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As we grapple with the Coronavirus pandemic, it has become increasingly clear that the commercial world will suffer from its fallout for a long time. COVID-19 has already caused substantial commercial loss and has obstructed the performance of many contracts for no fault of either party.
Commercial disruptions are not unknown to the Indian economy. The Gujarat earthquake in 2001, the Indian Ocean Tsunami in 2004, and the Uttarakhand Kedarnath Disaster of 2013 have all destroyed factories, interrupted supply chains, and affected businesses. Even certain man-made catastrophes like the Bhopal Gas tragedy had devastating consequences.
However, the outbreak of COVID-19 has brought most economies to an unprecedented grinding halt. The commercial ramifications thereof have made it necessary for everyone to take a closer look at the concept of Force Majeure.
Force Majeure: A Brief History
The concept of force majeure has its foundations in the Napoleonic Code, under which it was defined as,
"debtor is condemned, if there be ground, to the payment of damages and interest, either by reason of delay in its execution, as often as he cannot prove that such non-performance proceeds from a foreign cause which cannot be imputed to him, although there be no bad faith on his part”.
It is now fundamentally accepted in both common and civil law systems that contractual performance which effectively becomes “impossible” or “commercially impracticable” under certain circumstances may be excused. The Indian law is no exception to the same.
While the principle of force majeure is statutorily recognized in express terms in most civil law jurisdictions, its development in the common law has been largely in the contractual realm. Force majeure clauses are included in contracts to safeguard the interests of the parties in case they are unable to perform their obligations.
These clauses stipulate that if a party is unable to perform its obligations due to any of the eventualities listed or contemplated thereunder, it shall not be liable to perform its obligations until such impossibility exists. Hence, they protect the parties from being penalized for non-performance.
The Indian Context
In India, the statutory provisions which come closest to encapsulating the principles of force majeure are Sections 32 and 56 of the Indian Contract Act, 1872.
“32. Enforcement of contracts contingent on an event happening.—Contingent contracts to do or not to do anything if an uncertain future event happens cannot be enforced by law unless and until that event has happened. If the event becomes impossible, such contracts become void.”
“56. Agreement to do impossible act.—An agreement to do an act impossible in itself is void.
Contract to do an act afterwards becoming impossible or unlawful.—A contract to do an act which, after the contract is made, becomes impossible, or, by reason of some event which the promisor could not prevent, unlawful, becomes void when the act becomes impossible or unlawful.
Compensation for loss through non-performance of act known to be impossible or unlawful.— Where one person has promised to do something which he knew, or, with reasonable diligence, might have known, and which the promisee did not know, to be impossible or unlawful, such promisor must make compensation to such promisee for any loss which such promisee sustains through the non-performance of the promise.
Section 32 pertains to contingent contracts and would govern the field with respect to express force majeure clauses in contracts. Section 56 encapsulates the principles behind the concept of force majeure in the form of the doctrine of frustration of contract. It could potentially be pleaded by a non-performing party in the absence of a force majeure clause in the contract.
A party to a contract which contains a force majeure clause would be expected to prove:
(a) that the event which caused non-performance fell within the ambit of such force majeure clause;
(b) the non-performance of the contract was caused due to the said event;
(c) the said event as well as the non-performance of the contract were beyond the party’s control and
(d) that no reasonable steps could have been taken to continue performance or there existed no alternative mode of performance.
Section 56 operates at two distinct levels – firstly, it renders void all agreements to do impossible acts, and secondly, it envisages a situation wherein a lawful act has subsequently become impossible or unlawful to perform.
In order to invoke Section 56 , there needs to be a valid contract, the performance of the contract must be yet to be made or is must be ongoing, and the said performance becomes impossible by way of facts or law.
The parties seeking to invoke Section 56 will have to be mindful of the consequences that will ensue under Section 65, wherein any advantage that has been received by any party to a contract shall have to be restored.
The Courts have, on multiple occasions, clarified and explained the principles to be kept in mind with respect to such interpretation as well as the applicability of the statutory provisions.
In Satyabrata Ghose v. Mugneeram Bangur & Co, the Supreme Court held,
“15. …In deciding cases in India the only doctrine that we have to go by is that of supervening impossibility or illegality as laid down in section 56 of the Contract Act taking the word "Impossible" in its practical and not literal sense..."
"16….where the court gathers as a matter of construction that the contract itself contained impliedly or expressly a term, according to which it would stand discharged on the happening of certain circumstances the dissolution of the contract would take place under the terms of the contract itself and such cases would be outside the purview of section 56 altogether...
24. ….In our opinion, having regard to the nature and terms of the contract, the actual existence of war conditions at the time when it was entered into, the extent of the work involved in the development scheme and last though not the least the total absence of any definite period of time agreed to by the parties within which the work was to be completed, it cannot be said that the requisition order vitally affected the contract or made its performance impossible.”
In Dhanrajamal Gobindram v. Shamji Kalidas And Co the Supreme Court held that –
“17. …where reference is made to "force majeure", the intention is to save the performing party from the consequences of anything over which he has no control. This is the widest meaning that can be given to "force majeure", and even if this be the meaning, it is obvious that the condition about "force majeure" in the agreement was not vague. The use of the word "usual" makes all the difference, and the meaning of the condition may be made certain by evidence about a force majeure clause, which was in contemplation of parties.”
In Naihati Jute Mills Ltd. v. Hyaliram Jagannath, the Supreme Court, while applying the doctrine of severability, held that in cases where the contract was deemed to be void due to frustration, the arbitration clause can still survive.
“12. …But assuming that the appellants had established frustration, it would not be as if, the contract was ab initio void and therefore not in existence. In cases of frustration it is the performance of the contract which comes to an end but the contract would still be in existence for purposes such as the resolution of disputes arising under or in 'connection with it. The question as to whether the contract became impossible of performance and was discharged under the doctrine of frustration would still have to be decided under the arbitration clause which operates in respect of such purposes.”
Justice Rohinton Nariman in Energy Watchdog v. CERC reiterated the principles with respect to the interpretation of force majeure clauses and doctrine of frustration, observing that:
“34. Force majeure is governed by the Indian Contract Act, 1872. In so far as it is relatable to an express or implied clause in a contract...it is governed by Chapter III dealing with the contingent contracts, and more particularly, Section 32 thereof. 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 Act...."
“36. The law in India has been laid down in the seminal decision of Satyabrata Ghose v. Mugneeram Bangur & Co...What was held was that the word “impossible” has not been used in the Section in the sense of physical or literal impossibility. 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. If an untoward event or change of circumstance totally upsets the very foundation upon which the parties entered their agreement, it can be said that the promisor finds it impossible to do the act which he had promised to do.
It was further held that where the Court finds that the contract itself either impliedly or expressly contains a term, according to which performance would stand discharged under certain circumstances, the dissolution of the contract would take place under the terms of the contract itself and such cases would be dealt with under Section 32 of the Act. If, however, frustration is to take place de hors the contract, it will be governed by Section 56...'
The key factor that has to be borne in mind is that there is a difference between impossibility vis-a-vis commercial difficulty. A distinction is necessarily to be drawn between the happening of an event which makes the performance of the contract impossible and beyond the control of the promisor, and an event which makes the performance commercially unviable.
Force majeure and the International Chamber of Commerce (ICC)
A reading of the aforesaid law raises the obvious question of the factors that should be kept in mind while drafting a force majeure clause. By way of example, the clause designed by the ICC presents a balanced model.
The ICC in February 2003 designed the ICC Force Majeure Clause to facilitate the drafting process for companies and their lawyers to adequately insure such commercial transactions against force majeure events. The general structure of the Clause is to provide contracting parties both with a general force majeure formula and with an off-the-peg list of force majeure events.
The ICC Task Force on Force Majeure and Hardship had decided to draft the clause because of three purposes on which the Clause is based:
First, it was intended that the new clause should assist the largest possible number of users - those who draft neither of such two types of clauses in their own contracts; those who draft only a general formula but would also like the predictability of an agreed list of events; and finally those who draft only a list of specified events but who wish to invoke an unlisted event as a force majeure event.
Secondly, it was intended to give the list of events a function which goes beyond the merely illustrative, such that a party would find it easier to invoke the clause if it could point towards one of the listed events than if it could only use the general force majeure formula.
Thirdly and on the other hand, it was important not to afford a party invoking a listed event too much protection: it was definitely regarded wrong for such a party simply to point towards the mere occurrence of a listed event, the effects of which it could reasonably have avoided or overcome, and to claim relief on that basis from its duty to perform.
Interpretation of Force Majeure clauses in the context of Covid-19
The COVID-19 pandemic and the consequential steps undertaken by governments worldwide, such as the imposition of lockdowns and movement restrictions, have already had a significant economic impact. In such a scenario, it is inevitable that parties across the globe would seek to exonerate themselves of the contractual obligations they would have otherwise performed, by pleading the doctrine of force majeure.
The approach the courts will take to the doctrine of force majeure is yet to be seen. In the meantime, it would be prudent for all organizations to be able to sustainably plead force majeure in a court of law.
It would be important for them to be able to establish that the failure of performance of the contract was not because of lack of commercial viability, but rather on account of other factors that ensued which actually gave rise to their non-performance despite all attempts to find alternate means of performance.
In the context of the COVID-19 outbreak, the issues that will arise for consideration are whether alternative ways of performing the contractual bargain were possible or not and were explored or not; whether the contractual bargain could have been performed albeit with difficulty or at a higher cost; or whether a party’s non-performance is rather and in fact, attributable to some other delay or deficiency.
Further, the party claiming relief from performing the contract would also be required to notify the other party of the occurrence of such an event and its efforts to remedy the same. In contracts bereft of any force majeure clause, the parties may resort to the statutory provisions of Section 56 of the 1872 Act, as already stated hereinbefore.
The Ministry of Finance, Government of India, released a circular dated February 19, clarifying that disruption of supply chains due to spread of COVID-19 shall be construed as a force majeure event and shall be considered as a natural calamity in relation to procurement of goods as per the Manual for Procurement of Goods, 2017.
Interestingly, the relevant force majeure clause under the Manual does not specify “epidemic” or “pandemic” as a force majeure event. However, the Model Tender Document issued by the Ministry of Mines, Government of India specifically contains “epidemic or pandemic” as a force majeure event.
While these measures and the aggressive nature of the steps taken by governments all over the world would suggest that force majeure jurisprudence may get a wider interpretation, the ultimate fate of such claims rest on the terms and purpose of the contract, the contours of the force majeure clause in question, and the steps to mitigate losses taken by parties, on a case-to-case basis.
The authors are Advocates practicing before the Supreme Court of India and the Delhi High Court, Advocates on Record, and Senior Partners at Karanjawala & Co. Advocates.