It is not news that the response to Covid-19 is wrecking the economy. Small and mid-size companies have been hit especially hard. Today I discuss a few legal doctrines and other options that may be helpful for businesses struggling to stay afloat.
Take advantage of Washington’s stimulus programs
The Paycheck Protection Program (“PPP”) authorized distribution of $600+ billion in loans to small and midsize businesses. These PPP loans include a loan-forgiveness mechanism designed to encourage employee retention. Early reports suggested the loans would be forgiven if 75% of the funds were used toward payroll expenses, but current reports suggest this may be lowered to account for businesses with high overhead. The next phase of stimulus (which may look something like the House-proffered bill H.R. 6800 a/k/a HEROES Act) could include more PPP funding earmarked for small businesses (i.e. 10 or fewer employees) and an additional $10 billion in EIDL grants. With the Fed Funds interest rate already at historic lows, the Federal Reserve’s power to provide monetary stimulus is limited—so hopefully Congress will heed the plea of Fed Chairman Powell and pass this next round of fiscal stimulus quickly. One stumbling block, however, lies in partisan differences on whether any such legislation will also provide measures to shield companies from Covid-19-related liability. In any case, stay alert and apply quickly because the first two tranches of PPP funds went quickly.
Force Majeure provisions in contracts
If you have not done it already, nowis the time to review your important contracts with an attorney. Many contracts contain a Force Majeure provision (“Force Majeure” is French for “What the #%@? I did not see that coming!”). These clauses provide that a party may be excused from performing under the contract if their non-performance is due to some unforeseen event beyond the parties’ control. Events that constitute Force Majeure events typically include Acts of God (e.g. natural disasters), civil strife, war, riot, and labor issues, and some clauses specifically call out epidemics and governmental restrictions.
But these clauses can be nuanced and may merit review with an attorney. For example, some are drafted to carve-out the payment of money as an obligation that is not excused by the Force Majeure event— i.e. even if the world is falling apart, you still have to pay. Also, the clause may be drafted to provide that if the Force Majeure event continues for a period of time, then one or more of the parties will have the right to terminate the agreement. Whether you’re looking to get out of the contractual arrangement, or looking to keep your counter-party in it, review your agreements to identify your rights and your counter-party’s rights.
Alternatives to Force Majeure
Frustration of Purpose
In addition to, or in lieu of rights under the contractual Force Majeure clause, a party may be availed of the legal doctrine of “frustration of purpose”. This legal doctrine essentially says a party may be excused from performing because the fundamental reason for the contract no longer exists or a basic assumption of the contract has been rendered untrue due to an unforeseen event. Considering how drastically life has been upended in response to Covid-19, undoubtedly the purpose of many contracts has been frustrated.
Impossibility
Alternatively, the doctrine of “impossibility” (a/k/a “impracticability”) may apply. Under this doctrine, a party may be excused from performing because it is literally impossible to perform, or so impractical that it might as well be impossible. Performance must be more than just economically burdensome—it must be essentially impossible— and the cause must be the unforeseeable event that made performance unachievable.
Courts are typically reluctant to excuse performance based upon these doctrines, and would likely require a trial to determine whether they apply to the facts at hand. Still, having these doctrines available may furnish a useful tactic in negotiating with an aggrieved counterparty.
Insurance Coverage
Some businesses maintain business interruption insurance (“BII”)—which replaces income while the business’s operations are suspended. However, these policies typically contemplate some type of property damage causing the interruption. And many insurers have taken the position that claims related to Covid-19 are not covered by these policies because there is no physical damage or because the policy expressly excluded coverage for viral contamination. Lawmakers in New Jersey, New York, Louisiana, Pennsylvania, and Ohio have proposed legislation that would require insurers to provide some coverage for losses stemming from Covid-19. Insurers are resisting, and state insurance regulators have urged Congress not to require insurers to cover business interruption claims related to Covid-19 where the policy specifically excludes coverage for communicable diseases. Check with your insurance provider to clarify your specific policies and coverage.
Bankruptcy
Almost certainly the least appealing avenue, seeking protection under bankruptcy laws may be a sensible option for the extremely burdened debtor.
Chapter 7
A filing under Chapter 7 is the most severe and entails the bankruptcy trustee marshalling and liquidating the debtor’s assets and using the proceeds to pay off creditors. Chapter 7 is a death sentence and effectively the end of the debtor-company’s “life”.
Chapter 11
As an alternative to Chapter 7, a company can seek reorganization and survive bankruptcy under a Chapter 11 filing. Under Chapter 11, the debtor company retains control of its operations while it restructures its debt pursuant to a court-approved plan. Chapter 11 reorganizations have traditionally been complex and costly, but the Small Business Reorganization Act (of 2019) added Subchapter V to Chapter 11—thereby creating a simpler and cheaper way for businesses to avail themselves of Chapter 11 protections. It may provide a vehicle for struggling businesses to live to see tomorrow.
Sadly, experts predict that the post-Covid-19 economy will drive many individuals and businesses into bankruptcy: a panel of 35 legal scholars recently urged Congress to bolster the ranks of bankruptcy judges lest the system be overwhelmed by a deluge of cases over the next 18 months. I sincerely hope that this will not be the fate for you or your business.
Good luck. Stay safe, stay solvent. While we’re not all in the same boat, we’re all in the same storm. Let’s hope it passes soon and we can all bask in the sun again.
“If you’re going through hell, keep going.”
— Winston Churchill
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Disclaimer: the foregoing is for informational purposes only and should not be considered legal advice. The content is provided as-is and no representation is made that it is error-free. Readers should contact a licensed attorney to obtain advice with respect to any particular legal matter.