The Pandemic, Force Majeure Clauses, and the Impossibility Doctrine: What Your Business Needs to Know
Since March 2020, COVID-19 has taken a devastating toll on the health and livelihood of people around the globe. The crisis has also disrupted businesses of all sizes. As businesses have struggled to maintain their operations, many have had to grapple with whether they are able to fulfill their existing contractual obligations. As a result, over the past year and a half, disputes have ensued over the enforceability of force majeure (or “act of God”) provisions in response to the COVID-19 pandemic. If you’re a business owner, staying up to date with this evolving area of the law will be crucial as you negotiate and draft future commercial agreements and meet challenges arising from COVID-19-related disputes.
A force majeure clause is a contractual provision that excuses one or both parties’ performance obligations when circumstances beyond the parties’ control arise and make performance impracticable or impossible. Force majeure provisions are not new and have been included in contracts since long before the pandemic. Such provisions ordinarily cover natural disasters such as hurricanes, earthquakes, and floods. Other circumstances that may trigger force majeure provisions and relieve parties of liability include war, acts of terrorism, labor strikes, and epidemics.
Even in contracts without a force majeure clause, parties may still have recourse to invalidate a contract or delay their performance through the common law doctrines of impossibility or frustration of purpose. The doctrine of impossibility is available when circumstances occur that render performance of a contract objectively impossible. The doctrine of frustration of purpose may be available when unforeseen circumstances undermine a party’s principal purpose for entering into the contract. To invoke this defense, “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” (Crown IT Services, Inc. v. Koval-Olsen, 11 A.D.3d 263, 265, 782 N.Y.S.2d 708, 711 (2004), citing Restatement (Second) of Contracts, § 265 (1981)).
To help you navigate these complex issues, we will review a sample of cases involving disputes about force majeure clauses and these common law doctrines in response to the COVID-19 pandemic. Because the litigation surrounding this issue tends to be highly contract-specific, we have not seen a specific trend in case outcomes. We have, however, observed one general takeaway: Although some courts have ruled otherwise, force majeure provisions that lack specific pandemic-related language have typically not protected nonperforming parties from their contractual obligations.
How Are Force Majeure Clauses Interpreted?
In many jurisdictions, courts tend to interpret force majeure clauses narrowly. Typically, courts excuse a party’s nonperformance only if the force majeure clause specifies the event that caused the nonperformance. The party invoking the force majeure provision has the burden of establishing that the conditions of force majeure were beyond the control of the party.
How Have Courts Ruled in Pandemic-Related Cases?
Narrowly drafting force majeure provisions is critical. In one case, a Florida student sued his university, claiming that the university breached a contract to provide in-person education after the pandemic forced the school to transition to remote learning. The force majeure clause in the contract stated, “[t]here will be no refund of tuition, [or] fees . . . in the event the operation of the University is suspended at any time as a result of an act of God, strike, riot, disruption or for any reasons beyond the control of the University” (Gibson v. Lynn University, Inc.). The court reasoned that the COVID-19 pandemic did not trigger the provision because the university did not suspend its operations; rather, it merely offered an alternative mode of teaching.
Occasionally, a party may carve out a particular type of breach from a force majeure clause. For example, the contract at issue in In re Hitz Restaurant Group specifically stated: “Lack of money shall not be grounds for Force Majeure.” In this instance, the court ruled that the governor’s executive order prohibiting on-site dining was “governmental action,” a listed force majeure-triggering event. The court found that “governmental action” superseded the “lack of money” exclusion and thus partially relieved the debtor of its obligation to pay rent.
How Do the Doctrines of Impossibility and Frustration of Purpose Impact Court Decision-Making?
Several cases have indicated that the common law doctrines of impossibility of performance and frustration of purpose will not assist nonperforming parties to avoid their contractual obligations. In one federal bankruptcy case, In re CEC Entertainment, Inc., the operator of Chuck E. Cheese (CEC) relied on frustration of purpose in arguing that CEC should be excused from several leases. The court explained that “the exception of payment obligations from the force majeure clause preclude[d] CEC’s reliance on frustration due to the alleged occurrence of a force majeure event,” and thus denied CEC’s claim.
Similarly, the court in Gap Inc. v. Ponte Gadea New York LLC found that Gap’s reliance on the COVID-19 pandemic as the basis of impossibility or frustration of purpose was insufficient. Gap sued its landlord for breach of contract after the landlord terminated the retail store’s tenancy for failure to pay rent. The court held that Gap could not rely on the force majeure clause as a defense to its monetary default. Further, the court rejected Gap’s contention that the pandemic frustrated the purpose of the lease because the governmental shutdown orders mentioned in the lease were not “wholly unforeseeable.”
Likewise, the court in A/R Retail LLC v. Hugo Boss Retail, Inc. applied much of the same reasoning as the court in Gap. Specifically, the court ruled that the impossibility defense did not apply in this case where a landlord sued its retail tenant, Hugo Boss. The court echoed Gap, noting that the “impossibility defense fails because the very text of the Lease demonstrates that the conditions that [the tenant] claims render performance impossible were foreseeable” (Gap Inc. v. Ponte Gadea New York LLC, 524 F. Supp. 3d 224 (S.D.N.Y. 2021) citing Gander Mountain Co. v. Islip U-Slip LLC, 923 F. Supp. 2d 351, 362 (N.D.N.Y. 2013)). The court explained that partial frustration — such as where business has decreased but the tenant can continue using the property — was not sufficient to satisfy the frustration doctrine. Similar decisions include 175 Medical Vision Properties, LLC v. Christopher Adubor M.D. (explaining that financial difficulty does not excuse performance of a contract) and Svanaco, Inc. v. Brand (observing that “[e]ven if the parties could not have anticipated that a global pandemic would be the particular cause of [the defendant’s] challenges, [the business’s] reduced sales and revenues were not so unforeseeable as to sustain an impossibility defense”).
The court in Clark v. Stanley Furniture Company, LLC rejected a furniture store’s defense based on impossibility of performance to excuse its failure to meet its deferred compensation obligations. Plaintiffs, all retired Stanley Furniture Company (SFC) executives, sued under the Employee Retirement Income Security Act (ERISA) demanding their benefit payments. SFC argued that Virginia’s shutdown orders in response to COVID-19 limited its business opportunities and rendered performance of its deferred compensation obligations impossible. The court granted summary judgment to the plaintiffs on their benefits claims, reasoning that “courts have applied a general rule — especially during the COVID-19 pandemic — that ‘[e]conomic hardship, even to the extent of bankruptcy or insolvency, does not excuse performance.’” Similarly, in City National Bank v. Baby Blue Distributions, Inc., the court rejected defendants’ defense of impossibility because the defendants failed to “demonstrate with any specificity how the pandemic rendered them unable to pay their obligation to plaintiff.”
In contrast to the above cases, the court in Banco Santander (Brasil) S.A. v. American Airlines, Inc. ruled that a Brazilian bank, Banco Santander (Brasil), adequately alleged frustration of purpose to survive American Airlines’ motion to dismiss after the pandemic’s unforeseen impact on air travel rendered the parties’ contract essentially worthless. Banco Santander’s agreement with American Airlines required the bank to purchase a minimum number of miles from the airline each year and, in turn, American Airlines allowed credit card holders to earn frequent-flier miles through their purchases. Once the pandemic struck, American Airlines temporarily halted flights between Brazil and the United States. Soon after, the bank filed suit to terminate the agreement under the force majeure termination provision, or in the alternative, argued that it was excused from further performance based on frustration of purpose. The court granted the airline’s motion to dismiss the bank’s claim based on the force majeure termination provision, but allowed the bank’s claim based on frustration of purpose to survive because the bank adequately alleged that the worldwide disruption of the airline industry and “precipitous decline in the demand for air travel” — rather than just American Airlines’ suspension of flights — are what rendered the agreement valueless.
Have Any Courts Construed Force Majeure Provisions Broadly?
While courts generally construe force majeure provisions narrowly, in rare cases courts have interpreted these provisions more broadly. These courts have found that the COVID-19 pandemic and resulting government-imposed restrictions fall within certain force majeure provisions. In one case from the Southern District of New York, JN Contemporary Art, LLC v. Phillips Auctioneers LLC, an art dealer canceled a contract with an auctioneer to sell paintings at an auction scheduled for May 2020. The court focused its analysis on whether the force majeure provision applied because it did not specifically include “pandemics” in the clause. The court ultimately held that COVID-19 did constitute a “natural disaster” under the force majeure clause in the parties’ contract, and thereby excused the art dealer’s nonperformance.
Likewise, a Texas court decided that the definition of “natural disaster” under the Worker Adjustment and Retraining Notification Act (WARN Act) was broad enough to include the COVID-19 pandemic. The issue in Easom v. US Well Services, Inc. was whether an employer’s decision to terminate its employees without 60-day notice violated the WARN Act, which provides an exception for mass layoffs as a result of a natural disaster. The court cited Black’s Law Dictionary, which defines “disaster” as a “calamity” or “a catastrophic emergency.” Considering these definitions, the court found that the WARN Act does not exclude the COVID-19 pandemic from this definition.
What Is the Bottom Line?
Litigation surrounding the enforceability of force majeure provisions in response to the pandemic is highly fact-specific. Thus far, there is no single trend that courts have followed. However, in looking at recent cases, courts generally construe force majeure provisions narrowly to find that, absent specific pandemic-related language, the pandemic does not trigger force majeure provisions. In many of these cases, courts have found that the doctrines of impossibility of performance and frustration of purpose do not apply, while other courts have decided the COVID-19 pandemic falls within the more general definitions of “natural disaster” or “calamity.” This is an evolving area of the law, and we will likely see more decisions in the upcoming months and years as we begin to (hopefully) move beyond the pandemic. Stay tuned.
If you have questions about business and legal issues related to COVID-19, please contact your Much attorney.