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Preface
Viruses have no borders, and ever since Covid-19 pandemic has immigrated to India, we have been at the receiving end. On one hand, there has been a loss of lives and on the other, economic slowdown has kept us worried. Mostly, all commercial contracts have two essential aspects, namely:
Time being the essence of the contract; and,
1. Performance of contract being secured by bank guarantee.
2. India’s immediate response to control the spread of this pandemic came in the form of imposition of nationwide lockdown since 24th March, 2020.
Due to the imposition of the nationwide lockdown by the Central Government, there has been an inadvertent breach in the performance of commercial commitments by the parties to the contracts, and as a matter of course there have been attempts by the beneficiaries of the bank guarantees to invoke the same. Whether such invocation of the bank guarantees is legally permissible, is something which requires analysis.
In that light, the questions of law which this article attempts to answer are the following:
1. Whether “Covid-19 Lockdown” is a force majeure event?
2. Can “Covid-19 Lockdown” be perceived as a circumstance granting “special equities” to a party furnishing bank guarantee, enabling it to seek injunction to restrain the beneficiary of the bank guarantee from invoking it?
3. Is the ground of “special equities”, a subset of the ground “irretrievable harm or injustice”, available for seeking restrain on invocation of bank guarantee?
Irretrievable injustice: When can be said to have occasioned?
The question can be answered with the aid of certain important precedents. In the matter of: U.P. Cooperative Federation Ltd. v/s Singh Consultants & Engineers (P) Ltd [(1988) 1 SCC 174], it was observed that:
“… in order to restrain the operation either of irrevocable letter of credit or confirmed letter of credit or bank guarantee, there should be serious dispute and there should be a good prima facie case of fraud and special equities in the form of preventing irretrievable injustice between the parties.”
The Hon’ble Supreme Court of India, in the matter of: Svenska Handelsbanken v/s Indian Charge Chrome [(1994) 1 SCC 502], reiterated the dictum in the matter of U.P. Cooperative Federation Ltd. (Supra) and further, went on to clarify that the “irretrievable injustice” or “irretrievable injury” which would result, if injunction were not granted, was required to be of the nature as noticed in the case of Itek Corporation v/s First National Bank of Boston [566 Fed Supp 1210].
Notably, in the matter of Itek Corporation (Supra) it was observed that:
“… Because I find that Itek has demonstrated that it has no adequate remedy at law, and because I find that the allegations of irreparable harm are not speculative, but genuine and immediate. I am satisfied that Itek will suffer irreparable harm if the requested relief is not granted.”
Lastly, in the matter of: U.P. State Sugar Corporation v/s Sumac International Ltd., (1997) 1 SCC 568, it was observed that:
1. When in the course of commercial dealings an unconditional bank guarantee is given or accepted, the beneficiary is entitled to realize such a bank guarantee in terms thereof irrespective of any pending disputes.
2. The bank giving guarantee is bound to honour it as per the terms contained in the bank guarantee irrespective of any dispute raised by its customer. The very purpose of giving such a bank guarantee would otherwise be defeated. The courts should be slow in granting an injunction to restrain the realization of an unconditional bank guarantee.
3. There are two situations, having regard to which, the court would be inclined to grant the relief of injunction, restraining the beneficiary from invoking the unconditional bank guarantee, and these are:
- A fraud in connection with a bank guarantee, which vitiates the very foundation of a bank guarantee. If there is a fraud of which the beneficiary seeks to take advantage, then he can be restrained from doing so. It must be noted that the fraud in connection with the bank guarantee must be of an egregious nature, that is, one which has the potentiality of vitiating the entire underlying transaction.
- The second exception relates to cases where allowing the encashment of an unconditional bank guarantee would result in irretrievable harm or injustice to one of the parties concerned. The irretrievable harm or injustice must be of such an exceptional nature as would override the terms of the guarantee and adverse effect of such injunction on commercial dealings in the country.
Further it must be pointed out that the two situations, namely, fraud and irretrievable harm, can co-exist in some cases.
4. In the matter of: Bolivinter Oil SA v/s Chase Manhattan Bank, (1984) 1 All ER 351, it was observed that:
“… It is wholly exceptional case where an injunction may be granted is where it is proved that the bank knows that any demand for payment already made or which may thereafter be made will clearly be fraudulent. But the evidence must be clear both as to the fact of fraud and as to the bank’s knowledge. It would certainly not normally be sufficient that this rests on the uncorroborated statement of the customer, for irreparable damage can be done to a bank’s credit in the relatively brief time which must elapse between the granting of such an injunction and an application by the bank to have it charged.” (emphasis supplied)
Thus, the underlying principle is that:
1. In order to seek restrain on invocation of irrevocable bank guarantee, the aggrieved party has to plead and show to the Hon’ble Court that the “irreparable harm” that shall occasion to it if the bank guarantee is invoked is genuine, immediate and not merely speculative.
2. While egregious fraud is one of the two grounds on which invocation of an unconditional bank guarantee may be injuncted, the contours of the second ground, of irretrievable/ irreparable injury, are somewhat elastic.
3. Every case has to be decided with reference to the facts of the case involved therein.
Restrain on invocation of bank guarantee: Additional ground of “Special Equities”
It is argued that “Irretrievable injustice” and “special equities” are distinct circumstances which enable exercise of restrain on invocation of bank guarantee. This argument finds support in the very recent case of Halliburton Offshore Services Inc v/s Vedanta Limited & Anr [OMP (I) (COMM) & I.A. 3697/ 2020, High Court of Delhi (Date of Decision: 20.04.2020)] wherein following the decision in the matter of Standard Chartered Bank Ltd. v/s Heavy Engineering Corporation Ltd [2019 SCC Online SC 1638], the Hon’ble Delhi HC observed that:
“… It is significant, however, that, where the earlier understanding of the expression “special equities”, as a circumstance in which invocation of bank guarantees could be inducted, was that such equities were limited to cases where irretrievable injustice resulted. The recent decision in Standard Chartered Bank Ltd, 2019 SCC Online SC 1638, seems to visualize irretrievable injustice, and special equities, as distinct circumstances, the existence of either of which would justify an order of injunction. Viewed any which way, there appears to be no gainsaying the proposition that, where “special equities” exist, the court is empowered, in a given set of facts and circumstances, to injunct invocation, or encashment, of a bank guarantee.”
“Covid-19 Lockdown”: A force majeure event?
Doctrine of frustration of contract is really an aspect, or part of the law of discharge of contract by reason of supervening impossibility or illegality of an act agreed to be done. In English law, the question of frustration of contracts is treated by the courts as a question of construction depending upon the true intention of the parties. However, it is interesting to note that prior to the decision in the matter of: Taylor v/s Caldwell [(1863) 3 B&S 826: 122 ER 309], the law in England albeit discharge of contract owing to “frustration” was extremely rigid. A contract had to be performed, notwithstanding the fact that it had become impossible of performance, owing to some unforeseen event, after it was made, which was not the fault of either of the parties to the contract. This rigidity of the Common Law in which the absolute sanctity of contract was upheld, was loosened somewhat by the decision in Taylor (Supra), in which it was held that if some unforeseen event occurs during the performance of a contract which makes it impossible of performance, in the sense that the fundamental basis of the contract is vitiated, it need not be further performed, as insisting upon such performance would be unjust.
Indian law as encapsulated under Section 56 of the Indian Contract Act, 1872 (hereinafter referred to as the ICA) can be summarized as follows:
1. The first paragraph of Section 56 of the ICA provides that an agreement to do an act impossible in itself is void.
2. The second paragraph of Section 56 of the ICA provides that a contract to do an act becomes unenforceable if the performance of the act becomes impossible or unlawful.
3. The third paragraph of Section 56 of the ICA places liability upon a promisor to compensate the promisee for non-performance of the promise, where the promisor knew, or with reasonable diligence might have known, and the promisee did not know, that the act promised by the promisor was impossible or unlawful.
Holding “Covid-19 Lockdown” as a force majeure event, in the matter of Halliburton Offshore Services Inc (Supra), it was observed that:
“… The countrywide lockdown, which came into place on 24th March, 2020 was, in my opinion, prima facie in the nature of force majeure. Such a lockdown is unprecedented, and was incapable of having been predicted either by the respondent or by the petitioner.”
However, it is important to take note of the following five point observation made by the Hon’ble Supreme Court of India in the matter of: Energy Watchdog v/s CERC & Ors [(2017) 14 SCC 80], primarily observing that a “force majeure” clause in a contract prevails upon the statutory scheme contained in Section 56 of the ICA:
1. If a contract has an express or implied “force majeure” clause, then it will prevail upon the statutory mandate contained in Section 56 of the ICA.
2. Application of the doctrine of frustration of contract must always be within narrow limits.
3. A rise in cost, price or expense will not as a rule of thumb, frustrate a contract.
4. Doctrine of frustration of contract will not come into operation until the fundamental basis of the contract remains the same or unchanged.
5. A “force majeure” clause in a contract will not apply if alternate modes of performance are available.
The Answers
In light of the aforementioned precedents and resulting analysis, answers to the questions of law formulated in the initial section of this article are as follows:
1. “Covid-19 Lockdown” is a force majeure event, provided the force majeure clause in the contract stipulates it to be so. Even if the contract does not make a stipulation in this regard, principles contained under Section 56 of the ICA can be applied
2. “Covid-19 Lockdown” can be perceived as a circumstance granting “special equities” to a party furnishing bank guarantee, enabling it to seek injunction to restrain the beneficiary of the bank guarantee from invoking it.
3. The ground of “special equities” is not a subset of the ground “irretrievable harm or injustice” available for seeking restrain on invocation of bank guarantee. It would be fair to argue that “Irretrievable injustice” and “special equities” are distinct circumstances which enable exercise of restrain on invocation of bank guarantee.
Excursus
Another important question which arises for consideration from the aforementioned analysis is whether the ratio propounded in Halliburton Offshore Services Inc applies to essential services as well. Quite recently, in the matter of: Standard Retail (P) Ltd. v/s M/s. G.S. Global Corporation [Commercial Arbitration Petition (L) No. 404/ 2020 (Date of Decision: 08.04.2020)], the High Court of Bombay refused to grant injunction albeit the invocation of a bank guarantee stating that “Covid-19 Lockdown” did not amount to a force majeure event, as distribution of steel is an essential service under Section 2 (1) (a) (xii) of the Essential Services Maintenance Act, 1981, and therefore, there were no restrictions on its movement.
Thus, it is limpid that the restrain of “special equities” to injunct the invocation of bank guarantees is not to apply to benefit the business entities which are involved in the production, distribution and supply of essential commodities and services. It can thus be said that the ratio in the matter of Halliburton Offshore Services Inc (Supra) applies to a fact situation whereby the business entity furnishing bank guarantee is not involved in the production, distribution and supply of essential commodities and services.
Therefore, both the judgments, namely, Standard Retail (P) Ltd. (Supra) and Halliburton Offshore Services Inc (Supra), being fact-specific and operating in their respective spheres, are required to be read in conjunction, in order to have a clear understanding about the conceptual framework and applicability of “special equities” exception to the invocation of bank guarantee.
(This post has been authored by Shivam Goel, a practising advocate currently working as a partner at Lex Unified.)
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