Covid-19 and Force Majeure: Part I

There has been much discussion about the impact of Covid-19 on parties’ contractual obligations and the consequence of their failure to perform their obligations. Under Indian law, it is well-settled that there are two possible ways of determining the outcome in such a situation: either as per Section 32 or Section 56 of the Indian Contract Act, 1872. Section 32 is applicable where the contract itself contains a clause envisaging such a scenario (i.e. a ‘force majeure’ clause). In the absence of a force majeure clause, Section 56, which codifies the doctrine of frustration, would be applicable. Applying Section 32 or Section 56, as the case may be, may or may not excuse a party’s non-performance of its contractual obligations and each dispute has to be adjudicated on its own facts. In a series of posts on Covid-19 and force majeure, I will take various fact situations, mostly from recent orders of courts, and examine the outcome that ought to be reached in such scenarios. In this post, I look at the scenario in the Bombay High Court’s recent decision in Standard Retail Pvt. Ltd. v. G.S. Global Corp & Ors.

In Standard Retail, the Respondent No. 1 was to supply steel from South Korea to the Petitioners in Mumbai. The contracts contained a force majeure clause which entitled only the Respondent No. 1 to terminate the contracts or delay performance upon the occurrence of a force majeure event. Respondent No. 1 despatched the steel from South Korea. The Petitioners contended that the contracts were frustrated due to the pandemic and filed petitions under Section 9 of the Arbitration and Conciliation Act, 1996 seeking to restrain the bank from negotiating/encashing the Letters of Credit. The Court rejected the Petitioners’ request for ad-interim injunction inter alia on the grounds that: a) distribution of steel had been declared as an essential service and there was no restriction on its movement during the lockdown period; and b) the force majeure clause in the contracts entitled only the Respondent No. 1 to terminate the contracts, and not the Petitioners. In the first two posts, I will discuss these two aspects of the Court’s reasoning (the Court gave other reasons as well, which will be discussed in subsequent posts).

Preliminarily, it must be noted that the starting point for discussion is Section 32 of the Contract Act, and not Section 56, since the contracts in Standard Retail contained a force majeure clause. This is the clear mandate of the Supreme Court’s decisions in Satyabrata Ghose v. Mugneeram Bangur & Co. and Energy Watchdog v. CERC. Now, the force majeure clause only envisaged events beyond the control of Respondent No. 1 which affected its capability to supply the goods to the Petitioners. It entitled only the Respondent No. 1 to terminate the contracts or delay performance. This is reflective of parties’ intention to cast an absolute obligation on the Petitioners to perform their obligations under the contracts. Nonetheless, it is submitted that in certain situations, viz. one of supervening illegality, a force majeure clause imposing an absolute obligation on any party irrespective of the supervening illegality is void to that extent, as a supervening illegality necessarily and automatically frustrates the contract under Section 56 of the Contract Act.

There are two kinds of events which may frustrate a contract under Section 56: i) where the performance of the contract becomes impossible (i.e. where there is a ‘supervening impossibility’); or b) where the performance of the contract becomes unlawful (i.e. a ‘supervening illegality’). The rationale behind the doctrine of frustration is that it would be unjust to hold a party to its bargain despite there being a radical change in circumstances (see Lord Simon’s dictum in National Carriers Ltd v Panalpina (Northern) Ltd [1981] AC 675). This rationale would be applicable irrespective of whether the change is on account of supervening impossibility or supervening illegality.

However, in case of a supervening illegality, there is an additional justification for excusing a party’s non-performance, i.e. compelling the party to perform the contract would compel it to violate the law. Naturally, such a course cannot be permitted. Viewed from another perspective, if the supervening illegality was in existence at the time of execution of the agreement, the agreement would be unenforceable for being void under Section 23 of the Contract Act. (On the other hand, in case of a supervening impossibility, if the impossibility was in existence at the time of execution of the agreement, it is assumed that parties undertook the risk of performing the agreement despite the impossibility, and the agreement would be enforceable.) Therefore, in case of supervening illegality, the rationale behind frustration of contract transcends into the realm of public policy. For this reason, while parties can be permitted to undertake to perform the contract notwithstanding a supervening impossibility, the same cannot extend to supervening illegality. To that extent, Section 56 must be construed as mandatory and non-derogable in nature.

In the next post, I will examine the efficacy of this argument in light of the decisions in Satyabrata Ghose and Energy Watchdog, the Delhi High Court’s judgment in NTPC Limited v. Voith Hydro Joint Venture, and the position under English law. I will then discuss the difference that this approach may make in cases such as Standard Retail.