High Court finds option agreement void for uncertainty where it left delivery dates to be agreed ~ Chris Bushell & Tom Brown, Herbert Smith Freehills – Litigation notes, 6 APRIL, 2017.
The High Court has found that an option agreement for the purchase of oil tankers was void for uncertainty where it provided that the delivery date for the vessels would be “mutually agreed upon” when the relevant options were exercised: Teekay Tankers Ltd v STX  EWHC 253 (Comm).
Although the parties had intended the agreement to be binding, the court found that it was impossible to imply a term by which the delivery dates were to be determined if the parties were not able to reach agreement. The delivery dates were an essential term of the contract, and so this was merely a non-binding “agreement to agree”.
The Teekay decision shows clearly the difficulties parties may have in enforcing contracts where essential terms are left to be agreed at a later date. Where possible, it is best to agree all important terms in advance. If that is not possible, the agreement should ideally set down some objective standard against which agreement is to be reached, or some other fall back provision to determine the content of the term if there is a deadlock. If the parties wish to retain the freedom to agree, or not, as they see fit, this may result in the agreement being rendered void as a result.
Chris Bushell and Tom Brown, a partner and associate in our disputes team, consider the decision further below. For more on contract formation, and the potential pitfalls, see When do you have a binding contract? It may be more (or less) often than you think, which is part of our series of contract disputes practical guides.
On 5 April 2013, the defendant (STX) contracted to build four oil tankers to be purchased by four separate subsidiaries of the claimant (Teekay) under four Sale Contracts. STX and Teekay also entered into an Options Contract under which Teekay was granted options to order from STX three additional sets of up to four tankers.
STX experienced financial difficulties and was unable to provide the refund guarantees required under the Sale Contracts and the options entered into pursuant to the Options Contract (Teekay had exercised two of the three options on 2 October 2013 and 22 November 2013).
The Sale Contracts were the subject of arbitration proceedings, in which the four Teekay subsidiaries were successful, and each buyer was awarded USD8.11 million as a result of STX’s repudiation of the Sale Contracts.
Teekay itself then brought proceedings alleging that STX was in repudiatory breach of the Options Contract, and claimed lost profits of USD178.8 million. STX contended that the Options Contract was void for uncertainty.
The relevant clause of the Options Contract, Clause 4, stated (emphasis as added in the judgment of Walker J):
“The Delivery Dates for each Optional Vessels shall be mutually agreed upon at the time of declaration of the relevant option
But [STX] will make best efforts to have a delivery within 2016 for each First Optional Vessels, within 2017 for each Second Optional Vessels and within 2017 for each Third Optional Vessels”.
STX contended that identification of delivery dates for the vessels was an essential matter that had been left to be agreed, and therefore there was no binding contract.
Teekay accepted that identification of delivery dates was an essential matter in the contract. Accordingly, in order to establish that the contract was binding, it had to show that the court could imply some method to determine the delivery dates if the parties were not able to reach agreement.
Teekay advanced two alternative constructions or implied terms, building on the words in Clause 4, to provide for what would happen in the event that Teekay and STX failed to agree a delivery date:
- “such date as STX offered, having used its best efforts to provide a delivery date within 2016 (for the First Optional Vessels), or 2017 (for the Second and Third Optional Vessels); and in the event that STX was not able to offer a date within the relevant year despite using its best efforts, the earliest date thereafter which STX was able to offer using its best efforts” (“the STX Offer Date Term”)
- “in respect of each Optional Vessel … an objectively reasonable date (having regard to STX’s obligation to use its best efforts to provide delivery dates within 2016 or 2017 as appropriate), to be determined by the court if not agreed” (“the Reasonable Date Term”)
STX, on the other hand, argued that neither of these implied terms or interpretations were permissible, and that Clause 4 was in fact an agreement to agree. The Options Contract was therefore void for uncertainty.
The High Court (Walker J) rejected both implied terms and held, in favour of STX, that the Options Contract was void for uncertainty.
The judge reviewed the law on agreements to agree, with a particular focus on the Court of Appeal decision in MRI Trading AG v Erdenet Mining Corp LLC  EWCA Civ 156 which summarised the relevant principles as extracted from previous Court of Appeal authorities. The non-exhaustive list of 15 principles set out by Walker J included the following, in summary:
- Each case must be decided on its own facts and the construction of the words used in the particular agreement.
- If on the true construction of the words used, the parties intended to leave an essential matter to be agreed later, where the parties would both remain free to agree or disagree on the matter, then there is no bargain which the courts can enforce.
- Where the court is satisfied that the parties intended that their bargain should be enforceable, it will strive to give effect to that intention by construing the words in a way that allows the matter to be agreed to be determined in the absence of agreement. In some cases the court may feel able to imply a term requiring a fair or reasonable price (or date, or as the case may be).
- However, the courts cannot imply a term which is inconsistent with what the parties have actually agreed.
On the facts of this case, the judge was satisfied that Teekay and STX had intended that the Options Contract would be enforceable. It was entered into following the (unenforceable) letter of intent. In addition, the entry into the Options Contract was part of the consideration provided by STX in respect of the Sale Contracts which had been entered into with the various Teekay subsidiaries.
As both parties had intended that the Options Contract would be enforceable, the courts should where possible strive to give effect to the bargain between Teekay and STX. However, the judge concluded that neither of the terms put forward by Teekay could be implied into the Options Contract, applying the test for implying terms as recently restated by the Supreme Court in Marks and Spencer plc v BNP Paribas  UKSC (outlined here), namely that the term either must be so obvious as to go without saying (the officious bystander test) or must be necessary to give business efficacy to the contract.
Taking the two suggested terms in turn:
- The STX Offer Date Term was “wholly different” from Clause 4. In particular, Clause 4 provided for a mutual agreement on the time for delivery, whereas the STX Offer Date Term provided an almost unilateral ability for STX to dictate the time of delivery. Similarly, the STX Offer Date Term would not have passed the officious bystander test. Walker J regarded this as a “term fashioned with the benefit of hindsight”, and accordingly wrong.
- The Reasonable Date Term was not “unilateral” like the STX Offer Date Term. However, the Reasonable Date Term did not identify any objective standard against which the reasonableness of any delivery date could be assessed. Walker J also thought that the term suggested by Teekay was too onerous and uncommercial for STX. As drafted, Clause 4 did not prevent STX acting in its own interests, and indeed Teekay had acknowledged that STX was able to have regard to its own financial considerations insofar as they affected the availability and delivery slots of oil tankers. The Options Agreement did not require STX to prioritise the construction and delivery of tankers for Teekay above other contracts it may have had with third parties, yet this would be the effect of the “best efforts” provision within the Reasonable Date Term.
Walker J accepted STX’s contention that the parties’ intention for the contract to be binding could not ride roughshod over the express words of Clause 4, which required further agreement to be reached between the parties regarding delivery dates. As Walker J put it:
“while I must strive to find an implied term which will save the option agreement, I can only do this consistently with established principles for the implication of terms. If I am driven to the conclusion that the parties must be taken to have intended that either would remain free to agree or disagree about a proposed delivery date as its own perceived interest might dictate, there is no room for an implied term that in the absence of agreement the matter shall be determined by reasonableness”.
Walker J noted the crucial distinction between agreeing to use best efforts to achieve a particular result, and agreeing to use best efforts to agree an essential term of the contract. A term to use best efforts to deliver on an agreed date would be enforceable, but a term to use best efforts to agree the delivery date would be uncertain and not capable of being enforced. Here the term fell into the latter category.
Implying a standard of reasonableness could not save the bargain, as there were no set criteria by which the court could judge what was reasonable.