The Effects of COVID-19 on International Contracts

How to handle the case in which a supplier or customer within an international supply chain defaults on a contract? When can Force Majeure be invoked? What are the consequences on contracts? How to minimize risks to the company’s business?

To answer these questions, it is necessary to analyze the content of the contracts and understand what the law applicable to the individual agreements provides for.

Our experts explain how to manage the effects of the Covid-19 pandemic on industrial and commercial activities and share operational advice for managing international contracts during the emergency.

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Spain

Update on March 17, 2020

RD-Law 11/2020 has amended Article 40 of Royal Decree-Law 8/2020 of 17 March with regard to “Extraordinary measures applicable to legal entities governed by private law”. Here a brief summary of the 9 most relevant aspects:

  • Although the Bylaws did not provide for it, during the alarm period: (i) the meetings of the governing and administrative bodies of the companies may be held by videoconference or telephone conference provided that the necessary means are available, the Secretary recognises the identity of those attending and this is recorded in the minutes; (ii) the provisions of the previous paragraph shall also apply to meetings of shareholders; (iii) the resolutions of the governing and administrative bodies may be adopted by written vote without a meeting, provided that the Chairman so decides or at least two of the members of the body so request.
  • The obligation to formulate the annual accounts and other documents required by company law is suspended until the end of the State of Alert, and the period resumes for a further three months from that date (in any case, both the formulation and the verification of the accounts may take place during the State of Alert).
  • In the event that the accounts have already been formulated  in the previous financial year, the period for accounting verification, whether the audit is mandatory or voluntary, shall be understood to be extended by two months from the end of the State of Alarm.
  • The Ordinary General Meeting to approve the accounts will necessarily meet within the first three months following the end of the period for formulating the annual accounts.
  • The Administrative Body is authorised to modify the place and time of the meeting already called or even to revoke the agreement to call the meeting; in the latter case, the new call must be made within the month following the end of the State of Alarm.
  • Companies that have already drawn up their annual accounts and call the Ordinary General Meeting from the date this rule comes into force may replace the proposal for the application of the result, with the justification that must be provided by the Administrative Body in this respect and must be accompanied, where appropriate, by a letter from the auditor stating that he would not have modified his audit opinion if he had known of the new proposal when it was signed. The Administrative Body may withdraw the proposal for the application of the result from the Agenda (under the terms and conditions detailed in the regulation itself).
  • The attendance of a Public Notary to record the Minutes of the meeting may use remote communication means in terms that guarantee the fulfilment of his notarial function.
  • The right of separation may not be exercised, even in the event of circumstances arising, until the end of the State of Alarm.
  • The deadlines for promoting the dissolution of the company, when the legal or statutory causes foreseen in this respect concur, are suspended until the end of the State of Alarm.  If the legal or statutory cause has occurred during the period of the State of Alarm, the Directors will not be liable for the corporate debts incurred during that period.
How are Force Majeure and Fortuitous Event regulated in Spain?

The principle of freedom of covenants referred to in art. 1255 of the Civil Code allows the parties signing the contract to agree (i) which scenarios and situations should be determined as constituting cases of Force Majeure and/or fortuitous event and (ii) what should be the consequences of those situations.

Should the Contract not expressly regulate those scenarios, then the provisions of the Civil Code must apply. Although  in the Spanish Civil Code there are many references to both figures, Force majeure and Fortuitous event, the fundamental precept that applies is article 1,105 which establishes:

“Outside of the cases expressly mentioned by the law and those in which the obligation states so, no one is liable for those events that could not have previously been foreseen or that, foreseen, were inevitable”

These unpredictable or inevitable events, in the terminology of the Civil Code are those that are usually called as cases of Force Majeure or Fortuitous even.

The jurisprudence has required for the application of art. 1,105 the following requirements:

  • It must be an event not attributable to the party liable to fulfil the obligation (the debtor).
  • It must be unpredictable, or if it is predictable, it must be inevitable.
  • The event must be caused by and have as a consequence the breach of the obligation, this means there must be a causal link.

As stated in the doctrine of the Supreme Court, Force Majeure means an unexpected event that, even if it could be avoided, could not be resisted. That is, what cannot be prevented or in the case it can be prevented, cannot be avoidable or resisted, and this without the intervention of any fault of the agent as it comes from an event not foreseen or unpredictable, insurmountable and inevitable.

The distinction between Force Majeure and Fortuitous Case does not appear in the Spanish Civil Code but the jurisprudence has defined it as follows: the Fortuitous Case would be the unpredictable event, and the Force Majeure the inevitable; in short, a matter of graduation, but in both cases, with application of article 1,105 and without significance for the purposes of this note.

In any case, the occurrence of an event that can be classified as Force Majeure or Fortuitous event directly affects the core of the contract, that is, the fulfillment and enforceability of the obligations and their consequences could be:

  • They can cause the total and definitive impossibility of complying with the obligations, freeing the debtor from its obligations,
  • They may cause partial inability to comply; in this case the debtor would only be released in the part that is impossible to fulfill, but would still be bound by the part that can be carried out.
  • They may cause temporary impossibility to comply; then the debtor would be released from the responsibility for default as long as the exceptional situation persists.

Therefore and in conclusion,

(i) If the contract includes Force Majeure or Fortuitous event clauses, the contractual text must be in place to determine a) if the event can be characterized as such and b) what are its consequences. It is frequent in the contractual clauses regulating Force Majeure to foresee that if it subsists for a certain period of time, any of the contracting parties may terminate the contract. The following is a broad standard clause model without blocked number :

“For the purposes of this Agreement,” Force Majeure “means any act or fact that is unforeseeable or that, if foreseeable, is inevitable. The Parties agree that the following events shall constitute, including but not limited to, cases of force majeure: (i) natural disasters such as earthquakes or volcanic eruptions, (ii) war, riots, civil revolt, acts constituting rebellion or revolution, terrorist acts , (iii) actions or orders of any government or authority (including denial or revocation of any license or permit), (iv) fire, explosion, floods, or exceptionally adverse weather circumstances, (v) failure in the electrical supply or in the telecommunication lines, (vi) attacks, theft, intentionally caused damages, general strike or strike of a specific sector, excluding specific strikes of a company, lockout (viii) declaration of a state of siege of exception or alarm due to epidemics, pandemics or in general situations of health risk for the population.”

(ii) If the contract does not include the aforementioned clauses, article 1,105 of the Spanish Civil Code will apply and if the case meets the requirements listed above, then it will have the potential to free the debtor from complying fully or partially, definitively or temporarily with the obligation.

Is COVID-19 a possible event of Force Majeure or Fortuitous Event in Spain?

Once the Force Majeure concept has been defined, we will now analyze whether the Covid 19 can be considered as a suitable case in this figure and with what consequences.

Again we have to consider the double scenario: (i) that the contract regulates cases of Force Majeure or Fortuitous Event, and foresees their consequences or (ii)  that the Contract does not regulate any case of Force Majeure or Acts of God.

In case of contract that regulates the Force Majeure and Acts of God events, there are still several situations:

  • Contracts that expressly regulate pandemics and health epidemics as cases of Force Majeure. Of course, in our experience it is not the usual situation. But if it were, as in the example above, the COVID 19 scenario that we are analyzing would undoubtedly constitute a case of Force Majeure, specifically foreseen and with the contractual consequences that the clause itself regulates.
  • Contracts in which the Force Majeure clause identifies a plurality of assumptions but does not make express reference to situations of extreme alarm or health emergency, such as the one we are experiencing, but includes some mention that such a list of cases are not limited. In such a case, it should be assessed how and to what extent the health emergency is affecting the contractual obligation in question in order to conclude if an integrative interpretation of the contract allows the consideration as COVID 19 as a Force Majeure event, although the contractual text did not expressly refer to pandemics or epidemics.

For example, a contractual obligation borne by one party that involves the supply to another party of non-essential items, in a scenario in which the mobility of people has been restricted by the authority, would easily and logically qualify as Force Majeure despite not having been the object of a specific reference in the contractual text, through an integrative interpretation of the contract.

  • Contracts with a blocked number  definition of cases of Force Majeure without including pandemics or epidemics. It would be harder to defend the case when the assumptions identified in the contract as Force Majeure, constitute a blocked number and do not include the reference of “or other similar” or that of “included but not limited to.”

This assumption, in our opinion, would be similar to the case in which the contract does not include any specific regulation for Force Majeure. In both, then, article 1,105 of the Spanish Civil Code previously transcribed would apply.

  • Contracts without reference to Force Majeure

We are already in the field of article 1,105 Spanish Civil Code; in the case of COVID 19, there is no doubt that the first two applicability requirements of the article are met: it is foreign to the contractual part that does not or cannot comply; and it is an unpredictable and inevitable event.

It must therefore be analyzed whether the third requirement is met: the causal link between the epidemic and the breach of the obligation.

As is obvious, there is no generalization and an individualized study of the contract in question and of the unfulfilled obligation is required, within the framework of the epidemic scenario that we are analyzing.

Returning to the previous example, that of the supply of non-essential items affected by the restrictive provisions on mobility, there would be no doubt that article 1,105 would be applicable and that the obligor to provide the supply obligation would not be required to comply with it.

Now, the casuistry is vast and exceeds the intention of this article; consider leases for business premises that could be closed for weeks or months. How does the scenario affect the obligation to pay the rent? The tenant is occupying the premises but is not being able to exploit it. It does not seem debatable that while he remains in possession of the property, exploiting it or not, he must pay the rent; But, will it be possible to understand modifiable clauses of the contract so that the lessee, prevented from exploiting, can resolve in advance? Or those of length of notice? Who should suffer the consequences, lessee or landlord? Or a contract for the supply of perishable products between a manufacturer and a distributor that will be irretrievably lost by the order to close establishments open to the public. Who of the two should be released from his obligation and suffer the damage? Or equally and equally distributed?

It is all these questions that will require a meticulous and detailed study of the contract and the concurrent circumstances and that we fear very much will flood the Spanish courts in the coming months.

In any case, the conclusion is that COVID 19 undoubtedly supposes an event of Force Majeure (both if the contract expressly regulates Force Majeure or not) that in many contractual relationships will result in the release of the contractor’s compliance obligations. forced to comply and prevented or hindered by the pandemic. Provided, of course, that there is a causal link between the pandemic and non-compliance.

The effects of COVID-19 on Lease Agreements of Premises and Offices

What are the effects on leases of offices or premises that have been forced to close? Go to this link for an in-depth analysis of the situation

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