Key takeaways from this informative session were:
101 on liability and indemnities and what are indirect and consequential losses
This is a technical and complex area of contract law. A contract sets out what each party must do and if one party does not do what it is obliged to do, the other party has a right to damages flowing from contractual breach. Liability and indemnities are part of that enforcement regime; that is, they are part of the suite of provisions that changes the right to damages. Limitation of liability clauses narrow a party’s liability, whereas an indemnity broadens a party’s liability to include types of loss that would not otherwise be recoverable. Another example of a clause that affects damages, in a different way, is a provision in the contract allowing for liquidated damages.
There is no set legal meaning of the phrase “indirect and consequential damages”. Current New Zealand law is that it comes down to contractual interpretation. That is, what losses did the parties to a contract intend to include or exclude. This can be very hard to interpret “at the bottom of the cliff” unless the contract provides some added clarity, and lead to uncertain litigation outcomes.
Where you might look to include or exclude indirect and consequential losses
Often there is pressure to get a deal done. Whether your preferred position is achievable usually depends on your bargaining position and leverage available to you. There are (in general terms) three options:
1) Do not exclude consequential and indirect losses. Often it is very difficult to convince the liable party to accept this position, however this may be possible if a liability cap is agreed.
2) Include a general exclusion of consequential and indirect losses. Often parties will refer to a “standard position”, however it is important to consider what may not be covered. In addition, if there is a claim, it is likely there will be debate over what constitutes direct versus indirect losses.
3) The most preferred option is to draft a bespoke clauses(s) which excludes the most egregious actions, for example, willful default, breach of confidentiality and IP infringements.
In addition, it is best practice to include explicit drafting about the categories of predictable losses that are deemed to be direct and recoverable. If the contract provides for liquidated damages, it is important that the liability and indemnity clauses clarify that liquidated damages are not consequential damages (if those clauses exclude consequential damages).
Key things to consider are:
Risk: How critical is the product or service? What could realistically go wrong? Could a breach result in a damage to reputation or other consequential losses? How much would it cost to recover from a breach? How likely is a breach to happen? What is the value of the contract? If the value is low, is it realistic to take on liability which on balance is not worth signing up for?
Contract value: If the contract is strategically important to you and the other party knows that, it may be hard to convince the counterparty to sign up for consequential losses.
Liability: A liability cap can help manage risk and make sure you are not exposed to excessive liability.
Insurance: It is important to consider if whatever liability/indemnity you are considering agreeing to is covered by your insurance. Of importance is the fact that you are unlikely to get coverage for losses that are not available at law.
Negotiation tips and compromises
Negotiations are always shaped by context and whether you are representing the supplier or the customer. It is important to understand what the counterparty is trying to protect itself against. With this understanding, drafting bespoke clauses that include coverage for specific heads of loss can be helpful; otherwise explain to the counterparty how their concerns are mitigated elsewhere.
Negotiations typically come down to leverage; for example, discussions with monopolists or multi-nationals.
Some tips, if negotiation is possible are:
1) argue you cannot afford to offer the product or service at the price offered if you must take on additional liability.
2) If the counterparty argues that the position they are seeking is “standard practice”, turn the argument around and ask whether they limit their own liability with their customers; often they do, so the point is why should it be a different position for your organisation.
3) If you are acting for a customer and the counterparty seeks to limit/exclude liability but have represented that they/their product is very good, then why would they want to or need to limit their liability.
Common issues at the “bottom of the cliff”
Liability and indemnity clauses can be unclear, which can result in increased time in court and money on fees. People often assume that an exclusion of indirect and consequential losses means a party cannot claim loss of profits. This is not necessarily accurate: because some elements of profit are often recoverable as direct damages at law (although of course this will always depend upon the precise terms of the contract). It is important to consider the underlying commercial transaction, as well as how clauses work together; this can affect the outcome substantially. The wording of liability and indemnity clauses is critical; this is a technical area of law and technicalities can be very relevant to potential outcomes.
Instructing external counsel
Sometimes external counsel can be overly aggressive or “dig their toes in”. The key here is communication; external counsel must understand your business, establish clear communication channels, schedule regular check ins and status updates, give feedback and direction including desired outcomes. Remember, it is a two-way street; external counsel need complete instructions to help you succeed.
New and emerging issues
Increased attention is being paid to cyber security; indemnities are being expanded to cover cyber security losses. Force majeure clauses are being paid more attention as a result of the pandemic and are increasingly drafted to cover pandemics and government actions. Climate change is also likely to become more relevant in contractual negotiations, including obligations to mitigate issues caused by climate change.
If you missed this webinar or would like to catch up or share the session, you can watch the recording here.