The impact of coronavirus on businesses has been dramatic. Markets have vanished overnight, supply chains have been disrupted or suspended, and many financing arrangements entered into in a different, pre-COVID- 19, world have become unmanageable. Worse still, many of the fixed payment obligations of the business under other long term contracts, such as equipment leases or agency or franchise arrangements remain in place and require to be met, even though turnover may have collapsed and payment has either become very difficult or impossible rendering the non-paying party vulnerable to being served with a statutory demand and being wound up on a cash flow insolvency basis.

Faced with an inability to perform, many parties turn to their contracts and look for a way out, clutching at the words 'Force Majeure'. For the reasons explained below, that is likely to be an exercise in clutching at straws.

Force majeure and payment obligations

Almost all modern commercial contracts contain a force majeure provision in one form or another which work effectively when a party is prevented by circumstances outside its control from performing a contractual obligation. But these types of provision present special difficulties where the obligation in question is an obligation to pay money due under a contract.

This is because, most commonly, force majeure clauses have express provisions excluding their operation in the case of obligations to make payment of sums due under the contract. This can be total, e.g. 'all events beyond the control of the party ... which prevents or interrupts the performance of the obligations or any of them under this Agreement (except any obligation to make any payment hereunder)' or 'Force Majeure shall not include lack of available funds, financial insolvency or financial distress of the Party seeking to claim Force Majeure'. It can also be partial, 'Notwithstanding the foregoing, the following events shall not constitute Force Majeure [...] inability of a Party to pay any amounts when due where such inability is solely caused by lack of funds' or 'events caused by fluctuating economic conditions in local, national or global markets'.

Further, financing and loan agreements where the reciprocal obligations are purely financial rather than commercial agreements, where payment is the consideration for goods or services, typically do not contain any force majeure clause (as evidenced by their absence from the Loan Market Association precedents). While there may be more sophisticated provisions which can address the economic effect and increased costs of performance and alternative means of performance, such as 'material adverse change' (MAC) or 'material adverse effect' (MAE) clauses which allow termination of the contract, or suspension or adjustment of contract obligations, where external events impact upon the value of performance, even these commonly do not extend to pure market or price movements.

But what of the contracts which contain a force majeure clause which does not exclude or restrict the availability of the clause in relation to payment obligations? Even then it is suggested that relying on force majeure will in most cases be extremely difficult.

Force majeure clauses: the basics

A force majeure clause is a contractual term which regulates the consequences of supervening events beyond the parties' control on the obligations of one or both of the parties to the contract. Such clauses typically require a causal link between such events and performance, and provide for the consequences of the event on the parties' obligations. The event may result in the cancellation of the contract, excuse non-performance (whether in whole or in part), or entitle a party to an extension of time and/or to suspend performance.

In addition to fulfilling any procedural requirements such as the giving of notice, it is for the party relying upon a force majeure clause to prove the facts bringing it within the clause. The party must prove the following, and this checklist must be applied to any COVID-19 non-payment force majeure argument:

  1. The occurrence of an event identified in the clause;
  2. It has been prevented or hindered (as the case may be) from performing the contract by reason of that event;
  3. That its non-performance was due to circumstances beyond its control; and
  4. There were no reasonable steps that could have been taken to mitigate the event or its consequences.

(1) What is the relevant force majeure event?

'Force majeure' is not a term of art. Whether the viral outbreak falls within a force majeure clause will turn on the proper construction of the wording of the clause.

Contractual provisions commonly enumerate force majeure events, which may include a 'pandemic' or 'epidemic', potentially by reference to WHO classification or, more generically, 'disease'. It is unlikely that the pandemic in and of itself will have had immediate ramifications on contractual performance. With daily changes in the legal and regulatory landscape as the government enacts lockdown and lockdown easing management measures, events of this nature or more likely to be invoked under force majeure clauses. It is the knock-on effects which will be in issue, which gives rise to difficult questions of causation (discussed further below). It is the ripple effect of the disruption caused by the virus which will in almost all cases provide the relevant putative 'event'. For example, the virus leads to Government rules which restrict commercial activity altogether (by banning all non-essential shops from opening). That ban leads to a sharp falling off in trade which causes a supply company to lose orders. Social distancing rules may prevent the supply company from operating at all, given its premises and numbers of staff, which means it can operate an online business to mitigate the effects. Lockdown is eased and restrictions eased just in time, but consumers do not then return. If financial difficulties are then encountered which means that one can no longer pay one's equipment leasing charges, what was the relevant causative event? Is customer fear after the restrictions are over a force majeure event? Did it really flow from it or is it a new cause outside the force majeure clause?

(2) 'Beyond a party's reasonable control'

Most force majeure clauses contain sweep up language such as 'any other cause beyond [the party's] reasonable control'. The COVID-19 outbreak itself is clearly capable of constituting such a cause. But again, is the secondary or tertiary effect produced by it such a cause, and which is the actual trigger for inability to perform?

In Tandrin Aviation Holdings Ltd v Aero Toy Store LLC [2010] 2 Lloyd's Rep 668, which concerned a contract for the sale of a Bombardier executive jet aircraft, Hamblen J stated that a seller unable to deliver the aircraft on time due to a pandemic causing a dearth of delivery pilots would be able to bring itself within the wording of a force majeure clause which provided 'any other cause beyond the seller's reasonable control'.

(3) Causation: the effect on performance

Once a party has established the occurrence of a force majeure event occurring beyond its control, the next criterion is establishing that the event had and/ or is having the contractually stipulated effect on performance.

Where the clause states that a party is relieved from performance or liability if it is 'prevented' from performing its obligations or is 'unable' to do so, it is necessary to show physical or legal impossibility, and not merely that performance has become more difficult or unprofitable: Tandrin Aviation Holdings Ltd v Aero Toy Store LLC (see below). Economic impossibility because the company cannot get funds at all may be difficult to show. It would be necessary to be able to show that the funding crisis of the business has been directly caused by the force majeure event (or events), not by anything else, and to demonstrate how it is now said to be impossible to fund the payment in question. If borrowing is possible, even on very unfavourable terms, or mortgaging or re-mortgaging the factory or premises is possible, then it cannot be said that the performance of the payment obligation (and one is talking about the specific payment obligation under the particular contract when it falls due, without regard to other commitments falling due at other times) is not possible, when it fell due. The general economic toll of the pandemic by its various routes upon the business will therefore be unlikely to suffice.

The Tandrin Aviation case is a sobering reminder of the extreme difficulty in relying on force majeure in an economic context and in relation to payment obligations. A party sought to excuse its non-payment in pointing to its inability to get funds due to 'the unanticipated, unforeseeable and cataclysmic downward spiral of the world's financial markets' (words which could be paraphrased for the post-COVID trading world). The Judge (Hamblen J.) pointed out (at [40]) that it is well established under English law that a change in economic / market circumstances, affecting the profitability of a contract or the ease with which the parties' obligations can be performed, is not regarded as being a force majeure event. Thus a failure of performance due to the provision of insufficient financial resources has been held not to amount to force majeure – see The Concadoro [1916] AC 2 AC 199; and likewise a rise in cost or expense – see Brauer & Co. (GB) Ltd. v James Clark (Brush Materials) Ltd. [1952] 2 All ER 497. He referred with approval to the then edition of Chitty on Contracts (now 33rd, at para. 15-163) and 'a failure of performance due to the provision of insufficient financial resources or to a miscalculation, a rise in cost or expense,' was not capable of constituting force majeure. See also Thames Valley Power Ltd. v Total Gas & Power Ltd. [2006] 1 Lloyd's Rep. 441.

Note that some types of force majeure clause are more generous in the sense that they do not require outright prevention of impossibility, but only that that the force majeure event should 'hinder' or 'delay' performance or make it 'unreasonably onerous'. Such clauses may offer an easier route, but the casual connection must still be established.

(4) But for causation?

A further question which will frequently arise is: what if, although the pandemic or knock-on effect indisputably prevents performance of the payment obligation, the party claiming the benefit of the clause would not have paid even absent the pandemic? Take an example of a counterparty already in deep financial difficulty who, before coronavirus, was suspected of being unable to perform the long-term contract or the next obligation when it fell due. Coronavirus intervenes and prevents any performance of the contract, relieving the pressure on the counterparty, who then declares force majeure.

This was the position in Classic Maritime v Limbungan Makmur Sdn Bhd [2019] EWCA Civ 1102 (in the author appeared). The contract was a long term contract of affreightment ('COA') for the carriage of Brazilian iron ore. The relevant contractual force majeure clause excluded liability for loss or damage 'resulting from' a series of specified events, including one applicable on the facts, which 'directly affect the performance of either party'. The Samarco tailings dam-burst destroyed all means of the party sourcing Brazilian iron ore and prevented any possible performance of the COA. The non-performing party was in financial difficulties and had missed several shipments just before the dam-burst event as a result. It was held to be unable to rely on this clause despite performance having been rendered wholly impossible because, but for the dam burst, on the facts it would not have performed anyway.

(5) Avoidance/mitigation: working round the problem

The existence of any steps which the non-performing party could have taken to avoid or mitigate the effects of a force majeure event will preclude reliance on the clause.

The burden on the party claiming force majeure is in this respect a heavy one and in the context of the non-payment of a particular debt as it falls due, particularly demanding. Can it show that there were no steps it could have taken to pay that instalment when it fall due, even by not paying another creditor? Or by asking the directors for a mortgage over their homes? For example, in Classic v Limbungan it was held that the non-performing party had no means of avoiding or mitigating the dam-burst and its effect on supplies of Brazilian iron ore, but only after an exhaustive analysis (at summary judgment: [2017] EWHC 867 (QB)) of all possible sources of supply, including going into the market, buying afloat and shipping back to the Brazilian ports to reship and thereby perform the COA by this alternative route and, subsequently, a full debate in expert evidence (at trial) as to market quantities available: see e.g. [2018] EWHC 3489 (Comm). Faced with COVID-19 problems preventing the immediately obvious means or manner of performance of a payment obligation, a party may be faced with a much more expensive and inconvenient means of performing. If that is open to it, then it may later be unable to justify its invocation of force majeure.

Looking ahead ... future-proofing new contracts

Even in these troubled times, trade and commerce continue. New contracts face particular challenges in that they are concluded against the backdrop of the pressing current problems but also forecasts of continuing or extended lockdowns into the future and with the spectre of secondary outbreaks and recurrence of the virus next winter. Special provision will need to be made in contracts attaching specifically to payment obligations, either in the form of 'material adverse change' (MAC) or 'material adverse effect' (MAE) clauses.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.