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Procurement Perspectives: Limitation of damages for supply agreements

Stephen Bauld
Procurement Perspectives: Limitation of damages for supply agreements

Often a supply agreement, particularly any supply agreement drafted by a supplier, will contain a provision along the following lines.

The supplier’s liability under this contract in respect of any breach shall be limited to the damages directly attributable to that breach. The supplier will not be responsible for punitive or aggravated damages, nor for any indirect, incidental or consequential damages, nor for any special damages loss arising in connection with the customer’s use or inability to use this product. This exclusion shall apply irrespective of whether an action is brought for breach of contract, in tort, or on any other basis. This provision shall apply irrespective of whether that breach is determined to have been “fundamental” in nature.

Sometimes provisions of this kind are made more equitable by extending such limited liability to both parties. Provisions of this sort, known as limitation of liability or LPL clauses, exclude liability for those damages or losses that arise not from the immediate act of the supplier, but in consequence of that act. The meaning of a “fundamental” breach has already been considered.

It’s important to consider the meaning of consequential and special damages, in order to determine the type of damages that are excluded from recovery under a provision of the foregoing kind.

To explain provisions of this kind, you must begin by considering the kinds of damages that may be recovered in an action for breach of contract. The basic rules regarding the recovery of damages in such cases is set down in the decision of Alderson B. in Hadley vs. Baxendale. It is in that case that the basic distinction between “special” and other damages is drawn for the purposes of the law of contract.

In that case, Alderson B. stated:

“Where two parties have made a contract which one of them has broken, the damages which the other party ought to receive in respect of such breach of contract should be such as may fairly and reasonably be considered as either arising naturally, i.e., according to the usual course of things, from such breach of contract itself, or such as may reasonably be supposed to have been in the contemplation of both parties at the time they made the contract as the probable result of the breach of it.

“If special circumstances under which the contract was actually made were communicated by the plaintiffs to the defendants, and thus known to both parties, the damages resulting from the breach of such a contract, which they would reasonably contemplate, would be the amount of injury which would ordinarily flow from a breach of contract under the special circumstances so known and communicated.

“But, on the other hand, if those special circumstances were wholly unknown to the party breaking the contract, he, at the most, could only be supposed to have had in his contemplation the amount of injury which would arise generally, and in the great multitude of cases not affected by any special circumstances, from such a breach of contract.”

In F.G Minter Ltd. vs. Welsh Health Technical Services Organization, the claimants were the main contractors employed to construct a hospital for the University of Wales.

Clauses of this contract allowed claims for direct losses and expenses incurred in certain circumstances. The question was raised as to whether interest or finance charges fell within the scope of direct loss. It was accepted by the parties and the court that direct loss and expense are those that arise naturally and in the ordinary course of things, within the meaning of the first branch of the rule in Hadley v. Baxendale.

The term “consequential damages” describes damages that flow indirectly from a breach of contract. They are incidental to the main damages sustained.

Stephen Bauld is a government procurement expert and can be reached at swbauld@purchasingci.com. Some of his columns may contain excerpts from The Municipal Procurement Handbook published by Butterworths.

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