Analysis

What you need to consider prior to terminating contracts

Parties may also wish to explore the option of suspension before proceeding to a termination, writes King & Wood Malleson’s Parnika Chaturvedi

The impact of COVID-19 continues to be felt across all sectors, including the construction sector. Despite certain construction activities being approved to continue, amidst government movement restrictions, a number of construction projects have still faced issues with supply chains, material and equipment sourcing, workforce shortages and liquidity concerns, resulting in project delays and financial setbacks. Against this backdrop, the termination of contracts has been an avenue commonly explored by companies. However, termination is a drastic step, which more often than not is fraught with difficulties.

As a first step, the party intending to terminate the contract should carefully consider the factual scenario in light of the contractual termination provisions to establish whether it has a right to terminate. Some common circumstances which might give rise to a right to termination, as set out in Clauses 15.2 and 16.2 of the FIDIC Red Book 1999, include failure to make payment in accordance with the terms of the contract, failure to commence works without any reasonable excuse, failure to issue payment certificate, failure to comply with the notice of remedial works, bankruptcy and/ or insolvency.

Parties may also wish to explore the option of suspension before proceeding to a termination.

Once the party intending to terminate is satisfied that it has a right to terminate, the next step is establishing the process in relation to the notice requirements, notice period, and whether a court order is required for the termination to be valid.

While the notice provisions are largely a matter governed by contractual terms, the court order requirements are a matter arising from the UAE Civil Code provisions on termination. The general termination provisions are found in Articles 267 to 273 of the UAE Civil Code. Article 267 states that contracts may only be terminated by mutual consent, a court order or by operation of a provision of the law.

In addition, there are special provisions in the UAE Civil Code which only apply to Muqawala contracts, which is defined in Article 872 as “a contract whereby one of the parties thereto undertakes to make a thing or to perform work in consideration which the other party undertakes to provide.” Article 892 specifies three circumstances in which a Muqawala contract might be terminated; upon the completion of the work agreed, upon the cancellation of the contract by consent or by order of the court.

A typical termination provision will require a breach by the one party, which the breaching party has failed to remedy within a specified reasonable time, such that it entitles the non-breaching party to terminate the contract. It is important to check if the termination provision allows for termination without a court order in circumstances where the works have not been completed and termination is not by mutual consent. Often parties assume they have a right to terminate, when none exists, or parties fail to follow the required process, which can lead to an invalid termination and a potential claim for damages against the terminating party.

For a party receiving a termination notice, a similar stepwise process should be adopted. The receiving party must review and analyse the termination notice to confirm whether the notice issued can lead to effective termination. This can include whether a contract breach has occurred giving the terminating party a right to terminate, whether adequate notice has been issued in accordance with the contract and whether a court order is required for termination to be valid.

In all cases, parties should diligently review the contracts currently in place and future agreements to ensure they fully understand the contractual relationship and are adequately protected.

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