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Exclusion clauses and rights of first refusal

12 September 2011

Case summary: AstraZeneca UK Ltd v Albemarle International Corp & anr [2011] EWHC 1574 (Comm), 21 June 2011

In AstraZeneca UK Ltd v Albemarle International Corp & anr, a right of first refusal constitutes a right to receive a contractual offer on terms which the grantor is prepared to accept, even though the detailed terms might require further negotiation.

Flaux J also referred disapprovingly to the controversial NetTV decision from last year, in which it was held that there was a presumption that an exclusion clause should not apply to deliberate personal repudiatory breaches of contract.

AstraZeneca UK Ltd (AZ) produced an anaesthetic known as "Diprivan". Pursuant to an agreement with Albemarle International Corporation (AB), AB agreed to supply AZ with a chemical "DIP" which AZ used to produce propofol, an active ingredient of Diprivan. The agreement provided that should AZ decide to cease production of propofol and instead to purchase propofol direct; AB would have the "first opportunity and right of first refusal" to supply propofol to AZ.

AZ later decided to purchase propofol from a third party (S). AB objected that it had not been offered an opportunity to exercise its right of first refusal and served notice to terminate the agreement for breach of contract.

Before AB served its termination notice AZ, had tried to stockpile DIP by making purchase orders with AB, which AB had failed to supply. AZ issued proceedings, contending that AB had committed a repudiatory breach, entitling AZ to terminate and claim damages. AB denied the claim. AB submitted that any liability was limited by an exclusion clause in the agreement. AZ, however, argued that AB could not rely on the clause since its breach was deliberate and repudiatory.

Flaux J held that AZ was in breach, with damages neither excluded nor limited. AB was liable for failing to fulfil one of the purchase orders. Its liability, however, was limited to the purchase price of DIP.

Right of first refusal

AZ submitted that it was, at most, required to give AB an "opportunity to negotiate" on the same terms as S. Flaux J rejected that submission and held that a right of first refusal conferred a right to be given an opportunity to match any third-party offer which the grantor might be minded to accept, and, in the event that the grantee matched the offer, to be awarded the business. Flaux J held that AZ was obliged to act in good faith and to provide AB with the full details of S's offer. That obligation arose as soon as AZ was "minded to accept" S's offer. Since AB was willing to match the terms of S's offer, AZ was obliged to accept AB's offer. It does not matter that the detailed terms may require negotiation and may not even eventuate in a contract at all.

Exclusion clause

The exclusion clause provides that "no claims by Buyer [AZ] of any kind, whether as to the products delivered or for non-delivery of the products, or otherwise, shall be greater in amount than the purchase price of the product in respect of which such damages are claimed;... In no case shall Buyer or Seller [AB] be liable for loss of profits or incidental or consequential damages".

AZ submitted that by reason of the second sentence in the exclusion clause, it was not liable for AB's loss of profits. Flaux J rejected AZ's submission and agreed with AB's submission that since the agreement was essentially a contract for the supply of DIP and the first sentence was clearly concerned with limiting AB's liability in respect of the supply of DIP under the agreement, the second sentence flowed naturally from the first and dealt with the same subject matter: the sale and purchase of DIP. The clause overall should be construed as referring to the sale and purchase of DIP and not to the question of whether the contract might be replaced by another product such as propofol. Further, the exclusion clause should be construed against AZ who sought to rely on it. Flaux J held that AZ's construction of the exclusion clause, if upheld, would have the effect of making the right of first refusal provision "little more than a statement of intent", leaving AB with no effective remedy for AZ's breach of that provision. A court should only reach such a conclusion where no other was possible.

In seeking damages for AB's failure to fulfil one of the purchase orders, AZ submitted, relying heavily on the recent controversial decision in Internet Broadcasting Corporation v MAR LLC [2009] EWHC 744 (Ch) (NetTV) (covered in the June 2009 Litigation Review), that AB was not entitled to rely on the exclusion clause since its breach was deliberate and repudiatory. It was held in NetTV that there was a presumption that an exclusion clause should not apply to deliberate personal repudiatory breaches of contract.

Flaux J held that AB's breach was neither deliberate nor repudiatory. The breach had not been deliberate since AB had acted on negligent legal advice that what it did was within the terms of the contract, nor could the non-delivery of one or two purchase orders be considered sufficiently serious to amount to a repudiatory breach. As such, the exclusion clause would apply.

Flaux J, nonetheless, went on to consider the NetTV decision. He explained, by reference to Suisse Atlantique Société d'Armement Maritime v NY Rotterdamschke Kolen Centrale [1967] 1 AC 361 (Suisse Atlantique) and Photoshop Production v Securicor [1980] 1 AC 827 (Photo Production), that the doctrine of fundamental breach, which is that an exclusion clause could not be expected to protect a party who committed a "fundamental breach", was no longer good law. Flaux J considered the NetTV decision "heterodox and regressive", and indicated that, if necessary, he would decline to follow it. As such, courts are to simply construe exclusion clauses, albeit strictly, without the need for a presumption. It is always a question of construction whether an exclusion clause covers a particular breach, however that breach is categorised.

Comment: The "right of first refusal" is often used in contracts. This judgment clarifies that it means a right to match a contractual offer on terms which the grantor is prepared to accept, even though the detailed terms of any contract may require further negotiation. That right arises when the grantor is minded to accept a third party's offer.

In this judgment, Flaux J also expressed disagreement with NetTV, which introduced the presumption that an exclusion clause should not apply to deliberate, repudiatory breaches. Although Flaux J's comments are obiter, it is submitted that Flaux J's views should be preferred to the approach in NetTV. Indeed, the House of Lords have made clear in their earlier decisions in Suisse Atlantique and Photo Production that it was always a question of construction whether an exclusion clause covered a particular breach, however that breach was categorised.

Further information

This case summary is part of the Allen & Overy Litigation Review, a monthly update on interesting new cases and legislation in commercial dispute resolution.  For more information please contact Sarah Garvey sarah.garvey@allenovery.com, or tel +44 (0)20 3088 3710.