Introduction

Frustration has garnered much attention following the outbreak
of the COVID-19 pandemic, as a possible escape route for parties
facing onerous liabilities under contracts entered into before the
outbreak. In this article, we examine the common law principles
governing frustration of contracts in England and Australia, and
argue that major international and engineering contracts are
unlikely to have been frustrated by COVID-19. We go on to examine,
in light of that conclusion, the practical approaches seen by
parties facing significant disruption to major construction
projects.

Key points/how does it affect you?

  • Major construction contracts are unlikely to have been
    frustrated by COVID-19.
  • A party taking a position that their contract has been
    frustrated risks being found to be in repudia-tory breach.
  • The stance of both English and Australian govern-ments in
    keeping construction sites open as much as possible throughout the
    pandemic has made it difficult to sustain an argument based upon
    frus-tration.
  • In practice, parties are seeking to reach their own terms as to
    how to proceed and share the costs between employer and
    contractor.

Frustration defined

In broad terms, the doctrine of frustration under English and
Australian law follows the same overall structure:

  • The question of whether a contract will be frus-trated is
    governed by the common law.
  • The consequences of frustration are dealt with via statute,1
    giving the courts broad discretionary powers to make a monetary
    award that does justice between the parties.

The classic definition of when a contract will be frustrated was
provided by Lord Radcliffe in Davis Contractors Ltd v Fareham Urban
District Council:

. . . frustration occurs whenever the law recognizes that
without default of either party a contractual obligation has become
incapable of being performed because the circum- stances in which
performance is called for would render it a thing radically
different from that which was undertaken by the contract. Non haec
in foedera veni. It was not this that I promised to do.

This formulation was specifically adopted by the Australian
courts in the case of Codelfa Construction Pty Ltd v State Rail
Authority (NSW).3 In that case, Mason J asked himself “whether
the situation. . . is fundamentally different from the situation
contemplated by the contract on its true construction in the light
of the surrounding circumstances”.

These formulations of the principle make clear that the bar for
proving frustration is a high one, while at the same time linking
frustration to the expectations of the parties when they
contracted. If the event in question is covered by the contract
then axiomatically the contract is not frustrated – the
circumstance was contemplated  by the parties and the relevant
provision governs the position.

The starting point when considering whether a con-tract is
frustrated is therefore the terms of the contract itself. No
contract entered into before 2020 is likely to have envisaged
COVID-19 specifically and relatively few construction contracts
contain provisions dealing explicitly with pandemics or similar
health crises. That is not to say, however, that they contain no
terms at all that are relevant – many standard form construction
contracts contain broadly framed clauses that purport to deal with
any unforeseen delaying events compendi-ously.

Some contracts refer simply to instances of “force
majeure”, relying upon decided cases as to the meaning of
those words. While a whole article could be written on the question
of whether these words capture the effects of COVID-19 (and many
have been), it is in our view likely that they do – in the case of
Lebeaupin v Crispin and Co5 the court specifically approved the
suggestion that an “epidemic” would be a case of force
majeure (although the issue did not arise on the facts of the
particular case).

An alternative approach is to define in general terms what kinds
of events will discharge the parties from further performance. For
example, the International Federation of Consulting Engineers
(FIDIC) “Red Book” (2017 ed)6 defines generically
“Exceptional Events” which, if they cause substantial
delay to the relevant project (a single period of 84 days, or 140
days cumu-latively), entitle the parties to terminate the contract.
“Exceptional Events” in the Red Book are defined as
events beyond the control of the parties, not attributable to the
fault of either, that could not reasonably have been foreseen at
the outset of the contract. Again, these requirements appear likely
to be satisfied in relation to COVID-19-unquestionably, the
pandemic was neither foreseeable nor the fault of either party.

When will a contract be frustrated?

Assuming the relevant contract does not contain a contractual
provision that governs the consequences of COVID-19, the question
is whether the event has had a sufficiently fundamental impact to
amount to frustration. In a construction and engineering context,
there are a number of points that are of particular significance to
the question of whether COVID-19 will or may qualify as a
frustrating event:

  • A contract is not frustrated if the relevant event impacts
    “merely the expense or onerousness” of performance; a
    fundamental change to the “nature” of the obligations is
    required (National Carriers Ltd v Panalpina (Northern) Ltd7).
    COVID-19 has doubtlessly caused significant delays and costs to
    almost every major construction project, rendering such projects
    substantially more onerous. That will not in itself amount to
    frustration.
  • Even a radical change in background economic factors, rendering
    a construction project no longer commercially viable, is unlikely
    to amount to frustration. Although the possibility of a
    “frustra-tion of common purpose” has been recognised in
    some cases, it is notoriously difficult to deploy in practice. A
    recent English example is Canary Wharf (BP4) T1 Ltd v European
    Medicines Agency8-the European Medicines Agency (EMA) (a European
    Union institution) sought to argue that the lease of its
    headquarters in London was frustrated upon Britain leaving the
    European Union. The EMA’s arguments were dismissed on the basis
    that there simply was no common purpose – there were two parties
    with divergent interests, with a negotiated agreement representing
    the best available compromise between the two. It is hard to
    imagine how the employer and contractor in a major construction
    project could demonstrate a “common purpose” sufficient
    to found an assertion that their contract was frustrated.
  • A contractor facing difficult choices over how to allocate
    scarce resources is unlikely to be able to avail themselves of a
    frustration argument where
    they prefer one project over another. This derives from the
    well-known case of J Lauritzen AS v Wijsmuller BV (The Super
    Servant Two),9 in which one of two ships owned by the same company
    sank. The company had two contracts to fulfil; it had already
    allocated its remaining ship to one contract and claimed the other
    was frustrated. That argument was rejected – the frustration was
    self-inflicted, because the shipowner could have fulfilled either
    contract by allocating its remaining ship to it.
  • In order for delay of performance to result in frustration, it
    must be shown that the delay is more than temporary or transient,
    particularly in the context of the contract’s length. For
    example, an order closing down a construction site for a month is
    unlikely to trigger frustration of a large-scale 2-year
    contract.

Supervening illegality

Of particular significance in the context of COVID-19 is
frustration of contracts by supervening illegality –
where performance of the contract has become illegal due to a
change in the law. Both the UK and Australian governments have, at
various times and to varying extents, imposed legal limits on the
activities of indi-viduals and businesses in an effort to slow the
spread of the coronavirus. Where performance of a contract would
necessarily involve the infringement of those limits, it is likely
to have been frustrated – this has been of particular significance
to the hospitality and events industries.

It is however unlikely that many construction con-tracts will
have been frustrated in this manner. In the UK, even at the height
of the pandemic, the government stopped short of ordering a blanket
halt to work on construction sites; indeed, explicit advice was
given that work on construction sites could continue. Instead,
guidance was issued to employers and contractors advis-ing as to
how work could safely carry on. The Australian government’s
approach has, in large part, been similar – construction has mostly
been treated as an essential service and been allowed to continue
even while other businesses are forced to close. Even where
construction work has been ordered to stop, this has mostly been
for periods of just a few days – enough to cause enormous
disruption to the project but unlikely to be sufficient to
frustrate the relevant contract.

Drawing together the threads

While each case will turn on its own facts, we consider that it
is unlikely that major international construction contracts will
have been frustrated by
COVID-19. An assertion of frustration would need to clear a number
of hurdles, none of which will be easily passed, and failure at any
one will prevent the contract having been frustrated:

  • The contract would have to contain no force majeure or similar
    provision which applies to COVID-19. Given the prevalence of such
    provi-sions in the standard forms, and the unforesee-ability of the
    COVID-19 pandemic, that is a somewhat unlikely scenario.
  • COVID-19 would have had to render the contract not merely more
    difficult to perform but rather fundamentally different from that
    envisaged at the outset. In light of the restrictive approach taken
    to this test in the authorities, it is difficult to see how it will
    be passed in the context of a major construction project.
  • If the parties seek to argue that the contract has been
    frustrated by supervening illegality, they will need to make good
    an assertion that performance was prevented by law. That is again
    unlikely, given the approach of governments in both the UK and
    Australia in endeavouring to keeping construc-tion sites open
    wherever possible.

Even attempting to argue frustration is an unattractive prospect
for some employers and contractors. A contrac-tor or employer
taking the position that their contract has been frustrated will
likely find themselves in repudiatory breach of their contract if
they are wrong in their analysis. That presents a significant risk
to any party seeking to deploy the argument. In our experience,
few, if any, contractors have gone as far as simply stopping work
in reliance upon an argument that their contract has been
frustrated.

Practical perspectives

Given that the doctrine of frustration is unlikely to provide an
answer for those seeking to resolve the disruption caused by
COVID-19, what approaches are parties adopting instead? We would
identify the follow-ing three points as particularly
significant.

First, there is broad recognition across the industry that
practical “middle ground” solutions need to be found
where possible. Frustration is something of a binary choice –
either both parties are completely excused from all future
performance or the contractor remains bound to complete the project
irrespective of the cost.

In commercial terms, an intermediate position between these two
extremes is likely to benefit both parties; the project continues
but employer and contractor come to an accommodation as to how to
distribute the additional costs between them. Experience to date
would suggest that many employers and contractors are taking a
straightforward approach and agreeing simply to split additional
costs 50:50.

Second, where parties are entering into contracts now, many are
taking the opportunity to include bespoke amendments dealing with
either COVID-19 specifically or epidemics/pandemics more broadly.
This is undoubt-edly preferable to relying upon broad wording of
uncer-tain scope such as force majeure. It is important to note
that some of the standard forms (including the FIDIC Red Book)
define “Exceptional Events” or similar in terms that
exclude those which could have been foreseen at the time the
contract was entered into. Parties who use the standard forms now
without negotiating bespoke COVID-19 clauses may find that there
are no provisions which are engaged by COVID-19 at all; risks of
further delays will be allocated according to the general
con-tractual provisions (ie generally to the contractor).

Negotiations over bespoke terms present their own issues,
however, not least in deciding the most appro-priate way to
allocate the relevant risks. We have seen a range of approaches,
although allowing contractors to extend time for COVID-19-related
delays for a defined (but not allowing them to claim additional
costs or expenses) is perhaps the most prevalent. More
con-troversial are amendments which seek to expand the definition
of force majeure so as to include events such as pandemics and
permit additional costs and expenses. It is also possible that
government contracts will provide for events such as
epidemics/pandemics, as it makes sense for such risks to be borne
nationally. Inevitably standard form contracts will follow suit,
expressly allo-cating liability for these types of risk based in
part upon a perception of how well the country is able to
manage
such events.

Finally, many parties are facing difficulty in obtaining
insurance cover to pass on risks relating to COVID-19. The Supreme
Court’s decision in Financial Conduct Authority v Arch
Insurance (UK) Ltd10 dealt a heavy blow to the insurance
industry which now finds itself facing extensive liabilities for
business interruptions caused by COVID-19. Negotiations over
allocation of risk take place against the background that employers
and contractors may be unable to pass on those risks to the
insurance market as they might normally expect to. This raises the
stakes of those negotiations for the parties concerned.

Conclusion

The repercussions of the COVID-19 pandemic are still being felt
globally, and doubtless, will continue for many years to come.
Litigation raising the issue of whether contracts have been
frustrated by COVID-19 is a certainty. In a construction and
engineering context, we are sceptical as to whether the high hurdle
for frustration will be passed. All parties faced with
COVID-19-related disruptions would be well advised to seek, where
possible, negotiated alternatives to relying upon the doctrine of
frustration. When COVID-19 is finally under control, at least in
the majority of countries, there will be a dialogue as to how best
to manage the threat posed to major domestic and international
infrastructure projects. This will encompass not only the delivery
of the projects but also supply chains, commissioning and
operation.

This article was first published by LexisNexis Australia, 24 Jun
2021.

The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.