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From the King’s Coronation to Coronavirus - am I still bound by my contract?

A tale of frustration and force majeure

The coronavirus pandemic has imposed enormous strain on countless contractual relationships. Every sphere of economic activity and every type of contract has been affected: sale of goods, supply of services, landlord and tenant, insurer and insured and so on. If it becomes difficult or impossible for one of the parties to the contract to perform, do they have any get-out or relief under English law?

In the case of business to consumer contracts, the significant increase in consumer complaints about cancellations and delayed or denied refunds has caused the Competition and Markets Authority (CMA) to set up a task force to investigate the issues. While the CMA does acknowledge that most businesses are acting reasonably in what are unprecedented circumstances, it has warned that consumer rights must not be ignored. The CMA points to key consumer protection legislation relevant to its investigation being the Consumer Rights Act 2015 and the Consumer Protection from Unfair Trading Regulations 2008.

Consumer contracts aside, the English law of contract is strict. The position is similar in Scotland and Northern Ireland. Unless the contract itself provides for what is to happen if an unexpected event or “force majeure” occurs, the contract will remain binding on the parties unless the ‘doctrine of frustration of contract’ applies.

Part 1 of this article discusses contracts which do have a force majeure clause. Part 2 will consider when English law will treat a contract as “frustrated” and release the parties from their obligations, where the contract makes no provision for what is to happen in the event of unforeseen circumstances.

Most modern written contracts will contain some form of clause which attempts to provide for what is to happen should some event occur which makes it difficult or impossible for one or more of the parties to the contract to perform their obligations, i.e. for  the purpose of this article a ‘force majeure’ clause. The clause need not necessarily be labelled 'force majeure'.

The problem in practice is there is no such thing as a ‘standard’ force majeure clause. These clauses often get little detailed consideration and are part of the ‘boilerplate’ group of clauses included in whatever template or precedent the draftsperson of the contract has used,

Some contracts do contain carefully drafted provisions which spell out clearly the type of event which will give rise to force majeure and the extent to which the parties will be relieved of their contractual obligations upon the event occurring. The specific events listed may include acts of god such as earthquakes, floods and storms, epidemics, war, terrorism, changes in the law, acts of government, strikes and lockouts and general shortages in source materials or labour. If the word ‘epidemic’ or similar is used, the coronavirus pandemic will clearly be covered. In other cases, the effect of the clause may depend on whether the list is exclusive or merely examples of force majeure events. Strangely, the exact words ‘force majeure’ in themselves have no recognised meaning in English law.

Many ‘typical’ force majeure clauses will spell a list of force majeure events, and stipulate that if any such event or one like it should occur preventing a party from performing for more than a set time (e.g. three months), that party must serve a notice to that effect on the other and the parties will then be excused from further performance. This excuse might be for the period of the event or simply termination of the contract. Unfortunately, these types of clause may not make any provision for refund of prepayments or payment for partial delivery of goods and services.

Although the wording of force majeure clauses varies greatly, there are perhaps three discernible categories. The first category consists of those clauses which apply if an event makes it impossible for one party to perform, or prevents one party from performing, their obligations. While each case will depend on the precise wording and the factual background, the courts will generally interpret this type of clause strictly, and will hold the party to its obligations unless the performance called for would make it radically different from that which the parties contemplated when entering into the contract. The fact that an event has caused one party greater difficulty in performing due to delay or increased expense will not necessarily excuse the party. This approach mirrors the doctrine of ‘frustration of contract’ explained in part 2.

The second category of force majeure clause use wording such as ‘hinder’ or ‘delay’. Wording of this type will give the affected party more leeway in arguing that it should be excused.

The third category of force majeure clause refer to events which are ‘beyond the reasonable control’ of the party. This type of wording gives a party in difficulty much more latitude in arguing that an event has prevented it from performing. The other side of the coin however is that is introduces more uncertainty. In practice the parties will need to negotiate a reasonable solution. If they fail to do so, the court may impose one.

If a force majeure clause is so vague as to amount to an ‘agreement to agree’, it will likely be unenforceable in a law suit. However, if the clause uses language such as requiring a party to use ‘reasonable endeavours’ to perform its obligations, the courts will make a judgment on whether the party has genuinely done so. Two decided cases involving oil supply contracts provide examples of this:

Okta Crude Oil Refinery A.D. v Mamidoil-Jetoil Greek Petroleum Company S.A. and  Moil-Coal Trading Company Ltd. [2003] EWCA Civ 1031

Seadrill Ghana Operations Limited v Tullow Ghana Limited  [2018] EWHC 1640 (Comm)

A further shortcoming of many force majeure clauses is their failure to provide for the financial consequences of a delay or termination of the contract. If a contract has become impossible to perform, and one party has paid but received no or only partial delivery of goods or services, or has spent time and money on preparing to supply goods or services but received no payment, the party will unfairly suffer loss. Some relief may be available either on case law principles or under the Law Reform (Frustrated Contracts) Act 1943 (see Part 2), but this is unpredictable.

We can take a real life case study to illustrate how a force majeure clause can be interpreted. This case involves a well-known franchise system based upon a system of personal development created by an eminent practitioner. The franchise system has been well established throughout the UK for a number of years. The franchise has a three-tier structure with the UK master franchisor on top who has granted area franchises to franchisors in the second tier who in turn have granted sub-franchises to local franchisees within their area.

The system of personal development involves small groups of people physically present together in a venue, who are led by a class leader, and who meet regularly to gain the benefit of the system. The concept involves the group inter-acting with the class leader and each other, and enjoying touch, visual and sound experience during their class. The franchise contract requires the franchisee to pay an initial premium to start operating the system in their locality for a fixed number of years, and to make regular payments of fees during the franchise term which depend in part on the frequency and numbers of the groups of attendees.

The franchise contract has a force majeure clause which provides that neither party is liable for any delay in or failure of performance due to any causes ‘beyond the reasonable control of the parties’. The party affected by the cause is required to notify the other party that the cause has delayed or prevented the party from performing. The parties are required to take all action within their power to comply with the contract.

The onset of the coronavirus crisis has caused a major impact upon this franchise system. Overnight, people were not able to leave their homes to go to the venues, and many would-be attendees suffered a loss of disposable income rendering the attendance less affordable or not affordable at all. There has been a sudden and dramatic reduction in the customer base. The master franchisor’s reaction to the crisis was to develop very quickly an online version of the system which did not require physical attendance at a venue. But they still insisted on payment of the franchise fees, with the possibility of a negotiated discount. The second-tier franchisors have in turn required their franchisees to continue to pay, but with varying levels of strictness and discount offers depending on the particular franchisor.

How should the force majeure clause be applied to the impact of the coronavirus crisis upon this franchise contract? Given the characteristics of the personal development system which is at its core, there is a strong case for stating that the online system is radically different from the physical version. This is a casebook example of an event which causes both parties not to be able to perform. The franchisors argue that they can still provide the online version of the system and therefore the franchisees must continue to pay. Yet it is clear that delivery of the physical personal development system has become impossible for an indefinite period of time. In the writer’s view, the effect of the coronavirus crisis is so radical that it would trigger even the strict rule of frustration of the contract in the absence of a force majeure clause.

The creation of an online version of the system is no doubt a commercially sensible reaction to the crisis, but this is an example of a reasonable action taken by the franchisor to deal with the situation. It does not mean that the franchisor has continued to comply with its obligations as contemplated by both parties when they entered into the contract. The franchisees would do well to seek to respond by being prepared to negotiate a new fee scale and take reasonable steps if they can to develop a customer base using the online version. But it would be utterly unreasonable for the franchisors to insist on full payment of the original fees, even with a discount if the reduction bears no relation to the loss of customers due to the non-availability of the physical version.

In the situation of this franchise, and in most other business contracts where there is scope for a continuing relationship, the parties will do well do make compromises and work out a solution which offers mutually beneficial outcomes and enables them to continue to trade.

The moral of the tale for the drafter of a force majeure clause: it is not ‘boilerplate’; think about how an event will affect this contract and these parties and this business; and ask them to think about it.

Legaleze 11 May 2020

 

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