A Fiery End
30 June 2015
Tan Su Wei explains the demise of the doctrine of fundamental breach.
A body of law has developed in England from the 1950s to the 1970s known as the ‘doctrine of fundamental breach’ – a breach that went to the very root of the contract, such that the party guilty of it could not rely on an exclusion clause in the contract to exempt itself from liability or limit its liability.
There has been a long line of cases whereby this supposed rule of law has been invoked by the courts to negate the effectiveness of exclusion clauses. These cases include Karsales (Harrow) Ltd v Wallis  1 WLR 936 (CA); Harbutt’s Plasticine Ltd v Wayne Tank and Pump Co Ltd  1 All ER 225 and Levison v Patent Steam Carpet Cleaning Co Ltd  QB 69 (CA).
The application of the doctrine of fundamental breach can be seen in Levison v Patent Steam Carpet Cleaning Co Ltd, where Lord Denning MR held that the defendant could not rely on a clause in a contract which limited its liability to £40 when a fine Chinese carpet worth £900 belonging to the plaintiffs was stolen while being cleaned by the defendant.
Notwithstanding the above, the application of the doctrine of fundamental breach and past judicial equivocation in this area of law appears to be short-lived in light of the House of Lords’ decision in Photo Production Ltd v Securicor Transport Ltd  AC 827 which reintroduced the common law approach to exclusion clauses that existed before the advent of this doctrine.
Photo Production Ltd (“Photo Production”), the owner of a card-manufacturing factory, entered into a contract with Securicor Transport Ltd (“Securicor”), a security company, for the provision of security services by Securicor at the factory. While carrying out a night patrol at the factory, an employee of Securicor deliberately lit a fire which got out of control. The factory and stock inside were completely destroyed.
Photo Production sued Securicor for damages on the ground that they were liable for the act of their employee. Securicor pleaded an exclusion clause in the contract which, inter alia, provided that “under no circumstances shall [Securicor] be responsible for any injurious act or default by any employee … unless such act or default could have been foreseen and avoided by the exercise of due diligence on the part of [Securicor] as his employer; nor, in any event, shall [Securicor] be held responsible for … any loss suffered by [Photo Production] through … fire or any other cause, except in so far as such loss is solely attributable to the negligence of [Securicor]’s employees acting within the course of their employment …”.
Photo Production claimed damages in excess of £648,000 based on breach of contract and/or negligence. At first instance, MacKenna J rejected allegations against Securicor of want of care and failure to use due diligence as employers. It was held that Securicor were entitled to rely on the exclusion clause, and were thereby exempted from liability.
DECISION OF THE COURT OF APPEAL
Photo Production’s appeal was allowed by the Court of Appeal and the judgment of MacKenna J was set aside.
The court held that Securicor’s employee, by deliberately setting the factory on fire, was doing the very thing he was employed to prevent. According to their Lordships, this constituted a breach so fundamental as to justify that the contract was henceforth terminated in respect of all further performance; and as the contract has ceased to exist, Securicor could not rely on the exclusion clause (whatever its wording) to escape the consequences of the breach.
Following his own judgment in Harbutt’s Plasticine, whereby the speeches of Lord Reid and Lord Upjohn in Suisse Atlantique Société d’Armement Maritime SA v NV Rotterdamsche Kolen Centrale  1 AC 361 were relied upon as authority, Lord Denning MR held that the doctrine of fundamental breach applied, and a fundamental breach was destructive of the contract in its entirety.
The Suisse Atlantique Case in his view “affirms the long line of case … that when one party has been guilty of a fundamental breach of the contract … and the other side accepts it, so that the contract comes to an end … then the guilty party cannot rely on an exception or limitation clause to escape from his liability for the breach”.
According to Lord Denning, the presumed intention of the parties also has to be taken into consideration to ascertain whether or not, in the situation that had arisen, the parties could reasonably be supposed to have intended that the defaulting party should be able to avail himself of the exclusion clause. The court ruled in favour of Photo Production, and held that the parties could not reasonably be presumed to have intended that such a deliberate and erroneous act by the employee should be covered by the exclusion clause.
Securicor appealed to the House of Lords.
DECISION OF THE HOUSE OF LORDS
The House of Lords, by a unanimous decision of five judges, allowed Securicor’s appeal and restored the trial judge’s decision.
The apex court held that the question whether an exclusion clause protected one party to a contract in the event of breach, or in the event of what would (but for the presence of the exclusion clause) have been a breach, depended upon the proper construction of the contract. The court found that the exclusion clause precluded all liability notwithstanding that harm was inflicted intentionally.
Their Lordships overruled the principle advocated by the Court of Appeal that there was a rule of law which could be invoked by a court to deprive a party of the benefit of an exclusion clause if he had been guilty of a fundamental breach of contract.
Lord Wilberforce, who delivered the leading judgment, rejected Lord Denning’s purported reliance on the Suisse Atlantique Case and opined that the whole purpose and tenor of that case pointed to quite the opposite conclusion, which was to repudiate the doctrine of fundamental breach.
In arriving at his decision, His Lordship nevertheless recognised and conceded that the doctrine, in spite of its fallacies, had served a useful purpose in preventing the operation of an exclusion clause where it would produce injustice. This eventually led to the passing of the Unfair Contract Terms Act 1977 (“UCTA”) which limits the application of exclusion clauses to what is just and reasonable, and provides the courts with a statutory means by which to provide a remedy for consumers.
According to the learned judge, it is significant that Parliament refrained from legislating over the whole field of contract in this regard; particularly in commercial matters when parties are not of unequal bargaining power. It can be deduced therefore that it is Parliament’s intention that parties should be free to apportion the risks as they think fit. The court adopted the view that where parties have decided how risks inherent in certain types of contracts may be most economically borne, it is wrong to use a strained construction when the words are capable of clear meaning.
On the facts, Lord Wilberforce concluded that the exclusion clauses “have to be approached with the aid of cardinal rules of construction [in] that they must be read contra proferentem and that in order to escape from the consequences of one’s own wrongdoing, or that of one’s servant, clear words are necessary. I think that these words are clear”.
Furthermore, the court held that as the Photo Production Case arose before the inception of UCTA, the basic principles of the common law of contract would apply, in that the parties are free to determine their respective primary obligations to which the contract is the source.
According to Lord Diplock, “an exclusion clause is one that modifies an obligation that would otherwise arise”, and “(p)arties are free to agree to whatever exclusion or modification of all types of obligations as they please within the limits that the agreement must retain the legal characteristics of a contract …”.
As a security service provider in this case, Securicor had, in the absence of any exclusion clause, assumed a primary obligation to procure that a night patrol service at the factory is to be provided for by their employee(s) with reasonable care and skill. Although not expressly stated as such, this obligation would have arisen by implication from the contract to provide a security service. In setting fire to the factory, the employee did not exercise reasonable care and skill in executing his duties, and Securicor’s failure to procure such compliance by their employee would have constituted a failure to fulfil its primary obligation, thus resulting in a breach of contract.
However, this primary obligation of Securicor had been modified by virtue of the exclusion clause. As emphasised by Lord Wilberforce, the exclusion clause must be construed against the party relying on it, i.e. Securicor. Lord Diplock held that the court may well form its view as to whether the departure from a party’s obligations by virtue of an exclusion clause is reasonable; but it is not entitled to reject the exclusion clause (however unreasonable it may be) if the words are sufficiently clear and fairly susceptible to only one meaning.
The exclusion clause in this case modified the primary obligation to the effect that Securicor would only be liable for any “act or default (by any employee) which would have been foreseen and avoided by the exercise of due diligence on the part of the company as his employer”. As such, Securicor were only under an obligation to exercise due diligence as the employer. As the employee had satisfactory references, Securicor could not have foreseen that he would set fire to the factory, and were therefore not negligent in employing him. The court unanimously held that the words in the exclusion clause were clear, and as a matter of construction, the clause was effective and Securicor had not breached the contract. Hence, the exclusion clause relieved Securicor from liability.
It is noteworthy that much of the history of the doctrine of fundamental breach is revealed in terms of the conflict between the freedom of contract on the one hand, and the court’s concern to prevent abuses of unequal bargaining power, on the other. The doctrine, therefore is a label that the courts could use to provide a remedy to the consumer whose rights had been excluded by carefully drafted and wide-ranging exclusion clauses contained in standard form contracts employed by manufacturers and suppliers.
Nevertheless, the passing of UCTA now provides the courts with a statutory means by which to protect the consumer, and the courts are now free to decide each case on the rules of construction. In Malaysia, a similar legislation, namely the Consumer Protection Act 1999, has also been enacted to provide greater protection for consumers and to allow an aggrieved consumer to seek redress or relief from unfair practices by manufacturers or suppliers of goods and services.
It is clear that the doctrine of fundamental breach which renders an exclusion clause ineffective has perished in the flames of the Photo Production Case. In the aftermath of this decision, the question to be asked in any instance where an exclusion clause is relied upon in the United Kingdom is whether that clause, on its true construction, extends to cover the obligation or liability which it sought to exclude or restrict.