Termination of a contract can be a complex issue, and it is important to understand the implications of different types of termination. In this article, we will explore some of the key issues surrounding termination, including implied terms, notice periods, automatic termination on insolvency, termination for financial distress, and force majeure.
English common law implies a right into a contract that an ‘innocent’ party can terminate the contract where the other ‘guilty’ party has committed a sufficiently serious breach of its obligations that it affects the very substance of the contract. This is often referred to as a breach which goes to the ‘root of the contract’. However, it is possible to exclude the common law right to terminate the contract, but this must be expressly stated in the contract. In many supply contracts, the parties may simply be in a buy-sell relationship where the buyer places an order and the supplier sells the product for which it is paid for. This type of one-off buy-sell transaction may continue over several years, but under English law, the buyer is not required to give any notice to terminate, it can simply stop placing future orders.
If a contract does not include a notice period to terminate a contract, the reasonable notice period will depend on a number of circumstances at the time of termination. Factors to be considered include the duration of the relationship, the degree of financial dependence of the terminated party on the terminating party, the time the terminated party requires to replace the lost business, and any capital investments made by the terminated party as part of the relationship. There is no equivalent rule for fixed-term contracts, as where it is clear that the parties intended the contract to be for a fixed term, the courts will often give effect to this intention.
Automatic Termination on Insolvency
Under English law, there is no common law right to terminate a commercial contract on the insolvency of the other party. Similarly, no person may be excused from the performance of its obligations under the contract simply as a result of financial difficulty. To avoid this situation, parties will often include an express term in the agreement which permits either party to terminate on the insolvency of the other party.
Termination for Financial Distress
There are no general common law restrictions on terminating a contract if the other party is in financial distress. This situation will be governed by the provisions of the contract, and a party will be permitted to terminate for financial distress if this is provided for in the contract. However, there are statutory exceptions. As set out in the Insolvency Act 1986, amended by the Insolvency (Protection of Essential Supplies) Order 2015, a supplier supplying essential services to a company is prohibited from terminating a contract for financial distress. ‘Essential services’ include electricity, gas, water, telecommunications services, and IT services.
In addition, in response to the COVID-19 pandemic, the UK government enacted the Corporate Insolvency and Governance Act 2020, which introduced a number of temporary and permanent measures for distressed parties. Most notably, there is a prohibition on the use of termination clauses in contracts for the supply of goods or services (or both), where suppliers will be prevented from terminating a contract or supply because the customer has entered a relevant insolvency procedure, or for breaches by the customer that occurred prior to the relevant insolvency procedure. However, suppliers can still terminate the contract with the customer for new breaches that happen after the insolvency procedure begins, with the permission of the insolvency office holder or directors (depending on which insolvency procedure the customer is in), or with the permission of the court provided the court is satisfied that continuation of the contract would cause the supplier hardship.
Force Majeure is recognised under English law and it is often defined to include events such as fire, flood, war, terrorism, and natural disasters. The consequences of a force majeure event will depend on the terms of the contract. It is common for force majeure clauses to provide for suspension of performance or termination of the contract if the force majeure event continues for a specified period of time. The affected party may also be excused from liability for non-performance during the period of the force majeure event.
It is important to note that the mere occurrence of a force majeure event does not automatically excuse a party from its contractual obligations. The party seeking to rely on the force majeure clause will need to show that the event was beyond its reasonable control and that it has taken all reasonable steps to mitigate the impact of the event on its performance of the contract.
In conclusion, terminating a contract in the UK can be a complicated process, and it is crucial to understand the implications of different types of termination. From implied terms and notice periods to automatic termination on insolvency, termination for financial distress, and force majeure, each type of termination carries its own set of rules and regulations. As we have seen in this article, parties must be careful to ensure that their contracts are properly drafted and clearly express their intentions in relation to termination.
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