Background
Given the current situation where COVID- 19 has a global impact and is resulting in a continuous sharp decline in the market due to which businesses have been impacted and consequently contracts and obligations under the contract are being revisited to assess the impact of this pandemic on the contracts. Further, it is most likely that the performances under many contracts will be delayed, interrupted, or even cancelled. Counterparties to such contracts may seek to delay and/or avoid performance (or non-performance liability) of their contractual obligations and/or terminate contracts, either because COVID-19 has legitimately prevented them from performing the obligation or it can be used to excuse themselves from an unfavourable deal.
Thus, in light of the present situation and circumstances,it becomes utmost important to understand the concept of force majeure and frustration of contract and the importance of the same in businesses, and the repercussions of COVID-19 on the contracts in light of “force majeure” and “frustration of contract”.
What is Force Majeure?
The term “Force Majeure” is a Latin term which essentially translates into superior force in English or an act of God. It means those events which are beyond the control of the partiesand which can be unforeseen at the time the contract was entered into and that make it difficult or impossible to perform their obligations.
According to Black’s law dictionary, the term ‘force majeure’ has been defined as an event or effect that can be neither anticipated nor controlled. It is a contractual provision about the non-performing of the contract when it becomes impossible or impractical especially as the result of an event which couldn’t have been anticipated before entering into the contract.
Though the term force majeure hasn’t been defined under Indian statutes,but still the reference could be found in section 32of the Indian Contract Act, 1872, which states that if a contract is contingent on the happening of an event which event becomes impossible, then the contract becomes void.
Where the parties under the contract have made provision for the force majeure event, then the parties will have to invoke such force majeure clause in accordance with the language of such clause as stipulated therein, however, in case of absence of force majeure clause, the contract will be governed by of Indian Contract Act, 1872.
To provide more clarity, let’s understand this concept in detail below in relation to the remedies available to the parties, when there is a force majeure clause in the agreement and when there is not any such clause by giving reference to the statutes and precedents available.
When there is force majeure clause in the agreement
The most important thing is to understand the language of the force majeure clause as stipulated in the agreement, which may differ from case to case. Usually, the Force Majeure clause expressly states the eventssuch as acts of God, war, terrorism, acts of government, fire, epidemic etc. that can be qualified as force majeure events. Sometimes, it may also include a non-exhaustive list wherein the parties simply narrate what generally constitute force majeure events and thereafter add “and such other acts or events that are beyond the control of the parties” or “which prevents the performance of the contract”.
Where the occurrence of the event falls within the ambit of a force majeure event and fulfils the conditions of the force majeure clause, then the parties would be either excused from performing their obligations or such performance may be delayed till the event continues or the contract may be terminated, whatsoever may be mentioned under the force majeure clause. It is to be noted, upon the occurrence of event, the parties must issue a notice to the other party informing them for the invocation of force majeure clause and how such event has impacted their obligations under the contract.
For invoking the force majeure clause, there should be the fulfilment of the following conditions i.e. (i) occurrence of an unexpected event; (ii) event made the performance of the obligation impossible and impracticable; (iii) the party to the contract had taken all the measures to perform the contract or at least mitigate the damages and informing the other party about the force majeure event by demonstrating how such event has impacted the performance of obligation.
In the case of Energy Watchdog v. CERC (2017) 14 SCC 80, the question before the court was how to interpret the force majeure clause? The Court had categorically stated that the force majeure clause has to be construed strictly as the language says and the parties have to adhere to the agreed provisions of the contract and further such parties cannot go beyond the wordings and language of the clause as stipulated therein.
When there is not any force majeure clause in the contract
Where the contract does not include a force majeure clause, then the contract will be governed by the doctrine of frustration, as envisaged under Section 56 of the Indian Contract Act. According to this doctrine, if the performance of the contract becomes impossible due to the occurrence of some supervening event, such contract shall be deemed to be considered as void and the parties would be excused from the performance of the contract and.
In Taylor vs. Caldwell, it was held that “if some unforeseen event occurs during the performance of a contract which makes it impossible of performance, in the sense that the fundamental basis of the contract goes, it need not be further performed, as insisting upon such performance would be unjust.”
Now, the pertinent question arisesis that as to what is such impossible act that would lead to frustration of contract.It was held in Satyabrata Ghose v. Mugneeram Bangur & Co. [1954 SCR 310]that that the word “impossible” has not been used in the Section in the sense of physical or literal impossibility and it must be interpreted in a practical form and not in literal sense.
In this case, the Supreme Court has also carved out the difference between the impossibility and frustration, in the following words:
“The essential idea upon which the doctrine of frustration is based is that of impossibility of performance of the contract; in fact impossibility and frustration are often used as interchangeable expressions. The changed circumstances make the performance of the contract impossible and the parties are absolved from the further performance of it as they did not promise to perform an impossibility…. The doctrine of frustration is really an aspect or part of the law of discharge of contract by reason of supervening impossibility or illegality of the act agreed to be done and hence comes within the purview of Section 56 of the Contract Act.”
It must be noted that the doctrine of frustration shall not have the blanket application to every contract, which does not contain a force majeure clause. In order to seek protection under Section 56, the parties will have to look whether the occurrence of event has made the performance of the contract impossible so as to discharge the parties from their contractual obligations. If theoccurrence of event falls within the ambit of force majeure clause, then the parties will be governed by such clause and cannot claim protection under Section 56. However, if the occurrence of event does not specified in the clause, the parties can still claim protection under Section 56, provided the performance under the contract had become impossible.
There are certain exceptions to the applicability of doctrine of frustration, which are as follows:
(i) Merely delay in performance does not frustrate the contract-
In order that the doctrine of frustration is applicable, it is necessary that the performance should become unlawful or impossible. The event should be such that the object of the parties is thereby totally upset. Mere likely delay in performance does not amount to impossibility.
In Arti Sukhdev Kashyap v. Daya Kishore Arora AIR 1994 NOC 279 (Delhi), it has been held that merely because performance has to be delayed, it does not mean frustration of the contract.
In another case of Sushila Devi v. Hari Singh (AIR 1971 SC 1756), the Supreme Court again pointed out that it was incorrect to say that Section 56 applied to the cases of physical impossibility only. In its view, Section 56 covers those cases also where the performance becomes impracticable or useless having regard to the object and purpose of the contract.
(ii) Impossibility does not mean mere commercial difficulty
A distinction must be drawn between the happening of an event which makes the performance of the contract impossible, and an event which makes the performance only difficult or more expensive. The nature and terms of the contract may help in deciding whether the performance has become impossible or merely commercially difficult.
In Punj Sons Pvt. Ltd. v. Union of India (AIR 1986 Delhi 158), it was held that merely because the procurement of the goods becomes difficult due to a strike in the mill, or there is a rise in prices, or a person will not be able to earn the expected amount of profits, it is not enough to frustrate the contract.
(iii) No frustration on executed contracts
It is pertinent to note that the doctrine of frustration covers case of executory contracts only, and does not apply to executed contracts i.e. lease deeds. The Supreme Court clarified this position early on in Raja Dhruv v. Raja Harmohinder Singh (1968). In this case, The Supreme Court dismissed the claim of force majeure under Section 56 on two broad grounds. First, it held that rights under a lease are not simply contractual rights but are instead governed under the provisions of the Transfer of Property Act, 1872 (TPA). Second, the Court reasoned that Section 56 of the ICA does not apply to a concluded contract where no further performance was required. The Supreme Court re-affirmed this position in Sushila Devi v. Hari Singh (1971).
(iv) Change of circumstances may not lead to frustration
In P.D. Mehra v Ram Chand Om Prakash [AIR 1952 Punj 34], it was observed that if there are unanticipated change of circumstances, it will have to be considered whether this change of circumstances has affected the performance of the contract to such an extent as to make it virtually impossible or extremely difficult.If an untoward event or change of circumstance does not upsets the very foundation upon which the parties entered their agreement and the performance is still possible, then it will not lead to the frustration of agreement.
Time is the essence of the contract
Since nowadays most of the contracts are time specific i.e. contract must be performed within a specific time period, therefore, it becomes significant to understand the repercussions of delayed performance on the time specific agreement.
The meaning of time is essence is that the parties have agreed to perform their obligations at a given time as mentioned under the agreement and shall not extend the specified time in a contract.
Where the performance of contract is time specific andthereupon one party fails to perform the contract in the stipulated time, the question may arise as to what remedy the other party can have in such a case. Section 55 of the Indian Contract Act mentions two different remedies: one in a case, when the time of performance is the essence of the contract, and the other when the time is not the essence of the contract.
(i) When time is essence of the contract
Section 55 (para 1) provides that where time is the essence of the contract, non-performance of the contract in time would frustrate the purpose which the parties have in mind, and, therefore, if in such a case, there is delay in the performance by one party, the other party has a right to avoid the contract.
However, it is not necessary that time is essence of the contract should be expressly mentioned in the contract. In order to determine whether time is essence of the contract or not depends on the intention of the parties. The parties can either expressly or by their conduct make the time as essence of the contract. If the parties have not expressed their intention in the agreement, then it depends on the nature of the contract. For instance, in a contract for sale of goods, where the prices of the goods are subject to rapid fluctuations, the time of delivery is deemed to be the essence of the contract. In commercial contracts, a stipulation as to time for the shipment of goods has to be regarded to be the essence of the contract.
In the case of Chand Rani v. Kamal Rani AIR 1993 SC 1742, time was held to be the essence of the contract where agreement in clear terms had specified that it was to be performed within six months else earnest money would stand forfeited.
It may be noted that in the event of delayed performance, although the party has a right to repudiate the contract, but it is not bound to do so. The party, instead of avoiding the contract, may claim compensation for the loss resulting from the delayed performance. However, for availing the remedy of claiming compensation, the aggrieved party must send notice to the other party of its intention to claim compensation. {Section 55 (para 3)}
(ii) When time is not the essence of the contract
Where the time is not the essence of the contract, it must be performed within a reasonable time. The delay in the performance of such a contract does not entitle the other party to avoid the contract, but the remedy available to the aggrieved party in such a situation is to claim compensation for any loss occasioned to him by such failure. {Section 55 (para 2)}
Whether Covid-19 will qualify as a Force Majeure event?
In the present times where due to the occurrence of the COVID-19 pandemic crisis, the whole world is at a standstill. It has impacted the ability of the parties to meet their obligations under the contract.
With the widespread disruption across the various sectors, it becomes highly probable that the companies may invoke “force majeure” clause in their contracts. Therefore, it becomes utmost important to understand whether COVID will qualify as a force majeure event.
As discussed above, it clearly depends upon the parties to insert the wording of the force majeure clause as per their needs. Sometimes, the parties may stipulatethe deferment of obligations or termination of contract upon the occurrence of particular event.Thus, it is pertinent to note that the protection provided by Force Majeure clause will depend on the language of such clause.
At the outset,COVID-19 to be qualified as a force majeure event will depend on the case to case basis. However, there are four main possible scenarioswith respect to contracts, which are as follows:
- Where the contract includes a force majeure clause, which specifies the list of events such as disaster, epidemic, pandemic, natural calamity. In such cases, Covid-19 will qualify as a force majeure event and the aggrieved party can seek a relief as per the language of the clause as:(i) COVID-19 has been declared as a pandemic by the World Health Organization. (ii) Ministry of Home Affairs has notified Covid-19 as a “disaster” under the Disaster Management Act, 2005 (iii) On 19th February 2020, vide an office memorandum i.e. O.M. No. 18/4/2020-PPD, the Government of India has defined that the disruption of the supply chains due to spread of coronavirus should be considered as a case of natural calamity and “force majeure” clause may be invoked, wherever considered appropriate.
- Where the commercial contract includes a force majeure clause and such clause includes a non-exhaustive list. In such case, there are certain factors that are to be look into to ascertain whether Covid-19 will qualify as a force majeure event or notsuch as (i) the interpretation of language and wordings of the clause; (ii) nature of the contract; (iii) impact of COVID-19 on the obligations of the parties under the agreement; (iv) whether COVID-19 has made the performance under the contract impossible; (v) whether COVID-19 was unforeseen, unanticipated and beyond the contract of the parties; and (vi) Whether is it still possible to discharge the obligations by the parties during the COVID-19 pandemic crisis.
- Where the contract stipulates force majeure as any event such as change in law/regulation, then the Covid-19 may not be considered as a force majeure event. However the parties, in such a case, may take the shelter of Section 55 or Section 56 of the Indian Contract Act, provided that above mentioned factors must be satisfied.
- Where the contract does not have a force majeure clause and to ascertain whether covid-19 had an impact on it, such contract shall entirely be governed by the principles of Indian Contract Act, 1872.
Where the agreement is time specific, then the aggrieved party can seek remedy under Section 55 or where the event has frustrated the purpose of the contract, then Section 56 can be applied to such case, which deals with the doctrine of frustration provided that all its essential conditions must be satisfied.For instance, in a contract for sale of goods, where non-essential goods are to be delivered to the buyer on or before April 05, 2020 and due to lockdown such delivery becomes impossible, then in such case the contract will rendered as void. Here, though time as the essence was not expressly mentioned but it can be inferred that the time is the essence as goods are to be delivered on or before April 05, 2020.
However, it to be noted that where the contract is to supply some essential commodities which are permitted during the lockdown and the parties were able to trade in them notwithstanding the lockdown, then the parties will not be able to invoke the force majeure clause.
What will happen after the invocation of Force Majeure clause or Doctrine of frustration?
Once the force majeure clause as inserted in the agreement or the doctrine of frustration is invoked by one of the parties to the contract, then the next doubt arises as to what is the remedy available to the aggrieved party.
Where the force majeure clause is invoked by the parties, the aggrieved party can seek claim or remedy in accordance with the clause as stipulated therein. But where the force majeure clause does not stipulates any remedy or where the doctrine of frustration is invoked, in such case, the aggrieved party may claim for the restoration of the benefit received by the other party.
As it has already been discussed above that when, due to the happening of some event, the performance of the contract becomes impossible or unlawful, the contract becomes void. Sometimes, an agreement may appear to be valid when made but may subsequently be discovered to be void. In such a situation like these, it is just possible that before the contract becomes void, or an agreement is discovered to be void, one of the parties may have already gain the gained some advantage under the contract. Such benefit received by a party has to be restored to the other (Section 65). For instance, A contracts B to deliver to him 250 maunds of rice before the first of May. A delivers 130 maunds only before that day, and none after. B retains the 130 maunds after the first of May. He is bound to pay A for them.
Conclusion
To sum up all the above, we can conclude that for the invocation of force majeure clause, it is important to first analyse the agreement carefully to ascertain as to whether the occurrence of event falls under such clause and thereupon, send the notice to the opposite party, stating as how the event has affected their obligations, at the earliest. The remedy available to the party will depend on the case to case basis.
Where a force majeure event is not specifically covered under a contract, frustration of a contract may be claimed by the affected party, however, if the case is opposite and a particular event is covered as a force majeure event under a contract, frustration of such contract cannot be automatically claimed.
Where the contract does not have an explicit clause on force majeure, the parties may try to seek frustration of contract under Section 56 of the Contract Act. In such scenario, the court will then have to ascertain whether the contract has become impossible to perform and whether the doctrine of frustration of contract could be made applicable to such contract.
Force Majeure or Doctrine of Frustration cannot be applied as a general principle; the application will depend upon the facts and circumstances of each case. The present ensuing situation of the pandemic COVID-19 declared by the WHO will depend upon as agreed by the parties and impossibility of the performance of contract. It will be wrong to have any blanket application as such an interpretation may lead to repudiation and claim for damages. Further this doctrine will also not be applicable to cases where there was a mere delay in performance and contract can still be performed or due to hardship or inconvenience or material loss.
It will be interesting to see as to how the courts will interpret COVID-19 in relation to force majeure provisions. Recently, Ministry of Finance has by way of office memorandum issued of February 20, 2020 clarified that the disruption of supply chains due to coronavirus in China or any other country should be considered as a natural calamity and force majeure clause may be invoked, wherever considered appropriate. However, such clarification has only been in respect of the disruption of supply chains. Hence, invocation of force majeure provision in light of COVID-19 will have to be assessed on a case to case basis depending on the terms of the contract entered into between the parties.
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*Advocate Gaurav Bangia, Email Id.:- [email protected]