Negotiating Positions and Arguments - Limitation of Liability
Limitation of Liability clauses are frequently inserted into supplier's contracts for the supply of I.T. products and services. Such clauses will often contain the following elements:
(a) The supplier’s liability is capped.
(b) The cap relates to the aggregate liability of the Supplier under the contract (i.e. not per event).
(c) The cap is limited to the amounts paid or payable by the customer in the recent past (e.g. the previous 12 months).
(d) The cap applies to all forms of action (contract, negligence, other torts, third party claims, statutory liability).
(e) The supplier’s liability for consequential loss is entirely excluded.
(f) Any legal actions against the supplier are to be commenced within a limited time (e.g. 12 months of the cause of action arising).
Possible alternatives to the aboveapproach are as follows:
1. There could be a different cap for items the supplier can insure against (e.g. negligence) which is higher than the cap for items the supplier can’t insure against (e.g. breach of contract).
2. A relaxation to the supplier’s preferred position on limiting liability will be agreed if the customer agrees to sign the contract by a certain date (usually the last day of the quarter). Therefore, there is a limited window of opportunity for the customer’s position to be accepted. If the customer does not sign the contract by the deadline, the supplier loses its incentive to conclude the contract on the basis that has been suggested and the supplier will revert to its preferred position.
3. Apply the cap that was agreed in any previous contracts between the parties, perhaps with an increase to take account of inflation in the intervening time period since it was agreed.
4. For each year the cap is calculated at $X or what was paid in the previous year (whichever is the lesser) plus any amount the supplier can claim under its professional indemnity insurance policy up to $Y. The cap is therefore $X + $Y.
5. Exclude the supplier’s liability where the breach has arisen from a sub- contractor’s failure to perform providing the supplier has acted in good faith.
6. Exclude from the cap damages arising from wilful breaches on the part of the supplier.
7. Expressly accept responsibility for liability that the supplier is unable to exclude due to statutory prohibition.
8. Exclude from the cap loss resulting from personal injury and death, loss of tangible property and intellectual property rights indemnities.
Some suggestions for arguments that the supplier could use to justify its position on this issue are set out below:
1. The supplier has to spend  cents of its own money before it gets any of the customer’s money. The supplier only gets % profit for each $1 the customer pays it. A cap of 1 times the annual contract value is therefore  times what the contract is worth on a net basis to the supplier.
2. Margins on contracts vary depending on the type of contract – margins on facilities management contracts, outsourcing contracts, hardware sale contracts, software licenses, maintenance and support contracts and systems integration contracts are all different and the cap needs to take this into account and be different for each type of contract.
3. High caps or no caps encourage extravagant claims. Over inflated claims can damage the supplier even if they have no prospect of success as other customers could be reluctant to do business with the supplier whilst a big damages exposure is hanging overhead. It also makes a supplier’s insurance renewals more expensive and difficult. Also, the supplier's auditors may end up insisting on large contingent liabilities or provisions being made in the supplier's financial statements pending the outcome of such a claim.
4. The supplier has to apply a risk/reward analysis to determine what an acceptable risk is to the supplier. The risk it is willing to bear needs to be based on the reward that flows to the supplier. Therefore the cap should be related to revenues from the contract.
5. The supplier needs to conduct its own risk management assessment of a contract. The supplier will not enter into a contract that has the potential to destroy the financial strength of the company or it’s perceived value in the eyes of its parent company. This would expose it to being sold off. The supplier needs to ask itself – Why do we need to take such a risk? Do we need the business that badly? We need a sensible limit that doesn’t put the company at risk otherwise we are dissuaded from doing business with customers who seek high caps or no caps on liability.
6. The supplier is not an insurer of all the customer’s risks. The customer can get insurance from others (e.g. computer breakdown insurance). The supplier is simply a service provider.
7. A limitation of liability is the supplier’s form of insurance for itself.
8. The supplier’s problem is that it is unaware of all aspects of the customer’s business and the range of losses the customer might be exposed to as a result of a failure by the supplier to comply with a particular aspect of the contract on a particular occasion.
9. The cost of separate insurance over and above the supplier’s existing cover is likely to be prohibitive. Depending on the level of extra insurance required and who is to pay the extra premium, this could seriously impact profit margins (if the supplier has to pay) or the cost of the contract to the customer (if the customer pays).
10. The fact that the customer refuses to take out its own insurance is not a factor which should increase the supplier’s liability under the contract e.g. some larger customers decide to self-insure.
12. Look to precedents from other customer contracts that have been set for limiting liability and argue that what is good enough for those customers should be good enough for all customers.
In seeking to persuade a customer to agree to the supplier limiting its liability under a contract, the supplier should seek to get answers to the following questions:
1. What is the customer’s position?
2. Why do they take that position?
3. What exposures are they seeking to cover?
Note: (a) The cap suggested could exclude death/injury and loss of tangible property as suppliers\\\' insurance will be able to cover this.
(b) Customers can get insurance for other loss e.g. computer breakdown insurance.
(c) Essentially the supplier is seeking a cap for financial loss suffered by the customer due to breach of contract or negligence.
4. What damages do they envisage could flow from the acts or omissions of the supplier? Ascertain from the answers whether the supplier’s approach accommodates those damages.
5. Under what circumstances does the customer consider they could vary their position?
6. Under what circumstances has the customer varied their position in the past?
7. Who has authority within the customer’s organisation to vary their position?
8. Could the customer consider having different limitations for different services/products?
Examples of different limitation of liability clauses can be purchased under the "Sample Clauses" category of this website.