Repudiatory breach claim upon contractual termination

Introduction

The established position in contract law is that an innocent party, faced by a repudiatory breach, has a choice: he can either treat the contract as continuing, or he can bring it to an end and claim damages for the loss of his bargain. If he elects to bring it to an end, where there is an anticipatory breach or breach of an executory contract, he must “accept the repudiation”. Such acceptance requires no particular form, though it must be clear and unequivocal.

There may also be circumstances in which the contract makes express provision for its own termination.

The parties may have agreed for there to be a contractual right of termination which is engaged by a breach of contract by either party. There may be a contractual right of termination which is engaged by actions or events that are wholly distinct from a breach of contract, such as an event of default or change in control.

Since a successful common law action for repudiatory breach will entitle the innocent party to loss of bargain damages, it is unsurprising that this will usually be a claimant’s preferred option. But what of the claimant who has validly exercised a contractual right of termination, but whose legal team subsequently advises him that as at the time of termination the other party had in fact committed a repudiatory breach? Will his contractual termination notice operate equally to “accept the repudiation”?

One line of authority holds that a party which has terminated a contract for a wrong or invalid reason may retrospectively support its termination by a good or valid reason. This is known as the Boston Deep Sea Fishing principle: Boston Deep Sea Fishing & Ice Co v Ansell (1888) 39 Ch D 339. It has typically been applied in employment cases concerning wrongful dismissal. In such cases, the (defendant) employer has been permitted to rely on after- acquired information to justify a dismissal which would otherwise have been invalid.

However, the position is different where a claimant seeks actively to mount a claim for damages, asserting that his reliance on the contractual term should be treated as a termination for repudiatory breach. A distinct line of authority has shown that it is not sufficient that the innocent party has communicated an intention simply to terminate the contract: for the cause of action to be complete, it must be demonstrated, in context, that the innocent party both did and intended to accept the repudiation.

Quite what this requires in practice will to some extent be case-sensitive, as that line of authority has demonstrated. A number of those decisions have given rise to significant academic controversy: see, for example, Peel [2013] LMCLQ 519.

Recently, the Commercial Court has had to decide a claim where the defendant, EE, launched a counterclaim against the claimant, Phones 4U, seeking damages for repudiatory breach in reliance on a contractual termination notice: Phones 4U Limited v EE Limited [2018] EWHC 49 (Comm). The distinctive feature of this case was that the contractual termination was not engaged by a breach of contract; rather, by an (insolvency) event of default.

The Commercial Court took the opportunity to examine from first principle the necessary ingredients required to constitute the cause of action for repudiatory breach. This was because, whilst not the first case in which a claimant sought to recover loss of bargain damages upon a contractual termination which arose independent of, and was not triggered by, any breach, its particular facts were without precise precedent. The decision will thus be of general application for commercial counterparties holding simultaneous rights to terminate a contract contractually and for repudiatory breach.

Background

The background to the Phones 4U decision was in many ways a classic example of a party seeking to avoid its contractual liability by contriving a counterclaim for repudiatory breach. The case had the following features.

Until September 2014, the Claimant, Phones 4U, was a well-known retail name. It operated a core business of selling mobile phone contracts to customers, known in the telecoms industry as network connections. Its primary revenue stream comprised commissions or revenue shares in respect of network connections it sold.

The Defendant, EE, is one of the major mobile network operators in the UK. At the relevant time, it provided network connections and services both under its newer “EE” brand and also under the longer- established “Orange” and “T-Mobile” brands. One of the main independent intermediaries through which EE’s services were sold, until September 2014, was Phones 4U.

On Monday 15 September 2014, Phones 4U entered into administration. The primary trading relationship between Phones 4U and EE at that time was governed by a written agreement relating to consumer pay monthly acquisition, retention and in-life management dated 8 October 2012 (the Trading Agreement). It contained a series of highly complex provisions regulating the revenue share and other sums payable by each of the parties to the other.

On the morning of appointment of Phones 4U’s administrators (15 September), Phones 4U’s retail stores did not open for business and online trading was suspended. A major issue in the proceedings was whether it was permanent, or was likely (and if so how likely) to be or become permanent, as of 1 pm on 17 September. That date was critical for the following reason.

At 1.02 pm on 17 September, EE sent Phones 4U’s administrators an email indicating inter alia that EE was terminating the contract by an attached letter. The termination letter was sent in terms which expressly terminated the Trading Agreement in accordance with clause 14.1.2.

That provision (clause 14.1.2) granted each party a right of termination exercisable, on notice, upon standard events of default occurring with regard to the other party (primarily, insolvency events). Whilst not expressly referring to the administration, it was common ground between the parties that the appointment of administrators gave EE the right to terminate under clause 14.1.2.

Under the Trading Agreement, Phones 4U had very significant claims against EE which had accrued and would continue to accrue until a runoff date in 2021, in the total estimated sum of some £120 million. In the face of EE’s refusal to pay the accrued sum, Phones 4U brought proceedings against EE for the payment of its claim to those revenue shares.

EE's complaint

EE issued two substantial counterclaims against Phones 4U. The primary counterclaim was for damages for its loss of bargain allegedly resulting from the termination of the Trading Agreement on 17 September, in the sum of some £200 million. Phones 4U applied for summary judgment on that counterclaim.

EE’s primary counterclaim was founded on a contention that Phones 4U had failed, as of 17 September, to perform its alleged obligations under the Trading Agreement, following the suspension of trading on 15 September. The alleged obligations were said to comprise obligations to market and sell EE’s products and services for the entire term of the Trading Agreement. Such failure was said to place Phones 4U in repudiatory breach of contract, alternatively that Phones 4U had renunciated the contract.

Phones 4U contended that the counterclaim was flawed as a matter of both fact and law and had no real prospect of success. First, that on the facts it was incontrovertible that Phones 4U had committed no repudiatory breach nor renunciation as at 17 September. Secondly, that the reality of EE’s position was that it had expressly terminated the contract under clause 14.1.2 on the basis of the administration. It had therefore failed to “accept the repudiation” (as alleged), because the termination notice could not have this effect.

The existence of the alleged obligation to market and sell EE’s products and services under the contract, or its precise content if it existed, was also a key issue in dispute in the underlying proceedings. However, that ground was not pursued on summary judgment, because of the extent to which EE sought to rely on matters of background fact (which Phones 4U contended were, in any event, inadmissible).

The two principal grounds of dispute at summary judgment were therefore (assuming the existence of the alleged obligation):

1. Was there a breach of the alleged obligation by Phones 4U as at 1pm on 17 September, and if so, was it repudiatory? Alternatively, was there a renunciation by Phones 4U of the contract?
2. Did the terms of EE’s termination letter defeat any claim by EE for damages for loss of bargain?

The decision of the Commercial Court

The application for summary judgment was determined in the Commercial Court by Mr Justice Andrew Baker. The Judge dismissed EE’s repudiatory  breach counterclaim, and granted summary judgment in favour of Phones 4U. He concluded that EE’s counterclaim for loss of bargain damages was necessarily bad in law.

The Judge found in favour of EE on the first issue, finding there to be a real prospect of success that Phones 4U had committed a repudiatory breach of contract as at 17 September. This issue would require a full trial.

However, he rejected EE’s case on the second issue, concluding that its termination letter did not have the effect, as a matter of law, of terminating the contract for repudiatory breach. This second finding was fatal to the counterclaim.

First principles

The Judge began with an analysis of how a right to damages for loss of bargain accrues at common law in the first place. He therefore approached his task of deciding how the exercise of a contractual right of termination can be capable of preventing the common law right from accruing, by applying first principles.

In so doing, the Judge criticised the long-established terminology of “accept the repudiation” as imprecise. He described the central elements of the cause of action as follows:

1. The cause of action is for damages for the repudiatory breach of contract committed by the guilty party or anticipated by its renunciation;
2. Those damages are for the loss of the innocent party’s bargain;
3. Such damages are recoverable only if that loss resulted from the breach;
4. There will be cases where the necessary causation is independent of any action or decision by the innocent party. For example, in respect of a failure to deliver under a sale of goods contract where time is of the essence, the buyer’s damages claim for non-delivery requires no “acceptance of repudiation”;
5. In all other cases, the necessary causation is created by the innocent party choosing to treat itself as discharged from further performance of the bargain and communicating that choice to the guilty party. If the innocent party elects to treat the bargain as at an end, the law treats the repudiatory breach as causing the loss of bargain notwithstanding that party’s freedom of choice. That communication requires no particular form, but it must be clear and unequivocal: Vitol SA v Norelf Ltd (The Santa Clara) [1996] AC 800.

This part of the decision therefore emphasised the critical importance of the termination notice communicating the termination for repudiatory breach. That is an issue ultimately resolved by the construction of the notice in its proper context. It put beyond doubt a principle of general application, which had not been articulated with the same measure of clarity in previous cases.

The Judge went on to identify the characteristic features of the Phones 4U case, being that:

1. A contractual right to terminate existed, triggered otherwise than by breach (actual or anticipatory);
2. That right was expressly exercised;
3. At the time of termination, (a) no mention was made of any breach, but (b) a repudiatory breach and/or renunciation existed (subject to any contrary findings at trial).

Given those features, the Judge considered in detail the relevant line of authority (in particular, the Court of Appeal decisions in: Stocznia Gdanska SA v Latvian Shipping Co et al [2002] 2 Lloyd’s Rep 436; Stocznia Gdynia SA v Gearbulk Holdings Ltd [2010] QB 27; Leofelis SA et al. v Lonsdale Sports Ltd et al. [2012] EWCA Civ 985; and Cavenagh v William Evans Ltd [2013] 1 WLR 238).

At the core of the Judge’s analysis were the following conclusions:

1. First, as a matter “of first principle”, “the key question … was whether it is necessary, for the common law claim for damages for loss of bargain made here, that EE terminated for breach (actual or anticipatory) by Phones 4U … [and communicated] to Phones 4U that it was doing…. I would say that is indeed what EE must show. The loss of bargain damages claim… in turn requires EE to show that the contract was terminated by its exercise of its common law right to terminate for that breach, respectively that renunciation”.
2. Secondly, the issue was one of construction of the relevant termination notice. More specifically, as the Judge put it, whether by its notice “EE purported to exercise a common law right to terminate for the repudiatory breach and/or renunciation now alleged”.
3. Thirdly, and perhaps unsurprisingly given the features of this case, on its proper construction EE’s termination letter “communicated unequivocally that EE was terminating in exercise of, and only of, its right to do so under clause 14.1.2, a right independent of any breach”.

Consequently, the Judge concluded that the terms of EE’s termination letter rendered unsustainable in law its claim for loss of bargain damages premised upon a repudiatory breach or renunciation extant when the letter was sent. That the contract could have been terminated for repudiatory breach could not be used to re-characterise the facts.

Counter indications

In his extensive analysis of the case law, the Judge grappled with certain dicta that could be read as supporting the contrary proposition. Namely, the proposition that it is sufficient that the claimant should have communicated unequivocally that he treated the contract as discharged, whatever he might say as to why. Such dicta emerged from the judgments of Rix LJ in Latvian Shipping ([32]) and Moore-Bick LJ in Gearbulk ([44]-[45]).

This did not withstand the scrutiny of the Judge. He did not depart from the principle that “acceptance” of repudiation requires no particular formality or form of words.

However, on the basis of his first principles analysis, he held that the claimant must still communicate a decision to terminate for the repudiation later said to found the claim.

Otherwise, as the Judge put it, “the claimant cannot say the termination and therefore its loss of bargain resulted from the repudiation sued upon”. Or as Pill LJ concluded in Leofelis ([44]): “If the premature determination of the contract is for reasons other than those that subsequently emerge, a claim for post- termination loss cannot be sustained”.

Same conduct

The Judge did, however, recognise that different issues will arise in the case where the contract is contractually terminated for a breach of contract, which is also held to be a repudiatory breach or renunciation. If only the contractual right is cited in the notice as justifying the termination, then a similar dispute is likely to arise. Indeed, such a scenario occurred in several of the authorities considered.

The Judge identified two issues which will arise. First, whether on the proper construction of the relevant contract, the innocent party only had the contract right, i.e. whether its common law right was excluded or replaced, not merely supplemented. This question, often referred to as the “complete code” issue, commonly arises in such cases. Secondly, whether the express reliance on the contractual right defeats the common law claim.

Following the decision of Christopher Clarke J in Dalkia Utilities Services plc v Celtech International Ltd [2006] 1 Lloyd’s Rep 599, the Judge held that in such a case, the termination is founded upon the conduct allegedly giving rise to the repudiatory breach. For that reason, the innocent party “can therefore say that the termination resulted from that repudiation; nothing more is required prima facie to found the common law loss of bargain damages claim. Reliance on a contractual right of termination is not inherently inconsistent with the subsequent pursuit of the claim”.

Even in such a case, it will still be a question of construction as to whether the innocent party was or was not “intending to accept the repudiation and was only relying on the contractual clause”.

The contractual right invoked in Phones 4U (clause 14.1.2) arose upon the appointment of administrators. Critically, the appointment of administrators was not, nor as a matter of law would it inevitably result in, a breach of contract by Phones 4U. The contractual right to terminate exercised by EE was not therefore triggered by breach.

Election between two rights

One issue which the case threw sharply into focus was the consideration given by certain Judges (both first instance and Court of Appeal) to the consequences of termination. More specifically, whether the consequences of contractual termination and termination at common law were so “inherently inconsistent” or “markedly different” as to preclude the notice operating to effect both.

The Judge firmly rejected any notion of this constituting the test (i.e. that if the consequences are not inconsistent, then the notice should be valid to exercise both rights). In particular, he interpreted the emphasis placed on consequences of termination in Dalkia (in that case, held to be diametrically opposing) as simply forming part of the construction exercise with regards to the termination letter.

Potential injustice?

The Judge also dealt with policy arguments founded on injustice which had some academic support. Namely, that it might be thought unjust for an innocent party to be “deprived” of loss of bargain damages where the guilty party has committed a repudiation, and the contract has in fact been terminated: Liu [2011] LMCLQ 4.

Such an argument was firmly rejected. The Judge considered that the innocent party is taken to have chosen to exercise his contractual right alone, a decision carrying, as the Judge put it, “a different set of risks and rewards, as built into the contract by the parties, as against a decision to terminate at common law alleging repudiation”.

He did not consider it unsatisfactory to hold the innocent party to that element of the bargain. That is perhaps unsurprising in circumstances where a party who wrongfully elects to terminate the contract for repudiation may himself be at risk of repudiating the contract, causing him to exercise the contractual right alone.

Boston Deep Sea Fishing principle

It was implicit in the Judge’s conclusions that the Boston Deep Sea Fishing principle had no application in such a case. That was because EE’s termination was valid and effective under clause 14.1.2. It was also because EE was not defending a claim against it seeking damages for wrongful repudiation, by showing that at the time of termination the other party was guilty of repudiation. Following the decisions in both Cavenagh and Phones 4U, it is now clear that the principle will not operate in this way as a sword, rather than a shield, and in the context of a lawful termination.

Conclusion

The Phones 4U decision provides welcome reconciliation of the case law. The case brought into sharp focus the essential principles at play when a party seeks retrospectively to rely on a contractual termination notice as effective to serve as an acceptance of the other party’s repudiatory breach.

The decision makes clear that if, on its proper construction, a termination letter communicates a decision to terminate only under an express contractual right to terminate that has arisen irrespective of any breach, it cannot be said that the contract was terminated for breach. A damages claim will fail on that basis.

However, it is likely that disputes such as arose in Phones 4U will continue to occur, not least given the central importance of construction which the decision has confirmed will bear on this issue.