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Covid-19 and Contractual Compliance

contractual compliance

The current health crisis following the outbreak of coronavirus (Covid-19) is not only having an impact on public health, but also on the global economy and the business world.

We are therefore facing a new reality with unforeseeable legal and economic consequences, in which companies must be aware that all the measures being taken to contain the virus may interfere with their normal operations, as well as having important legal consequences in different areas of their activity. 

The effects of Covid-19 will make many companies unable to comply with agreements already signed due, for example, to a lack of supplies, problems with the transport of goods, possible quarantine of employees, serious economic difficulties due to a fall in demand, etc.

What happens if you cannot fulfill your obligations because of how the current crisis affects your business? What if you cannot pay your providers or you do not have the employees to make a product that you have the obligation to provide to a client?

In this regard, we are going to consider, from a contractual point of view, what mechanisms are available to companies to deal with a possible breach of contract due to an epidemic situation.

It is very important to bear in mind that what is going to be analysed below is only valid for those cases in which there is already a contractual relationship prior to the Covid-19 crisis and not for those negotiation processes that are underway. In those cases, it will be highly advisable to include specific clauses regulating the risks and consequences of a health crisis of this magnitude.

The general theory of contracts includes the rule of pacta sunt servanda, which states that contracts are binding on the parties and must be complied with in accordance with their statements. There are, however, exceptions to this rule, according to which it can be interpreted more flexibly.

There are two figures usually included in contractual relationships: fortuitous event and force majeure. In both cases it is necessary, that the event is either unforeseeable or insurmountable and irresistible, and that there is no connection to the obligor’s will. In essence, the possibility of a break in the causal link of the legal transaction requires that these events could not have been foreseen, or that, even if they were foreseen, they were unavoidable

In case of the current pandemic crisis, we see a case of force majeure, since it is an invincible obstacle (even if the virus had been foreseen, due to the history of other countries such as China or Italy, it would have been inevitable that it would have had effects in Spain).

What are the consequences of considering Covid-19’s situation as a cause of force majeure in a contract? 

It would allow us to request, on the one hand, the suspension of the contract or even its termination. However, it should be borne in mind that these are not automatically applicable figures. In this sense, it is very important to be aware that even in a scenario of force majeure, companies have a duty to mitigate the damage and exhaust all means available to them to comply with the agreed obligations. They have to be able to prove that these actions have been taken, collecting and preserving as much evidence as possible.

According to the general rule to which we alluded at the beginning, pacta sunt servanda, the breach or termination of the contract must always be the last ratio.

However, what would happen if the circumstances – the aforementioned pandemic situation – made it disproportionately onerous to fulfil the obligation (e.g. due to border closures, quarantine of workers, closure of establishments, etc.)? The contracting party to whom, in view of the circumstances of the case and especially the contractual or legal distribution of risks, it is not reasonably possible to remain subject to the contract, may resort to the action rebus sic stantibus, which allows that party to review the terms of the contract provided and allege that the circumstances which served as a basis for the contract have changed in an extraordinary and unforeseeable manner during its execution. In the event that the review is not possible or cannot be imposed on one of the parties, they may request its resolution.

It is important to note that the force majeur is not applicable in case of money debts. In the cases in which the obligation consists of a monetary debt, jurisprudence considers that the impossibility of compliance cannot be alleged.

At Lexidy, we aim to assist our clients with swift and simple responses, helping them to navigate the difficult current situation. We would be happy to help you. Contact us and we will assess your case.

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