Liquidated Damages Agreement

In trade relations in particular and civil relations in general, Liquidated Damages Agreement is not a new legal term. This is a measure applied in trade and civil transactions with the purpose of handling breach of contract and allocating risks in line with trade intentions between the parties.

Normally, the liquidated damages clause will be considered and applied by the parties in the contract in cases where it is difficult for the aggrieved party to specifically calculate the damages caused by the breach of contract and the liquidated damages must be a reasonable compensation commensurate with the actual or foreseeable damages.

Currently, Vietnamese law neither specifically stipulates a mechanism for liquidated damages nor prohibit the parties from agreeing to include liquidated damages in the contract. However, due to the lack of applicable regulations and guiding documents on this matter, the liquidated damages agreement can possibly be interpreted as indemnification or penalties for breach of contract. 

In this article, we will compare indemnification and liquidated damages agreement as well as present the Court’s perspectives on some disputes between parties to a liquidated damages agreement. 

1. Differences of indemnification, liquidated damages agreements and penalties for breach of contract  

2. The Court’s views on liquidated damages agreements in practice

The Court’s views in the two disputes presented below indicate that the Court does not accept liquidated damages as indemnification or any remedy that the parties may agree upon other than those specified by the law of Vietnam. 

Case 1: The Court did not recognize the liquidated damages agreement, as shown by the Cassation Appeal Decision No. 11/2020/KN-KDTM dated June 9, 2020 of the Supreme People’s Court on the exclusive distribution contract. 

• In October 2010, Yen Sao Sai Gon Company Limited (“Yen Sao SG”) and Yen Viet Joint Stock Company (“Yen Viet”) signed a contract on exclusive distribution in the northern within 10 years, according to which Yen Viet shall not sell products to any entity in the area exclusively assigned to Yen Sao SG. However, during the term of the contract, Yen Viet sold its products in Hanoi, so Yen Sao SG initiated a lawsuit against Yen Viet to the court. In the contract, the parties agreed that “whichever party that breaches the commitments in the contract must pay VND 10,000,000,000 as indemnity for the other party”. 

• The Court of First Instance held that Yen Viet breached the contract and ruled that Yen Viet must compensate Yen Sao SG VND 4,000,000,000. In the appellate court, as no date was indicated in the contract, it was declared void and the court also accepted Yen Viet’s request to terminate the contract. The High-level People’s Procuracy in Ho Chi Minh City has appealed against the Court’s approval of the VND 10 billion indemnity under the contract between the parties. This appeal has been accepted by the High-level People’s Court in Ho Chi Minh City. After that, the Supreme People’s Court issued a cassation decision with respect to this dispute, according to which the agreement on VND 10,000,000,000 indemnity in the exclusive distribution contract was unfounded. Damages must be reality-based and subject to the 2005 Commercial Law. 

Case 2: The Court considered the liquidated damages agreement as a penalty for breach of contract, as shown by the Cassation Decision No. 15/2016/KDTM-GDT dated September 7, 2016 of the Supreme People’s Court over the dispute between Services and Engineering Joint Stock Company A and Company B. Under the contract signed in 2007, Services and Engineering Joint Stock Company A (“Company A”) provided “M&E” package 3B for the project owned by Company H for which Company B is the main contractor. The contract value is about US$5.1 million and the construction period ended in May 2008. Under the contract, if it fails to complete the project on time, Company A must pay the project owner for damages caused by such a breach, which is equal to 5% of the contract value. In fact, Company A completed the project 288 days behind schedule and Company B delayed payment against the contract. In addition, Company A requested Company B to pay the remaining amount. Company B believed that Company A had breached the schedule and should pay a penalty equal to 5% of the contract value which would be cleared against Company B’s payment obligations. 

• The First-instance Court neither accepted Company A’s lawsuit petition nor ruled Company B to pay the outstanding amount. The Court of Appeal upheld the first-instance judgment. Company A has filed a petition for review of the appellate judgment according to cassation procedures. 

• According to the cassation decision, the liquidated damages clause applicable to violation of schedule is a penalty clause under the law of Vietnam. Accordingly, the penalty for breach of contract must be based on the value of the breached contract instead of the entire contract value. 

Under Article 301 of the 2005 Commercial Law, penalties for breach of contract shall not exceed 8% of the value of the breached contractual obligations. Therefore, the penalty for breach of contract in this case will be 5% of the value of the breached contract, not 5% of the entire contract value as agreed by the parties. 

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