Brexit update: will Brexit cause contracts to come to an end?

Background – the law of frustration

It is not for nothing that commercial contracts commonly include a “force majeure” clause. Contrary to the assumptions of many non-lawyers, there is no concept of force majeure in English Law, which of course is why commercial contracts commonly include some such provision.

Recent law has considered the effect of force majeure clauses – basically, you have to bring yourself within the exact words of them, otherwise they will not apply. I looked at two recent examples here and they throw some interesting light on how the courts approach them.

What happens if you do not have a force majeure clause in your contract, or if you cannot for any reason rely on it? You are then thrown back on the English Law doctrine of frustration. It has commonly been said in the case-law that this doctrine is of narrow application. Basically, if a party undertakes an obligation, then the law will hold that party to that obligation come what may. Frustration will apply only to terminate a contract where some supervening event has made performance impossible in some way – not just more difficult, more costly or time-consuming, but actually impossible. Moreover, the supervening event cannot be self-induced – a party cannot rely on a frustrating event unless that event is beyond both parties’ control.

In the last couple of years, “Brexit clauses” have become used in some contracts as the parties try to agree what is going to happen to their commercial agreement following Brexit. Being commercial terms, they are subject to negotiation and agreement, so there is no common form for a Brexit clause.

What happens if your contract says nothing about Brexit – will Brexit “frustrate” your contract by bringing it to an automatic end? This is the point considered by the High Court recently in the case of Canary Wharf v European Medicines Agency.

Basic facts

The claimants (Canary Wharf) are companies set up to own and provide management services for premises at 25-30 Churchill Place in Canary Wharf. The European Medicines Agency (EMA) is an agency of the EU.

In 2011, the parties entered into an agreement for a lease and then into the lease itself in 2014. As is typical for a major property transaction, there was much to negotiate and the parties’ respective interests were to a large extent divergent (as in any commercial transaction). The EMA wanted premises in the UK, which was still a member of the EU, and it was not in 2011 reasonably foreseeable that the UK would leave the EU. Canary Wharf wanted a cornerstone tenant and wanted to have such a tenant in place for some considerable time, otherwise it would not be worth building the premises: it also wanted to secure for itself a continuing flow of rental income. As against which, the EMA wanted premises which were bespoke to its purposes and intended use scenarios, while allowing for it to divest itself of the premises should it wish to do so at some point.

In the end, the parties agreed on a 25 year term to the lease, without a break clause, but allowing for the EMA to assign or sub-let the premises (albeit subject to some onerous conditions in favour of Canary Wharf).

As we all know, contrary to the political pundits’ best predictions, in June 2016, the UK in a referendum voted to leave the EU and the UK Government implemented the Article 50 procedure to leave the EU in 2017.

On 2 August 2017, the EMA wrote to Canary Wharf saying that it considered that, when Brexit occurred, it would frustrate the lease. In terms of political reality, the EMA had to be located in an EU member state and in fact in 2018 the EU decided to relocate it to Amsterdam. Canary Wharf brought proceedings for a declaration that Brexit would not act as a frustrating event. The case was expedited and judgment quickly issued so that the parties would know their position prior to the UK’s departure from the EU.

The EMA’s arguments

Essentially, the EMA argued that Brexit would frustrate the lease as

• Brexit would defeat the common purpose of the lease; and
• the EMA would not legally be able to stay in London after Brexit, such that there was a supervening illegality

Of course, as the judge observed, Brexit is a very confused and confusing scenario or, rather, collection of possible scenarios ranging from what has become known as a hard Brexit right the way through to the UK withdrawing its Article 50 notice and deciding to stay in the EU. In the middle is the option of the EU and the UK agreeing some sort of Withdrawal Agreement. In the end, the judge, without committing to any political position, decided the case on the basis of either a hard Brexit (the most extreme option) or the application of the Withdrawal Agreement currently on the table.

The EMA sought to argue that, based on the regulations governing its legal capacity, it would not have the legal power to continue with the lease, or to divest itself of the lease or even pay rent. Being effectively forced to move to an EU member state, it would not be able to make any use at all of the premises, either to occupy them or to derive benefit from them by sub-letting or assigning the lease. The result was that it would be forced to pay rent for two sets of premises, causing it loss and diminishing its effectiveness as an operating agency.

The decision

The judge of course had to pick his way carefully through the politically loaded scenarios and arguments on either side.

Capacity

After considering the various regulations establishing and governing the EMA, the judge concluded that they did not prevent the EMA disposing of the premises or paying rent. He noted that there were certainly some serious legal disadvantages for the EMA after a hard Brexit (such as loss of certain immunities and legal protections), but a hard Brexit did not, as a matter of applying the regulations applying to the EMA, mean that it became legally impossible for the EMA to continue to occupy the premises, to pay rent or to assign or sub-let the premises if it so chose.

The Withdrawal Agreement would not make any difference – in fact, the Withdrawal Agreement expressly provided for what would happen to the EMA and assumed that the EMA had the necessary legal power to assign or sub-let the premises and so minimise (or eliminate) any loss caused by moving to Amsterdam.

What if the EMA did not have capacity?

The judge still considered this point: assuming everything said by the EMA was right about the limitations on its legal capacity, would that amount to frustration?

Again, the judge said that it would not. The EMA had capacity to enter into the lease, and nothing that happened subsequently in EU law could amount under English Law to frustration. Frustration, said the judge, applied only to the EMA’s capacity when entering into the contract, it did not apply to later changes in legal capacity making performance illegal.

In any case, the legal effects of Brexit could have been improved by the EU e.g. by dealing with matters of capacity in the relevant regulations, so the failure to do so made any frustration self-induced – it was not something outside the EMA’s control therefore.

Would Brexit frustrate the “common purpose” of the lease?

After reviewing the authorities, the judge again that there was no frustration of the common purpose – as, quite simply, there was no common purpose.

This was a commercial agreement with a lengthy term, keenly negotiated by the parties and resulting in a document of considerable length and sophistication. The judge found a number of key factors to influence his decision:

• the UK’s withdrawal from the EU was not foreseeable in 2011, when the parties entered into the agreement for a lease
• the important issues were negotiated and the parties came to an agreement that reflected their divergent interests – so that the EMA got premises that were built specifically for it, and its various legal immunities and protections were dealt with
• there was no break clause, but the parties did deal with future uncertainties by allowing the EMA to assign or sub-let its lease

The judge concluded that, following a hard Brexit, the EMA’s legal position would change materially for the worse by losing its various legal immunities and protections, but none of this made its continued occupation of the premises impossible as a question of fact. The real question was whether, without either party being at fault, the lease had become incapable of performance, in the sense that Brexit had made the lease a radically different thing from what the parties envisaged when entering into the lease.

According to the judge, there was no common purpose other than the specific provisions to be found in the lease. The real problem was that the EMA was forced to leave due to circumstances beyond its control, but this eventuality was expressly provided for in the lease by the assignment and sub-letting provisions, so the EMA had got what it  bargained for. As the judge put it, in words which would cheer any Brexiteer’s heart:

“… the EMA chose to enter into a long-term relationship, with long-term obligations. It played a role in framing those obligations: it could have opted for different premises, with a shorter lease; it could have negotiated a break and paid a (far) higher price and foregone the inducements it received. It did none of these things, but instead accepted provisions contemplating its departure from the Premises and providing for this case.”

In other words, the EMA had only itself to blame – it negotiated the terms, which were subject to detailed scrutiny by the EU, but it still entered into the lease and therefore had to abide by it.

What does this decision mean for contracts after Brexit?

Firstly, it is understood that leave to appeal has been given and we must await the Court of Appeal’s judgment on the matter.

Secondly, every case on every contract must be decided on its own facts so it is hard to conclude from this one case that Brexit must automatically rule out any argument based on frustration.

In fact, it is hard to generalise from the judgment. The judge’s review of the relevant law is interesting but, on the other hand, the cases historically are relatively few in number and many of the decisions are hard to reconcile. In other words, it is open to the Court of Appeal to apply the same cases to come to a different conclusion.

Having said which, the case does concern an agency of the EU itself, not just a business operating in the EU. It could be said that, if the EU itself (or one of its agencies) cannot get out of its contract, it is going to be difficult for anyone else to show that Brexit amounts to frustration.

Time will tell – at the moment, parties should consider Brexit as part of their contractual negotiations, and should consider Brexit in existing contracts as well so that any issues are identified and dealt with to the extent possible.

Caveat

This is intended as a general update and you should seek professional advice before seeking to use any of the material in this update in a specific commercial situation.