Interpreting contracts - Can you vary a non-variation clause?

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No agreement would be complete without the customary “non-variation” clause sitting proudly amongst the boilerplate. A staple “3 units” for any draftsman worth their salt, but do we really need such clause? What sort of effect does it have? This second instalment on interpreting contracts considers whether an agreement can be varied orally, notwithstanding the presence of a non-variation clause stipulating that such a variation must be in writing.

A standard non-variation clause will look to legislate on two main issues. Firstly, it seeks to establish a formal change control procedure which the parties will need to follow before the agreement can be amended, and secondly, it aims to ensure that any variation to an agreement is only made in writing and executed by the parties’ authorised signatories. The clear purpose of such a provision is to create a formal documented process which avoids agreements being amended inadvertently or inattentively.

If a non-variation clause states that an agreement can only be varied “in writing and signed by the parties’ authorised representatives”, one could apply the ordinary canons of construction to quickly conclude that the agreement could not be amended by any other means (such as telephone or email). As we will see in this blog this is not necessarily the case, and the recent case of Virulite LLC v Virulite Distribution Ltd [2014] EWHC 366 provides clear authority to the contrary.

Background

Virulite Distribution Ltd (the Defendant) had developed a novel treatment for cold sores using light at a specific frequency. The Defendant had previously launched the product in the UK and subsequently entered into a distribution agreement with Virulite LLC (the Claimant), to grant distribution rights in the US and Canada. The distribution agreement contained a fairly standard variation clause stating that:

“this Agreement shall not be modified in any way except by a subsequent written instrument signed by both parties…” (Clause 26.4).

Further, clause 1.4.7 of the distribution agreement provided that:

reference to writing includes fax and similar means of communication. Daily and on going business correspondence may be carried out via email; provided that any modifications of this Agreement or any material alteration of the relationship between [1072/VDL] and [LLC] must be in written and executed form; not including email or fax.” (with the underlined text being underlined in the actual distribution agreement).

The facts of the case are extensive and in the interest of being succinct I have only included the key facts which give rise to the issue of variation. Specifically:

  • the Defendant was under an obligation to have the technology patented and to provide data for FDA approval;
  • the Claimant was responsible for obtaining FDA approval;
  • the Claimant had to make payments to the Defendant at various milestones (failure of which gave rise to a termination right for the Defendant);
  • the Defendant delayed conducting clinical trials and only provided limited data to the Claimant to submit for FDA approval (which was unsurprising refused by the FDA);
  • the parties continued to negotiate and, sometime at the end of January/beginning of February 2009, a conference call was held where it was agreed that the payment of £25,000 would be deferred. This variation was never documented in a formal written amendment (as required by clause 26.4), nor was it recorded in a recap email;
  • some 20 months after the payment had been deferred, the Defendant served notice to terminate the agreement on the basis of the Claimant’s failure to pay the £25,000.

One of the main questions before the court was, given the provisions of clause 26.4 and 1.4.7, had the distribution agreement being varied during the conference call in Jan/Feb 2009?

Judgment

Stuart-Smith J noted that each case was fact-sensitive and that the question of whether the parties intended to amend the agreement was a question of fact which was not just dependant on the terms of the agreement itself, but also the conduct of the parties. Stuart-Smith J relied on the judgment of Gloster J in the case of Energy Venture Partnership Ltd v Malabu Oil and Gas Ltd [2013] which stated that;

“… I incline to the view that there can be an oral variation in such circumstances, notwithstanding a clause requiring written modifications, where the evidence on the balance of probabilities establishes such a variation was indeed concluded.”

In finding that the agreement had been varied during the conference call in January/February 2009 Stuart-Smith J observed that the mere fact that an agreement contained a clause stating that all variations had to be in writing, did not change the evidential burden. Stuart-Smith J was keen to dismiss counsel’s proposed terminology of “strong evidence” and “very high evidential burden” in favour of the following test:

“…the court should give all relevant evidence its due weight when asked to find on the balance of probabilities that there has been a subsequent variation which has legal effect even though it does not comply with the formalities stipulated by the original contract. The terms of the original contract will always be material to that exercise; the circumstances in which those terms were negotiated and agreed may also be.”

Stuart-Smith J placed great emphasis on the fact that the parties had agreed to vary the financial arrangements in the distribution agreement on three separate occasions, all of which, did not comply with the contractual requirement for a written instrument.

Notwithstanding whether the agreement had been varied during the telephone conference in January/February 2009, Stuart-Smith J further noted that the Defendant would in any event be estopped from insisting on payment of the £25,000 as to do so would be inequitable. During the telephone conference in January/February 2009, the Defendant made a representation to the Claimant, which the Claimant subsequently relied upon over the 20 month period, and therefore it would be inequitable for the Defendant to enforce his legal right inconsistent with that representation.

Lessons learned

In my view the Virulite case does not in any way undermine the importance of including a non-variation clause in your agreements.  What is clear in the judgment is that such a clause plays an important role when determining whether the parties intended to vary the agreement. 

The real lesson to be learnt from this case is not necessary one for a draftsman but rather for contract managers. Contract managers should be aware that the manner in which they perform the contract can, in certain circumstances, be more important than the words contained within it.