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Saturday, July 04, 2020

Experts Explain: Can doctrine of frustration be enforced during a force majeure event?

Force majeure is purely a contractual remedy available to an affected party under a contract and for seeking relief, the reference would be to the express terms of the contract.

Updated: May 28, 2020 7:45:25 am
Experts explain: Can doctrine of frustration be enforced during a force majeure event? Due to the lockdown restrictions placed by the government, the parties’ ability to perform and fulfil their contractual obligations is affected. Source: Getty Images)

Written by Raj Ramachandran and Rakki K

The recent spread of the Coronavirus (Covid-19 ) has triggered a global slowdown and has rendered ongoing business operations of several organisations to almost a standstill. In the given situation, it is but obvious that several parties to contracts might resort to invoking the ‘force majeure’ clause to avoid damages or liabilities or seek some relief. The question is whether a situation such as this could qualify as a force majeure (unforeseeable circumstances that prevent someone from fulfilling a contract) event thereby allowing some relaxation in the contractual obligations of a party.

Due to the lockdown restrictions placed by the government, the parties’ ability to perform and fulfil their contractual obligations is affected. Where the contract does not specifically cover the current situation as a force majeure, the parties can also look to the statute to confirm if a party failing to comply with its contractual obligations will be exempted from suffering any consequences arising out of breach of contract. The Indian Contract Act, 1872 is more than a century old and does not have any specific provisions relating to suspension of contracts or termination of contracts in cases of a pandemic as the current one unless the performance by a party is affected permanently.

The Act clearly provides that an agreement to do an act impossible in itself is void (Section 56). After a contract is made, if any act becomes impossible or unlawful by reason of some event, such a contract becomes void.

The force majeure clause in contracts should not be misconstrued as an event of frustration covered under the Act. Force majeure is purely a contractual remedy available to an affected party under a contract and for seeking relief, the reference would be to the express terms of the contract. However, a party claiming frustration of contract and seeking to escape liability or other obligation under a contract, will necessarily have to approach an appropriate judicial forum which will examine the matter to ascertain if the ingredients of ‘frustration’ of a contract are contained and satisfied.

Recently, the Supreme Court observed that the doctrine of frustration as enumerated in the Act would apply only where the parties have not specified the consequences of an event which renders the performance of the contract impossible. Termination of a frustrated contract would be possible only in cases where the contract becomes impossible to perform which means the damage to the contract should be of permanent nature and not something which can be performed with passage of time. Hence a temporary inability or force majeure event would not qualify under the doctrine.

Given the current situation, it will be fair to assume that this exceptional event would not have been specifically mentioned in the list of events constituting a “force majeure” in existing contracts. It will, therefore, depend on how the term is defined in the contract and the remedies available to parties which are contractually agreed in case of a force majeure event.

Steps have also been taken by the Indian Government providing for relaxations and relief measures across-sectors. For instance, an Office Memorandum dated February 19, 2020 was issued inviting attention to the “force majeure Clause” of the “Manual for procurement of Goods, 2017” issued by the Department of Expenditure, Procurement Policy Division. The Government clarified the applicability of the force majeure clause in government contracts and declared that force majeure may be invoked, and declared COVID-19 as a natural calamity.

The Government also issued another memorandum on May 13, 2020 under which it is acknowledged that disruptions have affected transportation, manufacturing and distribution of goods and services in the country, which has impaired the fulfilment of contractual obligations pertaining to supply of goods, works and consultancy services. Consequently, parties are permitted to invoke the force majeure Clause. However, these would apply only to contracts where a procuring party is a government entity, public-private partnership contracts and projects which are funded by the Central Government.

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One of the most affected sectors currently is real estate resulting in renegotiation of commercial leasing. Given the social distancing norms currently applicable, it might be rather impossible for several lessees/ tenants to have the office fully functional as originally proposed at the time of execution of the contract. Several of them are revisiting the lease agreements and rent/ license agreements executed in connection with commercial premises for suspension of rent during the period of lockdown, if not the termination of the leases. However, suspension of rent and/ or termination of the lease would depend on the contract executed between the parties.

In case of a lease or a license, since a right is transferred in favour of the lessee/ licensee, would it be right to state that these are concluded contracts and would not, therefore, be subject to the benefit of the doctrine of frustration? The Delhi High Court has held recently (on May 21, 2020) that lease agreements are executed contracts and not executory contracts and hence the provisions governing frustration of contract would not be applicable. The Delhi High Court placed reliance on decisions of the Supreme Court that lease agreements by their very nature are completed/ concluded contracts and not executory contracts and therefore, cannot be held void. This would of course be subject to any provisions to the contrary in the contract executed between the parties.

Going forward it is likely that ‘force majeure’ clauses in contracts will be more heavily negotiated to include references to epidemics or pandemics, in addition to other situations in order to be able to have some relaxation in performance obligations in similar situations. The manner in which courts have interpreted and continue to interpret the force majeure provisions in the current contracts as well as the doctrine of frustration will also have a bearing on such provisions in contracts.

The authors are partners at J Sagar Associates. Views are personal.

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