As a matter of general contract law, where a party voluntarily enters into a contract, the usual legal position is one of ‘absolute liability’. The contract will be binding on the party, and all of their obligations must be performed.
In the context of COVID-19, however, it is possible that relief from the obligation to perform a contract may be found in the common law doctrine of ‘frustration’, and/or in a ‘force majeure’ provision of the contract itself.
Frustration: “Things are now radically different than when the contract was entered into”
What circumstances might frustrate a contract?
Frustration is a common law concept. It does not depend on the inclusion of any particular contractual wording. Frustration occurs where circumstances have arisen, through no fault of the parties, making a contractual obligation incapable of being performed because (to use language adopted by the High Court) ‘the circumstances in which performance is called for would render it a thing radically different’ from what was contemplated by the contract.
Determining whether a contract has been frustrated is an exercise in contractual construction: Has a “frustrating” event occurred that has such an effect on contractual performance that it could be said the parties never agreed to be bound in circumstances which have ultimately (and unexpectedly) arisen?
There is no single exhaustive list of “frustrating events” or set of rules about what events will be deemed a frustrating events by the courts. The standard of proof is very high – typically higher than circumstances contemplated by a force majeure clause. Frustration will apply to fundamental obligations of a contract only.
What happens when a contract is frustrated?
When a contract is frustrated, it is automatically terminated at the point when the frustrating event occurs. At common law,[1] this means that losses ‘lie where they fall’: future obligations are discharged (and no party can claim damages for non-performance because no party is at fault), while obligations which fell due for performance before the frustrating event remain in operation. Frustration cannot merely suspend a contract, and in this sense it is to be contrasted with the range of consequences that can flow from force majeure.
What steps (if any) must be followed?
Frustration takes effect by operation of law without election or notice being given by any party, though for practical reasons if nothing else, it would usually be expected that a party asserting frustration would make this known to the other party(/ies).
When should frustration be relied upon, for relief?
Raising frustration should usually be an option of last resort, where a contract does not include an operative force majeure clause. The doctrine of frustration is narrow. A court is unlikely to find frustration of a contract where, for example:
- there is an operative force majeure clause that can deal with the relevant issue;
- the relevant event reasonably could have been (or in fact was) foreseen by the parties;
- the alleged frustration is the fault of a party or self-induced;
- the intervening event has not led to serious consequences. (Adequate seriousness will usually mean that performance has become more than merely onerous, difficult, costly, unjust or unreasonable, inconvenient or commercially difficult);
- the circumstances encountered are temporary or transient only;
- the contract remains performable (even though in a reduced or compromised fashion).
Parties should exercise caution and take advice before asserting frustration of a contract. To do so in error may amount to a repudiation of contract (in turn resulting in liability for damages).
Force Majeure: “This is an event outside the control of my control, and the contract provides for relief”
In what circumstances might force majeure apply?
In Australia, common law generally does not recognise force majeure. Relief for force majeure will depend on the existence of an appropriate clause within a contract.
The usual intent of a force majeure clause is to relieve a party from performing their contractual obligations where a defined event occurs, preventing performance (either wholly or in part). The breadth of what will constitute a force majeure event varies from contract to contract; but common definitions refer to events that are beyond the parties’ control, and could not have reasonably been foreseen.
Force majeure events listed in a contract may often include: wars, riots, acts of terrorism, acts of God, natural disasters, ‘government action or interference’, ‘labour shortages’, ‘national emergencies’, epidemics and pandemics. But to reiterate, force majeure is dependent on the wording used in a given contract.
Importantly, because force majeure is a contractual construct, the force majeure event must be defined with a certain degree of clarity. It is possible for parties to a contract to agree that a force majeure ‘fully and completely’ deals with force majeure events, effectively excluding the doctrine of frustration.
What happens when force majeure is triggered?
A force majeure clause should identify not only what will constitute a triggering event, but also the consequences of such an event occurring. Typically, the contract will provide for some or all of the following:
- suspension of contractual obligations (wholly or in part);
- relief from liability for non-performance or delay while the force majeure event continues;
- extension of time to perform obligations;
- renegotiation of certain terms to resolve the problem, and obligations to cooperate to find a solution;
- termination (either immediately or after the force majeure event has continued for a specified period of time).
What steps (if any) must be followed?
The contract will specify any particular steps that must be followed to rely on force majeure. Depending on the clause, it may be necessary to notify the other party when a force majeure event has occurred; and a failure to notify may result in a party being unable to rely on force majeure.
The likelihood of procedural steps or preconditions being spelled out in a contract is in contract to frustration – which operates automatically as a matter of law, as we have discussed.
Whatever steps apply, to be granted relief under a force majeure clause, a party must be able to establish causation between the force majeure event and its effect on performance of the contract. The onus of proof will rest with the party asserting force majeure.
When should force majeure be relied upon, for relief?
A force majeure clause can be a workaround for the limitations presented by the doctrine of frustration. It will almost invariably be the more favourable option, where available.
However, as is the case with frustration, a party must exercise caution when relying on force majeure; because an error or dispute as to availability could result in a repudiation of contract.
Is COVID-19 capable of frustrating a contract or triggering force majeure?
It is not possible for us to answer this in a generic way or abstract way, because each situation will turn on its own facts and circumstances.
That said, businesses required to shut down on account of COVID-19 might be able to establish frustration or force majeure. Relevant considerations may include: the terms of the relevant contract; the nature of the parties and businesses involved; and where and when the contract was entered into. It might be difficult to argue an unforeseen event if, for example, a contract were entered into after COVID-19 had reached pandemic level.
If seeking to rely on force majeure specifically, an affected party would need to ascertain whether their contract actually contains a force majeure clause, and whether the effects of coronavirus falls within that clause.
With the possible exception of the most recent of contracts, we would not expect COVID-19 to be covered in an existing force majeure clause with any degree of specificity (though drafting approaches may change going forward). Normal rules of contractual construction will therefore need to be applied. Even in the absence of specific language such as ‘infectious disease’ or ‘pandemic’, events arising from COVID-19 may still be covered as force majeure – perhaps more squarely than the virus itself is covered. In other words, COVID-19 may be an indirect cause of a force majeure event.
‘Government action’, ‘national emergency’ or ‘labour shortages’ are the types of events resulting from COVID-19 which might be covered by force majeure. But ultimately it all depends on the wording of the force majeure clause (if any) of your contract.
Please contact David McMullen if you require any advice on contractual issues arising during the COVID-19 period and beyond.
[1] The common law position applies in Western Australia, Queensland, Tasmania, Northern Territory and ACT, whereas legislation affects the law of frustration in New South Wales, Victoria and South Australia.
