by Sarah Thomas
Answer: when it’s an affirmation. Consider the questions which Shell raised in an appeal case recently decided by the High Court (commented on by Connor in his last post):
Shell’s position was that Centurion Petroleum Corporation was in repudiatory breach and that Shell had clearly “accepted” this repudiation. The problem they faced was that the arbitral tribunal had interpreted their letter notifying Centurion that their contract was at an end as an “affirmation” of the contract – an interpretation with a significant price tag attached. On appeal, Shell were asking the Court “what principle requires a clear election to terminate on the basis that a substantial sum is recoverable to be treated as a termination on the basis that nothing is recoverable?”
A fair question, you might agree. Yet the Court ruled that by sending a letter terminating the contract in accordance with its termination procedure, Shell had “affirmed” the contract – i.e. treated it as continuing. This cost Shell about $15m.
The background
A number of disputes had arisen between Shell and oil exploration company Centurion Petroleum Corporation (now Dana Gas Egypt) concerning their contract for an oil and gas exploration project in the Nile Delta. Shell argued that Centurion had committed a repudiatory breach of the contract by failing to issue notices about a change in control of its holding company and that Centurion had also breached one of its warranties, entitling Shell to rescind the contract in accordance with clause 5 of the contract.
By this time, Shell was also entitled to terminate the contract on giving 30 days’ notice to Centurion in accordance with clause 3.1.8 because the “Closing Date” had not been achieved by the specified deadline. This is the right that Shell in fact exercised. It wrote a letter to Centurion stating that the contract would be terminated 30 days after the date of the letter. In the letter Shell invoked Clause 3.1.9 of the contract which provided that if the Closing Date had not been achieved because certain consents from the Egyptian government had not been obtained, Centurion was obliged to refund all payments made by Shell, including its initial US $15m investment.
In fact, the authors of the termination letter were mistaken about the consents not being obtained; Centurion had provided them to Shell a month before. Centurion responded to the termination letter by accepting the termination, waiving the 30-day notice period and pointing out that Centurion was under no obligation to refund any payments.
The dispute went to arbitration and the arbitrators found that Centurion had indeed committed a repudiatory breach of the contract and a breach of warranty entitling Shell to rescind the contract. However, they found that Shell had neither accepted the repudiatory breach nor exercised their contractual right to rescind the contract. By terminating under the contract they had affirmed it. Shell appealed against this award.
The judgment
The High Court judge had to decide whether or not Shell’s termination letter could be regarded as accepting Centurion’s repudiatory breach as terminating the contract.
There is no set form for accepting repudiation; all that is required is a clear, unequivocal communication (whether orally, in writing, or by conduct) that the innocent party is treating the contract as discharged. Whether a clear and unequivocal communication has been made is examined objectively – what would the reasonable recipient of the communication have understood from it?
On the face of it, the letter clearly stated that Shell was terminating in accordance with clause 3 of the contract, and made no mention of the repudiatory breach. However, there is case-law that says that, if a party has both a right to terminate at common law for repudiatory breach and a right under the contract, as long as the innocent party makes it clear that he is treating the contract as discharged, he does not have to choose between the common law right and the contractual clause. He can effectively accept the repudiation by exercising the contractual right. This is the case even if he does not refer to the common law right, and even if he gives a “bad reason” for terminating the contract (such as wrongly asserting that consents have not been obtained).
He must choose which right to exercise though, if exercising the right under the contract is inconsistent with accepting the repudiatory breach. In this case, the rights Shell had at common law and under Clause 3 of the contract were inconsistent with each other. The termination clause was not triggered by breach, and provided that Centurion was not obliged to repay any money in the event that it was exercised.
So, would a reasonable recipient read the letter as unequivocally terminating under Clause 3.1.8, or as accepting the repudiation? Shell said repudiation, because, they argued, they had made a mistake about the government consents and no-one would think they were terminating under Clause 3.1.8 if they could not recover their $15m. The judge disagreed.
“The letter as written plainly communicates an unequivocal election to terminate under Clause 3.1.8. In my judgment the obvious mistake contained in it does not, in context, derogate from that message, because it was a perfectly feasible commercial stance for Shell to adopt (…)”
Faced with the choice of arguing about whether Centurion had committed a repudiatory breach or not, or exercising a contractual right which was indisputably available (which would have meant losing the initial $15m but not having to pay a further $20m), the judge thought it was plausible that Shell would have cut its losses and plumped for the termination clause.
Interestingly, the judge suggested that Shell could have “hedged its bets” and opted to accept the repudiation AND terminate under the contract in case they got it wrong:
“I can see no reason why Shell could not have served a notice which accepted the repudiatory breach as terminating the contract but, in the alternative, in case they were wrong in asserting that Centurion were in repudiatory breach, exercised the contractual right to terminate afforded by Clause 3.1.8.”
What can be learned from Shell’s expensive mistake?
Well, it shows how carefully you need to tread if you think the other side has committed a repudiatory breach. If you terminate the contract but end up being wrong about a repudiatory breach being committed, then you could be in repudiatory breach yourself.
On a positive note, the judge’s suggestion about how Shell could and should have worded its termination letter is helpful to others. Shell had their pick of reasons to terminate the contract but chose the wrong one – but maybe it is sometimes possible to have your cake and eat it?
By Sarah Thomas and Susannah Cassedanne