7 Aug 2010

Increase in input prices does not lead to frustration of agreement: High Court

Holding that the law to this regard was settled, the Andhra Pradesh High Court in a recent decision has declared that one cannot disown the liability and obligations under an agreement on the sole ground that the cost of inputs has risen substantially since the agreement was entered into.  The party in this case sought to seek the agreement repudiated applying the doctrine of frustration of contract in terms of Section 56 of the Indian Contract Act on this ground. However the High Court dismissed the plea holding that mere increase in prices leading to the obligations becoming onerous was not a valid ground to argue the agreement as being frustrated.

The High Court declared the law in the following terms;
Dealing with the contention that it is impossible to perform the contract because of the steep increase in the costs of raw material, it will be apt to notice that that the question relating to frustration of a contract on the score of impossibility of its performance is always a question of fact, which has got to be decided as to who is guilty of the act or omission which rendered the contract unenforceable. Lord Radcliffe in Davis Contractors Ltd. V. Fareham U.D.C. at page 729, set out the principle in the following words:
“…. frustration occurs whenever the law recongises that without default of either party a contractual obligation has become incapable of being performed because the circumstances in which performance is called for would render it a thing radically different from that which was undertaken by the contract. Non haec in foe dera veni. It was not this that I promised to do…. There must be …. Such a change in the significance of the obligation that the thing undertaken would, if performed, be a different thing from that contracted for.”
It will also be apt to notice in this context how Section 56 of the Indian Contract Act delineates the Doctrine of Frustration of a contract. Section 56 reads as under: 
“56. Agreement to do impossible act - An agreement to do an act impossible itself is void.
Contract to do act afterwards becoming impossible or unlawful - A contract to do an act which, after the contract is made, becomes impossible, or, by reason of some event which the promisor could not prevent, unlawful, becomes void when the act becomes impossible or unlawful.
Compensation for loss through non-performance of act known to be impossible or unlawful – Where one person has promised to do something which he knews, or, with reasonable diligence, might have known, and which the promisee did not know, to be impossible or unlawful, such promisor must make compensation to such promisee for any loss which such promisee sustains through the non-performance of the promise.” 
In Satyabrata Ghose v. Mugneeram Bangur & Co., the Supreme Court was called upon to set out the contours of the doctrine of frustration in the perspective of the Indian Contract Act. It has been expounded as under:
“7. The first argument advanced by the learned Attorney General raises a somewhat debatable point regarding the true scope and effect of Section 56 of the Indian Contract Act and to what extent, if any, it incorporates the English rule of frustration of contracts. … The second paragraph enunciates the law relating to discharge of contract by reason of supervening impossibility or illegality of the act agreed to be done. The wording of this paragraph is quite general, and though the illustrations attached to it are not at all happy, they cannot derogate from the general words used in the enactment. …. We hold, therefore, that the doctrine of frustration is really an aspect or part of the law of discharge of contract by reason of supervening impossibility or illegality of the act agreed to be done and hence comes within the purview of Section 56 of the Indian Contract Act. It would be incorrect to say that Section 56 of the Contract Act applies only to cases of physical impossibility and that where this section is not applicable, recourse can be had to the principles of English law on the subject of frustration. It must be held also, that to the extent that the Indian Contract Act deals with a particular subject, it is exhaustive upon the same and it is not permissible to import the principles of English law dehors these statutory provisions. The decisions of the English Courts possess only a persuasive value and may be helpful in showing how the Courts in England have decided cases under circumstances similar to those which have come before our courts. 
11. … The law of frustration in England developed, as is well known, under the guise of reading implied terms into contracts. 
12. ... The English law passed through various stages of development since then and the principles enunciated in the various decided authorities cannot be said to be in any way uniform. In many of the pronouncements of the highest courts in England the doctrine of frustration was held “to be a device by which the rules as to absolute contracts are reconciled with a special exception which justice demands”
15. … These differences in the way of formulating legal theories really do not concern us so long as we have a statutory provision in the Indian Contract Act. In deciding cases in India the only doctrine that we have to go by is that of supervening impossibility or illegality as laid down in Section 56 of the Contract Act, taking the word “impossible” in its practical and not literal sense. It must be borne in mind, however, that Section 56 lays down a rule of positive law and does not leave the matter to be determined according to the intention of the parties.
16. …When such an event or change of circumstance occurs which is so fundamental as to be regarded by law as striking at the root of the contract as a whole, it is the court which can pronounce the contract to be frustrated and at an end. The court undoubtedly has to examine the contract and the circumstances under which it was made. The belief, knowledge and intention of the parties are evidence, but evidence only on which the court has to form its own conclusion whether the changed circumstances destroyed altogether the basis of the adventure and its underlying object vide Morgan v. Manser – 1947-2-All ER 666 (L). This may be called a rule of construction by English Judges but it is certainly not a principle of giving effect to the intention of the parties which underlies all rules of construction. This is really a rule of positive law and as such comes within the purview of Section 56 of the Indian Contract Act.”
In M/s. Alopi Parshad and Sons Ltd. V. Union of India, the Supreme Court clarified that the courts have no powers to absolve a party from liability to perform a contract merely because the performance becomes onerous; the expressed covenants in a contract cannot be ignored only on account of unexpected and un-contemplated turn of events after the contract.
From a study of these principles, what emerges is the Doctrine of frustration is truly an aspect forming part of the law of discharge of contract by reason of supervening impossibility or illegality of the act agreed to be done and therefore is covered by the sweep of Section 56 of the Indian Contract Act. This concept and doctrine of frustration has therefore to be applied within very narrow limits. As was noticed supra, the factors which truly render the contract impossible of performance have all been spelt out in great detail. The prospects of dwindling profits from the contract all due to inflation of the procurement price of the raw materials clearly therefore is not a factor which falls within the purview of Section 56. The disappointed expectations of one of the parties to a contract who was required to supply the material to the other, do not, hence, lead to the frustration of the contract. A contract cannot be declared to have been frustrated all because its performance has become more onerous on account of unforeseen circumstances. In fact, this principle has been recognized by the Andhra Pradesh High Court in Merla Suramma v. Kakileti Sitaramaswamy and another and the Supreme Court in Naihati Jute Mills Ltd. v. Khyaliram Jagannath at page 528.  

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