Vulnerability and Uncertainty in Purely Economic Loss

Abstract

In the vexed area of purely economic loss, described as the most difficult in the common law, policy decisions based on concepts such as vulnerability raise uncertainty and provide legal advisers with no guidance as to the potential outcome of litigation. This is not so where legal principles are the foundation for judicial determinations, since these principles provide a signpost and guidance as to a likely outcome.

The application of vulnerability is a policy decision which gives unwarranted dominance to contract, ignoring the independence and concurrent operation of tort and thereby denying compensatory justice.

The uncertainty involved in a determinant such as vulnerability, arises from issues as to when and how it will be applied. If the law persists with vulnerability as a relevant factor in tort claims for purely economic loss, guidance and clarification as to its application are needed.

Introduction

There is obvious judicial diversity as to the interrelationship of contract and tort in the adjudication of purely economic loss claims (see, for instance, the majority 5/minority 4 split decision in the Supreme Court of Canada in Ontario Inc. v Maple Leaf Foods Inc 2020 SCC 35). On one side there is the view that economic interests are the domain of contract, and a claim in tort to recover purely economic loss is an unwarranted interference into the matrix of contract. On this view, tort is the appropriate vehicle for the protection from physical harm to person or property. This historical understanding of the role of contract and tort underpins a reluctance to raise a duty of care where there is a network of contractual arrangements between commercial parties. A further impetus to deny a duty of care between parties to contractual arrangements, stems from an unwarranted, underlying floodgates fear if tort actions are superimposed on the existing contractual risk allocations.

A view that purely economic interests are the domain of contract, has led to the development of vulnerability, whereby if a claimant in tort for purely economic loss could have protected its economic interests under contract, then no duty of care arises. (see in Australia; Brookfield Multiplex Ltd v Owners Corporation Strata Plan [2014] HCA36; 88 ALJR911 and Woolcock Street Investments Pty Ltd v CDG Pty Ltd [2004] HCA 16; 78 ALJR 628

The opposing view in judicial analysis is that, where there is fault or delict causing economic damage and the elements necessary for a successful tort action in negligence are present then the fact that the parties were only brought into a close and direct relationship from a network of contracts (eg builder-original owner-subsequent purchaser) will not bar the tort action. It will be suggested below that this latter view accords with commercial reality, providing recourse in circumstances where the claimant is unlikely to have contractual protection. If the tort action is barred then the party must rely on prohibitive loss insurance.

Vulnerability: Policy or Principle

The application of vulnerability in purely economic loss cases has occurred in situations where a claimant for economic loss from negligence, has not sought an indemnity under contract.

If the victim had sought and received a contractual indemnity against the very risk of negligence for which they now seek tortious compensation there would be a convincing argument, on principle, that the claimant’s intention was to shift the risk of economic loss to the contractual party giving the indemnity and thereby relinquishing any right to sue in tort.

However, where the claimant in tort for purely economic loss has not sought nor received any contractual indemnity for the very risk they now seek compensation, any presumption that the claimant likely would have received such a contractual indemnity is commercially unrealistic. As McLachlin J (as she then was) stated in Canadian National Railway Co v Norsk Pacific Steamship Co[1]:

“the contractual allocation of risk argument rests on a number of important but questionable assumptions. First, the argument assumes that all persons or business entities organise their affairs in accordance with the laws of economic efficiency, assigning liability to the ‘least-cost risk avoider’. Second, it assumes that all parties to a transaction share an equality of bargaining power which will result in the effective allocation of risk. It is not considered that certain parties who control the situation may refuse to indemnify against the negligence of those over whom they have no control, or may demand such an exorbitant premium for this indemnification that it would be more cost-effective for the innocent victim to insure itself.”[2]

Perhaps most convincing in the comments of McLachlin J, is that a party to a contract is unlikely to indemnify against the negligence of those over whom they have no control, or that they would seek such an exorbitant premium for the indemnity that the innocent victim would opt to insure itself.

Furthermore, the presumed intention of the claimant in tort, where the claimant has not sought contractual protection, should be that they are preserving their tort rights in negligence.

The unlikelihood of the claimant obtaining a contractual warranty suggests that vulnerability is merely a label to deny a tort action where there are contractual arrangements between parties. The application of vulnerability to negate a duty of care where a claimant in tort has not sought a contractual indemnity is a policy decision.

Nor is it appropriate to mask that policy decision behind a label such as proximity (discarded in Australia as meaningless for the very reasons outlined below) by a conclusion that no relationship of proximity sufficient for duty of care exists where the parties’ expectations are based in their contractual arrangements. Contractual arrangements say nothing and do not inform the tortious question of proximity, namely, how close and direct was the relationship between tortfeasor and victim in terms of cause and effect, measured by physical, circumstantial and causal closeness.[3] This causal closeness may result and arise from a network of contracts.[4] As Le Dain J giving judgment for a unanimous Supreme Court of Canada stated in Central and Eastern Trust Co v Rafuse;

“The common law duty of care that is created by a relationship of sufficient proximity….is not confined to relationships that arise apart from contract. Although the relationships in Donoghue v Stevenson, Hedley Byrne and Anns were all of a non-contractual nature and there was necessarily reference in the judgments to a duty of care that exists apart from or independently of contract, I find nothing in the statements of general principle in those cases to suggest that the principle was intended to be confined to relationships that arise apart from contract. Indeed, the dictum of Lord Macmillan in Donoghue v Stevenson concerning concurrent liability…would clearly suggest the contrary. Junior Books Ltd v Veitchi Co Ltd in which an owner sued flooring sub-contractors directly in tort, is authority for the proposition that a common law duty of care may be created by a relationship of proximity that would not have arisen but for a contract.”[5]

Where there is clear proximity between parties, under the historical meaning of that term (see, for instance, in the Supreme Court of Canada, Karakatsanis J’s finding of a close relationship of proximity between supplier and franchisees arising from contractual arrangements between supplier, franchisor and franchisees in Ontario Inc v Maple Leaf Foods Inc) it is unfortunate and distorts the utility of the concept to deny a relationship of proximity on a policy ground of vulnerability. This reduces the concept to a mere label to attach to a policy decision, the latter having no relevance to the historical principle. As Brennan CJ stated in the High Court of Australia in Bryan v Maloney:

“If the only role for proximity in the broader sense were to provide an umbrella of terminology to cover the different requirements for the existence of different categories of duty of care, and thereby assist in understanding and identifying them – in other words, if the requirement of proximity were not invoked as a working criterion of liability in particular cases – it would have little practical significance.”[6]

It has been suggested that the use of proximity as a mere label encompassing policy factors not related to nearness or closeness, equates the term with the duty of care question itself.[7] Dawson J in the High Court of Australia, in reference to the use of proximity as a label covering disparate circumstances unrelated to nearness or closeness of relationship, has stated that it is ‘to expect more of the term than it can provide’.[8]

Vulnerability and Uncertainty

A threshold question is whether the law should reject vulnerability altogether as a relevant policy factor in a tort claim for purely economic loss. Such a rejection would be justified on the basis that to deny a tort action for negligence because of potential contractual rights is an unjustified interference and fetter on the independence of tort law. On this view, contractual rights and obligations are irrelevant to independent tort rights which can operate concurrently.

This was the approach of the majority in the High Court of Australia (French CJ, Gummow, Hayne, Crennan and Bell JJ.) in Barclay v Penberthy[9]. In a joint judgment on the issue of a claim for negligence for purely economic loss by an employer against the tortfeasor for causing permanent injury to, and loss of services of key employees, the court ignored and dismissed as irrelevant any potential right the employer may have had to protect itself under contract from such loss of services. The majority in the High Court stated:

“Further, in order to establish the existence of a duty of care owed to [the employer] …. it was not incumbent upon the employer to establish that it could not have bargained…..for a particular contractual provision. The presence or absence of a claim in contract would not be determinative of a claim in tort”[10][the parenthesis is mine].

This was a clear rejection of vulnerability in the context of potential contractual rights, as a relevant issue in a tort claim for purely economic loss.

The abandonment of vulnerability as a potential determinant in purely economic loss would remove the uncertainty it has brought to an already vexed area of the law. At a more theoretical level, the availability and sanction of tort law as a deterrent to negligent conduct is maintained. As was stated by McLachlin J in reference to the aims of tort law, in contrast to the consensual rights and obligations of contracting parties, tort law has “an historical centrality of personal fault” and its role “in curbing negligent conduct and thus limiting the harm done to innocent parties, not all of whom are large enterprises capable of maximising their economic situation,”[11]should not be overlooked.

Alternatively, if the policy of the law is that vulnerability is a relevant issue in the adjudication of purely economic loss claims then clarification of the legal approach to its application is required. The law could adopt any of the following three approaches:

Approach 1

Where parties are linked by contractual arrangements, one approach by the law may be an absolute bar to any tort action arising between those parties. This would mean that the protection of economic interests and risk allocation are determined solely in the contractual matrix.

On this approach, the actual vulnerability of a party is irrelevant, since even if a party was vulnerable in the sense of an inability under contract to protect against an economic risk from negligence, there is an absolute bar to any duty of care arising. Such a policy approach reduces the meaning of vulnerability to a mere label.

Approach 2

A second approach to the application of vulnerability is that where parties have entered a network of contracts and one of those parties is seeking a tort remedy in negligence for its economic loss, it must have sought contractual indemnification against the very risk for which it now seeks compensation. The claimant under this approach must produce evidence of a failed attempt to obtain contractual indemnity against the risk for which it now seeks tortious compensation.

This approach to vulnerability casts the onus of proof on the claimant to prove a negative, namely, that they sought and could not obtain a contractual warranty, thereby leaving them vulnerable.

Under this approach, if the claimant in tort either did not seek a contractual warranty, or was successful in obtaining such a warranty, then in either instance the claimant has not satisfied the onus of proof of vulnerability and a duty of care does not arise.

This second approach is that advanced by Heydon J in the High Court of Australia in Barclay v Penberthy.[12] Heydon J in that case made reference to a submission by the claimant in tort, the submission being that there was no evidence that the claimant could have negotiated [a contractual warranty]. Heydon J commented on that submission as follows:

“But that impermissibly reverses the burden of proof.  The correct question was: was there evidence that it could not have negotiated a warranty? On that question the evidence was silent……..there was no evidence about whether [the party with whom the claimant contracted] was open to change [the terms] after negotiation.”[13] [the parentheses are mine].

Approach 3

A third approach to the issue of vulnerability would be that the law does not require a claimant in tort actually to have sought an indemnity in contract. But the claimant still carries the onus of proof, on the totality of evidence, to establish that it is more probable than not that they would have been unable to obtain any contractual warranty, thus leaving them exposed and vulnerable to economic loss from negligence.

Under this third approach, for the reasons given earlier in this paper, and in the absence of specific evidence to the contrary, probabilities are (in accordance with commercial reality) that no contractual indemnity would be given.

Whatever approach is adopted, vulnerability should be examined as a separate issue from principles such as reasonable foreseeability and proximity. This is the Anns approach (see Anns v Merton London Borough Council[14]) to adjudication of purely economic loss claims, whereby reasonable foreseeability and proximity establish a prima facie case of duty and policy issues are then examined to determine if there is a reason to negate the prima facie duty. The Anns approach was applied by Karakatsanis J, in giving judgment on behalf of the minority in the Supreme Court of Canada in Ontario Inc v Maple Leaf Foods Inc.[15]In a clear and compelling judgment by Karakatsanis J[16], concepts of reasonable foreseeability and proximity (the latter in its historical context) were analysed and then policy was addressed.

In the interests of certainty, the Anns approach to adjudication of purely economic loss claims should be the methodology of the common law of Australia.

Conclusion

There are strong policy grounds to conclude that the negation of tort rights in the face of contractual arrangements is an unjustified and unwarranted interference, preventing a victim of negligence from any legal recourse for its loss. The commercial improbability of a party either seeking or obtaining a contractual indemnity for the economic loss it now claims adds impetus to the injustice of denying tort rights on the basis of vulnerability

If vulnerability is to continue as a potential determinant in purely economic loss claims, the uncertainty surrounding its application provides no guidance to legal advisers on the likely outcome of potentially large economic claims. Clarification as to its application is needed either by legislative intervention or judicial pronouncement.

*LL.B, LL.M, PhD (Barrister at Law)

[1] [1992] 1 SCR 1021

[2] Ibid at [1158],[1160]

[3] See the exhaustive analysis and articulation of the concept of proximity in the High Court of Australia in the judgment of Deane J in Jaensch v Coffey (1984) 155 CLR 549

[4] Central & Eastern Trust Co v Rafuse [1986] 2 SCR 147

[5] Ibid at [204-205]

[6] (1995) 182 CLR 609 at 654 per Brennan CJ

[7] M H McHugh “Neighbourhood, Proximity and Reliance” in Finn (Ed) Essays on Torts (Law Book Company Limited, Sydney, (1989) p38

[8] Hill v Van Erp [1997] HCA 9; 188 CLR 159 per Dawson J

[9] [2012] HCA 40; 246 CLR 258

[10] Ibid at [47]

[11]Canadian National Railway Co v Norsk Pacific Steamship Co [1992] 1 SCR 1158,1160

[12] Barclay v Penberthy [2012] HCA 40

[13] Ibid at [87] per Heydon J

[14] [1978] AC 73

[15] 2020 SCC 35

[16] Ibid at [97] ff, per Karakatsanis J