Risk Management in the Era of COVID-19

One of our biggest challenges in dealing with COVID-19 is adapting traditional methods of limiting liability and risk transfer to our new environment. Contracting parties have long looked to provisions such as force majeure, limitations of liability, and indemnification to help manage risk. Here, let’s examine special considerations for those risk-avoidance mechanisms in the COVID-19 era.

Force Majeure

Black’s Law Dictionary defines “force majeure” as “an unexpected event that prevents someone from doing or completing something that he or she had agreed or officially planned to do. The phrase includes both acts of nature (e.g., floods and hurricanes) and acts of people (e.g., riots, strikes, and wars).” Parties use force majeure clauses to plan for catastrophic events.     

We can look back 100 years to see how courts have specifically addressed past pandemics. A 1920 California case, Citrus Soap Co. v. Peet Bros. Mfg. Co., involved a contractual dispute that arose during the Spanish flu epidemic. San Diego issued an ordinance establishing a general quarantine, which impacted a seller of goods. The court found that a force majeure clause allowed the seller a reasonable extension to deliver its products after the agreed-upon date.

However, courts are less likely to allow reliance on force majeure clauses if they consider an event to be foreseeable. For example, in a 1984 Illinois case, N. Illinois Gas Co. v. Energy Co-op. Inc., the court found that a change in price due to a change in governmental regulations did not excuse performance based on a force majeure defense.

In 1986, a New Jersey court viewed the force majeure defense as a very narrow one in Seitz v. Mark-O-Lite Sign Contractors Inc. In that case, the defendant contractor’s employee fell ill due to diabetes. The contractor asserted the defense of impossibility of performance due to the disability of its expert sheet-metal worker. However, the court found that this event was reasonably foreseeable and ruled against the contractor.

New York’s highest court employed similar reasoning in the 1987 case, Kel Kim Corp. v. Central Markets Inc. In that case, the court found that the defendant’s inability to procure insurance was insufficient to invoke a force majeure defense. The court noted that “[ordinarily], only if the force majeure clause specifically includes the event that actually prevents a party’s performance will that party’s performance be excused.”

Indeed, a future pandemic might now be foreseeable, if not in timing then at least in impact. As the law has developed, it is clear that if a party wants to protect itself from the effects of a pandemic, it should specifically identify it, and any associated government-mandated quarantines, as force majeure events.

Limitation-of-Liability Clauses

We are accustomed to seeing waivers and exculpatory clauses as a part of everyday life. Participants in sports activities like whitewater rafting, skiing, or skydiving may be required to sign liability waivers. Those hiring professional engineers to perform pre-purchase home inspections may find exculpatory clauses in their contracts in which the engineer seeks to limit damages to the cost of the inspection.

In fact, many jurisdictions will enforce provisions in which parties seek to limit liability, too. For example, in a 1988 case, Harris v. Walker, the Illinois Supreme Court enforced a liability waiver in which the plaintiff sustained injuries while horseback riding. In a 2002 case, Benedek v. PLC Santa Monica, a California court enforced a broad liability waiver in which a member of a health club was injured in a gym as he adjusted a television mounted above an elliptical machine. In a 1990 Florida case, Theis v. J&J Racing Promotions, the court enforced a liability waiver in which the plaintiff was killed in an auto racing accident. The court noted, “While exculpatory clauses are not looked upon with favor, they are valid and enforceable when clear and unequivocal.”

Further, in a 2019 case, Stelluti v. Casapen d/b/a Powerhouse Gym, the New Jersey Supreme Court awarded summary judgment to a gym in which the member was injured during a cycling class. However, readers should note that New York State, under General Obligations Law 5-326, voids the use of liability waivers at pools, gyms, and places of amusement where the owner receives a fee for use of his facilities. New York will enforce limitation-of-liability clauses in service contracts in cases of ordinary negligence, but not gross negligence.

Whether such limitation-of-liability clauses will apply in the COVID-19 context remains to be seen. One can envision some state legislatures passing laws stating that liability waivers related to contraction of COVID-19 due to negligence are unenforceable as against public policy. Precedent suggests that waivers seeking to protect businesses and limit their exposure from liability claims should be clear and unequivocal, and, if applicable to COVID-19, should specifically mention certain requirements, including wearing masks, washing hands frequently, and engaging in social distancing.

Risk Transfer Via Indemnity Provision  

Another method of reducing risk is via contractual-indemnity provisions that shift liability in certain instances from one party to another. In 1993, the Texas Supreme Court addressed an indemnity provision in Dresser Industries Inc. v. Page Petroleum et al. and adopted the Black’s Law Dictionary definition of an indemnity agreement: “A collateral contract…by which one person engages to secure another against an anticipated loss or to prevent him from being damnified by the legal consequences of an act or forbearance on the part of one of the parties or of some third person.” Further, the court explained that “these agreements, whether labeled as indemnity agreements, releases, exculpatory agreements, or waivers, all operate to transfer risk.” The court emphasized that such an agreement must give fair notice and be conspicuous.

Contracting parties may wish to use indemnity provisions to transfer risks related to COVID-19, especially in situations where the contract terms may not be met due to human, financial, or operational impacts from the pandemic. Such provisions could also transfer exposure for third-party claims. In drafting these provisions, the choice of law becomes very important. Each state interprets indemnity provisions differently, and, in some instances, there may be anti-indemnity statutes that stipulate the provision is unenforceable or a state may require certain language be included for the provision to be considered enforceable.

COVID-19 creates new challenges with respect to limitation of liability and risk transfer. However, some familiar principles should still apply. Any language through which parties seek to limit liability and transfer risk should be clear, specific, unambiguous, and conspicuous so that parties can proceed with a clear understanding of the risks they assume in an activity, business transaction, or contractual relationship.