Why Risk It? Force Majeure and Contractual Non-Performance

Contracts are a fundamental way in which companies formalize business relationships – they cement the obligations of each party and provide clarity in commercial transactions.

Contracts are also an important tool for risk allocation. Beyond detailing the agreement’s core bargain, contracts commonly contain a host of provisions that clarify what parties carry what risks, and under what circumstances.

The force majeure clause is a risk allocation tool that addresses the contractual consequences of a party being unable to perform its obligations because of a supervening event outside its control, such as, potentially, a pandemic.

Excusing Performance – The Basics

As an obvious starting point, parties to a contract are generally required to perform their agreed upon obligations. However, at least two mechanisms exist to excuse a party from its obligations where it has become unable to perform as a result of some supervening event:

  1. The common law doctrines of frustration and impossibility; and
  2. the force majeure clause.

Common Law Relief

In the absence of an express provision governing non-performance, common law (meaning law made by judges through decisions rendered in lawsuits) may nonetheless function to excuse a party’s non-performance that results from a supervening event. Two legal doctrines apply: 1) frustration, and 2) impossibility.

Frustration results when a party’s primary purpose for entering a contract becomes unattainable due to a supervening event. A party looking to be relieved from their contractual obligations on the basis of frustration may need to establish that:

  1. The purpose for which it entered the contract can no longer be accomplished;
  2. All the parties to the agreement were aware of the frustrated party’s purpose at the time the contract was entered into; and
  3. A supervening event is responsible for the inability of the frustrated party to accomplish its purpose.

A party is relieved from its obligations under a contract on the basis of impossibility where, without fault, that party becomes incapacitated, a thing central to the party’s ability to perform under the contract becomes unavailable, or performance under the contract is made impossible by operation of law. Contractual obligations rendered impossible by government-imposed social distancing rules may therefore be excused on the basis of impossibility.

The Force Majeure Clause

A force majeure clause explicitly excuses one or more of the parties from their obligation to perform during one or more specified events. Parties use the clause to reduce the uncertainty of the common law doctrines of frustration and impossibility – they more precisely set the parameters for a qualifying event, and also the procedure the parties must follow in being excused from their contractual obligations.

Breaking Down the Clause

A force majeure clause typically has four parts:

  1. A statement explaining what party or parties benefit from the clause. A force majeure clause can be unilateral, meaning it only protects one party, or bilateral, meaning it protects two or more parties;
  2. A list of qualifying events, which typically include:
    • natural disasters;
    • disease-related events such as pandemics;
    • violent events such as terrorism or war;
    • government actions such as changes in the law;
    • organized labour activities, including strikes;
    • force majeure clauses also typically include “catch-all” language at the end of the list to capture events that are not explicitly contemplated. The catch-all language should be carefully drafted so that the parties are still able to anticipate what is and is not covered. For example, using the catch-all language “and other similar events” may have very different implication than using the common phrase “acts of god”, which is interpreted to exclude events that the parties could have avoided by taking reasonable and prudent steps.
  3. An explanation of the obligations of the party seeking to use the force majeure clause. Common obligations include a duty to notify the other party or parties, a duty to overcome the event, and a duty to mitigate the effect on the other party or parties; and
  4. An explanation of the other party’s or parties’ rights and remedies when the force majeure clause is invoked. A common right is the ability to terminate the contract if the force majeure event continues for a specified period of time.

As a final note, a party seeking to rely on a force majeure clause will typically be required to establish that the force majeure event in fact caused its inability to perform under the contract. Depending on the wording of the clause itself, this can be a high standard – it is usually not enough if performance has simply become more expensive.

Force Majeure – A Summary

Parties can use a force majeure clause to both allocate the risk of contractual non-performance due to a supervening event and to provide certainty as to how such non-performance will be remedied. In the absence of a force majeure clause, the less predictable common law doctrine of frustration or impossibility may apply.

Depending on its contractual obligations, each party may have different preferences for each of the four parts of the force majeure clause (described above). These preferences are a matter of negotiation between the parties.

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© 2020, Gilbert’s LLP. All rights reserved. This post is provided for general information purposes only and does not constitute legal advice or opinion of any kind. Gilbert’s LLP does not warrant or guarantee the quality, accuracy, or completeness of any information in this post. This post is current as of its date of publication. It should not be relied upon as accurate, time, or fit for any particular purpose.