In the wake of the on-going crisis in Iraq and conflict in Syria, Japanese employees of several energy companies have been repatriated, work has been suspended and new sources of oil, outside of the Middle East, are being considered. Similarly, the imposition of trade sanctions and economic embargoes has in some cases left parties unable to meet their contractual arrangements. In West Africa, the development of the Ebola pandemic has, according to a recent report by the World Health Organisation (WHO), resulted in over 4,000 deaths and led to President Obama describing it as a "threat to global security". The head of WHO has commented on the threat the epidemic presents to the "very survival" of societies and the risk it could lead to failed states. Not surprisingly, this is turn has caused companies to evacuate foreign employees and suspend work on several projects, including the recent declaration of force majeure by contractors in connection with work on an iron ore mine expansion project in Liberia.
Many Japanese businesses are active in these parts of the world and have therefore been required to consider carefully the scope of their contractual obligations and the grounds on which performance may be suspended in circumstances of on-going delay. Whether they are faced by a civil emergency caused by an outbreak of disease or a violent conflict which puts civilians at risk, delays to project works are often unavoidable. In normal circumstances, delays to performance can give rise to claims for damages for breach of contract. However, in circumstances where it is claimed that the cause of the delay was either unforeseeable or beyond the control of the parties, a right to recover damages may not arise if there is either a force majeure clause in the relevant contract or the doctrine of frustration applies.
In this update, we review some of the issues that parties are likely to face when managing the impact on performance of their contractual obligations and the associated costs of delay.
Typically, a force majeure clause provides a party with a contractual basis on which it may be excused from performing its obligations under the contract. These types of provisions essentially serve two purposes; they allocate risk when certain events occur and they provide a mechanism for notice to be given of events that may disrupt a project, cause delay and excuse performance. As a matter of English law, force majeure is essentially a creature of contract and will therefore vary in meaning and scope depending on the particular wording used in each case. Generally, force majeure will be defined by reference to events that are beyond a party's reasonable control and may be limited to a specified category or list of events (for example, war, acts of God or natural disasters). If epidemics, pandemics etc have not been expressly covered by the clause, it may be possible to argue that a pandemic is an act of God or a natural disaster but this is not guaranteed. Alternatively, if a state of emergency is declared, it may be possible that a pandemic would be covered under an "acts of government" or "civil emergency" type heading.
In short, the wording of such a clause is key and needs to be considered carefully as the courts may not always interpret the wording in the way the parties expect – for example, an act of terrorism is not considered an act of war and therefore would not excuse a delay in performance under force majeure wording which only covers acts of war.
It will also be necessary to consider whether the disrupting event actually triggers the force majeure provision. Some clauses require performance to be "prevented" by the disrupting event which means that performance must be made legally or physically impossible by the event, not simply more difficult or less profitable. Alternatively, some clauses will use words such as "hindered" or "delayed" which generally equate to a lower threshold and can be satisfied if performance is made substantially more difficult (but not simply more costly) by the disrupting event.
In addition, the party seeking to rely on the clause must show that it has taken all reasonable steps to avoid or at least mitigate the effects of the disrupting event and has complied precisely with the prescribed notice requirements.
One potentially key element which is of particular relevance to the situation in Iraq is the question of whether the event was foreseeable and therefore not capable of providing an excuse for delayed performance. Some force majeure provisions require that in order to trigger the protection of such a clause, the disrupting event must have been unforeseeable such that the parties could not have known it would happen or have prepared for it. This can lead to significant uncertainty if there is disagreement as to whether a certain event was in fact foreseeable – the reality being that many force majeure situations may be foreseeable generally but not specifically (e.g. global terrorist attacks as opposed to an attack at a specific site). In practice, the more specific a court's inquiry into a certain event, the more likely it is to find that it was unforeseeable.
In Iraq, official contracts are governed by the Public Government Contracts Law No. 1 and associated implementing regulations. This law applies to what are referred to as "special circumstances" or events of force majeure and requires that the disrupting events be unforeseeable to the non-performing party. In recent times, the application of this law has created difficulties in Iraq given the security situation there over the last decade and the fact that commercial parties doing business in Iraq have incorporated clauses into their contracts which recognised expressly the security situation as it then existed. As a result, Iraqi courts have ruled that security problems in the country cannot be considered unforeseeable and that parties entering into contracts in Iraq take on this risk when they do so. Therefore, if performance under a contract was disrupted, a party was not entitled to rely upon security risks in Iraq as a reason to excuse the timely performance of its obligations.
The situation is made all the more difficult given that the current security situation is in practice seen as being entirely distinct from the problems faced in previous years such that the current unrest is considered to be a new disrupting event, not related to (or arguably, therefore not covered by) the contractual clauses mentioned above.
Inevitably, much will depend on the wording of the clauses in each case and how general or specific the parties were in recognising the particular security threat. The more specific, the less likely it is that a court will find that the recent further unrest should not be considered unforeseeable. Nevertheless, while the recent further unrest might in some cases represent an act of war which would trigger the operation of a force majeure clause, in Iraq, much will turn upon the actual wording used and whether it can be relied upon as a reason to excuse delay or whether the courts could find that the parties recognised the current situation as a likely risk when entering into their contracts.
Similarly, in the case of Ebola, outbreaks of Ebola in West Africa have occurred previously (albeit not necessarily in the same countries or to the same extent) and there may therefore be some resistance to an argument that the current outbreaks were unforeseeable (let alone that the impact of the outbreaks cannot be mitigated or alternative arrangements put in place – see further below). Frustration If the contract does not contain a force majeure clause, it may still be possible to rely upon the doctrine of frustration. This is a doctrine that can operate to set aside a contract when an unforeseen event occurs which radically changes the nature of the performance of an obligation such that it is either impossible to perform or the purpose of entering the contract is so radically different that it should be set aside. By way of example, this might include a change in the law (a "supervening illegality"), the destruction of the subject matter or the incapacity or death of a principle party under contract.
The courts are normally slow to find that a contract has been frustrated and as with force majeure, will require more than a submission that the event has made it more difficult or expensive to perform. In addition, if the contract already contains a force majeure provision, it will usually not be possible to rely upon the doctrine of frustration as an alternative way out of the contract when the force majeure provision cannot be applied.
A key distinguishing feature between the doctrine of frustration and a force majeure provision is that if a frustrating event does occur, the contract is permanently frustrated (i.e. set aside) – temporary suspensions are not possible and the parties are excused from all further performance without liability for damages. In contrast, while some force majeure provisions can result in the eventual termination of a contract, this will normally only happen if it appears that the circumstances causing the delay are unlikely to improve in the short to medium term (as defined in the contract).
In the case of the Ebola outbreak in West Africa, one hurdle that an affected party might struggle to overcome is to establish that the effects of the outbreak could not be mitigated, particularly as Ebola is generally considered to be more easily contained than other diseases as it is not airborne. For example, alternative sources for the supply of raw materials from unaffected areas and the introduction of strict controls to protect employees on site may increase the overall difficulty and costs involved but these factors on their own are not sufficient to excuse the failure to perform on the grounds of frustration. Therefore, subject to any condition of foreseeability, it is more likely that parties may be able to apply a force majeure provision in such circumstances than rely on the doctrine of frustration.
The imposition of sanctions can also present significant difficulties in determining whether performance has been interrupted by a supervening illegality. Performance can become unlawful in three situations: (i) under the governing law of the contract; (ii) by reference to the law in the place of performance; or (iii) as a result of the sanction purporting to have extra-territorial application despite not being issued in the place of performance or pursuant to the governing law of the contract. This third situation is particularly problematic for non-US companies with US interests doing business in jurisdictions or with entities or persons that are the subject of US sanctions with extra-territorial application. In such cases, arguably, if sanctions are not covered by the force majeure provision in a contract, no relief will be available under the doctrine of frustration either. This is because the English courts have held that a change in foreign law which does not directly concern the contract (either in terms of its governing law or the place of performance) may not be relied upon. Therefore, if sanctions are a possibility, it becomes all the more important to give consideration to how the force majeure events are defined by contract.
In summary, each event and how the parties may have apportioned the risk of delay or non-performance and the associated costs will vary depending on the contract and the specific wording used. Nevertheless, the following points are worth bearing in mind.
- Not all events that interfere with performance will be treated as force majeure by the courts. When drafting a force majeure provision in a new contract, renegotiating existing terms of contract or amending standard terms of business, companies should consider adding terms such as pandemic, other civil emergency situations and the imposition of sanctions to the list of force majeure events so as to avoid any uncertainty if such an event does arise.
- Similarly, where a business fears serious disruption from a contractual failure by a key supplier or other key counterparty, it may be worth discussing this concern with the counterparty before any disruption occurs. If the situation is addressed early enough it may be possible that the supplier could put in place appropriate contingency planning and/or provide additional assurances.
- Conversely, as a supplier, it is important to be specific as to the source of the products to be delivered (whether this means identifying a specific, product, export location or supplier) so as to avoid arguments that alternative supply lines should be put in place regardless of any increased difficulty or additional cost.
- In the same context, both parties will want to consider carefully in advance the delay threshold at which they agree further performance should be suspended (i.e. whether it is expected that performance should be legally and/or practically impossible before a suspension will be triggered or whether it is enough that performance is hindered or made more difficult). There is case law on the meaning of these terms and it is important that parties are aware of precisely how the risk of such events is apportioned in their contracts.
- Where performance has already been disrupted, it is important that the parties review their contract carefully as soon as possible so as to ensure that no notice requirements are missed (either in terms of timing, method or the evidence to be provided in support) and if necessary, an alternative strategy can be considered before matters deteriorate. If the contract does not contain a force majeure provision, the doctrine of frustration may still be relevant.