On July 27, 2020, the Ministry of Defence (“MoD”) released the draft Defence Acquisition Procedure 2020 (“DAP 2020”) which is expected to come into force on September 1, 2020.
One of the important changes introduced in the Standard Contract Document of DAP 2020 is the provision granting the Buyer (i.e. the MoD) the right to terminate a contract in public interest. Even though the heading of the clause indicates that the right should be exercised only in “public interest”, the actual provision does not even use the phrase “public interest” let alone define it. This provision as recorded under Clause 22A.7 essentially states that “The BUYER shall have the right to Terminate the Contract in whole or in part at any time by giving the SELLER a written notice, [•] days prior to such Termination”. It effectively bestows a unilateral right to the MoD to terminate the contract at will. Ignoring the obvious and potentially confusing disconnect between the provision and the clause title, this provision strikes at the root of the contract and the certainty such contracts are expected to provide to both the parties.
Unlike umbrella commercial contracts (under which specific purchase orders are issued) or lease deeds where “termination at will” may be meaningful, in large and sensitive procurement contracts with multiple associated contracts, this provision can only lead to irreparable loss to the vendor. In that respect inclusion of such a provision is an aberration in the realm of public procurement. It stands in stark contrast to guidelines stipulated by the Manual for Procurement of Goods 2017 stating in relation to public procurement that in case of termination for convenience the seller “has to be persuaded to acquiesce”. Though termination at will is not unheard of in the context of government contracting, having such a provision in procurement contracts for large defence platforms, appears to be unreasonable and counter-productive.
Essentially, an unfettered right to terminate the procurement contract, makes the contract meaningless for the vendor and will have adverse impact on defence sector procurement. To spell out a few adverse consequences, this provision may severely disincentivise vendors from participating in procurements by MoD, extend timelines of contract negotiations and where the MoD exercises its “at will” termination right, eventually resulting in long and painful disputes.
Generally, large defence procurements involve mobilisation of massive resources, both financial and otherwise. Multi-layered supply chains and a web of interdependent entities all working together result in expensive and complex defence equipment being finally delivered to the MoD. Even if the MoD inserts a one sided and arguably unreasonable termination clause in its Standard Contract Document, it would not be practically possible to insert similar provisions in terms of contracts between the main vendor and its sub-vendors down the supply chain. A termination at will in this context, by the MoD will result in a chain reaction which will result in an unfathomable risk and potential liability for the main vendor and its many sub-vendors, group entities and contractors. Similarly, the termination clause does not specify how the other related obligations such as obligations under the offset contract will be compensated for. Huge sums may have been spent by a vendor in satisfying its offset obligation and the provision fails to explain how vendors will recover such offset spends which are no longer required to be satisfied.
Further, in skewing the contract even more in favour of the Buyer, in the context of this termination clause, DAP 2020 limits the MoDs total liability under the contract to “the subsequent stage payment due for the equipment payable under the Contract (or relevant part), including any sums due or becoming due to the SELLER at the date of Termination”. Therefore, the MoD will not be liable for any related losses such as massive offset spends or other mobilisation costs. In such a circumstances, one indeed wonders why vendors would subject themselves to such unquantifiable losses.
Moreover, the adverse impact of this provision is compounded by granting the MoD, upon termination, sole discretion to choose to take over from the Seller, at a fair and reasonable price, all unused and undamaged Goods in the course of manufacture that are in the possession of the Seller or supplied to the Seller, at the date of termination. However this fair and reasonable price shall be “as assessed by licensed valuers/surveyors, appointed by the BUYER” and any dispute arising due to difference or disagreement on “fair and reasonable” price, shall be settled as per the dispute resolution procedure. How an arbitral tribunal, which usually consists of legal experts as opposed to valuation professionals, perform a purely accounting and valuation function of determining a fair and reasonable price is anyone’s guess.
In summary, though it is not unusual to have provisions which are heavily skewed in favour of the government in public procurements, a unilateral right to terminate with no or limited right to compensation would make contracting with the MoD a highly uncertain affair. Large corporations may asses the risk to outweigh the rewards. One should also keep in mind that historically, defence contracts in India have been mired in a disproportionate amount of controversy. Opposition parties, media and other pressure groups invariably question large defence contracts and make allegations of wrongdoing and corruption.
In such an environment, having such a provision in a contract is equivalent to handing over a loose cannon to the MoD. Every time the government changes or there are adverse reports on a contract, MoD can unilaterally terminate the contract. As a result the potentially damaging impact of this provision on the nascent Indian defence industry cannot be overstated.
Contributed by: Kanishk, Partner; Aditya Mitra, Associate.
This is intended for general information purposes only. The views and opinions expressed in this article are those of the author/authors and does not necessarily reflect the views of the firm.
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