Law and regulation of consequential damages clauses in the energy sector in Scotland

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

In Scots law, the question of recoverable damages for breach of contract is determined in principle by questions of causation and remoteness. The mid-19th century English case of Hadley v Baxendale 1 (1854) 9 Ex 341  (“Hadley”) has been judicially approved and generally followed by Scottish courts and has provided the traditional common law framework for recoverable losses, with the “second limb” of the Hadley remoteness test often referred to as describing the term “consequential loss”. That limb is narrow and highly fact-specific. For more on that approach, please refer to our CMS Guide to Consequential Loss in the Energy Sector – England

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

Yes. The term “consequential loss” frequently appears in exclusion clauses within oil and gas industry contracts and other energy-based reciprocal/knock-for-knock indemnities. However, although much of the industry is based in Scotland, such contracts for the energy industry very frequently include choice of law provisions which mean they are governed by English law. See our CMS Guide to Consequential Loss in the Energy Sector – England for details of typical model form consequential loss and exclusion clauses.

For example, there is an oil and gas industry-wide definition in the LOGIC, 2012 Mutual Indemnity and Hold Harmless Deed, which states that:

Consequential loss’ means:

(i) consequential loss under applicable law; and

(ii) loss and/or deferral of production, loss of profit, loss of use and loss of revenue, profit or anticipated profit (if any) whether direct or indirect, to the extent that these are not included in (i), whether or not foreseeable at the date of execution of this Deed.

Great care ought to be taken in defining “consequential loss” and drafting exclusion clauses. The Scottish courts will uphold exclusion clauses in oil and gas contracts providing that provisions are clear in their terms.

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

There is uncertainty surrounding the meaning of the words “consequential loss” in exclusion clauses.

Although the Hadley decision is relevant in Scotland, and many English decisions are also persuasive for (or binding on) a Scottish court, subsequent Scottish case law has not wholly embraced the traditional English approach that “consequential loss”, when used in a contractual exclusion or indemnity, means the “second limb” set out in Hadley

In Caledonia North Sea Limited v British Telecommunications Plc, 2 [2002] UKHL 4  (“Caledonia”) the House of Lords (now the Supreme Court), sitting on a Scottish case, questioned whether it would always be correct that “consequential loss”, in a contractual exclusion of indemnity, should be given the meaning of the second limb of Hadley. The judgment in Caledonia indicates that Scottish law appears to have been moving away from the traditionally narrow interpretation to one that is a more contextual-based interpretation of consequential loss for a significant period of time. 

It may be that the correct modern approach, when the Scottish and English legal authorities are viewed as a whole, is that the words “consequential loss” in a contract in respect of recoverable damages (absent definition) will be presumed to mean the second limb of Hadley. However, that is a presumption arising from the parties’ use of language and not binding legal precedent. Further, such a 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.  

Uncertainty in the judicial interpretation of “consequential loss” is capable of causing issues with clauses that specifically refer to “consequential loss”, undefined, such as the LOGIC, 2012 Mutual Indemnity and Hold Harmless Deed (above).

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 terms, taken in the context of the broader contract.

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) loss that should be excluded beyond “consequential loss”. 

Given that Scots law appears to be moving towards a more contextual-based interpretation of consequential loss, it is possible that excluding liability for “consequential loss” may also exclude liabilities for other types of losses regardless of which Hadley limb they fall within, and may not necessarily exclude all losses falling within the second limb of Hadley. Essentially, where there are exclusion clauses in commercial contracts between sophisticated parties, the wording will be given its ordinary meaning, having regard to the context in which it is set.

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

Limitation and exclusion clauses will be given effect in Scots law if clearly and unambiguously drafted. Depending on their terms, they may therefore be relevant to non-damages claims. For example, adequacy of damages is a factor to be taken account of in a claim for interdict or interim interdict (as part of the balance of convenience test) so that the exclusion of consequential loss could potentially play into any claims for such a remedy.

Portrait ofValerie Allan
Valerie Allan
Partner
Aberdeen
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Rob Wilson
Partner
London