Paying for a Business' Additional Costs and Lost Revenue Due to Coronavirus

Last week, I received a now all too common email:

We regret to inform you that [the concert you purchased tickets for] has been cancelled due to the most recent recommendations from health officials and state government regarding the coronavirus and gathering in a space with a capacity as large as the [concert hall] during this period of time. All ticket holders will receive refunds.

The same day, the Kennedy Center, in Washington, DC, issued a news release with the headline "All Kennedy Center Performance and Public Events Cancelled Through March 31 in Response to the COVID-19 Pandemic." And the New York Times reports, "In New York, the Metropolitan Opera, the New York Philharmonic and Carnegie Hall cancelled performance through the end of the month."

The Centers for Disease Control and Prevention has recommended the cancellation of large gatherings until mid-May. The Governors of California, Illinois, Massachusetts, Ohio, Washington, and my home state, Maryland, have closed restaurant dining, movie theaters, and other businesses where people may gather. These closures include shuttering concert halls throughout the nation. Government officials hope by banning large gatherings, they will slow coronavirus ("COVID-19") These cancellations are public health necessities, but they can come at a financial cost to concert halls, music agents, musicians, and some ticket holders, like myself.

Throughout the nation, businesses and real estate owners are facing similar financial challenges. If they aren't closed altogether, they may have fewer customers and lower profits, if any. And there are the additional out-of-pocket costs associated with combating COVID-19. For instance, businesses and real estate owners may have to pay for extra cleaning supplies.

If an employee becomes ill, a business must pay both the employee's sick leave and the cost of a substitute–and that may involve overtime pay. Plus, if an employee requires expensive medical care for COVID-19 or is laid off, there may be an increase in medical or unemployment insurance costs.

This article is part of a series discussing COVID-19 and real estate law. Previous articles are in my Bach to Business blog. This article discusses who will pay for lost revenue or additional costs a business or real estate owner experiences due to COVID-19.

Costs and Revenue Loss Might a Business Experience due to COVID-19

Real estate owners and businesses are likely to experience both loss of revenue and increased expenses due to COVID-19. Both lower revenue and increased costs will reduce the business's net income.

Some of these hits to the bottom line will be direct or immediate. Nearly every business is enhancing cleaning efforts, which requires additional expenditures for cleaning supplies and may require additional employee wages. Many businesses also are purchasing more supplies to keep employees safe, such as more gloves and hand sanitizer.

Businesses and real estate managers also may be purchasing access to additional employee training about how to protect themselves and customers/tenants from COVID-19. Plus, employers must pay employees wages while they attend extra training.

Businesses may find employees drawing down their entire paid leave banks when they or a family member becomes ill. In those instances, the employer must pay both the sick employee and their replacement, increasing payroll. This increase occurs any time an employee is sick, but with COVID-19, employers may experience and unprecedented volume of sick employees. As fewer and fewer employees are available to cover for their colleagues, employers may pay more overtime to keep operations moving along.

These increased expenses come at a time when revenue may be dropping as more people socially distance themselves or self-quarantine. As tenants are forced to take unpaid leave due to illness or have job hours reduced due to their employers' lack of business, they may buy food and medicine with their meager earnings and pay rent their later–or not at all.

If employees can tie their illness to their job, they may receive workers' compensation. That may eventually lead to an increase in the employer's workers' compensation premiums–even if the employer did nothing wrong. Similarly, employee illness might cause an increase in the employer's medical insurance premiums when the policy renews–even though the employee's illness was unrelated to their employment.

Insurance Coverage for COVID-19 Costs

Businesses and real estate owners may be looking for a way to get compensation for the increased costs and decreased revenue. Since, as of right now, the government isn't handing out subsidies (although the SBA will have disaster assistance loans for small businesses), the other "deep pocket" businesses may look to is their insurance company.

General liability insurance might cover employers if they are sued, but it won't compensate employers for lost revenue. Since COVID-19 usually isn't expected to cause property damage, property and casualty insurance won't cover lost income and typically won't cover extra expenses from COVID-19.

Business interruption insurance ("BI insurance") does cover lost revenue, sometimes. But many real estate owners' BI insurance is part of a property and casualty insurance package and probably won't cover lost revenue where there isn't property damage too.

However, some businesses either have standalone BI insurance, or their business interruption insurance is part of a "business owners" package. That BI insurance might cover lost revenue. If the BI insurance policy includes extra expense insurance, it also might cover the additional costs due to COVID-19.

Business owners need to read their policies carefully to determine coverage. The policy may exclude epidemics and pandemics from coverage. Or the policy may provide lower coverage limits for losses from those perils.

Many BI insurance policies only cover stated causes of the lost income (or additional costs if there are additional costs coverage), and pandemic may not be listed. However, some may cover "civil authority" disruptions to business, which could cover increased costs or lost revenue resulting from government orders. If so, lost income during a business closure ordered by the government should be covered. Increased expenses, such as for telecommuting, when the business's physical offices are closed, may be covered depending upon policy language.

When Third Parties Must Pay COVID-19 Costs

BI insurance is the most likely source of compensation for lost revenue. But many real estate owners and some businesses may have contracts that allocate the risk of increased costs to third parties.

Real estate owners with professional property management should check their property management agreements ("PMA"). Besides hiring the manager to operate the property, allocate risk, including the risk of increased expenses, between the owner and manager.

PMAs allow the manager to pass through many operational expenses to the owner. Increases in passed-through expenses will fall on the owner unless the PMA limits the manager's ability to pass through expenses to budgeted amounts and doesn't make an exception for emergencies (most do). Therefore, it's likely that the owner will pay for extra cleaning supplies, disposable paper products, and payroll costs resulting from COVID-19.

Other expenses, such as employee training, accounting costs, and some IT support, may not be passed through to the owner. Increases in those expenses likely will fall on the manager. However, it depends upon the PMA language.

Some businesses may have increased supply costs due to price increases resulting from high demand due to COVID-19. If they have a fixed-price contract, then the supplier might be responsible for the increased cost.

For all contracts, a force majeure, which excuses contract performance during certain extraordinary events, might allow suspension of delivery. For contracts governed by the Uniform Commercial Code, the doctrine of impracticability might have a similar impact. My previous article, Coronavirus and contract Force Majeure Provisions, discusses these possible options in more detail.

Other Options to Address Extra Costs and Lost Revenue

Despite government cautions against the practice, it's possible in the face of dwindling supplies, a supplier might try to engage in price gouging. For instance, a Tennessee man recently went under investigation because he had stockpiled 17,000 bottles of hand sanitizer to sell them online at high prices.

The proper response to price gouging is to report the vendor to the appropriate government authority, which in most states is the state attorney general. However, while most states have laws protecting consumers from price gouging, not all state laws will protect businesses purchasing goods at wholesale. And a few states don't have specific anti-price gouging laws.

Businesses may have a remedy when they have an ongoing "market-price" contract with a vendor who engages in price gouging. In those instances, the implied covenant of good faith and fair dealing, discussed in my article The Impeachment March and Implied Covenant of Good Faith and Fair Dealing, may provide the business with a remedy.

However, business owners should remember that not all large price increases, are price gouging. It's only price gouging if a vendor takes unfair advantage of a shortage caused by a crisis to require payment of prices that aren't reasonable under the circumstances. If price increases are due to increased costs for the supplier to procure the goods, then it isn't price gouging. Also, reasonable price increases reflecting a supply shortage aren't price gouging.

When someone loses money, it's easy to want to find someone else to cover the loss. Businesses with insurance or contractual rights to shift the risk of loss from COVID-19, they can pursue those options. However, businesses that didn't plan ahead for an extraordinary situation like this may need to absorb losses.

If a business can't pay its obligations with reduced revenue or increased costs, the solution is to contact the creditor promptly to work out a forbearance or payment plan. Short of price gouging or a breach of contract, what business owners should not do is to place the blame elsewhere through false accusations or frivolous litigation.

© 2020 by Elizabeth A. Whitman

Any references clients and their legal situations have been modified to protect client confidentiality

DISCLAIMER: The content of this blog is for informational purposes only and does not provide legal advice to any person. No one should take any action regarding the information in this blog without first seeking the advice of an attorney. Neither reading this blog nor communication with Whitman Legal Solutions, LLC or Elizabeth A. Whitman creates an attorney-client relationship. No attorney-client relationship will exist with Whitman Legal Solutions, LLC or any attorney affiliated with it unless a written contract is signed by all parties and any conditions in such contract are satisfied.