California Courts Weigh in on Contractual Obligations in the Era of COVID-19

As discussed in previous updates (the most recent of which you can find here and here), courts across the country continue to grapple with the application of force majeure provisions in contracts, as well as the related legal doctrines of impossibility, frustration of purpose, and impractability, in breach of contract actions precipitated by the COVID-19 pandemic. Similarly, the issue of whether businesses affected by COVID-19 can recover their losses through insurance policies continues to surface. Most recently, California courts have started to weigh in on these questions. Although there have only been a few cases so far, it appears California federal courts are leaning towards the national trend of reading contracts strictly, but may excuse performance where a direct link between the inability to perform and the pandemic (including inability caused by government orders resulting from the pandemic) can be demonstrated.

Impracticability of Performance

Just weeks after the nationally-declared state of emergency, an individual filed a class action against Norwegian Air, asserting a single cause of action for breach of the operative contract, the General Conditions of Carriage (“GCC”).¹ According to the plaintiff, the GCC entitled her to a refund for a flight that was canceled due to the pandemic – and although she ultimately received one, she alleged that it was not “timely.”

Notably, the court rejected plaintiff’s argument that the airline and website were required to provide her with a flight and thus breached the contract by cancelling her flight. Observing that the flight cancellation was “due to the coronavirus travel ban imposed between the United States and Europe in March of 2020,” the court found that Norwegian’s contractual obligation to provide carriage to plaintiff and other passengers was “discharged because performance was rendered impracticable” by the government orders.² The court relied upon Restatement (Second) of Contracts§ 264 to hold that “[i]f [] performance of a duty is made impracticable by having to comply with a domestic... governmental regulation or order, that regulation or order is an event the nonoccurrence of which was a basic assumption on which the contract was made,” thus discharging performance under the contract.³ The court held that the travel ban fit the bill in this instance and excused the airline’s performance.⁴

In reaching this decision, the court became one of the few in the country so far to excuse contractual performance based upon the impracticability doctrine outlined in Restatement (Second) of Contracts§ 264. Although the court did not address or attempt to distinguish recent cases in which the impracticability defense was rejected, the court appeared to rely upon the fact that there was a direct link between the airline’s inability to perform and the government orders at issue.

Recovery of Business Losses Under Insurance Policies

A business owner in California filed suit against its insurance carriers after it was required to close due to the State of California’s Executive Order N-33-20 and other public health orders attempting to slow the spread of COVID-19.⁵ As a result of ensuing business losses, plaintiff filed a claim with its insurers, requesting coverage under the policy for lost income due to the closure orders. When plaintiff’s insurers denied the claim, plaintiff filed suit. The insurers moved to dismiss, relying upon, among other things, the insurance policy’s “Virus Exclusion” provision, which states that the insurer will not pay for loss or damage caused directly or indirectly by “‘fungi,’ wet rot, dry rot, bacteria or virus.”⁶

The court found that, based upon the plain language of the policy, the insurers had met their burden of proving the applicability of the Virus Exclusion, as plaintiff had clearly alleged its losses were caused directly or indirectly by COVID-19, a virus.⁷ Plaintiff argued that, notwithstanding the Virus Exclusion, its claim was covered under the policy’s “Civil Authority Coverage” provision. By its terms, this provision applied to the “actual loss of Business Income” sustained when “access to [the insured’s] ‘scheduled premises’ is specifically prohibited by order of a civil authority as the direct result of a Covered Cause of Loss to property. . . .”⁸ The court reasoned that the Civil Authority provision did not apply because plaintiff’s losses were not the result of a “Covered Cause of Loss,” since the civil authority orders were issued in response to a virus that, again, was excluded from coverage by the policy’s Virus Exclusion.⁹

Plaintiff also argued that alternatively, there was coverage under the policy’s “Limited Virus Exception,” providing limited coverage “where a virus is the result of one or more ‘specified causes of loss,’” such as fires, lightning, explosions, and windstorms.¹⁰ The court found that plaintiff had not met its burden of alleging that COVID-19 was the result of a “specified cause of loss,” since the virus did not result from any of the listed “specified causes of losses.”¹¹ Accordingly, the court granted the insurers’ motions to dismiss, but, in light of the “rapidly evolving legal landscape involving COVID-19,” the court gave plaintiff leave to amend certain claims.¹²

Takeaways:

These recent decisions signal to businesses that while courts remain open to considering force majeure and related doctrines as a defense to claims of breach of contractual obligations in the commercial context, most courts are interpreting contractual language strictly, and may also require a strong causal connection between the claimed force majeure event and the litigant’s failure to perform. Decisions about whether certain losses are covered by insurance policies turn on the specific language of those policies, with different courts reaching different conclusions based upon policy language. As a result, it is important to continue to monitor new court decisions on these issues amidst the rapidly-changing legal landscape created by the COVID-19 pandemic.

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1. 2020 U.S. Dist. LEXIS 173854 (C.D. Cal. Sept. 17, 2020).
2. Id. at *14.
3. Id. (internal quotation marks omitted)
4. Id.
5. 2020 U.S. Dist. LEXIS 174010 (N.D. Cal. Sept. 22, 2020).
6. Id. at *4-6.
7. Id. at *4-5.
8. Id. at *6.
9. Id. at *7-8.
10. Id. at *11.
11. Id.
12. Id. at *18.