Covid-19 and Commercial Contracts
By: Abhiraj Das and Nihal Deo |
Barely any nation is left which has not been impacted by Covid-19 outbreak. With the majority of the nations and more than a million cases worldwide, increasing at an exponential rate. While the WHO has declared it as a pandemic, the governments of most of the nations affected due the virus have put a “lockdown” in their respective nations. This has not just put the fast-moving world at a stark halt, but also has affected the trade and commerce throughout. There is a trade-off between Human life and Economy. One such impact on commerce is on the performance of commercial contracts. This has resulted in offices being shut, transportation facilities being hampered, supply chains being broken among many other restrictions. Thus, the performance of most of the obligations under different contracts has also become either very difficult or impossible for one or more than one parties to the contract. Because of the prevailing circumstances, most of the non-performing parties to the contract already have or in future, will be looking to invoke the frustration doctrine in order to escape the liability or not-so-favourable negotiations. Further, unforeseen and unexpected delays which will result in procuring the supplies and further distribution may make concerned party vulnerable to liability under power-purchase agreements (PPAs). Thus, it becomes important to understand the concept of frustration of contract in the current scenario of a pandemic which has also led to widespread commercial loss and business interruption.
A commercial contract is an agreement between two or more parties to do a certain thing as per the agreed terms and conditions. It plays a key role in making sure that the business entities or organizations fulfil their obligations. When a party fails to fulfil their obligation under the contract, breach of contract is said to occur. Generally, the party that breaches the contract has to pay damages for such breach to the other party. The parties often include in their terms of the contract, the clause of Force Majeure which provides as a precaution to the defaulting party against the untoward events including certain economic, political, or natural disaster events.
Frustration is an English contract law doctrine which is enforced to absolve performance where an unforeseen event either reduces contractual obligations impossible to perform or fundamentally changes the principal purpose for which the parties had entered into the contract. By virtue of Taylor v. Caldwell, a contract is deemed “frustrated” or “impracticable” when a supervening event renders the performance of the contract impossible or so different from the principal purpose contemplated by the parties at its conclusion that it would not be reasonable to hold the parties bound by it.
If the contract terms do not have a force majeure clause or material adverse change (MAC)clause, it does not imply that the party would not be able to invoke them. Section 56 of the Indian Contract Act, 1872, which is incorporated the doctrine of frustration of contract under the can be resorted to by the parties. The Supreme Court has held: "In so far as a force majeure event occurs de hors the contract, it is dealt with by a rule of positive law under Section 56 of the Contract… The performance of an act may not be literally impossible but it may be impracticable and useless from the point of view of the object and purpose of the parties."
The change in circumstances must be attributable to an external event that is not caused by the default of the party relying on it. In that situation, the force majeure clause may be triggered if the contract does not make sufficient provision for such a supervening event. Therefore, if a COVID-19 pandemic fundamentally changes the principal purpose for the parties to enter into the contract such that its performance is radically different from what could have originally contemplated, the defaulting party may be excused from performing the frustrated contract. In light of Covid-19, on February 19, 2020, the Ministry of Finance has already issued an Office Memorandum on ‘Force Majeure Clause’ providing that “corona virus should be considered as a case of natural calamity and force majeure may be invoked, wherever considered appropriate, following the due procedure”.
The jurisprudence concerning the applicability of this doctrine has seen an evolution. Supreme Court has in Satyabrata Ghose v. Mugneeram Bangur & Co. held that “The word impossible used in section 56 is not restricted to only literal impossibility. The performance of an act may not be literally or physically impossible, but it may be impracticable and useless from the point of view of the object and purpose which the parties had in view.” It, however, also made clear that “The Courts have no general power to absolve a party from the performance of its part of the contract merely because its performance has become onerous on account of an unforeseen turn of events."In ‘Treitel on Frustration and Force Majeure’, 3rd edition, it has been opined that the cases provide many illustrations of the principle that a force majeure clause will not normally be construed to apply where the contract provides for an alternative mode of performance. It is clear that a more onerous method of performance by itself would not amount to a frustrating event. The same learned author also states that a mere rise in price rendering the contract more expensive to perform does not constitute frustration.
“The Doctrine of Frustration is not to be lightly invoked: that mere incidence of expense or delay or onerous nature is not sufficient, there has to be as it were a break in identity between contract as provided for and contemplated and its performance in the new circumstances.”[i]
Supreme Court in Energy Watchdog case relied upon a landmark English case Sea Angel, wherein it was held that “the application of the doctrine of frustration requires a multi-factorial approach. Among the factors which have to be considered are the terms of the contract itself, its matrix or context, the parties’ knowledge, expectations, assumptions and contemplations, in particular as to risk, as at the time of the contract, at any rate so far as these can be ascribed mutually and objectively, and then the nature of the supervening event, and the parties’ reasonable and objectively ascertainable calculations as to the possibilities of future performance in the new circumstances”.
A contract can be considered to be frustrated only in cases of occurrence of a genuinely unexpected and unanticipated event, which could not reasonably be said to have been contemplated, which makes it impossible to carry out the terms of the contract. It has been established by the Supreme Court that the scope of force majeure cannot be overextended to a probable difficulty or loss caused to the entity bound to perform the contract.
Since, the Covid-19 will have a definite effect on different sectors like telecommunication, gas, pharmaceuticals, energy, etc., a surge in the invocation of the doctrine can be seen, whether a party to the contract will be discharged from performing the obligations under the contract owing to the widespread pandemic, will be subject to the fact-specific determination that will depend on the nature of the party’s obligations and the specific terms of the contract.
Any effect of COVID-19 may be regarded to be qualified under the ambit of the force majeure doctrine if a defaulting party proves that the reasonable measures have been taken by him to abate such effects and that no further other alternatives can be brought in to effect. Thus, it can be concluded that a blanket application of the doctrine cannot be affected, but shall depend upon the facts and circumstances of the individual cases.
[i]Sea Angel case, 2013 (1) Lloyds Law Report 569, cited in Energy Watchdog v. Central Electricity Regulatory Commission, (2017) 14 SCC 80.
Authors are the students of Gujarat National Law University, Gandhinagar.