Contracts and Litigation, post Covid-19, a new dawn?4 June, 2020
Yards of column inches and numerous journals have been devoted to coverage of this pandemic and the correlating restrictions which are having a serious effect on the ability of many businesses to perform their contractual obligations. Such obligations can be for the delivery or receipt of goods or services ordered prior to the Covid 19 outbreak or compliance with commercial tenancy agreements. It can affect long term supply agreements, contractors, manufacturers, landlords and tenants.
The first port of call for all businesses seeking to understand their obligation to perform or to ensure the other party fulfils its obligations under the contract is to check the terms of the contract.
However, the ability for businesses to seek to rely on legal contractual clauses to either enforce or avoid the contract may be tenuous in the current circumstances. Our legal system, a common law jurisdiction based often on previous case law and precedent would suggest that it may be an uphill battle for any business to seek to rely on the various contractual clauses. The precise definition of the clause in question and the applicability of same to the current pandemic will be fact dependent and may be open to legal challenge from the other parties to the contract. To rely on such a clause outright may also be time-consuming, costly and impractical to a business struggling to perform its obligations amidst the emergency.
Commercial contracts have a variety of clauses which parties may seek to rely on where the performance of the parties’ obligations under contract becomes untenable including force majeure, the doctrine of frustration and in some cases, material adverse change. These terms have been discussed widely in the wake of the current pandemic, but the application of such clauses and the doctrine of frustration is not always a straightforward matter. We have set out below a brief overview of a number of these potential, contractual “exits”.
A Force Majeure When invoked may relieve a party of its contractual obligations. A force majeure event is generally an unanticipated event which is beyond a party’s control and which prevents a party from performing its contractual Obligations. If a force majeure clause is not present in the contract it will not be implied into the contract.
Doctrine of Frustration – A contract may be deemed frustrated by the courts where a contractual obligation has become incapable of performance due to unforeseen circumstances which are beyond control of the party relying on frustration. However, the application of frustration is strictly scrutinised by the courts and a successful invocation of frustration will depend on the facts of the matter. Parties should be aware that where a contract is deemed frustrated the contract is terminated and each party is released from their respective future obligations. However, the parties will remain liable for their obligations up to that date.
A Material Adverse Change clause is generally found in acquisition and finance agreements. It is often inserted as a pre-condition to the completion of a transaction, which aims to give a buyer or a lender the right to walk away from the transaction before closing where an event occurs which significantly effects the value of the target company or the viability of the borrower. These clauses are often drafted in general and ambiguous terms and what exactly constitutes material adverse change may not be clear. The determination of whether a material adverse change has occurred will be a factual matter and as above will face scrutiny from the courts.
There is often a great deal of ambiguity associated with these clauses and as a result they are open to interpretation. As such, businesses need to be careful and seek advice before attempting to relieve themselves of their obligations under a contract by seeking to rely on such “exit” clauses. Further, while the Irish Court of Appeal has determined that there is no implied duty of good faith in Irish contract law. We find ourselves in very uncertain times at present and it is difficult to predict how the Irish Courts will interpret and deal with breaches of contract which occurred during the pandemic.
Increasingly new ways of interpreting contracts to take account of non-contractual prevailing conditions, while not part of the contract, directly impinge upon the contract are being undertaken by legal systems across the EU. The principles of contract interpretation have evolved over centuries and [for Ireland and the UK] are based on common law. This can be a somewhat rigid approach in circumstances where the legal interpretation of contractual obligations previously may not have experienced such conditions like Covid 19, State directed lock down and the resultant economic impact or indeed the prevailing levels of credit which might not necessarily have existed in times gone by. Using a case precedent from 1890 to hold a person to a blatantly unfair contract sometimes makes the law an ass in a world where we have cashless money, virtual currencies and instantaneous on line trade.
Is it time for the Irish Courts to look to the Civil Codes of our European allies and Neighbours, France and Germany? Both jurisdictions provide within their Civil Code of laws for circumstances where a contract cannot be or is incapable of being enforced. The Irish and UK approach is often, you signed the contract and are stuck with it quite often when there is a blatantly unfair contractual bargaining position and no ability for the service provider to negotiate fairer terms. In civil law jurisdictions Courts will often look at the facts and circumstances surrounding the formation of the contract. For the Irish Courts to adopt the thinking and rationale of France and Germany in the application and interpretation of a contract would involve a departure from the settled law in this area which currently governs commercial contractual relations.
Germany has a legal principle called Stoerung- Der- Geschaeftsgrundlage embedded in their civil laws. This effectively means that if circumstances which existed which allowed the contract to be formed suddenly disappear or are during the currency of the contract missing then the contract must be reviewed. Such a review will determine if such circumstances are essential to the performance of the contact and are no longer present, the contract must be changed or cancelled otherwise to retain or unalter the contract would prove unreasonable.
German law as well as the French Civil Code outlines aspects of this principle to be considered prior to altering or changing the contract.
1. Does the occurrence/ absence of initial contracting circumstance make performance of the contract impossible?
2. Is there room for contractual adjustment to allow both contracting parties to protect their interests whilst taking into account the prevailing circumstances impinging upon the contract?
3. Are the obligations in the contract impossible to perform due to the prevailing circumstances a real and essential element of the contract?
4. Good faith applies both before and during the performance of the contract.
Some examples of the Civil Code application in this area is where an economic impossibility arises. Thus, circumstances which now exist which cause the contract to be questioned and would result in unexpected high costs leading to unexpected high expenditure or to a situation where it would be economically impossible to perform the contract, the contract can be revisited for amendment or cancellation.
A further yet crucial consideration is whether the parties to a contract can adhere to the contract, if not, can it be determined that the current circumstances were within the contemplation of the contracting parties at the time of entering the contract. If not and the contract can’t be adhered to the contract should be adjusted or cancelled.
There are certain safety mechanisms to such a proposition to protect all parties. For example, a Guarantor cannot be released from their obligations due to the borrower they guaranteed becoming insolvent. Such an insolvency was within the contemplation at the commencement of the contract.
Will the Irish Courts adopt a flexible legal approach to a heretofore “straight jacketed” approach to the interpretation of contracts and their frustration.?
A parallel to this question is the Court approach following the financial crisis in 2008. The Courts applied a very rigid approach to loans and security and the position of debtors and the Banks. One could take the view that this was to maintain the stability of the financial system in Ireland until 2014 when things began to turn more positive for the economy. Since 2014 the Courts have applied much more scrutiny to the Banks position in the lending process and the various loans sales and write downs. The Courts however did not look at issues like reckless lending and with the passage of time, it is unlikely this stone will ever be lifted.
However Covid-19 is a very different situation where the Courts might look to display more flexibility and we would welcome and encourage this approach.
There is a real risk that there will be a plethora of litigation on breach of contract in the aftermath of the current emergency. As above, it is difficult to predict how the Court will interpret such contracts. Of course, the option of recourse to the courts is essential where there has been a breach of contract to provide legal certainty. However, if every business was to engage in the litigation from the inevitable breaches which have undoubtedly arisen in recent weeks and which will continue to arise, this could have a serious impact on the economy and access to the courts system. In addition, it will impact individual businesses and their ability to continue trading or surviving the current emergency.
Therefore, businesses should be pragmatic and commercial in their approach to contractual disputes arising during the pandemic. In certain cases the best solution may be for the parties to the contract to negotiate a mutually acceptable alternative solution to having the contract terminated. Parties must also consider more creative solutions, such as mediation, which could result in a more practical and efficient outcome. Mediation will also allow the parties a degree of control on the remedies and solutions available to them and will help to preserve the commercial relationship.
This note is for general information purposes and does not constitute legal advice. Legal advice must be obtained for all individual circumstances. Each case must be assessed on its own merits.
About The Authors
Pat founded the firm in 2002. In 1983 he graduated with an honors BCL law degree from University College Dublin. He was admitted as a solicitor in Ireland in 1987 and in England and Wales in 1996. In 2013 he completed…….
David holds an LLB Law Degree from the University of Wales, Cardiff and the Certificate in Professional Legal Studies from Queens University of Belfast. He was admitted to the roll of solicitors in Northern Ireland in 2003 and admitted in The Republic of Ireland in 2014…..
Paul joined the firm in 2018. Prior to this he had worked in trade operations in a major Irish stockbroker. Paul had previously graduated from University College Dublin in 2015 with an honours degree in History & Politics…….