Liquidated Damages Clauses Enforceable in Commercial Leases

The Massachusetts Supreme Judicial Court (the “SJC”) recently reversed the Appeals Court decision Cummings v. Hines[1]and examined whether the liquidated damages provision in a commercial lease (i) constituted an unenforceable penalty clause as opposed to a reasonable prediction of damages, and (2) could be invalidated due to a party’s level of sophistication or lack thereof. 

Darryl C. Hines (“Hines”) was the owner of Massachusetts Constable’s Office Inc. (“MCO”), a process service company. In April 2016, MCO entered into a 5-year lease with Cummings Properties, LLC for office space in Woburn, Massachusetts. Hines also signed a personal guaranty ensuring MCO’s prompt payment of rent. The lease provided that in the event MCO failed to promptly pay rent, Cummings had the right to terminate the lease, and collect the rental balance for the remainder of the lease term as liquidated damages. 

One month into the lease, MCO failed to pay rent, and Cummings terminated the lease and initiated a summary process action. Less than one year later, Cummings successfully re-let the premises to another tenant. Cummings then filed a Superior Court action against Hines as guarantor to enforce the liquidated damages provision of MCO’s lease. After a bench trial, the Superior Court found in favor of Cummings. Hines appealed, and the Massachusetts Appeals Court reversed, ruling that the liquidated damages provision constituted an unenforceable penalty. Cummings appealed that ruling, and the SJC reversed the Appeals Court. 

The SJC explained that courts around the country typically employ one of two enforceability tests when analyzing liquidated damages clauses: the “single look” and the “second look” approaches. The single look approach examines the circumstances present at the time of contract formation, and the “second look” approach examines the circumstances at the time of breach. In Massachusetts, courts use the single look approach, as it “most accurately matches the expectations of the parties, who negotiated a liquidated damage amount that was fair to each side based on their unique concerns and circumstances surrounding the agreement, and their individual estimate of damages in event of a breach.” Under the single look approach, a liquidated damages clause should be enforced if (1) at the time of execution, the actual damages resulting from a breach would be difficult to ascertain and (2) the sum represents a reasonable forecast of damages expected to occur in the event of a breach. 

Applying the single look approach to the facts in the Cummings case, the SJC held that the provision was enforceable. The SJC found that Hines failed to satisfy his burden of establishing that damages resulting from a lease breach were easily ascertainable at the time the lease was signed or that the liquidated damages were disproportionate to a reasonable estimate of those actual damages likely to result from a breach. In the absence of evidence from Hines, the Court emphasized that there was no way to predict when a breach would occur at the time the lease was executed, whether or when the premises could be re-let following a breach, the rent paid by a new tenant, or costs Cummings would incur in the meantime. The SJC also concluded that where the liquidated damages amount represents the agreed-

upon rental value of the property, it is a reasonable estimate of damages likely to result from a breach. The SJC also held that the amount of a liquidated damages clause does not need to take into account future rents collected from reletting in order to be enforceable. 

Finally, Hines also argued that the liquidated damages clause should not be enforced against him due to his unsophistication as a businessman. The SJC rejected this argument pointing out that Hines (i) started at least two businesses, (ii) converted MCO from a for-profit to a not-for-profit company, which required the completion and filing of various corporate forms, (iii) ran a tax preparation company at the same time he was an officer of MCO, (iv) employed up to ten individuals at MCO, and (v) negotiated a contract with the Massachusetts Department of Revenue. Based on these facts, the SJC held that the trial court properly found that Hines was “sufficiently sophisticated to be held to the provisions of the contract he signed.”

Commercial landlords and tenants should be aware that liquidated damages clauses will often be enforceable in Massachusetts where the “single look” framework is satisfied, and the tenant is, generally, a commercially competent party. 

[1]Cummings v. Hines was an Appeals Court decision reported on in the February 2023 edition of the Law of the Land newsletter. See here.

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