Top Ten Consequential Damages Waiver Language Provisions to Consider
Jul 01, 2012 Top Ten Download PDF
By Thomas H. Warren, W. Jason Allman, Andrew D. Morris
By Thomas H. Warren, Partner, W. Jason Allman, Associate, Andrew D. Morris, Associate, Sutherland Asbill & Brennan LLP
Although most attorneys may not devote much time parsing the verbiage of a consequential damage waiver, these provisions can expose a party to unexpected liabilities or just as easily close them off. Without an understanding of the nuances of consequential damage waivers, attorneys cannot effectively negotiate these provisions. The following ten issues highlight some of the surprises that lay in wait for the unwary and provide some guidance as to how savvy attorneys can avoid them.
1. Consequential Damage Waivers Are Not Boilerplate!
Although consequential damage waivers are often unceremoniously lumped into the “miscellaneous” section of a contract, the particular words included in any consequential damage waiver demand special attention. To understand what language should be used in a consequential damages waiver, one must first ask two basic questions:
2. Tailor to the Context of the Transaction.
Given the ubiquity of consequential damage waivers in commercial contracts, many attorneys assume that such waivers should be included, or are equally applicable, in all context. But this assumption is not accurate. Since consequential damages waivers address risk allocation, attorneys must be mindful not only of the general issues of what damages their company should bear or recover but also the following factors, which are specific to each business deal:
3. Consequential Damage Waivers Exclude Even Foreseeable Damages.
A good working definition of “consequential damages”, also known as indirect damages, are those damages which do not flow directly and immediately from a breach. Accordingly, a consequential damages waiver will exclude any damages, other than direct damages, even if they are reasonably foreseeable because such damages are one or two links down the causal chain.
4. Lost Profits May be Direct or Consequential.
There are many instances where lost profits are the primary damages that a party would incur and should be entitled to recover. In services contracts, for example, if the party receiving the services breaches the contract, the standard and direct measure of damages is the profits that the service provider lost as a result of the contract not being fully performed. But even where lost profits would constitute consequential damages, this does not necessarily mean that a party should never be able to recover them as there are many instances where direct damages from a breach will cause minimal direct damages but could cause significant lost profits, such as a construction contractor’s failure to obtain a required permit.
5. Importance of Syntax.
Since lost profits may be direct damages, the consequential damages waiver should be clear who is waiving the right to recover lost profits (either direct and consequential). A typical consequential damage provision may read something like “Neither party shall be liable for incidental, punitive, exemplary, indirect or consequential damages, or lost profits arising under or relating to this Agreement.” Although this provision might not seem problematic, a recent Georgia case held that this clause treated lost profits as a separate category of waived damages and recovery of lost profits whether consequential or otherwise was waived.
6. Incidental Damages not Synonymous with Consequential Damages.
Incidental damages are those expenses related to a party’s actions in addressing the consequences of the other party’s breach. In the sale of goods context, these expenses could include safeguarding or otherwise caring for defective goods until the seller makes arrangements for their removal. Although incidental damages are often included in the laundry list of waived damages, it is often advisable to remove them since the right to recover incidental damages may encourage mitigation efforts.
7. Diminution in Value Damages.
Consequential damages waivers sometimes include waivers of diminution in value damages, which is a measure of value equal to the difference in the market value of what was warranted or promised under the contract and what was actually received. It is not uncommon for sellers in the mergers and acquisition context to include waivers of diminution in value in their first drafts. Buyers should forcibly resist this language because diminution in value damages are generally the appropriate measure of damages regardless of whether the damages are categorized as direct or indirect for breach of representations and covenants.
8. Expressly Carve Out Agreed to Measures of Damages.
Since it is difficult to draw clean lines between consequential and direct damages and parties sometimes negotiate express remedies, such as liquidated damages provisions, that arguably provide recovery for consequential damages, attorneys should consider expressly carving out liquidated damages (or other express remedies) from the consequential damages waiver.
9. Be Mindful of Interplay with Indemnity Provisions.
Like liquidated damages provisions, indemnities often require a party to indemnify a counterparty for damages that could be construed as consequential and contracts seldom clearly articulate whether the indemnity provision is subject to the consequential damages waiver or vice versa. In addition, attorneys should consider whether third party indemnity claims should be excepted from the consequential damages waiver as damages claimed by third parties could also constitute consequential damages. Attorneys should clearly provide for the interrelationship of the indemnities and the consequential damages waiver.
10. Should the Consequential Damages Waiver Survive Termination?
Finally, attorneys should determine whether the consequential damages waiver should survive termination of the contract. Recently, one New York court considered an arbitration award of consequential damages where the consequential damage waiver was not included in a contract’s survival provision. While this may have been a scrivener’s error, the court reasoned that the parties may have intended for the consequential damages waiver not to survive termination to account for situations like a wrongful termination of the contract.
A consequential damages waiver may seem like a fairly standard and innocuous provision, but an unexamined provision can easily lead to a significant misallocation of risk. Keeping these ten points in mind will provide a good start, but it is important that attorneys remain mindful of the risks presented by each transaction to identify and minimize their company’s exposure to these risks.
Reprinted with permission from the Association of Corporate Counsel (ACC)
Additional ACC Resources
ACC Resource Library - Wisdom of the Crowd
ACC Resource Library - QuickCounsel
ACC Resource Library - Wisdom of the Crowd
ACC Resource Library - Primer
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