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What is “efficient breach”?
Efficient breach occurs when a party makes a conscious decision to breach a contract after balancing the costs of complying against fulfilling the contractual obligation. This normally arises in situations where a party will incur fewer losses or make more money by breaching the contract than the party would suffer in compensatory or consequential damages if sued.
Discussion: How do you feel about the concept of efficient breach? Should the decision of whether to breach a contract simply be an economic consideration or is there a moral consideration involved? Should morality or ethics play a role in business transactions? If so, to what extent and why?
Practice Question: Wendy enters into a contract to sell a piece of equipment to Laura. Before the sale is finalized, Erwin offers to purchase the equipment from Wendy at a much higher price. Wendy evaluates whether to breach the contract with Laura and sell the equipment to Erwin at the higher price. What might Wendy consider in making her decision?
- An efficient breach occurs when one of the parties knowingly violates the terms of the contract because (they believe) doing so will be cheaper than to fulfill the terms of the contract. That is, any damages from breach will be less than the benefits for breaching. Wendy can consider breaching the contract if the damages of doing so are lower than the gains she will get from the new deal with Erwin. The primary danger is that Laura may suffer consequential damages as well as the actual damages that Wendy is considering when breaching the agreement. The potential for consequential damages may make it too risky to breach the contract.