13.01  This chapter introduces the concept of fundamental breach. In particular, the following points are discussed:

• •  that the now-defunct common law doctrine of fundamental breach is not to be confused with the CISG principle of avoidance of contract

• •  that Article 49 for the buyer and Article 64 for the seller are ‘functional’ articles setting out the procedure for avoidance

• •  that Article 25 is ‘declaratory’ in character and must be read in conjunction with the functional articles

• •  that fundamental breach as used in the CISG has no familiar counterpart in any other jurisdiction

• •  that if a contract is avoided the right to damages is not lost.

13.02  The purpose of this book is to discuss the regime of damages available under the CISG. It is important to understand that the remedy of fundamental breach or avoidance of contract is an additional or perhaps unique remedy available to the aggrieved party. This chapter offers an explanation of the basic aspects of avoidance and hence fundamental breach and points to the connection whereby the principles link in with the remedy of damages. In brief, the CISG offers two different approaches to a breach of contract. If the breach is ‘minor’, the aggrieved party simply concludes the contract and asks for damages. If the breach is ‘major’—that is, if the party is deprived entirely of what he expected under the contract—the contract can be avoided, or terminated, and remedies for breach of contract can be sought.

13.03  As pointed out in the preceding chapters, a contract is only as secure as the ability of courts and tribunals to award appropriate remedies. Damages are among the most important remedies any legal system can award to restore financial equilibrium. The injured party is then put into the position he would have been in had the contract been performed. This has been explained in the previous chapters.

13.04  However, in certain circumstances damages are not the remedy that is envisaged or practical. Within the four corners of the CISG, a ‘multi-layered’ system of principles solves the disturbance of the smooth exchange of agreed performances between parties.¹ Articles 45 and 61 lay the foundations for the remedial rights of an aggrieved party. It should be noted that a breach of a contract gives rise to secondary rights and obligations.² Fundamental breach is one of the secondary rights and, as stated above, must be read within the remedial framework of the CISG. It should be remembered that Article 45 points to two important facts. First, Article 45(2) notes that a buyer never loses his right to claim damages by exercising his right to other remedies such as avoidance of the contract. Secondly, Article 45(1) (b) points out that a buyer can claim damages provided in Articles 74 to 77. For a party to rely on the remedies provided in either Article 75³ or Article 76,⁴ the contract must have been avoided.

(p. 241) 13.05  The CISG consciously separates damages and fundamental breach as remedies, as damages cannot compensate for all breaches of a contract. The CISG does accept that a party can be fully compensated for a breach of a contract, but this premise is accepted only after the parties have performed their obligations to deliver the goods, paid the price for them, and taken delivery of them.⁵

13.06  This separation is important because the business community has a basic desire to seek certainty, predictability, and hence security in the law of contract.⁶ Fundamental breach plays a crucial role within the remedial system of the CISG. It ‘purports to separate a non-fundamental and a fundamental breach of a contract … because [this distinction] can determine the life or death of a contract’.⁷ Article 25 defines fundamental breach as follows:

The basic motivation of the CISG is to keep the contract alive as long as possible, as the convention has recognized that cancelling a contract in international trade is difficult and should be the remedy of last resort because it triggers the winding back of associated contracts such as letters of credit. If any cure will prevent an avoidance of a contract, the courts generally will so rule.

13.07  The Landgericht in Munich recognized this principle and found that a simple exchange of motors in a video monitor remedied the situation. The buyer still could use the inferior motors for other purposes.⁸ In the court’s view, the buyer was not totally deprived of what he was entitled to expect. Therefore, only damages were allowable. The important point was the consideration of fundamental (p. 242) expectation, which was derived by the court examining the objective intent of the parties. Objectively, as the informed bystander, the court found that the contract was not totally in disarray.

13.08  It has been argued that fundamental breach is one of those provisions that contain vague language and terminology, causing uncertainty and unpredictability.⁹ However, Article 25 is not a self-contained Article; it is arguably only ‘declaratory’ in character. This requires that it be read in conjunction with ‘functional’ Articles. The most important one in the case of the buyer is Article 49.¹⁰ Article 49 states:

Aspects of avoidance are also discussed in Articles 46(2), 51(2), 75, and 76. The effects of avoidance are listed in Articles 81 to 84.

13.09  This chapter will build on suggestions by Koch,¹¹ who pointed out that academic writing and case law point to several approaches in the application and interpretation of Article 25. Koch advocates correctly that pursuant to Article 7, a unified and coherent approach is necessary.¹² He proposes that the new methodology incorporates a dual test, which he describes as follows:

The Convention, in the determination of fundamental breach, incorporates a dual test based on a certain degree of severity of the breach and focuses on whether the (p. 243) aggrieved party especially needs these remedies—as opposed to damages—to compensate for impairment.¹³

Koch is not the only scholar who has proposed a test to determine whether a fundamental breach has occurred. Will, as a co-writer of one of the earliest textbooks on the CISG,¹⁴ points out that the two tests should be ‘substantial detriment and unforeseeability’.¹⁵

13.10  This chapter does not argue which of the two scholars is to be followed, as it is not the purpose of this book to discuss fundamental breach in a conceptual framework. It is sufficient to point out that the test proposed by Koch is not materially different from the suggestion offered by Will.

13.11  Koch incorporated unforeseeability into his test by implication. If an aggrieved party ‘needs these remedies’, then by implication the severity of the detriment suffered by the party must have been foreseeable; otherwise damages would be sufficient. The important tool, which Koch and Will to an extent neglected to incorporate into their tests, is Article 8. The general principle of fundamental breach demands this approach, as Article 25 incorporates a modified version of Article 8. Furthermore, most writers overlook the basic principle that the drafters of the CISG purposely incorporated words that need to be understood in an international rather than national context. Honnold suggested that the drafters solved this problem by ‘rooting out words with domestic connotations in favour of non-legal earthy words to refer to physical acts’.¹⁶

13.12  This chapter will examine only as much as is necessary of the past common law approach to fundamental breach. The focus will then be on Article 25 and its connection to Article 8, taking the legislative history of the CISG into consideration. In this context, the importance of a ‘functional’ approach to fundamental breach over an interpretive one is highlighted as a conclusion to the arguments.

13.13  Before the ratification of the convention, fundamental breach was not an unknown method in curing contracts. It was a doctrine that found favour within the common law system for a time. However, fundamental breach in the CISG has nothing to do with the now-defunct English doctrine of fundamental breach.¹⁷

(p. 244) 13.14  It is appropriate that the question of fundamental breach be addressed comparatively. It could be argued that it is unnecessary to investigate a principle that is specifically excluded from the sphere of the CISG and is ‘buried’. However, Flechtner put it succinctly when he noted that:

Lawyers cannot help but approach a new legal regime from the perspective of the law with which they are already acquainted. Done carefully, to avoid distorting the new law into either a mere image of the known or a menacing shadow of change, comparisons can build on established knowledge to provide an efficient introduction to unfamiliar provisions.¹⁸

There is abundant evidence throughout this book that courts and lawyers have fallen into the ethnocentric trap. As far as fundamental breach is concerned, it is of equal value to indicate and isolate municipal principles that have no place in the CISG. Such a comparison will assist users of the CISG to ‘become fluent in the Convention’s language’.¹⁹

13.15  For that reason, it is important to examine briefly the English experience, where fundamental breach was a distinct body of case law that was developed before the 1980s. It dealt specifically with the construction of exclusion clauses. In essence, a party was not protected from liability for fundamental breach or breach of a fundamental term.²⁰ However, the House of Lords rejected the doctrine in Photo Production Ltd v Securicor Ltd.²¹ Lord Diplock commented that, even if an exclusion clause is unreasonable,

The approach to the construction of exclusion and limitation clauses in Australia never relied on the doctrine of fundamental breach, ‘nor did it require an exclusion clause to be construed in isolation from the rest of the contract’.²³ Australian courts attempted to construct the language of an exclusion clause in the context of the whole contract. However, no clear solution to constructing a contract has been achieved.

(p. 245) In Australian case law, fundamental breach has been used where an exclusion clause contradicts or changes the primary contractual obligation. The court viewed its role in these disputes as to define whether the clause had been drafted in such a way as to override the contractual obligation. It is a question of whether to give force to the primary obligation of the contract or to give force to the technical construction of a contract. This approach to interpreting contracts is in line with the common law principle of the parol evidence rule. The demise of fundamental breach can arguably be attributed to the fact that there was an uneasy relationship between the doctrine of fundamental breach and the application of the parol evidence rule. This is especially true in Australia, where fundamental breach was always viewed with caution. The overriding consideration was that a contract must be interpreted within its four corners; that is, words must be given their natural meaning, especially as the common law favours the ‘condition-warranty’ approach to allow an injured party to treat the contract as discharged.

13.16  To summarize, fundamental breach was never successful and has been abandoned because in reality it was merely an attempt to bypass the parol evidence rule. It was confined to the interpretation of exclusion clauses. It must be noted that, at its inception, Lord Denning used the concept of fundamental breach as a rule of law rather than as a rule of construction.²⁵ However, as seen above, it was used as a tool of construction to determine whether an exemption clause survives a particular breach of a contract.

13.17  It is interesting to note that the term ‘fundamental breach’ has not been abandoned. It is frequently used to describe the problem raised by an attempt to read down an exclusion clause that cannot be reconciled with the primary contractual undertaking of the parties.²⁶ It is instructive to review Glebe Island Terminals Pty Ltd v Continental Seagram Pty Ltd.²⁷ The facts are simple. Thieves stole whiskey from a container with the connivance of some employees of the terminal operator. By virtue of a Himalaya clause, the exemptions in the bill of lading were extended to the terminal operator as a subcontractor of the carrier. Clause 4 stated that the carrier was protected from all liability for the loss of goods after they were unloaded ‘in any circumstances whatsoever’ and ‘howsoever caused’. Clause 8(3) contained a provision stating that the exemption applied whether or not the loss was caused by negligence or actions constituting a fundamental breach of the contract.

13.18  The court took the view that clause 4 alone would not have exempted the carrier, as it did not extend to an unauthorized delivery.²⁸ However, clause 8(3) was plain and clear, and hence clause 4 became applicable.²⁹

(p. 246) 13.19  Of interest is the dissenting judgment of Handley JA, who preferred the view that clause 8(3) did not protect the carrier as delivery to a thief was not authorized by the contract and was thus a breach of an express provision relating to delivery.³⁰ It could be asked whether such a situation could have been or was ever contemplated by the parties or whether the parties would have signed the contract if such an event had been contemplated as being covered by the exception clause. The answer is that a reasonable person in the same circumstances would probably not have signed a contract covering this situation. The challenge is to balance the demands of justice and of certainty, and in this case certainty was regarded as the lesser problem.

13.20  Justice and certainty cannot be reconciled in this case. The clause is wide enough to justify the conclusion the Supreme Court reached. Certainty is thus maintained. However, justice is not served by the decision, as subjectively and arguably objectively such a situation was never contemplated and hence is not within the intent of the contractual parties.

13.21  The CISG does not use fundamental breach as a tool of interpretation. The term ‘fundamental breach’ as used in the CISG has no familiar counterpart in any other jurisdiction, and therefore it is not fraught with history.³¹ The CISG’s treatment of fundamental breach is unique; it is a ‘fresh legal concept … [and] has no parentage in other jurisdictions’.³² However, neither is the concept of fundamental breach a hastily construed principle. Rabel, in his original draft of a uniform international law in 1935, already had the concept of fundamental breach in mind.³³ The original draft Article 26 allowed an avoidance of the contract only if the delivery of goods was not timely.³⁴ The limitation imposed in Article 26(1) and (2) was that time was of the essence, either by having it fixed in the contract or if the intent of the parties establishes that time was a fundamental term in the contract. The principle of Nachfrist was also introduced into Article 27, in much the same fashion as in Article 49(2) of the CISG.

13.22  It is useful to point out at the beginning that either party is only allowed to claim avoidance of the contract under the CISG—without first resorting to any other remedy therein -, if the non-performance of the obligation by the breached party amounts a fundamental breach.³⁵ It follows that ‘the threshold test for avoidance is the notion of fundamental breach’.³⁶ In addition, the question of what is a ‘fundamental’ breach also needs to be understood.

13.23  What constitutes a fundamental breach is an interpretive issue depending not only on the facts but also on the legislated mandate.

13.24  The CISG contains clear rules as to its interpretation, and any attempt to understand individual Articles or concepts must commence with an understanding of the underpinning concepts. Article 25 is no exception. Broadly speaking, interpretation of the CISG is regulated on two levels: first, at the level of the convention as a whole, which is governed by Article 7; secondly, at the level of the contractual relationship between the two parties governed in Article 8 and 9.³⁷ Articles 7 and 8 contain five basic rules:³⁸ a general rule as to interpretation, a rule regarding the purpose of good faith, a rule regarding the intent of parties, a rule regarding filling of gaps, and a rule regarding the relationship between the CISG and national law. These rules have been discussed at length in Chapter 2. It should be pointed out that not all cases require the use of all five rules. For example, in the interpretation of Article 25, the relationship between the CISG and national law is of no consequence, as fundamental breach has no parentage in other jurisdictions.

13.25  Of importance in this context is the rule regarding the intent of the contractual partners. As the CISG is an international instrument, the intention of the drafters must first be discovered through the words they chose. The starting point should be to consult the various texts of the CISG. The problem is that Article 25, to describe ‘fundamental breach’, uses the words ‘fundamental’ as well as ‘substantial’, and Will correctly remarked that ‘defining fundamental with substantial, to begin with, leaves an impression of playful tautology’.³⁹ The French and Spanish translations use essentially the same phraseology. The German text appears to describe (p. 248) the intention of a fundamental breach best. The phrase used is that a fundamental breach destroys the legitimately expected outcome of a contract.⁴⁰ The question, therefore, is what constitutes a legitimate expectation. To answer that question, Article 8 needs to be consulted. The Oberlandesgericht München ruled that a late delivery did not constitute a fundamental breach; otherwise Article 49(1)(b) would have been a superfluous inclusion in the CISG.⁴¹ The court proclaimed that without setting a Nachfrist, the buyer is not entitled to avoid the contract.⁴² The court came to its conclusion because the investigation of the intent of the parties indicated that an order was given by the buyer only after he examined a sample. Hence, late delivery never constituted a fundamental breach. In a Swiss decision, the court noted that because more than a month had passed since the goods had to be delivered pursuant to a clause in the contract, there was no need to give the seller any additional time according to Article 47.⁴³ At first glance, one could argue that there is a discrepancy between the two cases. However, a close analysis will indicate that the connecting factor is Article 8. In both decisions, the intent of the parties is taken into consideration. Arguably, therefore, ‘the importance of the breach is not determinative: only the consequences of the breach to the damaged party are determinative’.⁴⁴ Arguably, therefore, Article 25 is primarily concerned with the harm done do the aggrieved party and not the extent of the detriment.⁴⁵

13.26  Another question is whether the travaux préparatoires are of particular importance and should be taken into consideration when interpreting fundamental breach. Travaux préparatoires should arguably be taken into consideration only as an informative opinion, not as a ‘precedential’ instrument. First, most of the history is made up of individual opinions. For example, in the first committee deliberations and the Decisions of the Plenary Conference, seven amendments were proposed to what was then Article 23. Each amendment was opposed by a number of countries, and the proposal of the civil law countries was not acceptable to the common law countries.⁴⁶

13.27  The problem with Article 25 is that not all breaches can be treated as fundamental. It is left to the parties to determine what importance they attach to contractual obligations. The German term Kardinalpflicht best describes what is to be (p. 249) considered a fundamental obligation. Article 25 also includes a proviso, namely foresee-ability and knowledge that a breach would result in substantially depriving the other party ‘of what he is entitled to expect’.⁴⁷ The expectations of the promise would have to be taken into account under Article 8(1) and (2).⁴⁸

13.28  It is irrelevant whether the promoters of the convention anticipated or even contemplated that Article 8 would be used to interpret Article 25. The important point is that the words and the overall intention of Article 8 have been embodied in Article 25. The travaux préparatoires are accordingly of little importance, as they are historical expressions frozen in time.⁴⁹ Of importance is that Article 25 by its wording and as a final product incorporated segments of Article 8. Even without this incorporation, Article 8 would need to be consulted because it complements Article 7 as an interpretive tool. After all, the ‘determining interest of each of the parties must be identifiable by the other’.⁵⁰

13.29  As pointed out above, Article 25 requires that a substantial detriment to one party can be treated as a fundamental breach. The word ‘detriment’ cannot be uniformly defined, as it depends on each party’s expectations of his entitlement under the contract. Hence, a fundamental expectation or Kardinalpflicht varies from contract to contract. This is specifically true if we consider that ‘substantial detriment’ is not narrowed to a specific harm but rather widened ‘to all detrimental effects in the particular context of the other party’s situation’.⁵¹ In essence, the term ‘detriment’ fulfils a mere filtering function, as it suffers from the problem of all general principles: It takes on substance within a particular context only, that is, within a contract. Furthermore, substantial detriment goes beyond damages as described in Article 74; otherwise, the promoters of the CISG would not have introduced a particular principle that, as Will put it, is a fresh legal concept and is not fraught with history.⁵²

13.30  Admittedly, as a general principle it suffers from vagueness, and Will commented correctly:

Meditation over terms as pregnant with connotations as ‘fundamental,’ ‘substantial’ or ‘foreseeable’ never ends, nor does controversy about their meaning. But while philosophers have time to muse, lawyers usually have not; and merchants even less.⁵³

(p. 250) Undoubtedly, fundamental breach is a vague concept,⁵⁴ but to cover the intentions of parties it is essential that it ‘covers the field’. It is argued that vagueness is not the problem but rather the inability to understand the underpinning concepts that are ‘rooted’ in the methods of interpretation pursuant to Articles 7 and 8. The CISG has never been technical in its interpretation. Article 7, specifically the mandate of good faith, plays an important role in interpretation of the convention as a whole, supplemented by Article 8, which allows subjective as well as objective intent to be taken into consideration. The law works in a cohesive fashion with the intention that both parties will benefit from the contract. Certainty, flexibility, and justice are displayed within the CISG and have been given meaning through Articles 7 and 8.

13.31  Fundamental breach is a principle that bears all the hallmarks of the desire of the CISG to keep a contract alive as long as possible. It is interesting to note that courts will give life to Article 49 first, before an attempt is made to define fundamental breach. Not all breaches of a contract are fundamental in nature. Article 25 makes this abundantly clear. Article 25 can be consulted in cases where the problem is a breach of a term within the contract; the parties themselves have stipulated and defined what a fundamental breach is. In any other case, flexibility has been built in via the technique of Nachfrist.

13.32  The problem with Article 25 is that its application requires a sophisticated grasp of the function of the CISG. Fundamental breach is, as noted above, ‘declaratory’ and has to be read alongside Article 49. Furthermore, Articles 7 and 8 will help in the definition of what a party ‘is entitled to expect under the contract’. The investigation, therefore, needs to commence with an understanding of the ‘substantial entitlement’ under the contract. This process must take note of the contract itself or any other means permitted pursuant to Article 8. It is precisely Article 8 that allows a court to interpret Article 49 in such a way as to declare:

The CISG does not provide an obligation concerning the form of the avoidance of a contract. Therefore, some ‘juridical effect must be given to the inaction of the parties … and must be analyzed as the reciprocal manifestation of the tacit will to renounce the performance of the contract’.⁵⁶ A decision by the Southern District Court of New York explains this fact well. The seller delivered all the garments, but the buyer failed to pay the balance which was still due. The court noted that (p. 251) the failure to pay substantially deprived [the seller] of the performance that it had a right to expect from [the buyer] hence the buyer committed a fundamental breach.⁵⁷

13.33  The requirement to consult Article 8 is made clear in the second part of Article 25. That part is written as an excluder and if rewritten could be read to mean that a fundamental breach has been committed if ‘the party in breach did foresee and a reasonable person of the same kind in the same circumstances would have foreseen such a result’. Will arguably was correct when he noted that the tests should be ‘substantial detriment and un-foreseeability’,⁵⁸ which can be truly applied only if Article 8—that is, subjective as well as objective intent—is taken into consideration. The most important effect in terms of determining a detriment is that it is no longer left to judges to rule between substantial and insubstantial but is tied to the expectations of the parties and to the terms of the relevant contract.⁵⁹

13.34  It is not surprising if practitioners or academics investigating Article 25 in isolation do not understand the complexity of the CISG. Van Reesch examined judicial consistency and Article 25.⁶⁰ He specifically commented on the lack of consultation of precedent and that foreseeability is conspicuously absent.⁶¹ He added that ‘it is difficult to establish that consequences were unforeseen when the terms of a contract are clear and unequivocal [ … ] [and therefore] the consequences [of a breach] must have been foreseen’.⁶²

13.35  The first point to note is that the examination of judicial decisions was restricted to reporting of Clout, which is a summary and does not give the details necessary to come to a meaningful conclusion. Secondly, the question of foreseeability is addressed from an ethnocentric viewpoint. Foreseeability is not only detectable in the terms of contracts but also discoverable under Article 8. The parol evidence rule has no place within the CISG. However, Van Reesch’s conclusion is not surprising, as it indicates that ‘casual observers’ of the CISG lack the sophistication required to properly understand the subtleties of the convention. It points to the fact that Article 25—read in isolation—will not yield the result envisaged by its promoters. Article 25 must be read with Articles 49, 7, and 8 in mind, which has been confirmed by the jurisprudence of the CISG.

13.36  Generally speaking, a contract can be avoided only if a fundamental breach has been committed and constitutes a precondition for avoiding the contract.⁶³ In other words, the threshold test for avoidance is the notion of fundamental breach.⁶⁴ Furthermore, despite the risk having passed to the buyer pursuant to Article 70, the buyer has not lost any of his remedies available under the CISG.

13.37  Once a fundamental breach is established, it will act as a trigger to claim delivery of substitute goods pursuant to Article 46(2) if the goods do not conform to the contract, and Article 46(3) will allow the buyer to ask for repair of delivered goods. Only in cases of fundamental breach is the buyer in a position to choose between the two remedies pursuant to Article 46. In all other cases, repair is the only remedy available. To avoid the need to establish and define what constitutes a fundamental breach, the CISG has simplified the process by allowing the buyer or seller to fix an additional period of time (Nachfrist) to remedy the breaches of the contract. If the buyer or seller does not fix the contract within the additional time pursuant to Article 49(1)(b), all doubt as to whether a fundamental breach has been committed is removed. In other words, what would otherwise be a non-fundamental breach is now beyond any doubt, and must be treated as, fundamental.

13.38  At first reading, it appears to be a simple process to define a fundamental breach that then will allow access to the above remedies. However, the process is not as simple as it appears. Courts will look at the convention first and analyze whether a breach of an Article within the CISG will prevent a fundamental breach. As an illustration, a German district court ruling from Stendal is of interest.⁶⁵ The court noted that the buyer did not fix a Nachfrist, as required under Article 47(1). Furthermore, the buyer did not insist on a substitute delivery and agreed also on a reduction of the purchase price. Insistence on a fundamental breach was accordingly impossible.⁶⁶ The court looked at the contract as a whole, not merely its technical components. Of importance is the insistence of the court on judging the intention of the parties, which was expressed in an agreement to reduce the price. Such an agreement will negate the insistence on a fundamental breach. Even severe non-conformities of goods that in essence amount to a fundamental breach do not guarantee that avoidance will be allowed by the courts. The Madrid Provincial High Court⁶⁷ had to decide whether the defect in the goods which were (p. 253) used as the reason not to pay the full amount due to the seller constituted a fundamental breach. The court held that:

Several court decisions hinged on the question of whether time was of the essence. The District Court of Cologne⁶⁹ put it correctly, noting that:

Because the contract continued a clause noting that time was of the essence hence the parties explicitly agreed on a fixed date hence late delivery constituted a fundamental breach. This decision was in line with other jurisprudence from Germany and Switzerland⁷¹ and specifically by the Appellate Court of Milan.⁷²

13.39  There is also an interesting interplay between Articles 48 and 49. Article 48 is subject to Article 49, which means that it touches on the relationship between cure and avoidance.⁷³ Arguably, there is a ‘functional’ rather than ‘interpretive’ relationship between cure and avoidance. Fountoulakis alludes to this interplay and comments that the seller’s ability to access a remedy is to be preferred over the severity of the breach.⁷⁴ Article 48 allows the seller to cure the defect after the date of delivery. Article 37 allows the seller to cure defects if he has delivered goods before the contractual due date. It follows that all the options mentioned in Article 37 are open to the seller, which would include delivery of overdue goods.⁷⁵

13.40  Such a preference for cure over avoidance does not arguably extend to the principle of Nachfrist. Once additional time has been granted, the expiry of that date (p. 254) will, unless the default is remedied, amount to a fundamental breach. This view is within Article 48, as the buyer, in effect, has made known to the seller that he will accept a cure that is merely the reverse obligation contained in Article 48(2). The function, therefore, of fundamental breach is to force the parties either to cure the contract or agree on avoidance. Courts have used this interplay to deny fundamental breach.

13.41  A decision of the Handelsgericht Aargau is instructive,⁷⁶ particularly as the appeal went to the Oberlandesgericht Koblenz,⁷⁷ which affirmed the prior decisions. The facts—which bear repeating from Chapter 7—are simple. The buyer ordered three arches filled with air for advertising purposes at a car race. At the first race one of the arches collapsed, and the buyer attempted to avoid the contract. The seller was prepared to remedy the situation so that the arches would be ready for the subsequent races. The court considered that a fundamental breach is to be judged not only on the severity of the breach but also on whether the breach can be cured. If a breach can be cured, the detriment to the buyer does not deprive him substantially of what he is entitled to expect, and therefore avoidance should be the remedy of last resort.

13.42  As pointed out above, Article 25 can be regarded as declaratory and not functional in character. Article 49 takes on the functional task, and hence an investigation ought to commence with Article 49 in mind. The first point is that Article 49 contains a dual test, namely whether goods have been delivered or not. As suggested above, such a distinction is important, as the requirements to prove fundamental breach are case specific.

13.43  This situation does not pose any problems other than leaving open the issue of whether the failure of the seller actually amounts to a fundamental breach.⁷⁸ As has been noted, Article 8 will assist a tribunal or court in determining the purpose of the contract. If follows that the court can identify what the aggrieved party was entitled to under the contract and whether the breaching party ‘substantially deprived him of what he was entitled to’.⁷⁹

(p. 255) 13.44  The claimant has two options under Article 49. He can simply ask the court to declare that there is a fundamental breach pursuant to Article 25, or he can avoid this test by giving the breaching party an additional period, or Nachfrist, to perform his obligations.⁸⁰ If the breaching party fails to perform his obligations within this additional time, this second breach amounts to a fundamental breach. It is not the non-delivery that triggers a fundamental breach but the failure to respond to the invitation to deliver. The Nachfrist contemplated by Article 47 must be of a reasonable length. Article 47(2) does protect the seller during that time, as the buyer is not allowed to resort to any remedy for breach of contract until the extension is exhausted. The contract can be considered to have been ‘suspended’ until it becomes clear whether delivery will take place.

13.45  Of interest in this context is a decision of the Appellate Court of Düsseldorf where the question of Nachfrist was discussed.⁸¹ If time is of the essence and both parties are aware of this fact, setting a Nachfrist in case of non-delivery is not essential. The Düsseldorf court went further and explained that the mere fact that the seller sets a later delivery date acts as a Nachfirst, and avoidance pursuant to Article 49 can be affected in the same manner as if the buyer had set a Nachfrist.

13.46  If goods have been delivered, the situation becomes more complex, as the operation of several legal principles, including restitution and unjust enrichment, may need to be resolved. It is, therefore, necessary to carefully adhere to the convention’s rules, which will furnish the desired explanations.

13.47  The CISG starts with the premise that once goods have been delivered, the remedy of fundamental breach is lost. Delivery means the aggrieved buyer can claim damages or any other remedy as described in Article 45, except avoidance. In other words, the contract stays alive. However, this is not a strict rule, and certain exceptions have been listed. The CISG makes a distinction between late delivery and breaches other than late delivery. Once late delivery is made, a declaration of avoidance must be made in a timely fashion. Once the goods have left the country of origin it may be argued that avoidance is no longer an appropriate remedy. The CISG is conscious of the ‘tyranny of distance’ and the associated costs. It is, therefore, not surprising that once goods have been delivered, the CISG allows avoidance only in exceptional circumstances.

13.48  Article 49 simply points to the fact that avoidance must be communicated to the seller within a reasonable time after he ‘knew or ought to have known of the (p. 256) breach’.⁸² The problem with Article 49 is that it does not fill the ‘time gap’ between inspecting the goods and giving notice of the defects or lack of conformity to the seller. Reading the CISG within its four corners will solve this problem. The problem of the time gap is governed by Articles 38 and 39. The question of conformity is dealt with by Article 35.⁸³

13.49  This is only one example of a possible breach of contract and its solution. The CISG describes other breaches, such as goods not being free from any right or claim of a third party pursuant to Article 41. Furthermore, even when goods have been delivered and a breach occurs, the CISG gives the buyer the opportunity to avoid having to define fundamental breach by the deployment of the principle of Nachfrist pursuant to Article 49(2)(a)(ii) and (iii).

13.50  The solution to fundamental breach is that a buyer, if time permits, should simply give the seller a Nachfrist to avoid the problem of definition. The length of time, or even the requirement to give a Nachfrist, is dependent on the circumstances. If time is of the essence—or even if a contract stipulates ‘as soon as possible’⁸⁴—then Article 8 holds that the seller could foresee the significance of prompt delivery. The result will be that the buyer is not obliged to set a Nachfrist.⁸⁵

13.51  In such cases, the lack of conformity or non-delivery becomes immaterial because the non-performance of the seller within the given period in itself amounts to a fundamental breach. This solution is simple and raises no real controversy. As a matter of fact, no cases have been reported where the non-observance of a Nachfrist was subsequently questioned by a court or tribunal as not amounting to a fundamental breach.

13.52  So far, the discussion has centred on the importance of Articles 25 and 49, and fundamental breach or avoidance has been discussed. It is important to discover the relationship between damages and avoidance. For this purpose, Articles 75 and 76 are now analysed in this and the following section. An analysis or comparison between the CISG and the UNIDROIT Principles is also applicable in some instances.

(p. 257) 13.53  The first point to note is that Articles 75 and 76 must be read in conjunction with Article 74, as they merely point to measuring damages when a contract has been avoided. Article 74 is not excluded, as it is noted that the option to claim further damages under Article 74 always remains open.⁸⁶ Article 75 governs the situation where either the buyer effects a substitute transaction or the seller has resold the goods.

13.54  This Article is written in such a way that it does not matter whether the seller delivered faulty goods or has not delivered goods at all. The only difference is that in the case of delivery of faulty goods, restitution is a factor to be taken into consideration. It is obvious that Article 74 will ascertain the damages that can be claimed in returning the goods or putting them at the disposal of the seller. In brief, it is a wide-reaching Article taking all possible situations into account when goods are resold by the seller or buyer or the buyer effects a replacement purchase. Both parties must take into consideration that such activities must take place ‘within a reasonable manner and within a reasonable time after avoidance’.⁸⁷

13.55  The advantage of Article 75 is that

damages under this provision are established by the action of the injured seller in reselling the goods and the action of the injured buyer in obtaining cover, that is, buying the goods elsewhere. The measure of damages is the difference between the price under the contract and the price of the substitute transaction, which allows the injured party to measure damages without having to show the market price for the goods.⁸⁸

Simply put, as cover transactions are the most common way to cure non-delivery by the seller or refusal by the buyer to fulfil the contract, when the contract has been avoided, damages are simply the difference between the contract price and the cover purchase. However, cover purchases or reselling of goods must by executed in a reasonable manner; hence, the question of mitigation pursuant to Article 77 will also come into play. This has been discussed in a previous chapter.

13.56  Article 75 uses the word ‘reasonable’ on two occasions, so some comment in relation to the question of what constitutes ‘reasonableness’ is warranted. First, the purchase or resale must be executed in a ‘reasonable manner’ and, secondly, it must be executed within a ‘reasonable time’. Arguably, the clock starts to tick as soon as the parties avoid the contract, because both parties now must act to remedy the situation to mitigate losses, as they are obliged to do pursuant to Article 77. Any other interpretation of Article 75 could lead to the conclusion that parties can ‘sit on their hands’ and exploit the situation, especially in markets (p. 258) where price fluctuations are the norm. This has been confirmed by a decision of the District Court of Hamburg, which noted that the buyer ‘substantiated that it had made a corresponding substitute purchase within a reasonable time’.⁸⁹

13.57  A reasonable manner and time suggest that the buyer has to buy substitute goods at the lowest possible price and the seller must sell at the highest possible price in a timely fashion taking into consideration the principle of good faith and, of course, the principle of mitigation. The Secretariat Commentary confirms the situation:

For the substitute transaction to have been made in a reasonable manner within the context of article 71 [draft counterpart of CISG article 75], it must have been made in such a manner as is likely to cause a resale to have been made at the highest price reasonably possible in the circumstances or a cover purchase at the lowest price reasonably possible. Therefore, the substitute transaction need not be on identical terms of sale in respect of such matters as quantity, credit or time of delivery so long as the transaction was in fact in substitution for the transaction which was avoided.⁹⁰

The reasoning of the Secretariat extends not only to purchases that are used in-house by the buyer but also to goods bought for selling on. As the District Court in Arnhem noted,⁹¹ a buyer is also responsible for reimbursing his customers who are forced to make cover purchases. The court noted:

The conclusion is that Article 75, read in conjunction with Articles 74, 7, and 77, allows courts and tribunals to calculate losses on a factual basis, taking into consideration all the factors of foreseeability and hence market fluctuations, the efforts of the parties, and the principle of good faith.

13.58  The first criterion is that this Article—like Article 75—applies only if the contract has been avoided pursuant to Article 25 of the CISG and hence Articles 49 or 64 of the CISG. This is confirmed by the District Court of Munich, where the court indicated that compensation of damages for non-performance cannot be claimed (p. 259) if the contract has not been avoided.⁹³ The court added that the rules pertaining to the avoidance of a contract would otherwise be superfluous.⁹⁴ Given the court’s view, it appears that Article 76 is merely an addition to CISG Article 74, namely fully compensating the innocent party for a loss suffered owing to a breach of contract. It attempts to clarify situations where despite the avoidance of the contract, the party seeks to demand damages if they purchased goods from another source.

13.59  As stated previously, the UNIDROIT Principles and the CISG are instruments that can both be used to assist in the interpretation of contracts if they address the same issues. Indeed, the preamble of the UNIDROIT Principles states that they may be used to interpret or supplement international uniform law instruments.⁹⁵ The ICC Court of Arbitration in Paris took advantage of this possibility when no express choice of law clause was included in a contract. The court referred to both Article 76 CISG and Article 7.4.6 of the UNIDROIT Principles as being relevant to their deliberations.⁹⁶ The tribunal was arguably guided by the Official Comments on Articles of the UNIDROIT Principles, which include a direct reference to Article 76 CISG. It is stated: ‘The purpose of this article, which corresponds in substance to Art. 76 CISG, is to facilitate proof of harm where no replacement transaction has been made’.⁹⁷

13.60  It must also be remembered that the CISG is part of municipal law. This means that courts are obliged to use it when applicable. At best, the Principles can be used by courts to assist where the CISG is not clear. However, as pointed out in previous chapters, such assistance can be considered only if Article 7 or Article 8 has not produced a solution. It can be argued that if there is a gap in the CISG, then the Principles should if possible be consulted to fill the gap before recourse is had to domestic law.⁹⁸

13.61  The UNIDROIT Principles and the Principles of European Contract Law should be preferred over domestic law as they are based on and rely on similar principles to the CISG. In all three instruments the underpinning philosophy is that principles and therefore all Articles are an interlocking construct regulating the interactions of international contracting parties with the aim of maintaining business relations for as long as possible and affording compensation to parties without unduly disadvantaging the breaching party.

13.62  CISG Article 76 establishes a formula whereby the injured party can calculate damages where the contract has been avoided and no substitute transaction has been entered into.⁹⁹ Courts have established that Article 76 of the CISG is to be used only if a concrete calculation of damages pursuant to Article 75 of the CISG is not possible.¹⁰⁰

13.63  The formula allows damages to be calculated ‘abstractly’, that is, without having made a clearly definable cover transaction. The purpose of both instruments is to prescribe a method by which the market price can be calculated.

13.64  The ICC Court of Arbitration reached its conclusion by analysing both instruments.¹⁰¹ As they yielded the same result, it can be argued that there is no significant difference between Article 76 and Article 7.4.6. Nevertheless, differences are observable.

13.65  Article 76 distinguishes between situations where there has been no substitute purchase or resale and situations where goods have been taken over. The Principles, on the other hand, merely point to the fact that no replacement transaction has taken place. It is true to say that the situation where goods have been taken over only applies to the buyer.¹⁰² Only two situations could reasonably be contemplated: The buyer avoided the contract after taking over the goods, or, in relation to subsection (2) of CISG Article 76, an earlier time was fixed to prevent the buyer from speculating.¹⁰³ The UNIDROIT Principles may arguably be lacking in taking these situations into consideration.

13.66  Article 76 attempts to give a solution to two problems: the date when the contract has been declared avoided and the place where the current price has to be determined.

13.67  The problem of timing was addressed and clarified at the tenth plenary meeting of the Diplomatic Conference at which the CISG was promulgated.¹⁰⁴ The meeting minutes clearly state that the time is not the time when the party who ‘declared (p. 261) the contract avoided had for the first time the right to do so’.¹⁰⁵ Instead, the crucial time is the ‘time of avoidance’. This phrase was adopted by the CISG as well as the UNIDROIT Principles. The two instruments use the same phraseology, and therefore clarification has been provided. The time is definitely not when a Nachfrist was granted pursuant to Article 49 or Article 64.

13.68  CISG Article 76 also adds to the timing the ‘taking over of goods’. Article 7.4.6 of UNIDROIT does not do so, as mentioned above. Arguably the promoters of the Principles took note of Schlechtriem, who argues that the ‘taking over of goods’ as a trigger point is difficult to justify. He notes:

In the event of a delayed or non-conforming performance, the buyer who can neither undertake nor prove a definite cover transaction under Article 75 uses the reasonable time period permitted by Article 49(2) at his own risk. In the case of Article 49(2)(b)(i), the reference point actually precedes the moment when the buyer could avoid the contract because the buyer, at that time, still did not know of the breach.¹⁰⁶

13.69  As pointed out above, the UNIDROIT Principles are of little help in this situation. It appears that Schlechtriem foresaw a problem that technically can cause problems but that jurisprudence on this point has not revealed any disputes.

13.70  In general terms, a recent decision illustrates how the current price can be found using a holistic approach. In a CIETAC arbitration proceeding,¹⁰⁷ the tribunal noted:

This example illustrates that using the four-corner rule, the facts of the case combined with the relevant principles of the CISG can supply an answer to situations that do not fit neatly into Article 76.

13.71  CISG Article 76(2) attempts to clarify the current price by tying it to the place where delivery of the goods should have been made. In general, UNIDROIT Principles Article 7.4.6 uses simpler language and condenses parts of Article 76 into a more readable form. It can be argued, therefore, that the advantage of the Principles lies in reading this Article before Article 76 is applied. It allows the court or arbitral tribunal to get a ‘feeling’ for what the CISG attempts to achieve. In some cases there is no current price at the place where delivery should have been made pursuant to Article 76(2). As pointed out by the Appellate Court Graz:

It must be noted that the CISG does not allow any unjust enrichment, and even if goods were not delivered and a cover purchase was made, a claim can be mounted only if actual loses have occurred. Articles 74 and 76 will combine in this instance. The CIETAC tribunal was absolutely correct when it noted that:

13.72  The question of how to determine the current price does not appear to pose any problems. Article 76 CISG and Article 7.4.6 of the UNIDROIT Principles are essentially identical, and the ICC Court in its determination did not distinguish between the two Articles. The court’s decision simply confirmed that the market price is to be determined pursuant to the place of delivery of goods.¹¹¹ If the promoters of the Principles had seen or anticipated problems in the application of Article 76, they would doubtless have worded Article 7.4.5 differently to overcome the perceived problem. This is what they did on other occasions, as in the case of Article 7.3.1, which can be used for a better understanding of Article 25.

13.73  The time of avoidance or the time the contract is terminated is not always an uncontroversial point of reference. The problem remains that a party can delay (p. 263) avoidance to gain an advantage. The solution is that the party may be held to have violated the duty to mitigate and to be in breach of Article 7 by disregarding the principle of good faith.¹¹²

13.74  It is worth repeating the point that once a fundamental breach is established and the goods do not conform to the contract, this will act as a trigger to claim delivery of substitute goods pursuant to Article 46(2). Alternatively, Article 46(3) will allow the buyer to ask for repair of delivered goods. Only in cases of fundamental breach is the buyer in a position to choose between the two remedies provided for by Article 46. In all other cases, repair is the only available remedy.

13.75  It is important to note here that giving additional time is not the same as asking for specific performance. The right to avoid a contract is diametrically opposed to the right to specific performance. Specific performance can be claimed in respect of all breaches of a contract, but the availability of avoidance is limited.¹¹³ The question of specific performance is of relevance only in circumstances where the risk has shifted from the seller to the buyer. The question is whether the buyer has access to the remedies under Articles 46(2) and 50 (rectification of defects or the reduction of price). The solution is not uncontroversial and is the subject of divergent authority.¹¹⁴ The prevailing view is that Article 46(2) and (3) only applies for defects in quality.¹¹⁵

13.76  At this point, an interesting observation can be made concerning situations where goods are shipped by sea. It has been argued that trade in commodities raises different issues to trade in machinery and other capital goods where a breach of contract is envisaged.¹¹⁶ The argument is that in commodity trade the volume of paper trading exceeds the volume of dealing in the underlying goods.¹¹⁷ This may (p. 264) be the case. In cases of this nature, the original question is of importance: Where has the breach occurred? It is obvious that at the end of a transaction, whether in commodity goods or otherwise, the goods must be delivered. Only at the time of delivery will the relationship between the ultimate purchaser and seller be revealed. The trade in documents, or more specifically the trade in negotiable instruments, is specifically excluded under the CISG and does not concern the ultimate buyer at all. It is delivery or non-delivery to the buyer of the actual goods that is covered by the convention. Hence, the argument that the CISG does not apply to commodities is an incorrect oversimplification. Although the negotiable instruments traded in respect of a commodity are outside the scope of the convention, this is not the end of the story. The CISG still applies to commodity transactions insofar as it covers the actual sale and delivery of the commodity. The paper trading that is outside the scope of the convention is a matter for the domestic law of the place where the instruments were traded.

13.77  In cases where the goods have been delivered and the buyer wants to make a replacement purchase, the whole matter rests on whether the buyer is able to make restitution¹¹⁸ of the disputed goods in substantially the same condition as he received them.¹¹⁹ If both parties are obliged to make restitution, they must do so concurrently.¹²⁰ However, there are exceptions. One arises where the goods have perished, deteriorated, or been damaged in transit and the damage is not the buyer’s fault.¹²¹ It is not surprising—and it is in line with most legal systems—that the CISG requires the buyer and seller to account for all benefits they have derived under the contract.¹²²

13.78  Avoidance is very closely linked to restitution, as the buyer will forfeit the right to avoid the contract if it is impossible to make restitution. However, there are some exceptions to this rule: ‘It is regarded as an actual impediment if the goods have been damaged, lost, destroyed, or stolen’.¹²³

13.79  Article 82(1) sets the bar for the exercise of avoidance. Article 82(1) is not unique; it corresponds with Article 2-608(2) of the UCC. But the Article also sets out many exceptions to the general rule. Before our discussion of restitution, a further (p. 265) problem needs to be addressed, namely whether Article 82(2)(c) is confined to defects in quality. The problem stems from the fact that this Article uses the expression ‘lack of conformity’. ‘Lack of conformity’ can be interpreted in several ways. First, it may refer only to the conformity of goods. This is a very narrow interpretation. Secondly, the word ‘conformity’ can be extended to mean conformity with the contract. If we consider what Honnold said in relation to the usage of words—’[root] out words with domestic connotations in favour of non-legal earthy words [referring] to physical acts’¹²⁴—the wider interpretation would seem more appropriate. However, words cannot be given meaning in isolation, as the CISG needs to be read within its four corners.¹²⁵ The question of conformity, or lack thereof, must therefore be investigated within the four corners of the convention.

13.80  Conformity is mentioned in no fewer than nine Articles of the CISG. Many of the Articles are listed in section II, ‘Conformity of the Goods and Third Party Claims’. This distribution suggests that conformity must be read as meaning more than just conformity as to quality. Mohs points to the fact that Article 82(2)(c) refers to quality and third-party intellectual property rights and provides a limited remedy in relation to defects in title.¹²⁶ In relation to defects in title to goods, the buyer obviously has no interest in keeping the goods. The only remedy he would be seeking is to avoid the contract. Therefore, whether Article 50 allows a price reduction or not is of no practical significance. The same argument can be advanced if goods are either destroyed or lost. In such cases it will be unlikely that the buyer will ask for a price reduction, whether permitted under Article 50 or not. Furthermore, whether a price reduction is allowed in certain circumstances does not influence the question of uniformity. It merely narrows down the remedies once a fundamental breach has been accepted by the tribunal. Whether remedies are narrowed down by choice, necessity, or law does little to suggest that the question of fundamental breach, and for that matter the uniformity of the CISG, has been put in doubt.

13.81  Article 84 recognizes that in some circumstances the goods cannot be returned in the same condition the buyer received them in—or returned at all. The buyer nevertheless owes the seller all the benefits they derived from having been in possession of the goods. The buyer has to account for the concrete amount even if he sold the goods at a ‘give-away’ price.¹²⁷ However, the CISG does place a limitation on bargain sales. Although it is possible for the aggrieved buyer to sell the goods cheaply due to their condition, the limitation is that the sale must be in the (p. 266) normal course of business as described in Article 82(2)(c). In cases of genuinely lower-than-expected prices, the bar to avoidance does not apply.

13.82  The conclusion is that the wording in Article 82 must be read widely, taking general principles into consideration. Hence, even in cases where restitution is impossible, the buyer is still entitled to avoid the contract.¹²⁸ It is of special significance that the CISG included many remedies into its regime. Not all remedies suit every opportunity, and an aggrieved party must select the remedy that is appropriate under the circumstances of the breach to which they have been exposed.

13.83  There is a further point to be considered. Article 70—one of the Articles that explain when risk passes from the seller to the buyer—furnishes an exception to the rule. If a fundamental breach has been committed, the buyer is not barred from all those remedies available on account of the breach.¹²⁹ In effect, a buyer—despite the risk having passed—can still declare the contract avoided and require the delivery of substitute goods pursuant to Article 46(2). But without Article 70, a buyer could not avoid the contract or ask for substitute deliveries, because both remedies require the return of the goods in the same condition they were received in. This would be rather difficult if the goods have been lost or damaged in transit (for example, by falling overboard on a ship). Because of Article 70, the risk has been shifted back to the seller, who breached the contract.

13.84  Academics, and to a much lesser degree courts, have had their minds fixed on words such as ‘breach’, ‘detriment’, and ‘foreseeable’, and have tried to give meaning to these words rather than step back and look at Article 25 as a single thought.

13.85  Article 25 is looked at too closely, and a broad concept has been made more complex than it actually is. A picture can be constructed by looking at the CISG as a whole, that is by reading Article 25 in conjunction with other Articles, and specifically Articles 49, 7, and 8. It has been noted that it is not the amount of damages but the importance of the damage that is crucial in dealing with fundamental breach. Once the Kardinalpflicht of a contract has been pinpointed, the problem of defining fundamental breach has been solved. Admittedly, this view could be criticized as too simplistic, but as Will pointed: ‘But while philosophers have time to muse, lawyers usually have not; and merchants even less’.¹³⁰

(p. 267) 13.86  As already stated above, in this context the words of Lord Mansfield in 1761 should never be forgotten. He observed: ‘The daily negotiations and property of merchants ought not to depend upon subtleties and niceties, but upon rules easily learned and easily retained because they are the dictate of common sense’.¹³¹

13.87  A reading of court decisions indicates that courts have not ‘mused’ over these terms but have got on with their job and asked simply what the party is entitled to expect under the contract. If the breach destroyed the legitimately expected outcome of a contract, fundamental breach has occurred.

13.88  It appears that courts have followed the dictum of common sense and have applied Article 25 and importantly Article 49 appropriately.(p. 268)