K.N. SATHYAPALAN (DEAD) BY LRS v. STATE OF KERALA AND ANOTHER [(2007) 13 SCC 43]

The Concept

This is a landmark case that deals with the interpretation of implied terms in a contract. We know that ordinarily, parties would be bound by terms agreed upon in contract, but in event one of parties to contract is unable to fulfil its obligations under contract which has a direct bearing on work to be executed by other party, the Court or the Arbitrator is vested with authority to compensate second party for extra costs incurred by him as a result of failure of first party to live up to its obligations.

This is because the law takes into account unforeseen circumstances that were not present when the contract was entered into. These circumstances can be natural, man made or a combination of both. Let us see how the Court interpreted this in the following case- 

Facts

The  Appellant who was a contractor had entered into an agreement with the State of Kerala  for some construction work. The time period given for completion of work was eleven months.

However the same could not be completed on the scheduled dates as the State failed to make proper arrangements for the timely completion of the work. Under Clause 50 of the General Conditions of the Original Contract the Contractor sought an extension of time. 

Clause 50 of the General Conditions of Contract provided that an appropriate extension of time would be given  if failure to complete the work was the result of delays on the part of the Government in supplying materials or equipment it had undertaken to supply under the contract.

The Respondent State extended the time of completion of the work but inserted a condition that the contractor cannot claim any extra money that he had to incur on the basis of this delay. This was done by a Supplemental Agreement. The Appellant had no option to sign it as he had to finish the work on time but he registered a protest.

The matter was referred for arbitration. The Arbitrator in this case was the sole arbitrator. The Arbitrator awarded the compensation to the Appellant for the delay faced in completion of work. Subsequently, the Appellant filed a suit for passing a decree in terms of the award. The State of Kerala filed a petition challenging the award and for setting aside the same.

Issues

Whether in the absence of any price escalation clause in the Original Agreement and a specific prohibition to the contrary in the Supplemental Agreement, the  Appellant could have made any claim on account of escalation of costs?

Arguments by the Appellant

  • The  Appellant had suffered huge losses due to law and order issues and was compelled to finish the work under duress.
  • The Respondents did not provide rubble or a suitable place for dumping excess Earth. If they had done their part, the additional costs would not have been incurred. 
  • Even if there is no express contractual provision to the effect, it is within the powers of the court to grant relief based on escalation of price resulting from interruption of the project. 
  • Even in the absence of any escalation clause, it could be seen that the price escalation was due to the inactivity of the respondents and hence, the arbitrator was well within his rights to take note of the ground realities and award escalation costs.

Arguments by the Respondent

  1. The Original Agreement did not provide for such escalation and the Supplemental Agreement also maintained that no extra costs will be entertained
  2. The government was not  responsible for the delay, it was solely due to the problems between the Contractor and his workmen without any role of the government. 
  3. No provision had been made in the contract for escalation of costs and the supplemental agreement specifically barred the contractor from asking for increased costs. As no express provision was present, the arbitrator wrongly allowed some of the claims of the  Appellant. 

Judgment

The Hon’ble Court allowed the Appeal based on following reasons:

  1. As one of the parties failed to fulfill its obligations and such failure had direct impact on the work to be performed by the second party, the awarding of extra costs by the arbitrator is valid. 
  2. The court took notice of the unforeseen circumstances that prevented the  Appellant from completing the work within the stipulated period of eleven months and maintained that such delay could have been prevented had the State Government stepped in to maintain the law and order problem which had been created at the work site 
  3. The Contractor had full intention of completing the work on time but he met with adverse site conditions which are not usual at construction sites.
  4. Though, there was no escalation clause present in the contract, the arbitrator’s decision of awarding escalated costs was not out of the scope of the contract. As it was due to the respondents’ conduct that there was delay in execution of the contract, it was fair to hold the respondent liable for the consequences of such delay, that is, the increase in prices. As the award of escalated costs and prices arose incidentally  (delay caused due to respondents), the claim was not outside the scope of the original contract.  
  5. The Kerala High Court gave a rigid interpretation to the terms of the contract and the Supplemental Agreement. The contract did not have any price escalation clause and the supplemental agreement specifically barred increase in prices. However, the High Court failed to see that the increase in prices occurred as a result of the delay caused by the Respondent and hence, it was a consequence arising out of the contract itself. Thus, the turn of events, which led to the delay in execution, warranted an increase in prices, irrespective of the absence of a specific clause to this effect. 

Reflective Question 

Would the decision be different, if the Respondent was not at fault?