This article discusses drafting solutions that lawyers can adopt when drafting joint development agreements for real estate to ensure that their clients can be quickly compensated for opportunity costs if the other party fails to fulfill its obligations.

Keywords: Breach of Contract, Reciprocal Promises, Real Estate Development

Reference: Indian Contract Act, Section 54, Illustration a

Indian Contract Act, Section 54:

Section 54 of the Indian Contract Act deals with agreements that contain reciprocal promises. The Section provides that where the reciprocal promises are of such a nature that one cannot be performed, or its performance claimed, till the other promise is performed, then the party that fails to perform the first promise cannot enforce performance of the reciprocal promise.

Section 54 further states that the party that has failed to perform its promise is also liable to pay compensation to the other party.

Section 54, Illustration a

“A contracts with B to execute certain builder’s work for a fixed price, B supplying the scaffolding and timber necessary for the work. B refuses to furnish any scaffolding or timber, and the work cannot be executed. A need not execute the work, and B is bound to make compensation to A for any loss caused to him by the non-performance of the contract.”

In the above illustration, it would be reasonably easy for a judge or arbitrator to come to a finding that B is in breach of the contract. However, determining the amount of compensation B would be entitled to recover from A would require substantial oral and documentary evidence to be led.

Modern-day Illustration:

A and B agreed to construct a residential building on a plot of land that A owned. Per the agreement, A was to finance the project and get the requisite permissions, and B was to carry out the actual construction. B mobilized the necessary labor and machinery. However, A was unable to get the necessary permissions and therefore refused to provide the necessary finance.

B terminated the agreement and sued A for compensation for the cost incurred in mobilizing the resources for the project and compensation towards loss of profit.

Analysis:

As was the case with the illustration to section 54, it would be fairly straightforward for a judge or arbitrator to arrive at a finding that A has breached the agreement. However, B would need to lead substantial evidence to provide its compensation claims, especially its claims for opportunity costs.

It is pertinent to note that, when it comes to construction (not just real estate) contracts, the courts have adopted various methods to compute the loss of profit. Three methods of calculation have received wider acceptance than others. They are the Hudson Formula, the Eichleay Formula, and the Emden Formula. Each formula has its pros and cons. The Supreme Court of India expressed its approval for the Emden Formula in McDermott International Ltd v. Burn Standard Co. Ltd [(2006) 11 SCC 181]. However, it clarified that the appropriate formula for a particular case would depend on the case’s facts.

Unfortunately, in most cases, even to apply any of the above formulae, the injured party has to lead substantial evidence to prove its computation of the formulae’s components. However, this can be avoided if the agreement itself quantifies the expenses likely to be incurred and profit likely to be earned.

The Drafting Solutions:

Solution 1 – Makes It Easy To Quantify Compensation

To make a real estate development agreement like the one in the example rapid resolution friendly, the agreement must contain clauses that make it easy for the arbitrator to determine the compensation and damages to which a party would be entitled. This would include compensation towards expenses incurred by the parties and the party’s share in the profits that it would have received if the project had been completed.

This can be done by incorporating into the contract:

1. Expert estimation of the project’s cost in the contract, including a breakup of the expenses that each party would likely incur. This estimate of expenses should also include the cost of maintaining machinery and labour on the site. In the event of a delay, the party responsible for labour and machinery can claim compensation for the delay period.
2. An estimation of the expected profit that the project would earn.
3. A formula for calculating the loss of profit or opportunity costs

If the project costs, break up of expenses that each party would incur, and expected profit, is included in the contract, it would enable an arbitrator to compute the compensation payable to the injured party quickly

Solution 2 – Accelerates The Dispute Resolution Process

The agreement gives the claimant the right to ask for the arbitrator’s appointment by a named institution or ODR platform; and for such appointment to be made within 35 days of receipt of the defendant receiving notice.

In these cases, it will better serve the parties if the institution or ODR platform promises a process that binds the arbitrator to rapid resolution. Platforms often do this by minimizing oral hearings, not accepting documentation delays, and not allowing adjournments unless in emergencies.

Conclusion:

Disputes arising from contracts for development or redevelopment of real estate need not be lengthy or expensive to resolve. Incorporating a few additional clauses to remove ambiguities will ensure that parties do not need to lead substantial evidence, so they can even be resolved using Online Dispute Resolution

Simple Explainer for the Layman:

Kumar Properties and Anand Builders agreed to construct a residential building on a plot of land that Kumar Properties owned.

Per the agreement, Kumar Properties was to finance the project and get the requisite permissions, and Anand Builders was to carry out the actual construction.

Anand Builders mobilised the necessary labour and machinery. However, Kumar Properties was unable to get the necessary permissions and therefore refused to provide the project’s finance. The profits from the project were to be sole 70/30 in favour of Kumar Properties.

Anand Builders terminated the agreement and sued Kumar Properties for compensation for the cost incurred in mobilising the project’s resources and compensation towards loss of profit that it would have earned had the project been completed.

Unfortunately, while it was reasonably easy for the arbitrator to find that Kumar Properties breached the contract, Anand Builders had to lead substantial evidence to prove its compensation claims.

This also could have easily been done if the contract incorporated:

1. Expert estimation of the project’s cost in the contract, including a breakup of the expenses that each party would likely incur. This estimate of expenses should also include the cost of maintaining machinery and labour on the site so that in the event of a delay caused by the other party, the party responsible for labour and machinery can claim compensation for the delay period.
2. An estimation of the expected profit that the project would earn.
3. A formula for calculating the loss of profit or opportunity costs

If the contract had incorporated the above, a judge or arbitrator would have quickly arrived at a finding on the damages payable to Anand Builders. Anand Builders would not have had to lead substantial evidence to prove its claims.

About the article

Rapid Contract Enforcement is an essential requirement for the growth and prosperity of India. It will enable more investment, entrepreneurship, and trust for all stakeholders in business and commerce. The community of lawyers in India does not have access to a practical and scholarly manual that gives them a path to deliver rapid contract enforcement to their clients. Such a manual will also help lawyers to draft contracts that enable timely enforcement. Rapid enforcement requires the effective use of the Arbitration Act, the institutional framework, and technology-enabled dispute resolution infrastructure. This article belongs to a series where the author analyses each of the Illustrations available in the Contract Act and recommends practical approaches to rapid enforcement.

About the Author:

Dushyant Krishnan is a Mumbai based lawyer and the co-founder of House Court, an online dispute resolution platform.