Rethinking Business Contracts During the COVID-19 Pandemic

April 21, 2020

By: Stephen B. Stern

This is the first in a series of articles we will post on our blog regarding legal issues that businesses of all sizes (large, medium, and small) should consider when navigating shelter-in-place orders during the COVID-19 pandemic and as they prepare for the “reopening” of the economy.  This article identifies and describes legal issues with various business contracts provisions, some of which companies have historically not given much attention or not included in contracts for whatever reason.  As companies try to adjust to the COVID-19 business environment, it is a good time for them to review their contracts and look for opportunities to improve any number of provisions.

•    Force Majeure/Impossibility of Performance/Frustration of Purpose:  Many business contracts have not been performed due to COVID-19 and the associated shelter-in-place orders.  As a result, many businesses are relying on force majeure contract provisions and/or the impossibility of performance or frustration of purpose legal doctrines (which we previously wrote about here).  It is unclear the extent to which litigation will arise out of these unperformed contracts and how courts will apply these contract provisions/legal doctrines as defenses to claims.  Although there has been substantial disruption to the economy, many businesses continue to operate and supply chains have not shut down completely.  It should not be assumed that force majeure provisions and the impossibility of performance or frustration of purpose doctrines will excuse all nonperformance during the COVID-19 pandemic while shelter-in-place orders are in effect.  Ultimately, businesses will need to make decisions regarding the extent they have been damaged from unperformed contracts and analyze whether these contract provisions and legal doctrines are likely to be applied to excuse performance or whether they can be overcome based on the facts of the particular case.  Apart from evaluating potential claims in the face of these provisions/doctrines, businesses may want to reevaluate how they draft force majeure provisions in future contracts so that they are clear as to whether the provision applies to circumstances arising from or similar to COVID-19.

•    Limitation of Liability Clauses:  As companies negotiate contract extensions or negotiate new contracts, they may want to take a closer look at clauses that limit the other party’s liability.  Many businesses are learning from COVID-19 and the associated shelter-in-place orders that nonperformance of certain contracts, failure to perform contracts within a certain standard of care, or even the delay in performance of certain contracts can cause substantial consequential, incidental, or other damages.  This may lead businesses to think more critically about accepting provisions that limit another party’s liability in the event of a contract breach.  Certain businesses historically have believed they did not have bargaining power to negotiate more favorable terms, but many businesses, regardless of size, will be looking to replace lost business opportunities and negotiating leverage may now exist where it did not exist previously.  In addition, apart from negotiating contract terms, when evaluating whether to pursue a claim when faced with a limitation of liability clause, although most states generally find limitation of liability clauses enforceable, particularly in the commercial context, most states also recognize legal doctrines that preclude the enforcement of limitation of liability clauses under certain circumstances, even in the commercial context.  Thus, when evaluating whether to pursue such a claim, these legal doctrines should be evaluated on a case-by-case basis.  

•    Time is of the Essence Clauses:  Many companies are learning that even delays in performing a contract can cause a substantial disruption to their business.  But, if the applicable contract(s) did not include a time is of the essence clause that identified timely performance as being essential, for example, the damaged party may not obtain the relief it desires or warrants.  In the absence of an explicit performance date and/or specific acknowledgement that time is of the essence, courts generally have applied a reasonableness standard under the circumstances, which is subject to interpretation and can lead to litigation.  Thus, companies should reevaluate whether and when to utilize such contract provisions.

•    Fee Shifting Provisions:  Many companies that perceive themselves as having greater negotiating leverage have taken advantage of the uncertain business environment and tried to “renegotiate” (more like impose) new contract terms with their subcontractors, vendors, or other contracting partners, even though there is no basis for such a renegotiation.  Similarly, some companies looking to save money may make a calculated decision that it is better not to pay certain bills because it will cost the other party (the party not being paid) as much or more in litigation to pursue the claim.  One way to reduce the risk of these contract breaches and incentivize a contracting partner to comply completely with the contract terms is to include a fee shifting provision that allows the prevailing party in any litigation to enforce or apply the contract to collect its attorneys’ fees and litigation costs from the other party (i.e., the party that did not prevail).  Obviously, such a provision can work against the party seeking to include it, but it also can help level the playing field, at least to some extent.  If a party desires to include such a provision in a contract, the party may want to consider any requirements that exist under applicable law regarding the recovery of fees/costs pursuant to a contract provision.  

•     Other Contract Terms:  As companies look to negotiate contract extensions and negotiate new contracts, they should engage in a critical self-evaluation  to determine what lessons, if any, have been learned from COVID-19 and the associated shelter-in-place orders.  This self-evaluation can help businesses identify new contract provisions or how to revise existing contract provisions that will serve them and their business partners better in the future as we contemplate the business world post COVID-19.