Coronavirus and Force Majeure: A Houston Business Legal Perspective

IT'S IMPACT ON HOUSTON BUSINESS OWNERS

Written by Craig M. Kaiser, Founding Partner

Written by Craig M. Kaiser, Founding Partner

Written by Gregory L. Phillips, Founding Partner

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A Houston Business Legal Perspective on Coronavirus

We live in uncertain times. Everyone is impacted by the coronavirus (COVID-19) pandemic. For many, this unforeseen event has severely disrupted their daily lives and lifestyle.

Schools are closed.

Businesses are on hold.

Stay-at-home orders in the city of Houston and some surrounding areas have become the norm.

Life has changed.

COVID-19 has also been enormously disruptive for Houston businesses. The pandemic is affecting the ability of companies locally and around the globe to have some semblance of normalcy. As a result, many existing contractual obligations have been left unfulfilled. Companies are now wondering whether they or their partners will be able to perform their contractual duties and responsibilities.

So what does that mean for your business from a business law perspective?

Get To Know Force Majeure

Force Majeure - Houston Business Lawyers

“Force majeure” is simply an “act of God.” For an event to qualify as a force majeure or an unforeseeable act of God, the occurrences must be beyond the reasonable control of a party. That means to be eligible as a disruptive occurrence; a force majeure must meet the following criteria:

  • Must not be the result of negligence or malfeasance by one party.

  • It must not be a common natural occurrence that can be reasonably accounted for (such as a rainy day).

  • Must not have been contemplated in the contract itself (such as contractual ordinary lousy weather).

Force Majeure

Force majeure clauses are very commonplace and included in many business contracts. It allows both parties, in the event of some unforeseeable occurrence, to be relieved of their contractual duties and obligations.

Incidents such as wars, labor strikes, civil unrest, crimes, and yes, pandemics, are often included under the definition of a force majeure. Other events commonly considered to be force majeure include natural disasters such as hurricanes, tornadoes, earthquakes, and volcanic eruptions. It is important to note, however, that just because a contract cannot be fulfilled as a result of one of these occurrences does not mean that force majeure can be invoked.

For example, a factory owner that decides to build a factory in an active warzone cannot then invoke force majeure if his factory is attacked, damaged, and put out of commission. In other words, force majeure cannot be used as an escape from liability for the poor performance of a contract, or an event that was expected

For many business owners, a global pandemic and the subsequent shut down of many facets of society, including non-essential work, would qualify the occurrence of COVID-19 as a bonafide force majeure. However, the actual legal perspective is a little muddier.

For a force majeure clause to stand in court, it will have to pass three critical legal tests:

  • Does COVID-19 qualify as a force majeure as defined in the existing specific contract language?

  • Was the risk of non-performance foreseeable and something that could have been mitigated beforehand?

  • Is the fulfillment of the contract impossible?

If these three necessary conditions are not met, then force majeure may not be able to be invoked.

Does COVID-19 Trigger Force Majeure?

It is essential, to begin with the contract language itself to understand whether or not COVID-19 triggers the force majeure clause in a contract.

Most contracts that contain a force majeure clause will list or specifically state several specific occurrences, such as epidemics, quarantines, lack of ability to obtain fuel or raw resources, disruption of supply chains, acts of government, labor shortages, and more. Force majeure clauses will also often contain catch-all wording, such as “act of God” or “other similar causes beyond the control of such party.” The aim is to provide as many possible reasons that a contract cannot legally be fulfilled. If a business lawyer or law firm wrote a contract, chances are it contains a force majeure clause in one form or fashion.

Recently, the World Health Organization (WHO) designated the spread of the COVID-19 virus as a global “pandemic.” This classification by an international organizational body may certainly trigger force majeure in contracts that expressly listed a pandemic as a potential force majeure event. However, for contracts that do not explicitly point to an epidemic, this declaration alone may not be enough to invoke force majeure. Instead, businesses, lawyers, and courts will have to dig a little deeper.

If a contract contains any of the following language, it is possible (but NOT guaranteed) that force majeure could be invoked:

  • Plague, pandemics, endemics, or communicable diseases

  • Acts, orders, or requirements by government bodies, including quarantines, lockdowns, and travel limitations

  • Lack of ability to obtain fuel, raw materials, or crucial resources specific needed for the contract to be fulfilled

  • Disruption of supply chains

  • Disruption of transportation

  • Labor disruptions, such as a lack of available workers

  • Local, state, or national emergencies

While this is not an exhaustive list, it does give a good indication of the kind of contract wording a judge or lawyer might look for as potential triggers for force majeure.

What If A Contract Does Not Have A Force Majeure Clause?

While the coronavirus is impacting businesses in almost every industry, many companies will likely look to force majeure clauses to justify nonperformance of their contracts.

The question then is, what happens if there is no force majeure clause present?

In general, courts do not look favorably upon the exclusion of a force majeure clause. However, that doesn’t mean that a coronavirus-stricken business is out of options. If no force majeure clause is present, companies who cannot fulfill their contracts can look to common law mechanisms instead.

Common law mechanisms invoked when a specific force majeure clause is missing include the doctrines of impossibility, or impracticality, and frustration of purpose.

Parties that wish to invoke the doctrine of impossibility or impracticability must establish that the following three conditions are actual:

  • The occurrene of an enexpected, intervening event

  • The mutual agreement between parties that this event would not occur, to begin with

  • The impossibility or impracticality of fulfilling a contractual obligation as a result of the intervening event

For example, Party A signs a contract with Party B to deliver and store $1 million worth of crude oil at a storage facility owned by Party B. An unexpected fire occurs and burns down the storage facility. Because it is now impossible for Party A to deliver and store the oil at Party B’s storage facility, both parties are now released from the contract. Importantly, Party B cannot pursue the $1 million originally laid out in the agreement.

Under common law, the doctrine of frustration works similarly to the doctrines of impossibility or impracticability. The critical difference, however, is that under the doctrine of frustration, there is no supervening event that prevents a party from fulfilling their obligations.

Parties that wish to invoke the doctrine of frustration of purpose must establish that the following three conditions are true:

  • An event (any event) has substantially frustrated a party’s primary purpose.

  • The non-occurrence of that frustrating event was the very basis of the contract.

  • The event in question was not caused by the defending party to begin with.

For example, Party A decides to lease a petrochemical storage facility to Party B for the express purposes of storing a specific, new chemical for a period of 5 years. Two years into the lease, it is demonstrated that the new compound is a hazard to human health and is banned by the government. Party B now has no reason to continue storing the new chemical for the remainder of the lease. Its original purpose has been frustrated. Likewise, Party A is no longer under any obligation to continue to lease the storage facility to Party B since the basis of the contract is no longer valid.

What About Business Interruption Insurance?

Some companies carry business interruption or contingent business interruption insurance. Business interruption insurance is a type of property insurance, and is sometimes also referred to in the industry as “business income interruption insurance.”

As the name implies, business income interruption insurance provides businesses with additional insurance income should their regular income stream be cut off by an unforeseen event or circumstance. Naturally, claims for business interruption often spike when a natural disaster, an act of God, or force majeure occurs. This type of insurance generally covers some or all of a company’s lost revenue, fixed expenses such as rent, as well as any costs incurred as a result of relocation or temporarily operating from a different location.

Companies that carry business interruption insurance will want to be wary and make sure that their insurers will cover any lost income as a result of COVID-19. Viral pandemics are sometimes excluded from standard business interruption policies.

Many insurance policies contain carve-outs for “communicable diseases,” which would almost certainly encompass today’s COVID-19 viral pandemic. Many insurers are already taking the position that communicable diseases not expressly listed in the policy are not covered - which will leave many businesses without the income they were expecting.

Navigating The Uncertain Times

So what happens if force majeure is triggered?

Despite these uncertain times, it can be challenging to determine the best course of action without professional legal consultation. But with the right legal team by your side, you can make the best business decision for your company despite the global uncertainty.

Phillips Kaiser offers professional, knowledgeable legal counsel to businesses in the greater Houston area. Many would describe us as top Houston business attorneys, but we like to think of ourselves as mavericks, strategists, bold, innovative, relational, focused, creative, and leaders in Houston business law.

When you want the best in business law, you can believe in and trust Phillips Kaiser is the top choice for Houston business lawyers.

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