A very recent decision of the English Court of Appeal has reversed a lower court judgement on the interplay between a contractual cap on liability and a setoff, finding on the appeal that the cap was to be applied before the setoff.
The Case
In our edition of Construction Matters of November 2023, we outlined issues concerning the interaction between caps on liability and setoff rights under services agreements and construction contracts.
Our article included a summary of recent case law and drafting tips. One of the cases to which we referred was an English High Court case – Topalsson GmbH v Rolls-Royce Motor Cars Ltd [2023] EWHC 1765 (TCC), delivered on 5 November 2024.
In that case, Rolls-Royce terminated the contract with Topalsson by reason of delay in provision of services. Rolls-Royce claimed losses of about €8 million but Topalsson was owed about €800,000 for services before termination.
At first instance, the judge construed the mutual cap clause (€5 million) and setoff clause and held that the cap was to be applied after the setoff, resulting in Topalsson being liable in the amount of €5 million. Topalsson had argued that the cap should be applied first, resulting in its liability being only €4.2 million.
On appeal, the judgement was reversed.
The Reasons for Decision
The key reasons given by the appeal court for applying the cap before the setoff were as follows:
- The words of the cap clause suggested a totting up, not a netting off. The wording was contrary to the idea that the net position needed to be ascertained before the cap was applied. The words of the clause were “Subject to [certain exceptions], the total liability of either Party to the other under this Agreement shall be limited in aggregate for all claims no matter how arising to the amount of €5m (five million euros).”
- This interpretation accords with commercial common sense; otherwise, Rolls-Royce would have been in a better position as a result of its failure to pay the charges for the services that were performed, and could take advantage of its own wrongdoing and avoid the cap (i.e. recovering €5 million and also keeping payments it should have paid).
- This interpretation is consistent with the only other English authority on the point (The Tojo Maru (No.1) [1969] 2 Lloyd’s Rep 193).
Implications – Different Outcomes
This appeal decision, although favourable to the service provider, reinforces the general message we outlined in our November 2023 newsletter; namely, that the issue of the interplay between the limit of liability provision and the setoff provision ultimately depends on the precise terms of the contract and is a matter of the proper interpretation of the contract.
It is apparent from the case that the outcomes can be significantly different depending on whether it is the cap or the setoff that is to be applied first. In that case, the monetary difference was €800,000.
In the Canadian case of KBR Industrial Canada Co v Air Liquide Global E&C 2018 ABQB 257, the difference in outcomes was stark. KBR lost the case at arbitration and had to pay $5.2 million after the majority arbitrators applied the setoff first. However, the dissenting arbitrator, who applied the cap first, would have determined that KBR won the case and should have been paid $9.7 million. Thus, there was a $15 million swing in the result.
Drafting Tips
The Topalsson appeal decision is another indication, as we suggested in our previous newsletter, of the need for clear words to be used to avoid ambiguity and unintended results.
One example of the use of clear contracting language is that if it is intended that the cap clause is to prevail and so be applied first, the cap clause could be expressed to apply notwithstanding the setoff clause or any other provision of the contract.
If the intention is instead to have the setoff clause apply first, then use of the expression “net liability” in the limitation of liability clause may be more consistent with that intention.
