In times of austerity, the survival of many businesses will depend on their ability to successfully renegotiate contracts; whether this be maintaining contracts on particularly favourable terms, or getting out of contracts that are no longer commercially attractive.
However, where one party is more powerful than the other, the exertion of undue pressure in the course of negotiations may amount to economic duress and render the contract voidable by the victim of the duress. Conversely, businesses must be aware of other parties attempting to evade what they now deem to be “onerous” contracts by arguing that they are victims of economic duress.
What constitutes economic duress
In the case of DSND Subsea Ltd v Petroleum Geo-Services ASA (2000), Dyson J defined ‘economic duress’ as follows:
"The ingredients of actionable duress are that there must be pressure, (a) whose practical effect is that there is compulsion on, or lack of practical choice for, the victim, (b) which is illegitimate, and (c) which is a significant case inducing the claimant to enter into the contract. In determining whether there has been illegitimate pressure, the court takes into account a range of factors. These include whether there has been an actual or threatened breach of contract; whether the person allegedly exerting the pressure has acted in good or bad faith; whether the victim had any realistic alternative but to submit to the pressure; whether the victim protested at the time; and whether he affirmed and sought to rely on the contract… illegitimate pressure must be distinguished from the rough and tumble of the pressures of normal commercial bargaining."
Economic duress can take place at the formation of a contract, or at any point during its renegotiation. It can be established in circumstances where:
- The pressure applied to the victim is illegitimate; and
- But for that illegitimate pressure, the victim would not have entered into the disputed contract.
The line between legitimate negotiation and economic duress has always been blurred and what constitutes “illegitimate” pressure can only be determined on a case by case basis. However, the pressure must be significant and must have an effect on the victim’s conduct. Pressure will not render the contract voidable unless it is illegitimate. Examples of legitimate pressure include threats not to enter into a contract or a threat to issue legal proceedings.
Where contracts are being renegotiated, one party threatening to unlawfully breach the contract or commit another civil wrong if its demands are not met, may, in itself, constitute economic duress. However, it is often the culmination of additional factors that will render the contract voidable. Other factors that the Court will consider are whether the victim had any realistic or practical alternatives, whether they protested about the new terms and conditions at the time and the effect of the imposed terms and conditions on its business.
A recent example
The issue was recently considered in the case of Kolmar Group AG v Traxpo Enterprises PVT Limited  EWHC 113 (Comm). In this case, Traxpo entered into a contract to supply Kolmar with methanol at a set price and quantity. It soon transpired that Traxpo did not have access to sufficient supplies of methanol and the market price of methanol had also increased significantly. Kolmar required the methanol for an important customer in the USA and attempted to head off any problems with supply by arranging for a letter of credit in Traxpo’s favour, but to no avail.
Having failed to supply the methanol, Traxpo informed Kolmar that it was considering backing out of the contract and that it would require significant changes to be made to the contract if it was to continue. These changes involved an increase in the price and a decrease in the quantity supplied. The changes were presented as a “take it or leave it” proposal and, despite its protests, Kolmar had no choice but to accept the changes in order to fulfil its contract with its customer in the USA.
Kolmar issued proceedings against Traxpo immediately after delivery and was successful in its claim. The Court found that Kolmar had only agreed to the revised terms as a result of Traxpo’s coercive and illegitimate threats.
The case clearly demonstrates that the Court will not allow one party to threaten fundamental breaches of contract in order to renegotiate more favourable terms for itself at the other party’s expense.
Consequences of economic duress
Where a contract is found to have been entered into as a result of economic duress, it is voidable and damages may be recovered from the offending party. Those damages are to reflect any loss that has been suffered as a result of the duress.
If the victim has affirmed the economic duress either expressly, or impliedly (for example by delaying in taking any action to set aside the contract) then the contract will no longer be voidable. Care should, therefore, be taken as to the length of time spent considering whether or not to act upon the other party’s economic duress.
When negotiating contractual terms and conditions, parties should consider whether what they are proposing to do is lawful, the effect of their demands on the potential victim and the influence that those demands may have on the victim’s actions, particularly if those demands cannot be justified under the circumstances and have not been made in good faith. They should also assess whether the demand risks being cast as improperly exploiting commercial strength.
If you think that you may be a victim of economic duress, then raise the issue at the time, make it clear that you strongly disapprove of the other party’s conduct and feel that you have no choice but to accept their proposals. You should then take legal advice as soon as possible and, if appropriate, terminate the contract on the basis that it was entered into under economic duress.
To mediate or not to mediate: is there an option?
Mediation is a voluntary process in which a neutral third party assists disputing parties towards a negotiated settlement. It is probably the most widely utilised form of alternative dispute resolution as both the Civil Procedure Rules (CPR), which govern the conduct of litigation, and the approach of the courts, means that it is more a case of “when” not “if” the parties to a dispute will enter mediation. This approach is founded upon the principle that litigation should be the last resort by which parties should resolve disputes.
The Civil Procedure Rules enable a Court to take the conduct of the parties into account when determining the issue of payment of legal costs (once liability has been determined). Usually the successful party is able to recover a significant proportion of its costs from the losing party (say, 65-70%).
However, where one party unreasonably refuses to participate in mediation, it may face costs sanctions. As costs can often be substantial, this threat of costs sanctions is the principal method by which the Courts encourage the parties to mediate. Dunnett v Railtrack plc  provides an example of such costs sanctions, where the Court of Appeal refused the successful party its costs because it refused to mediate (without any consideration) before the appeal was heard.
Costs sanctions for unreasonably refusing to mediate can be severe: in Dyson and Field v Leeds City Council  the Court of Appeal warned that costs may be awarded against a party that unreasonably refuses to mediate on the penal indemnity basis and/ or that a party may be ordered to pay a higher rate of interest on any damages.
Where public authorities are involved, mediation is very frequent However, the Civil Courts tend to the view that, in commercial cases, it is inappropriate to make mediation mandatory and would be unlikely to impose costs sanctions if a party could show that mediation had been properly considered and rejected on reasonable grounds.
The head of civil justice in England and Wales) has cautioned against the use of mediation in place of Court proceedings, warning that “if we expand mediation beyond its proper limits as a complement to justice, we run the risk of depriving particular persons or classes of person of their right to equal and impartial justice under the law.” Lord Neuberger’s view is that “mediation is a complement to justice. It cannot ever be a substitute for justice.”
There is clearly a policy drive at both national and European Union level to encourage the use of mediation and as a result, it is more important than ever for parties to a dispute in England and Wales, and their lawyers, to ensure that they seriously consider mediation as a means of trying to resolve their differences. Failure to do so could prove to be a costly mistake.
What is a dispute resolution clause?
A dispute resolution clause details the appropriate mechanism for resolution of a dispute that arises in relation to a contract. It is important that a dispute resolution clause is drafted using clear and unambiguous language to save time and costs.
Choosing the most appropriate mechanism for dispute resolution
The parties involved should think carefully about the best way they would like to resolve any dispute. This is largely dependant on the nature of the contract and the industry within which the parties operate.
Some of the matters to consider include:
- Adjudication, which is typically used in construction contracts on a provisional and interim basis. This allows projects to resume whilst disputes are resolved.
- Mediation, which enables parties to attempt to settle their dispute through negotiation with the assistance of a neutral third party. Though it is a broad brush approach, it can be a relatively cheap way of resolving a dispute.
- Arbitration, which provides a means of resolving disputes based on the parties’ agreement. It has the benefits of being confidential and more flexible in that the parties can choose where it will happen, the rules to govern it and sometimes the appointment of a particular arbitrator.
- -Litigation, which is more transparent and a very vigorous examination of all of the issues. The outcome is binding subject to any appeal.
- Combination clauses which contain, as the name suggests, a combination of dispute resolution mechanisms for different types of dispute.
Types of combination clauses
Multi-tiered clauses: These permit parties to pursue some form of ADR before embarking on arbitration or litigation. A properly drafted multi-tiered clause should include an alternative dispute resolution stage and then provide for arbitration or court proceedings if the ADR stage does not result in resolving the dispute.
- The benefits of multi-tiered clauses are that they provide the opportunity to seek to resolve the disputes in a less adversarial setting, preserve ongoing commercial relationships and save time and money.
- But an ADR stage can cause delay and procrastination. In addition, whilst costs may be limited, if no solution is reached then those costs are wasted. As with all of these types of clauses the process needs to be clearly drafted so there is no dispute over the process that needs to be followed as this will just serve to detract from the whole point of having the clause.
- Hybrid clauses: seek to combine litigation and arbitration by including an option to arbitrate.
Carve out clauses: allow for certain types of dispute to be carved out from the agreed dispute resolution procedure and submitted to a separate dispute resolution mechanism.
- Carve out clauses are preferable in situations where there are technical or valuation issues which the parties may want resolved by expert determination.
- If they are used inappropriately, however, they can simply be a pre-cursor to litigation and arbitration on other issues which just increase costs.
- On a practical level, when drafting a carve out clause the parties should make sure that they define carefully and precisely the causes of the dispute so that they can try and avoid any grey areas.
Enforceability of ADR
Following cases like Cable and Wireless Plc v IBM United Kingdom Limited and DGT Steel & Cladding Ltd v Cubbitt Building & Interiors Ltd, a clause needs to set out the particular procedure that the parties are going to follow in ADR to avoid any comments of uncertainty.
Dos and Don’ts
- Do use mandatory language. For example it should be made clear that matters shall be referred to arbitration rather than may be referred to arbitration.
- Do not use permissive language such as “may” to minimise ambiguity.
- Do properly specify both the chosen institution and the arbitral seat e.g. “Any dispute arising under this contract shall be resolved by arbitration at the ICC of Paris”.
Do be specific and consistent. For example, where the dispute resolution clause specifies arbitration as the appropriate mechanism for resolution of a dispute:
- Is it a binding obligation to arbitrate (and not commence litigation proceedings)?
- Is it an option to arbitrate failing which the parties will revert to litigation?
- Are only certain disputes to be covered by arbitration?
- If some kinds of dispute are to be referred to arbitration and others to litigation, do identify this clearly and precisely.
- Avoid ambiguity and complexity. Obviously the more complicated a clause is, the more likely that someone is going to try and argue about it.
- If an option to arbitrate is provided for, do express that option clearly stating who has the right to opt for arbitration and in what circumstances.
- Do make sure that you appoint a body/institution correctly and ensure that the body is able and willing to act.