The coronavirus (“COVID-19”) outbreak, declared by the World Health Organization as a global pandemic, is having far-reaching consequences for businesses. The outbreak has led the South African government to declare a national state of disaster and to adopt stringent precautionary measures to contain the outbreak. A nationwide lockdown has been implemented (“SA Lockdown”). In terms of regulations published under the Disaster Management Act, 2002 (“DMA Regulations”), only certain businesses recognised as providing “essential goods and services” may be open and operational during the SA Lockdown.
From an M&A/corporate and commercial perspective, the adverse effect has been significant. Deals not yet been signed are being postponed or falling through entirely and those that have been signed will likely face implementation delays. Moreover, obligations under certain contracts are becoming impossible to perform. A myriad of complex commercial legal questions have thus become front of mind for most South African businesses, especially those which have not been designated as “essential” by the DMA Regulations.
This note highlights a selection of key legal issues and practical considerations arising in an M&A/corporate and commercial context in light of the current crisis.
Contractual Non-Performance during the COVID-19 Outbreak
As mentioned above, the SA Lockdown and the DMA Regulations may result in companies which conduct non-essential business operations potentially being unable to perform under several of their commercial agreements. As a point of departure, in the interest of ensuring that their contractual relationships survive the COVID-19 pandemic, it may be preferable for the parties to begin by attempting to negotiate and agree a form of temporary relief that would be mutually beneficial.
The principles below set out the key legal issues to consider in relation to contractual non-performance during the COVID-19 outbreak.
Supervening Impossibility of Performance and Force Majeure Clauses
Ordinarily, where a party fails to perform material obligations under a contract, that party will be in breach. Generally speaking, this will entitle the counter-party to certain remedies for breach of contract, including specific performance and damages or cancellation and damages.
However, if the failure to perform is as a result of performance having become impossible, the common law principle of supervening impossibility of performance may absolve the non-performing party of liability.
There are two requirements for reliance on the principle of supervening impossibility. Firstly, performance must have become objectively impossible. This means that the circumstances must be such that no one could tender performance, and not just the particular party (i.e. impossibility must be absolute, not relative). Importantly, the mere fact that performance has become difficult or expensive does not mean that it is objectively impossible. Secondly, the impossibility of performance must not have been avoidable or reasonably foreseeable by the party attempting to invoke the principle of supervening impossibility.1
Supervening impossibility of performance is generally intended to cover a “force majeure” event or “vis maior” (i.e. a superior force or “act of God”) which has rendered performance impossible. These events typically include wars, strikes, riots, natural disasters, floods, earthquakes, volcanos amongst others. It may be that legislation being passed (or an act by the state) after the conclusion of the contract (such as the DMA Regulations and the SA Lockdown) which makes performance illegal would satisfy the requirements of supervening impossibility of performance. However, this will ultimately depend on the facts and circumstances of each case.
The effect of supervening impossibility of performance is that: (i) the debtor will be absolved from performing for so long as performance remains impossible; and (ii) the corresponding obligations of the counterparty will be extinguished. This means that the remedies for breach of contract (including cancellation) will not be available to the counterparty. However, if performance is suspended for so long that it is not reasonable for the creditor to continue with the contract, the creditor will be entitled to cancel the contract. The question as to what constitutes an unreasonably long period will depend on the nature of the contract and the surrounding circumstances.
Importantly, parties are entitled to contractually regulate impossibility of performance. This is typically done by way of a force majeure clause, which regulates the liability of the parties and the effect on the contract when an event or circumstance beyond the control of the parties prevents one or both parties from fulfilling their obligations under the contract. Force majeure clauses are generally inserted into an agreement to avoid any uncertainty as to whether a particular event would satisfy the requirements of supervening impossibility of performance under the common law.3 Typically, force majeure clauses would encompass at least those events which constitute force majeure events under the common law. However, parties to a contract can lawfully agree to vary the common law position by, for instance, including a broader (or narrower) category of potentially unforeseen events than would otherwise be covered under the common law as constituting force majeure events and/or by allowing the parties to terminate the agreement if impossibility of performance endures for any given period of time.4
The consequences of the above principles in light of the COVID-19 pandemic are as follows:
- as a first step, the parties should determine whether their agreement has a force majeure clause;
- if the agreement does not have a force majeure clause, reliance may be placed on the common law principle of supervening impossibility of performance, depending on the facts and circumstances. COVID-19 would most likely result in temporary or partial impossibility of performance. As such, both parties would be absolved from having to perform for so long as performance remains impossible and the counterparty could eventually have the right to cancel the agreement if performance is suspended for an unreasonably long period;
- if the agreement does have a force majeure clause, the language of the clause needs to be carefully considered in order to determine whether the COVID-19 pandemic and/or its effects (such as the SA Lockdown) are captured by that clause. Whilst it will ultimately depend on the exact wording of the force majeure clause, in our experience these clauses would typically be triggered by the effects of a pandemic such as COVID-19;
- if the COVID-19 pandemic and/or its effects are indeed captured by that clause (as would typically be the case), the parties must rely on the consequences set out in the agreement. This typically involves one party giving notice to the other party of its inability to perform and potentially allowing one or both parties to cancel the agreement in the event that the suspension of performance endures for a particular period of time; and
- if the force majeure clause is drafted in such a way that the COVID-19 pandemic and/or its effects are not covered, whether the parties could nevertheless rely on the common law is potentially more complex. Unless such an event is expressly excluded, the question one would need to consider is whether it can be argued that, by including a force majeure clause in their contract but not providing for a pandemic and/or its effects, the parties tacitly agreed to exclude such an event from triggering the clause. If it can be shown that they did tacitly agree to exclude such an event, then the parties would arguably not be able to seek relief in terms of the common law. Whether the parties did tacitly agree as such would depend on the nature of the contract the surrounding circumstances.5
Obtaining legal advice in this regard is important because an erroneous reliance on a force majeure clause could amount to repudiation of the contract, which would give the counterparty the right to: (i) elect to accept such repudiation; (ii) cancel the contract and claim damages; or (iii) reject the repudiation, hold the other party to its obligations under the contract and claim damages.
As regards any agreements which are currently being negotiated or which will be entered into in the future, each party should carefully consider their position in relation to any potential impossibility of performance in future and whether it would be in their interest to include a force majeure clause in the agreement. To the extent that a force majeure clause is included in an agreement, a party whose performance could become impossible in the future due to COVID-19 should ensure that express provision is made for the effects of any health pandemic, including, without limitation, COVID-19 or similar and any act of state related thereto, regardless of the fact that such pandemic was foreseeable. This would avoid any future uncertainty and/or potential litigation on the matter. The counterparty may wish to include its own protections in the force majeure clause in order to mitigate the adverse effects of non-performance.
Remission of Rental under Lease Agreements
Tenants who conduct non-essential businesses are prohibited by the DMA Regulations from carrying on their work at their usual business premises during the SA Lockdown. This begs the question of whether such tenants would be able to claim remission of rental for such period.
In this regard, the same principles set out above in relation to supervening impossibility of performance and force majeure clauses would apply. In our experience, force majeure clauses are rarely found in commercial lease agreements, which are usually lessor-friendly. Reliance will then have to be placed on the common law principle of supervening impossibility of performance, as explained above. The promulgation of regulations that make continued occupation of the premises impossible would generally constitute a force majeure event justifying remission of rental in terms of the common law.6 As such, it is possible that the DMA Regulations could entitle a tenant conducting a non-essential business to claim remission of rental, in whole or in part. However, the facts and circumstances of each case would have to be considered carefully in order to determine whether such an entitlement exists and the extent of the entitlement.7
Insurance
It may become necessary to consider whether COVID-19 impacts (such as the SA Lockdown resulting in business ceasing operations) are covered under existing insurance policies. Insurance policies often exclude damages arising from a pandemic. In this regard, it is important to consider the terms of the insurance policy in order to determine whether such an exclusion applies.
Special attention should be paid to whether any business interruption cover is in place and whether or not underlying property damage is a condition to being able to claim under such cover. Claims may potentially be made for non-damage business interruption, however, standard business interruption cover does not usually include forced closure by governmental authorities. As such, business interruption coverage is typically contingent on physical damage to the property, which results in the business being unable to continue its business operations. The parties therefore need to look at the specific wording of their respective policies to determine whether COVID-19 is a “covered peril”.
In order to claim under an insurance policy, it is important to comply with relevant time limits and notification obligations under such policy. Once again, interpretation of the policy is crucial in this regard.
Deals in the Making
Deals which are still in the negotiation phase or which have been signed but are yet to be implemented at the time of the COVID-19 outbreak are likely to be impacted significantly in several respects. Below are a selection of key issues and practical considerations in this regard.
Due Diligence
There may be physical impediments to conducting due diligence investigations during the SA Lockdown. For example, document delivery and/or site visits might become difficult or impossible. It should be borne in mind that this would impact deal timelines.
Going forward, buyers should be considering what COVID-19 related information should be addressed as “material” during ongoing management discussions in the context of due diligence investigations. In this regard, some material points of impact would likely include, inter alia, the extent to which the target has experienced or anticipates experiencing any material supply chain impacts resulting from COVID-19 and any alternatives that are available to the target in this regard; the extent to which the target has material contracts in place with counterparties (including customers, suppliers, distributors, creditors, business partners and others) that have been significantly impacted by COVID-19; contingency plans in the event that operations are disrupted by a COVID-19 outbreak; the extent to which the target has material revenue exposure to any countries or regions that have experienced COVID-19 community spread and the general impact of COVID-19 on the target’s operations, including its employees (especially where employees will be transferred with the business).
Can Agreements be Signed by Electronic Signature?
The COVID-19 pandemic and the resultant SA Lockdown has made it difficult (if not impossible) to obtain handwritten signatures on documents. Parties to commercial transactions are therefore questioning whether and how a document can be signed electronically.
In short, an agreement may be signed electronically, provided that the method used: (i) identifies the person and indicates the person’s approval of the information communicated; and (ii) is as reliable as appropriate for the purposes for which the information was communicated.8
Most agreements may be signed by a standard electronic signature (i.e. any digital or scanned signature), unless the parties agree otherwise. However, certain documents require an advanced electronic signature and others may not be signed electronically at all.
An advanced electronic signature is a digital certificate-based signature, which uses mechanisms from a certifying authority to ensure for security and integrity of the signature in question. Documents requiring an advanced electronic signature include suretyship agreements and documents where a Commissioner of Oaths is required to sign the relevant document.9
Certain documents may not be signed electronically (whether by way of a standard electronic signature or an advance electronic signature) including: (i) agreements for the sale of immovable property; (ii) long term leases of land exceeding 20 years; (iii) wills; and (iv) bills of exchange.10
Material Adverse Change ("MAC") or Material Adverse Effect ("MAE") Clauses
Some agreements allocate risk among the parties between signing and closing if events occur that could reasonably be expected to result in a MAC or MAE on the business or its prospects. The occurrence of a MAC or MAE may give one party a right to avoid performance under the agreement or even to terminate the agreement. In light of the COVID-19 crisis, buyers are questioning whether its effects are covered by MAC clauses in agreements, which have been signed but not yet implemented.
It appears that there is no South African case law on MAC or MAE clauses. Foreign case law (which will have persuasive force in South Africa) has made it clear that it is generally difficult for buyers to establish a MAE or MAC.11 Ultimately, it appears from foreign case law that the more specific the language of the MAC, the better chance of the MAC being enforced.
Whether or not COVID-19 will trigger an existing MAC or MAE clause will depend on the wording of the particular clause and the circumstances of the particular case. The extent of the impact of COVID-19 on the target, in conjunction with a careful analysis of the language of the MAC clause, will be crucial and it is therefore important to obtain legal advice in this regard.
Attempting to provide for COVID-19 in a MAC clause going forward is a potentially complex issue which would require careful drafting. The problematic element is that COVID-19 and its potential impacts are no longer unforeseen. Thus the burden on a buyer trying to prove that a change occurred between signing and closing, could potentially be heavier.12 Where the parties nevertheless wish to include a MAC clause in an agreement going forward, the best approach would be to be as specific as possible and to refer to criteria which are objectively determinable. This could be done by, for example, including a specific threshold in relation to a decrease in orders or revenue as a trigger event, as opposed to referring to circumstances arising from COVID-19 generally.
However, it must be borne in mind that, generally speaking, parties are free to agree as they wish and a court must give effect to such an agreement, unless it is illegal or contrary to public policy. To avoid the potential complexities and uncertainties in our law relating to MAC clauses, parties can regulate the effects of COVID-19 in their agreements going forward in a different way. For example, an agreement could be made subject to the number of COVID-19 infections not reaching a particular number by a particular date. There are various options available to parties to protect themselves contractually and it is important to obtain legal advice to determine the best approach in the circumstances.
Long-Stop Dates
Careful attention should be paid to long-stop dates in agreements that have been signed but not yet implemented. For example, where conditions are required to be fulfilled by a particular date and such conditions are not fulfilled by such date, the agreement in question would lapse. In light of the COVID-19 outbreak and the SA Lockdown, there will likely be delays in receiving regulatory approvals or in completing due diligence investigations, amongst other things. This may require that the parties agree to extend long-stop dates to a more realistic time frame.
1 D Hutchinson & CJ Pretorius, et. al. (eds.) The Law of Contract in South Africa
2 ed. (2012) at 383 to 386. 2 Flamman & Co v. Kokstad Municipality, 1919 AD 427. See also R.H. Christie & G Bradfield, The Law of Contract in South Africa 6 ed. (2011) at 493.
3 Christie & Bradfield (2011) at 491.
4 Christie & Bradfield (2011) at 493.
5 Christie & Bradfield (2011) at 493.
6 AJ Kerr Lease in The Law of South Africa (LAWSA) 14(2) (2007) at 26.
7 Nagel et. al. Commercial Law 5th edition (2015) LexisNexis at 272
8 Section 13(3) of the Electronic Communications and Transactions Act 25 of 2002 ("ECTA"). See also S Papadopoulos and S Snail (eds.) [email protected] III The law of the internet in South Africa (2018).
9 Section 13(1) and 18 of ECTA. In respect of suretyship agreements, see also section 6 of the General Law Amendment Act 50 of 1956 (amended by section 34 of the General Law Amendment Act 80 of 1964) which does not prescribe the type of signature to be used. In respect of Commissioner of Oaths, see also section 7 and 8 of the Justices of the Peace and Commissioners of Oaths Act 16 of 1963 (as amended) as well as Regulations Governing the Administering of an Oath or Affirmation GNR. 1258 of 21 July 1972.
10 Section 13(1) of ECTA
11 Please refer to the alert published by Philip Broke and Veronica Carson of White & Case on 12 March 2020 for more detail on how the English and American courts treat MAC clauses and an analysis of MAC clauses in relation to the COVID-19 crisis in general, available at: https://www.whitecase.com/publications/alert/ma-mac-clauses-implicationscoronavirus.
12 Ibid.
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