We are never ever getting back together: getting termination notices right

Key takeaways

• Take care when receiving termination notices and take legal advice from the outset: Carefully consider any termination notice you receive with your legal team. Choosing whether to accept a repudiatory breach is an important, potentially costly, decision that has a fundamental impact on the operation of the contract, and usually has to be taken very quickly.
• Similarly, involve legal advisers when you draft a termination notice: Serving an invalid termination notice and wrongly treating the contract as repudiated can leave you vulnerable to repudiating the contract yourself. Here, Rolls-Royce's first termination notice erroneously relied on milestones that had been superseded in a later plan. A party alleged to have repudiated a contract by purporting to terminate at common law, but relying on an improper ground, can subsequently rely on another ground to defend what would otherwise be an unlawful termination¹, but it is much safer to get it right the first time.
• Plan ahead: If there are important milestones, agree the dates up front where possible and re-agree them as necessary as the project develops. Comply with contractual provisions governing variation, and evidence the agreement in writing each time.
• Make sure your milestones are clear: Here, the court found that the original implementation plan between the parties did not contain contractually binding milestone dates. The plan was described as an "Anticipated Timeline" and took the form of a roadmap diagram with no specific dates or months for each step to be achieved. However, the timing of the milestones in later plans, which provided specific dates for each stage, were contractually binding.
• Is time of the essence? If time is of the essence, timely performance is a condition of the contract, meaning that any breach, no matter how small², is repudiatory and will enable the innocent party to terminate the contract and claim damages.
• If time is to be of the essence, include a clearly drafted provision in the agreement and make sure that it is consistent with your termination clause (do not, for example, include a grace period to rectify). Here, the parties disagreed whether the relevant clause³ meant that time was of the essence. Taking into account the natural and ordinary meaning of the words used, the other provisions of the Agreement and the factual matrix, the court determined that time was of the essence for the relevant milestone dates in the later implementation plans.

Background

Topalsson provides specialist digital twin engine and configurator software for the automotive industry. Their software allows prospective customers to configure the car they are interested in and see what it will look like.

In October 2019, Rolls-Royce contracted Topalsson to create a digital visualisation software for its new Rolls-Royce Ghost model launch in Spring 2020 (the "Agreement") but the software development and supply was delayed.

Topalsson alleged that Rolls-Royce's approach was inappropriate for the tight timeline. Rolls-Royce on the other hand, accused Topalsson of misrepresenting its expertise and inadequately resourcing the project, leading to significant delays and poor performance.

In April 2020, Rolls-Royce purported to terminate the Agreement at common law on the basis that Topalsson had failed to achieve set milestone dates (the "First Termination Notice"). Topalsson rejected the First Termination Notice, claiming, amongst other points, that the milestones at issue had never been agreed, and it affirmed the Agreement.

Later in April 2020, Rolls-Royce sent a second termination notice, without prejudice to the First Termination Notice, purporting to terminate at common law or alternatively under the Agreement on the grounds that further milestone dates had not been met (the "Second Termination Notice"). Topalsson again claimed that the Second Termination Notice was not effective and so Rolls-Royce's wrongful termination meant that it was in repudiatory breach of the Agreement. This time Topalsson elected to accept the alleged repudiatory breach and stopped work in May 2020.

Topalsson issued proceedings, claiming damages for unlawful termination and lost profits, alternatively for work carried out and/or invoiced as at the termination date.

Rolls-Royce counterclaimed damages flowing from the alleged repudiatory breach, claiming losses of €20 million for software replacement costs, lost profits, and other related damages.

Both parties agreed that under the Agreement the contractual claims were capped at €5 million.

Judgment

The key issues for the court to decide were:

1. Was Topalsson was obliged to deliver and install the software in accordance with an agreed programme or within a reasonable time?

Rolls-Royce claimed that Topalsson had missed certain contractual milestone dates. Topalsson argued that there were no contractually binding dates and that, instead, it was required to carry out work within a reasonable period.

The court found that the original implementation plan between the parties did not contain contractually binding milestone dates. It was a roadmap diagram described as an "Anticipated Timeline" and did not contain specific dates or months for steps to be achieved. The Agreement also required the implementation plan to be refined and referred to estimated dates.

However, two later plans (one in December 2019, and one in March 2020 with revised dates) were prepared by Topalsson and approved by Rolls-Royce. The court held that the milestone dates in these later plans were contractually binding on the parties.

2. Did Topalsson achieve the milestone dates?

The court found that Topalsson had failed to achieve its milestones. Topalsson itself had acknowledged in internal discussions that it was far behind the deadlines.

3. Did Rolls-Royce impede Topalsson from performing its contractual obligations?

Topalsson was unable to show that Rolls-Royce was responsible for any delay that contributed to its failure to meet the relevant milestones.

"The most likely reason for the delay to progress was the lack of appropriately skilled resources, either because Topalsson took on a project that simply was beyond its capabilities, or because it struggled to recruit and retain the necessary staffing levels."

The court accepted Topalsson's case that some initial delay was caused by the late start of the project, but (i) that did not exonerate Topalsson from its obligation to meet the agreed milestones, and (ii) the later plans took into account the delay.

4. Was Rolls-Royce entitled to terminate?

The First Termination Notice was erroneous because it relied on milestone dates that had been replaced in a later plan. That error was immaterial because Topalsson rejected the First Termination Notice and affirmed the Agreement (and it would not have prevented Rolls-Royce from relying on another ground for termination in any case).

The Second Termination Notice did validly terminate Topalsson's appointment under the Agreement.

The provision in the Agreement allowing Rolls-Royce to terminate stated: "If in the reasonable opinion of [Rolls-Royce] [Topalsson] fails to perform the Services in accordance with this Agreement or to deliver Deliverables by the applicable delivery dates or milestone dates or if [Rolls-Royce] rejects the Deliverables, without limitation to any other of its rights or remedies, [Rolls-Royce] shall have the following rights:

… 13.11.3 to terminate this Agreement in whole or part with immediate effect by giving written notice to [Topalsson]."

The judge commented that this provision would not allow Rolls-Royce to terminate for a very trivial or inconsequential breach⁴, for example, if the milestones had been missed by only a few hours. Here, however, Topalsson's failure "could not be described as a 'near miss'": one milestone was achieved 11 days late and others were not achieved at all. That failure was a material breach going to the root of the contract.

The court also found that, under the Agreement, time was of the essence. That meant that timely performance was a condition of the Agreement and that any delay goes to the root of the contract, no matter how small or trivial the breach⁵. Topalsson's failure to meet the agreed milestones therefore amounted to a breach of condition in any case, which entitled Rolls-Royce to terminate either under the Agreement or at common law for repudiatory breach.

5. Quantum

Damages awarded for breach of contract are compensatory, intended to give effect to the contractual bargain⁶. The Agreement provided for a 'net loss' approach i.e. any gains that arise from the breach (such as savings made in not carrying out future performance) are set-off against expenses caused by the breach (such as cost of replacement) and gains prevented by the breach (such as loss of profits).

The court rejected Topalsson's argument that this set-off exercise should be carried out after the contractual €5 million liability cap has been applied. After the set-off exercise had been undertaken, the court held that Topalsson owed Rolls-Royce €7,167,564. That was capped at the agreed €5 million.