COVID 19 – How Does It Affect Contractual Obligations?

It is fair to say that COVID-19 has affected every business in the United States, regardless of how small or large.  The supply chains are straining, mass layoffs are in progress, and many businesses are facing decisions that the they have not considered even just a week ago.

The effect of forced shutdowns, mass layoffs and furloughs, and uncontrollable interruptions in the global supply chains, have placed many companies in a situation where they cannot meet their contractual obligations to other parties, be it lease payments, payments for services received, delivery obligations, or other contractual promises.

Thus, the question for many businesses is:

What can a company do when it is faced with a situation it did not foresee when it entered in a particular contract? 

The answer is complicated, and may depend on several factors, such as:

1. What is the specific language in the contract?
2. Which law governs the contract?
3. Is performance truly made “impossible” under the law or just made more costly?
4. Is the inability to perform under the contract due entirely or only partially to COVID-19?
5. Is the inability to perform a direct consequence of a government order?

Sometimes, a business can be excused from performing under a contract due to a force majeure or an “Act of God” provision in that agreement. However, given that COVID-19 is a new phenomenon, there is no clear law on (1) whether COVID-19 qualifies as an “Act of God” or a force majeure event and (2) many contracts will need to be interpreted to determine whether their particular force majeure clauses encompass COVID-19.  Needless to say, the parties may disagreed about the interpretation.

Various trade or commercial associations may be issuing official letters declaring COVID-19 a force majeure event to assist certain businesses in asserting that defense, but it is not clear what legal force such letters will have in court since they are not official government orders and are not “the law” of the land.

Generally speaking, depending on the type and the language of a contract, businesses may be able to avail themselves of the following defenses to breach of contract due to inability to perform:

1. Force Majeure 
2. Act of God
3. Impossibility of Performance
4. Impracticability

However, the laws addressing each defense are complicated, vary from jurisdiction to jurisdiction, and, a lot of times, are outdated and have not been applied to novel situations for decades.  What may have been considered an unforeseeable event 50 years ago, now, due to the globalization of supply chains, may no longer be considered unforeseeable.  Thus, we are definitely entering a period where new laws will be made and where creative legal solutions will be necessary.

What should businesses be doing right now? 

Get ahead of the problem.  Companies should review those contracts that they anticipate they may not be able to fulfill and determine whether their performance is likely to be excused. Assuming that COVID-19 somehow automatically absolves a party from performing under a contract is not a good strategy.

If it appears that a contract performance may not be excused, seeking alternative arrangements with the other parties to the contract, attempting to mitigate damages, entering into payout agreements, and fashioning other creative solutions may minimize the damage in the long-term.

It is important to keep in mind that any communications about a breach or potential breach of any contract, as well as any communications related to seeking alternative solutions or entering into payout agreements, may end up as exhibits in court should the companies end up in litigation of the breach.  Thus, having a litigation counsel involved in the early negotiations can help ensure that if the matter ends up in court, no harmful admissions or concessions have been made that may undercut any of the defenses available to the company.

Leiza Dolghih is the founder of Dolghih Law Group PLLC.  She is board certified in labor and employment law and has 16+ years of experience in commercial and employment litigation, including trade secrets and non-compete disputes. You can contact her directly at leiza@dlg-legal.com or (214) 531-2403.