Force Majeure Clauses in a Post COVID–19 World
[Shivek Endlaw is a student at Amity Law School, Delhi.]
The outbreak of COVID-19 and the subsequent nationwide lockdown has had a major impact on domestic businesses. Due to these unforeseeable circumstances, both - businesses which need to perform contractual obligations and businesses expecting performance under time-bound contracts - are facing difficulty. To prevent such a situation in the future, parties to a contract should incorporate a force majeure clause in their contract. In this post, I will discuss a few factors to be kept in mind to draft a comprehensive and well-structured force majeure clause
A force majeure clause is normally used to describe a contractual term by which one or both of the parties is excused from the performance of the contract, on the happening of a specified event beyond his control. The requirements of a force majeure clause are: (a) it must proceed from a cause not brought about by the defaulting party; (b) the cause must be inevitable and unforeseeable; and (c) the cause must make the execution of the contract impossible or commercially impractical. For example, parties to an existing contract which have listed outbreak of disease, pandemic or epidemic as a force majeure event would be discharged from performing their contractual duties in the present-day scenario.
When a dispute is raised about the frustration of a contract, the court or the arbitral tribunal first examines the subject contract and the force majeure clause. If the clause exists, the court then examines the scope of the clause and decides whether or not the supervening occurrence would constitute a force majeure event under the clause. Generally, in case the court decides in the positive, the concerned party is absolved of its duties. It is important to mention here that in the event of a dispute arising out of such a clause, all parties must maintain documents and evidence and how the discharged party took all possible steps to mitigate the losses or prevent the happening of the event.
To draft a comprehensive force majeure clause, few factors must be kept in mind.
Language of the clause – In the case of Energy Watchdog v. Central Electricity Regulatory Commission, it was held that a force majeure clause should be construed with attention to words which precede it or follow it and with due regard to the nature of the general terms of the contract. Applying this principle while drafting the contract, it must be kept in mind that the events listed as force majeure possibilities should not be too broad to inculcate every event which would make the performance of the contract onerous. This would allow parties to exploit the clause and incorrectly avoid their obligations under the contract.
As it is not possible to anticipate and list every impediment, the contingencies should be tailor-made according to the nature of the contract. For example, in a construction contract, certain events would make the object of the contract impossible or commercially impractical. This would include events that would delay or stop the supply of construction material,or natural disasters that would destroy the construction or make it onerous, or subsequent government order which would temporarily ban construction activities.
Additionally, the parties can also determine the events which will specifically not constitute a force majeure event in case a dispute arises in the future. In a construction contract, the parties can determine that the increase in the price of raw material would not constitute a force majeure event to remove any ambiguity.
Nature of the obligation – The terms of the contract should be such that they do not cast an absolute duty on either party to complete their obligations regardless of any supervening change. The reason is that in a case where the language of the contract expressly instructs a party to perform an obligation despite its onerous or subsequent onerous nature, the party later cannot take the defence of the force majeure clause or frustration of contract. In Naihati Jute Mills Ltd. v. Khyaliram Jagannath, the terms of the contract showed that the appellant was in charge of getting an import license for the purchase of jute regardless of the difficulty it faces in procuring it. Subsequently, the policy of the government changed and it was decided that the authority would scrutinize the case of each applicant on its merit before granting an import license. Since the terms of the contract showed that the appellant had taken an absolute obligation to obtain a license, he was not allowed to later raise a defence of frustration of contract. Therefore, the contract and the force majeure clause should be drafted keeping in mind a proper allocation of risk of performance for all parties, without casting an absolute duty on either of them, unless necessary.
Notice requirement – To make the clause more comprehensive, parties to a contract may incorporate a notice requirement in the force majeure clause. Essentially, the party avoiding performance shall necessarily send a notice to the concerned party informing them of their intention to invoke the force majeure clause. This requirement serves two purposes. First, it enables the party invoking the clause to inform the other party promptly that they will not be performing their obligations under the contract along with their reason for doing so, and the procedure they adopted to prevent the impediment from occurring. Second, it enables the party receiving the notice to take any action necessary to mitigate losses, or to take any other precautionary measure which is commercially viable. Thus, a notice requirement in the force majeure clause along with detailed requirements of its transmission must be specifically listed in a force majeure clause.
Mandatory timeframe for renegotiation – Most force majeure clauses or events that frustrate contracts are enforced under uncertain conditions. For example, during the Indian nationwide lockdown, the restrictions imposed by the government for the first 21 days were later modified and extended in some jurisdictions. Similarly, sometimes it may not be possible to determine right away on how long a supervening event frustrating the contract may last. Therefore, it is advisable to incorporate a strict time frame in the contract after which the parties may either renegotiate the terms of the contract or terminate it, depending on commercial feasibility. This adds another rung in the force majeure clause before a party is completely absolved of all its obligations. The renegotiation or reasons provided to terminate the contract may further also be used as evidence of bona fide intention for both parties to maintain their obligations as originally contracted.
Such an addition to the clause can ensure that the object of the contract can be completed in case the impediment is temporary. This further binds the parties in their endeavor to fulfill their obligations as promised.
A force majeure clause does not exhaust the possibility of an unforeseen event which makes the performance of the contract impossible. In case the subject contract does not contain a force majeure clause, or the force majeure clause contained in the contract does not expressly list an impediment which has occurred, the aggrieved party can seek protection under Section 56 of the Indian Contract Act 1872 (Section 56). Section 56 is based on the legal maxim impossibilium nulla obligatio est (meaning that there is no obligation of doing an impossible act). The principle underlying the section is that performance of a contract can be avoided if, on account of happening of a subsequent event which is not the result of action of either of the parties, the performance of the contract becomes impossible. The principles of application of Section 56 are well settled in the celebrated cases of Satyabrata Ghose v. Mugneeram Bangus and Co, Alopi Parshad and Sons Ltd. v. Union of India and Energy Watchdog (supra).
However, protection under this section comes with a few obstacles which make its application harder. These obstacles include the following:
In common law jurisdictions, the principle underlying Section 56 is interpreted narrowly and strictly. (see Tsakiroglou & Co. Ltd. v. Noblee Thorl GmbH and Nirmal Lifestyle Ltd. vs. Tulip Hospitality Services Ltd.)
To succeed in a Section 56 action, the aggrieved party must prove that (a) the impediment was beyond the control of the party; (b) the impediment was not foreseeable in nature and (c) the impediment could not be prevented in any manner. This is a heavy burden to discharge and can prove to be cumbersome.
Foreseeability of an impediment is subjective and ever-evolving. Sometimes, what is not foreseeable for a party may be termed as foreseeable by the court. Rather than relying on the subjective approach of the court on whether the impediment was foreseeable or not, the party can avoid it by incorporating a comprehensive force majeure clause by following the procedure in point (1).
Increasingly, courts are adopting a non-interfering approach in cases where the contract and the force majeure clause are clear in their language and meaning. For example, in Delhi Development Authority v. Kenneth Builders and Developers Ltd. and Ors., the Supreme Court held that if the contract itself expressly rejected the supervening event that occurred as a frustrating event, it would be difficult to grant relief under Section 56 in the alternative and excuse the parties of their obligations. Taking a cue from this observation, force majeure clauses can be drafted in a manner to limit the application of Section 56 and the subsequent interference of the court if the contract expressly or impliedly restricts the meaning of what would constitute as a force majeure event.
Therefore, a comprehensive and well-structured force majeure clause can not only provide protection from an onerous obligation of a party in difficult times, but also reduce the application of Section 56 of the Act, strengthen the case, and avoid lengthy litigation in case a dispute arises.
Chitty on Contracts, 28th Ed. 1999, Vol. 1 Para 14.126, p. 722.