Rocky, troubling, tumultuous, uncertain, uncharted, unprecedented, and unpredictable times: due to the novel coronavirus, COVID-19, we continue to see these ominous descriptions in coronavirus coverage. Society has had to adapt as this pandemic ravages our way of life. Businesses throughout the world are dealing with the economic fallout COVID-19 has caused, and the cannabis industry is no exception. Numerous cannabis companies, already plagued by financial woes prior to this pandemic, are struggling or are unable to perform contract obligations. A prime example of this is illustrated in the ongoing lawsuit between Kentucky hemp company Third Wave Farms, LLC (“Third Wave”) and Oregon CBD processor Pure Valley Solutions, LLC (“Pure Valley”). Third Wave sued Pure Valley to get out of their contract based on obligations Pure Valley allegedly was unable to meet and based on the force majeure clause of the contract coming into effect.
Third Wave Farms, LLC v. Pure Valley Solutions, LLC
Plaintiff, Third Wave, entered into a contract with Defendant, Pure Valley, in May of 2019. Under the contract, Third Wave was required to broker the sale of CBD oil produced by Pure Valley. The contract specified that Third Wave was to sell up to 5,000 liters of Pure Valley’s CBD oil. Based on the Declaratory Action, it appears Third Wave did not sell the required quantity, and on February 21, 2020, Third Wave received a demand letter from Pure Valley. Pure Valley demanded $9 million for the sale of its CBD oil with an interest rate of 9% from the date of the letter, along with storage fees of approximately $9,500 per day from November 13, 2019. Pure Valley attached a draft complaint to its demand and stated that it would file the draft complaint in federal court in Oregon if Third Wave failed to resolve the dispute.
Issuing a cease and desist or demand letter with a draft complaint (the pleading which starts a lawsuit in federal court) can be a risky strategy because the recipient of the demand letter may preempt your filing by filing a declaratory action seeking a declaratory judgment. Parties ask the court for declaratory judgment where they seek the court to define the rights and obligations of the parties. That scenario is precisely what happened here: on March 23, 2020, Third Wave filed a Declaratory Judgment of rescission or termination of contract against Pure Valley in the United States District Court, Eastern District of Kentucky, London Division. Filing the declaratory action in Kentucky was a strategic move, as Third Wave preempted Pure Valley’s filing against it and filed in its own forum.
The contract between Pure Valley and Third Wave included the following clause:
Prepayment. TWF is currently raising it [sic] final $2M in capital to this end. TWF shall prepay Pure Valley a nonrefundable $75,000 prepayment on or before June 30, 2019, $75,000 by July 15th, $100,000 by July 30th. If TWF completed the raise prior to these dates the total sum of $250K will be paid in full to Pure Valley. If TWF fails to complete the full $2M raise or raises only a portion of this TWF shall not be considered in default of the agreement and will not forfeit any money previously paid. The amount of funds paid will be prorated towards (Pre-Payment Credit) on the amounts paid to Pure Valley.
Third Wave never raised the $2 million in capital as needed and therefore believed the contract was no longer in effect. Because of this, Third Wave filed its declaratory action seeking a court determination that the contract is not valid, alleging that its capital raise was a condition precedent to the contract.
Additionally, Third Wave alleges that Pure Valley did not have the capacity to produce the 5,000 liters of CBD oil and that the CBD oil did not meet the specifications agreed upon in the contract. Thus, Third Wave states that since neither party can meet the contract’s requirements, it should be terminated. Alternatively, Third Wave requests the following relief:
[T]hat the Court declare that the Agreement is not enforceable or should be appropriately terminated and/or rescinded pursuant to Section 4.3 Force Majeure of the Agreement in light of the spread of the coronavirus and the state of emergency declared in Kentucky by Governor Andy Beshear’s executive Order 2020-215 dated March 6, 2020 … and under similarly applicable executive order(s) by the governor in the state of Oregon. Third Wave Farms, LLC v. Pure Valley Solutions, LLC, 6:20CV00069.
The Impact of COVID-19 on Force Majeure Clauses
A force majeure clause is a common clause included in a contract which may excuse a party from liabilities or obligations when an act of God, typically considered as an extraordinary, unforeseen circumstance or event out of the control of the parties, occurs and prevents one or both parties from performing their obligations under the contract. Prior to COVID-19, a common force majeure clause might have included the following excusing events: acts of God, flood, fire, earthquake, explosion, war, terrorist threats or acts, riot or other civil unrest, national emergency, or revolution. Since there is no mention of a “pandemic” or “state of emergency,” parties with such a force majeure clause as this would most likely find no relief from the force majeure clause. Thus, going forward, it is critical for businesses entering into contracts to ensure their contracts contain a force majeure clause that includes the phrases “pandemic,” “state of emergency,” and “stay-at-home orders.” Depending on the contract term, duration, or time for performance, it may be prudent to specifically reference COVID-19. Having a force majeure clause with this terminology will assist a court in determining the applicability of the force majeure clause to your particular issue.
As with all causes of action, causation is always an issue. Where a failure to perform is attributable to other factors, the force majeure clause is unlikely to excuse performance. For example, if a cannabis company was financially struggling before the pandemic and likely could not have fulfilled its contractual obligations due to that, then the fact that a pandemic has occurred becomes irrelevant since that company cannot directly ascribe its inability to perform to the pandemic.
Invoking the force majeure clause for COVID-19 is unlikely to be successful where the contract did not contemplate a pandemic or where the cannabis company had already failed to perform due to another issue. The Third Wave Farms case emphasizes the importance of inputting key phrases into force majeure clauses, such as a pandemic, governmental shutdown, state of emergency, and/or a specific reference to COVID-19. By including these phrases, your company will be better protected going forward if another event like COVID-19 occurs.
As cannabis and hemp lawyers, the lawyers at Ritter Spencer are prepared to advise your hemp or cannabis business in all facets of the industry, including formation and transactional issues and in cannabis litigation. Contact Ritter Spencer or give us a call at 214.205.5070 for more information.