Bite the bullet or fire it?: Terminating a contract

Henry Sherman introduced a series of articles on the implications of the downturn by explaining the limited options open to an employer who wants to “retreat” from its building project in order to minimise expenditure (17 October, page 58). But difficult times also aggravate problems with a contractor’s performance of its obligations under the contract and we have seen an upsurge in enquiries about an employer’s ability to terminate on the basis of a contractor’s non-performance.

The first step is carefully to consider the termination provisions of the relevant contract. Even JCT forms differ. The standard building contract says the works must have been “wholly or substantially suspended”, the contractor must have failed to proceed “regularly and diligently”, it must have failed to remove defective work and “by such refusal or neglect the works are materially effected”, or it must have breached certain specific provisions of the contract.

The words quoted indicated the perils of termination under the standard contract: an employer’s view of what is regular and diligent progress when it is waiting to move into a new building may be somewhat different from a contractor’s view when it is struggling with the insolvency of two key suppliers. If the adjudicator decides that they prefer the contractor’s view, then any termination by the employer would wrongfully entitle the contractor to substantial damages. More about that below.

Under the major project construction contract, the employer may terminate for any “material breach”. This includes a wider menu of defaults and avoids the uncertain wording of the standard building contract, making the employer’s position less precarious.

Other forms, as Henry has highlighted, contain provisions for termination on the grounds of contractor default but also allow the employer to terminate “at will”. Cleverly, the GC/Works contracts state that if the employer purports to terminate for breach but gets it wrong, the employer shall be deemed to have decided to terminate at will. In other words, the contract protects it against wrongful termination.

The second step is then to look at the exact mechanism for termination. It is vital that any procedural requirements contained in the termination provision are strictly observed, otherwise, the termination may be wrongful. So time periods must be strictly counted and requirements for service of notice under the contract (for example, by recorded delivery or to specific addresses) must be observed. Always double check.

The third step is to consider and plan for the consequences of termination. Many of these may be so intractably difficult that it might be better to reconsider the prudence of terminating at all. For example, if the contractor is carrying out design, is it complete? If not, what are the consequences of “split” responsibility? Any incoming contractor will need to pick up the works in the state in which the outgoing firm leaves them. In addition to the risk of split responsibility, how will the incoming contractor estimate the price given that it will not easily be able to assess what is complete, especially in building “systems”?

Has the contractor delivered the collateral warranties required of it and its subcontractors? It certainly will not be delivering them after termination

Are there any critical pieces of plant and equipment that cannot easily be obtained by a replacement contractor? Are there any items on long lead times which will be hard to secure afresh? How much delay will be caused by bringing in a new contractor?

Are consents required from funders or other third parties that may not be forthcoming? Has the contractor delivered the collateral warranties required of it and its subcontractors? It certainly will not be delivering them after termination …

And finally, damages. The law does not allow the employer to profit out of termination and the courts have evolved strict rules to ensure that this does not happen. The recent Multiplex litigation noted that Multiplex’s new steelwork subcontractor charged less to fabricate the steel than Cleveland Bridge, and Multiplex had to give credit to Cleveland Bridge in the final calculations for the saving that achieved.

Obviously, this is particularly likely in a falling market. Another trap relates to delay: the employer’s remedies for delay under the contract are fixed by the rate of liquidated damages and if that rate does not represent the employer’s true loss, it cannot use its entitlement.

So sometimes, even though termination may be an option, it is better to grin and bear it …