Consequential loss exclusion clauses

There is a great deal of confusion about what is meant by the term “consequential loss”.

Case law has established that there are two kinds of losses that flow from a breach of contract:

• loss that arises naturally from the breach (“direct loss”), or
• loss that arises from the special circumstances of a contract that would have been in the parties’ reasonable contemplation when the contract was entered into (“indirect loss”).

Consequential loss has been held to mean the latter of these.  The problem is that many people think that losses such as loss of profit, loss of business and loss of contract, are consequential but that is not the case as usually these are direct losses. This is because the damage flows directly as a consequence of the breach of contract.

It is not uncommon to find a Consequential Loss Exclusion (CLE) clause in a commercial contract, particularly in construction and energy projects.  A typical CLE clause is as follows (taken from FIDIC Red Book): “Neither party shall be liable to the other party for loss of use of any work, loss of profit, loss of any contract or for any indirect or consequential loss or damage which may be suffered by the other party in connection with the contract”.

Does a CLE clause prevent recovery?

It is important to ensure that the wording of the exclusion clause on which you intend to rely covers the losses which you intend to exclude.  If the clause simply states it excludes indirect or consequential loss then many losses which a party is trying to exclude will not be covered. 

In one case a party excluded indirect and consequential losses which included a list of items such as loss of profit, loss of goodwill and loss of contract.  The court interpreted this to mean only those losses which were indirect were excluded and the losses which were direct could still be recovered.  In effect the clause failed to give the protection sought. 

The key when drafting a CLE clause is to consider carefully what losses are likely to flow from a breach of contract (relevant to your circumstances) and to identify those types of losses in the CLE clause.  It is necessary to be precise as the courts will interpret your words in a strict, rather than a broad, sense.

If you require help drafting or reviewing a construction or commercial contract, please contact us for further assistance.