The Applicability of Force Majeure Clauses to Pandemics: Does COVID-19 Excuse Nonperformance of Contractual Obligations?

24
Mar 2020
The Applicability of Force Majeure Clauses to Pandemics: Does COVID-19 Excuse Nonperformance of Contractual Obligations?

The uncertainty surrounding COVID-19 is leaving many members of the business community anxious about the new, unexpected risks that could impact their future. Specifically, the effects of new pandemic-centered regulations and restrictions on contractual relationships with incomplete performance obligations. Parties are now seeking legal advice to determine whether their contracts contain terms to excuse nonperformance of their contractual obligations, or rescindment of the contract entirely, under these extraordinary circumstances. Depending on the contract’s language, a force majeure clause may have been inserted as a protective measure when extraordinary circumstances are responsible for the nonperformance of a party.

What is a force majeure clause?

A force majeure (Latin for “superior force” or “Act of God”) clause is a provisional clause in a contract that can excuse a party’s nonperformance of contractual obligations when the party is confronted with unforeseeable circumstances beyond its control. While contracts seek to allocate foreseeable risk, this clause becomes relevant when a party claims an inability to perform its obligations due to the occurrence of an extraordinary event, which was not originally foreseen or contemplated by the parties. Once this claim is made, it is then the court’s responsibility to conclude whether the force majeure clause at issue applies to the particular circumstances and will render nonperformance excusable.

Applicability of the clause is measured by looking at whether (1) the extraordinary event qualifies as force majeure under the contract at issue; (2) the risk of nonperformance was foreseeable and able to be mitigated; and (3) performance is truly impossible.

Qualifying the event at issue as force majeure under the contract.

First, an event may qualify as force majeure if the clause specifically identifies it as force majeure.  However, if not specifically listed as a qualifying event, the clause must at least generally identify the circumstances at issue as force majeure in order to satisfy this requirement.

For example, the World Health Organization (“WHO”) declared COVID-19 to be a pandemic. A pandemic is defined by the WHO as a “worldwide spread of a new disease” with a high likelihood of significant impact or severity because of a lack in preexisting immunity. If a force majeure clause were to specifically list “pandemics” as a qualifying event, COVID-19 would satisfy this requirement. On the other hand, if the clause contains no explicit language, but does reference “worldwide diseases”, COVID-19 could arguably still apply as a qualifying event.

Measuring the foreseeability of the risk of nonperformance ability to mitigate.

Foreseeability of the risk of nonperformance regarding the qualified event and the ability of the nonperforming party to mitigate damages must also be measured by the court.

Since COVID-19 began overseas, giving American businesses some warning, evidence of any mitigation efforts will be extremely important. Clients seeking to declare force majeure should secure and preserve evidence of any affirmative steps that were taken to try and safe-guard the contractual obligations. These could include insurance policies, alterations to plans, and attempts to relocate or reschedule.

Performance is impossible.

The language of the clause may describe the appropriate standard to measure the possibility of performance. Also, the choice of laws applied to the contract may affect the outcome. In North Carolina, performance must be objectively impossible in order to successfully plead force majeure. However, depending on the jurisdiction, this standard may be described as “impracticable.” Regardless, since excusing one party’s nonperformance of their contractual duties seriously undermines the value and purpose of contracts themselves, courts tend to interpret these clauses fairly narrowly.

Ordinarily, inability to preform solely for financial reasons will not be excused.  The 2008 financial crisis resulted in a surge of force majeure declarations, leaving many courts in subsequent years reluctant to excuse nonperformance based on financial constraints, unless financial constraints are specifically referenced in the language of the clause.

All businesses who are seeking review of their contractual obligations must realize that because the circumstances surrounding COVID-19 are rapidly changing each day, there will likely be no universally applicable conclusion. However, in determining the applicability of force majeure clauses in the near future, it will be important for parties to work closely with their attorneys to prepare for the repercussions of COVID-19.

If you have an questions involving contracts and commercial law, contact Allen Stahl + Kilbourne

By James Kilbourne and Derek Allen

 

Updated: March 24, 2020