It is a feature of commercial life that from time to time, businesses will need to end contracts early. To that end most commercial contracts contain provisions allowing one party to terminate the contract by giving written notice to the other. It is critical that the terminating party follows these provisions strictly. Even apparently minor defects in the termination process can result in a damages claim against you.
This article considers the position of a party wishing to terminate a contract that requires service of a written notice. Those receiving a termination notice should check carefully whether their counter party has followed these steps.
Is termination the right option?
Depending on your particular circumstances there could be a wealth of commercial reasons why you want to terminate a contract – and these will be perfectly valid. However, while termination may be an option it may not be your best option.
For example, if you believe the other party is in breach of contract this may give you a right to terminate (depending on the contract terms). If so, you may be better served by suing for damages instead. If the breach is a serious one you may be able to treat it as a repudiation of the contract, allowing you to rescind the contract (effectively terminating it) and sue for damages as well.
Which course of action is the right one for you will depend on both commercial and legal considerations – you should seek advice from a litigation lawyer to make sure you have considered all the options.
Are you ready to terminate?
Terminating a contract has obvious practical implications. For example, if you are planning to terminate a supply contract on immediate notice, do you have a replacement supplier lined up to ensure there is no interruption to your business? Are there any provisions in the contract which require you to perform certain steps after the contract is terminated (such as assisting with transition to a new supplier) and, if so, are you in a position to comply with them?
Similarly, has the rest of the business ‘got the memo’ on the termination and are ready to cease action? A valid termination notice could be undone if your OPs teams continue to behave as though the contract has not been terminated – e.g. by turning up to deliver goods the next day or by issuing POs for fresh orders.
Has the right to terminate arisen?
This will depend on the terms of your contact, but typically commercial contracts provide that a party will have a right to terminate that is triggered by certain events.
Some of the triggers will be straightforward. For example, the contract may provide that a party can terminate on 12 months’ written notice for any reason whatsoever – i.e. a party can terminate whenever they want – and electing to use this right is straightforward (subject to getting the notice right).
However, the contract may provide that the right to terminate is triggered by the happening of an external event – e.g. the price of certain raw materials exceeding a certain point. Ascertaining that the relevant events have occurred should be relatively straightforward, but it is important that you create a paper trail to prove that the events did happen when you say they did. If the counter party challenges the attempted termination, the terminating party will be required to prove that it had the right to terminate.
Trickier still are clauses which allow a party to terminate based on subjective matters (although these clauses are less common). For example, where the party “believes that the relationship has irreparably broken down” or where the party “believes that it needs to terminate the agreement in order to protect its own interests”.
It is possible that a Court would interpret this type of clause as requiring that the party “reasonably” held the relevant belief and that the party was not using the clause in bad faith. Therefore, it is essential that the terminating party creates a paper trail to demonstrate: (i) that it actually held the belief; and (ii) what its reasons are for holding it.
A party should seek input from a lawyer when creating such a document so that steps can be taken to preserve rights to privilege.
Drafting the termination notice
When drafting the notice you must check the whole contract – often there will be ‘notice’ provisions that stipulate exactly how a notice needs to be drafted and where it should be sent.
Some contracts specify that termination notices must contain certain information or be in a certain form. For example, that express reference must be made to the termination provision relied on, or that the party provides reasonable detail of the reasons why it is terminating. While these provisions may seem of minor importance, it is critical that they are complied with – even where the requirements appear superfluous.
The Courts can require strict adherence to the notice provisions of the contract. Lord Hoffman (in the House of Lords) once famously said “…if the clause had said that the notice had to be on blue paper, it would have been no good serving a notice on pink paper, however clear it might have been that the tenant wanted to terminate the lease.”
Serving the termination notice
The contract’s notice provisions may provide that notice can only be validly served at a specific postal address, email address and/or fax number. Where that is the case, it is essential that you follow the relevant provisions or the notice may not be validly served and, therefore, be rendered ineffective.
This may require some careful due diligence before you send the notice, especially if the contract has been varied or novated as the party you are dealing with now may have a different address to the one stated in the contract. Similarly, some contracts permit parties to change their address for service of notices by providing a notice of change – you should check to see if you have received any.
Where there is any doubt as to the correct address for service you may want to serve the notice at multiple addresses in order to cover your bases. However, this could put you at risk of breaching the contract’s confidentiality provisions if you send a notice to an address that is now occupied by a different business. You should consider your position carefully before pursuing this course of action.
What happens if you get it wrong?
If your attempted termination does not comply with the contract’s requirements, your counter party may simply ignore it and continue to perform under the contract. In that situation you will need to re-attempt service of a non-defective notice.
More likely your counter party could treat your attempted, but failed, termination as a repudiatory breach of contract by you and then serve a notice on you accepting the repudiation. This will effectively terminate the agreement immediately but the counter party will then be in a position to sue you for ‘loss of bargain’ – i.e. damages representing what they would have obtained under the contract had it stayed in force. In a large contract with a substantial term still to run this could be a large sum of money.
While such an outcome may seem an extreme consequence of what may seem inconsequential errors in a termination notice, it is a very real risk.
Parties intending to terminate a contract should plan for it carefully and seek appropriate legal advice in order to minimise the risk of making a wrongful termination.