If the COVID-19 epidemic is affecting your business, you might get relief through clauses on force majeure and frustration
Disease rarely affects construction in a macroeconomic way – until now. China’s global presence in the construction space is unparalleled. According to the Nikkei Asian Review, Chinese contractors took nearly a quarter of international construction revenue in 2018, so disease that paralyses China will inevitably have repercussions.
My firm has seen two energy-related arbitral cases listed in Singapore this month both adjourned at the last minute due to COVID-19 travel restrictions affecting witnesses and tribunal alike. China meanwhile has issued more than 1,600 force majeure slips (covering a total contract value of $15.7bn) to COVID-19 hit companies to shield them from damage liabilities. These certificates, which are recognised in more than 200 countries, exonerate companies from not performing contractual duties by certifying they are suffering from circumstances beyond their control.
Companies need to consider their obligations in response to government announcements, business disturbance and other commercial risks
While an epidemic may not be seen as an unforeseeable event given outbreaks of flu since SARS in 2003 and MERS in 2012, the unprecedented scale of travel restrictions being put in place (many of which are illegal) together with their swift implementation could differentiate this outbreak from other epidemics.
Companies need to consider their obligations in response to government announcements, business disturbance and other commercial risks, as well as the options under their contracts, including the doctrine of frustration and operation of force majeure (FM) clauses.
In most civil law countries, the doctrine of FM applies where exceptional and unforeseen events threaten excessively onerous loss. FM does not have a precise legal definition, but it is more extensive than an “act of God”. Typically, an FM clause will list a number of events that may excuse a party from its obligations. The word “epidemic” is often listed as one such. Therefore, in light of the WHO’s classification of COVID-19 as an epidemic, a party to a contract containing an FM clause should not have much difficulty asserting that COVID-19 triggers that clause.
A FM clause enables the contractual parties to allocate the risk of an unforeseen event adversely affecting one party’s ability to perform its obligations. The provisions of a FM clause are often more sophisticated than the automatic discharge of obligations that may result through the doctrine of frustration.
A contract is frustrated when an obligation becomes incapable of being performed because of an intervening event or circumstance that makes further performance radically different from that contemplated by the parties. If frustrated, both parties are discharged from further obligations as at the date of frustration. Obligations accrued up to that time remain valid.
The doctrine normally operates narrowly. It cannot usually be invoked to relieve a party from an imprudent commercial bargain, nor where the parties have foreseen the relevant event and contractually provided for it. Frustration is notoriously difficult to establish. At common law, frustration usually results in the contract being brought to an end forthwith (and both parties being released from further obligations).
Under English law, the doctrine of impossibility is much narrower
Is impossibility an excuse? Some states in the USA take a pragmatic view of impossibility and may excuse performance of a contract if a party is unable to perform its obligations by reason of external circumstances for which it is not responsible. Under English law, the doctrine of impossibility is much narrower.
If you believe your company’s obligations under a contract have been affected by COVID-19, you should consider whether the contract includes an FM clause. If it does not, or if COVID-19 does not fall within its scope, you may seek to rely on the doctrine of frustration to discharge the contract. Such reliance is only likely to be successful if the effect of COVID-19 can be shown to render performance impossible, or only possible in a very different way from that originally contemplated. Mere inconvenience, hardship, financial loss in performing the contract, or delay within the commercial risk undertaken by the parties, will usually be insufficient to frustrate.
Given the narrow confines of the doctrine of frustration, now is an apt time to review the FM clauses in your contracts. Therefore:
- Before any decision can be taken on whether FM or frustration applies, determine the applicable law.
- Review clauses and the allocation of risk in on-going contracts, particularly in relation to the consequences of conflict or pandemics.
- Review insurance provisions.
- Check contractual provisions to identify entitlements that may arise in terms of extensions of time, additional cost and suspension of works.
- Put in place systems for recording delay and additional cost due to the event.
- Gather evidence proving the FM and/or frustrating event.
- Ensure that necessary contractual notices are provided on time.
- Marshall evidence proving causation between the event and failure to perform/frustration of purpose.
- Consider initiating a lawsuit or arbitral proceedings as a fallback.
Simon Tolson is a senior partner at Fenwick Elliott