COMPUTATION OF LOSS IN BREACH OF CONTRACT.

The confusion and the legal corundum for computing the loss and profit during breach of contract on account of delay in execution the work, causing extra expenses and losses has been an intrinsic task for the arbitrators who end up granting more than the required amount without giving proper reasoning and justification.

It is a settled law that a party claiming loss has to establish breach. And once breach is established the aggrieved party can claim compensation as envisaged under section 73 & 74 of the Indian Contract Act, 1872.

The Supreme Court has also opined that reasonable expectation of profit is implicit in a works contract and if the other party to the contract is guilty of breach of contract, loss has to be compensated by way of damages   (see .T. Brij Paul Singh v. State of Gujarat, (1984) 4 SCC 59 and Dwaraka Das v. State of M.P., (1999) 3 SCC 500,)

What is the correct manner in how the arbitrator can compute the quantification of loss on account of overhead, profit/profitability for  inordinate delay.

The SC in Batliboi Environmental Engineers Ltd. v. Hindustan Petroleum Corpn. Ltd., 2023 SCC OnLine SC 1208, discussed the principles and formulae for computing a claim for increased overheads and loss of profit in a works contract. 

Reiterating MCDERMOTT INTERNATIONAL INC. v. BURN STANDARD CO. LTD. AND ORS. (2006)11 SCC 181 it was observed that the method for computing damages would depend upon the facts and circumstances of each case: It elaborated different formulas that are used to compute the same i.e.

i. Hudson Formula: Contract head office overhead & Profit percentage  x contract sum/period of delay x period of delay.

ii. Emden Formula: Head office overhead and profit/100 x Contract sum/Contract Period x Period of delay.

iii. Eichleay Fromula:

a) Step 1 Contract billings/total billings fro contract period x total overhead for contract period = overhead allocable to the contract

b) Step 2: Allocable Overhead /total days of contract = Daily overhead  rate.

c) Step 3: Daily contract Overhead rate x Number of days of delay = Amount of unabsorbed overhead.

Khanna J, observed that the above methods deal with theoretical mathematical equations based on factual assumptions and can produce three different and unrelated compensation and damages. These methods have been judicially approved in English and Canadian cases

One ought to before applying any of these methods or formulas, examine the assumptions established as per the facts and circumstances of the case.,

The bench observed that cases with respect to time being essence of the contract, and computation of damages caused by breach of contract (Sec 55 and 73 Indian Contract Act,1972), since these sections do not lay the mode and the manner to compute damages for compensation, it should be computed by the arbitrator upon stringently attending to the facts, circumstances and the methods to compute damages.

In Batliboi(supra), the SC upholding and reiterating the observation in Mcdermott held that computation of damages should not be whimsical or absurd resulting in a windfall and bounty for one party at the expense of the other. It should be adequately sustain the loss and the the party claiming damages is only entitled to the loss sustained to the extent money can compensate. Relying on Robinson v harman (1848) 1 Ec 850 which held that ‘the sum of money awarded to the party who suffered injury should be the same quantum as s/he would have earned or made, if s/he had not sustained the wrong for which s/he is getting compensated.’

COMPUTATION OF DAMAGES IN CASE OF PARTIAL PREVENTION

In cases of computing of damages where the breach by the employer is not fundamentally fatal and is not treated as repudiated or terminated, the employer is still entitled to raise claim of loss of profit of the uncompleted work. While applying a suitable required formula, the assumptions have to be examined and satisfied, after ascertaining the facts and circumstances.
As per Sanjiv Khanna J, while applying the Hudsons formula it would bon the basis of assumptions of profits capable of being earned by the aggrieved party, he canvased three assumptions:

1. The contractor is not habitually or other wise underestimating the cost when pricing,

2. The profit element was realistic at that time,

3. There was no fluctuation in the market conditions and the work at the same level would be available at the end of the contract.

It observed that the Eichleay formula gives more precise calculation than Hudson (also see Mcdermott).The Hudson’s formula only grants rough approximations of the cost impact of unabsorbed overhead and should be applied with great care and caution where no other way to compute damages is feasible or mathematically accurate and should be taken as a last resort

Thus, the SC opined that while claiming compensation for the loss incurred the the party has to prove that:

1. There was other work available that he would have secured if not for the delay,

2. By producing invitation to tender which was declined due to insufficient capacity to undertake the work.

3. The above could be proved from the books of accounts to demonstrated a drop in turnover and establish that this result is from the particular delay rather than from extraneous delay.

4. If loss of turnover resulting from delay is not established, it is merely a delay in receipt of money, and as such, the aggrieved party would only be entitled to interest on the capital, employed and not the profit, which should be paid.

therefore, the arbitrator or the court while awarding the aggrieved party for loss/injury of contractor on account of delay should be first proved in the manner as elucidated above and the correct computation of damages would be that the sum of money awarded should be the same quantum as the aggrieved party would have earned or made if it had not sustained the wrong which it was getting compensated for.