The Red Sea supply chain crisis, how to deal with the corresponding legal risks

Since last month, it has been all about the Red Sea route freight rate, and the sea freight has become a mess.

To sum up, the problems can be broadly divided into three categories:

1. Is the Palestinian-Israeli war a force majeure and the contract can be refused?

2. Do shipping companies and freight forwarders have the right to increase prices?

3. As a shipper on one side of the trade, how to protect its rights if the consignment has been loaded at the port but has been temporarily pulled down?

Let's take a look at them one by one.

1. The Red Sea supply chain crisis

The Bab el-Mandeb Strait-Red Sea-Suez Canal is a transportation hub connecting Asia, Africa and Europe, and is also one of the busiest shipping routes in the world.

Since the outbreak of the Palestinian-Israeli war, Yemen's Houthi attacks on merchant ships passing through the Red Sea have actually begun at the end of October, and since then, the situation has gradually expanded.

Since December 15, four of the world's five largest container shipping companies, namely MSC, Maersk, CMA CGM and Hapag-Lloyd, have announced the suspension of Red Sea sailings, and some shipping companies have notified them to stop cargo handling and book new cabins.

It can be said that at this time on the Red Sea route, the increase in freight prices means that the cost of trade has surged, which is even worse for Chinese traders, especially the bulk trade exported to Europe.

2. Is it a force majeure and refusal to perform the contract?

As far as the trading side is concerned, is it reasonable for shipping companies and freight forwarders to set their freight rates on the ground? Is the Palestinian-Israeli war a force majeure force majeure and can shipping companies and freight forwarders refuse to perform their contracts? In addition, has the Red Sea supply chain crisis gone beyond commercial risks and reached the level of a change in circumstances?

Let's take a look at whether the Palestinian-Israeli war is a "force majeure". There are not many determinations of "force majeure" in our country's judicial practice, and the previous "Russia-Ukraine war" can be used as a reference.

In the case of Yueyang Kemet Company v. Tianjin Zhenhao Company, the defendant Zhenhao Company claimed to the court that it was not liable for breach of contract on the grounds that the delay in delivery was due to the shortage of gas supply caused by the Russia-Ukraine war, which was a force majeure.

According to Article 180 and Article 590, Paragraph 1 of the Civil Code, force majeure is an objective circumstance that cannot be foreseen, avoided or overcome, and the premise of force majeure as a cause of exemption is that there is a causal relationship between force majeure and the non-performance of civil obligations in the legal sense.

In this case, the court held that although the Russia-Ukraine war, as an international conflict, could not be avoided or overcome by mainland enterprise legal persons, the dispute over the Russian-Ukrainian war had a long history, and the dispute between Russia and Ukraine had developed into a war when the purchase and sale contract was signed, and Zhenhao Company had already known rather than unforeseen objective circumstances when signing the purchase and sale contract. In addition, according to the ascertained circumstances, the occurrence of the Russian-Ukrainian war did not lead to the failure to perform the "Purchase and Sale Contract" involved in the case, but only because the Russian-Ukrainian war caused the price of neon gas to rise sharply, Zhenhao Company believes that it is obviously unfair to continue to perform according to the "Purchase and Sale Contract" involved in the case. Therefore, the court held that in this case, the Russia-Ukraine war could not be used as a force majeure for Zhenhao's breach of contract.

It can be seen that in judicial practice, the court's determination of whether war is force majeure depends on whether the occurrence of the war was foreseeable at the time of signing the contract, and whether the impact of the war really caused the contract to be unable to be performed. Once the war was foreseeable at the time of the contract, or the impact of the war was only an increase in the price of the contract, not a failure to perform the contract, then the war will not be recognized as force majeure.

Therefore, the key point of advocating that the Palestinian-Israeli war is force majeure and exempting from liability for breach of contract lies in whether the Palestinian-Israeli conflict was foreseeable at the time of signing the contract, and whether the crisis in the Red Sea supply chain affected only the cost of performing the contract, or whether the contract could not be performed at all. Personally, I believe that the extent of the Palestinian-Israeli war has not shut down the supply chain, and its biggest problem has led to a tightening of the traffic volume of the Red Sea route and an increase in freight rates. Therefore, the Red Sea supply chain crisis did not reach the level of "force majeure".

Let's take a look at whether the logistics party in the supply chain has the right to increase the price, and whether the price increase is a [change of circumstances]?

3. Is it a [change of circumstances] and has the right to increase the price?

Article 533 of the Civil Code provides that "after the conclusion of a contract, if the basic conditions of the contract have undergone major changes that were unforeseeable by the parties at the time of conclusion of the contract and are not commercial risks, and the continued performance of the contract is obviously unfair to one of the parties, the adversely affected party may renegotiate with the other party; and paragraph 2 of the same article, which reads: "The people's court or arbitration institution shall modify or terminate the contract in accordance with the principle of fairness in light of the actual circumstances of the case." ”

It can be seen from the provisions of the Civil Code that in the event of a change of circumstances, the contract can be modified or terminated in accordance with the principle of equity. However, to meet the conditions of "change of circumstances", it is necessary to meet the three conditions of "unforeseeable at the time of conclusion of the contract", "not a commercial risk", and "the performance of the contract is obviously unfair to one party" in order to be a "change of circumstances".

Whether the temporary price increase of freight forwarding is a change of circumstances, in judicial practice, in the case of Moticale Company v. Tongyang Company, In the case of a dispute over a freight forwarding contract in Tonghai waters, the court held that on the issue of sea freight, the freight forwarder obtained the sea freight quotation from the superior agent, and then turned to report the price to the cargo owner to earn the difference, and did not engage in agency affairs by charging agency fees, and the freight forwarder did not declare that the price would rise and fall with the market price when quoting, so the freight forwarder's practice of raising the price to the cargo owner on the grounds that the previous quotation to the cargo owner exceeded the cost price was unreasonable. Although the order was placed on Christmas Eve, the increase in sea freight was an objective factor, but the price rise and fall during the special period was a general commercial risk and did not meet the standard of change of circumstances.

It can be seen from judicial practice that the court needs to consider whether the price increase of sea freight has been declared in advance to increase the price with the rise and fall of the market, whether it can be foreseen in advance, and whether it is a general commercial risk.

Therefore, the "Palestinian-Israeli war" is a change of situation, and the claim for an increase in sea freight prices should first depend on whether the freight forwarder declares that the price will change with the rise and fall of the market when quoting, and secondly, whether the impact of the "Palestinian-Israeli war" on the supply chain can be foreseen when the contract is concluded. As for whether it is a general commercial risk, I personally believe that the attack on a merchant ship in the "Palestinian-Israeli war" has gone beyond a general commercial risk.

The impact of the war on trade was largely based on the Paris Declaration of Naval Warfare, which was important in terms of naval blockade and economic sanctions.

The main provisions of the Declaration stipulate that enemy cargo carried on ships flying the flag of neutral nations shall not be taken except for contraband in time of war. Neutral goods loaded on ships flying enemy flags are not to be arrested, except for wartime contraband.

It can be seen from the Declaration that in an international armed conflict at sea, international practice is to tacitly refrain from capturing merchant ships of neutral countries, let alone missile attacks on ordinary merchant ships of neutral countries. Therefore, the attacks on merchant ships in the Palestinian-Israeli war have exceeded the scope of foreseeability and are far from ordinary commercial risks. The Red Sea route is extremely war-dangerous.

So, how should traders affected by the Red Sea supply chain crisis respond?

Fourth, how to protect the rights of the trading party

As a trading party, when encountering a freight forwarder who increases prices for various reasons, it is first necessary to see whether the freight forwarder declares that the price changes with the rise and fall of the market when quoting, and whether the price increase factor can be foreseen when signing the contract. Of course, in practice, more often than not, if you do not accept the price increase, you will be dumped, or the freight forwarder will refuse to transport.

It is recommended that in such a situation, if the goods need to be exported and transported to a foreign destination port and the cost of freight increases, it may be advisable to negotiate with the foreign buyer on the grounds of "change of circumstances" whether the cost can be increased. In addition, in the case of having to accept the freight rate of the ground price to continue transportation, after paying for the transportation, the freight forwarder can also be informed of the unreasonable increase in the cost, and the payment of the fee is a last resort to fulfill the delivery obligation, and then sue the court to demand the refund of the increased freight.

In practice, if the cargo owner asks the freight forwarder and the shipping company to continue to perform the contract at the original price, it is not realistic to continue to perform the contract through a court judgment unless the other party accepts. The court case filing, trial, judgment, first instance, and second instance are a litigation process of at least 6 months, but the time cannot afford to wait for a clear delivery date in international trade.

That's all for today's sharing.

Author: Tian Meng, lawyer of Shanghai Dabang Law Firm