How to build a termination clause

In this article, we have a look at some of the important aspects that must be kept in mind when drafting a termination clause.

Most disputed terms WCC ranking: 

13

Most important terms WCC ranking: 

14

Most negotiated terms WCC ranking: 

5

What is termination for cause?

Usually, when terminating for cause something went wrong. For example, the party did not perform under the agreement and the specific obligation that was not performed is material.

There are other situations (causes) that can also entitle a party to terminate for cause, for example, the financial position of the other contracting party deteriorates to a certain extent.

What is termination for convenience?

Termination for convenience (sometimes referred to as no-fault termination) provides a party with a right to terminate an agreement even if the other party has not breached the agreement. In other words, the party can terminate the agreement for any reason (or for no reason). 

Building blocks of a Termination Clause

building a termination clause

Termination for cause - material breach

Generally, an aggrieved party can terminate an Agreement if the defaulting party commits a material breach of the agreement.

If a breach of the agreement can be cured (in other words, it can be fixed), there is usually a time provided to the defaulting party to remedy the breach. The aggrieved party can terminate the agreement if the defaulting party cannot cure the breach within the provided time.

If the breach cannot be remedied, the aggrieved party should be able to terminate the agreement immediately.

Termination for cause - other causes

It is also possible to terminate an Agreement for other reasons (causes) stipulated in the Agreement. For example, where there is a change in laws or regulations that has the effect that a party cannot perform their obligation under the Agreement.

The contracting parties are generally free to negotiate any termination for cause. For example, if the Agreement is concluded with a business specifically to gain access to the knowledge of a key employee, the contracting parties may agree that if this key employee leaves the employment of this business, the Agreement can be terminated for cause.

Termination for convenience - notice period

Depending on the services provided and how easily a replacement provider can be found, a reasonable notice period should be provided if a party wants to terminate the Agreement under the termination for convenience provisions.

Termination for convenience - penalties

In practice, people often refer to termination penalties. This wording may cause some trouble because penalties may be subject to certain limits. The amount you are negotiating here is more a charge or fee payable by a party to terminate the Agreement (without breaching the Agreement). It’s different from liquidated damages.\

This is an important negotiation point. When you are negotiating the commercial of an agreement, it is usually done with a specific contract term in mind. If an Agreement is terminated for no reason, the termination fee should be adequate to compensate the Party who may have agreed to reduced rates due to the length of the Agreement.  

Post-termination obligations and the effects of termination

Usually, when an Agreement is terminated a couple of things need to happen. These obligations survive termination and aim to facilitate a good exit. For example:

  • all materials provided by either Party to the other under this Agreement must be returned within 30 days after termination.

For clarity, often certain effects of termination are also stipulated. For example:

  • all licenses granted under the Agreement terminates; or
  • all due fees become payable.

Termination assistance

Some transactions will not require termination assistance provisions. Then there are transactions where the termination assistance provisions are heavily negotiated. Generally, if the transaction, for example, involves the outsourcing of a key business operation, a smooth transition of the services under the Agreement is vital when the Agreement is terminated.

If it is going to be a complex untangling of the Services from the business, it is a good idea to provide that the Parties need to draw up an Exit Plan. If good contract management is applied, this Exit Plan is usually drawn up before the termination of the Agreement.

What needs to be included in the Exit Plan depends on the industry and the specific Service and Products provided. Examples of items to include as part of the exit plan:

  • the tasks to be performed by the Parties in connection with the Termination Assistance
  • the schedule for the performance of tasks under the Exit Plan
  • specific license or ownership rights of the Parties with respect to Software or other intellectual property
  • a description and documentation of the services, service levels, fees, and access requirements that will be required to transition the service provided under the Agreement
  • the right to pass confidential product or service information on to other providers
  • the specific wind-down terms applicable to each stage of the Termination Assistance, including how volume changes will affect the provisioning of the services

 

You may also want to be clear on what happens if the Agreement is terminated under force majeure provisions and whether or not the Termination Assistance provisions will still apply in such an event.

If termination is due to a material breach of the Client, including non-payment, then make sure there is a right for the Provider to require additional terms to ensure compliance before providing any Termination Assistance.

Example clauses

Customer friendly

1.           TERMINATION

1.1         Material breach:  If a Party is in material breach of this Agreement and such breach is:

(a)         capable of being rectified, and the defaulting Party fails to rectify the breach within 7 days after the aggrieved Party provides a written notice requiring the defaulting Party to rectify the breach, then the aggrieved Party can terminate this Agreement with immediate effect and claim damages from the defaulting Party; or

(b)         not capable of being rectified, then the aggrieved Party can terminate this Agreement with immediate effect and claim damages from the defaulting Party.

Unless otherwise provided in the Agreement, the relief stipulated above will not limit the aggrieved Party’s rights. The aggrieved Party will have all available rights in terms of applicable law.

1.2         Termination for convenience:  A Party can terminate this Agreement for any reason and no reason before the end of the term of the Agreement by providing 30 days (the “Termination Notice Period”) written notice to the other Party. The Party terminating the Agreement under 1.3 must pay the other Party all amounts due up to the last day of the Termination Notice Period, with an amount equal to 10% of the value of the Agreement’s remainder.

1.3         Process after terminationUnless otherwise provided in the Agreement, when this Agreement terminates for any reason:

(a)         all due fees become payable;

(b)         all licenses granted under this Agreement will terminate;

(c)         all materials provided by either Party to the other under this Agreement will be returned within 30 days after the Agreement’s termination; and

(d)         all data within a Party's possession or control, including without limitation in the possession or control of its subcontractors, must be erased so that it cannot be recoverred.

1.4         Reasonable assistance:  The Provider will assist the Customer as requested to allow the services provided under this Agreement to continue and facilitate the orderly migration of these services (the Termination Assistance) for 60 days after the Agreement’s termination. During the Termination Assistance Period, the Provider must continue to comply with all requirements under this Agreement unless otherwise expressly agreed in the Exit Plan contemplated in 1.6.

1.5         Exit plan:  If and to the extent requested by the Customer, whether prior to or upon termination of this Agreement or during any Termination Assistance period, the Provider must assist the Customer in developing an Exit Plan (the “Exit Plan”) which must specify:

(a)         the tasks to be performed by the Parties in connection with the Termination Assistance;

(b)         the schedule for the performance of tasks under the Exit Plan;

(c)         specific license or ownership rights of the Parties with respect to software or other intellectual property;

(d)         a description and documentation of the services, service levels, fees, and access requirements that will be required to transition the service provided under the Agreement;

(e)         the right to pass confidential product or service information on to other providers; and

(f)           the specific wind-down terms applicable to each stage of the Termination Assistance, including how volume changes will affect the services provisioning.

1.6         Third-party agreements:  If there are third-party agreements that will need to be assigned to the Customer as part of Termination Assistance, and these third-party agreements are used by the Provider to support multiple customers, or these agreements contain provisions against assignment, then the Provider must provide reasonable assistance to the Customer in engaging those third-parties directly.

1.7         Terms of termination assistance:  With regards to the Termination Assistance:

(a)         it must be provided on terms similar to what the Provider offers for the same type of services to other customers of similar size, based on the volume and nature of the services as they are reduced over the life of the Exit Plan;

(b)         if the termination is due to a material breach of the Customer, including non-payment, then the Provider may require that the breach be remedied or the amounts due be paid before providing any Termination Assistance; and

(c)         if the Customer requests the Provider to provide the services under the Agreement directly to a replacement provider, then the Customer must ensure the replacement provider maintains the confidentiality of all information received and cannot use it to gain a competitive advantage over the Provider.

1.8         Survival:  The provisions under Article 1 will survive termination of the Agreement.

 

Provider friendly

1.           TERMINATION

1.1         Material breach:  If a Party is in material breach of this Agreement and such breach is:

(a)         capable of being rectified, and the defaulting Party fails to rectify the breach within 30 days after the aggrieved Party provides a written notice requiring the defaulting Party to rectify the breach, then the aggrieved Party can terminate this Agreement with immediate effect and claim damages from the defaulting Party; or

(b)         not capable of being rectified, then the aggrieved Party can terminate this Agreement with immediate effect and claim damages from the defaulting Party.

Unless otherwise provided in the Agreement, the relief stipulated above will not limit the aggrieved Party’s rights. The aggrieved Party will have all available rights in terms of applicable law.

1.2         Material adverse regulatory change:  The Provider may terminate this Agreement in whole, but not in part, in the event of a change in the regulatory environment applicable to the Provider that the change has a materially adverse effect on the Provider’s ability to fulfil their obligations under this Agreement. The termination right under 1.2 can be exercised by giving at least 2 months' prior written notice to the Customer.

1.3         Additional termination rights:  This Agreement may be terminated by:

(a)         a Party immediately, without advanced notice, if the other Party is deemed unable or admits their inability to pay their debts as they become due;

(b)         a Party immediately, without advanced notice, if the other Party suspends making payments on any of their debts;

(c)         a Party immediately, without advanced notice, if the other Party commences negotiations with their creditors to reschedule their indebtedness because of actual or anticipated financial difficulties; or

(d)         a Party immediately, without advanced notice, if the other Party is found guilty corrupt activities under applicable laws.

1.4         Survival:  The provisions under Article 1 will survive termination of the Agreement.

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The Author

Martin Kotze is a commercial lawyer with over 10 years of experience. He specialises in transactional work within the Tech, Financial Services and Property industries. 

He is also one of the co-founders at DocNinja and regularly advises listed companies to small and medium enterprises on how to contract better with their customers. 

Martin Kotze

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