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Coronavirus is already creating a raft of contractual and insurance disputes, with far-reaching consequences for the economy
The low down
As businesses struggle to fulfil contractual duties amid the coronavirus pandemic, so the disputes begin. Can lockdown restrictions trigger force majeure clauses, allowing parties to wrest free of their obligations? With no easy answers, lawyers and the courts are likely to be busy for the foreseeable future, with much at stake for the wider economy. Another key battleground relates to ‘business interruption insurance’, and the extent to which policyholders can turn to insurers to mitigate the pandemic’s effects. But was BII ever intended to cover a global pandemic? In an unusual move, the financial regulator is seeking answers from the court by bringing its own test case against insurers.
Four enquiries that have recently crossed the desk of Stewarts partner Sean Upson are a microcosm of the disputes now brewing on a global scale because of the coronavirus pandemic.
The first involves arguments about whether ‘force majeure’ contract clauses – which free parties of their contract obligations – can be invoked. ‘One client is a large company in the logistics industry,’ explains Upson. ‘They are saying, we are in an “essential” industry, but because of coronavirus, we’re still struggling to get the workers in to fulfil the contract. Are we in breach?’
The second is a blue-chip company that is midway through a new factory build. ‘The other party has been trying to delay the building of the factory for a while, and it has now leapt on Covid-19 as an opportunity to do that,’ remarks Upson.
The third involves a ‘margin call’ – where financial market volatility means broker banks can suddenly insist that investors such as hedge funds increase the amount of cash they provide as a deposit in relation to the shares they are trading. These margin call disputes were common in the financial crisis of 2008, ‘and it is happening again’, warns Upson.
His fourth comes from a retail landlord with a multi-million-pound portfolio that rents out premises to retail chains. It is looking for advice in relation to government measures to give commercial tenants relief from rent. ‘If people don’t have to pay rent it will be a huge problem for commercial landlords,’ warns Upson. Landlords will be required by banks to stick to a certain loan-to-value ratio. ‘But if the value of that property drops, you are in default – and the banks can start calling in the loans. We saw a lot of that in 2008 and I think we’re going to see more of it.’
I’m convinced Covid-19 can be considered a force majeure event; after all, Ebola was. But you have to look at what is being prevented and whether Covid-19 is really preventing it
Matthew Saunders, Ashurst
Upson expects there to be three ‘waves’ of litigation to stem from the global pandemic. The first will be the contractual arguments over force majeure (explored in more detail below). The second will be the financial markets-related disputes such as margin calls; and the third will be the bank loan disputes.
Majeure problem
Force majeure clauses are what commercial lawyers will be chewing on for breakfast, lunch and dinner for the foreseeable future. Force majeure is intended to cover situations where a party cannot fulfil its contract obligations because of an unavoidable and unexpected event over which it had no control. But it is far from a ‘get out of jail free’ card.
The first thing to note is that force majeure is different in the civil and common law. Civil law recognises a ‘doctrine’ of force majeure, but this background framework does not exist in the law of English and Wales, where it all comes down to the precise wording of the contract itself. ‘You are more likely to be able to claim force majeure due to Covid-19 in civil law jurisdictions such as France and Spain, than in English law – because of the ability to rely on legal doctrines of force majeure and of hardship,’ explains Matthew Saunders, a partner at Ashurst. He adds that with contracts in the oil and gas sector, for example, being worth tens of millions of pounds each, the question of which law applies is ‘worth arguing about’.
For contracts governed by English law, force majeure clauses will fall broadly into two camps: those that specify a list of the events that will trigger force majeure, and those with more ‘generic’ wording and, perhaps, more wiggle room. Contracts that specify ‘pandemic’ as a force majeure event are rare and will normally involve a party from Asia who has learnt lessons from SARS. But even if ‘pandemic’ is listed, invoking force majeure may not be easy, Upson says: ‘I’m convinced Covid-19 can be considered a force majeure event; after all, Ebola was. But you have to look at what is being prevented and whether Covid-19 is really preventing it. If you’re running a restaurant, for example, it is government regulations, rather than coronavirus itself, that is the relevant event.’
And even if the regulations – rather than the virus itself – are capable of triggering the force majeure clause, this will not help every sector. Upson says: ‘I feel for the construction industry. The regulations don’t say that the construction industry is shut down, but in March and April most of the sites were closed because employers were doing the right thing to keep people safe. In a dispute, the other party will say – what was stopping you [from fulfilling the contract]? Not the regulations.’
One concept sometimes listed as giving rise to force majeure is an ‘act of god’ – an uncontrollable, unpredicted, natural event. Is coronavirus an act of god? Again, there is the question of whether the virus itself caused the loss, or government intervention. There is also the question of foreseeability.
Saunders observes: ‘Back in December, you could say that a pandemic was not foreseeable, but you couldn’t say that in April or May. There is a strong argument – from pretty ancient 19th century case law – that an act of god needs to be unforeseeable; so you probably can’t rely on an act of god for contracts entered into after coronavirus became known.’
Saunders notes that parties are also seeking to invoke ‘change in law’ provisions in their contracts to free them of obligations. He explains: ‘If there has been a “change in law”, then relief can be obtained. What is interesting about change in law clauses is that they are not generally restricted to “law” in the sense of decisions by parliament or the Supreme Court.
‘But “law” often includes things like mandatory guidance, and much of what has happened in relation to coronavirus has been in the form of mandatory guidance, or edicts issued by government. There was a week or so between the instruction given by Boris Johnson to “stay home” and the Coronavirus Act in which regulations were made, so during that period it was just mandatory guidance that was in play.’
Even if parties can establish that the pandemic itself, or the Covid-19 rules, fall into the contract’s definition of force majeure, that will not be the end of the matter. Depending on the wording of the clause, they will probably still need to show that they were prevented from fulfilling their obligations and could not have fulfilled the contract in another way.
With so many legal questions thrown up by the pandemic, the approach taken by the courts will be crucial. Upson predicts that judges may adopt a ‘more expansive view’ of how force majeure clauses should operate.
Behind closed doors
With a potential tsunami of litigation on the horizon, the Cabinet Office recently urged parties to consider mediating disputes to avoid overwhelming the courts. Two former Supreme Court presidents, Lord Neuberger and Lord Phillips, have made similar calls. Is this viable? Ashurst partner Matthew Saunders notes that ADR will be attractive in sectors where parties want relationships to continue – such as construction, where projects are likely to be delayed rather than cancelled. But in sectors where pricing is linked to oil, many parties simply want to extract themselves from loss-making contracts with no end in sight. ‘In that scenario, the chances of a successful mediation aren’t good,’ he says.
Saunders notes that international arbitration – which already allows for pleadings and witness hearings to be done electronically – is well placed to deal with disputes in the current climate. But there is one important drawback: unlike court decisions, arbitrated disputes will not provide any binding authorities to develop the law.
‘In 150 years, we haven’t had anything that has had the impact of Covid on the ability to perform contracts, outside of war,’ Saunders says. ‘Much contract law around international trade dates back to the 19th century. This will be an opportunity for the Court of Appeal and Supreme Court to provide useful clarification and develop contract law. So we do need to hope – even as arbitration lawyers – that it is not all done behind closed doors in arbitration tribunals.
‘In the same way that you find a great deal of case law dealing with international trade around the late 19th century, so there will be a lot of case law from around 2020/21 in future text books.’
Policy position
When it comes to coronavirus-related disputes, the arguments are not just between contracting parties. There are also major rows with insurers.
With so many businesses of all sizes unable to carry on trading, have insurers ridden to the rescue? Those who purchased business interruption insurance (BII) may have assumed that it was just the ticket for the current situation, but in practice its impact is likely to be minimal.
In a relatively small number of cases, BII was purchased in its own right, unrelated to a business’s property insurance, and these policyholders are in a better position. But the vast majority of policies were bought as part of a business’s property damage insurance and were either included as part of the package or bought as an add-on. These policyholders face a huge hurdle because they need to be able to show damage to their property for any claim to succeed. Could that be possible?
Adam Edwards, financial services partner at Freeths, concedes that the lack of property damage will be a ‘difficulty’ for most of these policyholders. But he adds: ‘If you had an infected person on-site and had to close for a period of time because of that, you could claim that having the virus on surfaces could be considered damage. Microbiological changes are able to constitute damage.’
Setting aside the question of physical property damage, there are other problems facing Covid-related BII claims. The policies will list insured perils, most of which will be unhelpful – such as fire or storm. Sometimes the cover can include ‘denial of access’ to the premises. This was used, for example, by businesses cordoned off after the 2005 Buncefield oil depot explosion. ‘There could be a debate as to whether the coronavirus restrictions can amount to a denial of access,’ Edwards says.
More directly relevant will be clauses that specify infections or ‘notifiable diseases’ as a trigger for cover. These can relate to an incident on the policyholder’s premises, or within a specified geographical area. ‘We’ve seen one policy that specified where there has been a notifiable disease “within 20 miles” of the premises,’ explains Edwards, and it also required that the ‘local authority’ had advised closure of the premises.
‘That leads to arguments about whether the closure was imposed at a local level,’ he adds. ‘Insurers will say that the intention was not to cover a national epidemic, only a local outbreak. But “local” is a relative concept. Does it mean only the local authority in each area? Or could it mean “Wales”, for example – as we have different restrictions in different parts of the UK.’
It could even come down to what advice local authorities provided at local level in relation to national restrictions.
The FCA hasn’t read the mood of policyholders. This is not a point of principle for them, it is about getting their claims paid
Richard Leedham, Mishcon de Reya
But does Covid-19 count as a ‘notifiable disease’? Only from 6.15pm on 5 March, which is when the government added it to the list of notifiable diseases under the relevant regulations. ‘Many people are upset by the [government’s] delay in deeming it a notifiable disease,’ Edwards says. There are also arguments over whether the disease had to be notified at the inception of the policy, or whether the policy allows new diseases to become notifiable. ‘There is a good argument to say that the policy is the insurer’s document,’ suggests Edwards. ‘So if the insurer didn’t want to include new notifiable diseases, it should have specifically excluded that.’
From an insurer’s standpoint, BII was never intended as insurance for a global pandemic. If that is what policyholders wanted, then that is what they should have bought – and it would have cost much more.
With the BII arguments raging, and so many small and medium-sized businesses affected, the Financial Conduct Authority has taken an unusual step. The regulator is bringing a test case to get court guidance on 17 common BII policy wordings, which it selected after wading through 500 relevant policies from 40 insurers. Eight insurers are participating in the case. But it is worth noting that in April the regulator conceded that insurers will not need to pay out in relation to the coronavirus pandemic ‘at least in the majority of cases’. It says the test case is focused on ‘the remainder of policies that could be argued to include cover’.
Richard Leedham, a partner at Mishcon de Reya who is running a class action against insurer Hiscox on behalf of non-property BII policyholders with businesses affected by the pandemic, has reservations about the FCA’s action. While he stresses that the businesses he represents do support the regulator’s test case, he says it is ‘odd’ that the FCA has not yet properly involved BII policyholders in the case, which is notionally being brought on their behalf.
‘This is adversarial litigation,’ he observes. ‘On the one hand you have the [big insurers]; and on the claimant side you don’t have claimants, you have a neutral regulator.’
Leedham notes that the FCA has said it is bringing the test case to provide ‘clarity and certainty’ for those involved in BII disputes. He adds: ‘It’s all about achieving certainty for the market. But the reason for the urgency is so that people can get their money. They have businesses that are struggling and they thought they were covered for this. The FCA hasn’t read the mood of policyholders. This is not a point of principle for them, it is about getting their claims paid.’
Whether the arguments revolve around insurance or contractual issues, it is clear that the Covid-related disputes to come before the courts will have far-reaching consequences. As Saunders points out: ‘In 2009/10, it was the financial world that was affected. This time it affects people buying, selling and manufacturing – it is about the real economy.’
Rachel Rothwell is a freelance journalist
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