Recovering Management Costs Following A Breach Of Contract

When one party to an agreement breaches the terms of a contract, the innocent party can incur significant management costs. The innocent party may need to reorganise internal activities, divert staff from their usual activities and/or mitigate the effects of the other party’s breach. Although such management costs are recognised as a legitimate loss they can be difficult to prove. Fortunately, recent case law has identified some basic principles that should be followed in order to maximise the chances of recovering wasted management costs.

Proving that management costs were incurred

In order to successfully claim for wasted management costs, the claimant needs to prove that the other party’s breach caused a significant disruption to its business. Whether the disruption was “significant” will be a matter of fact depending on the circumstances of each case. Large businesses may find it difficult to demonstrate a significant disruption to the whole business; however, the case of Aerospace Publishing Ltd v Thames Water Utilities Ltd [2007] indicates that it is not impossible. In the Aerospace case, the court concluded that the evidence of the amount of time spent by several employees dealing with the defendant’s breach was substantial enough.

An example of such a disruption would be the claimant having to divert its staff away from their usual activities. A claimant can demonstrate this by using evidence that employees were required to investigate, rectify or undertake remedial work as a result of the defendant’s breach. In the Aerospace case, the court said that claimants do not need to take the possibly more expensive option of employing more staff to deal with the breach.

So long as the claimant can show that the employees were diverted from their usual activities they will be able to claim their salary costs. The claimant does not need to show that the diverted employees would otherwise have been involved in profit making activities.

Proving a significant disruption to the business or diversion of staff from their usual activities would be easier if the claimant has evidence of a decrease in turnover during the diversion of staff or an increase in turnover after the diversion of staff.

In Bridge UK.Com Ltd v Abbey Pynford plc [2007], the claimant successfully argued that their New Business Development Manager had to deal with the effect of the defendant’s breach instead of selling and marketing the claimant’s business. The claimant was also able to show that their turnover significantly increased once the breach was remedied. The Bridge UK.Com case is a good example of where the court was persuaded that the defendant’s breach caused disruption to the claimant’s business and one of its managers to be diverted from his usual activities.

Quantifying management costs

The additional expenditure, loss of revenue and loss of profit attributable to the time each employee spends dealing with the effects of a breach is not often easy to calculate. When it not possible to establish the actual loss, the courts can infer that the minimum value of the claimant’s loss is equal to the cost of employing the affected members of staff during the period of diversion. The loss can then be calculated at an hourly or daily rate based on the employees’ income. The reasoning behind this inference is, had the employees not been diverted away from their usual activities, their time would have directly or indirectly been spent generating income for the claimant. This calculation was approved in the Bridge UK.Com case. However, an additional “opportunity cost” uplift of 25% was held not to be recoverable.

Claim-related costs

Costs that the claimant incurs in relation to legal proceedings cannot be claimed as wasted management costs. Such costs include the cost of collating evidence and preparing submissions or witness statements. These costs would instead need to be claimed as part of the costs of bringing the claim. It may not always be easy to distinguish between work attributable to the remedying breach and work carried out in relation to the claim. The burden will be on the claimant to prove that the damages claimed were in fact wasted management costs.

In the Aerospace case, the claimant wished to claim for the cost of hiring two freelance workers following the defendant’s breach. It later transpired that large amounts of the workers’ time related to the three months immediately prior to the claimant submitting its claim. Also, one of the worker’s records stated that he had spent time preparing a witness statement. As a result, the court considered the onus to be on the claimant to prove that the other worker’s time was not spent on claim related matters. The claimant was unable to produce such evidence and so their claim for the cost of hiring two freelance workers failed in its entirety. However, the claimant’s claim for costs of action remained open.

Contemporaneous records

If possible, claimants should keep contemporaneous records showing the amount of time each employee was diverted from their usual activities to deal with the breach. Time sheets are an effective way of doing this. The claimant may not be able to sufficiently establish their claim if they cannot produce such records.

Claims will not necessarily fail if contemporaneous records are unavailable. If they are unavailable, retrospective assessments of time spent can be used to calculate costs incurred. Such assessments may include the consideration of witness statements or other relevant records. However, time can often be over or under-estimated when this method is used. The courts are likely to allow for this when granting an award. In the Bridge UK.Com case, the court reduced the claimant’s award by 20% to reflect the uncertainties in the claimant’s retrospective assessment and to account for some time that had been claimed in error.

Tips for claimants to help maximise recoverability of wasted management costs

Claimants should keep detailed records of where staff have been diverted away from their usual activities to investigate, manage or mitigate the effect of the breach. Such records should include:

• a description of the breach;

• time sheets indicating the dates and times that staff have been working in relation to the breach, with a description of the work done;

• a justification as to why certain employees were used for particular tasks;

• a description of the work that the employees would normally have been doing if they had not been working in relation to the breach; and

• an explanation of how the diversion caused disruption to the business.

If little or no contemporaneous records have been kept, claimants should begin to assess the effects of the breach retrospectively. Claimants should consider preparing witness statements and other documentary evidence. Such evidence will be susceptible to attack, so the more retrospective evidence that can be obtained, the greater the chance that a higher proportion of wasted management costs will be recovered.