Coping with COVID-19: The Impact on Contractual Performance in the Energy & Natural Resources Sector
Published:
April 20, 2020
Author(s):
As countries around the world grapple with the spread of COVID-19, global restrictions and containment measures have presented a range of challenges for the energy and natural resource sector; principle among them are the impacts on global supply chains. These restrictions have made it increasingly difficult for companies to fulfill their commercial obligations.
Often included within contracts as an afterthought, or “worst-case scenario”, force majeure provisions are becoming increasingly relevant. The following provides a brief overview of force majeure provisions, considers whether they are engaged by pandemics such as COVID-19, identifies some of the factors that you should consider in determining whether you can rely on force majeure to excuse contractual performance and, lastly, identifies what steps you can take when faced with a force majeure notice from a supplier or counterpart.
What Is Force Majeure?
Force majeure, or “Act of God” provisions, are a common element of commercial contracts, particularly within the energy and natural resource sector. These provisions provide parties to a contract with a remedy where an unforeseen event makes the performance of the contract impossible. Typically, these provisions include a comprehensive list of events that trigger a force majeure. Affected parties will not be required to perform their contractual obligations where an appropriate triggering event has been identified.
This remedy can be temporary or permanent depending on the wording of the provision itself and the nature of the event in question.
When can force majeure be invoked?
The scope and application of force majeure provisions are limited by the wording of the contract itself. It can only be relied on in accordance with the express terms of the contract.
Canadian courts have set down a number of common principles that are helpful in interpreting the language of force majeure clauses. Across Atlantic Canada, courts have taken a strict interpretation in answering the question of what constitutes a force majeure event. In light of this approach, courts have found that the following essential elements are necessary to invoke force majeure:
1. Trigger Event. In considering the wording of the provision, the actual event must fit within the meaning of force majeure in the contract. Courts have granted considerable deference to the intentions of the contracting parties, meaning that if the event in question is excluded from a list of triggers, it will not likely qualify in excusing performance under the contract.
2. Foreseeability. Courts have found that the events in question must have been unforeseeable at the time of contract formation and cannot be the foreseeable results of a parties’ own actions. For this reason, the timing of contract formation will be an important determining factor.
3. Lack of Control. The event being relied upon must genuinely be beyond the control of the party unless the contract states otherwise.
4. Causation. Parties must also demonstrate that the delay was caused directly by the force majeure event relied on, independent of their own actions.
5. Unavoidable. The force majeure event or the consequences of the event must not have been avoidable by the use or application of reasonable human foresight and skill (i.e. the relying party could not have “foreseen” the event and taken steps to avoid the consequences). This requires parties to consider and explore reasonable alternatives or other contractual remedies that may be available.
6. Impossibility of Performance. The force majeure event must make the performance of the contract impossible. The courts have been clear that parties to a contract will not be permitted to rely on force majeure for non-performance due to mere inconvenience or commercial hardship unless stated otherwise within the terms of the contract.
7. Duty to Mitigate. Parties seeking to invoke force majeure must ensure that there were no reasonable steps that could have been taken, while exercising reasonable skill, to avoid or mitigate the event and its consequences.
8. Process. A party invoking force majeure must strictly comply with all required notice or other procedural requirements identified within the contract.
Can force majeure provisions be invoked in response to COVID-19?
Under Canadian Law, the answer is: it depends.
In considering the effect of events such as global pandemics, the question that must be asked is whether the events were foreseeable and whether the pandemic and subsequent containment measures, makes the performance of the contract impossible.
This is a particularly onerous standard. A contracting party will typically need to point to a specific event that makes the performance of the contract impossible. A generalized epidemic/pandemic that dampens markets or slows business, creates supply chain disruptions that can be avoided or mitigated or makes performance uneconomical is unlikely to rise to the strict standard of making performance “impossible”.
In each case, a party relying on a force majeure clause must identify the “event” that has caused the delay or failure to perform and demonstrate “how” that event has made performance impossible. Simply referencing “COVID-19” or “coronavirus” would not meet such a threshold.
In seeking to take advantage of a force majeure clause, you must ask, is there a single identifiable event that makes it impossible to perform the contract?
Such an event may include the decision to quarantine a location or the imposition of restrictive measures that make it impossible for the party to carry on business. In the shipping context, this could mean the quarantine of crew members, restriction of entry into the country or restriction on imports from certain areas of the world, each of which is currently rearing its head in some form. Likewise, in the energy sector, government-imposed restrictions making the supply of goods or resources impossible would qualify as a specific, defining event preventing the performance of the contract.
Finally, these events must be ones that cannot be mitigated or otherwise avoided. Certainly, it is not expected that parties would have foreseen the outbreak of COVID-19 and the global response measures, but the question will be whether the party could have taken alternative measures to affect the performance of the contract. If a contracting party can otherwise continue to satisfy its contractual obligations, the force majeure clause will not operate to absolve that party from its contractual responsibilities.
Have you received a notice of force majeure from a supplier or customer?
The following checklist summarizes the key elements that should be considered in analyzing force majeure claims arising from COVID-19 and the relevant factors that should be considered in relation to each key element:
1. Triggering Event
- What does the contract say qualifies as triggering a force majeure event?
- Does the contract include ‘pandemic’ or ‘act of government/authority’ language?
- Does the force majeure clause contain a basket clause, which extends the scope of the provision beyond the listed events?
- Is there causation? Consider whether other entities in the commercial relationship are the actual trigger preventing performance.
2. Time of Contract Formation
- Consider whether contract entered into before or after COVID-19 and, as such, the timing the foreseeability of restrictions became known to the general public.
- Was the act in question foreseeable?
3. Impact and Causation
- Is there language within the contract denoting the degree of impact required to trigger the FM clause?
- Strength of causation language (direct/indirect)
- You should consider whether the contract uses ‘impossibility’ language versus softer language permitting events that cause commercial disruptions.
4. Notice Requirement
- Clients and counsel should be alert to any notice provisions applicable to the FM clause.
- Any force majeure notice provided by a party to the contract must be done in accordance to the specific terms of the contract.
5. Requirement to Mitigate Loss
- Clients and counsel should look for any language imposing a duty to mitigate on parties seeking to rely upon the FM clause.
6. Remedy
- Parties should consider what remedy is actually provided under the contract. Is it an extension of time? What costs have to be paid?
- Consider other provisions of the contract that may bear on the remedies available to the parties.
7. Consider Contract- Based Alternatives to Force Majeure Clause
- If reliance on the FM clause is undesirable, consider whether there is separate provisions dealing with changes in the contract timing or performance, such as material adverse change or change of law clauses.
- All alternative contractual options should be explored.
Please contact your McInnes Cooper lawyer or any member of our Energy and Natural Resources Team @ McInnes Cooper to discuss this topic or any other legal issue.
McInnes Cooper has prepared this document for information only; it is not intended to be legal advice. You should consult McInnes Cooper about your unique circumstances before acting on this information. McInnes Cooper excludes all liability for anything contained in this document and any use you make of it.
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