When do robust commercial negotiations cross the line into lawful, but illegitimate, pressure such that the resulting contract should be set aside?
This was the issue before the UK Supreme Court in
Pakistan International Airlines Corporation v Times Travel (UK) Ltd  UKSC 40, a recent decision which puts the spotlight on the controversial doctrine of lawful act economic duress. We consider the case, and its potential implication for New Zealand law.
The common law recognises a small number of categories in which a party can get out of a binding contract. One of those is the doctrine of economic duress.
If one party induces the other to enter into the contract by an unlawful threat, then the doctrine typically applies. For example, if one party threatens to commit a criminal act against the other unless the other agrees to enter into a contract, that conduct is unlawful. In these circumstances, the Court will rescind the contract.
But what if a party makes a lawful threat? Are there circumstances in which a Court may find that a threat by one party to do something lawful to the other is sufficiently “illegitimate" to invoke the doctrine of economic duress? This was the issue considered by the UK Supreme Court in the
Pakistan International Airlines case.
Pakistan International Airlines Corporation (PIAC), an airline, entered into a contract with Times Travel, a travel agent, under which Times Travel sold tickets for PIAC's flights and received commission in return. Times Travel's business model relied almost exclusively on receiving commission from PIAC.
PIAC failed to pay commissions it owed to a number of travel agents, including Times Travel, on the (wrongly held) belief that it was not required to make the payments.
PIAC faced legal proceedings from various travel agents. Under pressure from PIAC, Times Travel did not join those proceedings.
PIAC also gave notice to Times Travel that its commission contract would be terminated in one month, and that Times Travel's ticket allocation would be cut from 300 to 60 tickets.
These were both steps that PIAC was legally entitled to take. However, both would have ruinous consequences for Times Travel's business.
PIAC then offered Times Travel a new contract on a “take it or leave it basis", but only if Times Travel agreed to an onerous waiver clause in relation to any pre-existing claims that Times Travel had against PIAC. Times Travel reluctantly agreed.
Times Travel subsequently issued court proceedings seeking to rescind the new agreement. This was so that it could seek to get around the waiver clause in the new agreement and sue PIAC for unpaid commissions under the original agreement.
UK Supreme Court's decision: overview
The UK Supreme Court confirmed that, while controversial, the doctrine of economic duress may apply to lawful acts. However, in a commercial context, a claim of economic duress based on a lawful act will rarely succeed. In particular:
In order to succeed, three elements need to be satisfied: an illegitimate threat, causation and the recipient having no reasonable alternative but to accede to the threat.
Where the threat is lawful, the illegitimacy of the threat is to be determined by focusing on the justification of the demand.
A demand motivated by commercial self-interest will generally be justified.
Lawful act economic duress is concerned with identifying rare exceptional cases where a demand, motivated by commercial self-interest, is nevertheless illegitimate.
This reflects the Court's cautious approach to lawful act duress, especially in the context of contractual negotiations between commercial entities.
What is “illegitimate" pressure?
The judges all agreed that Times Travel's claim could not succeed, as the pressure applied by PIAC was not illegitimate. However, they disagreed as to why, with the Court splitting 4:1 on what constitutes an
illegitimate threat or pressure.
Borrowing from equitable concepts, the majority said that illegitimate pressure requires unconscionable conduct. They said that this is “morally reprehensible behaviour" that renders the enforcement of a contract unconscionable. While this case concerned “hard-nosed commercial negotiation that exploited PIAC's position as a monopoly supplier", there was no reprehensible means of applying pressure.
The minority said that a threat or pressure will be illegitimate where there has been a “bad faith demand". That is, a demand made in circumstances where the threatening party does not genuinely believe that it (1) is owed what it is claiming to be owed or (2) has a defence to the claim being waived by the threatened party. In the minority's view, Times Travel's claim failed because, while PIAC had “deliberately increased" the travel agent's vulnerability to the demand to waive claims, PIAC was not acting in bad faith in making the demand for the waiver. That was because it genuinely believed that it was not contractually liable for the unpaid commission that was being waived.
Implications for commercial parties in New Zealand
The New Zealand Court of Appeal has similarly observed that in the context of commercial negotiations, lawful act economic duress will rarely apply.1 However, what is less clear is the scope of
illegitimate pressure under New Zealand law. Our Court of Appeal had rejected the position that “reprehensible" behaviour is necessarily illegitimate, and disavowed the use of unconscionability to define the scope of the doctrine.
However, it remains to be seen whether the New Zealand courts will reconsider that position in light of the UK Supreme Court's decision.
For the time being, commercial parties should be mindful of this uncertainty, and consider whether:
they genuinely believe they have an entitlement to the demand they are making, and
there is any morally reprehensible aspect to the demand (which is, of course, difficult to define, but must be more than just hard-nosed, self-interested commercial dealings).
If you have any questions about the matters raised in this article please get in touch with the contacts listed or your usual Bell Gully adviser.
This publication is necessarily brief and general in nature. You should seek professional advice before taking any action in relation to the matters dealt with in this publication.