We are all getting used to the challenges of the lockdown. As it becomes clear that this situation is going to continue for some time, we need to consider the legal implications of the stress caused to businesses by the double blows of Covid-19 and the oil price fall.
We are considering many of these issues in detail with our clients and over the next couple of columns we will comment on the most common, starting with material adverse change and force majeure.
The impact of the oil price fall will be worse for heavily indebted operators and contractors, who face breach of covenants and possible insolvency if they cannot meet debt repayment obligations or restructure their debts.
Many loan agreements contain clauses addressing material adverse effect (MAE) or material adverse change (MAC) which are used for protection from events whose magnitude cannot be anticipated in due diligence and risk assessment.
Whether a MAC/MAE provision can be invoked in relation to an event will depend on its precise terms. Lenders use the MAC/MAE concept in two main ways:
• The borrower must show there has been no MAC/MAE as a condition precedent to any drawdown of a facility and repeat this representation at the start of every interest period. If this cannot be confirmed, the lenders are not obliged to lend; and
• The occurrence of a MAC/MAE is a standard event of default – if such an event occurs during the term of the loan, this may allow the lenders to demand repayment and enforce security.
Lenders are cautious about calling default based solely on a MAC/MAE, as there is rarely certainty a court will agree with their determination. This is true of the Covid-19 situation given the uncertainty about the proliferation of the virus and the medium-term economic impact.
An unsuccessful MAC/MAE claim in the courts could lead to a lender incurring significant damages liability to make good the borrower’s losses.
In the absence of a definite event of default, lenders may consider interim options such as short-term waivers, consents, standstill agreements, alternative security, increased rates or encouraging the borrower to apply for the various government loan schemes.
Ahead of the next interest payment date and financial covenant test date, borrowers will be assessing their position.
Whether a MAE is alleged to have occurred now does not exclude the risk of the bank calling default in the future. Borrowers usually have an ongoing obligation to notify lenders of any default and loans will often require no default representations to be repeated periodically and on the rollover of an existing loan.
Force majeure (FM) refers to an event beyond the control of the parties which has the effect that performance of a contractual obligation is prevented or delayed.
Current events have begun to test the operation and efficacy of FM provisions in oil and gas contracts.
An FM provision was invoked by Delek recently to obtain an interim injunction in respect of the repayment of £46m loan, citing the “deep crisis” in the markets.
In English law there is no automatic right to relief from contractual obligations based on FM. Whether a contract caters for FM is a matter for negotiation.
There is no single industry standard FM clause, and so each FM clause must be carefully considered in its contractual context. There are three key things to look out for:
• What particular event(s) have the parties agreed will comprise FM under their contract? Are FM events specifically described in the contract or has a wider catch-all provision been used?
• What is the consequence if an FM event occurs? Does the contract entirely excuse parties from their obligations, or are obligations suspended until the force majeure event subsides? Is there a right to terminate after the passage of a certain period of time?
• What is the necessary causal link between the FM event and the impact on a party’s ability to perform? Must the “but for” test be met, whereby the party must show it would otherwise have performed its obligations?
This may be significant in current circumstances given the interaction between the oil price fall and the effects of the pandemic.
As oil price fluctuation is often explicitly or implicitly excluded from FM provisions, this may make establishing force majeure more complex than it may otherwise be.
Added to the complexity will doubtless be a debate about whether any alleged competing causes (such as oil price falls) are, indeed, independent or are part of a single chain of events resulting from the same ultimate cause.
If a potential force majeure event is not the sole cause it is important to consider issues of how the FM clause deals with causation before taking drastic steps.
In Seadrill Ghana Operations Limited v Tullow Ghana Limited  EWHC 1640 (Comm) seeking to terminate a rig contract for force majeure, in a falling oil market, cost Tullow $254m in damages when the court decided that termination for force majeure was not permissible.
Events such as this pandemic show the importance of careful, tailored drafting provisions.
However, before the last month or two, how many of us when reviewing an FM clause would have commented on the absence of “pandemic” from the listed events?
Penelope Warne, the senior partner, CMS