Walking Away

May 21, 2009

This case arises out of an agreement between NETTV and MARHedge to set up an internet television channel dedicated to hedge funds. The channel was a great success until MARHedge sought to terminate the agreement and end the arrangements between the parties.

The reasons for MARHedge’s action are not clear. However, it was forced to admit that it had not only committed a repudiatory breach of the agreement but that it also had no contractual justification for its actions. MARHedge instead relied on the exclusion clause below to protect it from liability for loss of profit, being the majority of the damages claimed by NETTV. The effect of this clause was considered as a preliminary issue.

neither party will be liable to the other for any damage to software, damage to or loss of data, loss of profit, anticipated profit, revenues, anticipated savings, goodwill or business opportunity, or for any indirect or consequential loss or damage

Is the exclusion clause effective?

The judge found that this clause did not protect MARHedge from a claim for loss of profit in the case of a deliberate repudiatory termination. In coming to this conclusion, he made the following points:

·                    There is no rule of law preventing such clauses being effective in these circumstances.  The question is one of construction. This follows the House of Lords’ decisions in Suisse Atlantique [1967] 1 AC 361 and Photo Productions v Securicor [1980] 1 AC 827.

·                    The judge went on, however, to state that it is not enough that the words, in a purely literal sense, cover a deliberate repudiatory breach, if that interpretation would defeat the main object of the contract.

·                    Most radically of all, he concluded that there is a strong presumption against the exemption clause being construed so as to cover deliberate repudiatory breaches.

·                    The words required to cover a deliberate repudiatory breach need to be very ‘clear’ in the sense of using ‘strong’ language. The judge suggests that to be effective the clause would need to contain language stating that it applies in all cases ‘including deliberate repudiatory acts by [the parties]’.

·                    The proper function of an exemption clause between commercial parties of equal bargaining power is to allocate insurable risk ‘so that an exemption clause should not normally be construed in such cases so as to cover an uninsurable risk or one very unlikely to be capable of being insured’.

Freedom to contract?

Underpinning this analysis is the tension between the needs of justice and certainty of contract. One factor that clearly influenced the judge’s approach to the construction of the clause was the fact that the breach was ‘personal’ – ie made by the ‘controlling mind’ of MARHedge. The judge stated he ‘cannot imagine that any reasonable businessman would understand the words to cover [deliberate repudiation]’. Yet such limitations, and particularly caps on liability, are often seen as prima facie applying in all circumstances. As Lord Justice Rix put it[1]: ‘Parties to a contract plainly look to performance rather than non performance or misperformance, but they also contemplate the latter’. As a result of that contemplation of non-performance,  parties often make specific additional provision for wilful default by the other in their exclusion clauses (by carving them out of the financial limitations on liability for example so that liability for wilful default is uncapped). Put another way, many commercial parties do contract on the basis that their exclusion clauses cover deliberate repudiation, and in some of those cases the parties choose to remove the financial caps as a result.

Moreover, in one of the main authorities cited in the case, Photo Productions v Securicor, one of Securicor’s employees deliberately started a fire which went on to destroy Photo Productions’ warehouse. The exclusion clause stated: ‘Under no circumstances shall [Securicor] be responsible for any injurious act or default by any employee of [Securicor] unless such act or default could have been foreseen and avoided by the exercise of due diligence’. Despite the extraordinary behaviour of Securicor’s employee, Lord Salmon considered the clause was ‘crystal clear’ and ‘obviously relieved’ Securicor from liability. While Photo Productions may have been a case of vicarious liability, rather than deliberate repudiation, it indicates that the need for strong language should not be overdone.  

Two further points in the NETTV judgment are noteworthy:

·                    A key factor for the judge in coming to this conclusion was his view that the remedies available to the claimant were inequitable if it could not claim loss of profit. However, in Regus v Epcot [2008] EWHC Civ 361, the Court of Appeal found that an exclusion of loss of profit will often leave the claimant with other substantive remedies and therefore be reasonable under the Unfair Contract Terms Act 1977. For example, in that particular case, the claimant could also claim for the diminution in the value of the services provided to it under the contract.

·                    The strong emphasis on insurable and non-insurable risks is also unusual. Clearly, the availability of insurance is part of the ‘matrix of fact’ that must be considered when interpreting the clause but to suggest there is a presumption against excluding uninsurable risk seems to go too far. For example, in IT system development contracts there is always the risk that the supplier will fail to deliver due to a lack of proper project management or technical ability. This risk would be hard to insure but the parties would expect it to be covered by the exclusion clauses.

Other issues

The judge also considered if the exclusion clause should be set aside as being ‘repugnant’. This might be the case if, for example, the effect of the exclusion clause is the agreement no longer ‘retains the legal characteristics of a contract’ [2] by conferring on one party the liberty to ignore his obligations with impunity. Given the conclusions on the construction of the exclusion clause, it was not necessary to consider this point in depth. However, it would be hard to conclude that the clause was repugnant given the Court of Appeal’s views on this type of exclusion clause in Regus (see above).

The parties also approached the clause on the basis that there was no legislation limiting the effect of the exclusion clause. This too is interesting. It appears that the clause has the effect of limiting the parties’ liability for a failure to use reasonable skill and care, which would seem to be an important element in performing the contract. Accordingly, it may have been possible to attack the exclusion clause as being an unreasonable limit on MARHedge’s liability for negligence under s 2(2) of the Unfair Contract Terms Act 1997. In any event, this line of argument was not pursued.

Should you still take the ‘nuclear option’?

Many organisations are reviewing their contractual arrangements in the light of the credit crunch and this can lead to difficult re-negotiations. An implicit, and in some cases explicit, factor in these negotiations is the ‘nuclear option’ – for one party to simply walk away from the contract and rely on the exclusion clauses to protect against subsequent liability. This case is a useful reminder that the ‘nuclear option’ comes with considerable risk.

Richard Cumbley is a partner and Peter Church is an associate in the Technology, Media & Telecommunications practice at Linklaters LLP.

[1]    HIH Casualty and General Insurance Ltd. v Chase Manhattan Bank (2001) 2 Lloyds Rep 483. The same is not true of more extreme types of behaviour. For example, ‘fraud is a thing apart. Parties contract with one another in the expectation of honest dealing’.

[2]    Photo Productions v Securicor.