Terminating a contract can be a legal minefield and can often become the subject of a dispute. This note summaries some of the key considerations that should be made before steps are taken to terminate a contract.   

Are there grounds to terminate the contract?

It is important to determine the grounds on which you have a right to terminate any contract. Generally, termination rights fall into two distinct categories: (i) contractual termination rights and (ii) common law termination rights.

Contractual Termination Rights

A contract may expressly provide for a party’s termination rights.

The basis for termination and steps to be taken under any such contractual  provisions will be a matter of interpretation of that specific clause.

Common provisions include:-

• Termination upon expiry of a prescribed notice period: it is essential that any notice of termination is provided in accordance with the requirements of the termination provision and that adequate notice is provided.
• Termination as a result of breach: provisions of this nature can take various forms and common provisions include termination for ‘material’ or ‘serious’ breach or multiple breaches. Whether the right to terminate has been triggered by the act(s) or omission(s) complained of can often become the subject of a dispute. What constitutes a ‘material’ or ‘serious’ breach is matter specific and will be an issue of interpretation taking into account the contract as a whole and the relevant facts of the case.
• Force majeure: a force majeure clause usually provides for termination if certain, unforeseeable events occur that prevent or delay a party from performing the contract. The scope of any force majeure clause will be subject to the specific drafting of each contract.
• Insolvency: contracts will often provide for the right of termination in the event of a party becoming insolvent.

Common Law Termination Rights  

• Repudiatory breach: a repudiatory breach is a breach that is so serious it goes to the heart of the contract and essentially deprives the innocent party of the benefit of the contract. Where such as a breach as occurred, the innocent party has the right to elect whether to terminate the contract or to affirm it and to claim damages. Whether an act or omission constitutes a repudiatory breach can often be a contentious issue and wrongfully terminating a contract without sufficient basis, can itself by a repudiatory breach.
• Reasonable notice: where a contract does not provide any express provisions on termination, generally it can be terminated on reasonable notice (although there are some exceptions). What is considered reasonable, is to be determined on the facts at the time notice is provided.  
• End of term of contract: generally where a contract has been put in place for a specific period of time the contract will automatically expire after the time period has run its course unless the contract provides for automatic renewal or the parties agree to extend the term.
• Frustration: an unforeseen event that prevents one or more of the parties from performing the contract can give rise to an entitlement to terminate. The  law of frustration is complex and the ‘doctrine of frustration’ only operates in very specific, narrow circumstances.

When can you terminate a contract?

There is no standard timeframe for termination of a contract.

Contractual termination rights will often specify a deadline for termination and in such cases, these deadlines are often strict and if not met, a party can lose its right to terminate. It is important to consider the wording of any express termination clause.

Common law rights of termination usually allow a party a reasonable period to terminate and what is ‘reasonable’ will be determined on the facts. However, a party needs to be cautious that it does not inadvertently affirm the contract, or lose its right to terminate, due to delay and/or its continuing performance of the contract. Therefore, in reality, when matters which could lead to termination arise, it is important that a party acts quickly to investigate its position.  

Some contracts will include dispute resolution provisions which provide an escalatory mechanism for resolving disagreements relating to the contract. In some cases these must be complied with before termiatnion can take effect.

What steps need to be taken to terminate?

Whether a party is terminating in accordance with its contractual or common law rights, it will generally be required to give notice of termination. This will usually specify the grounds for termination and the effective date of termination.

The contract may specify the procedure to be followed, this could include provisions on delivery, form of notice, or the length of any notice, and such terms must be complied with strictly, or the notice could be rendered ineffective.  

What are the implications of terminating a contract?

Termination brings a contract to an end and releases the parties from their continuing obligations. Generally, rights that have accrued at the date of termination are enforceable, for example the right to be paid for services rendered under the contract.

However, there are terms that can survive termination and these will usually be expressly provided for in a written contract. Examples often include confidentiality provisions, return of property, intellectual property provisions and dispute resolution clauses.

Can damages be claimed on termination?

An innocent party’s entitlement to damages, derives from the defaulting party’s breach of the contract.

The contractual measure damages provides for an innocent party to be put into the position it would have been had the contract been performed.

The extent to which damages can be claimed will often be dictated by the contract and any exclusion or limitation clauses that have been agreed by the parties. In the absence of any such clauses, a party may be able to claim both direct and indirect losses. 

What commercial considerations that need to be factored into a decision to terminate?

Termination will undoubtedly have commercial impacts for any business. It is important that these are considered before any termination notice is served. Whether termination is a commercially practical decision, will depend on the business in question and the extent to which projects, deadlines and internal and external stakeholder relationships will be impacted by termination.

It is advisable to prepare for termination for example sourcing an alternative supplier/customer and by ensuring that a uniform approach is taken across a business, so that a decision to terminate is upheld and not inadvertently undermined, and the contract affirmed, by one part of the business continuing to act in accordance with the contract.

In some circumstances, it may be advantageous for a business to look at alternative solutions such as suspension, re-negotiation of terms or alternative dispute resolution.