COVID-19: Impact on Commercial Contracts

Executive Summary

Coronavirus is amongst the foremost causes for concern in present times has caused a lot of destruction to mankind. Commercial contracts have become frustrated and impossible to perform due to the pandemic. The parties obliged to perform their duty are afraid of the consequences followed by delinquency. This article talks about concepts like the doctrine of frustration and force majeure, both of which talk about non-performance due to impossibility. The difference between judgements of past and present in similar situations is also talked about. This article also mentions suggestions about dealing with global socioeconomic problems like recession and depression and also the consequences of non-performance.

If you don’t uphold a contract, which is an agreement, then you’ve got nothing.

Norman Burman

The above-mentioned quote gives us the perception that no contract should be overstepped for any excuse or you will lose everything. But, the outbreak and swift spread of COVID-19 has shaken the entire global market. This unforeseen contagion has impacted all contractual enactments across the globe. The novel coronavirus has introduced concepts like mandatory ‘work from home’ guidelines and social distancing rules so that employees of enterprises are not affected by it. The virus is the first of its kind that has affected hundreds of thousands of people. It continues to have a very negative impact on firms and companies. The concern now is not only limited to limited stocks and production but also on contractual obligations.

The question that arises with recent development of such a virus is, “What will be the legal status of a contract when the individuals are being forced to remain at a designated place and many cities are at a halt for the time being?”

It is evident that COVID-19 has made performing a contract either difficult or impossible.

The days when the courts used to excuse any unanticipated injustice by saying to the sufferer that it is his own mistake and idiocy that he had not put any clause to protect himself/ herself are gone. Now, courts no longer focus on these limitations and allow appeals because he/she who clings to the letters of the contract, often misses the substance of the matter. However, it is advised to add a clause for instances of impossibility to perform the contract.

The two prime doctrines which come into picture in the cases of impossibility to perform the contractual obligations are – Frustration and Force Majeure. This article focuses on the impact of Coronavirus (COVID-19) on commercial contractual obligations with reference to the principles of frustration and force majeure.

COVID-19 and Frustration

The Indian legal system lays down the provisions of ‘frustration of contracts’ in Section 56 of the Indian Contracts Act, 1872.[1]

Section 56 states: “Agreement to do impossible act —An agreement to do an act impossible in itself is void.
Contract to do act afterward 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 an 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.

The principle of frustration as mentioned above has been upheld by the Supreme Court in many judgements in the past. The current situation due to COVID-19 will be very well fitted within the ambit of Section 56 and will be shielded by the law. In situations when it is impossible to physically execute a contract due to restrictions imposed on an enterprise, area, or any individual, the promisor and promisee will both be relieved from the performance of their duty and there will be no suits or liabilities in case of non- performance. It should also be noted that commercial hardship will not be excluded.

There are situations in which it is physically possible to perform the obligation but the performance has lost the very object of the contract For instance, in present times, it is possible to decorate an auditorium for a concert but there will be no audience required for a concert according to the government laws or guidelines.

One more provision of the same act of 1872 mentions the compulsion to return any profit or benefit gained under a void contract. This guideline is mentioned under Section 65 of the Act. It states that even though the contract has now become void due to impossibility or frustration, the gain at the inception should be returned to the other party to restore everything in its place.

Therefore, the parties to the contracts must not worry about the liabilities arising out of non-performance of contractual obligations in situations like the present one. Commercial relationships are being intervened by COVID-19 and parties have no right to sue the defaulting side as the contract is now frustrated.

COVID-19 and Force Majeure

‘Force Majeure’ is a word derived from Français (the French language) which means ‘a superior force.’[2] That the incapacities being faced by enterprises in performing their contractual obligations due to coronavirus will fall under the umbrella of this provision could never have been anticipated by companies.

According to Black’s Law Dictionary, Force Majeure is an unforeseen and unanticipated event that is out of the will and control of a human being[3]. Such a situation is justified for the non- performance of a contract. This term includes both the acts of God and human intervention. The acts of God include floods, hurricanes or earthquakes, and human intervention includes mutinies, battles, or strikes. These events are outside the control of parties of the contract and prevent one or both the parties from performing their contractual obligations.

Indian enterprises dealing in long term contracts with a continuous supply of commodities generally encompass the clause related to unanticipated circumstances. Such a clause mostly identifies the events that are beyond the control of human beings and parties to the contract. The straight and simple purpose behind adding this clause is to protect the party obliged to perform from any activity that is not under the control of human beings. In suits based on this clause, the courts primarily focus on whether the given clause incorporates the type of event that the party is claiming for non- performance. In the landmark judgement of Satyabrata Ghose v. Mugneeram Bangur & Co[4],the Hon’ble Supreme Court held that for the clause of force majeure be applied it is not necessary that the task must be impossible, a mere impracticality of the performance of the duty can also be used as a ground.

It has been observed that a ‘force majeure’ event generally includes natural events like ‘Act of God’ which can be extended to include pandemic and epidemic. It is extremely dubious that any contract would have a provision for “corona outbreak” but there would be a clause for epidemics, government action, etc. which can be used as a benefit in these cases. It should be noted that the Government of India believes that the novel coronavirus falls under the ambit of ‘Act of God’ as a natural disaster. The Ministry of Finance provides that this clause does not entirely excuse non-performance but it suspends the act until things get normal.[5]

The guidelines given by the government are not binding but can be used as a persuasive value in the suits of the frustration of contracts. The observations under the current situation can be interpreted on the basis of contemporanea exposito. This legal phrase means the construction of law. The judge, after the enactment of law, determines the meaning of any ambiguous provision of that statute or written document. But the interpretation and arguments on the basis of this phrase are yet to be tested.

The practical effect can be seen on cargo and cruise businesses at the Jawaharlal Nehru Port Trust in Mumbai. The operators in Mumbai had been asked to cancel all international tour and holiday packages since knowledge of the first cases in the state emerged. Here, the business closures have laid their focus on the ‘force majeure’ clause embedded in the contracts for any unforeseen or unanticipated events. The pandemic has also caused the workforce shortage which leads to non-performance of the contractual obligations.

The aforementioned deliberations are truly specific to the facts and the contract. It has been stated by Lord Denning J. that the parties cannot be expected to have a far-sightedness of god. The parties should be excused in desperate situations such as that of a pandemic. It heavily depends upon the discretion of the court. The judicial interpretation of these contracts based on unforeseen events is accompanied by miscellaneous and nuanced approaches and is highly dependent on the nature and language of the contract. COVID-19 has undeniably obstructed and will affect the execution of contracts in the near future but these impacts can be diminished based on the provision in the contract and the law in force.  The enterprises and parties should also be watchful of the expansions in their contracts to protect themselves from the global-economic slowdown that may be difficult to avoid.


[1] Act No. 9 of 1872

[2] P. Ramanatha Aiyar’s Advanced Law Lexicon, 5th Edition; @ Pg. 2077

[3] Black’s Law Dictionary, Edition 11 (2019)

[4] 1954 SCR 310

[5] Office Memorandum No.F. 18/4/2020-PPD titled ‘Force Majeure Clause’, issued by Department of Expenditure, Procurement Policy Division, Ministry of Finance


References

Tanya Saraswat from Narsee Monjee Institute of Management Studies 

She is a B.B.A. LLB student and the President of the ADR club of her college. She is a member of many arbitration organisations and loves to research and read.

Editor: Sanskriti SOod

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