The Court of Appeal has recently revisited the contractual interpretation of exclusion clauses and caps on liability in contracts in Royal Devon and Exeter NHS Foundation Trust v ATOS IT Services UK Ltd [2017] EWCA Civ 2196. The case highlights the difficulties arising from poorly drafted limitation clauses, and is a reminder to accountants and auditors, who may seek to define and limit the scope of their liability in their letters of engagement, that careful drafting is required.

Royal Devon and Exeter NHS Foundation Trust v ATOS IT Services UK Ltd

The Court of Appeal heard an appeal and cross appeal on the meaning and effect of a poorly drafted limitation clause which sought to limit the defendant's liability according to when defaults arose in a 5 year IT systems contract with the NHS.

The High Court held that introductory words "aggregate liability" in the contract indicated that the intention of the parties was to agree a single cap on liability for all defaults, with the level of the cap being determined by the timing of the first default. It noted that where, as in this case, the words used could give rise to competing interpretations, one which makes commercial sense and one which does not, it is open to the court to prefer the interpretation that makes commercial sense.

The Court of Appeal reached a different outcome, finding that the language pointed "emphatically towards there being two separate caps" - a high cap for defaults occurring in the first year, when high value work was being performed and defaults could have very expensive consequences, and a separate, lower cap for defaults occurring in subsequent years.

The Court of Appeal noted that both parties were well-resourced, commercial organisations with ready access to legal advice, and whilst the clause was poorly drafted, this interpretation was perfectly rational. It accorded with business common sense and the natural meaning of the words.

Key points for auditors and accountants

Auditors and accountants may incorporate limitation clauses in their client engagement letters in relation to non-statutory audit work carried out for their clients or rely on disclaimers where they seek to limit their liability in relation to third parties (the latter is commonly known as a "Bannerman" clause). Sections 534-538 of the Companies Act 2006 also permit auditors to limit liability in relation to statutory audits provided the limitation is set out in a Liability Limitation Agreement (LLA) that is approved by the shareholders annually, the LLA specifies the financial year that it relates to, and the limitation is ‘fair and reasonable’.

Royal Devon is a helpful reminder that auditors and accountants need to take care when drafting such limitation clauses. The following points may help avoid disputes:

  • clear and unambiguous wording should be used in the engagement letter which expressly states what liability is being excluded or limited;
  • if different caps on liability are intended to apply to either specific work or specific periods of time, such caps need to be carefully drafted to ensure that the wording is clear and they reflect the proper intentions of the parties;
  • check for any inconsistencies between the limitation/exclusion clause and the agreement as a whole because the courts will look at the entire agreement in the event of any dispute, and not just the exclusion clause when determining the parties' intentions;
  • check for any ambiguity because the exclusion may be construed against the accountant / auditor (the contra proferentem rule). This is particularly likely where the professional is dealing with a less sophisticated client;
  • regularly review limitation clauses to ensure that they comply with the latest case law and meet their intended objective.

It is sensible for accountants and auditors to ensure their engagement letters are up-to-date with current practice, law and legislative requirements.