Supreme Court of Canada Limits Gains-Based Claims in Proposed Class Actions

August 7, 2020

In a long-awaited development for class action practice, the Supreme Court of Canada in Atlantic Lottery Corp. Inc. v. Babstock (“Atlantic Lottery”) has held that waiver of tort and disgorgement are not independent causes of action.

For the past 16 years, plaintiffs in proposed class actions have often advanced waiver of tort or disgorgement claims for recovery of defendants’ gains from alleged wrongdoing. Plaintiffs have pursued these gains-based remedies primarily to avoid having to prove loss to class members, which would often require individualized inquiries that can disqualify a case from class action certification.

Given the legal uncertainty surrounding these doctrines, courts have been reluctant to find that gains-based claims disclosed no reasonable cause of action before or at the certification stage. The Supreme Court of Canada had the opportunity to resolve the confusion regarding waiver of tort in its 2013 decision in Pro‑Sys Consultants Ltd. v. Microsoft Corporation (“Microsoft”), but declined to do so.

The Ruling

In Atlantic Lottery, the Supreme Court held that waiver of tort and disgorgement are not independent causes of action that can relieve plaintiffs from having to prove damage to class members. In doing so, the Court emphasized the importance of disposing of hopeless claims at an early stage, regardless of whether those claims are “novel”. The decision does away with waiver of tort, and confirms the very limited availability of disgorgement and punitive damages in breach of contract cases.

Background: History of the proceeding

The plaintiffs sought to certify a class action against the defendant lottery corporation, alleging that video lottery terminals (“VLTs”) were inherently dangerous and deceptive. As an intentional strategy to increase the likelihood of certification, the plaintiffs pleaded that they were not advancing claims for injuries suffered by class members, but for the total gain realized by the defendant from VLTs, which would not require any individual inquiries. The plaintiffs relied on the following claims:

  • waiver of tort, a doctrine said to permit plaintiffs in tort cases to forgo (or “waive”) compensation for their losses and recover the gain made by the defendant instead, without proof of loss;
  • disgorgement of the defendant’s gains and punitive damages for breach of contract, and in particular, of an alleged implied term of the defendant’s contract with VLT users to provide safe games; and
  • unjust enrichment, on the basis that the defendant received a benefit at the expense of VLT users in the absence of any juristic reason.

The defendant brought an application to strike the plaintiffs’ claim on the basis that it disclosed no reasonable cause of action.

The Supreme Court of Newfoundland and Labrador dismissed the defendant’s application to strike and held that the plaintiffs had satisfied the requirements for certification.

The Newfoundland and Labrador Court of Appeal substantially upheld the certification judge’s conclusions. The defendant appealed this decision to the Supreme Court.

The Supreme Court’s Analysis

At the Supreme Court, a 5-4 majority struck all of the plaintiffs’ claims and denied certification. The majority held that a cause of action for waiver of tort does not exist and that the plaintiffs’ other claims were doomed to failure. The dissenting judges would have struck the claim for waiver of tort but upheld certification of the breach of contract and unjust enrichment claims.

Waiver of tort

The unanimous Court agreed that a cause of action for waiver of tort does not exist in Canadian law.

Justice Brown, writing for the majority, acknowledged that no Canadian authority had ever recognized waiver of tort as a cause of action, but that many class action certification decisions, including the Supreme Court in Microsoft, had declined to find that it did not exist. He indicated that it was appropriate to definitively resolve the issue for several reasons, including the need for a “culture shift” towards resolving disputes promptly, even where they may involve “novel” claims, and the need to resolve a state of legal uncertainty that was consuming court time and litigant resources.

Justice Brown held that the term “waiver of tort” is confusing and should be abandoned. He identified the plaintiffs’ claim as one of disgorgement for wrongdoing. While disgorgement is available for some forms of wrongdoing without proof of damage (e.g. breach of fiduciary duty), it is not available in response to negligent conduct, because causing damage to a plaintiff is what makes negligent conduct wrongful. Negligence “in the air” – the mere creation of risk – is not a wrong.

Justice Brown also noted practical difficulties in how an action in negligence without proof of damage would operate. The claim would entitle any plaintiff falling within the risk created by the defendant to recover all of the defendant’s gains. Justice Brown reiterated that “recovery in tort demands an explanation as to why the plaintiff is the party entitled to a remedy” and should not encourage “a race to recovery by awarding a windfall to the first plaintiff who arrives at the courthouse steps.”

Disgorgement and punitive damages for breach of contract

The majority struck the plaintiffs’ breach of contract claim on the basis that it could not support the remedies the plaintiffs were seeking, namely disgorgement and punitive damages.

Justice Brown noted that compensatory damages are the ordinary remedy for breach of contract, and that the orthodox legal position was that disgorgement of the defendants’ profits was not an available remedy. While courts have accepted that disgorgement may be available for breach of contract in certain exceptional circumstances, Brown J. indicated that, at a minimum, the plaintiff would have to have a legitimate interest in preventing the defendant’s profit-making activity that could not be vindicated by other remedies.

Justice Brown held that there was nothing exceptional about the alleged breach of contract that would warrant disgorgement of the defendant’s profits, as the plaintiffs’ claim was simply that they “paid to play a gambling game and did not get exactly what they paid for.” Furthermore, plaintiffs are not entitled to disgorgement merely because they are unwilling or lack evidence to prove loss.

Justice Brown reiterated that punitive damages for breach of contract are also exceptional and will only be awarded where there is an independent actionable wrong. While a breach of a duty of good faith can be an actionable wrong, not every contract imposes good faith obligations. As the alleged contract did not fit within any of the established good faith categories, the plaintiffs’ claim for punitive damages had no reasonable chance of success.

Unjust enrichment

The majority held that the plaintiffs’ unjust enrichment claim also had no reasonable chance of success. Justice Brown confirmed that unjust enrichment requires establishing that:

  • the defendant was enriched,
  • the plaintiffs suffered a corresponding deprivation; and
  • there was no juristic reason for the enrichment and corresponding deprivation.

In this case, the plaintiffs’ own pleadings alleged that there was a contract between the defendant and the plaintiffs under which the plaintiffs paid to play VLTs, and nothing in the pleadings could vitiate the alleged contract. A defendant that gets a benefit pursuant to a valid contract is justified (i.e. has a juristic reason) in retaining that benefit.

Implications

The Supreme Court’s decision has important takeaways for class action defendants.

First, Atlantic Lottery resolves the long-standing uncertainty regarding waiver of tort. Plaintiffs will no longer be able to plead waiver of tort in order to have claims certified without having to grapple with how they would prove harm on a class-wide basis. The decision also provides that disgorgement is not available in negligence cases. While Atlantic Lottery does not categorically foreclose claims for disgorgement for breach of contract, it sets stringent requirements for such potential claims.

Second, Atlantic Lottery shows a welcome willingness by the Court to dispose of legal issues at an early stage in a class proceeding. The majority decision acknowledges that leaving issues such as waiver of tort unresolved wastes court time and litigant resources, and “can and does result in certification to the detriment of the defendant, who is then practically compelled to pay a settlement to the plaintiff.” In addition to waiver of tort, the majority decision also engages with and disposes of claims for disgorgement, unjust enrichment, breach of duty of good faith, and punitive damages for breach of contract.

Going forward, Atlantic Lottery should signal to certification judges that close scrutiny of the pleadings in proposed class actions is appropriate and beneficial to the administration of justice.

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