How will the Covid-19 pandemic affect my commercial contracts?

26th March 2020

As a business owner, you’re already taking steps to respond to the Covid-19 pandemic, prepare for it to get worse and protect your business, staff and customers as far as you can. If you are likely to have difficulties in meeting your contractual obligations or a contracting party has given an indication that it will fail to adhere to the contractual terms due to Covid-19, it’s time to carefully review your contract to determine your options.

So what should you be looking at when it comes to the commercial contracts you have in place?

The force majeure clause in relation to Covid-19

The key clause to look at is the force majeure clause.

Some legal systems have specific legal definitions of force majeure, which apply whether or not the contract contains a force majeure clause. However, that is not the case in England and Wales. Under English law, force majeure is not defined, either in statute or under case law. This means the concept of force majeure will not be implied in a contract. In other words, you can only rely on it if it is expressly covered in the contract.

Force majeure provisions differ from contract to contract (if they contain them at all). As a general rule, if a contract does contain a force majeure clause, it is important to consider:

  • whether the definition of force majeure event covers ‘epidemic’, ‘disease’ or similar (if not, the clause is unlikely to bite, unless there is some form of ‘catch-all’ wording);
  • what obligations are placed on you and the contracting parties if a force majeure event occurs (e.g. regarding notification, taking steps to mitigate, etc.); and
  • what the implications of a force majeure event actually are, in particular with regards to termination of the contract.

It is also important to consider when any force majeure clause can be relied upon. Some clauses are widely drafted, in that they refer to failure to or delay in performing the contracts that arises from or is due to a force majeure event.

In our view, under those contracts, it might be possible to rely on the force majeure clauses where it has become very difficult (but not impossible) to perform the contract.

Other force majeure clauses might be stricter, in that they use a phrases such as ‘unable to’ or ‘impossible to’ perform the contract. In those circumstances, the force majeure clause may only be available if complete lockdown is ordered by the government.

Either way, it will be important to be able to demonstrate that it is the Covid-19 outbreak itself which has caused the non-performance / imperfect performance of the contract.

Are there any other options if I can’t rely on the force majeure clause?

If you can’t rely on a force majeure clause, it might be possible to apply ‘frustration’. The Law Reform (Frustrated Contracts) Act 1943 applies where:

  • contract is governed by English law;
  • the contract becomes impossible for the affected party to perform or is otherwise “frustrated”; and
  • due to this frustrating event, the parties are discharged from their duties under the contract and the contract is “frustrated”.

The test under the Act is very high, as performance must either be impossible, or the frustrating event has made the performance of the contract result in something that is so radically different from what was originally envisaged that the original obligations are, in effect, incapable of being performed.

In practice, it is not easy to succeed with a frustration argument. That being said, it is worth considering given the serious impact Covid-19 is having on businesses and the supply chains.

What about breach of contract?

Where neither force majeure nor frustration can be relied on, many businesses are likely to find themselves in breach of contract. In those circumstances, you should consider:

  • the consequences of the breach of contract. How serious is the breach? Does it amount to a repudiatory breach, such that the other party is entitled to terminate the contract. Does the contract itself say anything about the consequences of the breach?
  • whether the contract contains a ‘dispute resolution’, ‘arbitration’ or similar clause, and the impact of the same; and
  • whether any steps can be taken to mitigate / minimise the other party’s loss that flows from the breach. Are there any steps that can be taken to work with the other party to limit its loss and thus any potential claim?

Practical steps you can take right now

Rather than waiting until you need to rely on force majeure or frustration, we recommend engaging with suppliers and customers to start discussing Covid-19 and its implications. You might be able to discuss a possible renegotiation, or postponement of obligations. Be aware that in order to be effective, many contracts will stipulate that variations must be in writing.

You should also consider the longer term implications of relying upon force majeure. When the outbreak is over, you will want your suppliers and customers to be in a good position and to still have a relationship with them.

It might be preferable to use your contractual right as a bargaining chip rather than actually acting on it – in other words, discuss reducing / modifying your obligations rather than avoiding them completely.

You might also find you are able to perform some, but not all, of your contractual obligations. In this case, you should consider the terms of each contract carefully and balance the pros and cons of:

  • partially performing all;
  • performing those that bring the most benefit; and/or
  • performing the contract that carries the greatest risk of being successfully sued if breached.

Legal advice is necessary when trying to calculate risk under (c) above, but (a) and (b) are largely commercial considerations.

It is also worth considering the force majeure clauses in any contracts you enter into over the coming months. For the avoidance of any doubt, it would be sensible to expressly refer to Covid-19 in any definition of force majeure event.

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