Covid-19 and its impact on business contract termination
The economic impact of the Covid-19 pandemic has been overwhelming for businesses. The severe disruption has meant that many companies have been unable to meet their contractual obligations or have suffered loss because their suppliers have been unable to deliver under an agreement.
English law generally works to ensure that a contract, even where there is a change in circumstances, making a contract more difficult or costly or even impossible to perform, has to be performed and will be enforced. The foremost exceptions to this general principle are Force Majeure and Frustration, considered in more detail below.
These principles, in theory, could offer an opportunity to a party wishing to terminate a contract because of the impact directly caused by the Covid-19 pandemic.
The Covid-19 pandemic – is it a force majeure event and what is force majeure?
Force majeure is French derived. The English equivalent of Act of God more clearly describes the concept, whether you are a believer or not! Earthquakes, floods, typhoons, serious storms and natural disasters not in the control of woman or man are examples.
But because force majeure is never implied into a contract, it exists as an exit route only when defined. Accordingly, force majeure clauses are stretched in some instances to anything outside of a contracting party’s immediate control, which of course is something completely different. It is important therefore to look to the drafting, to see if there is a force majeure clause.
The key issue is then to identify if the force majeure clause covers the Covid-19 outbreak. If the words epidemic or pandemic are included, that is a good start. If the clause extends to ‘circumstances beyond the party’s control’, this will probably also cover Covid-19, even though, in general, such wording carries with it a higher risk of uncertainty.
Force majeure clauses usually specify how a force majeure event must impact the contract. For example, that the force majeure event has to prevent performance entirely or result in a delay for a specific period of time. Often, these clauses will require parties to take reasonable steps in mitigation. This concept is inherent in our common law system, requiring an affected party to take steps to ensure it mitigates damage arising. So, all contracting parties should take reasonable steps to avoid or reduce the adverse consequences of a contract breach arising because of Covid-19.
What is the effect of force majeure clauses? This will again be dependent on the drafting of the specific clause, but some clauses will permit an absolute termination whilst others only partial termination or a delay of performance.
If you think you can rely on a force majeure clause to release you from your contractual obligations, be aware of any notice that should be given, whether this is specific to the force majeure clause or the more general notice provisions of the contract. In any event, clear and prompt communication of issues arising that may trigger a force majeure clause, is always the best path forward in any business relationship.
Frustration of commercial contracts due to Coronavirus
We are all very frustrated by Covid-19. Are your contracts? The doctrine of frustration needs to be considered. As a common law doctrine, this has the advantage of no specific contract clause being required.
For frustration to apply, an unpredictable or unforeseeable event must make performing the contract impossible, illegal or so radically different from that contemplated by the parties at the time they entered into the contract, that it would be unfair to insist on performance. The effect of frustration is to terminate the contract and release all parties from their remaining obligations. If there is an alternative, which is more costly or inconvenient, the contract will still be upheld.
The courts have generally been reluctant to infer frustration and will look to the facts, the parties’ knowledge and their ability to perform in the circumstances. There is a high burden of proof placed upon the party seeking to rely upon frustration. Furthermore, available rights of redress are limited. It is not yet clear how the courts will apply frustration to contracts effected by this pandemic, and frustration is not an easy or always available route to take. Commercial sense will dictate whether it is more sensible to negotiate alternative terms of performance in order to continue a commercial relationship and to change it to a way that works. The impact of Covid-19 has been so fundamental and widespread affecting so many business areas that many contracting parties have amicably agreed significant changes to pre-existing commercial agreements, to accommodate the unforeseen and unforeseeable impact of the Covid-19 pandemic.
If you do agree to a delay in performance or a variation to your business contract, consider whether you wish to reserve your rights to bring a future claim should you need to. In any event, clarity and openness is key and it is important to agree everything in writing, which of course, our corporate department can help you to do.
Government interference with contract
Given the extent of the Covid-19 pandemic, the Government has intervened in numerous types of commercial arrangements. We have seen, for example, laws preventing landlords evicting tenants, preventing companies from being wound up etc. There has however been no direct intervention in terms of enforceability of general commercial contracts, no government-imposed force majeure regime. It is clear however that in a situation as serious as that generated by Covid-19 (which comes on top of much business disruption arising from the impact of Brexit) there is an expectation of parties behaving reasonably. It is also likely that a business that has done everything possible to make accommodation, taken steps to mitigate issues, limit damage and which has communicated this clearly and openly, will be regarded in a much more favourable light in Court, should litigation ensue.
Michael Hatchwell – Partner, Corporate & Commercial
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Please note, the information provided above should be read as general guidance and is not intended to be conclusive law. Please contact us to discuss your specific issues or requirements and we will be happy to advise you accordingly.