Apr. 1, 2020

With COVID-19 and Force Majeure, Canceling Deals Is Not OK!

The continued spread of COVID-19 has caused a global pandemic like never seen before. The daily lives of individuals are being affected, and the operations of businesses are being interrupted and in certain instances terminated altogether.

 

Given the financial and personnel uncertainties that COVID-19 has caused, many businesses are seeking creative options to excuse their performance under their existing contracts, whether mergers and acquisitions, financing, manufacturing, distribution, etc. 

One main argument that businesses will attempt to use to get out of their contracts is force majeure, Latin for superior force. Most contracts contain force majeure clauses that essentially state that extreme and unforeseen circumstances beyond the control of either party (force majeure events) may excuse a party’s performance under the agreement.

However, these force majeure clauses are far from uniform, and many contracts do not adequately articulate what constitutes a force majeure event. For example, a sample construction agreement states that “force majeure shall extend only to events beyond the reasonable foreseeability and control of the  contractor and shall include delays directly resulting from fire, strike, labour disputes and delay in delivery of the materials to be supplied by subcontractors, resulting from force majeure as defined herein.” 

Conversely, a sample loan agreement defines force majeure as “events occasioned by strikes, lockouts, war or civil disturbance, natural disaster or acts of God which cause delay in borrower’s performance of an obligation.”

If an event is specified in a force majeure clause, then if the specified event occurs, the impacted party (the obligee) is excused from performance. Generally, when the specified event is not listed, this means that the parties allocated the risk of the specified event to the impacted party, or the obligor.

Epidemics and pandemics are usually considered their own specified events for purposes of a force majeure clause. While the terms epidemic and pandemic are not used in the provisions above, the construction agreement’s force majeure clause contains a catchall provision for events “beyond the reasonable foreseeability and control of the contractor.”

This is almost verbatim phrase given in template documents such as similar “events beyond the [reasonable] control of the impacted party.”

How broadly this phrase may be interpreted depends upon the state law interpretation. For example, a Florida court may interpret the phrase to capture only unlisted events that are similar to the listed events. A 2010 Second District Court of Appeal decision in Snavely Siesta Associates v. Senker held that a phrase in a purchase agreement’s force majeure clause which excused performance for circumstances the seller’s control was tethered to the phrase “such as acts of God, or any other grounds cognizable in Florida contract law as impossibility or frustration of performance” and must be interpreted in conjunction with such. 

Additionally, many contracts do not explain whether the presence of a force majeure event merely allows a party to delay performance until it becomes commercially practical to perform or whether such an event allows a party to terminate the contract altogether. 

For sellers and other businesses facing force majeure claims from their buyers, vendors or other contracting parties, what can you do? What is your recourse against these parties who are attempting to get out of their agreements because of force majeure? What is the net effect of all of this?

Businesses and their lawyers must identify the scope of contracts that contain force majeure clauses. This process entails reviewing and evaluating whether the force majeure provisions in existing agreements sufficiently explain what constitutes a force majeure event and whether the provision provides for a detailed procedure to be followed if such an event occurs.

This process requires continuous monitoring of state and federal responses to the coronavirus. In the possible event that COVID-19 results in a government-mandated cessation of the impacted business, this would almost certainly trigger a “beyond the control” catchall phrase in a force majeure provision. 

If existing force majeure clauses are simple boilerplate provisions that lack the requisite detail, whether the COVID-19 constitutes a force majeure event will be an interpretation question for the courts and arbitrators to determine. Also, if existing force majeure clauses contain catchall phrases for other events “beyond the control” of the impacted party, a careful review of the listed events will be very important to ascertain whether COVID-19 falls in line with the clause’s listed events.

In sum, there are strong arguments that businesses should not be able to use a force majeure argument to throw away their contracts. While performance under a contract may in certain circumstances be reasonably delayed, parties must ultimately abide by their contractual obligations. Such is the beauty of the freedom to contract. In 1955, the Florida Supreme Court ruled in Beach Resort Hotel v. Wieder, “It is well settled that courts may not rewrite a contract or interfere with the freedom to contract or substitute their judgment for that of the parties thereto in order to relieve one of the parties from the apparent hardship of an improvident bargain.”

Notwithstanding that argument, we expect that COVID-19 will shed new light on this topic and highly recommend that consumers and businesses alike review all important agreements in order to understand how force majeure clauses might impact their contractual relationships.

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