Further clarifications on sudden termination of established business relationships

CA Paris, 6 June 2019, No. 17/00683; Cass. Com., 3 July 2019, No. 18-10580; Cass. Com., 25 September 2019, No. 18-11112; Cass. Com., 2 October 2019, No. 18-15676.

The sudden termination of established business relationships (former Article L.442-6, I, 5° of the Commercial Code, now Article L.442-1 II of the Commercial Code) has been the subject of abundant litigation for many years. In recent months, the Court of Cassation and the Paris Court of Appeal have once again enriched the matter. 

First, with regard to the scope of application of the provisions of former Article L.442-6, I, 5° of the Commercial Code, the Court of Cassation ruled, in a decision dated 2 October 2019, that this text applied to the manager-agent agreement (Cass. Com., 2 October 2019, No. 18-15676). 

The Court of Cassation takes the opposite view to the position adopted by the Paris Court of Appeal, which had excluded the application of this text to the manager-agent/principal because of specific legal provisions applicable to the termination of such a contract (see, for example, CA Paris, 12 December 2018, No. 16/22323). 

The Paris Court of Appeal was inspired by precedents from the Court of cassation in the area of commercial agency (Cass. Com., 18 October 2017, No. 15-19531).

The Court of Cassation adopted a different line of argument on the grounds that Article L.146-4 of the Commercial Code provides for the payment of compensation in the event of termination of the contract without serious fault but does not “specify in any way the length of the notice period to be observed” (unlike the provisions relating to commercial agency). The provisions relating to sudden termination of established business relationships are therefore applicable to the manager-agent/principal relationship. 

It may be regretted that the principal be obliged to compensate the manager-agent and, at the same time, give the latter a notice period depending on the length of the commercial relationship (which may last for a while). Hence, another intervention from the legislator to solve this issue appears necessary. 

Then, regarding the accountability of the termination, it is sometimes complicated to identify the author of the termination.

In the decisions dated of 6 June and 3 July 2019, the Paris Court of Appeal and the Court of Cassation refused to impute the breach to either party in view of the lack of agreement on the evolution of financial terms (Paris Court of Appeal, 6 June 2019, No. 17/00683; Cass. Com. 3 July 2019, No. 18-10580). 

However, not all disagreement cases will exempt the parties from giving reasonable notice: it is clear from a review of these decisions that the judges performed a factual analysis to determine whether the negotiations were conducted in good faith, whether the disagreements were real and whether there was no accountability to either party.  

Finally, with regard to procedural considerations, in a decision dated 25 September 2019, the Court of Cassation ruled that when a victim of abrupt termination sues its co-contractor on a dual basis of contractual and tort claims, the judge cannot base the inadmissibility of the claim on the principle according to which contractual and extra-contractual liability cannot be cumulated but must determine the liability regime applicable to the case (Cass. Com., 25 September 2019, No. 18-11112).

This case is also an opportunity to recall that the notice period, in addition to be of a reasonable duration, must also be effective, i.e. “executed in accordance with the normal previous conditions” (see also Cass. Com., 10 February 2015, No. 13-26414).

These rulings are a further reminder of the need to be prudent with regard to termination of established commercial relationships.

Authors: Fanny Levy and Grégoire Toulouse

Significant Imbalance: the importance of the evidence of the lack of effective negotiation

Cass. Com., 20 November 2019, No. 18-12823

The origin of this ruling is to be found in an investigation carried out by the French Minister of Economy to check the compliance of the food retail chains’ commercial practices with the requirements of the law of 4 August 2008 on the modernisation of the economy.

Taking the view that some clauses contained in the agreements signed between a distributor and its suppliers were contrary to the provisions of Article L.442-6, I, 2° of the French Commercial Code (in its version prior to that resulting from Decree No. 2019-359 of 24 April 2019), which prohibits the imposition of a significant imbalance between the parties’ respective rights and obligations, the Minister served a writ on this distributor on the ground of this article.

According to the Minister, the significant imbalance was characterised by the existence of a standard contract imposed on suppliers and containing non-reciprocal obligations. Furthermore, according to the Minister, the attempted submission resulted from the context of an asymmetrical balance of power in favour of the distributor in a structurally unbalanced market.

It is on the burden of proof of the submission (or attempted submission), required by Article L.442-6, I, 2° of the Commercial Code, that the debate was focused.

The Paris Court of Appeal rejected the Minister’s claims, considering that the Minister had failed to prove the existence of a submission or attempted submission by the distributor.

The Minister appealed this decision and argued that the Court of Appeal had reversed the burden of proof, given that he had demonstrated the existence of an asymmetry in the balance of power between the distributor and the supplier and that the standard agreement proposed to all suppliers contained at least one clause that was significantly unbalanced. According to the Minister, it was therefore up to the distributor to show that it had not abused its position of strength and allowed its suppliers to negotiate the disputed clauses.

The Court of Cassation rejected this argument and upheld the reasoning of the Court of Appeal. According to the Court, while the overall structure of the mass retail market may constitute an indication of unbalanced power relations, this is not enough, in itself, to demonstrate the condition of submission or attempted submission, as the analysis cannot be made in abstracto. It is therefore necessary that other factors characterise this condition.

With regard to the presence of unbalanced clauses in the standard contract, the Court notes that it is also not sufficient, in itself, to demonstrate the existence of a submission or attempted submission, which implies “the demonstration of the absence of effective negotiation of the offending clauses”.
In the present case, one of the suppliers had been able to negotiate one of the disputed clauses, while another had chosen not to denounce that clause, which, moreover, had not been applied. Furthermore, the distributor had shown that two other suppliers had also been able to negotiate different clauses in the contract.

The Court of Cassation stresses the importance of carrying out an in concreto analysis, by referring to the “factual circumstances under which the contracts had been concluded”. It is therefore necessary to analyse in detail the reality of the negotiation, in order to determine whether or not it was effective (in this sense, see also Cass. Com., 3 March 2015, No. 14-10907).

Authors: Noémie Vincent and Grégoire Toulouse

A forfeiture clause may be reclassified as a penalty clause

Cass. Com., 25 September 2019, No. 18-14427

In certain situations of termination of a fixed-term contract before the end of its term, forfeiture clauses or penalty clauses may oblige one party to pay the other party a certain sum of money. However, the purpose of such clauses and their applicable regimes are different.

On the one hand, the purpose of the penalty clause is to deter non-performance and to provide for a lump-sum compensation for the contracting party suffering non-performance. It is therefore of a comminatory and compensatory nature. Pursuant to article 1231-5 of the Civil Code, a judge deciding on the application of such a clause may, even on his own initiative, moderate the amount of the penalty provided by the clause, if he considers the amount to be obviously excessive.

On the other hand, the purpose of the forfeiture clause is to offer a party the option of unilaterally releasing itself from its commitments, generally in return for the payment of a lump sum, in the absence of any non-performance (Cass. Com., 22 January 2013, No. 11-27293). Neither statutory nor case law do allow the judge to moderate the amount due under such a clause (Cass. Com., 18 January 2011, No. 09-16863; Cass. Com., 2 April 1996, No. 94-13433).

The difference of regimes between these two clauses (due, in particular, to the fact that only the penalty clause can be moderated by the intervention of the judge) has led litigants who were opposed to a forfeiture clause to ask a judge for its reclassification as a penalty clause. To justify this request, some litigants have argued that the cost of the right of withdrawal granted by the forfeiture clause was so high that it was similar in its effects to a penalty detering the exercise of such a right and, consequently, forcing the continuation of the contract.

The First Civil Chamber of the Court of Cassation seemed to refuse requests for reclassification based on such arguments. In a decision dated 15 November 2005, it decided that “the early termination clause, authorising [a party] to terminate the contract at any time in return for the payment of a lump-sum, can be analysed as an option to withdraw from the contract, so that it did not have the nature of a penalty clause, regardless of whether it was equivalent to the amount of the sums that should have been received [by the other party] if the contract had been terminated” (Cass. Civ. 1e, 15 November 2005, No. 03-12795).

However, in a decision dated 5 December 2018, the Commercial Chamber of the Court of Cassation took a different position by confirming a reclassification decided by the Colmar Court of Appeal. The Court decided that the Euros 450,000 penalty laid down in the clause was “sufficiently high to demonstrate that the parties intended it to be of a comminatory nature in order to deter the [co-contracting party] from terminating the contractual relations before the end of the term”. The Court of Cassation concluded that the Court of Appeal “pointed out that the purpose of this clause was to oblige the [contracting party] to perform the contract until the end of its term and to assess the loss suffered by the company on a lump-sum basis”, so that the clause at stake should be analysed “as a penalty clause and not as a forfeiture clause” (Cass. Com., 5 December 2018, No. 17-22.346).

This approach was not followed by the Paris Court of Appeal, which, in a decision dated September 5, 2019, refused to reclassify the clauses of different contracts opposed to a party providing that the latter would be required, in the event of early termination, to pay compensation equal to 70% or 100% (depending on the contract) of the average monthly amount of the invoices issued over the preceding twelve months, multiplied by the number of months remaining until the expiry of the contract. The Paris Court of Appeal decided that: “[The party] who initiated the early termination of fixed-term contracts, [...] also the sole originator of such termination, vainly claims that the disputed early termination clause opposed to him by [the other party] constitutes a penalty clause. The purpose of that clause is not, in the case at stake, to penalise the customer for its failure to fulfil its obligations, but is intended to maintain the financial equilibrium of fixed-term contracts in the event of early termination of those contracts which is not justified by serious breaches by the service provider. This clause does not constitute a penalty within the meaning of Article 1152 [now 1231-5] of the Civil Code, is not subject to reduction and must be applied as provided for in the general terms and conditions for all disputed contracts” (CA Paris, 5 September 2019, No. 17/10883).

However, less than three weeks later, the Commercial Chamber of the Court of Cassation had to deal with another judgment of the Paris Court concerning a similar reclassification issue and contractual clause. The clause provided that “in all cases of termination before the expiry of the initial or renewed periods, the termination would entail [...] the payment by the client of compensation corresponding to 100% of the value of the average monthly [services] from the date of entry into force of the service contract until its early termination date, multiplied by the number of months remaining between the date of termination and the normal expiry date”. The Paris Court of Appeal had considered that this clause made it possible to compensate for the imbalance caused by early termination and decided that it was a forfeiture clause, and not a penalty clause. The Court of Cassation reversed this decision, holding that “the disputed clause stipulated an indemnity in the event of early termination on the part of the client, the amount of which was equivalent to the price due in the event of performance of the contract until the end of its term and was therefore of a comminatory nature, its purpose being to compel [the contracting party to] perform the contract until that date, so that it constituted a penalty clause and not a forfeiture clause” (Cass. Com., 25 September 2019, No. 18-14427).

This decision seems to confirm a turnaround in case law.

In order to minimise the risk of reclassification of a forfeiture clause as a penalty clause likely to lead to a reduction in the amount of the termination compensation determined in the contract, additional precautions should now be taken when drafting forfeiture clauses and determining the price of the forfeit.

Authors: Axel Ferly and Grégoire Toulouse

Termination of a distribution agreement to the exclusive fault of the manufacturer for failure to deliver 12% of the distributor’s orders.

Cass. Com., 25 September 2019, No. 17-22035

According to Article 1224 of the Civil Code, the termination of a contract may either result:

• From the application of a termination clause stipulated in the contract,
• From the notification of the material breach to the defaulting party in the absence of termination clause but in case of sufficiently serious non-performance by one party, or
• From a court decision.

The decision of the Commercial Chamber of the Court of Cassation at stake is an interesting example of the assessment by courts of the sufficiently serious nature of a non-performance justifying the termination of the contract to the exclusive fault of the supplier, applied to distribution agreements. 

In the case at stake, a distributor and a manufacturer had entered into an exclusive distribution agreement. As the manufacturer was unable to manufacture and deliver nearly 12% of the goods ordered and paid for by the distributor, the distributor sued the manufacturer for termination of the contract at its exclusive fault and for payment of damages. 

The Court of Appeal welcomed the distributor’s claim, finding, among other things, that the failure to deliver nearly 12% of the goods paid for was not “trivial” and necessarily placed the distributor in serious difficulty with respect to its own customers.

Following an appeal lodged by the manufacturer, the Court of Cassation recalled that the assessment of the seriousness of the misconduct was within the sovereign power of the lower court and considered that the Court of Appeal, in ruling that the manufacturer “had not been able to ensure the production and delivery of 12% of the goods paid for, without invoking force majeure, and that this could only place the other party in serious difficulty with respect to its own customers”, had legally justified its decision. 

It should be noted that the manufacturer had not invoked force majeure to justify the impossibility to fulfill its manufacturing and delivery obligations, even though it was alleged in its documents that floods in Thailand had seriously affected its production sites. 

The characterisation of force majeure could have exempted the manufacturer from liability and thus from the obligation to compensate the distributor for the damage suffered by the distributor but would not have precluded the recognition of such termination by the court. Indeed, case law consistently states that “the termination of a synallagmatic contract may be ordered in the event of non-performance of its obligations by one of the parties, even if such non-performance is not its fault, and whatever the reason which prevented that party from fulfilling its commitments, even if that impediment resulted from the act of a third party or from force majeure” (Cass. Civ. 1st, 2 June 1982, n°81-10158; Cass. Com., 9 March 1999, n°97-11810). 

Non-performance, even if justified and not faulty, may consequently lead to the termination of the contract being pronounced where this non-performance is sufficiently serious. The ruling rendered on 25 September 2019 by the Court of Cassation is an interesting illustration of the flexible assessment that courts of first instance may have regarding the concept of “sufficiently serious non-performance”. 

Courts make this assessment on a case-by-case basis, in consideration of all the circumstances of the case. 

In the case at stake, the Court of Appeal had taken into account the economic difficulties encountered by the distributor due to the loss of customers, the tightening of the market and the low margins achieved by the distributor. 

Authors: Floriane Cadio de Kermainguy and Grégoire Toulouse