Termination of Contracts and the Entrenchment of the “Hongkong Fir” Doctrine

Facts/Decisions The first appellant (Koompahtoo) and the first respondent (Sanpine) entered into a joint venture agreement (“the Agreement”), in July 1997, for the development and sale of a large area of land north of Sydney.  Koompahtoo contributed the land and Sanpine was the manager of the project with each party having a 50% interest in the joint venture.  In February 2003 the second appellant was appointed as administrator of Koompahtoo.  In December 2003 the administrator purported to terminate the Agreement.  Sanpine sought, unsuccessfully at first instance, a declaration that the termination was invalid and that the Agreement was still on foot.  The primary judge, Campbell J, found that Sanpine had committed significant and repeated breaches of the Agreement in relation to the preparation and updating of documents, the opening and maintenance of a joint venture bank account and the maintenance of proper books so as to allow assessment of the affairs of the joint venture.  The primary judge concluded that such breaches were sufficiently serious to give Koompahtoo a right to terminate the Agreement.  The New South Wales Court of Appeal (by majority) overturned that decision.  Giles JA, with whom Tobias JA agreed, considered that the primary judge had decided the case on the basis that Sanpine had shown a repudiatory intention.  Giles JA concluded that the conduct of Sanpine was not such that it evinced an intention to carry out the Agreement only if and when it suited Sanpine to do so.  The High Court allowed an appeal from this decision and upheld the decision of the primary judge.  Gleeson CJ and Gummow, Heydon and Crennan JJ (“the joint Judges”) found2  that the breaches of the Agreement deprived Koompahtoo of a substantial part of the benefit for which it contracted and that such breaches justified termination.  The joint Judges noted that Sanpine was unable to inform the administrator, or even the primary judge, of the true financial position of the joint venture and to produce informative joint venture accounts.3   The joint Judges said4 :

Approach of the joint Judges The following points emerge from the joint judgment:

1. The term “repudiation”5  may be used in different senses.  First, it may refer to conduct which evinces an unwillingness or an inability to render substantial performance of the contract.6   This may be termed “renunciation” and is sometimes described as conduct which evinces an intention no longer to be bound by the contract or to fulfil it only in a manner substantially inconsistent with the party’s obligations.7   Secondly, repudiation may refer to any breach of contract which justifies termination by the other party, that is, a failure of performance.8
2. A failure of performance may entitle the innocent party to terminate a contract in two circumstances.  First, where there has been a failure to comply with an “essential” term (sometimes described as a “condition”).9   Secondly, where there has been a sufficiently serious breach of a non-essential term which may be described as an “intermediate” or “innominate” term.10
3. With respect to the identification of an “essential” term, the joint Judges endorsed11  the test adopted by Jordan CJ in Tramways Advertising Pty Ltd v Luna Park (NSW) Ltd.12
4. With respect to the adoption of the concept of an “intermediate” term, the High Court endorsed13  the doctrine espoused by Diplock LJ in Hongkong Fir Shipping Co Ltd v Kawasaki Kisen Kaisha Ltd.14
5. In determining the nature of a contractual term, regard should be had to “contractual intention, considered in the light of the language of the contract, the circumstances in which the parties have contracted and their common contemplation as to future performance”.15
6. A “sufficiently serious” breach of an intermediate term is one “going into the root of the contract”, a conclusion dependent upon the nature of the contract and the relationship it creates, the nature of the term, the kind and degree of the breach and the consequences of the breach for the other party (and the adequacy of damages as a remedy may be a material factor in deciding whether the breach goes to the root of the contract).16

Alternative approach Kirby J agreed that the appeal should be allowed.  However, his Honour disagreed with the approach of the joint Judges in relation to the endorsement of the concept of “intermediate” terms.  Kirby J found that there was no warrant for the adoption of such a concept.17   In cases involving a breach of terms not regarded as essential, Kirby J said that a right to terminate would arise if there were “a breach of a non-essential term causing substantial loss of benefit”.18   His Honour considered that the breaches in the case before the Court had, as a matter of fact, the effect of depriving Koompahtoo of the substantial benefit of the Agreement with the consequence that termination was justified.19   

In rejecting the approach of the joint Judges in relation to “intermediate” terms, Kirby J said:20

Kirby J also expressed reservations as to whether the reasons of Jordan CJ in Tramways supplied the relevant test for identifying an “essential” term.21

Conclusion As noted by Kirby J “… the holding in the joint reasons will now endorse the Hongkong Fir doctrine as part of the common law of Australia”.22

The joint Judges did not formulate a test for identifying “intermediate” terms.  However, if regard is had to Lord Diplock’s judgment in Hongkong Fir,23  it is apparent that an “intermediate” term is a term which constitutes neither a “warranty” (that is, a contractual undertaking of which it can be predicted that (subject to a stipulation to the contrary) no breach can give rise to an event which will deprive the party not in default of substantially the whole benefit which it was intended that he or she should obtain from the contract)24  nor an essential term25  (that is, a contractual undertaking of which it can be predicted that (subject to a stipulation to the contrary) every breach of such undertaking must give rise to an event which will deprive the party not in default of substantially the whole benefit which it was intended that he or she should obtain from the contract)26.  This residual category of term (the intermediate term) is, in the writer’s view, common.  Classification of a term depends on contractual intention.27

Notwithstanding Kirby J’s criticism of the approach adopted by the joint Judges in respect of “intermediate” terms, the disparity between the two views may not be as stark as first appears.  The joint Judges refer, at [49], to a sufficiently serious breach of a “non-essential term” and they note, at [71], that the relevant breaches of the Agreement “deprived Koompahtoo of a substantial part of the benefit for which it contracted”.28   There is a similarity of language in the competing reasons.  In the writer’s view, the only practical distinction between the respective approaches on this issue is that the test adopted by the joint Judges requires the initial identification (or sifting out) of those terms which could be described as warranties.

Kirby J has identified 3 circumstances in which a right to terminate a contract will arise.29  If this tripartite classification is revised to reflect the reasoning of the joint Judges, it is the writer’s view that the conduct of a defaulting party will be sufficient to justify the termination of a contract if:

There may be an overlap between the categories in (b) and (c) above, a point identified by the joint Judges.   In the writer’s view, such overlap is likely to arise in cases involving multiple breaches (of non-essential terms) of a contract.

Stephen Lumb

1. [1962] 2 QB 26 at 69-70.
2. At [71].
3. At [68].
4. At [68].
5. The joint Judges deprecated the use of this term to mean “termination” (as had occurred in some cases): see [45].
6. At [44].
7. At [44].
8. At [44].
9. At  [47].
10. At [49].
11. At [47]-[48].
12. (1938) 38 SR (NSW) 632 at 641-642.
13. At [49]-[52].
14. [1962] 2 QB 26 at 69-70.
15. At [56].
16. At [54]. 
17. At [106], [107], [109], [113].
18. At [114]
19. At [120].
20. At [107].
21. At [100]-[101].
22. At [121].
23. [1962] 2 QB 26 at 69-70.
24. Hongkong Fir at 70 per Diplock LJ.
25. Referred to as a “condition” by Diplock LJ.
26. Hongkong Fir at 69-70 per Diplock LJ.
27. See paragraph 5 under the heading “Approach of the joint Judges” above.
28. Cf Reasons of Kirby J at [121].
29. At [114].
30. At [44].