By Dean G. Giles, Fillmore Riley LLP
Contracts used in the construction and engineering fields often contain so-called “exclusion of liability” or “limitation of liability” clauses that purport to reduce a party’s exposure to certain claims that may arise in connection with a project. Clauses of this sort are a means by which parties to the contract seek to minimize risk and protect themselves from what might otherwise be a ruinous damages award should something go wrong and litigation ensue.
In some instances, the clause in question may operate to cap a party’s exposure at a specific monetary amount, while others seek to exempt a party from liability for certaintypes of losses. A common example, often found in construction contracts, is a provision stating that the contractor “shall not be liable loss of earnings or other consequential damages howsoever caused,” or containing words to that effect.
Consequential damages are those that arise from the nature of the innocent party’s business and include such things as lost profits, lost customers and loss of reputation. This is in contrast to so-called “direct damages,” which are those that, without taking into account the particular circumstances of the party suffering the loss, one would reasonably expect to flow from a breach of contract. Still other clauses may limit a party’s exposure to damages caused by negligent acts.
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The nature, scope and enforceability of these clauses has been the subject of much judicial commentary in Canada. At one time, it was generally accepted that a party who had “fundamentally breached” the contract – in other words, had committed a breach so severe as to deprive the innocent party of substantially the whole of its benefit under the contract – could not escape responsibility for the consequences of that breach, even where the written agreement included a clearly worded provision demonstrating that the parties intended to exclude such liability. This led to considerable uncertainty, mainly due to the difficulty involved in determining whether a particular breach was truly “fundamental” so as to render inoperable an otherwise valid limitation of liability provision.
This changed with the decision of the Supreme Court of Canada decision in Tercon Contractors Ltd. v British Columbia (Transportation and Highways), which did away with the doctrine of fundamental breach in the context of contractual clauses limiting liability. Central to that decision and the numerous cases that have followed is the principle that there is nothing inherently unreasonable about limitation of liability clauses and that they should be applied unless some compelling reason exists for overriding the parties’ stated intention.
In that case, the Ministry of Transportation in British Columbia issued a request for proposal (RFP) to construct a highway. Under its terms, only six contractors were permitted to submit bids, one of which was Tercon Contractors Ltd. The RFP also contained an exclusion clause, which excluded claims for damages “as a result of participating in this RFP.” The successful bid was not one of the six contractors prescribed, but was instead a joint venture between one of the six contractors and another construction company. The majority of the Supreme Court of Canada held that the exclusion clause did not prohibit Tercon’s claim for compensation against the Province because it was not a claim that arose as a result of participating in the RFP, but rather arose of out of the participation of ineligible bidders.
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Having “shut the coffin” on the doctrine of fundamental breach, the court went on to articulate a three-step analysis to be used in deciding whether a limitation of liability clause should be upheld. The first part of the test involves an inquiry into whether the exclusion clause actually applies in the circumstances. Here, the intention of the parties as set out in the contract between them is critical. The second question to be addressed “is whether the exclusion clause was unconscionable at the time the contract was made, as might arise in situations of unequal bargaining power between the parties.” Lastly, the court will consider whether it nevertheless should refuse to enforce an otherwise valid exclusion clause because of overriding public policy considerations that outweigh the very strong public interest in the enforcement of contracts. The court made it clear that the onus of demonstrating the existence of such public policy grounds rests with the party seeking to escape the impact of the exclusion clause.
It follows that from the above analysis that, absent some compelling public policy reason that would justify invalidating a limitation of liability clause in the contract, such clauses likely will be enforced. This is particularly true where the parties in question are sophisticated in commercial matters and no issues of unconscionability or inequality of bargaining power arise.
Dean Giles is a partner with Fillmore Riley LLP, who practises primarily in the areas of commercial, insurance and intellectual property litigation. You may reach him at deangiles@fillmoreriley.com or 204-957-8337.
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