How to Act Regarding Commercial Agreements During the COVID-19 Outbreak
Authors: Joseph (“Yossi”) Benkal, Partner, Shibolet Law Firm
Nati Agmon, Partner, Shibolet Law Firm
In the last few months, we have been witnesses to an ongoing and serious worldwide crisis due to the outbreak of the COVID-19 virus. The shockwaves of this pandemic have begun to hit many commercial companies who are now weighing the possibility of whether they can delay, if not entirely extricate themselves, from their contractual obligations in order to ensure their financial stability.
Most commercial companies have found themselves negatively impacted from two angles: they act both as suppliers and consumers of commodities and services. These companies, on the one hand, are receiving one-sided notices of termination of agreements and delays in payment and, on the other hand, due to the shutting down of large portions of industries’ and the world’s business activity, these companies are also struggling with exposure to other parties from breaches whilst the extreme economic circumstances have made such contractual terms quite unreasonable. This new exceptional and challenging reality requires an appropriate legal analysis, specifically in light of the inevitably overwhelming wave of lawsuits that are bound to be submitted to the judicial system when this crisis ends.
Therefore, we would like to outline a number of operative steps that can be taken for appropriate and correct risk management in the shadow of the COVID-19 outbreak.
Phase One – Review of the Entirety of Commercial Agreements Spanning the Whole Supply Chain
The first phase requires a legal monitoring of the entire contractual framework of the company. It is necessary to classify each agreement in accordance with the degree by which its execution is affected by the outbreak (whether it is only partially hindered and/or for a limited timespan vs. whether it is now non-executable) and the extent of the impact of each affected agreement on related third-party agreements.
An additional review required is an analysis of all the relevant contractual clauses, including, specifically, clauses dealing with force majeure, material adverse change, termination, and any clauses dealing with insurance (including any insurance policies taken out by the company itself).
In a case where any of the force majeure clauses specifically detail worldwide pandemics, the matter becomes simpler, though not entirely resolved, and can shed some light on the best legal path forward.
In any other case, one can rely on the provisions of common law that do grant statutory protections in situations of force majeure if, for example, extreme circumstances have made execution of the agreement impossible or have fundamentally altered the agreement from what was initially agreed-upon. Such protections can convince the injured party to refrain from demanding from the breaching party enforcement or reparations stemming from a breach of contract.
The issue with reliance on common law is that it is still too early to tell how the courts will rule on such dilemmas and whether they will declare that this worldwide pandemic, which has had a global commercial impact but, as of yet, is unknown whether it is a real impact (i.e. a physical impact on the production capabilities of commodities and services) or solely a financial one, justifies either a release from specific contractual obligations or a more general moratorium on contractual obligations.
Recently, we were notified that the Ministry of Justice has been deliberating whether the current situation warrants legislative intervention in light of the legal ramifications of the crisis, including proposing legislation that would define the circumstances and reasons whereby a contractual force majeure cause is created.
Due to the legal uncertainty at the present time, it is essential to already open a dialogue with the other party to any agreement and this is the topic of our next recommendation.
Phase Two – Managing Negotiations for the Goal of Adjusting Agreements to the New Reality and, if Necessary, Taking Appropriate Legal Actions
This is the time for proactiveness. In order to minimize the legal exposure from a force majeure claim, a claim that has broad-reaching and extreme ramifications, it is worthwhile to pursue an approximate interpretation of the agreement and propose to the other party to execute the agreement in a different fashion due to the new reality.
The Doctrine of Approximate Interpretation, which has been adopted into Israeli law, allows for the court to recognize specific changes in the method of execution of a contract when it is impossible to execute the original wording of the contract, all in order to realize an agreement without fundamentally changing its original characteristics. In such a situation, the court is often likely to view the refusing party as acting petulently and not in good faith.
It is preferable for both parties to come to an understanding amidst the magnitude of the potentially mutual harm such extreme circumstances can bring upon them both. Such understandings can take shape as changes and adjustments to agreements, including delaying execution dates, spreading out annuity payments, etc. At the same time, mutually agreed-upon solutions between contractual parties are not always achievable. Therefore, in order to approach such planning and negotiations with reasoned and effective expectations, it is important to keep in mind the following considerations:
Organized and written proposals to other party:
There is great significance to organized and written contact with parties to your agreements in that it informs them of the inability to execute the agreement as is due to the circumstances surrounding COVID-19 and allows them to minimize their potential losses and damages. On the other hand, when justified, it is also important to send letters of demand to party who are in breach or creditors who are not fulfilling their obligations towards you.
Summarization and documentation of the impact the COVID-19 outbreak has had upon the ability to perform contractual obligations:
It is important to remember that though we are in the midst of this outbreak, from the perspective of the judicial system, the impacts and responses to them will only be evaluated ex post facto. Documentation during the crisis will inevitably diminish the extent and number of future disputes regarding the impact of the crisis (for ex., whether it was a temporary difficulty or an authentic force majeure event).
Phase Three – Adjusting New Contractual Connections
Regarding new contracts and agreements being entered into in the shadow of this crisis, it is essential to clearly define contractual obligations and the risk parameters in order to avoid increasing financial exposure and, equally, to prevent other parties from unjustly releasing themselves from their own obligations.
In as much as new contractual arrangements will be made in the context of the COVID-19 outbreak as a fact of life and whose ramifications will, undoubtedly, be considered by both parties, it is important to define clearly the terms of agreements in accordance with the present-day circumstances and to define clearly the specific circumstances which shall warrant the application of a force majeure clause and release a party from its contractual obligations (for ex., multiple day strikes, etc.).