Getting out of a contract: When is it OK to break a promise?

During the course of a contract, circumstances can change and businesses may not get what they originally bargained for. 

Losing out on some deals is a reality of business.  But the law, in some limited circumstances, allows parties to a contract to get out of a bad deal they have made.

In Part 2 of our Contract Series, we look at when is it OK to break a promise?

Promises you can’t keep

When an obligation under a contract is illegal, contrary to legislation, or against public policy, it may be unenforceable. 

In the case Visy Paper Pty Ltd v Glass Granulates Pty Ltd[1],  Visy agreed to supply some 200,000 tonnes of recycled glass to a processing company under a supply agreement.  If the percentage of “rubbish content” in each load of recycled glass exceeded 7%, then Visy was to pay Glass Granulates’ disposal costs.

In May 2014, Glass Granulates refused to accept a load, saying that it contained asbestos.  Visy argued the asbestos was “rubbish content”.  The question was did Glass Granulates have to accept the load (even if Visy paid the disposal costs later)?

The court held that, in general, courts will try and interpret a contract in such a way that it is lawful. There were existing regulations in NSW concerning the movement and disposal of asbestos.  Further, the supply agreement defined “rubbish” as:

“paper, plastic, cardboard and other contaminants…which are not recoverable…and must be disposed at a licenced waste facility…”

This definition of rubbish contrasted against what could be found in kerbside bins. Evidence was given by bin collectors that they had found the following items in recycling bins: car oil, gas bottles, dead animals, syringes, shot guns and even hand grenades[2]!.

The court concluded Glass Granulates did not have to accept material that was hazardous.  There was an implicit obligation under the contract for each party to comply with all laws and environmental regulations – including those in relation to management of asbestos.

The Court found that asbestos was not “rubbish content” and that Glass Granulates did not have to accept the loads. If it did, Glass Granulates could be in breach of those environmental laws.

A “frustrating” situation?

Sometimes deals can go terribly wrong. 

Many commercial contracts include standard “force majeure” clauses, which void an entire contract in extreme circumstances where events outside the control of the parties prevent the performance of the contract.  A contract where the circumstances have radically changed is sometimes referred to by courts as “frustrated”.

Sometimes, our business-savvy clients are quick to let us know they think that a contract has been “frustrated” or a “force majeure event has happened”, and they are no longer contractually bound.  The reality isn’t always so simple.

For example, let’s look at the case of Planet Kids Limited v Auckland Council.  The principles in this New Zealand decision also generally apply in Australia.  Planet Kids was a childcare business on land leased by Auckland Council. 

The childcare business was forced to move by the Council, and on 3 June 2010 entered into a settlement agreement for their costs in moving the business down the street.  On 2 October 2010, someone deliberately lit a fire at the existing premises and the whole building was destroyed.  

Auckland Council argued that the contract had been frustrated by the fire. That is, the Council argued they did not have any obligation to give the childcare centre its settlement monies when the building had burned down.  This was because, they said, there was no business place to vacate or surrender any more.

The Council was, however, unsuccessful.  The Court found that:

“All the important benefits sought by the Council – closure of the business, discharge of the lease, vacant possession, the ability to meet its own timeframes in constructing the road – were obtained by it. Planet Kids went out of business on the Council’s agreement it would pay it compensation in order to release the premises…”

The contract could still be performed – Planet Kids could still “vacate” the premises (so to speak) and the Council had obtained what it had bargained for under the settlement agreement.

Quick Tips

Businesses will generally be bound by the terms of a contract.  A party can’t get out of a contract merely because it is disappointing or because it isn’t as profitable as what was originally contemplated.

However:

• The law recognises a number of limited circumstances when a party to a contract aren’t bound anymore.

• A person or business cannot be contractually bound to do something illegal.

• A contract may be completely void in extreme circumstances.

• Courts will try and find a way to keep parties within a contractual relationship, even when circumstances have changed dramatically.

Contact us

In the Commercial Disputes team at Bartier Perry, we help our clients understand their obligations under a contract and find commercial ways of backing out of a deal when things turn sour.   

In the next instalment of our Contract Series, we will be looking at the allocation of risk in contracts, and the things businesses can do to protect themselves.

Further reading

Part 1 – Unfair contracts: Driving a hard bargain or unlawful conduct?

If you have any questions regarding this article, please contact Gavin Stuart.

Author: Stephen Ke

Contributing partner: Gavin Stuart

[1] [2014] NSWSC 1387.

[2] at [6].