Forfeiture by Cancellation or Termination

Termination powers and conditions of performance empower one party to treat its own obligations under the contract as discharged or canceled based on something less, often much less, than material breach by the other party. Perhaps no current topic spanning a diverse subject within basic contract law invites doctrinal development as much as termination powers and conditions. Major examples of such powers include the employer's power to terminate employment at will, the government's power to terminate public contractors for convenience, the insurer's right not to pay otherwise covered insureds who fail to fulfill conditions, and the government's right to penalize contractors who violate various public policy conditions. Employers, the government, and insurers each use provisions in their adhesion contracts, arranging their power to terminate or to cancel for failure of a condition on a self-help basis and to be exercised relatively speedily and easily; thereby, serving their often valid interests of flexibility, control, and fulfillment of public policies.To study these issues as they have progressed in contemporary controversies, this Article compares and contrasts public and private contracts. Part II provides an overview of the factors relating to cancellation based on termination powers and conditions. In particular, it traces the previous lines of amelioration of the impact of conditions through Jacob & Youngs, Inc. v. Kent and the First and Second Restatements. Respected articles by Professor Corbin in 1919 and Professor Childres in 1970 reflect the evolving academic commentary on how to define appropriate and inappropriate occasions for such harshness without sacrificing the practical usefulness conditions may often have.Part III turns to the issue of compensating some parties faced with the exercise of a power of termination. It starts with the tremendous recent ferment over employers' power of termination of employment at will. About two-thirds of all employees are employees at will, and the stable forms of such employment are increasingly considered as a possible relationship contract, making the law regarding their termination a matter of general importance. The analysis here draws upon the public policy indicated in federal tax policy and the Employee Retirement Income Security Act of 1974 (“ERISA”): promoting employment-based pension reliance interests, a public policy of increased importance as permanent mass layoffs through downsizing became a major practice, even at stable employers, starting in recent decades and, now, even more so, in the economic slowdown of 2001-2002.Then, Part III turns to another area of termination powers in contracts, the governmental power of termination for convenience and the striking development in 1996, the demise of the Torncello doctrine that expanded contract termination power while keeping it subject to the compensation of public contractors' reliance interests. The Article then discusses its salient concrete conclusion: that contracts for stable employment should be presumed to have an implied term of severance pay as a form of limited compensation for the reliance interests forfeited by terminated employees. Severance pay serves to temper the harshness of the exercise of termination powers without unacceptably depriving employers of the flexibility and disciplinary capacity they seek in termination powers.Part IV discusses conditions in two other diverse contexts. The law of conditions in consumer insurance cases has evolved in a way that unfolds the greatest potential in the Second Restatement section 229 on disproportionate forfeiture. Moreover, the law of public policy in government contracts has evolved with new federal appellate case law magnifying the role of conditions in penalization for false claims, which is exemplified by the court's major 1997 decision in United States ex rel. Thompson v. Columbia/HCA Healthcare Corp.The conclusion puts this Article's analysis in the form of a proposed section for the next Restatement of Contracts entitled “Forfeiture by Cancellation or Termination.” This proposed provision treats powers of termination along with conditions and brings a wide range of factors to bear. It builds upon a synthesis of the Second Restatement's section 229 (excuse of condition for disproportionate forfeiture) and sections 241-42 (cancellation for material breach). It would distinguish actually negotiated terms from mere terms of adhesion and stake out an important role for public policy considerations and for the strength of the justification for the condition or termination power. In appropriate circumstances, it would sustain the exercise of a cancellation or termination power while providing a measure of compensation, like severance pay, for the terminated party. The proposed provision codifies, in effect, a direction in which contract law in this important area has been, and should be, developing.