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COVID-19 and Force Majeure: What’s In Your Contract?

At the beginning of April, Legal Bytes highlighted some of the pros and cons of attempting to use a Force Majeure (Excusable Delay) clause in contracts as the basis for delaying or even failing to perform under a contract. See COVID-19: May the Force (Majeure) Be With You.   Now in early June, a bankruptcy judge in Illinois has opined on at least one instance where a party to a real estate lease agreement can take advantage of such a clause. For those of you inclined to read the entire decision you can check out In re Hitz Restaurant Group, No. 20-B-05012, 2020 WL 2924523 (Bankr. N.D. Ill., Eastern Division, June 3, 2020).

The specific language in the lease agreement is critical to this analysis, so this is the relevant language in the contract the court cites in the opinion:  “Landlord and Tenant shall each be excused from performing its obligations or undertakings provided in this Lease, in the event, but only so long as the performance of any of its obligations are prevented or delayed, retarded or hindered by … laws, governmental action or inaction, orders of government…. Lack of money shall not be grounds for Force Majeure.” (emphasis is mine).  The Bankruptcy Court held Executive Order 2020-7, the Stay-at-Home Order, issued by Illinois Governor Pritzker on March 16, 2020, “unambiguously” triggered the force majeure clause, holding the order constituted both “governmental action” and an “order of government.”

In its motion, the landlord claimed banks were still open, the tenant was still able to write checks and mail them to the landlord, that the tenant could still operate it’s take out and delivery service, that in order to obtain funds the tenant could have applied for and received an SBA loan, but more importantly that lack of money was specifically and explicitly stated in the clause as “not grounds for Force Majeure. ”  In dealing with the landlord’s motion, the Bankruptcy Court first noted neither the bank’s being open or closed or the tenant’s ability to write checks and mail them were relevant or responsive to the tenant’s arguments or for that matter the specific language of the force majeure clause.  More significantly, the Court rejected the landlord’s argument that the failure to perform was due to a lack of money – something specifically noted in the clause. To this the Court stated that not only was the tenant under no legal obligation (either in the lease or at law) to apply for an SBA loan to pay the rent, but the Illinois Governor’s Executive Order was the proximate cause of the tenant’s inability to pay rent and that the Executive Order clearly impaired the tenant’s ability to operate fully and generate the same amount of revenue as it might under normal circumstances.

That said, the Bankruptcy Court did take into account the fact that the restaurant (tenant) was not completely shut down and could still provide take-out and delivery services and decided that the tenant should still pay some rent, but in an amount “in proportion to its reduced ability to generate revenue due” as a result of the imposition of the Executive Order.  Neither landlord or tenant had suggested a way to determine a reasonable proportion so the Court essentially decided that since the tenant estimated the kitchen (the facilities within the premises still available for use in fulfilling a take-out and delivery service) represented about 25% of the total square footage, the Court partially excused the tenant from paying the full rent while the Executive Order remained in effect.

It is important to note this is a proceeding in bankruptcy court and even in that context is technically not binding on other jurisdictions.  It is also important to note that even though the contract clause carved out “lack of money” as a basis for invoking the clause, the specific reference to “governmental action” and “orders of government” gave the court a foothold to decide that these facts, although perhaps causing a lack of revenue, where the basis for invoking the clause and awarding the tenant partial relief from it’s full payment obligation.  As with all decisions of the courts, they are very fact-specific, although it may be interesting to see if other courts begin to use the reasoning as having some precedent value in these unprecedented times.

If you need more information or have any questions, don’t hesitate to contact Angela Gonzalez or me, Joe Rosenbaum, or the Rimon Law lawyer with whom you regularly work.

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Retaining Jurisdiction Requires More than Just Words

By Douglas Schneller, Partner, Rimon Law

Bankruptcy plans and contracts approved by bankruptcy courts routinely include “retention of jurisdiction” provisions, but a case decided last month, Gupta v. Quincy Med. Ctr. (“Gupta”), reminds us that the jurisdiction of a bankruptcy court is not unlimited merely by reciting the words. In the Gupta decision, the First Circuit held that unless the dispute involves or affects the debtor’s estate or requires interpretation of a bankruptcy court order or bankruptcy law underlying the dispute, the appropriate venue to consider the dispute may be state court, even against the expectations or wishes of the parties.

In this case, the parties entered into an agreement for the sale of assets by the seller and in the contract, the buyer agreed to pay severance to any employees of the seller that were fired after closing. Literally the day after signing the agreement, the seller (the ‘debtor’) filed voluntary Chapter 11 petitions and a sale motion under the Bankruptcy Code seeking approval of the asset purchase agreement. The Bankruptcy Court approved the agreement and sale, which then closed. The Bankruptcy Court’s order, as well as the order confirming the proposed Chapter 11 plan of reorganization, each contained a provision that the Bankruptcy Court would retain jurisdiction over disputes.

You can guess what happened next. After the closing of the asset sale, the buyer terminated the seller’s executives, effective as of the closing date and refused to pay severance. Inevitably, the lawsuits followed. Although the Bankruptcy Court decided it had jurisdiction to hear the claims based on the ‘retention of jurisdiction’ clauses, on June 2, 2017, the First Circuit Court of Appeals decision concluded that the Bankruptcy Court lacked subject matter jurisdiction. The First Circuit vacated the judgments against the buyer and remanded the case with instructions to dismiss the claims against the buyer. In short, the court concluded that the contract language in the asset purchase agreement was not sufficient by itself for the Bankruptcy Court to retain jurisdiction to hear disputes, because a bankruptcy court cannot retain jurisdiction it never had. Indeed, the court noted that the claims could well have arisen entirely outside of bankruptcy and could be decided solely under Massachusetts contract law.

There is a lot more detail and analysis and if you want to read the entire Client Alert: First Circuit: Bankruptcy Court “Retention of Jurisdiction” Provision Requires More Than Mere Words and contact Douglas Schneller directly.

Of course, you should always feel free to contact me, Joe Rosenbaum, or any of the professionals at Rimon Law with whom you routinely work.