(1) A party may terminate the contract where the failure of the other party to perform an obligation under the contract amounts to a fundamental non-performance.
(2) In determining whether a failure to perform an obligation amounts to a fundamental non-performance regard shall be had, in particular, to whether
(a) the non-performance substantially deprives the aggrieved party of what it was entitled to expect under the contract unless the other party did not foresee and could not reasonably have foreseen such result;
(b) strict compliance with the obligation which has not been performed is of essence under the contract;
(c) the non-performance is intentional or reckless;
(d) the non-performance gives the aggrieved party reason to believe that it cannot rely on the other party's future performance;
(e) the non-performing party will suffer disproportionate loss as a result of the preparation or performance if the contract is terminated.
(3) In the case of delay the aggrieved party may also terminate the contract if the other party fails to perform before the time allowed it under Article 7.1.5 has expired.
1. Termination even if non-performance is excused
The rules set out in this Section are intended to apply both to cases where the non-performing party is liable for the non-performance and to those where the non-performance is excused so that the aggrieved party can claim neither specific performance nor damages for non-performance.
1. A, a company located in country X, buys wine from B in country Y. The Government of country X subsequently imposes an embargo upon the import of agricultural products from country Y. Although the impediment cannot be attributed to A, B may terminate the contract.
2. Right to terminate the contract dependent on fundamental non-performance
Whether in a case of non-performance by one party the other party should have the right to terminate the contract depends upon the weighing of a number of considerations. On the one hand, performance may be so late or so defective that the aggrieved party cannot use it for its intended purpose, or the behaviour of the non-performing party may in other respects be such that the aggrieved party should be permitted to terminate the contract.
On the other hand, termination will often cause serious detriment to the non-performing party whose expenses in preparing and tendering performance may not be recovered.
For these reasons paragraph (1) of this Article provides that an aggrieved party may terminate the contract only if the non-performance of the other party is “fundamental”, i.e. material and not merely of minor importance. See also Articles 7.3.3. and 7.3.4.
3. Circumstances of significance in determining whether non-performance is fundamental
Paragraph (2) of this Article lists a number of circumstances which are relevant to the determination of whether, in a given case, failure to perform an obligation amounts to fundamental non-performance.
a. Non-performance substantially depriving the other party of its expectations
The first factor referred to in paragraph (2)(a) is that the non-performance is so fundamental that the aggrieved party is substantially deprived of what it was entitled to expect at the time of the conclusion of the contract.
2. On 1 May A contracts to deliver standard software before 15 May to B who has requested speedy delivery. If A tenders delivery on 15 June, B may refuse delivery and terminate the contract.
The aggrieved party cannot terminate the contract if the non-performing party can show that it did not foresee, and could not reasonably have foreseen, that the non-performance was fundamental for the other party.
3. A undertakes to remove waste from B’s site within thirty days without specifying the exact date of commencement. B fails to inform A that B has hired excavators at high cost to begin work on the site on 2 January. B cannot terminate its contract with A on the ground that A had not cleared the site on 2 January.
b. Strict performance of contract of essence
Paragraph (2)(b) looks not at the actual gravity of the non-performance but at the nature of the contractual obligation for which strict performance might be of essence. Such obligations of strict performance are not uncommon in commercial contracts. For example, in contracts for the sale of commodities the time of delivery is normally considered to be of the essence, and in a documentary credit transaction the documents tendered must conform strictly to the terms of the credit.
c. Intentional non-performance
Paragraph (2)(c) deals with the situation where the non-performance is intentional or reckless. It may, however, be contrary to good faith (see Article 1.7) to terminate a contract if the non-performance, even though committed intentionally, is insignificant.
d. No reliance on future performance
Under paragraph (2)(d) the fact that non-performance gives the aggrieved party reason to believe that it cannot rely on the other party’s future performance is of significance. If a party is to make its performance in instalments, and it is clear that a defect found in one of the earlier performances will be repeated in all performances, the aggrieved party may terminate the contract even if the defects in the early instalment would not of themselves justify termination.
Sometimes an intentional breach may show that a party cannot be trusted.
4. A, the agent of B, who is entitled to reimbursement for expenses, submits false vouchers to B. Although the amounts claimed are insignificant, B may treat A’s behaviour as a funda¬mental non-performance and terminate the agency contract.
e. Disproportionate loss
Paragraph (2)(e) deals with situations in which a party who fails to perform has relied on the contract and has prepared or tendered performance. In these cases regard is to be had to the extent to which that party suffers disproportionate loss if the non-performance is treated as fundamental. Non-performance is less likely to be treated as fundamental if it occurs late, after the preparation of performance, than if it occurs early before such preparation. Whether a performance tendered or rendered can be of any benefit to the non-performing party if it is refused or has to be returned to that party is also of relevance.
5. On 1 May A undertakes to deliver software which is to be produced specifically for B. It is agreed that delivery shall be made before 31 December. A tenders delivery on 31 January, at which time B still needs the software, which A cannot sell to other users. B may claim damages from A, but cannot terminate the contract.
4. Termination after Nachfrist
Paragraph (3) makes reference to Article 7.1.5, paragraph (3) of which provides that the aggrieved party may use the Nachfrist procedure to terminate a contract which may not otherwise be terminated in case of delay (see Comment 2 on Article 7.1.5).