Permavent Ltd & Anor v Makin

The penalty rule applies to a secondary obligation imposed on breach of a primary obligation. The question is whether the detriment is extravagant, exorbitant, unconscionable or out of all proportion to the innocent party’s legitimate interest in performance. That interest may extend beyond compensation for direct loss and may include wider commercial interests protected by the contract. The assessment is made when the contract was entered into, although later events may provide evidence of what loss could reasonably have been anticipated. In a negotiated agreement between properly advised parties of comparable bargaining power, there is a strong presumption that the parties’ assessment should be upheld. Separate consequences within a clause may be considered individually, but may collectively protect a single wider business interest.

The claimants and the defendant had settled disputes concerning the defendant’s shares in group companies and intellectual property rights used in the claimants’ roofing business. The Settlement Agreement required the defendant not to claim an interest in, challenge ownership of, or challenge the validity of the intellectual property rights.

It provided that, upon such conduct, payments otherwise due to the defendant would cease, earlier payments would be repayable, and a further sum would become immediately payable. The defendant had already been found to have breached the agreement by registering an equitable interest in patents. The issue was whether those consequences were unenforceable penalties.

1. The claimants succeeded. Clauses 2.11.4 to 2.11.6 were enforceable and were not penalties. The counterclaim for an account was dismissed. The claimants were entitled to a declaration that no further Easy Roof System Payments were payable and to judgment for £62,870 under clause 2.11.5 and £616,667 under clause 2.11.6.

2. The court applied the approach in Cavendish Square Holding BV v Talal El Makdessi [2015] UKSC 67; [2016] AC 1172. The essential questions were what legitimate business interest the provisions protected and whether the detriment was out of all proportion to that interest. The penalty analysis was undertaken by construction of the agreement as at the date it was made.

3. The protected interest was not confined to compensation for the immediate consequences of the particular breach. The intellectual property rights were fundamental to the claimants’ business. A dispute about title or validity could affect manufacturing, supply, sales, finance, investment, management time and the value of the business. The defendant’s pre-contract conduct was relevant to the likely consequences of a breach, not merely to the likelihood of breach.

4. The restrictions in clauses 2.10.1 to 2.10.3 were broad and overlapping. They were directed to preventing interference with the intellectual property rights. The court rejected the attempt to assess proportionality solely by reference to clause 2.10.1 and the actual registration of an equitable interest. The analysis had to consider the protected interest and potential harm identified when the agreement was entered into.

5. Although the consequences were harsh, they were not extravagant, exorbitant or unconscionable in relation to the potential harm to the claimants’ business. The defendant had legal advice and the consequences had been foreshadowed in earlier negotiations. Each sub-clause could theoretically be assessed separately, but cumulatively the provisions protected the same legitimate business interest and remained proportionate.

First-instance decision. No prior appellate decision is stated in the judgment.