COVID-19 and Force Majure Contractual Provisions
It turns out law school was very helpful to practicing law – every first year law student is required to take a contract law class. Now, lawyers are able to apply what they learned in the most unlikely of circumstances – the Covid-19 pandemic.
Companies suffering from the shelter in place and business disruptions have to identify and assess liability under contracts with vendors, suppliers and customers. A basic contract provision is a force majure clause which generally excuses a party from performing a contractual obligation when “acts of God” or other unusual occurrences prevent a party from satisfying contractual obligations. For example, if a tsunami or major weather event destroyed a company’s manufacturing or fulfillment center, the company may be excused from performance under a force majure provision in a contract.
Like most issues in the law, the impact of a force majure provision is not black and white, and can depend on a number of surrounding factors. Companies are facing real questions concerning the impact on ongoing business resulting from the global pandemic. A company may not be able to manufacture, distribute and sell their products.
Companies have to assess the impact, determine the extent to which business insurance may apply, and consider reasonable alternative solutions to business disruptions. If a company can take affirmative steps to minimize the disruption by finding alternative suppliers, vendors or customers, a company may have to pursue such alternative assuming it is a reasonable solution. A company that fails to mitigate or consider alternatives may find itself facing serious questions as to its ability to rely on a force majure provision to excuse non-performance.
A party seeking to invoke a force majure clause has to satisfy various requirements – a party cannot just rely on a unusual event and justify non-performance. A specific event, like a COVID-19 pandemic, has to fall under the specific definition and requirements of a force majure provision. In most cases, the unusual event and the non-performance under a contract has to be foreseeable and the impact has to be mitigated. Ultimately, the party has to show that performance was impossible.
In other words, several questions have to be answered:
- Does the force majure clause encompass the COVID-19 global pandemic?
- Did the COVID-19 global pandemic cause the party’s nonperformance of the contractual obligation?
- Assuming the answers to 1 and 2 are positive, a party seeking protection under the force majure clause has to mitigate a foreseeable risk to avoid the consequences of nonperformance.
- Was the party’s performance impossible or impracticable (depending on the jurisdiction)? In most cases, nonperformance for financial or economic reasons. When COVID-19 results in the shutdown of a company for a period of time covering a performance obligation, the party is likely to succeed in pursuing force majure defense.
Companies are going to face a number of difficult issues surrounding force majure provisions and the COVID-19 pandemic, including business shutdowns, travel restrictions and employee stay-at-home orders.
Companies have to plan ahead on this issue and document relevant information needed to sustain a force majure defense. Many companies are struggling with continuity plans and face significant disruptions of operations. Depending on the specific factors, companies have to evaluate applicable force majure provisions, identify facts, assess mitigation alternatives, and design a documentation plan to support a course of action.
If companies undertake an affirmative strategy, they need to plan for the impact the virus is likely to have on its operations based on data as to the location and likely spread of the virus. Such planning is difficult to anticipate given the number of factors outside the company’s control (e.g. government response, individual compliance with government recommendations or orders).
Companies have to consider a variety of alternatives:
- Transfer of functions to other company locations/countries to avoid COVID-19 impact;
- Consider alternative suppliers if a company anticipates losing a specific supplier; and
- Remote working solutions for employees and ability to complete work responsibilities.
These issues are important for a company to consider to meet mitigation obligations and should be documented.