Series on Boiler Plate Clauses – Part 2

SEVERABILITY

In Part 1 of our series on Boiler Plate Clauses, we discussed the assignment clause in a contract. In Part 2 of our series, we shall discuss another important boiler plate clause – Severability.

Look at any of standard commercial agreement and it will contain a severability clause. A severability clause severs invalid, illegal or unenforceable provisions, while preserving the validity of the remainder of the agreement. It provides the method of dealing with an invalid provision of the agreement, whilst maintaining the essential purpose of the agreement. Also referred to as the “Savings Clause”, a severability clause seeks to ensure that only that portion of the law which is unconstitutional is so struck off and the remainder is saved. A severability clause is included to try and ensure that an invalid clause does not render an entire contract invalid.

In Shin Satellite Public (“Petitioner“) Vs. Jain Studio (“Respondents“), 2006 [AIR 2006 SC 963] (“Shin Satellite“), the Petitioners filed an arbitration petition before the Supreme Court of India (“Supreme Court“) for the appointment of an arbitrator. The Petitioner and Respondent had entered into an agreement dated August 10, 1999 (“Agreement“) for the provision of broadcasting services by the Petitioner. Thereafter, a dispute arose between the Parties and the Petitioner relying on the arbitration clause in the Agreement sent the Respondents a notice invoking the arbitration clause and appointing an arbitrator. The Petitioner received a notice from the Respondents stating that the arbitration clause was not legal and valid.

The main contention of the Respondents was that the arbitration clause made the arbitrator’s determination “final and binding between the parties” and the parties had waived all rights of appeal or objection “in any jurisdiction”. This was contrary to the provisions of the Indian Contract Act, 1872 and hence unenforceable.

However, the Agreement also included a severability clause. The Supreme Court, relying on the severability clause, stated that it is well-settled that if the contract is in several parts, some of which are legal and enforceable and some are unenforceable, lawful parts can be enforced provided they are severable. The Supreme Court held that the sub-clause making the award ‘final and conclusive’ was clearly separable from the main clause. The existence of the sub-clause or the fact that the sub-clause appears to be void does not in any way affect the right of the parties to have recourse to arbitration.

Absence of a Severability Clause

Section 57 of the Indian Contract Act, 1872 (“Act“) states that where persons reciprocally promise, firstly to do certain things which are legal, and secondly, under specified circumstances, to do certain other things which are illegal, the first set of promises is a contract, but the second is a void agreement. Furthermore, Section 58 of the Act states that in the case of an alternative promise, one branch of which is legal and the other illegal, the legal branch alone can be enforced. The above two sections of the Act are based on the Doctrine of Severability, a common law principle.

The Doctrine of Severability is also known as the Doctrine of Blue Pencil. Blue Pencil according to the oxford dictionary means to censor or to make cuts in a manuscript, film or other work. According to Black’s Law Dictionary, the Doctrine of Blue Pencil is a judicial standard for deciding whether to invalidate the whole contract or only the offending words. The Blue Pencil rule allows the courts only to strike down the offending provisions and enforce the rest of the agreement. [http://www.mondaq.com/india/x/456278/Contract+Law/Doctrine+Of+Blue+Pencil].

In the past, the Supreme Court has also relied on the doctrine of severability and the above sections of the Act to sever an illegal part of a contract that is severable. The Supreme Court in B.O.I Finance Limited Vs. Custodian and Ors. [(1997)10SCC488]has stated thatSection 57 of the ICA applies to cases where two sets of promises are distinct. The Supreme Court held that if pursuant to an agreement to do an illegal act, a transaction, in part, takes place which would otherwise be valid if there was no such prior agreement, then notwithstanding the illegality of the contract, the said completed transaction itself cannot be regarded as invalid. The Supreme Court in the present case relied on the decisions of the courts in England, based on common law principles, which have been applied and followed by the courts in India and held that when the void part of an agreement can be properly separated from the rest, the letter does not become invalid. In the present case, the Supreme Court has been silent on the presence and applicability of a severability clause in the agreement and has relied wholly on the doctrine of severability.

The Supreme Court has relied on the doctrine of severability in Shin Satelliteas well and has held that the proper test for deciding validity or otherwise of an agreement or order is ‘substantial severability’ and not ‘textual divisibility’. It is the duty of the court to severe and separate trivial or technical part by retaining the main or substantial part and by giving effect to the latter if it is legal, lawful and otherwise enforceable. In such cases, the Court must consider the question whether the parties could have agreed on the valid terms of the agreement had they known that the other terms were invalid or unlawful. If the answer to the said question is in the affirmative, the doctrine of severability would apply, and the valid terms of the agreement could be enforced, ignoring invalid terms. However, in Shin Satellitethe Supreme Court additionally relied on the presence of a severability clause as another ground for enforcement of the valid part of the agreement. Highlighting the importance of having a severability clause in an agreement, Justice C.K Thakker holds that “the presence of Clause 20 (the severability clause) makes the matter free from doubt. The intention of the parties is abundantly clear and even if a part of the agreement is held unlawful, the lawful parts must be enforced. ”

Take-Away

Although Indian Courts have relied on the doctrine of Severability as well as Sections 57 and 58 of the Act to strike down provisions of a contract that are invalid, keeping in mind Justice Thakker’s observations in Shin Satellitethat the presence of the severability clause made the matter free from doubt, it is important to ensure that the contract contains a severability clause. A severability clause needs to be explicit and it is essential that a severability clause not only ensure the survival of the remaining contract; it should also address what else happens in the event of severance. It should be drafted in a manner such that the severability clause will not be used to deny either party a vital advantage agreed upon by the provision in its original state.