Australia: “Construction Of Indemnity Clauses – NSW Court Of Appeal Rejects The Third Principle In Canada Steamship Lines Ltd V The King”

The NSW Court of Appeal has found that the third principle in Canada Steamship Lines Ltd v The King ("Canada Steamship")¹ is inconsistent with binding authority of the High Court of Australia. The effect on construction of indemnity and exclusion clauses in Australia is likely to be far-reaching.

This may be stated as: In construing an indemnity or exclusion clause the Court must first consider whether the words used are wide enough to cover negligence. If so, then the Court must consider whether some other cause of action may be covered by that clause. If this is also the case, then the probable construction will be that negligence is not covered by the clause.

Although there is "abundant Australian authority for the proposition that an intention to exclude liability for negligence must be clearly expressed"², yet there are also several cases where State Supreme Courts have held that the third principle is no longer good law in Australia³.

In 2004 the High Court of Australia in Andar Transport Pty Ltd v Brambles Ltd⁴ ("Andar") held that indemnity clauses must be construed strictly in the context of the whole contract, with any resulting ambiguity resolved in favour of the party giving the indemnity. A foundation of the reasoning of the Privy Council in Canada Steamship was thus overruled, although the High Court did not expressly refer to that case. The NSW Court of Appeal has now handed down the first State appellate oHoHHHdecision on the third principle since Andar:

The Respondent⁵ had been head contractor on building works at the Royal Adelaide Hospital in 1964. A Mr Stutley who worked on the site developed mesothelioma in later years and sued the Respondent for damages. The Respondent settled the proceedings for payment of $500,000.00 to Mr Stutley. The Respondent in turn sued the Appellant⁶ and others for contribution. The Appellant had been sub-contracted by the Respondent in 1964 to apply sprayed asbestos insulation at the Royal Adelaide Hospital.

The trial judge found that Clause 6 of the Sub-Contract between the Appellant and the Respondent provided as followed:

The Appellant (the sub-contractor) relied on the third principle in Canada Steamship to argue that, although the phrase "all liability" was wide enough to cover the Respondent’s liability to Mr Stutley, it did not in fact do so because it also covered other bases of liability.

The NSW Court of Appeal noted that the House of Lords in HIH⁷ had endorsed the Canada Steamship principles, although it found on the particular facts that the third principle did not apply: A clause in an insurance policy excluded liability for "any information provided by other parties"; their Lordships rejected the insurer’s argument that since this would prevent rescission for innocent misrepresentation, it did not therefore prevent rescission for negligent misrepresentation.

The NSW Court of Appeal also noted Australian academic opinion that it is implicit in the Andar decision that the third principle in Canada Steamship must be applied to the construction of an indemnity clause⁸.

Nevertheless, the NSW Court of Appeal held that the High Court of Australia had never before expressly endorsed the third principle in Canada Steamship and, if it had intended to do so in Andar it would have made express reference both to the case and to the principle. It did neither. The Court of Appeal also criticised the third principle as requiring the Court to look for ambiguity as a first approach, rather than construing the clause strictly and, if there still be ambiguity, in favour of the surety.

The NSW Court of Appeal therefore found that the approach adopted by the High Court in Andar is inconsistent with the third principle in Canada Steamship SS.

The Court noted that clause 6 required the Appellant to take insurance to cover liability which is typically caused by negligence. Accordingly, it was likely that the parties contemplated that the broad indemnity in the final sentence of the clause covered the Appellant’s negligence, even in circumstances where the Respondent was also negligent. The Court of Appeal therefore held that there was no ambiguity in the provision which would require the clause to be construed in favour of the Appellant. The Respondent was thus indemnified for all liability including negligence by the operation of the clause.

• The decision is perhaps surprising in view of the weight of academic opinion in Australia. Nevertheless, the reasoning is clear, unanimous, and consistent in its effect (if not its reasoning) with a series of decisions by other State Supreme Courts. Subject to any future contrary decision by the High Court, it seems unlikely that the third principle in Canada Steamship will have further application in Australia.
• Those drafting exclusion and indemnity clauses should consider this decision carefully. Not all indemnity clauses will be affected. Nevertheless, it seems likely that clauses containing broad wording such as "grants indemnity for all liability in relation to…" will now be found to cover negligence, whereas under the third rule in Canada Steamship the reverse would often have been the case.
• The decision is also worthy of careful study by overseas drafters whose documents may be construed in Australian jurisdictions, e.g. export agreements, investment contracts and insurance policies. Such documents may have a rather different effect in Australian jurisdictions in regard to liability for negligence.

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.