Centuries ago Roman law has been merciless to debtors who have not been able to perform their duties, leading to the loss of personal freedom and disposal of their income. Nowadays, the freedom to contract presents multiple opportunities to divert from the liability burden imposed by law and to enter into agreements which drift away from the statutory regime, by including limitation of liability (LoL) clauses in the contracts. The main reason for drafting LoL provisions is to manage the risk associated with a project, thus facilitating competition and business transactions.
However, when LoL clauses are applied to an ICT contract, the specifics of the ICT projects should be carefully considered. Many ICT projects are complex, innovative, and a failure in the successful implementation may affect whole businesses. Having all the risks in mind, the inclusion of LoL provisions in ICT contracts is substantial, for they can encourage more clients and suppliers to enter into contractual relations, reduce the overall project price and arrange the risk sharing in high risk projects.
LoL provisions in ICT contracts
Generally, the LoL is a provision found in contracts that restricts the amount of damage parties can recover from each other. It is aiming at allocating the project risk and to protect the parties from the uncertainties, associated with the unlimited liability. However, the liability in most legal systems cannot be limited regarding intentional misconduct and the limitation is only applicable as to the parties of the contract and not to third parties that might be in any way damaged, since they are not in contractual relations.
According to the Principles of the European Contract law (art. 3.109), the parties may agree in advance to limit or exclude their liability for non-performance except where the non-performance is intentional or the limitation or exclusion is unreasonable. As a principle, they may not exclude or limit the duty of acting in good faith and fair dealing, which sets the legal frame as to which it is acceptable to insert limitations of liability in the EU.
The different legal systems allow limitations of liability to cover wide range of risks including IPR obligations, confidentiality obligations, security obligations, unlawful or willfully wrong acts or omissions, personal injuries and property damage. It is common for the debtor to be liable for the direct and immediate damages, but to seek restriction as to the consequential losses. However, many legal systems allow under certain circumstances, the debtor to be held liable for all damages including indirect and consequential losses, when such liability is justified.
LoL clauses can be found in both user oriented contracts and supplier oriented contracts, and mutual limitation of liability is quite often, but typically LoL provisions mostly focus on limiting supplier`s liability. Generally in commercial ICT contracts, clients are assumed to have the stronger bargaining position and in this respect restricting the liability of the supplier is found to be acceptable, as clients are usually able to understand and negotiate the ICT agreement.
Furthermore, an important topic connected with LoL clauses in ICT contracts, is their validity and enforceability. Whether the limitations are enforceable varies depending on the jurisdiction covering the contract – some systems consider them void as “unenforceable indemnity provisions”, while others support their enforcement. When LoL clauses are enforced by courts, it is usually additionally assessed whether the client is in a good bargaining position, whether the damages include personal injuries, the reasonableness of the limitation amount, etc.
In order to practically demonstrate LoL clauses typically found in contracts, analysis of two provisions is provided below.
Example 1
- Limits on Liability
(a) Except in relation to damage to tangible property, which will be subject to a separate overall financial limit of liability of Euro 1 million per building for any one or more claims in each year of the agreement, and otherwise as set out below, the Agreement will contain an overall financial limit of liability for both the Supplier and TSP for each case of 100% of the total value of the all Purchase Orders placed under the Agreement for the preceding 2 (two) years.
The financial limits in paragraph (a) shall not apply to liability for the matters specified in paragraph (d) below).
(b) Each party will be liable for direct and immediate loss resulting from its breach of the Agreement, when such loss could have been foreseen at the time of arising of the relevant obligation, as “direct and immediate loss” is defined by the applicable law and the legal theory. Subject to prove by TSP that loss is direct and immediate resulting from Supplier’s breach of the Agreement and could have been foreseen at the time of arising of the relevant Supplier’s obligation, such loss will be deemed to include the following types of Service Recipient losses:
(i) any fines or penalties imposed under Applicable Law arising as a result of a breach by Supplier or a sub-contractor of the obligations in the Agreement;
(ii) costs to reload Service Recipient data, software, equipment or Materials which are lost or damaged by direct actions caused by Supplier or a sub-contractor in relation to the rights and obligations in the Agreement;
(iii) costs of the Service Recipients providing themselves or procuring any or all of the services required for delivery of the Project from an alternative source following a breach by Supplier or failure to perform by Supplier or any of its sub-contractors of the obligations in the Agreement;
(iv) compensation and other payments made to customers of TSP or other Services Recipients resulting from breach by Supplier of the obligations in the Agreement.
(c) Subject to the foregoing and (d) below, neither party will be liable for indirect or consequential losses (provided that direct losses of Service Recipients resulting from breach by Supplier of the obligations in the Agreement will not be deemed to be indirect or consequential losses).
(d) The limitations in (a) and (b) above will not apply to:
(i) death or personal injury caused by a party’s negligence and other losses which cannot be excluded by law;
(ii) pure financial loss and property damage caused intentionally, by negligence, error, omission, or wrongful inaction/action;
(iii) the following indemnities: intellectual property rights claims, fraud and confidentiality, breach of data protection obligations; and
(iv) wrongful termination or abandonment of the Agreement by the TSP or the Supplier.
The LoL clause sets a mutual limitation for both parties linked with a fixed amount of compensation per relocated building from one hand (i.e. per occurrence type of clause), and simultaneously it provides an overall limitation of liability for both parties, linked with the total value of the Purchase Orders, placed under the agreement. An additional limitation of the time period (2 years) considered when calculating the total value of Purchase Orders, is added by request of the Supplier due to the expected 5 years duration of the project, aiming at keeping the risk under reasonable limits.
The liability is limited to only direct and immediate losses that could have been foreseen, as statutory regulated, and third party losses (such as Service recipient losses) are included in the supplier`s liability burden as being direct, immediate and foreseeable. The initial text of the clause have included a clause holding the supplier liable for client`s losses of anticipated savings, but it has been removed due to unfairness during the negotiations.
Risks such as death or personal injuries, caused by negligence, pure financial loss or property damaged caused intentionally, by negligence, error, omission or wrongful actions are excluded from the limitation. Although not explicitly defined in the contract, pure financial loss is considered any non-consequential financial loss.
Generally, the analyzed provisions, although mutual, can be considered to be more beneficial for the client, as the liability has not been limited by the parties to the maximum level allowed by law. This is expected to affect the Supplier to a higher degree, justified by the huge importance of the project for the client and the consideration that remuneration cannot compensate for the potential damages to be incurred by the client.
Example 2
- LIMITATION OF LIABILITY
11.1. The System Integrator`s maximum aggregate liability arising out of or in connection with this Agreement whether in contract tort or otherwise shall not exceed the price of the Services giving rise to the Claim.
11.2. The System Integrator shall not be responsible for indemnifying the Client to the extent any infringement Claim liability results from (i) the Service or Deliverable being designed or modified by the Client, or (ii) the Deliverable being used by the Client in combination with non-System Integrator`s products or services without System Integrator’s approval, or (iii) the liability is resulting from breach of the terms of this Agreement by the Client.
11.2. Neither party shall be liable for any indirect, incidental or consequential loss or damages or for any loss of revenues, loss of profits, loss of goodwill or other forms of economic loss. The System Integrator shall be liable solely for gross negligence and willful breach of this Agreement.
The LoL clause provided in Example 2 is a typical clause set in favor of the supplier. It is defined as a total aggregate limitation and no per event provisions are included. It must be noted however, that the Supplier has tried to limit its liability resulting from tort, which is not enforceable in many EU legal systems.
The risks covered by the LoL clause are not explicitly defined and the provision is basically following the statutory liability limitations regime. Contribution to the damage by the client situations are mentioned, resulting in limiting or waiving supplier`s liability, as already regulated by the relevant Act.
Generally, the provision limits the supplier`s liability to the maximum extent allowed by law (willful breach and gross negligence for direct and immediate losses) which is mostly due to the stronger bargaining position of the supplier who has drafted the contract.
Although tricky to draft and negotiate, and not always enforceable, LoL clauses have been found to be beneficial for encouraging ICT players to enter into contractual relations regarding even high risk and innovative projects, providing them with a tool to share and allocate the risk and to a priori define liability in complex projects where subsequent, after failure liability identification might prove to be hard to achieve.
References:
- Kalaydjiev, A., Law on Obligations. General Part. (2001). Sibi Publishing, Sofia.
- Howard W. Ashcraft, Jr., Hanson, Bridgett, Marcus, Vlahos & Rudy. (February 2002). Drafting Limitation of Liability Clauses.
- Robe, Michel A., How Costly Are Limited Liability Rules? (February 1999). Available at SSRN: http://ssrn.com/abstract=162608
- Weitzenböck, Emily M. Electronic Agents and Contract Performance: Good Faith and Fair Dealing. (2002). Published in The Law of Electronic Agents: Selected Revised Papers, LEA Workshop on the Law of Electronic Agents, CIRSFID, University of Bologna, pp. 67-73.
- Dimitrov, G. (2008) Liability of Certification Service Providers. VDM Verlag Dr. Mueller, Saarbruecken.
- A guide to limiting supplier liability in ICT contracts with Australian Government agencies. (2006). Australian Government, Department of Communications, Information Technology and Art. Available at: http://www.dbcde.gov.au/__data/assets/pdf_file/0010/41968/LimitingLiabilityReport.pdf
- Principles of European Contract Law. Available at: http://www.jus.uio.no/lm/eu.contract.principles.part1.1995/