Fulfilling contractual obligations during a global pandemic

This article was first published on the EC3 Legal website prior to its merger with Birketts on 30 April 2020.

The coronavirus (COVID-19) pandemic has undoubtedly shaken the business world. Whilst some companies may be thriving right now, many are struggling to navigate their way through this crisis and the virus is having an impact on all types of businesses and affecting them from every angle.

COVID-19 and Force Majeure: Fulfilling contractual obligations during a global pandemic

A particular area of concern for companies is contract fulfilment. Unfortunately, the impact of COVID-19 for many companies will mean that they are simply unable to meet some of their contractual obligations.

Before doing anything else, companies should consider getting in touch with their counterparties to discuss any contractual obligations that are going to be difficult to fulfil during this time. It may be able to come to a mutual agreement on varying the contract where necessary.

If it is not possible to come to an agreement, the next step will be to look at the relevant contractual terms to determine whether there are any options for cancelling the contract. If your contract includes a ‘force majeure’ clause, this may be an option since these clauses typically relieve the party seeking to rely on them from what would otherwise amount to a breach of contract.

What is Force Majeure?

Force majeure is a common clause inserted into commercial contracts allowing for the party claiming relief to be free of their contractual obligations without damages arising in circumstances where an extraordinary situation has arisen outside of the parties’ reasonable control. The extraordinary event must either prevent, hinder or delay the company from performing their obligations under a contract. Such events would typically include Acts of God (i.e. hurricane, earthquake etc), war, crime or plagues etc.

The burden of proof will fall on the party seeking to rely on the clause to show that the force majeure event is the cause of it being unable to fulfil its contractual obligation and not something else.

Is COVID-19 covered by your force majeure clause?

The wording of the clause may explicitly include a ”pandemic” or “epidemic” as one of the extraordinary events or it may include various other extraordinary events that are not connected to COVID-19. If the contract does not explicitly mention COVID-19/coronavirus or a global pandemic, it will simply be a matter of interpretation for the business seeking to claim force majeure relief as to whether the clause provides relief in the current circumstances.

Government actions during this pandemic, albeit a result of COVID-19, are considered independently of the virus and are therefore a different event for the purposes of force majeure. The government measures that are now in place have majorly disrupted the way businesses operate (working from home, closing businesses not considered “essential” and travel restrictions) so contracts should also be reviewed to see whether government actions or requirements are listed as a force majeure event if viruses/pandemics are not.

Before terminating a contract in reliance on a force majeure clause, the claiming party must satisfy itself that the event falls within its scope. Should a contract be terminated, only for the courts to reject the claim further down the line and conclude that they do not interpret the clause to include COVID-19, the contracting party may be found to be in repudiatory breach of the contract.

It is perfectly possible that there will be another pandemic in the future. Going forward, those drafting legal documents will need to pay very close attention to the precise wording of force majeure clauses. In order to avoid the inevitable disputes that our legal system will soon be faced with, articulation is even more critical and stipulating determinative bodies (World Health Organisation, UK Government etc), specific events and timescales will assist with clarification in interpreting these clauses in the future.

If force majeure is not available, are there any other options?

If there is no force majeure clause in your contract, it may be possible to rely upon the common law doctrine of frustration instead. The doctrine of frustration will be implied into the contract (unlike force majeure). Frustration arises if an unforeseen event takes place after the contract has been entered into rendering the contractual obligations impossible to perform or radically different so as to remove the contract of its commercial purpose. Where a contract is frustrated, the contract will be terminated instantly discharging the parties from all obligations

The essential element of frustration makes it incredibly difficult to claim successfully since the claiming party will need to demonstrate that the unforeseen event renders performing the contractual obligations “radically different” from what was originally contemplated.

Duty to mitigate

The cancellation of commercial contracts will have a knock-on effect through many contractual and supply chains. Whether you are seeking to cancel a contract, or you are the counterparty to a contract which has been breached or legitimately cancelled in reliance on force majeure or otherwise, it is quite possible that a degree of loss will be suffered.

If you believe that your contractual counterparty has acted in breach of its obligations, then it will be necessary to review the terms of your contract to determine whether you might have a claim for damages.

In all circumstances, you will be required to ensure that you have mitigated your loss of the effects of the force majeure event or the breach. It will be important to be able to demonstrate that this has been done and so clear and succinct written records of decisions taken and correspondence regarding the impact of events that take place should be maintained.

This will also be important from an insurance perspective as the extent to which a party has sought to mitigate its loss will have an impact on the ability and extent to which it is able to make a recovery under any applicable insurance policy.

What other protection do you have?

Some organisations will have insurance protection in place which covers loss suffered as a result of COVID-19. For example, we have recently seen many events cancelled as a result of the pandemic, and cover for loss arising out of such cancellations may be available. Likewise, some policies may be wide enough to provide cover for business interruption in these circumstances. This will of course depend on the scope of cover and the precise wording of the applicable policy since the language of such policies will vary and whether or not a policy will respond will depend very much on the application of that language to the specific facts.

If you think you might have a valid insurance claim, you should speak to your broker to ensure that the claim is notified in accordance with the policy requirements.

Summary

• Parties to a contract should discuss their contractual obligations and whether they would be willing to vary the contract in light of COVID-19
• Contracts should be checked for a force majeure clause and more specifically, one that covers “pandemics”, “epidemics” or other event which is relevant in the circumstances;
• If not, government actions might be included in the force majeure clause which may provide an alternative route means to terminate a contract;
• Contracts should not be terminated until it is known that the force majeure clause covers COVID-19;
• If force majeure is not possible, the doctrine of frustration could be explored instead;
• Mitigating any loss is essential and companies should keep a record of steps taken in support of any claim or insurance claim if available; and
• Companies will need to review other protections available and ensure that they are familiar with the terms of any relevant insurance policy. If you are unsure, you should speak to your broker.

If you would like further advice on this topic or have any other queries please contact Talia Jacobs.