When concluding a contract, parties usually read very carefully each and every provision of the future agreement that shall regulate their rights and obligations. They hire lawyers, they argue for the meaning of words and at the end of the negotiations they make compromise and sign a contract. Surprisingly, parties do not pay so much attention to the addendums that come later, while one word from an addendum could change the whole meaning of the contract and change the initial expectations of the parties.
Having said this, the aim of this work is to illustrate how important it is to carefully draft an addendum to a contract and to illustrate how the wording of the contract and the addendum shall be interpreted from the legal point of view.
- What is an addendum?
To begin with we shall clarify what exactly an addendum to a contract is and when do parties decide to conclude it. The addendum is a new agreement between the parties, thus, there shall be a meeting of minds (in the form of offer and acceptance) and signatures of the authorized representatives of the parties. The authority of the representatives of the parties shall be present at the time of the conclusion of the addendum. This means that an addendum might be signed by different person then the person that has signed the contract (e.g. new manager of the company or a person with explicit power of attorney etc.)
- Principle of Freedom of contract
Moreover, in the contract law the principle of freedom of contract exists, which means that the parties may conclude agreements on wide range of matters and on such terms as they wish. The freedom of contract includes the power of the parties to formulate individual terms that suit their needs in the best possible way. In other words, this principle gives right to the business people to decide freely to whom they will offer their goods or services and by whom they wish to be supplied, as well as the possibility for them freely to agree on the terms of individual transactions.
- Limitations to the Freedom of contract
One should not forget that the freedom of the contract is limited to certain mandatory law restrictions such as the requirement for form of specific contracts (property rights on immovable property shall be transferred through a notary deed; guarantee contract must be in written form; sale of a heritage shall be in writing with notarized signatures of the parties, sale with buy-back clause and sale with advance payment of the price shall be in writing etc.) There are also a number of possible exceptions to this principle related to economic sectors which the state may decide to exclude from open competition in the public interest (for example the concession contracts).
- Pacta sunt servanda
After its conclusion, the principle of freedom of contract is transformed into the principle pacta sunt servanda (obligation to comply with the agreed). A corollary of this principle is that the contract may be modified or terminated whenever the parties agree, namely that the provisions of a contract may be amended or supplemented by an addendum. Everything above said about the contract formation, including prerequisites for form, legal capacity of the parties and compliance with the mandatory provisions of the law shall be applied in full to the addendum.
In the Bulgarian law it is perceived that any amendments to the contract shall be done in the form of the main contract in order to be valid. Such provision is usually expressly added in the text of the contracts in order to safeguard that any amendment shall be done by mutual agreement of the parties and in writing (commonly used provisions such as: “Any modification of this Contract may be made only by a writing signed by both Parties”; “Alterations to the above indicated Time-schedule must be confirmed in writing by the other Party” etc.). It should be borne in mind that a party may be precluded by its conduct from asserting such a clause to the extent that the other party has reasonably acted in reliance on that conduct. In other words, if we assume that an investor sends an e-mail to the constructor that it wishes the doors of the building to be of glass instead of as initially agreed upon in the contract to be of wood. The constructor does not reply to the e-mail, however he orders wooden doors for the building. Evidently, the amendment to the initial terms is implicitly agreed by the other party, thus it may not later rely on non-performance or misconduct.
- Main functions of the Addendum
According to Black's Law Dictionary, an addendum is “A document attached to clarify or modify a part of a contract.” Evidently, the addendum has two main functions: to clarify or modify the initial will of the parties.
- Clarification of the contract
Considering the first function of the addendum: clarification of the main contract, it should be noted that the addendum is often used by the parties to avoid additional explanations in the main contract. Where the parties are willing to conclude a contract for services, they most likely would define the scope of those services in an addendum. Such approach is definitely useful in licensing agreements, franchise agreements etc. For example, in online gambling agreements, the parties usually list the set-up services, the technical support services, the price calculation formulas, the timeframe, etc. in addendum.
- Amendment of the contract
More controversial are situations where the parties are willing to amend their initial arrangements by concluding an addendum. In long-term contracts, the conclusion of addendum shall be recommended instead of concluding entirely new agreement. The main reason is that the parties are already accustomed with the way of performance of the main contract, they are familiar with the contact persons, the delivery and acceptance terms in the performance etc. Moreover, from the legal point of view, previous practices between the parties shall be considered where interpretation of the contract is needed.
- Extension of the duration of the contract
It is common practice to extend the term of the main agreement by concluding addendum. Extending the initial term of the contract by an addendum is relatively easy. The parties simply agree to amend one article of their main contract and agree that all other provisions of the main contract shall remain in force. In order to avoid possible misinterpretation, it would be better if the parties clearly indicate the initial wording of the provision and the amendment that shall become effective.
- Amendment of the scope of the services and the performance
The scope of the services of the contract may also be amended by an addendum, as well as the timeframe for performance of these services. This means, additional goods may be purchased with an addendum. The way of delivery and the way of payment in the addendum may differ from those agreed upon in the main contract. This raises serious concerns whether the new delivery mechanism or payment method should apply to the main contract, since this is new provision, negotiated by the parties. Clear wording is of great importance in such clauses, since relatively minor issues may become a bigger problem when applied to the main contract. To put it more concrete, the parties may conclude a contract for the sale of goods and the payment shall be effected by the buyer via a letter of credit, while the delivery of the goods (for example apples, spare parts for vehicles, glasses etc.) shall be done CIF, INCOTERMS 2010. In a few months, the buyer decides that it needs more goods from the same supplier and wishes to conclude an addendum instead of whole new contract that shall be drafted and reviewed once again by lawyers. Therefore, the parties conclude an addendum in terms that the seller shall deliver also tiers or plates for the byer whereas “the delivery shall be done EXW, Incoterms 2010”. The parties include the provision that all other provisions of the main contract shall apply. From the perspective of the buyer this means that the additional goods shall be delivered EXW. However, from the perspective of the seller, such clause may be interpreted in a way that the buyer finally agreed to minimum responsibility of the seller and wishes to receive all goods (not only those, subject to the addendum) under EXW clause. Considering this, the seller delivers the goods EXW and the buyer files a claim for fundamental breach of the contract and request for damages due to the fact the seller failed to perform its obligation to deliver the goods under CIF clause.
What is more, parties may agree in the addendum that the payment shall be effected in USD instead of EUR. Considering the rates of these monetary unis, the buyer would gladly and immediately pay to the seller in USD instead of EUR and would benefit from the whole situation, because the addendum does not expressly regulate whether all payments under the main contract and the addendum shall be done in USD and whether exchange rates should be applied.
Although such cases might seem a bit extraordinary and self-evident, they are not rare in the practice, especially where big economic interests are at stake. A fixed exchange rate, regulated in the main agreement and new exchange rate, fixed in the addendum might save or lead the one party to eminent insolvency in times of financial crisis or political insecurities. The clear wording of a contract and the addendum might also save the good business relationship between the parties instead of dooming them into long litigation proceedings.
- Inclusion of an arbitration clause
What is more important, an arbitration clause may be incorporated in an addendum. Once again the importance of the addendum formation shall be noted since an arbitration clause to the main contract may not give the arbitral tribunal competence to rule on matters that are clearly subject to the addendum. On the other hand, a perfect arbitration clause, whiteout stipulation that it shall apply to all disputes between the parties that may arise also from the main contract, does not authorize the arbitral tribunal to render an award, based on facts of the main agreement. Clear illustration of such confusion is an appeal case 4A_452/2007 of First Civil Law Division, Zurich against an arbitral award issued in Zurich on September 28, 2008. The Arbitral tribunal, composed by Pierre A. Karrer, Daniel Girsberger and Daniel Wehrli, chairman denied jurisdiction in part and this was the main object of the appeal.
To briefly summarize the facts, it should be noted that the Appellant and Respondent entered into an Exclusive agreement for the delivery of Ferro Titanium (ELV 2000). The Parties also entered into an additional undated exclusive agreement (ELV 2004), which came into force on January 1, 2004. Both contracts contained the following clause among others: “The Parties will endeavor to settle any dispute by consultations. Should this be impossible, the forum shall be Zurich.” The Parties concluded five agreements referred to as Contracts for successive deliveries which incorporated the following dispute resolution clause: “All disputes and differences of opinion which arise from the performance of the contract shall be subject to the jurisdiction of the International Commercial Arbitration Court at the Chamber of Commerce and Industry of the Russian Federation (ICAC) pursuant to its Rules, to the exclusion of the normal jurisdiction.”. On July 18, 2006, the Parties agreed upon Addendum No. 2 to the Exclusive agreement of October 23, 2000 and of January 1, 2004, which on the other hand stipulated that: “Disputes, differences of opinion or claims arising from or in connection with this contract, including as to its validity, lack of validity, breach or termination, shall be decided by an Arbitral Tribunal pursuant to the International Rules of Arbitration of the Swiss Chamber of Commerce.”
In the light of the current analysis it should be underlined that the arbitral tribunal decided that the analysis of this wording showed that Addendum No. 2 made no mention of the Contracts for successive deliveries and gave no hint that the arbitration clause would also be applicable to disputes arising from the Contracts for successive deliveries. Therefore, the Tribunal concluded that the arbitration agreement in Addendum No. 2 specifically substituted the jurisdiction clause of the Exclusive agreements ELV 2000 and ELV 2004. The main argument of the Tribunal was that if the Parties had also intended to substitute the arbitration clauses already existing in the Contracts for successive deliveries, they could have stated this without great commitment in Addendum No. 2. Additionally, the Tribunal perceived that even before Addendum No. 2 was concluded, the jurisdiction clause contained in the Exclusive agreements in favor of the Zurich courts could have coexisted with the arbitral clauses in favor of the ICAC in Moscow contained in the Contracts for successive deliveries. Following this line of interpretation, the Tribunal finally decided that the arbitration clause in Addendum No2 did not substitute the other arbitration agreements in the Contracts for successive deliveries.
It should be noted that the wording “or in connection with this contract” may well have referred to other contracts. However, the Tribunal adopted the view that the arbitration clauses formulated in this way also include disputes as to the entry into force or the validity of the contract as well as claims resulting from the termination of the contract or claims based on illicit acts. The Tribunal concluded that neither the wording nor the genesis of Addendum No. 2 lead to a conclusion that the Contracts for successive deliveries should be included in the scope of the clause.
In the case at hand, it is noticeable how important the clear wording is and how many disputes may arise from the conclusion of Addendum to a contract without clear reference to the future of specific provisions that might be affected by the Addendum.
- Grounds for confusion
As illustrated by the Zurich case, it is not uncommon that a dispute regarding the interpretation and the scope of the addendum may arise. Where the wording of the contract and/or of the addendum is ambiguous, both of the parties would try to interpret the facts differently and to substantiate their positions. In the Zurich case, the Appellate insisted that the arbitration clause in the Addendum encompassed all disputes between the parties related to all of their contracts, since the clause in the Addendum was in favor of the Appellate. The Respondent argued successfully that the scope of the clause is limited.
In the previous example with the sale of goods, the seller would insist that the EXW delivery clause applies to the whole contract, thus his performance was correct and the buyer is not entitled to any damages. On the other hand, the buyer may claim that the payment obligation for the goods was agreed to be in USD and not EUR and he paid the goods in full, whereas the seller has no claim for additional payment of the price.
- Interpretation of the Addendum
Evidently, where a dispute arises, the will of the parties shall be interpreted. It is clear that both parties would try substantiating their positions by providing evidence that there was a meeting of minds precisely in the sense of the clause that better suits their needs. How shall the courts proceed in such situation? How shall they interpret the facts and which position should be safeguarded in such situations? Preference should be given to the party that proposed the clause or the party that is deprived of that clause? In the following lines we shall discuss the main principles that regulate the interpretation and the clarification of the Addendum.
- Bulgarian law
According to the Bulgarian law, namely Art.20 of the Bulgarian Law on Obligations and Contracts, “The actual common will of the parties shall be sought in interpreting contracts. The individual provisions shall be interpreted in their interrelation and each one of them shall be interpreted in the meaning ensuing from the contract as a whole, taking into account the objective of the contract, usage and good faith.”
- International law
When the relationship between the parties is international (for example the seller is a company, incorporated under the laws of Germany and the buyer is a company, registered in Bulgaria), then the will of the parties shall be interpreted in accordance with the explicit choice of law, made by the parties in the contract or in the absence of such explicit choice of law – in accordance with the private international law provisions which would lead to some national law. For the purpose of this article, we would like to draw your attention to the UNIDROIT Principles for International Commercial Contracts, 2010 that may be used as a mean of interpreting and supplementing international uniform law instruments. Where a question concerning the precise meaning of the individual provisions or at the presence of gaps, the principles may be used as guidance and shall serve the international private law as well as the domestic law. Such approach is expressly sanctioned in Art. 7 of the 1980 UN Convention on Contracts for the International Sale of Goods.
- Importance of established practices
First of all, Art.1.9 of the UNIDROIT principles stipulates that the parties are bound by any usage to which they have agreed upon and by practices which they have established between themselves. In other words, in the abovementioned example, if the seller and the buyer always include CIF clause in their contracts for the sale of goods, the EXW in the addendum would most likely be related only to the goods agreed upon in the addendum and would not extend to the goods, subject to the main contract.
- Reasonable person standard
In addition, Art. 4.1 of the UNIDROIT principles further establishes that in determining the meaning to be attached to the terms of a contract, preference is to be given to the intention common to the parties and provided that such an intention cannot be established, the contract shall be interpreted according to the meaning that reasonable persons of the same kind as the parties would give to it in the same circumstances. The practical importance of this principle should not be overestimated due to the fact that in commercial transactions parties often use language that is not part of their everyday business communication and when a dispute arises it would be extremely difficult to prove the actual common intention of the parties at the time of the conclusion of the contract. The test for the reasonable person shall be applied not in general but to a same business category person (with same education, profession, technical skills, business position, etc.) and under the same circumstances such as end of business week before vacation, pressure due to numerous invoices, political crisis in the country, substantial development of certain business that may influence the economic etc., but also preliminary negotiations between the parties, established practices between them, the correspondence after the conclusion of the contract, the nature and the purpose of the contract, the meaning commonly given to terms and expressions in the trade concerned, usages etc.
- Other criteria
There are other criteria that could also be applied in order to clarify certain provision of the contract in the light of eventual non-performance of a party, for example: reference to contract or statement as a whole, the principle that all terms have to be given effect, the contra proferentem rule, the linguistic discrepancies rule and supplying an omitted term.
Having said all these, it becomes clear how important and difficult is to draft a contract in a matter that would prevent possible misinterpretation and at least provide the parties with some clearance as to their rights and obligations. This is even of greater importance with reference to an addendum that most likely would amount to three sentences that may amend, modify or completely destroy a perfect contract. The abovementioned principles serve well as guidance to the interpretation of the will of the parties, however in order to avoid possible disputes, the clauses of the addendum, as well as those of the contract shall be very precise and concrete.