Covid-19, impact on commercial contracts

The Covid-19 outbreak has already proven to be a source of uncertainty and an immense challenge for businesses. As many businesses now face disruptions of their contractual arrangements with other businesses and consumers, this note looks at the main legal issues and considerations under the law which parties should be alert to as the situation develops.

Depending on businesses’ individual contract terms and the specific way in which Covid-19 impacts their arrangements, different parts of our note may be more or less relevant to their situation.

Breach of contract terms

Consider which obligations under the contract (i.e. terms) are most likely to be breached – this is when a party’s performance does not match their obligation under the contract, or, if the obligation is only due in the future and the party indicates that it does not intend to perform it.

Where either party has breached a term, what does this mean for the other party?

Unless the contract mentions any express remedies triggered by such breach, this depends on the type of term breached. Some terms allow that innocent party to terminate the contract and claim damages, and others to only claim damages. It depends on how a term is described in the contract and how important the term was to the innocent party when the contract was created.

For instance, Covid-19 disruption may make it difficult for suppliers to comply with time-limits for delivery of goods under a given contract. If the contract makes it clear that timely performance is vital to the customer business, this will be a condition and enable the customer to terminate the contract. If, however, this is unclear in the contract, termination rights will depend on, e.g., the delay’s significance to the supplier and how prolonged it is.

Since damages are merely meant to place the innocent party in the position it would have been in had the breach not occurred, this does not affect the continuity of the contract. Therefore, being able to terminate a contract (or at least to leverage this in re-negotiation) because a condition has been breached can have a significant impact on a business’s ability to withstand the current crisis situation.

Business continuity obligations

Often contractual terms require critical suppliers or service providers to implement business continuity arrangements to ensure that they can continue performing the contract.

In case of the supply disruption and shortages of staff and materials caused by Covid-19, businesses should carefully check continuity obligations specific to their contracts. They should particularly keep detailed written records of what they have done to ensure continuity in order to demonstrate compliance should problems arise down the line.

Even if it looks like your business is in breach of a term, you may still be able to rely on the following defences:

Frustration

‘Frustration’ is an English law concept that arises where something occurs after the contract has been formed which either (a) makes it impossible or illegal to fulfil, or (b) radically changes the nature of the obligation into something entirely different from what the parties contemplated when entering into the contract.

As frustration is a doctrine, it will not be found in contracts. However, parties must reach a very high threshold in order to rely on the doctrine: the mere fact that Covid-19 has deprived a party of the benefits it anticipated under the contract or rendered performance physically impossible, might not be enough.

Nevertheless, given the extreme situations of Covid-19 and consequential Government measures, such as The Health Protection (Coronavirus, Business Closure) (England) Regulations 2020, some parties may be able to rely on the doctrine successfully.

Force majeure

Many commercial contracts will contain ‘force majeure’ clauses. Such clauses might release  parties from continuing to perform their obligations due to events outside of their control. Often such clauses will refer to pandemics and epidemics.

If there is a force majeure clause in the contract, whether a party can rely on it depends on its context. Businesses should carefully scrutinise the following: how triggering events are defined; any causation requirements; precisely how the innocent party must be notified of their reliance on the clause; and any duty to mitigate.

Further practical considerations

Review contracts early – review contracts early to understand the position regarding any disruption that may be experienced, and the impact that it may have on parties’ contractual arrangements. This applies to both customer and supplier contracts since businesses need to understand their supply chain risks, as these are likely to feed into their customer contract risk assessment.

If it is considered that existing contracts pose unacceptable levels of business risk, businesses could seek to vary or update the terms applicable to existing contracts – how this is done and whether or not it can be done unilaterally or will require consent will depend on the contract terms.

Businesses are likely to feel the effect of Covid-19 and its aftermath for some time – if it is identified during the contract reviews that existing relief mechanisms are not sufficient, standard terms & conditions and contract templates should be updated and rolled out as soon as possible.

Follow the contract process

For example, force majeure clauses often contain formal notification requirements and formal timescales for making such notifications. If the requirements of the relevant clause(s) are not followed, the business may lose the ability to trigger the protections that the force majeure clause would otherwise have provided. Keep appropriate documents and records to show that the various processes and procedures have been complied with.

Document any newly agreed terms

It is not uncommon for businesses to agree alternative solutions when faced with supply challenges or business disruption – indeed it makes good commercial sense in many cases, particularly where many businesses are likely to be similarly affected (e.g. in the case of a pandemic / epidemic). Many commercial contracts will contain clauses stating that changes will not be valid unless in writing and signed by or on behalf of the parties – it is important that any such requirements are complied with to ensure that changes are valid and binding on the parties.

Contract management

Whether a business is a customer or a supplier in the context of the relevant contract, it should understand the applicable contractual terms – in particular ensuring that the available contractual relief mechanisms are understood and are properly implemented at the appropriate time. It is important to monitor performance against the agreed contract terms so that issues and potential issues are spotted early, and contingency plans are implemented in a timely manner.

For my advice please email us on info@barnes-law.co.uk