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Confronting a Potentially Breaching Buyer
Practical Law Legal Update 2-608-0546 (Approx. 7 pages)
Confronting a Potentially Breaching Buyer
by Practical Law Commercial
| Published on 08 Apr 2015 • USA (National/Federal) |
An update that discusses some of a seller's options when confronting a buyer that will potentially breach its payment obligations.
No good faith seller enters a sale of goods contract with the expectation that the buyer will not meet its payment obligations. And, in a perfect world, buyers would always meet their payment obligations. Nevertheless, the seller should be prepared to address a buyer's potential problems making proper payment. This update outlines various issues that an aggrieved seller must consider when it confronts a threatened payment breach, including:
- A review of its potential contractual rights and remedies (see Contractual Rights and Remedies).
- Whether it can accommodate the buyer by amending the payment terms or granting a waiver (see Accommodating a Buyer Through Amendment or Waiver).
- Whether the threatened breach constitutes a potential anticipatory repudiation that triggers the aggrieved seller's right to demand adequate assurances (see Demanding Adequate Assurances and Terminating Under Anticipatory Repudiation).
Contractual Rights and Remedies
The seller should review the sales contract to determine available contractual rights and remedies for breach of payment obligations:
- Payment Terms. The seller should review the contract's payment terms, including whether the payment terms impose any late payment interest or other penalties for late payment. For more information on drafting and negotiating payment terms, see Standard Clause, General Contract Clauses: Payment Terms. For a sample late payment clause, see Standard Clause, General Contract Clauses: Late Payment.
- Indemnification. The seller should review the contract's indemnification provision to determine whether it can seek indemnification for direct claims, including a direct claim for payment breach or the cost of collection and attorneys' fees that may not be available under the Uniform Commercial Code (UCC) or the common law. For more information about drafting and negotiating indemnification provisions, see Practice Note, Indemnification Clauses in Commercial Contracts. For a sample indemnification provision, see Standard Clause, General Contract Clauses, Indemnification.
- Obligation to Negotiate. In addition to reviewing the contract's choice of law and choice of forum provision, the seller should review the contract to determine whether it contains any provisions that obligate the parties to resolve any disputes first through multi-tiered negotiation. For more information, see Standard Clause, General Contract Clauses, Alternative Dispute Resolution (Multi-tiered). For more information about choice of law and choice of forum, see Practice Note, Choice of Law and Choice of Forum: Key Issues.
- Termination Rights. The seller should determine what rights it may have to terminate the contract, as well as the consequences of termination. For more information about drafting and negotiating termination clauses, see Standard Clause, General Contract Clauses: Term and Termination. For a sample termination notice, see Standard Document, Notice of Termination for Cause.
- Cumulative versus Exclusive Remedies. The seller should review the contract to determine whether it can pursue cumulative remedies in addition to any contractual remedies. For more information about cumulative versus exclusive remedies, see Standard Clause, General Contract Clauses: Cumulative Remedies (with Exclusive Remedies Carve-out).
The seller must also consider the impact of any defenses the buyer may raise to non-payment, for example, the seller's:
- Failure to timely deliver the goods. For more information, see Practice Note, Delivery of Goods.
- Breach of product warranty. For more information, see Practice Notes, UCC Article 2 Express Warranties and UCC Article 2 Implied Warranties.
If the buyer has defenses to non-payment, the seller must consider whether the buyer has the right to set-off its payment obligations against the amount of its potential claim against the seller. For more information about set-off, see Practice Note, Setoff and Commercial Contracts.
Accommodating a Buyer Through Amendment or Waiver
Sellers almost always consider practical and business considerations together with their legal rights when determining the best response to a potential payment breach. For example, a seller may want to preserve a long-standing relationship with the potentially breaching buyer. If so, the seller may choose to negotiate an accommodation for the buyer by either:
- Permanently amending the payment terms of the contract to extend the payment terms, reduce any late payment fees or grant some other accommodation.
- Making a one-time dispensation by waiving or partially waiving the obligation to make payment.
Most commercial contracts include one or more provisions that address the means by which the contracting parties may:
- Amend or modify the agreement.
- Waive or otherwise consent to either or both parties' noncompliance.
The seller should review the sales contract and determine the documentation required to either amend the contract or grant a waiver.
For more information on drafting and negotiating an amendment clause, see Standard Clause, General Contract Clauses: Amendments. For a sample stand-alone amendment agreement, see Standard Document, Amendment Agreement. For more information on drafting and negotiating a waiver provision, see Standard Clause, General Contract Clauses: Waivers. For a sample form of waiver, see Standard Document, Waiver.
Demanding Adequate Assurances and Terminating Under Anticipatory Repudiation
Through anticipatory repudiation, both buyers and sellers can treat a counterparty’s words or actions that disavow the agreement as a present breach of contract despite the fact that the counterparty’s performance obligations are not yet mature. To have an actionable anticipatory repudiation, the repudiating party must have performed an overt act or dispatched a communication that both:
- Substantially impairs the value of the contract to the aggrieved party (see Practice Note, Anticipatory Repudiation and Adequate Assurances of Future Performance: Substantial Impairment Requirement).
- Does either of the following:
- renders performance reasonably impossible; or
- clearly demonstrates an intent to not perform or not continue to perform when performance is due under the contract.
(UCC § 2-609.)
Often times a repudiating buyer's actions or status will not satisfy these requirements but, nevertheless, make the seller insecure about the buyer’s ability to perform. A seller insecure about a buyer's ability to make proper payment can make a demand for adequate assurances of payment to the seller.
There are a number of important factors for a seller to consider before dispatching its demand for adequate assurances, including:
- How insecure must the seller be before it can demand adequate assurances from the buyer? Whether reasonable grounds exist is a fact-specific determination based on a number of factors, including:
- commercial standards of reasonableness;
- whether the allegedly repudiating buyer made a modification demand, for example, a refusal to pay unless the seller agrees to more favorable pricing or payment terms;
- facts extrinsic to the contract and relationship but which bear on a party’s ability to meet its obligations (for example, a buyer’s financial condition deteriorating and negatively impacting its ability to pay for the goods);
- whether the aggrieved seller has made a prior breach of contract; and
- whether the aggrieved seller has acted in good faith.
- What are the consequences of a buyer not providing adequate assurances of its ability to pay for the goods? A seller that does not receive adequate assurances from the buyer must consider the likely impact of exercising its rights, including the same options as other types of aggrieved parties under anticipatory repudiation, but should elect the option of:
- treating the contract as having been breached and resorting to available remedies such as the right to pursue an "action for the price" under UCC Section 2-709;
- ignoring the repudiation and waiting for performance; or
- urging a retraction of the repudiation.
For an overview on anticipatory repudiation and adequate assurances of future performance, see Practice Note, Anticipatory Repudiation and Adequate Assurances of Future Performance.
For a sample letter from a seller to a buyer demanding adequate assurances of performance, see Standard Document, Letter from Seller Demanding Adequate Assurances from Buyer. For a sample letter from a buyer responding to a seller's demand for adequate assurances, see Standard Document, Letter from Buyer Responding to Seller's Demand for Adequate Assurances.