Not all businesses can claim an ‘act of nature’ clause

On March 6, the World Health Organisation raised the level of risk to “very high” following the coronavirus outbreak. This came barely a month after its formal declaration calling it a “public health emergency”.

And with casualties and infections soaring, WHO announced Covid-19 as a pandemic. Due to this, cities are under government lockdown, which is hurting businesses. For a businessman operating under such conditions, the first thought is to seek or to get compensated for loss of business.

In business, who will come to the rescue — Government; supplier/customer; or force majeure?

Limits to government support

The General Assembly of the United Nations on December 10, 1948, issued a “The Universal Declaration of Human Rights” (UDHR); Article 25 declares that everyone has a right to a standard of living adequate for the health and well-being of himself and his family; thus making it a universal rule of law. Likewise, Article 12 of the International Covenant on Economic, Social and Cultural Rights recognise the right of everyone to the enjoyment of the highest attainable standard of physical and mental health.

Various laws outline a punishment if one does an act that causes a health threat or a dangerous disease. But in general, it does not outline a right to bailout or compensation. A law has the provisions to punish a person who commits an act, which may lead to spread of a disease. It further punishes a “disobedience to quarantine rule” where movements are restricted to prevent any further spread of an infectious disease.

While the usual in such situations is to expect the government to support businesses with a bailout in form of subsidies, price controls, duty waivers or tax exemptions, claiming compensation to loss of business may not pass the test of a legal right.

Business tie-ins

A supplier-customer relationship is a non-emotional accommodation based on commercially benefiting terms, whereby a party may claim such business compensation following a default attributed to the other party. However, in a situation where breach of contract results from the non-performance due to the spread of disease — and this non-performance is beyond the control of a party — the parties could agree to an exemption under “force majeure”.

Force majeure keeps the contract active if there is a situation that affects the performance of a party for reasons related to an act of God (earthquake, flood, etc), strikes, war, terrorism, civil/domestic conflicts, an action of the government, or causes that can be reasonably justified to be beyond the control of a party.

But omits a disease

However, in a commercial contract, such unforeseen circumstances that constitute events of force majeure would not mention a “pandemic” or “epidemic” or “spread of a disease”.

In the Covid-19 chaos, limitations seem to be slowly paralysing businesses and economies, leading to an inability to fulfil contractual obligations. Invoking force majeure clauses could be challenging, especially even if global supply chain is paralysed but the countries in which the parties are situated do not face lockdowns.

A party must prove that its failure to perform was caused by an impediment beyond its reasonable control, and did not know about it when concluding the contract and could not reasonably avoid the occurrence. Considering the coronavirus outbreak, if such a pandemic had been included in the definition of an FM clause in the contract, then the situation can come under such a clause for the non-performance.

However, if the FM clause does not include a pandemic, then the courts will consider the situation to be covered under the clause subject to the above-mentioned conditions. It is critical that commercial contracts take into consideration such situations.

Parties must also consider exit plans in advance, or seek exemption from a non-performance liability to avoid a commercial dispute.

— Farhat Ali Khan is with Century Maxim International.