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The Impact of COVID-19 on Contractual Obligations: Force Majeure and Frustration

At the time of writing, the World Health Organization has declared the novel coronavirus (COVID-19) a pandemic; states of emergency have been declared in the provinces of British Columbia, Ontario, Saskatchewan, Manitoba, and New Brunswick; and states of public health emergency have been declared in the provinces of Alberta, Newfoundland and Labrador, Prince Edward Island, and Quebec, as well as in the Yukon, Northwest Territories, and Nunavut. There is no doubt that COVID-19 has had, and will continue to have, an adverse impact on the global economy. With disruption to supply chains, international travel, and business operations, many individuals and businesses may be unable to fulfil their existing contractual obligations. How may businesses look to their contracts for relief?

Types of Force Majeure Clauses

Force majeure clauses are generally included in contracts to account for circumstances where a party cannot perform the contract due to circumstances beyond its control, but which would not rise to the level of satisfying the common law doctrine of frustration (discussed further below). A force majeure clause typically operates to absolve the non-performing party of liability for its failure to meet contractual obligations as a result of the extenuating circumstance, but its precise effect will depend on the language of the provision.

Force majeure clauses may broadly state that parties will not be liable for failure to perform their contractual obligations due to an event of “force majeure”, without detail, leaving it to the parties to argue what event fits the definition of the section. Conversely, some clauses provide a laundry list of events that fall within the scope a circumstance beyond the control of the parties, such as acts of terrorism, war, labour disputes, strikes, or adverse weather conditions.

Many force majeure clauses refer to “acts of God” as events that trigger their operation. There is very little jurisprudence on what constitutes an “act of God”. The cases that have interpreted the phrase have applied it narrowly to those events which are truly beyond a party’s control. The Supreme Court of Canada has defined “act of God” as a “supervening, sometimes supernatural, event, beyond control of either party, [which] makes performance impossible”. The Supreme Court has also held that the “common thread” among interpretations of the phrase “act of God” is that the events are unexpected and beyond reasonable human foresight and skill.

Does COVID-19 Trigger a Force Majeure Clause?

Every force majeure clause should be considered and interpreted separately and in light of the contract as a whole. It may be easier to argue that COVID-19 and its sequelae trigger a force majeure clause if the clause expressly includes a pandemic or communicable disease as an iterated example of events giving rise to the clause. In the absence of pandemic or communicable disease being listed as examples, a party claiming the benefit of a force majeure clause would first have to demonstrate that COVID-19 is a circumstance that falls within the language of the provision.

Assuming COVID-19 is a “force majeure” within the meaning of the provision, the party seeking to rely on it must then show two things: that COVID-19 has made the performance of their obligations impossible; and that the outbreak and its consequences were beyond the reasonable foresight and skill of the parties at the time they entered into the contract. In other words, the party claiming the benefit of the clause must show that they cannot perform their contractual obligations due to unforeseeable, extraordinary circumstance beyond their control. A court typically will not accept that an event is a force majeure unless no part of it was within the control of the party claiming its benefit. In other words, a party cannot rely on its own actions or inaction, which led to a certain consequence, as an event of force majeure; the circumstance must be unforeseeable and completely outside the control of the parties.

It is difficult to assess how a court will tackle these questions particularly because the impact of COVID-19 is still unfolding daily. However, given the current state of affairs, it is likely that a court will find that COVID-19 is an unforeseeable event outside the control of either party. Whether COVID-19 makes it impossible for a party to fulfill their contractual obligations is a different matter. The obligations cannot simply be more difficult to fulfill; they must be impossible. The determination of these questions will be both fact- and contract-specific.

The treatment of COVID-19 in a global context, while not determinative, may provide some insight into whether obligations under a contract have become impossible to perform. Global responses to the pandemic may be particularly relevant for transnational or international agreements. In India, an Office Memorandum from the Ministry of Finance dated February 19, 2020 states that the distribution of the supply chain as a result of the COVID-19 outbreak constitutes a force majeure event. In particular, the Memorandum clarifies that COVID-19 should be considered “a case of natural calamity”.

Prevention, Mitigation, and Notice

Force majeure clauses often contain a number of additional requirements with which a party seeking the benefit of the provision must comply.

Some force majeure clauses require that the relying party take reasonable steps to prevent the event from occurring in the first place. In the context of COVID-19, reasonable preventative steps can include: quarantine protocols, increased sanitation, policies with respect to travelling, remote work capabilities, seeking guidance from public health officials, etc. Importantly, reasonable steps may change with the circumstances, particularly in the context of a public health crisis evolving daily. Parties are well advised to keep up-to-date on local, national, and international evolutions in the response to COVID-19.

Even where a party took steps to avoid a force majeure event but did not succeed in doing so, the clause may require mitigation. This is particularly important for those contracts whose performance is only partially impossible by the force majeure event. The requirement to avoid the force majeure event and mitigate its impact is consistent with jurisprudence concluding that the application of such clause is reserved for those events which are truly beyond the parties’ control.

Force majeure clauses may also contain strict notice obligations. They typically require that notice that a force majeure event has occurred be given in writing within a specified number of days of the event. Particular attention must paid to these timelines as an individual’s ability to rely on the force majeure clause may be barred if they are missed.

Where there is no Force Majeure Clause: the Doctrine of Frustration

Force majeure is a contractual tool; it does not exist at common law independently of being written into a contract. Courts are typically unwilling to imply a force majeure provision into the contract where no express language exists. In such circumstances, parties may rely on the common law doctrine of frustration instead.

Frustration occurs where a situation has arisen for which the parties made no provision in the contract and performance of the contract becomes "a thing radically different from that which was undertaken by the contract.” Much like in the force majeure context, performance of the contract must become impossible; it is not enough that the contract become more onerous, or even significantly more difficult, but still possible to perform. Rather, a party must show that the original purpose of the contract has been frustrated, and it would be unjust for them to be bound to the contract under the existing circumstances.

Like force majeure, the situation or event that has allegedly frustrated the contract must (1) be unforeseeable at the time the contract was entered into; and (2) not be the fault of either party.

There is very little case law on whether a pandemic can frustrate a contract. In a Hong Kong District Court decision, the Court found that the outbreak of severe acute respiratory syndrome (SARS) did not frustrate a contract in the landlord and tenant context. In that case, there was an outbreak of SARS in the tenant’s building. The tenant argued that the agreement was frustrated because of a 10-day isolation order against the premises. The Court found that 10 days was an insignificant amount time in light of the tenant’s two-year term and that the supervening event did not significantly change the contractual obligations of the parties. The Court stated that the outbreak of SARS may constitute an unforeseeable event, but did not analyze this issue further due to its conclusion that SARS did not significantly change the contractual obligations of the parties.