UK High Court reiterates principles for implied contractual terms  

May 09, 2022

A recent High Court case1 relating to a trade mark licensing and merchandising agreement offers a timely reminder of the principles a Court will consider when determining whether a term should be implied into a commercial contract. The judgment found it necessary and obvious to imply a term requiring a licensor’s cooperation into an exclusive licence agreement (the “Agreement”) to manufacture trade marked merchandise and racing uniforms for the Force India Formula One racing team (the “Team”).

The contract in question

The Agreement was entered into in 2014 between Force India Formula One Team Limited (“Force India”) as the licensor and Brandon AB as the licensee. In 2017, Brandon AB assigned its rights in the Agreement to Stichd Sportsmerchandising BV (“Stichd”). Force India subsequently became insolvent, and liquidators sold Force India’s business and its assets to Racing Point prior to the end of the term of the Agreement.

Stichd alleged that it was an implied term of the Agreement that Force India would continue to operate the Team for the term of the Agreement. Stichd further alleged that, in breach of that implied term, Force India’s sale of the Team had resulted in Stichd being unable to exercise its rights and obligations under, or to profit from, the Agreement. The primary rights and obligations at issue were (i) Stichd’s obligation to manufacture Team uniforms; (ii) Stichd’s right of access to Team facilities; and (iii) Stichd ’s right to earn revenues through the sale of licensed Team merchandise. Stichd argued that the proposed implied term reflected the need for Force India’s cooperation in facilitating Stichd’s performance of the contract.

The tests for implied terms

The overarching applicable principles governing implied terms are that:

  1.  a term will not be implied unless, on an objective assessment of the terms of the contract, it is necessary to give business efficacy to the contract and/or the obviousness test is met;
  2. the necessary for business efficacy and obviousness tests are alternatives, but it will be unusual for only one to be satisfied without the other;
  3. the business efficacy test is only satisfied if the contract lacks commercial or practical coherence without the term (this involves a value judgement);
  4. the obviousness test (also referred to as the ‘officious bystander’ test) is only satisfied when the implied term is so obvious that it goes without saying. The term must be capable of clear expression, and the precise term to be implied must be obvious. The question to be posed by the officious bystander must be formulated with utmost care;
  5. no term will be implied if it is inconsistent with an express term of the contract;
  6. there is no requirement for proof of an actual intention of the parties: the tests are applied with reference to the intentions of notional reasonable people in the position of the parties;
  7. the tests must be met at the time of contracting (without the benefit of hindsight), and it is insufficient to show that the parties would have wanted to make provision for a particular circumstance had they foreseen the eventuality that would occur; and
  8. the equity of a suggested implied term is essential, but not sufficient: a term should not be implied merely because it is fair, or the parties would have agreed to it had it been suggested to them. There must be necessity, not reasonableness.

Nevertheless, the reasonable expectations of the parties inform both the necessary and obvious tests. The judge in the Force India case stated that the eight principles above, along with the notion of reasonable expectations, could be approached through the following two-stage analysis of whether implying a term was necessary or obvious:

  1. whether a reasonable expectation arose from the express terms of the contract, viewed objectively; and
  2. whether the protection of that expectation was obvious and/or necessary to give the contract practical or commercial coherence.

The judge added that implied terms requiring cooperation or barring prevention of performance of a contract cannot exact a higher standard of duty than is otherwise imposed by the express terms of an agreement.

The High Court’s decision

The Court applied these principles to three distinct sets of obligations and rights within the Agreement to determine whether the implication of the term proposed by Stichd was justified.

Firstly, no implied term was found to be necessary in relation to Stichd’s uniform production obligations. Stichd argued that without the proposed implied term, it would be prevented from producing the uniforms and performing its contractual obligations, and thus it was necessary to imply the term. However, as the definition of ‘team’ included ‘owned and managed by Force India’, the ‘team’ as defined in the Agreement ceased to exist on the sale of the Team to Racing Point. Force India could not require a uniform for a non-existent team, and so Stichd’s obligation to provide uniforms fell away when the Team was sold.

Secondly, Force India’s obligations to allow Stichd access to the Team’s facilities were also impossible to carry out if it no longer owned the Team. There was no basis on which to imply a term in relation to these provisions because Force India’s failure to provide access was already a breach of contract. There is no necessity to imply a term where express provisions are themselves breached.

Finally, the Court found an implied term to be necessary and obvious for Stichd’s right to earn revenues through the sale of licensed Team merchandise. The following factors were relevant to that conclusion:

  • Force India’s ownership of the Team was important to the parties because it was mentioned twice in the contract;
  • As an arm’s length commercial contract, Stichd’s intention to make a profit from the contract could be assumed. The duration of the agreement over which Stichd could make those profits was just over five years;
  • Termination rights were limited and not exercised by either party (including a right only for the non-defaulting party to terminate on the occurrence of insolvency);
  • Stichd’s ability to make profits was additionally protected by a territorial exclusivity right;
  • Stichd’s ability to make profits was not excessive or unusually high (and was therefore not high risk, high reward); and
  • Stichd was required to undertake work in return for the licence of rights and was required to make upfront investment by operating an e-shop and producing the Team uniforms.

Force India’s liquidators argued that the Agreement was no more than a trade mark licence that survived intact the sale to Racing Point, and therefore no implication was necessary to make the contract coherent. Other rights and obligations under the Agreement were, they suggested, ancillary to the principal licence right.

The Court rejected this argument. The trade mark licences inherent to the merchandising rights were found to be ‘a means to an end, not an end in themselves’. Provisions such as Stichd’s access to Team facilities were also free-standing obligations that could be granted without the trade mark licence, and were therefore not subsidiary to it.

A reasonable expectation that Force India would own the Team throughout the term of the Agreement was found by the Court and that Force India had granted exclusive rights tied to the existence of the Team with limited rights for it to terminate the Agreement. The judge further found that a term protecting that reasonable expectation was both necessary and obvious. The sale of the Team to Racing Point had deprived Stichd of its commercial rationale for entering into the contract: it could not profit from its licenced rights, and its exclusivity (territorial and temporal) had become worthless. Grant of an exclusive licence and associated rights was particularly intended to provide security, and Force India’s disposal of the Team had negated those rights. Force India’s ability to renege on its obligations by selling the Team made the Agreement incoherent, and the implied term was obvious and necessary to close this unintended loophole.

Comment

As well as providing a helpful refresher on the general principles applicable to implied terms, this case underlines the Courts’ central concern with the literal interpretation of express terms in a contract when considering whether to imply a term. The long trajectory, away from creative contractual interpretation giving effect to commercial reasonableness towards remaining strictly within the bounds of what has actually been agreed by the parties, has been reinforced. As such, parties must continue to ensure that their intentions are clearly reflected in the agreements they negotiate and draft. The reliance placed in this case on how the definition of ‘team’ modulated the contract by including reference to Force India is, in particular, a lesson in careful dealmaking.
 

Footnotes

1) Force India Formula One Team Ltd, Re [2022] EWHC 933 (Ch)

Subscribe to Dechert Updates