Navigating contractual provisions in light of the coronavirus outbreak

Although technology is enabling many businesses to continue to operate effectively, there are a large number who will inevitably see a reduction in demand for their products and services. This, in turn, will have a knock on effect for other businesses that they contract with. In this challenging business environment, a clear understanding of your rights and obligations under the contracts underpinning your business could really help when making tough decisions during what is undoubtedly going to be a challenging period.

The issues

The challenges that businesses face will vary hugely, but could include:

• Being unable to perform your supplier obligations (for example, your business and supply chain has been interrupted so you can no longer manufacture or provide the goods and services as agreed);
• Being unable to perform your customer obligations (for example, you can’t pay your suppliers or need to cut costs because your cashflow has been impacted); and
• A fall in demand, leading to your customers seeking to terminate contracts or cancel orders.

Although each situation will be different, contracts are the cornerstone of every business relationship and should be the starting point when working out where you stand with your suppliers and customers.

Understanding your contractual rights

When faced with a changing economic landscape, it can be easy to overlook the details of a written contract that, in some cases, was drafted and negotiated some time ago. But a well drafted contract could include some helpful and practical solutions. In other cases, contractual arrangements may have been entered into on a more informal basis without a bespoke written contract. In this scenario your contract may consist of documents and correspondence which was exchanged when the arrangement was first concluded or may even be governed by the “default” provisions of English contract law.

Whilst the basic position under English law is that the parties must comply with their obligations regardless of external circumstances, this is subject to:

• the rights (including in relation to termination) that exist ordinarily under the contract;
• “force majeure” clauses; and
• the common law doctrine of frustration.

An understanding of these areas could really help when discussing your options with customers and suppliers.

Existing rights under the contract

If one party is seeking to avoid an apparent contractual obligation, such as placing an order for a certain quantity of goods, the first step is to identify specifically what is required under the contract. This will vary hugely, so it is important to understand precisely how the contract is worded and the nature of the contract. For example, you may be a supplier who has a framework agreement under which a customer makes individual orders but is under no obligation to place such orders. At the other extreme, the quantities and prices of goods and services to be supplied may have been agreed for a specific period, leaving the customer with limited scope to say they no longer require them.

Most written contracts will also include explicit rights to terminate the agreement in certain scenarios, or on giving an agreed amount of notice. For less formal arrangements, which may not be governed by a well drafted or comprehensive written agreement, the “default” provisions of English contract law can sometimes step in to imply terms such as a right to terminate an agreement “on reasonable notice”.

Force majeure wording

A well drafted written contract is also likely to include “force majeure” wording which provides that, if certain events occur which are outside the parties’ reasonable control, a party who is unable to meet its contractual obligations will be excused from doing so. The force majeure event effectively pauses performance of the contract. This is usually for a specified period of time, after which the innocent party will be allowed to terminate the contract if performance has not resumed.

Again, whether force majeure applies will depend on the wording of the contract. Whereas some clauses may expressly include the word “pandemic”, less specific language will require some interpretation. The clause and the contract as a whole should also be analysed to identify any related provisions, for example:

• Do you need to comply with any particular notice provisions in order to rely on force majeure?
• Is there a duty to ‘mitigate’ or to do all you reasonably can to limit the effects of the force majeure event on performance of the contract?
• What are the actual consequences of the force majeure under the contract – can the innocent party terminate the contract if the event lasts longer than a specified period of time?
• Are there any “change in law” provisions which might set out what happens to the contract in the event of government actions or decisions?

As with termination provisions, the scope and applicability of a force majeure clause will turn on its specific wording and this should be carefully analysed before seeking to rely on it.

Frustration

Even if the provisions in the contract do not offer a route out of contractual performance, there is a chance that a party could rely on the common law doctrine of frustration. Frustration can effectively set aside an entire contract in certain circumstances where performance has become impossible or radically different to what was agreed. Whether frustration applies will depend on the contract in question and the facts of the specific case, but it is possible that, for some contracts, the coronavirus outbreak could lead to frustration being established.  In some instances, it may even be possible to recover money already paid under a contract, relying on the doctrine of frustration.

Contractual negotiations and amendments

It’s a common mistake to think that contracts are set in stone and cannot be varied, when in fact many contracts will include provisions for the parties to agree changes. Even if force majeure is invoked, the contract is unlikely to set out exactly how the parties want to operate in light of the unusual circumstances or how they will resume activities. Complying with the terms in the contract regarding how to make valid amendments, as well as clarity and careful drafting of those amendments, will be crucial in ensuring that the contract operates as the parties anticipate.

The commercial position

In a situation such as the coronavirus outbreak, many businesses will not want to lose the goodwill of their customers and suppliers and will hope to return to full performance in the future. Whilst termination, force majeure and frustration may seem like drastic remedies that the parties do not wish to invoke, a clear understanding of the contractual options available can be a helpful aid when having discussions with other businesses about your contracts during this challenging period. Armed with a clear understanding of the underlying contractual position, businesses are better placed to negotiate the most favourable outcome and can often find “win-win” solutions to difficult problems which serve the long term interests of all concerned.

Our commercial solicitors are here to help businesses identify their options under their existing contractual arrangements in light of the coronavirus outbreak and provide clear, practical advice on contractual arrangements and relationships with customers and suppliers. For further information, please get in touch.