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Contracts Versus Covid-19

The unforeseen and unpredictable Covid-19 pandemic has adversely impacted the performance of a contract and has made it impossible for the parties to the contract to act as per its provisions all across the world. Companies and businesses would be under the impression that these hopeless situations need some desperate solutions; well it may be the case or may be not! As the legal cliché says, it depends.

In any case of some obligation to perform under a contract, it will completely be contingent on an accurate analysis of the facts and principle related to the underlying contract. Through the medium of the essay I made an attempt to emphasis on the impact of Covid -19 on the performance of contracts which are governed by Indian laws and suggest the probable solution to the situation.

The day is gone the learned Judge of the Court of Appeal went on to say:
when we can excuse an unforeseen injustice by saying to the sufferer 'it is your own folly, you ought to have put in a clause to protect yourself. We no longer credit a party with the foresight of a Prophet or his lawyer with the draftsman ship of a Chalmers. We realise that they have their limitations and make allowances accordingly. The old maxim reminds us that he who clings to the letter clings to the dry and barren shell and misses the truth and substance of the matter. We have of late paid heed to this warning, and we must pay like heed now.

And even then, the House of Lords articulated and showed condemnation of the way in which the law was stated above with respect to unforeseen, unpredictable events and contractual obligations, and stated that, “it is a matter of construction of the contract”.

The unanticipated corona virus pandemic has broken up our lives to a great extent. It has proved to be powerful impedance to personal, professional, financial and commercial activities of homo sapiens.

Such conditions are not only preventing best performance of contracts at all levels but also making performance impossible. This article focuses on impact of Covid-19 on performance of contracts, underlying Indian law. In the reference of lines quoted above from an English judgment[1], the question which must be addressed is that whether non - performance of a contract due to impossibility purely depends on clauses and construction of respective contracts, and if its true then can companies and businesses rescue their obligations and save their contracts.

Companies need to keenly and carefully observe their contracts in order to calculate the risk of being liable due to the impossibility of performance in such situations.

Impossibility To Perform The Contract After Execution
As already stated this corona virus has just made the performance of contract either difficult or impossible, it has added on to the difficulties and hardships of the parties to the contract in fulfilment of the contractual obligations and in some cases caused complete in capability of performance.

Section 56 of Indian contract act, 1872 (ICA) talks about the Impossibility of performance after execution of a contract. Section 56 is in Chapter IV of the ICA which creates a nexus to performance of contracts and provides the basis to deal with one category of circumstances under which performance of a contract can be dispensed with. As per section 56 of ICA,
“Section 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.”[2]

At first look, the provision of law focused upon in 2nd paragraph of Section 56 would appear to deem fit and come into play fully in the current scenario of Covid-19.
  • But is it the only possible way to look at it
  • Would this ‘impossibility’ of performance straight away make all the contracts void under Indian law, from the very date of the occurrence of impossibility?
  • What’s the scope of ‘impossibility?
  • Who is best one to determine it?
  • How the risk will be calculated in such situations?
  • Is there any provision in the Indian contract act which save the contracts from becoming void in such circumstances?

To understand the nuance remedies available to parties to the contracts in current circumstances, its important to understand the concepts of force majeure and frustration.
  1. Impossibility & Force Majeure
    Maximum number of contracts expressly have clauses and terms within it as per which the contract would stand suspended or discharged if such circumstances come into being. In such situations, the contract would be dissolved according to the terms of the contract itself. In India such cases would be dealt with according to the section 32 of the Indian Contract Act which talks about contingent contracts or similar other provisions contained in the Act, whereas in English laws these cases will come under the cases of frustration and will be dealt according to it.

    Section 32 of the Indian Contract Act is stated below:
    “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.”[3]

    There is a possibility that a circumstance arises where an unpredictable and unforeseen event happens which makes the performance of the contract impossible for a certain period of time in which the event is active, thereby providing a chance of resuming the performance of contractual obligations after the event becomes inactive. In such situations the concept of force majeure comes into scene.

    As per Black’s Law Dictionary, the term force majeure means an effect that can’t be controlled and anticipated.[4] It is used in reference of all situations independent of the will of man and it is not in his capacity to control and such force majeure is adequate to rationalize the non-execution of a contract. A force majeure clause in contracts reads as below:
    “None of the Parties shall be liable for any delay, failure in performance, loss or damage due to Force Majeure events. During the performance of the Agreement events of Force Majeure may occur, such as, but not limited to, war, fire, flood, earthquake, accident, riot, strike, explosion, lockout, act of God, act of Government authority, accidents and/or damage, decisions from the Customer, or any event beyond the reasonable control of any of the Parties, which by their effects render impossible or hinder the performance of any obligation or the exercise of any rights under this Agreement or the normal operation of the Company’s industrial installations, or cause the failure or omission to comply with this Agreement.”

    As per English law, force majeure is a contractual stipulation according to which a party to the contract is obliged to terminate the contract or is exempted from performance upon the occurrence of specified events which is not in the control of the party to the contract. To prove that the event was the one and only reason due to which the party is incapable to perform the contractual obligations it is vital to establish a nexus of causation between the impossibility of performance and the event.

    As per Indian law, analogous to English law, force majeure comes into existence from the contract law. This clause is incorporated to save the suffering party from result of breach which happens due to the event over which the party has no control. So the accurate analysis of all, the character and general terms, the events which precede or succeed, and the facts of each case will decide that force majeure can come into force in order to excuse liability for no performance. It depends on the party to the contract to bring the force majeure clause into force to save itself from performance of any contractual obligation, in circumstances envisaging force majeure.

    On 19th February 2020, the Ministry of Finance issued an Office Memorandum, with reference to Covid-19, on ‘Force Majeure Clause’ providing that “coronavirus should be considered as a case of natural calamity and force majeure may be invoked, wherever considered appropriate, following the due procedure (in the Office Memorandum)”[5]. It also provides that “a force majeure clause does not excuse a party’s non-performance entirely, but only suspends it for the duration of the force majeure.

    The firm has to give notice of force majeure as soon as it occurs and it cannot be claimed ex-post facto…If the performance in whole or in part or any obligation under the contract is prevented or delayed by any reason of force majeure for a period exceeding ninety days, either party may at its option terminate the contract without any financial repercussion on either side”.


    Parties to abovementioned contracts should obey the Memorandum but it may not serve as a binding document. In case a dispute arises with the acceptance and rejection of the Office Memorandum, it will completely depend on the Courts or arbitral tribunals to understand the force majeure clause and declare if it covers any stipulation for evidence in terms of office memoranda as above in order to prove a case of force majeure.
     
  2. Impossibility & Frustration
    Impossibility and frustration are very often used as interchangeable expressions.[6] However, it's necessary to know that the common law philosophical system of frustration as propounded in English law is distinct from the statutory provision of supervening impossibility and unlawfulness under Indian law. This affects the way during which contracts are going to be taken clearly below English law and Indian law.

    Under English law, frustration is so much concerned with the change in circumstances that it cancels the base of the contract as a whole or in case of performance makes it different with that which was in consideration by the parties in the beginning and is concluded by the legal order.[7]

    In order to defend oneself from impossibility of performance as per a English law governed contract on account of Covid-19, the party will have to prove frustration. Does a specific contract make lobby for the doctrine of frustration to be applied, solely depends on legal theories and reasoning given by English courts.

    These involve:
    1. terms implied in the contract;
    2. vesting court with all the power to decide what is right and reasonable under such situations;
    3. engaging in formation of the contract depending on intention of parties to the contract.

    However, as per Indian contract law, the legal provision under Section 56 states a positive rule of law on supervening impossibility or illegality that makes performance impossible not literally but practically.[8]

    Here the party is excused by the court on the basis of impossibility when it concludes that the whole and sole purpose was frustrated due to the occurrence or intrusion of an unanticipated event or alteration in the situation which is so fundamental that law regards it to be affecting the root of a contract because of which the contract comes to an end automatically.

    The court beyond question would examine the contract and the situations under which it came into existence. The belief and intention of the parties to the contract are evidence, however evidence solely on which the court reached a conclusion whether or not the altered circumstances destroyed the very basis of the contract. In this way, frustration can be a mere subset under the wider doctrine of impossibility. But the Indian courts will apply Section 56 in an objective manner to calculate whether a specific situation has made the performance impossible and frustrated such contract, without questioning the reasonableness and intention of the parties to the contract.

    According to Indian law, frustration is a part of the law of discharge of contract coming under Section 56 due to the reason of impossibility of the act contracted to be done. While Section 56 contemplate or conceive of as a possibility of impossibility of performance of contractual obligations resulting into avoidance of the same, it does not express the essential features of the concept of unforeseen events due to which there may arise a possibility of momentary suspension and resumption of the performance of the contract.

    Force majeure comes into scene in such circumstances. On one hand frustration of contract under Section 56 comes into play automatically from the date of the impossibility and puts the contract to an end whereas on the other hand under the concept of force majeure the party which is not able to perform has to decide to invoke the clause by some means.

    As Under Indian law, the doctrine of frustration is an aspect or part of the law of discharge of contract under Section 56 by reason of supervening impossibility or illegality of the act agreed to be done. While Section 56 envisages impossibility of performance leading to avoidance of the contract, it does not statutorily encapsulate the concept of unforeseen contingencies which result in temporary suspension of performance and resumption of the contract.

    The concept of force majeure comes into play in such situations. Unlike a force majeure clause where the non-performing party needs to elect or choose to invoke the clause, either by means of a notice or otherwise, frustration of contract under Section 56 operates automatically from the date of the impossibility and puts the contract to an end.

    As the Indian Contract Act is completely comprehensive on impossibility of performance under Section 56, it wouldn’t be fine to bring in the provisions of English law on doctrine of frustration outside the scope of these statutory provisions. The decision of English law will have only persuasive value on the contracts and disputes governed under ICA and may be helpful in giving the way of how the English courts have come to decision in the case whose facts are same as the case before the Indian court of law.
     
Practical Considerations
  1. Estimation of impact of Covid-19
    It is important to calculate the extent to which Covid -19 has affected the performances of contractual obligations before evaluating the remedy to it. Has Covid-19 resulted in temporary failure of performance, complete incapability to perform the obligation? What if Covid 19 has created delays which if extended beyond a certain limit could hinder the root cause of the contract, or just commercial hardship?

    For example:
    Parties to a contract may be faced abnormal rise or fall in prices which is an unanticipated obstacle to execution. This doesn’t in itself get free of the bargain they made. It is only when the terms of the contract, in the light of the situation existing when it came into existence, tell that the parties never agreed to be bound in a completely different circumstance which had emerged unexpectedly, that the contract cannot be binding. A party to the contract may not be set free from the obligations of its part merely due to the reason that its performance has become typical and onerous because of an unforeseen event. Therefore, frustration can’t be claims in all the cases of delayed performance.

    In accordance with force majeure clause, the clause of the contract could consist of words that specify the extent of effect on performance to invoke the very clause, such as ‘prevent’, ‘hinder’. The Courts have distinguished between the words ‘prevent’ and ‘hinder’ well. In addition, Courts have also construed words which precede or follow words such as ‘hinder’ or ‘prevent’ in the clause, as well as construed the nature and general terms of the contract to determine if the impact as claimed by a party enables it to invoke the agreed force majeure clause[9]. In order to understand whether a party to the contract can invoke the force majeure clause ,its necessary to understand the meaning of these words.
     
  2. Does your contract offer a remedy?
    If the contract does not does not include in it a clause which deals with a circumstance which would make the performance of the contract impossible the party make seek for the remedy under section 56 of the ICA. Whereas when the parties have already contemplated a clause in the clause then section 56 will have an iota of application. . To decide whether Covid-19 could invoke the force majeure clause, or in that case frustrate the contract, it will be critical and crucial to calculate and the operational sides of the relevant commercial transaction in such circumstances and the type of force majeure clause in the contract.
     
  3. Other Terms of Contract
    Any Contracts , along with the force majeure clause, may constitute of different provisions dealing with the non-performance of the contractual obligations. For example, a contract may include a stipulations on liability due to price escalation, delayed performance, etc.

    If there happens price escalation or any sort of delay due to an unforeseen force majeure event one needs to thoroughly understand what the language force majeure clause suggests in that situation along with the other provisions related to price escalation an delayed event in order to invoke any of these and get the best possible and appropriate remedy. In these cases, its mandatory to understand if the result of non-performance because of the unforeseen event was contemplated by the parties to the contract or the risk was taken by the parties and covered under the scope of the contract.
     
  4. Formal requirements
    In a probable case of force majeure, a contract may need to meet of formal necessities by a party to the contract suggesting to excuse itself of non-performance. For example, there is a contract between two parties and an unforeseen event takes place in that situation the non performing party meet to notify the other party about happening of such event covered under the provision of force majeure. Also party may be needed to show that it is working on reduction of loss and time required for dealing with the event of force majeure.

    The Party facing a Force Majeure event should:
    1. Notify without delay the other Party to the contract by notice, giving information of the event;
    2. Also inform the other Party about the resumption of the performance when the Force Majeure event has come to an end unless and until the parties have decided to take a alternative path or have terminated the contract.
    3. Should impossible performance resulting from the Force Majeure event stay beyond a period of ninety days, and if the Parties have failed to find an alternative to deal with the force majeure, then any the Party to the contract may ask for the termination of the contract through a notice.”
       
  5. Will the “Covid -19 pandemic” come under the ambit of Force Majeure?
    In contracts the act of God comes within the ambit of the Force majeure clause. Act of God is defined as an extraordinary interruption by a natural cause (such as a flood or earthquake) of the usual course of events that experience, prescience, or care cannot reasonably foresee or prevent.

    This may include earthquake, floods, etc. Whereas events such as strikes, riots, wars, breakdown of administrative machinery, lockdowns, and effects of such events such as shortage of supply owing to war, war-time difficulty in shipping, refusal of export license etc also come in the ambit if Force Majeure.

    Now ,the question that whether or not the lockdowns and curfews due to this Covid -19 pandemic which is in action right now will depend on the legal interpretation and the language used in the force majeure clause of a contract.[10]
     
  6. Best actions to mitigate
    In order to mitigate the losses and effects of non-performance of a contractual obligation on the other party to the contract the drafter of the contract may add a clause into it which would address the best possible endeavours. The ‘best endeavour’ clause would ensure that the party under contractual liability makes best efforts to reduce the effect of impact due to non-performance and notifies the suffering party.

    Here is an example of force majeure clause consisting of mitigation actions:
    “The Party to the contract suffering due to the Force Majeure circumstance shall compensate the situation, with best possible actions and efforts to reduce the effects the event , to the extent it is possible.”
     
  7. The contract is terminated or not?
    The companies, businesses and the parties to the contract need to understand the terms of the contract to get the remedy available. To what extent has the force majeure event affected the contract, has it made it completely impossible or has just raise a situation of hardship, and the action to mitigate really mitigate the effect of such hindrance, what situation will result in suspension of the performance to the level of termination – would completely depend on the nature and the clauses a contract constitutes of.
     
  8. Renegotiation:
    If there arises a case in which the unforeseen has just made the performance commercially difficult and not impossible then he parties to the contract can renegotiate upon the alternatives, other than suspension or termination of the contract due to delay, if commercially viable.
     
  9. Restitution:
    Almost in every cases where non-performance of a contract takes place and one party has received some benefit under the contract when it is declared to be void then the party is required to restore all advantages to the party from which it was received. Section 65 of the ICA deals with this provision which is not absolute. The extent to which a party will be resituated will vary from case to case depending on the facts of each case.

    Parties are free and can provide that the risk of the following events shall be redeemed by any one of them, or divide it in some proportion, or they may suspend the contract, or compensate the loses.

Conclusion
This could be clearly noticed in the abovementioned facts and principles that a what will be the result of non-performance of contractual liabilities is highly contract-specific, clause-specific and fact-specific, therefore desperate situations such as that of the Covid-19 pandemic may not justify immediate measures by parties.

Parties to the contract need to closely scrutinise the clauses while forming the contract. Also, how the Indian judiciary system interprets the contracts and the disputes arising due to the unanticipated events can’t be anticipated as this would be done with a very nuance approach, keeping in mind all he diverse circumstances, language of the clauses and provisions and thereafter drawing a nexus among the entire thing.

Therefore the parties should be highly prudent while forming a contract and should take the best legal advice and go through their contracts very thoroughly in order to save and prepare themselves from the upcoming liabilities which could arise in near future. The parties must form the contracts with utmost care keeping in mind all the things aforesaid.

End-Notes:
  1. British Movieto-news Ltd. v. London and District Cinemas Ltd. L.R., (1951) 1 K.B. 190, Court of Appeal decision; reversed in appeal by the House of Lords
  2. Indian contract act 1872.
  3. Ib., § 2.
  4. Edition 11 Black’s Law Dictionary, (2019).
  5. Office Memorandum No.F. 18/4/2020-PPD titled ‘Force Majeure Clause’, issued by Department of Expenditure, Procurement Policy Division, Ministry of Finance.
  6. Satyabrata Ghose vs. Mugneeram Bangur and Others, AIR 1954 SC 44, ¶ 10
  7. Chitty on Contracts, Volume I, (31st Edition), Sweet & Maxwell
  8. Satyabrata Ghose vs. Mugneeram Bangur and Others, AIR 1954 SC 44, ¶ 17
  9. Energy Watchdog vs. Central Electricity Regulatory Commission and Others, 2017 (4) SCALE 580.
  10. Mulla & Pollock on Indian Contract Act, 1872 & Specific Relief Act, 1967, page 1181

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