PERFORMANCE OF CONTRACTUAL OBLIGATIONS DURING THE COVID-19 PANDEMIC
The drastic domino effect of the ongoing COVID-19 pandemic is being felt by industries across sectors around the world. Governments across the globe have ordered nation-wide lockdowns, restricted foreign travel and have sealed their international borders. As a result, economic activities have taken a hit, and companies are under enormous financial burden coupled with an impending uncertainty, over the performance of their existing commercial contracts.
The exact impact of the COVID-19 pandemic on parties' liabilities under commercial contracts is far from clear. Given the highly diverse nature of resources and services required to perform contractual obligations, there is a danger that many contracting parties may be unwilling or unable to continue with their obligations.
In the aforesaid background, this guidance note ponders upon the concept of Force Majeure and examines how Force Majeure clauses could be interpreted. Further, in the wake of the COVID-19 pandemic, it examines how Force Majeure claims can be made keeping in mind the possible consequence of such invocation. The note also discusses the Indian position with respect to the concept of Force Majeure and briefly touches upon various policy measure undertaken by the Indian authorities. The note further attempts to discuss whether defaulting companies can rely upon Force Majeure clauses and highlights some practical steps that may be followed to prevent any unforeseen consequence in the aftermath of the pandemic.
FORCE MAJEURE: A CONCEPTUAL OVERVIEW
Force Majeure is not explicitly conceptualised under the English common law. In this respect, the concept of Force Majeure was not embedded in the common law; rather, Force Majeure was viewed as an interloper, imported into the common law through its appearance in clauses in the contracts of commercial parties. Rather than being a universally applicable concept as in the civil law tradition, a Force Majeure clause in the common law tradition became a purely contractual right. In this limited sense, it is therefore different from some other legal systems, such as China and France, where Force Majeure is a codified legal concept and where Courts have the power declare events such as the COVID-19 pandemic, as a Force Majeure event.
The majority of legal systems in the world have adopted rules concerning the consequences of the occurrence of irresistible, unforeseen or unforeseeable, or uncontrollable supervening events in the validity or performance of legal obligations. These rules can be referred to as "force majeure, fortuitous event[s], impossibility, acts of God, unavoidable necessity, physical necessity, frustration, and impracticability." Article 7.1.7 under the UNIDROIT Principles of International Commercial Contracts defines Force Majeure as "party proves that the non-performance was due to an impediment beyond its control and that it could not reasonably be expected to have taken the impediment into account at the time of the conclusion of the contract or to have avoided or overcome it or its consequences".
Generally, a Force Majeure event is an event, which the contracting party has no control over and due to which, the contractual obligations cannot be performed. For a Force Majeure claim to succeed, it must be established that the event goes to the root of the contractual obligation and the damage/ failure would not have occurred but for the Force Majeure event. Mostly, a Force Majeure clause is expressly mentioned and will not ordinarily be implied into contracts.
A particular event can be regarded as Force Majeure:
- if the contractual provision for force majeure expressly or impliedly mentions the event as an event of force majeure;
- if the contractual obligations are rendered incapable of being performed after the occurrence of the event, and
- if parties have no control over the occurrence and continuance of the event.
DOES THE COVID-19 OUTBREAK CONSTITUTE A FORCE MAJEURE EVENT
As discussed above, a Force Majeure event is dependent upon the provisions of the contract. In many cases events such as 'epidemic' 'lockdown' 'outbreak of disease' or 'pandemic', may be listed as triggering event in the Force Majeure clause. In such cases, it is likely that the COVID-19 pandemic shall be deemed to be a Force Majeure event. On the other hand, where no relevant event is specifically mentioned, the intention of parties will have to be looked at. This involves considering whether the list of events included was intended to be exhaustive or non-exhaustive. In most cases, it will be difficult to argue that the list is non-exhaustive and establish that even though the clause did not mention an 'epidemic' or 'pandemic' as Force Majeure events, the parties nonetheless, intended to cover the same.
In the past, many similar events such as SARS and Ebola have occurred, but interestingly the law in relation to pandemic/ epidemic and Force Majeure is still not settled. There is hardly any case law that may be considered even indicative or purposive for the same. However, in a few cases, Executive Orders to stop production, supply or manufacturing have been deemed to be Force Majeure events. Similarly, travel restrictions, lockdowns, suspension of free movement, can be argued for claiming Force Majeure.
In the United Kingdom, in the case of Channel Island Ferries Ltd v. Sealink UK Ltd, , 1988, 1 Lloyd's Rep 323, the Court of Appeals stated that since the clause included the words, "any event beyond the control of relevant party", Force Majeure could be relied upon once the affected party had taken all steps to prevent or mitigate the impact of the event. Thus, the aforesaid view of the Court indicates a positive approach for covering events such as the present COVID-19 pandemic, as force majeure events that are beyond the control of the parties.
CONTRACTS WITH A FORCE MAJEURE CLAUSE
Force Majeure clauses are generally of two kinds – (1) Where a list of events constituting force majeure, such as war, governmental policies, flood, natural disaster etc. is explicitly included; and (2) a wider and catch all provision where no event is mentioned.
Clauses may give a list of specific criteria, such as fire, flood, war and so on, alongside wider, general wording, such as "or any other causes beyond our control". Although all will depend on interpretation of the particular words used. The general wording in this type of clause will usually be interpreted broadly, rather than being limited to events that are similar to those specifically mentioned.
Clauses which list particular events, are usually interpreted broadly to the extent of the events conceived in the list. As such if a reference to an epidemic or natural disaster or health emergency has been made in the clause, it will make it easier to bring a Force Majeure claim for the COVID-19 pandemic.
A catch all clause, containing broad and sweeping expressions, such as 'beyond the control of party' or 'unforeseen event' will most likely be interpreted to qualify the COVID-19 pandemic as force majeure event under the said clause. However, in order to make a claim under such wide catch-all clauses, the parties must satisfy other criteria of Force Majeure.
NOTICE OF TRIGERRING OF FORCE MAJEURE EVENT
Any party which is contemplating to invoke the Force Majeure clause, must examine the contract carefully and comply with all the procedural requirements of the contract. Generally, contracts provide for the obligations of Notice while claiming Force Majeure. In addition to the above, there may be obligations regarding duty to mitigate and/or providing regular updates. Before halting performance, a company should review the language of the contract, as there may be requirements for when and how to notify the other party/ies for a Force Majeure event.
It is also important to get some practical advice before invocation of Force Majeure, and wherever necessary, effective measures must be taken to mitigate the impact of the pandemic by mutual understanding, and/or by re-negotiating the terms and conditions of the contract.
Typically, a Notice should mention the details of activities and obligations impacted by the event. If the business is not entirely halted and some activities could be carried out, the Notice may specifically mention details of such possible activities.
However, it is also true that the COVID-19 pandemic is exceptional and one of its kind, because it has affected almost every country and is likely to continue for considerable time. Parties have therefore taken to the practice of issuing regular notices that details the impact of the COVID-19 pandemic on their contractual obligations.
RECOURSE AVAILABLE IN CASE OF NO FORCE MAJEURE CLAUSE IN THE CONTRACT
As discussed above, Force Majeure is a contractual right and not a general rule of law. If the contract does not contain a Force Majeure clause, the distressed party shall have to rely upon other contractual clauses for any potential aid. If the same is not possible, then the only remedy available is to plead frustration of contract and/or impossibility of performance of contractual obligations.
The common law has developed the doctrine of frustration to deal with three types of cases that concern excuses for non-performance because of a fundamental change in circumstances: these are i) impossibility; ii) frustration of purpose; and, iii) temporary impossibility. The first type of case is that where the frustrating event has rendered performance impossible. In this respect, impossibility in the common law is a sub-set of the broader doctrine of frustration. In addition, the term "impossibility" must be differentiated from "frustration" even though these words are sometimes used interchangeably.
At the end, it will still be open to parties to contend that despite the contract not specifically contemplating the events such as the COVID-19 pandemic as a Force Majeure event, the performance of its obligations is adversely affected by it and is rendered impossible during the said period.
DOCTRINE OF FRUSTRATION
Frustration in common law provides a party with an excuse for non-performance of a contract because that party's ability to perform has become severely compromised because of a supervening event. In many respects, it resembles the civilian doctrine of Force Majeure, but there are notable differences. While civil law never accepted that a party could contract to do the impossible, in the early stage of the development of the doctrine of frustration, the common law accepted that an impossibility was no excuse for failure to perform a contract.
Frustration essentially means that the contract has come to an end and parties are no longer liable to perform their contractual obligations. The threshold for frustration is kept very high and parties must show that the very purpose of the contract has been so effected, that it has become incapable of being performed.
In some situations, 'change in law' can also result in frustration. As could be seen worldwide, Governments across the World are trying to combat the pandemic through strict measures such as travel restrictions, lockdowns and quarantine, and in such a scenario it is possible that such laws may result in impossibility in performance of certain contractual obligations. A party's entitlement to remedies will depend upon the scope of a "change in law" provision.
Pertinently, it is also important to remember that both Force Majeure and Frustration of contract are essentially mechanisms for risk allocation. Since both are different in concept and application, the doctrine of frustration is not available if the contract contains an express Force Majeure provision, since the provision will be regarded as the agreed allocation of risk between the parties.
Thus, a plea of frustration will succeed only if the following criteria are satisfied:
- The supervening event is beyond the control of any party to the contract,
- The event occurred after the contract came into effect and neither party could have foreseen the same,
- The event has made it physically or commercially impossible to fulfil the contract, and/ or
The obligations of the contract are radically transformed from undertaken initially, after the occurrence of the event.
MERE DIFFICULTY NOT ENOUGH FOR PLEADING FRUSTRATION OR FORCE MAJEURE
Mere difficulty in carrying on the operations or disruptions that effect the financial profitability from the contract, are not enough for the purpose of frustration, unless there is express contractual provision for such a situation. Financial downturns or unfavourable environment for conduct of business, even if the main reason for such downturn was the COVID-19 pandemic, may not suffice.
It is likely that many Companies will face difficulties on account of supply chain disruptions, non-availability of workforce due to quarantine measures or issues with flow of materials, however, even in such situations, alternative routes are to be explored. It is worth remembering that escalation of prices on account of the pandemic or any Government measure, may not be a ground to plead frustration or even Force Majeure.
A plea of Force Majeure in defence of non-performance of obligations, is pegged at an extremely high level. Therefore, parties must identify which obligations are affected by COVID-19 pandemic and bring the same to the notice of other parties. Parties must make their best endeavour to perform such activities and obligations, whose performance is possible even during the ongoing crisis.
CONSEQUENCE OF INVOKING FORCE MAJEURE CLAIMS
The consequence of invocation of Force Majeure clause will depend on the obligations under the contract which are not performed. Simultaneously, the consequences contemplated under the Force Majeure clause will also affect parties' rights and liabilities. A party should only make a valid and genuine Force Majeure claim, because a frivolous and hurried claim can have adverse consequences. It can heavily backfire, and the opposite party may raise a dispute for breach of contract and/ or may claim damages for non-performance.
Contractual remedies for Force Majeure typically include an extension of time to perform those obligations or suspension of contractual performance for the duration of the Force Majeure event. If the Force Majeure event extends over a longer period, some provisions may entitle the parties to terminate the contract.
INDIAN POSITION WITH RESPECT TO FORCE MAJEURE
Indian Contract Act, 1872, nowhere expressly refers to the term 'Force Majeure'. Nonetheless, for agreements containing an explicit or implied force majeure covenant, the same may be covered by Chapter III and more specifically, Section 32 thereof which refers to 'contingent contract' meaning thereby such contracts where performance is dependent upon the happening or non-happening of an event. Section 32 of the Indian Contract Act, 1872, is read as hereunder-
"Section 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."
In the light of the aforesaid provision of law, for each contract, it is required to be found from the terms thereunder as to whether the same is a contingent or conditional contract, or an unconditional or irrevocable contract. However, Courts have time and again held that Force Majeure clauses are to be narrowly construed and the Courts seek to interpret contracts strictly in terms of stipulated provisions agreed thereunder, with minimal intervention from the governing law.
On the other hand, lack of specific connotations in a widely worded Force Majeure clause, may also not help a distressed party, as Courts have time and again expressed the need to interpret contractual provisions in order to make the contract effective. Crucially, in the COVID-19 pandemic context, a fruitful invocation of force majeure will require evidence for more than mere difficulty.
It is unlikely that for all contracts, COVID-19 pandemic and the subsequent national lockdown, shall ipso facto, be treated as a Force Majeure event. In fact, the crisis is one of its kind, and no clear interpretation is foreseeable. Having said that, it is important to understand that economic distress is not usually considered a Force Majeure event. Therefore, most likely each contract shall have to be treated independently and the provisions contained therein will itself be considered and interpreted to see if it will trigger the Force Majeure clause.
Another significant aspect to be looked into is what if the contract does not have a Force Majeure clause. In such cases, the affected party can seek remedies under Section 56 of the Indian Contract Act, 1872, by arguing impossibility of performance on account of the natural calamity/pandemic. However, even in this case, it must be established that the impossibility is by reason of the COVID-19 pandemic, which the claiming party could not prevent and that the same is not self-induced. Further, in taking the refuge of Section 56, whether a party would be successful before the courts would depend on the facts of the case as to whether in the particular circumstances, performance is rendered impossible.
Section 56 encompasses the doctrine of frustration and deals with impossibility of performance of contracts. The best exposition of Section 56, can be found in the Supreme Court's judgment in Satyabrata Ghosh vs. Mugneeram Bangur & Co. [1954 SCR 310(12)], where the Hon'ble Court held:
"We hold, therefore, that the doctrine of frustration is really an aspect or part of the law of discharge of contract by reason of supervening impossibility or illegality of the act agreed to be done and hence comes within the purview of Section 56 of the Indian Contract, Act. It would be incorrect to say that Section 56 of the Contract Act applies only to cases of physical impossibility and that where this section is not applicable, recourse can be had to the principles of English law on the subject of frustration. It must be held also, that to the extent that the Indian Contract Act deals with a particular subject, it is exhaustive upon the same and it is permissible to import the principles of English law de hors these statutory provisions. The decisions of the English Courts possess only a persuasive value and may be helpful in showing how the Courts in England have decided cases under circumstances similar to those which have come before our Courts."
In another leading judgment on Section 56 of the Indian Contract Act, 1872, Energy Watchdog vs. Central Electricity Regulatory Commission and Anr. (2017) 14 SCC 80, the Supreme Court held as follows -
"in so far as a force majeure event occurs de hors the contract, it is dealt with by a rule of positive law under Section 56 of the Contract. The performance of an act may not be literally impossible, but it may be impracticable and useless from the point of view of the object and purpose of the parties."
It thus appears that if the defaulting party's contractual obligations are being rendered impossible for performance, or even if not impossible but impractical or materially different from what was conceived under the agreement, the said party may take recourse of Section 56. Given that a positive finding of impossibility or frustration, leads to culmination of the contract in every sense, Courts and Tribunals, tend to tread extremely cautiously in dealing with the same.
An interesting development with respect to cases of force majeure claims, is the Bombay High Court order in Standard Retail Pvt. Limited & Ors. v. G.S. Global Corp & Ors. [Commercial Arbitration Petition (L) No. 404 of 2020 decided on April 8, 2020]. In this case, the Respondent performed its part of the contract by dispatching some steel products from South Korea. The Petitioners failed to comply with their part of the contractual obligations and relied upon the Force Majeure clause of their contract for excusing the non-performance thereof. Petitioners contended that the outbreak of COVID-19 global pandemic and the subsequent lockdown and restrictions imposed by the Government, prevented them from performing their contractual obligations. The Bombay High Court refused to give any relief to the Petitioner and inter alia held that since steel was declared as essential service and there were no restriction on its movement and all ports and port related activities including the movement of vehicles and manpower, operations of Container Freight Station and warehouses and offices of Custom Houses Agents were also declared as essential services, the force majeure clause will not come to the rescue of the Petitioner. The aforesaid Order solidifies the point of law that a Force Majeure clause will not help the defaulting party unless it's impact on performance of contract is established.
Another significant judicial pronouncement in this respect is Delhi High Court's order in M/s Halliburton Offshore Services INC vs Vedanta Limited & Anr., [O.M.P. (I) (COMM) & IA 3697/2020, decided on 20.04.2020]. The Petitioner in this case argued that owing to a complete lockdown, on industrial activities as well as on movement of persons in the country, including, specifically, the state of Rajasthan, consequent to the COVID-19 pandemic, the petitioner was unavoidably handicapped in performing the contract. The Delhi High Court accepted the plea of the Petitioner and held that the countrywide lockdown was prima facie in the nature of force majeure. Further, with respect to the assertion that Petitioner was engaged in the business of Petroleum which is a declared essential service, the Delhi High Court observed that "petitioner is not engaged, stricto sensu, in the production of petroleum, but is, rather, engaged in drilling of the wells, which activity is substantially, if not entirely, impeded as the result of the imposition of the lockdown."
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.