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Contact: Andrew Comer, [email protected] The outbreak of COVID-19 (i.e. the Coronavirus) – now . . . officially a pandemic – is posing significant challenges for governments and the private sector, around the globe. We are being bombarded with news stories about rising rates of infection, state-imposed geographic quarantines, stock market volatility and the disruption COVID-19 is causing to industry sectors, supply and demand chains, and global trade and commerce. We are being bombarded with news stories about rising rates of infection, state-imposed geographic quarantines, stock market volatility and the disruption COVID-19 is causing to industry sectors, supply and demand chains, and global trade and commerce. With growing uncertainty around the financial and economic impact of COVID-19, parties to commercial contracts could foreseeably argue the outbreak gives them the right to avoid further performance under the contract. In this article, we look at the key legal bases for arguing COVID-19 excuses a contracting party’s non-performance. We also set out other legal risks presented by COVID-19, and some general recommendations, in relation to commercial contracts.   Legal bases for arguing COVID-19 excuses non-performance 1.Force majeure A “Force majeure” clause will generally excuse a party from continued performance under a contract when a “force majeure” event occurs. In some cases, it will give a party the right to cancel the contract. The contract itself will define what is (and isn’t) a “force majeure” event. It is typically an event beyond a party’s control or contemplation that prevents that party from performing its contractual obligations – common examples include an “Act of God”, “natural disaster”, “terrorism” and “war”. With COVID-19, an affected party would need to show that the outbreak qualifies as a “force majeure” event under the contract and that it made continued performance impracticable or impossible. Whether COVID-19 amounts to a “force majeure” event depends on the wording of the contract. For example, an affected party might have arguable grounds for non-performance if “force majeure” includes the terms ‘epidemic’, ‘disease’, ‘quarantine situation’, a ‘public health emergency’ or ‘biological contamination’. Separately, if “force majeure” includes the term ‘act of government’, a geographic lockdown would arguably be covered and excuse non-performance.  However, consider the scenario where “force majeure” is defined simply as “an event beyond the parties’ control or contemplation” – if affected parties entered into a contract after COVID-19 hit the mainstream media, can they justifiably say that COVID-19 was beyond their contemplation? 2.Frustration If a contract doesn’t contain a “force majeure” clause, or if the “force majeure” clause itself isn’t broad enough to cover COVID-19, an affected party could argue that the contract has become “frustrated”. “Frustration” is a common law principle that excuses non-performance. In general terms, the affected party must show that a reasonably unforeseeable event has occurred, which significantly changes the relationship between the parties, and which makes continued performance under the contract more onerous or impossible. Arguable grounds for a “frustration” claim might exist if a party can show that COVID-19 compromised a specific or essential element of the contract (e.g. quarantine restrictions have made a unique performance method or performance at a specific time impossible; a key person becomes unavailable due to COVID-19-induced sickness). Temporary changes are unlikely to amount to the contract becoming “frustrated”, even in the context of an epidemic – for example, in 2004 a Hong Kong court ruled that a 24-month lease wasn’t “frustrated” when a mandatory, 10-day SARS-related isolation order was imposed on the tenant. Note that a separate basis for a “frustration” claim might exist where a change in law occurs, making the contract illegal (e.g. a prohibition on manufacturing operations in a specific geographic area). 3.Material adverse change / event Contracts with “material adverse change” or “material adverse event” (“MAC”) clauses in them typically also provide suspension or termination rights. Broadly speaking, a “MAC” is any event that could reasonably be expected to have a material adverse impact on a party’s continued performance under a contract or on that party’s financial performance or position. Whether or not COVID-19 amounts to a “MAC”, excusing non-performance, again depends on the wording of the contract. Other legal risks that COVID-19 presents for commercial contracts COVID-19 presents a number of other legal risks for commercial contracts. A high-level overview of these risks is set out below. We recommend you review your commercial contracts to assess these risks: • Event of default: Is non-performance under the contract an “event of default”?  “Event of default” clauses typically give a party enforceable rights against the other party, if an “event of default” occurs that affects that other party (e.g. the right for a shareholder, under a shareholders’ agreement, to buy the shares of another insolvent shareholder; the right for a bank, under a facility agreement, to require accelerated repayments if the borrower continually misses scheduled payments). The contract itself will define what is (and isn’t) an “event of default”. With COVID-19, an interesting question is whether self-imposed isolation, preventing further performance, would be an “event of default” under a contract. • Notices: Does the contract require notice(s) to be given and, if yes, what is the required content of the notice(s), who must the notice(s) be given to and by when?  For example, most “force majeure” or “MAC” clauses require an affected party to follow strict notice requirements.  Failure to do so could invalidate an affected party’s claim. • Guarantees, indemnities: Is there a risk that any guarantee or indemnity could be enforced by the other party(ies) and, if yes, what are the financial implications of that? • Warranties, representations, undertakings, covenants: What is the risk of any of these forms of contractual promise becoming untrue or incapable of performance, due to COVID-19? What are the financial implications? • Termination rights: Does the outbreak trigger any termination rights for the parties under the contract? • Insurance: Does your insurance provide adequate cover for losses, arising out of non-performance, due to COVID-19? We recommend you check the timeframes within with any claims must be made and that you consult your insurance broker in this regard. General recommendations regarding commercial contracts We also make the following general recommendations regarding your commercial contracts: • Communication: Maintain open lines of communication with your contractual counterparties, to manage expectations and reach agreed compromises around ongoing performance. • Awareness of governmental decisions, administrative actions: Stay up-to-date with any government decisions or administrative actions that might affect your business and the industry in which it operates. • Contract negotiations: With any contracts you are negotiating, now and in the future, include express reference to such terms as ‘infection’, ‘disease’, ‘pandemic’, ‘epidemic’ etc in “force majeure” clauses. • Mitigation of losses: If you are seeking to rely on “force majeure” or “MAC” clauses in your contracts, ensure you are taking appropriate steps to mitigate your losses from the impact of COVID-19. • Legal advice: Seek specialist legal advice to help you determine your rights and obligations under your commercial contracts. The above overview has been provided for general information purposes only. It is not, nor is it intended to be treated as, legal advice, an exhaustive list of all possible legal bases to excuse non-performance under a commercial contract or an exhaustive list of all legal risks COVID-19 presents for commercial contracts, and is subject to change without notice.

At 11:59 pm on Wednesday 25 March 2020, the New Zealand COVID-19-alert level will move to its . . . highest level – level 4. From then on, New Zealand will go into an unprecedented, military-style lockdown for at least one month.  Mandatory self-isolation will apply.  Educational facilities and all non-essential businesses and services will close.  Only air travel, and public travel, for essential businesses and services will be allowed. At this stage the net effect on the New Zealand economy, of COVID-19 and the Government’s attempts (social and economic) to quell the outbreak, remains unclear. Boards of directors across the country are now more critical than ever to ensuring their companies’ continued survival.  Calm heads, and measured approaches, are what is required. In this article, we take a quick look at some of the key considerations for boards in this time of crisis.   KEY CONSIDERATIONS FOR BOARDS OF DIRECTORS   1.        COMMUNICATION Ongoing, open and honest communication is critical: Management:  The board of directors (‘Board’) needs to work closely with, and support, management.  Management will be under significant pressure at this time, and so engagement with management needs to be pragmatic but empathetic.  The Board’s expectations should also be reasonable in the circumstances and clearly communicated. General manager/CEO:  The Board should require rolling operational and financial updates from the general manager/CEO.  The situation is evolving quickly, to the point where New Zealand will soon be in lockdown – timely reports will allow the Board to understand what effect COVID-19 is having on the company and what strategic actions need to be taken and when. Employees, financiers, contracting parties:  Boards should be telling management to keep the company’s various stakeholder groups (i.e. employees, financiers, contracting parties) up to date with developments.  External communications need to be transparent and factual.  Internal communications, with employees, need to be sensitive but realistic.   2.        GOVERNMENT STIMULUS PACKAGE – WAGE SUBSIDIES FOR BUSINESS Boards should be applying for relief under the wage subsidy and Business Finance Guarantee Scheme components of the Government’s COVID-19 economic response package: Wage subsidies Wage subsidies: Conditional wage subsidies are available for all businesses/employers that are significantly impacted by COVID-19 and are struggling to retain employees as a result. Amount: At the time of writing, the subsidy is $585.80 per week for a full-time employee (20 hrs or more) or $350.00 per week for a part-time employee (less than 20 hrs). The payment is made as a lump sum for a period covering 12 weeks. There is no maximum amount of assistance a business can receive. Applications for the subsidy can be made until approximately mid-June 2020. How to apply: Applications can be made through an online portal on the “Work and Income” website www.workandincome.govt.nz. The Ministry of Social Development will aim to make first payments no later than five working days from when applications are received. Business Finance Guarantee Scheme At the time of writing, the Government has just announced a $6.25b “Business Finance Guarantee Scheme”.  It will provide short-term credit to solvent small and medium-sized firms affected by the outbreak.  The package will include a six-month principal and interest payment holiday for SME customers whose incomes have been affected.  The scheme will include a limit of $500,000 per loan and will apply to firms with a turnover of between $250,000 and $80 million per annum.  The loans will be for a maximum of three years.  Specific details of the scheme are still being finalised.   3.        BUSINESS CONTINUITY AND CRISIS MANAGEMENT Business continuity and crisis management:  The Board and management should be reviewing and actioning the company’s business continuity and crisis management plans, and continually assessing whether the plans are adequate, given the circumstances.  All available third party sources of assistance should be contacted, including government (as mentioned above), shareholders and the wider stakeholder pool.  Also, crisis-response roles for directors and management are critical – the Board should be sharing these with management, now. Areas of investigation/analysis:  Management should be taking steps to manage COVID-19-related risk to the business’ operations, and either the Board (or the company’s audit or risk committee) should be monitoring those steps.  This requires a constant re-assessment and analysis of risk and respective processes and controls.  Key areas to focus on and address include: the company’s liquidity and financing needs, immediately and in the long-term; the extent of risk exposure under current financing covenants; impact of employee disruption and absence from work, and remote staffing needs; impact on compliance requirements, IT systems and cybersecurity; impact of supply chain disruption on operations and office/plant closures; supply chain resilience and the scope of alternative customer and supplier pools; exposure to liability under commercial contracts and review of key terms, including ‘force majeure’, ‘event of default’ and ‘termination’;  and emergency succession planning to address general manager/CEO replacement, board continuity and quorum contingencies.   4.        HEALTH AND SAFETY Health and Safety at Work Act:  Directors and management have health and safety obligations to staff under the Health and Safety at Work Act 2015.  Directors can be held personally liable if they fail to ensure the company is complying with those obligations.  Compliance is critical.  The Board should seek legal advice on the company’s health and safety obligations, particularly in the context of COVID-19. Employee well-being:  Employee well-being, in the context of COVID-19, is paramount.  Once the lockdown ends, the Board needs management to keep it up-to-date with all steps being taken to minimise the risk of transmission and preserve employees’ health and safety.  Also, employees will want to know that their work environment is safe and that they’re being cared for – once the lockdown is over, the Board should require management to let all staff know what protective measures are being taken to ensure their safety.   5.        FORECASTS, FINANCIAL POSITION AND STRUCTURE Short-term forecasts:  The Board should ensure management are preparing ‘good-case’/’bad-case’, short-term (i.e. quarterly) business forecasts and an action plan for each forecast.  Performance should be tracked closely against forecasts, so the Board can decide what strategic action is needed. Debt and creditors:  Many companies will face liquidity challenges as a result of COVID-19 – declining revenues and cashflows will make it harder to meet debt covenant obligations.  In these circumstances, the focus of directors’ duties quickly shifts to the duty to act in the best interests of creditors (discussed below).  The Board should be engaging with creditors (e.g. financiers, landlords) with a view to obtaining relief from strict repayment obligations. Restructuring:  If funding, or funding relief, isn’t readily available, and the threat of insolvency is real, the Board (in conjunction with management and shareholders) should consider whether a restructuring of the business’s capital structure or operations might help stem losses.  Converting business debt to equity, segregating business divisions, selling distressed assets, implementing redundancy programmes, instigating other OPEX-reducing measures, or winding up divisions or subsidiaries, are some possible courses of action which could improve cash flow and/or deliver cost savings.  Placing the company into voluntary administration or liquidation should also be considered.  The Board should ensure financial, tax, legal and restructuring advisors are engaged early to advise.   6.        OPPORTUNITY FROM ADVERSITY Acquisition opportunities:  COVID-19 might create investment opportunities for companies with targeted acquisition strategies and readily accessible funding.   Motivated buyers might take advantage of distressed companies that are offloading assets or divisions.  Financially hampered “Code companies” (i.e. companies that are either listed on the stock exchange or have 50 or more shareholders and at least $30m in assets or $15m in revenue) might become attractive takeover targets under the Takeovers Code. Advisors and strategies:  The Board should ensure it has a trusted group of financial and legal advisors and maintains frequent contact with primary shareholders and stakeholders.  It should also be continually assessing strategies (from how to respond to a formal takeover offer to deciding whether to pursue acquisition opportunities).   7.        DIRECTORS’ DUTIES Directors need to be mindful of their ongoing statutory duties under the Companies Act 1993.  Breach of these duties can result in personal liability for directors: Reckless trading:  With COVID-19, the key duty for directors will be ensuring the company doesn’t carry on in a manner likely to create a substantial risk of loss to the company’s creditors – that is, directors don’t allow the company to trade recklessly.  Directors of companies that have been financially impacted by COVID-19 run the risk of breaching this duty.  Board members should also be mindful of their duty not to allow the company to incur obligations they don’t reasonably believe the company can perform. Active engagement:  It is critical for the Board to remain fully engaged and to maintain oversight of business operations during the COVID-19 crisis.  The Board should naturally be questioning management’s decisions and taking advice from advisors.  This approach should hopefully allow the Board to gauge whether they are properly discharging their statutory duties.   8.        MEETINGS Virtual meetings:  With the Government-imposed lockdown, the Board must consider whether all board and shareholder meetings, for the foreseeable future, can be either delayed or held virtually (or virtually and in person, if required).  The Board should check: (i) that the company’s constitution permits virtual meetings and, if not, recommend an appropriate amendment be made; and (ii) that the company has the technological capabilities available to it to facilitate virtual meetings. Electronic signatures:  The Board also needs to be mindful of laws concerning the use of electronic signatures.  The Companies Office, for example, has rejected documents where electronic signatures don’t comply with legal requirements under the Contract and Commercial Law Act 2017 (see https://companies-register.companiesoffice.govt.nz/help-centre/managing-your-online-account/filing-documents-with-electronic-signatures/).  We recommend Boards seek legal advice in this regard.  Specific “e-signing” software may be required.   9.        POST-SCRIPT Post-COVID-19 analysis:  Once the dust has settled, and the fallout from COVID-19 is clearer, the Board and management should assess what key lessons have been learned from COVID-19 and whether any change in work policies or approaches adopted during the outbreak (e.g. work-from-home policies) might lead to operational efficiencies in the future.  The Board should also be involved in an appraisal of the way in which the crisis was handled, by the Board and by management.

Introducing

Andrew Comer

Partner

 

Legal expertise in the business, finance and corporate fields

We have been providing legal services for our clients since 1912. With our expertise in the business, finance and corporate fields together with our dispute resolution team, we provide solutions for our clients.

Our firm widely advises on securities law, securities enforcement, insolvency, establishing business and personal asset structures, and business strategy.

In addition to servicing corporate and commercial clients, we have extensive experience providing full-service legal advice for both onshore and offshore clients. Through our connection with the Consul Group structure and Migration Partners, we can also help you with banking solutions and migration services.