Mythbusting Common Misconceptions: The impact of Coronavirus on Contracts and their Performance.

Mar 25, 2020

We have had many clients come to us querying whether they can cancel service contracts, on the back of the recent COVID-19 outbreak. We have just as many clients come to us saying that providers, or indeed customers, are seeking to rely on a ‘Force Majeure’ clause, in the agreement between them, and seeking associated remedies, such as a temporary grant of non-performance or cancellation of orders under the contract.

Are these actions enforceable? What can you do if this happens? Just how costly can it be if you get this wrong?

In this article we look to bust some of the common misconceptions in respect of the impact of coronavirus with a particular focus on force majeure clauses.

What is a ‘Force Majeure’ clause and why is it so relevant now?

A Force Majeure clause is typical in most commercial contracts, but what does it actually do?

It allows a party, or numerous parties, to the contract to cease performance of the contract in some way, should a specific event, typically out of that party’s control, occur without constituting a breach of that contract. Whether some or all of a party’s obligations under the contract are suspended or cancelled as a result will be down to the drafting of this clause. We will go in to more detail below.

What is so appealing for a party, when utilising a Force Majeure clause, is that the party impacted by the force majeure event (an ‘affected party’), will generally (and this depends on the wording of the clause itself) not be liable for its failure to carry out its obligations under the contract for the period of the disruption and (depending on the drafting of the clause) for a period thereafter, should the clause cover the event which has occurred.

This can be a useful protection for businesses affected by unplanned events, such as the events we are living through today. Without a valid force majeure clause to rely upon, the affected party may not get any relief in the event that it is unable to perform its obligations – although this is not always the case, see myth 7 for more on this point.

Myths

1) ‘Pandemics, such as the COVID-19 outbreak, will always activate a Force Majeure clause, granting me relief from performing my contractual obligations’

Myth!  The short answer is that pandemics will not automatically constitute a force majeure event.

Whilst many clauses do list a pandemic as a triggering event, without clear wording showing that the event in question constitutes a force majeure event, there is no guarantee that the clause will apply. Where there is any uncertainty then it will be for the courts to interpret the relevant clause, and it will generally be interpreted against the party seeking to rely on it in the event of any ambiguity.

Scenarios like ‘state of emergency’ or ‘government regulations’ are all potentially connected, but there are no guarantees that such wording would apply to a pandemic, albeit that if the government publishes any governmental regulations (which it is anticipated will be the case) then this could change the position.

In addition, many force majeure clauses include a catch-all provision stating that “anything beyond the reasonable control” of the parties will constitute a force majeure event. The COVID-19 outbreak could fall within this definition.

Even if it can be established that the relevant event is an “in scope” event for the purposes of the relevant force majeure clause, this does not necessarily mean that the force majeure remedy will be available – this will depend on the wording of the force majeure clause itself. For example, some force majeure clauses require that the unplanned events make it impossible for the relevant party to perform its obligations, whereas others include a lower threshold.

If an unplanned event is in scope and the impact on the party meets or exceeds the threshold required by the clause, the question then arises as to what steps the affected party is required to take to mitigate the effects and what process they are required to take to activate the force majeure protections (typically service for a formal notice). If either of these points are not correctly addressed in the requisite timescales, it could result in force majeure protections being lost. Again, the terms of the contract itself will be an important consideration when assessing these points.

2) ‘What constitutes a “force majeure event” has a set meaning in English law’

Myth! In fact the phrase “force majeure” has no set definition in English law. Whilst the courts have given a view in many cases as to whether a particular set of facts/circumstances constitute a force majeure event under the relevant contract, there is no set definition of what a force majeure event is. Therefore, it is up to the parties to decide what is meant by ‘Force Majeure’ on a contract by contract basis. More importantly, the courts have specifically said that they will interpret these clauses by the words stated in them and not by the general intention of the parties. The drafting of the agreement is therefore paramount. There is no legal requirement for a force majeure clause to be included in a contract – if the relevant contract does not include a force majeure clause, the courts will not generally imply one.

As such, if you are looking to rely on a force majeure clause, an important first step is to look to see whether current circumstances could constitute a force majeure event – this should be done urgently as protections can be lost if the contract clauses are not activated within any timescales set out in the contract. The timescales and processes vary by contract, so an analysis is required on a case by case basis.

3) ‘There is no harm in seeking to use the Force Majeure clause to cancel the contract or suspend provision of services, even if I’m not certain it applies’

Myth! Regrettably, attempting to use the Force Majeure clause incorrectly or where you are not entitled to do so, either to suspend or terminate the contract, could result in you being in breach of the contract yourself. For example, if you stop performing your obligations under a contract whilst relying on a force majeure clause, where the clause does not apply or it does not allow you to stop performance in that manner (or if there are conditions / requirements for triggering the clause which you have not complied with), then you may find yourself in breach for failing to perform the obligations. Therefore there can be a significant risk in seeking to rely on a force majeure clause if the right has not in fact arisen.

4) ‘The contract is not economical now, so I will automatically be allowed to terminate it under the force majeure clause’

Myth! Whilst the affected party is very likely to feel like this, unfortunately it is an established principle under English law that a change in economic fortune or market values, which affect the contract or the ability of parties to perform it, does not automatically constitute a Force Majeure event. Instead, a party will need to show that the surrounding circumstances match the definition of a force majeure event under that particular contract.

5) ‘If I use a force majeure clause to terminate the contract, it will be treated as if it never existed’

Myth! Assuming that the force majeure clause does apply and it does entitle a party to terminate the contract, the contract is not treated as if it had never existed. Instead, the contract comes to an end in accordance with the termination notice served by the affected party. All existing claims for prior breaches (assuming they are not excluded by the contract) will remain and it is likely (again subject to the terms of the contract) that a customer will still have to pay for services properly performed under that contract prior to its termination.

6) ‘I am a customer – a force majeure clause will always allow me to cancel orders under the contract’

Myth! We have seen a number of instances recently where customers have sought to rely on force majeure clauses to cancel events due to the coronavirus outbreak.

Again, whether or not this is the case will depend very much on the terms of the clause itself. Whilst it is entirely possible that a contract will allow the customer to cancel orders if a force majeure clause does apply, this is not automatically the case.

Most force majeure clauses excuse temporary non-performance of the duties under the contract. They do not normally create new rights which didn’t already exist.

As a customer’s obligations under a contract are usually fairly limited, the scope for a customer to trigger a force majeure clause is typically less than the scope for a supplier to do so.

7) ‘If the force majeure clause doesn’t apply then there will be no other remedies available to either party’

Myth! A force majeure clause is not the only remedy available in circumstances such as the current pandemic. The contract itself may grant other remedies under its terms, but in addition there are certain other legal doctrines which may apply in the absence of any contractual protections.

The most likely of these is “frustration” which, put simply, will bring a contract to an end if it becomes illegal or impossible to perform. That is a generalisation and there are several requirements which need to be fulfilled before frustration applies however it is something worth bearing in mind.

If a contract is “frustrated” it is brought to an end but it is not treated as if it never existed. Obligations which arose before the frustration event can still apply and the law can govern what sums are due under the contract in respect of events prior to the frustration event.

If a Force Majeure clause is enforceable, what can an affected party use it for?

Depending on the drafting of the clause, these rights and remedies are the most common within Force Majeure clauses:

Suspension of obligations: perhaps the most typical ability for an affected party – a party will be excused from performing their obligations under the contract for a period of time which is usually linked to the amount of time the force majeure event impacts performance;

– Non-liability:  the non-performing party’s liability for not performing (or delaying) performance of an obligation is often removed for the duration of the Force Majeure event;

– Right to terminate: parties may agree to include wording to allow termination after the relevant force majeure event has impacted performance for a set period of time, but consideration needs to be given as to whether the clause allows the non-affected party, the affected party or either party to terminate. As explained above, seeking to terminate an agreement in reliance of a force majeure clause when not entitled to do so could result in you breaching the contract yourself.

Next steps?

If you are an affected party or have received notice from an affected party, we would advise:

1.  Read the clause incredibly carefully – establish what the wording specifically includes in the definition of a ‘Force Majeure event’ and what rights and remedies arise as a result;

2.  If the clause is sufficiently clear, follow any instructions in the clause verbatim – for example, what is the notice period, does notice need to be in writing and/or do you need to mitigate any situation; and

3.  Speak with us, or your legal team, if there is any element of doubt – an error can be extremely costly.

If you are in the process of drafting a contract, or are planning to do so in the future, it has never been clearer that an express clause, as referred to above, is essential. Such a clause can provide clarity and certainty for all parties and we must, now more than ever, consider the Force Majeure clause carefully.

Similarly, if you are looking to rely on a force majeure clause or the other party to your contract is seeking to do so, it is imperative that you are clear on the scope of the clause itself and which remedies do and do not arise.

How can we help?

We provide expert advice on commercial contracts– contact the experienced commercial solicitors at Herrington Carmichael LLP for specialist advice as soon as possible.

Please contact Mark Chapman or Cesare McArdle on 01276 686222 or via email: Mark.Chapman@herrington-carmichael.com and Cesare.McArdle@herrington-carmichael.com

This reflects the law at the date of publication and is written as a general guide. It does not contain definitive legal advice, which should be sought as appropriate in relation to a particular matter.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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