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Unilateral Price Change is Fundamental Breach
Published in the August 2008 issue of Litigation Notes - View Article
Synopsis: An oil company changed the “rack price” that it charged its distributors for petroleum products. This was found to be a fundamental breach of contract, entitling the distributors to terminate the agreements between them and the oil company. However, an exclusion clause in the agreements was found to be enforceable.
Selkirk Petroleum Products Ltd. (“Selkirk”) and Prairie Petroleum Products Limited (“Prairie”) are bulk fuel oil distributors in the Province of Manitoba. In 1995, they each signed an agreement with Mohawk Oil Co. Ltd. (“Mohawk”) in which they undertook to purchase all of their requirements of petroleum products from Mohawk for a period of 10 years.
The contracts specified that Prairie and Selkirk would purchase petroleum products at Mohawk’s “rack price” as set out in a price list which was delivered by Mohawk to Prairie and Selkirk twice each month. The term “rack price” was not specified in the contract nor was the method by which it was derived. The “rack price” was always set by Mohawk without any consultation with Prairie or Selkirk.
In July of 1998, Husky Oil Limited (“Husky”) purchased the shares of Mohawk. Initially, Husky continued to sell to Prairie and Selkirk using the Mohawk “rack price” but in April of 1999, it rationalized its distributorship network and converted Prairie and Selkirk to Husky’s own “rack pricing” system. Suddenly, Prairie and Selkirk found that they had lost their competitive edge in the marketplace. It seemed that the Mohawk “rack price” had been based on using the average crude oil price of Imperial Oil Limited (“Esso”) which had the lowest prices of the three largest oil companies in the marketplace. Husky, on the other hand, used a “rack price” which was the average “rack price” of the three major oil companies (Esso, Shell, and Petro-Canada).
Prairie and Selkirk sued Husky for breach of contract, claiming that the unilateral change in the pricing structure had deprived them of the entire benefit of the contract and was therefore a fundamental breach. Husky counterclaimed for damages for breach of contract by way of early termination and claimed loss of profits.
Husky argued that the price formula was not a primary obligation under the contract. Rather, it argued that it had an obligation to provide petroleum products on an exclusive basis and to guarantee the supply of products during the term of the agreement. In addition, Prairie and Selkirk were provided with other benefits including start-up capital, signage, national advertisement, technical support, credit card programs and price support.
Husky also relied on an exclusion clause in the supply agreements which provided Husky would not, by reason of the termination of the agreements be liable for “…compensation, reimbursement or damages on account of the loss of prospective profits on anticipated sales… or for any special or consequential damages or otherwise from any breach of its obligations…”
At trial, the judge accepted extrinsic evidence to explain the meaning of the term “rack price”, as it was not defined in the contracts. She concluded that the unilateral changing of the price formula constituted a fundamental breach which entitled Prairie and Selkirk to terminate the contracts and also held that the exclusion clause was unenforceable by reason of being unconscionable, unfair and unreasonable.
Husky appealed to the Manitoba Court of Appeal, which reviewed the law with respect to fundamental breach. The Court referred to the Supreme Court of Canada decision of Hunter Engineering Co. v. Syncrude Canada Ltd. which held that a fundamental breach occurs “…where the event resulting from the failure by one party to perform a primary obligation has the effect of depriving the other party of substantially the whole benefit which it was the intention of the parties that he should obtain from the contract”. On reviewing the evidence, the Court of Appeal was satisfied that competitive pricing was fundamental to the arrangements entered into between Mohawk on the one hand and Prairie and Selkirk on the other. Not only was the Mohawk “rack price” lower than Husky’s “rack price”, but an additional competitive advantage was provided by Mohawk in that its price list was delivered two or three days prior to the first and fifteenth of the month, so that Prairie and Selkirk could advise their customers of an impending price increase and enable them to purchase fuel at a lower cost. The evidence also disclosed that both Prairie and Selkirk experienced significant declines in their sales volumes and lost customers as a result of their lack of competitiveness. The Court of Appeal therefore agreed with the trial judge that there had been a fundamental breach of contact.
However, the Court of Appeal did not agree that the exclusion clause was unconscionable, unfair or unreasonable. The Court referred to the case of Plas-tex Canada Ltd. v. Dow Chemical of Canada Ltd., which established that “unconscion-ability should be used sparingly to avoid an exclusion clause, but should be applied in such a way as to prevent a party to a contract from acting in an unconscionable manner, secure in the knowledge that no liability can be imposed because of such a clause.” The Court went on to say that unconscionability is “typically associated with an inequality of bargaining power present when the contract is entered into and conduct amounting to an abuse of such power”. The Court found no such inequality of bargaining power in this case. Both Prairie and Selkirk were represented by legal counsel and their representatives confirmed that they had read, understood and were satisfied with the agreements before they signed them.
The Court acknowledged that there is not a lot of guidance in the jurisprudence as to what criteria should be considered in determining whether or not an exclusion clause is fair or reasonable. In this case, the Court considered the fact that Husky had approached Prairie and Selkirk to inform them of its intentions prior to implementing the new price formula, that Prairie was significantly indebted to Husky and yet Husky continued to do business with Prairie for some two years after the new price formula was introduced and after Prairie had already indicated its intention to repudiate the contract and the fact that Husky provided price support to both Prairie and Selkirk, among other factors. Consequently, the Court of Appeal concluded that they exclusion clause was not unconscionable, unfair or unreasonable and should be enforced.
Prairie Petroleum Products Ltd. v. Husky Oil Ltd. et al, 2008 MBCA 87 (CanLII)