Sunday, July 17, 2011

What happens when laws that impact the contract change?

For agreements that are short in duration there usually isn't a problem when laws change. Most of the time there is advance notice of the new law and a time after it is passed before it takes effect so the parties can take that into account in the agreement's terms and pricing. The longer the duration of the contract the more a change in a law can have an impact.  

The simplest situation would be if a law make performance under the contract illegal, in which case performance would be excused. Most of the time changes in laws may require a change to the product or service or may add an additional cost to performing the work.  Buyers may attempt to manage or mitigate cost of change to laws through a warranty that "the product or service complies with applicable laws". In doing that and having the warranty be in effect during the term of the agreement, every time there is a change to the law the supplier is required to comply with those changes.  In that approach the cost of any changes would be borne by the supplier.

In most negotiations regarding complying with applicable law and changes or additions to those laws, Suppliers will be concerned with two things. First is what location or locations does this apply to. The broader the list of locations, the more concerned the Supplier will be because changes could be frequent and they simply may not have the resources to keep track or all the different locations to make sure they comply. The second and more common issue is being able to recover the cost of impact the changed law had on their cost structure.

You basically have two options with these situation. You can refuse to allow price adjustments for changed laws in which the Supplier, if they were expecting a potential change, would include a contingency amount in their pricing to cover the risk. The problems with that approach is Buyers seldom win. If the law is passed and the costs are incurred, the supplier pays for those costs out of the contingency. If it isn't passed, the supplier keeps the contingency money. The second option is you can treat changes to applicable laws as a factor that will allow for a price adjustment. In that case its closer to other types of adjustments that the contract may provide for. For example if the contract involves union labor and the union contract will expire during the term, the parties may agree to make adjustments based upon the change in the rates and the amount of work remaining. 

Adjusting the price may be the equitable thing to do especially if the changed law would have impacted all other potential suppliers and if you are able to pass along costs of such changes to your customers. For example, you could structure any commitment to price adjustments to apply to only new bids or proposals or when you are able to re-negotiate price with existing customers. In most cases agreeing to adjust pricing because of changed laws won't be a competitive burden, as the competition will have been similarly impacted. For example, when the EEU enacted their standards on the use of hazardous substances (RoHS) in certain products, all companies needed to comply.

For any price adjustments I would want the commitment require that they be actual, reasonable and be solely required to comply with the law. I would also place the burden of proof on the Supplier to prove what the impact of the change was and provide me with reasonable evidence to substantiate it just like any other claim. Show me what is was before and what it will be now and justify the difference. In turn, I would commit to promptly review the claims and be reasonable in my review of the information they provide.



  1. Thank you for such a great insight.


  2. if any one can answer this...for example there was a contract act, 1954. A contract was concluded in 1957 intended to work for period of 100 years, there was no mention of governing laws. But in the year 2000 the previous law on contract was repealed by the contract act, 2000. A dispute between the party occurred in the year 2002. So, which Act will be the governing law of this contract concluded in the year 1957. Nirab, Nepal

  3. Nirab,
    Under the law, Courts will try to comply with the stated intent of the parties. This means that if a dispute is raised in one location and the parties agreed that the laws of another location shall apply, they will interpret it in accordance with the laws of that other location. That is done in accordance with the legal principle called "conflict of Laws"

    Since no governing law was specified, the contract would be interpreted by the laws of the jurisdiction where the dispute was brought to court. Whether the two contract acts that you refer to apply to the dispute will depend upon whether they apply to that jurisdiction.

    If they do apply, you then have the issue of which has priority in the event of a conflict between the two. If the 2000 contract act includes mandatory requirements, the parties must comply with. they cannot violate the law and would need to comply with the latter law.

    My opinion on interpretation is position is in the event of a conflict between the older law and the newer law that requires mandatory compliance, precedence would always be given to the later document in time. If there was no conflict, or the implementation wasn't mandatory, a court would normally interpret it in accordance with the law that was in effect at the time it was executed.

  4. WOW. Great post - really insightful. Im currently doing some research on case law or bills in parliament relating to contracts entered with government with a clause which compels one party to comply with the "changing policies and laws" from time to time.

    Im trying to see if the government would take some responsibility if the change in law would be detrmiental to the other party yet they still have to comply with it and fulfill the contract...or if the contract can be terminated on these grounds and if so, would the Australian government pay for early termination of the contract due to the change in law?

    What are your thoughts on this?

  5. Since the parties must comply with law, normally you would not have a termination, there would be either an adjustment (price/time for performance) if the work could be completed. If it made performance impossible, the party who is prevented from performance would be excused from performance (impossibility of performance). That is different from an early termination as termination charges would not apply. As to the question of the Government paying, unless the Government of Australia works substantially faster than in other locations, you normally have advance notice and debates on potential changes and the government would look to the contracting parties to manage it.