Reps & Warranties in AIFC: Defined, Refined, and Redefined

Unicase's Managing Partner, Artem Timoshenko, has been invited to deliver a presentation on Representations & Warranties at the Kazakhstan Legal Forum. This publication is derived from his presentation materials, providing an in-depth overview of the key insights shared during the event. 

In the complex landscape of contract law, the concepts of representations and warranties play a significant role in defining the rights and obligations of parties involved. Representations refer to assertions of fact made by one party to induce another to enter into a contract, with an implicit assurance that these statements are accurate at the time they are made. In contrast, warranties serve as promises that a particular assertion or condition is true, providing indemnification to the other party should the assertion prove false.

While the AIFC (Astana International Financial Center) does not explicitly regulate representations and warranties, the provisions of the AIFC Contract Regulations No. 3 of 2017 are applicable. A critical element intertwined with representations and warranties is the concept of mistake. In contract law, a mistake signifies an erroneous assumption regarding facts or law existing at the time the contract was concluded.

The AIFC regulations specify conditions under which a party may void a contract due to mistake, emphasising the significance of the error:

(1) A party may only avoid a contract for Mistake if, when the contract was concluded, the Mistake was of such importance that a reasonable person in the same situation as the party would not have concluded it at all if the true state of affairs had been known, and:

(a) the other party made the same Mistake, or was also Mistaken, or caused the Mistake, or knew or ought to have known of the Mistake and it was contrary to reasonable commercial standards of fair dealing to leave the Mistaken party in error; or

(b) the other party had not at the time of avoidance acted in reliance on the contract.

(2) However, a party may not avoid the contract if:

(a) it was grossly negligent in committing the Mistake; or

(b) the Mistake relates to a matter in regard to which the risk of Mistake was assumed or, having regard to the circumstances, should be borne by the Mistaken party.

Mistake in Contract Law - When Can a Contract Be Voided?

A mistake happens when one or both parties enter into a contract based on false information or a wrong belief regarding a fundamental aspect of the agreement. A contract may be voided if the mistake was substantial enough that a reasonable person, had they known the true facts, would not have agreed to the terms. For a party to void a contract due to mistake, the following conditions must be met:

1. Mutual Mistake - Both parties were operating under the same mistaken assumption about a critical fact or law.
2. Unilateral Mistake with Knowledge - One party knew, caused, or should have known about the other party's mistake and allowed the contract to proceed, violating fair commercial standards.
3. No Reliance - The mistaken party must demonstrate that the other party had not yet acted in reliance on the contract.

In these scenarios, the mistaken party may avoid the contract and be released from its obligations, assuming the mistake was sufficiently significant to warrant such action.

When Is a Contract not Voided Due to a Mistake?

Even if a mistake occurred, there are limitations on when a party can void a contract. A contract cannot be avoided if:

The mistake was caused by the mistaken party’s gross negligence. In this case, the party cannot claim they were misled or unaware. Assumed Risk - the mistaken party had assumed or should have borne the risk of the mistake. For instance, if the contract contained provisions allocating the risk of certain mistakes, the mistaken party would not be able to void the contract.

While certain mistakes may provide grounds to void a contract, this remedy is subject to limitations, especially in cases of gross negligence or assumed risk. Understanding these nuances is necessary for legal professionals dealing with contractual disputes, particularly within regulatory frameworks like the AIFC.

Fraud in Contract Law - Application within the AIFC Framework

Fraud, while not explicitly defined under AIFC law, is a valuable concept in contract law that can have severe consequences for the validity of an agreement. In the absence of a direct legal definition within the AIFC, practitioners turn to English Common Law, which provides a well-established framework for understanding and addressing fraudulent conduct in contracts.

Under English Contract Law, fraud consists of several key elements that, when proven, allow a party to void a contract. A party must demonstrate that one party made a false statement of fact to the other. Knowing that the statement was false or being reckless as to its truth. This falsehood must have been made with the intent to influence the other party’s decision to enter into the contract. The complainant must have relied on this false statement when agreeing to the contract and, as a result of this reliance, suffered a financial or other significant loss. Together, these elements form the foundation of a claim for fraud in contract law.

Retroactive Effect of Contract Avoidance

Avoidance is retroactive, meaning it nullifies the contract from the start. After avoidance, either party can request the return of anything exchanged under the contract, provided they also return what they received. If returning the exact item isn't possible, compensation of equal value is required.

Example: Fraud and Rescission

Consider a situation where you purchase a painting, believing it to be an original, but later discover it is a forgery. In such a case, you can avoid the contract due to fraud. This means you are entitled to return the fake painting and receive a refund of your purchase price. If you have already sold the painting, you would be obligated to compensate the buyer with an equivalent sum of money. This example highlights how contract avoidance works in cases of fraudulent misrepresentation. 

A contract must first and foremost be interpreted in line with the common intention of the parties. If this intention cannot be clearly determined, the contract is then interpreted according to the understanding that a reasonable person in the same position as the parties would have under the same circumstances. This objective standard ensures that even when subjective intentions are unclear, the contract can still be enforced fairly.

The statements and conduct of a party should be interpreted based on that party’s known or apparent intention, provided the other party knew or could not have been unaware of this intention. If the other party was unaware of the intent, the statements and actions are instead interpreted as they would be by a reasonable person in similar circumstances.

When interpreting a contract, all relevant circumstances surrounding the agreement must be taken into account. This includes:

• Prior practices established between the parties, which may provide insight into their intentions and expectations.
• The nature and purpose of the contract, which can clarify ambiguous terms or obligations.
• The common trade meanings given to specific terms and expressions within the relevant industry.

Duty to Achieve a Specific Result vs. Duty of Best Efforts in Contractual Obligations

In contract law, obligations can take on different forms depending on the nature of the commitment made by each party. Two common types of obligations are the duty to achieve a specific result and the duty of best efforts. These obligations set distinct standards for performance and dictate the level of responsibility a party has in fulfilling their contractual duties.

To the extent that an obligation of a party involves a duty to achieve a specific result, the party is bound to achieve that result.

To the extent that an obligation of a party involves a duty of best efforts in the performance of an activity, the party is bound to make the efforts that would be made by a reasonable person of the same kind in the same circumstances.

There is a difference, If a party is obligated to achieve a specific result, they must deliver that result. If a party is required to use their best efforts, they must take the same reasonable actions that someone in a similar situation would.

To illustrate, consider a delivery service hired to bring a package by 5 PM. If the contract specifies that the delivery must occur by that time, the delivery service has a duty to achieve a specific result and must guarantee that the package arrives by the deadline. Failing to do so, even with valid reasons, would be considered non-performance.

However, if the agreement only requires the delivery service to make their best efforts, unforeseen delays such as traffic or weather might excuse the failure. In this case, the service is only obligated to take all reasonable steps, not guarantee the outcome. 

A key principle in contract law is that a party cannot rely on the non-performance of the other party if they are the cause of that non-performance. If the first party's actions or omissions lead to the other party’s failure, or if the first party bears the risk of the event that caused the failure, they cannot claim non-performance.

When non-performance occurs, the aggrieved party typically has the right to claim damages. Damages can be sought either exclusively or in conjunction with other remedies, depending on the circumstances. This means the injured party is entitled to compensation for any harm caused by the other party's failure to perform.

The principle of full compensation applies to the aggrieved party. This entitles them to recover losses incurred as a result of the non-performance, including both actual losses suffered and any gains they were deprived of due to the breach. Compensation should reflect the total harm caused by the non-performance.

Measure of Damages and Agreed Payments for Non-Performance

When a party fails to perform its contractual obligations, the measure of damages becomes a critical point for the aggrieved party. Damages are generally calculated by assessing the loss in value that the injured party has suffered due to the other party’s failure or deficiency, and adding any incidental or consequential losses that arise from the breach.

The calculation of damages is based on several key factors:

Loss in value refers to the gap between the performance the injured party was promised and what was actually delivered. 

In addition to direct loss in value, the injured party can also claim incidental or consequential losses, such as lost profits or additional expenses incurred as a result of the breach. For example, if a delay in the delivery of goods causes production delays for the buyer, these costs can be included in the damages.

Avoided costs - any cost or other loss that the injured party has avoided by not having to perform.

In some contracts, the parties agree in advance on a specified sum to be paid by the non-performing party in the event of a breach.This is known as Agreed Payment for Non-Performance and it is considered in following circumstances:

1. If the contract provides that a party who does not perform is to pay a specified sum to the aggrieved party for the non-performance, the aggrieved party is entitled to that sum irrespective of the actual harm suffered by it.
2. However, notwithstanding any agreement to the contrary, the specified sum may be reduced to a reasonable amount if it is grossly excessive in relation to the harm resulting from the non-performance and to the other circumstances.

Hence, if the statement that is assured to be true (Representation) happens to be false and resulted in loss of a party (Damage), it shall be considered as non-performance. Usually such breach leads to contract avoidance and sometimes damages reclamation. Warranties in most cases contain provision on Indemnities or Liquidated damages (Agreed payment for non-performance)

Understanding Non-Performance and the Right to Damages

When a party fails to meet their obligations, the aggrieved party has the right to claim damages, either on their own or alongside other remedies—unless the non-performance is excused by the regulations.

Full Compensation

The wronged party is entitled to full compensation for any harm suffered, which includes both actual losses and any benefits they missed out on. This also takes into account any savings or avoided costs resulting from the breach.

How Are Damages Measured?

Damages are calculated based on:

• - The loss in value caused by the other party’s failure to perform.
• - Any other loss, such as incidental or consequential damage from the breach.
• - Subtracting any costs or losses the injured party avoided due to the non-performance.

Suppose you hired a contractor to build a store by a specific deadline - a holiday, for example. The contractor finishes late, causing you to miss out on holiday sales. You can claim damages for the lost revenue as well as for the unfinished work, but also subtract any savings from not having to pay employees during that time.

Contracts often include provisions for agreed payments in the event of non-performance. If a contract stipulates that a party must pay a predetermined amount for failing to perform, the aggrieved party is entitled to that sum, regardless of the actual harm suffered. However, it is important to note that if the agreed amount is significantly higher than the actual damages incurred, a court may reduce the sum to a more reasonable figure.

For example, you have an agreement that specifies a payment of $10,000 if a project is not delivered on time. If the actual damage incurred from the delay is only $1,000, the $10,000 figure can be adjusted to reflect the true impact of the non-performance.

Overall, understanding the intricacies of non-performance and the right to damages is essential for navigating contractual agreements effectively. Whether through claims for full compensation or stipulated payments for non-performance, these legal principles ensure that parties can seek redress when obligations are unmet.