Originally published April 2010
As we explored in an article from July 2008, the ability of one party to use standard limitation of liability provisions to avoid liability for a breach has always been a tricky aspect of contract law. This article sets out some general principles and proceeds to examine some recent case law on the complex topic of the way in which liability can effectively be limited.
It is imperative that clauses which seek to limit liability are clearly drafted, or they risk being ineffective (Ailsa Craig Fishing Co Ltd v Louis Dreyfus & Co 1983 1 All ER 101).
The contra proferentum rule provides that where the meaning of such a clause is unclear or ambiguous it will be construed against the party who drafted it. Although the contra proferentum rule applies to all exemption clauses, the Courts are less stringent in applying the principle to those clauses which merely limit liability as opposed to those which seek to exclude liability in its entirety. This is founded on the notion that it is considered 'inherently improbable' that a party would agree to the total exclusion of another's liability, whereas "there is no such high degree of improbability that he would agree to a limitation of liability" (Ailsa Craig). But generally this rule is 'a rule of last resort' and is only applied where the clause does not have a clear meaning.
Exclusions in Business-to-Business Contracts
What can and cannot be excluded will turn on the facts of each case; but relevant issues may include the legal and commercial background to the contract, whether the same terms are being used by other businesses, and whether the other party is a consumer.
In business-to-business contracts it is not permissible to exclude liability for:
- death or personal injury caused by negligence;
- breach of the implied condition of good title and no encumbrances (s.12 Sale of death, personal injury or loss of or damage to property caused by defective products (s.7 Consumer Protection Act 1987); and
- fraud and/or fraudulent misrepresentation.
- Subject to the 'reasonableness' test under the Unfair Contract Terms Act 1977 (UCTA), the following exclusions of liability may be permissible:
- negligence (excluding the scenarios listed above);
- breach of the implied conditions of fitness for purpose or correspondence with description or sample (ss 13-15 Sale of Goods Act 1979);
- breach of contract; or
It is important to remember that if an exclusion clause is found to be unreason - able, it will be wholly unenforceable.
The Concept of Reasonableness in Business-to-Business Contracts
UCTA provides that 'reasonableness' is decided by "having regard to the circum - stances which were, or ought reasonably to have been, known to or in the contemplation of the parties when the contract was made". In the light of this, it is clear that the time for ascertaining whether or not an exclusion or limitation clause is reasonable is the point at which the contract was made and so factors such as the seriousness of the loss or damage caused are less relevant.
UCTA sets out five non-exhaustive guidelines for determining the reasonableness of a limitation of liability provision:
- the relative strengths of the bargaining positions of the parties;
- whether there was any inducement to accept the term, or whether there was the opportunity to enter into a similar contract with another, without such a term;
- whether the customer knew or ought reasonably to have known about the existence and the extent of the provision;
- where the exclusion applies if some condition is not complied with, whether it was reasonable at the time of the contract to expect that compliance with that condition would be practicable; and
- whether the goods were manufactured/processed/adapted to the special order of the customer.
The recent case of Lobster Group v Heidelberg Graphic Equipment  EWHC considered the concept of reasonableness and offers further clarification, although it has also raised a concern that exclusion clauses may be more vulnerable to being struck out than was previously thought.
The facts were as follows. The children's book publishers Lobster Group hired a printing press from Close Asset Finance and also entered into a warranty and a service agreement with the manufacturer of the press, Heidelberg Graphic. There were three contractual agreements in place:
- a Hire Agreement between Lobster and Close Asset Finance under which Lobster hired the printing press from Close Asset Finance on Close Asset's standard terms;
- a Warranty Agreement between Lobster and Heidelberg; and
- a Service Agreement between Lobster and Heidelberg.
The parties accepted that the printing press was defective, but Close Asset and Heidelberg sought to rely on the exclusion clauses in the three contracts to avoid liability for the defect.
The UCTA reasonableness test applied because the three contracts each contained the defendants' standard terms and because the defendants were attempting to exclude the implied terms of satisfactory quality and fitness for purpose under the Sale of Goods Act 1979 and the Supply of Goods and Services Act 1982. The judge reviewed each of the exclusion clauses in turn, assessing their reasonableness in the circumstances, and so the case provides useful guidance on the application of the reasonableness test. The Court held that:
- whilst it was reasonable for Heidelberg to exclude all liability other than the obligation to remedy defects, it was unreasonable to exclude damages for 'immediate loss' and for increased costs and expenses, because if Heidelberg failed to replace or repair a defective part then, at the very least, Lobster should be able to recover the cost of paying someone else to do this;
- it was reasonable to exclude insurable risks, but a complete exclusion of loss was unreasonable;
- both parties were substantial commercial entities and this consideration is usually to be borne in mind when the reasonableness test is applied.
The key message from the Lobster Group case is to give careful thought to the drafting and extent of a proposed exclusion clause and that all-encompassing, broad, or catchall clauses should be avoided as they are at greatest risk of being struck out.
Another recent case worthy of review is Internet Broadcasting Corporation Ltd (NetTV) v Mar LLC EWHC 844 (2009) which illuminated many of the legal issues relating to exclusion clauses and also clarified the law in respect of deliberate wrongful repudiation.
NetTV provided interactive internet television platforms. Mar LLC provided information and services to hedge funds and arranged conferences for the hedge fund industry. The parties contracted for NetTV to set up and provide an internet television channel which would broadcast material agreed by Mar LLC. The agreement could not be terminated for three years, other than for a material breach that was not remedied within 30 days. NetTV wrongfully repudiated (ie committed a fundamental breach of) the agreement (which it accepted to be a wrongful repudiation) but sought to rely on an exclusion clause to protect it from a substantial liability for loss of profits arising from its wrongful repudiation. The exclusion clause provided that neither party would be liable to the other for various types of loss, including loss of profit. The precise wording of the clause was as follows:
"...neither party will be liable to the other for any damage to software, damage to or loss of data, loss of profit, anticipated profit, revenues, anticipated savings, goodwill or business opportunity, or for any indirect or consequential loss or damage."
The Court stated that there is a rebuttable presumption that an exclusion clause cannot be relied upon where there has been a deliberate repudiatory breach of contract. The normal anticipation of the parties is that a party which repudiates its contractual obligations should be liable to compensate the other party for the loss. But the Court also affirmed that there is no general legal principle which prevents a party from profiting from its own wrong and so the case hinged on the construction of this clause.
It was held that a literal interpretation of the clause would create a "commercial absurdity". Explicit and strong language must be used if an exclusion clause was successfully to exclude the liabilities of both parties in the event of a deliberate repudiatory breach. In this case, the drafting contained no such clear strong language as to deliberate wrongdoing, let alone deliberate and repudiatory wrongdoing.
Significantly, it was also held that the agreement "being in the nature of a joint venture" would have had the object of mutual profit as its central tenet. A literal interpretation of the exclusion clause would enable either party to repudiate the contract deliberately without any liability for loss of profit, "even though loss of profit is likely to be the only serious consequence for either party of repudiation". So in a business context, the Courts are hostile to clauses that leave an innocent party without substantive redress; and because financial considerations underpin most commercial contracts, it should be carefully considered whether an exclusion clause which seeks to exclude all heads of financial loss will result in the innocent party being left with no meaningful redress in the event of a breach.
Whilst the NetTV case focuses on the specific instance of deliberate repudiatory breach, it has also reminded us of the most important aspects of an effective exclusion clause: clear, strong and precise language which is, in the specific context of the contract, reasonable.
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.