Negative covenants, also known as restrictive covenants, are contractual obligations not to do certain acts. They are a common feature in commercial contracts, and commonplace in banking / facility documents. For example, in the acquisition context, there will usually be non-compete and non-solicitation obligations on the part of the seller to preserve the buyer's benefit of acquiring the business. In the banking space, it is common to find negative pledge clauses. In many other contexts, non-disclosure agreements serve to protect the (often unquantifiable) value of confidential information.
In this article, we (1) recap the usual problems faced in enforcing a negative covenant; (2) summarise the legal remedy known as Wrotham Park damages (or "negotiating" damages as subsequently coined by the English court) and which was recently confirmed by the Singapore Court of Appeal in Turf Club Auto Emporium Pte Ltd and others v Yeo Boong Hua and others and anor appeal [2018] SGCA 44 to be part of the Singapore legal landscape; and (3) discuss the potential practical implications of Turf Club.
The problem
When a party breaches a negative covenant, the aggrieved innocent party often finds itself without a real or meaningful remedy. There are essentially two aspects to this legal problem.
The first aspect is the inherent difficulty in proving damages. Ordinarily, damages for breach of contract are calculated to compensate the innocent party by reference to a counterfactual in which the innocent party receives the promised performance. This principle generally works well for positive obligations, but less so for negative obligations. In many cases, a breach of a negative obligation may not cause an identifiable financial loss - at least not immediately, and usually not obviously. The whole concept of performance (which is premised on an overt act) also becomes problematic in the context of negative covenants (which is premised on not acting). The result of not being able to adequately prove loss is a Pyrrhic victory of no, or at best nominal, damages.
The second aspect relates to the discretionary nature of final injunctive relief. An injunction is usually the best way to compel the defaulting party to comply with its contractual obligation not to do something that it had agreed not to do, assuming that it is not too late to shut the proverbial stable door (as would often be the case involving a breach of a non-disclosure agreement where the horse would have bolted). However, this equitable remedy is discretionary – it is not as of right unlike orthodox damages. Factors such as delay, the "clean hands" of the plaintiff, and competing considerations are relevant to the court's exercise of discretion.
This double whammy was precisely what happened in the English case of Wrotham Park Estate Co Ltd v Parkside Homes Ltd [1974] 1 WLR 798. This case concerned a covenant not to develop land except in accordance with certain conditions. The plaintiffs conceded that the value of the land had not been diminished one farthing because of the defendant's development in breach of this negative covenant. In other words, they were unable to prove any financial loss. As for the injunction sought to restrain the development of the land, the English court ultimately declined to exercise its discretion to grant it as to do so would result in unpardonable economic waste.
Had the English court in Wrotham Park stopped there, it would seem that a party could effectively get an advantage by breaching its contractual obligation, entirely for free. This was an intuitively unjust outcome, and an unsatisfying blemish in contract law which is intended to hold parties to their agreed bargain.
The solution
In response to the injustice that the plaintiffs in Wrotham Park faced, the English High Court adopted a new measure of damages by reference to the amount that might reasonably have been demanded by the plaintiffs from the defendant for relaxing the covenant. This birthed the concept of a notional release fee / license fee, famously now known as "Wrotham Park damages".
Wrotham Park damages has been expressly confirmed to be part of the Singapore legal landscape by the Court of Appeal's decision in Turf Club. This case raised for determination, amongst other things, the remedies that should follow from the appellants' repudiatory breaches of certain express and implied terms in a consent order. In a nutshell, these terms involved not disturbing the status quo during the implementation of the consent order, not appropriating the benefit of a head lease pending full performance of the consent order, and not interfering with or hindering the valuers' discharge of their duties when they carried out valuation exercises as agreed under the consent order.
The Court of Appeal held that Wrotham Park damages was to be assessed objectively as at the date of the breach and by reference to a hypothetical bargain, rather than the parties' actual conduct and position. The Court of Appeal was also careful to set parameters for the award of this new head of damages. In the context of breaches of true negative covenants (i.e., not a positive obligation recast as a negative covenant in form), a plaintiff must meet several legal requirements:
- The plaintiff must first of all be caught in a true remedial lacuna. This can happen if the plaintiff did not suffer any financial loss, or if it is practically impossible to assess any such loss based on the orthodox measures. Crucially, mere difficulty in assessing such loss is insufficient. Further, specific injunctive relief is not available because the court cannot or will not grant such relief.
- Second, Wrotham Park damages would not be awarded if it would be irrational or totally unrealistic to expect the parties to bargain for the release of the relevant covenant, even on a hypothetical basis. An example is if the agreement to release the covenant would be illegal.
On the facts of the case in Turf Club, the Court of Appeal decided that an award of Wrotham Park damages was not appropriate as these requirements were not made out. In particular, it was still possible to assess damages on the orthodox compensatory basis.
The potential practical implications
From the perspective of the party in whose favour a negative covenant is made, the availability of an alternative head of damages for breach of such a negative covenant should be good news – more options in the armoury.
But is this really the case? The most effective legal tool to hold a defaulting party to its contractual bargain is oftentimes still an injunction. Hence, the availability of Wrotham Park damages may potentially dilute this important remedy. A defendant may now argue that since Wrotham Park damages are available under Singapore law, damages would be an adequate remedy, and injunctive relief is not justified. The availability of Wrotham Park damages may also feature generally at the stage where the court considers whether to exercise its discretion to grant an injunction.
It will be interesting to see how the law of injunctive relief in Singapore will develop in the shades of Wrotham Park damages, and how they will interface.
Whatever it is, the availability of Wrotham Park damages is something that all lenders and businesses should take into account, as this affects both covenantor and covenantee.
Dentons Rodyk acknowledges and thanks senior associate Andrea Gan for her contribution to this article.
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