Corporate Law Update: 17 - 23 February 2018

23 February 2018

This week we look at an interesting case where a party to a contract sent a notice of termination under a mechanism in the contract, only to find later that it could not recover damages for loss of bargain.

Termination notice prevented right to contractual damages

The High Court has held that, where a party ended a commercial contract specifically under its termination provisions, it was not able to pursue a claim for damages at common law.

What is the legal position?

Under English common law, if a party to a contract commits a repudiatory breach, the innocent party can choose to end the contract.

A repudiatory breach is one of a fundamental nature. It can happen when a party breaches a core term of the contract or simply refuses to perform its obligations. Sometimes it can occur if a party commits a substantial breach of a non-core obligation (called an “innominate” or “intermediate” term).

When an innocent party ends a contract due to a repudiatory breach, it can also claim for damages for loss of bargain as compensation for the fact that it will no longer benefit from the contract.

One problem with relying on the common law is that it is not always obvious whether a breach is fundamental enough to allow the innocent party to terminate. For this reason, parties often include a specific termination clause in a contract, which allows a party to end the contract if the other party commits certain kinds of breach, or breaches of certain clauses.

A termination clause usually also allows a party to end the contract if certain events occur that are not breaches of contract. For example, it might allow one party to end the contract if the other party goes into administration or suffers a “change of control”, even though this would not be a breach of contract.

What happened here?

This is precisely what happened in Phones 4U Limited (in administration) v EE Limited.

Phones 4U was a well-known retail chain that sold mobile phone contracts and handsets with the UK’s major networks. Until 2012, Phones 4U was selling contracts for all four of the UK’s major networks.

However, in 2012, Three ended its commercial arrangement with Phones 4U. O2 followed in January 2014. In August 2014, Vodafone notified Phones 4U that it was ending its contract from February 2015.

Finally, on Friday, 12 September 2014, EE (which operated the former Orange and T-Mobile networks) notified Phones 4U that it would not be renewing its contract with the retail chain.

With this, Phones 4U’s business model had essentially disappeared. Its directors met that same day and agreed to place the company into administration. Three individuals from PwC were appointed as administrators on Monday, 15 September 2014. Phones 4U’s shops then stayed shut for 2½ days.

On Wednesday, 17 September 2014, EE sent Phones 4U’s administrators a letter formally terminating its contract with Phones 4U. The letter gave notice to end the contract under “clause 14.1.2”. Clause 14.1.2 allowed EE to end the contract if (among other things) Phones 4U went into administration.

The letter also said that EE reserved all rights it might have under its contract with Phones 4U.

Later in proceedings, EE claimed against Phones 4U for damages for loss of bargain. It said that, by appointing administrators and shutting up shop, Phones 4U had committed a repudiatory breach.

What did the court say?

This was a preliminary hearing. The court had to assess whether EE had a good enough case on the face of it to go to a full trial.

As part of this, it needed to decide whether, by ending the contract under the specific termination clause, EE had sacrificed its right to claim for loss of bargain.

The judge said that it had. In its letter, EE had referred to the clause of the contract allowing it to terminate when Phones 4U appointed administrators. This was not a breach of contract and so did not by itself give EE the right to claim damages for loss of bargain.

EE could only claim for loss of bargain if it terminated the contract in response to a repudiatory breach. Its notice to Phones 4U did not refer anywhere to a repudiatory breach, nor even to the circumstances that EE later said amounted to a breach.

EE tried to rely on the wording in its letter stating that it had reserved its rights and remedies against Phones 4U. However, in the words of the judge, “a right merely reserved is not a right exercised”. EE might have reserved its right to terminate for repudiatory breach, but, by the time it raised that argument, it was too late. It had already terminated.

For this reason, the court dismissed EE’s claim. The decision will sting somewhat. But for the wording of EE’s notice, the judge would have let EE’s claim go to full trial.

Practical implications

This is one of those salutary tales of how the wording of a notice can really matter.

If EE’s letter to Phones 4U had cited a repudiatory breach as the reason for ending the contract, the decision would almost certainly have been different.

Even if EE had given two reasons for ending the contract – at common law due to a repudiatory breach and under the termination clause due to Phones 4U going into administration – it may have been able to mount a claim for loss of bargain.

The decision also shows the risks of jumping straight into a contractual termination mechanism without weighing up the merits of bringing a claim at common law. Although it may be easier to prove a contractual right to terminate, this may lead to reduced damages (or none at all).

Parties who are thinking of terminating a contractual arrangement should ask themselves the following:

  • Why am I terminating the contract? Is it because my counterparty has failed to perform its obligations or looks like it will be unable to do so? Or am I ending the contract because of some event that is not linked to a breach of contract?
  • Do I just want to end my commercial relationship with my counterparty, or will I want to claim damages as well
  • Would I be better off ending my contract on the grounds of repudiatory breach? Do the damages I might recover justify the potential litigation involved with that approach?

Above all, the key take-away point is to phrase a contractual termination notice carefully and run through all the options. This might not be easy where the counterparty is fast approaching insolvency and the likelihood of recovering damages is reducing, but some extra time spent on the notice may make a significant difference.

Get in touch