Where one company in a group procures goods or services on which other members of the corporate group depend, or from which they benefit, can the contracting company recover losses sustained by its related or affiliated companies as a result of breaches of contract by the seller of the relevant goods or the provider of the relevant services? This is a question that the courts have seldom had to look at but which arises frequently in practice.

Outside the provisions of the Contracts (Rights of Third Parties) Act 1999, (under which a contract may expressly confer rights on a third party, for which the third party can bring a freestanding claim) exceptions to the rules of privity of contract are narrow, yet relatively ill defined. One such exception is the concept of "transferred loss". The principle arose in the context of contracts for the international carriage of goods by sea, but was developed by a series of House of Lords decisions in the latter part of the 20th century concerning defective building work: a developer would contract with a construction company to build, intending that the building would be sold on to others who would suffer any loss arising from construction defects. The principle of "transferred loss" developed to provide such third parties with a remedy where none would otherwise exist, because the party entitled to sue had, strictly speaking, suffered no loss.

Transferred loss – restatement of the principle

A recent decision of the Court of Appeal is a useful application of the principle – a  little-understood but practically significant area of law. In BV Nederlandse Industrie Van Eiprodukten v Rembrandt Enterprises, inc [2019] EWCA Civ 596, the Court of Appeal recognised the principle and  commented on its scope, confirming that a party to a contract may only claim for a third party’s losses resulting from a breach, if at the time the underlying contract was made there was a common intention to benefit the third party (or a class of persons to which the third party belonged).

Background to the Rembrandt decision

The defendant (“Rembrandt”) was a supplier of egg products in the US. It entered into a contract with the claimant (“NIVE”), a Dutch supplier of egg products, to buy quantities of egg product necessary to make up a shortfall in its requirement which had arisen as a result of an avian flu outbreak in the US. The contract was governed by English law. Shipments began in September 2015 but, later that month, NIVE informed Rembrandt that some of the egg products (approximately 50%) would be supplied by Henningsen van den Burg (“Henningsen”), a sister company to NIVE. Henningsen and Rembrandt were to deal directly with invoicing and payment for the Henningsen product.

The relationship between the parties broke down, ostensibly on the basis that NIVE had failed to comply with US inspection requirements. Rembrandt suspended its performance of the contract. NIVE brought proceedings against Rembrandt for loss of profit on the total amount to be supplied, including in respect of the Henningsen product.

Court of Appeal decision

At first instance, Teare J held that NIVE could only claim for its own loss and not for loss suffered by Henningsen. The Court of Appeal (Longmore, Peter Jackson and Coulson LJJ) dismissed the appeal. Coulson LJ gave the Court's judgment in relation to the "transferred loss" issue. He engaged in a careful discussion of the relevant authorities, from which he said it was clear that the "transferred loss" principle was an exception to the general rule that a claimant can recover only loss which they have themselves suffered. It had filled a lacuna in the law. It should therefore be narrowly construed: it is a critical component of a claim for transferred loss that, at the time of entering into the relevant contract, there was a common intention and/or a known object to benefit the third party or a class of persons to which the third party belonged.

Practical implications

A number of questions remain as to the means by which one company in a corporate group may recover losses suffered by affiliated companies as damages for breach of contract. The principle of "transferred loss" provides some assistance, but as it requires the parties to the contract to make clear that they envisage and intend that group companies will benefit from the performance of the contract, the contract should provide for this expressly. 

Although the effectiveness of a clause expanding the right of recovery beyond that which is currently permitted by the principle is untested, a carefully drafted contractual scheme is more likely than not to be enforceable, and is therefore, the safest way for contracting parties to ensure that their expectations are met.

As explained by the Court of Appeal in Rembrandt, the "transferred loss" principle seems conceptually straightforward. However, a number of practical questions remain as to the scope and application of the principle, largely as a result of the paucity of modern authority in which the principle has successfully been invoked:

• Does the claimant recover as if the loss were his own, or on behalf of the third party?
• To what types of contract and to what types of loss does the principle apply?
• What about express contractual terms providing for recovery of losses suffered by third parties?

We look at each of these issues in a longer article to be published shortly. Once it's available we will link to it here.