This article is written by Shreya Shrivastava, a student from Dr. Ram Manohar Lohiya National Law University, Lucknow. In this article, the author has discussed the legal impact over Commercial Contractual Obligations in India after the Coronavirus Pandemic.
Table of Contents
Introduction
The entire world, barring a few exceptions, is in a state of lockdown, fighting a virus originating from the city of Wuhan, whose spread sent a shock wave across the globe. The Coronavirus, which seems to be covered with pointed structures that surround it like a corona or a crown and thus the name, is already the cause of immense and incomprehensible damage which is impossible to be defined in quantifiable terms. Supply chains have been disrupted, vital air and sea routes have been closed, and for the first time since 1987 Wall Street suffered its heaviest loss by dropping nearly 23%. For those unaware, the Stocks fell so fast on Wall Street at the opening bell that they triggered an automatic, 15-minute trading halt for the second time in a week which experts are considering an indicator for the impending doom.
The world, in general, is facing a global fall of the economy, inching us closer to the much-feared recession. However, this concern is not only limited to stocks and falling world GDP but also toward the severe impact on the legal sector. Supreme Court of India has already invoked its plenary powers under Article 142 of the Constitution to extend the ‘limitation period’ in all cases against the usual timeline as enumerated under the Limitation Act, 1963 which only goes on to convey the paradigm shift the legal sector is currently undergoing. The legal industry is in wrangles and one of the most conflicting emerging issues it is facing is the non-performance of commercial contracts and the resultant loss suffered by the business and corporate houses.
Concept of ‘force majeure’ under the Indian Contract Act, 1872
Section 56 of the Indian Contract Act 1872, which is based on the common law principle known as ‘Doctrine of Frustration’ and within which lies the concept of ‘force majeure’, is currently being debated on its usage. A force majeure provision, a phrase derived from the French language that means a ‘superior force’, is an express provision of circumstances in which performance under the contract will be excused or suspended temporarily.
Typically, force majeure events include an Act of God or natural disasters, war or war-like situations, labour unrest or strikes, epidemics, pandemics, etc. and is used as an exception to what would otherwise amount to a breach of contract. Contrary to popular belief, the expression force majeure is borne out from the “Code Napoleon” instead of the “act of God” and has wider meaning when compared to the latter.
Section 56 of the Act, allows for the temporary discharge of obligations on grounds of impossibility of performance of contract because of an untoward event or change in circumstance but for invoking such a clause, the sine qua non is:
(a) It must proceed from a cause not brought about by the defaulting party’s default.
(b) The cause must be inevitable and unforeseeable.
(c) The cause must make the execution of the contract wholly impossible.
The party claiming force majeure is under an obligation to prove that all reasonable endeavors to avoid or mitigate the force majeure event and its effects were undertaken on their behalf, although this becomes quite subjective and differs from case to case. In some contracts where the period of force majeure is extended, parties are given the right to terminate the contract to save them from management difficulties and cost issues that might arise later.
The law in India regarding this was laid down in the seminal judgment of Satyabrata Ghose v. Mugneeram Bangur & Co. which left it upon the interpretation of judges to determine whether the factual determination based on the specific terms of the contract qualify to come under the scope of force majeure. However, In the case of Energy Watchdog v. CERC, Justice R.F. Nariman of the Supreme Court narrowed down the context of the term force majeure, but if precedents are to be looked at then it can be concluded that the term force majeure incorporates within itself a wide range of situations. For example, when demonetization was announced by the government, construction and the realty sector was deeply affected and in that time of distress the Central Electricity Regulation Committee (CERC) held demonetization to be a valid reason to invoke the clause of force majeure and thus in a way provided it a new dimension of interpretation.
COVID-19 & force majeure
The variety of contracts that are likely to be affected by the spread of COVID-19 is undoubtedly humongous be it construction contract or supply agreements. General regulatory measures being undertaken by the government such as the announcement of the high alert regime are unlikely to affect a party’s ability to perform its contractual obligations. However, the adoption of ‘special measures’ such as a ban on mass gatherings, the temporary suspension of business industries, restrictions on entry into the Indian territory, the cessation of air and sea operations, etc. are bound to severely impact the contractual obligations leading to its non-performance. Further, special measures enacted by foreign states also might prevent a party from performing its obligations if goods required for production are being supplied from abroad. In the ongoing crisis, one is faced with majorly two situations, the first one being where the clause of force majeure is mentioned under the contract and the second one being where it’s not.
1. force majeure clause mentioned under the contract
In scenarios where mentioning has been done, the provision of force majeure provision is left for the parties to define within the contract itself and no such application is a matter of law and in common law no inference of such clause is decided by the courts. The language used might vary; some contracts have defined specific examples of force majeure events thus making it easier to automatically meet the standard upon the occurrence of such event, while others place a heavy reliance on generic language. However, it is highly unlikely that even if specific terms are used, any contract would have a specific clause about force majeure concerning “corona outbreak” and in that case, the best option remains to use terms such as epidemics, government action or work stoppages provided they are mentioned specifically in the contract, to derive the benefit of this clause but despite the mentioning of these terms, the onus still lies upon the affected party to prove interference with the performance of the contractual obligation. However, if the term pandemic is mentioned, then it might be easier for parties to prove since WHO on 11th March 2020 declared COVID 19 to be one. If mentioning of the “Act of God” is done, the position becomes more dubious because if the outbreak does not fall within the scope of that clause then an analysis of the extent to which contractual obligations are affected shall be done from the start.
Relief came from The Ministry of Finance, Department of Expenditure, Procurement Policy Division through a memorandum released for ‘Manual for Procurement of Goods, 2017’
in which it was declared that in the event of any disruption in the supply chains due to the spread of coronavirus in China or any other country, such a situation will be covered in the Force majeure Clause (FMC) in the contract.This move was eerily similar to that of ‘The China Council for the Promotion of International Trades’ which issued over 1,600 ‘Force Majeure certificates’ to firms in 30 sectors, covering contracts worth over $15 billion.
Undoubtedly, this clause is going to be used in an Indian court for months and years to come but it is very unlikely that COVID 19 will prove to be strong and valid defense since different contracts and governing laws stipulate different requirements for different situations.
Further, if the parties use it in their draft then they also need to provide proof that had they not been “prevented” from performing due to the force majeure, they would have undoubtedly discharged their obligation. Also, it must be proved that there was no possible alternative for the completion of the contract and that all reasonable steps were taken to mitigate or avoid the effects of the force majeure event. However, it is generally a subjective area and is decided on a case to case basis thus presenting the parties with a chance to voice out their predicament.
2. force majeure clause not mentioned under the contract
In the absence of force majeure Clause, the doctrine of frustration would be applicable to make the contract void because the clause of force majeure if not mentioned explicitly, can never be implied under Indian law. This doctrine applies when due to an unforeseeable event, the performance of the contract is rendered impossible and even if possible, the outcome would be different from what was envisaged by the parties at the time of entering the contract. Even though this doctrine comes with a high threshold in terms of standard of proof, it might be possible to include a range of factual circumstances regarding COVID 19 as a frustrating event under this doctrine. In terms of scope, the doctrine of frustration is narrower as compared to force majeure and won’t be allowed to be exercised simply because the event complained of has become more expensive or difficult to perform since the economic constraint is not one of the defences available under it.
Apart from force majeure and the doctrine of frustration, there is a high possibility of other consequences also such as price adjustment clauses, material adverse change clauses, limitation or exclusion clauses, to limit or exclude liability for non-performance but then again it will all depend on the particular wording of the contract and the discretion of the particular court.
What should the Parties do?
The parties of the contract can reassess the force majeure clause and list all the incidents mentioned under it to initiate the ‘rule to excuse’ and analyze the impact of the outbreak of COVID-19 on the contract and its performance. Parties should seek to understand how the above principle is likely to apply to the legal relations between them because if force majeure is once claimed when parties are not contractually entitled to claim, then they might be held liable for repudiatory breach of contract and as a result might be forced to pay damages to the other party. Views of legal experts must be taken to interpret whether the contract clauses are open-ended or specific.
Parties must keep an eye out for the existence of possible performance alternatives to initiate the contract because it is possible that some clause under the contract might simply be intervened or postponed and should engage in the collection of evidence to support the non-performance of the obligation by them. They need to be vigilant and must keep a record of the various notifications and orders issued by the government and administrative bodies since these documents may be used as evidence during the litigation/arbitration stage. Businesses need to be aware of their rights under the contract they’ve entered into so they are prepared when confronted about non-performance in a post-COVID-19 world.
Delay, interruption or all together cancellation of the contract is very likely to be expected but there lies a threat of counterparties using this clause as an excuse, not because COVID-19 has legitimately prevented them from performing their contractual obligations but rather to get themselves out of an unfavorable deal. If this case arises, then it must be checked whether the clauses claimed by the parties which lead to the non-performance of the obligation are true or not. In the majority of the contracts, the reason cited by the companies will be non-performance of suppliers, and then it is in the best interest of the second party to the contract to try to verify this information. Attempts may be made for renegotiation of price or other key contractual provisions, and for this companies need to be vigilant if they wish to not be deceived since it is very easy under the given circumstances. it is well advised to do an Assessment of the legal risk involved and proactively manage since at the end of the day, it has to be one party or another who will have to bear the financial loss even without any fault of their own.
References
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Impact Of COVID-19 On Indian Commercial Contracts, https://singhania.in/safeguards-in-force-majeure-in-india/.
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Pollock and Mulla, Indian Contract and Specific Relief Acts (16th ed. 2019); Dhanrajamal Gobindram v. Shamji Kalidas & Co., AIR 1961 SC 1285 (India).
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Coronavirus, Force Majeure And Impact On Commercial Contracts, https://www.bloombergquint.com/coronavirus-outbreak/covid-19-coronavirus-force-majeure-and-impact-on-commercial-contracts.
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Elzekiel Abraham Gubray Vs Ramjusroy Golabroy, AIR 1921 Cal 305:33 CLJ 151:63 IC 267 (DB).
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