Legal Blog

Exclusion Clauses

What happens when a contractor buys material from a supplier and the material that is supplied is not in accordance with specifications? Does the answer to this question change when the supplier specifically states that the contractor is to test the material before it is supplied and, if it fails to do so, can make no claim regarding the quality of the material? These questions were answered in Earthco Soil Mixtures Inc. v. Pine Valley Enterprises Inc., a 2024 decision of the Supreme Court of Canada.

Factual Background

The City of Toronto hired a contractor to remediate the effects of basement flooding in a residential area. The remediation including the removal and replacement of existing topsoil with another topsoil better suited to water drainage. The prime contract initially called for a substantial performance date of August 19, which was ultimately extended to October 15. Liquidated damages applied for every working day thereafter.

On October 3, the contractor contacted the supplier, providing it with topsoil specifications with various ranges of compositional percentages. The supplier provided laboratory reports of samples of its topsoil that had been taken six weeks earlier. Subject to minor modifications, the project consultant approved the test samples.

The contractor had a multi-stage process over a 4–6-week period to supply topsoil. It knew that topsoil changed over time so that further testing had to be done before the ultimate supply of the topsoil. The contractor did not have the luxury of that time; the liquidated damages were starting in two weeks and the contractor wanted to avoid them. Accordingly, even though the supplier warned the contractor that further testing had to be done, the contractor decided to take its chances with the topsoil composition.

The supplier added two specific clauses to the standard purchase order to reflect its discussions with the contractor:

• the contractor acknowledged that it had the right to test and approve the material before the supplier shipped the topsoil.
• If the contractor waived its right to test and approve the material before shipping, the supplier “will not be responsible for the quality of the material once it leaves our facility.“

Delivery began on October 7 and by October 19, for a $66,000 contract price, the supplier had delivered all topsoil. By November 11, the contractor noted ponding and subsequently determined that the topsoil contained more clay than the test results had indicated. The City demanded that the contractor remove and replace the topsoil and ultimately claimed liquidated damages from October 15 to July 27, the date of completion in the following year. The contractor sued the supplier for $700,000 for breach of contract, alleging that the contractor did not receive topsoil within the range of compositional properties shown in the test results.

Legal Background

Three different concepts were at play:

• the Ontario Sale of Goods Act (“SGA“). The SGA provides implied warranties relating to the characteristics of goods sold: fitness for purpose, merchantability, and correspondence with description. Section 53 of the SGA allows any seller to negate any of the implied conditions “by express agreement or by the course of dealing between the parties, or by usage, if the usage is such as to bind both parties to the contract.”
• common law dealing with contracts and the interpretation of them (i.e., sale of goods law is seen as a specialised branch of the general law of contract)
• common law dealing with exclusion clauses and the interpretation of them

Section 14 of the SGA applied to the Earthco case. It states that if there is a contract for the sale of goods by description, there is an implied condition that the goods will correspond with that description. The common law jurisprudence distinguishes between traits that go to the identity of goods (which pertains to description) and those that go to the quality of the goods (which pertains to merchantability and fitness for purpose).

The trial judge held that the delivered topsoil did not meet the description that had been set out in the test samples and that, accordingly, the supplier had breached the implied condition that the topsoil would correspond to its description.

The real issue in this case was whether, in accordance with section 53 of the SGA, the exclusion clause absolved the supplier from liability that the implied condition may otherwise have imposed. The trial judge held that it did, the Ontario Court of Appeal held that it did not, and the matter made its way up to the Supreme Court.

Express Agreement

You will recall that the exclusion clause in the contract referenced the “quality” of the topsoil. It made no reference to the statutory implied conditions and it did not refer to the “description” of the topsoil. Also, section 53 of the SGA requires an “express agreement” to negate implied statutory conditions. The Court of Appeal interpreted the exclusion clause narrowly. It held that there was no express agreement because the exclusion clause referred to quality rather than description.

The Supreme Court interpreted “express agreement” far more widely. It held that “express” does not speak to specific language that must be used to remove the parties from the SGA. Rather, “express” qualifies the word “agreement” and directs how that agreement must be made; it does not direct what the agreement must say or the required level of clarity. It does not say “express language” and it imposes no prerequisite about the precision of the words used to manifest an agreement.

All contractual language has to be interpreted in light of the contextual facts, also referred to as the factual matrix. The courts will interpret contractual terms in light of the contract as a whole and with reference to objective evidence that illustrates what was within the parties’ knowledge at or before the time of the contract formation.

The Supreme Court noted that the supplier’s employee drafted the exclusion clause; it recognised that a layperson would not have been aware of the differentiation between quality and description. How many laypersons, and indeed how many lawyers, would know that when quality was referenced, it would not include the composition (description) of the topsoil?

Further, considering the contractor’s rush to receive the topsoil and the continual warnings of the supplier that more testing should be done, the exclusions and the contract were clear and unambiguous and were an express agreement to oust the SGA. The Supreme Court noted that there was no unfairness in refusing to find the supplier liable for what the trial judge noted was the contractor’s “expensive but calculated mistake.” To do otherwise would not give effect to the parties’ objective intention at the time of the contract’s formation, which would amount to a rejection of the principles of modern contractual interpretation.

The Supreme Court allowed the appeal from the Ontario Court of Appeal, reinstated the decision of the trial judge, and dismissed the contractor’s action.

 

Image courtesy of StockSnap.

Written by Jonathan Speigel, the founding partner of Speigel Nichols Fox LLP, leads the litigation and construction practices.