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06 Oct 2021

Termination of contracts in the United Arab Emirates

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In this update, we provide an overview of some of the key issues for a party considering terminating a contract in the United Arab Emirates ("UAE"), covering both the practical steps and applicable statutory law.

While we make specific reference to terminating construction industry contracts, some of these basic principles may be attributed to other contracts, irrespective of the industries they are being used in.

Think first, terminate later

Terminating a contract is a drastic step which a party should not take before assessing the full commercial and legal issues at play. At the outset, a party considering terminating a contract should ask the following, two key questions:

1.  Does the contract contain express termination provisions and if so, under what circumstances do they apply?

 Most contracts provide for suspension or termination of the contract by one or both parties in defined circumstances. This can be either where an event has arisen which is out of the parties' control or where one of the parties is in default.

For example, the FIDIC suite of standard form contracts in most cases provide the employer with the right to terminate where the contractor:

  • Has failed to commence works on time; or
  • Failed to comply with a contractual notice or instruction; or
  • Breached the contractually agreed rules on subcontracting the works i.e. subcontracted without consent.

Conversely, a contractor is normally entitled to terminate where the employer has failed to comply with its payment obligations or there has been an extended suspension of works due to a delay in obtaining the necessary instructions. It is also increasingly common for an employer to negotiate the inclusion of a clause for "termination for convenience" in construction contracts.

2.  What is the notice procedure for valid termination under the contract?

Once you have established that you have the right to terminate your contract, it is fundamentally important to ensure that you comply with the agreed notice provisions to trigger termination. In most of the FIDIC suite of contracts, the terminating party is required to issue a preliminary, "warning" or "default" notice, following which there is a mandatory time period which must expire (usually 14 or 28 days) before the final right to terminate arises and the contract can be immediately terminated. It is necessary to adhere to this process to evidence an appropriate paper trail, which can then be relied upon in any future dispute that may arise.

Failing to conduct a detailed review of the applicable contractual provisions can expose a party to the risk of ineffective termination and the threat of a claim for damages for wrongful termination. In essence, you risk becoming the party in default whilst attempting to respond to the other party's breach.

As well as questions to be asked at the time of an attempted termination, the above points should be kept in mind when drafting and negotiating termination provisions. In other words, consider how the provisions might one day be used in practice.

Practical issues when terminating a construction contract

There are a number of practical issues which need to be considered, both before and after termination, alongside the legal position. Even where the legal position is clear, commercial and practical issues can prevent a clean break between parties and may weigh against taking the decision to terminate. This is particularly the case where works are outstanding on a project. For example, whilst most of the standard form contracts provide the employer (as the terminating party) with the right to take over and complete the works (either on its own or through a new contractor), there is no guarantee of a smooth handover being completed where a contractor has effectively been dismissed from the project.

Where an employer has taken the decision to terminate, it should take a number of steps immediately after termination to protect its rights and the works themselves, including:

  • Arrange for an immediate valuation of the works already completed, at the date of termination. This is a specific requirement under most FIDIC suite of contractors as it provides a mechanism by which the contractor will only receive payment for the proportion of works it has completed. The valuation should normally be completed by an independent third-party engineer and in the presence of both parties.
  • Conduct an audit of the on-site plant, equipment, materials and ongoing contracts with third party suppliers related to the works. Under most primary works contracts, the contractor will be under an obligation to assign the benefit of relevant sub-contracts to the employer following termination.
  • Take physical control of the site as quickly as possible to prevent unpaid subcontractors and creditors removing the plant, equipment and materials before a fair assessment of ownership has been conducted.
  • Consider whether it will be necessary to obtain new insurance policies to cover the site and the remaining works as the contractor’s obligations to obtain insurance will usually fall away on termination.
  • Ensure that the ongoing works are sufficiently protected from physical damage after the removal of the scaffolding and other temporary elements of the works when the contractor leaves the site.

Where a contractor has taken the decision to terminate, it should take a number of steps prior to terminating the contract, including:

  • Arranging for an independent third-party to conduct a survey to measure and value the progress of the contractor's works and any materials and equipment on site, including those of its subcontractors. This survey will need to be fully substantiated by robust evidence as this would likely be relied upon in any dispute arising from the termination.
  • Copying all project records and programmes that are on site, or that is on a common server or database. Once the termination has taken place, the contractor may find it is denied access to what is currently available to it. This step is essential for the purposes of subsequently substantiating any entitlements to an extension of time and/or additional payment in any subsequent formal dispute resolution proceedings.
  • Consider whether any procurement of materials should be cancelled or delivery terms modified. This would mitigate against the risk of any materials being delivered to the site after the issuance of the termination notice and the employer claiming ownership of the same, irrespective of whether the contractor has been paid for these items.
  • Upon termination, there is a real risk that the bonds will be called upon by the employer. It would be prudent for contractors to ensure that the Advance Payment Bond reductions are up-to-date and in-line with the repayment of the advance payment.
  • Contractors should ensure that any insurance policies (including policies for works, plant, material, personnel's safety and damage to property) endure until the contract has been terminated and the contractor has completed its demobilisation from the site.

UAE law provisions on termination

Even where there are express termination provisions in the contract, the provisions of UAE law are relevant (for contracts either governed by UAE law or that are being performed in the UAE). In accordance with Article 267 (and replicated in Article 892 which applies specifically to "Muqawala" or "labour" contracts, which includes construction contracts) of Federal Law No. 5/1985 on the Civil Transactions Law of the UAE State (the "Civil Code") a contract can be lawfully terminated by one of three ways:

  • The agreed works or services have been completed;
  • The parties agree to rescind the agreement by mutual consent; or
  • By Order of the Court.

Article 271 of the Civil Code stipulates that parties may agree that contracts are automatically terminated without the need for a Court Order in cases of non-performance by their counterparties. Article 271 also expressly states that such an agreement shall not release the parties from serving a formal termination notice unless the agreed contract provides that notices are not required.

If terminating under the express provisions in a contract, Article 271 of the Civil Code still applies. Therefore, provided the contractual clauses governing termination are clear, there is no need to obtain an Order from the Court in this case and a termination notice may, subject to the contract expressly prohibiting it, be issued. This is also the case where a party is terminating for convenience. It would be advisable to comply with any requirements to notify the other party and include suitable wording in your termination notice(s) to confirm that termination is taking place in accordance with both the law and the contract.

The UAE law also provides parties with a right, in certain narrow circumstances, to terminate a contract where contractual termination provisions do not apply. For example, Article 247 of the Civil Code effectively provides a statutory right to terminate for a repudiatory breach of the contract, stating:

"In bilateral contracts, where the reciprocal obligations are due, each of the contracting parties shall have the right to abstain from executing his obligation in case the other party does not honour his obligation."

This would apply in similar circumstances to when the common law right to terminate for a repudiatory breach of a contract arises. For example, where a party has unlawfully refused to carry out works, abandoned the site or where the employer has failed to give access to the site.

Importantly, under UAE law, if a party disputes the other party's right to terminate, the contract remains valid and in force until the court determines the issue. Therefore, contractual obligations remain applicable between the parties.

Conclusions

Sometimes termination is the only way forward for a party, particularly if it has exhausted all other potential routes to rectify a delayed or poorly executed project. However, before the decision to terminate has been taken, a full analysis should be carried out of the relevant legal and commercial issues. An employer should also be prepared to take immediate steps following termination to minimise the scope for future dispute over the works already completed.

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KEY CONTACT

Nicholas Sharratt

Nicholas Sharratt
Partner

T:  +971 4407 3908 M:  +971 52 929 2265 Email Nicholas | Vcard Office:  Dubai

Michael Hartley

Michael Hartley
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Caroline Hibberd

Caroline Hibberd
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Samantha Martin

Samantha Martin
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