The importance of well-worded exclusion clauses

December 2014

Rating system:

Reading time (1-10 minutes): 2

Sophistication level (1 (idiot) – 10 (expert)): 6

Entertainment value (1 (turgid) – 10 (side-splitting)): 5

Background:

The law relating to exclusion and limitation of liability clauses is quite difficult. Many people (including many good lawyers I have known) have been confused by it. One area which causes confusion is that the law says that there are two broad categories of loss which you can seek to recover as damages for breach of contract – direct and indirect losses. But some types of loss, eg physical damage, loss of profit, economic loss, and loss of reputation and goodwill, are capable of falling into either category.

Broadly, direct losses are those which are the direct and natural consequences of a breach. Indirect losses (also known as consequential losses) are those that do not arise naturally in the course of events, but are still contemplated by the parties at the time the contract is entered into because of the particular circumstances.

This recent case is an example of confused drafting (or possibly of a party trying to wangle a different result from clear drafting…).

Facts:

Polypearl (P) and E.On Energy Solutions (E) entered into a contract for P to supply a number of products to E. The contract had an exclusion clause saying that ‘Neither party will be liable to the other for any indirect or consequential loss, (both of which include, without limitation, …loss of profit)’. It also said that liability for any direct loss was capped at £1m.

P claimed that E hadn’t ordered as many products as it had agreed to. P sued for loss of profits of £2m.

Decision:

The court ruled that P’s loss of profits was direct loss. P was entitled to claim this, subject to the agreed cap on direct losses of £1m. Seems pretty obvious when you think about it. If you agree to sell something for £50 which costs you £30, you hope to make a profit of £20 so that’s what you’d expect as damages if the buyer fails to buy it. If the court had ruled otherwise the contract would have been pretty useless – ‘we will buy products from you but if we don’t we won’t have to pay you anything…’.

E argued that the exclusion clause should be read as if all claims for loss of profits were indirect losses, and so should be excluded. As I hope you would expect, the court rubbished this.

Advice:

Be very careful how you word your exclusion or limitation of liability clauses. Think about what kind of losses might follow as a result of different breaches of contract, and make sure that the contract deals with them in the way you want (whichever party you are).

Case: Polypearl Ltd v E.On Energy Solutions Ltd [2014] EWHC