Allocation Of Risk
Parties may also agree to allocate risk in a certain way. For example, if a seller based in the United States is selling a classic car to a buyer based in China and plans to ship the car to that buyer, who loses out if the car falls off of the ship in the middle of the sea? The parties can agree (in contract) the point at which the risk passes from the seller to the buyer. For instance, risk could pass when the car is loaded onto the ship in the United States, when the ship docks in China, or when the car is actually received by the buyer. You would be surprised how many legal disputes have arisen in respect of the meaning of ‘received’ in such contexts (but this level of detail is outside the scope of this handbook).
Warranties (statements of existing fact), undertakings (promises to take certain action in the future) and indemnities (promises to reimburse the other party if certain costs arise) can also be included in the contract to allocate/mitigate risk. Breach of these can result in the party that committed the breach having to pay damages (compensation) to the other party. These clauses are explained in more detail in the ‘Buyer Protection’ section of this handbook.
There are other ways in which businesses can mitigate risk when contracting with one another. For instance, if a supplier provides products on credit (meaning that payment is not required until a future date), a ‘retention of title’ clause in the agreement to supply the products could enable that supplier to retrieve those products if the firm to which the goods were supplied goes bankrupt without paying. In addition, a ‘force majeure’ clause can protect the parties if something unexpected were to prevent either party from fulfilling their obligations under the contract.
- Retention Of Title Clause: in a contract for the sale of goods, a retention of title clause ensures that title to (ownership of) the goods remains vested in the seller until the buyer fulfils certain obligations (typically payment). If the buyer goes bankrupt before paying for the goods, the seller can subsequently retrieve back the goods from the liquidator, as the passing of ownership in the goods (from the seller to the buyer) is conditional on payment being made by the buyer.
- Force Majeure Clause: predetermines the allocation of risk and frees each party from liability if specified circumstances beyond the control of the parties arise that prevent either party from fulfilling their obligations. Examples of such circumstances include strikes, riots, wars, or acts of god (including hurricanes, floods or volcanic eruptions).
Breach Of Contract
Here is a simplified summary of the law relating to breach of contract: if Party A breaches a contract with Party B, Party A must typically pay sufficient damages (compensation) to Party B to place Party B in the position he/she would have been in had Party A not breached the contract. This will usually involve Party A giving Party B a refund (or a replacement product) plus additional compensation for any costs incurred by Party B in relation to the transaction (e.g. the cost of having the product delivered).
It is worth remembering that the commercial world is not governed solely by contracts. There are other commercial factors that may influence how parties transact together or how a party chooses to act when another party breaches a contract. For instance, a manufacturer may provide a refund for a product that a retailer or consumer is unhappy with (even if that manufacturer has not breached any contractual terms) in order to maintain a good commercial relationship with that retailer/consumer and/or maintain a reputation for good customer service.
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By Jake Schogger - City Career Series