INTRODUCTION

Recent developments in NSW reinforce the importance of  not only expressly defining the term 'consequential loss' in  contracts, but also carefully considering what categories  of losses the exclusion is intended to cover, in order to  avoid unintended consequences.

Recent Historical Context

Until recently 1 it was generally accepted by parties to  contracts, and the courts in Australia, that the term  'consequential loss' meant those losses falling under the  second limb of losses described in Hadley v Baxendale 2 and which Lord Alderson B categorised as Indirect Loss  (or subjectively foreseeable loss).

These Indirect Losses were held to be losses which are not  a direct consequence of the breach, and were therefore not  fairly and reasonably considered as "arising naturally" or  "in the usual course of things", from the breach itself.  As  such, "consequential loss" was not found to encompass  damages for loss of profits or expenses incurred to remedy  a breach of contract as these were considered outside of  that definition.

In Peerless, the Victorian Court of Appeal departed from previous English authorities and, in so doing, narrowed  the ability of parties to recover certain types of damages  under a contract excluding liability for "consequential  loss".

The Court provided a judicial definition of the concept of  "consequential loss" based on a distinction between:

  • "normal loss, which is loss that every plaintiff in a like  situation will suffer"; and
  • "consequential loss, which is anything beyond the  normal measure, such as profits lost and expenses  incurred through breach".

The Peerless decision has been followed in NSW in  Allianz Australia Insurance Ltd v Waterbrook at Yowie  Bay Pty Ltd 3 ("Allianz"), and in SA in Alstom Ltd v  Yokogawa Australia Pty Ltd and Anor (No 7) 4 ("Alstom").

However, whilst the Peerless decision signalled a shift in  some Australian courts’ approach to the interpretation of  the term "consequential loss", the Western Australian decision of Pacific Hydro 5 demonstrates that the law in  this area is far from settled.

In Pacific Hydro, Justice Martin did not follow Hadley v Baxendale or Peerless in attempting to define  consequential loss, preferring to construe the clause  according to its natural and ordinary meaning, read in  light of the contract as a whole, and so as to ascertain the parties commercial intention at the time of striking their  agreement.

Accordingly, it is clear that at the moment the approach to  the interpretation of 'consequential loss' in exclusion  clauses in Australian contract law is far from settled. This  uncertainty has prompted contracting parties, and their  advisors, to re-emphasise the importance of incorporating  into their contracts an extensive definition of  consequential loss. The most recent case on 'consequential  loss' however, suggests that even closer attention must be  paid to the breadth of the definition itself, to avoid  potentially unintended outcomes.

Breadth of Definition and the Macmahon Case

In the Macmahon 6 case, Cobar contracted with Macmahon  to design and construct certain works for the development  of Cobar's copper mine in NSW.  Approximately two  years into the Contract term, Cobar wrote to Macmahon  giving notice of termination for breaches which it said,  were material and incapable of remedy, and for which the  contract granted Cobar termination rights.  Macmahon,  asserted that the termination was invalid, and that the  letter of termination constituted a repudiation of the  contract.

Macmahon sued for damages for what it said was Cobar's  repudiation of the Contract.  One of the heads of damage  claimed was described as "loss of opportunity to earn  profit" 7 .  Macmahon argued that, had the contract  continued to completion, it would have made substantial  profits, and that the wrongful termination of the contract  had denied it the opportunity to earn those profits. 8

The parties agreed that the Contract had been brought to  an end by one party's acceptance of the other's  repudiation.  A preliminary question for the judge was,  assuming that Macmahon's claim regarding the  repudiation was made out, what damages were payable as  a result of that termination, in light of an exclusion clause  which contained an agreed definition for "consequential  loss", which, amongst other things, included "loss of  contract".

What was not clear was whether the term "loss of  contract" in the definition of "consequential loss" was  intended to refer to simply other contracts, such as  subcontracts or other contracts that could be current or  effective with third parties in place of the existing  contract, or whether this extended to the contract the  subject of the dispute.  Cobar asserted the latter in an  attempt to defeat Macmahon's claim for "loss of  opportunity to earn profit" under the terminated contract.

In determining the commercial intention of the parties,  Justice McDougall held that it was common ground that  the words "loss of contract" were intended to catch loss of  the benefit both of the particular contract in which the  provision excluding liability for consequential loss  appeared, and other, or third party, contracts, the benefit  of which might be lost to one party as a result of some  breach by the other of the parties' own contract. 9   His  Honour found this to be the case despite the fact that the  word "contract" was not capitalised in the expression "loss  of contract" (in circumstances where the word "Contract"  itself was defined and used in the contract in question) 10 .

As loss of the benefit of the contract in question would  ordinarily be a consequence of accepted repudiation,  Cobar was held not liable for repudiation of contract  damages, as such damages were excluded by virtue of the  exclusion of consequential loss.  In deciding this point his  Honour accepted that this construction would give either  party the ability to act in a way that might deprive the  other of the future benefit of the contract, without having  any liability for loss of that benefit. 11

SUMMARY

Irrespective of what the cases have decided from Hadley v Baxendale, through Peerless, Allianz, Alstom and then to  Pacific Hydro, the message remains the same - best  practice has always been to ensure a considered definition  of "consequential loss" is included in contracts where the  parties are seeking to exclude or deal with consequential  loss in some way.

Given the decision of Macmahon, being the most recent  case on consequential loss, it is clear that this advice still  stands, however, careful attention must also be paid to  what types of loss the definition of "consequential loss" is  intended to cover, in order to avoid the court interpreting  the commercial intention of the parties in a way which  leads to unintended consequences for one, or both parties.