This article was written by Shane Ogden and Oliver Collins.
COVID-19 mitigation measures have resulted in a significant change in the operating landscape for organisations and their contractual arrangements. We’re seeing increasing numbers of requests from not-for-profit organisations seeking advice on managing those contractual arrangements both as a service provider or a recipient of services. These could include difficulties around meeting milestones under funding agreements, being unable to deliver in-person client services to remote communities or the cancellation of key fundraising events. It is an important time to test for vulnerabilities in your organisation’s contractual arrangements and devise a way forward.
What if it has become impossible to perform contractual obligations?
In Australia, the law recognises the unfairness of requiring parties to uphold contracts where factors outside of their control make it impossible to do so. This is termed “frustration”. A contract is considered frustrated when the nature of performance of the contract has radically changed since it was agreed, and it has become impossible to perform. When a contract is frustrated, the contract automatically terminates at the time of the frustrating event and the parties to the contract are no longer bound to its terms. There will certainly be contracts which have been frustrated due to the government action related to COVID-19.
However, the threshold for establishing frustration is a high one and so organisations should not assume that COVID-19 has frustrated their contracts. For example, circumstances that prevent performance, but which were reasonably foreseeable at the time the contract was entered into, will not frustrate a contract. For some parties, while COVID-19 will not have been foreseeable, the specific cause preventing performance may not be sufficiently connected to COVID-19 and so it may be better characterised as foreseeable. Mere delays and increased costs, say, to deliver or receive goods due to COVID-19 may also not frustrate a contract as performance is not impossible, merely more difficult. Increased costs are commercially unpalatable but that does not necessarily mean a contract is frustrated. Organisations must take care before considering their contracts frustrated.
The doctrine of frustration is also a blunt instrument and not one all parties will wish to rely on. It is often an option of last resort as the only remedy available when a contract is frustrated is the automatic termination of the contract, enforced from the time of the frustrating event. Many organisations may not want an automatic termination of a contract if the reasons for frustration will be temporary. Also, if an organisation incorrectly believes that there is a frustrating event, and the court later disagrees, the mistaken organisation may be liable to pay damages. Organisations must be certain that a frustrating event has occurred before acting as such, and this is not always simple to determine.
Given the difficulties with frustration, what are the other options?
Could the parties vary the contract by negotiation?
Organisations may wish to consider whether a variation to the contract can be negotiated between the parties to existing contracts. For example, parties to a contract may be able to agree on extending a funding milestone or changing the means of performance from an in-person presentation to a web-based one. Many contracts provide a means for varying terms and negotiation is highly flexible. However, negotiation does require co-operation.
Could a force majeure clause provide the answer?
Some contracts will already have a force majeure clause (translated as “superior force”). Such clauses specify how the parties are to respond to specified, but uncertain, events that would otherwise frustrate a contract. Commonly defined events found in force majeure clauses include earthquakes, nuclear radiation, civil unrest, nationalisation, and government action but, effectively, any event could be defined.
Parties often prefer a force majeure clause over relying on the doctrine of frustration because they can be drafted so as to overcome the uncertainty in determining if there has been a frustrating event and they can provide a means to pause obligations under the contract without terminating the contract. The better force majeure clauses clearly define the events covered by the clause (and do not merely echo the doctrine of frustration). They also specify exactly how the parties are to perform, or not perform, during the period of time in which the force majeure clause has been triggered.
If an organisation can rely on an existing force majeure clause, how a force majeure clause is triggered may be an important issue. Many force majeure clauses are triggered only when one party issues written notice of a force majeure event. Without this notice, the force majeure clause is never triggered and notice after the event is often insufficient. Conciliatory parties will sometimes forgo issuing a notice at the time of a force majeure event because the parties are happily negotiating, and all seems well. However, if a dispute later arises, the failure to issue a notice at the correct time can create difficulties. Accordingly, it is important for organisations to carefully consider the mechanics of their specific force majeure clauses.
What about COVID-19 and force majeure clauses?
COVID-19 has highlighted that viral outbreaks are traditionally missing from standard force majeure clauses. Also, while other commonly defined events may indirectly offer protection (eg. government action or embargoes), this will depend on the terms of the specific force majeure clause.
As governments become increasingly sophisticated in how they respond to viral outbreaks given their economic impact, viral outbreaks may need to become a staple of the precedent force majeure clause. Some organisations may also find themselves having to renegotiate existing contracts to deal with COVID-19 or negotiating new contracts with view to addressing a future viral outbreak. If doing so, organisations ought to carefully consider the scope of any new force majeure clause.
A major issue drafting a force majeure clause that addresses viral outbreaks is exactly what constitutes the force majeure event. Is it the emergence of the virus even though, initially, its emergence may have no economic impact or no impact on the subject matter of the relevant contract? Is it the declaration by the World Health Organisation of a “pandemic”? Or is it a declaration by a national government? These questions and others need to be considered by organisations and their lawyers when drafting force majeure clauses. The answers to these questions should also be determined by considering the needs of the organisation and should reflect an understanding of the risks an organisation wishes to manage.
In any event, organisations with existing force majeure clauses may wish to take the opportunity COVID-19 may provide to update their contracts to handle future viral outbreaks. It may also be an opportunity to generally revisit whether their existing force majeure clauses are fit for purpose or need renegotiation.
How can we help?
Please get in touch with requests for specific advice or assistance on how to frame the force majeure clauses, as considerations are particular to each contract. We may also be able to provide advice around managing your contractual arrangements either as a service provider or recipient.