Case Study - Avoidance of Contract

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Date: 2005.08.31

Court/Tribunal:  Supreme court, Austria

Goods Involved:  Tantalum powder

Citatiion:  http://www.cisg.law.pace.edu

Key Article(s):  Arts 8, 9(1), 9(2), 14 and 19 CISG

B, an Austrian company, contracted with S, a Hong Kong registered company, for supply of tantalum powder of low oxygen-content from China. B and S had never done business before. After oral negotiations and correspondence, B sent purchase orders to S to confirm what had been agreed. On the front page of the purchase orders there was a reference in English to B’s standard terms printed in German on their backsides (“German Standard Terms” or “GST”). The GST contained a provision that B was entitled to rescind the contract as a whole in case of S delivering defective goods. Among the four purchase orders received from B during a period of 12 months, only one of them had been signed and returned by S’ agent. Having received several high oxygen-content deliveries, B refused to pay for the last delivery and cancelled the whole contract. The key issue here was whether the GST were incorporated in the contract under dispute.

In early 2000, B wanted to buy tantalum powder from China. His long-term metal materials supplier, Chris H. of NG Ltd, a Swiss based company, introduced S to B. S’s director, Alan C. ran N Ltd, a Hong Kong logistic company. His son, John C. ran P Inc, a US metal materials trading company. B claimed N Ltd, NG Ltd and P Inc were all acting as S’s agents. Chris H. and John C., who were fluent in German and English respectively, allegedly represented S in all the contractual negotiations with B. Being satisfied with the quality of the 1kg sample (Sample No. 1) submitted by Chris H., B started placing orders. The first order of 41kg (Sample No.2) and the third order of 3,000kg were placed with NG Ltd. The second order of 500 kg was placed with S. No details of the fourth order were contained in the text of the case. For each of these four orders, B had sent S a purchase order with a reference in English to the GST on its backside. B did not dispute the fact that only the purchase order for the first order had been signed and returned by N Ltd. During the execution of the orders, N Ltd had sent some bills to B for direct payment to NG Ltd. John C. had tried to persuade B to accept a bit higher oxygen level powder from another Chinese factory submitting a new sample (Sample No. 3) for approval.

The contract under dispute covered a 9,000kg order placed by B with P Inc in early 2001 basing on Samples No. 2 and No. 3 for delivery in six instalments each of 1,500kg. After delivery of the first and second instalments, B notified S that the quality of the powder did not meet with the specified quality standards, his acceptance of the goods was a mere gesture of good will. In July 2001 B declared the cancellation of the whole contract. Ignoring B’s declaration, S delivered the third instalment to B in October 2001. B refused to accept it and asked S to take the goods back. S did not take back the goods and sued B for the purchase price of both the last delivery and the remaining instalments.

The trial court of the 1st instance found for B mainly on the ground that S had committed a fundamental breach of contract by delivering significantly defective goods. The appeal court of the 2nd instance found for S mainly on the ground that the GST had not been incorporated in the contract. The Supreme Court of the 3rd instance remanded the case to the trial court for further investigations into the incorporation issue and ruled that if the GST was incorporated, B would be entitled to declare the remaining contract avoided. The trial court of the 4th instance found several facts to evidence the incorporation of the GST, including (i) B had made it clear that he only wished to contract pursuant to them, (ii) B was one of the most important buyers to S, and (iii) German, though not commonly spoken in Hong Kong, is considered a world language without any problem for translation. The appeal court of the 5th instance asked the Court to review whether the inclusion of general terms in the similar situations can be tacitly established as a practice in the sense of Art 9(1).

The CISG does not set any special requirements for inclusion of standard terms, so the incorporation rules have to be developed from Arts 8 and 14.  Accordingly, the standard terms must have been validly made as part of an offer.  Alternatively, the incorporation can occur arising from an established practice in the sense of Art 9(1).  Such a practice could be a conduct that occurs frequently, which the parties can then assume in good faith that it will be observed again in a similar instance.

The Court affirmed the trial court’s conclusion on the incorporation issue.  The criteria for understanding standard terms written in foreign language, i.e., the duration, intensity, importance of the business relationship, and the degree of usage of the language in the relevant cultural area, were all met in the present case.  The signing and returning of the first order’s purchase order was a manifestation of S’s consent to the GST incorporation.  Even though the subsequent purchase orders were no longer signed and returned, they were nevertheless tacitly accepted through delivery of the quantity ordered.

The Court held that, with the incorporation of the GST, B was not liable for payment of the purchase price of the last delivery and was entitled to cancel the remaining contract.

1. Incorporation of standard terms in the contract

On the incorporation issue in the present case, Art 8 should be used to determine whether B had shown his intent to contract with S only on terms inclusive of the GST and Art 14 should govern whether the existence and contents of the GST were realized by S.  The Court adopted a German doctrine that standard terms written in a foreign language might still be validly incorporated in a contract if they are referred to in the language used in negotiating and contracting.  The GST were referred to in English, so the relevant requirements in Art 14 might be partly satisfied.  However, arguably, the Court’s conclusion about B having shown the required intent was hardly convincing. 

Art 4.3(d) PICC provides that the nature and purpose of the contract is one of the relevant circumstances for determining the intent of a party or the understanding of a reasonable person.  The trial court claimed in its fact-finding that it was the common intention of the parties to form a long-term business relationship, which had led to S implicitly accepting B’s orders through delivery without signing and returning the purchase orders.  This fact-finding was unsustainable because it was obviously against the sample-sale nature of the contractual relationship between the parties.  B asked for a sample for approval beforehand almost in every transaction.  B was prepared to deal with any seller capable of supplying him with low oxygen-content powder at the right price.  The only signed and returned purchase order manifesting a consent to incorporating the GST was for a sample order of a very small quantity, which was not placed directly with S but with NG Ltd in January 2000.   Applying business common sense, a reasonable person of the same kind as S would understand that the business relationship he had with B merely started from the second order of 500 kg directly placed with him in July 2000.  Since then, S had not signed or returned any purchase order to B.  Accordingly, the claim on the parties sharing a common intention to form a long-term business relationship could not be upheld.  The Court should not fully affirm the trial court’s fact-finding.  Hence, pursuant to Art 8, B should not be regarded as having declared an unambiguous intent to use the GST.  

Even though S could be regarded as realizing the existence and contents of the GST, the Court should conclude that they were not incorporated in the contracts because they had not been validly made as part of B’s offers under Arts 8 and 14.

2. Supplementation of the contract under Art 9(1) practice

The appeal court of the 5th instance raised a question: whether the inclusion of general terms and conditions of a contracting party can be tacitly established as a practice in the sense of Art 9 after only two or three business transactions if their inclusion was not spoken of or negotiated either before or at the commencement of the first transaction. The Court said this question could not be answered generally because cases regarding tacit submission to use of general terms must be judged on an individual basis.  The Court cited an Austrian case law (a case decided by the Austrian Supreme Court on 1996.02.06) to stress that the establishment of an Art 9(1) practice in similar situations would require Art 8 to determine whether the addressee realized that the provider of the standard terms was only willing to enter a contract under them.   

The international character requirement in Art 7(1) requires courts and tribunals to skip domestic law and seek help from other regional or international legal instruments in answering the question of what constitutes an Art 9(1) practice.  Section 1-205 1 Uniform Commercial Code (UCC) of USA and Art 1:105 Principles of European Contract Law (PECL) provide a useful definition of the practice in Art 9(1).  Both definitions contain two core elements: (i) a sequence of previous conduct between the parties and (ii) the repetition of their conduct may fairly be regarded as establishing a common basis of understanding.  According to these definitions, the following facts might be applied to deny the establishment of an Art 9(1) practice in the present case:

• NG Ltd was a long-time supplier to B.  Among the four transactions prior to the contract under dispute, the first and the third were orders directly placed with NG Ltd.  N Ltd had asked B to pay some bills directly to NG Ltd.   

• P Inc took the initiative to call B to see if he could accept a higher level of oxygen content from another Chinese supplier.  After telephone negotiation, P Inc sent B a fax bearing its own letter head to confirm the contract details.

• Both NG Ltd and P Inc could be considered acting as an intermediary seller to buy powders from S or other suppliers in China for resale to B.  There was no evidence to indicate that B had made enquiries to clarify their true status.  S might not be the sole party B had dealt with in the transactions under analysis.

• If S was not the seller in all the four transactions, “a sequence of previous conduct between the parties” was not existent at all.  The burden of proof for establishment of the alleged Art 9(1) practice lied with B, but he had not proved it by making any enquiries about the true status of the alleged agents.      

• S, through his agent N Ltd, only signed and returned the purchase order relevant to a sample sale.  It is consistent with business common sense that businessperson may treat sample orders differently from normal orders.  It would be hardly convincing that B would assume in good faith that a common basis of understanding was formed so that S’s consent given to the incorporation of the GST in January 2000 would be observed or repeated in the subsequent transactions.

Since the establishment of Art 9(1) practice had not been proved, the Court should conclude that the GST were not incorporated in the contract.

3. Commercial letters of confirmation under Art 9(2)’s trade usage

In some European countries including Germany, Denmark, and Switzerland, commercial letters of confirmation are considered to have contract-forming effect.  Thus, pursuant to Art 9(2), if both the seller and buyer come from these countries, terms contained in this kind of letters will be binding if the addressee is silent or raises no objection on receipt of them.  However, the binding effect of silence in response to a letter of confirmation is not universally recognized.  Commercial letters of confirmation are not regarded as an international usage in the sense of Art 9(2).

The purchase orders sent to S by B after contract negotiations were intended to have contract-forming effect.  They embodied the characteristics of the commercial letters of confirmation.  However, neither Hong Kong nor China recognizes the binding effect of commercial letters of confirmation.  It was reasonable for S to remain silent and to treat the purchase orders as a mere means of proof of what had been agreed during negotiations.  As the purchase orders had no binding effect in the sense of Art 9(2), the GST contained therein were not incorporated in the contracts between S and B.

If P Inc was regarded as the “seller” in the contract under dispute, it would not be bound by the GST.  The situation would be different if NG Ltd, a Swiss based company, was the “seller” in the individual transactions.  It would be binding on NG Ltd not only because of an Art 9(2) international usage, but also because of an Art 9(1) practice which most likely could have been established during its many years of supply to B.

4. The point in time at which the contract is concluded

The Court upheld the trial court’s construction that S’s consent to the incorporation of the GST was not by mere silence, but from S’s assertive conduct by way of performing delivery obligation in conformity to each order as an established practice in accordance with Art 9(1).  Besides, the Court considered that S’s insinuation that B’s purchase orders were only sent after contract conclusion was deviated from the ascertained facts, thereby requiring no adjudication.  Arguably, the Court’s rulings could not stand up to close legal scrutiny.

The fax sent by P Inc to B on 2001.01.04 functioned as an acceptance which might lead to the conclusion of a contract.  Pursuant to Art 19(2), if any additional provisions therein did not materially alter the terms the parties had agreed on the phone on 2001.01.03, the fax itself was S’s acceptance unless B, without undue delay, raised objection to it.  B did not raise any objection in the purchase order sent afterwards to P Inc on the same day, thereby it did not constitute a counter-offer by B in the sense of Art 19(1).  The contract under dispute was therefore concluded upon B receiving P Inc’s fax of 2001.01.04.  B’s purchase order was indeed sent after that contract conclusion.  

There were no details in the text of the case to make possible an analysis on the timing of contract conclusion of the prior four transactions.  However, even if the purchase orders were found sending before contract conclusion, Arts 8, 9(1), 9(2) and 14 precluded the incorporation of the GST as discussed in the above analysis.  S performing his contractual delivery obligations plainly had nothing to do with either having given a consent or recognized the existence of an Art 9(1) practice.   Hence, the trial court’s construction seemed to be completely groundless.