Contracts Refresher: Excluding Liability For Loss Of Profits

When a technology contract goes wrong, customers will often suffer not just from a loss of systems but also from disruption to their business. Disruption may lose them vital revenues and even give rise to claims from customers. It would seem intuitive that contracts should be clear cut and allow customers to claim for loss of profit. But the position is far from clear. As a result, customers and suppliers must carefully craft their contracts if they are to effectively include or exclude claims for loss of profits.

The key issue is that English law only allows losses to be claimable if they are not unlikely or reasonably foreseeable as a result of the breach at the time the contract was entered into. Exceptionally, claims may be allowed where at the time the contract was concluded the parties had special knowledge of a certain kind of loss (e.g. that one of the customer's contracts depended on delivery by the supplier). These principles were established in Hadley v Baxendale (1854) 9 Ex Ch 341 and Heron II [1969] 1 AC 350, and reiterated over the years.

These types of loss are often referred to in shorthand as "direct" loss to describe the "not unlikely" or foreseeable kind and "indirect loss" to cover other losses which are only claimable if special knowledge is evident. The distinction can quickly become unhelpful if the longhand definitions are forgotten as plainly a kind of loss like damage to property, on different sets of facts, could be direct or indirect under the Hadley v Baxendale test. This leads to a lot of confusion as people try to pigeonhole, say, loss of profits as necessarily being in one category or another. In reality, lawyers need to look to the case law for guidance on whether loss of profits have been determined to be claimable in similar circumstances to the ones they face, and then draft the best they can to reinforce or avoid the consequences.

The courts have therefore long recognised that loss of profits arising from a breach of contract can be a direct loss or an indirect loss, depending on the circumstances, including the nature of the contract and the nature of the breach. It is essential then that the exclusion and limitation provisions make clear whether any references to "loss of profits" are to all loss of profits (both direct and indirect), or only one or the other. Two High Court cases last year - Fujitsu v IBM, [2014] EWHC 752 (TCC) and Polypearl Limited v E.on Energy Solutions Limited [2014] EWHC 3045...