-Gunjan Chhabra, Partner
The COVID-19 Pandemic has substantially disrupted the operation of most Industries. This disruption is varying in scale but is universally present in all industry verticals irrespective of the size, be it small, medium or large, be it physical shops or e-commerce websites. Devastating consequences are being seen on the resource front, the personnel front and every other front possible. The essential commodities, which have been allowed to function all throughout, form less than about 20% of the Indian economy, and even the essential commodity related industries have seen a severe drop and have been affected like never before. There has been a severe disruption in the availability of goods, services, transport as well as personnel available for execution. Contracts are continually breaking down, mostly due to no fault of either party. Amidst so much uncertainty, companies, individuals and businesses are forced to take some tough decisions.
In several other countries such as Singapore, many legislations have been passed, which essentially have frozen contracts in time. India hasn’t come up with such a measure yet, but substantial notifications for easing time for compliances, suspending the Bankruptcy Code, the Supreme Court judgment for easing limitation time periods, should give at least some relief to stake holders.
Many options are available to stake holders during this time. A list of some of the options available to businesses with regard to their commercially non-functioning contracts during this time:-
1.Invoking Force Majeure
Players in the market need to check what the Force Majeure clauses in their contract provides. Commonly a Force Majeure clause in a contract provides that obligations under the contract can be deferred or released upon the happening of certain specified events, beyond the control of either party. Force Majeure clauses can be narrow or broad. But in essence what is required is to view the language used for this purpose and its interpretation in a strict sense and whether the clause can actually be invoked. While most commercial contracts do have a force majeure clause, some do not, especially some like rental contracts.
The Delhi High Court recently decided on the force majeure issue in a rental contract. In Ramanand & Ors vs. Dr. Girish Sony & Anr., decided on 22nd May, 2020, it was held that once there is no Force Majeure clause in the contract, payment of rent cannot be delayed or suspended. The only exception where there can be invocation offorce majeure, without it being included in the contract, is under circumstances covered under Section 108(B)(e) of the Transfer of Property Act, rendering the property “substantially and permanently unfit”. Therefore, payment of rent cannot be avoided normally.
2. Invoking Supervening Impossibility under Section 56 of the Contract Act
This is the route which can be followed in case there is no Force Majeure clause under the contract. The essential ingredient to invoke Section 56 is to claim, “subsequent impossibility”. They key term here is the impossibility due to lockdown or COVID needs to be subsequent, and unforeseeable at the time when the contract was entered into.
To know some more about Force Majeure and supervening impossibility, and how it can be invoked, please feel free to read our previous article here.
3. Termination of Contract
During this time, it is also up to Parties to terminate the contract. Again, such a termination needs to be in line with the contract, so that the question of illegality doesn’t crop up.
4. Litigation & Dispute resolution
Wherever it is impossible to reconcile two points of view regarding performance or payments, people are free to invoke disputes in accordance with the dispute resolution procedure provided in the contracts. Also, in the current scenario third party funding for disputes is an area, which is growing at a fast pace globally, and even in India.
5. Re-negotiating Contracts
This is another method which parties are following. They sit across the table, and undertake almost a kind of mediation process, with the involvement of their attorneys. They oversee the results that they require from each other, set a time limit of performance of obligations or suspension of obligations, and come up with a mutually amiable solution.
6. Act, legislation or ordinance
It might be, that like in other countries, there might be an Indian legislation which may soon arrive to save parties in this time. They may provide provisions relating to suspension of all obligations during this time. Or they may also provide re-negotiation clauses in the legislation itself. Another example of an act legislation or ordinance which parties may want to take advantage of, are the various notifications and circulars which have already been released, be it those dealing with economic stimulus, or suspension of the Insolvency and Bankruptcy code for 3 months, or the circular dealing with COVID as a Force Majeure event in the 2017 Procurement Manuals. Interestingly enough the Procurement Manual has an in-built clause for re-negotiation which is already available to parties.
HOW TO MAKE A CHOICE
Individuals and Companies need to make a choice of the strategy they have to follow during the lockdown as well as post lockdown. Several practical step-wise factors need to be kept in mind about how to move forward with respective contracts. Instead of looking solely at the legal feasibility, businesses need to keep in mind a pragmatic and practical approach towards problem solving during this time. Some of these factors are as below.
1. Result Desired
Each stake holder needs to look first and foremost at the result required. Priorities need to be set. Are they looking at wanting to eliminate non-performing partners during this time? Are they desirous of short-term benefits, or long-term benefits? What sort of financial results are they looking at? Are they in a position, financially to take these decisions? Are their partners, be it the end customers, their suppliers or dealers going to be in a position to deliver on their promises in the near future, etc.
2. Time Frame
Even though there is a lot of uncertainty during this time, regarding on ground functioning of contracts or regarding when things are to come back to normal, parties should keep in mind a time frame they’re looking at. Are they looking at results in a 3 month window or a 6 month window or are they looking at results after a year. So not only do stake holders need to assess their decisions with an outlook towards the result they want, but also when they want the result. For instance, if they are now excusing payments to be made by their vendors, till when do they intend to excuse the non-payment. Similarly, in contracts where performance is being excused, what is the time frame for excuse they are looking at?
3. Identify the law applicable
Thirdly before moving in either direction, parties need to identify the law applicable to their particular contracts. In the global economy that we live in, contracts are often not only multi-state but can be inter-country also. In such a case, it is important to identify the proper law of the contract. Which state’s laws govern the operation of the contract, and in accordance with that particular law, what are the options available to them.
Every company, individual or entity needs to mitigate losses. Not only is mitigation the basic principle of claiming any kind of loss during a potential future dispute, but also helps parties reduce their costs, incase there is no likelihood of recovery in the future. (see Muralidhar Chiranjilal vs. Harishchandra Dwarkadas 1962 SCR (1) 653).
6. Scrutiny of Contract
Every stake holder needs to assess their respective contracts and find out if a pandemic is expressly or impliedly included in their contract. What does the contract provide during such a stage, and whether the business or company would like to follow the approach already incorporated into the contract, or if they have an option not to adhere to it. Such a scrutiny is necessary as it more often than not, provides the perfect solution to such a problem.
7. Ascertainment of Rights and Liabilities
The contract between various parties, be it a supply contract, a performance contract, payment contract, an advertisement contract, a lease agreement or a loan agreement etc., needs to be correctly analyzed to find out the rights and liabilities of parties. Are the breaches happening in the contract at this stage within the control of either parties or are they beyond the control of parties. Many times, the strategy to be adopted needs to be done on the basis of the concomitant obligations of the parties.
The next step which needs to be ascertained is whether the breach which is happening can be addressed, unilaterally by one party’s intervention, or does it need the intervention of both parties? Or another alternative could be, whether the intervention of a third party beyond the control of both parties is required to remedy the breach or to control the breach.
9. Execution Ability & Collectability
Each entity is often faced with a situation where they are at either side of the contract. For instance, at the same time, they may be the lessor in one case and in another they may be the lessee. Similarly, in one contract they may be the purchaser, and in another contract, they may be the supplier. In such situations, in order to take a decision whether dispute needs to be invoked or terminated, or re-negotiation needs to be done with the opposite party, the execution ability of each party needs to be ascertained. For instance, in a contract where the entity is a supplier, wants to continue with a supply contract but has no capacity to service the contract, cannot possibly go through with the decision of continuing the contract. Similarly, where the entity is the purchaser, they need to ascertain the other parties ability to execute their own contract. In crux, these decisions need to be taken after keeping in mind the on ground executability of the contract.
10. Other Practicalities
Many times legal strategies such as termination, dispute invocation, need to be taken only after reviewing other practical considerations. A very important practical consideration is the business relation you might have with a particular party. Sometimes, the party committing the breach might be a huge component of your business, and destroying the relationship will not only destroy one particular contract, but might have a domino effect on several other contracts which the entity might be having with other stake holders. Similarly it needs to be ascertained whether the party you are looking to sue, is in fact capable of servicing an award or decree which you might attain against them at a later date. If they are indeed able to honour the award or the decree, then another factor which you might want to ascertain is incase they will end up honoring your own contract at a later date and are merely delaying it owing to the current circumstance. Similarly dependency and co-dependency with several stake holders need to be viewed before moving forward on a path. The purchasing power of the end customers may also be an important factor to review at this stage, while taking key decisions.
11. Classifying Contracts
Often in these kind of situations, parties will be faced, not with a couple of questions or contracts, but with tens of thousands of breaches being made all at once. In such a situation it can be difficult to take a call individually for each and every contract. So it may be advisable for businesses to classify their contracts into different heads. For instance, one type of strategy may be applied to all contracts where there is a delay in performance, another type of strategy in all contracts where there is a delay in payment, another kind where they are tenants, and another kind where they have a manpower shortage. Once a broad classification is undertaken, it becomes easier to then individually look at each contract and take a call.
The application of these strategies makes it easier for business entities to take firm and tough decisions with regard to moving forward in this time. Many parties take a “wait and watch” approach during this time. But as it is commonly said, it might be better to make changes on yourself and be prepared for the change, rather than letting time take its own course and having something so unexpected happen, that it might be difficult to chart the course. Also, it is difficult right now to say when COVID will completely disappear. As many organizations and studies including various Harvard studies, as well as the World Health Organization is predicting that there is no going back to the old normal. Living with COVID is the new normal. Some have predicted a time frame of even 24 months. Therefore, it is advisable to think of making permanent changes right now, rather than waiting it out.
From the above discussion, it seems that more often than not, and at least for small ticket items, parties may prefer to come on to the negotiating table, with the help of legal advisors and come down to re-negotiating contracts rather than invoking disputes. It also seems to be a more practical approach, because not every small matter might be worth spiraling into a dispute.
Similarly, big ticket items, where they do fit into the scheme of things do need to be disputed or taken to courts. Matters where dispute invocation cannot be avoided are things like fraud, or where very incumbent matters might arise such as invocation of Bank Guarantees. In any case big ticket items are advisable to be raised by means of disputes. Third party funding for dispute resolution is also an important avenue which is developing slowly in India, which might come to the rescue of various stake holders.
The times call for innovation in every field, not just in business, but also in the legal field. As a result, the need of the hour is creativity and innovation to deal with the problems posed during this time, rather than to fight over every minor issue. Then again, a call needs to be taken individually regarding each and every issue.