COVID-19 and contractual obligations

With the World Health Organisation declaring that COVID-19 is a pandemic and subsequent imposition of Government restrictions, many are considering what the impact may be on their contractual obligations.

There are two points of consideration:

• Force Majeure clauses in contracts; and
• the common law doctrine of frustration.

What is Force Majeure?

The term ‘force majeure’ is a French term meaning “superior force” and in a legal context, is used to refer to a contractual mechanism to end a contract where an event outside of the control of the parties occurs preventing the contract from being performed.

Where a defined event has occurred, which is outside the control of the contracting parties, then the force majeure clause may offer relief when a party is not able to perform its obligations.

Performance of the contract must be literally impossible, not merely inconvenient, more costly or no longer commercial. The burden of proof lies with the party seeking to use the force majeure clause to terminate the contract.

Force majeure clauses must be expressly referred to and defined in a contract. Also, depending on how the clause has been drafted, only those events which are defined in the clause will trigger the force majeure clause. The clause may contain references, for example, to natural disasters, an ‘act of God’, Government intervention or a pandemic. However, the clause may not define the events in which case there is broader scope for the clause to be invoked.

Is there a force majeure clause in all contracts?

No. It is up to the contracting parties to have agreed the terms of their contract and if a force majeure clause was to be included.

The starting point is to read your contract and see if it contains a force majeure clause. If it does, then you need to consider the defined events and take note of the notice requirements in your contract if you propose invoking the clause to terminate the contract.

You should only seek to terminate your contract under a force majeure clause after careful consideration, after seeking legal and financial advice and possibly only after failed negotiations with the other party.

All possible options should be considered, including the possibility that certain aspects of the contract may still be able to be performed, that there may be other ways to complete the contract and any other alternatives.

Also consider whether the ‘event’ that you think has stopped performance of the contract is a temporary interruption, or whether in fact it will be impossible to perform the contract.

The consequences of getting this wrong could amount to an expensive mistake, leading to a possible wrongful termination of the contract and consequential damages being payable to the other party.

Does COVID-19 mean that a force majeure clause applies?

The declaration of a pandemic in itself does not trigger the termination of a contract. However, it may be a reason to activate the provisions of a force majeure clause in a contract. Not every contract contains such a clause and you will need to check your specific contract in this regard. If your contract doesn’t contain a force majeure clause, then in general it will not be implied into the contract.

To determine whether COVID-19 affects the performance of your contract, the starting point is to review the contract terms and, the defined events which are force majeure events.

In our current situation, if the clause refers to a ‘pandemic’, or ‘infectious disease’, then it’s possible the clause may operate to terminate the contract. Alternatively, it may not be the pandemic itself, but later Government restrictions or labour shortages, that may trigger the force majeure clause.

What is the doctrine of frustration?

Other relief may be available where the contract has been ‘frustrated’, meaning where an event has occurred, through no fault of the contracting party, that the obligations under the contract have become incapable of being performed.

For frustration to occur, the circumstances need to be radically different to those contemplated at the time of entering into the contract and meaning that performance of the contract cannot be completed. Frustration of the contract will discharge all parties from their obligations under the contract.

The doctrine of frustration is a common law doctrine and is unlikely to be explicitly referred to in a contract. So, you’re not likely to find a clause in your contract talking about frustration.

The standard of proof is very high and requires the party seeking to rely on the doctrine of frustration to show that it is impossible to perform the contract. If there is an existing force majeure clause in the contract which covers the circumstances, then generally speaking, the force majeure clause must be relied on, rather than frustration.  Note that a mere delay in being able to perform contractual obligations does not amount to frustration, and neither does hardship or unforeseen loss.

A contract which is taken to be frustrated will be terminated and remaining obligations will be discharged. However, liability for obligations performed before frustration will continue. Again, you should carefully consider claiming that a contract has been frustrated, as a wrongful termination of the contract could be costly.

 

Given the complexities of the issues referred to in this article, we strongly recommend that you seek legal advice on your circumstances before making any decisions. We can help you with this.

 

 

Please note that this article has been prepared by Bell Legal Group, for information purposes only. It is not legal advice nor should it be relied upon as such.

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