James Farrell and Sophie Jones give a full account of a recent Court of Appeal judgment and tease out the lessons to be taken from the dispute
In Royal Devon and Exeter NHS Foundation Trust v Atos IT Services UK Ltd  EWCA Civ 2196, the Court of Appeal considered the interpretation of a liability cap in a contract for the provision of IT systems and related services. It favoured the interpretation with ‘the least bizarre consequences’.
As is not uncommon in IT services and outsourcing contracts, the clause in question purported to apply different caps to the IT provider's liability depending on the stage of the contract at which defaults occurred. The parties disagreed as to how the clause should be interpreted, contributing to a lengthy dispute.
Contracting parties in the IT sphere and elsewhere should be wary of finding themselves in similar situations when the drafting of limitation clauses in their contracts is unclear.
Facts of the case
Royal Devon and Exeter Foundation Trust engaged Atos to provide an IT system which would hold patient records online, so that clinicians could view and amend patients' records electronically. Atos agreed to provide health record scanning services and electronic document management (EDM) software and associated services.
The contract was based on the standard form NHS Conditions of Contract for the Supply of IT Systems and the Provision of Associated Services, with certain amendments. It had a five-year term and a contract price of £4,939,207.
The project did not go well and there was a dispute as to who was responsible. The Trust terminated the contract shortly before the end of its term and issued proceedings in the Technology and Construction Court (TCC), claiming damages for alleged breaches of contract by Atos. Atos counterclaimed, asserting that the Trust was responsible for the problems.
The liability cap
The liability cap was one of the provisions negotiated by the parties, rather than being part of the standard form contract. It provided for the level of the cap to decline as the contract progressed, presumably to reflect the parties' perceptions that the project risks would reduce over time. It was drafted in the following terms:
· Clause 8.1.2(b):
‘(b) the aggregate liability of either party under the Contract for all defaults, other than those [resulting in direct loss of or damage to tangible property of the other party], shall not exceed the amount stated in schedule G to be the limit of such liability’.
· Paragraph 9.2 of Schedule G:
‘9.2 The aggregate liability of [Atos] in accordance with sub-clause 8.1.2 paragraph (b) shall not exceed:
9.2.1 for any claim arising in the first 12 months of the term of the Contract, the Total Contract Price as set out in section 1.1; or
9.2.2 for claims arising after the first 12 months of the Contract, the total Contract Charges paid in the 12 months prior to the date of that claim.’
Notably, paragraph 9.2 ambiguously combined the reference to ‘aggregate liability’ with the phrases ‘for any claim’ and ‘for claims’.
The principles of interpretation
The legal principles of contractual interpretation are well-established and will apply equally to a provision seeking to limit liability. In summary:
The decision at first instance
In the TCC decision (Royal Devon and Exeter NHS Foundation Trust v Atos IT Services UK Ltd  EWCA Civ 2196), Mrs Justice O'Farrell considered as a preliminary issue whether and to what extent Atos's liability was limited by paragraph 9.2 of Schedule G.
Applying the legal principles on interpretation referred to above, she rejected the Trust's submission that the provision was not capable of being construed and should be declared unenforceable. Instead, she held that it imposed a single cap which, depending on the timing of the first default, would be either that set out in paragraph 9.2.1 or that in paragraph 9.2.2.
She considered that the words ‘aggregate liability … shall not exceed’ at the start of paragraph 9.2 indicated that the parties intended to limit the total or composite liability of Atos. When read together with the word ‘or’ between sub-paragraphs 9.2.1 and 9.2.2, she considered that this indicated that the parties intended to agree that one cap would apply.
She went on to say that, if the provision were interpreted as providing multiple caps where there were multiple claims, this could lead to a liability cap that was multiple times the contract price if there were several defaults during the first year. Similarly, she said that if there were one breach in the first 12 months and another, one day after the first 12 months, the level of the cap would approach double the contract price. She considered it ‘very unlikely’ that the parties would have agreed to such a term because ‘the potential level of the cap would render it devoid of any real purpose.’
The decision of the Court of Appeal
Both parties appealed. The Trust appealed against the judge's decision that paragraph 9.2 imposed one cap rather than two. Atos's cross-appeal was asserted on the basis that, if the Trust's appeal was successful, the last four words of sub-paragraph 9.2.2 should be construed as meaning ‘the date when that claim was notified’.
Jackson LJ and Lewison LJ in the Court of Appeal considered that the central issue for them to decide was the natural meaning of the words used, applying the test of a reasonable person who had all the background knowledge of the parties. Jackson LJ observed that both parties were well-resourced, commercial organisations with ready access to legal advice, such that there was no reason to depart from the natural meaning of the words used, once that meaning had been ascertained.
Jackson LJ disagreed with the judge's view that the provision imposed one rather than two caps. In his view, the phrase ‘aggregate liability’ did not suggest one cap as it could also refer to the aggregate of the sums referred to in the sub-paragraphs below. He also said that the word ‘or’ could have a ‘conjunctive’ as well as a ‘disjunctive’ meaning. A good reason for using it (in the conjunctive sense) between sub-paragraphs 9.2.1 and 9.2.2 was that the sub-paragraphs were mutually exclusive in that each referred to a discrete period and the two periods did not overlap.
He considered that the language of paragraph 9.2 pointed emphatically to there being two separate caps. For any default or defaults occurring during the first 12 months, Jackson LJ held that Atos's liability was capped at the contract price. For any default or defaults occurring during the remainder of the contract term, Atos's liability was capped at the amount of the contract charges paid in the preceding 12 months. If defaults occurred during both periods, both caps would apply: the cap of the contract price to defaults in the first 12 months, the cap of the last 12 months' charges to defaults in the subsequent period.
Jackson LJ considered that there was nothing surprising about this arrangement. Atos was expected to do the high-value work in the first year, when defaults could have very expensive consequences. Lower-value work would be undertaken in the subsequent years, with less expensive consequences. He accepted that this interpretation could still lead to some odd results, depending on when defaults occurred; however, he considered that the natural meaning, which yielded the least bizarre consequences, was that the provision imposed two separate caps.
Atos's cross-appeal was refused. The parties had already agreed that the words ‘claim’ and ‘claims’ at the beginning of each of the sub-paragraphs of paragraph 9.2 meant ‘default’ or ‘defaults’, respectively. If the phrase ‘claims arising’ at the beginning of sub-paragraph 9.2.2 referred to ‘defaults arising’, Jackson LJ considered that the phrase ‘that claim’ at the end of that sub-paragraph must be a reference to a default occurring, rather than a claim being communicated.
Negotiating liability caps with clear and precise wording
The case serves as a useful reminder of the importance of negotiating clauses with clear and precise wording. Limitation of liability provisions are often one of the most heavily negotiated parts of IT and outsourcing contracts and need careful consideration to ensure that they can be relied upon if problems occur.
When negotiating liability caps, parties should consider:
· If liability is to be linked to the value of charges paid under their contract, whether the cap will apply multiple times on a ‘per claim’ basis or only once as an ‘umbrella’ for all claims arising within a particular period.
· How any connected claims will be treated; and whether the cap will be calculated by reference to charges paid or charges payable under the contract.
· Whether any time boundary for defining the value of a cap will be triggered by (i) the date on which the claim first arose, (ii) the date when the claim was first discovered by a party, or (iii) the date on which the claim was formally notified by a party.
· Where there are several contracts governing a relationship, whether there are any conflicting provisions purporting to cap or otherwise limit liability.
· Whether a cap should apply to certain liabilities only. For example, will it include payments made under an indemnity, liquidated damages, service credits or interest on any amount awarded by a court or arbitration tribunal?
· The level of a cap - if the Unfair Contract Terms Act 1977 applies, eg in a business to business contract where one party is dealing on the other's standard terms, a term purporting to limit liability for breach of contract will apply in so far as it is ‘reasonable’.
In interpreting a liability cap, although the court will consider commercial common sense and the surrounding circumstances, its focus will be on the language used. This is something that contracting parties have control over, and they should exercise it carefully.
Where the words of a provision are unclear, the more ready the court will be to depart from their natural meaning. As the divergent views of the judges in the TCC and the Court of Appeal in this case demonstrate, a confusing clause can be interpreted in different ways. This can lead to uncertainty and the potential for costly and time-consuming disputes.
James Farrell is a Partner at Hebert Smith Freehills LLP based in London.
Sophie Jones is a Senior Associate there.