D. A Modern Restatement: Risk-Allocation Analysis

• Author: John D. McCamus
• Profession: Professor of Law. Osgoode Hall Law School, York University
• Pages: 579-588

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The adoption of the Davis Contractors test in England and Canada effected a flat rejection of the implied-contract theory of frustration doctrine and its underlying assumption that one can determine whether performance is still required, notwithstanding the changed circumstances, by a careful examination of the parties’ intentions with respect to the matter. The Davis Contractors test places emphasis on whether the changed circumstances in which performance is called for would "render it a thing radically different from that which is undertaken by the contract."⁷¹Under the Davis Contractors test, then, emphasis shifts from an attempt, presumably futile, to determine what the parties actually intended with respect to the unforeseen event to a determination of the nature of the contractual undertaking of the affected party and whether the changed circumstances have radically changed the nature of that obligation. In determining the nature of the contractual undertaking, it will be necessary to engage in a careful construction of the terms of the contract. As Lord Reid noted in the Davis Contractors case: "It appears to me that frustration depends, at least in most cases, not on adding any implied term, but on the true construction of the terms which are in the contract read in the light of the nature of the contract and of the relevant surrounding circumstances when the contract was made."⁷²

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Application of the Davis Contractors test, then, sets in motion an exercise in construing the terms of the agreement with a view to determining whether the performance as envisaged by the contract has been radically transformed by the changing circumstances. Very little direct guidance is given in the Davis Contractors case itself, however, as to the manner in which this process of construction should proceed. A careful reading of the jurisprudence applying the doctrine of frustration, however, strongly suggests that the critical consideration is a determination of whether, on its proper construction, the agreement in question allocates the risk of the occurrence of the changing circumstances in question to either one of the parties. If the agreement assigns the risk to the party who wishes to be excused from performance, the agreement is enforceable against that party. If the risk has been assumed by the other party or by neither party, however, the doctrine of frustration may apply so as to excuse both parties from further performance.⁷³

Taking the facts of Krell v. Henry⁷⁴as illustrative, we may ask whether the risk of the non-occurrence of the coronation procession was assumed by either party. If it had been assumed by the renter, the owner of the rooms would have been entitled to enforce the agreement. If the risk was assumed by the owner or by neither party, the contract would be discharged by frustration and neither party would be liable for non-performance.

Although the centrality of risk-allocation analysis in the construction of agreements in the context of frustration cases is rarely acknowledged explicitly by the courts, there are occasional judicial statements acknowledging its importance. Thus, in National Carriers Ltd. v. Panalpina (Northern) Ltd.,⁷⁵for example, Lord Roskill made the following observations concerning the doctrine of frustration:

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The doctrine is principally concerned with the incidence of risk - who must take the risk of the happening of a particular event especially when the parties have not made any or any sufficient provision for the happening of that event? When the doctrine is successfully invoked it is because in the event which has happened, the law imposes a solution, casting the incidence of that risk on one party or the other as the circumstances of a particular case may require, having regard to the express provisions of the contract into which the parties have entered.⁷⁶Reference to the incidence of risk is much more likely to occur, however, when courts refrain from applying the doctrine. In explaining the reason for refusing to permit the party wishing to be excused from a duty to perform to rely on the doctrine of frustration, courts often explain that the risk of the changing circumstances in question has been assumed by that party. Thus, in Davis Contractors itself, the House of Lords held that the risk of delay in construction is one borne, in the circumstances of that case, by the contractor. Lord Reid observed as follows: "In a contract of this kind, the contractor undertakes to do the work for a definite sum and he takes the risk of the cost being greater or less than he expected."⁷⁷Similarly, Lord Radcliffe observed: "To my mind it is useless to pretend that the contractor is not at risk if delay does occur, even serious delay."⁷⁸Cases such as Davis Contractors not only signal the importance of risk-allocation analysis to the construction of agreements in the frustration context, but they also indicate the kinds of factors that courts will take into account in determining the incidence of risk. Thus, Davis Contractors indicates that a performer assumes the risk of circumstances making performance more onerous of a kind that are normal or even somewhat abnormal in the industry in question. If, on the other hand, the circumstances are utterly abnormal, the doctrine of frustration may apply. In Davis Contractors, Lord Reid observed, "[i]t may be that delay could be of a character so different from anything contemplated that the contract was at an end, but in this case, in my opinion, the most that could be said is that the delay was greater in degree than was expected."⁷⁹

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Similar points were made in the 1922 decision of the Supreme Court of Canada in Canadian Government Merchant Marine Ltd. v. Canadian Trading Co.⁸⁰The defendant had contracted to transport lumber for the plaintiff to Australia in two vessels then under construction by a third party. In the event, the vessels were not ready on time and the defendant was unable to undertake the voyages in question. The defendant’s attempt to defend against the plaintiff’s claim for damages on the basis of frustration doctrine failed. Although dressed in the language of the implied term theory, Duff J. alluded to risk allocation in the following terms: "it is most important to remember that no such terms should be implied when it is possible to hold that reasonable men could have contemplated the taking the risk [sic] of the circumstances being what they in fact proved to be when the time for performance arrived."⁸¹There was nothing in the evidence to indicate that the delay and the completion of the vessels arose from any extraordinary occurrence. Thus, Duff J. suggested that the destruction of the vessels by fire might well constitute a different case. As a general matter, then, performance that is rendered more onerous by changing circumstances that are foreseeable are not likely to ground a frustration defence.⁸²The mere fact that a particular change in circumstance was foreseeable or foreseen may not necessarily lead to the conclusion, however, that the risk of its occurrence has been assumed.⁸³Further, some cases suggest that a change in circumstances that reduces, but does not eliminate, the value of performance for the other party will not constitute frustration. In one of the coronation cases, Herne Bay Steamboat Company v. Hutton,⁸⁴the defendant had chartered a boat for the purpose of taking passengers on a cruise to see the naval fleet and a Naval Review associated with the coronation of Edward VII. With the cancellation of the Naval Review, the defendant refused to

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go ahead with the transaction. The owner’s claim for the rental charge succeeded, however, on the basis that a day’s cruise around the fleet retained some value even in the absence of the Naval Review. Similarly, in Claude Neon General Advertising Ltd. v. Singh,⁸⁵a contract to construct and lease a neon sign to a restaurant was not frustrated when wartime lighting restrictions prohibited the use of outdoor lighted signs between sunset and sunrise. The sign remained of value during the hours of sunlight.

The cases applying the doctrine of frustration also offer evidence of factors relevant to a risk-allocation analysis. The...