Part 1: Force Majeure and Suspension/Termination of Contracts
Coronavirus (COVID-19) is turning out to be a twin fold pandemic – that started with affecting public health and soon spread throughout the economy. Sudden global shutdown and travel restrictions have brought the economy to a screeching halt before most of us could even comprehend the real impact. Many businesses are still at a loss and are only doing guesswork regarding the magnitude of potential losses and recalibration needed for the businesses to survive this time, and remain viable.
Resultantly, certain harsh realities stare at us, and certain brutal questions are to be answered. With specific reference to Indian laws, we have attempted to answer some of these questions which businesses are asking concerning the possibility to suspend, extend or cancel their contractual obligations and their ability to reduce workforce and other recurring costs and liabilities.
You are reading Part 1 of our series on “Force Majeure and Covid-19: Frequently Asked Questions”. In the next part, to be published on March 20, 2020, we would discuss the possibility of reduction in workforce and wage bills.
|Question:||What is a force majeure clause and how does it help the contracting parties?|
|Answer:||Force majeure is commonly defined as an unforeseen irresistible force, such as an act of God or war. Performance of a contract by a party facing a force majeure situation may be impossible. Recognising this, most contracts include a force majeure clause, which permits a party, when facing a force majeure situation, to temporarily suspend its performance under the contract.
A suspension under a contract, in accordance with its force majeure clause, entitles the party suspending it to be exempted from performing its obligations under the contract. Accordingly, during the period of suspension, such party is not held liable for breach of its contractual obligations. The contract springs back to life and operation once the force majeure situation subsides. The contracts usually also provide for the termination, if the force majeure situation continues beyond a specific number of days.
|Question:||Is the outbreak of COVID-19 a force majeure situation?|
|Answer:||Force majeure clauses are a contractual feature. Indian laws do not define “force majeure”, from the perspective of contract laws.
The answer, therefore, lies in answer to the question – what are the identified force majeure situations in your particular contract? Most contracts illustrate various situations as “force majeure events”. Some contracts use words like “epidemic”, “Government order” (of shutdown) and “any other situation making the conduct of business impossible” as examples of force majeure situations. COVID-19 would easily qualify as a force majeure event in such cases.
On the other hand, some contracts give a more restrictive definition of force majeure, limiting it to physical damage to the business premises or change in law or policy.
As force majeure clauses permit contractual non-performance, they are likely to be given a narrow interpretation by the courts, when scrutinized.
Accordingly, to answer, the outbreak of COVID-19 does not automatically become a force majeure situation, and its classification as such largely depends on the language of your specific contract(s).
|Question:||If COVID-19 qualifies as a force majeure situation in my contract, am I exempt from its performance?|
|Answer:||Your chances of performance exemption are good, but not automatic. Even if COVID-19 can comfortably be classified as a force majeure situation in your contract, you must remember that:
Your performance is not suspended automatically: You would most likely need to issue a written notice to the other party, as specified in your force majeure clause, invoking the clause and notifying suspension of your obligations. Some contracts also require a party giving a force majeure notice to give a plan to mitigate the loss caused to the other party. Therefore, read your contract and follow what it prescribes.
Force majeure should affect your performance: The performance is also not suspended just because a force majeure situation has arisen unless it significantly affects your performance capabilities. A party invoking a force majeure clause should, therefore, be prepared to demonstrate as to how the occurrence of a force majeure situation has made performance by such party “impossible”. The common legal understanding is that a mere occurrence of a force majeure situation, without a real impact on contractual performance capabilities of such party, would not entitle it to suspend its performance under the contract. As lawyers, we see that some of the parties would face this challenge if their counterparties decide to legally oppose the suspension.
|Question:||If COVID-19 cannot be a force majeure situation in my contract or if my contract does not have a force majeure clause, what recourse do I have?|
|Answer:||It is still not ending of the road for you. Indian Contract Act, 1872 enshrines the doctrine of frustration of contracts, which means that a contract would become void if its performance is rendered impossible or unlawful after the contract has been made. Void contracts are unenforceable, the result of which, in layman terms, is that such contracts cannot render a party liable for their non-performance.
Similar to force majeure, the frustration of a contract would also need a party claiming so to demonstrate as to how the occurrence of a situation (COVID-19, being the case in point) has made performance by such party “impossible” or “unlawful”.
Please however note that, unlike force majeure, the frustration of a contract renders it void with immediate effect, and the law does not provide for a suspension of such a contract. Of course, if one party claims “frustration of the contract”, and then both the parties are willing to suspend the contract, they can contractually agree to a suspension. In economic difficult times, new contracts are also hard to come by, so the suspension is a real business possibility following frustration. The suspension, however, cannot be enforced in absence of a contractual stipulation (e.g. force majeure) or with the consent of the contracting parties.
|Question:||While invoking force majeure clause, can we propose reduced/alternative performance?|
|Answer:||Indian contract law requires that a party shall do everything within its control to mitigate the loss to the other party. Therefore, a party can propose reduced/alternative performance during a force majeure period. Such reduced/alternative performance may however not be enforced upon the other party unless your force majeure clause so provides. If the other party does not agree to such reduced/alternative performance (consider cases where insufficient raw material supply would make the running of the plant itself commercially untenable), one can revert to full suspension of performance.
Each case should, however, be assessed carefully, before reduced/alternative performance is proposed. Force majeure, when available, is a contractually enforceable suspension right. A unilateral amendment is ordinarily never enforceable. In cases where the contractual relationships are complex, a party needs to assess whether a proposal for reduced/alternative performance would give an opportunity to the other party to deny the applicability of force majeure clause itself.
Force majeure and frustration of contracts are contractually and legally viable tools that provide a real possibility to the businesses to deal with the current situation. Case to case assessment is however needed before implementation of these options.