Introduction
The
recent outbreak of Covid-19 has resulted in a global pandemic. In
order to contain the spread of the disease, governments in nation
states across the globe have restricted the movement of people,
goods and services at an unprecedented scale.
In addition to the severe social costs that have resulted from the
spread of Covid-19, the restrictions imposed to contain the
disease have led to a breakdown of supply chains around the globe
and across industries. While the degree of severity of impact will
range from sector to sector, there is no doubt that businesses
operating in almost every sector will be (and in most cases,
already are) severely impacted.
The economic impact of Covid-19 extends to a delay or failure by a
party to perform or to receive the performance of, obligations
under contracts. Whether parties would be absolved from
performance of contracts or whether performance would be permitted
to be suspended for a stipulated period, is required to be
examined on a case-to-case basis. We examine in brief the effect
of ‘force majeure’ clauses in commercial contracts and the
doctrine of frustration laid down in section 56 of the Indian
Contract Act, 1872 in the context of the Covid-19.
Force Majeure
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(a) The term ‘force majeure event’ when used in relation to
contracts, usually refers to the occurrence of an event that
is beyond the reasonable control of a party to the contract
and which prevents such party from performing its obligations
under the contract.
(b) It is important to note that a ‘force majeure’ clause is
not implicitly existent in a contract. As such, the doctrine
of ‘force majeure’ is a creature of contract and can only be
relied upon if expressly provided in the contract. A party’s
ability to claim relief for a force majeure event therefore
depends upon the terms of the contract, and the force majeure
provision in particular.
(c) Additionally, it is important to note here that a party’s
ability to delay or avoid the performance of a contract would
depend on the duration for which and to the extent a party is
affected due to the relevant ‘force majeure’ event.
(d) The duration and extent to which a party’s ability to
discharge its’ obligations under a contract are impeded due to
the effects of the spread of Covid-19, would vary from
case-to-case. Further, any relief is dependent upon the terms
of the contract which must necessarily be considered on its
precise terms and in its specific context. The relief obtained
under ‘force majeure’ provisions may entitle a party to
suspend performance of its obligations for a limited duration
or lead to termination in certain circumstances. A few
generally common features of ‘force majeure’ clauses are
considered below.
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Event and performance
(a) The relevant contract would usually include certain events
that would be deemed to constitute a ‘force majeure event’
along with a generic inclusive sentence such as ‘any other
event beyond the control of the party affected’. However, the
mere spread of Covid-19 would not be considered as a ‘force
majeure’ event in itself under a contract, unless it can be
demonstrated that it affected the ability of a party to
perform its obligations under the contract. Further, unless
expressly provided for, it is unlikely that an impact on the
profitability of a party to the contract would be considered
as a ‘force majeure event’.
(b) It is pertinent to note that the Government of India,
Ministry of Finance, Department of Expenditure, Procurement
Policy Division issued Office Memorandum No. F.18/4/2020-PPD
dated 19 February 2020 to the Secretaries of all Central
Government Ministries/ Departments, whereby it stated as
follows:
“2. A doubt has arisen if the disruption of the supply
chains due to spread of corona virus in China or any other
country will be covered in the Force Majeure Clause (FMC).
In this regard it is clarified that it should be considered
as a case of natural calamity and FMC may be invoked,
wherever considered appropriate, following the due procedure
as above.”
(c) While the clarification only pertains to the contracts in
respect of which the circular was issued, we understand that
several industry bodies are lobbying the government to issue
similar circulars in respect of industries that they
represent.
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Notice
(a) Several ‘force majeure’ clauses in contracts would include
an express duty on the party whose performance is impeded, to
notify the other party(ies) to the contract, of the
circumstances that have caused the failure to perform and the
anticipated extent and duration for which the performance is
expected to be impeded. Further, given the dynamic nature of
the effects of the spread of the Covid-19 disease, it is
important that notices with updates within reasonable
intervals, and in any event, in accordance with the terms of
the relevant clause of the contract, be issued by the affected
party to the parties concerned.
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Duty to mitigate
(a) A party that seeks to delay or avoid performance of its’
obligations usually has an implicit obligation to mitigate the
Covid-19 and failure to perform contracts. Force majeure event
or impossibility of performance? 3 adverse effect. This means
that a party should take reasonable steps to mitigate the
adverse effect caused due to the ‘force majeure event’.
(b) The duty to mitigate would be implied, unless the contract
expressly provides otherwise. What constitutes a reasonable
mitigation measure is fact-specific and depends upon the
nature and subject matter of the contract in question.
Further, considering that the Covid-19 pandemic has affected
almost all industries across the globe, the extent to which a
party can effectively mitigate the adverse effect could be
called into question.
(c) In the event of a few resources being available,
businesses may be called upon to elect between performing one
contract over another. In these situations, it is important to
analyze the terms and conditions of each contract and the
scope of any ‘force majeure’ clauses or contingency provisions
therein.
Frustration
of contracts – Section 56 of the Indian Contract Act, 1872
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(a)
There may be circumstances where contracts do not contain a
‘force majeure’ clause. In these circumstances, performance of
a contract may become impossible on account of circumstances
beyond the control of parties that arise as a result of the
impact of Covid-19.
(b) Such situations may be covered under Section 56 of the
Indian Contract Act, 1872 (“Contract Act”), which deals with
circumstances where on account of a subsequent impossibility
it is found that the whole purpose or basis of a contract was
frustrated by the intrusion or occurrence of an unexpected
event or change of circumstances which was beyond what was
contemplated by the parties at the time when the agreement was
executed. If it is so held by a court, a contract may be
rendered void. This is generally known as the doctrine of
frustration of contracts and whether a contract would be
deemed to be frustrated, will have to be examined based on the
terms thereof and the impact of the spread of the Covid-19
disease on the performance of such contract.
(c) While the doctrine of frustration is similar to the
doctrine of ‘force majeure’, insofar as they both deal with
situations beyond the reasonable control of a party, the
doctrine of frustration has been held to apply in narrow
limits and subject to rigid conditions.
(d) For instance, it is important to note that a contract
would not be discharged by impossibility, even though the
supervening event/ subsequent event makes performance
impossible, if:
(i) the contract makes full and complete provision for a
given contingency;
(ii) only a portion of the contract becomes impossible or
difficult to perform;
(iii) the frustrating event is such that any of the parties
could foresee or could have foreseen with reasonable
diligence; or
(iv) if despite the supervening events, the object and
purpose of the contract is not rendered useless, and the
contract can be performed substantially in accordance with
the original intention of the parties, though not literally
in accordance with the language of the agreement.
(e) Courts have repeatedly held that the doctrine of
frustration cannot become a device for destroying the sanctity
of the contract and cannot be applied to assist a party that
does not want to fulfil its obligations under the contract.
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Commercial impossibility
(a) In certain situations, it has been held that the
impossibility referred to in Section 56 of the Contract Act
does not include what is called commercial impossibility,
namely, extreme or unforeseen cost or difficulty of
performance.
(b) However, given that the disruption caused due to present
pandemic is unprecedented in terms of the restrictions imposed
and Covid-19 and failure to perform contracts. Force majeure
event or impossibility of performance? 4 supply chains
disrupted, the applicability of the doctrine of frustration
will have to be examined on a case-to-case basis having due
regard to the circumstances in which the contract was
executed, the terms thereof, any contingency provided therein
and the nature of the industry in which the parties operate.
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