By Joan M. McGivern, Counsel
Business Interrupted? Part II: What if There is No Force Majeure Clause: Other Responses to COVID-19 Contract Breaches
With companies across the country and the world facing business interruptions from the Coronavirus (COVID-19), it is time to take stock of your existing contracts.
But what if the contract has no force majeure clause? Do not despair if you do not have such a clause, because there can be some limited outs and remedies in the form of: (1) the defense of impossibility, (2) the excuse of commercial impracticality and (3) business interruption insurance.
In the absence of a force majeure clause, sometimes the defense of impossibility may excuse performance under a contract. But the defense of impossibility is “applied narrowly,” and “where impossibility or difficulty of performance is occasioned only by financial difficulty or economic hardship, even to the extent of insolvency or bankruptcy, performance of a contract is not excused.’”
The death of someone rendering or receiving personal services obviously terminates the personal services contract on the death of either one. But a “contract of sale is not terminated by the death of the purchaser.” Other classic impossibility cases involve such circumstances as when fire destroys a venue or a co-op board denies an application for purchase. Even where impossibility of performance is assumed, unjust enrichment is not allowed. If however, a third party to a contract cancels, that does not in itself render the underlying contract “impossible” to perform.
Recent Government COVID-19 Actions and Impossibility
Recent government directives regarding COVID-19 may provide a defense to performance of a contract. But, such regulations must create a real impossibility, not merely an inconvenience. It will be implied into a contract that parties will do only what is permitted under the law. Conversely: “Parties cannot ordinarily contract to perform the impossible; the doctrine of impossibility is implicated where ‘performance is forbidden or prevented by law or decree or administrative action in that location.’”
Performance will be excused if there is a judicial order, administrative regulation or directive prohibiting performance, and then performance will be excused on grounds of impossibility. Or, for example, where the government has requisitioned supplies, such as happened in WWI—all suppliers of TNT were to provide it to the government—the supplier was absolved from its contractual obligations to deliver TNT to a private party with whom it had a supply contract.
These pronouncements of the New York’s Courts remain a cautionary tale if new government directives in response to COVID-19 only make it more difficult, inconvenient, or more expensive to perform—but not impossible.
(2) The UCC’s Commercial Impracticality
If your contract is one covered by the Uniform Commercial Code, it will not require impossibility to excuse performance. Thus, even if a contract does not contain a force majeure clause, the Uniform Commercial Code offers some respite by allowing performance of an obligation to be excused on the grounds of commercial impracticality in light of a contingency, the nonoccurrence of which was a basic assumption of the parties. N.Y. UCC §2-615. But note, an increase in the price of raw materials, for example, even if unanticipated, may make performance unprofitable, but not impracticable. “In order to claim commercial impracticability, a party must have employed all due measures to provide the promised performance.” Id.
Increased cost alone does not excuse performance unless the rise in cost is due to some unforeseen contingency which alters the essential nature of the performance. Neither is a rise or a collapse in the market in itself a justification, for that is exactly the type of business risk which business contracts made at fixed prices are intended to cover. But a severe shortage of raw materials or of supplies due to a contingency such as war, embargo, local crop failure, unforeseen shutdown of major sources of supply or the like, which either causes a marked increase in cost or altogether prevents the seller from securing supplies necessary to his performance is within the contemplation of this section.
However, acting in good faith is essential. New York’s UCC §2-615 “likewise excuses a seller’s failure to perform as agreed if such performance has been made ‘impracticable’ by compliance in good faith with any applicable foreign or domestic governmental regulation or order. . . . Good-faith compliance with the governmental regulation is the criterion established by the Code section.”
(3) Business Interruption Insurance
Finally, if your business has suffered a loss due to COVID-19, it’s time to review your insurance policies. Standard insurance typically covers losses due to physical damage to property. But losses due to interruptions to a business’s operations are within the general scope of business interruption insurance or business income insurance. Depending on the policy, such insurance can cover lost revenue, fixed expenses such as rent and utilities, or expenses from operating from a temporary location.
Following the outbreaks of the Ebola virus and Severe Acute Respiratory Syndrome (SARS), some insurance companies began excluding from business interruption insurance, losses from interruptions due to an epidemic or communicable diseases.
As noted, if your business operations were interrupted by the COVID-19, check your policies now. Do they exclude viral or bacterial outbreaks? Do they refer to losses due to “civil disruption” or action by the government.” Please make sure to follow the relevant notice of claim or documentation provisions to avoid a claim being denied as untimely.
See Business Interrupted? Part I:
Is the Coronavirus a Force Majeure Event?