The effect of COVID-19 on commercial contracts

28 Apr 2020

The impact of Covid-19 is being felt by businesses across the whole country, but what is to happen to their contractual obligations? The answer, potentially, lies in three sets of rules that relate to supervening events:
  • force majeure
  • frustration
  • supervening illegality
One of the key questions to ask is whether the parties to the contract have already considered a potential risk (such as a pandemic occurring) and have set out in the contract how that risk should be allocated. The starting point is, therefore, to consider whether the contract has a force majeure clause. The clause may not be labelled “force majeure” so you are looking for a clause that essentially anticipates that there may be some form of event beyond the control of the parties, be it factual (such as the current pandemic) or legal (such as the restrictions imposed as a result of the pandemic) that may effect the performance of the contract. If the contract contains a force majeure clause, it is a question of construing the terms of the clause for its meaning and effect. The consequences of an applicable force majeure clause will depend upon the express wording of the clause, but commonly such clauses agree to suspend performance, or excuse liability for non-performance, rather than provide for an automatic discharge of the contract.
 
The existence of a force majeure clause is very likely to affect any argument about frustration. This is because frustration happens when an event occurs (which generally was not contemplated by the parties at the outset) after the formation of the contract and which renders it physically or commercially impossible to fulfil the contract, or transforms the obligation to perform the contract into a radically different obligation from that undertaken when it was entered into. It cannot, therefore, be said that a frustrating event has occurred rendering the performance of the contract radically different from that contemplated at the time of contracting if the contract already provides for the occurrence of such an event.
 
Whether or not a contract is frustrated will essentially turn on the specific facts of each case. Where it does apply, its effect is to discharge the parties from all current and future obligations under the contract. However, it should be noted that frustration does not work retrospectively, so past performance is not unwound. It may, however, be possible to recover, for example, money paid in advance for goods prior to the frustrating event either at common law or under statute.
 
Finally, under English Law, a contract may be discharged if its performance becomes illegal. For the doctrine to apply, the illegality must clearly prohibit performance. It is not enough if the law hinders performance, or makes it more inconvenient. In the current circumstances, a careful consideration of the various laws brought in as a result of Covid-19 will need to be undertaken alongside the terms of the contract. Furthermore, additional factors will need to be considered in relation to international services or supply contracts.
 

Practical Tips

  1. Different considerations to those set out above will apply to contracts entered into after the outbreak of Covid-19 (as the effect and consequences of the pandemic are now well known).
  2. Your choices matter – avoid a self-induced supervening event that could curtail the availability of force majeure, frustration or illegality. Be careful to avoid making choices post contract that (a) may shut off avenues for performing the contract notwithstanding the supervening event; or (b) are a cause of the supervening event.
  3. Take all reasonable steps to avoid or mitigate the supervening event or its consequences.
  4. Be aware of any formalities specified in the contract, for example with regard to notices or time limits applicable to any supervening event.
 If you would like help to assess your position with any commercial contract, please contact James Colvin at DMH Stallard LLP, at james.colvin@dmhstallard.com
 

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