectation damages would have to be amount ‘A’ because this amount of money would have the individual be indifferent to no money, 100% hand(performance) to the money damage ‘A’ and a 25% hand. Perfect opportunity cost damages would have to be amount ‘B’ because this amount of money would have the individual be indifferent to no money, 75% hand (next best alternative) to the money damage ‘B’ and a 25% hand. Perfect reliance damages would have to be amount ‘B’ because this amount of money would have the individual be indifferent to no money, 50% hand (no contract for surgery) to the money damage ‘C’ and a 25% hand.

9 The calculation of the damage amount in any of these three cases is not easy to accomplish. It probably incorporates lifetime income of various conditions of the hand. But it does lay out for us the idea that perfect expectation damages > or = perfect opportunity cost damages > or = perfect reliance damages. Now, say there is a market setting where every seller(doctor here) makes the same claim about performance. This would be a perfectly competitive market. This would mean all the alternatives are the same. In this case perfect expectation damages = perfect opportunity cost damages.

10 Restitution as a remedy The agent would have to give back what was taken from the agent. This is a simple method, but ignores the notions we just went over. Perfect disgorgement damages These damages are paid to the victim to eliminate the injurer’s profit from wrongdoing. Example: a member of the board of directors of a corporation hears that some of the land owned by the corporation is really valuable. He goes and buys the land from the corp and then turns around and sells it at this more valuable rate. Disgorgement damages would have the board member pay the corp the ‘profit’ he made on the sale.

11 Specific performance This remedy requires the injurer to do what was promised in the contract. The authors mention that specific performance is the remedy usually used when the contract involved the sale of goods for which there is no close substitutes. Part of the logic here is that is difficult to get a handle of the ‘value’ of the item. The authors go on to say that the error in the court’s estimation of expectation damages decreases as the ease of substitution increases.

12 Party designed remedies The contract may have a clause that says a sum of money will be paid by the promise breaker – called liquidated damages. Or, an asset may be recovered by the injured. Finally, the parties may specify a process for resolving disputes between them. Sometimes a party designated remedy will stipulate damages exceeding the actual harm of the breach. If so, the addition is called a ‘penalty.’