Force Majeure: a Time Bomb


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A look into Force Majeure clauses from a Risk Management point of view, with particualr emphasys on the impact of climate changes.

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Force Majeure: a Time Bomb

  1. 1. Riskope Force Majeure Clause in Contracts A time bomb? By F. Oboni & C. Oboni Riskope International SA © 2010 1 Riskope's blog
  2. 2. Force Majeure clauses are now well established as “boilerplate” clauses, essential to the mechanics of commercial contracts. FM literal meaning is “superior force”, denoting an influence that is not capable of being controlled. The Messina earthquake and tsunami took as many as 200,000 lives on December 28, 1908 in Sicily and Calabria. Riskope International SA © 2010 2 Riskope's blog
  3. 3. FM has been passed down from the common law courts of England, and hasn’t really changed significantly in a very long time despite the radical changes in the world. The Elie, Manitoba Tornado of June 22, 2007 was the first tornado in Canadian history to cause F5 damage. (261-318 mph) Riskope International SA © 2010 3 Riskope's blog
  4. 4. For example, delays due to breakdowns in machinery did qualify as a FM events, while bad weather, football matches and a funeral did not. Geneva January 2005 freak ice storm...a “first in records” event Riskope International SA © 2010 4 Riskope's blog
  5. 5. Some homeowners insurance policy state that wind shear is an act of nature but a tornado is an Act of God and is not covered. 1999 Salt Lake City First known casualty in a Utah Tornado How are climate changes related events going to be considered? Riskope International SA © 2010 5 Riskope's blog
  6. 6. Modern FM include a “non-exhaustive” list of events so as to ensure that any circumstances not mentioned can be argued to be included. Importantly, the ejusdem generis rule does not apply to FM i.e. specifying events does not cut down the meaning of any general words that follow. Riskope International SA © 2010 6 Riskope's blog
  7. 7. Clearly whether events such as riots and strikes come within the definition is debatable...what about “new” risks such as IW, MP etc.? Although paradoxical it seems that “future risks” might be more easily dealt than “usual” risks. Riskope International SA © 2010 7 Riskope's blog
  8. 8. Despite the generalized use of FM clauses, Courts have struggled to define what FM means as statements leave major room for interpretation. Perhaps the Supreme Court pornography explanation: “it is difficult to define, but I know it when I see it” should be used for FM! Riskope International SA © 2010 8 Riskope's blog
  9. 9. FM allows a party to terminate a contract under extreme circumstances, usually when performance becomes impossible or impracticable. The party intending to rely on FM must establish that the event in question was beyond their control; and that there were no further steps the party could have taken to avoid or mitigate the consequences. Riskope International SA © 2010 9 Riskope's blog
  10. 10. The more difficult cases arise when one party to the contract claims performance is impossible, while the other maintains that performance is possible, but just at a greater expense to the other party. Attempts have been made to increase FM scope for commercial advantage. Riskope International SA © 2010 10 Riskope's blog
  11. 11. Donald Trump has argued that the current financial crisis qualifies as a FM event. This would excuse him making payments on a real estate loan. Trump, Donald et al. –v- Deutsche Bank Trust et al., New York Supreme Court, Queens, 026841/2008. The case raises interesting questions over the scope of FM during periods of national and/or international crises of various origin. Riskope International SA © 2010 11 Riskope's blog
  12. 12. Economists and financial experts seem indeed to dare say that a phenomenon that happens (with a range of magnitudes) seventeeen times in two hundred years, and happened with very significant magnitude seventy years ago and again in 2008-2009 is... .... unforeseeable…??!! they have even invented a nice wording for it….a black swan…!! Riskope International SA © 2010 12 Riskope's blog
  13. 13. What many Industries seem to adopt as a rule: a Maximum Credible Event has a probability between 1/100,000 and 1/1,000,000. Anything below those values would be “not credible”, thus an Act of God. Riskope International SA © 2010 13 Riskope's blog
  14. 14. Let's Consider Climate Changes Related Events as an Example Riskope International SA © 2010 14 Riskope's blog
  15. 15. Force Majeure a contractual Time bomb! What would happen if more than 25 occurrences in 48 years got declared “normal” ? Riskope International SA © 2010 15 Riskope's blog
  16. 16. With hurricane activity in the Gulf Coast at higher than historical levels in 10 of the past 12 years, and with forecasters able to predict hurricanes several days in advance, the position that a hurricane in the region is an unforeseen circumstance may be challenged. Riskope International SA © 2010 16 Riskope's blog
  17. 17. Ý#a#c#k#a#g#e#_#s#t#r#e#a#m### But shouldn't we define what type of Hurricane we are talking about? By defining, for example, limiting values of the Hurricanes and their limiting frequency, we would have a way stronger FM clause. Riskope International SA © 2010 17 Riskope's blog
  18. 18. How to perform that task ? Proper hazards identification and scenarios definition Quantification of limiting values Negotiations based on risk tolerability of both parties Win-win B2B strategies Riskope International SA © 2010 18 Riskope's blog
  19. 19. Optimization will take the form of: -more detailed explanation of terms, -definition of threshold values (quantified), -definition of mitigative levels to be considered “common practices” or “best practices”, -definition of negligence, -limiting value of Force Majeure. Riskope International SA © 2010 19 Riskope's blog
  20. 20. The optimization of Force Majeure formulation constitutes an important proactive mitigative measure with very large potential ROI (Return On Investment). It will reduce discussions and litigation in the aftermath of an uncommon event, which is equivalent to “sparing time”, or reduce the impact of the mishap. Riskope International SA © 2010 20 Riskope's blog
  21. 21. Contact Riskope to discuss how we can support you in optimizing your next contract's Force Majeure clause. Riskope International SA © 2010 21 Riskope's blog