Western Canada Business Litigation Blog

Can a Fundamental Breach of Contract Sink an Exclusion Clause?

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Frequently, sales contracts contain exclusion clauses that insulate a seller from responsibility for the condition of the goods being sold.   The buyer gets a product they think is of a certain quality and, when they find out it is not, these clauses prevent any recourse against the seller.   However, if the purchaser can establish that the nature of the defect was serious or that the vendor acted unconscionably, they may be able to prove a fundamental breach of contract.  If so, they can escape the effect of an exclusion clause and get their money back.

A recent decision provides an interesting example and gives hope to consumers facing exculpatory exclusion clauses in a contract of purchase.  Mr. Maloney bought a used Bayliner for $49,000 from Dockside Marine Centre.  Without reading it, he signed a standard form purchase contract that expressly stated Dockside gave “no warranties or conditions, express or implied, concerning” the vessel.  The contract also included an exclusion clause which read:

with respect to used equipment, there are no warranties, expressed or implied, of any kind whatsoever….  Used equipment is sold on an ‘as is where is’ basis.  It is expressly agreed that the warranties, and conditions implied in sections 17, 18 and 19 of the Sale of Goods Act of British Columbia, or any successor provisions, shall not apply to the used equipment.

With dreams of sun-filled afternoons trolling for fish, Mr. Maloney launched his boat and set off.  On two separate trips shortly after his purchase, the vessel stalled and would not restart.  He took it for repairs.  On the second occasion, the mechanics accessed the engine manufacturer’s website and learned its history.  It had been purchased new three years earlier for $78,000 but had been the subject of several engine failures and resulting warranty claims.  Likely frustrated, the original owner had sold the vessel and, by a circuitous route, it ended up at Dockside where Mr. Maloney found it. 

On learning its history, Mr. Maloney wanted to return the vessel to Dockside and get his money back. He sued and argued there had been a fundamental breach of the purchase contract. The legal test for fundamental breach was most recently articulated by the Supreme Court of Canada in Tercon Contractors Ltd. v. British Columbia. In deciding whether there has been a fundamental breach, the court must answer three questions:

  1. As a matter of interpretation, does the exclusion clause apply to the circumstances established in the evidence?
  2. If yes, was the exclusion clause unconscionable at the time the contract was made?
  3. If the exclusion clause is applicable and valid, should the court, nevertheless, refuse to enforce the valid exclusion clause because of the existence of an overriding public policy?

The onus of proving a fundamental breach is on the party making that allegation. In this case, Mr. Maloney bore that onus.

The Court found that the exclusion clause applied to Mr. Maloney’s purchase of the vessel. It dealt with used goods and Mr. Maloney had bought the vessel used. The Court then considered whether the exclusion clause was unconscionable. In the circumstances, the clause was found to be unconscionable for a number of reasons. First, unlike Mr. Maloney, Dockside had access to the engine manufacturer’s website and had express knowledge of the historical engine problems. Second, the parties were not dealing on an equal footing. Dockside had knowledge and expertise about vessels while Mr. Maloney was an “unsophisticated purchaser”. As the Court commented:

“a sophisticated vendor dealing with an unsophisticated purchaser, when they have express knowledge of defects, run the risk in my view of having the transaction set aside based on unconscionability, when they fail to disclose the known defects.

When selling used goods – used goods that have limitations which are not readily apparent to the naked eye and which fundamentally affect the merchantability of the item – there is a higher onus on a vendor with knowledge of deficiency in regards to an unsophisticated purchaser. In my view, Dockside acted unconscionably in having knowledge of these problems and not disclosing them to the unsophisticated purchaser, Maloney.”

It was also noted that the vessel had been operated for only 170 hours, appeared to be essentially new and yet its resale price was considerably lower than the original price three years earlier. This added a “level of suspicion” to the transaction that ought to have triggered Dockside’s disclosure to Mr. Maloney of the past problems. Based on this, the court found the exclusion clause was unconscionable.

Lastly, there were no public policy reasons preventing the Court from overriding the contract provisions. As a consequence, the Court held there had been a fundamental breach of the contract.

This case serves as a warning to knowledgeable vendors to be candid with potential purchasers interested in their product, particularly if it is used equipment. A failure to disclose material information to a purchaser may result in them recovering the purchase price if they subsequently discover material problems. While it is always better to read and understand a contract you sign, the contract terms do not necessarily preclude a subsequent argument that there has been a fundamental breach. Put another way, if it turns out you bought a lemon, there is hope that you can get your money back whatever the sales contract says.