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Collateral Warranties, Negligent Misstatement, and recent case law

Cathrine Ripley in our Commercial & Technology team, explains collateral warranties in a commercial context and a recent development in case-law.

A collateral warranty is a promise or assertion given by a third party which is ancillary to the main contract.

Collateral warranties are a well established concept in construction projects.  For example, a building contractor might give a collateral warranty to the bank providing funding to the employer under the building contract – the main contract is between the employer and the building contractor but the bank gets a collateral warranty from the contractor.  Here, the collateral warranty will typically be given after the building contract has been entered into.

In other situations, a collateral warranty might be entered into at the same time as the main contract and may be a requirement for the main contract going ahead, or it may influence a party to enter into the main contract.  For example, a seller might make statements about a product to persuade a buyer to enter into a hire-purchase or leasing contract with a finance company.

Often in cases relating to breach of a collateral warranty, an alternative course of action is to claim for negligent misstatement – i.e. the claimant would look to show that the defendant owed a duty of care to the claimant when making a statement and that, as a result of breaching that duty, the defendant has caused financial loss to the claimant.

In New York Laser Clinic Ltd. v. Naturastudios Ltd. [2019] EWHC 2892 the High Court found that damages for loss of profits can be recovered when claiming for breach of a collateral warranty.  In this case, the defendant was a marketer of laser hair-removal machines.  The claimant had purchased some defective lasers by hire purchase, and in so doing had entered into a contract with the hire purchase company rather than with the defendant.  The claimant therefore sought to rely on breach of collateral warranty, or alternatively negligent misstatement, in order to sue the defendant.

Both claims were successful.  Mr Justice Cavanagh awarded damages, which included loss of profits for breach of the collateral warranty.  There were no damages for negligent misstatement, even though the claim was successful, because they were subsumed into the collateral warranty claim.

The judge set out the requirements for a successful claim for breach of a collateral warranty claim, as follows:

  • the warranty must be given prior to the main contract;
  • the warranty must be intended to have contractual force;
  • there must be consideration;
  • the main contract must have been entered into in reliance on the warranty;
  • the warranty must be inaccurate;
  • there must be financial loss;
  • there must be no relevant exclusion clauses.

He then found that the damages could be “calculated by reference to loss of profit, or to losses incurred by entering into the contract, whichever is the higher,” if the claim was about quality or performance.  He contrasted the case with a situation where a price-estimate was simply given – in the latter case, only losses incurred by entering into the contract could be used to calculate damages.

The decision is a useful summary of the law on collateral warranties and confirms that, in certain cases, damages for loss of profits are available where there has been a breach.  It also serves as a reminder of the risk of making statements designed to induce someone to contract with a third party.

If you would like advice about any of the issues raised in this article, please do not hesitate to contact our Commercial Technology team.