Termination for convenience clauses are a common feature of modern commercial contracts. Terminating a contract in this way has the advantage of avoiding a default-based confrontation. It is also traditionally considered a more expensive way to terminate: parties invoking this type of clause will expect to pay an element of lost profit to the contractor or supplier. However, this will not always be the case, as Comau UK Ltd v Lotus Lightweight Structures illustrates.
In this case, a termination for convenience clause operated to limit the damages a supplier (Comau) was able to recover following its purported termination of the contract for late and non-payment of two undisputed invoices by its employer (Lotus). Effectively, the termination for convenience provision trumped Comau’s right to claim damages for Lotus’s admitted breach.
This decision will have come as a pleasant surprise to employer clients, and a bit of a shock to contractors. At first glance it seems harsh on Comau, since the contract stated that Lotus could only terminate for convenience if it was not in breach of any payment obligation, which it clearly was. However, it involved a fairly straightforward (if, on the facts, controversial) application of the minimum performance rule.
What is the minimum performance rule?
The minimum performance rule is an established legal principle dating back to 1922 (Abrahams v Reiach (Herbert) Ltd). It requires the court, when assessing damages for breach of contract, to assume that a contract-breaker, who has an option to perform the contract in one of several ways, will do so in the least onerous way possible; in other words, at the least cost to himself.
Why did it apply in this case?
Under their contract for the supply of goods and services, Lotus failed to pay, or paid late, in relation to two of Comau’s invoices. Comau notified Lotus of its intention to terminate the contract for “material breach” if Lotus failed to remedy its default. Lotus did not pay all the sums due, so Comau wrote to terminate the contract with immediate effect and maintained that it had done so for repudiatory breach.
At an early stage in the summary judgment proceedings, Lotus consented to judgment being entered on a claim in debt for the sum that remained outstanding. However, Comau sought damages for its loss of profit on the entire project, which it argued it would have earned but for termination of the contract.
The court disagreed. It thought the existence of the termination for convenience provision (clause 12.5) showed that Comau probably did not have the entitlement it suggested. In fact, quite the opposite. The court saw the case as falling squarely within the Abrahams v Reiach reasoning, such that Comau’s contractual expectation interest was limited to profit it might have made until such time as Lotus chose to “terminate for convenience” under the contract. Put simply, Comau’s loss had to be assessed on the basis that, but for its breach, Lotus would have availed itself of clause 12.5 to reduce its liability to Comau.
What about the fact that Lotus was only entitled to invoke clause 12.5 if it was not in breach of its payment obligations?
The court said that this was not relevant. The assessment of damages in this type of situation looks at what Lotus would do if there had not been a breach.
So damages would be assessed on the assumption that Lotus would have exercised its right to terminate for convenience. If the effect of clause 12.5 was ignored when assessing damages, this would give Comau the benefit of a better bargain than it actually made.
I wonder about this. It seems to me that the bargain that Comau may have thought it made was that, in the event of non-payment, Lotus was prevented from exercising its right to terminate for convenience. In that event, it would no longer have an option to perform the contract in one of several ways, so the minimum performance rule wouldn’t apply.
The court may also have been influenced by the way in which Comau sought to terminate the contract. This brought into issue another difficult question, namely the inter-relationship between contractual termination provisions and the general right to terminate for repudiatory breach (particularly in relation to late and non-payment of invoices). On the summary judgment application, the court was not persuaded that Lotus was in repudiatory breach of contract. In addition, on the evidence, by the time of termination the amounts Lotus had already paid under the contract exceeded the costs that Comau had incurred in performing it. So, once all outstanding sums had been paid, Comau had in fact made a profit.
Controversial but correct?
Although the consequences of this decision may be controversial, given the contract provisions already referred to, the principle itself is clear:
“If the defendant fails to perform, when he had an option to perform the contract in one of several ways, damages are assessed on the basis that he would have performed in the way which would have benefited him most, e.g. at the least cost to himself…” (Paragraph 26-074 of Chitty on Contracts, Volume 1 (Sweet & Maxwell, 31st edition, 2012).) [Emphasis added]
The real issue for Comau was that the termination for convenience clause did not allow it to recover loss of profits. If it had done, the minimum performance rule may not have come into play at all. As is often the case, the devil was in the detail.