The COVID-19 Hurdle For Construction Contracts

The impact of this unprecedented disruption caused by COVID-19 and the extraordinary measures like total lockdown which are currently in force in India and almost all the countries affected by COVID-19 are expected to have far-reaching consequences for businesses across the spectrum. In this article, we examine the effects of COVID-10 on project contracts and how this unusual risk could be allocated between the parties and how best the companies can address this enormous challenge.

At this time many projects have either stalled, haven’t started, or are plagued by delays caused by the effects of COVID-19. The adverse impact on both operational and under-construction projects stem from supply chain disruptions, lockdown, financing pressure, and workforce disruptions. The effects of COVID-19 are now rippling from an initial crisis in China to construction sites across the world in the form of:

· Reduction in availability of transport, equipment, and material;

· Challenges in sourcing material internationally

· Non-availability of international experts or subcontractors owing to travel restrictions;

· The present and continuing threat to the health of the workforce and the resultant reduction in   available labor;

· Overall slow-down in production and business interruption;

· Indefinite site closures wherever and whenever the number of infections is high or government restrictions are in place.

· Facing the specter of sub-contractors and suppliers invoking force majeure provisions.

· Possibility of large-scale breach of contractual obligations across the construction industry.

· Delayed revenues and debt service obligation.

As a result of these circumstances the cost to the construction industry as a whole and to specific projects, in particular, is likely to be staggering which is why it’s time for the project owners and the contractors to pull out the contract and consider how the delays in contract, force majeure clauses, time extension, and other contractual provisions as well as applicable statutes, provide for the allocation of this kind of risk between the parties.

Force majeure clause often is the first refuge for parties seeking contractual relief. Broadly speaking, force majeure events are unexpected circumstances outside the

contracting party’s reasonable control that, having occurred, prevent the affected party from or delay it from performing its contractual obligations. Where this occurs, the party affected will typically be excused from, or entitled to suspend, the performance of all or part of its obligations and in some circumstances, entitled to terminate.

In India, the law relating to Force Majeure is exemplified under Sections 32 and 56 of the Indian Contract Act, 1872.

The sine qua non for invoking this clause is

(a) existence of a valid contract between the parties;

(b) the contract is yet to be performed (during the occurrence of an event for which force majeure is sought for);

(c) the contract after it is entered into becomes impossible to perform due to fact or the law.

The law relating force majeure in India has been laid down by the Hon’ble Supreme Court in the case of Satyabrata Ghose vs Mugneeram Bangur & Co. (AIR 1954 SC 44). The complete jurisprudence on this subject has been clearly elucidated by Justice R.F. Nariman of the Supreme Court in a fairly recent decision in the case of Energy Watchdog vs CERC (2017) 14 SCC 80.

Besides the statutory scheme, force majeure remains a creature of contract where the structure and form of the clause are agreed between the parties. Therefore, depending on the drafting, such clauses may have several consequences, including excusing the affected party from performing the contract in whole or in part, excusing that party from delay in performance, entitling them to suspend or claim an extension of time for performance or giving that party a right to terminate.

The starting point to seek any relief under the force majeure clause is first to evaluate the events included in the definition that will trigger the application of the clause. While some contracts may have an exhaustive definition which enlists all the classes of events that are intended to be covered, for instance, war, natural disasters such as earthquakes or floods, terrorist attacks, etc. others may have an inclusive definition, which in addition to the event that the parties envisaged would be covered by force majeure clause, also includes a ‘catch-all’ provision to ensure that the definition does not preclude the application of the clause to other similar events. The risk associated with force majeure clauses that have an exhaustive definition is that the parties may not be protected by this clause if some completely unanticipated event occurs that the parties did not consider at the time they drafted the clause.

As the legal teams scramble to read the relevant provisions in their contracts that could save the day, they may want to consider these critical questions in relation to their projects as they plan short to mid-term actions and also brainstorm their long-term strategy and potential consequences:

1. Does the COVID-19 disruption constitute a force majeure event under your contract?

2. Is epidemic or pandemic, specifically covered in your force majeure clause?

3. If not, does COVID-19 fall under some of the other generic events often referenced in force majeure clauses, such as an “act of God,” a “natural disaster,” or just something beyond the contractor’s control?

4. Most force majeure clauses typically allow for schedule extensions without compensation. Do you check if your force majeure clause supports compensation as well as a time extension?

5. Whether the force majeure clause allow the affected party to terminate the contract? If so, under what circumstances?

6. Whether the contract provides for some other form of contract relief, for instance, the change in law provisions where countries enact emergency legislation that affect performance under contracts, provide for an alternate remedy, that may result not only in time relief but also cost relief.

7. What should you be doing now to reserve your rights and document your position?

8. Ultimately the success of a party’s force majeure claim will rest heavily on the language of the contract, the real and true facts and the relationship between the impact of COVID-19 on your contract and the relief sought.

Other important questions to consider are:

1. What are the notification requirements under your contract for making a claim? A party could be prevented from obtaining relief if it fails to adhere to the necessary notification requirements.

2. What proof does the affected party have in relation to the force majeure event, i.e., where a party asserts its claim to contractual relief (for example a claim for an extension of time basis the occurrence of a force majeure event) it will need to present evidence regarding how the event caused the losses claimed or the delay suffered. Therefore the affected party must take all steps to collate and retain the evidence required to support its claim.

3. What steps can a party take to mitigate the effects of the force majeure? It is important to carefully document every mitigation measure and related correspondence as construction contracts often require the affected party to mitigate the effects where possible, and a failure to do so may prevent a party from obtaining relief.

4. Parties should ensure that their work health and safety policies and procedures are up to date and appropriate.

5. Where a project has received financing from lenders, companies may need to seek relief from its debt obligations under the financing agreement, should there be shortfall or delay in revenue from the project. Contractors must also consider whether events on-site could constitute an event of default under the financing arrangements or is a breach of the financial covenants and obligations.

While the government has been actively taking steps and issuing notifications and clarifications to soften the COVID-19 blow, it is ultimately left to each company to manage its risk as the measures announced so far are intended to provide only near-term relief, therefore, it is advisable that the fine print be read and all urgent steps as may be necessary under the contract be implemented in order to break the fall caused by this extreme disruption.