Mon 26 Jan 2015

The pitfalls of exclusion and limitation clauses

Clauses in agreements seeking to restrict or exclude liability are particularly common in the construction industry - where consultants and contractors often seek to limit their liability in the event of a claim.

Generally speaking, the types of clauses that are most commonly requested by professionals on a construction project can be split into three main categories: 

  • A financial cap set at a specific level, commonly at the level of PI insurance that the relevant party maintains. This helps to ensure that the professional has insurance cover in place for all losses for which they may be held liable.

  • Clauses excluding specific types of losses, such as an exclusion of indirect losses or loss of profit or the limitation of liability to the reasonable costs of repair and/or reinstatement only.

  • Net contribution wording, which ensures that the professional cannot be held liable for another party's negligence in the event of a loss for which they were only partly responsible.  These types of clauses seek to circumvent the Scots law principle of joint and several liability where any joint wrongdoer can be pursued for the whole loss if more than one party was responsible for causing it.

I have written before about the importance of considering exclusion and limitation clauses carefully, though the issues in my previous article centred mainly on whether limitations were reasonable enough to be enforceable, with all such clauses falling under the ambit of the Unfair Contract Terms Act 1977 (UCTA).  The significance of getting the drafting itself right, so that the words put on the page actually do what is intended, is of just as much importance as compliance with UCTA: If there is any ambiguity the courts will generally interpret the clause against the party seeking to rely on it. 

The two cases considered below highlight the pitfalls of poorly drafted clauses and the consequences of getting it wrong.

Tayside Contracts case

Tayside Contracts contracted with D Geddes (Contractors) Limited for the supply by D Geddes of stone chippings for the purpose of maintaining local authority roads.  The contract was based on D Geddes' standard terms.  Several months after the stone chippings were used, there was a widespread failure in the road surfaces which Tayside Contracts contended was due to the poor quality of the materials supplied. 

In the first instance, D Geddes sought to rely on a clause in the contract restricting its liability.  This had several facets, including: 

  • an exclusion of liability unless any fault was notified to the contractor within 24 hours of the time of supply;

  • a limitation of liability to the cost price of the materials or goods supplied; and

  • an exclusion of liability altogether for any fault or defect in the materials or goods supplied.

No decision was required on the first point as D Geddes accepted that a 24 hour time-bar restriction could not apply to latent defects, although in any case the limitation was noted to be wholly unrealistic, with the drafting criticised as being uncertain. 

The real problem arose in the interpretation of the second and third elements of the clause. The second element suggests that liability is limited to the price paid for the materials, but the third element seeks to exclude liability altogether.  Was Tayside prevented from recovering damages altogether or could it recover the price it paid for the materials?  The judge noted that the two elements were diametrically opposed to one another and could not be reconciled.  The limitation was not clear and unambiguous and so was void for uncertainty.

The contractor's terms attempted to incorporate a whole host of exclusions and limitations, but because the language was ambiguous, none of the intended exclusions or restrictions could be relied upon. The clauses did not make commercial sense.  

Markerstudy Insurance Co v Endsleigh Insurance Services Ltd

Clauses that seek to exclude certain types of loss commonly refer to a number of general heads that are specifically excluded, such as indirect or consequential losses.  It is often mistakenly believed that heads of claim such as loss of profit or loss of use are automatically categorised as being "indirect" but the Markerstudycase highlights the pitfalls of making such as assumption.

It is worth considering the clause that was the subject matter of the dispute in full.  It read:-

"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".

On first glance, it could appear that all loss of goodwill, business, profit and pure economic loss claims are expressly excluded.  Endsleigh argued exactly that i.e. that the clause was intended to exclude all of the listed heads of loss, whether direct or indirect. 

This was rejected by the Court. It took the view that the listed heads of excluded claims in parentheses were examples of indirect or consequential losses that were excluded.  Therefore only those lost profits that were indirect were excluded.  Lost profits that could be categorised as direct losses (those losses that flowed directly from the breach) were not excluded and so could be recovered. 

What can be learned from these cases?

There are a host of cases that deal with exclusion and limitation clauses and the message is always the same - the importance of clear and unambiguous drafting is absolutely critical. 

We do come across poorly drafted exclusion and limitation clauses fairly frequently when reviewing construction documents and these seem to be particularly prevalent in the standard terms of suppliers and consultants.    It's not too late to have these checked by us if you think that could apply to your contracts!

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