Know When to Fold: Termination Clauses in Commercial Contracts

As Kenny Rogers sang, you gotta “know when to hold ’em, know when to fold ’em.” Contracts are no different. Many businesses get stuck in bad contracts because they ignore—or avoid hard conversations about—termination rights. This leaves them holding onto a bad deal when they should be folding.

This post breaks down termination clauses. Specifically, we look at (i) the termination sub-types; and (ii) how to effectively negotiate termination clauses. First, here are the different types of termination:

1. Termination for Convenience. If seeking maximum flexibility, this is the gold standard. Termination for convenience does not require a breach of the agreement, nor does it require waiting until the end of a contract’s term. It simply requires a party to give notice of its desire to terminate. This gives a party substantial freedom to operate. It also can provide serious leverage if the other party isn’t delivering.
2. Termination For Cause. Sometimes there is an objective reason for walking away. If one party is in breach, the other party can terminate the contract, usually after a notice-cure period. The point of this type of clause is to enable a party to exit an agreement when the other party is not performing.
3. Expiry of Term/Non-Renewal. Many contracts expire without either party doing anything. At the end of a fixed term, the contract simply terminates automatically. Note that this type of clause can co-exist with termination for convenience or cause. It can also be a compromise solution if one party doesn’t want to offer convenience termination.

Some Things to Watch For

The three types of termination above don’t tell the full story. The devil is very much in the details. Well-negotiated contracts involve getting a few important items right on the termination clause, including the following:

1. Unilateral Rights. Not all termination clauses are created equal. Many contracts, especially “standard” terms, grant only one party—the drafting party—the right to terminate under any of the above three scenarios. You do not want to sign up to an agreement in which the other party can terminate, but you can’t. It is usually pretty easy to make a fairness argument and change this—but you have to flag the unilateral terms.
2. Notice Period. Almost every termination clause has a notice period. Depending on the business, this can be either too long or too short. If a SaaS contract requires a 90-day notice period, you could be paying for three months of services you never use. If a marketing contract allows immediate termination of services for non-payment, you could be shut out mid-campaign for an overlooked invoice. Finding a reasonable notice period may involve a certain amount of persuasion, but is necessary.  
3. Wind-Down Process. Just terminating a contract is only half the hand. The question is what comes next. When do unpaid invoices need to be settled? How are materials returned from one party to another? What clauses survive termination? Can either party mention the other party as a former partner? A well-drafted termination clause addresses these things in detail, particularly surviving clauses (e.g., confidentiality, IP ownership, indemnity).
4. Termination For Cause Language. Simply being able to terminate for breach does not tell the full story. The mechanics matter. If a party must prove by clear and convincing evidence—or have a third party adjudicate—that the other has breached, this clause loses its teeth. Similarly, if the notice-cure period is too long, you may be stuck for a while in a bad contract. The optimal for-cause clause depends on where you sit, but the process should be fair. This, of course, matters less if convenience termination is included.
5. Renewal Process. Many contracts auto-renew at the end of a fixed term. If you’ve ever rented from a large landlord, you know the drill: miss the notice window and you’re locked in for another year. If you are the one paying, you want to avoid these terms like the plague—they limit your optionality. If you’re the one getting paid, on the other hand, auto-renewal is actually desirable.

Contracts are the lifeblood of any business, but you’re taking a real gamble if you can’t get out of them. Getting the termination clause right maximizes your optionality, allowing you to fold cleanly and move on.

Disclaimer: This blog is for informational purposes only and does not constitute legal advice. Reading or interacting with this content does not create an attorney–client relationship. You should consult a qualified attorney for advice regarding your specific situation. Mehaffy, PLLC disclaims all liability for actions taken or not taken based on this blog.