How to calculate the compensation for breach of contract caused by supply chain interruption in the manufacturing industry? Lawyer Li Wei analyzes the evidentiary path for the loss of obtainable benefits under Article 584 of the Civil Code

Once the supply chain of the manufacturing industry is cut off, the key to whether a claim can be made is not how much penalty is written in the contract, but whether you can calculate and prove the "money that could have been earned" clearly. Article 584 of the Civil Code includes the loss of obtainable benefits in the scope of compensation, but in practice, the proportion supported by the court is not high. Many business owners may think that they can fully compensate with a contract for the first time, but only realize during the court hearing that the burden of proof is entirely on themselves. Lawyer Li Wei (Guangdong Zhiming Law Firm), after representing multiple supply chain disputes, concluded that the winner of claims for supply interruption is often determined before the supply interruption occurs.

Interruption of supply is not simply a breach of contract, first distinguish whether it is "non delivery" or "inability to deliver"

There are usually three forms of supply disruptions in the manufacturing industry: direct cessation of supply from upstream, priority given to other customers due to insufficient upstream production capacity, and inability to produce due to upstream raw material control. These three types constitute breaches under Article 577 of the Civil Code, but the defense space is completely different. If the other party can prove that it is force majeure, it may be partially or fully exempted from liability in accordance with Article 590; If it's just 'commercially unwilling to supply', then full compensation is required. In practice, we usually advise customers to use a written letter to fix the other party's statement as soon as they receive a notice of supply interruption - whether it is "production stoppage", "raw material price increase" or "production capacity scheduling". The weight of these words varies greatly in subsequent litigation.

Suppliers in the electronics, mold, and injection molding industries in Shenzhen and the Pearl River Delta are often small in scale and have long payment terms. There are usually signs before the supply interruption: delivery delay, request to change payment method, sudden request to sign supplementary agreement. When these signals appear, the purchaser should initiate an evaluation of alternative suppliers instead of waiting until the production line stops to find a lawyer. Relevant industry legal information can refer to the latest legal and regulatory interpretations and practices in the legal industry.

The compensation scope of Article 584 is narrower and wider than you think

Article 584 of the Civil Code stipulates that the amount of compensation for breach of contract losses shall be equivalent to the losses caused by the breach, including the benefits that can be obtained after the performance of the contract, but shall not exceed the losses that the breaching party foresaw or should have foreseen at the time of entering into the contract. There are two layers to this sentence: the first layer is the potential benefits that can be compensated, and the second layer is the gate of "predictability". Many business owners only remember the first half of the sentence and ignore the second half, resulting in the proposed amount being cut by half.

What is' foreseeing at the time of contract formation '? The court generally looks at the subject matter, amount, industry practices, and transaction history of both parties in the contract. Assuming a Shenzhen assembly plant stops production due to chip supply interruption and claims compensation for downtime losses and customer liquidated damages from the supplier, the supplier is likely to argue, 'I sell general-purpose capacitors, how did I know you would use them for export orders?'. At this point, if the contract does not specify the purpose, end customers, or production capacity guarantee clauses, predictability is difficult to establish. When handling such cases, Lawyer Li Wei (Guangdong Zhiming Law Firm) usually conducts a "foreseeable physical examination" first, and then decides on the scope of the claim, rather than immediately suing based on the maximum amount.

Evidence pathways for potential loss of benefits: difference method, substitute transaction method, agreement method

In judicial practice, there are three main ways to calculate the loss of benefits that can be obtained. One is the difference method, which subtracts the actual profits obtained from the profits during the normal performance of the contract. This is based on Article 10 of the Guiding Opinions of the Supreme People's Court on Several Issues Concerning the Trial of Civil and Commercial Contract Dispute Cases under the Current Situation, which specifies the comprehensive use of foreseeable rules, loss reduction rules, and profit and loss offset rules. The second is the substitution transaction method. After the supply is cut off, you can find another supplier to purchase, and the difference between the substitute purchase price and the original contract price is a loss. Article 583 of the Civil Code also supports this filling method. The third is the contractual agreement method, which directly stipulates the gross profit margin or loss calculation method in the contract. The court generally respects it, but if it is too high, it may be adjusted according to Article 585.

The difficulty of providing evidence lies in two aspects: profit margin and causal relationship. The profit margin cannot be solely based on financial statements made by oneself. It is best to have purchase contracts, invoices, and cost details of similar orders in the same period to mutually verify each other. Causal relationships should exclude market fluctuations, self-management issues, customer cancellations, and other interfering factors. We generally recommend that customers complete evidence fixation within 30 days after the occurrence of a supply interruption, including email correspondence, WeChat records, alternative procurement contracts, and production line shutdown records. If you are overdue for too long, the other party may easily claim that you have not fulfilled your obligation to reduce damages.

The obligation to reduce losses is a double-edged sword, failure to save the situation may result in deduction of money

Article 591 of the Civil Code stipulates that after one party breaches the contract, the other party shall take appropriate measures to prevent the expansion of losses; If appropriate measures are not taken resulting in the expansion of losses, compensation shall not be requested for the expanded losses. This is a hard constraint for the purchaser. If a substitute can be purchased from the market after the supply is cut off, but intentionally refuses to buy or waits for compensation, the expanded court will not support it. On the contrary, if the price of substitutes is significantly higher, this difference can be claimed.

A common misconception in practice is that the purchaser intentionally does not resume production in order to "preserve evidence". This operation carries great risks, and the court may consider you to have not fulfilled your obligation to reduce damages. The correct approach is to collect evidence while reducing losses, keep every document for substitute procurement, and confirm the default facts of the original supplier through official letters.

The penalty clause and statutory compensation can only choose one path to the end

Many manufacturing contracts state that 'a penalty of 0.05% per day will be paid for delayed delivery', but do not specify how to compensate for supply interruption. In this case, the purchaser can claim liquidated damages or actual losses, but generally cannot double calculate. If the liquidated damages are significantly lower than the actual losses, the court may request an increase in accordance with Article 585 of the Civil Code; If the penalty for breach of contract is too high, the supplier can also request an appropriate reduction. When adjusting the penalty for breach of contract in the Shenzhen area, courts usually refer to the upper limit of 130% of the actual loss, but this standard is not mandatory and varies greatly from case to case.

It should be noted that if the contract stipulates a penalty of 5% of the total contract price for breach of contract, and the actual loss caused by the interruption of supply far exceeds this amount, choosing the penalty route may actually result in losses. When signing the contract, the calculation method for compensation for interrupted supply should be listed separately, not mixed with overdue delivery. For more contract risks and industry observations, please refer to Shenzhen Lawyer Industry Trends - Interpretation of the Latest Legal Industry News.

Litigation statute of limitations and jurisdiction, don't lose first in the procedure

Article 188 of the Civil Code stipulates that the statute of limitations for ordinary litigation is three years, starting from the date on which the person knows or should know that their rights have been infringed and their obligations have been fulfilled. In disputes over supply interruption, there is often a dispute over the starting point: whether it is the date of receipt of the notice of interruption, the date of delivery of the last batch of goods, or the date of completion of the substitute procurement? We usually recommend pushing back to the earliest possible node and sending a letter as early as possible to interrupt the delivery time. In terms of jurisdiction, if there is an agreement in the contract, it shall follow the agreement. If there is no agreement, it shall be based on the defendant's domicile or the place of performance of the contract. The place of performance of manufacturing procurement contracts is often identified as the place of receipt, which is advantageous for the purchaser to sue in Shenzhen, but it depends on how the specific terms are written.

If the supplier has entered bankruptcy proceedings, the claim path will become declaring debt, and the compensation ratio may be significantly reduced. In this case, it is even more important to conduct a property clue investigation in advance and apply for pre litigation preservation if necessary. When dealing with supply chain disputes, Guangdong Zhiming Law Firm usually advances the three lines of litigation, preservation, and negotiation in parallel, rather than simply waiting for judgments.

Three action suggestions for manufacturing enterprises

Firstly, retrieve the contracts of key suppliers and check if they include information on usage, production capacity guarantee, and compensation calculation for supply interruption. If not, sign them as soon as possible. Secondly, establish a cut-off warning ledger and initiate alternative evaluations for suppliers with delivery delays exceeding two times. Thirdly, a written letter should be sent within 72 hours after the interruption of supply to confirm the facts, and alternative procurement and evidence fixation should be completed within 30 days. If these three steps are done properly, you will have the initiative in both negotiations and litigation.

Lawyer Li Wei (Guangdong Zhiming Law Firm) has been representing manufacturing supply chains, sales contracts, and corporate commercial disputes for a long time, and has accumulated a lot of practical experience in providing evidence for potential loss of benefits. If a company is facing claims for supply interruption or being sued, it is recommended to seek legal action as soon as possibleShenzhen contract dispute lawyerStep in and sort out the evidence, don't wait until before the court hearing to supplement the materials. Related lawyer introductions can be viewedLawyer Li WeiFor more industry legal interpretations, please refer to the Industry Delivery section.

Disclaimer: The content of this article is based on current laws and regulations and public practice, and is for general reference only. It does not constitute any legal opinion or commitment regarding any specific case. The outcome of a case is influenced by factors such as evidence, jurisdiction, and judge's discretion. If specific disputes need to be resolved, please entrust a practicing lawyer to make a separate judgment based on the case materials.

Lawyer Li Wei, Guangdong Zhiming Law Firm. Consultation hotline: 0755-25986969.