- March 25, 2020
On March 11, 2020, the World Health Organization declared the outbreak of the COVID-19 "coronavirus" as a global pandemic. Local, state and federal governments have since declared states of emergency and have shut down schools and businesses and ordered citizens to stay at home. The big question for many is whether the pandemic and subsequent government restrictions excuse them from performing their contractual obligations.
Many contracts contain provisions, often referred to as a "force majeure" clause or "impossibility" provision, which may excuse performance where circumstances beyond the parties' control make performance impossible. "Force majeure" ("superior force" in French) may include any number of events, including labor and material shortages, strikes, riots, and even war. "Force majeure" clauses often include a subcategory of events referred to as "acts of god," i.e., events not caused by humans, such as natural disasters. While a specific force majeure clause may not specifically address pandemics or outbreaks, nonperformance might still be covered if the provision addresses governmental orders or actions such as shelter-in-place orders, requirements to cease all non-essential business and operations, mandated quarantines, limitations on gatherings, or travel restrictions.
In a perfect world, a "force majeure event" will be clearly defined in the contract, which will specify the types of events that excuse performance. Often, however, such clauses are drafted broadly, using language such as "including but not limited to," which allows room for interpretation. A hallmark of many force majeure clauses is that a breach will only be excused if it could not have been avoided despite "reasonable" or "commercially reasonable" efforts. Surely, some disputes will involve whether businesses took "reasonable" steps to avoid delays, or whether COVID-19 is being used as a "pretext" for a breach that was, in fact, unrelated.
While such a provision in a relevant contract may provide firmer footing, the legal defenses of impossibility, impracticability, frustration of purpose, and efficient breach, may still be available to parties, either under the common law or as codified in the Uniform Commercial Code (UCC). Under the common law doctrine, an objective supervening impossibility may permit the discharge of a promisor's performance in various situations, where a new event intervened after contracting to make performance impossible. Where defendants claim impossibility or commercial impracticability in defense for nonperformance of a contract, the court will balance the equities.
Under UCC Section 615, codified in Illinois at 810 ILCS 5/2-615, performance is excused "if performance as agreed has been made impracticable by the occurrence of a contingency the non-occurrence of which was a basic assumption on which the contract was made or by compliance in good faith with any applicable foreign or domestic governmental regulation or order…" 810 ILCS 5/2-615(a). If the second clause – government order – does not excuse performance, parties can argue the first clause is applicable because "a basic assumption on which the contract was made" was that a pandemic would not halt commerce and shut down business. If, however, only a part of a seller's capacity to perform is affected, "he must allocate production and deliveries among his customers….in any manner which is fair and reasonable." 810 ILCS 5/2-615(b). "The seller must notify the buyer seasonably that there will be delay or non-delivery…" 810 ILCS 5/2-615(c).
The ultimate question in this uncertain time is how best to use these contractual provisions and legal defenses. The answer may be to use a "Force Majeure" clause or legal defense as both a carrot and a stick.
- First, these arguments can be used as a carrot in negotiations with contractual parties to excuse performance and/or negotiate more suitable terms for performance. Negotiating a resolution now, with some certainty for all parties moving forward, is likely more beneficial than resorting to legal proceedings which can have uncertain results in addition to costing a significant amount of time and money.
- Second, the stick is the threat of, and ultimately filing of, litigation, where these contractual provisions and legal concepts serve as an offense seeking a declaration that performance is excused or a defense to an alleged breach of contract. The Courts will likely be inundated with these types of cases in the coming months and years, and it remains to be seen how the longstanding contractual provisions and legal concepts will be applied to these facts and circumstances.
Ultimately, if the dispute ends up in the Court, the facts and circumstances of each situation will be paramount, including the reasonable actions the parties undertook in the heat of the crisis. Courts generally look at a defense of force majeure subject to equitable principles and require parties relying on that defense to employ reasonable means in an effort to fulfill, at least some of, its obligations.
Therefore, it is important to ask three questions before negotiating a resolution, filing a lawsuit and/or leaving a dispute unresolved such that someone else will likely sue you.
- First, is the contract one that can be performed and will be commercially beneficial. If so, it is best to perform.
- Second, is the contract one that can be performed but performing would not be commercially beneficial. Then, the concepts of efficient breach come into play, but not likely force majeure or impossibility. Efficient breach is the repudiation of one's contractual obligations where the promisor is able to profit from his default after placing his promisee in as good a position as he would have occupied had performance been rendered.
- Third, is it impossible to perform the contract because of a government order, supply chain problem, employee issue or other objective supervening impossibility. Then the defenses of force majeure or impossibility may be applicable, but it still may be best to attempt to resolve the matter before it gets to court.
With careful planning and swift action, society will overcome the health crisis presented by COVID-19. In the meantime, businesses should be taking steps to maintain their financial health as well. The attorneys at Burke, Warren, MacKay & Serritella, P.C. can assist in guiding through this process.