BY RIYA MANUJA
The epidemic of Coronavirus from Wuhan, China, and with the recent spread in India has wedged the business sentiment ruthlessly. With a dipped number of site visits due to the virus outbreak lockdown, all novel unveilings have been put at bay, all construction has come to a crashing halt as associated industries such as heavy machinery, steel and supplementary raw materials including technical construction equipment, plastic and fibre elements, solar panels, electronic equipment are deeply dependent on Chinese import.
Statistics and Intensity
With 928.38 million tons (MT) as the production capacity in 2018, China has been the largest producer of steel. India is the second-largest producer, lags relentlessly concerning the production capacity standing at 106 million tons. Very heavy reliance on China for steel and its products is a serious cause of concern for the industry amid the Coronavirus outbreak. The prices in the allied industries are certain to rise thereby increasing the cost and decreasing the profit margins since the production in China has been going down recently in the Real Estate Sector. An outstanding price pressure will be created on the metal prices globally due to the economic slowdown in China.
According to a CBRE report, the real estate decisions, construction and new launches will be delayed and restricted. However, the report hints that mainland China will be comparatively more affected by the outbreak, and the neighbouring countries might only have a temporary short-term transitory dip in business activities.
Factors like passive demand conditions, a high stock outcropping, the dominant liquidity crunch, weak affordability; already had a severe impact on the residential real estate sector. The Coronavirus outbreak is expected to further intensify the feebleness of the sector. A considerable restraint owing to the ongoing mayhem caused by COVID-19 outbreak and subsequent lockdowns shall be faced by sales and collections both.
Impact and Resolution
However, there will be a resulting overall deterioration in net cash flow due to condensed construction outflows, attributable to a slowdown in project execution activity. The RBI also provides comfort on overall developer cash flows during this period wherein a three-month moratorium on term loan instalments has been announced.
The Government of India announced and implemented world’s largest ‘total lockdown’ to fight Coronavirus and ICRA[1] believes that in case of a longer outbreak though, the effect on overall economic activity is likely to be deeper and more unrelenting, resulting in a more noteworthy influence on developer cash flows and project execution abilities, giving rise to wider credit negative implications.
Only expanded developers with strong balance sheets and ample liquidity are expected to be better-positioned in managing risks arising out of this lockdown, including reductions in collections and disruptions in project performance than developers which are comparatively rated lower with weaker balance sheets to engage the cash flow interruptions arising from a prolonged epidemic.
Especially, RERA guidelines provide for a one-year extension in timelines for project execution, in case of uncertain events that are beyond the control of the promoter. Thus, reducing regulatory risks in case of short-term disruption.
Future Speculations
Coronavirus has infected more than twelve lakh people worldwide and has claimed over 69,509 lives across the globe. The business sentiment is severely impacted and also the World Health Organisation (WHO) declaring COVID-19 a ‘global health emergency’ and domestic governments declaring subsequent lockdowns. A great deal of uncertainty regarding import, trade and business worldwide has occurred and emergence out of the same is the goal ahead of us. The real estate industry also is not spared. Future investments, production, construction and other activities are subject to huge scepticism. This ambiguity sure will have a direct bearing on the prices of all articles used in the construction industry in India.
A notification dated February 19, 2020 issued by the Government of India, Ministry of Finance, Department of Expenditure, Procurement Policy Division, “force majeure is characterized as a natural calamity”. Where unforeseeable circumstances occur, resulting in preventing someone from fulfilling a contract. Usual fluctuations in the economy do not lead to a force majeure event, the present situation stands within the ambit of invoking a force majeure.
With the outbreak of COVID-19, performances under many contracts will be sporadic, overdue, or even cancelled.
The counterparties to such contracts may seek to postpone or evade performance (or the liability of non-performance) of their obligations arising out of the Contract or terminate contracts legitimately because of the global pandemic of COVID-19, or to use the same excuse as a defence to disengage themselves from an uncomplimentary transaction. And so, the companies also might not be able to carry out their obligations under customer agreements and parties may renegotiate the contractual terms; owing to the same. With respect to the residential and commercial aspects in real estate, Force Majeure clauses are predominantly found in non-residential leases and infrequently in the residential leases. For all leases without incorporation of the Force Majeure clauses, the doctrines of impracticability, the frustration of purpose and/or impossibility from the common law may still be applicable to acquit from contractual obligations.
The Doctrine of Frustration acts as a cure for risky events that have transformed the purpose of the contract, substantively dissimilar than what the parties had originally intended while they entering.
The English Law governed judgment; Phillips P.R. Core, Inc. v. Tradax Petroleum Ltd.[2], it was observed that generally, the basic purpose of invoking force majeure clauses is to discharge a party from performing its contractual obligations by reason of a preventive force beyond its control or when the purpose of the contract has been frustrated.
In Naihati Jute Mills Ltd. v. Hyaliram Jagannath[3], the Supreme Court by referring to the English law on frustration concluded that merely because of modification or alteration of the circumstances prevalent at the time when the contract was entered into, the contract cannot be held as frustrated. The courts have no power to pardon a party from its part performance of the contract simply because its performance has become arduous on account of an unanticipated turn of events.
Section 56 of the Indian Contract Act talks about ‘Impossibility of performance of contracts because of some event which was not foreseeable’. Section 32 talks about ‘Contingent contracts’ with uncertain future events attached.
Section 56 of the Indian Contract Act, 1872 infers to the impossibility of contract performance due to certain unescapable events i.e., “A contract to do an act which, after the contract is made, becomes impossible, or, because of some event which the promisor could not prevent, unlawful, becomes void when the act becomes impossible or unlawful”. In the current time and in the months followed by it, Coronavirus outbreak and global reach act as a definite impossibility to render contractual obligations. Section 32 of the Indian Contract Act, 1872, states that “Contingent contracts to do or not to do anything if an uncertain future event happens, cannot be enforced by law unless and until that event has happened. Contingent contracts to do or not to do anything if an uncertain future event happens, cannot be enforced by law unless and until that event has happened”, will be pertinent in insurance and indemnity scenarios.
The RBI has cut the Repo Rate and Reserve Repo Rate by 75 basis points and 90 bps, respectively[4]. The current RR is 4.4% and the RRR is 4%. The last rates were cut by the RBI in its Monetary Policy Review last October. This Monetary Policy Review of the apex bank was brought forward in wake of the pandemic which was to take place on March 31, 2020 and April 3, 2020 originally.
The Real Estate Sector is considered to be a sector involving high risks due to the many price fluctuations and the investors here find themselves credit-starved. The extensions provided to restructuring intervals on MSME loans and projects in the commercial real estate sector is aimed at releasing capital for banks in the short term.
COVID-19 sure will lead to a global economic slowdown because of massive loss of lives, lockdown impact and stressed reallocation of resources to various sectors but with Government resolutions and mutual effort, the economy shall again rise
[1] ICRA Limited is an Indian independent and professional investment information and credit rating agency. It was established in 1991, and was originally named Investment Information and Credit Rating Agency of India Limited
[2] 782 F.2d 314, 319 (2d Cir. 1985) [15]
[3] 1968 (1) SCR 821[13]
[4] 100 basis points/bps = 1 per cent
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