Interpreting the phrase 'consequential losses': overview of Star Polaris LLC

This article was produced by Nabarro LLP, which joined CMS on 1 May 2017.

Summary and implications

The meaning of the phrase “consequential and special losses” was considered in Star Polaris LLC -v- HHIC-PHIL INC [2016] EWHC 2941 (Comm), a dispute originally heard at an arbitration tribunal which was appealed in the High Court.

Those of us familiar with contract law will recall the famous judgment in Hadley -v- Baxendale (1854) 9 ExCh 341 which looks at the losses which arise from of a breach of contract and describes how losses that are foreseeable or otherwise “in the contemplation of the parties” at the date the contract is formed will be recoverable in damages. The judgment breaks the parties’ knowledge down into two limbs: (1) knowledge of what happens in the ordinary course of things, (2) actual knowledge which, although outside the ordinary course of things, was communicated to the defendant or was otherwise known by the parties. Losses in this second limb are referred to as “consequential losses”.

In Star Polaris, the court departed from this authority and held that the phrase “consequential losses” had a different meaning in this particular context.

It is important to point out that the decision in Star Polaris has not altered or overturned the decision in Hadley -v- Baxendale. However, it shows that the phrase “consequential losses” will not necessarily be given the Hadley -v- Baxendale meaning, even though this is a widely-known and well-established authority supported by a string of subsequent cases.

The Facts

Under the contract between the parties, the Defendant agreed to construct and sell a ship – Star Polaris – and the Claimant agreed to purchase it. The ship’s engine failed less than a year after purchase and the Claimant sued the shipbuilder for breach of its warranty of quality. The Claimant claimed damages for the cost of repairs, various fees (including towage and agency fees) and diminution in value of the ship.

Under the contract, the shipbuilder was liable to remedy any “defects directly caused by defective materials, design error, construction miscalculation and/or poor workmanship”. The contract excluded liability for “consequential or special losses, damages or expenses”.

The Defendant argued that this phrase should be interpreted in its literal cause and effect sense, relying on Article IX of the contract which limited the shipbuilder’s liability to repair of defects and physical damage caused by the defects. Any financial loss caused by the defects was excluded as was “any other liability, warranty and/or condition imposed or implied by statute, common law, custom or otherwise”.

The Claimant submitted that on the proper construction of the contract, the words “consequential and special losses” should be interpreted in line with the second limb of Hadley -v- Baxendale and, therefore, it should be able to recover fees and diminution in value in addition to the cost of repair. It argued that the parties had known at the time of contracting that this phrase had an established legal meaning. Moreover, the fact the word “special” had been included also indicated that the intention was for the phrase to have the Hadley -v- Baxendale meaning.

The court followed the tribunal’s reasoning and dismissed the appeal. It was found that Article IX of the contract set out a code which clearly established the extent of the Defendant’s guarantee and excluded liability for losses incurred as a result or consequence of the defects (in a purely cause and effect sense) even if such losses were foreseeable. Accordingly, the Defendant was liable to repair and replace the damage done to the ship but was not liable for other fees or diminution in value.

Comment

This is an important decision for the shipping industry and will no doubt have an impact on how similar contracts are drafted, negotiated and interpreted. However, it is also an important decision more generally. It illustrates how the court will construct contractual terms against the factual matrix and will not necessarily give the same meaning to a phrase that has previously been tested in court, even where the phrase has a well-established legal meaning.

It is also a reminder that parties should be as clear and accurate as possible when drafting contractual terms in order to reduce the likelihood of them having to be tested in court.