Last updated: 5 August 2026.
Quick answer. The penalty clause reinforces contractual performance by fixing in advance the sum payable on breach; in share purchase agreements it typically secures the non-competition covenant. Under Articles 1152 and following of the Spanish Civil Code it quantifies damages beforehand and may, if so agreed, be cumulative, allowing the creditor to demand both performance and the penalty pursuant to Article 1153. Courts may moderate the penalty on equitable grounds, but only where compliance has been partial, defective or late: the Supreme Court, in judgments 1293/2007 and 1151/2018 of 12 July, has held that no moderation is possible when the breach that occurs is precisely the one the parties foresaw in the contract.
The penalty clause seeks to enforce the contract by punishing non-compliance with the penalty in question.
In sales of companies’ shares agreements, this clause is related to the non-competition clause. The party obliged by the non-competition clause must pay a monetary penalty if he fails to comply with such obligation.
Courts, under the basis of the principle of equity, can adjust these penalties. However, it has to be taken into account that the Supreme Court cannot review it or modify it on appeal.
The function of the penalty clause
The usefulness of this contractual prevision derives from the function of the penalty clause. Its main purpose is to secure strict compliance with the provisions of the agreement. But it is also used as a deterrent, and as a coercive function. Through penalty clauses is possible to quantify in advance the damages for non-performance.
If agreed, penalty clauses can also have a cumulative function. With the cumulative function, creditor may require performance of the obligation in addition to satisfaction of the agreed penalty. As it is provided in article 1153 of the Spanish Civil Code.
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Courts Moderation
We often forget that Courts can moderate penalty clauses as it is provided in Articles 1.152 and following of the CC.
The power of the Court to moderate the penalty clause enters into action when there is a faulty, partial or late compliance. Not when there is an absolute disregard with the obligation, and the breach is whole.
The Supreme Court states that the penalty cannot be tempered if the breach pertains to the clause foreseen in the contract. (Sentence 1151/2018 of 12 July). The moderating power of the judge cannot be applied if the exactly foreseen infraction occurs. (Supreme Court Ruling 1293/2007 of 5 December). All of this because the free will of the contracting parties shall prevail in those cases.
Excessive or disproportionate penalty
There is a minor case law in favor of moderating penalty clauses that may result abusive for the debtor. I.e. those penalty clauses where there is an imbalance between the real damages and the penalty included in contract. Particularly when this imbalance is extraordinarily high. So much so, that the result of the penalty clause could not be foreseen when agreeing to the contract. And when the application of the penalty in its exact terms will cause unjustified enrichment of the creditor. (As sentenced by the Supreme Court 175/2017, 25 January).
Conclusion
A Court can hardly moderate a penalty clause if all requisites that prompt the planned compensation concur. And that can also be said in the case that it has been agreed beforehand that the penalty clause will be applied in both cases of total and partial non-compliance. This will force the debtor to comply with the agreed obligation or else to pay the consequences. Whatever the case may be, it´s useful to bear in mind what we said above about excessive or disproportionate penalties.
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For advice applied to your case, see our M&A practice area.
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Frequently asked questions
Its main purpose is to secure strict compliance with the provisions of the agreement, punishing non-performance with the agreed penalty. It also operates as a deterrent and performs a coercive function, and it allows the parties to quantify in advance the damages payable for non-performance, avoiding the need to prove them later before the courts.
If the parties so agree, the penalty clause can be cumulative: the creditor may require performance of the obligation in addition to satisfaction of the agreed penalty, as provided in Article 1153 of the Spanish Civil Code. In sales of companies’ shares, this mechanism typically reinforces the non-competition clause undertaken by the seller.
Under Articles 1152 and following of the Civil Code, courts may moderate the penalty on the basis of the principle of equity when there is faulty, partial or late compliance with the obligation. Moderation is therefore reserved for cases of imperfect performance, not for situations in which the debtor completely disregards the obligation.
The Supreme Court has held that the penalty cannot be tempered when the breach that occurs is precisely the one foreseen by the parties in the contract. Judgment 1151/2018 of 12 July and judgment 1293/2007 follow this line: if the exactly foreseen infraction takes place, the moderating power of the judge cannot be applied.
No. Although lower courts may adjust penalties on equitable grounds where performance has been partial, defective or late, the moderation carried out by the court of instance cannot be reviewed or modified by the Supreme Court on appeal, which reinforces the importance of how the penalty clause is drafted in the agreement.
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