June 23, 2020
On June 2, 2020, Judge Donald R. Cassling of the United States Bankruptcy Court for the Northern District of Illinois held that a state executive order suspending dine-in services to address the COVID-19 pandemic (the “Executive Order”) constituted a force majeure event that partially excused performance under the applicable lease agreement. In re Hitz Restaurant Group, No. 20-B-05012, 2020 WL 2924523 (Bankr. N.D. Ill. June 2, 2020). The creditor, a property management company, sought to enforce the obligation of the debtor, a restaurant group that leased property from the creditor and filed for bankruptcy, to pay post-petition rent under Section 365(d)(3) of the Bankruptcy Code. 11 U.S.C. §§ 365(d)(3). Applying contract principles under Illinois law, the Court held that the force majeure clause of the lease agreement excused the debtor’s lease payments, but only to the extent the debtor’s operations were impacted by the Executive Order.
On February 24, 2020—prior to the issuance of the Executive Order—the debtor filed a petition for Chapter 11 and failed to pay rent that was due under its lease agreement. On March 16, 2020, the Illinois Governor issued the Executive Order requiring, among other things, that all restaurants in the state “suspend service for . . . on-premises consumption.” The Executive Order also provided that restaurants were “permitted and encouraged to serve food and beverages so that they may be consumed off-premises . . . through means such as in-house delivery, third-party delivery, drive-through, and curbside pick-up.”
The creditor sought to recover all unpaid rental payments from the debtor under Section 365(3) of the Bankruptcy Code, which requires that a debtor-in-possession “timely perform all the obligations of the debtor . . . arising from and after the order for relief under any unexpired lease of nonresidential real property until such lease is assumed or rejected.” The debtor responded that the lease payments were excused by the lease’s force majeure clause, which provided:
Landlord and Tenant shall each be excused from performing its obligations or undertakings provided in the Lease, in the event, but only so long as the performance of any of its obligations are prevented or delayed, retarded or hindered by . . . laws, governmental action or inaction, orders of government . . . . Lack of money shall not be grounds for Force Majeure.
Under Illinois law, contracts are enforced according to their terms, and force majeure clauses excuse contractual performance only “if the triggering event cited by the nonperforming party was in fact the proximate cause of that party’s nonperformance.”
Applying these principles, the Court first found that the lease’s force majeure clause was “unambiguously triggered” by the Executive Order because the Executive Order constituted both “government action” and the issuance of an “order” as set forth in the plain language of the force majeure provision. In so holding, the Court rejected the creditor’s argument that the force majeure provision was not triggered because the Executive Order did not shut down the banking system or post offices such that the debtor was unable to write and send rental checks to the creditor. Calling the argument “specious,” the Court found that the Executive Order restricted the debtor’s operations on-premises and “was unquestionably the proximate cause of [the] debtor’s ability to pay rent.” However, the Court also held that the force majeure clause did not excuse the debtor’s non-payment of rent before the Executive Order.
The Court also rejected the creditor’s argument that the debtor’s inability to perform arose from a “lack of money,” a cause that was carved out from the force majeure clause. The Court explained that the debtor did not argue that a lack of funds was the reason for non-payment, but instead that the reason was the Executive Order shutting down on-premises consumption of food and beverages in restaurants. The creditor also argued that the debtor could not rely on the force majeure clause because the debtor did not apply for loans to obtain money to pay the rent. The Court disagreed, holding that nothing in the clause required a party to borrow money to counteract the effects of a force majeure event.
Finally, the Court held that the Executive Order excused the debtor’s post-Executive Order payment only to the extent that it reduced the debtor’s revenue because of the prohibition against restaurant operations on-premises. Because the Executive Order encouraged restaurants to perform carry-out, curbside pick-up and delivery services, the debtor’s obligation to pay rent was not excused by the force majeure clause “to the extent that [the] debtor could have continued to perform those services.” Based on the debtor’s estimation that 75% of the square footage of the restaurant, consisting of its dining room and bar, was rendered unusable by the executive Order, the Court, having not yet held an evidentiary hearing, preliminarily held that the debtor owed at least 25% of the rent after applying the force majeure clause to the 75% of the business rendered unusable by the Executive Order.
This decision is among the first cases related to how COVID-19 may excuse a party from performing contractual obligations. Two things about the decision are worth noting. First, the force majeure event was not the pandemic itself, but the Executive Order, under a contract provision that specifically included “governmental action” and “orders of government” as force majeure events. Second, the force majeure clause applied to excuse performance only to the extent that the triggering event proximately caused the party’s inability to perform. Whether a party’s contractual performance can be excused by a force majeure clause in light of the pandemic ultimately will vary from case to case, depending on the language of the relevant contractual provisions, the asserted triggering event, and the impact of that event on a party’s performance.
For our analysis on force majeure and other contractual considerations in light of the COVID-19 pandemic, please see our Perspectives here.