The Supreme Court confirms limited scope of economic duress – what does it mean for franchising?

On 18^th August 2021, in Pakistan International Airline Corporation v Times Travel (UK) Ltd, the Supreme Court unanimously held that economic (or lawful act) duress is a valid concept under English law.  It also confirmed the key elements of the doctrine and provided clear guidance on how it should be applied by the courts.  

This is the first time the Supreme Court has considered the issue of whether, and if so in what circumstances, a party can set aside a contract on the grounds that it was entered into as a result of the other party threatening to carry out a lawful act. 

Whilst it confirmed that its boundaries are not fixed, the Supreme Court emphasised the narrow extent of the doctrine and advocated a cautious approach to any extension.  It identified only two situations where it had been applied and declined to endorse any principles for its development, even where a threat is used to enforce a demand that has been made in bad faith. 

Although this decision applies to a travel agency relationship, it is relevant to a number of commercial relationships, such as franchising and distribution, where the franchisor or principal is a monopoly supplier and there is an unequal bargaining power. These types of relational, network agreements are characterised by long terms and high levels of investment. They may be exclusive in nature and will often contain a right to renew, subject to certain conditions. Typical renewal conditions include an obligation to pay renewal fees, to refurbish premises, to waive any existing claims and an obligation to enter into the franchisor's/principal's then current standard franchise/distribution agreement.

There are compelling reasons to include these types of conditions, but on a bad set of facts, it is conceivable that a franchisor or principal seeking to exploit the asymmetry in the relationship could find itself vulnerable to a claim for lawful act duress.

Background

The case arose due to a dispute between a small travel agent, Times Travel (UK) Ltd ("Times Travel"), and Pakistan International Airline Corporate, the national flag carrier airline of Pakistan ("PIAC"). 

In 2009, Times Travel was appointed as an agent for PIAC and authorised to sell its tickets.  The contract could be terminated by PIAC at any time on one month's notice. In September 2012, as a result of a dispute relating to the rate and payment of commission to Times Travel, PIAC gave notice to Times Travel terminating the contract and reducing its fortnightly ticket allocation from 300 to 60.  Around the same time, PIAC offered Times Travel a new contract (with the original ticket allocation) on condition that it agreed to waive any claim it had to the disputed commission.  At that time, Times Travel's business almost entirely comprised selling tickets for flights to Pakistan on planes owned by PIAC and so the loss of the contract would have put it out of business.  Faced with this prospect, Times Travel reluctantly agreed to accept the new contract but later brought a claim for the unpaid commission, arguing that it was entitled to rescind the new contract on the grounds that it had entered into it under economic duress.

The court at first instance agreed with Times Travel, but the decision was overruled by the Court of Appeal on the grounds that PIAC had genuinely believed that the commission was not payable.  The Court of Appeal held that a claim for economic duress could only be established if PIAC's demand that Times Travel gave up its claims for the commission had been made in bad faith, in the sense that it did not genuinely believe that it had a defence to those claims.   The Court of Appeal found that it did not matter that PIAC's belief was unreasonable. Times Travel appealed to the Supreme Court.

Supreme Court Judgment

The Supreme Court dismissed Times Travel's appeal, finding that the Court of Appeal had been correct to conclude that PIAC's behaviour did not amount to economic duress.

The main judgment was given by Lord Hodge, with whom all but Lord Burrows agreed. Lord Burrows delivered a minority judgment, reaching the same conclusion as the majority but on different reasoning.

The essential elements of economic duress

The entire panel agreed that economic duress does and should exist as a matter of English law and recognised it as a grounds for the rescission of a contract.  It also agreed that economic duress requires the following essential elements:

• there is a threat (or pressure exerted) by the defendant that is illegitimate;
• the illegitimate threat (or pressure) caused the claimant to enter into the contract; and
• the claimant had no reasonable alternative to giving in to the threat (or pressure).

The panel further agreed that:

• the importance of clarity and certainty in English commercial law dictated that the concept of economic duress must not be stated too widely or with insufficient precision;
• the question of whether a threat is illegitimate should be determined by focusing on the nature and justification of the demand, rather than on the nature of the threat; and
• the pursuit of commercial self-interest is generally justified in commercial negotiations, and economic duress is essentially concerned with identifying the rare exceptional cases where a demand, motivated by commercial self-interest, is nevertheless unjustified.

What constitutes an "illegitimate" threat or pressure – the majority judgment

It was on the issue of what the law has recognised as an illegitimate threat or pressure upon which the entire panel did not agree.

Lord Hodge (in the majority judgment) took a narrow view of the scope of the doctrine.  He identified just two circumstances where economic duress had been recognised and a remedy provided:

• the exploitation of knowledge of criminal activity by the claimant (or those associated with it); and
• the use of illegitimate means to manoeuvre the claimant into a position of weakness to force it to waive its claim

and noted that, in developing the doctrine of economic duress, the courts had drawn on the equitable doctrine of undue influence and treated "morally reprehensible behaviour", which in equity had been judged to render the enforcement of a contract "unconscionable", as constituting "illegitimate" pressure in the context of economic duress. 

Lord Hodge also asserted that, although the boundaries of the doctrine were not fixed, courts should approach any extension with caution, particularly in the context of contractual negotiations between commercial entities.  He also stressed that, in any further development of the doctrine, it was important to bear in mind not only the analogous remedies that already existed in equity (such as the doctrines of undue influence and unconscionable bargains) but also those that did not.  In particular, he found that the absence in English law of any overriding doctrine of good faith in contracting or any doctrine of imbalance of bargaining power restricted the scope for economic duress in commercial life and that the pressure applied by a party during commercial negotiations would very rarely reach the standard of illegitimate pressure or unconscionable conduct.

Rejection of a "bad faith demand" requirement

In his minority judgment, Lord Burrows argued that, in CTN Cash and Carry Ltd v Gallaher Ltd ("CTN Cash & Carry"), the Court of Appeal established that, for a claim of economic duress to succeed in cases where there had been a demand for something claimed to be owing, or a demand for the waiver of a claim, the demand must have been made in bad faith in the sense that the threatening party did not genuinely believe it was owed what it was claiming or that it had a defence to the claim to be waived by the other party.  Applying this reasoning, Lord Burrows found that Times Travel's claim for economic duress could not succeed because PIAC had genuinely believed that the commission was not payable, meaning that the "bad faith demand" requirement had not been satisfied.

The other members of the panel rejected this approach, stating that CTN Cash & Carry was authority for what did not constitute economic duress, and not what did. 

Lord Hodge asserted that, in the absence of a general principle of good faith in contracting or a doctrine of imbalance of bargaining power, the fact that one party had been induced to agree to another party’s demand simply because the stark inequality of bargaining power between them gave it no effective choice but to agree to it was not sufficient on its own to establish a claim for economic duress.  He further asserted that extending the boundaries of the doctrine to include Lord Burrow's "bad faith demand" requirement would introduce unwanted uncertainty into commercial transactions.   

The other members of the panel also rejected Lord Burrow's assertion that the Court of Appeal judgment in CTN Cash & Carry could be interpreted has implying that a demand for a waiver would be "illegitimate" if:

• the “bad faith demand” requirement was satisfied, for example because the threatening party did not genuinely believe that it had any defence (and there is no defence) to the claim being waived; and
• the threatening party had deliberately created, or increased, the threatened party’s vulnerability to the demand.

Lord Burrows considered that PIAC’s deliberate act of cutting its ticket allocation, thereby increasing Times Travel’s vulnerability to its demand for a waiver of its claims, went beyond the mere exercise of monopoly power and would have amounted to illegitimate pressure if PIAC had known that it had no defence to Times Travel's claims.

The majority disagreed, Lord Hodge asserting that, although PIAC's actions entailed "hard-nosed" commercial negotiation that exploited its position as a monopoly supplier, its behaviour was not sufficiently reprehensible as to fall within the existing boundaries of economic duress.

Rejection of alternative approaches

The Supreme Court also rejected three other approaches to the scope of economic duress:

• A "range of factors" approach, such as that taken in the context of illegality as a defence by the court in the 2017 case of Patel V Mirza.  Times Travel had argued that an analogous approach would be appropriate in its claim for economic duress.  The Supreme Court, however, disagreed.  It accepted that drawing on the reasoning of the various decisions and putting forward a range of factors that would reflect the underlying policies was the best solution in the context of illegality where the defence had evolved over many decades to include rules that were inappropriate and inconsistent with desirable outcomes.  It did not accept, however, that such an approach was appropriate in the context of economic duress, where the law was in its infancy and not plagued with a series of unsatisfactory rules.  The best approach in the context of economic duress, it asserted, was for the common law to be "clarified or developed in a traditional incremental way".
• An approach based on general principals of good faith, as proposed by members of the All-Party Parliamentary Group on Fair Business Banking (one of three bodies that intervened in the hearing). The Supreme Court rejected this approach on the basis that it would require a court to "try to apply a standard of what is commercially unacceptable or unreasonable behaviour", which Lord Burrows described as a "radical move forward" in English contract law and one that would produce a level of uncertainty that was unlikely to be "a price worth paying".
• An approach based on one suggested obiter by Leggatt LJ (as he then was) in the 2018 case of Al Nehayan v Kent.  This approach involved transposing the elements of blackmail into the objective requirements when assessing the nature of a demand. This approach was rejected on the basis that it would "risk rendering the law on lawful act duress too uncertain and would potentially jeopardise the stability of the English law of contract".

What does this mean for franchising?

As mentioned in the introduction, there are situations when a franchisor's behaviour on renewal could sail too close to the wind and so risk being deemed as lawful act duress. For example:

1. What if the renewal fee is high and bears little relation to actual costs incurred? Whilst not legally binding, the British Franchise Association's ("BFA") Guide to the Code of Ethics discourages "the charging of renewal fees if used as a method unfairly of imposing a financial burden at a time when the franchisee may be in a vulnerable position". 
2. What if the franchisee has a legitimate claim or grievance against the franchisor, the franchisor knows it is liable but delays the claim and then achieves absolution at renewal via the waiver? 
3. What if the refurbishment costs are disproportionately high when set against the renewal term and franchisee's ability to see a return on its investment? The BFA's Guide to the Code of Ethics states that "the overriding objective [of renewal] is to ensure that the franchisee has the opportunity to recover their franchise specific initial and subsequent investments and to exploit the franchised business for as long as the contract persists". 
4. Finally, what if the proposed renewal agreement is substantially different from the franchisee's existing agreement? The bigger the differences, the harder the justification. Again, the BFA's Guide to the Code of Ethics states the renewal should not impose "unreasonable conditions to create barriers which may renewal less attractive than it fairly should be".

This judgment undoubtedly represents a narrow interpretation of the scope of the doctrine and confirms a very high threshold for proving economic duress.

While the Supreme Court did confirm that the boundaries of economic duress are not fixed, its emphasis on the narrow extent of the doctrine and its assertion that it should be applied both rarely and restrictively in the context of commercial negotiations means that it is likely to be harder for economic duress claims to succeed in the future.

The Supreme Court's clear guidance on the extent to which bargaining power can be leveraged in contract negotiations will be well received by powerful commercial entities, such as franchisors and monopoly suppliers or purchasers, which regularly impose conditions on the grant or renewal of an agreement. 

To read our article on the Court of Appeal ruling, and a more detailed consideration of the doctrine of economic duress in the context of franchising, please click here.