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Andrew Denny, Partner and Richard Farnhill, Senior Associate Allen & Overy LLP How do we get out of this? Terminating contracts in a time of financial crisis.
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LT:3995898 The three regimes Common law: repudiatory breaches Conditions precedent The termination provisions in your contract
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LT:3995898 Common law Some myths You can always terminate for breach If you do not terminate for breach, you cannot recover damages, either Damages for breach are always calculated the same way
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LT:3995898 Common law Two separate issues Breach Failure to perform a term or terms of the contract Remedy – damages for losses caused by breach of the clause or clauses Repudiation Manifesting an intention not to be bound Remedy – option to terminate prospectively and claim damages for loss of the contract “Anticipatory breach” is not a case of breach at all but, rather, of repudiation
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LT:3995898 Common law The risk of wrongful termination Wrongful termination is, itself, a repudiatory breach For example A has a loan facility with B Bank B Bank is in difficulty and it seems certain that it will be unable to transfer funds on time Bridging finance will cost A £1m A replacement facility will cost A £15m B Bank’s profit on the facility is £20m If A sues on the breach alone he recovers £1m If A terminates with cause he recovers £15m If A terminates wrongfully, B Bank can sue for £19m
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LT:3995898 Common law The first step – classification of terms Condition Warranty Innominate terms The types of repudiatory breach Breach of condition Serious breach of innominate terms Repeated other breaches in exceptional cases
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LT:3995898 Conditions precedent Different regime Specified obligations do not take effect Generally, no damages
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LT:3995898 Termination Provisions Two types of express termination clauses: a)Failed performance (“Events of Default”) b)Circumstantial events (“Termination Events”)
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LT:3995898 Termination Provisions a) Express provisions for failure to perform ISDA Master Agreement 2002 Clause 5(a) defines an “Event of Default”, e.g. “failure to pay or deliver” Clause 6 states what happens if an Event of Default occurs – right to specify Early Termination Date
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LT:3995898 Termination Provisions Frequently asked questions Do I have to give notice or can I terminate immediately? Can I terminate for breach even if the breach is trivial? What is a “material” or a “substantial” breach? Can I still claim damages if I terminate?
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LT:3995898 Termination Provisions Do I have to give notice before terminating? Will depend on wording of contract Generally: Notice often not required if breach cannot be remedied If can be fixed, usually have to give chance to do so – failure to rectify following notice adds to seriousness of breach
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LT:3995898 Termination Provisions Can I terminate for breach even if the breach is trivial? Garden Guardian case: a cautionary tale Court rejected argument that “any breach” could cause the right of termination to arise Alan Auld Associates: repeated minor breaches can be repudiatory if they deprive the innocent party of substantially the whole benefit of the contract
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LT:3995898 Termination Provisions What about contractual freedom? c.f. ISDA 2002 Master: Clause 5(a)(i) – failure to pay or deliver Clause 5(a)(ii)(1) – failure to comply with “any agreement or obligation”
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LT:3995898 Termination Provisions What is a “material” breach? Not the same as a repudiatory breach National Power – remediable breach likely to have serious effect on counterparty if not rectified Dalkia Utilities – look at nature of breach – failure to pay three monthly instalments (out of 173) in a row was material Why does “any breach” have to be a repudiatory breach while a “material breach” does not?
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LT:3995898 Termination Provisions What is a “substantial” breach? Crane Co v Wittemborg – essentially the same as repudiatory breach So why is “substantial” any different from “material”? Anticipatory breach was not a breach for the purpose of this clause
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LT:3995898 Termination Provisions Can I still claim damages if I terminate? Yes – but limited if breach is not also repudiatory: Will recover loss suffered to date Won’t get “loss of bargain” damages unless contract specifically provides for it
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LT:3995898 Termination Provisions b) Contractual provisions for circumstantial events ISDA Master Agreement 2002, Clause 5(b) defines “Termination Events”, e.g. illegality Clause 6 sets out consequences - may give only one party the right to terminate e.g. party who is not the Affected Party (if only one Affected Party)
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LT:3995898 Termination Provisions Would market turmoil constitute a “material adverse change”? Check drafting MAC clauses narrowly construed – WPP v Tempus Reliance on a MAC clause can be perceived by the market as a sign of weakness Alternatives: Specify events / economic indicators / target performance to constitute a MAC Texas Pacific Group relied on a termination right connected to Bradford & Bingley’s debt ratings to walk away from proposed £179m investment
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LT:3995898 Termination Provisions Drafting express termination clauses Be specific re: Breaches for which a party can terminate What is meant by terms such as “material”, “substantial”, or “material adverse change” Steps that are required to terminate (e.g. notice) Consequences of termination e.g. damages for loss of bargain?
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LT:3995898 Conclusions Important points Clearest to rely on an express termination clause, but take care if you wish to preserve the full benefit of the contract damages Keep in mind difference between breach of a condition and condition precedent Keep in mind the difference between breach and repudiation For repeated small breaches, consider the cumulative position
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