A recent decision in the state of Kentucky tested the liquidated damage clause in an alarm contract. The plaintiffs in the action were an insurance company and its insured, who brought an action for subrogation (the insurance company who paid its insured and is standing in the shoes of its insured) against the defendant fire alarm company seeking to recover losses arising from a residential fire and alleging that the fire alarm failed.

The individual plaintiffs were insured under a homeowners’ insurance policy. There was a fire at their home and the home was heavily damaged. The residence was equipped with a fire alarm system, which was furnished by the defendant, fire alarm company.

The contract between the individual plaintiffs and the fire alarm company contained a clause purporting to limit the fire alarm company’s liability to $250 as liquidated damages in the event the equipment failed to function properly. It was undisputed that the system failed to alert the monitoring center or the local fire department of the fire. It was determined that the most likely cause of the alarm system failure was a malfunction of the microprocessor inside the alarm monitoring control panel.

The insurance company paid the individual plaintiffs for the loss and brought this subrogation action against the fire alarm company to recover their losses. The Circuit Court entered an order granting summary judgment in favor of the fire alarm company and the plaintiffs appealed.

The plaintiffs claimed that the contract was a contract of adhesion and therefore not enforceable. The court pointed out that a contract of adhesion is a standardized contract, which was imposed and drafted by the party of superior bargaining strength, which relegates to the subscribing party only the opportunity to adhere to the contract or reject it. The Circuit Court, in reviewing the case, indicated that the plaintiffs were not presented with a “take it or leave it” proposal, “Indeed, the contract provided that they could pay an additional amount in exchange for the fire alarm company assuming greater liability.” The court pointed out that the plaintiffs could have bargained with the fire alarm company for more favorable terms, but chose not to do so. Thus, the court determined that the contract is not one of adhesion.

The plaintiffs then argued that the limitation of liability provision should be rejected as unconscionable. The court then went on to discuss whether or not limited liability provisions are enforceable in Kentucky, indicating that absent fraud in the inducement, a written agreement duly executed by the party to be bound who had an opportunity to read it, will be enforced according to its terms. However, the court pointed out that under Kentucky law, there is an exception to this rule, which is the Doctrine of Unconscionability, which is used by the courts to police the excesses of certain parties who abuse their right to contract freely. It is directed against one sided, oppressive and unfairly surprising contracts, and not against the consequences per se of uneven bargaining power, or even a simple old-fashioned bad bargain.

In the case at hand, the court indicated that the limitation of liability provision was not one-sided, oppressive, nor unfairly surprising. The court specifically referred to the contract which, on the front side, above the signature line, stated in capital letters, “ATTENTION IS DIRECTED TO THE LIMITED WARRANTY, LIMITED LIABILITY AND OTHER CONDITIONS ON REVERSE SIDE,” pointing out that the language stands separate and apart from the rest of the paragraphs and is easily readable.

With reference to the plaintiffs’ claim that the limitation of liability clause amounts to an unenforceable “penalty” rather than “liquidated damages” the court disagreed stating that a provision in the contract providing for liquidated damages will be enforced, provided it is in actuality liquidated damages and not a penalty. In the case at hand, the plaintiffs and defendants both agreed that if the company should be found liable to loss, damage or injury due to a failure of service or equipment in any respect, its liability shall be limited to $250 as agreed upon damages, and not as a penalty. The $24 per month fee paid to the company was based solely upon the cost of the monitoring service and not the value of the home or its contents. Damages based on breach of a contract by the company would have been difficult, if not impossible, to ascertain, because they did not contract to assume the duties of an insurer and did not know the value of their home, its contents, or the extent of any possible fire damage that might result. The $250 limitation of liability amount represents nearly one year of monitoring fees and is reasonably proportionate to the damages expected from a breach of a $24 per month monitoring agreement.

The court reasoned that although there appears to be no case under Kentucky law specifically deciding the issue of whether limitation of liability clauses in alarm service agreements are enforceable, other jurisdictions have faced the issue and the majority have determined that clauses are valid and enforceable. Therefore, the judgment of the Circuit Court granting the summary judgment in favor of the fire alarm company was affirmed by the Appellate Court.

The moral of the story, if you are providing security services, make sure that you use a properly drafted contract.