1. Do the words “consequential loss” have a given meaning in law?

In English law, there are, as a general rule, two types of recoverable loss for a breach of contract: “direct loss” and “consequential loss”.  All other losses are considered “remote” and unrecoverable.  

This approach originated in the mid-19th Century case of Hadley v. Baxendale 1 (1854) 9 Exch. 341.  that stated recoverable losses were:

  • losses arising naturally  (i.e., according to the usual course of things) from the breach of contract itself – generally referred to as “direct losses” or the “first limb of Hadley v. Baxendale
  • losses that 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 – generally referred to as “consequential” or “indirect losses”, or the “second limb of Hadley v. Baxendale”.

The second limb of loss in Hadley v. Baxendale covers situations where there is knowledge of “special circumstances” at the time of the contract and a party has therefore been put on notice of a type of “exceptional loss 2 Per Blackburn J in Horne v Midland Railway (1873) LR 8 CP 131 at 141. ,  which would not arise in the usual course of things, that by reason of that notice it has effectively undertaken to bear in the event of a breach.

As such, the scope of “consequential loss” in the meaning given in Hadley v. Baxendale is narrow and highly fact-specific. 

2. Are the words “consequential loss” used in contractual exclusion of liability clauses?

Yes. Exclusions for “consequential loss” are widely used in the energy industry and in other sectors. 

In the oil and gas industry, the Association of International Petroleum Negotiators, Oil & Gas UK and LOGIC model form contracts routinely contain exclusions for consequential loss that are governed by English law. Two notable points concerning these model form contracts are:

  • “Consequential Loss” is usually defined in the model form contract, to give it a meaning decided by the parties.
  • Although “Consequential Loss” is defined in the model form contract, one of the losses excluded in these definitions or clauses is usually “consequential loss” (undefined). For example, ““Consequential Loss” means any indirect or consequential loss howsoever caused…” (Oil and Gas UK model form Joint Operating Agreement).

The power industry in the UK also uses exclusions of consequential loss. For example:

  • Paragraph 6.12.4 of the Connection and Use of System Code (CUSC) excludes liability between parties to the CUSC for: (i) any loss of profit, loss of revenue, loss of use, loss of contract or loss of goodwill; and (ii) “any indirect or consequential loss”.  
  • Clause 64.8 of the Contract for Difference Standard Terms and Conditions (Version 2) for the second allocation round between a low carbon electricity generator and the Low Carbon Contracts Company (LCCC), a government-owned company, introduced as part of the Electricity Market Reform, excludes liability for any “special, indirect or consequential loss including any such loss which constitutes loss of use, loss of goodwill, loss of profit or loss of revenue, in each case incurred by the other Party in respect of any breach of the terms of the Contract for Difference or any other CfD Document”.
  • Clause 19.1.1 (b) of the Backstop Power Purchase Agreement (“BPPA”) that would be entered into between a supplier and an eligible generator under the United Kingdom Offtaker of Last Resort scheme uses near-identical words to those in clause 64.8 of the LCCC. 

3. If so, what meaning is attributed to the words “consequential loss” in contractual exclusion clauses?

The traditional approach of English law is that where a contract exempts one party from liability for “consequential loss”, it will normally be interpreted as exempting it only from loss that is recoverable under the second limb of Hadley v. Baxendale

There is settled Court of Appeal authority that a clause which excludes liability for “consequential loss” (or “indirect loss”) (undefined) only, excludes liability only for damages falling within the second limb of Hadley v. Baxendale. 3 Examples of which include: Millar's Machinery v David Way (1934) 40 Com Cas 204 , at 210; Croudace v Cawoods [1978] 2 Ll Rep 55 , at 62; British Sugar plc v NEI Power Products Ltd (1997) 87 BLR 42 , at 48–51; Deepak v ICI [1999] 1 Ll Rep 387 , at paras 88-93; and Hotel Services v Hilton International [2000] BLR 235 (CA) at paras 7-8 and 14–20. The view is shared by Lewison, The Interpretation of Contracts (6th ed.), para. 12.14.  As set out above, this is a relatively narrow category of loss.

That traditional approach has more recently been questioned by the courts. In Transocean Drilling UK Ltd v Providence Resources plc, 4 [2016] EWCA Civ 372.  the Court of Appeal considered that:

"The expression ‘consequential loss’ has caused a certain amount of difficulty for English lawyers, mainly as a result of attempts to define its meaning in the interests of commercial certainty [citing the leading Court of Appeal decisions for the traditional approach]…

It is questionable whether some of those cases would be decided in the same way today, when courts are more willing to recognise that words take their meaning from their particular context and that the same word or phrase may mean different things in different documents." 5 [2016] EWCA Civ 372 [15]; [100]-[101]. It is notable that this is a similar observation to that of Lord Hoffmann in Caledonia North Sea v British Telecommunications [2002] CLC 741; [2002] BLR 139 (HL)

The High Court has also recently noted, in a case concerning a “consequential loss” exclusion, that decisions concerning particular contracts (or clauses) do not create binding precedent (stare decisis) in relation to other contracts on different terms. 6 Star Polaris LLC v HHIC-Phil Inc [2016] EWHC 2941 (Comm).

The meaning of the words “consequential loss” in exclusion clauses has not been clearly, or satisfactorily, resolved by the courts since the Court of Appeal questioned the traditional approach in Transocean Drilling UK Ltd v Providence Resources plc

A direct attempt to overcome the traditional approach was recently made in 2 Entertain Video Ltd & Ors v Sony DADC Europe Ltd 7 [2020] EWHC 972. . However,  whilst accepting the need to give the words “indirect” and “consequential” their natural and ordinary meaning, in the context of the agreement as a whole and the relevant factual matrix, the court applied the traditional approach of equating “consequential loss” with the second limb of Hadley v. Baxendale.

It may be that the correct modern approach, when the legal authorities are viewed as a whole, is that the use of the words “consequential loss” in a contract in respect of recoverable damages (absent definition) will be presumed to mean the second limb of Hadley v. Baxendale. However, that is a presumption about the parties’ use of language. It is not binding legal precedent to be slavishly applied. Further, the presumption is simply a pointer to a logical and common sense meaning of the words that it will yield if an analysis of the contract suggests a different approach is correct.   

4. Where a clause includes other heads of loss alongside consequential loss, how will the law approach such clauses?

Each clause will be construed on its own merits. 

Where a clause refers to other potential heads of loss, arguments can arise over whether these should be taken to be sub-categories of “consequential loss”, so that the scope of the exclusion is not expanded, or treated as additional types of “direct” (first limb of Hadley v. Baxendale) loss that should be excluded beyond “consequential loss”.  

There is extensive jurisprudence concerning such arguments that have been fought out through the English courts. Although the English courts have not been consistent on the correct approach, the following considerations are relevant to interpreting a ”consequential loss” clause:

  1. the parties are free to agree any exclusion. If a clause clearly excludes a loss, English law will simply apply the clause.
  2. the starting point to decide whether a clause excludes a loss is to consider the natural and ordinary meaning of the words.
  3. if there is more than one natural and ordinary meaning, English law will consider the contract as a whole, the background to the contract and potential commercial results of rival interpretations to seek to ascertain the clause’s true meaning. 8 Wood v Capita Insurance Services Limited [2017] UKSC 24.    
  4. there are certain ‘canons’ or principles of construction that may assist in the event of ambiguity, although these are not consistently applied by the courts:
    1. if the clause is ambiguous and potentially one-sided, the law might construe the contract contra proferentem. However, the Court of Appeal has questioned whether such an approach is permissible where parties have equal bargaining power. 
    2. the principle in Gilbert-Ash (Northern) Ltd v Modern Engineering (Bristol) Ltd that there is a presumption that neither party to the contract intends to abandon any remedies for breach which clear words are required to rebut. 9 [1974] A.C. 689, 717H.   
    3. the ejusdem generis principle that where a list of words has some common characteristic the general words that follow them ought to be limited to the same genus. 
    4. the nudum pactum principle that a contract should not be construed to be a bare promise by removing all remedies for breach. 

Issues that have historically resulted in disputes over the scope of “consequential loss” exclusion clauses concerning whether “direct losses” are also excluded are: 

  • the impact of the word “other” in conjunction with the words “consequential loss”
  • the impact of the word “including” in conjunction with the words “consequential loss”
  • use of parenthesis.   

The above have resulted in disputes as they are prone, as a matter of grammar, to result in more than one potential interpretation if not used carefully.  

5. Do consequential loss exclusion clauses have an impact on non-damages claims?

Yes. In AB v CD, 10 [2014] EWCA Civ 229.  the Court of Appeal decided that in circumstances where a limitation clause exists in a contract, justice will tend “to favour the grant of an injunction to prohibit the breach in the first place”. 

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Phillip Ashley
David Rutherford
David Rutherford
Senior Associate