Economic Duress

Economic duress has always been considered by lawyers as a notoriously difficult allegation to establish. Two recent cases in the Technology and Construction Court provide guidance as to what is required and practical examples of what does and what does not constitute economic duress.

In substance, economic duress amounts to the application of illegitimate pressure by one party on another, which results in the innocent party being forced to enter into a contract they would otherwise not have entered into. The concept of economic duress has been recognised, in theory at least, for many years. However, it remains difficult to establish in practice. The problem for judges and arbitrators is drawing a distinction between tough, but legitimate commercial negotiations on the one hand and unlawful coercion on the other. DSND Subsea v. Petroleum Geo-Services [2000] BLR 531 and Carillion Construction Limited v. Felix (UK) Limited [2001] BLR 1 are two recent cases in which economic duress was raised. Both cases were before the same judge, Dyson J, and decided only three months apart. Economic duress was successfully argued in one, but not the other.

The factual background to this case is complicated and concerned the development of a Floating Production Storage and Off-Take vessel ("FPSO") in the Banff sector of the North Sea. PGS Offshore Technology AS ("PGS") contracted with DSND Subsea Limited ("DSND") to provide subsea work required to hook up the FPSO to an underwater wellhead. The agreement was formalised in a number of documents. The first of these was the heads of agreement. There was no dispute about the terms of this agreement. Subsequently, the parties entered into a further document, the Memorandum of Understanding ("MOU"). PGS later alleged inter alia that this agreement was entered into as a result of economic duress. DSND had refused to continue work on the FPSO until PGS had agreed to provide i) assurances as to their insurance cover and an indemnity, and ii) a reimbursable basis of payment. PGS were under severe financial pressure from their employer and were at risk of substantial damages for delay. PGS agreed to these terms. They claimed later that they had done so under duress.

There must be:

• a threat or pressure,
• whose practical effect is that there is compulsion on, or a lack of practical choice for, the victim,
• which is illegitimate, and
• which is a significant cause inducing the claimant to enter into the contract.

In determining whether there has been illegitimate pressure, the court should take into account a range of factors. These include:

i) whether there has been an actual or threatened breach of contract;

ii) whether the person allegedly exerting pressure has acted in good or bad faith;

iii) whether the victim protested at the time; and

iv) whether he affirmed and sought to rely on the contract.

Dyson J decided that PGS had not entered into the MOU under duress. In so deciding Dyson J considered the contemporaneous documents and behaviour of the parties. There was no allegation of duress by PGS at the time the MOU was entered into. Indeed, the allegation of duress was only raised after the proceedings had been commenced on a different basis. In addition, rather than complain about the tactics employed by DSND, PGS representatives went to dinner with their DSND counterparts. The judge was also swayed by the fact that the negotiated terms of the MOU contained "give and take on both sides" albeit that DSND finally achieved a better result than PGS. It was also clear that PGS considered DSND’s concerns over insurance and indemnity as genuine given the risks involved in the project. As a result, he found that PGS had not entered into the contract under duress, even though the suspension of work by DSND was in breach of contract. Dyson J stated that this was "reasonable behaviour by a contractor acting bona fide in a very difficult situation".

In contrast, Dyson J considered the hypothetical situation where DSND had suspended work on the FPSO purely on the basis of securing a more favourable, reimbursable payment regime. Dyson J stated "This would have been a flagrant breach of contract, and, if pressure, it would in my view have been illegitimate pressure.".

Dyson J then went on to consider whether, assuming that duress had been established, PGS had affirmed the MOU by its subsequent conduct. The Judge confirmed that a contract entered into under duress is only voidable not void. As a result, the party who has the right to avoid the contract loses that right by affirming the contract. A contract may be affirmed expressly or alternatively impliedly by acquiescence. On this the Judge stated "..it will provide evidence of acquiescence if the victim fails to take any steps to set aside the transaction within a reasonable time after he is freed from the undue influence." Therefore once a party becomes aware of his right to avoid the contract due to economic duress, he is obliged to act promptly if he wishes to be escape the contract on that basis. In DSND Subsea PGS had gone further than mere acquiescence, they had actually relied upon the terms of the MOU to take issue with DSND. This, Dyson J concluded, was a clear affirmation of the contract by PGS.

In contrast, in this case Dyson J held that threats by a contractor not to complete the work unless a settlement was reached did constitute economic duress and the settlement agreement was held to be voidable by the employer.

Carillion Construction Limited ("Carillion") were the main contractor for the construction of an office building in London. Carillion engaged Felix (UK) Ltd ("Felix") as subcontractor to design, manufacture and supply cladding for the building. The cladding work was supposed to be completed by 17 January 2000. At the end of February, although they had not completed the work, Felix presented its final account of £3,314,000 for payment. Carillion assessed their entitlement at only £2,756,000. As a result of incomplete cladding areas of the building were still exposed and other work on the building was being delayed. Felix then wrote to Carillion and stated that "Without the figure being agreed, [we] cannot predict when the project will be complete".

Although Carillion never believed the account to be worth the figure claimed by Felix (indeed they could not find a way to justify a figure over £2,900,000) they finally agreed to pay £3.2m. Once the settlement was agreed the deliveries began and proceeded as originally scheduled.

Dyson J referred to the criteria he set out in DSND Subsea and applied it to the facts of the present case.

• Threat or application of pressure? Felix had threatened not to make any deliveries until settlement was reached, which was clearly a threat to commit a breach of contract. Carillion were under pressure to complete the job as soon as possible and could not do so without the cladding from Felix.
• Lack of practical alternative for Carillion? Carillion were desperate for the cladding to be completed. Without it other trades could not start and the overall project would be delayed. The cladding provided by Felix was bespoke and Carillion could not go anywhere else. Adjudication was not an option because it would still have taken at least six weeks to obtain a decision and there were real difficulties in obtaining a mandatory injunction.
• Was the pressure illegitimate? Felix had no entitlement to have their final account paid before completion of the work, nor did the contract provide Felix with a right to suspend deliveries until payment was made. Furthermore, Felix were claiming more than they were contractually entitled and were obviously aware that Carillion had no realistic alternative but to concede to their demands for payment.
• Was the pressure a significant cause inducing the claimant to enter into the contract? It was clear from the facts that Carillion would never have entered into the settlement agreement on the terms but for Felix threatening not to deliver. There was no legitimate commercial reason for Carillion to enter into that agreement. Furthermore, Carillion indicated in contemporaneous correspondence their "extreme displeasure at being required to enter into such an agreement".

As Dyson J stated in DSND Subsea "Illegitimate pressure must be distinguished from the rough and tumble of the pressures of normal commercial bargaining". But what guidance can be given to those involved in such negotiations? A party’s simple refusal to perform its contractual obligations until certain conditions are met is not enough to establish economic duress. As is made clear by Dyson J in both cases, a number of other factors must be present such as lack of practical alternative for the "victim", the application of illegitimate pressure, that pressure being the significant cause inducing the victim to enter into the contract.

In establishing whether pressure is illegitimate, consideration should be paid to the nature of the demands being made and whether they can be justified. In DSND Subsea, Dyson J made a distinction between a demand for further indemnities and insurance protection (held to be justified) and a demand for an enhanced payment scheme (unjustified). The judgment in DSND Subsea also illustrates how events that take place after the alleged duress can also be of crucial importance. Once the deal was finalised between DSND and PGS, there was no mention of duress or blackmail in any of PGS’s internal memoranda. This suggested to Dyson J that the agreement had not been entered into under the influence of illegitimate pressure or, alternatively that DSND’s conduct had not been a significant cause in their decision to enter into the MOU. The Judge was also persuaded by the fact that PGS did not raise the issue of duress with DSND until proceedings had been commenced. It was held that PGS had, in any event, affirmed the MOU since they had declined to terminate it despite having the opportunity to do so.

What should a negotiator do if they consider themselves a victim of economic duress? The first thing to do is to make it clear to those applying the pressure that you strongly disapprove of their conduct. Furthermore, as soon as the pressure has subsided serious consideration should be given (after receiving legal advice) to terminate the contract on the basis that it was entered into under duress, otherwise there is a risk that a Judge or Arbitrator will conclude that despite the apparent duress the innocent party has now affirmed the contract in any event.

Conversely, those finding themselves in an unusually strong bargaining position (e.g. where the other side have no practical alternative) in settlement negotiations should be careful to avoid threats not to perform (or act in breach of contract) or demands which could be perceived as being in bad faith or unjustifiable in the circumstances.

"© Herbert Smith 2002

For more information on this or other Herbert Smith publications, please email us."