Incoterms_® and Commercial Contracts

The expansion of global trade goes hand in hand with the need for standard contracts that are universally acceptable. Most companies cannot afford a lawyer behind every transaction. Reliable standard models, taking into account globally acceptable and workable contractual standards, might provide these companies with a tool, crucial to the management of their international dealings.

Without access to model contract forms, SMEs in particular are at a disadvantage as they risk building the legal basis of their international business dealings on agreements that have either been drafted without any professional legal support, or that have been imposed by the other party.

But also large companies, able to pay in-house legal counsel or outsource legal assistance, may benefit from such models, as they may offer the compromise, required to solve the deadlock (battle of the forms) they entered into during negotiations.

In the past, model contracts often had a rather limited focus.

Sector-specific organizations, for example, have created standard contracts for their constituencies, and there exist a host of models intended for specific categories of users (e.g. buyers, agents, distributors, manufacturers), which tend to provide the best possible contractual solutions for the category of user for which they are drafted.

The International Chamber of Commerce has always favoured a different, more balanced, approach, as it aims to represent all those involved in trade alike: sellers and buyers, principals and agents, suppliers and distributors. Consequently, model contracts issued by the ICC – and this model is no different – try to take into account the interests of all parties involved, without favouring any of them¹.

It is not always easy to decide which solutions will be considered fair to both parties. Parties tend to consider as fair the solutions that are more favourable for them (and which they would like to incorporate into their contracts) and to disfavor the clauses they may have been forced to accept when their position was weaker. This is why a really “balanced” contract might be criticised by each party as favouring the other.

Some important drafting options:

• Although the basics of international sale do not change overnight, model contracts should reflect current trade usage or else they are bound to fall into disuse. This requires models to be updated and revised from time to time, but at the same time to remain predictable, in line with proven practices. The Task Force’s aim was to combine ‘old and new’: to confirm existing business practices as embodied in the previous model, but at the same time incorporate new ICC products such as the Incoterms® 2010 rules or the Bank Payment Obligation (BPO).
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• One of the most important evolutions in recent trade is digitalization: the possibility to create, combine and process information, and to communicate the result without paper support. The main novelty of the model reflects this evolution. Its digital version contains a number of caveats, the purpose of which is not only to provide guidance, but also to warn users against contradictory choices. Its form allows users, after selection of the appropriate clauses, to create a short text, resembling what a contract should look like.
• The model is intended to be used by business circles and its language is conceived to be understandable for businesspeople. Therefore, the model is short, clear and specific, while still presenting a comprehensive set of rights and obligations. Moreover, it allows those not participating in the negotiations to use the resulting contract as guidance, on the one hand, to execute the transaction and, on the other hand, to assess execution of the agreement afterwards.
• The Task Force recognizes that current practice seems to indicate that parties still prefer to choose a single national law to govern their contracts. The Task Force is convinced that this approach goes against the trend of globalization and hopes this model will convince contracting parties to overcome their reluctance and possibly prejudices regarding transnational rules and principles of law.

The ICC Model International Sale Contract is divided into two parts:

1. Specific Conditions, setting out terms which are special to a particular contract of sale; and
2. General Conditions, setting out standard terms common to all contracts incorporating the the General Conditions of the ICC Model International Sale Contract (Manufactured Goods).

The model has been designed on the assumption that parties would normally use both Parts A and B, with each part being drafted with the other part in mind. Parties should nevertheless bear in mind that, for part B to be applicable, this not only has to be indicated to the other party (“This contract shall be governed …”), but care also has to be taken that the other party has the text of part B at the time when the contract of sale is concluded.

On the other hand, it is open to the parties to incorporate into their contract only part B, the General Conditions. Where the parties wish to use only part B of this model contract, they should make sure the text of the General Conditions of the ICC Model International Sale Contract (Manufactured Goods) is in their possession and include terms such as the following in their special contract:

“This contract shall be governed by the General Conditions of the ICC Model International Sale Contract (Manufactured Goods).”

Of course, in this case part A would not be used and any reference in part B to the clauses in part A would be deemed to refer instead to any relevant specific term, if any, agreed by the parties in their special contract: see article 1.1 of part B.2.

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This model contract is primarily directed at contracts for the sale of manufactured goods, where the purchaser is not a consumer and where the contract is an independent transaction rather than part of a long-term supply arrangement. Each of these features of the contracts for which this model is intended will now be dealt with.

• "Manufactured goods": the model contract does not cater for the special terms required in contracts for the sale of commodities, in particular raw material, agricultural produce or food and perishable goods.
• The model contract does not cover sales to consumers, but only to professional purchasers, e.g. those who are in business of re-selling goods (distributors, importers, wholesalers, etc.)
• The model is principally designed for one-off sales rather than continuing supply arrangements². This is the reason why the model does not contain terms more likely to appear within long-term supply agreements, such as price adjustment clauses and deliveries in instalments.

It should be emphasised that the above guidance is intended only to advise potential users of the model contract of the intentions of the Task Force responsible for drafting the model contract; it is not intended to prevent the use of the model contract (and in particular of the General Conditions contained in part B) in transactions other than those particularly targeted by the Task Force. However, if the model contract is used in a context which is substantially different from those primarily considered by the Task Force, the parties should take care to satisfy themselves that all the terms of the model contract are appropriate for their purpose.

Failing contrary agreement between the parties, the model contract subjects the transaction to the United Nations Convention for the International Sales of Goods, also known as the Vienna Convention of 1980 (hereafter referred to as ‘Vienna Convention’ or ‘CISG’) and which, for ease of reference, is appended to the model contract as Annex 1. By means of this incorporation of the Vienna Convention into the model contract in article 1.2(A) of Part B, the Convention will apply whether or not the countries of the seller and buyer have ratified the Vienna Convention provided that the applicable Private International Law permits such a choice.

The Task Force chose not to offer the possibility to exclude application of the Vienna Convention (notwithstanding the fact that application of CISG in practice is often excluded) because it was felt necessary to draft the contract within the specific context of a uniform law, such as CISG, expressly made for international transactions. The model contract has therefore been drafted on the assumption that the parties’ rights and obligations will be governed by the Vienna Convention. As to questions not governed by this Convention, and unless otherwise agreed by the Parties, the law of the country where the seller has its place of business will apply (article 1.2). If parties wish another law than that of the seller to govern questions not covered by CISG, they should fill in box A-14(b). In any case, parties should make sure that the applicable law (chosen or not) will not render the model contract unenforceable. In this respect, the Task Force suggests the choice of Swiss law as the validity of the contract (e.g. regarding limitation of liabilities) has been checked against this law.
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With a view to ensuring maximum certainty regarding the terms agreed between the parties, article 1.4 of Part B provides that modifications to the contract must be made in writing.

However, this requirement is not absolute. In keeping with article 29(2) of CISG article 1.4 of the model contract goes on to say that a party may be precluded from invoking the requirement of writing if it has agreed to a modification of written terms orally or by conduct and the other party has relied on such oral agreement or conduct.

Some Articles of Part B of the model refer to the possibility to agree otherwise (‘unless otherwise agreed’) while others do not. The absence of such indication does not prevent the parties to agree otherwise but when highlighting the possibility to ‘agree otherwise’, the Task Force simply wants to indicate that, while favouring the chosen solution, it recognizes that parties in practice with a certain regularity prefer a different solution.

The parties are invited to choose the appropriate trade term³ under the Incoterms® 2010 rules⁴ and to specify the relevant place or port, and point within that place or port as precisely as possible. Although Part A of the model contract lists all current Incoterms® rules in A-3, the Task Force recommends that the parties should seriously consider avoiding the use of Incoterms® rules providing for delivery to or on a vessel, such as FAS, FOB, CFR and CIF. Manufactured goods are often shipped ‘door-to-door’ or handed over for carriage at terminals, whether within the port precincts or at an inland depot and the use of Incoterms® rules that provide for delivery ‘on the ship’ might consequently be inappropriate to the type of goods for which the model contract is intended. Moreover, manufactured goods are rarely sold or pledged in transit and consequently rarely require the use of a transferable transport document. Likewise, parties ought to think carefully before using, in conjunction with this model contract, the EXW and DDP Incoterms® 2010 rules as EXW is usually only suitable for domestic transactions and DDP may pose complications for a seller who, for example, may not be in a position to arrange import clearance in a foreign country.

Consequently, the Task Force recommends that the Incoterms® 2010 rules most appropriate for use with the model contract would normally be FCA, CPT, CIP, DAT or DAP. It is for this reason that these terms are listed first rather than in the order set out in Incoterms® 2010 rules. Contracting parties are also reminded that while the Incoterms® rules spell out the main duties of and the allocation of risk and costs as between sellers and buyers, they do not provide comprehensive answers to all the possible issues which may arise between the parties.

It is important to bear in mind that the time of delivery, to be inserted by the parties at A-4 of Part A of the model contract, refers to the date on which or period within which the seller undertakes to perform its delivery obligations under the contract of sale, and in particular under the relevant Incoterms® 2010 rule selected by the parties. This "time of delivery" is linked to the contractual place of delivery, which is not necessarily the place where the goods reach the buyer.
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Thus under CPT (Carriage Paid to) the seller fulfils its obligation to deliver the goods (according to article A4 of this Incoterms® rule) when it delivers the goods into the custody of the carrier and not when the goods arrive at the named place of destination. The Task Force therefore recommends that, before agreeing on the time of delivery by completing A-4 of Part A of the model contract, parties should check carefully the stage at which delivery occurs according to the Incoterms® rule chosen in A-3 of the model contract: i.e. the operation described as delivery under the relevant Incoterms® rule which the seller must perform at or by the time agreed in A-4 of the model contract.

The parties can agree a time of delivery by agreeing a precise date (e.g. "10 February 2012" or "by 10 February 2012") or a period ("third week of February 2012", "March 2012"). The parties can also agree a period of time running from a certain date (e.g. "60 days from signature of the sale contract", "90 days after receipt of the agreed advance payment"). If a period of time is agreed, the seller may, according to article 33 CISG, deliver the goods at any time within that period, unless circumstances or the applicable Incoterms® 2010 rule indicate that the buyer is to choose a date.

When the buyer needs at all cost the delivery within a given date, box A-9 (Cancellation Date) should be used. In this case the seller is advised to ensure that it can in any case meet such delivery date, since seller will be unable to put forward any excuse, including force majeure, if it does not deliver.

It is important to designate the mode and time of payment as set out in A-7. Where payment is to be made by transfer to the seller’s bank, the bank’s or branch’s identifier code should be clearly stated, together with details sufficient to identify the account (IBAN or other), and, if desired, the mode of the payment message (e.g. wire transfer, electronic funds transfer)

Some of the payment modes available, require the buyer to execute payment or provide for payment security prior to shipment of the goods. If the time of shipment precedes the time of delivery (e.g. when selling DAP), parties should not only agree on a time of delivery (A-4 of Part A),but also on a time of shipment.

This model also provides for the possibility to organise payment through a Bank Payment Obligation (BPO). The Bank Payment Obligation is a new instrument for trade settlement, established by ICC and SWIFT in support of open account trade. The BPO is an irrevocable (but conditional) obligation of an obligor bank to pay a specified amount to a recipient bank as soon as the data extracted from different trade documents such as the invoice, the transport document, customs clearance and certificates match with the conditions of the bank’s obligation. It is designed to combine the payment security of an L/C with the flexibility of a clean payment as it is ‘paperless’.

It is common practice in international sales that the seller provides the buyer with certain documents: invoice, transport document, certificates, etc.
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Box A-8 of Part A of the model contract provides the parties with an opportunity expressly to indicate their intentions and instructions as to documents. Three matters are well worth bearing in mind.

1. The rules and practices regarding documents may vary between the country of issuance (the seller’s country) and the country where these documents are to be presented (the buyer’s country). It is up to the buyer to give the seller clear instructions regarding specific formal requirements of the documents the seller has to submit, where appropriate by presenting a sample or by requiring a pro forma document to be sent prior to execution of the contract.
2. Parties should check which documents, if any, are to be provided under the particular Incoterms® rule chosen under A-3 of Part A. Should the parties wish to add to or vary the documentary position under the Incoterms® rule chosen, they should do so clearly in completing A-8 in Part A.
3. Where the parties agree on payment through a letter of credit, care should be taken to ensure that the parties are clear as to the documents to be required under the letter of credit. The parties must make sure that the sales contract and the Incoterms® rule chosen will procure the document requested in the letter of credit. This is particularly important when the Incoterms® rule chosen in A-3 of Part A is one which imposes no documentary duties on the seller, e.g. Ex Works.

For the guidance of users of this model contract, the following box contains a list of some of the most commonly used logistical documents in common use with an indication of the type of transport for which they are appropriate. Some of the documents listed hereunder are documents of title, which give to their holder the right to dispose of the goods, while others are simply documents which evidence receipt of the products by a carrier, forwarder or terminal operator. Moreover, where the document is a transport document, its type provides an indication of the extent of the (mandatory) liability of the carrier and thus the need to provide for appropriate insurance cover by the parties.
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The parties may agree, by completing A-6 of Part A of the model contract or otherwise, that the goods will remain the property of the seller until complete payment of the price, as indicated in article 7 of Part B of the model contract. It should however be remembered that under many national laws retention of title of goods is not always effective. The seller should therefore carefully check under the relevant law (which normally will be the law of the country where the goods are situated when the retention of title clause is called in) if and to what extent it may rely on article 7 of Part B⁵ e.g. against third parties.

Manufacturers of the type of goods for which this model contract is primarily intended typically grant a warranty (for repair and/or replacement as the case may be) to the ultimate purchaser (consumer) and may even be under a legal obligation to do so. In such a case, the manufacturer’s warranty to the final user may overlap with the obligations of the seller under the sale contract. In fact, where the goods are defective, the final purchaser may, in principle, make a claim against its seller under the sale contract or directly against the manufacturer under the warranty given by it or provided by law.

In these cases, it may be appropriate for the parties to the international sale contract specifically to agree that the buyer will co-operate with the seller, who might itself be the manufacturer, in managing the warranty, for example by confirming the date of the on-sale to the ultimate consumer, normally the commencement date of the manufacturer's warranty. The parties may also agree that the buyer will perform on the manufacturer's behalf certain obligations under the warranty, for example the duties of repair or replacement of non-conforming goods.

Elements of desirable co-operation between the parties are provided for in article 12 of Part B of the model contract. Parties may wish to stipulate for other aspects of co-operation by appropriate stipulation in A-17 of Part A of the model contract.

In international trade, parties often agree to have the goods inspected prior to shipment. In doing so, they avoid payment on the one hand (and the issue of a refund) and shipment (and the issue of a return shipment) on the other hand, should the goods not answer to specific features, stated in the inspection mandate.

The seller’s obligation to deliver goods in conformity however not only refers to the specific characteristics, verified in the preshipment inspection report, but to all the features of the goods delivered (quantity, quality, description, packaging, fitness for purpose …) (art. 35 CISG). The buyer must examine conformity of the goods regarding issues that have not already been inspected prior to shipment, either because no preshipment inspection was agreed upon, or because the issue fell out of the scope of the preshipment inspection, as soon as buyer can do so, i.e. when the goods arrive at buyer’s place of business (even if delivery may occur earlier). If the goods should
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be examined elsewhere (for instance because they are shipped directly to a customer), parties may change the place of examination by completing clause A-12. Clause A-12 would thus help the parties settle the situations covered by Art. 38 (2) (deferral of examination until arrival at final destination) and Art. 38(3) CISG (redirection in transit or re-dispatching by the buyer).

In current international trade, intellectual property rights have become an increasingly complicated issue as goods delivered may incorporate parts, software applications and know-how from different suppliers that may be protected by registered trademarks, patents or other IP rights in one country but not in another. The matter becomes even more complex when some of these rights have been licenced for use but regarding only a limited number of territories or applications.

This makes it difficult for a seller to guarantee that its goods do not infringe any intellectual property right of third parties in any country.

The absence of a formal clause in the model contract regarding the seller’s liability for infringment of any intellectual property rights of third parties does not, however, absolve the seller from any liability in this regard as Article 42 of the CISG provides for a balanced solution that imposes on the seller the obligation, to some extent, to deliver goods free from third-party claims based on a patent or other industrial or intellectual property.

Under the Vienna Convention, and thus under the model contract, the seller is liable for third-party claims and rights based on industrial or intellectual property of which it knew or could not have been unaware at the time of the conclusion of the contract.

But the seller is not liable merely on the ground that there may exist a patent or other right based on industrial property anywhere in the world; rather, the seller can only be held liable if such a right exists or is claimed under the law of the State where the goods are to be used, whether by resale or otherwise or, if this State is not apparent from the contract, under the law of the State where the buyer has its place of business.

In line with general practice in international trade, Part B of the model contract provides for a limitation of the amount of damages that may be claimed against a defaulting party, in order to reach a reasonable compromise between the buyer's interest to claim the full loss caused by the seller's breach and the seller's interest to maintain its liability for damages within clearly foreseeable limits.

Since it is impossible to strike such a balance in standard terms for all types of products, the Task Force chose, unless the parties agree on specific formulae (at A-10, A-11 and A-14 of Part A), to establish in Part B as a principle that the seller’s liability may not exceed the price of the goods with respect to which a claim is made.

As it may, however, be very difficult to prove actual damages in case of late delivery, the buyer may, similarly to a seller in case of late payment, instead of proving the extent of its damages, resort to liquidated damages according to a basic formula established in article 10.2 of Part B.

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1. Delay in delivery or non-delivery

The buyer may claim for delay in delivery:

1. the liquidated damages provided under article 10.2, i.e. 0,5% per week with a maximum amount of 5% of the price of the delayed goods, and
2. where the contract is avoided by the buyer for late-delivery under articles 10.1 or 10.3, the buyer may recover, instead of the above liquidated damages, an amount for proven loss not exceeding the price of the non-delivered goods: see article 10.4.

The damages referred to in (i) relate to delay in delivery of goods which are ultimately delivered and accepted. In this case, the buyer is entitled to the liquidated damages on mere proof of delay, and without showing actual loss, up to a maximum of 5% of the price of the delayed goods.

The damages referred to in (ii) deal with the case where the buyer exercises a right to avoid the contract for delay. In this case it has the possibility to claim either liquidated damages or actual damages (not exceeding the price of the non-delivered goods) if and to the extent that it proves this loss.

Finally, the parties may modify the formulae in articles 10.2 and 10.4 by completing A-10 of Part A of the model contract.

2. Lack of conformity

Delivery of non-conforming goods does not by itself give the buyer the right to avoid the contract.

If the buyer notifies the seller of the non-conformity of the goods, the seller has three options: (1) to replace the goods, (2) to repair them or (3) to reimburse the price.

Should the seller delay in replacing the goods or repairing them, the lack of conformity is to be requalified as a delay in delivery and the buyer’s damages are limited to liquidated damages for for the delay involved up to an amount which under article 10.2, does not exceed 5% of the price of the non-conforming/delayed goods. On the other hand, should the buyer choose to accept non-conforming goods, it is entitled to recover from the seller the difference in value compared with conforming goods.

Where the non-conformity is not cured (and the contract is avoided), the buyer is entitled to further damages for any additional loss it is able to prove over and above reimbursement of the payment (if already executed).

The Task Force felt that this solution represents a fair balance between the conflicting interests of the parties, who can nonetheless agree otherwise by completing A-14 of Part A.

The model contract envisages three circumstances in which the contract is considered to be avoided on account of the seller's breach:
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1. where the seller fails to deliver goods by the cancellation date agreed in Box A-9 in part A of the model contract: see article 10.1; or
2. in the absence of such an agreed date, where the seller, duly notified of delay in delivery according to article 10.2, fails to deliver goods when the maximum amount of liquidated damages for delay is due, i.e. after 10 weeks from the date on which the seller should have delivered the goods upon receipt by the seller of a notice of avoidance: see article 10.3; or
3. where the seller fails to repair or replace non-conforming goods before the maximum aggregate of 5 % of the price of the non-conforming goods has been reached (that is, in the case of non-conformity, after 10 weeks from the date of notification) and after receipt by the seller of a notice of avoidance: see article 11.5.

The force majeure clause, contained in article 13 of part B of the model contract is based on the force majeure clause of the ICC, with some modifications intended more efficiently to allocate losses in the case of commonly recognised instances of force majeure.

Through the completion of Box A-16 in Part A of the model contract, the parties may choose between arbitration and litigation for the resolution of disputes arising under the contract. Whether they choose arbitration or litigation, the parties are also cautioned to specify the place of arbitration or litigation.

Where the parties fail to choose between arbitration and litigation, the model contract assumes that ICC arbitration is the preferred method intended by the parties for the resolution of disputes. However, parties should note that arbitration (or mediation under the ICC ADR Rules may not be an economically viable mode of resolution of disputes where small claims between parties that do not have an ongoing business relationship and may not have a stable business (thus seeking injunctive relief), are involved. The parties are invited to examine the ICC Rules of Arbitration applicable to their dispute and in particular the costs and fees Appendix. Parties are also invited to study carefully ICC’s brochure Techniques for Controlling Time and Costs in Arbitration (ICC publication N°843) as well as the Case management techniques at Appendix IV to the 2012 Rules of Arbitration. This would enable parties to verify whether or not the size of their potential claims warrant recourse to arbitration.

In addition to cost-effectiveness, the parties to international sales agreements are often concerned to elect a neutral forum that can give reasonable assurances that an enforceable decision may be rendered. In this regard, arbitration may be a better choice as the 1958 United Nations New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards requires courts of contracting states in most countries all over the world to give effect to private agreements to arbitrate and to recognize and enforce arbitration awards made in other contracting states. Moreover, state courts may refuse jurisdiction over matters where they judge that there is a more appropriate forum available to the parties.

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The test that the parties should apply when choosing an appropriate state court is the sufficiency of connecting factors (i.e. country of delivery, country of payment, country of residence of the parties or such tangible factors) as well as other factors such as the experience of the state court in dealing with similar disputes, the availability of published case law , independence from local authorities and business actors, etc.

Parties should be aware that when they opt for litigation, the choice of applicable law should be made with even more discernment than when they opt for arbitration and that the choice of a law which is likely to be unfamiliar to the elected state court is likely to be unworkable, to lack certainty and to add unnecessary translation and affidavit costs.

A choice of jurisdiction may be (1) exclusive, excluding any other court of competence, or (2) non-exclusive, guaranteeing the competence of the chosen jurisdiction but at the same time not excluding the possibility to start proceedings before any other court that may have competence under its own rules of international private law.

Depending on the question whether one is the claiming or the defending party, parties may have different interests but Article A-16 advocates the clear solution of an exclusive choice of jurisdiction. If parties fear that an exclusive choice of jurisdiction may be ineffective for whatever reason (enforceability, …), they are advised to choose arbitration and not litigation as the dispute settlement technique

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