Legal FAQs: Are there standard clauses that might protect parties from euro problems?
A PLC Commercial "Legal FAQs" article on whether there are any standard clauses that might protect the parties to a cross-border contract if the euro collapses, or if one or more countries exit the euro. free access
This month's "Legal FAQs" article considers whether there might be any standard clauses that could be included in a cross-border supply contract in order to protect the parties from partial or complete break-up of the euro.Close speedread
I'm drafting a cross-border supply contract that provides for payment to be made in euros. Are there any standard clauses that I can put in the contract to protect the supplier from the possible break-up of the euro, or the exit of one or more countries from the eurozone?
Unfortunately, it is extremely difficult to suggest drafting to cover all the situations that might occur, given the uncertainty of the political and economic background as well as the variety of situations with which businesses have to deal. At this stage of the eurozone crisis, we may, however, identify some issues for you to consider. With this in mind, in this article we:
Identify some of the variable factors and, to the extent possible, draw reasonable assumptions.
Using hypothetical contracts between English and Greek companies, illustrate various issues that we think the parties may wish to consider.
Based on our assumptions, suggest some drafting points for consideration, and some wording for a clause redenominating the currency in which payment is to be made.
Our thoughts apply only to straightforward commercial contracts for the cross-border supply of goods or services involving two EU jurisdictions, and only for future contracts in the course of negotiation (not existing contracts). More sophisticated considerations will apply to loan or eurobond agreements, and more complicated analyses will apply to existing contracts, neither of which we will discuss.
Some variable factors
No one needs to be reminded of the political and economic uncertainties, but these may be even more extensive than appears at first sight. The manner in which a country abandons the eurozone might have a significant effect on the legal issues: for example, whether the exit was from the EU itself by agreement within the EU, or unilaterally from the eurozone and in breach of the Treaty on the Functioning of the European Union (TFEU), and also whether or not a country exiting the EU might introduce exchange control after exit. Another complicating factor is that a country exiting the EU might pass a law establishing monetary sovereignty and re-denominating all debts owed by, and to, its nationals from euros into a new currency.
In addition to variable political and economic factors, the drafting of appropriate clauses will also depend on the particular facts of each commercial situation, for example:
Are you advising a supplier/payee or customer/payer?
In what countries are the parties located? Is the country of one of the parties a possible candidate for exit from the eurozone?
Can the parties reach agreement on the questions of governing law, jurisdiction, dispute settlement mechanisms and the jurisdiction in which payment is to be made?
What is the term of the contract?
What does each party consider to be the likely economic scenario over the relevant time period (bearing in mind that, although a currency may collapse over a prolonged period, the currency fluctuations over a shorter but relevant contract term might be against the general trend, for example, the euro might rally if a particular state left the European Monetary Union).
In which currency might a supplier incur most of its costs?
Despite the variety of possible developments, it is probably safe to make a limited number of assumptions:
It is unlikely (but not impossible) that the euro will disappear completely. If this is thought to be likely, the parties might want to chose a currency substitution clause as discussed below.
It is possible that one or more countries might exit the eurozone or the EU and adopt a new currency, but that would not necessarily prevent the operation of contracts denominated in euros. If the euro does not disappear, contracts clearly denominated in euros should still be workable, in the absence of statutory intervention, and provided the parties have successfully avoided the application of the principle of lex monetae, if that is a complication (as to which, see below). The fact that a contract is still workable might nevertheless give rise to adverse financial consequences for one of the parties.
The new currency would almost certainly be worth less against sterling than the euro.
The main financial hardship is likely to be suffered by businesses located in a country that exits the eurozone, and the most difficult issues are likely to arise in connection with contracts involving businesses in those countries with the greatest economic difficulties, such as Greece.
The lex monetae and avoidance of automatic redenomination
You need to be aware of the possible application of the lex monetae principle to a contract. Under this principle, where a contract contains a reference to a particular national currency, the courts might imply a choice of the law of that country to determine the identification of that currency if there were a change in circumstances. This could be the case regardless of the stated governing law of the contract.
This is only a brief summary of the principle, but its potential application is a danger of which you should be aware. It would seem that if party wishes to be more sure that the currency of a contract should remain in euros, regardless of the lex monetae principle, it should include words which make clear, for example, that the currency of the contract will remain in euros regardless of whether the country of payment remains within the European Monetary Union or not.
Example of lex monetae in action
Where a contract governed by English law requires payment in euros to the bank account of a Greek company in Athens, there is a possibility that Greek law will be held to determine matters relating to the currency of payment. If, under Greek law, the currency of Greece were to change from euros to new drachma, new drachma could be considered to be the currency of payment under such English law contract.
To illustrate various issues, we have used hypothetical contracts between English and Greek companies. We will consider several scenarios that might occur if, after a contract currently being negotiated is concluded, Greece were to exit the euro and replace it with a new drachma that was worth less against the pound than the euro. We refer to this event as "Conversion". In considering these scenarios, it is worth recalling that, as noted in recital 7 to Council Regulation (EC) 1103/97 on certain provisions relating to the introduction of the euro, "it is a generally accepted principle of law that the continuity of contracts and other legal instruments is not affected by the introduction of a new currency". Although we can find no express confirmation of this, in our view, this principle should be as applicable to the interpretation of a contract after Conversion as it was on the introduction of the euro.
Scenario 1a: A British company wants to set up a long-term contract for the supply by a Greek company of hotel space in Greece.
If the prices are fixed in euros (which is likely), and there is no lex monetae uncertainty, then, after Conversion, the British company will have the usual currency fluctuation risk against the euro, which it would have had to deal with anyway, perhaps by buying hedging contracts. However, the main concern of the British company after Conversion might be that it would be locked into paying euro rates when potential customers for the summer of 2012 would be tempted to buy holidays directly from Greek companies in the low value drachma. (We understand from news reports that the German travel company Tui is apparently seeking a conversion clause in its new contracts with Greek travel operators.)
It is unlikely that the Greek company will suffer any loss, because it will be receiving payments in a currency that is likely to be stronger than the drachma. (Note also that the exit of Greece from the eurozone would probably cause a rise in the value of the euro.) The position would be different if the contract were governed by Greek law, and the government of Greece passed a law that stated that, after Conversion, all contracts governed by Greek law and denominated in euros shall be deemed to be denominated in new drachma, at a stipulated exchange rate.
Scenario 1b: A British company wants to set up a long-term contract for the supply by a Greek company of hotel space in Greece.
If the prices are fixed in pounds (which is probably unlikely), and there is no lex monetae uncertainty, then the British company will receive no unpleasant surprises after Conversion, because it will simply continue to pay the Greek company in pounds. But again, the concern of the British company might be that it would be locked into paying in pounds when potential customers for the summer of 2012 would presumably have the opportunity to buy holidays directly from Greek companies in the low value new drachma.
The Greek company will not suffer any loss as a result of Conversion, as it will continue to receive payment in a currency that will no doubt be relatively "hard" as against the new drachma.
In the unlikely event that the pound went down against the new drachma, that would be a normal currency fluctuation risk. In the unlikely event that a contract for payment in pounds were governed by Greek law, it seems unlikely that there would be complications, because (subject to the lex monetae point above) it would be difficult for the Greek government to pass a law stipulating all payments under contracts governed by Greek law should after Conversion be made in new drachma, regardless of the original currency of the contract.
Scenario 2a: A Greek company wants to set up a long-term contract for the supply by a British company of hotel space in England.
If the prices are fixed in pounds (which is likely), the British company will not be affected by Conversion, because there is an obligation on the Greek company to pay in pounds, the local currency, which is also the lex monetae. After Conversion, the Greek company may be in difficulty, because the new drachma will be worth less against the pound than the euro. If Greece exited the EU and introduced exchange control after Conversion, that would create obvious problems.
Scenario 2b: A Greek company wants to set up a long-term contract for the supply by a British company of hotel space in England.
The prices are fixed in euros (which is less likely). After conversion, the British company will have the usual currency fluctuation risk against the euro, which it might protect with hedging contracts. After Conversion, the Greek company will no doubt have to buy euros at an unattractive rate, and there could be a similar exchange control issue if Greece exited the EU.
General drafting considerations
The first and most obvious general point to be made is that, whether a currency is likely to go up or down, each party will want to avoid the exchange rate risk, so would want the contract to be in their own currency. Normally it is the customer who will have to assume the exchange-rate risk, though a supplier might be willing to take on that risk, if it wants the business badly enough.
Secondly, as stated above, if the currency of a contract is clearly denominated in euros, with some wording to exclude the lex monetae rule, and the euro continues to exist, there are unlikely to be any surprising consequences if a country exits the eurozone, unless there were some unexpected government intervention.
Some drafting points emerge from a consideration of the above scenarios:
Any new contract should expressly deal with governing law, jurisdiction, dispute settlement mechanisms, the currency of the contract, and the country of payment. (Unlike loan and finance agreements, many standard commercial contracts do not specify a place for payment in the body of the agreement.) The paying party might want to check the force majeure clause against the possibility that an exiting country might include currency exchange controls, and might want to make a reference to exchange control restrictions as a particular example within a non-exclusive list of force majeure events.
In many situations it will be desirable for an English company to choose, for example, English governing law, English jurisdiction, English dispute settlement mechanism, pounds for the currency of the contract, and to specify England as the place of payment. Similar principles would apply in those jurisdictions that are not part of the eurozone or that are unlikely to leave the euro.
In many cases, it would not be a good idea to stipulate as the currency of a contract, for example, "the currency of Greece at the time of payment", because the official conversion rate from the euro to the new drachma may be artificial. In any event, such wording is usually included only in sophisticated loan and other financial agreements, rather than straightforward commercial contracts. However, such wording may be buried in the definition sections of standard drafts, so these should be checked.
Contractual drafting will not normally provide protection against currency fluctuation risks, apart from wording that protects one party simply by making the contract currency the currency of that party. Instead, in practice, the parties will need to rely on currency hedging contracts to protect their position.
Draft redenomination provision
As suggested above, a company incorporated outside Greece might have commercial reasons for wanting to convert the currency of a new contract from euros into new drachmas. Such a scenario might give rise to the following drafting considerations:
What events would trigger the operation of, say, a euro or new drachma clause? Might it be the total disappearance of the euro, or the exit of the country of one of the parties from the euro? The former circumstance would certainly be an obvious trigger, because in those circumstances such a clause would at least leave the contract with a definite agreed currency.
Should one party have the option of deciding what currency should take the place of the euro? This might be the case if one of the parties were a bank or a lender (but loan and finance agreements give rise to more complex considerations and are not the subject of this article).
If not, should all references to the euro be changed automatically to the new currency? Might this involve an unfair burden on one of the parties?
What exchange rate should be chosen? Presumably it would have to be the rate determined by, for example, the Greek government (even if the Greek government is applying a formula made compulsory by the EU). But might this rate be artificial for political or economic reasons? Might the parties want to agree the official rate plus a margin in favour of one party or the other?
Some of these considerations might suggest the following clause for parties looking to make express provision for redenomination of the currency of payment (note that it would still be essential to include drafting dealing with governing law, jurisdiction, currency of payment, and the place of payment):
"All payments under this agreement shall be in euros. If [the euro ceases to be used as a currency in any country in the world and] the government of [Greece] recognises a currency other than the euro (the New [Greek] Currency) as the lawful currency of [Greece] then:
(a) all payments under this agreement shall be in the [New [Greek] Currency] from the date of its adoption by [Greece];
(b) (unless prohibited by law) any conversion from the euro to the [New [Greek] Currency] shall be at the official rate of exchange recognised by the government of [Greece] [; and]
[(c) this agreement shall be subject to such reasonable changes in interpretation as may be appropriate to minimise the economic effect on the parties to this agreement of the adoption by the government of [Greece] of the [New [Greek] Currency"].]
Clauses (a) and (b) would at least give the parties a clear mechanism for payments during the remainder of the term of the contract. One might say that such a clause would fill the void. However, as noted above, for many contracts there need be no void, because the euro would still exist except in the most catastrophic of circumstances (the complete disappearance of the euro), in which case the obligation to pay in euros would probably remain, lex monetae issues permitting. In most straightforward commercial situations, the simplest option would be to continue to nominate payment in euros, making it clear that this applies regardless of whether or not a country exits the euro.
Clause (c) might be unenforceable for uncertainty but at least evidences the intention of the parties.
The continuance of payments in euros might cause undue financial hardship to one of the parties. It is possible that a Greek company might take the following stance in negotiations with a British company: "We want to do business with you in euros, but we are worried about the risk that Greece might adopt a new drachma instead of the euro. It is appropriate for payment to be in new drachma, but we are worried about the currency fluctuation risk, and hedging contracts are not available to us. Can you meet us halfway on this?"
In that case the following additional clause might be added in order to provide a risk-sharing mechanism:
"(d) if either party suffers loss [solely] due to the application of the above provisions to any payment that is made after Conversion, the other party shall make a balancing payment within thirty days of such payment. The balancing payment shall be made after a comparison between the value in euros of the payment that was actually received by the payee as compared with the amount in euros of the payment that would have been received had the government of Greece not adopted the New Greek Currency, and shall be calculated on the basis that any financial loss arising [solely] out of the adoption by [ Greece] of the New [Greek] Currency shall be borne by the parties equally."
Clauses (c) and (d) require refinement and tightening up, but their underlying principle seems to be workable because, except in the case of the disappearance of the euro entirely, there would be rates available to enable a calculation of loss to be made, for example, sterling-euro, euro-new drachma, and sterling-new drachma. However, at this current time in the eurozone crisis, it is difficult to identify circumstances in which, for example, a Greek company might push for such a risk-sharing clause. It is also difficult to envisage ordinary commercial circumstances in which both parties might want to flip a euro payment clause into a new currency payment clause, other than the total disappearance of the euro. The parties would have no control over the official conversion rate, which might be artificial for political reasons or other reasons. So such a clause might be impractical for a very long-term contract. However, at least it would provide some certainty.
A completely different and rather more dramatic option would be to provide that the contract terminates automatically if, for example, Greece is no longer a member of the European Monetary Union. The parties could then negotiate a new set of prices and rates. This has the obvious disadvantage of uncertainty; the parties would probably want to include a clause to the effect that the parties undertake to use best efforts (or some appropriate level of effort) to negotiate a new agreement (although this is effectively just an agreement to agree, and, as such, unenforceable).
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