Wednesday, February 22, 2017

How to Modify Your Contracts to Reallocate Risks When Quixotic Presidential Orders Strike

In last week's blog post, I reviewed how “force majeure” issues  might excuse a contractual party’s non-performance and ways in which they might be addressed to avoid this problem.  The focus was on President Trump’s executive orders and legislative changes that could act like a hurricane to destroy predictability in international business.   Perhaps they might be merely lofty and chivalrous but impulsive and impractical, as Miguel Cervantes’ 1600’s story of Don Quixote.

This blog post looks at ways in which restructuring your contract can aid buyers and sellers under state laws for sale of goods.

The sale of goods is governed by the Uniform Commercial Code (UCC) in the 50 states.  The UCC sets forth minimum “obligations of good faith, diligence, reasonableness, and care” that “may not be disclaimed by agreement.”  UCC Section 1-302(b).  Contingency planning thus needs to consider the UCC legal framework for escaping or mitigating the impact of a new presidential executive order, law or regulation.

Pre-Contract Planning.  Risk mitigation planning starts with contract design and limitation of liability under the contract.

1. Negotiated Limitation of Liability.   Be specific and state all limitations of liability, indemnifications and non-performance scenarios (such as liquidated damages).

2. “Irrevocable” Firm Offers.  Sellers should shorten the duration of any “irrevocable” or “firm” offer  and set a reasonably early date for the expiration of the offer (See UCC 2-205), given the unpredictability of the current economic climate.  In any event, the UCC limits such “firm offers” to a maximum of three months.

Contract Restructuring.  There are several UCC rules on contract revisions. If neglected, they could result in unforeseen liability and costs.

1. Commercial Impracticability.  The UCC allows parties to be excused from performance due to “commercial impracticability.”  In other words, a contingency happened that wasn't supposed to or ordinarily would rarely happen.

2. How to Wiggle out of your Contract?   What’s necessary for modification, rescission or waiver of a contract?  If you want to wiggle out, wiggle carefully!  To modify a signed contract for the sale of goods, the changes must be in writing (except “as between merchants”).  UCC 2-209. By requesting modification or rescission, the party seeking the change may be deemed to have waived any non-performance by the other party.  To avoid this risk, the request for modification or rescission should be carefully written.  If the other party has waived a clause, the waiving party may retract the waiver by reasonable notification that strict performance will henceforth be required for any term waived.  However, such a retraction of waiver is invalid if “the retraction would be unjust in view of a material change of position in reliance on the waiver.”  So, once you waive a breach (such as for force majeure), you can’t retract it if your counterparty detrimentally relied in a material manner.

3. Kicking Your Own Bad Habits.  Similarly, have you been too lenient with your supplier by putting the contract in the drawer and forgetting the performance standards and service level agreements?  it may be time to disrupt any “course of dealing” or “course of performance” (or even “usage of trade”).  Kick your “bad habits” by expressly re-affirming that strict compliance with contract terms is required (if you are the buyer) or by proposing a modification or waiver (if you are the seller).  UCC 2—208 holds the parties to an implied contractual provision where the contract for sale involves “repeated occasions for performance by either party with knowledge of the nature of the performance and opportunity for objection to it by the other, any course of performance accepted or acquiesced in without objection.” If you don’t object, you’re stuck with the practical construction of the contract by course of performance, you’re committed to it.

4. Play the Game.  Don’t forget your duty to cooperate, particularly as a buyer.  UCC 2-311 allows one party to a sale contract to treat non-cooperation by the other party relating to delivery or acceptance of the goods as either (i) an excuse for his own delay, (ii) a breach, or (iii) an opportunity to proceed in a reasonable manner.

5. How Bad Must it Be Before You Can Invalidate the Deal?  Was the contract “unconscionable” at inception?  If so, the UCC 2-302 allows a court to invalidate the entire contract or just the provisions that are unconscionable.  This rule generally applies only to the sale of consumer goods.

6. Feeling Insecure about the Contractor’s Performance?  What if President Trump’s executive orders give a buyer or seller reasonable grounds to feel insecure about the future performance of its counterparty?  The UCC resolves this by allowing a party to demand “adequate assurances” and, if it does not receive them, to suspend or cancel the contract.  Under UCC 2—609, each party has a right to adequate assurance of performance by the other.  If there is no “assurance of due performance” within a reasonable time (not more than 30 days) of a receipt of a justified demand, failure to provide adequate assurances can be treated as a repudiation of the contract.

7. Launch a Pre-emptive Strike.   Whether or not a party requests and gets “adequate assurances” of performance, a contract may be canceled if one party acts in “anticipatory repudiation” under UCC 2—610.  This could be a defensive tactic used when either party can foresee that its performance may not be up to par in accordance to their contract.  Of course, a repudiating party can retract his repudiation “with due excuse and allowance to the aggrieved party for any delay occasioned by the repudiation.” UCC 2-611.

In conclusion, when force majeure clause or “commercial impracticability” under UCC 2-615 is not available as an excuse for non-performance, principles of contract restructuring may be available. However, care should be taken to avoid inadvertent technical breach by anticipatory repudiation or inadvertent waiver.

Wiggle carefully!

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