The important aspects of terminating a commercial contract in the flooring industry Ann Critchell-Ward explains.

The flooring sector, or at least that involved in contracting, is in the unenviable position of having to find business, negotiate terms with often a larger and more powerful client, and worry about payments being made.

Consequently, at the start of any commercial relationship it is sensible to spend time looking carefully at the terms and conditions of the contract.

But just as a relationship can bloom so it can sour; contractors should therefore always try to ensure they have contractual rights that expressly allows them to exit from agreements that cease to be viable.

Of course, contracts aren’t always about what the contractor supplies; they also involve what it needs – materials, sub-contractors, IT systems, van leasing and servicing, and premises used for example.

There are several ways to terminate a contract.

Termination for breach
One of the most common termination rights is the right to terminate when the other party has breached the terms of the contract.

But to avoid a party being able to terminate for minor infringements, the right to terminate is often limited to where there has been a ‘material’ breach of the contract. This means that the failure must go to the core of the contract and substantially prevent the innocent party getting what was intended by the contract.

Where this is the case, the parties may wish to consider specifying certain clauses that, if breached, will constitute a ‘material’ breach and give the right to terminate with a right to terminate for ‘persistent’ breach.

Termination for ‘critical service failure’
Where a contract contains service levels, the customer may seek to include a right for it to terminate for breach where the supplier repeatedly fails to meet those service levels in what is often referred to as a ‘Critical Service Failure’.

The parties will need to consider how many breaches of a specific service level will constitute a failure; how many combined breaches will constitute a failure; and within what period of time breaches of one or more service levels must occur for a failure to occur.

This could, for example, involve a subcontractor continually failing to meet deadlines or an IT supplier failing to update software.

Termination for non-payment
The breach that a supplier will be most concerned about is non-payment. Whilst it could be argued that non-payment is an example of a ‘material’ breach, it is quite common to see termination for non-payment as a separate termination right available to the supplier.

It’s reasonable to give the customer a set period within which to pay and thereby avoid the termination of the contract.

A customer in a strong negotiating position may seek a longer remedy period to correct any instance of non-payment than that for remedying other material breaches. It may also try to prevent the supplier from exercising its right to terminate for non-payment unless the outstanding amount passes a certain threshold.

Termination for insolvency
Consideration should be given to the various ways in which a party could experience an ‘insolvency event’, with the parties ensuring that all of these are covered in the right to terminate for insolvency. Where one of the parties is an individual, reference to bankruptcy should also be included.

Following the introduction of the Corporate Insolvency and Governance Act 2020, a supplier cannot terminate a contract if its customer enters any form of insolvency proceedings. To guard against this and ensure that it is does not end up locked into a contract under which it is required to continue to deliver goods or services to a customer who is unlikely to be able to pay, a supplier may seek to draft the mutual right to terminate for insolvency so that this can be exercised either where a party becomes subject to insolvency proceedings; or where the terminating party reasonably believes that the other party will become subject to insolvency proceedings.

A supplier might include additional grounds for termination which allow either party to terminate the contract where the other party’s financial position begins to deteriorate – and before formal insolvency proceedings.

For example, Carpetright’s administration in 2024 could have triggered the possibility of contract termination for suppliers, particularly if the suppliers could demonstrate that Carpetright’s financial difficulties made it unlikely to meet its future obligations under the contract
Termination for convenience.

Parties can agree to have a right to terminate the contract ‘for convenience’ and without needing a reason to do so. This right, however, creates significant uncertainty as to how long the contract will last.

From a supplier’s perspective, a customer’s right to terminate poses a significant risk to the amount of income it will have anticipated generating under the contract. It may also threaten its ability to recover any costs incurred in delivering goods or services.

From a customer’s perspective, a supplier’s right to terminate poses a significant risk to continuity of service. It may result in it having to pay above market rates to procure replacement goods and/or services at short notice.

It’s therefore important that an appropriate amount of notice is provided by the party terminating the contract for convenience.

The supplier may also want to place additional conditions on the customer’s right to terminate for convenience. Such conditions could include the customer only being able to exercise its right to terminate after a certain point in time in the duration of the contract; the supplier being able to recover from the customer any stranded costs it has incurred; and the customer having to make a termination payment in respect of the supplier’s unrealised income/profit for the remainder of the contract.

Termination in connection with a change to the charges
In long-term contracts, parties may agree to include provisions which allow them to make changes to the supplier’s charges at fixed intervals throughout the contract.

If the price of goods and/or raw materials has significantly increased since the contract was entered into, the supplier may consider that it cannot continue without incurring a significant loss.
Likewise, if the market rate for the goods or services has significantly dropped since the contract was entered into, the customer may consider the contract commercially unviable at the supplier’s current rates.

In either of these cases, one of the parties could propose a change to the charges which may not be acceptable to the other. Here a termination right would allow either party to terminate the contract at the end of such negotiations to avoid being locked into a contract which is no longer commercially viable.

Termination due to change of control
A contract could include a right to terminate if the corporate ownership of the other party changes.

The supplier will want to guard against the customer being acquired by a competitor and having to provide goods or services to a rival, which may consequently learn valuable information about how the supplier provides its goods or services. Likewise, the customer will be keen to avoid a supplier being acquired by a competitors and having to pay them for goods or services.

Termination due to force majeure
Parties often include a force majeure clause in their contracts which absolves them from any failure to perform contractual obligations where this is caused by an event beyond their control.
Of course, if a force majeure event continues to prevent a party from performing its obligations, there may reach a point where it becomes commercially sensible for the parties to be able to terminate the contract.

And it’s a term that many in the sector have already incorporated into their contracts.

Summary
A written contract, professionally and properly negotiated, will stand a contractor in good stead if an event occurs that disrupts or changes its operations. Although it’s impossible to foresee every eventuality, having termination clauses in the contract will help to protect both parties.

Ann Critchell-Ward is head of practice and a partner in the commercial department of Wright Hassall.