Explaining the principled exception to privity of contract.

• Author: Neyers, Jason W.
• Position: Canada

The author contends that the Supreme Court of Canada was right in creating the "principled exception" to privity of contract in its decisions in London Drugs and Fraser River but not for the reasons given in those decisions. Neither the "intentions of the parties" nor "commercial reality" can explain the central features of the principled exception. Similarly, theories of subrogation and voluntary assumption of risk are also incapable of deciphering the limits imposed. Instead, the author maintains that the principled exception is merely an application of conventional estoppel to the facts found in London Drugs and Fraser Rivet" (and other similar privity cases). As such, the author contends that, though the doctrine created by the Supreme Court is principled, it is not in any way a true exception to privity of contract.

L'auteur soutient que la Cour supreme du Canada avait raison d'etablir l'exception fondee sur des principes a la regle du lien contractuel dans les affaires London Drugs et Fraser River, mais pas pour les raisons presentees. Ni l'intention des parties, ni la realite commerciale ne peuvent expliquer les caracteristiques principales de cette exception. De meme, les theories de subrogation et d'acceptation volontaire des risques ne peuvent expliquer les limites imposees. Par contre, Fauteur maintient que l'exception fondee sur des principes a la regle du lien contractuel est tout simplement une application de la regle generale de preclusion aux faits etablis dans les arrets London Drugs et Fraser River (et d'autres decisions semblables traitant du lien contractuel). Ainsi, l'auteur admet que, bien que la doctrine creee par la Cour supreme soit raisonnee, elle n'est, en aucun cas, une veritable exception a la regle du lien contractuel.

Introduction I. The Decisions in London Drugs and Fraser River II. The Central Features of the Principled Exception III. The Failure of the Supreme Court's Rationales to Explain the Exception A. Intentions of the Parties B. Commercial Reality C. Combined Approach IV. Alternative Explanations of the Principled Exception A. Subrogation B. Voluntary Assumption of Risk V. The Best Explanation of the Principled Exception VI. Applying the Conventional-Estoppel Explanation of the Principled Exception Conclusion Introduction

Privity of contract is a doctrine that has not been well loved by judges or academics in modern times. (1) Thus, it is not surprising that in London Drugs v. Kuehne & Nagel International Ltd. and Fraser River Pile & Dredge Ltd. v. Can-Dive Services Ltd., (2) the Supreme Court of Canada created a new "exception" to privity of contract to deal with the concerns raised by its critics. The "principled exception", (3) as the Court named it, has in general been favourably received by the legal community. (4) In fact, where the exception has been criticized, it has largely been on the basis that the Court was not radical enough in its treatment of privity: instead of tinkering with the doctrine, the Court should have neutered it. (5)

Rather than follow this more orthodox view, I will argue that the decisions in London Drugs and Fraser River are somewhat disappointing insofar as they do not really explain why there should be such a "principled" exception at all. In order to make this argument, the article will be divided into six parts. Part I provides a summary of London Drugs and Fraser River for those unfamiliar with these cases. Part II lays out the central features of the principled exception that need to be explained. Part III then shows why the rationales posited by the Court for the adoption of this exception fail to adequately account for these central features. Being dissatisfied with the Court's justifications, part IV examines other leading privity workarounds to see if they might explain the contours of the principled exception. Finding these theories ultimately unconvincing, part V offers a justification that truly explains all the limitations of the doctrine. Simply put, part V argues that the principled exception is merely an application of the equitable principle of conventional estoppel. Part VI then applies this understanding of the exception to the facts of London Drugs and Fraser River to see if conventional estoppel can also explain the conclusions reached in these cases. Finally, a brief conclusion addresses the future development of the principled exception.

The ultimate conclusion of this article is two-fold. First, although the exception that the Supreme Court enunciated in London Drugs and Fraser River is principled, the principles underlying it are different from those proposed by the Court in its decisions. Second, when those principles are correctly understood, the rules created by the Court are, much like the other supposed exceptions to privity, (6) merely the application of other accepted legal principles to the factual situations typified by the decisions.

1. The Decisions in London Drugs and Fraser River

   In London Drugs, the plaintiff, London Drugs Ltd., contracted with the defendant, Kuehne & Nagei International Ltd. ("K & N Ltd.") for the storage of a transformer. The contract included a clause that limited the liability of the "warehouseman" to $40 for any damage to the transformer. (7) While moving the transformer, the defendant's employees negligently dropped it, thereby causing $33,955 worth of damages. London Drugs Ltd. then sued K & N Ltd. and the negligent employees. At trial, (8) $40 in damages were awarded against K & N Ltd. on the basis of the limitation of liability clause. Damages of $33,955 were awarded against the employees on the basis that they were merely third-party beneficiaries to the contract and were therefore not entitled to rely on the clause to limit their liability in negligence. On appeal to the British Columbia Court of Appeal, a four-to-one majority decided that the employees' liability was limited to $40 on a variety of bases, including analyses that implied unilateral contracts or that employed voluntary assumption of risk. (9) London Drugs Ltd. then appealed to the Supreme Court of Canada seeking to have the full judgment restored and the employees cross-appealed seeking to have their liability totally extinguished. Writing for the majority, Justice Iacobucci dismissed both the appeal and the cross-appeal. (10) He reasoned that there was a duty of care owed by the employees, but that they were entitled to rely on the contractual limitation of liability clause to limit their liability to $40. Thus, the principled exception to the doctrine of privity was born. (11)

   Following the Supreme Court of Canada's decision in London Drugs, two questions remained. (12) The first was whether the exception created in London Drugs was limited to employee-employer relationships; the second was whether parties were entitled to subsequently vary a limitation of liability clause that purported to protect a third party. Both of these issues were answered in Fraser River, the facts of which were as follows. Can-Dive Services Ltd. ("Can-Dive Ltd.") chartered a barge from Fraser River Pile & Dredge Ltd. ("Fraser River Ltd."). The barge was subsequently lost in heavy weather due to the negligence of Can-Dive Ltd. Fraser River Ltd.'s insurance policy included a clause that waived the insurance company's right to bring a subrogated claim against the charterers. Fraser River Ltd. collected the insurance proceeds and then entered into an agreement with the insurers to delete the original waiver-of-subrogation clause so that the insurer could sue Can-Dive Ltd. At trial, (13) Can-Dive Ltd. defended the action on the basis that it was protected by either one of two exceptions to the privity doctrine: agency or waiver of subrogation. The trial judge, Justice Warren, found that the agency exception was inapplicable since there was no consideration given by Can-Dive Ltd. nor had there been any ratification by it of the waiver-of-subrogation clause prior to its amendment by Fraser River Ltd. and its insurer. Justice Warren also found that the waiver-of-subrogation exception had been overtaken by London Drugs and, in light of the Privy Council's decision in Vandepitte v. Preferred Accident Insurance Co. of New York, (14) it was unavailable to Can-Dive Ltd. The British Columbia Court of Appeal, however, unanimously allowed Can-Dive Ltd.'s appeal on the basis that the waiver-of-subrogation exception to privity created by the Supreme Court of Canada in Imperial Oil Ltd v. Commonwealth Construction (15) was still good law. (16)

   On further appeal, Justice Iacobucci, writing for the Court, made it clear that the exception created in London Drugs was a principled one that applied whenever

   (a) ... the parties to the contract intend[ed] to extend the benefit in question to the third party seeking to rely on the contractual provision[,] and (b) ... the activities performed by the third party seeking to rely on the contractual provision [are] the very activities contemplated as coming within the scope of the contract in general, or the provision in particular ... (17)

   Justice Iacobucci further decided that any variations made to the contract that sought to delete the protections given to the third party were ineffective once these rights could be said to have "crystallized". He explained:

   Having contracted in favour of Can-Dive as within the class of potential third-party beneficiaries, Fraser River and the insurers cannot revoke unilaterally Can-Dive's rights once they have developed into an actual benefit. At the point at which Can-Dive's rights crystallized, it became for all intents and purposes a party to the initial contract for the limited purposes of relying on the waiver of subrogation clause. Any subsequent alteration of the waiver provision is subject to further negotiation and agreement among all of the parties involved, including Can-Dive. (18) Thus, in Fraser River, the Court decided that the principled...