In an unprecedented move in late March 2020, federal, state, and local governments across the country forcibly shut down the U.S. economy; requiring “nonessential” businesses to close their doors. As is the case with many government policies, externalities were not considered, and the resulting chaos led to the greatest economic disaster since the Great Depression. Retail businesses, still reeling from the disruption caused by e-commerce, were especially hard hit because the real estate they occupied was inextricably tied to their ability to generate revenue. Office users were less impacted as many companies found that their employees could work from home, at least in the interim, with a relatively negligible loss in productivity, but it caused many employers to reevaluate their office space needs. It is difficult to predict the long-term impact of the lockdown on commercial real estate but, in the short-term it has resulted in the closure tens of thousands of businesses which, through no fault of their own, were denied use of their space but still required to pay rent.
It is easy to forget that landlords are also business owners whose business is to lease real property to tenants and collect rent. Landlords were forced by the government to deny tenants the use of their space and, like their tenants, landlords were still required to pay their own “rent” in the form of mortgage payments. Landlords also have employees (property managers, janitorial staff, etc.) and a portion of rents go towards their compensation. The point is: landlords are not the bad guys.
After the government drove a proverbial pick-up truck through the living room, tenants and landlords were left to sort through the rubble and resolve the Catch-22 of paying and collecting rent; leading to a renewed interest in and importance of an often overlooked clause in many commercial leases: force majeure.
“Force majeure” is French for “greater force” and, in contract law, refers to an event outside the reasonable control of a party which prevents a party from performing its obligations under a contract. Because force majeure is not generally an implied term (like quiet enjoyment), the ability of a party to claim relief depends on the terms expressed in the contract. As a result, most, if not all, commercial leases contain a section on force majeure with common language/examples such as “fire, act of God, governmental act or failure to act, strike, labor dispute, inability to procure materials” as well as “catch-all” language like, “outside the reasonable control of the affected party.”
Force majeure events are generally separated into two categories: political and non-political, otherwise referred to as natural, force majeure; often providing different remedies. Political force majeure deals with risks in the political environment like embargoes, riots, strikes, war, etc. as well as in the legal environment such as changes in the law, zoning, permits, etc. In cases of political force majeure, the affected party is typically afforded an extension of time to perform and/or compensation for its losses/expenses. Non-political/natural force majeure events include physical risks to the property, business, etc. such as earthquakes, floods, etc. with relief in such cases affording an extension of time to perform and relief from termination.
Whether political or non-political, an event or circumstance must satisfy three distinct criteria to pass the “force majeure test” and relieve the affected party from its contractual obligation:
the event must be beyond the reasonable control of the affected party;
the affected party’s ability to perform its contractual obligation must have been prevented, impeded, or hindered by the event; and
the affected party must have taken all reasonable steps to mitigate or avoid the event or its consequences.
The issue of the day is whether the Covid-19 pandemic or, more accurately the government lockdowns, qualifies as a force majeure event thereby relieving commercial tenants from their obligation to pay rent. Because force majeure provisions are express terms (not implied), the language in each lease or contract and its specific context will be of primary importance. As a result, if a lease or contract contains specific references to a pandemic, it will make it much easier for a party to successfully bring a force majeure claim. If it does not, a party may contend that such an event is covered by other language such as “act of God” or “governmental action,” the latter more likely. What is relevant in each case is that the event is “beyond the reasonable control” of the party and consequentially impacts the affected party’s ability to fulfil its contractual obligations. For example, if a salon is required to close due to lockdown orders, a case could/should be made that the tenant is relieved of their obligation to pay rent because their means of generating revenue has been interrupted through no fault of their own.
The degree to which the Covid-19 pandemic and government lockdowns have impacted tenants’ ability to pay rent is another factor that must be considered. Again, the express terms of the lease/contract will determine the likelihood of successfully making a force majeure claim, and language like “hindered” or “impeded” are more tenant-friendly than “prevented;” however, in either case, the affected party must show a causal link between the event and their inability to pay their rent. This makes the case more difficult for office tenants because of their ability to have their employees telework. Unless specifically stated in the lease, events that merely disrupt or negatively impact a tenant’s profitability are unlikely to qualify as a force majeure event. As a result, even though economic downturns and Presidential Elections do have real, adverse impacts on businesses, they are generally insufficient to bring a successful force majeure claim.
Finally, tenants must show that they have taken reasonable steps to mitigate or avoid the event and its consequences. Covid-19 and the related government lockdowns are impossible to avoid but, as has been discussed previously, office users are able to mitigate the impact of the event through teleworking. Retail tenants have a better claim, particularly service-based businesses, who have no alternate means of generating revenue and thus performing their contractual obligations. When assessing the validity of a force majeure claim, the reasonableness of mitigation efforts is measured within the context of the additional costs that would be incurred by the affected party.
Recommendations for Clients
What was once a relatively ignored lease provision has been brought to the forefront by recent unforeseen events. Moving forward, tenants should ensure that force majeure provisions are included in their commercial leases and that the terms cover specific events, i.e. pandemics, government lockdowns, etc. or that there is “catch-all” language that is sufficient to successfully bring a claim for relief. Many leases that do contain force majeure provisions also include clauses that do not excuse the timely payment of rent despite a force majeure event. If landlords are unwilling to omit this language, tenants should consider specific events that would prevent, hinder, and/or impede their ability to pay rent and address those with objective measures, timeframes, and remedies. When making concessions, the more specific the verbiage the greater the likelihood the landlord will agree to it. Landlords do not like “catch-all” language when it is not to their benefit.
Many force majeure events like a natural disaster, i.e. hurricane, are limited in terms of location and time; allowing for finite notice timeframes. Due to the widespread nature and developing impact of the pandemic and associated lockdowns, conventional notice timeframes are insufficient. Therefore, tenants should include protective or rolling notices in their leases that allow them to claim relief as the situation changes, i.e. state or local government reinstitute lockdowns due to increases in Covid-19 cases. Tenants should also identify and specify the evidence and supporting documentation necessary to make a force majeure claim along with the remedies for a successful claim; generally, an extension of the time to perform and/or a deferment of the obligation for the duration of the force majeure event. While business interruption insurance is advisable and protective, in cases of a prolonged force majeure event, tenants may want to include a termination option.
Reviewing commercial leases can be a tedious and painstaking exercise because every provision and clause must be analyzed through the lens of the worst-case and, sometimes, outlandish scenario. Force majeure provisions are no exception. More concerning than Covid-19 is the government’s shutdown of the economy. The lockdowns will have long-lasting, adverse effects on the economy and life, in general. The government showed the full extent of its destructive power by forcibly shutting down the best economy in a generation and, through its actions, putting 40 million Americans out of work. The genie cannot be put back in the bottle and, with little consistency or objective measures justifying the institution, duration, and/or conditions of the lockdowns along with their partisan nature, there is little to prevent future, authoritarian measures from being implemented with equally disastrous results. Commercial real estate landlords will adapt to the post-Covid-19 world by instituting feel-good safety measures but, once the hysteria subsides (likely on November 4, 2020), one of the long-lasting impacts will be a renewed and greater focus on force majeure provisions in commercial leases and contracts, in general.