Lost profits for breach of contract: would the Court of Appeals apply the Second Circuit's analysis?

• Author: Banks, Glen

"I coulda been a contender."

--Marlon Brando (1)

A party that establishes a breach of contract claim may recover benefit of the bargain damages to put it in the position it would have enjoyed had the contract not been breached. (2) Such damages may include the profits the party would have made had the contract been fully performed. (3)

The party seeking lost profits usually presents the testimony of an expert who has constructed a damage model that the expert claims shows the profits the non-breaching party would have made had the breach not occurred. The claimed lost profits can be general damages (the profits the party would have made in the performance of the breached contract), (4) consequential damages (the profits the party would have made on other collateral agreements had the breached contract been fully performed), (5) or a combination of both. The damage model is a projection of what purportedly would occur in the future in a "world" that can never exist--the "world" where the contract has been fully performed. The model presents a view of what "coulda been" had the contract not been breached.

The New York Court of Appeals has repeatedly ruled that lost profits must be proved with "reasonable certainty." (6) In adhering to this standard, it specifically rejected a Second Circuit decision (7) that a plaintiff (8) need only provide a "reasonable basis" for its claimed damages. (9)

In 2007, the Second Circuit in Tractebel Energy Marketing, Inc. v. AEP Power Marketing, Inc., (10) applied New York law in a breach of contract case and ruled that the "reasonable certainty" standard applied only when lost profits are sought as consequential damages. The Tractebel court ruled that when a plaintiff seeks to recover lost profits as general damages, the plaintiff only has to present "a stable foundation for a reasonable estimate" of its claimed damages. (11) The Second Circuit's decision raises interesting questions. Would the Court of Appeals also rule that a different standard governs when the claimed lost profits are general, as opposed to consequential, damages? Would it also apply a "stable foundation for a reasonable estimate," (12) as opposed to "reasonable certainty," standard with respect to establishing the amount of lost profits claimed as general damages?

Since the amount of damages sought on a lost profits claim can be substantial, (13) any uncertainty in the standard to be applied in proving lost profit damages would complicate litigation of the claim. By injecting uncertainty in New York law concerning lost profit damages, the Tractebel case impacts the litigation of a lost profits claim in various ways. If there is a basis for federal court jurisdiction, a plaintiff should consider whether a federal court would be more hospitable to its claim for lost profits. (14) A plaintiff may be more aggressive in claiming lost profit damages if it believes it does not have to prove its damages with "reasonable certainty" but only needs to present a "stable foundation for a reasonable estimate" of its damages. If the "stable foundation" requirement of the Second Circuit is a lesser burden than the "reasonable certainty" standard of the Court of Appeals, the damage exposure to defendant would be increased and a plaintiff might gain significant leverage in settlement negotiations. (15)

This article will first review what the Court of Appeals and the Second Circuit have said on the issue of proving the amount of lost profits in a breach of contract case. It will then discuss whether the Court of Appeals also would draw a distinction when lost profits are claimed as general, as opposed to consequential, damages. Finally, it will discuss the burdens of production and proof when the plaintiff seeks lost profits and conjecture whether the Court of Appeals would apply the standard articulated in Tractebel.

The discussion set forth below concludes that the Court of Appeals likely would not recognize different levels of proof of lost profits depending on whether they were sought as general or consequential damages and that the Court likely would continue to require a plaintiff to prove lost profit damages with reasonable certainty. The "reasonable estimate"/"reasonable certainty" issue can be explained by viewing a "stable foundation for a reasonable estimate" of lost profit damages as plaintiffs burden of production. When plaintiff puts forward such a stable foundation, it has presented sufficient evidence to allow the trier of fact to award lost profit damages. Where no such stable foundation is presented, plaintiffs lost profits claim fails and should be dismissed. (16) If plaintiff advances a reasonable estimate of lost profits, the trier of fact must determine whether plaintiff has proved its claimed damages with reasonable certainty. (17) A properly instructed jury can award lost profit damages based upon a reasonable estimate of such damages. The jury also may award plaintiff zero damages for lost profits. (18) If the jury awards lost profit damages to plaintiff and its verdict is not supported by the evidence, the court could grant judgment as a matter of law to defendant. (19)

1. LOST PROFITS

   1. Older Court of Appeals Authority

      New York courts have long recognized that lost profits are an appropriate measure of damages in a breach of contract case. (20) The most cited older authority on the subject is the decision of the Court of Appeals in Wakeman v. Wheeler & Wilson Manufacturing Co., (21) a case in which plaintiff claimed defendant sewing machine manufacturer breached an agreement whereby plaintiff would be the exclusive sales agent for defendant's machines in Mexico. (22) Plaintiff sought as damages the profits he would have made over the term of the agreement selling defendant's machines in Mexico.

      The Court ruled that a measure of damages could be the profit plaintiff would have made under the agreement had it not been breached. (23) In order to be recovered, however, these claimed profits could not be "merely speculative, possible and imaginary" but "must be reasonably certain." (24)

      The Court recognized that because a claim for lost profits is prospective, it would, to some extent, involve uncertainty and contingency. Because such profits are contingent upon future events, they could "be determined only approximately upon reasonable conjectures and probable estimates." (25) In some instances, however, lost profits would not be recoverable because they would be so uncertain and contingent they would be incapable of adequate proof. (26)

      The Wakeman Court stated that when it is clear that the breach caused damage and the only uncertainty concerns the amount of the damage, there rarely can be a good reason for refusing, on account of such uncertainty, any damages whatever for the breach. (27) In such circumstances, the breaching party should not be permitted entirely to escape liability because the amount of damage which he has caused is uncertain. (28) The Court believed that if the plaintiff showed "the consequences naturally and plainly traceable [to the breach] then it is for the jury, under proper instruction as to the rules of damages, to determine the compensation to be awarded for the breach." (29) The jury's verdict, as long as it is "not based upon mere speculation and possibilities but, upon the facts and circumstances proved, would" be the appropriate determination of damages. (30) As the Court of Appeals later noted, a jury is permitted to determine the amount of plaintiffs damages even though the elements of such damages presented by plaintiff were "more or less uncertain and problematical." (31)

      Wakeman makes clear that when a breach of contract occurs, a court, despite uncertainty as to the amount of damages, should endeavor to award damages to redress the injury caused by the breach. (32) An "equally fundamental" principle, however, is that the plaintiff should not recover more than he would have gained had the contract been fully performed. (33)

      Subsequent to Wakeman, the Court of Appeals has noted that the fact that lost profits are not susceptible to precise determination does not insulate a breaching party from liability. (34) Where the amount of damages is "unavoidably uncertain, beset by complexity or difficult to ascertain," the "law is realistic enough to bend to necessity in such cases." (35) Damages caused by the breach are recoverable "to the extent that the evidence affords a sufficient basis for estimating their amount in money with reasonable certainty." (36) Lost profits can be awarded as damages "where plaintiff has supplied some adequate basis for computing the amount, even where that amount cannot be precisely determined with absolute certainty." (37)

      It is plaintiffs burden to produce evidence that affords a sufficient basis to estimate the amount of lost profit damages with reasonable certainty. (38) The plaintiff has the burden to present evidence with a tendency to show the probable amount of damages to allow the trier of fact to make "the most intelligible and accurate estimate which the nature of the case will permit." (39)

      The failure to present a stable foundation for computation of lost profits is fatal to plaintiffs claim. In Broadway Photoplay Co. v. World Film Corporation, (40) Judge Cardozo addressed lost profits as damages for a breach of a contract whereby defendant promised to provide a first run feature film to plaintiff one day each week. (41) The Court reversed the award of lost profits because it had "no stable foundation" given the assumptions upon which plaintiffs proof of lost profits rested. (42) The Court noted that the popularity of a movie was subject to "endless variety of human tastes and fashions" (43) such that there was no basis on which to project the profits that would have been made by people choosing in the future to see movies that were not yet known.

      In Freund v. Washington Square Press, Inc., (44) the Court of Appeals...