Remoteness of damages – Privy Council summarises principles

07 September 2020

The Judicial Committee of the Privy Council recently handed down a judgment - Attorney General of the Virgin Islands v Global Water Associates Ltd [2020] UKPC 18 - clarifying and summarising the test for remoteness of damages in breach of contract claims. In doing so, five Justices of the UK Supreme Court (sitting as the Privy Council Board) provided a reminder in uncertain times of what a claimant seeking to recover damages will need to demonstrate.



Background

In 2006, the Government of the British Virgin Islands ("BVI") entered into two contracts with Global Water Associates ("GWA"): (1) an agreement for GWA to design and build a 250,000 US gallons per day water reclamation treatment plant in Paraquita Bay, Tortola (the "DBA"); and (2) an agreement for GWA to manage, operate and maintain the plant for 12 years once built (the "MOMA").

The BVI Government breached the DBA, leading GWA to terminate and claim damages flowing from both the DBA and MOMA (on the basis that it had lost not only the ability to build the plant, but also to profit from 12 years of managing, operating and maintaining it).

After a long-running legal battle, in February 2018 the Court of Appeal of the Eastern Caribbean Supreme Court (British Virgin Islands) rejected GWA's claim that it was entitled to the lost profits it would have obtained under the MOMA on the basis that those losses were unforeseeable and therefore too remote from the breach of the DBA. The Court of Appeal's decision was based on its view that even if GWA terminated the DBA, the BVI Government could have had a treatment plant built by a third party which it could then have offered to GWA to manage, operate and maintain.

The Privy Council overturned the Court of Appeal's finding. It found the MOMA could only commence if the DBA was performed, and so GWA was entitled to its losses under both agreements. In doing so, it clarified and summarised the test for remoteness of damages in breach of contract claims.

Test for remoteness of damages

The Privy Council started its analysis by looking back over 150 years to the two-limb test established in Hadley v Baxendale (1854) 9 Exch 341, which remains the bedrock in this area. In the event of a breach of contract, a party will only be entitled to damages falling within one of these two categories:

  1. Damages arising naturally from the breach of contract ("Limb 1"); or
  2. Damages in the reasonable contemplation of the parties at the time of contracting ("Limb 2").

Limb 2 of Hadley v Baxendale thereby extends a party's potential recovery to damages beyond those that naturally result from a breach of contract to losses that only arise because of the special or unusual circumstances in which the particular parties contracted provided that those circumstances have been communicated to the counterparty.

Moving through the decades to consider Victoria Laundry (Windsor) Ltd v Newman Industries Ltd [1949] 2 KB 528 and Koufos v C Czarnikow Ltd ("The Heron II") [1969] 1 AC 350, and distinguishing this case from the Singapore case of Burgundy Global Exploration Corpn v Transocean Offshore International Ventures Ltd [2014] SGCA 24, the Privy Council summarised the position in the following terms, which serve as a helpful (and Privy Council endorsed) reminder of the basic building blocks of a contractual damages claim:

  1. The purpose of damages for breach of contract is to put the party whose rights have been breached in the same position, so far as money can do so, as if his or her rights had been observed (i.e. the injured party looks to what would have happened if the contract had been performed, not back at the position it was in before contracting).
  2. Recovery is limited to losses which were, at the time the contract was made, reasonably contemplated as liable to result from the breach. To be recoverable, the type of loss must have been reasonably contemplated as a serious possibility.
  3. What was reasonably contemplated depends upon the knowledge which the parties possessed at that time (or at least the knowledge possessed by the breaching party).
  4. The test to be applied is an objective one. The relevant question is what the defendant must be taken to have had in his or her contemplation rather than only what he or she actually contemplated. The consequence of this objective test is to impose an assumption that the defendant had thought about the consequences of its breach at the time the contract was made.
  5. The criterion for deciding what the defendant must be taken to have had in his or her contemplation as the result of a breach of their contract is a factual one.

Applying those principles to the facts of the case, the Privy Council found it was clear that the losses resulting from an inability to earn profits under the MOMA were within the reasonable contemplation of the parties to the DBA, and that losses arising under both agreements were therefore recoverable by GWA.

While not new law, this is a helpful summary of the common law principles of remoteness of damage and a reminder that parties will only be liable for losses in their reasonable contemplation at the time of contracting. Of course, in the context of the global pandemic, many contracts may have been affected by issues which were arguably not in the reasonable contemplation of the parties. For a summary of the position in those circumstances, see our resources on force majeure and frustration.


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