Force Majeure & Commecial Impracticability


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Force Majeure & Commecial Impracticability

  1. 1. Force Majeure And CommercialImpracticability In PurchasingAnd Sales ContractsChristopher TompkinsJenner & Block LLPDecember 19, 2011
  2. 2. ©2011 Christopher Tompkins and Jenner & Block LLP. 353 N. Clark St.Chicago, IL 60654-3456. Jenner & Block is an Illinois Limited LiabilityPartnership including professional corporations. This publication is notintended to provide legal advice but to provide information on legal matters.Transmission is not intended to create and receipt does not establish anattorney-client relationship. Readers should seek specific legal advice beforetaking any action with respect to matters mentioned in this publication. Theattorney responsible for this publication is Christopher Tompkins. AttorneyAdvertising. Prior results do not guarantee a similar outcome.
  3. 3. Agenda1. When is performance excused?2. What procedures must be followed to excuse performance?3. Preventing problems: tips for drafting effective force majeure clauses. 3
  4. 4. Agenda1. When is performance excused? a. Force majeure clause. b. Commercial impracticability. c. Other potentially applicable UCC provisions. d. CISG Article 792. What procedures must be followed to excuse performance?3. Preventing problems: tips for drafting effective force majeure clauses. 4
  5. 5. Force Majeure Clause 5
  6. 6. Example Force Majeure ClausesForce Majeure. Neither party shall be liable for any failure to make or accept one ormore deliveries arising out of compliance with any law, ordinance, regulation, ruling,order or other governmental action or arising out of acts of God, fire, flood, war,sabotage, accidents, labor disputes, shortages or failure to supply materials orequipment, interruption of or delay in transportation, or any other similar circumstancebeyond the control of the party.Force Majeure. Seller shall not be responsible for cancellation or delay in delivery orperformance resulting from causes beyond its reasonable control, including, but notlimited to: acts of God; strikes or other labor disturbances; equipment failure; delays intransportation; inability to obtain fuel, material, or parts; war; acts of terrorism; riot;epidemics; floods; fires; unusually severe weather conditions; accidents; or othercontingencies the non-occurrence of which was a basic assumption on which thepurchase order was made. 6
  7. 7. Another ExampleFORCE MAJEURE. In the event either party, through no fault of its own, is unableto perform due to an event that is beyond the non-performing party’s reasonablecontrol, such nonperformance shall be excused, provided that if any such eventcontinues for more than fifteen (15) days, Purchaser may, at its option, cancel thisorder and all its obligations hereunder. Each party shall promptly notify the other ofany inability to perform and the cause. 7
  8. 8. Interpretation Rules Even if not expressly stated, courts generally require that the event claimed as the basis for excused performance:  was beyond the control of the party claiming excuse; and  actually hindered performance. Clauses excusing performance are usually narrowly construed:  Under the doctrine of ejusdem generis, courts may find events dissimilar to listed examples will not excuse performance, even when the clause includes broad catch-all language. Events or possibilities of which the parties were aware at time of contract are less likely to be found to excuse performance. There is some conflict in the law about notice requirements if the clause does not include an express notice provision. 8
  9. 9. Commercial Impracticability 9
  10. 10. Common Law Origins Taylor v. Caldwell, 122 ER 309 (1863).  Facts: Taylor & Lewis rented a music hall from Caldwell & Bishop for purpose of holding a series of four concerts. Before the concerts took place, the hall was then destroyed by fire. Taylor & Lewis sued for breach.  Held: Caldwell excused from its obligation because performance was impossible after destruction of music hall. Krell v. Henry, 2 KB 740 (1903).  Facts: Paul Krell rented a flat on Pall Mall for the days of June 26 and 27 for the purpose of watching the coronation procession of Edward VII. The coronation was later postponed because of the King’s illness. Flat owner CS Henry sued for payment.  Held: Krell excused from performance given purpose of lease – watching the coronation procession – was frustrated. 10
  11. 11. UCC Commercial ImpracticabilityUCC § 2-615. Excuse By Failure Of Presupposed Conditions.Except so far as seller may have assumed a greater obligation and subject tothe preceding section on substituted performance:(a) Delay in delivery or non-delivery in whole or in part by a seller that complies with paragraphs (b) and (c) is not a breach of his duty under a contract for sale if performance as agreed has been made impracticable by the occurrence of a contingency the non-occurrence of which was a basic assumption on which the contract was made or by compliance in good faith with any applicable foreign or domestic governmental regulation or order whether or not it later proves to be invalid. 11
  12. 12. Basic Requirements1. Seller must not have assumed the risk of some unknown contingency.2. Nonoccurrence of the contingency must have been a basic assumption underlying the contract.3. Occurrence of the contingency must have actually made performance commercially impracticable. 12
  13. 13. Assumption Of Greater Obligation UCC § 2-615: “Except so far as Seller may have assumed a greater obligation . . .”  Do not need an express agreement to assume a greater obligation or risk.  Greater obligation can be implied in a number of ways:  Course of performance, course of dealing, usage of trade;  Awareness of risk at time of contracting. UCC § 2-615 cmt. 8.  Failure to expressly shift risk in the agreement, especially when that is the normal practice in the industry.  Generally, force majeure clauses are not read as supplanting UCC § 2-615, but could do so in some cases. 13
  14. 14. Forseeability Of Contingency UCC § 2-615: “. . . occurrence of a contingency the non- occurrence of which was a basic assumption on which the contract was made . . .”  Courts called on to address event the parties did not consider.  Courts generally look to whether the event is so unusual or unforeseen and whether the consequences so severe that enforcement of the contract would be commercially unreasonable or unjust.  Guiding principle examines commercial practicalities and the types of risks which parties are expected to have assumed in the contract.  Courts often look to whether seller would be severely impacted and whether buyer would receive an unjustifiable windfall. 14
  15. 15. Performance Made Impracticable UCC § 2-615: “. . . Performance as agreed has been made impracticable . . .”  Lesser standard than common law impossibility.  However, must still show that performance despite event would cause severe and unreasonable loss.  Must be causal connection between event and the impracticability of performance. 15
  16. 16. Government Regulation UCC § 2-615: “. . . or by compliance in good faith with any applicable foreign or domestic governmental regulation or order. . .”  Text does not expressly require that the regulation or order was unanticipated.  However, generally the regulation must be a supervening event not existing at time of contract.  e.g. parties aware at time of contract that they would need to comply with existing license or permit requirement. 16
  17. 17. Applicability To Buyers Express language of UCC § 2-615 only refers to sellers.  Buyer’s obligation generally to pay for goods.  Contracts often do not speak to buyer’s purpose.  Requirements contracts will automatically adjust buyer’s obligation. However, courts generally agree buyers can rely on UCC § 2-615 and common law doctrines like frustration of purpose:  Official Comment 9 illustrates application to buyer and some courts have applied the section to Buyer’s claim of commercial impracticability.  Buyer can rely on common law doctrine of frustration of purpose (Krell v. Henry).  However, relief generally unavailable absent understanding that purchase was for a specific buyer need. 17
  18. 18. Common Excuses Official comment 2 to UCC § 2-615 notes that section deliberately refrains from listing contingencies. Some often-claimed excuses are: • Destruction of goods. • Natural disasters. • Destruction of production • Strikes and labor issues. facilities. • Crop failures. • Supply problems. • Government regulation. • Weather. • War, terrorist act, revolution, riot, • Transportation issues. civil commotion. • Fire and explosion. • Embargo. 18
  19. 19. Increased Cost Of Performance “Increased Cost alone does not excuse performance unless the rise in cost is due to some unforeseen contingency which alters the essential nature of performance.” UCC § 2-614 Comment 4. “But a severe shortage of raw materials or of supplies due to a contingency such as war, embargo, local crop failure, unforeseen shutdown of major sources of supply or the like, which either causes a marked increase in cost or altogether prevents the seller from securing supplies necessary to his performance, is within the section.” UCC § 2-614 Comment 4. 19
  20. 20. Increased Cost Of Performance Increased cost of performance is rarely a valid excuse.  Risk of change in market prices generally thought to be a business risk assumed by the parties. Courts rejected claims that increased crude oil prices in 1970s rendered performance of fuel supply contracts impracticable. See, e.g., Eastern Air Lines, Inc. v. Gulf Oil Corp., 415 F.Supp. 429 (S.D. Fla. 1975). Courts rejected claims that increased costs to ship goods around the Cape of Good Hope after various closures of the Suez Canal made performance impracticable. See, e.g, Transatlantic Financing Corp. v. United States, 363 F.3d 312 (D.C. Cir. 1966). 20
  21. 21. Increased Cost Of Performance. Aluminum Co. of America v. Essex Group, Inc., 499 F.Supp. 53 (W.D.Pa. 1980).  ALCOA was granted relief from long-term supply arrangement with potential 20 year term where actual material price increases dramatically outstripped the contract’s escalation clause which was based on the Wholesale Price Index of Industrial Commodities.  The Court found commercial impracticability based on the failure of the contract’s price adjustment mechanism to keep pace with actual cost inflation and rewrote the contract provisions with alternate price terms.  The decision has been roundly criticized, particularly because it rewrote the parties’ agreed upon price adjustment mechanism. 21
  22. 22. Failure Of Source Of Supply Mere fact that a party expected to perform their obligation in a particular way that becomes unavailable is not a defense. Where a specific source of supply was not contemplated performance not likely to be excused even if costs are increased. Performance may be excused where the parties mutually contemplated a particular source of supply and its failure was unexpected. Courts have generally excused farmers from performance after a crop failure where there was no basis to expect that farmer would purchase a replacement crop on the market. 22
  23. 23. Other UCC Provisions 23
  24. 24. Destruction Of Identified GoodsUCC § 2-613. Casualty to Identified Goods.Where the contract requires for its performance goods identified when thecontract is made, and the goods suffer casualty without fault of either partybefore the risk of loss passes to the buyer, or in a proper case under a "noarrival, no sale" term (Section 2-234) then(a) if the loss is total the contract is avoided; and(b) if the loss is partial or the goods have so deteriorated as no longer to conform to the contract the buyer may nevertheless demand inspection and at his option either treat the contract as avoided or accept the goods with due allowance from the contract price for the deterioration or the deficiency in quantity but without further right against the seller. 24
  25. 25. Substituted PerformanceUCC § 2-614. Substituted Performance.(1) Where without fault of either party the agreed berthing, loading, or unloading facilities fail or an agreed type of carrier becomes unavailable or the agreed manner of delivery otherwise becomes commercially impracticable but a commercially reasonable substitute is available, such substitute performance must be tendered and accepted.(2) If the agreed means or manner of payment fails because of domestic or foreign governmental regulation, the seller may withhold or stop delivery unless the buyer provides a means or manner of payment which is commercially a substantial equivalent. If delivery has already been taken, payment by the means or in the manner provided by the regulation discharges the buyers obligation unless the regulation is discriminatory, oppressive or predatory. 25
  26. 26. UN Convention On TheInternational Sale Of Goods 26
  27. 27. International Agreements CISG Article 79: “A party is not liable for a failure to perform any of his obligations if he proves that the failure was due to an impediment beyond his control and that he could not reasonably be expected to have taken the impediment into account at the time of the conclusion of the contract or to have avoided or overcome it or its consequences.” 27
  28. 28. Agenda1. When is performance excused?2. What procedures must be followed to excuse performance?3. Preventing problems: tips for effective drafting force majeure clauses. 28
  29. 29. Procedural RequirementsUCC § 2-615. Excuse By Failure Of Presupposed Conditions.Except so far as seller may have assumed a greater obligation and subject tothe preceding section on substituted performance:(b) Where the causes mentioned in paragraph (a) affect only a part of the seller’s capacity to perform, he must allocate production and deliveries among his customers but may at his option include regular customers not then under contract as well as his own requirements for further manufacture. He may so allocate in any manner which is fair and reasonable.(c) The seller must notify the buyer seasonably that there will be delay or non-delivery and, when allocation is required under paragraph (b), of the estimated quota thus made available for the buyer. 29
  30. 30. Allocation Where ability to perform is only partially impaired, seller has obligation to make “fair and reasonable” allocation. UCC § 2-615(b). No rigid allocation rules, seller has some flexibility:  Pro rata approaches generally accepted.  Seller may allocate production to itself.  Seller may fill non-contract orders from regular customers, but not new customers.  Seller may consider varying needs of its customers. 30
  31. 31. Notice Requirements Seller must provide buyer with “seasonable” notice of the impracticability and any allocation. UCC § 2- 615(c).  Seasonable means within the period required by the contract, or if none within a reasonable time.  Reasonableness depends on the nature, purpose, and circumstances of the action. UCC § 1-205. 31
  32. 32. Buyer’s Rights And ObligationsUCC § 2-616. Procedure On Notice Claiming Excuse.(1) Where the buyer receives notification of a material or indefinite delay or an allocation justified under the preceding section he may by written notification to the seller as to any delivery concerned, and where the prospective deficiency substantially impairs the value of the whole contract under the provisions of this Article relating to breach of installment contracts (Section 2-612), then also as to the whole, (a) terminate and thereby discharge any unexecuted portion of the contract; or (b) modify the contract by agreeing to take his available quota in substitution.(2) If after receipt of such notification from the seller the buyer fails so to modify the contract within a reasonable time not exceeding 30 days the contract lapses with respect to any deliveries affected.(3) The provisions of this Section may not be negated by agreement except in so far as the seller has assumed a greater obligation under the preceding section. 32
  33. 33. Agenda1. When is performance excused?2. What procedures must be followed to excuse performance?3. Preventing problems: tips for drafting effective force majeure clauses. 33
  34. 34. Drafting Tips Identify specific concerns in force majeure clause with particularity:  Will failure of a specific source of supply excuse performance.  Will damage or destruction to production equipment excuse performance.  Will changed economic circumstances provide an excuse.  If buyer intends goods for specific purpose, will disruption of that purpose or event excuse performance.  Will events impacting third parties, such as others upstream and downstream in the supply chain, excuse performance.  Expressly address events of which parties are aware at the time of contract. 34
  35. 35. Drafting Tips Where “laundry list” approach is used:  Carefully define listed events.  Consider whether list is exclusive or non-exclusive .  Consider drafting clause to address effects and not causes.  Consider using sweep-up language specifying both “including but not limited to” and “whether or not similar” to events listed in laundry list. Expressly exclude events that do not constitute a force majeure. 35
  36. 36. Drafting Tips Consider whether the force majeure clause should:  Expressly specify that events are outside of control of a party constitute a force majeure.  Specify whether events resulting from negligence of a party are included.  Impose a duty to take reasonable steps to avoid the force majeure event or its effects.  Supplant UCC § 2-615 and common law doctrines of impossibility, impracticability, and frustration of purpose. 36
  37. 37. Drafting Tips Address procedures when claiming force majeure:  Form and timing of notice required to invoke clause and consequences of non-compliance with notice requirement.  Allocation requirements and most favored nations provision. Specify effect of force majeure on parties’ duties:  Temporary suspension of duty.  Substitute performance by seller.  Buyer ability to procure goods elsewhere during the force majeure.  End of force majeure event.  Obligation to make-up missed shipments after conclusion of event.  Ability to cancel or terminate the agreement. 37
  38. 38. Questions? 38