Evergreen Clause Fundamentals


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Evergreen Clause Fundamentals

  1. 1. Evergreen ClauseContract Fundamentals Christopher Tompkins November 29, 2012
  2. 2. ©2012 Christopher Tompkins and Jenner & Block LLP. 353 N. ClarkSt. Chicago, IL 60654-3456. Jenner & Block is an Illinois LimitedLiability Partnership including professional corporations. Thispublication is not intended to provide legal advice but to provideinformation on legal matters. Transmission is not intended tocreate and receipt does not establish an attorney-client relationship.Readers should seek specific legal advice before taking any actionwith respect to matters mentioned in this publication. The attorneyresponsible for this publication is Christopher Tompkins. AttorneyAdvertising. Prior results do not guarantee a similar outcome. 1
  3. 3. Agenda1. Contract Time Issues.2. Drafting Effective Evergreen Clauses.3. Restrictions On Evergreen Clauses.4. Wrap Up, Questions & Answers. 2
  5. 5. Contract Time Issues• A basic understanding of the legal principles governing time contracts is important when considering evergreen clauses.• These issues include: – When must goods be delivered or a service performed? – To extent the contract contemplates ongoing relationship, how long will it continue and how may it be terminated?• Failure to address these timing issues can create uncertainty about the parties’ obligations. 4
  6. 6. Time Of Performance• Contracts can specify when a delivery should take place or a service should be rendered, but often do not.• Where a contract does not specify a time for performance: – Under common law performance must occur within a “reasonable time.” – For the sale of goods UCC § 2-309(1) provides: “The time for shipment or delivery or any other action under a contract if not provided in this Article or agreed upon shall be a reasonable time.”• If a specific time of performance is important, the parties should specify when performance should occur and that “time of the essence.” 5
  7. 7. Contracts Of Indefinite Duration• What about contracts contemplating a continuing relationship but which do not specify a duration? – Under common law contracts of indefinite duration are terminable at will be either party. – UCC § 2-309 – Absence of Specific Time Provisions: Subsection (2): Where the contract provides for successive performances but is indefinite in duration it is valid for a reasonable time but unless otherwise agreed may be terminated at any time by either party. – There is conflicting case law whether UCC § 2-309(2) requires the contract to continue for reasonable time before right to terminate arises. 6
  8. 8. What Is An Indefinite Duration Contract?• Indefinite contracts have two primary characteristics: – Call for successive performances. – Do not specify a duration.• Examples of contracts which are often indefinite include: – Distributor/franchise arrangements. – Service contracts. 7
  9. 9. What Is An Indefinite Duration Contract?• Contracts calling for single performance or set number of performances are definite. Other examples include: – A set number of deliveries. – A specific quantity of goods even if delivered over time. – The yield of a crop planted on a specified plot of land. – All concrete required to complete a specific construction project.• Contracts that specify they continue until some “objective event” occurs are generally not indefinite. – The presence of a termination for cause provision does not necessarily make a contract definite. 8
  10. 10. Indefinite vs. Perpetual Contracts• Contracts of perpetual duration are disfavored and usually require explicit language. – Contract stating it would continue “so long as distributor continued to deliver to customers” was indefinite and could be terminated at will. – Contract stating it “shall continue in force indefinitely” unless terminated due to event specified in termination clause considered indefinite. – Contract explicitly stating it terminates “solely” upon certain events may be perpetual. 9
  11. 11. Post-Term Performance• Some courts have found that continued performance of a fixed term contract after expiration transforms the arrangement into a contract of indefinite duration.• However, provisional performance while the parties are discussing the terms of an agreement and clearly have not reached agreement does not bind them to the terms of proposed draft agreements. 10
  12. 12. Terminating An Indefinite Duration Contract• Termination of an indefinite contract requires reasonable notice.• UCC § 2-309 – Notice of Termination: Subsection (3): “Termination of a contract by one party except on the happening of an agreed event requires that reasonable notification be received by the other party and an agreement dispensing with notification is invalid if in its operation would be unconscionable.”• The good faith obligation informs the obligation to provide reasonable notice but courts do not impose good faith requirement to require justification for exercising right to terminate at will. 11
  13. 13. Timing & Method of Notice• Both timing and method of notice of termination must be reasonable. – UCC § 1-205(a): “Whether a time for taking an action required by the Uniform Commercial Code is reasonable depends on the nature, purpose, and circumstances of the action.” – Important consideration in termination of indefinite contract is adequacy of notice to provide parties the opportunity to make other arrangements. – Informed by course of performance, course of dealing and usage of trade as provided by UCC § 1-303. 12
  15. 15. Type of Evergreen Clause• Two common types of evergreen clauses: – Automatic renewal for additional term(s) unless a party provides notice of non-renewal prior to end of initial or renewal term. vs. – Agreement continues indefinitely after initial term unless a party provides notice of termination. 14
  16. 16. Example Evergreen Clause• Renewal absent notice: This Agreement shall have an initial term of four (4) years from the Effective Date. Upon expiration of the initial term this Agreement shall automatically renew for successive additional terms of one (1) year unless either party provides notice of nonrenewal no later than sixty (60) days prior to expiration of the initial term or any successive renewal term. 15
  17. 17. Example Evergreen Clause• Agreement continues absent notice: This agreement shall continue in force for a period of one year. Upon expiration thereof, this agreement will continue in force until either party notifies the other party in writing of its intent to terminate this agreement in which case it shall terminate ninety (90) days from the date of the notice. 16
  18. 18. Should You Agree To Evergreen Clause?• May be appropriate where a long-term ongoing relationship is contemplated.• Evergreen clause may reduce burden of periodic negotiations of renewals or extensions.• However, auto renewals also provide less opportunity for renegotiation and present a danger of unintended extension of the contract. – It is important to track contracts with evergreen clauses and calendar deadlines for notices to ensure opportunity to terminate if necessary. 17
  19. 19. Should You Agree To Evergreen Clause?• Pricing considerations: – Price protection for buyer. – Seller may want mechanism for price adjustments in contract with evergreen clause.• Future ability to perform: – Can seller continue to meet demand? – Can buyer continue to use the goods or services? 18
  20. 20. Key Evergreen Clause Components• Length of initial term.• Length of renewal term(s).• Number of renewal terms.• Timing of notice of nonrenewal. – Minimum/maximum time before renewal date.• Ability to terminate early.• Form and content of notice of nonrenewal of termination. 19
  21. 21. Notice Requirements• Pay careful attention to defining notice requirements. – Some courts have required strict compliance with notice provisions, particularly in labor agreements and letters of credit. • Statements indicating desire to renegotiate may not be sufficient to prevent auto-renewal or to terminate. – Other courts have excused strict compliance with notice provisions where there is no prejudice and no indication that strict compliance is required. 20
  22. 22. Notice Timing Considerations• Notice period considerations: – Minimum notice period provides time for parties to make other arrangements. – Maximum notice period prevents premature decision not to renew. – Timing may impact ability of parties to use notice of nonrenewal as negotiation tactic. – Parties may have concerns concerning performance after notice is given. – Buyers may wish to consider provisions for ensuring orderly transition to another supplier. 21
  23. 23. Form and Content of Notice• To whom notice must be given? – Same or different person than other contract notices and communications.• How notice must be transmitted? – Email, facsimile, courier/messenger service, mail.• What must notice contain? – Clear statement of intent to end agreement. – In cases of clause permitting termination rather than notice of nonrenewal, a termination date. 22
  25. 25. State Laws Can Restrict Evergreen Clauses• Parties must be aware of potential state law restrictions on evergreen clauses: – Consumer protection statutes. – Laws governing franchises and distributorships. – Landlord and tenant regulation. – Regulation of personal property leases. 24
  26. 26. Restrictions on Auto Renewals• Illinois Contract Renewal Act: 815 ILCS 610/10: – Applies to contract for sale of goods or services to consumers of more than a year which automatically renews for a period of more than a month. – Renewal clause in contract must be conspicuous. • Similar to warranty disclaimers, need contrasting typeface or other mechanism that ensures a reasonable person ought to have noticed it. UCC 1-201(10). – Must provide conspicuous written notice of auto- renewal 30 to 60 days before deadline. 25
  27. 27. Restrictions on Auto Renewals• New York: General Obligations Law § 5-309: – Contract for service, maintenance or repair of personal property. – Service provider must provide notice of the auto renewal provision 15-30 days prior to right to cancel.• Wisconsin Statutes § 134.49: – Contract for lease of business equipment used within the state. – Must make conspicuous disclosure of auto renewal provision at the time of the contract and notice 15-60 days prior to deadline for notice of nonrenewal. 26
  28. 28. Questions? 27