Can a breach of one contract give rise to liability for lost profit on a related contract? Or is the loss too "remote"? A Privy Council decision from Monday of this week addressed this issue in the context of a design, build, and operate (DBO) form of procurement.
Background
DBO and similar forms of procurement are based on split, sequential phases of works and services. The first phase involves the design and building of the infrastructure or facility, and the second phase involves the operation and maintenance (O&M) of the infrastructure or facility over a long period (e.g. 25 years). Commonly, these two phases will be let as separate contracts, entered into at the same time, and often the contractor will make most of its profit margin during the O&M phase.
If the employer seriously breaches the design and build contract so that the whole project cannot proceed, the contractor will miss out on the profit it would have earned on the O&M contract. Is that loss of profit recoverable as damages? This is the question which the UK Privy Council addressed in Attorney General of the Virgin Islands v Global Water Associates Ltd [2020] UKPC 18 (13 July 2020).
The Relevant Facts
The case concerned two contracts entered into by the Government of the British Virgin Islands (the "Government") and Global Water Associates Ltd ("GWA"), namely:
- a Design Build Agreement ("DBA") whereby GWA agreed to design and build a water reclamation treatment plant (the "Plant"); and
- a Management, Operation and Maintenance Agreement (the "MOMA") whereby the Government engaged GWA to manage, operate and maintain the Plant once it had been constructed.
The DBA and MOMA were entered into by the same parties on the same date. Both the DBA and MOMA incorporated "Design Build Documents" which included: (a) GWA's proposal for the Plant which the Government's representative had approved; and (b) two letters from the supplier of the Plant confirming that it would work with GWA to provide the Plant.
In breach of the DBA, the Government failed to provide GWA with a prepared project site to enable the Plant to be installed. In the face of this breach of contract, GWA validly terminated the DBA and claimed the profits it would have earned under the MOMA as damages. GWA's claim was referred to arbitration and the arbitrators rejected GWA's claim on the basis that, amongst other things, the profits which GWA would have earned under the MOMA were too remote to be recoverable.
GWA applied to the BVI High Court seeking an order to remit the award to the arbitrators or to set it aside on the ground that there were errors of law on the face of the award. The High Court upheld GWA's contentions and remitted the award to the arbitrators for the assessment of damages. However, the Government appealed to the Court of Appeal which rejected GWA's claim. GWA appealed the Court of Appeal's decision to the UK Privy Council.
The Court's Decision
The Privy Council held that there was an error of law on the face of the award in relation to GWA's claim for damages for breach of the DBA. The court held that it was clear that GWA's lost profits under the MOMA were within the reasonable contemplation of the parties to the DBA when they made that contract, and were, therefore, recoverable. In reaching its decision, the Privy Council highlighted, amongst other things, that:
- the DBA and MOMA were entered into by the same parties on the same day and related to the same Plant on the same site;
- the Government, when it entered into the DBA, knew and intended that the performance of the parties' obligations under the DBA would lead to the commencement of the MOMA; and
- there was no express term in the DBA limiting the Government's liability for damages to GWA's loss of earnings under the DBA and no finding by the arbitrators that such term was to be implied.
The Privy Council also rejected the Court of Appeal's finding that GWA's claim for loss of profits from the MOMA were too remote because the Government could have employed another contractor to build the Plant. It was clear from the terms of the DBA and MOMA, including the incorporation of the Design Build Documents into both, that the Government had contracted in the MOMA for GWA to manage, operate and maintain the Plant which it had designed and constructed.
Comment
The recoverability of "loss of profit" is a recurring issue in construction and engineering cases. There is no general rule as to whether "loss of profit" is recoverable or irrecoverable. Recoverability at common law is fact and context dependent. As this case demonstrates, what is key is understanding the parties' knowledge and expectations at the time they entered into the particular contract.
This uncertainty over the recoverability of "loss of profit" often leads to parties legislating for the matter in their contract, by purporting to exclude "loss of profit" from any damages claim. Unusually for a DBO form of procurement, the DBA in the Privy Council case did not contain such an exclusion. However, even where contracts do purport to exclude the recoverability of "loss of profit", further uncertainty can arise, particularly where a contract excludes the recovery of "indirect or consequential loss or damage, including loss of profit". Ambiguity can arise because it may be unclear whether the clause excludes all loss of profit, or only that loss of profit which was "indirect or consequential" – meaning that "direct" loss of profit is still recoverable. Precision in the drafting of exclusion and limitation clauses is therefore vital.
Finally, we note that in a two-contract procurement, as this one was, different consequences may flow depending on the timing of execution of each contract. For example, if the O&M contract were to be let after the DBA contract was entered into, and the DBA was repudiated by the employer before the O&M contract was entered into, the contractor may have had a claim for loss of profit in relation to the O&M contract, but the claim would be for the "loss of a chance" to enter into the O&M contract and make a profit. This can have a dramatic impact on the level of damages awarded. For example, if the contractor anticipated making a profit of US$1m on the O&M contract, but there was only a 60% chance of it being awarded the O&M contract, a damages award for loss of profit would be US$600,000, not US$1m.
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