In simple terms Novation means replacing a party to a contract with a new party. It is a concept that originated in Roman Law and refers to the process by which two contracting parties agree, by consent, to replace one of them with a third party. It provides a means by which parties can work around the doctrine of privity of contract whereby only the original parties to a contract are bound by and are able to exercise the rights created by that contract. The process of Novation actually changes the parties to a contract such that there is effectively a new contract between those parties on the same terms.
Novation v Assignment
Novation differs from assignment where the rights and obligations of a contract are transferred to a new party but the contracting parties remain the same. In an assignment one party can transfer the benefits it expects to receive under a contract to a new party who can enforce performance of those rights directly. The burden of rights or obligations under a contract cannot generally be assigned. Assignment is generally permitted unless there is explicit prohibition against it in the contract. Where it is permitted the assigning party, the assignor, need not consult the other party to the contract.
In contrast, Novation requires that the consent of all three parties is obtained. Rather than the contract being transferred to a new party, a third party actually replaces the outgoing party. As mentioned above, this means in essence that there is a new contract.
Uses
Common occurrences of Novation are where companies are amalgamating or where the partnership in a firm is changing. Generally it is a question of fact as to whether parties to a contract have consented to the replacement an original contracting party. It may be possible to infer from acts or conduct that this is the case but ordinarily an explicit request must exist.
Effect
When the process of Novation is used, a new contract effectively comes into existence. The normal principles of contract law apply, namely the requirement for: offer, acceptance, intention to create legal relations and consideration. The first three are self-evident; consideration, although less obvious, is also apparent. In consideration for release from its contractual obligations to party B, exiting party A provides new party C. Remaining party A provides a release to exiting party B as consideration for new party C stepping into those contractual obligations.
If you would like more information on Novation, assignment or other contractual advice Rollingsons has commercial lawyers experienced in company law matters. For more information please contact James Crighton via e-mail jcrighton@rollingsons.co.uk or by phone on 0207 611 4848
