Long-Term Changes to Contracts in Light of COVID-19

Force Majeure

Force majeure is the clause in a contract that allows a party to be dismissed from performance when an unexpected event, beyond that party’s control, happens that makes their performance impracticable or impossible or may also address delays in performance. These clauses vary amongst contracts, and governing law has a significant impact on the interpretation or operation of the clause, but they generally have several elements by which they’re comprised.

In general, such clauses require that the event that occurs must not be within the reasonable control of the parties and must not have been foreseeable. Furthermore, the effects of the event on the transaction cannot be avoided through reasonable efforts or due diligence of the parties. The clauses also generally include a non-exhaustive list of qualifying events, but usually specifies that they are “natural” or “acts of God”, such as hurricanes, fires, floods, earthquakes, etc. The specified events may also include political or human events, such as invasion, war, riots, labor strikes, government measures, and the like. Though these lists are non-exhaustive, they provide the tenor of the clause and can influence the interpretation. Moreover, the clauses may include some expressly excluded events. The language included in the clauses greatly impacts the scope of its coverage.

Many force majeure clauses set forth additional requirements that the party invoking force majeure must demonstrate, such as: a duty to mitigate damages arising from the event, an obligation to provide notice within a defined period, and/or a duty to undertake reasonable efforts to resume performance as soon as practicable. For example, in the event of a hurricane, the performing party may receive respite from performance by a certain deadline for only the amount of time by which the hurricane delayed performance. As soon as the hurricane is over and the performing party is able to resume performance, they would be obligated to do so.

An additional important detail to note is that some force majeure clauses allow the non-performing party to terminate the contract or they may specify the amount of time by which a delay in performance may be excused. 

Implied Rights and Common Law Doctrines

Even if a contract does not have a force majeure clause, or in cases where the clause is not applicable, the parties may have rights and obligations due to unexpected events which are implied by the governing law. In civil law jurisdictions, a right of force majeure may be implied into contracts that are silent. Furthermore, in common law jurisdictions, doctrines such as impossibility, impracticability, and frustration of purpose may apply. The availability of these doctrines may depend on the language of the contract and the extent to which risks have been allocated. 

Impossibility 

This doctrine generally excuses performance when a supervening event that the parties assumed wouldn’t happen destroys the subject matter of the contract or the means of performance, effectively making performance objectively impossible. For example, when two parties have a contract to sell a house but that house is destroyed by a hurricane before the parties have completed the sale transaction. 

Impracticability

The doctrine of impracticability generally excuses performance when a supervening event that the parties assumed wouldn’t happen renders performance impracticable. Typical events that have triggered this clause include: 

• death or incapacity of a person necessary for performance;

• destruction of a specific thing necessary for performance; and

• prohibition of prevention by law.

The scope of the doctrines of impossibility and impracticability may be widened by COVID-19, by events such as:

• A shortage of raw materials or supplies due to unforeseen shutdown of major sources of supply causing a marked increase in costs or preventing performance altogether;

• Inability to ship products to customers due to forced closure or closures within its supply chain;

• Contractor’s inability to enter premises because someone is infected with COVID-19;

• Restaurant event cancelations due to government regulations restricting gatherings; or

• Hotel reservation cancelations due to government-issued travel restrictions.

It should be noted however, that the applications of these doctrines may not extend to market shifts or the financial inability of one of the parties. 

Frustration of Purpose

The doctrine of frustration of purpose generally excuses performance when a supervening event that the parties assumed wouldn’t happen substantially frustrates a party’s principal purpose under the contract. For example, a buyer contracts a seller to have the seller make custom t-shirts for the buyer with the buyer’s logo and slogan on the shirts, but the buyer’s business closes due to COVID-19. 

In light of COVID-19, events that may qualify for application of the frustration of purpose doctrine include: 

• business closures;

• cancellation of events; or

• other disruptions.

The application of these common law doctrines and force majeure clauses generally raise similar issues with respect to:

• causation (an event beyond the party’s control);

• unforseeability of the supervening event;

• availability (without fault and exercising due diligence or reasonable efforts);

• allocation of risk by the parties; and

• notice.

Steps to Take Going Forward

In light of COVID-19, many businesses may need to make modifications to their force majeure clauses in their contracts. The first consideration is how to define a force majeure event, and whether to include a reference to pandemics or infectious diseases in the definition and whether governmental action taken in response to such events would qualify. The party whose performance is most likely to be effected by such events should consider including such events in the definition, whereas the party that would likely face the ramifications of such delays in performance should consider whether to specifically exclude it from the definition. In many instances, this would mean that the customer would be more inclined to exclude such events and the servicing party or seller would be inclined to include it. The parties should also consider what potential relief should be offered in light of COVID-19; whether the performing party should be granted a delay in performance or if the effected party should have the right to terminate the agreement. Moreover, the parties to an agreement should consider what notice obligations or duties to mitigate should the performing party have, and whether or not they may be reasonably performed. 

Other Protections

Less common provisions, such as material adverse effect, may apply to your contracts as well. Contact us for a free consultation to determine whether we can help make your contracts offer you more robust protections in the event of unforeseen circumstances that may effect your obligations or expectations.