The term "Expectation Damages" refers to the preferred remedy for breach of a contract in the United States legal system. The premise itself is simple - the court attempts to award a monetary amount (when possible and appropriate - sometimes the award may be specific performance) that will place the non-breaching party at the economic point they would have been had the contract been fully performed. Put simply, if the person who held up their end of the bargain should have profited $50 from a contract, the court will award them cash such that their bank balance is $50 greater than before the contract started.

There is a deceptively simple formula for calculating these damages.

Where
A = Contract Price
B = Other Losses for the Non-Breaching Party
C = Mitigated Losses for the Non-Breaching Party
D = Prevented Losses / Other Gains for the Non-Breaching Party

A+B-C-D = Expectation Damages

Some of you may find it easier to think of it as (cost of reliance on contract + expected profit + other losses) - (losses avoided)= Expectation Damages, but for the following examples we'll use the formula above.

It should be noted that C and D are virtually interchangeable and you could just say A+B-C where C is "Losses avoided", but the Second Restatement of Contracts lists it as shown. Now that we have the formula, how about an example for its utilization?

Suppose a builder agrees to construct a home for $100,000 - $90k in labor/materials and $10k in profit. Assume for the moment he buys materials only as he needs them and uses them instantly in construction (yeah, this is akin to a perfectly spherical cow in physics, but bear with me). If the buyer breaches and refuses to pay a cent for the home exactly halfway through building, constituting a total material breach, the builder may halt construction and sue for the breach, asking for expectation damages.

As he has finished exactly half of the home, we can use elementary math to say he has spent $45,000 in labor/material costs. Remember, the goal of Expectation Damages is to return the non-breaching party to where they would be if the contract had finished - in this case, $10,000 above the line. So, it's pretty simple math to say "Give him $55,000; the 45k he spent plus his expected profit", but let's use the formula:

A = Contract Price = $100,000
B = Other Losses = $0
C = Mitigated Losses = $0
D = Prevented Losses = $45,000 for the work/parts not used.

A+B-C-D = $55,000

Easy right? Well it can get a lot more complicated. Let's make a more realistic assumption now and say that materials are purchased in advance, and not used instantly. He spent $45k on construction and labor, but was able to sell $5,000 worth of lumber which he had not used yet. The formula would now show:

A = Contract Price = $100,000
B = Other Losses = $0
C = Mitigated Losses = $5000
D = Prevented Losses = $45,000 for the work/parts not used.

A+B-C-D = $50,000

Logically, this makes sense. If the court were to give the builder $55k and he sold the unused materials for $5k, then he would actually end up $15,000 in the black - 50% better off than the contract intended, a windfall victory for the plaintiff. This is patently unfair and not our goal.

This formula follows both under common law and the Uniform Commercial Code (the UCC governs contracts for sale of goods while the common law governs all other contracts for services and the like). It should be noted that under both common law AND the UCC the non-breaching party is required to make a reasonable attempt to mitigate their damages (or find "cover" as the UCC calls it). For example, when the homebuilder finds out the buyer will not pay... he should stop building. He cannot continue to build and thus accrue further damages. If a distributor fails to ship a hot ticket item to a retailer, the retailer should attempt to "cover" its damages by buying the product somewhere else at a reasonable price, then sue for the difference. If the non-breaching party does NOT attempt to mitigate his damages and the breaching party shows that such mitigation was possible and reasonable, that possible mitigation will be removed from the expectation damages awarded.

That's the concept in a nutshell, though it can become increasingly more complex (especially when dealing with employment contracts and improper termination). Join us next time when we will discuss Reliance Damages.

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