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CORPORATE NEWSLETTER - APRIL 2020

COVID-19 and Force Majeure: The back-and-forth that contracting world needs to understand.

In the wake of the accelerated spread and impact of COVID-19, we have now been thrust into unprecedented times with extreme disruptions to our economy and society. Governments and other public authorities have imposed various containment restrictions to movement, travel and the general supply of goods and services. While the most distressing aspect continues to be the threat to human health, the unexpected nature of the virus has resulted in a slow-down in business operations and an increased focus on the contractual obligations of businesses and their likely inability to perform these obligations. Considering the economic slowdown and supply chain disruption brought about by the COVID-19 outbreak, the possibility of invoking force majeure to avoid liability from delayed, interrupted or otherwise failed performance of contracts is being widely debated.

What is Force Majeure?

Force majeure, or as it is popularly known, the ‘Act of God’ clause has now come into sharp focus in determining contractual obligations. Black’s Law Dictionary defines the French derived ‘force majeure’ as a ‘superior force’ such as an event or effect that can neither be anticipated nor controlled. Such a clause operates to excuse a party’s non-performance of its contractual obligations due to extraordinary events. These clauses generally do not provide for an immediate termination of an agreement but can suspend a party’s obligation to perform for the duration of the force majeure event. Force majeure clauses usually set a high bar to invoke and are broadly drafted.

The currently highly contentious issue discussed here is whether COVID-19 classifies as a force majeure event and if businesses can rely on this clause to excuse their non-performance. It is important to note that firstly these clauses are subjective to each contract and can vary accordingly. Further, ‘force majeure’ is not a globally similar legal concept and operates differently in different jurisdictions depending on their adoption of civil or common law systems.  Therefore, the invocation of these clauses must be treated with caution after careful and thorough evaluation of the contract and the relevant laws.

On March 11, 2020, WHO classified COVID-19 as a “pandemic” which will trigger any force majeure clause that expressly accounts for pandemics but as for contracts that are silent on this, the parties will have to rely on the law and subsequent interpretation of the courts. The intention of a force majeure clause is to relieve the affected party from the consequences of something over which it has no control. Its provisions do not suspend the requirement for performance and typically require the affected party to continue to perform its obligations to the extent not prevented by the event of force majeure.

Next Steps in times of pandemic

Availability of force majeure relief cannot be implied into a contract under any law. It must be expressly provided for under the provisions of the contract and the nature of protection afforded will depend on the precise language of the provision. Hence, the solution to the problem of whether COVID-19 can be categorized as a force majeure event is easy enough – Look in your contract!

Contract Checklist: Can COVID-19 Trigger Force Majeure?

Force Majeure under Civil Law

UAE

Under UAE law, force majeure can be invoked by a party as a matter of law as it is a mandatory rule and the concept will apply even without express contract provisions.  The UAE Civil Code (Federal Law Number 5 of 1985) sets the definition, boundaries and consequences of a force majeure event and identifies the exceptional circumstances that act as a basis for relief from performance of contractual obligations. The law does not provide an exhaustive list of these exceptional circumstances.

Article 273 of the UAE Civil Code states that for an event to be qualified as a force majeure event it should be:

  1. claimed in a bilateral agreement; and
  2. makes the performance of the obligation impossible due to a physical or legal impossibility

A physical impossibility such as natural disasters or a legal impossibility such as change in laws can allow a party to establish force majeure. However, it is unlikely that an event of hardship or economic imbalance will qualify as a force majeure.

For the affected party to trigger the force majeure clause, the party has to satisfy all the legal procedural requirements to show that COVID-19 was the cause of their inability to perform, their non-performance was due to circumstances beyond their control and they could not reasonably mitigate its consequences.

The requirements for an event to classify as force majeure under the UAE jurisprudence is that the event is unforeseeable, unavoidable, external and impossible to move forward with the terms in the contract. If both parties to the contract were in a position to anticipate or predict the event, then it is unlikely to apply. The event has to be such that it is completely external, beyond the party’s control and could not be avoided by the party. The event should effectively render the performance impossible. The rationale behind this is that each party to a contract has an obligation to act in good faith and should mitigate any damage if foreseeable. If the party that is defaulting does not use its best efforts to mitigate their loss from the force majeure event, that party is unlikely to be able to invoke a successful force majeure claim.

Only if the parties can show inconclusively that the impact of COVID-19 satisfies the above-mentioned requirements, the contract can be deemed to be rescinded by a statement of law. This could potentially allow parties to revert to their pre-contractual positions and where possible claim damages to restore their respective positions.

The absence of effective legal precedent in the UAE presents additional complications when considering force majeure applicability and hence is likely to be decided on a case by case basis. In the past, UAE courts have interpreted force majeure clauses very narrowly. Further, it is important to highlight that timing of the conclusion of the contract will also play an important role. Any defaulting party to a contract that is concluded after the declaration of WHO classifying COVID-19 as a pandemic (March 11, 2020), is unlikely to succeed in invoking a force majeure claim.  

Force Majeure under Common Law

Under common law jurisdictions, such as the UK, force majeure as a term on its own is meaningless as it is a creature of the contract. The concept is not explicitly defined under any common law or statute. The applicability of force majeure will rely solely on the provisions in the clause and will give effect to the express wording in allocating the risk under the contract.

In Australia, a force majeure clause may provide relief from contractual obligations depending on the terms of the particular clause. It may be necessary to establish that performance of the contract has become impossible, not just difficult or not profitable, due to an unavoidable or unforeseeable event. The applicability of the clause will have to be construed in accordance with the express wording of the contract.

The performance of any obligations or payments under the contract is usually suspended during the period of the force majeure event. The ability to terminate will usually depend on the duration of the force majeure event and currently, it is unknown how long the implications of the COVID-19 pandemic will last. The defaulting party who wishes to invoke the force majeure clause will have the burden of proving the impact of the event and is obliged to mitigate the impact where possible. Some contracts generally require that the defaulting party give notice of the force majeure event within a timeframe of the event happening and includes the notice procedure.

The critical issue we face in assessing the applicability of such clauses is that the future impact of COVID-19 is shrouded in uncertainty and it is unclear how courts or arbitrators will deal with the applicability of force majeure in this situation. COVID-19 will inevitably transform the force majeure landscape in evaluating its applicability.

Other Consequences for Contracts

If a force majeure claim cannot be sustained, then there are other routes a business can invoke to re-evaluate their contractual obligations during this pandemic.

To act proactively, if a business is aware of their inability to perform, they should seek immediate legal advice to review their on-going contracts to identify possible routes of recourse to effectively maintain a sustainable level of business operations. Businesses can also protect themselves by obtaining applicable insurance policies such as business interruption insurance as further discussed below.

Can businesses insure against COVID-19?

The containment and quarantine restrictions imposed to combat COVID-19 have caused severe interruptions to business operations and supply chains. Business can protect themselves by obtaining or reviewing their insurance coverages to include:

The extent of the coverage depends on the policy. For example, to benefit from BI, the interruption usually must be proximately caused by the physical damage and hence losses due to quarantine might not be covered. BI is more likely to be triggered as a result of COVID-19 where the policy specifies a non-damage extension for infectious diseases or requires legal notification. Under UAE law, any infectious disease is legally reportable. Not all insurance policies are equal in the coverage they provide, hence businesses should seek legal advice for a policy review to identify the best routes for protection and to maintain a sustainable level of business operations.

Although it is difficult to predict the future implications of the pandemic, the application of these policies will be highly complex. It is likely that insurers will seek to expressly exclude cover for policies such as ECI events arising out of COVID-19. There is uncertainty as to whether any such event would have the required element to trigger the cover.

 

Authored by Poojitha Janarthanan, Barkha Doshi

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