Expansion of the global market provides endless business opportunities and yet involves risks associated with dealing with a party from a different legal system, mentality and oftentimes foreign language.
Understanding the rules of the game is a key to structuring a transaction in this “increasingly one world.” The United Nations Convention on Contracts for the International Sale of Goods (“CISG”) is an international treaty that governs parties’ rights, obligations and remedies to international commercial sale of goods. To date the most widespread uniform sales law, CISG has signatories from five continents, including the USA, Canada, China, Germany, Japan, Mexico and Russia, that accounts for two thirds of the world trade.
Just like the Uniform Commercial Code (“UCC”), CISG provides default terms for covered business transactions. However, as a product of compromise of different regimes across the globe, CISG differs dramatically from UCC, its American counterpart, in many aspects. Despite its international acceptance, American cases interpreting CISG are scarce, as recently acknowledged by the Seventh Circuit.
This Article has a dual purpose. First, it outlines some of the glaring differences between UCC and CISG. Second, it provides hints on how strategic planning, including thoughtful definition of acceptance mode, writing requirement, as well as breach and notice parameters, could render the CISG regime beneficial to businesses.
Opting Out of CISG
While entering into a promising contract, parties rarely focus on what may go wrong. Yet, strategical choice of law governing the transaction, scrupulous memorialization of rights and obligations—all strengthens parties’ positions and reduces litigation risks.
The United States is a signatory to the CISG. As such, CISG is the law of the land under the Supremacy Clause of the Constitution and will apply by default any time an American business contracts with a foreign party for the sale of goods, unless properly opted out. CISG gives parties a freedom to mold their contract as they see fit, including opting out of its application and choosing domestic law instead.
However, unskilled drafting subjects parties to the same treaty from which they thought they opted out. Is it sufficient to include a choice of law provision in an international sales contract stating that the law of the state of Florida will govern the transaction? The Answer is “No.” CISG is a treaty to which the United States is a party and therefore is the substantive law of each single state. As such, CISG will preempt state law, i.e. UCC.
Consider Roser Technologies, Inc. where the following choice of law provision was found insufficient to opt out of the CISG: “Supplies and benefits shall exclusively be governed by German law.” The court found this exclusion ineffective because it did not explicitly reference the CISG. Thus, to opt out, parties must expressly state that they are excluding application of the CISG and choose Article 2 of the UCC as enacted in state “X” to govern the relationships.
Choosing Between UCC and CISG
Although it is possible to opt out of CISG, imposing “home” regime on foreign partners might strain the relationship. As such, businesses face a choice: to insist on the predictable UCC or consider CISG.
In understanding the differences between UCC and CISG, it is important to recognize CISG’s roots. With a goal to facilitate international trade, CISG evolved as a compromise between the two opposites: the English common law system based on precedents and the civil law system based primarily on codes. CISG legal regime differs from UCC and might render answers to the following questions fundamentally different. Whether and when the contract was formed? Can oral conversation form a contract? What terms become part of a contract? What to do when the delivered goods do not conform to the contract? When and how to properly notify the Seller of goods’ non-conformity? Whether, after costly litigation, a winning party recovers its attorneys’ fees?
- CISG: No Writing Requirement
Unlike UCC that requires at least some writing for a valid contract, CISG does not require any writing at all. Under CISG, parties are free to agree to whatever terms they choose and in whatever form they see fit. This could translate into businesses being bound by contracts which they did not know were formed or to the terms they did not think they agreed to.
Consider Chateau de Charmes Wines where the verbal agreement between a Canadian winery and its American importer to purchase wine corks to be shipped in eleven batches formed a binding contract via a phone conversation. Thus, a later attempt to insert a forum selection clause in the invoices was merely a proposal to modify, which was rejected without becoming part of the deal.
Thus, if not properly memorialized, contract existence could become the subject of a costly litigation with a panoply of evidence. Consider Allied Dynamics where an American buyer of gas turbines blade parts argued that the Italian seller accepted the purchase orders via phone or email confirmation, providing email strings and other evidence of such beliefs.
Notably, although CISG shuns the writing requirement, parties can opt out of the provision requiring that the contract be in writing. Furthermore, certain countries, including the Russian Federation and Chile, made reservations concerning the writing requirement and thus contracts with the businesses from those countries must be in writing.
- Clear Words in Written Contracts Can be Contradicted By Other Evidence
One of the highlights of the American legal system is the parol evidence rule, which prohibits parties from contradicting clear contract terms with extraneous evidence to show that the contract as written is not what the parties truly agreed to. CISG eliminated this rule permitting courts to take “due consideration . . . to all relevant circumstances of the case including the negotiations” when interpreting an agreement. Additionally, unlike UCC, CISG gives primary consideration to parties’ subjective intent when interpreting a contract.
This means that even when there is a written contract, in the event of a dispute, parties are allowed to introduce extraneous evidence to show that the written terms are not what they truly agreed to. Consider MCC-Marble where the court allowed extraneous evidence in construing contract terms memorialized in the Italian language. Despite contractual clarity, the Buyer was allowed to introduce affidavits contending that all parties subjectively intended not to be bound by the clear written terms allowing cancellation for non-payment. Applying CISG, the court agreed with the Buyer reasoning that CISG directed courts to admit and consider “parol evidence regarding the negotiations to the extent they reveal the parties’ subjective intent.” Under UCC, the outcome would have been different because evidence contradicting clear contract terms would have been excluded.
Parol evidence and the statute of frauds rules come into play when parties attempt to include their set of “standard terms” as a part of the deal. The lack of the writing requirement and the ability to prove a contract by any means might create a false impression that those “standard terms” easily become part of the contract. Contrary to this belief, undocumented transactions lead to disputes as to what exactly was agreed to. In Golden Juice, the buyer disputed validity of the contract’s clause naming Australia as the dispute resolution forum. Contemporaneously with the sales quote, warranty and banking information, Seller sent Buyer its standard terms specifying Victoria, Australia as the forum. Although the sales quote did not specifically incorporate those standard terms, the court held it was a clear intention of the offeror to include the terms in the offer. Thus, by accepting the sales quote, the Buyer automatically accepted the standard terms.
CISG’s endorsed freedom to contract in any form should not be confused with how the ultimate fact finder weighs the evidence. Clearly, when considering the evidence, there is hardly anything more convincing than a written contract and a clear paper trail.
- Differences in Contract Formation
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- Offers’ Revocability: Can I Change My Mind Before You Accept?
When a buyer makes an offer to purchase a certain amount of goods for a certain price, does the buyer have a right to change its mind before seller accepts the offer? UCC and CISG provide different answers to this question.
Under UCC, offers are freely revocable. Under civil law, offers are irrevocable once effective. CISG compromised these opposite approaches by providing that an offer can be withdrawn prior to when it reaches the offeree. However, after the offer reaches the offeree it becomes more difficult to revoke it.
Although UCC and CISG both agree that an offer cannot be revoked if it is irrevocable, they differ significantly in what makes the offer irrevocable or “firm.” CISG irrevocable offer requirements are nowhere near as stringent as those for a firm offer under UCC. There is no requirement of consideration to make an offer irrevocable, offeror does not need to be a merchant, there is no writing requirement, and, unlike the three (3) months period provided under the UCC, there is no such time limit for irrevocability under CISG. Thus, when a party sends an offer indicating time for acceptance, such an offer is considered revocable under UCC but irrevocable under CISG. Applicability of UCC or CISG will determine whether the offeror is bound by that offer or whether it can rightfully change its mind and revoke it.
As a tip, to avoid being bound by an irrevocable offer after-the-fact, the drafter of an offer may explicitly state that the offer is indeed revocable and that the date provided in the offer is merely an indication of when the offeror expects acceptance, thereby reserving the right to revoke the offer at any time prior to acceptance.
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- Mirror-Image Rule: Whose Forms Win the Day?
When business deals are verbal or poorly documented, parties end up litigating over the terms governing their transaction. Major disconnects happen at the “battle of the forms” stage when parties exchange boilerplate forms, emails, phone calls, and then proceed to perform without bottom-lining what they have agreed to.
The typical “battle of the forms” scenario occurs when the offeror makes the offer and the offeree accepts it while adding additional terms. Is there a contract formed at that point? Under UCC, a contract is formed on essential terms, including price and quantity, and the offeror’s additional or varying terms are nothing more than rejected proposals for modification. Under CISG, however, a communication accepting the offer but containing materially different terms, is not an acceptance but is a new counter-offer, which, if accepted, will shape the contract terms. As such, UCC preserves a contract omitting any offensive terms, while CISG strikes the contract and alteration becomes a counter-offer that, if accepted, governs the transaction. Importantly, acceptance can be made by a statement or any other conduct indicating assent.
Consider Roser where the Buyer of the copper plates breached the contract because he thought the terms were those as set in its purchase order. Buyer’s original purchase order contained generic details. In response, Seller sent the order confirmation containing an additional payment language allowing Seller to ask for a guarantee or advance payment. The Buyer responded by email instructing the Seller to proceed with manufacturing the goods. Under UCC, Seller’s confirmation would be an acceptance of the Buyer’s offer and all of the additional terms contained in the confirmation, including payment language, would have been rejected. Yet, applying CISG the court found that Seller’s order confirmation with additional terms amounted to a new counter-offer, which the Buyer accepted by following up with an email. As a result, the Buyer was found to be the breaching party because it failed to comply with the payment obligation.
- Improper Delivery: Are the Goods Non-Conforming Enough To Avoid a Contract?
UCC and CISG differ significantly in interpreting the goods’ non-conformity. Under the perfect tender rule embodied in the UCC, unless otherwise agreed, if the goods or the tender of delivery fail in any respect to conform to the contract, the buyer may (a) reject the whole; (b) accept the whole; or (c) accept any commercial unit or units and reject the rest.
CISG follows a restrictive “fundamental breach” notion in determining whether goods’ non-conformity allows a buyer to avoid a contract. Under CISG, a buyer cannot reject defective or untimely goods or cancel unless the non-conformity substantially deprives the buyer of what it was entitled to expect under the contract and only if the seller foresaw or should have foreseen such a result. A buyer cannot even demand substitute goods unless non-conformity amounts to a fundamental breach.
While under both UCC and CISG, courts consider the gravity of the non-conformity, the nebulous parameters of “fundamental” breach under CISG are left to fact finders who, in turn, consider a myriad of international treatises, as well as an undefined body of case law under CISG. Interpretation of what type of non-conformity amounts to “fundamental” makes a big difference in deciding whether a party has a right to avoid the contract and the potential outcome in the event of litigation.
Some courts applying CISG have found that the breach is not “fundamental” where the non-conforming goods were of lower quality but could still be re-sold by the buyer using some reasonable efforts. Similarly, late delivery, which would clearly violate the American perfect tender rule, does not amount to a fundamental breach under CISG, unless expressly specified in the contract.
Thus, CISG’s position is better for sellers because it protects sellers from buyers who reject goods for minor non-conformities as a pretext to shift the loss in a declining market.
To minimize later disputes, a business should consider including in its contract a clause listing contract provisions, non-compliance with which shall allow contract avoidance under Article 49.
- Notice of Non-Conformity
In the event delivered goods do not conform to contract requirements, both UCC and CISG provide that the buyer must notify the seller of a non-conformity within a reasonable time. The difference arises in the way courts interpret the boundaries of “reasonableness,” in terms of timeliness and specificity.
Acceptable time limits to notify of non-conformity span from requiring almost immediate notification, to giving the buyer two years after delivery. Consider the case involving the sale of shirts, where the German court held the buyer should have examined the goods immediately and should have given notice of any defects “within a few days” of delivery. American courts interpreting CISG are more liberal in terms of notice requirements.
As to specificity, the level of detail required for a notice of non-conformity is different under UCC and CISG. Under UCC, it is sufficient that the notice of non-conformity “inform[s] the seller that the transaction was claimed to involve a breach, thus opening the way for normal settlement through negotiation.”
CISG, on the other hand, requires a much more specific notice of non-conformity, i.e. the detailed nature of the problem, and has been strictly interpreted by the courts. In a case involving sale of Italian furniture to the Swiss Buyer, the Switzerland court required a precise description of non-conformity, finding the notice that the furniture sold had “wrong parts” and “was full of breakages” insufficient. Thus, the parties should consider shaping notice requirement in their contracts, including both time and specificity.
- Impossibility and Frustration of Purpose
As to the defense of impossibility of performance, UCC provides the defense for sellers only, in two performance aspects: delay and non-delivery. Importantly, market price changes do not relieve the parties from their contract obligations.
Under CISG, either party is excused from liability “for failure to perform any of his obligations.” In the case involving the sale of butter, the Russian Arbitration Tribunal excused the Russian buyer from damages incurred as a result of the goods being stopped by the Russian customs. Consider Scafom International where the Belgium court considered the economic hardship situation, in which the steel tube seller’s cost for raw material got increased by 70%. Notably, the contract lacked clause for price adaptation. Applying CISG Article 79 dealing with impediments beyond a party’s control, the court required contract re-negotiation to account for changed economic conditions that had disproportionately imbalanced the parties’ burdens.
To eliminate uncertainty related to unexpected situations, including market or currency fluctuations, the parties could include price adjustment clauses in their contracts to account for such circumstances.
- Attorney’s Fees Recovery
After a costly litigation over a breach of an international sales contract, the question becomes whether a winning party is entitled to get reimbursed for its attorney’s fees. Under traditional American law, the answer is “No” unless a contract or a statute expressly provides for fees. Under CISG, the answer is less clear.
Although Article 74 of the CISG does not list attorney’s fees as a “loss” suffered from a breach of contract, a prevailing party might still get its fees if it proves fees’ recovery was a part of the contract. Lack of writing requirement, admissibility of extraneous evidence to contradict the written terms as well as evidence of subjective intent—all impact the parties’ ability to argue for or against fees recovery.
Alternatively, a prevailing party might recover attorney’s fees if a skillfully drafted arbitration clause is broad enough to encompass fees. Case law from the Second and Seventh federal circuits shows this issue is unsettled. On the one hand, in Stemcor, the court has upheld the attorney’s fees award, reasoning that CISG does not bar fees recovery and because the arbitration clause was broad enough to give arbitrators authority to award fees. Similarly, German courts interpreting CISG have routinely required payment of attorney’s fees under Article 74. On the other hand, American courts in Zapata, VML Food Trading and Profi-Parkiet, held that attorney’s fees were not recoverable losses under CISG. The fact that this issue has been litigated should prompt businesses to directly address fees recoverability in the contracts with their international partners.
In light of these and other differences, foresight in the planning of each step of the transaction and the review of business forms by a qualified counsel will reduce risks of disputes and strengthen your business’ bargaining power.
