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Impact Of COVID-19 On Contractual Obligations

Puneet Taneja
9 April 2020 2:28 PM GMT
Impact Of COVID-19 On Contractual Obligations
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The rise of COVID-19 (coronavirus) epidemic which began in early December 2019 in a Chinese state named Wuhan led to become one of the most deadly global crisis with thousands of deaths and complete lockdown across various nations. Due to this epidemic, global health seems to be of utmost importance. However, the rapid transmission and unsuccessful containment measures are leading the global economy into a state of havoc. India has also hundreds of confirmed cases of COVID-19 and its impact cannot be miscalculated as this virus has attained the status of a pandemic in the whole world at the present and due to which everything is shut from educational institutions to various manufacturing entities and businesses worldwide. The outbreak of COVID-19 has also led to many legal implications and questions due to its severe impact on various sectors, industries, and companies.

The consequences of the pandemic can be witnessed in the slow production and manufacturing of necessary equipment's which may lead to a disrupted supply chain worldwide. It is possible that performances under many contracts and agreements might stand delayed, interrupted, or even cancelled. Many parties to the contracts may seek to delay and/or avoid the performance of their contractual obligations or even terminate their contracts due to the outbreak of COVID-19. This article will provide a brief snapshot on the impact of COVID-19 outbreak on various contractual obligations and implications.

Lex non cogit ad impossibilia often expressed as Impotentia excusat legem, is a Latin maxim which means that the law does not compel a man to do which is not possible to be performed. COVID-19 virus has taken us to a position where the parties to a contract are facing a situation of impossibility to perform their obligations[1]. Several commercial agreements relating to supplies, infrastructure works, construction contracts etc., have been badly hit as the parties to the contracts have miserably failed to discharge their respective obligations. This failure to discharge the obligations would lead to either deferred performance or may even lead to termination of certain contracts depending upon the facts of each contract. The said default in performance by way of delayed discharge of obligations or termination of contractual relationship has not been on account of reasons attributable to either of the parties. Since, the reason for delayed performance or termination of contract is not attributable to either of the parties but on account of COVID-19 virus, it has to be determined whether the law of contract takes care of the said situation.

ACTIVATION OF FORCE MAJEURE

Usually most of the commercial contracts provide for a Force Majeure or Vis Major (Latin) clause. Force Majeure is a French term which translates literally as superior or irresistible force[2]. Force Majeure clause comes into play when one party is unable to perform his contractual obligation which he needs to perform and due to natural circumstances i.e. unforeseeable circumstances which includes acts of war and natural disaster he/she was hindered or delayed in performing the same.

Force Majeure is a contractual provision allocating the risk of loss if the performance becomes impossible or impractical, especially as a result of an event or effect that the parties could not have anticipated or controlled[3]. By way of Force Majeure clause in the contract, the parties have themselves contemplated events on the happening of which the parties shall stand released of their respective obligations. These are called contingencies on the happening of which the performance of the contract shall stand discharged and is governed by the provisions of Section 32 of Indian Contract Act 1872[4]. Therefore, a clause under the contract stating that on the happening of events like act of god, war, civil commotion, flood, earthquake, hurricane, nuclear fission etc., the contract shall be suspended or the parties shall stand discharged of their respective obligations, are the contingencies which the parties could contemplate at the time of entering into the contract which would render the contract void. The entire concept governing the force majeure clause is clearly highlighted in the recent celebrated judgment of Apex court titled Energy Watch Dog vs. CERC.[5]

For instance, in the construction business, the clause of Force Majeure can come into picture when a contractor in a construction project gets into play as he becomes the first one to encounter the consequences because of a disrupted supply chain in scenario like of COVID-19.

But there lies no surety of succeeding of a party by invoking Force Majeure clause due to COVID-19 outbreak as it will depend on the contractual interpretation of whether the outbreak would be regarded as "epidemic" or not.

Post invoking the clause of Force Majeure, a few considerations must be kept in mind which can prove out to be pertinent to such a situation. Such considerations are as follows:

· Parties to a contract have to ascertain as stated earlier that whether Force Majeure will succeed as per the interpretation of the concerned contract and it has to be done within the limited time frame.

· Assessment of the evidences which are fit to prove that due to COVID-19, such circumstances arose because of which the party became unable to perform its obligations. The stricter thresholds call for the party to show that its performance of contractual obligations was being 'prevented' by the qualifying force majeure event. Showing the evidences to prove the impossibility to perform the contractual obligations is a key requisite to invoke the clause of Force Majeure successfully.

IMPOSSIBILITY

There may be various events in future, the occurrence of which the parties can never contemplate but the happening of which still renders the parties incapable of discharging their obligations. In Ganga Saran v. Ram Charan[6] , where Fazl Ali, J., speaking about impossibility observed in his judgment as follows:

"It seems necessary for us to emphasize that so far as the courts in this country are concerned, they must look primarily to the law as embodied in Sections 32 and 56 of the Indian Contract Act, 1872."

Division Bench of the Nagpur High Court in Kesari Chand v. Governor-General-in-Council[7] held that the doctrine of frustration comes into play when a contract becomes impossible of performance, after it is made, on account of circumstances beyond the control of the parties. To take care of this situation, we have a statutory provision in Section 56[8] of Indian Contract.

The law in India with regard to frustration of contract due to an event rendering it impossible to perform the contractual obligations was laid down in the pivotal decision of Satyabrata Ghose v. Mugneeram Bangur & Co[9]. The Apex Court while dealing with the issue of frustration on account of changed circumstances destroying the very purpose of basis of underlying contract observed "This is really a rule of positive law and as such comes within the purview of Section 56 of the Indian Contract Act."

Subsequently, in Naihati Jute Mills Ltd. v. Hyaliram Jagannath[10], the Apex Court, after referring to the English law on frustration, decided that a contract does not stand frustrated only because of altered circumstances. In general, the courts do not have any power to absolve a party from the performance of its contractual obligations merely because its performance has become excruciating on account of an unforeseen event.

Taking note of the rule of positive law under Section 56 of the Contract Act, Nariman J., on behalf of the bench in the case of Energy Watchdog v. CERC[11] observed 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 dehors the contract, it will be governed by Section 56."

Thus it can be stated that the force majeure events can be classified into two categories. Those which the parties have contemplated by way of express term in the contract like war, earthquake, flood, acts of God etc., and those which could not be contemplated and do not fall within the provisions of the Contract but still are events of impossibility or frustration. The said events would fall under the rule of positive law i.e. Section 56 of the Indian Contract Act.

COVID-19 AN EVENT OF FORCE MAJEURE OR IMPOSSIBILITY

Certainly parties could never have contemplated an event like COVID- 19 which might take place thereby frustrating the performance of contract as it is a novel virus as per World Health Organization (WHO) and therefore, could not have been stated in express terms as an event of force majeure. However, the same has frustrated many contracts and has either not allowed the parties to perform their respective obligations or destroyed the underlying objective of the contract and has rendered the contract as impossible to perform.

The intention behind the clause of force majeure is to safeguard the performing party from the repercussions of something over which the party has no control. Force Majeure can be considered as an exception to what would otherwise amount to the breach of a contract.

However, the declaration of COVID- 19 as a pandemic event and notification issued by Ministry of Finance, GOI regarding the current scenario's impact on contractual implications has certainly arisen some major doubts on whether the disruption of the supply chains due to coronavirus in China or any other country will be covered in the Force Majeure clause. Though it has been made clear that it should be considered as a case of natural calamity and Force Majeure may be invoked, wherever considered appropriate. With such announcements, the parties may be able to invoke the force majeure clause but in case the contract does not provide for force majeure clause or the terms of the clause do not provide any event in which COVID--19 fits in, even then certainly the contracts shall stand suspended or frustrated in the facts of each contract in terms of Section 32 or 56 of Indian Contract Act, 1872.

CONSEQUENTIAL LEGAL OPTIONS

Considering an epidemic scenario of COVID-19 which has triggered many parties to invoke the clause of Force Majeure to escape their contractual obligations, various other aspects must be looked upon which have been deeply affected. COVID-19 outbreak not only affected the economy drastically but also led to interruptions in supply chains, dip in exchange rates, limited business activities and financial support from government.

Taking a note of all the government measures relating to complete lock down, mandatory quarantine and forceful shut down of businesses activities which will directly affect the working of the various industries, all these measures can be regarded as evidence for activation of force majeure clause for not performing their contractual obligations. Legal consultants' inputs will be imperative for the collection and formulation of evidence for notices of force majeure. Force Majeure clause also usually requires the affected party to mitigate the effects of force majeure and the duty to mitigate is an ongoing obligation. Affected parties need to consider whether there are alternative means to perform contractual obligations or not.

Surely many parties have suffered losses but since none of the parties can be held guilty of breach of discharge of their obligations, the provisions of Section 73 of Contract Act can't be invoked by any party. But in case the impact of COVID- 19 as a supervening event of impossibility is such that the fundamental basis of the contract itself gets frustrated which shall depend upon the terms and object of the contract, then the parties can resort to the provisions of Section 65[12] of Contract Act. Hon'ble High Court of Gauhati in the case of Barada Kanta Das v. State of Assam[13] had observed "if the agreement is discovered to be unenforceable and therefore void, Section 65 of the Contract Act would come into play." Moreover, the Privy Council referring to Section 65, in respect of void contracts, in the case of Govindram Seksaria (a firm) & Anr. Vs. Edward Radbone[14] held that "each of the parties became bound to restore to the other any advantage which the restoring party had received under the contract". Thus, if any benefit or advantage has been passed on and the contract has got frustrated then the party receiving the advantage has to restore the cost of said advantage to the other party. Needless to mention, the suffering party cannot be deprived of the right of restitutionary claim based on the principle of unjust enrichment[15].

CONCLUSION

COVID-19 outbreak is spreading at an alarming pace due to which the economy is diversely affected and various industries and sectors are facing uncertainties through hampered supply chain, labor availabilities, financial crunch, and other unforeseen circumstances. It is an event of impossibility amid the nationwide lockdown and hence the parties are unable to fulfill their contractual obligations. Alternatively, parties can invoke the force majeure clause as provided in the contracts and in case the event does not fit into the contractual clause, the provisions of section 56 can be invoked. The parties can also seek consequential reliefs either under the contract or as per the provisions of Section 65 of the Indian Contract Act. As nothing can be determined for finality, the above-mentioned information can be rendered as of analytical view by considering the present situation for different sectors.

Puneet Taneja, Advocate on Record, Supreme Court of India, is a litigation lawyer practicing before the Supreme Court of India, Delhi High Court and is also an arbitration lawyer. The author's views are personal.


[1] Industrial Finance Corpn. of India Ltd. v. Cannanore Spg. and Wvg. Mills Ltd., (2002) 5 SCC 54

[2] Merriam-Webster on line dictionary

[3] Black's Law Dictionary (11th ed.2019)

[4]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.

[5] Energy Watch Dog vs. CERC (2017) 14 SCC 80

[6] 1952 SCR 36

[7] ILR 1949 Nag 718

[8] 56. Agreement to do impossible act.—An agreement to do an act impossible in itself is void.

Contract to do 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

[9] AIR 1954 SC 44

[10] 1968 (1) SCR 821

[11] (2017) 14 SCC 80

[12] 65. Obligation of person who has received advantage under void agreement, or contract that becomes void.—When an agreement is discovered to be void, or when a contract becomes void, any person who has received any advantage under such agreement or contract is bound to restore it, or to make compensation for it, to the person from whom he received it.

[13] AIR 1956 Assam 23

[14] ILR 1947 Bom 860

[15] Lipkin Gorman v Karpnale Ltd [1991] 2 AC 548

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