Contract Breaches Caused By COVID-19 and How “Force Majeure” Clauses Apply

General Business Trial Group April 2, 2020

The novel coronavirus COVID-19 has impacted the world in ways that did not seem possible just a short time ago, with business-as-usual grinding to a halt. Factory closings, event cancellations, conference postponements, transportation restrictions, and general concerns over the pandemic are causing major supply chain and labor disruptions. The current state of affairs is also raising questions about contract performance and the application of “force majeure” clauses.

Force majeure, translated from French as “superior force,” refers to a contractual provision that frees both parties from obligation in the event of circumstances beyond their control, such as a natural disaster or war. As the coronavirus continues to disrupt business — and as businesses struggle to satisfy contracts — the applicability of force majeure clauses is becoming a critical legal issue. The question of COVID-19 excusing parties from their contractual obligations may depend on the actual contract language, as well as local law.

Origins of the Force Majeure Clause

Force majeure clauses can be traced back to an English case decided in 1863. Taylor vs. Caldwell was a breach of contract dispute in which the defendant agreed to let the plaintiff rent a music hall and gardens for four days. After the contract was signed, but before the first event could take place, the venue was destroyed by accidental fire. The plaintiff sued the defendant for failing to rent out the music hall and breaching the contract, but the court ruled that the contract contained an implied condition that the venue was the foundation of the contract, and that without it, the contract was impossible to fulfill. Thus, the destruction of the hall, which was the fault of neither party, excused both parties.

The United States Supreme Court adopted the same rule of law twenty years later in a case (The Tornado) involving a ship that could not deliver freight because it caught fire before the voyage. Since the contract did not include a clause specific to this situation, SCOTUS applied the principle from Taylor vs. Caldwell. That is, because the contract depended on the ship being seaworthy, and because it was rendered unseaworthy, without the fault of either party, both parties were excused from performance.

American courts continue to apply this principle, but with certain modifications. A party relying on the defense of impossibility of performance must establish: (1) the unexpected occurrence of an intervening act; (2) the occurrence was of such a character that its non-occurrence was a basic assumption of the parties’ agreement; and (3) said occurrence made performance impracticable.

Coronavirus, Force Majeure, and Contract Enforceability

In regards to COVID-19 and contract nonperformance, if a contract doesn’t contain a force majeure clause, it could be implied under the impossibility doctrine described above, or the related frustration of purpose doctrine. For example, port shutdowns and transportation restrictions during the coronavirus outbreak could make it impossible for a party to perform their contractual obligations. Performance, however, must be truly impossible — not merely impractical or financially difficult.

If a contract does contain a force majeure clause, whether coronavirus is a qualifying event depends largely on contract specifics. For example, the contract could include language such as “epidemic,” “pandemic,” “disease,” “quarantine,” or “acts of government.” This is the case with the collective bargaining agreement between the National Basketball Association and its players. The agreement contains a force majeure clause that specifically references “epidemics” and could be invoked to reduce player compensation as the NBA season is suspended.

Contracts may not specifically mention epidemics, pandemics, and quarantines as force majeure events, but they could have a catch-all phrase (e.g., “any other circumstance beyond the control of the parties which they cannot overcome through reasonable and diligent efforts”) that is interpreted to capture coronavirus-related disruptions. Such an interpretation will likely vary significantly across jurisdictions depending on state laws. Force majeure provisions can also take on different characteristics based on the type of agreement and the industry involved.

Talk to an Experienced Breach of Contract Lawyer

The coronavirus pandemic has sowed uncertainty throughout Florida and the country. Our breach of contract lawyers understand that coronavirus affects stakeholders across the entire supply chain and employment landscape. To discuss the legal implications of COVID-19 for your business, schedule a free no-obligation case review.

In keeping with our philosophy of not charging upfront or hourly attorneys’ fees, the Business Trial Group is here to discuss any contract dispute you are having during this crisis. We will never charge you for a consultation and, if we are able to assist, you will owe us nothing unless and until we make a recovery for you.

Have a question about how coronavirus affects your contract? Get in touch with an attorney.

How Businesses Can Recover MyPayrollHR Losses

General Emily Zulz November 15, 2019

If you are one of the thousands of businesses that was financially affected by the sudden collapse of MyPayrollHR and the arrest of the payroll company’s CEO, you may have a legal case to recover your losses.

MyPayrollHR conducted online payroll services for companies across the United States prior to its sudden closing on or about Sept. 5, 2019. According to an NBC News report, the company handled payroll for roughly 1,000 businesses across the United States. In some cases, companies may have white-labeled MyPayrollHR’s services.

Michael Mann, MyPayrollHR’s CEO, was arrested and charged in a $70 million bank fraud scheme near the end of September. The criminal complaint against Mann states that he borrowed large sums of money from banks and financing companies under false pretenses for the span of nearly a decade, in which he ultimately obtained around $70 million that he has not paid back.

According to reports, court filings show that Mann admitted under questioning that, in early September, he diverted to his own bank account $35 million in funds sent by his clients to cover their employee payroll deposits and tax withholdings.

It’s suspected that MyPayrollHR shuttered suddenly after Mann’s banks suspected him of fraud and froze his accounts.

The Fallout of MyPayrollHR’s Demise

MyPayrollHR’s sudden collapse also affected the automated clearing house (ACH) processor that the payroll company had used for years. MyPayrollHR used a financial services company called Cachet Financial Services to essentially move the money into employees’ accounts via direct deposit.

However, when Mann diverted millions of dollars in client payroll deposits from Cachet to his personal bank account, Cachet’s emptied holding account was debited for the payroll payments. According to reports, Cachet quickly reversed those deposits, which then caused one or two pay periods worth of salary to be deducted from bank accounts for employees of companies that used MyPayrollHR.

In some cases, employers were forced to advance funds to their employees.

Eventually, according to multiple reports, Cachet ultimately decided to cancel those reversals and absorb the $26 million hit. In turn, the financial services company filed a lawsuit against MyPayrollHR, which alleges breach of contract, fraud and unjust enrichment, among other accusations.

Cachet Financial Services recently announced it was no longer handling payroll transactions. According to the Cachet’s website, the company stopped processing ACH payments through its sponsor bank on Oct. 25, 2019 after the bank decided to discontinue processing payroll via ACH for Cachet.

Contact the Business Trial Group for a No-Obligation Case Review

If you believe you have suffered a financial loss due to the activities of MyPayrollHR or related businesses, contact the Business Trial Group right away. Our attorneys are experienced in complex business litigation and routinely handle breach of contract lawsuits involving all types of agreements and industries.

The Business Trial Group operates on a contingency fee basis, which means that we charge nothing for an initial case review, and if we accept your case, we will not charge a fee unless the case is successfully resolved.

Lessons from the $23 Million Sriracha Verdict

General Attorney William Lewis July 22, 2019

In what can aptly be described as hot legal news, a California jury returned a $23 million verdict against the manufacturer of the popular Sriracha sauce, and in favor of the farm that grew its jalapeno pepper supply. The details of the dispute are explained in a recent LA Times article.

Essentially, in 2017, the manufacturer and the farm had a falling out, leading the manufacturer to sue the farm for the return of a $1.5 million overpayment. In response to the lawsuit, the farm filed a counterclaim against the manufacturer for its lost profits from 2017 and 2018, as well as punitive damages. After a three-week trial, the jury returned a $23.3 million verdict, which included $10 million in punitive damages.

The lawsuit is a cautionary tale for businesses involved in partnership disputes, as it appears the case could have been settled before trial. In fact, the contentious litigation highlights a number of issues that apply to many business disputes. Below are three such lessons from the fiery Sriracha litigation.

Lesson No. 1: Verbal Contracts Can be Enforced

While it is better practice to have an agreement in writing so that the terms are clear to all parties, from a legal standpoint, oral agreements are just as valid as written contracts.

In this case, the farm alleged that the terms of the parties’ nearly 30-year partnership were primarily oral and were established from the parties’ business practices. And the jury didn’t seem to have a problem enforcing the “hand-shake” agreement and rendering an eight-figure verdict.

It can be surprising to learn how many significant businesses are operated under oral, or partially oral, agreements. In fact, last year alone, I had two separate successful trials where my clients alleged a breach of an oral agreement. And the takeaway for our team was simple: the law is clear that oral contracts are valid, and juries will enforce them when the parties’ actions reflect the terms.

Lesson No. 2: Don’t Forget About Fraud

It’s important to keep in mind that despite the economic loss rule (or what’s left of it in Florida after Tiara Condominium), there are times when it’s appropriate to bring both fraud and contract claims.

For instance, if an executive makes a false statement of fact that induces a party to enter into a contract that is later breached, in addition to the breach of contract claim, the plaintiff may also have a fraud claim against the executive (and his or her employer). Likewise, a fraud claim can be brought along with a breach of contract claim when a party makes a promise knowing that it never intends to perform its obligations.

One reason a fraud claim can be important is that it may provide for additional damages. In this case, the farm sued the manufacturer for both breach of their partnership agreement and for fraud. A fraud claim can allow for punitive damages that would not be recoverable under a breach of contract claim. Notably, in this case, the manufacturer was awarded $14.8 million in lost profits, along with an additional $10 million in punitive damages.

Lesson No. 3: Watch Out for Counterclaims

Before businesses file a lawsuit, they should always consider whether it will result in a retaliatory counterclaim or third-party claim.

One interesting aspect of the Sriracha case is that the farm, which won the verdict, was originally the defendant. Only after the manufacturer brought a lawsuit seeking $1.5 million in damages did the farm file its counterclaim for in excess of $20 million. Could the parties’ dispute have been resolved without a lawsuit? Did the initial lawsuit cause an unnecessary escalation?

Just because you can file a lawsuit, does not mean you should. Too often, lawyers file baseless lawsuits at a client’s direction, instead of properly advising the client regarding the weaknesses of its claims. And it’s the client that ultimately pays the price – through the unnecessary expenditure of attorneys’ fees and, potentially, exposure to damages or sanctions from needless litigation.

Get the Right Advice

Business lawsuits, such as the Sriracha partnership dispute, raise a myriad of legal issues that may not be initially apparent to the parties. When faced with a heated situation, you should consult with experienced business litigation attorneys and learn all of your options. Getting prudent and timely legal advice will help you select the right path forward and reduce your chances of getting burned.

For a free consultation regarding a business or investment dispute, contact the Business Trial Group.

William B. Lewis is a managing partner of the Morgan & Morgan Business Trial Group and runs the Firm’s West Palm Beach office. His practice is exclusively focused on representing companies and individuals in business and investment disputes on a contingency-fee basis.

Hybrid Attorneys’ Fees for Business Litigation: The Worst of Both Worlds

General Attorney William Lewis June 24, 2019

Alternative fee arrangements are becoming more popular than ever in commercial litigation. Corporate clients, and even small businesses, are increasingly knowledgeable about the costs and risks of litigating business disputes. Consequently, the days of businesses blindly providing a law firm a retainer without negotiating the fee structure and hourly rate are generally a thing of the past.

Clients frequently seek alternative fee arrangements, or AFAs, as a means to limit their exposure and better align the interests of the law firm and client. When it comes to plaintiff’s cases — i.e., lawsuits where a business seeks to recover monetary damages — a common AFA sought by clients is a contingency-fee arrangement. Working under a contingency-fee, the law firm is paid no retainer or hourly fees, but, instead, receives a portion of the recovery from the case.

A contingency fee arrangement aligns the interest of the law firm and client, as both parties’ primary incentive is to achieve the maximum recovery, as quickly as possible. This structure, however, shifts much of the risk of the lawsuit to the law firm, which could wind up spending hundreds of thousands or even millions of dollars in attorney time on a case. The law firm then bears the risk that the recovery is lengthy, insufficient, or non-existent.

The misaligned economic incentives of the hybrid fee structure lead to litigation practices that are not in the clients’ best interests.

Due to the length and expense of complex business cases, few law firms are willing to take these cases on a contingency. Instead, some law firms offer their clients what has become known as a “hybrid” fee arrangement. Under this structure, the law firm agrees to litigate a case for a reduced hourly rate and a percentage of the recovery. For instance, if a business attorney usually charges $500 per hour, she may agree to reduce her rate to $250 per hour, while also receiving 25% of any recovery — which is lower than a customary contingency fee of 35%-45%.

At first glance, the client may perceive this hybrid structure to be a better option than a traditional hourly arrangement, as the reduced rate should theoretically result in lower out-of-pocket expenses, and the law firm should theoretically be motivated to maximize the recovery to increase its contingency payout. In practice, however, hybrid fee arrangements often fail to provide these expected benefits.

As likely the largest exclusively contingency-fee business litigation practice in the United States, we review thousands of potential commercial cases each year and select a fraction of those cases to handle. While it would be easy for us to litigate some of the cases that do not meet our contingency-fee criteria on a hybrid arrangement, we do not do so. The reason is simple: the misaligned economic incentives of the hybrid fee structure lead to litigation practices that are not in the clients’ best interests.

This article explains the practical flaws in hybrid fee arrangements and why this structure tends to serve the law firm’s interest more than the client’s.

The Economics of a Hybrid Fee Arrangement

To understand why the hybrid structure generally does not deliver the expected savings and results for clients, it is important to think about the motivations of the law firm. The simple fact for any business is that people are going to do what they are paid to do. For instance, if you want someone to sell as much of a product as possible, you wouldn’t pay them a flat salary for their time, you’d give them a commission for every sale that’s made.

The economics of a law firm are no different. Lawyers that bill by the hour are going to do what they’re paid to do — bill hours. Likewise, lawyers that are paid on a contingency are going to try to achieve a recovery as efficiently as possible, because that’s what they’re paid to do. Even the most well-intentioned lawyers will be, at least subconsciously, driven by these incentives.

Taking this into consideration, there’s one more key fact of law firm economics in play: lawyers inherently will prioritize work that generates short-term, guaranteed revenue over work with long-term, contingent benefits. This is because nearly all lawyers are compensated in some fashion based on the amount of fees they bring in to their firm each year. And lawyers are acutely focused on increasing their fees and, thus, their compensation.

The Inherent Flaws of Hybrid Fee Arrangements

Because of these incentives, lawyers who are handling both AFA and straight hourly cases often focus their energy on the hourly cases at the expense of the AFA cases. That is, if a lawyer is being paid based on the amount of fees brought in the door, and he receives a guaranteed $500 per hour for working on the hourly case, but only $250 per hour for the hybrid case, the lawyer will usually prioritize the hourly case above the hybrid case. Even though it may be rational to work on the hybrid case because of the eventual contingency payout when it resolves, we have found that the hybrid files tend to get less attention because working the hourly file results in immediate and guaranteed remuneration for the attorney. This is a particularly critical problem for business litigation cases, because these matters do not resolve for their maximum value unless the lawyers are engaged and doing everything possible to push the case towards trial.

Hybrid fee clients also lose the benefit of having lawyers with the efficient mindset that is characteristic of a contingency-fee arrangement. One of the most important advantages of a contingency fee structure is that both the client and attorney are motivated to get the maximum value for a case as quickly as possible. This is in stark contrast to hourly arrangements, where lawyers actually make more money the longer it takes to reach a resolution. Because lawyers litigating a case on a hybrid fee do not need to win to get paid, they tend to focus more on billing hours than getting the case resolved. Moreover, when lawyers are working on a reduced hourly rate, concerns regarding efficient billing tend to be less significant. Consequently, attorneys working on a hybrid-fee structure are apt to bill more hours to a file than they would if they were working on a straight hourly arrangement, resulting in little cost savings for the client.

This “you win/I win, you lose/I win” fee structure often leaves clients with a bad taste in their mouth.

Finally, regardless of how much hourly billing a law firm has on a hybrid fee case, when the case eventually does settle, the firm will still expect its contingency fee. Particularly in cases that go on for multiple years, as many business cases do, the contingency fee aspect of a hybrid structure often leaves the client feeling as though the law firm is double-dipping – receiving both significant upfront hourly fees as well as a portion of the recovery. And unlike straight contingency fee arrangements, the law firm did not bear the financial risk of an unsuccessful result, yet it still reaps the rewards of a successful recovery. This “you win/I win, you lose/I win” fee structure often leaves clients with a bad taste in their mouth.

For all of these reasons, we stopped handling cases on hybrid fee structure many years ago. Based on our prior experience and from counseling clients who worked with other firms under a hybrid fee, at the end of a hybrid case, clients tend to regret not litigating on either a traditional hourly or straight contingency arrangement. And although the reason for this dissatisfaction may not be clear to the client at the outset, it is caused by the misaligned incentives described above. Hybrid fee structures are set up to fail – they incentivize inefficient hourly billing, while giving the client the perception they are receiving a discount that ultimately never materializes.

Hybrid Fees Benefit the Law Firm More Than the Client

We generally advise clients to avoid hybrid arrangements in favor of full contingency, hourly, or flat fee arrangements. The benefit of these structures is that the law firm’s motivations are clear to the client, which allows the client to more effectively manage the relationship. The truth, which is often obscured from clients, is that hybrid fees are more about the finances of the law firm than the client. Law firms pitch hybrid fees as a way to reduce clients’ costs, when they are actually a way for a law firm to get the upside benefits of a contingency fee arrangement, without taking on the financial risk.

If a client is offered a hybrid fee arrangement by a law firm, the client should ask the firm whether they will handle the case on full contingency. If a law firm believes in the merits of a client’s case, they should be willing to share the risk with the client. If the law firm does not have the financial resources to take a business case on a contingency, or the facts of the case do not lend themselves to a contingency arrangement, then an hourly or flat fee arrangement is generally the best option.

Clients, however, are not well-served by paying a law-firm to litigate a case hourly without a focus on efficiency, only to then provide a significant portion of the recovery to the law firm. In this hybrid scenario, clients wind up with a fee structure that incorporates the shortcomings of both contingency and hourly arrangements, without the clear benefits of either. In other words, the client gets the worst of both worlds.