Draft excluders

A recent Court of Appeal judgment offers commercial contract drafters some potentially valuable insights into what might constitute an unreasonable exclusion clause.

Draft excluders
It is always difficult for commercial contract drafters to know when an exclusion clause goes too far and might be struck out as being unreasonable under the Unfair Contract Terms Act 1977 (UCTA). In its recent judgment in the case of Regus (UK) Limited v Epcot Solutions Limited the Court of Appeal has provided some useful clues on how the courts might approach the enforceability of exclusion clauses going forward.

Epcot, the defendant in this case, entered into a contract with the claimant Regus for the provision of serviced office accommodation. A dispute arose regarding problems with the air-conditioning in Epcot’s suite. Regus sued for unpaid service charges and Epcot counterclaimed for damages for, inter alia, loss of profits and opportunity to develop its business.

The High Court found that Regus was in breach of contract in providing defective air-conditioning and that Epcot was entitled to recover damages subject to the provisions in Regus’s standard terms and conditions, which excluded and restricted certain types of liability.

The exclusion clause in question purported to exclude liability for various items of consequential loss, including loss of business and loss of profits. It also stated: “We strongly advise you to insure against all such potential loss, damage, expense or liability.” The High Court held that the clause was unreasonable and was of no effect because it deprived Epcot of any remedy at all for Regus’s failure to provide a basic service, such as air-conditioning.

The Court of Appeal allowed Regus’s appeal. It said that the judge was wrong to conclude that Epcot was left with no remedy and pointed out that “the obvious and primary measure of loss for a breach of such a kind is the diminution in value of the services promised”. And the court rejected Epcot’s argument that the exclusion clause was unreasonable because it was expressed to operate “in any circumstances”, which Epcot said meant that the clause on its face excluded liability for fraud or for deliberately damaging the customer’s business.

The Court of Appeal said that parties contract with one another in the expectation of honest dealing and therefore it would be an error to construe the words “in any circumstances” as intended or effective to exclude liability for fraud or malice. The court went on to conclude that the clause satisfied the reasonableness test under UCTA based on a number of factors, including that (i) the customer was well aware of the term and indeed used a similar exclusion of liability in its own business, (ii) there was no inequality of bargaining power, and (iii) it would have been easier for each customer to insure itself against business losses than for Regus to insure all of its customers.

The Court of Appeal’s decision will be welcomed by many suppliers that exclude and/or limit liability for financial loss in their standard terms. The case does, however, highlight the need to draft exclusion and limitation clauses very carefully.

In particular, in drafting an exclusion clause the drafter needs to be careful when using phrases such as ‘in any circumstances’ so as to ensure that the supplier is not purporting to (i) exclude liability for categories of conduct (eg fraud) that the law does not permit to be limited, or (ii) leave the customer without any remedy at all. Although in the Regus case the Court of Appeal did not consider that the clause in question could be construed in this way (which will in itself provide some comfort to suppliers), it would clearly be sensible for a drafter to deal with such matters expressly so as to avoid giving a counterparty scope for argument on this issue.

Although the courts do not have power to rewrite an exclusion clause or sever words that make it unreasonable, here the Court of Appeal held that if the relevant exclusion clause had been unreasonable it could have been severed so as to leave a related limitation clause (which it was never suggested was unreasonable) intact. The two clauses, although not formally divided up into separate subclauses, were independent of each other and served different purposes. It is, however, clearly preferable for a drafter to separate out different elements of the exclusion/limitation into subclauses rather than to rely on a single all-embracing clause.

The reasonableness or otherwise of an exclusion clause will always depend on the circumstances of the individual case. In the Regus case, the fact that the customer clearly understood the exclusion clause, had a strong bargaining position (because of the availability of alternative suppliers) and had sought to renegotiate some of the terms, together with the court’s view that it was reasonable for the customer to insure against indirect losses, led the Court of Appeal to conclude that the clause was reasonable.

Nicholas Peacock is a partner and Rob Hunt an associate at Herbert Smith