The Court of Appeal for Ontario’s decision in Atos IT Solutions v Sapient Canada Inc. highlights the utility of a termination for convenience clause in defining a breaching party’s minimum contractual obligation in the event of a wrongful termination for cause.
The Minimum Performance Principle
The minimum performance principle requires the court, when assessing damages for breach of contract, to assume that a contract-breaker, who has alternative modes of performing the contract, will perform in the way least profitable to the non-breaching party and least burdensome to itself. The minimum performance principle is, therefore, a limit on the expectancy principle, which requires the breaching party to pay damages in an amount that will provide the non-breaching party with the financial equivalent of performance.
Atos IT Solutions v Sapient Canada Inc.
In June 2007, Enbridge Gas Distribution Inc. (“Enbridge”) contracted the appellant, Sapient Canada Inc. (“Sapient”), to replace its many software systems with a single enterprise resource planning software system (the “Project”). Sapient, in turn, entered into a fixed price subcontract with Siemens Canada Limited (“Siemens”), now Atos Inc., to perform both the application management support (“AMS”) services and the document conversion (“DC”) services elements of the Project. The subcontract entitled Sapient to terminate the entire agreement for cause and provided a more limited right to terminate the DC services portion for convenience.
The Project was large and complex, involving extensive planning in order to achieve proper implementation. The installation of the software started in June 2007 and was completed in September 2009, five months behind schedule. Sapient purported to terminate the subcontract with Siemens for cause on June 29, 2009 and entered into a new agreement with Enbridge to self-provide the AMS services in order to improve its financial position on the Project. Siemens sued, claiming damages for wrongful termination of the subcontract, and Sapient counterclaimed for damages arising from delayed completion of the Project.
The trial judge determined that Sapient had wrongfully terminated the subcontract and awarded damages of $2.4 million for the balance owing to Siemens for the DC services, and damages of $3.6 million for termination of the AMS services, equal to Siemens’ estimated gross profits.
In determining the damages for termination of the DC services, the trial judge rejected Sapient’s argument that the minimum performance principle should limit Siemens’ damages to an amount calculated by reference to the termination for convenience clause. The trial judge reasoned that the right to terminate for convenience only applied to the DC services, and, as Sapient had intended to terminate the entire subcontract rather than just the DC services, it was not entitled to have the damages for termination of the DC services calculated using the less onerous formula in the termination for convenience clause.
On appeal, Sapient maintained that it was entitled to the least burdensome mode of performance in relation to its breach of the DC services portion of the subcontract, termination for convenience, despite having relied on the termination for cause provision when it terminated the entire subcontract.
Siemens responded that since Sapient could not terminate the entire subcontract by using the termination for convenience clause, there was no alternative mode of performance that would form the basis for the application of the minimum performance principle. Siemens further argued that even if the subcontract permitted alternative modes of performance, Sapient had failed to act in good faith in terminating the subcontract. It, therefore, could not take advantage of the less burdensome damages calculation formula contained in the termination for convenience clause.
Court of Appeal Decision
The Court of Appeal held that the minimum performance principle applied to the calculation of damages for the termination of the DC services since the termination for convenience clause “shaped and constrained Siemens’ reasonable expectations concerning the damages it could recover in the event Sapient terminated the DC services.” As a result, Siemens’ damages for the wrongful termination of the DC services portion should have been calculated using the formula in the termination for convenience clause, reducing the award from $2.4 to $1 million.
In dealing with the issue of whether the termination for convenience provision was an alternative mode of performance, the Court of Appeal found that it was open to Sapient to use the termination for convenience clause to terminate the DC services, and to rely on the termination for cause provision to terminate the remainder of the subcontract. While Sapient did not terminate the contract in that fashion, the “termination for convenience clause effectively defined the upper limit of Sapient’s liability for damages in respect of the DC services.”
The Court of Appeal further rejected Siemens’ position that the minimum performance principle did not apply because of Sapient’s bad faith in terminating the subcontract. First, the Court noted that while the trial judge had found that Sapient acted in bad faith in terminating the subcontract, he had not found that the failure to act in good faith barred the application of the minimum performance principle. Second, the Court of Appeal referred to the Supreme Court of Canada’s observation in Bhasin v Hrynew that even the breach of a broader duty of good faith would not have prevented the breaching party from having its contractual liability “measured by reference to the least onerous means of performance.” In light of this allusion to the minimum performance principle, the Court of Appeal held that the Bhasin decision could not be understood to imply that a breaching party’s bad faith conduct would prevent application of the minimum performance principle.
The Court of Appeal’s decision indicates that a fee determined by a formula set out in the termination for convenience clause may serve as the upper limit to liability in the event of a wrongful termination. As a result, the parties negotiating a termination for convenience clause should ensure that the clause accurately sets out either the types of costs that are payable or the formula for determining the fee that is payable in the event of such a termination.
In the construction industry, the types of costs that may be payable include:
- payment for all work performed prior to the date of termination;
- losses or expenses directly related to, or resulting from, the early termination of the contract, such as the costs of labour, plant and material or goods actually incurred;
- costs of overhead incurred on-site; and
- a set percentage of the above costs for profit and home office overhead.
The Court of Appeal’s finding that bad faith conduct will not prevent application of the minimum performance principle is also noteworthy, as some commentators had posited that a termination for convenience provision could only be invoked in good faith.
This decision highlights the need for general contractors and subcontractors to consider the potential implications of termination for convenience clauses when negotiating construction contracts, and the utility to the owner or general contractor of such a clause in the event of a wrongful termination of a general contractor or subcontractor respectively for default. Parties to prime contracts in the heavy industrial construction industry in Alberta should be particularly cognizant of the implications since termination for convenience clauses are standard, as evidenced by the forms of agreement prepared and made available to the industry by the Construction Owners Association of Alberta.