The usage of formulae such as Hudson's, Emden's, or Eichleay's formulae to ascertain the loss of overheads and profits has been judicially approved in the English cases of Peak Construction (Liverpool) Ltd. v. McKinney Foundations Limited (1970) 1 BLR 114, Whittal Builders v. Chesterle-Street District Council (1987) 40 BLR 82, and JF Finnegan Ltd. v. Sheffield City Council (1988) 43 BLR 124 and in the Canadian case of Ellis- Don v. Parking Authority of Toronto (1978) 28 BLR 98. The three formulae deal with theoretical mathematical equations, but are based on factual assumptions, and therefore can produce three different and unrelated compensation/damages. Therefore, while applying a particular equation or method, the assumptions should be examined, and the satisfaction of the assumption(s) ascertained in the facts and circumstances. {Para 21}
22. The formula suggested by Hudson in his 10th edition of the book Building and Engineering Contracts for the computation of damages takes the head office and profit percentage as a proportion of the contract value. The formula assumes that the profit judged by the builder/contractor is in fact capable of being earned by her/him elsewhere had the builder/contractor been free to leave the contract at the proper time. The formula is couched on three assumptions. First, that the contractor is not habitually or otherwise underestimating the cost when pricing; secondly the profit element was realistic at that time; and lastly, there was no fluctuation in the market conditions and the work of the same general level of profitability would be available to her/him at the end of the contract period. Satisfaction of these assumptions should be ascertained when we apply Hudson's formula for computing the damages. Material should be furnished by the claimant to justify and assure that the assumptions for applying Hudson's formula are met.
23. Ordinarily, when the completion of a contract is delayed and the contractor claims that s/he has suffered a loss arising from depletion of her/his income from the job and hence turnover of her/his business, and also for the overheads in the form of workforce expenses which could have been deployed in other contracts, the claims to bear any persuasion before the arbitrator or a court of law, the builder/contractor has to prove that there was other work available that he would have secured if not for the delay, by producing invitations to tender which was declined due to insufficient capacity to undertake other work. The same may also be proven from the books of accounts to demonstrate a drop in turnover and establish that this result is from the particular delay rather than from extraneous causes. If loss of turnover resulting from delay is not established, it is merely a delay in receipt of money, and as such, the builder/ contractor is only entitled to interest on the capital employed and not the profit, which should be paid. The High Court of Justice Queen's Bench Division in the case of Property and Land Contractors Ltd. v. Alfred McAlpine Homes North Ltd. (1995) 76 BLR 59 succinctly points the in-exactitude of Hudson's formulae, by observing:
Furthermore the Emden formula, in common with the Hudson formula (see Hudson on Building Contracts, (11th edn, 1995) paras 8-182 et seq) and with its American counterpart the Eichleay formula, is dependent on various assumptions which are not always present and which, if not present, will not justify the use of a formula. For example the Hudson formula makes it clear that an element of constraint is required (see Hudson para 8.185) ie in relation to profit, that there was profit capable of being earned elsewhere and there was no change in the market thereafter affecting profitability of the work. It must also be established that the contractor was unable to deploy resources elsewhere and had no possibility of recovering cost of the overheads from other sources, eg from an increased volume of the work.
Thus such formulae are likely only to be of value if the event causing delay is (or has the characteristics of) a breach of contract.
24. As mentioned in McDermott International Inc., Hudson's 11th Edition has referred to Eichleay formula, which gives the resultant figures with greater precision and accuracy. This formula, which emerged in 1960s12, is far more nuanced and rigorous, as it requires the builder/contractor to itemise and quantify the total fixed overheads during the contract period. It takes into consideration all the contracts of the contractor/builder during the contract period with those of the individually delayed contract to determine the proportionate faction of the total fixed overheads. However, in both Hudson's and Eichleay's formulae, the amount to be recovered is determined weekly or monthly, which the delay in the contract completion is expected to earn.
25. Hudson's formula might result in double recovery as the profit being added to the profit is already subsumed within the 'contract sum'. To avert this double-recovery, it has been suggested that the formula should be modified to 'contract sum less overhead and profit'13. Any increase in the value of the final account for extra works such as variations contain their own element of overheads and profits. Therefore, Hudson's formula like other formulae, which are only rough approximations of the cost impact of unabsorbed overhead, should be applied with great care and caution to ensure fair and just computation.14
26. Hudson in his 14th Edition refers to claim for management or overheads during the period of delay. The author has referred to Hudson's formula as well as Eichleay's formula, and observes that recently limitations of Hudson's approach have received greater emphasis as the English courts have become more generous in their approach and assessment of claims for time management. The authors accept what has been highlighted above, and the need to take care in delay cases to avoid any double recovery, overlap with other claims, or when payments are obtained by the contractor on account of variation(s), or any damages for breach have to be concluded by using contract price. "Thickening", by adding unreasonable expenses, should not be accepted. It is observed that in the total cost method, there is difficulty in linking cause and effect convincingly, albeit is more precise and factually accurate. Thus, Hudson's method should be taken as the basis for computation with caution and as a last resort, where no other way to compute damages is feasible or mathematically accurate. Inaccuracies in Hudson's computation should not be overlooked, and should be accounted and neutralized. Hudson's formula when applied should be with full care and caution not to over-award the damages.
Ratio: The Supreme Court, while deciding the matter pointed out various errors of patent illegality in the award. While doing so, the Supreme Court also made some key findings on award of loss of profits & overheads in such cases. Certain key issues highlighted by Court were as under:
1. It is true that the method of computation of damages falls within the domain & decision of the arbitrator, but the same should not be whimsical & absurd resulting in a windfall bounty for one party at the expense of the other. The computation should not be disingenuous.
2. The principle is that the sum of money awarded to the party who has suffered injury, should be commensurate as to what s/he would have earned if s/he had not sustained the wrong complained of.
3. Where the breach by the employer is not fundamental, & does not entitle the contractor to cease work/repudiate the contract, then in such cases the compensation or damages is the loss of profit arising from reduced profitability or added expense of work carried out.
4. The usage of formulae such as Hudson’s, Emden’s or Eichleay’s to ascertain loss of overheads or profits is certainly judicially approved, but these are based on certain factual assumptions. Therefore while applying them, the assumptions need to be examined.
5. The Hudson’s formulae for instance, assumes that FIRST: the contractor is not habitually or otherwise underestimating cost when pricing, SECOND: the profit element was realistic at that time, LASTLY: there was no fluctuation in the market conditions & the work of the same general level of profitability would be available to him/her at the end of contract period. Therefore satisfaction of these assumptions needs to be ascertained when applying the Hudson’s formula.
6. The contractor has to prove these assumptions by showing for instance, that there was other work available which he would have secured, but for the delay (produce NITs etc). This can also be proven from books of accounts demonstrating a dip in turnover.
IN THE SUPREME COURT OF INDIA
Civil Appeal No. 1968 of 2012
Decided On: 21.09.2023
Batliboi Environmental Engineers Limited Vs. Hindustan Petroleum Corporation Limited and Ors.
Hon'ble Judges/Coram:
Sanjiv Khanna and M.M. Sundresh, JJ.
Author: Sanjiv Khanna, J.
Citation: MANU/SC/1043/2023,2023INSC850.
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