Terminating contracts or renegotiating terms

Supply chain and border disruption, materials and labour shortages, and ongoing impacts from the war in Ukraine and the energy crisis have affected pricing, margins, productivity, and profitability in the construction sector over recent months and years. Cost of living concerns within the UK, including inflation and interest rates at a 15 year high, are now also impacting the housing market. Some housebuilders and developers are noting a slowdown in sales and growth and are starting to exercise increased caution when it comes to acquisitions and investment. At the same time, land values remain high, and the UK’s need for new homes remains undisputed and unabated.

In an unprecedented melting pot of competing socio-economic factors, the ability to react quickly and commercially to a changing climate, as well as the preservation of cash flow, can be crucial for a housebuilder’s/developer’s financial stability, and for the viability of development projects. In some cases, dealing dynamically with commercial contract arrangements can afford a competitive edge, even enabling astute businesses to capitalise upon the current economic climate.

So, while many of the factors at play are outside the direct control of UK businesses, what are the legal and practical steps that you, as a housebuilder/developer can take to mitigate, or even advance, your position in today’s market?

Terminating contracts or renegotiating terms for flexibility and financial value

As part of your wider assessment as to the impact of prevailing market conditions on your commercial arrangements and financial viability, querying whether contracts or common law remedies allow the flexibility to renegotiate, or the ability to terminate, commitments will be key. So too will be the ability to avoid or mitigate disputes.

Commercial considerations

Assuming that grounds for termination of a contract have arisen (as to which, see below), consider:

• Is termination a practical decision? This may depend on the stage of any ongoing projects or commercial/supply chain arrangements and other factors such as any third-party commitments or deadlines which may be impacted by contract termination. Where a party is in breach of any contract term[s], it might be preferable to sue for damages; or, if the breach is a particularly serious one, to rescind (set aside) the contract and sue for unlimited financial compensation as well.

• Are there alternative solutions? Depending on the circumstances, a contract may itself provide alternative strategies offering flexibility and/or commercial assistance. These might include (non-exhaustively) price adjustment clauses, variation/no-oral modification clauses, and material adverse change clauses. It may also be worth exploring suspension, re-negotiation, or alternative dispute resolution [1], for example.

• Is your business prepared for the consequences of contract termination? There are multiple considerations here.  Has an alternate contractor/supplier/customer been sourced and prepared to ensure a smooth transition?  Have you considered the impact of contract termination on other commercial relationships or stakeholders, or even on the counterparty itself (if you have other projects or arrangements ongoing with the same counterparty)?  Has the [imminent] contract termination been notified across your entire business?  That’s important because if one part of the business continues to correspond, engage, or do business with a counterparty when another part has sought to terminate, the business overall can be taken to have ‘affirmed’ the contract.  Affirmation undermines the contract termination attempt altogether [2].

Legal considerations

Alongside commercial considerations, it’s always essential to ensure there’s a legal basis for termination. The contract in question, and all relevant circumstances, should be carefully considered to make sure termination is executed validly, and to avoid or minimise the risk of consequential counterclaims from the terminated party. In particular:

• What type of contract termination is available/appropriate? The legal and practical steps involved in terminating a contract will differ according to whether the terminating party is relying on an express contractual termination provision or break option; a common law right to bring an implied contract to an end; a repudiatory breach by the counterparty; force majeure; or the doctrine of frustration [3].

• Has a termination event occurred? This is critical. Sometimes it may be clear and uncontentious that a contractually specified termination or force majeure event has occurred.  In other cases, a higher degree of assessment and interpretation may be required.  Examples include where a termination provision permits an element of subjectivity or discretion on the part of the terminating party, or where a breach has occurred but may be inconsequential or easily remedied.

• When did the termination event occur? This can be a crucial question.  Depending on the particular contract, a party may not have long to exercise a right of termination. Prevarication or delay may result in affirmation of the contract, and the right to terminate being lost.

• Has termination notice been validly served? In very many cases, service of a termination notice or notices will be required. The valid and effective service of legal notices is a potential minefield.  Any termination provision, and all related provisions and service of notice clauses within the contract must be read in full and in conjunction with each other. Questions to consider (non-exhaustively) include: What type[s] of notice[s] is/are required? How much notice is required and how is the notice period to be calculated? How, exactly, must the termination notice be served? Does the contract contain provisions as to what is considered deemed service? Is there a required form of notice?  Does the contract detail how many business or calendar days need to elapse between, say, a notice of intention and notice of termination? And so on [4].
• What happens if the contract is unwritten? Surprisingly often, businesses inadvertently enter unwritten, but nevertheless binding, contracts which may be agreed orally or even implied through a course of dealings [5].  There are myriad factors to consider when terminating such a contract. What is required – the length of any notice period – will differ depending on the particular facts and circumstances.  Parties should not assume that termination can occur instantly.
• What about the duty to mitigate? Even where a party is terminating because its counterparty has committed a breach of contract, the innocent, terminating party may be under a legal duty to take reasonable steps to mitigate its loss. What is ‘reasonable’ will differ on a case-by-case basis.

Practical advice

You may wish to consider some or all of the following measures for terminating contracts or renegotiating terms.

• Undertake a review of all key contracts to determine where contracts (and commercial relationships) might allow for flexibility and the ability to negotiate to ‘ride out’ market difficulties, and where pressure points or breaking points arise. Where pressure points do arise, seek specialist advice on the options available, including in relation to termination or suspension of contracts.

• As part of the contract review, ascertain the existence and terms of any force majeure provisions which may excuse one or more parties from contractual performance. Any business wishing to invoke force majeure (or to ascertain the validity of any force majeure claim made against it) should note any notification or other requirements, and any timescales, specified within the particular contract. Where force majeure does not apply, businesses should take specialist advice as to whether the common law doctrine of frustration may assist to effectively terminate a contract.

• Check any insurance contracts. In some cases, invoking or receiving a force majeure or a frustration claim can impact insurance policies. Look out for any notification requirements.

• Ascertain the existence and implications of any other contractual provisions which may provide flexibility and/or commercial assistance. These might include (non-exhaustively) price adjustment clauses, variation/no-oral modification clauses, and material adverse change clauses.

• Commercial disruption, uncertainty, financial hardship, and contractual default can all prompt disputes. Review contractual arrangements and third-party commitments to ensure you understand the extent of all relevant obligations and liabilities. Key clauses in this context include any guarantees, indemnities, warranties or performance bonds, limitation/exclusion of liability clauses, endeavours obligations, section 106 commitments, and the like.

• Where possible and financially feasible, consider the potential for alternative ways of performing affected contractual obligations and/or for mitigating any loss or damage.

• Clear records and a paper trail should be kept evidencing the fact and circumstances of any breach or other event giving rise to the right to terminate. You should also maintain records and evidence of the financial and commercial effect of any breach or termination event, in case the contract termination, or any mitigation attempt, is challenged and needs to be explained in any subsequent dispute or litigation.

• Keep open communication channels with staff, suppliers, customers, and other key counterparties. Dialogue can minimise disruption or discord within a business and can often avoid or effectively resolve disputes.  That can save both commercial relationships and cash. It’s worth remembering that today’s market challenges are, in a significant part, the result of wider global factors.  Businesses in all sectors are affected, and contractual default is often no-one’s fault. Open, frank, timely communication, and a willingness to work together to find solutions could, in this climate, be the difference between a project or business thriving or failing.

• Where disputes do arise, parties should check whether the relevant contract contains any mandatory dispute resolution provisions. An effective dispute resolution clause requires the parties to follow a pre-agreed route to resolution, which can: prevent any potential secondary dispute about whether and how the primary issue should be resolved; minimise the scope for any tactical game-playing (thereby helping to preserve commercial relationships); and ensure that the time and costs of dealing with formal litigation are only incurred as a last resort.

Once a termination strategy has been settled upon:

• Inform all colleagues/teams/departments throughout the business who may deal with the counterparty in question.

• Measures should be taken to deal with the commercial and legal effects of contract termination. For example, alternative arrangements should be put into place to minimise disruption to ongoing projects/operations. Arrangements should be made to ensure compliance with any provisions or obligations which survive termination (such as concerning confidential information, or the possession or use of the counterparty’s intellectual property).

• Specialist solicitors should prepare and issue any necessary notices on your behalf, to minimise risk of invalid drafting or service.

• Solicitors should also handle all communications – internal and well as external – concerning the decision to terminate and the termination itself. Again, this is in anticipation of a challenge to any aspect of the termination and should help to preserve legal privilege in all relevant documents and communications.

Terminating contracts or renegotiating terms: How we can support

Ensuring that you have obtained the best possible guidance before terminating contracts or renegotiating terms will help to ensure the best result for your business.  Walker Morris has a broad spectrum of cross-discipline specialists who can help housebuilders/developers to achieve the deliverability and profitability of projects in challenging times.

Our Real Estate and Commercial Dispute Resolution specialists are experienced and expert in navigating contractual negotiations and renegotiations, as well as termination queries and dealing with the drafting and serving of notices.  In the same vein, if your business finds itself on the receiving end of any contract termination notice or action, we can critically assess validity. If necessary, we can provide commercially focused strategic dispute resolution advice, to ensure minimal disruption and losses to your business.

If you have any queries arising from this briefing, or if you would like tailored advice, assistance or training in connection with any of your commercial and/or development contracts please contact , Chris Woodthorpe, Steve Nixon or Louise Norbury Robinson, who will be very happy to help.

[1] See Walker Morris’ recent briefing on ensuring effective dispute resolution

[2] Even worse, affirmation often leads to the counterparty then alleging repudiatory (i.e., serious/devastating) breach of contract on the part of the business which sought to terminate.  Repudiation can leave a business open to recession of the contract, plus a claim for damages relating to what the injured party would have made if the contract had remained in effect

[3] For further information, please see our previous briefings on force majeure and the doctrine of frustration: Force majeure (post-Covid); Force majeure (Apr 22 update); Terminating contracts by force majeure

[4] See Walker Morris’ briefing for advice as to the ‘who, when and how’ of service of legal notices (including termination notices)

[5] See our recent briefing for information and advice on informal contracting.