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Force Majeure and Doctrine of Frustration

Today the world Economy is struggling to deal with the effects of Pandemic Covid-19 and India is not an exception to the same. Covid-19 was declared as Pandemic by WHO on 11th March 2020. This has led to lockdowns and financial slowdown in all sectors in India and worldwide. Some businesses are going to find it difficult or impossible to fulfil their Contractual liabilities and to perform contracts entered into before the outbreak of the Covid-19 pandemic.

There are possibilities that in many contracts, parties will be seeking to delay and/or to avoid their contractual obligations/performances. The parties will be further taking a defence of Force Majeure & Doctrine of Frustration wishing not to be held liable for their non-performance of the contractual obligation.

The impact on the businesses has been severe, and the force majeure clauses will play a crucial role if the businesses are not able to perform their contractual obligations amidst this crisis. Under this Article we are going to explain the Force majeure and frustration in the context of Covid-19.

Force Majeure

Force majeure is a French term that literally means "greater force." It is related to the concept of an act of God, no party can be held responsible for an event, such as a hurricane or a tornado, floods, earthquakes and other "acts of God," as well as uncontrollable events such as war or terrorist attack.

Force Majeure clause is a provision in a contract that excuses a party from not performing its contractual obligations that becomes impossible or impracticable, due to an event or effect that the parties could not have anticipated or controlled. Generally speaking, for events to constitute force majeure:
  1. It must be unavoidable and beyond control of the parties to the contract.
  2. It has prevented or hindered the party's contractual obligation.
  3. The parties to the contract have taken all reasonable steps with due diligence and care to avoid/ minimize the negative consequences of the event.
In Energy Watchdog Vs. Central Electricity Regulatory Commission and Ors. (2017) SCC 14 1 the Hon'ble Supreme Court of India has held that the contract wherein Force Majeure clause is explicitly mentioned are out of the purview of Section 56 of the Indian Contract Act, 1872.
  • Force majeure clause:
    Most commercial contracts contain a force majeure clause. Force majeure clauses contains an exceptional circumstance (agreed by the contracting parties at the time of entering into the contract) under which the said contract may be varied or suspended. As the Circumstances are outside the control of the parties, protection of the parties from the breach of the contract (if they are not able to perform their obligation) is the purpose of the Force Majeure Clause. The Effect and scope of a force majeure provision will depend drafting of the same i.e. on the words used, as interpreted in the context of the contract.
     
  • Application of Force Majeure Clause:
    The force majeure Clause is a part/ creature of the contract. It has no statutory or common law definition. The contracting parties are at the liberty to decide what is a force majeure event and what will be the consequences of the force majeure event, which further makes it clear that there is no specific answer regarding the applicability of force majeure clause. Each party must look their own contracts wording and further decide how it works in the relevant circumstances.
     
  • For relying on a force majeure clause Parties have to prove that:
    A Party seeking to rely on a force majeure clause have to prove that:
    1. If the force majeure clause contains a circumstance like Epidemics or Pandemic or similar, then the party has to prove that Covid-19 clause falls within a scope of the said Force Majeure clause.
    2. The party has to prove that the Performance or Contractual Obligation of the party has been affected by the Pandemic Covid-19 as specified by the force majeure provision.
    3. The party has to prove that they have taken reasonable steps with due diligence and proper care to avoid/minimize the negative impact of the event on the performance of the contract. In short, the party has to prove that the problem caused by Covid-19 is out of Control of a party to resolve it.
    4. The party has to prove that pandemic COVID-19 is the reason behind party's failure to perform the contract. If at all there is any other reason for non-compliance of the contractual obligation, then the Provision of Force Majeure will not be applied. Similarly, the provision of force majeure will not be applied if the Pandemic Covid-19 has prevented one way/method of performing the contract but there exist the alternate methods through which the contract can be performed (However, this will depend upon the drafting of the said provision).
       
  • Consequences if a force majeure clause is triggered:
    If the Force majeure clause is triggered, the contract will generally get suspended, and a party who has failed to perform its contractual obligation will usually be excused from any fine of penalty. Some clauses are drafted in such a way that they will allow one or both the parties to suspend the contract immediately or after some period. The force majeure clause may also contain a general or specific provision to solve the problem amicably. A carefully drafted clause will always be helpful while dealing with exceptional consequences.

Doctrine Of Frustration

A party who is unable to perform its contractual obligations in the absence of the force majeure clause, may seek to rely upon a common law concept, Doctrine of Frustration and it may further prove that the pandemic Covid-19 is a Supervening event which has rendered it impossible to perform the contract, which ultimately releases both the parties from further performance of the said contract.

Frustration:

Impossibility under S.56 doesn't mean literal impossibility to perform (owing to strikes, commercial hardships, etc.) but refers to those cases where a supervening event beyond the contemplation and control of the parties (like the change of circumstances) destroys the very foundation upon which the contract rests, thereby rendering the contract impracticable' to perform, and substantially useless in view of the object and purpose which the parties intended to achieve through the contract.2

It is to be noted that the contract will not be frustrated if the event which has occurred has been predicted at the time of entering into the contract. In the current situation (Pandemic Covid-19), the event is unlikely to have been foreseen by any party in advance (Except in recent Agreements).
  • A contract will be frustrated when:
    When the event occurs, which renders the performance of the contract impossible or transfers the agreed obligation of the contract into some different obligation (which was duly agreed by the parties at the time of entering into the contract) without any party's fault, then the contract will be said to be frustrated. It is immaterial if the Contract has become more expensive or more difficult. Delay caused in performance of the contract by Pandemic Covid-19 could be a frustrating event. (Depending upon nature of the contract in question and the length of the delay)
     
  • Supervening Event:
    One of the requirements of the Doctrine of Frustration is that the “supervening event” must not be the fault of the non-performing party. In current situation of Pandemic Covid-19, the parties to the contract cannot be held responsible for the spread of the same but the court may nevertheless take the view that a failure to fulfil the contractual obligation by performing a contract is a result of the non-performing party's acts or decisions. If after the party's have entered into a contract, there are changes in legal implementations due to which the performance of a contract has become unlawful, then it will be considered as a frustrating event. Thus in dealing with Pandemic Covid-19, if the government passes any law/notification which renders the performance of the Contracts unlawful, then those contracts will be said to be frustrated.
     
  • The effect of frustration:
    After the frustration, the contract comes to an end without choice or election of both the parties. It is not mandatory to issue a notice or notify other party in case of frustration of a contract. The contracting parties are discharged from their respective contractual and legal liabilities and also from future performance and any future obligations. It is to be noted that the amount paid/cost incurred/Benefit incurred by the party to the contract before the frustrating event shall be repayable (Subject to the courts discretion). The amount which is to be duly payable at the time of completion of the contract will be no longer payable.

In Satyabrata Ghose v. Mugneeram Bangur 3 war condition was known to the parties while entering into the contract such that they were aware of the possible difficulty in the performance of the contract, in such circumstances, the requisition of property did not affect the root of the contract. Secondly, no stipulation as to time was provided in the agreement such that the work was to be completed within a reasonable time.

Still, having regard to the nature of the development contract and the knowledge of the war conditions prevailing during the contract, such a reasonable time was to be relaxed. Therefore, the contract had not become impossible of performance under S.56 of the Contract Act.4

Typically, Force majeure and Frustration appears to be similar. However, the consequences of the both events are different. In case of Force Majeure, the contract is usually may get suspended, but If the contract is “frustrated” the Contract comes to an end and the parties to the contract are completely released from their contractual obligations. The position can be differently applicable to different contracts.

A well-drafted Force Majeure clause will deal with all the necessary points. Including how to divide the losses and costs incurred by the parties due to supervening event. However, when there is lacuna in Force majeure Clause, the party may opt for Doctrine of Frustration.

Comparison Between Force Majeure And Doctrine Of Frustration:

  • The concept of doctrine of frustration is very common wherein the force majeure clause is a part/creature of contract. Force Majeure has no legal concept as such and it has to be expressly defined in a contract.
     
  • Occurrence of an unforeseen event is directly linked with the impossibility to perform the contract under Doctrine of Frustration.
     
  • However, under the Force Majeure clause, contracting parties usually predict/identify a list of the events which may attract the force Majeure effect.
     
  • Under the doctrine of frustration, the contract subsequently becomes void and all the parties to the contract are released from their respective contractual obligations.
     
  • When a contract does not contain a force majeure clause, the contracting parties may claim a frustration of a contract. And if the supervening event is covered in the force majeure clause in a contract, the frustration of such contract cannot be claimed.

Conclusion
The rise of the Pandemic Covid-19 is going to affect the Financial Market. All businesses should consider the impact of the COVID-19 crisis with due diligence whether they or their counterparties will be able to/ are going to continue to perform their contractual obligations.

If it appears that the performance of the contract is going to affect significantly, it is vital to review the terms of the contracts so to understand the rights and obligations which will allow deal with crisis accordingly. The full impact of this outbreak is currently unknown and is likely to vary greatly on a project-by-project and market-by-market basis.

End-Notes:
  1. (2017) 14 SCC 80
  2. https://indiancaselaws.wordpress.com/2014/08/19/satyabrata-ghose-vs-mugneeram-bangur-co/
  3. 1954 AIR 44
  4. https://indiancaselaws.wordpress.com/2014/08/19/satyabrata-ghose-vs-mugneeram-bangur-co/
Written By: Komal Sawant, Advocate

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