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COVID-19 A Force Majeure Event- Threshold Of A New Jurisprudence

Sudhir K. Makkar, Senior Advocate
29 May 2020 2:25 PM GMT
COVID-19 A Force Majeure Event- Threshold Of A New Jurisprudence
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The outbreak of Covid-19 virus has confronted the world with an unprecedented situation where the economic and commercial activities across the globe have been significantly disrupted. As a consequence of the said disruption, the performance of countless contracts shall inevitably be delayed, disrupted or rendered impossible. The present situation is likely to lead to significant number of cases involving reliance on the Force Majuere stipulation and consequent development of a novel jurisprudence on the concept of Force Majuere. In these rapidly changing times, we are at the threshold of a new jurisprudence that is likely to evolve, to gauge the impact of the situation resulting from this pandemic on the performance of contracts. It is also likely to lead to a paradigm shift in how a Force Majeure clause in an agreement is worded, viewed, analyzed and interpreted. What was considered quite a superfluous inclusion in any agreement, would now require a far stricter attention and deeper scrutiny. The critical question to be addressed is - Whether the situation created by COVID 19 can be termed as a Force Majeure event to enable a party to set it up as a reason for excusing the performance of its contractual obligation?

The answer to the question would be a facts specific determination based on various factors, the most significant being the stipulation regarding Force Majeure in an agreement and the language thereof.

Force majeure is a common clause in contracts that essentially frees both parties from liability or obligation when an extraordinary event or circumstance beyond the control of the parties, such as a war, strike, riot, crime, epidemic or an event described by the legal term act of God (hurricane, flood, earthquake, volcanic eruption, etc.), prevents one or both parties from fulfilling their obligations under the contract. In practice, most force majeure clauses do not excuse a party's non-performance entirely, but only suspend it for the duration of the force majeure.

Broadly stated, Force Majeure clauses are contractual clauses which alter parties' obligations and/or liabilities under a contract when an extraordinary event or circumstance beyond their control prevents one or all of them from fulfilling those obligations.

Depending on the language of the stipulation, such stipulation may have a variety of consequences, including: excusing the affected party from performing the contract in whole or in part; excusing that party from delay in performance, entitling them to suspend or claim an extension of time for performance; or giving that party a right to terminate.It is trite to state that the "test" for force majeure usually requires the satisfaction of three distinct criteria:

  1. The event must be beyond the reasonable control of the affected party;
  2. The affected party's ability to perform its obligations under the contract must have been prevented, impeded or hindered by the event; and

  1. Such affected party must have taken all reasonable steps to seek to avoid or mitigate the event or its consequences.

Whether or not COVID-19 situation resulting in Government enforced lockdown of cities, trade embargos, travel restrictions, restrictions on operating the establishments, restrictions on movement of goods, people etc., constitute a Force Majeure situation, to allow a party to be relieved from performance?

Ordinarily a Force Majeure clause may list out specific situations such as such as war, terrorism, earthquakes, hurricanes, acts of government, plagues or epidemics, which may, depending on its impact, relieve a party from its contractual liability. An "occurrence beyond a party's reasonable control" is the crux of Force Majeure—a term stemming from the Latin phrase for "superior force". But not all events beyond a party's control will satisfy a Force Majeure clause, and the structure and wording of each clause must be carefully examined. Where a relevant event is not specifically mentioned, it is a question of interpretation of the clause whether the parties intended for such an event to be covered. What is required to be ascertained is whether the list of events included was intended to be exhaustive or non-exhaustive. However, if the contractual stipulation does not include language to that effect, then it will be necessary to consider whether COVID-19, or its impact on a business or a project, is captured by a different concept, such as an "Act of God," "action by government" or a similar catch-all phrase or provision. Most force majeure provisions contain a sweeping or "catch-all" language in respect of events which are "outside the reasonable control" of the party affected. Evaluating the instant situation at hand, it seems fairly clear that a pandemic such as COVID-19 would qualify as force majeure under such a provision.

What has to be kept in mind is that break out of the pandemic alone is not the force majeure event, it is the situation resulting therefrom like restrictions on production, trade, movement of goods, movement of people etc.

A force majeure provision typically relieves a party from what would otherwise be a breach of contract—i.e. its failure to perform an obligation due to the effects of the event of force majeure in question. The party must establish the causal link between the event and its inability to perform. The party claiming force majeure is usually under a duty to show that it has taken all reasonable endeavors to avoid or mitigate the event and its effects. This is a subjective standard and will be interpreted on a case-to-case basis. The force majeure event or circumstance must be causative to the contractual breach and a party claiming force majeure is typically required to establish that it was the force majeure event (and not some other factor) that caused the party to be unable to fulfillits contractual obligations.

As a result of the Covid-19 outbreak, the economic realities have undergone a sea change. The situation emerging from the pandemic and its other fall outs would definitely impact the performance of contractual obligations under variety of contracts and would thus serve as the requisite "causal link" to qualify as a Force Majeure event, subject to the party affected having taken all reasonable measures within its means. A disruption that merely impacts the profitability of a contract may not be sufficient for a force majeure claim unless there is express contractual provision for such a situation. Nor would an economic downturn or other general adverse business conditions likely be sufficient, even if it could clearly be shown that a key trigger for the downturn was COVID-19.

In effect, the language of the Force Majeure clause will determine the remedies available to the parties. Some contracts may provide for immediate termination of the contract upon the happening of the force majeure event while the others may provide that the contract will be put on hold until the force majeure event is resolved. Some contracts may provide for limitations in time after which either party may terminate the contract with notice to the other party; others may require the contract to remain in effect and only suspend some of the contractual obligations.

The Office Memorandum no. F.18/4/2020-PPD dated 19.02.2020 issued by the Department of Expenditure, Ministry of Finance, Government of India, while noting the disruption caused to supply chains due to COVID – 19 has clarified that it would be considered as a case of natural calamity and the Force Majeure clause may be invoked, wherever considered appropriate, following due procedure as provided in the clause. Subsequently, while invoking Section 10(2)(l) of the Disaster Management Act, 2005, the Ministry of Home Affairs in its Order no. 40-3/2020-DM-I(a) dated 24.03.2020 called upon all Ministries of the Government of India, State Governments and all authorities to take effective measures so as to prevent the spread of COVID–19 for a period of 21 days with effect from 25.03.2020. This resulted in all State Governments issuing notifications / orders / circulars which came into effect from various dates in that State.

To sum up, whether or not the situation resulting from Covid-19 would enable a party to invoke the arbitration clause, the answer is facts specific and there is no "one size fits all" answer to the same. However on a broad surface it can be stated that if there is a reasonably exhaustive Force Majeure stipulation in the contract, it is fairly arguable that the performance of the contract was prevented, impeded or delayed due to the situation resulting from Covid-19. Since the pandemic has acquired such enormous proportions globally, a situation neither foreseeable nor within control of the parties, which has resulted in severe restrictions that have virtually brought the economy of the country to a grinding halt, the courts cannot be expected to be oblivious to this harsh reality and are also likely to take a realistic and pragmatic view of the matter while dealing with any situation where the plea of force majeure is pleaded. The onus of proving a Force majeure circumstance in on the party asserting it. Thus the party claiming force majeure sould be required to show that any failure to perform its contractual obligations was beyond its control and that it could not have otherwise prevented or mitigated the damage from such failure. It is also advisable that the party seeking to invoke Force Majeure for non performance takes all steps to mitigate the foreseeable damages brought about by non performance. The courts in India have generally recognized the concept of Force Majeure and applied it in appropriate cases. such as – SatyabrataGhose vs. MugneeramBangur& Co. (AIR 1954 SC 44), Naihati Jute Mills Ltd. vs. HyaliramJagannath (AIR 1968 SC 522) and Energy Watchdog vs. Central Electricity Regulatory Commission (2017) 14 SCC 80.

Another critical question is whether you can take recourse to the Force majeure plea if there is no clause to that effect in the contract. Since force majeure is a creature of contract rather than a rule imposed by the general law, if there is no force majeure clause, an affected party will have to look to other provisions of the contract for potential routes out of its difficulties. If the contract does not provide any such routes, it may in certain circumstances be possible to rely on the doctrine of frustration of contract. The statutory stipulation regarding frustration of contact is housed in section 56 of The Indian Contract Act, 1872.This doctrine provides that a contract may be discharged on the grounds of frustration when an event or circumstance arises after the formation of a contract that renders its performance physically or commercially impossible or transforms the obligation to perform into a radically different obligation than that to which the parties originally agreed to. Therefore, the burden of proof would lie on the party seeking to use the defense of this doctrine to show that the event i.e. COVID – 19, has changed the very foundation of the agreement, thereby rendering it impossible to perform. It is imperative to mention that mere "economic difficulty" or loss, is not sufficient to invoke Section 56 of the Act and thus the parties may not be in a position to claim discharge from its contractual obligations.

Although the frustration principle is subject to a very high threshold, it is possible to envisage a range of factual circumstances in which COVID-19 and the ensuing governmental response measures could be construed as a frustrating event. Frustration requires that an unforeseen subsequent event outside the control of the parties made the contract impossible to perform, or has transformed performance of the obligations under the contract into something so radically different from that which the parties intended that it would be unfair to hold the parties to their obligations.

How the situation unfolds and how the questions surrounding these aspects are addressed by courts in different jurisdictions shall be something to be seen in the times to come. But there is no denying the fact that break out of this pandemic has sounded sufficient alarm bells in the commercial world to be more focused on force majeure stipulations in commercial contracts.

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