Indirect and consequential loss clauses: the end of the story?

United Kingdom

Victoria Peckett analyses recent case law

“Neither party shall be liable to the other for any indirect or consequential losses whatsoever”.

A clause found commonly enough in contracts - but what does it mean?

The Courts have recently been looking at exclusion clauses of this nature and have given some guidance on how they should be interpreted.

Where is the Line between Direct and Indirect or Consequential Losses to be Drawn?

In British Sugar plc v NEI Power Projects Limited, the Court of Appeal had to consider a clause which limited the Defendant’s liability for “consequential loss” to the value of the contracts under consideration. The Court held that this clause limited the Defendant’s liability for loss and damage which did not directly and naturally result from the Defendant’s breach of contract to a sum equal to the value of the contract, but that the Defendant’s liability to pay such damages as flowed naturally and directly from any breach was not limited by that clause.

In Deepak Fertilisers and Petrochemical Corporation v Davy McKee (London) Limited and ICI Chemicals & Polymers Limited, the Court of Appeal considered a clause which (amongst other things) excluded the First Defendant’s liability for “indirect or consequential damages”. The Court had to consider whether loss of profits and wasted overheads incurred during a reconstruction of the plant which was necessitated by the First Defendant’s breach of contract were indirect or consequential damages and therefore excluded by that phrase. The Court found that wasted overheads and lost profit were no more remote than the cost of reconstruction itself: they were direct losses and were therefore not excluded.

The issue came up again in BHP Petroleum Limited v British Steel plc. After considering all the authorities, the Judge concluded that that the line between direct and indirect or consequential losses is drawn along the boundary between the first and second limbs of Hadley v Baxendale.

Recent caselaw therefore seems to indicate that indirect or consequential losses will be held to be those falling within the second limb of Hadley v Baxendale (i.e., those which could reasonably be said to have been within the contemplation of the parties at the time of making the contract). Losses within the second limb will therefore be caught by exclusion clauses of the type outlined above. However, losses falling within the first limb of Hadley v Baxendale (i.e., those which flow naturally from the breach of contract in question) will not be caught by those clauses.

That is the general principle. However, does it really help parties trying to determine whether the particular losses in their case are caught by exclusion clauses of this type?

As noted by the Court of Appeal in Hotel Services Limited v Hilton International Hotels (UK) Limited, the general principle will not of itself provide the definitive answer as to whether a particular type of loss will be covered by a clause excluding recovery of indirect or consequential loss. The Court emphasised that the facts of each case must be reviewed to see whether the particular losses are covered by the clause or not.

Nevertheless, various categories of loss have been considered by the Courts and there is therefore guidance in caselaw as to whether they will be regarded as direct or indirect losses. Examples are set out below.

Categories of loss

Loss of profit

Case law beginning with the decision of Atkinson J in Saint Line v Richardsons, Westgarth & Co and culminating with the decisions in Deepak and Hilton Hotels (referred to above) makes it clear that loss of profit will be regarded as falling within the first limb of Hadley v Baxendale and will therefore be construed as a direct loss.

Wasted overheads

Deepak indicates that wasted overheads will be regarded as direct loss.

Interest/financing charges

Interest/financing charges incurred as a result of breaches of contract other than late payment will be regarded as direct losses (Minter (F. G.) v Welsh Health Technical Services Organisation). Interest/financing charges incurred as a result of late payment may possibly fall within the second limb of Hadley v Baxendale and would therefore be regarded as indirect or consequential losses.

The drafting of the clause in question

The position can be complicated by the drafting of the clause in question.

For example, the clause in Deepak provided that the First Defendant would not be liable for

“loss [of] anticipated profits, catalyst, raw-material and products or for indirect or consequential damages”.

As a result, even though the Court found that loss of profit would not be caught by the phrase “indirect or consequential damages”, recovery of it was prevented as it was expressly excluded by the clause in question.

A fairly complex clause was considered by the Judge in the British Steel case referred to above. That clause provided that neither party would be liable to the other for

“loss of production, loss of profits, loss of business or any other indirect losses or consequential damages...”.

The Claimant argued that this clause only excluded the Defendant’s liability for loss of production, profits and business to the extent that those losses fell within the second limb of Hadley v Baxendale. The Judge rejected this interpretation on the basis that it made everything in the clause other than “indirect losses or consequential damages” redundant. He decided that it was best to construe the clause as if it read “for loss of production, profits, business, indirect losses or consequential damages of any other kind”. To take an example, all loss of profit would therefore be excluded by the clause.

The cases illustrate the fact that the wording of exclusion clauses of this type will be scrutinised very carefully by the Courts. The moral must be that if you are in any doubt as to whether particular losses will be caught by an exclusion clause of this type, then you should refer to them specifically in the clause in question - and you should not refer to “indirect and consequential” losses at all.

For fdurther information on this topic, please contact Victoria Peckett at r on +44 (0)20 7367 3487.