The Covid-19 outbreak has been termed as a pandemic by the WHO (World Health Organization), due to its rapid geographical spread, the exponential growth with which cases are rising, and it’s jarring effects on regular life. With several businesses being dependent on cross-border trade, several sectors have been affected recently, including the market for essential commodities. Recently, Hyundai was forced to shut down its production in South Korea, since they were facing a shortage of various components. In the US, Fiat faced a similar production crisis, and technology companies like Apple may soon be headed down the same route, due to their inability to acquire components from their manufacturing plants in China. With the epicentre of the crisis in China and the subsequent shutting down of its production supply, there have been several detrimental effects, both to the global supply chain, as well as to Indian companies, who would now no longer be able to fulfil their contractual obligations due to a shortage of supply. Force Majeure clauses in contracts are safeguards for companies in these scenarios.
What is force majeure?
The concept of Force Majeure, or superior force, revolves around events or situations which can’t be predicted or controlled by humans, almost equivalent to an “Act of God”. These situations are often natural disasters (eg: floods, tsunamis, earthquakes etc), or Acts of people(riots, strikes etc). The main intention behind such a clause is to prevent a company from being unduly affected by extraordinary situations over which they have no control and grants them a reprieve from the failure to perform the contractual obligation.
Force majeure in the Indian Contract Act
The Indian Contract Act has a Force Majeure provision for unforeseen circumstances, however, it’s application is often dependent upon the language of the contract, and an interpretation of the clause. A Force Majeure clause in a contract might mention specific examples of events, or use generic language. Several contracts explicitly mention a wide variety of such events, specifying “acts of war”, “earthquakes”, “strikes” etc. If “pandemic” is explicitly written within the clause, the Covid-19 situation would undoubtedly be included as a Force Majeure event and rendered applicably.
How coronavirus may cause legal wrangles
However, concerns arise regarding generic language. Generally, the court has interpreted force majeure clauses narrowly; i.e. unless it is specifically mentioned in the clause, the court would be reluctant to bring it within its ambit. Since “pandemics” aren’t explicitly mentioned in most Force Majeure clauses, the court does allow implicit inferences to be made from the wording of the clause. In this scenario, in order for this clause to apply, something similar to “extraordinary events or circumstances beyond the reasonable control of the parties”, should be present in the clause; i.e. generic wording that leaves interpretation open. Two phrases which also often find a place in this clause, are “prolonged shortage of supplies”, and “governmental action impeding the company from performing its obligations under the contract.” However, whether the Covid-19 pandemic falls within these obligations is questionable, and poses questions as to whether the clause can be invoked or not. Thus, each case needs to be looked at on a circumstantial basis, and to invoke the clause, the company needs to prove that despite reasonable diligence being undertaken, this situation occurred. This has been laid down in the landmark case of Satyabrata Ghose vs Mugneeram Bangur & Co. (AIR 1954 SC 44) and Energy Watchdog vs CERC (2017) 14 SCC 80.
Coronavirus impact on the global economy
It’s important to understand the implications of the Covid-19 pandemic on businesses across the globe, to decipher the distinction between companies legitimately being unable to deliver upon their contracts, and simply using it as an excuse to get out of an inconvenient situation. The global economic repercussions of the virus have been tremendous, considering supply chains for several major companies originate at badly affected areas, such as China, which has led to suppliers not being able to perform their side of the contract. Further, due to government-mandated lockdowns, alongside general panic regarding the situation, several factories have been compelled to shut down. Transport restrictions and travel bans have further added to this, and have led to a critical void in labour available. This has also had a detrimental effect on the economy and has led to the GDP decreases.
Does Coronavirus fall within a force majeure event?
There are several conditions that need to be fulfilled while determining the validity of the Force Majeure clause in the Covid-19 situation. Was the event unforeseeable when the contract was being executed? Is the performance of the contract actually impossible for the company? Did this impossibility have a direct link of causation to the Covid-19 outbreak itself? Did the company try to mitigate the circumstances of the event?
To prove that the Covid-19 pandemic falls within the scope of a force majeure clause, it’s necessary to show the spread of the virus was unforeseeable. However, it’s arguable that the Covid-19 situation was reasonably foreseeable months before lockdowns actually occurred, even as early as December itself. This is because December onwards, there were increasing news reports regarding the spread of the virus by international bodies; at which point companies could have taken steps, reasonable care and diligence to prepare for the crisis; or even given notices regarding this potential breach at that time itself. Further, considering global pandemics like the SARS outbreak in the past, it can be argued that it was foreseeable that a similar virus might affect businesses in the future too, and hence adequate safeguards could have been taken in advance. In such scenarios, it could also be necessary to show that the company tried fulfilling the contract through an alternative source of supply, or that it tried several methods of fulfilling the contract, and has resorted to force majeure as a last measure.
Coronavirus and Work from Home
Also, a company sending its employees back home, in order to prevent the spread of the disease, may seem like a morally sound decision, but in terms of falling within an “impossibility” or an “inability to perform” the contract, might not be legally sound. This is since the company could have chosen to take precautions, such as providing the employers with masks and sanitizers, and not shut down production entirely, which would have led to the contract being fulfilled. Further, several service-based businesses can continue online too, or on a work-from-home basis, simply with a little bit of adaptation, which is why it’s tougher for companies such as IT companies, to take this argument.
Market inflation due to Corona Outbreak
Further, supplies becoming expensive, might not fall within “impossibility” of the fulfilment of the contract, and may in fact still force the company to fulfil the contract on the previous terms. This is since it needs to be proved that the company had taken reasonable measures to ensure this doesn’t occur and that the effects of the force majeure can be avoided, or mitigated. This could prove difficult, especially while trying to explain low demand or high prices from suppliers since that could have possibly been avoided by shipping to different distributors or processors. Only if a particular port was closed, or if it was absolutely impossible to make alternative arrangements, should force majeure to be applicable in such a scenario. In fact, even then it would be preferable to ask for a delay in the fulfilment of the contract, rather than moving straight towards force majeure.
Alongside that, it would be necessary to prove that the Covid-19 circumstance was causative to the breach of contract, with a direct link between the breach and the pandemic. In scenarios where it is actually the result of additional circumstances, the court might be reluctant to allow the usage of the Force Majeure Clause.
Even if the force majeure clause is found not to apply, companies could use the concept of frustration to evade the contract, claiming that while the act itself may not be impossible, it may be impractical to continue, and might go against the very objective of the contract when it was signed. This is often applicable when certain emergency measures (such as government lockdowns, travel restrictions), have led to supply and labour becoming permanently unavailable, and it can give relief in such a scenario. Thus, if the company can prove that the Coronavirus crisis affects the very foundation of the contract, even in the scenario of no applicable force majeure clause, they can avoid responsibility under the contract.
While a sudden influx of litigation regarding this is expected, companies that use the Covid-19 situation as an absolute reason for an inability to fulfil the terms of the contract should be questioned. Usually, the outcome of enforcing the Force Majeure is a termination of the contract, or fulfilling the contract at a later date. Ideally, only obligations directly related to the outbreak should be excused, and irrespective, the company would be expected to mitigate damages in case the force majeure clause is actually taken to stand. The interpretation of the force majeure clause itself, and it’s possible application, should be on a case-to-case basis, depending upon the specific wording of the clause itself, and the fact-specific circumstances surrounding the breach, in order to prevent discrepancies, and stop inordinate unnecessary exploitation of the clause, while simultaneously preserving business interests.