Contractual obligations and Covid-19

Despite many reasons for optimism in the UK, Covid-19 continues to cause problems for millions of people. Although the UK seems to be on a reasonably steady path back towards normality, the ever-changing situation since March 2020 has shown that it is still too early to say whether we can finally wave goodbye to the disruption and uncertainty caused by the pandemic. How may Covid-19 continue to affect contractual agreements – both those currently in existence and those currently being negotiated?

With the government still insisting on some limits on social contact for now, and the lack of certainty on what the post-pandemic normality will look like (at least in the short to medium term), parties to agreements may still be worried that they will not be able to fulfil their contractual obligations. The cancellation of many mass gatherings such as music festivals which were scheduled to take place after the proposed date for lifting all limits on social contact (21 June) is but one example.  

We discuss the most common issues and challenges to think about when there are obligations to perform under a contract, with particular focus on force majeure and frustration.

The starting point will be to review your key contracts as soon as possible. You’ll need to consider:

  • What are the parties’ obligations under the contract, and when must they be performed? Are the obligations stated sufficiently clearly?
  • How does the continuing Covid-19 uncertainty impact on the parties’ ability to perform their respective obligations under the contract? What specific practical difficulties does it create?
  • Does the contract contain provisions allowing one or both parties to terminate it, or postpone performance?  If so, in what circumstances can the parties do so? A party which terminates without being entitled to is in breach of contract and may be liable to pay significant financial compensation to the other party.
  • Does the contract explain what the consequences of termination, or delayed performance, would be? In particular, what are the financial consequences for the parties, and do you risk being sued for a failure to perform your side of the bargain?
  • Is performance of the contract physically or commercially impossible, such that it may have been frustrated?
  • Or, can you rely on Covid-19 and its effects as a force majeure event? Is there an express force majeure clause in the agreement? What, in practice, are the consequences of invoking it?
  • What would you ideally like to achieve – ending, suspending or varying the contract – and how important is it to preserve your commercial relationship with the other party?
  • Can you reach agreement with the other party and if so, what does the contract say about how it can be varied? Take care not to waive your contractual rights if you agree to a temporary variation e.g. alternative performance or a revised payment plan.

Whilst there are no hard and fast rules, and each contract will need to be considered on its own specific facts, we discuss below the general principles that will help you to work out what your legal position is likely to be and inform your position in negotiations with the other party.


Frustration

In some circumstances, performance of a contract may be “frustrated”.  A contract may be discharged on the ground of frustration when something occurs after the contract has been entered into which makes it physically or commercially impossible to fulfil the contract, or changes the parties’ obligations into something entirely different from what they had envisaged.

The doctrine of frustration comes from a case about a contract for the hire of a music hall. The music hall burned down in between the contract being signed and the dates of hire. The hirer wanted to claim financial compensation from the owner, on the basis that the owner had failed to deliver what they promised. But the court held that in the circumstances it was impossible for the owner to do so. As such, the contract was frustrated.

In the context of Covid-19, a contract might well be frustrated because of a change in the law that makes fulfilling the contract illegal, by removing all or substantially all of the benefit that one party receives from the contract, or by a delay beyond the parties’ control that goes far beyond what was envisaged by the parties when the contract was formed. So how does this apply in practice?

The government is slowly lifting restrictions on daily life in line with its roadmap, and with the success of the UK’s vaccination programme there is optimism that there will be no severe lockdowns. In these circumstances, it might be assumed that commercial contracts being entered from this point on are unlikely to be as adversely impacted by the effects of Covid-19.

However, rising infections and deaths in other countries clearly show that the threat posed by Covid-19 has not completely disappeared. Despite this, even in the event that the government reimposes stricter restrictions, it may be harder to claim that any contracts entered into during a period of lesser restrictions are frustrated by future measures. Parties who entered into contracts before the pandemic are unlikely to have contemplated performance of their contractual obligations becoming impossible as a result of it. This means that future restrictions could operate to frustrate their contracts. It would therefore be sensible to keep these contracts under review.

However, for parties who entered into contracts post-pandemic, it may be more difficult to argue that the reintroduction of restrictions was not foreseeable just because the situation was improving when the contract was entered into. One might assume that for many contracts entered into since the start of the first wave, the parties expressly or impliedly considered and allocated the risk inherent in further Covid-19 restrictions, which could mean that fewer contracts will have been frustrated.

It is important to bear in mind that a contract will not have been frustrated simply because it is no longer commercially attractive or has become more difficult to perform due to the impact of Covid-19. Many contracts may continue to fall into this category.

This is important because if you purport to end a contract without legal justification for doing so, you will be in breach of contract and the starting point is that you could be liable to the other party for financial losses they suffer as a result of your wrongful termination of the contract.

A party cannot rely on the concept of frustration if the contract has already made express provision for Covid-19 and its impact (for example under a force majeure clause – see below). One would expect that many parties entering into contracts after March 2020 will have ensured that the contract makes express provision for the impact of Covid-19.

If a contract is frustrated, it is dissolved permanently. The parties are excused from performing future obligations under the contract and are not liable for non-performance. In many cases, some or all of the money paid before the frustrating event will be recoverable. However, a party will be able to recover reasonable expenses they have incurred relating to their contractual obligations before the contract was frustrated. For example, in the music hall case, if the owner had agreed with the hirer that they would re-paint the venue as part of the deal, and if they had already done so before the venue was destroyed, they could still claim the costs of painting as a reasonable expense of the contract.


Force majeure clauses            

In English law, force majeure refers to a set of circumstances beyond the reasonable control of the parties to a contract. You can’t rely on force majeure unless the contract expressly refers to it. If so, the contract will define what a force majeure event is, for example, war, natural disasters, disease, “acts of God” and so on. The volcanic ash cloud that caused major travel disruption in 2010 is an example of a force majeure event.

Where any of these circumstances apply, the parties will be excused from performance of their obligations, at least until the conclusion of the force majeure event(s). A force majeure clause will normally set out clearly how the obligations under the contract will be affected in the event that the clause is triggered.

In some other jurisdictions, there is a single definition of what constitutes a force majeure event. There is no such definition in English law, so you must look to the wording of each individual contract.

If your contract contains a force majeure clause, you will need to carefully review the wording and consider whether the impact of Covid-19 falls within the definition.  If the clause refers to a “pandemic” or a similar situation, it may come to your aid.  Likewise, if the government takes further legislative or administrative action that impedes performance of the contract, such as restrictions on travel or movement, you may be able to rely on that.

Even then, you will need to be able to show that the force majeure event has prevented, or sufficiently delayed or hindered, the performance of the obligations under the contract i.e. that there is a causal link.  

In practical terms, if you cannot deliver exactly what you promised, is there any way you could offer an alternative and agree to vary the contract? For example, delivering a virtual event via an online platform instead of attending in person. If you are reaching an agreement as to alternative performance, carefully consider and document the reasons why you have varied your agreement.

Whether you are excused from performing your obligations entirely, or just entitled to a delay, will depend on the exact wording. Generally, if a force majeure clause is triggered, the obligations are suspended along with any liability for non-performance of those obligations, whilst the event occurs.  The obligations under the contract are not terminated, and resume once the force majeure event has come to an end.  

Many force majeure clauses exclude foreseeable and/or foreseen events. As with frustration, where a force majeure clause excludes foreseeable events it will be far harder to argue force majeure for contracts entered into after the first wave (even where these have been entered into during a time of lesser restrictions between waves).

If you intend to invoke a force majeure clause, you will need to discuss the matter with the other party to the contract and, preferably, reach agreement. Your agreement should include acknowledgment that the event should be treated as a force majeure event, and set out what this means for each party, in particular, what happens in terms of payment, and when their obligations will resume and what will trigger this. For example, if the government lifts the restriction on social gatherings and travel, but continues to strongly recommend voluntary compliance, will you treat this as an end to the force majeure event or not?


Commercial considerations

In practical terms, the questions of whether a force majeure clause is likely to apply or whether the contract is frustrated, are points that you may need to raise during negotiations with the other party to try and reach agreement – rather than before a court. The fact that we are living through an extraordinary time with potentially far reaching and long-lasting effects on our lives and work will clearly also be relevant to those discussions.

As well as considering how best to position yourself in negotiations with reference to the law and the present circumstances, you will also want to factor in how important the relationship is to you, and to the other party, and what concessions you, and they, may be willing to make now to try and preserve and continue the relationship in a post-pandemic future.

It may also be important to remind the other party that they should act responsibly and fairly, particularly in dealing with disputes in order to achieve a practical, just and fair outcome, in accordance with the Cabinet Office’s guidance on responsible contractual behaviour. Particular regard should be given to the financial resources available to the parties, protection of public health, the national interest and the impact on the parties.

Take care during your discussions to make sure you are not breaching the terms of the contract, admitting liability, and/or waiving your rights. It is advisable to have those discussions on a without prejudice basis i.e. “off the record”.


Insurance policies

In addition to dusting off your key contracts and checking their terms, check your insurance policies, and consider whether losses as a result of Covid-19 would be recoverable under the policy. Most policies require that you notify the insurer of an intention to claim or circumstances that may give rise to a claim as soon as reasonably possible, so you should review your policies and consider whether notification is necessary.


Regulatory obligations

Also consider whether the effect of Covid-19 gives rise to regulatory obligations. For example, charities will need to consider filing a Serious Incident Report with the Charity Commission if Covid-19 and/or the associated restrictions have, or risk having, a significant adverse effect on your staff, beneficiaries or service users, work, finances or reputation.


This information is necessarily of a general nature and doesn’t constitute legal advice. This is not a substitute for formal legal advice, given in the context of full information under an engagement with Bates Wells.

All content on this page is correct as of May 21, 2021.