ezine

08 Feb 2010

In our first article, 'Luxury Brands Attempt To Hit Back At Online Marketplaces' we review whether online marketplaces should be held jointly liable for trade mark infringement by sellers on their websites. L'Oreal thought so when it took eBay to court in the United Kingdom. This article looks at that case and whether the same conclusion would be reached by the New Zealand courts.

In our second article, "Copyright Myths and Online Content", several copyright myths have been circulating for years, but seem to have gained in popularity with the massive increase in information available online. In this article Richard Watts and Claire Foggo explore these myths and answer some common questions regarding copyright infringement and online content.

A key feature of any ongoing supply agreement, be it for goods and/or services, is to provide continuity and certainty for both the supplier and customer. However, with any long term arrangement, it is prudent to consider the possibility of one of the parties wishing to terminate earlier than expected. This could be due to the relationship breaking down or simply that circumstances have changed so that the arrangement is no longer required or appropriate. Addressing these issues at the outset can assist in bringing the supply agreement to an end smoothly from both an operational and legal perspective. Karen Ngan and Matt Smith outline some of the possible grounds for terminating a supply agreement prior to its expiry in our third article""I Want Out!" - Terminating Supply Agreements", as well as some key considerations when entering into your supply agreements.

Finally, have you ever negotiated one of those clauses excluding indirect or consequential loss without really being sure what you've just negotiated? You're probably not alone. In our fourth article for this month, "My Loss Came Round a Corner: Does That Make it Indirect or Consequential?", Don Holborow and Adam Jackson look at the effect of such clauses.

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Luxury Brands Attempt To Hit Back At Online Marketplaces

More and more people around the world are shopping online. While online shopping creates greater choice and opportunities for consumers, online commerce has also spurred a flood of counterfeit products. The sale of counterfeit products results in lost revenue to brand holders, retailers and distributors of legitimate goods and can also dilute the hard earned reputation and goodwill of brands.

The response of luxury brand owners in the United States, France and the United Kingdom has been to take action, not just against individual sellers of counterfeit products, but against the hosts of online websites which offer for sale counterfeit products. This article looks at L'Oreal's attempt in the United Kingdom High Court to find eBay Europe jointly liable for the infringing activities of individual sellers and explores how a New Zealand Court may address the issue.

eBay's online marketplace

eBay is an online marketplace. Sellers can list items for sale by way of auction, where the seller chooses to accept bids, or by fixed price listings, where buyers can purchase goods at a fixed price. L'Oreal's investigations found that a number of individuals were listing counterfeit L'Oreal products, "tester" products, unboxed products, and products not intended for the sale in the European Economic Area (EEA) on eBay Europe's website. The individuals who sold these classes of products were held to be infringing L'Oreal's trade marks because they made unauthorised use of L'Oreal's various trade marks.

The claim against eBay

However, L'Oreal also claimed that eBay should be held jointly liable for the individual seller's infringements. L'Oreal argued that eBay had participated in a common design with the individual sellers to infringe its trade marks or otherwise procured the infringing sellers to infringe its trade marks. L'Oreal supported its claim by pointing out that eBay promoted the listing of items on the site, exercised some degree of legal and technical control over the sellers and their listings, and was intimately involved in the entire sale process. L'Oreal claimed that eBay was under a positive legal duty to take all "reasonable measures" to prevent trade mark infringement, but failed to do so. Therefore, L'Oreal argued that eBay should be found jointly liable for the trade mark infringements of the individual sellers.

eBay's response

eBay contended that it was under no positive legal duty to protect third party trade marks from infringements. eBay argued that it operated its site in a neutral and impartial manner, which did not distinguish between sellers selling legitimate and illegitimate goods. eBay maintains a rights protection scheme (known as VeRO) which provides a mechanism to investigate breaches and issue sanctions to repeat offenders. eBay pointed to its VeRO scheme as evidence of its efforts to minimise infringements and claimed that, at worst, they had facilitated the sale of counterfeit products - and mere facilitation failed to satisfy the level of participation required to constitute participation in a "common design" to infringe.

The Result

The High Court expressed sympathy for L'Oreal's position, observing that eBay's form of trade carried with it a greater risk of trade mark infringement, and eBay certainly profited from this increased risk. However, to be liable for joint infringement of L'Oreal's trade marks, eBay would have to procure the acts of infringement or share in the common design that they take place. To procure an act of infringement requires a defendant to induce or persuade a person to infringe. To participate in a common design requires a defendant to have some form of agreement or collaboration with an infringer. The Court found that there was nothing in eBay's particular business model that inherently led to infringement. The Court was not prepared to find eBay liable for joint trade mark infringement simply because they facilitated the illegitimate sale of goods featuring L'Oreal's trade marks. Therefore, eBay had not procured or shared in a common design to infringe L'Oreal's trade marks. The Court further observed that eBay had no legal obligation to prevent third party trade mark infringements, and it was therefore meaningless for L'Oreal to suggest eBay should have taken "reasonable measures" to do so.

Lessons and Implications for New Zealand

eBay has been the target of a number of trade mark infringement suits in several countries, with mixed results. In 2008, French courts found eBay liable to Louis Vuitton Moët Hennessy after the court ruled that the online auctioneers had not done enough to prevent the sale of counterfeits. However, a United States court held that eBay was not liable to Tiffany & Co. for the online sales of counterfeit jewellery. The court found that there could be no legal liability imposed upon eBay for its refusal to take pre-emptive action against sellers who might infringe.

The law on joint infringement in New Zealand is likely to be interpreted in line with the L'Oreal case in the United Kingdom. This suggests that to be jointly liable for trade mark infringement, an online auction website must meet the threshold of procuring infringement or share in a "common design" in order to be held liable. Whether an auction website is sufficiently involved in the infringing activities of its users is a matter of fact. A New Zealand auction website should be able refute allegations they have the necessary level of involvement by showing they have systems in place to identify and minimise the illegitimate sale of goods. TradeMe for example, has a zero tolerance policy towards counterfeit goods, and regularly bans members who attempt to sell them online. That said, the owners of auction websites should still be cautious that none of their systems or policies contain an inherent tendency to sanction or promote infringement. If a New Zealand website is designed in such a way that it in some way promotes counterfeit products, a New Zealand court might consider the threshold for a common design met, and hold the website jointly liable for trade mark infringement.

Key Contacts

Richard Watts
Sarah Chapman

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Copyright Myths and Online Content

Several copyright myths have been circulating for years, but some seem to have gained in popularity alongside the massive increase in information available online. In this article we explore these myths and answer some common questions regarding copyright infringement and online content.

Can I copy content if the copyright is not registered?

No. Copyright arises automatically in original literary works (such as website content), provided that there has been sufficient labour and effort in their creation. Registration is not required (or even possible in New Zealand). This means that almost all online content is protected by copyright, and cannot be copied without the owner's consent.

What if the © symbol has not been used?

It is not necessary to use the © symbol to ensure that a work is protected by copyright, so don't assume that you can copy content which is not accompanied by the symbol or a copyright notice. Use of the © symbol can however be a useful deterrent to potential infringers (see below).

I found the content on an overseas website, can I safely use it?

No. As a result of certain international treaties including the Berne Convention, most countries around the world (including New Zealand) have agreed to extend copyright protection to works created in other countries.

I'm pretty sure that copyright will have expired, can I copy the content?

Generally, for literary and artistic works, copyright protection lasts for the life of the author plus 50 years. (The length of protection overseas varies, but is typically the life of the author plus 50 or 70 years.) So, while you can copy extracts from Charles Dickens' literary works, Janet Frame's writings cannot be reproduced in New Zealand until at least 2054 (being 50 years from her death in 2004).

Is it infringement if I only copy 10%?

Probably. Copying even a small portion of a work can amount to copyright infringement.

The 10% myth seems to be particularly prevalent, perhaps because the test for infringement is whether the whole or a substantial part of the work has been copied. However a "substantial part" is a question of quality, not quantity, and even a couple of sentences or a corner of a photograph may be considered to be a substantial part of the work.

In certain circumstances a work or a portion of a work can be reproduced. For example, a work can be copied for the purposes of research and private study, and a limited portion of a work may be copied for criticism or review and news reporting.

Can I link to someone else's content?

It is unlikely that providing a simple link to a third party's website will amount to copyright infringement, provided that you do not link to a website containing infringing material! However it is always wise to seek consent from the website owner. (Some owners expressly grant permission to link to their content - so check the website's terms and conditions.)

How can I protect my work from being copied?

Although a © symbol is not required, it is useful to include this as part of a copyright notice (such as "© Simpson Grierson 2010") on the foot of each page of printed material and electronic works such as web pages in which you claim copyright. This puts people on notice that you claim copyright in the works.

You should also document and keep records of all potentially valuable works in which copyright may exist. Mark each work with the © symbol, and include the names of the authors and owners, and the date of creation.

Generally, copyright in works commissioned by you or created by your employees will be owned by you. However, it is good practice to ensure that your contracts stipulate that your business owns the copyright in any works created by employees, contractors and agents.

What should I do if I find that someone has copied my content?

Contact us. We can assess the likelihood of copyright infringement and discuss the options available to you. These could include contacting the infringer (either business-to-business or via Simpson Grierson) and filing court proceedings.

Key Contacts

Richard Watts
Claire Foggo

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"I Want Out!" - Terminating Supply Agreements

A key feature of any ongoing supply agreement, be it for goods and/or services, is to provide continuity and certainty for both the supplier and customer. For the supplier, this means that a revenue stream or source of revenue can be "locked in" for the term of the agreement. For the customer, it's the guarantee of continued supply and (ideally) benefits associated with having a relationship with a known supplier that can be trusted and relied upon. Needless to say, there is often incentive for both parties to negotiate an agreement with a multi-year term.

With any long term arrangement, it is prudent to consider the possibility of one of the parties wishing to terminate earlier than expected. This could be due to the relationship breaking down or simply that circumstances have changed so that the arrangement is no longer required or appropriate. It could be that the customer is dissatisfied with the supplier's performance or finds that the goods/services are no longer required for, or suited to, the customer's business. On the other hand, it could be that performance has become overly burdensome or uneconomic for the supplier, or doesn't fit with the strategic direction in which the supplier's business is going. Addressing these issues at the outset can assist in bringing the supply agreement to an end smoothly from both an operational and legal perspective.

This article outlines some of the possible grounds for terminating a supply agreement prior to its expiry, as well as some key considerations when entering into your supply agreements. 

Grounds for Termination

The starting point for terminating any supply agreement is, not surprisingly, the terms of the agreement. From there, the common law (or "judge-made" law) or certain statutory provisions may provide some assistance.

(a)        Termination for Convenience

An express contractual right for a party to terminate "for convenience" or "without cause", usually by providing the other party prior notice, is the simplest way to effect a termination. Provided the formalities for terminating are met (both in terms of the period of prior notice that must be given and the manner in which the notice must be given), there is little room to debate the exercise of such a right and therefore any associated legal risks are negligible.

(b)        Termination for Breach

Supply agreements typically include a provision entitling one party to terminate if the other party breaches the agreement. There are usually various requirements around this, such as that the breach must be "material" and that the other party is first given an opportunity to remedy or "make good" the breach within a specified timeframe.

In the absence of any express right to terminate for breach, either the Sale of Goods Act 1908 (SOGA) or the Contractual Remedies Act 1979 (CRA) can assist.

If the supply agreement is properly categorised as a contract for the sale of goods, the SOGA has the effect of preserving a party's right to repudiate or treat the contract at an end in the event of a breach of a condition. A condition is generally considered to be an essential term of a contract.

If the SOGA doesn't apply to the supply agreement, the CRA almost certainly will. The CRA provides a right to cancel the agreement if:

• the parties had expressly or impliedly agreed that performance of the provision that has been breached was essential; or
• the effect of the breach is to substantially reduce or change the benefit of the agreement, or substantially increase or change the burden of the agreement. 

In any event, terminating for breach carries with it the risk of the other party claiming that the breach was not material enough to justify termination, that the term breached was not essential, or even that there was no breach at all. A wrongful or invalid termination by one party may lead to a claim against that party that it has repudiated the agreement (ie has made it clear that it no longer intends to perform its obligations) and is liable for damages accordingly.

(c)        Termination on Reasonable Notice

In the case of an agreement that does not specify a fixed term or manner in which the agreement may be brought to an end, the courts will usually be prepared to imply a provision that either party can terminate on "reasonable notice" to the other party. However, this can only happen if the introduction of such a provision would not contradict any provisions of the agreement expressly agreed by the parties.

What amounts to reasonable notice is a factual assessment, and depends on a number of matters such as the nature and duration of the parties' relationship. In some cases it might be a matter of months, in other cases it could be a year or even longer.

(d)        Termination for Impossibility of Performance

A force majeure provision is a common feature of supply agreements.  In its simplest form, it excuses liability for non-performance due to an event or circumstances beyond the reasonable control of the non-performing party. The agreement may go further and also provide that if this event or circumstances continue for an extended period of time, the agreement may be terminated by either party.

There is also the common law doctrine of frustration, which excuses future performance in situations where, due to unforeseen circumstances (such as a change in law), performance either becomes impossible or only possible in a radically different way from that originally contemplated. The threshold for when the doctrine may be invoked is, however, relatively high.

Termination under either of these heads will generally require a pretty significant external event that is likely to have an ongoing effect. As a result, it is fairly rare that a party may be able to rely on either as grounds for termination.

(e)        Termination for Insolvency

Termination by one party for an "insolvency event" affecting the other party is also a standard termination right. This might entail where the other party goes into liquidation, receivership or administration, or enters into an arrangement for the benefit of its creditors or is unable to pay its debts as they fall due. The rationale for terminating is simply that an insolvent party will most likely struggle to continue to perform, either by continuing the supply of goods/services or making payment of the price or fees, and similarly would probably be unable to satisfy any judgment for damages if it subsequently breached the agreement.

(f)         Termination by Agreement

Of course a supply agreement, as with any other agreement, can be brought to an end by the agreement of the parties. While this requires the co-operation of the other party, it should not be discarded as a potential option. There may be circumstances where an early termination of the agreement can be framed as a "win/win" scenario for both parties, or otherwise it may be possible to offer the other party some sort of "carrot" in exchange for its agreement to the termination. 

Considerations When Negotiating the Supply Agreement

While there are various ways in which an agreement may be terminated, the possibility of finding yourself stuck in a tightly drafted agreement of which there is no getting out of is still very real (especially if that's what you asked your lawyer for when the agreement was being prepared!). Therefore, it's important to carefully consider the scenarios in which you may want/need to terminate and push for appropriate provisions to be included in the agreement. Some relevant considerations (in addition to inclusion of the standard termination rights discussed above) might be:

• Term and Renewals:  Striking the right balance between an agreement that is long enough to deliver the benefits of ongoing continuity, but not so long that it may become outdated or superfluous, is key. One mechanism that is often used is to agree to a fixed, but shorter, initial term, with rights to renew the agreement for one or more additional terms following the expiry of the initial term.  The main benefit of this approach is that it provides the party with the renewal rights an opportunity to review the agreement at the end of the initial term and then decide whether to continue with it. 

• Early Termination Fees:  A right to terminate for convenience prior to the expiry of the agreement is obviously desirable, however it is not something that the other party is likely to agree to readily without some form of "compensation". In the context of a customer's right to terminate for convenience, a standard compromise is to permit the customer to terminate in this manner provided the customer pays the supplier a termination fee. The intention is to compensate the supplier for some of the initial investment it made in the relationship and that it intended to recover over the full term of the agreement. It could also be appropriate if the supplier has based its pricing on the assumption of the agreement continuing for the full term and projected revenues over that term.

• Partial Termination:  At some stage you may wish to terminate a discrete aspect of the agreement (e.g. some of the goods or services), but have the rest of the agreement remain on foot. For the customer, this might be the case if the supplier's performance of a particular service has not been satisfactory, but the performance of the other services has generally been good. An ability to remove specific goods and/or services from the scope of the agreement would be useful in that regard. The right might be exercised if there is a material breach relating to the relevant goods or services, or even for convenience (in which case, an early termination fee in respect of those goods/services may be appropriate). 

• Deemed Material Breach:  To reduce the scope for argument as to whether a breach is material and therefore gives rise to a right to terminate, you may wish to record that specific breaches will be deemed to be material for this purpose. Generally, these breaches would be in relation to aspects of the agreement that are particularly important to you. For example, the provision of services in accordance with the agreed service levels is likely to be important.  The agreement could provide that a failure by the supplier to achieve the service levels a certain number of times during a certain timeframe amounts to a material breach and gives rise to a termination right. If you're the supplier, protection of your intellectual property rights may be paramount. Thus, any use by the customer of your intellectual property outside of the terms on which it is supplied and licensed to the customer could be deemed a material breach of the agreement.

• Occurrence of Specific Event:  Certain events or circumstances might arise that don't constitute a breach of the agreement, but nevertheless make continuing with the agreement onerous or even unbearable. For instance, what if the other party was bought out by one of your competitors? If there is potential for the such an event to occur, an express right to terminate on the occurrence of that event may be warranted. 

Considering issues such as these is a good start, however the parties' rights and obligations to apply on termination should not be overlooked. For instance, in some cases it may be appropriate to include disengagement provisions to address how the supply of the goods/services will be transitioned from the supplier to an alternative supplier or even back to the customer. 

Conclusion

Termination of any supply agreement is a key right/remedy that can have serious consequences for both parties. Careful thought should go into the circumstances in which a party may want to terminate and the extent to which those should be captured in the supply agreement. Of course, it is also vitally important to be thinking about what should be, or is, required in terms of the parties' rights and obligations on termination. This might include providing for a formal disengagement arrangement.

Key Contacts

Karen Ngan
Matt Smith

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My Loss Came Round a Corner: Does That Make it Indirect or Consequential?

Introduction

If you ever prepare first drafts of IT contracts for customers, you know that one of the most certain comments to come back will be to please exclude indirect and consequential loss. Why? More often than not, simply because it is "market standard" to do so. A short conversation will often reveal that there is no specific risk in mind, except perhaps the risk of being liable for loss of profits, and that it is important that both indirect and consequential loss are excluded.

So, what is actually meant by these two terms when they are used in exclusion clauses? How are they different? Will an exclusion of indirect and consequential loss actually exclude liability for loss of profits? 

What do the terms actually mean?

The first point to remember is that the terms will be included in a contract, and all contracts are different. This means that their meaning may vary depending on the context in which they are used. To use an extreme example, a contract could include a definition of "consequential loss", and it would be that definition, and not a definition developed by case-law, which would prevail.

However, there are a number of cases which examine what the terms mean and, in the absence of anything unusual about the context in which the terms are used, the terms are likely to be interpreted with reference to these cases.

What is the difference between indirect and consequential loss?

To start with, there is really no difference between indirect and consequential loss at all. The two terms have been treated in the cases in exactly the same way. The use of both together appears to be the result of an excess of caution on the part of lawyers. Most lawyers have seen both used together, and nobody wants to take the risk of excluding only one, in case it transpires that there is a difference. It's confusing, possibly misleading … and yet I confess that, like most other lawyers, I continue to use both. Just in case.

Given that there is no difference, I refer simply to consequential loss for the remainder of this article for convenience.

What the authorities say

There are currently two lines of thought on what consequential loss means in an exclusion clause. The older view is one which has been largely developed by the English Court of Appeal (and which I will refer to as the English CA view). However, more recently, a second view has emerged, which appears to have its origin in the textbook McGregor on Damages (and which I will refer to as the McGregor view).

English CA View

The English CA view is that consequential loss (when referred to in an exclusion of liability  clause) is loss which falls within the second limb of famous two limb definition of recoverable loss in the case of Hadley v Baxendale (1854) 9 Exch 341.

In Hadley v Baxendale, Alderson B stated that:

"Where two parties have made a contract which one of them has broken, the damages which the other party ought to receive in respect of such breach of contract should be such as may fairly and reasonably be considered either arising naturally, ie, according to the usual course of things, from such breach of contract itself, or such as may reasonably be supposed to have been in the contemplation of both parties, at the time they made the contract, as the probable result of the breach of it."

The distinction is quite technical, and O'Regan J, delivering the Court's judgment in Clarkson v Whangamata Metal Supplies Ltd [2008] 3 NZLR 31 (CA), tried to explain the two limbs more simply as follows:

"Thus Alderson B articulated two possible grounds (or "limbs") upon which plaintiffs could stake their claim: (1) loss reasonably considered to arise naturally from the breach of contract; and (2) loss that could reasonably be supposed to have been in the specific contemplation of the parties when they contracted. In Victoria Laundry (Windsor) Ltd v Newman Industries Ltd [1949] 2 KB 528 (CA) at p 539, Asquith LJ distinguished the two limbs as follows. The first limb is dependent on foreseeability of loss arising from knowledge that is imputed to the parties (because they are assumed to have knowledge of the ordinary course of things). The second limb is dependent upon knowledge that, it can be reasonably supposed, the parties actually possessed of matters outside the ordinary course of things."

A good way to illustrate the difference between the two limbs is with the facts of Hadley v Baxendale itself. In that case, the plaintiffs ordered a new crankshaft, which they needed for a steam engine in their mill. Before the new crankshaft could be made, however, the broken one needed to be delivered to the engineers to ensure that the new one would fit together properly with the steam engine.

The plaintiffs engaged the defendants (a transport company) to deliver the old crankshaft to the engineers by a certain date, and the defendants delivered it late. The plaintiffs needed the new crankshaft to keep running their mill, and so were losing profits while they waited for the new crankshaft. The late delivery of the old crankshaft to the engineer meant they lost more profits than they otherwise would have lost, and they looked to recover those lost profits from the defendants.

The issue was whether the lost profits were recoverable. It was held that the lost profits did not fall within the first limb of the test, because, in the ordinary course of things, it could not reasonably be foreseen that the late delivery of a part would lead to a loss of profits. However, it was said that if the defendants had been told why the plaintiffs needed the old crankshaft delivered quickly, and that the consequences of late delivery would be a loss of profits, the lost profits would have been recoverable under the second limb of the test. This is because the parties would have actually had the knowledge which allowed them to foresee the loss of profits.

Say the facts of Hadley v Baxendale occurred again today, except that:

(a)     the defendants knew that the plaintiff would lose profits if the crankshaft was delivered late; and

(b)    the parties had contracted to exclude consequential loss.

The English CA view would be that the plaintiff would still not be able to recover for the lost profits. Although the loss would now be recoverable loss under the rule in Hadley v Baxendale (because of the defendant's knowledge about lost profits), it would only be recoverable within the second limb of that rule. Losses recoverable under the second limb are consequential losses,  so the contract would exclude them.

McGregor View

The McGregor view is quite different. It revolves around a distinction between "normal" and "consequential" loss. The distinction is described in McGregor on Damages as follows:

"The normal loss is that loss which every claimant in a like situation will suffer; the consequential loss is that loss which is special to the circumstances of the particular claimant. In contract the normal loss can generally be stated as the market value of the property, money or services that the claimant should have received under the contract, less either the market value of what he does receive or the market value of what he would have transferred but for the breach. Consequential losses are anything beyond this normal measure, such as profits lost or expenses incurred through the breach, and are recoverable if not too remote. The distinction is not the same as that between the first and second rules in Hadley v Baxendale: a consequential loss may well be within the first rule."

This approach has a much wider definition of consequential loss.

To illustrate the difference with an example:

Imagine a cafe just off State Highway 1 (Cafe Limited) hires a company (Signs Limited) to paint and install a sign 100m down the road showing directions to the cafe. The contract price is $2,000 and the parties agree that consequential loss is excluded. The contract price is broken down into a number of components, one of which is for the actual painting, which is stated to be $500.

Signs Limited paints the directions incorrectly, and the mistake is not discovered for a few days. Cafe Limited then asks another company, with equivalent pricing, to re-paint the sign, which they do for $500. Once the sign is fixed, subsequent business shows that Cafe Limited lost a large number of potential customers while the sign was wrong, with a reasonable estimate of the lost profit being $1,500.

Therefore, as a result of the mistake, Cafe Limited lost the $500 it cost it to fix the sign and $1,500 of profits. Both of these losses fall within the first limb of Hadley v Baxendale. Even though the $1,500 was lost profits, in contrast to the situation in the Hadley v Baxendale case, the lost profits were reasonably foreseeable in the ordinary course of things. This is because the whole (obvious) point of sign was to direct more customers to the café. Lost profits from less customers finding their way there was reasonably foreseeable without any specific knowledge of the parties. This means that, applying the English CA view, none of the losses were consequential. Cafe Limited could successfully claim for all of them despite the exclusion clause.

Applying the McGregor view, the “normal” loss would be $500. $500 of the work was essentially not done, and it cost $500 to turn the sign into the one contracted for. The value of the sign before the repair could be said to be worth $500 less than what was contracted for. All other loss, which in this case means the lost profits, is consequential loss.

Which view prevails in New Zealand?

Until recently, it appeared that the English CA view prevailed in New Zealand. There was some doubt, because the commentary in McGregor on Damages had pointed out flaws in the view, and Lord Hoffman in the English House of Lords in Caledonia North Sea Ltd v British Telecommunications plc [2002] 1 Lloyds Rep 553 (HL) had expressly reserved his view on the question. However, all cases in England and Australia, even if none of them were in the highest courts, had taken a consistent view. The New Zealand courts had not, themselves, ruled on the issue.

However, in 2008, the Victorian Court of Appeal adopted the McGregor view in Environmental Systems Pty Ltd v Peerless Holdings Pty Ltd [2008] VSCA 26.

The distinction between the two views was then discussed extensively in 2009 in the New Zealand High Court case Oceania Furniture Ltd v Debonaire Products Ltd (27/8/09, HC Wellington CIV-2008-485-1701). In that case, Clifford J quoted McGregor on Damages and the Environmental Systems case with approval, and essentially adopted the McGregor view. He did, however, make it clear that his interpretation was based on the context of the particular contract and that the focus in each case should be on the particular contract. He rejected the English CA view as not being the ordinary commercial meaning of the term consequential loss and stated that he did not find it particularly helpful.

Despite this recent New Zealand authority, the issue still appears to be very finely balanced. It is possible that this break from the long line of English Court of Appeal cases might not be endorsed by the higher New Zealand courts.

Further, in individual cases, a person arguing for the English CA view might be able to argue that the parties agreed their contract in light of the line of English cases, and were effectively incorporating the term consequential loss as a term of art. Such an argument would not be inconsistent with the judgment in the Oceania Furniture case.

Finally, the McGregor view proposes a wider definition of consequential loss, which makes the exclusion clauses it is used in wider. There is a rule of contract interpretation (the contra proferentem rule) which states that exclusion clauses should be interpreted narrowly. This rule favours the English CA view and this point is, in fact, expressly acknowledged in McGregor on Damages. 

Loss of profits

Excluding liability for consequential loss does not necessarily protect you from a claim for loss of profits. If the English CA test is applied, then, as the example above shows, the loss may fall within the first limb of the Hadley v Baxendale test, and be considered not to be consequential. This is because there are many situations in which the nature of the obligations to be performed means that lost profits are reasonably foreseeable in the ordinary course of things.

In contrast, if the McGregor test is applied, loss of profits will always be within an exclusion of consequential or indirect loss. 

Dealing with the uncertainties

Given the uncertainties that currently exist about the meaning of consequential loss in exclusion clauses, and given that both views are difficult to apply in many situations, it is worth catering for any risks of concern separately. For example, if the parties agree that loss of profits should be excluded, then the exclusion clause should specifically carve out loss of profits, rather than relying on a clause excluding consequential loss. The same should apply to other specific losses.

In drafting for specific types of loss, it is important to do it separately from the general consequential loss exclusion. In a number of cases , exclusions which excluded "consequential loss, including loss of profits …" have been held only to exclude loss of profits to the extent that the loss was also consequential loss. The courts apply the contra proferentem rule in the case of exclusion clauses to read them narrowly if there is any ambiguity. 

Conclusion

It is currently unclear exactly what is meant when a contract excludes liability for indirect or consequential loss. When negotiating a contract, it is therefore important to identify and include in the drafting any specific losses which should or should not be recoverable, rather than assuming that they are or are not within an exclusion of indirect or consequential loss.

Key Contacts

Don Holborow
Adam Jackson

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