Recently a New York Court of Appeals decision shook attorneys out of complacency by relying on a very important “boilerplate” provision to allow a plaintiff to seek $100 million in lost profits in a breach of contract case. (Biotronik AG v. Conor Medysystems Ireland Ltd.)  This case is a strong reminder of Resolution #6 on our list of 8 Technology Contacting Resolutions for 2014, Do Not Gloss Over “Boiler Plate” Contract Language.

In this breach of contract case, the plaintiff was an exclusive distributor of defendant Costar’s medical devices.  Costar terminated the distribution agreement.  The distributor sued, alleging the termination was a breach of the contract, and sought to recover lost profits allegedly caused by the breach.  Costar responded that the limitation of liability clause in the contract barred recovery of lost profits, which Costar characterized as “consequential” damages.

No doubt you have seen loads of limitation of liability clauses before.  The clause in Biotronik read:

“Neither party shall be liable to the other for any indirect, special, consequential, incidental, or punitive damage with respect to any claim arising out of this agreement (including without limitation its performance or breach of this agreement) for any reason.”

Although it varies from state to state, the general rule in contract law is that lost profits that do not directly flow from a breach are consequential damages, and thus typically excluded by a limitation of liability clause like that above.  But lost profits can be considered general damages (and thus recoverable) where the non-breaching party bargained for those profits, and where the profits are a direct and probable result of the breach.

This was a complex case, but suffice it to say that the determination as to whether lost profits are general or consequential depends heavily on the facts, and reasonable minds can differ.  Indeed, both the lower and intermediate courts in Biotronik, and a passionate dissent in the appellate court, believed the distributor’s lost profits were consequential and thus barred.

The good news is you can avoid this unfortunate scenario with careful attention to language to give yourself the best advantage.  In some agreements, a strong limitation of liability clause may be in your favor (but know that this is not always the case).  If so, a comprehensive and well thought out limitation of liability clause can minimize the risk that the other side will avoid its snare.  To distinguish your limitation of liability clause from the one in Biotronik, we suggest including the following elements:

• Be specific in identifying the types of damages you think should be excluded.  Add all examples of unrecoverable damages that you can think of that may result from the particular transaction, such as “lost profits, lost income, lost revenue, loss of data, loss of anticipated business, loss of goodwill, loss of third party contracts”, and perhaps also include “costs of procuring substitute goods”.  But, of course, be sure to first consider what exclusion of these types of damages will mean for your side in each particular situation.

• Add language stating that these damages are not recoverable even if they were, or should have been, foreseeable or known by the breaching party. This protects you from the argument that certain damages (e.g., lost profits) are in fact direct because they would have been the probable result of a breach.

• Recite that the limitation of liability clause is an agreed benefit of the bargain, and that it remains in effect even if any remedy under the agreement fails of its essential purpose.  So-called “failure of essential purpose” is a rationale that some courts use to discredit limitation of liability provisions, so stating that the parties intend for the clause to apply even in such event helps in enforceability.

• Consider adding a damages cap – that way, even if a court allows recovery of consequential damages, the amount will be capped and you will have limited exposure.

• Consider including a liquidated damages clause for specific breaches, which would replace a damages claim.  If you include liquidated damages, however, be sure to state that they are not a penalty, they reflect the parties’ calculation of a fair amount under the circumstances, and they represent the non-breaching party’s sole and exclusive remedy for the described breach.
   

See 2014 Resolutions Series: Trapped in an Unhealthy IT Vendor Relationship? How to Make the Best of a Difficult Situation