Commercial Contracts: Clauses which deserve special attention
Coronavirus (COVID-19) has a significant impact on national and international supply chains, manufacturing and logistic processes, international services and other aspects of daily business operations. This could result in the breach or late performance of contractual obligations. Please find below some practical advice regarding commercial con-tracts and certain contractual clauses which deserve special attention.
Practical advice on commercial contracts
- Review your existing commercial contracts in order to identify (i) provisions that could be affected by coronavirus and (ii) procedural requirements, such as notice requirements.
- Identify possibilities to avoid or mitigate non-performance of your agreements. Make alternative arrangements with your counterparty.
- Proactively approach your counterparty to discuss allocation of the risks associated with coronavirus.
- When negotiating a new commercial contract, keep in mind the potential impact of coronavirus on business continuity.
- Force majeure refers to a situation in which the performance of a contractual obligation becomes impossible due to an event beyond the control of (either of) the parties. Successful recourse to force majeure can result in a party being (temporarily) relieved of its contractual obligations and released from liability for damages.
- In the event of force majeure, the creditor can terminate the contract, provided the breach justifies termination.
- Certain types of commercial contracts contain a force majeure clause, setting out the events that qualify as force majeure and the consequences thereof. Contracts often do not expressly mention disease or epidemic as events of force majeure (see for example standard commercial contracts such as the PECL and Unidroit). As a result, there are no hard-and-fast rules on the characterisation of non-performance due to coronavirus as an event of force majeure.
- To rely on a force majeure clause, a party will usually have to notify the counterparty that an event of force majeure has occurred which has prevented, hindered or delayed the performance of its contractual obligation(s). Force majeure clauses often require the party claiming force majeure to produce evidence thereof and provide for contractual notice requirements.
- If a commercial contract does not contain a force majeure clause, the law governing the contract will determine whether force majeure can be invoked. It should be noted that under Dutch law, the threshold for force majeure is high (Article 6:75 Dutch Civil Code). Recourse to force majeure within the meaning of Article 6:75 Dutch Civil Code could be successful if a debtor is unable to meet its obligations due to a legal prohibition. Examples include situations in which goods or services are not supplied as a result of an export ban or in which events may not take place due to a mandatory closure of restaurants, bars and catering establishments.
- In this respect, it is noteworthy that both the French and Chinese governments have expressed the view that breach of contract due to coronavirus constitutes force majeure. The French minister of the economy and finance announced that in the event of non-performance by a small company under a contract with the government due to coronavirus, the French government will assume force majeure. The Chinese government has even provided local exporters with force majeure certificates, to exempt them from fulfilling contractual obligations with overseas buyers. However, such statements of foreign governments are of limited significance in the Nether-lands.
Material adverse change or material adverse effect
- Other types of commercial contracts (in particular in the field of mergers and acquisitions) may contain a clause determining the consequences of events that could result in a material adverse change ("MAC") or material adverse effect ("MAE"), either as a condition for closing or as a warranty.
- The wording of the MAC or MAE clause is decisive in determining whether a business interruption caused by coronavirus qualifies as an MAC or MAE. A careful re-view of the definition is therefore necessary to determine whether an event gives rise to an MAC or MAE.
- Commercial contracts may contain a penalty clause, stipulating that a party shall incur a penalty in the event of a breach of contract. A penalty can also take the form of alternative performance.
- The wording of the penalty clause determines how and when a penalty is payable. For example, the penalty clause may stipulate that a penalty is payable without prior notice of a breach (even when the breach is curable).
- If a breaching party claims force majeure, the penalty clause may not be invoked against that party, unless the parties have expressly agreed otherwise.
- Coronavirus could affect performance of a contract and as such trigger a penalty clause. If this is or could be the case, we recommend contacting the counterparty to discuss the best way to mitigate the consequences for your business relationship.
- Should a counterparty invoke a penalty clause in a coronavirus-related situation, the other party could argue that a court should (i) declare the penalty clause inapplicable on grounds of reasonableness and fairness or (ii) reduce the amount of the penalty, for reasons of fairness. It should be noted that this is a high standard, which is not easily met. In the event of a purely coronavirus-related breach of contract, a court could decide to declare the penalty clause inapplicable or to reduce the penalty.
- In the event of unforeseen circumstances as a result of which a counterparty cannot reasonably expect the agreement to continue in its current form, either party to the agreement may petition the court to modify or set aside the agreement, in whole or in part.
- The qualification of an event as an unforeseen circumstance will depend on whether the parties contractually envisaged the potential occurrence of the event (or implicitly factored it in). In any case, the event may not have occurred at the time the agreement is entered into.
- Contracting parties are unlikely to have foreseen the impact of coronavirus when entering into an agreement. Therefore, coronavirus could constitute an unforeseen circumstance. However, whether recourse to unforeseen circumstances is successful will depend on the specific circumstances of the case. In addition, for recently concluded contracts, the question arises as to from which point in time coronavirus and its global impact will no longer be considered unforeseen.
- It is important to note that the doctrine of unforeseen circumstances is interpreted very narrowly by the courts. The primary consideration is pacta sunt servanda (agreements must be kept). A party invoking unforeseen circumstances must prove that the contractual balance has been distorted to such an extent that it cannot reasonably be expected for the agreement to continue in its current form. Therefore, the effects must fall outside normal commercial risks.
- Standard commercial contracts (such as the PECL and Unidroit models) contain a duty to renegotiate in the event of unforeseen circumstances, as a requirement for recourse to so-called hardship clauses in legal proceedings.
- Even without a contractual duty to renegotiate, we recommend renegotiating and submitting a concrete, serious and reasonable proposal to address the consequences of coronavirus, in the event of unforeseen circumstances. In some cases, the proposal could provide for an equal distribution of the disadvantage between the par-ties. For a (continuing) performance contract, this could be different. A suspension of obligations (for example, until after the crisis) could be another solution.
- Ensure that you document your proposal, as well as your counterparties response. In the event of legal proceedings, the court could take into account the parties' actions during the renegotiation process when deciding on an appropriate remedy.
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