In any BPO project one of the issues that is guaranteed to excite both provider and customer is the scope of limitations of liability.
Negotiating overall caps on liability is a straightforward commercial haggle. The service provider aims low, usually hiding behind the "market practice" and "corporate policy" defences. The customer reacts with a high figure, which more closely reflects the likely loss to the customer's business of serious supplier failure, but which often fails to take into account the risk/reward analysis that the provider has to perform in evaluating whether to proceed with the deal. After a process of practical risk evaluation and confidence building the parties usually arrive at a compromise figure.
Once the cap is agreed it is surprising how often the parties pay little attention to the types of loss that may be recovered. Any service provider will expect to include in the contract some form of consequential loss exclusion. However, to simply rely on or accept the presence of a boilerplate clause excluding either party's liability for "special, indirect, consequential or incidental damages", without any further detailed discussion and drafting about specific losses which would or should fall outside such exclusion, could potentially leave both parties financially exposed. In Finance and Accounting outsourcing for example the supplier will usually be responsible for cash management functions, accounts receivable, accounts payable and a degree of financial reporting. A failure or delay by the provider could give rise to a variety of losses for the customer. An underpayment or failure to pay a third party supplier could give rise to interest charges, loss of early payment discounts, order cancellation or delay in product delivery (which in turn could give rise to production losses and possible loss of business for the customer). A failure to collect receivables could give rise to financing or overdraft charges, or cash flow problems for the customer. Late provision of financial reports could affect the customer's ability to submit statutory accounts or tax returns with the consequent risk of fines or interest charges. Do these losses fall within or outside a consequential loss exclusion?
It is a well established principle of English contract law that an innocent party to a contract can recover losses which flow naturally and directly from a breach, or losses which may be reasonably supposed to have been in the contemplation of the parties at the time they made the contract. The innocent party's loss must therefore not be too remote from the breach and difficulty can sometimes arise in BPO, where some types of losses might be difficult to bring within the first principle (flowing naturally and directly from a breach). The innocent party therefore finds himself having to prove that the type of loss suffered was in the contemplation of the parties at the time the contract was entered into and accordingly that there was some acceptance by the other party of the risk that this type of loss would occur.
Case law too has highlighted the danger of relying upon boilerplate loss provisions in a contract. Historically the assumption was made that loss of profit would fall within a consequential loss exclusion. In recent years the English courts have shown that they are prepared to prevent the defendant from relying on a clause excluding liability for indirect and consequential loss and have held that loss of profits may, depending on the facts of the case, be a direct and natural consequence of the breach. The moral of the story, is that if parties to a contract want to exclude (or include) a particular type of loss, it is best to do so with precise and accurate language rather than vague category descriptors.
Best practice calls for both parties to discuss and try to agree at an early stage (i.e. at RFP and Term Sheet stage) what losses are included in or excluded from those that can be claimed.
Having established what losses are included or excluded, the parties can then proceed to a sensible discussion about liability and risk allocation in relation to those losses which are expressly defined as recoverable, including the interplay between liability caps (including service credit caps), indemnities and 'sole remedy' clauses. Customers who are prepared to analyse their potential losses at the outset of a BPO project will have a better opportunity to include mechanisms in the contract for compensation and remedy, without having to resort to the sledgehammer of contract termination.
The Global Outsourcing Group at Morgan Lewis includes lawyers in eight offices spanning the North Americas, European and Asia Pacific markets, making it one of the most diverse outsourcing practices in the world. The Group advises major corporations and financial institutions on the full range of outsourcing projects including ITO, BPO and HRO. The lawyers in the Group are internationally recognised for their excellence in outsourcing and technology transactions. For further information see www.morganlewis.com
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