Be careful what you wish for

Year Published: 2014

It is common practice in commercial contracts, particularly in construction and manufacturing, for the parties to limit or exclude their liability or pre-determine what compensation should be paid following a breach of contract. The latter clause is called a Liquidated Damages Clause.

For those of you not familiar with exclusion and limitation clauses, the former excludes liability under the contract and the latter limits the liability to a certain amount.

There is no doubt that such clauses are useful for managing risk under a contract e.g. it would be commercial suicide to undertake a contract for £5,000 but then be exposed to the potential for millions of pounds in damages or to agree liquidated damages of £1,000 per day.

However, following the recent case of AB v CD [EWCA] Civ 229 having such clauses in the contract could have unforeseen or undesired consequences.

In this case the claimant sought an interim injunction to prevent the defendant from determining a license agreement.

The judge, Lord Justice Underhill, stated that “It is trite law that such an injunction will not be granted if damages would be an adequate remedy for the wrong.” In other words, it is accepted that if the claimant can be adequately compensated for the breach of contract by the payment of damages or compensation, then it is not appropriate to grant an injunction.

The license agreement provided a limitation clause which prevented the claimant from claiming compensation for all its losses resulting from the termination. The claimant therefore argued that compensation wound not be an adequate remedy.

The defendant argued that the parties had a contract in which they had agreed the level of compensation in the event there was a breach of that contract. Therefore, it would be incorrect to determine that this prior agreement would be inadequate compensation.

The court of appeal disagreed with the defendant. It accepted that a binding limitation clause would determine the level of compensation. However, Lord Justice Underhill stated that the limitation clause could not “be treated as an agreement to excuse performance of that primary obligation.” In other words, it was not a means by which to buy your way out of performance of the contract.

The claimant therefore succeeded in its argument that the limitation clause meant that damages was not an adequate remedy and an interim injunction was granted which prevented the defendant from terminating the license agreement.

What does this mean for businesses?

This case does provide assistance to those businesses that wish to keep contracts alive, which include some form of; exclusion, limitation or liquidated damages clause, that will not adequately compensate them for breach of the contract.

Inclusion of such clauses does not automatically mean an injunction will be granted. There of course needs to be grounds in the first place but assuming there are, the court will still assess each case on its facts.

Nevertheless, such clauses increase the risk of injunctions being granted and therefore whilst they undoubtedly have an important role in managing risk under contracts, careful consideration needs to be taken when including them and determining their scope.

You should also be mindful that whilst it may be attractive to end an unwanted agreement because you have limited the compensation payable, this could backfire and result in you being on the end of an injunction.

For further information on exclusion and limitation clauses, please contact our Dispute Resolution team on 0161 475 7658.

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