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COVID-19 has caused worldwide unprecedented disruptions and the pandemic has impacted the ability of business around the globe irrespective of the industry and sector. Businesses have been impacted and so have operations and consequently, contracts and obligations under contracts are being revisited to assess these impacts. Due to the disruption of supply chains caused by the COVID-19 pandemic, many contracts will be delayed, interrupted, or even cancelled. On the issue of contracts, this outbreak has brought many new aspects to the fore, one of which includes the Force Majeure clause that impacts formal contracts.
The term that has assumed relevance in contractual context today and heard most often is “Force Majeure”. It is important to understand the relevance of force majeure clauses, and the effect thereof and how will this term be construed in a contract in the background of COVID-19.
For the reader's ease, we have shared the understanding of this ‘Force Majeure Clause’ in the form of FAQs:
Question 1. What do you mean by Force Majeure Clause and its importance in a Contract?
Answer: The term has its origin from French, meaning “Superior Strength”. In simple terms, Force Majeure describes those uncontrollable events (such as war, riots, labour stoppages, earthquake or fires) that are not the fault of any party and that make it difficult or impossible to carry out a normal business activity. A Party to a Contract may insert a force majeure clause into the contract to absolve itself from liability in the event it cannot fulfil the terms of a contract for reasons beyond its control.
Its relevance in the contract:
a) Depending upon the nature of the contract, a force majeure clause provides temporary relief to a party from performing its obligations under the contract upon the occurrence of a force majeure event.
b) A force majeure clause typically spells out specific circumstances or events, the occurrence of which is beyond the control of the contracting parties. The occurrence of a force majeure event may suspend the operation of the contract for the duration of the occurrence of the change in circumstance or event, or render the entire contract frustrated. Such events may include calamities such as floods, earthquake, fires or impediments such as governmental action, change in law, riots, shutdowns, etc.
c) If a Contract contains a Force Majeure Clause then the same shall specify the future course of action in case a Force Majeure event occurs. Hence, it is always preferable to include Force Majeure clause in a Contract so in case of such event parties can follow a particular route mentioned under the Contract and renegotiate the terms mutually.
Question 2. What would force majeure clauses generally include and what happens if, a contract does not include a force majeure clause?
Answer: Force majeure events might include slowdowns, prolonged shortage of energy supplies, war, riots, fire, flood, hurricane, typhoon, earthquake, lightning, explosion, strikes, lockouts, and acts of state or governmental action prohibiting or impeding any party from performing its respective obligations under the contract epidemics or a non- exhaustive list wherein the parties simply narrate what generally constitute force majeure events and thereafter add “and such other acts or events that are beyond the control of parties”.
If a contract does not include a force majeure clause, then a party can resort to ‘Doctrine of Frustration’. This doctrine has been embodied in the Indian Contract Act, 1872 (‘Act’) by way of Section 56. In order to invoke the ‘Doctrine of Frustration’, the parties have to ensure
a) There must be a valid and subsisting contract between the parties;
b) There must be some part of the contract yet to be performed; and;
c) The occurrence of an event that is beyond the control of parties i.e. Force Majeure Event.
Question 3. What do you mean by “Frustration of a contract or Doctrine of Frustration”?
Answer: Frustration of a Contract: If the performance of an act becomes impossible or unlawful after a contract has been executed, and such impossibility is due to an unforeseen event which either renders the contractual obligations impossible or radically changes the party’s principal purpose for entering into a contract then such contract itself becomes void or one can say that the contract becomes ‘frustrated’. Hence, frustration is the happening of an act outside the contract and such act makes the completion of performance of a contract impossible. The Doctrine of Frustration is generally relied upon for termination of the contract unlike the concept of Force Majeure which is for suspension of the obligations.
Propounding the law of frustration, the Honourable Supreme Court of India in Satyabrata Ghosh Vs. Mugneeram Bangur & Co. [1954 SCR 310(12)], held that the word “impossible” has not been used with respect to physical or literal impossibility. To determine whether the contract is frustrated, it is not necessary that the performance of an act should literally become impossible, a mere impracticality of performance, from the point of view of the parties, and considering the purpose of the contract, will also be covered. Thus, a contract would come under the purview of Section 56 of the Contract Act even if it is not an absolute impossibility, but the contract has fundamentally changed, which the parties had not contemplated at the time of the execution of the contract.
Question 4. When Is An Event Not Considered As Force Majeure?
Answer. Force majeure is not intended to excuse carelessness or negligence. It is very important to note that force majeure cannot be invoked just because the contract has become financially or commercially more difficult to perform. For Instance, inability to sell at a profit is not the contemplation of the law of a force majeure event excusing performance and a party is not entitled to declare a force majeure because the costs of contract compliance are higher than it would have liked or anticipated.
In order to understand it in a better manner, please refer to the below-mentioned case law:
Naihati Jute Mills Ltd. v. Hyaliram Jagannath, 1968 (1) SCR 821, the Honourable Supreme Court also referred to the English law on frustration and concluded that a contract is not frustrated merely because the circumstances in which it was made are altered. In general, the courts have no power to absolve a party from the performance of its part of the contract merely because its performance has become onerous on account of an unforeseen turn of events.
Question 5. What are the important points for invoking a Force majeure clause in the Contracts?
Answer: In order to invoke a Force Majeure Clause, the following are essential:
a) The event must be beyond the control of the Parties;
b) The event should be such that it could not be reasonably foreseen;
c) The event should have a material effect on the obligations of the Parties under the Contract.
In order to understand it in a better manner, please refer to the below-mentioned case law:
Esjay International (P) Ltd. v. Union of India, In this case, the Court stated that the force majeure condition is something which is unforeseen and unexpected and which is beyond human capacity to control. Thus, where reference to force majeure is made, the intention is to save the performing party from the consequences of anything over which is not in control of the party undertaking performance in the contract.
Now, the major concern is ‘Whether COVID19 is covered within the ambit of Force Majeure Clause?’
Whether or not COVID-19 will be construed as a “Force Majeure” event will vary from contract to contract and will entirely depend on how the Force Majeure clause has been drafted in the Contract and its language.
In fact for government contracts, Ministry of Finance by way of an office memorandum (O.M. No. 18/4/2020-PPD) issued on February 20, 2020, stated that COVID-19 will be a force majeure event and considered a case of “natural calamity” and as per Manual for Procurement of Goods 2017, it has been clarified that Force Majeure would be applicable in this pandemic due to disruption of supply chains and maybe invoked wherever considered appropriate by following the due procedure.
Conclusion: COVID-19 has affected every industry, movement of goods, business, organisation, agreement and contracts across the globe. It has also impacted the parties’ ability to meet their contractual obligations. With the widespread disruption in business due to COVID-19 companies may invoke ‘force majeure’ clauses in their contracts which will lead to a dispute between the parties and then ultimate authority lies with courts or arbitrators. In such events, the courts or arbitrators will have to evaluate and decide each dispute on the basis of the terms agreed between the parties and mentioned under the Contract. Further, in cases where a contract does not have an explicit clause on force majeure, there could be scenarios where parties may try to seek shelter under Section 56 of the Contract Act and seek frustration of a contract. The courts will then have to ascertain whether the contract has become impossible to perform and whether the doctrine of frustration of contract could be made applicable to such a contract depending on the terms of the contract entered into between the parties. Hence, the final order will differ from case to case basis considering procedure followed, terms agreed and mutual efforts made by the parties to resolve the dispute.
Article By: Ms Bhavya
Sharma, a Practising Company Secretary. You can contact us at Legal@bhavyasharmaandassociates.com or
for more details you can visit: www.bhavyasharmaandassociates.com
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