English High Court considers limitation of liability for dishonest breach

In Innovate Pharmaceuticals Ltd v University of Portsmouth Higher Education Corporation (2024), the High Court considered an exclusion clause and a limitation of liability clause in a case alleging dishonest breach of contract. Interpreting the clauses and examining the case law, the court found that, technically, it may well be possible to exclude or limit liability for dishonest breach of contract in certain, specific circumstances.

More particularly, the court found an exclusion of liability clause effective to exclude liability for loss of profits and a limitation of liability clause effective to limit liability for out-of-pocket costs resulting from a breach of contract – even if the breach was dishonest – and to be reasonable under the Unfair Contract Terms Act (UCTA) 1977.

The research agreement

This case concerned a contract between the University of Portsmouth and Innovate Pharmaceuticals Ltd, a research agreement whereby the defendant carried out laboratory research in respect of a drug patented by the claimant pharmaceutical company.

The claim involved an academic research paper published by the defendant that was alleged to be both "infected by errors" and the product of dishonesty on the part of the scientist engaged to lead the project. Innovate claimed that as a result of this, the university's research was "commercially worthless" and that Innovate would need to conduct a new research programme which would delay the date from which it could exploit its patent causing significant losses. Innovate sued the University of Portsmouth for breach of contract, claiming over £100 million, comprising the costs of re-running the tests and loss of profits arising from being unable to exploit its patent.

The exclusion and limitation clauses

The research agreement included limitation and exclusion of liability clauses which were central to this case. In particular, clause 11.4 provided that, "Except as provided in clause 11.5", the university should not be liable to Innovate: "because of any representation (unless fraudulent), or any warranty (express or implied), condition or other term, or any duty at common law, non-observance or non-performance of this Agreement,  for any loss of profits, business, contracts, opportunity, goodwill, revenues, anticipated savings, expenses, costs or other similar loss; and/or any indirect, special or consequential damages or losses (whether for loss of profits or otherwise)".

Under clause 11.5, the liability of the parties under the agreement "howsoever arising (including negligence)" in relation to "any breach, non-observance or non-performance of this Agreement or any error or omission (except in the case of death or personal injury or fraudulent misrepresentation)" was limited to £1 million.

The research agreement also provided at clause 11.1 that the university was required to "use all reasonable skill and care to ensure the accuracy of the work performed and any information given".

Issue and arguments

The issue before the court was whether Innovate could claim more than £1 million and loss of profits on the basis that the scientist was dishonest. Innovate argued that the limitation clause was ineffective to limit the liability of the university, as the losses it suffered were a product of the university's agent's dishonesty.

The university accepted that the exclusion clause (clause 11.4) was not effective to exclude liability in respect of its own fraud in inducing Innovate to enter into the research agreement, but argued that that was not the position where performance of the contract was concerned, especially where the alleged fraud had been committed by an agent acting for the university.

Liability and dishonesty

The court concluded that the scientist had not acted dishonestly. However, the court held that the university was liable for failing to use all reasonable skill and care to ensure the accuracy of the work performed by the scientist. It was therefore in breach of clause 11.1.

As to the operation of the exclusion clause (clause 11.4), the court stated that the law does not permit a contracting party to exclude liability for its own fraud in inducing the counterparty to enter into a contract. However, "as to whether a clause excludes liability for fraud in performance of a valid contract is a matter of construction of the commercial provisions and risk allocation". The court found that the exception in clause 11.4 – that is, the words "(unless fraudulent)" – was limited to representation as opposed to performance.

However, the court said that the exclusion of liability for "loss of profits" was applicable to all claims except where the claim was based upon a fraudulent representation. This meant that loss of profits resulting from a breach of contract was excluded and that even loss of profits arising from a dishonest breach of contract could, potentially, be excluded by the clause. As the judge said, it is a matter of construction rather than law as to whether this is the case.

As for the limitation of liability clause (clause 11.5), the court found that it applied to any claim (whether for loss of profits or otherwise) unless the relevant cause of action was in respect of death or personal injury or for fraudulent misrepresentation. It was, therefore, effective to limit Innovate's claim for costs incurred in re-running the tests to £1 million.

UCTA

The court also found that the clauses were reasonable under UCTA. The court considered various factors such as:

• the agreement was negotiated by lawyers;
• the limited amount of funding provided to the university – the court stated that had Innovate gone to a commercial provider for the same work, it would have cost them a lot more, so it made commercial sense for the university to limit its liability at a much lower level than might be expected in the case of a commercial provider;
• the amount of the claim far exceeded the monies due to the university under the agreement. The court stated that this "underlines the commercial reality, perhaps necessity, of the two clauses";
• the nature of the university, being funded by public funds;
• the fact that clause 11.5 benefitted both parties.

Osborne Clarke comment

The outcome of this case reinforces the importance of clear drafting, especially where clauses interact with each other, and demonstrates that the courts will take a literal approach to the interpretation of contractual clauses, especially in contracts drafted within a commercial context.

The case is also interesting because, having examined the case law, the judge comments that employee wilful default (including dishonesty) is a foreseeable and commonplace risk and that a liability clause that limits the liability of a party "howsoever arising" is capable of effecting an exclusion of liability for such employee wilful default. Liability for deliberate wrongdoing can, therefore, be excluded.

In terms of fraud, the judge commented that an exclusion or limitation clause is more likely to be construed as effective if it excludes the liability for fraud of an agent or employee rather than the fraud of the contracting party itself. It is difficult to assess where the line may be drawn between the fraud of a contracting party and that of its personnel – but liability for the latter may be able to be excluded, if the counterparty will accept the express drafting required.

Alice Bailey, a Trainee Solicitor, and Anna Matsiienko, a Paralegal, contributed to this Insight.