Tackling uncertainty in pandemic-related international disputes

Tackling uncertainty in pandemic-related international disputes

International dispute resolution is one of the practice areas deemed most affected by the COVID-19 pandemic. Its international character, bringing together people from different nations to business meetings, hearings and conferences, makes this field more prone to impact from different factors.

Besides, the economic and sociopolitical factors affecting popular arbitral seats, unavoidable disputes arising from breaches of contracts, fluctuations in commercial activity, and drastic changes in the global markets are currently inviting legal professionals to reevaluate how to protect their clients' interests.

Outbreaks across different continents have resulted in disruptions in international supply chains. Further, policies implemented by states in order to mitigate the impact of the COVID-19 pandemic, such as travel and trade-related restrictions, as well as quarantine measures, have made companies anticipate the breach of contractual obligations. Specifically, these companies seek protection through somewhat boilerplate force majeure clauses and other related legal principles.

Force majeure

In business circles, force majeure describes those uncontrollable events that are not the fault of any party and that make it difficult or impossible to carry out normal business. Force majeure clauses regularly focus on risk allocation among parties by taking into consideration several conditions that, if cumulatively met, may absolve them from liability in the event they cannot fulfil their obligations under a contract.

These circumstances generally involve (1) a failure to perform caused by an impediment beyond the control of the breaching party, (2) the occurrence of an impediment that the breaching party could not be reasonably expected to have taken into account at the time of the conclusion of the contract, and (3) the effects of an impediment that the breaching party could not reasonably have avoided or overcome.

Parties usually agree and define the particular impediments that could amount to force majeure. What are they?

War (whether declared or not); hostilities; armed conflict or the serious threat of same; civil war; civil disobedience; terrorism; natural disasters; prolonged breakdowns of transport or telecommunications; compliance with any law or governmental order, rule, regulation or direction; curfew restrictions; seizure of works; general labour disturbances; epidemics; or acts of God.

Is this list exhaustive? No, force majeure is regularly analysed on a case-by-case basis, carefully following the terms of a specific agreement that may or may not include a force majeure definition, stating the consequences of a possible nonfulfillment. Almost all legal systems recognise force majeure as an excuse for contractual nonperformance (Anaconda-Iran, Inc v The Government of the Islamic Republic of Iran, et al, Award No. ITL 65-167-3 of 10.12.1986, not reported by LexisNexis® UK), but the effectiveness of a force majeure defence will ultimately depend on the governing law of the contract.

How does the force majeure concept stand from a common law perspective?

A fact-intensive inquiry must be done in order to determine if force majeure can be invoked under the common law. In this kind of legal system, force majeure clauses are generally interpreted narrowly and in light of their purpose, which is ‘to limit damages in a case where the reasonable expectation of the parties and the performance of the contract have been frustrated by circumstances beyond the control of the parties’ (Constellation Energy Servs. of New York, Inc v New Water St. Corp, 146 A.D.3d 557, 558 (1st Dep’t 2017) not reported by LexisNexis® UK).

‘[W]hen the parties have themselves defined the contours of force majeure in their agreement, those contours dictate the application, effect, and scope of force majeure.’ Therefore, under the common law, consideration must not only be given to whether the party's agreement expressly provides for suspension or discharge of performance based on force majeure, but also to whether notice is required before declaring force majeure and in what form.

How is the force majeure concept interpreted in civil law jurisdictions?

If the contract is governed by civil law, in order to successfully invoke force majeure, consideration must not only be given to the wording of the contract and the intention of the parties, but also to the statutory provisions on what constitutes force majeure.

'In civil law jurisdictions force majeure constitutes an excuse of performance even in the absence of an express contractual provision. The reason for this is that domestic laws or codes provide that force majeure excuses the debtor of all liability regarding non-performance of an obligation.'

In essence, when can force majeure be successfully raised in a civil law regime? After determining (1) that a party's performance is prevented by an event beyond its control, (2) that the event could not reasonably have been foreseen at the time the contract was executed, and (3) that the event's effects could not have been avoided by appropriate measures.

The determination of the external, unforeseeable and irresistible character of the force majeure concept necessarily involves, as under common law, a specific factual analysis. Given that the force majeure concept is not of public policy character and may be contracted out, parties must first consider if contractual force majeure clauses appropriately define the force majeure events at hand.

This is because such clauses may be wider in scope and/or different than the more rigid force majeure concept or may incorporate the latter into the contract. Thus, a force majeure clause may be able to excuse performance more easily.

Force majeure clauses or applicable law provisions?

Uncertainties will remain if the parties have not clarified the relationship between the contractual force majeure framework and the relevant provisions of the substantive law governing the contract in the clause itself.[12]

The arbitral tribunal that issued ICC Award No. 8873 (French claimant v Spanish respondent) was asked to determine whether the requirement of unforeseeability constituted an essential element of force majeure under Article 1105 of the Spanish Civil Code. Even when said provision was not expressly mentioned in the force majeure clause. This tribunal followed the general guideline, employed by other ICC tribunals, to determine the degree of acceptable interference of external rules allowed in the system of contractual rights or obligations established in the contract.

This standard is consistent with the practice of international arbitral tribunals, whose jurisdiction is based on the will of the parties, to protect the parties' legitimate expectations, especially regarding the application of rules contained in the applicable law, derived from trade usages or general principles of law that are not laid down in the force majeure clause (see ICC Award No. 8873 of 1997).

What does this mean? It could be concluded that arbitral tribunals have become increasingly aware of protecting the parties' legitimate expectations, but with a parallel consideration of applicable law provisions on force majeure.

What could parties do to have more certainty in this sense? Parties could tailor the wording of the force majeure clauses in their agreements to address their contractual needs by modifying, in line with the law, the meaning of specific terms whose connotations are broadly provided by the applicable legislation. In other words, boilerplate language will not be enough; the clause needs to be tailor-made to account for the provisions of applicable laws.

Does COVID-19 constitute a force majeure event?

Regarding the COVID-19 pandemic specifically, parties must first consider if their agreement lists 'epidemics' or 'pandemics' as force majeure events. Catch-all provisions may provide that a force majeure event includes anything that is beyond the parties' control (see for example, Tandrin Aviation Holdings Ltd v Aero Toy Store LLC [2010] EWHC 40 (Comm)). However, if this kind of wording or provisions are not found in the agreement, force majeure could also possibly be raised under other circumstances, like acts deriving from orders by governmental authorities, such as mandatory lockdowns.

Similarly, 'acts of God' clauses, incorporated in many contracts under common law, which regularly excuse liability for the occurrence of natural disasters, do not necessarily offer force majeure grounds if it is considered that COVID-19 is the result of exotic animals trading at a market in Wuhan, China.

In addition, what other considerations surround COVID-19? (1) The extent to which the viral outbreak could have been prevented, (2) whether reasonable expectations were frustrated and circumstances were unforeseeable, and (3) alternative means of performing obligations, ie the adoption of measures to mitigate the COVID-19 outbreak and its consequences.

Are there any other alternatives to force majeure?

Even if an event falls short of being classified as a force majeure event, parties facing more onerous, or impossible-to-perform, obligations may seek other kinds of relief depending on the jurisdiction.

Common Law

Under common law, parties may seek the application of the doctrines of frustration or impossibility of performance considering (1) whether the subject matter of the contract or the means of performance have been destroyed and (2) whether the purpose of the contracts has been frustrated or the contract has become radically different from what was contemplated by the parties at the time when it was agreed and therefore physically or commercially impossible to fulfil.

The Uniform Commercial Code (UCC) provides that a seller is excused from performing under a contract when ‘performance as agreed has been made impracticable by the occurrence of a contingency the non-occurrence of which was a basic assumption on which the contract was made or by compliance in good faith with any applicable foreign or domestic governmental regulation or order whether or not it later proves to be invalid’(NY UCC § 2-615(a)).

The Restatement Second of Contracts defines impossibility as ‘not only strict impossibility but impracticability because of extreme and unreasonable difficulty, expense, injury or loss involved’ (Second Restatement of Contracts § 254). Government-imposed lockdowns due to COVID-19 could support the possibility that businesses employ successfully an impossibility or impracticability defence.

If a contract does not make reference in its provisions to force majeure and if an impossibility or impracticability defence fails, another possible defence for a breaching party under COVID-19 could be the doctrine of frustration of purpose. For the doctrine to apply, ‘the frustrated purpose must be so completely the basis of the contract that, as both parties understood, without it, the transaction would have made little sense’ (see Crown IT Servs. v Olsen, 11 A.D.3d 263, 265 (1st Dep’t. 2004), not reported by LexisNexis® UK).

However, parties should be mindful that economic hardship such as an increase in the cost of performing under a contract is not enough to assert a frustration of purpose defence (see A + E Television Networks, LLC v. Wish Factory Inc. , 2016 WL 8136110, at *13 (S.D.N.Y. Mar. 11, 2016) not reported by LexisNexis® UK). Since this legal doctrine may only be invoked where the entire object of the contract has been defeated, it may grant limited success to most companies given the vast array of options that big commercial players have at their disposal.

Civil law

On the other hand, some civil law jurisdictions provide for an excuse for nonperformance in the event of hardship. However, this legal doctrine provides remedies for parties only after they have met a very high and burdensome threshold.

For example, according to German law, performance may be excused if a party proves that performance has become impossible. Similarly, a party may also request the adaptation of the contract if it can show that none of the parties has agreed to bear the risk of a material unforeseen event.

Under French law, it would be material to consider if the change of circumstances was unforeseeable at the time of the conclusion of the contract (imprévisibilité), if it rendered performance excessively onerous, and if the event is beyond a party's control (extériorité). A finding of hardship may trigger the renegotiation of a contract and give the necessary powers to arbitrators or judges to modify the contract; these are remedies short of nullification of the contract altogether.

International contracts

Contracts could be governed by the United Nations Convention on Contracts for the International Sale of Goods that provides in its Article 79 that performance may be excused where the failure to perform was due to an unforeseeable impediment beyond the party's control that it could not have overcome.

Also, the UNIDROIT Principles, constantly applicable to international contractual relationships and adopted verbatim by many jurisdictions, deal with force majeure in the chapter addressing nonperformance and with hardship in the chapter on performance (2016 UNIDROIT Principles, Arts. 6.2.1–6.2.3., 7.1.7). Under these principles, a successful force majeure claim must prove nothing less than total impossibility and hardship alone never forgives nonperformance, it instead compels renegotiation and authorises courts to adapt the contract to take the hardship into account.

Conclusion

If parties to cross-border transactions are not subject to particular force majeure clauses, they must consider that legal concepts with varying meanings across diverse jurisdictions may be applicable to their particular circumstances. Common law jurisdictions use the term force majeure but ignore the concept of force majeure as perceived in civil law jurisdictions.

The common law force majeure concept is almost synonymous to the doctrine of legal impossibility and is moving in the direction of impracticability. In England and the United States impossibility and impracticability are associated with the doctrine of frustration. Frustration, as described supra, is said to be the common law equivalent of the civil law force majeure concept.

However, these concepts are different in the sense that force majeure under civil law applies to situations where performance of the contract is impossible, not only something different from what was originally contemplated by the parties as is the case of the frustration doctrine. It has been said that the civil law force majeure concept is far narrower than that of frustration.

It is very important for international businesses to understand these conceptual differences in order to strategically protect their business models from the uncertainties that these and future critical times may bring. Also, companies must closely monitor developments of the rapidly evolving COVID-19 pandemic.

States such as China and France have helped to reduce commercial uncertainties by declaring that COVID-19 is a force majeure event under domestic law. However, evaluating the influence of the coronavirus outbreak on different businesses and their respective contractual relationships necessarily requires a fact-specific analysis.

Concerned companies, performing commercial activities in different industries and jurisdictions, should undertake a review with their counsel of their rights and obligations under agreements subject to distinct applicable laws, especially those involving cross-border transactions.

The common law position, as set out in this article, is US focused.

Note: footnotes are included in the original article (subscription required)

This content is based on an article first published by Law360, a LexisNexis® company, on 27 March 2020 and is published with permission.

Further information can be found at: https://www.law360.com/internationalarbitration (subscription required).

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