Coronavirus – impact on contractual obligations

Coronavirus (SARS-CoV-2) pandemic and the related special administrative measures have a profound impact on business transactions. Disruptions of supply chains, travel limits, administrative bans on trading in certain goods, payment gridlocks or, finally, quarantined or absent employees, form a list of special circumstances, whose occurrence may make the performance of contracts substantially difficult or even impossible.

In numerous cases, special nature of these events will permit renegotiation of contracts or avoidance of claims resulting from contract non-performance.

What can you do if, due to the pandemic or its consequences, you are unable to perform a contract?

Coronavirus as a force majeure event

Coronavirus pandemic / a state of epidemiological emergency and the related disruptions in economic activity may be considered force majeure events, i.e. external events, unpredictable or barely predictable, the effects of which could not have been prevented.

Force majeure allows entrepreneurs to avoid a number of negative consequences related to non-performance or improper performance of an obligation.

Certainly, the above does not mean that a force majeure event may serve as an excuse in all situations where entrepreneurs fail to perform their obligations. Non-performance or improper performance of an obligation may be justified thereby only where a relevant event (e.g. the coronavirus pandemic) had actual and objective impact on one’s ability to perform obligations, i.e. affected it in such a way that despite the observance of due diligence a contract could not have been duly performed. Important in this context is the fact that also an indirect impact of an epidemic (e.g., disruption of a supply chain due to an epidemic in a third country) may be regarded a force majeure event.

When considering the possibility of invoking a force majeure event as a justification of non-performance or improper performance of a contract, it should first be determined whether specific force majeure clauses were included in a contract.

Force majeure clauses in contracts

Where special force majeure provisions were included in a contract, they prevail over general principles provided for in legislative acts. A contractual definition of a force majeure event may be narrow (and even exclude the state of epidemic), but usually it is extensive and, consequently, covers both the epidemic and effects thereof.

As for the effects of force majeure, a typical contractual provision is that neither party shall be responsible for the non-performance or improper performance of the obligations arising from the contract due to force majeure – this means that if a force majeure event occurs, the contract remains in force, but the party who has not performed a contract due to the said event is not required to pay damages to the other party.

The contract may also provide for application of other options, such as an obligation expiry, or termination of or withdrawal from the contract in the event of force majeure – such clauses will obviously be most advantageous for entrepreneurs who are unable to fulfil their obligations due to force majeure.

The fact that the contract does not contain a force majeure clause does not mean that a party thereto cannot invoke force majeure provisions, as the Civil Code provides certain possibilities in this respect.

Force majeure and a fundamental change of circumstances in the Civil Code

The Civil Code does not explicitly refer to force majeure, yet it provides that a debtor is not required to redress damage resulting from non-performance or improper performance of an obligation if it results from circumstances for which the debtor is not liable (art. 471 of the Civil Code).

This means that guilt may not be attributed to an entrepreneur that failed to perform its obligations due to an epidemic and, consequently, such an entrepreneur may avoid a claim for damages / liquidated damages resulting from a failure to perform the contract.

The Civil Code does not provide for the possibility of withdrawal from or termination of a contract due to the occurrence of a force majeure event. However, such an effect may be brought about by application of the so-called changed circumstances clause. Under the Civil Code, when, due to an extraordinary change in relations, execution of a performance is connected with excessive difficulties or would expose one of the parties to a substantial loss, which the parties did not anticipate at the conclusion of the contract, the court, having considered the interests of the parties, in accordance with the principles of social cohesion, may determine the manner of execution of the obligation, the amount of the performance or even order to terminate the contract (art. 3571 § 1 of the Civil Code). It must therefore be assumed that permitted is an allegation that the epidemic caused an extraordinary change in relations justifying a change in the terms of the contract or even its termination.

What can be done in a situation where a contractor is unable to perform the contract due to the pandemic or its effects?

Under the general provisions of the Civil Code (art. 495 of the Civil Code), if the execution of the performance by the contractor turned absolutely impossible, the other party may refrain from payment (where the payment was to be made in advance). If the price has already been paid, its return may be requested (under provisions on unjust enrichment).

In a situation where only a part of the contract has been performed, the recipient may refrain from payment for a non-performed part thereof or demand that a part of the price corresponding to the non-performed part of the contract be repaid, unless a partial performance of the contract were irrelevant for the recipient – in such a situation the recipient may withdraw from the entire contract.

It should be noted that general principles may be modified by specific contractual clauses.

Dispute resolution and evidence

It can be expected that a significant portion of disputes related to improper performance of obligations due to the epidemic will be resolved through renegotiation of contracts or amicably.

If the parties do not reach an agreement, the claims may be pursued through arbitration (with the parties’ consent) or in civil proceedings before a common court.

Importantly, in the case of a dispute, the burden of demonstrating that a force majeure event has occurred rests with the party who invokes it. Therefore, the party who identifies the risk of default should secure all possible evidence in advance (business correspondence, official ordinances and communications from authorities, HR documentation confirming quarantine or illness of employees, etc.).

With reference to contracts concluded prior to the appearance of a coronavirus epidemic in China, there is a higher probability of effective invocation of force majeure. In general, the later the contract was concluded (since there have been reports on the coronavirus spread), the more difficult it can be to prove that an occurrence of a force majeure event could not have been foreseen.

How can we be of help?

Our Law Firm offers comprehensive advisory services on contract law, including our support in drafting, negotiating and renegotiating contracts, and legal analysis of contracts as to claims and litigation (including force majeure clauses).

We have extensive experience in representing entrepreneurs in commercial litigation. Within this scope we: (a) assist in preparation of litigation strategy and arguments (b) draw up writings on the contract performance and prejudicial communications, (c) assist entrepreneurs in pre-litigation negotiations and in conclusion of arrangements and settlements in and out of court, (d) represent entrepreneurs in arbitration and court proceedings before courts of all instances and the Supreme Court.

If you wish to be provided with our support in the above-mentioned scope or have any questions on contractual / legal situation in the context of the coronavirus spread, please, contact us.