COVID-19 and frustration of commercial contracts
It goes without saying that countless businesses worldwide have faced disruption, delays or even had to completely shut down operations due to the global Covid-19 pandemic.
As a result, many businesses have found themselves unable to comply with their obligations under commercial contracts. We have previously addressed how to rely on force majeure clauses to avoid liability for default.
But what happens if you don’t have a force majeure clause, or the clause does not cover events such as the COVID-19 outbreak? There are several fall-back options, and one of these is the legal doctrine of “frustration”.
What is frustration?
A contract is “frustrated” when, in the circumstances, it is impossible to perform it at all.
For example, if you contracted to stage a play at the Globe Theatre, and the Globe burns down before the event, the contract is likely to be frustrated.
What is the effect of frustration?
If a contract is frustrated, it automatically comes to an end. This means that both parties can walk away from their obligations. Each party can recover any sums they have already paid under the contract, less their counterparty’s costs.
Frustration differs from force majeure provisions, which usually postpone an obligation rather than terminating the contract altogether.
How do you prove frustration of a contract?
However, it is extremely rare for a contract to be frustrated. In order for this to happen, an event must occur which makes it completely impossible to perform the contract. It is not enough that performance is simply more difficult or more expensive to achieve. Examples include:
- Illegality – For instance, obligations to import goods may be impossible to perform where countries are subject to a travel ban.
- Unavailability – Performance may be impossible where a key person essential to performance has contracted COVID-19 and is consequently unavailable or where items needed for performance cannot be accessed due to the lockdown.
- Cancellation of an expected event – For instance, if a large sporting event is cancelled due to the pandemic, certain obligations may be impossible to perform. Contracts should be reviewed carefully, as sophisticated contracts may already provide what should happen in the event of cancellation.
A business may run into difficulty where they have an obligation to pay money, for instance in payment for goods or repayment of a loan. Just because a party has fewer funds available to it, because of an unforeseen event, this will not in itself make the act of paying impossible.
A contract can also be frustrated where an event means that the contractual obligations are “radically different” from those anticipated by the parties.
Events leading to frustration must also fulfil the following criteria:
- After signing – The event must occur after the contract has been signed. For instance, if you signed your contract after the UK had already gone into lockdown, and the lockdown made performance impossible, you could not rely on this event to prove frustration.
- Unforeseeable – The event must be unforeseeable. For instance, at a certain point after the pandemic had spread to the UK population, parties would have been able to forsee that the UK Government might impose a travel ban. If the contract was only signed once the ban became foreseeable, and a ban was imposed which made performance impossible, the parties could not rely on the ban to prove frustration.
- No control – The event must be beyond both parties’ control.
- No breach – The event must not be the result of a breach of contract by either party.
What are the alternatives to frustration?
Businesses should review any commercial contracts under which their performance may be affected, and identify all potential steps for postponing or avoiding liability for non-performance.
For instance, more tailored and flexible force majeure clauses can be relied on in these circumstances. Even if there is no force majeure, businesses should always review their contracts thoroughly for other specific clauses which they may be able to rely on.
If the contract does not offer a clear solution, businesses may wish to negotiate with the other parties to the contract to reach an alternative arrangement. This could involve delaying performance or offering alternative goods or services in substitution. The exact solution reached will depend on the parties’ specific circumstances and bargaining positions.
For contract reviews and tailored expert legal advice on protecting your business’ reputation, please get in touch with the Commercial team on 020 3814 2020 or contact Robert Cain at email@example.com.