How Contracts Terminate
There are 4 main ways contracts terminate or can be terminated (there is a difference):
- by performance: The contract runs its course, and the contract is performed
- by agreement: The parties agree to end the contract by agreement, with another contract
- by breach of contract: The innocent party has a right of termination for breach of contract, when party does not deliver what was promised and is in repudiatory breach, or another agreed standard of breach
- by the law of frustration: the underlying circumstances of contract change, which material alter the performance requirements of the contract
They're only the general grounds in law that are available in all contracts: they can be qualified or excluded by the agreement itself.
More on that further down.
Termination vs Rescission
Focusing on outcomes for a moment.
Labels of legal terms is important in law. Using the same label for the same thing means less room for confusion.
Termination as a Remedy
Termination of a contract assumes that there is a contract in force.
It ends an existing contract.
Rescission as a Remedy
The remedy of rescission is fundamentally different to termination of a contract.
To rescind a contact is not to terminate a contract.
Rescission is a legal remedy, like termination. When it is available as a remedy, it unravels the entire contract. That is, renders a contract null and void - as though it never existed in the first place.
Misrepresentation and Mistake
There are a series of causes of action where rescission is available as a remedy. That's when contracts are made by two parties, and of the parties has relied on:
- a misrepresentation of fact (a false statement) made by other parties, and/or
- a fundamental mistake of understanding by one of the parties,
to enter the contract. There are other grounds for rescission.
Misrepresentations and mistakes can effect the status of the agreement reached by the parties and the understanding between them at the time the contract is formed.
In cases such as these, it is said that agreement has not been reached at all, and the effect of the contract should be entirely reversed.
Rescission however is not available in all cases to cancel a contract.
Cancellation of a Contract
Is the cancellation of a contract to be only for the future, or is it to unravel the entire agreement?
Using common language, "cancellation of a contract" can mean two things. It can mean:
- terminating the contact: the parties have no further legal rights against one another, from the day of termination and into the future, or
- rescinding the contract: treating it as though it never existed, and taking the steps required to undo the steps that have been taken to perform it - assuming that can be done.
When it comes time assess whether a party has a right to cancel a contract, break it or back out of it, it's fundamentally important in law to know whether rescission is available as an option, or whether a business to business contract has moved so far along that only rights of termination are available.
It depends what the objectives of the party which wants to end the contract.
Contract Performance Delays
Contract law has an eye for events in the real world, when it comes to terminating contracts.
Events on the ground can develop which create opportunities for business to revisit the terms of contracts, and take advantage of those situations when opportunity comes knocking – and terminate contractual relationships.
For example, unexpected events can cause delays in delivery of goods contracted to be supplied on a timetable (and for that matter, contracts for supply of services) whatever they may be: electronic components, finished goods, professional services and/or performance of building works, to name a few.
Delays caused by unexpected events affect a contracting parties’ ability to perform contract. A party may no longer be able to deliver on the contract - which in turn can give rise to rights to terminate the contract altogether.
1. Termination by performance
When both parties to a contract have performed all their obligations under a contract, including all express and implied terms a contract comes to an end.
Each of the parties have performed their obligations with “perfect precision”: exactly as was specified by the contract.
And if the contract is for a fixed time – say 2 years – if the contract has been performed with that perfect precision as at the end of the 2 years.
A few words about contract performance:
- any deviation from the contractual obligations will amount to a breach of contract.
In Bolton v Mahadeva (1972), the contractor was required to install a central heating system. The heating system didn’t work. Contractor couldn’t claim payment: he didn’t fulfil the primary obligation to heat the house.
- In contracts for services by a contractor, the obligation to perform may not be so strict. The obligation is usually not to achieve a specific result, but just to exercise reasonable care and skill when performing the contractual services. But is depends on the precise terms of the contract - what the contractor is promised to do.
- Circumstances of the contract may allow payment for part performance of a contract on a quantum meruit basis. A reasonable price is required to be paid for work performed at the request of the other party.
This enables the performing party - the contractor or supplier - to get paid fair and reasonable remuneration for their work.
It requires a contract where the obligations to perform are divisible, such as by phases or milestones.
Payment may be recovered for the obligations completed, where:
- partial performance has been accepted by the other party
- the other party prevents complete performance by a party ready willing and able to perform, or
- a substantial part of the contract has been completed.
- An IT consultant to a contract "tenders performance" by attempting to perform their obligations under the contract. They are prevented from performing by the other party.
Depending on the type of contract, the tendering party - in this example, the IT consultant - may be considered to have discharged their obligations under the agreement, and the contract terminates.
If the consultant's tendered performance is refused by the other party, they may be sued for breach of contract. Further performance is not required but the debt arising under the contract for products or services is not discharged.
In debtor-creditor relationships, if a debtor tenders payment for the debt and the creditor refuses it, then they still need to pay. If the debtor is paid after tendering performance, the money is usually paid into court as part of the defence of tender.
2. Termination by Agreement
It is always open to parties to agree to variations to their contractual arrangements.
That includes terminating it by agreement.
Both parties are able to consent to termination of a contract. When they do, the mutual obligations to perform contractual obligations come to an end.
Variations to Terminate
So, where both parties have performance obligations (ie executory consideration) outstanding under a contract, an agreement to discharge one another from further performance will usually be fresh consideration.
That’s enough to satisfy the requirement for consideration, making the termination by agreement legally binding.
Legally binding variation for Termination
For the agreement to be legally binding there must be either:
- fresh consideration from both parties
- a deed releasing the other party from their obligations – there is no requirement for consideration in a deed
- a separate agreement supported by fresh consideration, to amount to accord and satisfaction, or
- a promissory estoppel applies on the facts.
Broadly speaking, an estoppel is made out when:
- a promise is made to end the contract by one party to the other
- that promise intended to be binding and acted upon by the other party
- the other acts on the promise, and changes their position as a result.
The contract doesn’t need to say that the parties intend to change the agreement in the contract itself.
Even where a variation clause says that no variations or changes may be made to the contract, changes can be made to it by a varying its terms.
If there is a contractual procedure in a variation clause to change it though, that procedure should be followed.
Terms of contract can be built into a contract to terminate it. These are known as conditions subsequent.
A condition subsequent stipulates a state of affairs which causes existing contractual obligations to come to an end.
The state of affairs - whether an event takes place or does not take place - does not have to be out of the control of the parties.
3. Termination for Breach of Contract
Termination for breach of contract requires a repudiatory breach of contract.
Here’s the tldr.
Conduct is repudiatory if it “deprives the innocent party of substantially the whole of the benefit”, intended to be received for performance of the obligations under a contract.
This is known as the “substantially the whole benefit” test. Repudiatory breach is often expressed as a breach goes "to the root of the contract”.
Is the breach serious enough?
- it needs to be a serious breach – not a breach of warranty - that is:
- a breach of a condition or
- breach of an innominate (aka an intermediate) term which deprives the innocent party of substantially the whole benefit of the contract,
are repudiatory breaches of contract and therefore sufficiently serious to terminate a contract.
- A contract may set out a different standard of breach, such as a:
These alternative terms don’t necessarily mean “repudiatory breach” – it depends on a proper interpretation of those words within the context of the contract, cast against what has happened in the real world when the parties were performing it.
If the parties to a business to business contract agree to terminate by reference to those terms, are they are able to do so.
And just because there’s no express right stated to permit a party to terminate in a contract, doesn’t necessarily mean that it can’t be terminated.
- When one party expresses an intention to:
- not perform their obligations under the contract; or
- perform them in a way in which is inconsistent with the original contractual terms,
it is an anticipatory breach. It entitles the other party to terminate.
- Conduct or behaviour amounting to an anticipatory breach may be either explicit or implicit. Express words or writing aren’t required.
Anticipatory breach may be communicated by conduct, such as a contractor behaving in way that indicates they won't perform when their strict legal obligations fall due for performance
- When a defaulting party commits an anticipatory breach, the innocent party:
- may wait and allow the party in breach to properly perform its contract obligations.
If the party in breach does so, then the right to terminate is lost
- may sue for damages as soon as the anticipatory repudiation occurs, and not wait for the date of performance
- also has the option of affirming the contract by performing their obligations under it.
In the case of White and Carter Limited v McGregor (1962), the defendant tried to terminate the contract.
The claimant refused to accept the termination and continued with performance under the contract, later suing the defendant for the full contract price.
The claimants were successful in recovering the full contract price
- may wait and allow the party in breach to properly perform its contract obligations.
- The option of accepting the repudiation or terminating the contract is not available where the innocent party requires the cooperation of the other party to perform the contract or if they have no real interest in performance of the contract.
When there is a Repudiatory Breach
- When there is a breach of contract, it does not automatically discharge the contract
- Once you have a right to terminate, it must be exercised to terminate the contract. The exceptions to this rule are rare and limited
- Until the right has been exercised, the contract continues in force
- The right to terminate is exercised by telling the party in breach that the contract is terminated (it helps to explain all the reasons why, too when you do)
- When a contract is terminated:
- the performance obligations under that contract are discharged at the date of termination
- however, performance of secondary obligations are not discharged and continue in force, such as:
- maintaining the confidential information of the other party
- the obligation to pay damages for any losses caused to the innocent party.
- Attempting to terminate a contract in the absence of a repudiatory breach is a repudiatory breach in its own right - even if you are mistaken, and think that a repudiatory breach has been committed.
- When that happens, it means that the other party to treat the contract as discharged, and claim damages.
- This happens when an innocent party thinks they have a serious – repudiatory – breach.
And they don’t.
In Federal Commerce and Navigation v Molena Alpha (1979), the owner of a ship wrongly believed it was entitled to repudiate the contract.
The repudiation was wrongful and therefore the other (now innocent, for legal purposes) party could treat the contract as discharged.
That’s because the owner was in repudiatory breach itself.
Remedies for Breach of Contract
The primary remedy for breach of contract is damages.
On the other hand, the business might prefer to for the contract to continue to continue to receive the benefit of the contract. In those cases, an injunction may be available to stop the party in breach from continuing to breach the contract in the future.
4. Termination by frustration
Discharge by frustration occurs where it is impossible to perform the obligations under a contract due to a change in circumstances of performance of the contract after it has been signed.
The change of circumstances must change the nature of the outstanding contractual obligations.
The modern test for frustration is outlined in the case of National Carriers v Panalpina (1981). Frustration occurs when:
... there supervenes an event (without default of either party and for which the contract makes no sufficient provision) which so significantly changes the nature (not merely the expense or onerousness) of the outstanding contractual rights and/or obligations from what the parties could reasonably have contemplated at the time of its execution that it would be unjust to hold them to the literal sense of its stipulation in the new circumstances.
The modern case law on frustration follows that case.
Example situations of Frustration
Frustration might occur in a number of situations:
- the subject matter of the contract has been destroyed, or is unavailable and was intended by both parties to be the primary subject matter of the contract.
In Taylor v Caldwell (1863), a contract to hire a music hall was frustrated when the hall was destroyed by fire
- a party (who is an individual, rather than a separate legal entity) to the contract dies or is seriously incapacitated
- the contract has become illegal to perform due to a change in the law or say an outbreak of war
- the commercial purpose of the contract has failed, such as the failure of an event which the contract was based upon.
Frustration will not apply to discharge a contract:
- Simply because inconvenience has been caused, or there has been an increase in expense or loss of profit.
In Davis Contractors Limited v Fareham UDC (1956), it was agreed that a council estate would be built at a fixed price.
Due to bad weather, strikes and shortages delays ensued. The estate was built at a loss. The contract had not been frustrated. It was just more expensive to perform the contract.
- The contract contains an express provision (such as a force majeure clause), dealing with the eventualities which came to pass for case argued for frustration. That’s because the parties contemplated the frustrating event claimed, by including provision for it in the contract.
- Frustration is self-induced and one of the parties which had a choice regarding performance, or
- The event was reasonably foreseeable by either party as at the date of the agreement.
Other Situations of Termination: The Other 3
There are other limited situations where contracts come to an end or may no longer be enforced:
- the parties adopt an illegal object or purpose, or the contract is performed in an illegal way
- winding up of a company may lead to termination of a contract
- the Limitation Act operates to create an absolute defence to any claims under the contract made out of time, when it is pleaded as a defence.
Terms of Contracts
There are a wide array of contract clauses that can appear in agreements to set up business to business contract cancellation rights.
The ability to rely on cancellation rights - lawfully - depends on:
- the express terms of the specific contract itself, and
- the terms of contract which would be implied by law.
So, even if a business to business contract doesn't contain an express right to terminate (such as a termination or break clause), implied rights may exist to bring about a contractual power of termination of the contract. it might be that the term of the contract contains an automatic renewal clause.
And if a contracting party tries to terminate a contract and does to have the right to, is itself in repudiatory breach of contract.
Events Outside the Control of Parties
So with the law as it is, delays in performance – even outside the control of the parties – can lead to rights to terminate bad contracts and business relationships which have soured.
Often the terms of contracts provide for general problems expected to arise, and sometimes specific problems.
But it’s hard to anticipate unexpected problems. That means that contracts often:
- don’t provide for unexpected events at all, or
- don’t deal with events that can arise properly within the terms of the contract.
That’s when opportunity presents itself. Front and centre.
Events need to be acted on to take advantage of the situation as it arises. Opportunity does not remain open for too long. Timing can make all the difference.
The same applies when contractors either don't perform the contract, or the goods or services supplied are defective. That is, the goods and/or services - say IT support services for an IT contractor - are not delivered to the standard fixed by the contract.
Technology Contract Solicitors
We're expert technology solicitors that prepare commercial contracts for contractors and enterprise-level businesses.
We advise businesses on methods to relieve pressure and take advantage of opportunities as they present themselves in technology disputes.
We give legal advice on contractual disputes involving business to business agreements, such as:
- rectify situations with bad company contracts
- defective notices of termination, which create opportunities for businesses to terminate themselves
- wrongful termination
- termination of contractor agreements
- subcontractor and contractor termination clauses
- rights to cancel contracts, and subcontracts
- independent contractor liability
- liability of agents, such as commercial agents, business transfer agents, estate agents and sale agents
If you need help with a business contract or need to get out of one, and give a customer or contractor notice of termination, we can help. Contact us if you have a business to business contract or technology contract and need to speak with a qualified and experienced lawyer to consider your options and take steps to terminate the contract and end a contract that is not working out.