State of emergency for contracts

It certainly has been a rough start to 2020.

The unprecedented 2019-20 Australian bushfire season saw hundreds of uncontrolled fires rip through millions of acres of bushland. As a result, the New South Wales (NSW) and Australian Capital Territory (ACT) governments both declared states of emergency, more than one billion animals were incinerated, the ACT had the world’s worst air quality index (with air quality indexes up to 23 times the ‘hazardous’ level for days on end), smoke from the fires reached and covered parts of New Zealand, homes, towns and resources were lost and, tragically, 33 people were killed.

And while all of this was unfolding in Australia, the World Health Organisation declared the Novel Coronavirus, or COVID-19, first a “public health emergency of international concern” and, most recently, a global pandemic. With this situation currently and rapidly evolving, we have seen grocery store shelves around the globe being stripped bare of essential items, international borders closed-off and mandatory social distancing policies enacted.

The impact

Beyond the obvious personal and public impacts of these crises, the effects have disrupted financial markets and the day-to-day business of many of our public and private sector clients.

The bushfires saw an extraordinary number of people taking unpaid leave from work and volunteering their time, as well as the mass-disruption of the Australian tourism industry. Likewise, the COVID-19 outbreak has seen a slow (if not outright halt) to some international supply chains, with both people and property restricted in their cross-border movements. In fact, the China Council for the Promotion of International Trade (CCPIT) has now issued more than 1,600 force majeure certificates for companies across more than 30 industry sectors. The CCPIT have said that the certificates cover a total contract value of 109.9 billion yuan (about A$24 billion). Those certificates exonerate companies from either not performing or only partially performing duties under a contract, due to circumstances beyond their control.

Domestically, Commonwealth procurement processes are now grappling with the impacts though extended tender response periods, amended conditions of contract or even entire projects shelved for the short term, at least.

Force majeure?

Force majeure clauses, which are in many standard form commercial contracts, contemplate circumstances where a party is either hindered or outright prevented from performing their contractual obligations for a number of (specified) reasons. Those reasons might include “an act of war”, an “act of God” (such as a random weather event), an “act of terrorism” and other disruptive and unforeseen events that prevent a party from completing their contractual obligations.

Whether a party can claim force majeure under a contract in Australia depends upon two things:

• whether the relevant contract contains a force majeure clause, and
• whether the circumstances preventing them from completing their obligations under the contract are captured by the terms of that clause.

The latter can only be established by reference to the specific wording of the clause and the facts at hand. In many instances, this may be quite simple determination because the clause contains an explicit reference to the event (i.e. in the case of bushfires, a “natural disaster” or “fire”, and in the case of COVID-19, “public health emergency, epidemic, quarantine event, or biological contamination”). However, many contracts do not go into this level of specificity, leaving contractors to argue the point.

Feeling “frustrated”?

Where a contract does not contain a force majeure clause, or the circumstances at hand are outside the scope of the clause, the doctrine of frustration may apply instead to offer relief to the contractor. Frustration is however very rarely available because of a party needing to establish the high threshold of a it being impossible to fulfil an obligation under the contract. This is a much higher threshold than the contractor simply being delayed or experiencing some degree of commercial hardship in meeting its obligations. Rather, frustration is most likely to apply if an unforeseen event occurs that transforms an obligation so significantly that it would provide for an outcome the parties had not considered when the contract was entered into, as found in Codelfa Construction Pty Limited v SRA of New South Wales (1982) 149 CLR 337.

For example, if a contractor is required to provide maintenance services to a specified location or group of assets that were destroyed in the bushfires, it becomes impossible to complete those obligations under their contract. Where the situation is less clear-cut, contractors will typically attempt to rely on contractual provisions and relationship management in meeting current challenges.

Remember, it is the party seeking relief who has the burden of proving that they are so impacted by the situation at hand that they are not capable of fulfilling their obligations under a contract. Principals to a contract need to ensure that any claims for force majeure are properly captured within the terms of the clause before responding and, if a negotiated solution is reached to permit a contractor additional time to fulfil an obligation, ensure that the principal’s rights are reserved.

Other impacts

Beyond issues relating to the performance of contractual obligations, the impacts of natural disasters and world health crises on business agreements can be somewhat more indirect.

For example, pricing adjustments for goods and / or services under a “cost-plus” pricing model may be underpinned by the availability of those goods and / or qualified people to carry out the services. If a Deed of Standing Offer, for instance, passes an increase to the market price of goods and / or services through to the consumer, economic downturn would likely affect the appetite of parties procuring those goods and / or services.

If the supply of those goods and / or services is not affordable, an agreement for such (along with the supplier) may take a backseat to a more commercially favourable arrangement; one that provides a more competitive pricing model. Further, if the agreement allows for it, a consumer may even seek to suspend existing orders for the goods and / or services, until their associated costs reduce.

Where to from here?

There are practical steps that organisations and Commonwealth agencies can take now to minimise the disruption to current and future projects.

Consider now how your current and upcoming contracts may be impacted by external events—and how you propose to respond.

When issuing approaches to market, consider allowing additional response time to accommodate slower supply chain responses and a reduced workload. Consider also assessing disaster preparedness in the form of requesting Business Continuity Plans from tenderers, or details of alternative key personnel if required.

When drafting contracts, actively consider likely scenarios rather than simply relying on a template force majeure clause and look at other provisions of the contract that may be impacted, such as conditions for an Extension of Time or liquidated damages liability for delayed performance.

For agreements with a cost-plus pricing model, factor in what might happen in times of economic downturn and whether the price of goods and services being supplied under them could become unaffordable.