CORONAVIRUS AND ITS AFFECT UPON SMALL BUSINESS ENTERPRISES
Governments and medical researches across the world are racing to develop a vaccine to the COVID-19 virus. Chinese medical authorities have given the World Health Authority the DNA of the virus. As yet, no vaccine has emerged. It will be many months before such a vaccine is available for general use after it has received proper human regulatory trials.
In the meantime, business clients are facing restrictions imposed by governments to mitigate against the spread of COVID-19. What will that mean to your contractual obligation to import or expert goods from overseas and, particularly, from Asian or European destinations? How might travel restrictions affect your ability to trade or meet contractual obligations? What additional liabilities might employers face from their staff as a result of the virus outbreak?
A number of businesses are already preparing emergency plans if their factories, warehouses, offices or retail outlets have to be closed by government health order or placed under quarantine because staff members infected with the virus have been working in those places. A number of problems immediately arise. Will the inevitable loss of profitability and increased cost of working be recoverable under any insurance policy? Secondly, will employees be able to sue their employer for exposing them to the virus because they have not properly screened employees who may have been travelling overseas or who showed virus-like symptoms but were allowed to continue to operate in the workplace? Would that be a breach of an employer’s occupational health and safety obligations?
One possible argument might be that where a majority of the workforce falls ill, and the occupational health and safety advice is that the insured business operator will need to do a thorough clean and decontaminate its premises to combat the virus, the insured owner could argue that the need for decontamination resulted from damaged property. Accordingly, there would be property damage for the purposes of the average workplace insurance policy.
Alternatively, if medical authorities insisted that a business workplace be quarantined because of the COVID-19 virus, particularly where the Australian government has declared a notifiable disease coverage emergency, the insured owner could argue that there had been a non-damage denial of access to the workplace by a competent authority. Under some policies, this may trigger an entitlement to claim for business interruption, even if there were no property damage.
These arguments, however, will be based upon specific policy wordings and clients will be well advised to obtain specific advice from our insurance section.
It is unlikely that most property damage/business interruption policies will cover business closedowns as a result of contaminated workspaces. Such contamination is unlikely to fall within the definition of property damage, which is an essential precondition to the implementation of the business interruption clauses of the policy wording. Specific cover may need to be obtained from the business’s insurance brokers.
In relation to actions brought by employees, business employers would be wise to insist that any employees returning to work from overseas spend at least 14 days at home after arrival in Australia. Their return to work should also be dependent upon a medical certificate. Likewise, any employee exhibiting flu-like symptoms should be sent home on sick leave and not able to return without a medical certificate. Employers who did not implement reasonable risk management precautions could well face civil lawsuits or Health Act prosecutions in an extreme situation.
In relation to contractual liabilities, what might happen if lawyers were unable to meet client requirements to appear in Court, to draft contracts, to settle property conveyancing or renew retail leases? What might happen to accountants who are unable to prepare income tax returns or business activity statements on time? What would happen to estate agents if they could not conduct auctions or manage retail or residential properties? All of these problems might arise if staff numbers were cut because of widespread infection with the COVID-19 virus.
Alternatively, what will happen to businesses who are unable to import raw materials or products from countries badly affected by the virus, or who have lost markets due to the fact that overseas buyers are experiencing a collapse in demand? What will happen to businesses who are threatened with legal action as a result of an inability to supply customers either because of panic buying leading to loss of selling capacity or because supply dries up?
These problems may depend upon the nature of the contract which the small or medium business may have. Will they be able to rely upon the concept of force majeure or the doctrine of frustration? The concept of force majeure applies to relieve a party otherwise in breach of a contract where performance under that contract becomes impossible, difficult or erroneous due to events outside of the affected party’s control.
Whether force majeure clauses will apply depends upon the actual language used in these types of provisions. Clients should check with us to determine whether or not their relevant contracts contain force majeure clauses and, if they do, how they operate.
Force majeure clauses can be tricky. Some may operate to excuse entirely non-performance of the contract. In those cases, either party can usually terminate the contract. This may not necessarily be in the affected party’s long-term interests.
Alternatively, a force majeure clause may merely adjust the commercial terms for a defined change in economic or market circumstances. This may only give an affected party a right to renegotiate the contract to alleviate substantial hardship.
A third alternative is where the force majeure clause automatically terminates the contract. This may operate in a scenario where government declarations restricting travel, public events or meetings or access to places or materials have made supply under contracts permanently unavailable.
Some force majeure provisions may require official government declarations to the effect that the COVID-19 virus is a notifiable disease. Other clauses may simply refer to “epidemic” or “pandemic” and designate them as “Acts of God” or simply “matters beyond the affected party’s control”.
What can a business do if their supply or operations contracts do not include force majeure provisions?
The doctrine of frustration may permit an affected party to cease performing its contractual obligations where it becomes impossible to do so in circumstances entirely beyond the power or control of that party. What then is the difference between force majeure and frustration?
For a force majeure clause to be operable, the following considerations will need to be established:
• The parties have agreed expressly in their agreement for suspension or discharge of performance based upon the force majeure event;
• Notice will generally be required before declaring force majeure;
• The extent to which the virus has prevented, hindered or delayed the performance of the contract;
• Whether reasonable expectations were frustrated and the circumstances were unforeseeable or out of the party’s control when the agreement was made; and
• Potential or alternative means for performing the obligations and steps to avoid or mitigate the viral outbreak and its consequences are unsuccessful or impossible.
However, some events may fall short of constituting a force majeure event under the above requirements. Such events may nevertheless make it more onerous or even impossible for the affected party to perform its obligations. In Australia, the doctrine of frustration is limited to:
• Whether the subject matter of the agreement or the means of performing the agreement have been destroyed such that performance is objectively impossible; and
• Whether the central purpose of the contract has been frustrated or the agreement has become radically different from what was contemplated by the parties at the time of their agreement, which has become physically or commercially impossible to fulfil.
In the case of the COVID-19 problem, there may be overlap between force majeure and frustration. An example of the latter may be where a necessary skilled labourer is unable to complete a contract due to travel restrictions or illness. Frustration could be relied upon particularly where the contract did not contain force majeure provisions.
Whether or not force majeure or frustration is available, the affected party will have to establish that it was ready, willing and able to perform the contract but for the particular event. If there is evidence that the affected party was not in such a position, it will not be able to rely upon either defence. Secondly, the affected party will need to show that it has taken all reasonable endeavours to avoid or mitigate the event and its effects. It will be easier for businesses to rely upon the defence in cases where there is impossibility of delivery or for the buyer to receive delivery of particular supplies as opposed to claims based on decrease in local demand. There are Court decisions which suggest that a mere change in economic or market circumstances affecting the profitability of a contract is not generally a force majeure or frustration event.
Another problem may be for a business who claims force majeure in circumstances where it has taken advantage or falling prices and has sourced supply from elsewhere and then attempts to argue it cannot accept delivery of the higher priced supply under the contract. An action by the non-affected party is likely to be successful and attempts to rely upon force majeure or frustration will not be successful.
Businesses should seek legal advice before automatically declaring force majeure or frustration. There are long-term reputational risks and potential damage to long-term commercial relationships with customers and suppliers to consider. Businesses may be better advised to amend or restructure or postpone performance rather than seeking to cancel contracts altogether. Declaring a force majeure or frustration event may also have consequences for the affected party’s insurance coverage.
The affects of COVID-19 are yet to worked out. The future is always difficult to predict. What businesses should be doing is reviewing their contracts, whether with the employees, contractors, suppliers or customers to determine what protection may exist for a possible force majeure or frustration claim. Businesses should also be planning their response if they are notified of a force majeure or frustration event from their agreement counterparties.
If any of our clients require further information in relation to this article, they are requested to contact the following:
• Michael Pickering – Insurance
• Josephine Ziino – contractual interpretation
• Bronte Strong – contractual terms and conditions.
This article is intended only to provide a summary of the subject matter covered. It does not purport to be comprehensive or to render legal advice. No reader should act on the basis of any matter contained in this article without first obtaining specific professional advice.
DISCLAIMER: We accept no responsibility for any action taken after reading this article. It is intended as a guide only and is not a substitute for the expert legal advice you can get from De Marco Lawyers and other relevant experts.