Termination for convenience clauses have drawn recent media attention given the Commonwealth's recent decision to terminate the Future Submarine Program contract with the
As the name suggests, exercising a termination for convenience clause does not require the terminating party to prove any breach of obligation by the terminated party.
These clauses are common in contracts, especially in large procurement projects involving governments.
Despite the common nature of such clauses, there is limited guidance as to whether the terminated party must be compensated and the amount of compensation (if any) on a termination for convenience is also often unclear.
A poorly drafted termination for convenience clause has the potential to be unenforceable.
We take a look at the most recent commentary and judicial considerations and set out some matters that are relevant to the negotiation of a termination for convenience clauses.
While parties are generally free to strike whatever bargain they choose, there are some limitations on the enforceability of contracts in circumstances where a contract contains a right to terminate for convenience.
Particular caution should be taken when negotiating an exclusive right to terminate for convenience without compensation being payable where the unfair contracts regime applies.1
In ACCC v
Although the regime does not apply to all contracts, upcoming amendments will broaden the scope of the unfair contract term provisions and introduce civil penalties and further remedies.
There is a difference between an agreement that provides an obligation to compensate for work done up until termination, from an agreement that does not provide for any compensation at all.
To ensure formation and enforceability of a contract, obligations must be supported by 'consideration' (which usually takes the form of an obligation to pay money and provide products or services in return).
Courts in the
Consequently, inclusion of a termination payment obligation will help avoid a dispute as to whether an agreement containing a termination for convenience clause is void for a lack of consideration. In some circumstances, payment for work completed up to termination may be sufficient consideration.
The law in
The duty of good faith can be relevant in the context of a termination for convenience.
If it is agreed that compensation is to be payable in the event of termination for convenience, the next question is how that compensation is calculated.
There are many possibilities, including compensating the terminated party for one or more of the following:
- works completed up to termination, including works that have not been invoiced for;
- demobilisation costs;
- contribution to overheads and profit margin;
- compensation for lost profit; and
- compensation for a forward commitment or liability to third parties (including, for, example subcontractor break costs).
Ultimately, the commercial viability of the agreement will likely depend on whether the parties are prepared to accept the risk of potential termination without fault, and an entitlement to compensation may reduce the risk of loss.
However it is a balancing act, as the compensation should be proportionate to the potential benefits of being able to terminate for convenience. Therefore, parties should carefully consider the drafting of termination for convenience clauses to ensure they reflect the commercial bargain and are enforceable. Clarity as to the losses to be covered through the compensation mechanism is critical.
Footnotes
1 The current regime applies to standard form contracts entered into or renewed on or after
(1) it is for the supply of goods or services or the sale or grant of an interest in land;
(2) at least one of the parties is a small business (employs less than 20 people, including casual employees employed on a regular and systematic basis); and
(3) the upfront price payable under the contract is no more than
2
3
4 [2010]
5 Leighton v Arogen [2012] NSWSC 1370.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
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