By Jennifer Taylor & Marina Luro

A recent Supreme Court of Canada decision has clarified how to interpret exclusion clauses in sale of goods contracts. The Court in Earthco Soil Mixtures Inc. v Pine Valley Enterprises Inc. held that technical or legalistic “magic words” are not required to enable a party to contract out of liability under the Sale of Goods Act (“SGA”). Instead, the Court, in majority reasons written by Justice Martin, adopted a common-sense approach that prioritizes the parties’ intentions and respects how they’ve chosen to allocate risk.^[1]

In doing so, the Court also confirmed that the general principles of contract interpretation from Sattva Capital Corp. v Creston Moly Corp., along with the specific principles from Tercon Contractors Ltd. v British Columbia (Transportation and Highways) for interpreting exclusion clauses, apply to contracts for the sale of goods.

This article will summarize the background of the case and the SGA provisions at issue, and then list the key points about contract interpretation arising from Earthco.

Background

The City of Toronto hired Pine Valley for a remediation project to address flooding in a residential area. The project involved replacing existing topsoil with a more porous topsoil to allow for better water drainage. The project was extended several times until the City set a final deadline, after which any delays would result in Pine Valley having to pay liquidated damages to the City.

Pine Valley reached out to Earthco, a topsoil provider, and requested samples with a specific composition suitable to the project. Earthco gave Pine Valley lab reports on three soil samples (which were six weeks old). A City Consultant reviewed the reports and helped determine what soil mixtures would be acceptable. Because the samples were dated by this point, Earthco informed Pine Valley that further testing would be required to verify the composition.

However, Pine Valley needed the topsoil urgently, with the deadline for project completion fast approaching. As a result, Pine Valley declined to do further testing in favour of immediate delivery — despite Earthco’s warning. Earthco inserted two “bespoke” clauses into its contract with Pine Valley:

6) [Pine Valley] has the right to test and approve the material at its own expense at our facility before it is shipped and placed. […]

7) If [Pine Valley] waives its right to test and approve the material before it is shipped, Earthco Soils Inc. will not be responsible for the quality of the material once it leaves our facility.

The soil that was delivered contained more clay than the initial testing had indicated, which resulted in water pooling. Pine Valley had to replace the topsoil and pay liquidated damages to the City. Pine Valley then sued Earthco for breach of contract, seeking $700,000 in damages.

The Ontario Superior Court of Justice found that the additional clauses clearly excluded Earthco’s liability under SGA, such that Earthco would not be liable for issues related to soil composition given that Pine Valley declined to do further testing. The Ontario Court of Appeal reversed this decision, finding that the language was not express or direct enough to oust Earthco’s liability. Earthco appealed to the Supreme Court of Canada.

SGA provisions

Where goods are being sold by description, the SGA presumptively implies a condition into the agreement stipulating that the goods will match their description.^[2] This was the implied condition at issue in Earthco: Pine Valley was claiming that the soil did not correspond to Earthco’s description.

The SGA also permits parties to “contract out of certain provisions” as Justice Martin explained, citing the Ontario provision:^[3]

Section 53 is clear, expansive, and lies at the core of the case at bar:

Where any right, duty or liability would arise under a contract of sale by implication of law, it may be negatived or varied by express agreement or by the course of dealing between the parties, or by usage, if the usage is such as to bind both parties to the contract.

A similar provision appears in all of the common law provincial and territorial equivalents of the SGA […]

Key points for interpreting exclusion clauses in sale of goods contracts

The Court outlined several principles for determining what language will suffice to modify the obligations that would otherwise be imposed under the SGA. To summarize:

• Tercon and Sattva apply: Earthco confirms that the three-part “Tercon test” for determining the “enforceability of an exclusion clause” applies in the SGA^[4] Under this test, exclusion clauses are to be given effect where the parties so intend (unless the clause is unconscionable or otherwise contrary to public policy).^[5] Earthco also confirms that a court conducting this interpretive exercise must examine the “surrounding circumstances” of the contract, in accordance with Sattva.
• Precise language is preferred: The “gold standard” is for the clause to be drafted in a way that “clearly and directly” ousts the SGA protection at issue.^[6]
• …but explicit SGA references are not necessary: However, to effectively exclude liability under the SGA, a clause doesn’t have to specifically refer to the Act.^[7] Nor does it have to use specific legal terms like “condition.”^[8] In short: no “magic words” are required.^[9]
• Overall, the approach is flexible: The court’s “interpretive approach must be flexible enough to account for the parties’ varying commercial circumstances”;^[10] “varying degrees of knowledge and sophistication”;^[11] and different choices regarding risk allocation.^[12] An agreement “capable of satisfying” section 53 (and equivalent provisions) might look different depending on the parties and their circumstances.^[13]

Conclusion

The issue in Earthco was whether the additional clauses in the parties’ contract were effective to exclude Earthco’s liability, even though the parties “did not explicitly mention statutorily imposed conditions or terms.”^[14]

The majority said yes: the clauses were effective, such that Earthco had “no liability to Pine Valley.”^[15] The clauses used “simple language and were the product of their individual conversations and negotiations”, reflecting “their agreed upon allocation of contractual risk”^[16] given Pine Valley’s urgent rush to obtain the soil.^[17]

Earthco confirms that an exclusion clause in a sale of goods contract does not have to contain particular “magic words” or rigid requirements to oust an implied statutory condition. Clear language should be employed as good practice—and it’s still the “gold standard” for the parties to cite the SGA provisions at issue — but the absence of specific words will not override an otherwise clear agreement. Except for situations involving unconscionability or public policy concerns, the parties’ intentions should be respected.

This client update is provided for general information only and does not constitute legal advice. If you have any questions about the above, please contact the authors, or a member of our Commercial Transactions/Agreements Group or Litigation & Alternative Dispute Resolution Group.

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[1] Justice Côté dissented.
[2] See section 14 of the Ontario SGA, and section 16 of the Nova Scotia SGA.
[3] See section 53 of the Ontario SGA, and section 56 of the Nova Scotia SGA. These provisions allow parties to contract out of obligations by “conduct or usage” as well as by words (see e.g. para 53 of Earthco).
[4] At para 70.
[5] At paras 70-72, citing Tercon and Sattva. See also paras 94 and 97.
[6] At para 75.
[7] At para 55.
[8] At paras 48 and 81.
[9] At para 98.
[10] At para 32.
[11] At para 34.
[12] At paras 41, 61, 78.
[13] At para 31.
[14] At para 19.
[15] At para 3.
[16] At para 102. See also para 103.
[17] At para 108.