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How COVID-19 is Impacting Contractual Obligations

The coronavirus pandemic is causing massive disruptions to local, regional and national economies.  Industries like travel, hospitality, live-events, restaurants, theaters are the first but not the last to feel the impact. 

At whatever the scale, the economy is based on agreements between parties that are now being strained.  How these events will impact each side depends on the contract and the relationship of the parties.

The contract world can be separated into 2 categories:

  1. those with force majeure provisions, and
  2. those without

Force majeure contracts

Force majeure means a superior force which causes an unexpected and disruptive event that may operate to excuse a party from a contract.  A typical force majeure provision will excuse the performing party from its obligation but only for the duration of the event.

Key questions that arise are:

  1. What events constitute force majeure?
  2. What must the performing party do to comply with the force majeure provision?
  3. How long does the performing party have to perform?

Not every event will qualify as a force majeure.  The coronavirus pandemic certainly should, but may not, qualify under any definition of force majeure.  It is clearly unexpected and the disruption is on a global scale.  Therefore, the performing party should be excused from performing so long as the event (COVID-19) makes performance impossible or unreasonably difficult.

Some contracts will require that the performing party provide written notice to the other party of their inability to perform and the reasons therefor.  Others require that notice specify when the performing party will be able to fulfill its obligations.  In the case of the coronavirus pandemic it is not clear if a performing party could provide a date certain on which it can perform.  Either way the performing party should provide notice of the disruption even if it cannot provide a date certain of resumption in performance.

In some cases, the force majeure provision will give the non-performing party the right to terminate the contract if the performance does not take place within a set time period (e.g. 90 days).  In our current situation it is not clear if termination would even be helpful to the other side.  Termination is only a useful remedy if that are other counter parties who can actually perform on similar terms. 

No force majeure contracts

In situations where there are no force majeure provisions, the parties must look to the governing law in their contracts.  Governing law is usually the state law of one of the contract parties or a neutral state like Delaware.  This default to state law can create significant uncertainty for companies that have agreements across many states.

In general, courts will impose a good faith standard as well as commercially reasonable effort standard on the performing party.  If the performing party can show it is trying to perform and is using reasonable efforts then a court is unlikely to decide in favor of the non-performing party.  Using the courts to resolve such a dispute is not a fast or efficient remedy unless there are exceptional circumstances in play.

Contracts that fit under the Uniform Commercial Code (“UCC”) are more likely to have an established process for dealing with disruptions.  Good faith and reasonable efforts are core principles of the UCC.  The UCC specifies that a buyer of goods that has received notification from the seller that there will be a material or indefinite delay or that only partial performance is possible may:

  1. Terminate the contract and discharge any unexecuted portion, or
  2. Modify the contract to the extent that the seller can provide partial performance

Relationship of the parties 

If the parties have a good relationship with open communication, then there will be several options to deal with the uncertainty caused by the coronavirus pandemic.  The parties should be able to agree on what is acceptable in the circumstances.  Choices for this approach include modifying the contract to allow for substitute goods or services or otherwise altering terms, freezing the contact or termination.

If the relationship is not good then the non performing party is likely to try and cancel or terminate the agreement.  Termination is fine if there are other parties that can take the place of the former performing party.

Conclusion

  1. Performing parties should review the terms of their agreements to see if COVID-19 fits within the definition
  2. Even if it the current crisis does not squarely fit within force majeure, written notice should be given to the other side of the impact of the crisis on performance
  3. In situations where there is no force majeure clause or written contract, both sides should cooperate in finding ways to modify their arrangement to the extent possible