As the contractual relationships between companies and public institutions come under scrutiny due to COVID-19, it is important to take a close look at existing contracts, rights and obligations as a supplier or service provider and to develop strategies to protect the interests of your own company.
What current actions should you consider?
1. What should be the first step towards managing the effects of COVID-19?
You should continuously check which of your contracts are or may be affected by delays or cancellations. It is important to identify the relevant contractual provisions, in particular those relating to force majeure, change in law, notification requirements in the event of delivery or production issues and delays and provisions with unforeseeable consequences, such as guaranteed delivery dates or shared transport costs. In order for you to protect your rights and comply with your obligations, these provisions should be legally evaluated and, if necessary, subsequently amended in a timely manner.
2. To what extent should you inform your contractual partners on the extent of the delays or failures?
Regular and timely information of your contractual partners on the extent of the delays or failures in your performance is essential. At the same time, however, you should inform carefully, because too much information or information that later turns out to be incorrect can weaken your position towards your contractual partner.
3. Are there any deadlines to be observed?
Check the relevant contractual provisions, which often contain a deadline to inform. If such a deadline is not included, your contractual partners must generally be informed of delays and failures in your performance without undue delay.
4. How can evidence be provided for the existence of force majeure in case of disruptions in deliveries from China?
In the event that deliveries from China fail, it may be advisable to request from the China Council for The Promotion of International Trade (CCPIT) a so-called CCPIT certificate. Such a certificate may be of help to prove the existence of a force majeure event.
5. Is there an obligation to carry out substitute transactions, relocation of production or other means of transport?
If it is reasonable for you, you may be obliged, depending on the terms of the contract and depending on the relevant industry customs, to enter into substitute transactions, i.e. procurement from other sources or relocation of production, or to use alternative means of transport.
When or to what extent such measures are reasonable, has to be assessed in each individual case on the basis of the specific contract terms and cannot be answered generally. This applies in particular to significantly more expensive transport options (e.g. air freight instead of ship freight). Often the actual contractual terms offer starting points; however, an obligation to bear excessively high ("unreasonable") transport costs must be rejected.
There is a lack of case law and relevant legal literature that defines the legal term of "reasonableness" in the context of a force majeure situation. For the individual case examination, however, the concept of reasonableness in the provisions on force majeure in the UN Convention on Contracts for the International Sale of Goods (Art. 79 CISG) and on the doctrine of frustration in Section 313 BGB may provide guidance. However, such guidance can only be supplementary and subject to the interpretation of the relevant contractual provisions.
In addition to checking continuously which of your contracts are or may be affected and to informing your contractual partners regularly and timely on delays or cancellations, the following measures could, in principle, be considered reasonable, unless specific measures are already provided for in the relevant contractual terms:
- internal measures to avoid/control infections within the company;
- examination (and if reasonable, implementation) of additional shifts;
- examination (and if reasonable, implementation) of production relocations to other production sites;
- examination (and if reasonable, implementation) of storage of (partial) products or vendor parts;
- checking (and, if reasonable, implementing) the reorganization of the planned transport;
- checking (and, if reasonable, carrying out) substitute transactions (i.e. procurement from other sources); and
- checking (and, if reasonable, use of) other (available) materials or products.
Which of these measures are (still) reasonable and to what extent in individual cases cannot be answered in general.
6. Is there anything else you should consider in this context?
We recommend carefully documenting all measures examined and/or taken, i.e. all measures to avoid or limit the effects of the COVID-19 pandemic.
7. Could force majeure, (liquidated) damages or penalty clauses in general terms and conditions be ineffective?
Of particular relevance in the current COVID-19 pandemic are the so-called force majeure clauses. These clauses can, under certain circumstances, exempt parties to a contract from their obligations for the duration of the COVID-19 pandemic.
It should be noted that under German civil law also B2B contracts and consequently their clauses on force majeure ("Höhere Gewalt") and on (liquidated) damages or penalties in the event of delivery delays as part of general sales/purchase terms and conditions are subject to the control of the very strict German law on General Terms and Conditions (“German GTC Law”). It is important to check whether the clause in question is effective.
In terms of German GTC Law, it is necessary that a force majeure clause is be based on "unforeseeable, unavoidable and non-culpable events" to be effective.
(Liquidated) damages as well as penalty clauses with no-fault liability are, in case of doubt, invalid (Section 307 BGB). This invalidity derives from the general principle of German civil law that damage claims depend on the debtor's fault (Section 280 para. 1 sentence 2 BGB). The same applies to penalties (Sections 339, 286 para. 4 BGB). Contractual provisions according to which the debtor is liable regardless of fault contradict this general principle.
8. Could clauses in this context also be invalid for other reasons?
Similarly, the provisions on (liquidated) damages and/or penalties in combination with force majeure provisions should be assessed if they entail a higher liability risk compared to the statutory provisions of the German Civil Code (“BGB”). In particular, clauses in sales/purchase conditions or general terms and conditions may be invalid (Section 307 BGB), which reduce the statutory provisions on the impossibility of performance and on responsibility (“Vertretenmüssen” - Sections 275, 276, 280 para. 1 sentence 2 BGB) to the stricter elements of force majeure to the detriment of the other contracting party.
9. What should you consider when entering into new contracts or issuing/accepting new purchase orders?
We recommend explicitly including COVID-19 and its effects in your future contracts. We also recommend concluding supplementary agreements for existing (framework) contracts, if future orders are planned or if further individual contracts are to be concluded.
The current COVID-19 situation is now generally known. However, it cannot be ruled out that, even if the current wave of infection flattens out, further waves of infection may occur in the future. It will then be much more difficult - if not impossible - to justify the fact that delivery delays and failures in performance were unforeseeable or unavoidable in the future.
There is thus a high liability risk in the event of future delays and failures in performance. Contractual precautions should definitely be taken here.
For example, the further effects of the COVID-19 pandemic and its possible impact on the contractual supply or service relationship (as far as foreseeable) could be covered contractually (for example by a qualification clause).
COVID-19 as Force Majeure?
1. Does German civil law expressly provide for a provision on force majeure?
In German civil law, there are no statutory provisions that explicitly address force majeure (“Höhere Gewalt”). However, many contracts and sales/purchasing conditions as well as general terms and conditions contain provisions on force majeure.
2. What does a typical force majeure clause look like?
The general purchasing terms and conditions of a major German car manufacturer provide, for example, the following provision on force majeure:
"Force majeure, labor disputes, civil disorder, governmental actions, and other unforeseeable and unavoidable events of major significance release the contracting parties from their performance obligations for the duration of the disturbance to the extent of the impact thereof. The same applies if these events take place when performance by the contracting party affected is already overdue. The contracting parties are required to provide the information reasonably necessary without delay and to adjust their mutual obligations to the altered circumstances in accordance with the principle of good faith dealing.“
Many contracts (such as project contracts) contain much more detailed provisions on force majeure. These may include an extensive catalogue of examples of when a force majeure event occurs. In addition, notification obligations including deadlines are often defined.
Like the definition of force majeure, their legal consequences depend largely on the contractually agreed provisions. However, with a wide scope of application of the force majeure clause, there may be good reasons to believe that the consequences causally caused by COVID-19 constitute a force majeure event, if the affected party could neither foresee nor avoid the consequences.
3. Which legal consequences are part of a force majeure clause?
Like the definition of force majeure, their legal consequences depend largely on the contractually agreed provisions. In practice, these legal consequences vary greatly depending on the clause:
- In most cases, such clauses entail an exemption from the obligation to perform for the duration of the disruption, including an extension of time, but also
- lack of default for the delay or for the failure in performance;
- the right to terminate the contract;
- the right to have recourse to an alternative source of supply for the period of the force majeure event; or
- the duty to mitigate damage.
What applies without a force majeure clause?
1. Which regulations apply?
If the contract and sales/purchase conditions or general terms and conditions do not contain any provision on force majeure, the statutory provisions of the German Civil Code (“BGB”) apply. These statutory provisions may also apply in part in addition to a force majeure clause.
In particular, the following rights may be conceivable:
- a right to adapt the contract if a change in law clause has been agreed;
- a right to adapt or revoke the contract based on the doctrine of frustration (“Störung der Geschäftsgrundlage”, Section 313 BGB);
- exemption from the obligation to pay damages or penalties for any delays;
- a right of extraordinary termination of the contract for good cause (Sections 314, 626, 648a BGB);
- exceptionally, a right to refuse performance due to economic impossibility of performance;
- in very rare exceptional cases, an exemption from the obligation to perform or from the consideration obligation due to objective impossibility of performance;
- possibly in individual cases also a suspension of the period of limitation of claims according to Section 206 BGB (force majeure, "Höhere Gewalt”).
2. Does a change in law clause help?
Some contracts provide for so-called change in law clauses. These usually regulate claims for extension of time and compensation for additional costs in the event of unforeseeable changes in law and regulations. If the contract does not contain a force majeure clause, a change in law clause - if agreed - may also help. This should be considered if the state issues instructions or prohibitions by law or ordinances that restrict or exclude free entrepreneurial activity.
3. Is it possible to adapt or revoke the contract because the economic basis of the contract/transaction is frustrated?
The effects of COVID-19 may in individual cases interfere with the economic basis of the contract/transaction (doctrine of frustration, Section 313 BGB).
An interference with the economic basis of the contract/transaction exists if
- circumstances which became the basis of a contract have significantly changed since the con-tract was entered into; and
- the parties would not have entered into the contract or would have entered into it with different contents if they had foreseen this change.
In case the effects of COVID-19 interfere with the economic basis of the contract/transaction, the affected party may be entitled to adapt the contract, if such party cannot reasonably be expected to uphold the contract without alteration, taking account of all the circumstances of the specific case, in particular the contractual or statutory distribution of risk.
A comprehensive analysis of the entire contractual relationship is necessary to assess if the doctrine of frustration may apply. In this context, it is also crucial whether the disruptive event falls within the risk sphere of a party who has contractually assumed this risk or must bear it according to the agreed provisions of the contract. If this is the case, the courts often do not grant a right to adapt or revoke the contract.
From this point of view, a right to adjust the contract price due to an interference with the economic basis of the contract/transaction does regularly not exist, e.g. if a "fixed price" or “lump sum price” has been agreed.
Exceptionally, the party concerned may also demand the dissolution of the contract (withdrawal or, in the case of continuing obligations, termination).
4. Is there an obligation to pay (liquidated) damages or penalties for late deliveries or performance?
Often contracts and sales/purchasing conditions or general terms and conditions provide for (liquidated) damages or penalties if the delivery of performance is delayed. However, even without contractual provisions, the obligation to pay damages in the event of delays follows from German statutory law, unless this has been effectively excluded by contract.
In principle, COVID-19 can cause you or your contractual partner not to be responsible for the delay (should you or your contractual partner not already be entitled to adapt the contract, to refuse performance or to be exempted from the obligations). In particular, you or your contractual partner are not responsible for the delay if it was unforeseeable and unavoidable. In individual cases, however, the delay may be avoidable if the execution of substitute transactions, relocation of production or alternative means of transport are possible and reasonable (see above under A. 5.).
If you or your contractual partner are not responsible for the delay, there is also no obligation to pay (liquidated) damages or penalties. Something different may apply if a no-fault obligation to pay (liquidated) damages or penalties has been agreed upon in a permissible manner (i.e. usually outside of the terms of sale/purchase or general terms and conditions).
Stricter liability would also apply if a procurement risk was assumed or a procurement guarantee was provided.
5. Does COVID-19 and its effects entitle to terminate the contract?
Even without a force majeure clause, your affected contracts could be terminable. In addition to the already mentioned termination due to the doctrine of frustration (Section 313 BGB), extraordinary termination for good cause is also conceivable here. This right of termination can be based on contract or German civil law (Sections 314, 626, 648a BGB). A termination according to Sections 314, 626, 648a BGB has even stricter requirements than a termination due to disturbance of the business basis (frustration of contract) according to Section 313 BGB. The right of extraordinary termination for good cause cannot be effectively excluded by contract.
Therefore, it is primarily necessary to check whether good causes for termination are explicitly mentioned in the contract and whether one of these reasons could cover the consequences of COVID-19.
However, even if this is not the case, a good cause for termination may exist according to Sections 314, 626, 648a BGB: Namely, if the situation caused by COVID-19 for you or your contractual partners leads to the result that under consideration of all circumstances of the individual case as well as the interests of both parties, the continuation of the contractual relationship until its scheduled end or - if not excluded - until the effectiveness of an ordinary termination is not reasonable. The contractual distribution of risk can also be decisive in this context.
6. Could you be relieved due to economic impossibility of performance?
A right to refuse performance may exceptionally exist if the effects of COVID-19 lead to a gross disproportion between the cost of performance and the benefit of the performance (Section 275 para. 2 BGB). Such a right to refuse performance will, however, also be rather difficult to justify in the context of COVID-19. In particular, it must be taken into account that the creditor's interest in performance may also increase.
7. Must the obligation to perform or the consideration obligation still be fulfilled in case it is impossible?
In very rare exceptional cases you are not obliged to perform if the performance is impossible for you or in general (Section 275 para. 1 BGB). In this case, the consideration obligation of your contractual partner also does not apply (Section 326 para. 1 sentence 1 BGB).
The effects of COVID-19 can, for example, lead to an exemption from the obligation to perform or from the consideration obligation:
- if the work/service can only be provided at a very specific time or within a very specific period of time from the outset, as it would miss its purpose at any other time and would therefore be a completely different work/service (so-called absolute fixed deal (“absolutes Fixgeschäft”); or
- if the work/service can also be performed later, but the purpose of the work/service is missed and the usability of the work/service is part of the agreed obligation (which, however, will be extremely rare).
However, the hurdle of achieving an exemption from the obligation to perform or from the consideration obligation is high. In principle, each party bears the risk of the usability of the work/service. In this case as well, the actual content of the contractual provisions is crucial.
What rights exist in case of force majeure declarations of the customer in supply relationships?
1. Can or must the supplier continue to produce and deliver if a customer has issued a force majeure report?
If a customer declares force majeure, in the case of call-off contracts, effective call-offs will always be outstanding to a certain extent and the actual manufacturing and delivery obligations of the supplier will therefore already have arisen. Unless there is a contractual provision to the contrary, the supplier may "finish" producing and delivering everything that has been bindingly ordered; according to German civil law, the contract is not automatically "suspended". In particular, the risk that the customer cannot use the goods/parts (to be delivered) often falls within his own sphere; this is relevant, for example, for Section 313 BGB (doctrine of frustration).
2. Is the customer obliged to accept the goods and pay the purchase price?
Accordingly, the customer's payment obligations and obligations to take delivery of the quantities subject to binding call-offs or orders have also arisen - regardless of whether these have already been (partially) produced or not.
3. Can the supplier claim damages from the customer in case of non-acceptance of the goods/non-payment of the purchase price?
The obligation to take delivery is likely to constitute a contractual secondary obligation (“Nebenpflicht”). The customer (dealer, end manufacturer, etc.) would thus basically be in default with his own secondary obligation if he refused to take deliveries. The payment obligation is the main (or primary) obligation (“Hauptpflicht”) and remains to be fulfilled. In the event of non-acceptance of the goods / non-payment, the supplier would be entitled to compensate damages caused by delay against the customer.
4. Does this also apply if the non-taking delivery of the goods results from COVID-19?
If there is indeed a force majeure situation and if this leads to the customer not being responsible for not taking delivery of the goods/parts (which is often rather questionable), the conditions for debtor´s default are not met. Claims for (liquidated) damages by the supplier against the customer for delayed deliveries would then not be applicable.
5. Can the supplier demand compensation from the customer for the additional expenses which he has incurred due to the unsuccessful offer of the goods, their storage or preservation?
However, on the other side in most cases the conditions for creditor´s default (Sections 293 et sqq. BGB) by the customer are met. In contrast to the debtor's default, the creditor´s default does not depend on whether the customer is responsible for the delay or not. According to German case law, only in exceptional cases the conditions of creditor´s default may not be met, i.e. if the customer could not reasonably be expected to take the delivery.
In the event of creditor´s default, the supplier's liability is limited (Section 300 para. 1 BGB). In practice, it is probably primarily Section 304 BGB which is relevant, according to which the supplier can demand compensation for the additional expenses it has for the unsuccessful offer of the (delivery of the) goods/parts owed by him and for their storage and preservation.
If, for example, suppliers' trucks are parked in front of closed factory gates of end manufacturers or warehouses of dealers, the supplier may certainly be entitled to claim for reimbursement of expenses. In addition, and even more relevant, the reimbursement of costs for the storage of manufactured products until the customer (end manufacturer or dealer) takes their delivery is to be considered.
So, if the customer has not sufficiently secured itself contractually, a supplier can certainly assert cost claims against the customer - despite force majeure. However, this only affects goods/parts that have been bindingly ordered. In the case of series supply contracts, however, this does not generally apply to products that were only included in a demand forecast/forecast.
6. Is the customer always obliged to compensate for additional expenses?
It cannot be ruled out, however, that situations may arise in which the distribution of risk in the contractual and supply relationship between the parties is to be assessed in such a way that the obligation to take delivery does not fall within the customer's sphere of risk, e.g. due to plant closures ordered by law or the authorities. This is because the customer's situation may also have to be evaluated normatively for the purposes of Section 313 BGB (doctrine of frustration). The mutual obligations to perform could then be suspended or cease to apply as a result of an amendment to the contract or through termination or withdrawal. And thus, in addition to the debtor's default (e.g. due to lack of a due claim and/or fault), the customer's (creditor´s) default (e.g. due to lack of a claim that can be satisfied) would also be eliminated. So, it always depends on the individual case.
What rights exist in the case of force majeure declarations of the employer under works/project contracts?
1. What are contractor´s rights if the employer unjustifiably revokes force majeure?
The answer to this question depends largely on whether the action not taken by the employer is qualified as:
- principal obligation (“Hauptleistungspflicht”);
- contractual ancillary obligation (“vertragliche Nebenpflicht”); or
- ancillary duty (“Obliegenheit”).
While the principal obligations of the contractor consist in particular in constructing/producing the works and to deliver the works to the employer, the employer must in return as principal obligations pay the agreed remuneration and accept the works.
The qualification of the employer's further acts of cooperation "on the way" to the completed works and its legal acceptance including remuneration is not easy. The contractually agreed terms are decisive here, which may explicitly or implicitly contain a qualification of the respective owed cooperative act. It is also important whether the act of cooperation is necessary for the construction/production of the works (see Section 642 BGB). If VOB/B are included, their regulations must also be observed.
- In the case of a principal obligation (“Hauptleistungspflicht”):
The employer may be in debtor's default. In addition to contractor´s claim for fulfilment of employer´s principal obligations (“Hauptleistungspflichten”), the contractor can - if the preconditions are met - demand compensation from the employer for the damages which he has incurred due to the non-performance of this obligation, e.g. in the event of delay under Sections 280 para. 1 and 2, 286 BGB.
The employer may also be in creditor´s default (Sections 293 et sqq. BGB). As a consequence, contractor´s liability may be limited to intent and gross negligence (Section 300 para. 1 BGB). The contractor may also demand compensation for the additional expenses which he had to incur for the unsuccessful offer and for the storage and preservation of the works (Section 304 BGB). In the event of creditor´s default with (partial) legal acceptance, an early transfer of risk to the employer shall also take place (Section 644 BGB).
- In the case of a contractual ancillary obligation (“vertragliche Nebenpflicht”):
If it can be concluded from the contractual provisions that the contractor is entitled to claim the performance of the contractual ancillary obligation (“vertragliche Nebenpflicht”) by the employer, the same principles as just set out above for the principal obligations (“Hauptleistungspflichten”) apply here as well.
With regard to the creditor´s default of the employer (Sections 293 et sqq. BGB), it is disputed whether or when a limitation of the contractor's liability to intent and gross negligence (Section 300 para. 1 BGB) is applicable. In any case, this limitation of liability generally applies to any storage and maintenance of (parts of) the works constructed/produced by the contractor, if such (parts of the) works cannot be delivered to the place of destination or collected by the employer. As far as other obligations are concerned, a contractor cannot rely on the assumption that he will benefit from a limitation of liability according to Section 300 para. 1 BGB. This needs to be assessed for each individual case.
- In case of an ancillary duty (“Obliegenheit”):
The term “ancillary duty” (“Obliegenheit”) is not defined by law. According to general understanding, it includes actions which the employer is not obliged to perform, but which he should perform in his own interest to avoid legal disadvantages. Actions of the employer can also be expressly agreed upon in the contract as ancillary duties (“Obliegenheiten”).
In the event of non-execution of an ancillary duty (“Obliegenheit”), the employer shall not be in debtor´s default but may be in creditor´s default (Sections 293 et sqq. BGB – for details see above as set out for principal obligations (“Hauptleistungspflichten”). It is again disputed whether or when a limitation of the contractor's liability to intent and gross negligence (Section 300 para. 1 BGB) applies. However, the contractor may be entitled to demand compensation for the additional expenses which he had to incur for the storage and preservation of the works (Section 304 BGB).
- If the non-performed cooperative action is necessary for the construction/production of the works, the contractor may also demand appropriate compensation from the employer (Section 642 BGB) and may be entitled to terminate the contract if the conditions of Section 643 BGB are met. This applies in the case of a contractual ancillary obligation (“vertragliche Nebenpflicht”) and in the case of an ancillary duty (“Obliegenheit”).
2. What are contractor´s rights if the employer legitimately invokes force majeure?
2.1 In case of technical acceptance
Again, the contractual provisions are decisive and in particular whether the parties have agreed a force majeure clause. If no such clause has been agreed and no other provision, such as a change in law clause, exists, the following may apply, dependent on the actual contractual provisions:
Irrespective of whether the technical acceptance is a contractual ancillary obligation (“vertragliche Nebenpflicht”) or an ancillary duty (“Obliegenheit”) and whether it is necessary for the construction/production of the works, the contractor is not entitled to claim damages from the employer due to the absence of a due claim and/or due to the absence of fault.
The contractor may be entitled to the claims arising from a creditor´s default of the employer, i.e. from Section 304 BGB (but it is disputed whether or when from Section 300 para. 1 BGB) and - insofar as the technical acceptance is necessary to construct/produce the works - from Sections 642 et sq. BGB. This is because claims arising from a creditor´s default do not depend on a fault of the employer.
However, it may also be concluded from the contractual provisions that the obligation to carry out a technical acceptance does not exist or is suspended (e.g. through an adaption of the contract based on the doctrine of frustration (Section 313 BGB), see for details above under C.) Thus, it again depends on the assessment in the individual case.
2.2 In case of non-collection of (parts of) the works
Should the employer not take delivery of (parts of) the works, the principles as set out above for the technical acceptance shall apply accordingly, whereby:
- the limitation of liability according to Section 300 para. 1 BGB regularly applies in the case of storage or preservation; and
- the claims arising from Sections 642 f. BGB only apply if the works have not yet been completely constructed/produced (e.g. if installations or tests are still to be carried out on the construction site by the contractor).
2.3 In case of non-payment of payment milestones of which the prerequisites are fulfilled
If all contractual requirements of a payment milestone are fulfilled and the payment milestone is therefore due for payment, a subsequent force majeure notification of the employer does not change the fact that the employer was and remains obliged to pay. If, however, the employer has refused payment, he is in debtor's delay, so that the contractor is entitled to a claim for compensation for damages resulting from such delay (Sections 280 para. 1 and 2, 286 BGB), if the prerequisites of these statutory provisions are met - unless such a claim is contractually (effectively) excluded.
2.4 In case of non-payment of payment milestones of which the prerequisites are not fulfilled only because the action of the employer is missing due to force majeure
The situation may arise where the contractor's claim for payment of a payment milestone is not due solely because the employer cannot perform a contractually agreed act to cooperate on the basis of COVID-19 constituting force majeure. In the absence of a due date, the contractor therefore generally has no claim to the payment of the payment milestones. Also, the contractor can usually not claim damages against the employer due to lack of due date of the milestone and/or due to lack of fault of the employer.
2.5 In case of no legal (partial) acceptance of the works
The obligation to grant legal (partial) acceptance is qualified as a principal obligation (“Hauptleistungspflicht”) in the law on works contracts and has the effect that the contractor's claim for remuneration becomes due (Section 641 para. 1 BGB).
In the absence of a due claim and/or in the absence of a fault of the employer, the employer is not in debtor´s default. The contractor can therefore not assert any claims for delay damages (Sections 280 para. 1 and 2, 286 BGB) – if such were contractually not excluded.
In principle, the employer may be in creditor´s default (Section 293 et sqq. BGB) with the corresponding claims of the contractor from Sections 300 and 304 BGB (if not contractually excluded). However, in the individual case, the employer may be relieved from performing the legal (partial) acceptance (see the principles as set out above under E. 2.1 for the technical acceptance).
Last reviewed: 01 May 2020