covid and contracts

The commercial and economic disruption caused by COVID-19 is now being felt by all New Zealanders. The impact is likely to increase, both in New Zealand and around the world. With the New Zealand Government’s announcement of Alert Level 4, there are many challenges and unknowns ahead as we move into this unprecedented time.

In this article we consider how COVID-19 might affect performance of contractual obligations or trigger specific contractual rights. Some businesses or individuals may find they are unable to meet their contractual obligations due to shortages of labour or materials, movement restrictions, or general business downturn.

The reality for many is that, as a result of COVID-19, contractual obligations will be impossible to perform or will be fundamentally different from what was contemplated by the contracting parties.

What if a party cannot meet its contractual obligations?
Parties may be able to rely on:
  • a ‘force majeure’ clause in the contract itself; and/or
  • the legal doctrine of ‘frustration’.
Force Majeure
A force majeure clause operates to excuse a party from its contractual obligations if that party is unable to perform those obligations due to some specified event. The effect of a force majeure clause will depend on its wording, but it will generally not be enough to say that the event made it difficult, or more costly, or more time consuming for a party to carry out their obligations. The clause may allow for the contract to be cancelled or for performance to be suspended.
It will be important that parties carefully consider the wording of the force majeure clause to determine whether it is triggered. Often the clause will list specific events which are covered, such as war or natural disasters.
It is less common that the word ‘pandemic’ might be used. However, COVID-19 could be interpreted to fall within the scope of ‘disease’ or ‘government restrictions’, given the announcement of Alert Level 4 which triggers powers under emergency legislation to restrict the movement of people and the operation of businesses.
Whether the party could have done something in order to mitigate the effects of the event will also be relevant. The duty upon a party to mitigate will vary according to the circumstances.
Where a party wrongly relies on a force majeure clause, that party may be treated as having repudiated the contract and may be liable for damages or face the risk that the contract is cancelled.
Force majeure clauses will need to be carefully considered so as to determine if the impacts of COVID-19 fall within the relevant clause. 

The doctrine of ‘frustration’ can apply where, by no fault of either party, performance of the contract is impossible, illegal or radically different from what was contemplated by the parties when entering the contract.

Frustration of contract may include circumstances where:
  • the purpose of the contract no longer exists;
  • performance of the contract is illegal due to a law change or government directive;
  • a party dies or becomes incapacitated; or
  • external events delay or obstruct performance of the contract.
The inability of a party to complete its contractual obligations by a certain time may give rise to frustration, provided that time for completion is fundamental to the contract.

If a contract is frustrated, the contract is at an end and the parties do not need to continue with their future obligations under it. The Contracts and Commercial Law Act 2017 allows parties in certain circumstances to recover money paid up to the date of frustration, or claim compensation for work completed under the contract up to the date it was frustrated.

Parties should remain careful in asserting that a contract is frustrated. If a party incorrectly relies on frustration as a basis for non-performance they may be deemed to have wrongfully repudiated the contract and be liable for damages. 

COVID-19 has, and will continue to affect performance of contracts due to illness of staff, restrictions on the movement of people, government actions and the imposition of measures designed to protect those affected.
We recommend that individuals and businesses locate and assess their existing contracts to better understand where they stand and what risks they are exposed to by way of non-performance or default.

Contracting parties should be willing to communicate and negotiate to reach a practical resolution. Parties are better to communicate and tackle these issues now and avoid the potential for litigation.

Parties currently negotiating contracts should consider whether COVID-19 may have an impact on either party’s ability to perform their obligations. Parties should consider whether to include a force majeure clause which makes specific reference to COVID-19. The parties will be unable to rely on frustration for COVID-19 related events because it is a known concern in current negotiations.