Court Limits Award of Damages


The California Supreme Court recently reversed a decision of a lower court awarding a contractor more than $3 million dollars in lost profits attributed to “impaired bonding capacity.” (Lewis Jorge Construction Management, Inc. v. Pomona Unified School District 2004 Cal. LEXIS12220).

In 1994, the Pomona Unified School District awarded a $6 million contract for construction of improvements at an elementary school. When the contractor did not complete the job by the adjusted completion date, the district first withheld payments and then terminated the contract and made a demand on the contractor’s performance bond surety to complete the project.

The contractor sued the district and an employee alleging, among other things, that the district breached the contract when it declared the contractor in default and terminated the contract. The contractor presented evidence that its bonding capacity was reduced by a factor of 50% within a year after the termination, and that the contractor eventually had to close its business. Based upon evidence of the contractor’s prior history of profitability, the jury awarded the contractor more than $3 million in profits lost as a result of the reduction in bonding capacity. The California Court of Appeal upheld the portion of the judgment against the district relating to lost profits.

The California Supreme Court noted that in awarding damages for breach of contract, the goal is to put the plaintiff in as good a position as he or she would have occupied if the defendant had not breached the contract, but this amount should not exceed what the plaintiff would have received it the contract had been fully performed.

The court reviewed the law relating to damages for breach of contract, noting that an injured party should only be able to recover “general damages” flowing directly from the breach of the contract (considered to have been predictable and expected by the parties at the time of contracting) or “special damages” arising from the impact of the breach on the injured party’s particular circumstances which were communicated or known to the breaching party or which should have been known, and are not remote or speculative. The court held that the contractor’s bargain with the school district was such that the contractor could expect to recover as general damages the profit from the terminated project, but the termination did not necessarily cause the loss of potential projects on other, future contracts; this was the result of the surety’s decision to cease providing bonding for the contractor.

The court held that the lost profits were too speculative to qualify as special damages. The evidence showed that termination of a contract may or may not cause a surety to reduce bonding capacity, depending on factors such as the contractor’s balance sheet and other criteria. Absent knowledge of these particular facts by the district at the time of contracting, the contractor’s loss of future profits due to impaired bonding capacity was not considered to have been expected by the parties or reasonably foreseeable when they entered into the contract.

The Court’s ruling appears to rule out recovery of lost profits from impaired bonding capacity as general damages. It probably leaves open the possibility for a contractor to recover special damages for losses resulting from reduction in bonding capacity where the contractor can demonstrate that its financial status, bonding capacity, and risk factors for reduction in its bonding capacity are disclosed or known to the parties at the time the contract is entered into.

If you would like more information concerning this case or the topics discussed in the case, do not hesitate to contact Assistant General Counsel Grant Herndon or the other attorneys in the Business Practice Group at Schools Legal Service, Bill Hornback and Chris Burger.