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Case Law Update: Interpretation and Applicability of Force Majeure Clauses and Common Law Doctrines During the COVID-19 Pandemic

By Amy Kearney
Attorney at McGuire, Craddock & Strother, P.C.
April 7, 2021

As courts around the country grapple with the legal implications of the COVID-19 pandemic on contractual disputes, some clear trends have emerged. This article will first summarize case law originating from New York, as the majority of applicable cases have, to this point, been litigated in New York, and will then turn to an analysis of Delaware and Texas case law.

NEW YORK CASE LAW

Three recent New York cases suggest that the common law doctrines of impossibility of performance and frustration of purpose, which historically have been narrowly applied by courts, will not benefit parties seeking to avoid their contractual obligations due to the COVID-19 pandemic.

In 1140 Broadway LLC v. Bold Food, LLC,[1] the landlord plaintiff alleged that the tenant defendant (a restaurant hospitality business) violated the terms of its lease when it stopped paying rent in February 2020 and eventually vacated its premises five months later.  In response, the tenant defendant claimed that performance under its lease was “objectively impossible” due to the shutdown of its hospitality business in the wake of COVID-19, and that any default resulting therefrom was excusable.[2]  The Supreme Court of New York struck down the tenant defendant’s impossibility argument, explaining that the doctrine of impossibility had no application to the case at hand:  “Impossibility excuses a party’s performance only when the destruction of the subject matter of the contract or the means of performance makes performance objectively impossible.”[3]  In this instance, although many food restaurants were forced to scale back certain operations, “that does not mean that there was a ‘destruction of the subject matter’ contemplated in the contract at issue here, which was for office space on the twelfth floor of an office building.”[4] When the tenant defendant next relied on the frustration of purpose doctrine to excuse its failure to pay rent, the court similarly rejected its argument, finding:

The doctrine of frustration of purpose requires that the frustrated purpose must be so completely the basis of the contract that, as both parties understood, without it, the transaction would have made little sense.  This doctrine is a narrow one which does not apply unless the frustration is substantial.  Here, the lease was for office space in a building and the tenant’s business was devastated by a pandemic.  That does not fit into the narrow doctrine of frustration of purpose.  Simply put, defendants could no longer afford the rent because restaurants no longer needed the management help that the tenant provides.[5]

Likewise, in 35 East 75th Street Corp. v. Christian Louboutin L.L.C.,[6] a New York court held that the doctrines of impossibility of performance and frustration of purpose offered no defense to a retail tenant’s failure to pay rent during the COVID-19 pandemic.  Specifically, the court stated that:

Contrary to defendant’s argument, this doctrine has no applicability here. This is not a case where the retail space defendant leased no longer exists, nor is it even prohibited from selling its products. Instead, defendant’s business model of attracting street traffic is no longer profitable because there are dramatically fewer people walking around due to the pandemic. But market changes happen all the time. Sometimes businesses become more desirable (such as the stores near the newly-completed Second Avenue subway stops) and other times less so (such as the value of taxi medallions with the rise of ride-share apps). But unforeseen economic forces, even the horrendous effects of a deadly virus, do not automatically permit the Court to simply rip up a contract signed between two sophisticated parties.[7]

Finally, in The Gap Inc. v. Ponte Gadea New York LLC,[8] the U.S. District Court for the Southern District of New York found that, among other things, the landlord counterclaimant properly terminated its lease with The Gap Inc. (“Gap”), its tenant, due to its unexcused monetary default. In mid-March 2020, Gap decided to close its stores nationwide as a result of the COVID-19 pandemic, and simultaneously stopped paying rent to its landlords.[9] In June 2020, the landlord counterclaimant terminated Gap’s tenancy due to its failure to pay delinquent rent within the cure period prescribed for monetary defaults under the lease.[10]  In rendering its decision, the court examined the event of default provisions of the lease, which included an extension of the cure period for nonmonetary defaults upon the occurrence of a “Force Majeure Event,” defined as “a strike or other labor trouble, fire or other casualty, governmental preemption of priorities or other controls in connection with a national or other public emergency or shortages of fuel, supplies or labor resulting therefrom, or any other cause beyond Tenant’s reasonable control.”[11] In issuing its opinion, the court focused not only on the definition of “Force Majeure Event,” but also its placement in the lease and the parties’ intended, limited application to non-monetary defaults.  Ultimately, the court held that the force majeure clause could not be relied upon by Gap as a defense to its monetary default. Moreover, the court rejected Gap’s argument that the COVID-19 pandemic and resulting governmental restrictions frustrated the principal purpose of the lease, stating:

To the extent Gap relies on the government’s prohibition and limitations on physical retail business as a result of the pandemic, the inclusion and limited application of the Force Majeure Event definition of the Lease demonstrate that the parties foresaw, and apportioned the risk associated with, the possibility that government measures in the event of a public emergency could affect performance under the lease.  Furthermore, to the extent Gap relies on the COVID-19 pandemic itself as the basis of impossibility or frustration of purpose, Gap’s contentions are insufficient . . . Gap in fact operated a retail business at the stores at issue in this case by way of curbside pick-up, and operated other retail locations on an in-person basis, during the pandemic.  The fact that its continued performance may be burdensome, even to the extent of insolvency or bankruptcy, does not render Gap’s performance objectively impossible under New York law.”[12]

In contrast with the aforementioned cases, the U.S. District Court for the Southern District of New York held in JN Contemporary Art LLC v. Phillips Auctioneers LLC[13] that the COVID-19 pandemic and related government-imposed restrictions on business fell within a contract’s force majeure clause, thereby allowing the defendant to invoke its termination right and avoid its contractual obligations.[14]  In June 2019, an art gallery and an auctioneer company entered into an agreement in which an artist’s painting was to be auctioned in May 2020.  In the spring of 2020, after the COVID-19 pandemic had reached New York, the auctioneer company terminated the contract and refused to pay the art gallery the minimum price it was guaranteed in connection with the auction.  At issue was the contract’s termination clause, which read:

In the event the auction is postponed for circumstances beyond our or your reasonable control, including, without limitation, as a result of natural disaster, fire, flood, general strike, war, armed conflict, terrorist attack or nuclear or chemical contamination, we may terminate this Agreement with immediate effect.  In such event, our obligation to make payment of the Guaranteed Minimum shall be null and void and we shall have no other liability to you.[15]

In its reading of the termination clause, the court held that the COVID-19 pandemic constituted a “natural disaster,” thus triggering the auctioneer company’s termination right and excusing it from performance.  The court reached this conclusion by interpreting the common meaning of the words “natural disaster,”[16] the intent of the parties,[17] and the description of the COVID-19 pandemic by the relevant government proclamations.[18]

DELAWARE AND TEXAS CASE LAW

Similar to the JN Contemporary Art case, both Delaware and Texas courts have been interpreting force majeure provisions more broadly to include unenumerated events, In AB Stable VIII LLC v. Maps Hotels and Resorts One LLC,[19] for instance, the Court of Chancery of Delaware held that the COVID-19 pandemic constituted a “calamity,” thereby invoking an exception to the material adverse event provision of a purchase and sale agreement.  Looking at the plain meaning of the word “calamity”, the court reasoned that “a vernacular definition of ‘calamity’ is ‘a serious accident or bad event or bad event causing damage or suffering’ . . . The COVID-19 pandemic fits within the plain meaning of the term ‘calamity.’ Millions have endured economic disruptions, become sick, or died from the pandemic.”[20]  The court also took care to note that the nature of the material adverse event definition was generally seller-friendly:  “Consistent with the allocation of systemic risk to Buyer, the generally seller-friendly nature of the MAE definition supports interpreting the exception for ‘calamities’ as including pandemic risk.  To interpret the term narrowly would cut against the flow of the definition.”[21]  Further, the court struck down the buyer’s argument that the purchase and sale agreement should have expressly referenced pandemics:  “It is possible to reject the proposition that general terms like ‘calamity,’ ‘natural disaster,’ ‘Act of God,’ or ‘force majeure’ never can encompass pandemic risk because a meaningful number of agreements make explicit connections among these terms.  The fact that the Sale Agreement omitted an express reference to ‘pandemics,’ is therefore not dispositive, providing an additional reason to reject Buyer’s argument.”[22]

In Texas, the U.S. District Court for the Southern District of Texas in Easom v. US Well Services, Inc.[23] interpreted the definition in the WARN Act of “natural disaster” broadly to include the COVID-19 pandemic. Citing  (i) Black’s Law Dictionary, which defines “disaster” as a “calamity; a catastrophic emergency,” (ii) the Oxford English Dictionary, which defines “disaster” as a “natural event that causes great damage or loss of life,”[24] and (iii) the broad, if unspecific, statutory language chosen by Congress, the court determined that the WARN Act does not exclude a virus outbreak from the definition of a natural disaster.”[25]

CONCLUSION

While applicable case law is admittedly limited at this point in time, some trends have begun to develop.  As recent court cases have illustrated, force majeure and similar clauses may very well be interpreted to permit a party’s nonperformance as a result of the COVID-19 pandemic, even if that clause did not specifically enumerate “pandemic” as a force majeure or similar event.  At present, courts have found that the COVID-19 pandemic constitutes a “natural disaster”[26] as well as a “calamity.”[27]  On the other hand, courts have been less willing to find that the COVID-19 pandemic triggers the applicability of the doctrines of impossibility and frustration of purpose.[28]  Over the coming months, COVID-19 case law will continue to develop and will be a source of guidance, as well as caution, for parties who wish to be excused from, or enforce, the performance of contractual obligations.

For more information or for advice specific to your contractual relationships, please contact Amy Kearney at [email protected].

This correspondence should not be construed as legal advice or legal opinion on any specific facts or circumstances.  The contents are for general informational purposes only, and you are urged to consult a lawyer concerning your own situation and legal questions.

[1] 2020 WL 7137817 (N.Y. Sup. Ct. Dec. 3, 2020).

[3] Id. at *4.

[4] Id.

[5] Id. at *2 (internal citations omitted).

[6] 2020 WL 7315470 (N.Y. Sup. Ct. Dec. 9, 2020).

[7] Id. at *4.

[8] 2021 WL 861121 (S.D.N.Y. March 8, 2021).

[9] Id. at *3.

[10] Id.

[11] Id. (internal citations omitted).

[12] Id. at *10.

[13] 2020 WL 7405262 (S.D.N.Y. Dec. 16, 2020).

[14] Id. at *8.

[15] Id. at *2 (emphasis added).

[16] Id. at *7 (“Black’s Law Dictionary defines ‘natural’ as ‘[b]rought about by nature as opposed to artificial means,’ and ‘disaster’ as ‘[a] calamity; a catastrophic emergency.’ Natural, Disaster, Black’s Law Dictionary [11th ed. 2019]. The Oxford English Dictionary likewise defines a ‘natural disaster’ as ‘[a] natural event that causes great damage or loss of life such as a flood, earthquake, or hurricane.’ By any measure, the COVID-19 pandemic fits those definitions.’”)

[17] Id. (“Moreover, a pandemic requiring the cessation of normal business activity is the type of ‘circumstance’ beyond the parties’ control that was envisioned by the Termination Provision. The exemplar events listed in Paragraph 12(a) include not only environmental calamities events such as floods or fires, but also widespread social and economic disruptions such as ‘general strike[s],’ ‘war,’ ‘chemical contamination,’ and ‘terrorist attack.’”)

[18] Id. (“Governor Cuomo’s Executive Orders declared a ‘State disaster emergency.’ And, on March 20, the Federal Emergency Management Agency issued a ‘major disaster declaration’ under the Robert T. Stafford Disaster Relief and Emergency Assistance Act’”).

[19] 2020 WL 7024929 (Del. Ch. Nov. 30, 2020).

[20] Id. at *57.

[21] Id. at *63.

[22] Id. at *64 (emphasis added).

[23] 2021 WL 520712 (S.D. Tex. Feb. 10, 2021).

[24] Id. at *7

[25] Id. at *8.

[26] See, e.g., JN Contemporary Art LLC v. Phillips Auctioneers LLC, 2020 WL 7405262 (S.D.N.Y. Dec. 16, 2020) (holding that the COVID-19 pandemic constitutes a natural disaster, thereby triggering the contract’s termination clause), and Easom v. US Well Services, Inc.2021 WL 520712 (S.D. Tex. Feb. 10, 2021) (holding that the COVID-19 pandemic constitutes a natural disaster, thereby triggering the WARN Act’s natural disaster exception).

[27] See, e.g., AB Stable VIII LLC v. Maps Hotels and Resorts One LLC, 2020 WL 7024929 (Del. Ch. Nov. 30, 2020) (holding that the COVID-19 pandemic constitutes a calamity, thereby invoking an exception to the material adverse event provision of a purchase and sale agreement).

[28] See, e.g., 1140 Broadway LLC v. Bold Food, LLC, 2020 WL 7137817 (N.Y. Sup. Ct. Dec. 3, 2020), 35 East 75th Street Corp. v. Christian Louboutin L.L.C., 2020 WL 7315470 (N.Y. Sup. Ct. Dec. 9, 2020), and The Gap Inc. v. Ponte Gadea New York LLC, 2021 WL 861121 (S.D.N.Y. March 8, 2021).