TERMINATION CLAUSES IN CONTRACT DRAFTING By Seth Doe Esq

Introduction

Termination clauses are essential provisions in contract drafting. They define the conditions under which a party may lawfully exit a contract and the procedures for doing so. These clauses provide commercial flexibility, allocate risk, and serve as a mechanism for managing breach, force majeure, insolvency, and other contingencies.

In the absence of an express termination clause, parties must rely on common law rights of termination, which may not always provide a clear or suitable remedy. Properly drafted termination clauses reduce uncertainty, mitigate the risk of litigation, and give parties greater control over their contractual relationships.

This article examines the legal foundation, structure, and drafting considerations for termination clauses, with practical examples and guidance on best practices.

1. Legal Background and Importance

1.1 Common Law Termination

Under English law, a contract may be terminated at common law in the following circumstances:

• Repudiatory breach: Where one party commits a breach so serious that it deprives the other of substantially the whole benefit of the contract (Hongkong Fir Shipping Co Ltd v Kawasaki Kisen Kaisha Ltd [1962]).
• Anticipatory breach: Where one party indicates in advance that they will not perform their obligations.
• Frustration: Where unforeseen events render performance impossible or radically different from what was agreed (Davis Contractors Ltd v Fareham UDC [1956]).

While these remedies exist, they can be unpredictable in scope and effect. Termination clauses allow parties to define their own grounds and procedures for termination, reducing reliance on uncertain common law principles.

2. Functions of a Termination Clause

A termination clause serves several key functions:

• Specifies the grounds upon which a contract may be terminated.
• Outlines the procedural requirements for termination (e.g., notice periods).
• Defines the effects of termination (e.g., payment of outstanding obligations, return of property, survival of certain clauses).
• Establishes exit rights tailored to the commercial relationship.

Termination clauses are particularly important in long-term contracts, service agreements, supply chains, licensing, and joint ventures, where performance may evolve over time and parties need an agreed method of disengagement.

3. Types of Termination Clauses

Termination clauses can be categorised based on the triggering events:

3.1 Termination for Cause (Termination on Breach)

This allows a party to terminate if the other party commits a material breach or fails to cure a breach within a specified period.

Example:
“Either party may terminate this Agreement immediately by written notice if the other party commits a material breach and fails to remedy such breach within thirty (30) days of receiving written notice thereof.”

Drafting tips:

• Define “material breach” clearly.
• Include a cure period to promote commercial resolution.
• Specify notice procedures precisely.

3.2 Termination for Convenience

Also known as termination without cause, this permits a party to terminate the agreement for any reason, typically subject to advance notice.

Example:
“Either party may terminate this Agreement for any reason by giving ninety (90) days’ prior written notice to the other party.”

Use cases:

• Long-term supply or outsourcing contracts.
• Commercial flexibility in evolving markets.

Considerations:

• The terminating party may still be liable for accrued obligations.
• Some contracts impose a termination fee or compensation for early termination.
• In certain jurisdictions, termination for convenience may be limited in consumer or employment contracts.

3.3 Termination for Insolvency

This allows termination upon the insolvency, administration, or winding-up of the other party.

Example:
“This Agreement may be terminated immediately by written notice if either party becomes insolvent, enters into liquidation, or has an administrator or receiver appointed over its assets.”

Legal caution:

• In some jurisdictions, such clauses may be restricted by insolvency laws (e.g., anti-deprivation rules or ipso facto clauses).
• Under English law, the Corporate Insolvency and Governance Act 2020 places limitations on termination for insolvency of certain companies.

3.4 Termination upon Force Majeure

Contracts may allow termination if a force majeure event continues for a prolonged period.

Example:
“If a Force Majeure Event continues for more than sixty (60) consecutive days, either party may terminate this Agreement upon ten (10) days’ written notice.”

This aligns the termination clause with the force majeure provision and provides a mutual escape mechanism from prolonged non-performance.

4. Structuring and Drafting Termination Clauses

A well-drafted termination clause should cover the following elements:

4.1 Grounds for Termination

Clearly set out the events or breaches giving rise to termination. Avoid vague or subjective terms.

Poor example:
“The Agreement may be terminated if the other party behaves unreasonably.”

Better example:
“The Agreement may be terminated if the other party fails to deliver the Services in accordance with Clause 4 and does not remedy such failure within 14 days of receiving notice.”

4.2 Notice Requirements

Specify the format and method of notice (e.g., in writing, email, registered post) and any timeframes required.

Example:
“Notice of termination must be given in writing and delivered by registered post or by email with confirmation of receipt. Termination shall take effect upon expiry of the notice period.”

Failure to follow notice procedures can render the termination invalid.

4.3 Cure Periods

A cure period gives the breaching party a chance to rectify the issue, preserving the commercial relationship.

Example:
“If a party breaches any provision of this Agreement, the non-breaching party shall give notice specifying the breach. If the breaching party does not cure the breach within 30 days, the Agreement may be terminated.”

This strengthens enforceability by showing reasonable steps were taken before termination.

4.4 Consequences of Termination

The clause should address what happens once the contract is terminated:

• Payment of outstanding invoices.
• Return of confidential information or property.
• Continuation (or cessation) of certain rights and obligations.
• Dispute resolution procedures.

Example:
“Upon termination, each party shall promptly return all confidential information and proprietary materials belonging to the other party. Termination shall not affect any rights accrued prior to the termination date. Clauses 9 (Confidentiality), 10 (Limitation of Liability), and 12 (Governing Law) shall survive termination.”

5. Practical Illustrations

5.1 IT Services Agreement – Termination for Cause

Scenario: A company hires a software provider to develop and maintain a digital platform. The provider consistently misses key milestones.

Clause:
“If the Service Provider fails to meet three or more milestones within any six-month period, the Client may terminate this Agreement upon thirty (30) days’ written notice.”

5.2 Outsourcing Agreement – Termination for Convenience

Scenario: A logistics company outsources delivery operations but reserves the right to bring the function back in-house if business needs change.

Clause:
“The Company may terminate this Agreement at any time without cause by giving the Service Provider ninety (90) days’ written notice. Upon termination, the Service Provider shall cooperate in the orderly transfer of services.”

5.3 Joint Venture Agreement – Termination for Deadlock

Scenario: Two parties enter a joint venture with a clause addressing shareholder deadlock.

Clause:
“If the Board is unable to reach a decision on a Reserved Matter after three consecutive meetings, either party may serve a Termination Notice, triggering a buy-out or winding-up procedure.”

6. Risks of Poorly Drafted Termination Clauses

• Ambiguity: Vague terms can lead to disputes.
• Inadequate notice provisions: Can result in wrongful termination claims.
• Lack of post-termination provisions: Leaves parties uncertain about rights and liabilities.
• Unreasonable termination for convenience: May be challenged if exercised in bad faith.

7. Coordination with Other Clauses

Termination clauses should align with:

• Dispute resolution mechanisms (mediation or arbitration prerequisites).
• Force majeure provisions.
• Limitation of liability clauses.
• Change control or variation clauses.
• Confidentiality, IP, and restrictive covenant clauses that may survive termination.

8. Governing Law and Jurisdiction

Consider how governing law may impact enforcement or interpretation of termination rights. For example, termination for convenience may be restricted in consumer contracts or subject to overriding good faith requirements in certain jurisdictions.

Conclusion

Termination clauses are indispensable tools in contract management. They provide structure, predictability, and fairness in the dissolution of contractual relationships. A well-drafted termination clause does not merely serve as an exit door it reinforces the entire contract by outlining the rights and responsibilities that apply when the agreement ends.

Legal drafters must approach termination clauses with precision and commercial awareness to ensure enforceability and avoid disputes.