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Hasta La Vista, Baby

Updated: Sep 24, 2020


Adjudication_Contract Termination
Don't terminate

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Can I terminate this contract?

Is the other party entitled to get out of this contract? These are questions commonly raised when the implementation of a commercial contract does not go to plan. This guide provides a summary of the legal options and remedies available for terminating contracts under English law. It also looks at another common question, namely whether an innocent party can escape a contract on the ground that something said during the pre-contractual negotiations turns out not to be true.


Terminology


First, it is worth clarifying the legal terminology used in this area.


Definitional difficulties and inconsistencies confound rights to "terminate" at common law. Strictly speaking, "termination" means that the contract is "discharged". In other words, the future, unaccrued obligations owed by the parties fall away. The contract does not cease to exist. Instead, upon the innocent party electing to treat his liabilities to perform as at an end, the primary obligations of the party in breach to perform the contract are replaced by secondary obligations to pay damages for the loss arising from the breach. References to termination in this guide are to termination in this strict sense.


"Rescission", on the other hand, refers to the retrospective avoidance of a voidable contract. Here the contractual rights and obligations remain in place until the innocent party opts to rescind the contract, at which point the rescission operates to render the contract a nullity.


Finally, in the following section, we use the term "repudiatory breach" in its broadest sense, to encompass all common law termination grounds, and not just one of the grounds – renunciation – to which some authors confine the expression.



In what circumstances can a contract be terminated?


Repudiatory breach of contract


Each of the following constitutes a repudiatory breach of contract justifying termination at common law:


1. a breach of condition (as opposed to warranty);


2. a sufficiently serious breach of an intermediate/innominate term; and


3. A refusal to perform, known as "renunciation".



Breach of condition

Not every breach of contract gives the innocent party the right to terminate. The innocent party will only be discharged from future performance of the contract if the term breached qualifies as a condition, i.e. a vital term. Provided the term is a condition, the innocent party will be entitled to terminate the contract, no matter how minor the consequences of the breach. A breach of warranty, on the other hand, does not absolve the affected party from future performance1, no matter how serious. The contract continues on foot, the parties remain obliged to perform their future obligations under the contract, and the only remedy for the breach is damages.2



Sufficiently serious breach of an intermediate/innominate term

A breach of an intermediate or innominate term, i.e. neither a condition nor a warranty, only justifies termination if the breach is sufficiently serious. It must "go to the root of the contract", "frustrate the commercial purpose" of the contract or "deprive the party not in default of substantially the whole benefit"3 of the contract. In every case, the Court will look at the nature and consequences of the breach to decide whether termination is justified.



Classification of terms


Deciding whether a term of a contract is a condition, warranty or intermediate term is not always straightforward. In some cases, statute may dictate or influence the classification. For example, certain provisions in the Sale of Goods Act 1979 specify whether certain terms should be regarded as conditions or warranties. The courts will also pay regard to the express terms of a contract: if the parties expressly identify a term as a condition or warranty, the courts will generally treat it as such. However, there are exceptions such as where statute provides otherwise or where, in the circumstances, the Court considers that the parties cannot have intended a breach of that term to result in automatic termination. In those cases, the courts usually construe the term as being intermediate and look to the surrounding circumstances to ascertain whether the breach is sufficiently serious to justify termination.4 As such, labels on their own may not guarantee that a term will be interpreted as being a condition or a warranty. If the parties intend any breach of a particular term to give rise to automatic termination, the contract should make that clear.



Repudiation and contractual time stipulations

Where time is of the essence in a contract, even a short delay can trigger a common law right to terminate for breach as the term is considered a condition of the contract.5 However, as a matter of English law, where a contract stipulates deadlines, time will not be treated as being "of the essence" unless one of the exceptions applies.6 Consequently, where a party defaults by failing to perform within a specified time, their default will not amount to a repudiation and the innocent party will not have a common law right to terminate.


There are three exceptions to the general position that time is not of the essence:


Express agreement where the parties have expressly agreed that time is of the essence. If the contract stipulates that the time fixed for performance must be strictly complied with or that time is of the essence, the time stipulation will be treated as a condition of the contract and any delay will be a repudiatory breach.7


Implication on the facts where the circumstances of the contract or the nature of the subject matter indicate that the stipulated time or date must be exactly complied with, and the parties intended even a slight default to lead to loss of the relevant right or a right to terminate.


Notice where a party (who is ready, willing and able to complete) has given notice to the party in default requiring completion in a reasonable time.8 The effect of the notice is not to make time of the essence but to entitle the party giving the notice to terminate if failure to comply with the terms of the notice goes to the root of the contract to deprive them of a substantial part of the benefit of the contract.9



Refusal to perform/renunciation


Where a party declares an unequivocal intention to abandon further performance of the contract, or an intention not to perform some essential aspect of the contract, the innocent party is entitled to treat himself as discharged from further performance. Not every declaration of non-performance is a repudiatory breach. Sometimes a party will refuse to perform some, rather than all, of its contractual obligations or indicates that it will only perform them in a particular manner. In determining whether the breach is repudiatory, the Court will consider whether the non-performance amounts to a breach of condition or deprives the innocent party of substantially the whole benefit of the contract (see below).

A declaration of non-performance can be either an express refusal to perform or it can be inferred from the party's conduct if he behaves in a manner which would lead a reasonable person to conclude that he has no intention of fulfilling his obligations.10 If a party threatens non-performance before the time fixed for performance, this is known as an anticipatory breach.

Election: accepting the repudiatory breach or affirming the contract

Termination is not automatic. The innocent party may elect either to accept the breach and treat the contract as discharged or to affirm the contract and press the party in breach to perform.11 A party cannot affirm a contract following a repudiatory breach unless he has a full understanding of the facts leading to that breach12 and is aware of the right that he has to choose between acceptance and affirmation.13


The law does not lay down a particular period in which the election must be made.14 However, the innocent party must not do anything to jeopardise the right of election, either by waiting too long to decide how to respond,15 or by losing the right of election by inconsistent conduct. In practice this area can be fraught with difficulty because, while the innocent party is deciding how to treat the contract, he risks taking a step which constitutes an election to affirm it and, once an affirmation has been made, it cannot be revoked.16



Contractual termination


Commercial contracts often contain express termination clauses which provide for termination in certain specified circumstances, including for breaches other than repudiatory breaches. Some contractual termination clauses work by expressly classifying terms as conditions or warranties to make clear those circumstances in which the contract can be brought to an end and those which only give a right to claim damages. Some contractual provisions attempt to give rights to terminate for "material" or "substantial" breaches, for "any" breaches (however minor) or for repeated breaches.


Contractual termination rights will operate in addition to common law rights to terminate unless the latter is expressly (or impliedly) excluded17 by providing that the contract may only be terminated by exercising the contractual rights. Termination clauses require careful drafting and regard must be had to how the courts approach such provisions.


However, electing to terminate a contract based on a contractual termination right can preclude a common law claim for future loss of bargain as a result of a repudiatory breach (see below). Serious consideration needs to be given whenever a party is exercising contractual termination rights.


Damages for breach of contract


Deciding whether you have a right to terminate a contract and how to bring about that termination can be difficult. The compensation that can be claimed by way of damages can vary depending on which termination rights are exercised.

Damages for repudiatory breach are assessed according to normal principles,meaning that the innocent party is, as far as possible, put in the position in which it would have been if the contract had been properly performed, subject to the usual rules on causation, foreseeability and mitigation.

At common law, in addition to claiming recompense for losses resulting from the breach or breaches prior to the termination, an innocent party accepting a repudiatory breach of contract is entitled to claim "loss of bargain" damages (an amount to compensate for the lost opportunity to receive future performance of the contract).18


Contractual provisions may entitle a party to terminate where the breach in question does not amount to a repudiatory breach at common law. However, in this situation, it may not be possible to recover "loss of bargain" damages. Where the breach is not also repudiatory at common law, damages will usually be limited to loss suffered up to the date of termination unless the contract expressly provides otherwise. The difference can be considerable.

Where a party has both common law and contractual rights to terminate, but elects to terminate using a contractual termination entitlement rather than alleging repudiatory breach, it will be prevented from claiming loss of future bargain damages.19


An innocent party who instead decides to affirm the contract, rather than terminating, can claim damages in the usual way for loss suffered as a result of the breach or breaches.





Some practical issues when facing the decision to terminate


Should you terminate?


Before terminating a contract, consider whether the relationship is to end or whether it should continue with the contract but reserve the right to claim damages for any breach. Renegotiate the contract. If you decide to terminate, you should also check whether there is a prescribed dispute resolution procedure to reach a solution and whether the party in default has a contractual right to remedy the breach within a certain period.


Although an election to terminate need not be made immediately, you should be careful not to take too long or engage in conduct which could be seen as an affirmation of the contract. Take care to qualify any correspondence with appropriate reservations of rights when engaging in further business related conduct. Once communicated, an election to terminate cannot be withdrawn without the other party's consent. If a contract is terminated but the parties proceed for a time on "business as usual" terms, a new or supplementary contract might be created, potentially on the same terms as previously, which could be a commercially undesirable outcome.


Choosing between a contractual and common law right to terminate

The decision to terminate, and how to communicate that decision, can become more complicated where a party has both contractual and common law rights to terminate. The consequences of this choice can be significant. If a contracting party wants to be in a position to claim loss of bargain damages, the notice of termination should make it clear that i