US Federal Court Rules “Covid-19 Pandemic is a Natural Disaster”

Finding in favour of Phillips Auctioneers LLC, Hon. Denise Cote of the Southern District of New York dismissed JN Contemporary Art LLC’s complaint against Phillips, holding that (i) “[i]t cannot be seriously disputed that the COVID-19 pandemic is a natural disaster”; and (ii) Phillips, therefore, did not breach its consignment and guarantee agreement with JN Contemporary when it invoked the force majeure provision[1] in the agreement to terminate the parties’ relationship.

JN Contemporary has filed a notice of appeal.  If affirmed by the United States Court of Appeals for the Second Circuit, this decision will set an important precedent.  The court’s categorisation of the Covid-19 pandemic as a natural disaster enables similarly situated contracting parties, who are unable to (partially or fully) perform their obligations under an agreement, to invoke the force majeure provision in the agreement to potentially walk away from their contractual obligations and terminate the parties’ relationship. 

Under New York and English law, whether a party can invoke force majeure to be protected from liability for failing to, partially or fully, perform their contractual obligations will depend on the wording of the provision in the contract addressing force majeure, if there is one.  This decision underscores the importance of paying close attention to the fine print, as it can, and often does, impact a business’s bottom line.

Key Facts

In June 2019, JN Contemporary, a New York dealership affiliated with the Nahmad family, and Phillips entered into two agreements governing the public sale of two paintings: one by artist Rudolf Stingel and another by artist Jean-Michel Basquiat.  According to the court documents, JN Contemporary owned the Stingel painting, while Phillips (or its principal) owned the Basquiat. 

Pursuant to the Basquiat agreement, JN Contemporary agreed to place an irrevocable auction bid of £3,000,000 on the Basquiat painting being publicly auctioned by Phillips London in 2019.  In consideration for JN Contemporary’s irrevocable bid, Phillips agreed to pay JN Contemporary a financing fee of 20% of the sale price above £3,000,000 (also known as overage) if JN Contemporary or an unrelated third party purchased the Basquiat at a price exceeding £3,000,000.  The Basquiat sold for £3,200,000 plus premium and JN Contemporary received their financing fee.

The Basquiat agreement was conditional upon the parties executing the Stingel agreement.  The Stingel agreement was a consignment agreement with a guarantee, whereby JN Contemporary consigned the Stingel painting to Phillips New York for sale in their New York spring 2020 evening auction, scheduled at the time for May 2020 and, in consideration for the consignment, Phillips agreed to pay JN Contemporary a guaranteed minimum amount of $5,000,000 (the “Guaranteed Amount”) for it.  The Stingel agreement also provided Phillips with a commission from JN Contemporary equal to 20% of the amount by which the final bid price at auction of the Stingel exceeded the Guaranteed Amount.

As is standard in auction consignments agreements, the agreement contained a force majeure provision that, in relevant parts, provided as follows:

In the event that the auction is postponed for circumstances beyond our or your reasonable control, including, without limitation, as a result of natural disaster, fire, flood, general strike, war, armed conflict, terrorist attack or nuclear or chemical contamination, we may terminate this Agreement with immediate effect.  In such event, our obligation to make payment of the Guaranteed Minimum shall be null and void and we shall have no other liability to you.

The Stingel agreement was governed by New York law.

To make matters more complex, but not uncommon in practice, JN Contemporary used the Stingel painting along with one other painting as collateral to get a $5,000,000 loan from Muses Funding LLC.  Phillips, JN Contemporary and Muses entered into a tripartite Security Agreement that granted Muses a first-priority security interest in the Stingel painting and provided that Phillips would pay the proceeds of the auction sale of the Stingel, including the Guaranteed Minimum and any overage (minus Phillips’s commission) to Muses.

In March 2020, as the Covid-19 pandemic rippled through the world, including New York City, one of the hardest hit cities in the world, Phillips decided to postpone its May 2020 auction in which the Stingel was due to be auctioned.  Phillips kept in touch with JN Contemporary and initially took the position that it would honour its contractual commitments to JN Contemporary, including raising the possibility of selling the Stingel in its November 2020 sale.  In early June, however, Phillips notified JN Contemporary that it was terminating the Stingel agreement by invoking the force majeure clause quoted above, that its obligation to pay JN Contemporary for the Stingel was null and void and that it shall have no liability to JN Contemporary for its decision to terminate.

JN Contemporary took the view that Phillips terminated the agreement because it had determined that the market for the Stingel had weakened.  It is worth noting that, in July 2020, Phillips did hold a virtual auction entitled “20th Century and Contemporary Art Evening Sale New York Auction”.

JN Contemporary sued Phillips and asserted claims of breach of contract, breach of the implied covenant of good faith and fair dealing, breach of fiduciary duties and a claim of equitable estoppel.

Court’s Ruling

In December 2020, Hon. Denise Cote dismissed the entirety of JN Contemporary’s complaint and ruled in favour of Phillips.  In relevant parts, the court held as follows:

Phillips did not breach the Stingel agreement: The court held that Phillips properly invoked the force majeure provision (quoted above) in the Stingel agreement which ended Phillips’ obligations to JN Contemporary, including the obligation to auction the painting and to pay JN Contemporary the Guaranteed Amount. 

According to the court, Phillips could not be said to be in breach of the agreement if it did what the agreement permitted it to do.  The court confirmed that the Covid-19 pandemic constituted a force majeure event that compelled Phillips to postpone its auction considering the “circumstances beyond the parties’ reasonable control”.  The Court further emphasised that examples of circumstances provided in the termination provision included “without limitation” a “natural disaster”, holding that:

“[i]t cannot be seriously disputed that the COVID-19 pandemic is a natural disaster.  One need look no further than the common meaning of the words natural disaster. Black’s Law Dictionary defines “natural” as “[b]rought about by nature as opposed to artificial means,” and “disaster” as “[a] calamity; a catastrophic emergency.” Natural, Disaster, Black’s Law Dictionary (11th ed. 2019).  The Oxford English Dictionary likewise defines a “natural disaster” as “[a] natural event that causes great damage or loss of life such as a flood, earthquake, or hurricane.”  By any measure, the COVID-19 pandemic fits those definitions.”

Flagging the phrase “without limitation” before the list of examples that constituted a force majeure in the relevant provision of the Stingel agreement, the court made clear that “[i]t is also a principle of construction that the inclusion of listed items cannot narrow the general definition, in particular when the contract indicates that the listed items are not given to limit the definition.”

Phillips did not breach the Basquiat agreement: In examining this claim, the court reiterated that Phillips did nothing wrong by exercising the rights available to it in the Stingel agreement.   The court opined that while the Basquiat agreement was conditional upon the parties executing the Stingel agreement, it did not require (emphasis added) Phillips to auction the Stingel and pay JN Contemporary the Guaranteed Amount.

Phillips did not breach the implied covenant of good faith and fair dealing: The court held that it cannot be a breach of the implied covenant of good faith and fair dealing “to do what a contract explicitly authorises a party to do” and that JN Contemporary has failed to adequately plead that Phillips acted in bad faith when it chose to exercise its contractual rights to terminate the Stingel agreement.

Phillips did not breach its fiduciary duties: While the court acknowledged that Phillips did owe JN Contemporary fiduciary duties, including a duty of loyalty, it found that the scope of such duties was circumscribed in the agreement between the parties.  The court held that Phillips simply exercised its contractual rights available to it in the agreement, which could not possibly constitute a breach of its fiduciary duties.

The claim of equitable estoppel should not stand: The court held that Phillips initial assurances to JN Contemporary that it would abide by its contractual obligations did not extinguish Phillips’ ability to exercise its rights and terminate the agreement.  The court pointed out that Phillips had not assured JN Contemporary that it would offer the Stingel Painting at a rescheduled auction with the Stingel Agreement’s Guaranteed Minimum in full force and effect and that JN was on actual notice since March 2020 that the relevant Phillips auction would not be going forward.

Analysis

The most interesting aspect of this decision is the court’s categorisation of Covid-19 as a natural disaster.  By not limiting its categorisation to terms such as a “pandemic”, “infectious disease”, “epidemic” or “public health crisis”, Judge Cote has arguably made it easier for parties to rely on the force majeure provisions in their agreements, even where such agreements may not contain the “right buzz words”.  It remains to be seen whether the Second Circuit will affirm this decision and, if so, on what grounds.  The business community will closely monitor this appeal, as its outcome will have serious implications well beyond the facts of this case and the art trade.

Going forward, terms such as “pandemic”, “epidemic” and “infectious disease(s)” will likely appear as examples of a force majeure event in contracts and parties are likely to engage in negotiations over the wording of force majeure clauses. 

It is important to remember that in New York and in England, unlike in some Continental European countries, force majeure cannot be invoked unless the contract includes a force majeure clause, and whether a party can invoke force majeure to either terminate the contract or protect themselves against a claim of breach of contract depends strictly upon the wording of the clause.  Force majeure will not come to your rescue if the contract does not contain a force majeure clause or if the wording of the clause does not allow the courts to consider the pandemic as being within its scope.

An English court has yet to decide on the issue of Covid-19 and force majeure.  However, considering that the Covid-19 pandemic is the biggest global crisis since World War II and that New York and English law are similar when it comes to contract interpretation and force majeure, it is likely that an English court would find that the Covid-19 pandemic constitutes a force majeure event under many force majeure provisions drafted pre-pandemic.

By Azmina Jasani


[1] A force majeure clause is a provision in a contract that anticipates some supervening or extraordinary event outside the parties’ control, which would prevent them from performing, in whole or in part, obligations set out in the contract.  See our linked article for details.