Supplier fails to meet deadline – when to charge a penalty and when to assign the work to another party

The deciding factor: catch-up delays vs. unrecoverable delays

The first question is not how much you can charge, but whether the delivery can still be completed. A delay that can be caught up by increasing capacity, adding more shifts, or rearranging work is addressed with pressure and financial penalties. A delay where the contractor no longer has the people, materials, or will is addressed by exiting the contract and seeking substitute performance. You cannot move freely between these two scenarios: each requires different documents and leads to a different claim.

The difference can be identified by three things you can verify in a single afternoon. How the actual capacity deployed on your project is evolving, whether the contractor is meeting interim milestones or just promising to catch up, and whether they can document that materials and sub-deliveries are secured. If two out of three answers are negative, take it as a practical signal that waiting for the contractual deadline is no longer productive.

The second question is directed within your company, not at the other party. A debtor who fails to perform their debt properly and on time is in default; however, they are not liable for the default if they are unable to perform due to the creditor's default. The causal link is key: a site that was not handed over, a document that was not supplied, or a sample that was not approved only excuses the contractor from default to the extent that it actually prevented them from performing.

An unpaid invoice does not have such an effect on its own, because under Czech legislation, exemption from default is tied to the impossibility of performance due to the creditor's default (Section 1968 of the Civil Code). Nevertheless, this is the most common reason why companies complicate a penalty dispute: they invoice the penalty, the contractor pulls up communication about waiting for their decision, and part of the claim of default falls apart before it even gets to court.

The practical consequence is unpleasant but clear. Before sending the first penalty letter, review your own performance throughout the entire project and note where you yourself caused delays. If there is anything, calculate how many days it shifted the schedule, and only then base your claim on the remainder. A delay that did not cost your company a single day on the critical path will not help the contractor, even if they invoke it.

The third question is about the contract, not the law. The vast majority of contracts for work contain their own provisions on when it is possible to withdraw and what penalties apply. These provisions take precedence over the statutory regulation and determine whether you must act immediately or have time. Reading them before you send the first letter is cheaper than correcting a poorly chosen course of action. The right to suspend work and postpone the deadline due to overdue invoices also arises only under further statutory or contractual conditions, which are discussed in a separate text on the suspension of work.

What to do in the first ten days before the delay becomes fixed

The procedure below describes a typical course of action for a delivery with a fixed deadline and interim milestones; which step makes sense in your case is determined by the wording of the contract for work and whether the delay affects the critical path or just the buffer—which is why the lawyers at ARROWS law firm assess it for each project individually.

Start with a written record of the situation, not a formal notice. You need to capture the work in progress, the number of people on the project, delivered and missing materials, and the status of interim milestones as of a specific date. Without this snapshot, you will not be able to prove later what state the contractor was actually in, and the dispute will boil down to one party's word against the other's. Photo documentation with a time stamp and a signed report from a site inspection day are sufficient.

The second step is a notice to remedy that has legal effect, not just a reminder. The client has the right to inspect the performance of the work, and if they find that the contractor is breaching their duty, they can demand that the situation be remedied and the work be performed properly (Section 2593 of the Civil Code). If the contractor fails to do so within a reasonable time, the client has the option to withdraw if the contractor's conduct would undoubtedly lead to a material breach of the contract. This path is available even before the contractual deadline expires, which often comes as a surprise to clients.

The notice must be specific and measurable. State which specific obligation is being breached, what state you expect, by when, and what will happen if it is not met. A general "we request an acceleration of work" has no value. Choose a deadline that is realistically achievable for a contractor with normal capacity, because an unreasonably short deadline will delay the effects of your next step.

The third step is not choosing a penalty, but finding out what your contract allows at all. The decision between a penalty and damages is not made at the time of invoicing; it was made when the contract was signed. If a penalty for delay is agreed upon and the contract does not permit the concurrence of both claims, you will not be entitled to compensation for damages arising from the same breach, regardless of whether you claim the penalty. Therefore, before you send the first invoice, find out what the contract says about concurrence and plan accordingly for how much you can actually get back.

The fourth step is to prepare for an exit, even if you don't want one yet. Contact two or three companies capable of completing the work, request an indicative price and deadline, and have them confirmed in writing. This gives you two things at once: a real alternative and, at the same time, proof of the market price for substitute performance, which you will need if it comes to quantifying damages.

When a penalty precludes damages and when it does not

Most clients perceive a contractual penalty as a minimum to which damages can later be added. The law has it the other way around: if a contractual penalty is agreed upon, the creditor is not entitled to compensation for damages arising from the breach of the obligation to which the penalty relates (Section 2050 of the Civil Code). The decisive factor is the agreement itself, not whether you invoice the penalty; if you agree on it for a delay in completion, the extra costs of completing the work with another company are covered by the penalty, and you will generally not get more than that.

This rule is default and can be contractually disabled. A sentence such as "in addition to the contractual penalty, the client is entitled to claim compensation for damages in full" belongs in every contract where the difference between the agreed price and the price of substitute performance is potentially higher than the accumulated penalty. For technological deliveries and construction projects with long delivery times, this difference is almost always higher. Beware of clauses that allow concurrence only in favor of one party.

Moreover, the amount of the penalty is not a final number. The reduction of an unreasonable contractual penalty by a court is technically called moderation, and the court will only proceed with it upon the debtor's motion, never on its own. The court may reduce the penalty, but only to the amount of the damage that has arisen by the time of the decision from the breach of the secured obligation, pursuant to Section 2051 of the Civil Code. The documented damage thus forms a floor below which the penalty cannot fall; this is discussed in detail in a separate text on the moderation of a contractual penalty.

It is therefore worthwhile to quantify the impacts of the delay even where they cannot be claimed alongside the penalty. Keeping records of downtime, penalties from your customer, and the costs of an extended construction site setup is not extra administration, but a defense of the penalty against its reduction. The reverse is not true: the mere absence of damage does not lead to moderation, because the court assesses the unreasonableness of the specific claim and the function that the penalty was intended to fulfill (judgment of the Grand Chamber of the Supreme Court, file no. 31 Cdo 2273/2022 of 11 January 2023).

For damages, if you are entitled to them, a strict exemption test works in your favor. The contractor can only be released from the obligation to pay compensation if they prove an extraordinary, unforeseeable, and insurmountable obstacle that arose independently of their will, according to Section 2913 of the Civil Code. An obstacle that arises only when they are already in default does not release them from the obligation. A contractor who is late and only then encounters a sub-supplier outage cannot, therefore, use the outage as a defense.

Withdrawal: why a missed deadline doesn't mean the end

A default that constitutes a material breach of contract entitles the other party to withdraw, provided they notify the defaulting party without undue delay after learning of the default. A material breach is one where the breaching party knew or must have known at the time of concluding the contract that the other party would not have entered into the contract under such circumstances; in other cases, the breach is presumed not to be material. Clients therefore often live under the conviction that once they miss this deadline, they are trapped in the contract with no choice but to wait.

The Supreme Court has rejected this interpretation and opened a second path. The Grand Chamber concluded that by the fruitless expiration of the period of "without undue delay," the creditor loses the ability to withdraw under the conditions for a material default, but if the default continues, they can withdraw under the conditions for a non-material default; if they announce the withdrawal without a prior additional period, its effects will only occur after the fruitless expiration of a reasonable additional period (judgment of the Grand Chamber of the Supreme Court, file no. 31 Cdo 3823/2023 of 15 May 2024, available at rozhodnuti.nsoud.cz).

For planning, it is crucial to know when that additional period starts. The Grand Chamber specified this explicitly: its running begins at the moment the withdrawal comes into the debtor's sphere of disposition. Therefore, from the date of delivery, you count back the time that should have been provided as reasonable, and only on that day does the contract end. Until then, the contract remains in effect, and the original contractor still has the right to complete the work; bringing in a substitute contractor earlier is an interference with another's contractual position and turns the dispute against you.

This second path has a simpler variant that is worth using. If you notify the debtor that you are setting an additional period for performance and that you will not extend it, it is understood that you have withdrawn from the contract upon the fruitless expiration of this period (Section 1978 of the Civil Code). With a single letter, you set a date by which it is clear that the contract is ending, and you can plan the start of the new company accordingly.

An agreed right of withdrawal can function completely differently from the statutory one. The aforementioned Grand Chamber also confirmed that the provisions on withdrawal for default are default rules and the parties can deviate from them. If the contract contains a right to withdraw for a specific default without further limitation, it can generally be interpreted as not being bound by the "without undue delay" period. Which regime will stand up in your specific project depends on the wording of the penalty and withdrawal clause and the stage of the work's progress—which is why the lawyers at ARROWS law firm assess it before the withdrawal notice is sent.

Substitute contractor: what must be done before the original company leaves

The start of a substitute company fails on operational matters, not legal ones. Most often, it's because no one formally took over the work in progress via a protocol, the as-built project documentation is missing, and there are materials left on site with unclear ownership. Each of these three items can delay the start by weeks, and you, not the departing contractor, will bear the costs of the delay.

A formal protocol-based handover of the work in progress is therefore the first action you take on the effective date of withdrawal. The protocol should include the status of the work by individual parts, a list of identified defects, an inventory of materials stating who procured them, and the status of the documentation. The protocol is signed by both parties; if the contractor refuses to sign, you prepare it with the participation of an independent technician and record the refusal in it.

You can only substantiate the price difference if you conduct the inquiry transparently. Have the new contractor break down the price into items corresponding to the original budget and keep the offers from all contacted companies. The difference between the original and the new price is the core of your claim, and the opposing party will challenge it by arguing that you chose an unnecessarily expensive company. Three comparable offers will significantly weaken this objection, although they will not eliminate it on their own: the comparability of scope, quality, deadline, and urgency are also considered.

Also, expect that the settlement with the original contractor will run concurrently. They will want you to pay for the completed part of the work, and you will set off your claims for the delay against it. How these items are mutually settled is discussed in the text on the contractor's claims after withdrawal from a contract for work.

What the other party will usually propose and what to accept

A delayed contractor usually comes with three proposals, all with the same goal: to nullify your penalty position in exchange for a promise. The most common is an amendment postponing the deadline without any counter-performance, the second is a waiver of the penalty in exchange for completion, and the third is an offer of a price discount, which is usually lower than the actual damage.

Postponing the deadline is acceptable only if you get something in return. The recommended form of an amendment ties the new deadline to new interim milestones, an increase in deployed capacity, and the explicit preservation of the already accrued claim for the penalty for the existing delay. A sentence like "the contracting parties declare that they have no mutual claims against each other from the course of the project to date" is a warning sign in such an amendment, as it retroactively erases your position.

The second warning sign is postponing the deadline without changing resources. If the contractor asks for an extra six weeks but does not specify how performance will be increased, you are just buying a postponement of the next negotiation. The amendment should always state how many people and what equipment will be deployed on the project and from when.

A price discount is the worst of the options offered if you accept it without calculation. A discount is usually used to settle defective performance, not a delay, and the contractor will infer from its acceptance that the whole matter is closed; whether this is the case is decided by the content of the agreement and its interpretation. Before you accept it, calculate the impact of the delay on your own revenue: deferred invoicing to the end customer, penalties in your subsequent contract, downtime, and costs for the extended construction site setup.

The greatest room for negotiation is at the moment you have a substitute company ready and the contractor knows it. Until then, you are negotiating from the position of a party that cannot afford to walk away. Every concession you make in an amendment without a prepared alternative is therefore paid for twice.

Mistakes that decide the dispute before a lawsuit is filed

The most expensive mistake is silence in the first few weeks. Companies don't want to spoil the relationship, so they handle delays by phone and email without legal consequences, and only send a written notice when the project is months behind schedule. A court then sees a client who did not object for a long time, and the contractor builds a defense on an implied postponement of the deadline.

The second mistake is a penalty letter signed by a person whose authority is unclear. The risk here is not one-sided: a person entrusted with a certain activity in the operation of a plant represents the entrepreneur in all dealings that usually occur in connection with it, and exceeding this authority binds the entrepreneur if the other party was not aware of it. A project manager can thus bind your company even without a separate power of attorney. For a withdrawal, therefore, verify the authorization in advance on both sides; it takes five minutes.

The third mistake is a concurrence where the company invoices a penalty and simultaneously brings in a substitute company without having terminated anything. This creates a situation where the original contractor still has the right to complete the work under the contract but has no access to it, and their claim for payment turns against you. Which of the two steps should come first in a specific project depends on the wording of the penalty clause and whether the work is divisible—and that is precisely why the lawyers at ARROWS law firm assess it before the new company starts.

The fourth mistake is unquantified damage. A claim that reads "we demand compensation for damage caused by the delay" has no value in court until it is broken down into items with supporting documents. Records of costs from the delay must be kept on an ongoing basis, not reconstructed from accounting records a year later, because a retroactive reconstruction from accounting reports usually cannot even withstand an internal audit.

Where disputes with a delayed contractor arise

Final summary

This article has shown that the decision between a penalty and a substitute contractor is not a question of toughness, but a question of the recoverability of the delay and the wording of your own contract. A penalty makes sense where the delivery will be completed. Exiting the contract makes sense where it will not. Both at once only work with the correct sequence of steps and a documented paper trail.

For company management, this results in two numbers that need to be known before the legal arguments. The first is the accumulated penalty based on a realistic estimate of the delay. The second is the difference between the agreed price and the price at which someone else will complete the work. If the second number is higher and the contract does not allow for the concurrence of penalty and damages, your accumulated penalty is the ceiling of what you will get back, even if you win the dispute.

A postponed decision is in itself a cost. It weakens your negotiating position, shortens the time to prepare a substitute company, and gives the contractor material for a defense based on an implied postponement of the deadline. Projects that ended well have in common that the client acted in writing at the very first missed milestone.

The lawyers at ARROWS law firm will review the contractual documentation and communication with the contractor for you, prepare a notice and withdrawal under the correct regime, quantify and assert the claim for the delay, and represent you in settlement negotiations and any subsequent dispute. Write to us at consultation@arws.cz or browse our commercial and litigation service.