Case law: Court clarifies when subsequent events end an agreement automatically by 'frustration'
Businesses negotiating agreements should try to foresee and make provision for all 'supervening events' – events which could realistically happen and would make performing the agreement impossible, or change the nature of the parties' rights and obligations under it. Otherwise, they risk the agreement ending automatically because it has been 'frustrated', a recent ruling makes clear.
This update was published in Legal Alert - December 2016
Legal Alert is a monthly checklist from Atom Content Marketing highlighting new and pending laws, regulations, codes of practice and rulings that could have an impact on your business.
A company entered into a Services Agreement with a franchisor under which the company took over the management of the franchisor's business. The services included helping the franchisor effect a transition to a new way of operating, under a restructuring plan. It was accepted that the restructuring was likely to create issues for some franchisees and customers, which could lead to a loss of business.
The company engaged a contractor to help it perform its part of the Services Agreement, and they entered into a written Contractor Agreement.
As anticipated, franchisees were not happy. In October 2011, they claimed that their franchise agreements had ended. The franchisor served notice on all of them in any event, terminating the franchises. The net result was that the franchisor lost all of its franchisees and customers.
Despite this, the company continued making payments to its contractor until December 2011. However, in February 2012 it gave the contractor notice that it was terminating the Contractor Agreement. It said that the contractor could invoice for another 30 days but the Agreement would end on 16 March 2012.
On 13 March 2012, the company changed tack. It claimed instead that the Contractor Agreement had automatically come to an end in October 2011 – the date it became clear there was no reasonable prospect of the franchisees accepting the proposed changes - because the agreement had been 'frustrated' at that time.
An agreement is frustrated in law when there is a supervening event which either makes performance of the agreement impossible, or which so significantly changes the parties' rights and obligations under it that it would not be just for them to continue to be bound by it. Since the consequence of frustration – that the agreement ends automatically – is so serious, the burden of proving frustration is a heavy one.
The company argued that the purpose of the Contractor Agreement was for the contractor to help it perform its obligations under the Services Agreement, which were to move the franchisees to the new way of operating. Since the franchisor would no longer have any franchisees, the purpose could no longer be fulfilled and the Contractor Agreement had therefore been frustrated.
Court of Appeal disagreed, and found:
- The work to be carried out under the Services Agreement was not limited to moving the existing franchisees and their customers to the new way of operating. It also required the company to provide the services in relation to any new franchisees, or any new business/customers, brought in by the franchisor itself. So the fact the existing franchisees were leaving did not mean there would no longer be any work for either the company or the contractor. The Contractor Agreement had not therefore been frustrated
- A contract can only be frustrated by an event if the parties cannot reasonably be thought to have foreseen that event as a real possibility. Here, the franchisor and the company had foreseen the specific possibility that franchisees might leave. By going ahead with the contract as drafted (rather than, for example, specifically providing for the contractor's obligations to change if existing franchisees left), the company had accepted that risk
- To an extent, the company was the author of its own misfortune as one of the reasons the franchisees decide to leave was the way it had treated them during its negotiations with them
The Court also took into account that (whilst delay is not always a defence to a claim that an agreement has been frustrated) the company did not claim the franchisees' decision to leave was a frustrating event at the time, but instead chose to wait five months before doing so.
The Court held that the Contractor Agreement had not been frustrated as claimed by the company.
- Businesses entering into agreements should try to foresee all 'supervening events' – events which could realistically happen and which, if they did, would make performing the agreement impossible, or change the nature of each parties' rights and obligations under it - or risk the agreement ending automatically because it has been 'frustrated'
Case ref: Armchair Answercall Limited v People in Mind Limited  EWCA Civ 1039
Disclaimer: This article from Atom Content Marketing is for general guidance only, for businesses in the United Kingdom governed by the laws of England. Atom Content Marketing, expert contributors and ICAEW (as distributor) disclaim all liability for any errors or omissions.