The commercial and legal landscape in the United Kingdom is likely to experience considerable change as a result of Brexit. Its potential impacts have been widely discussed in recent months and years, and will include those resulting from a potentially significant fall in the value of the sterling, delay and cost caused by possible tariffs, and the uncertainty caused by the fact that a very large number of regulatory regimes are governed by EU law.

The UK government on 29 March 2017 gave formal notice of the United Kingdom’s intention to leave the European Union under Article 50(2) of the Treaty on the European Union. The United Kingdom’s departure is currently scheduled to occur on 29 March 2019.

The UK Parliament overwhelmingly voted to reject the current draft of the European Union (Withdrawal) Act 2018 (the Withdrawal Agreement); the basis on which any withdrawal from the European Union would take place remains unclear.

We examine below a variety of methods by which the effects of a disorderly and/or economically damaging Brexit could be minimised by those with existing investments and/or commercial contracts that could be affected.

Material Adverse Change (MAC) and Force Majeure Clauses

MAC clauses typically feature in acquisition agreements and lending transactions. These clauses are designed to act as catch-all provisions which enable a party to walk away from an agreement to acquire or lend in the event that there is an unforeseen adverse change in the target company or borrower's circumstances. A force majeure clause in a contract will enable a party to be excused from, or entitled to suspend performance of all or part of, its obligations under a contract, upon the occurrence of certain defined events which are outside a party’s control. It seems unlikely that most Brexit-related events (such as a drop in profitability due to a weak pound or burdensome importer’s obligations) would trigger a MAC clause or be considered valid force majeure events, but whether that would be the case would depend on the precise drafting of the clause in question; and such a clause could serve to provide leverage during negotiations in the event of either the financial impairment of a party following a disorderly Brexit, or a party having expressed a desire to exit a contract on financial grounds.

Brexit Clauses

The most reliable protection from the potential negative economic effects of Brexit comes in the form of purpose-built Brexit clauses. Brexit clauses expressly account for circumstances in which Brexit-related developments affect a party’s ability to perform their obligations under a contract or significantly increase the costs of performance; for obvious reasons, such clauses are unlikely to exist in older commercial contracts.

Whilst there is certainty that Brexit will result in significant changes in the legal and commercial environment, the specifics of those changes are yet to be seen. As such, the drafting of any Brexit clause would need to strike the right balance between specificity and generality. Should the Brexit-related trigger event be defined too narrowly, it is possible that some similar, but different, event could occur which did not trigger the clause. Should the trigger event be drafted too widely, the unaffected party would be exposed to the clause being “easily” triggered (and potentially be required to renegotiate or terminate the contract in accordance with the clause).

Frustration

Another angle that should be considered is whether any contracts could be terminated for a legal concept known as “frustration”. This usually applies, in the absence of any express provisions, if something occurs after the formation of a contract which renders performance of that contract illegal, impossible, or which transforms the obligation to perform into a radically different obligation from that originally undertaken at the time the contract was entered into. However, there is significant doubt as to whether this would apply in the case of Brexit. Frustration is not generally available when there are simply changes in economic or regulatory conditions, particularly if those changes were unexpected rather than entirely unforeseen. Should Brexit result in changes which render a contract less profitable, or more difficult to perform, the doctrine of frustration is unlikely to apply. Frustration is not available where the alleged frustrating event should have been foreseen by the parties, so is unlikely to apply to any contracts entered into after Brexit became a possibility, but is nevertheless something that should be considered as an argument that may be raised by counterparties to economically unviable contracts.

Investor-State Arbitration

The United Kingdom has entered into various bilateral investment treaties (BITs), under which foreign investors are able to bring claims against the United Kingdom via investor-state arbitration. The UK’s BITs typically contain fair and equitable treatment (FET) protections. Amongst other things, FETs are generally understood as ensuring the protection of a foreign investor’s “legitimate expectations”. If the value of a foreign investor’s investment is impacted by a specific post-Brexit regulatory change in the United Kingdom, there may be scope for a claim to be brought against the United Kingdom. The prospects of success for such a claim—whilst difficult to assess without precise details of the investment and the post-Brexit regulatory changes in the UK—are probably not strong.

A claimant would need to demonstrate that the UK government, through statements or (more likely) conduct, contributed to the creation of a reasonable expectation of regulatory stability within the United Kingdom. The possibility of a referendum on the UK’s membership of the European Union entered mainstream political debate in (at the latest) 2015. For any investment made after this date, it would be very difficult to argue successfully that it was reasonable not to anticipate significant change in the UK regulatory environment.

It should also be noted that arbitral tribunals have generally accepted that states must be free, within the bounds of what is reasonable, to judge what is in the public interest and to legislate in pursuit of that. The UK public voted to the leave the European Union. The UK government’s subsequent actions—which will result in a change in the UK regulatory environment—could therefore be said to be the practical implementation of the democratic will of the UK population. As such, the UK government could be considered to be legislating in pursuit of the public interest in such a way as to preclude any claim based on a BIT. However, it should be noted that investment treaty arbitration can give unexpected and unconventional results, and governments often settle even relatively speculative claims in order to avoid the expense and negative publicity that can accompany defending such claims.

Conclusion

Brexit has created a huge amount of uncertainty for companies operating in the United Kingdom, and many such companies are allocating “Brexit teams” to tackle these challenges. Morgan Lewis's team of lawyers in London, the rest of Europe, and beyond are advising clients on legal and regulatory developments and the anticipated impact of Brexit. Particular areas of focus include banking and finance, financial regulation, employment, immigration, data protection, tax, antitrust, litigation and arbitration.