Coronavirus, Contracts and Startups

Image for post
Image for post
Photo by CDC on Unsplash

The recent outbreak of coronavirus has disrupted millions of businesses worldwide, including many technology companies and startups. This is where the legal concept of force majeure could prove to be a saving grace for businesses affected by the coronavirus outbreak.

Force Majeure

Force majeure clauses are contract provisions that permit parties to suspend or terminate their obligations under a contract due to certain circumstances that are beyond their reasonable control. Thus a force majeure clause is basically a contractual risk allocation mechanism that essentially provides that if a party to a contract is prevented from performing its contractual obligations due to the occurrence of certain events beyond its control (known as force majeure events), then the nonperforming party is excused from its contractual obligations without being deemed to have breached the contract.

Although force majeure clauses are largely considered as boilerplate provisions and glossed over with little to no negotiation, in the wake of the events such as the coronavirus outbreak it has become necessary for the businesses to take a serious look at these clauses. Startups may find the applicable force majeure clauses in their terms of service or master service agreements.

To assess whether the coronavirus outbreak would trigger a force majeure clause so as to excuse performance of a contract by a party, the following factors should be considered:

Governing Law

Step one in determining force majeure is reviewing what law governs the contract. Force majeure terms, and the contract as a whole, will be interpreted from a perspective of the applicable law. For example, courts in New York narrowly construe force majeure clauses. Therefore, where a party’s contract is governed by New York law it is advisable to tailor the language of the clause with caution such as to avoid overtly broad language. Different rules are applicable in California.

Further, depending on the applicable law, even if the contract does not include a force majeure provision, a force majeure concept such as the doctrine of impossibility or frustration could be implied under applicable state contract law.

Force Majeure Event

It is important to assess which events does the force majeure clause list as constituting the force majeure event. In order to determine whether the outbreak of the coronavirus constitute a force majeure event under the contract the parties must look at relevant language that may be included such as “disease,” “epidemic,” “pandemic,” or “quarantine.” Where the aforementioned words are explicitly stated to constitute a force majeure event it can certainly be argued that the outbreak of coronavirus, which was declared by the World Health Organization as a Public Health Emergency of International Concern, is an epidemic and quarantine thus a force majeure event.

If the force majeure clause does not specifically include the words such as “disease,” “epidemic,” “pandemic,” or “quarantine,” one may instead examine if the efforts to contain the coronavirus or the byproducts of the coronavirus outbreak are somehow covered under the language of the clause. This could include language listing government actions in response to the outbreak as constituting the force majeure event, such as locking down cities, generally restricting transportation and restricting import and export goods. The phrase “governmental action” is a commonly listed force majeure event, and so the nonperforming party may seek to argue that its nonperformance is as a result of this explicitly listed force majeure event.

Depending on the parties’ prior negotiations, a force majeure clause may also generally define a force majeure event as an event beyond the parties’ control, leaving more room for interpretation. However, broad, catch-all language may be interpreted differently depending on the applicable law and might not be sufficient to invoke force majeure in case of coronavirus outbreak.

Foreseeability

A party trying to invoke the protection of force majeure clause must bear in mind that having a category of event explicitly listed as a force majeure event is not an absolute guarantee that such an event would be upheld by the court as a force majeure event, if such an event becomes foreseeable during the course of the contract. There have been cases where, even though an event is specifically listed in the force majeure clause, the court rejected such event being a force majeure event because they court considered such event foreseeable. Thus, in case of parties claiming governmental action in response to coronavirus outbreak as a force majeure event, foreseeability needs to be analyzed by taking into account circumstances during the course of the contract duration.

Cause of Non-Performance

Consider whether the party could have timely performed if the outbreak did not occur. For a force majeure clause to be applicable the force majeure event must be the cause of the party’s non-performance. If other factors contributed to the party’s nonperformance, a force majeure clause may not be applicable. Determine whether the force majeure event must have either, for example, prevented, hindered, or delayed performance for a party to exercise its rights. Depending on how the clause is drafted, a party may not necessarily be able to claim a force majeure in circumstances where it was not objectively impossible to perform.

Alternatives for Performance

Consider whether there are other means through which a party can perform because often parties have an obligation to mitigate damages. If there are, a party is likely required to take reasonable steps to perform through such other means and will not be relieved of its contractual obligations. Consider whether the party not affected by the coronavirus outbreak is obligated to mitigate damages in some way.

Alternative Remedy

Determine if the applicable law of the State governing the contract provides other defenses such as impracticability or frustration of purpose.

Impracticability is a defense that can be relied on when the duty to be performed becomes unfeasibly difficult or expensive for a party who was to perform. Impracticability defense requires an occurrence of a condition, the nonoccurrence of which was a basic assumption of the contract; the occurrence must make performance extremely expensive or difficult; and this difficulty was not anticipated by the parties to the contract.

In the alternative, frustration of purpose defenses excuses a party’s performance if an unforeseeable event has occurred, the risk of such event has not been allocated by agreement or otherwise, and even though both parties can still perform the contract, such performance would not give the other party what induced him to make the bargain in the first place. In other words, the frustrated purpose must have been the basis of the agreement that without it, the transaction would have made little sense to both parties.

Thus, in the absence of a force majeure clause, the above remedies might help a party to a contract excuse performance of its obligation in the wake of the coronavirus outbreak.

Conclusion

Whether a party can exercise its rights under a force majeure clause must be determined on a case-by-case basis. In assessing the applicability of the force majeure clause to the coronavirus outbreak a party needs to pay heed to the applicable law, the language of the clause listing force majeure events and the link between the force majeure event and the failure to perform.

Written by

Law firm specializing in startups, series A and US expansion. No legal advice I No attorney client relationship I Attorney advertising

Get the Medium app

A button that says 'Download on the App Store', and if clicked it will lead you to the iOS App store
A button that says 'Get it on, Google Play', and if clicked it will lead you to the Google Play store