Navigating contract terminations – and not the ones you think!

It's not just employee contracts that HR professionals need to know how to terminate:

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Nov 8, 2023

HR folk are typically involved with terminating employees’ contracts if headcounts need reducing, or poor performance isn’t addressed.

But as more HR services are outsourced to external suppliers, HR professionals will increasingly need to know how they can cease a business contract too.

TLNT asked law firm, Roberts & Obradovic, to draw up their guidelines for what HR professionals might need to consider.

Source: Institute for Corporate Performance (2023)

Source: “Customer (Dis)Satisfaction: Why Are Enterprises Unhappy with Their Service Providers?” – Everest Group

It’s life – things may not go as planned

It’s only to be expected that certain business relationships don’t always unfold as smoothly as expected.

While the reasons behind this can be numerous, the common fact that unites many cases is the fact one party will often find itself deeply dissatisfied with the other party’s performance. And, despite attempts to rectify this, eventually there is a decision to terminate the contract due to default.

But how should this be done?

Let’s delve into the legal principles behind contract termination and what you should know when faced with such decisions.

Termination for default: The non-conformance clause

When dissatisfaction with a contract partner’s performance reaches a point of no return, this is when the option to terminate for default comes into play.

Most commercial contracts contain a “non-conformance clause,” which outlines the conditions under which the contract can be terminated.

However, in a poorly-drafted contract these clauses can lack specificity in terms of defining what constitutes a breach significant enough to warrant termination.

Additionally, the contract might not stipulate any requirements for providing notice to the other party before taking such action.

The absence of clarity in this regard can pave the way for misunderstandings and potential disputes, potentially leading to legal conflict and financial implications for the involved parties.

To mitigate such risks, it’s crucial to ensure that the termination for default clauses be specific, unambiguous and clear.

Assessing default: Is It truly a material breach?

The critical question that arises when considering contract termination for default is whether the other party is genuinely in default.

Legal interpretations on this matter vary, and it’s vital to understand the nuances.

Some courts suggest that to justify contract termination for default, the breach must be material or significant. In simpler terms, it should be something substantial that strikes at the core of the contract.

A leading Supreme Court decision defined a “material breach” as one that is substantial and goes to the heart of the contract. However, other cases indicate that the breach should be evaluated based on the specific standards set forth in the contract itself.

In certain contracts however, no written notice or cure period is required to address a breach, and there’s no threshold for determining what qualifies as a breach.

So, proceeding with contract termination for default should be done with caution.

In some cases, it might expose the terminating party to legal risks.

To mitigate this risk, the party considering termination should assess whether it has fully complied with its own contractual obligations, particularly those related to payments.

Time limits and legal risk

The decision to terminate a contract, whether for default or other reasons, carries legal implications that extend beyond the immediate termination.

It’s crucial to understand the time limits involved.

In many cases, parties have a window within which they can bring a claim against the defaulting party. This timeframe is known as the ‘limitation period.’

In practical terms, this means that a party can initiate a lawsuit within a specified period from the date they discover the claim, such as when they suffer harm due to non-payment or contract termination.

It’s essential to keep this limitation period in mind, as it sets boundaries on when legal actions can be taken.

Conclusion: informed decision-making is key

In the intricate world of contract termination, knowledge is power.

Understanding the legal principles behind terminating a contract for default and the associated risks can guide your decision-making process.

Whether you choose to proceed with termination or explore alternative solutions, being well-informed is your greatest asset.

Legal interpretations may vary, but a clear understanding of your contractual rights and obligations will help you navigate these complex waters and make the best decisions for your business.

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