India: Method For Computation Of Damages

Last Updated: 23 August 2018
Article by Tanuka De

The parties to a contract must either perform or offer to perform, their respective promises, unless such performance is dispensed with or excused under the provisions of the Indian Contract Act, or of any other law.1 A contract is not a property. It is only a promise supported by some consideration upon which either the remedy of specific performance or that of damages is available.2 The Supreme Court came to a conclusion that in ordinary cases, the extent of liability is what may be foreseen by "the hypothetical reasonable man," as arising naturally in the usual course of things. Since works and building contracts are undertaken only with an intention to earn profits, the party committing the breach would be liable for the contractor's loss in terms of expected profits.3

Sections 55 and 73 of the Indian Contract Act, 1872, do not lay down the manner or the mode in which the computation of damages or compensation has to be made. The Supreme Court has held that the method used for computation of damages will depend upon the facts and circumstances of each case.4 In the assessment of damages, the court must consider only strict legal obligations, and not the expectations, however reasonable, of one contractor that the other will do something that he has assumed no legal obligation to do.5

Formulae for Computation Of Damages

In 2006, in the case of McDermott International Inc. v. Burn Standard Co. Ltd.6, the Supreme Court had the opportunity to discuss some of the formulae for computation of damages in detail.

(i) Hudson Formula: In Hudson's Building and Engineering Contracts, Hudson formula is stated in the following terms:

(Contract Head Office overheads profit %) x (contract sum ÷ period in weeks) x delay in weeks

**Where Contract Head Office (head office overheads) and profits percentage submitted in tender.

***Dividing the total overhead cost and profit of the organisation as a whole by the total turnover of the organisation normally arrives at the head office percentage.

In the Hudson formula, the head office overhead percentage is taken from the contract. Although the Hudson formula has received judicial support in many cases, it has been criticized principally because it adopts the head office overhead percentage from the contract as the factor for calculating the costs, and this may bear little or no relation to the actual head office costs of the contractor.7

This formula has been highlighted in Ellis-Don Ltd v. The Parking Authority of Toronto8.

(ii) Emden Formula: In Emden's Building Contracts and Practice, the Emden formula is stated in the following terms:

(Head Office Overhead & Profit ÷ 100) x (Contract Sum ÷ Contract Period) x Delay Period

**The formula divides the total overhead cost of the contractor's organisation by the total turnover. This results in a percentage based on the contractor's actual head office overhead, instead of one contained in an isolated contract.

Using the Emden formula, the head office overhead percentage is arrived at by dividing the total overhead cost and profit of the contractor's organization as a whole by the total turnover. This formula has the advantage of using the contractors actual head office and profit percentage rather than those contained in the contract.9

This formula has been widely applied and has received judicial support in a number of cases including Norwest Holst Construction Ltd. v. Cooperative Wholesale Society Ltd.10, decided on February 17, 1998, Beechwood Development Company (Scotland) Ltd. v. Mitchell, decided on February 21, 2001 and Harvey Shoplifters Ltd. v. Adi Ltd., decided on March 6, 2003.

Other major case laws are Nicon Inc. v. United States decided on June 10, 2003 (USCA Fed. Cir.), Gladwynne Construction Company v. Balmimore, decided on September 25, 2002 andCharles G. William Construction Inc. v. White11.

(iii) Eichleay Formula: The Eichleay formula was evolved in America and derives its name from a case heard by Armed Services Board of Contract Appeals, Eichleay Corp. It is applied in the following manner:

Step 1: Overhead Allocable to the Contract. This is a calculation to determine the portion of the Office Overhead that should be allocated to this project. This is a way of calculating that amount.

(Contract Billings ÷ Total Billings for contract Period) x Total Overhead for Contract Period

Step 2: Daily Allocable Overheads/ Daily Overhead Rates

This is a calculation to determine the daily rate for the allocation of Office Overhead

(Allocable Overheads ÷ Total Days of Contract)

Step 3: Daily Overhead Rate/ Amount of Unabsorbed Overhead

This is simply a matter of multiplying the number of compensable delay days by the daily allocable overhead rate.

Daily Allocable Overheads/ Daily Overhead Rates x No. of days of delay

This formula is used where it is not possible to prove loss of opportunity and the claim is based on actual cost. It can be seen from the formula that the total head office overheads during the contract period is first determined by comparing the value of work carried out in the contract period for the project with the value of work carried out by the contractor as a whole for the contract period. A share of head office overheads for the contractor is allocated in the same ratio and expressed as a lump sum to the particular contract. The amount of head office overhead allocated to the particular contract is then expressed as a weekly amount by dividing it by the contract period. The period of delay is then multiplied by the weekly amount to give the total sum claimed.

The Eichleay formula is regarded by the Federal Circuit Courts of America as the exclusive means for compensating a contractor for overhead expenses.12

Conclusion: Determination of Actual Loss

There is nothing in Indian law to show that any of the formulae adopted in other countries is prohibited in law or the same would be inconsistent with the law prevailing in India.13

As computation depends on circumstances and methods to compute damage, how the quantum thereof should be determined is a matter which to be decided by the arbitrator.

The Supreme Court of India has held that- "We, however, see no reason to interfere with that part of the award in view of the fact that the aforementioned formula evolved over the years, is accepted internationally and, therefore, cannot be said to be wholly contrary to the provisions of the Indian law"14

Footnotes

1. § 37 of the Indian Contract Act, 1872

2. Sunrise Associates v. Govt. of NCT of Delhi. (2006) 5 SC 603; AIR 2006 SC 1908

3. A.T. Brij Paul Singh v. State of Gujarat. AIR 1984 SC 1703; (1984) 4 SCC 59

4. M.N. Gangappa v. Atmakur Nagabhushanam Setty & Co. and Anr. MANU/SC/0019/1972 AIR1972SC696

5. Lavarack v. Woods of Colchester Ltd (1967) 1 QB 278

6. (2006) 11 SCC 181

7. See Supra 6

8. (1978) 28 B.L.R. 98

9. See Supra 6

10. [1997] EWHC Technology 356

11. 271 F.3d 1055

12. See Supra 6

13. ibid

14. Ibid, Para 70

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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