At the heart of most commercial relationships lies a contract. Due to the pandemic, parties have had to review, revisit and on occasion renegotiate their terms in a contract. In more unfortunate circumstances, parties have had to turn to the courts to interpret clauses and resolve their disputes. As we start to put COVID-19 behind us, we learn what effect it had on contracts and how we can avoid uncertainty and disputes going forward.
Effect of COVID-19 on commercial contracts
The starting point is whether the parties had contemplated the possibility of a pandemic before entering into the contract. If they have, this is normally included in the contract with words anticipating an event ‘beyond the control of the parties’ or an ‘act of God’ – also known as a force majeure clause.
The consequences of a force majeure clause will depend on the express wording of each clause, which usually include suspending performance or excusing liability for non-performance.
If the contract did not provide for a force majeure clause, the parties would have to turn to the law and consider whether the contract can be discharged by frustration. The common law doctrine of frustration happens when an event not previously contemplated by the parties occurs, which renders it physically or commercially impossible to fulfil the contract. Whether or not a contract is frustrated will turn on the facts of each case. In Metropolitan Water Board v Dick Kerr[1] (1918), the House of Lords held that a contract was frustrated due to government interference stemming from the war.
A frustrated contract will discharge the parties from all current and future obligations under the contract. Furthermore, the Law Reform (Frustrated Contracts) Act 1943 provides that (i) money already paid is recoverable unless the party to whom sums were paid already incurred expenses before the time of discharge, and (ii) money due under the contract ceases to be payable.
How to avoid uncertainty leading to disputes
A well-constructed commercial contract will clarify the obligations and liabilities of the parties, thereby avoiding uncertainty leading to potential disputes. Below are some points worth highlighting and practical tips learnt from the pandemic:
- The inclusion of a clear and thorough force majeure clause is crucial:
- Historically, “acts of God” have been linked to natural disasters such as floods and earthquakes, as opposed to pandemics which occur on a microscopic plane. However, in the recent US case of JN Contemporary Art LLC v Phillips Auctioneers LLC[2] (2020), the Court held that “[i]t cannot seriously be disputed that the COVID-19 pandemic is a natural disaster” for the purposes of a force majeure clause in an auction agreement that referred expressly to natural disasters.
- The language of force majeure itself can be used in the clause to define the event triggering the clause: see, for example, clause 5(b) of the ISDA Master Agreement 2002. This is wider than the language of “act of God”, since it can extend to human interventions.
- Most force majeure clauses still do not mention diseases, epidemics or pandemics. This is now likely to change going forward, and one way to prevent uncertainty would be to mention COVID-19 (and/or any variants) expressly in any list of force majeure triggers.
- Remember that, in order to rely on the force majeure clause, it must also be shown that all reasonable steps have been taken to avoid the operation of the supervening event and, where applicable, that there has been mitigation (Channel Island Ferries Ltd v Sealink UK Ltd[3] [1988]).
- Finally, other clauses worth revisiting are liability (whether it is worth including a cap, set out clearly in numbers) and choosing a favourable or neutral jurisdiction for disputes.
The article is only provided as a general guide to the subject matter. For more information, please contact Seamus Andrew or Inês Santos.
[1] [1918] AC 119
[2] US District Court in the Southern District of New York, 16 December 2020 (No. 20-CV-4370)
[3] [1988] 1 Lloyd’s Rep. 323