The Commercial Court case of Euro-Asian Oil SA v. Abilo (UK) Ltd which was reported in December 2016 flags up one of the problems found occasionally in international trade contracts, the incoherent use of incoterms.
In that case the court found that an oil trader, Abilo, and a bank, Credit Suisse AG (which had funded Abilo’s earlier purchases and had signed letters of indemnity with Abilo) were liable for the non-delivery of a cargo of ultra-low sulphur diesel. The case is fairly complex given that it related to a number of transactions, constituted two conjoined actions and due to the use of trade finance documents in an oil trading context. This was particularly so as it was suspected that one of the parties was running a carousel transaction, in that the claimant suspected that documents presented to it under letters of credit for a cargo under a new transaction actually related to a cargo which had already been discharged.
One of the key areas considered by the court in examining the transactions was the relevance of the incoterm quoted in the sales contract. In this case CIF (Cost, Insurance and Freight) was used and it became less applicable to the actual conduct of the parties as the transactions progressed. During the trial the claimant accepted that the contracts were not CIF “in spirit” or as a matter of law.
Incoterms were first published in 1936 by the International Chamber of Commerce to introduce consistency and clarity in the interpretation of trade terms internationally and reduce the number of disputes. They are mainly used in commodity sales contracts where they have been extremely helpful in clearly defining the parties’ respective obligations in relation to transport, documentation, and import and export formalities. Incoterms® 2010 are the latest and eighth edition of the rules.
The 11 trade terms used in Incoterms® 2010 can, in general terms, be seen as varying by degrees in relation to the allocation of costs to buyer and seller in and allocation of risks. In this context Ex works (EXW) represents the minimum obligation for the Seller and Deliver Duty Paid (DDP) represents the maximum obligation.
The incoterm used in the case in question, CIF, tends to be one of the more complicated incoterms upon which to contract. This is partly due to the pressure on traders to ease cash flow and make sales as quickly as possible despite the practical problem that their cargo is at sea often for weeks.
Mistakes made in incorporating incoterms
The case serves to highlight that there is often insufficient thought given to which incoterm to select. Examples of areas of confusion include the following:
- Mistakenly viewing incoterms as contracts of carriage rather than forming part of a contract of sale.Whilst the contract of sale is necessarily between the Seller and the Buyer the contract of carriage is between the party responsible for arranging transport within the contract of sale, as determined by the appropriate incoterm, and a shipping company. As noted by J Moses in R. (on the application of Teleos Plc) v. The Commissioners of HM Customs and Excise “They [incoterms] do not apply to the contract of carriage”
- Mistakenly considering that incoterms constitute an entire contract of sale rather than being a part of it.
- Mistakenly applying incoterms to intangible goods such as software, irrespective of whether that intangible good accompanies a physical commodity.
Other common errors associated with incoterms
Two other common errors associated with incoterms in my experience are the following:
Confusing port of shipment or delivery destination references
Four of the incoterms used under the Incoterms 2010 rules relate only to transportation by water (FAS, FOB, CFR and CIF) and yet there are occasions when an airport is named as the destination for such incoterms.
Additionally, whilst the FAS and FOB incoterms should state the port of shipment as being relevant to the purported transportation risks agreed between the parties but occasionally the port of destination is erroneously given instead.
Inconsistency between the chosen incoterm and the provisions of a sales contract
Such inconsistency was one of the issues in the Euro-Asian Oil case. There the title transfer provision of the contract and the stated documentary requirements for title delivery or the period of time for payment did not conform to the relevant incoterm. Whilst the court sought to be flexible to interpret the contract and look beyond what a “classic CIF contract” was by applying custom and practice of oil trading contracts to assess if the parties had special terms in mind. At some point during the series of transactions, the court could not continue to square the circle.
A common area of difficulty is where the purchasing or procurement teams of traders simply utilise their standard terms and conditions for sales contract without reconciling these terms to the chosen incoterm. The error can arise from the desire of sellers only to transfer title in goods upon payment whilst wishing to offload the cost and responsibility of delivery as soon as possible. It was perhaps this desire that resulted in the inconsistency discussed in the well-known case of Albacruz v. Albazero. Here the courts looked at the conduct of the parties and decided that irrespective of the contract specifying that CIF applied as the delivery of the bill of lading was stated to be independent of payment, “it would, I think, be illogical and inconsistent to hold that, although the property itself passed then, the right to possession of the cargo only passed when the bill of lading reached ..Antwerp…I think that it would be artificial and unrealistic to hold that the plaintiffs still retained possession of the bill of lading and with it the right to the possession of the cargo”.
Incoterms are incredibly useful to international trade and contracts but thought is needed if they are to be used. It often seems, however, that the meaning of incoterms is simply inferred from flowcharts rather than read and properly understood. Procurement teams and their advisers should be aware of the scope and limitations of incoterms and their interaction with supply terms.