Australian Courts Redefine "consequential loss"
A recent decision of the NSW Court of Appeal has applied the 2008 decision of the Victorian Court of Appeal in Environmental Systems Pty Ltd v Peerless Holdings Pty Ltd1 which effectively created a new definition of "consequential loss".
In the Peerless decision, the Victorian Court of Appeal held that exclusions of "consequential loss" in contracts may also exclude losses falling within the first limb of the English case Hadley v Baxendale2, being those losses which flow naturally from the breach. This was a departure from well-established case law, under which "consequential losses" were understood to be losses falling under the second limb of the test in Hadley and Baxendale, being those which the parties actually contemplated at the time of entering into the contract, and not losses flowing naturally from the breach. In other words, following Peerless, an exclusion for consequential losses is, in the State of Victoria at least, likely to be broader than was previously the case. However, it was not clear if the Courts of other States would adopt the Peerless definition of "consequential loss" when the question came before them.
The position on consequential loss pre-Peerless
The few Australian decisions which considered the meaning of "consequential loss" in exclusion clauses followed English authorities, under which "consequential loss" was equated with losses which could reasonably be supposed to have been in the contemplation of both parties at the time they contracted as being the probable result of a breach. The Australian decisions held that if a clause was only stated to exclude "consequential loss", this would not exclude loss of profits which flowed directly from the breach, as these losses fell within the first limb of Hadley v Baxendale.
The Peerless decision
In the Peerless decision, the Court held that the concept of consequential loss should be restored to "the natural meaning of which commercial and legal usage in exclusion clauses has long since robbed it". It concluded that rather than distinguishing between the two types of loss in the first and second limb of Hadley v Baxendale, the true distinction was between on the one hand, "normal loss", being loss that every plaintiff in an identical situation would suffer, and on the other hand, "consequential loss" being "anything beyond the normal measure, such as profits lost and expenses incurred though breach". Therefore the meaning of "consequential loss" was expanded significantly by this decision.
Allianz v Waterbrook
In the decision of Allianz v Waterbrook3, the NSW Court of Appeal granted leave to Allianz to appeal the NSW Supreme Court decision of Waterbrook at Yowie Bay Pty Ltd v Allianz4, and in granting such leave to appeal, the Court accepted the Peerless definition of "consequential loss".
The plaintiff in the initial case was Waterbrook at Yowie Bay Pty Ltd (Waterbrook), the owner of a retirement village south of Sydney. This development had been constructed by a builder under a contract with the developer, Yowie Pty Ltd, from which Waterbrook went on to acquire the development. The builder of the properties was in liquidation. After Waterbrook acquired the retirement village, certain building defects which had not been rectified were identified. Waterbrook made a claim under a builders home warranty policy issued to the builder (the Allianz Policy) for the cost of rectifying the defects. When Allianz refused to accept liability, Waterbrook issued proceedings against Allianz, claiming an entitlement to indemnity under the Allianz Policy in relation to its claim for the cost of rectifying the defects.
As the retirement village was residential building work, NSW legislation5 implied into the Allianz Policy certain warranties, which had to be supported by insurance granting certain indemnities. The benefits of warranties and insurance also applied to successors in title to the person who had been in contract with the builder, which in this case was Waterbrook. The relevant primary legislation provides that these statutory warranties and statutory insurance rights (the Relevant Rights) cannot be excluded or restricted.
However, the Allianz Policy included a clause that provided that the insurer would not be liable for any loss or damage arising from consequential loss. It also included an indemnity clause which stated that Allianz would not be liable for "...any defects in the work which would have been reasonably visible at the time any successor in title acquired the dwelling". One of the questions for the Court to consider was whether the relevant clauses in the Allianz Policy were void on the basis that they sought to exclude or restrict the Relevant Rights, and this was answered in the affirmative.
The Court further held that the relevant measure of damages reflected the first limb of Hadley v Baxendale (losses which flow naturally from the breach), and that, under Peerless, those damages may include consequential loss. Therefore the limitation in the Allianz Policy which purported to exclude all consequential loss was inconsistent with the full statutory entitlement to indemnity.
The key effect of the Peerless and Allianz decisions is that excluding liability for consequential loss will now be likely to exclude liability for all "loss of profits" and "expenses incurred through breach" even if they are not specifically mentioned in the exclusion clause, or if they fall within the first limb of Hadley v Baxendale. Therefore any customer in an IT contract agreeing to such an exclusion will, until such time as the High Court decides otherwise, be signing away the right to recover a far broader category of damages than it may have thought. From both sides' point of view, best practice remains to set out clearly in the relevant clause each type of loss for which one or both parties will not be liable.
1 Environmental Systems Pty Ltd v Peerless
Holdings Pty Ltd  VSCA 26
2 Hadley v Baxendale (1854) 9 Ex 341
3 Allianz Australia Insurance Ltd v Waterbrook at Yowie Bay Pty Ltd  NSWCA 224
4 Waterbrook at Yowie Bay Pty Ltd v Allianz Australia Insurance Ltd  NSWSC 1451
5 Home Building Act 1989 (NSW) and the Home Building Regulations 2004 (NSW)
English High Court considers interpretation of exclusion clauses and contractual liability caps
Outsourcing contracts commonly include limitations on the parties' liability to each other and these often take the form of a maximum aggregate amount or cap on liability. In a recent case before the English High Court1 the underwriting division of the Markerstudy Group entered into a number of insurance claims handling agreements with Endsleigh which contained fairly standard limitations and exclusions on Endsleigh's liability. Markerstudy brought a claim for losses of around Ł14 million against Endsleigh for breach of contract but an issue arose as to whether parts of these claims were excluded or fell outside the contractual cap.
The agreements included the following provisions:
- "8.1 Endsleigh will not be liable to Markerstudy for any indirect or consequential loss or loss of profit or loss of business arising out of data input errors by Endsleigh put into Policy Schedules, Certificates of Insurance or Endorsements."
- "13.1 Neither party shall be liable to the other for any indirect or consequential loss (including but not limited to loss of goodwill, loss of business, loss of anticipated profits or savings and all other pure economic loss) arising out of or in connection with this Agreement."
- "13.2 Endsleigh's total liability in contract, tort (including negligence or breach of statutory duty), misrepresentation, restitution or otherwise, arising in connection with the performance or contemplated performance of the Agreement shall be limited to the aggregate amount of fees received pursuant to Article 6.1 above."
The judge held that article 13.1 was only effective to exclude indirect or consequential losses of the types listed in the bracketed portion of the clause (e.g. loss of goodwill, loss of business etc). Accordingly, any direct losses of goodwill, business, profits or savings would not be excluded and were potentially recoverable by Markerstudy. A similar interpretation was applied to article 8.1 and the judge held that "the introductory phrase "any direct or indirect loss" governs and defines the scope of the specified forms of loss", so that only indirect or consequential losses of profit or business arising out of data input errors were excluded. These decisions are consistent with recent English case law on liability clauses.
The court also found that the payment of statutory interest was not a "liability in contract" under article 13.2 and such amounts therefore fell outside the cap on liability. The judge noted that this is a "discrete statutory liability arising from the exercise of the Court's discretion". However, contractual interest was deemed to be a "liability in contract" and therefore the cap in article 13.2 covered any claim for contractual interest. While the reasoning on the exclusion of statutory interest from the liability cap on liability is understandable based on construction of the relevant clause, the finding that contractual interest was part of the contractual liability is more interesting and has potentially significant implications for service providers. If interest is received on late payments in accordance with a typical payments clause, this ruling suggests that such amounts count towards any contractual liability cap; as such, the amount of damages recoverable by the receiving party will be reduced.
1 Markerstudy Insurance Company Limited and Others v Endsleigh Insurance Services Limited  EWCH 281 (Comm)
Subsidiary companies: UK Court of Appeal's decision raises concerns on common contractual definition
A recent Court of Appeal decision1 has raised concerns on the incorporation by cross reference of the statutory definition of "subsidiary" in section 736 of the Companies Act 1985 (now reproduced in section 1159 of the Companies Act 2006) in contracts, in particular in relation to sections 736(1)(b) and (c).
In the case in question, the Court of Appeal considered whether a company remained a subsidiary within the meaning of section 736(1)(c), after the parent (Asco) charged its shares in the subsidiary (Enviroco) as security to a bank. The relevant part of the legislation states that a company will be a subsidiary of another if it "is a member of it and controls, alone, pursuant to an agreement with other members, a majority of the voting rights in it."
The Court of Appeal held that as a result of the registration of the bank as holder of the shares, Enviroco was no longer a subsidiary of Asco within the meaning of sections 736 and 736A. In particular, the case largely turned on the fact that Asco was not entered on Enviroco's register of members (as required by section 22 of the 1985 Act), although it still retained the control required by section 736.
It was acknowledged by the Court that the outcome created a "surprising" and "absurd" result, but the Court had no power to construe the statute in a way that was inconsistent with its drafting even if that led to an uncommercial result. An argument by Enviroco that the definition should be considered in the context of a commercial construction of the contract also failed.
While this decision will have an impact where companies have granted security over shares in subsidiaries, it should be noted that the ruling does not affect the interpretation of section 736(1)(a) of the 1985 Act (or its 2006 Act equivalent section at 1159(1)(a)) which states that a company is a subsidiary if the parent holds a majority of the voting rights in it. In most cases, the parent-subsidiary relationship will fall into the section 736(1)(a) category. It is only a small proportion of cases where either party will need to consider whether an entity whose shares have been charged as security remains a subsidiary for the purpose of the contract.
Enviroco has applied to the Supreme Court for leave to appeal the Court of Appeal's decision, but in the meantime large corporate groups may want to consider the impact of the ruling on current and future agreements involving subsidiaries. Businesses may also want to review definitions of "subsidiary" or "group" in any standard terms in light of the issues raised by the case.
1 Enviroco Ltd v Farstad Supply A/S  EWCA Civ 1399
UK Court of Appeal upholds "static" interpretation of TUPE in relation to post-transfer collective agreements
The UK Court of Appeal has followed a European Court of Justice ruling on the Acquired Rights Directive by reversing an Employment Appeal Tribunal decision and holding that transferring employees can benefit from collectively agreed terms in force at the date of transfer (i.e. these terms remain "static") but not by subsequent collective agreements to which it is not a party.
The facts of the Alemo-Herron case were that Mark Alemo-Herron and 23 other employees were originally employed by the London Borough of Lewisham under terms that entitled them to be paid in accordance with collective agreements negotiated by the National Joint Council for Local Government Services (NJC). The employees were transferred under the Transfer of Undertakings (Protection of Employees) Regulations - the UK legislation implementing the Acquired Rights Directive - to CCL Limited and later to Parkwood Leisure Limited.
At the time of the original transfer, there was a collective agreement in place setting out employee pay rates that was honoured by both CCL and Parkwood. After the second transfer, the NJC negotiated a new collective agreement. Parkwood did not recognise the employees' representative union and was not a party to the negotiations. As a private sector employer, it could not belong to the NJC or be represented in it. It therefore refused to recognise the subsequent pay increases negotiated by the NJC. The employees brought a claim for unlawful deduction from wages on the basis that Parkwood should have complied with the increased pay awards in the new collective agreement1.
The EAT's "dynamic" approach was reversed by the Court of Appeal2 and the "static" interpretation favoured by the ECJ3 was followed. The Court of Appeal determined that Parkwood was not bound by collective agreements made after the date of transfer and the employees were not entitled to be awarded the new pay increases negotiated by the NJC.
1 Alemo-Herron and Others v Parkwood Leisure
2 Parkwood Leisure Limited v Alemo-Herron and Others  EWCA Civ 24
3 Wherhof v Freeway Traffic Systems GmbH & Co KG  IRLR 400 ECJ
Taking stock: competitive dialogue, four years on
It is now four years since the introduction of the competitive dialogue procedure, a key innovation in the new EU procurement regime which was implemented in the UK on 31 January 2006.
The Norton Rose LLP public procurement team has written an article considering the impact of the procedure over the last four years. For further information, please contact Totis Kotsonis in London.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.