Will Your Contract Become a Coronavirus Victim?
Author: Ohad Elkeslassy, Partner, Herzog Fox & Neeman Law Office
In combating the rapid proliferation of the coronavirus, the Israeli government (and many governments around the world) has implemented a series of restrictive measures with the purpose of controlling and limiting the spread of the virus. These measures include restrictions on public gatherings, travel bans, mandatory quarantine, closure of businesses and public transportation shutdowns.
These measures can have a significant, sometimes even disastrous, impact on businesses and on the ability of parties to a contract to perform their contractual obligations. Irrespective of the specific nature of the contract in question (e.g. supply, lease, services) that has been affected by the pandemic or any measures implemented due to the pandemic, many questions come to mind regarding the status and enforceability of the contract. These questions include: should the contract automatically terminate? Should we continue performing our obligations? What are my rights and remedies in the event of delay or non-performance by my counterparty?
Commercial contracts often contain Force Majeure clauses, which temporarily excuse a party from performing their contractual obligations, or may even allow for termination of the contract without liability, upon the occurrence of certain unforeseeable and uncontrollable events. An affected party seeking to invoke the Force Majeure clause of a contract, must demonstrate that the circumstances fall within the contractually defined Force Majeure parameters, as construed under the governing law of the contract, as well as ensure that the relevant notice requirements are met.
In the event that a contract does not contain a Force Majeure clause, an affected party may look to whether any statutory relief is available, under the applicable governing law of the contract, for the suspension of contractual obligations, or even contract termination, when it becomes difficult or impossible to perform under the terms of the contract.
Similar to many countries around the world, Israeli law grants a statutory remedy which excuses a breach of contract, in the event where the breach is due to unexpected and unforeseen circumstances, which are beyond the control of the breaching party, commonly known as “the doctrine of frustration”. Section 18(a) to the Contract (Remedies for Breach of Contract) Law, 5731-1970 sets out the following requirements, which must all be satisfied, in order to enjoy the benefits of this statutory relief: (i) the breach of contract is the result of circumstances, which at the time of contract entry, the breaching party did not know, or could have known or foreseen, the circumstances giving rise to the breach of contract, nor could these circumstances have been prevented; and (ii) under the circumstances, contract performance is either impossible or fundamentally different from what was agreed between the contracting parties. In the event that the breaching party meets these requirements, the non-breaching party is prevented from enforcing contractual obligations or seeking damages for breach of contract.
We note that the threshold for meeting these requirements is relatively high under Israeli law, and accordingly, if the relevant contract contains an applicable Force Majeure clause or if there are other provisions of the contract which offer relief, the breaching party may have better prospects in seeking a contractual remedy, rather than statutory relief.
While the doctrine of frustration may be available under the specific circumstances of the case, the party seeking to apply the doctrine, should nevertheless carefully consider the implications on the contractual relationship (for example, with respect to lease agreements). As noted, under Israeli law, the doctrine of frustration provides protection against enforcement and claims for damages for breach of contract, however it does not alter the fact that a contract has in fact been breached, and it will not prevent the non-breaching party from exercising its termination rights. This means, that while the doctrine of frustration will not allow the non-breaching party to pursue a contractual remedy or damages, the non-breaching party nevertheless retains its rights to terminate the contract, on account of the breach. Moreover, under Israeli law, the courts have the authority to order restitution and to instruct the breaching party to indemnify the non-breaching party for reasonable expenses and undertakings made by the non-breaching party in the course of performing its contractual obligations.
Business relationships are dynamic. Whenever there is a concern that one of the parties may become unable to perform contractual obligations, it is often beneficial to have open dialogue to reach a resolution, before looking at contractual or statutory remedies. A written record of any resolution reached outside the contractual framework should be retained.
Whether or not the coronavirus pandemic constitutes a Force Majeure, and allows a party to step away from their contractual obligations, will ultimately depend on the relevant contractual terms and the specific facts, including the extent a party's ability to perform its contractual obligations is affected (and in particular, whether the circumstances are truly unavoidable and insurmountable; whether the event was unforeseeable; whether partial performance is available; and any other relevant facts relating to the non-performance of a contract).