Hong Kong and Mainland China: Force Majeure & COVID-19 & You

By Andrew Robinson, Michael Chik, Emma Ren, Zoe Chung, Harry Wong

04-2020

Bird & Bird continues to keep clients and others informed about the impact brought about by COVID-19 in Hong Kong and Mainland China. Consequently, this article summarises the law relating to force majeure in both jurisdictions and offers some practical advice for companies to mitigate risk during these troubled times.

Position under Hong Kong Law

Force majeure in Hong Kong, similar to English law, is a contractual mechanism that needs to be expressly incorporated into the contract and will not be readily implied. There are no statutory provisions governing the concept of force majeure.

The purposes of a force majeure clause are risk allocation and loss apportionment. Very often, to deal with the occurrence of a supervening event, a statement setting out a specific list of events or a generic description of the nature of the events is often included in this clause. We have included the usual elements of a force majeure clause at paragraph 4 below. Whether COVID-19 is considered as a force majeure event will depend heavily on one's contractual interpretation – either as an event set out in the clause itself or even as a consequence thereof. Even if COVID-19 falls within the force majeure clause, one should remember to follow the obligations imposed by the clause, in particular, notification to the counterparty and the timeframe for doing so accordingly.

In practice, the operation of this clause depends heavily on its drafting which in turn reflects the relative bargaining power and the anticipation of the contracting parties during contract negotiations.

Where the contractual route of force majeure is not available, a party can then consider the common law doctrine of frustration. Put succinctly, the doctrine of frustration allows the discharge of a contract (regardless of the intention of the contracting parties) when a supervening event (outside the control of the contracting parties) makes the performance of the contract impossible, illegal or radically different from the original anticipation of the contracting parties.

One must however be aware that frustration is a narrowly applied doctrine in Hong Kong as illustrated by the case law below.

Judicial guidance

In Li Ching Wing v Xuan Yi Xiong[1], a tenant of domestic premises for a two-year tenancy sought to terminate the tenancy agreement on the ground that the tenancy agreement was frustrated by the outbreak of Severe Acute Respiratory Syndrome ("SARS"). In particular, the tenant relied on the facts that many residents in the tenant's block of flats had contracted the disease and that the Department of Health later issued a ten-day isolation order for the residents living in the block of flats.

Despite finding the outbreak of SARS an unforeseeable event, the court rejected the tenant's argument because "the supervening event did not … significantly change the nature of the outstanding contractual rights or obligations from what the parties could reasonably have contemplated …" (at [11]).

The above case illustrates the Hong Kong court's cautious approach to the doctrine of frustration.

Position under PRC Law[2]

Force majeure under the PRC law is codified in various legal instruments, such as the General Provisions of the Civil Law of the People's Republic of China (《中华人民共和国民法总则》), the Contract Law of the People's Republic of China (《中华人民共和国合同法》) and the Draft Civil Code of the People's Republic of China (《中华人民共和国民法典》(草案)).

Generally, it is defined as an unforeseeable, unavoidable, insurmountable circumstance (in Chinese: 不能预见、不能避免、不能克服). In the scenario where a party cannot fulfil its contractual obligations because of force majeure (i.e. cause and effect), the defaulting party can be released in whole or in part from their contractual obligations or even rescind (in Chinese: 解除) the contract.

The codification of force majeure in the PRC law means that even if a contract does not expressly include a force majeure clause, the statutory provisions referred to above will automatically kick in to fill the gap as a matter of PRC law. If there is an express force majeure clause in the contract, its application will also be subject to the relevant statutory provisions.

Judicial guidance

The approach taken by Chinese courts during SARS may serve as a good guidance for parties to consider before initiating an action on the grounds of force majeure, bearing in mind the outcome of a case will also depend heavily on its specific facts. For example, in 白俊英、土默特左旗人民政府合同纠纷再审民事判决书((2016)Zui Gao Fa Min Zai No. 220), the Supreme People's Court held that in a contractual dispute involving the hotel industry, SARS was an "irresistible factor" and therefore a force majeure; and each party would bear 50% of the loss incurred as a matter of fairness.

In February 2020, the Sub-Committee of Legislative Affairs of the Standing Committee of the National People's Congress of the People's Republic of China opined that unless otherwise provided by the laws and regulations, the prevention and control of COVID-19 is an unforeseeable, unavoidable, insurmountable circumstance and is therefore regarded as a "force majeure". Under the applicable contract laws in Mainland China, the party who fails to perform its contractual obligation as a result of this "force majeure" should be exempted in part or in whole from its liability.[3]

In or around the same period, the Vice President of the Shanghai High People's Court commented on the performance of contract in the context of COVID-19 that if the contract cannot be performed due to epidemic prevention and control measures, it can be determined as an unforeseeable, unavoidable, insurmountable kind of “force majeure” event. For non-monetary debt, unless otherwise provided by law, the parties can claim partial or full exemption depending on the level of impact brought about by the “force majeure” condition. If the performance of the contract is obviously unfair to one party but does not constitute “force majeure”, the major change of circumstances principle can be referred to and applied.[4]

On 24 March 2020, the Supreme People's Court of the People's Republic of China (the "Supreme People's Court") released 10 typical cases of civil, commercial disputes amid the resumption of business during this period, the original Chinese version of which is available here.

Further, on 20 April 2020, the Supreme People's Court issued an opinion to provide guidance on adjudicating disputes brought to the Chinese Court on the issue of COVID-19 (《最高人民法院关于依法妥善审理涉新冠肺炎疫情民事案件若干问题的指导意见(一)》) (the "Opinion"), the original Chinese version of which is available here.

A few notable directions in relation to force majeure as emphasized in the Opinion are that, unless otherwise agreed by the parties, the people's court should take into consideration the effect of COVID-19 in different provinces, industries and cases:

  • Where the epidemic situation or related prevention and control measures in place lead to the failure of contractual performance, the contracting parties may be exempted in whole or in part of their liabilities in accordance with the applicable laws on force majeure.

  • Where the epidemic situation or related prevention and control measures in place cause difficulties in the performance of the contract:

    - the contracting parties may renegotiate the contract;

    - the people's court should also strengthen their work on mediation and actively guide the contracting parties to continue their contractual performance for contracts that are still possible to be performed;

    - the people's court should not support an application to rescind the contract purely on this basis.

  • Where the continuation of contractual performance will constitute unfairness to one of the contracting parties, the people's court should, based on the actualities of the case, make a decision as to whether or not to support a request to revise the time and method of contractual performance or the quantities as stipulated in the contract. Upon the revision of contract in accordance with the laws, the people's court should not support a subsequent application to exempt a contracting party's liability in whole or in part.

  • Where the purpose of the contract can no longer be fulfilled because of the epidemic situation or related prevention and control measures, the people's court should support a party's request to rescind the contract.

The people's court may factor in any government subsidies, tax breaks, financial support, or debt relief due to the epidemic situation or the epidemic prevention and control measures obtained by the contracting parties before determining whether the continuation of contractual performance is possible.

The Opinion to a certain extent enshrines the principle of major change in circumstances in Mainland China (as further discussed below in part (d)). We expect to see more of these cases especially in the coming months with the gradual resumption of business and manufacturing in China, which will in turn offer more judicial clarity on the court's approach.

Exclusion of the force majeure clause

Despite the codification of force majeure, there remains an ongoing debate on whether the exclusion of force majeure clause from the contract will be regarded as an exemption of liability or a limitation on the statutory application as seen from the below cases.

For example, in Zhuo Yin Feng Clothing and Textile (Zhongshan) Co., Ltd v. Guangdong Changcheng Construction Group Co., Ltd construction contract dispute ((2008) Min Yi Kang Zi No.20)[5], the Supreme People’s Court held that force majeure was a statutory exemption and could not be excluded even with the agreement of contracting parties. Thus, although the construction period was agreed not to be extended due to rainy days, the delayed time caused by force majeure (in this case, typhoon and rainstorm) shall still be counted towards the extension of the construction period. Similarly, the Guangzhou Intermediate People's Court ruled in an insurance subrogation dispute ((2017) Yue 01 Min Zhong No.14456)[6] that force majeure was a statutory exemption and whether the force majeure clause was stipulated in the contract did not affect the application of the legal provisions. In the scenario where the agreed force majeure clause was narrower than the statutory scope, the party could still claim force majeure based on the statutory provisions. The parties shall not agree to exclude force majeure for the purpose of the exemption of liability.

On the other hand, the Shanghai High People's Court appears to have expressed a more liberal view in a cargo distribution contract dispute[7]. In that case, the court held that in the absence of the prohibitive provisions in law, in order to effectively displace the application of a statutory exemption, parties to a contract must expressly agree on the exclusion of the relevant statutory provisions in the contract. The Shanghai High People's Court ruled that although the parties had included a force majeure clause, they failed to provide expressly for the exclusion of the statutory exemption of liability provided under the PRC Maritime Law. In the absence of such express exclusion, the PRC Maritime Law would continue to apply. It appears that, applying the reasoning of the Shanghai High People's Court, the statutory provisions on force majeure may be excluded from application where the parties expressly provide to that effect.

Recent Developments - Force Majeure Certificate

On 30 January 2020, the China Council for the Promotion of International Trade ("CCPIT"), a quasi-government trade body, announced that in view of the impact brought by COVID-19 and in order to preserve the legitimate interest and to assist in minimizing loss of companies, it will issue a force majeure certificate to companies who failed to perform their contractual obligations due to COVID-19 (the "Force Majeure Certificate").[8]

As of 25 March 2020, CCPIT has issued a total of 6,454 "Force Majeure Certificates" to Chinese companies, covering contracts with a total value of RMB632.1 billion.[9]

However, the legal effects of the Force Majeure Certificate, in particular, whether the breach of contractual obligations stemming from a delay in or even impossibility of performance because of COVID-19 can be waived, remain to be tested in international settings. We have seen a number of Chinese companies applying for Force Majeure Certificates as a precautionary measure.

Alternative – Major Change of Circumstances

The threshold to invoke the force majeure mechanism under PRC Law is high. Alternatively, where there is a major change in the circumstances which is unforeseeable, not a business risk, and not caused by a force majeure event, and where such major change renders the performance of the contract obviously unfair to a party or makes it impossible to realise the purpose of a contract, a party may file a request to the people's court to have the contract modified or rescinded. The people's court shall then decide whether or not to modify or rescind the contract under the principle of fairness and in light of the actualities of the case.[10]

In 2018, the Shandong Yantai Intermediate People's Court held that the outbreak of SARS back in 2002-2003 was unforeseeable and that the economic loss arising out of the closure of the appellant's guesthouse was substantial and exceeded the scope of "market risks". Therefore, the Court approved the trial judge's finding that there was a "major change"[11]. Analogously, a party may wish to rely on this mechanism where it is still possible but unfair for such party to perform its contractual obligations in times of the viral outbreak.

These two legal apparatuses are often considered as an alternative to one another, but it is important to bear in mind the differences between them as they are mutually exclusive pursuant to the Interpretation II on Several Issues concerning the Application of the Contract Law of the People's Republic of China (《关于适用<中华人民共和国合同法>若干问题的解释(二)》):

  Force Majeure Major Change 
Threshold
  • The force majeure event must be unforeseeable, unavoidable, insurmountable (i.e. the contract must have been rendered impossible to perform).

  • The supervening event does not need to have rendered the performance of contract impossible. A party only needs to establish that the contractual performance has become obviously unfair, or that the purpose of the contract can no longer be realised.

Outcome
  • The party who successfully pleads force majeure will be released from its contractual obligations in part or in whole as a matter of law.

  • The statute of limitation can be suspended due to force majeure according to the PRC General Provisions of the Civil Law.

  • The Court will exercise its discretion based on principle of fairness and in light of the actualities of the case. The contract may not necessarily be modified or rescinded.

  • The statute of limitation will not be suspended due to major change

To understand force majeure in other jurisdictions, Bird & Bird has published a cross-border overview on this topic, visit here for more information.

Practical advice
a) Conduct a thorough contract audit, review the existing contracts for force majeure clause and consider the relevant scope of its operation

As a general principle of contractual interpretation under Hong Kong law, a force majeure clause has to be construed in light of the nature and other terms of the contract. More specifically, the effect of this clause will depend heavily on its precise wording. There is no "one size fits all" interpretation on force majeure clauses as there are many differently worded versions out there.

Usually a force majeure clause contains three elements:

  1. A statement of the triggering events: Often this will be in the form of a list of specific examples, followed by a catch-all provision for the force majeure mechanism to kick in. In some contracts, parties may also set out events which are specifically excluded.

  2. Obligations of the party wishing to invoke the force majeure clause: Almost certainly a force majeure clause will provide for the time frame within which and the method by which a party must notify its intention to invoke the force majeure clause. Such party is also usually under a contractual obligation to take reasonable steps to mitigate the impacts of the force majeure.

  3. What happens to the parties' contractual obligations?: Parties enjoy a degree of flexibility in tailoring the remedies available when a force majeure event happens. Parties may either be released from the contract, or be entitled to suspend the performance of their obligations.

With the inextricable and widening economic linkage between Hong Kong and China, one can imagine there will inevitably be an increasing number of cross-border contract disputes involving a Hong Kong party and a PRC party. It is against this backdrop that we have recently come across a common yet peculiar issue.

These contracts are sometimes rudimentary and not drafted to the highest standards, one result of which is that parties omit to include a governing law clause and also a force majeure clause.

Generally a governing law clause allows a party to apply the substantive law of an appropriate jurisdiction to the contract at the outset of their contractual relationship.

A "missing" governing law clause will create a loophole in the contract itself – this is because the parties' choice of law to resolve any disputes or claims arising from or in connection with the contract is now not conclusive.

The absence of an express governing law clause therefore will require an in-depth consideration of a range of factors using the "closest and most real connection" test under Hong Kong law[12]. Those factors entail the subject matter of the contract; the place of intended performance; the place of making or negotiating the contract; the domicile of the parties; and any related transactions. It should be noted that the Hong Kong court tends to place greater weight on the "the place of intended performance" among all the factors[13].

As we have explained above, the positions of Hong Kong Law and PRC Law regarding force majeure are different. One notable difference between these two jurisdictions is that in the absence of an express force majeure clause, under Hong Kong law, a force majeure clause cannot be implied into a contract, a party will have to turn to the common law doctrine of frustration. Conversely, under PRC law, the contract will be construed in light of the relevant provisions under legal instruments as if a force majeure clause exists. Naturally the party who wants to rely on force majeure will argue that the contract is subject to Chinese law whilst the other party will say otherwise.

In such situations, it is unlikely that either party would be willing to accept the other's interpretation on the governing law of the contract. This will likely cause a series of both legally and practically unintended consequences, such as, incurring substantial legal fees and difficulties in further performance of the contract, all of which are likely to cause a strained relationship between the contracting parties.

In light of the above, it is advisable to conduct a thorough contract audit at an early stage. We also highlight the importance of maintaining accurate (and preferably written) records of discussions and decision-making, such that in the event of a potential dispute, one can quickly gather the essential proof and evidence.

b) Engage in good faith and without prejudice discussions with contracting parties

During this difficult time of lockdown where businesses are interrupted from their normal operations and with manufacturing grinding to a halt, companies may find it arduous, or even impossible, to meet their contractual obligations. By the same token, they may also encounter situations where their suppliers and business counterparts are failing to or having a delay in meeting their contractual promises.

We encourage companies to explore the possibility of working out a solution in a more collaborative fashion before considering the termination of contract. Engaging in good faith and without prejudice discussions with their contracting parties will help us all get through this difficult time. As we have explained above, terminations of contracts on the grounds of force majeure or frustration are often more fraught and uncertain than it might first seem. 

In many situations, preserving long term business relationships, building a reputation by adapting to this turbulent time and fostering future opportunities seem to be more aligned with a sustainable business strategy than a hostile approach in threatening or commencing legal proceedings. As parties attempt to steer through the hardships together, they may well realise that instead of being in adversarial positions, they, as the old Chinese maxim says, are all "in the same boat in a storm" (風雨同舟).

We have experience in advising companies how to navigate through the potential business and legal hardships emanating from the COVID-19 pandemic. If you would like to know more about how Bird & Bird can assist with you, please get in touch with the authors or your regular Bird & Bird contact.

Bird & Bird have also published a wide range of briefings on the impact of COVID-19 on other businesses and industries which you can read here. Please stay connected and healthy.

The content on this Article seeks to provide you with general information on force majeure in Hong Kong and Mainland China. The information contained herein is not legal advice in respect of the application of Hong Kong law and/or PRC law and should not be relied upon or act on as such. It is subject to changes without further notice and may not be fully up-to-date.

Our offices in Beijing, Hong Kong and Shanghai operate as a collaborative integrated practice, including our association with Lawjay.

Under current PRC regulations, we may provide information concerning the impact of the Chinese legal environment, but are not authorised to practice PRC law or to render legal opinions in respect of PRC law.

Last reviewed: 24 April 2020

(1) [2004] 1 HKLRD 754

(2)<< “新冠病毒”疫情下外贸企业适用不可抗力和情势变更制度法律指南>>, issued by中国贸促会商事法律服务中心法律顾问处 in February 2020, retrieved from http://aaa.ccpit.org/Category7/Asset/2020/Feb/18/onlineeditimages/file71582028983203.pdf

(3) In Chinese: “对于因疫情防控不能履行合同的当事人来说,属于不能预见、不能避免并不能克服的不可抗力、根据合同法的相关规定,因不可抗力不能履行合同的,根据不可抗力的影响,部分或全部免除责任,但法律另有规定的除外。

(4) Comments made during a press conference on 16 February 2020, titled "2月16日上海市新冠肺炎疫情防控新闻发布会" (https://yicai.smgbb.cn/live/m/100506951.html)

(5) 卓盈丰制衣纺织(中山)有限公司与广东长城建设集团有限公司建设工程施工合同纠纷抗诉案(2008)民一抗字第20号

(6) 中国人民财产保险股份有限公司东莞市分公司与中国物资储运广州公司等保险人代位求偿权纠纷上诉案(2017)粤01民终14456号

(7) 太平财产保险有限公司北京分公司与中国外运华东有限公司海上货物运输合同纠纷上诉案(2019)沪民终298号

(8) <<"万众一心迎挑战、众志成城战疫情”中国贸促会不可抗力事实性证明与您同舟共济度时艰>>, dated 30 January 2020, retrieved from http://www.ccpit.org/Contents/Channel_4324/2020/0130/1240495/content_1240495.htm

(9) <<中国贸促会指导企业用好不可抗力事实性证明 预计近六成合同有望保留>>, dated 26 March 2020, retrieved from http://www.ccpit.org/Contents/Channel_4324/2020/0326/1249140/content_1249140.htm

(10) Article 26, Interpretation II of the Supreme People's Court of Several Issues concerning the Application of the Contract Law of the People's Republic of China.

(11) 李培艳、莱州市永安路街道西关居民委员会追偿权纠纷二审民事判决书(2018)鲁06民终268号

(12) Hung Fung Enterprises Holdings Ltd v Agricultural Bank of China [2012] HKCU 1275

(13) Bank of India v Gobindram Naraindas Sadhwani [1988] HKCU 398