Frustration and force majeure

Posted in Contractual and counter-party Dispute resolution and litigation

A common question from companies since the referendum has been “What is the impact, if any, of the EU referendum result on existing contracts?” While we have previously looked at whether Brexit would trigger material adverse change clauses, it is also possible that parties might seek to rely on the doctrine of frustration or a force majeure clause in circumstances where they can claim that a contract has become impossible to perform as a result of Brexit.

According to Lord Simon in National Carriers Ltd v Panalpina (Northern) Ltd [1981] AC 675, a contract will be frustrated where an event occurs after the formation of the contract not due to the fault of either party “which so significantly changes the nature (not merely the expense or onerousness) of the outstanding contractual rights and/or obligations from what the parties could reasonably have contemplated at the time of its execution that it would be unjust to hold them to the literal sense of its stipulations in the new circumstances…”. In such cases, the contract will be at an end and the parties discharged from any further obligations. Examples of frustration in previous cases include instances of the destruction of the subject matter of the contract by fire, or the requisition or expropriation of the subject matter of a contract by a government. Perhaps of greater relevance to Brexit, supervening illegality could also amount to an example of frustration.

Although the doctrine of frustration has long been an established part of English contract law, there have been relatively few recent cases on the subject. One reason for this is that commercial parties have for many years sought greater contractual certainty by including express termination rights in agreements by virtue of material adverse change or force majeure clauses. Force majeure clauses generally operate so as to excuse performance of particular contractual obligations on the happening of certain specified events beyond a party’s control. Their effect is therefore usually more limited than frustration. However, as with material adverse change clauses as described above, whether a force majeure clause would be triggered in light of Brexit will depend on the construction of the relevant clause. It is unlikely that the fact of Brexit in and of itself would trigger a force majeure clause absent more specific wording, it is possible that legal changes as a consequence of Brexit, such as those described below in the context of frustration, might.

The second reason why there have been few frustration cases in recent years is that the doctrine is a narrow one. In particular, the Courts will not allow a party to use it merely to escape a bad bargain. Similarly, a contract will not be frustrated merely because performance has become more expensive or changes to economic conditions. Rather for a frustration argument to succeed, it would need to be established that an event has occurred of sufficient seriousness that it renders performance impossible or the obligation fundamentally or radically different from what was agreed to when the contract was entered into.

Accordingly, if there is doubt that material adverse change or force majeure clauses could be successfully invoked on the basis of Brexit, there must be equal, if not greater, doubt that frustration could come to the aid of a party looking for grounds to terminate existing contractual relations following Brexit. 

An example of the type of contracts which might be susceptible to a frustration argument in the context of financial institutions are contracts which depend on continued EU-wide licence  or regime to operate throughout the EU, such as passporting rights. Should Brexit result in passporting rights being lost, it might be argued that an agreement which depended on the party’s legal right to operate throughout the EU (and the UK) and which could therefore no longer be performed had been frustrated. Alternatively, it might be possible in such circumstances that performance could be excused by virtue of a force majeure provision. Similarly, should changes to visa rules mean that an employee or consultant is prohibited from working and thereby cannot perform their obligations under the contract, it might be possible to argue, amongst other things, that the contract has been frustrated.

Overall, frustration is a narrow doctrine and in many cases it is unlikely that an argument that a contract has been frustrated as a result of Brexit will be an easy one. Nevertheless, it is important that companies are aware of the possibility in appropriate circumstances and moreover, that depending on the outcome of negotiations and the form that Brexit takes, counterparties may try to raise arguments of frustration (as well as force majeure or MAC clauses) to try and get out of (or as a trigger for renegotiating) an existing bargain. Companies should include these possibilities as part of their mapping of Brexit risks and opportunities.

A longer version of this piece appeared in in the Autumn 2016 edition of the LexisNexis Banking and Financial Services MiniMag, Brexit – what might be the contractual consequences?

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