CUF shortfall alone cannot justify termination of hydel project lease without examining water supply, rules Madhya Pradesh High Court

The petitioner operated and maintained the Chambal Mini Hydel Project, Morena, comprising three 600 kW generating units, under a 30-year Lease Agreement dated 24.03.2014 executed pursuant to the tender process and Letter of Award dated 07.02.2014.

Article 10.3 required the O&M contractor to achieve a minimum annual Capacity Utilisation Factor (CUF) of 30%, while Article 10.4.2 provided for proportionate reduction of the O&M rate if the CUF fell below that benchmark.

The respondents alleged that the petitioner had failed to achieve the prescribed CUF for six consecutive years and issued notices dated 03.11.2021 and 06.04.2022. The petitioner replied that generation depended upon adequate water quantity and discharge, and that the shortfall resulted from inadequate and irregular water supply, canal operations, variation in water levels and other circumstances beyond its control.

By order dated 30.05.2022, respondent No. 1 terminated the Lease Agreement. The petitioner challenged the termination and the preceding notices under Article 226, alleging arbitrariness, non-application of mind and violation of natural justice.

Whether a mere numerical shortfall in CUF below the contractual minimum could, by itself, constitute an attributable Event of Default justifying termination of the long-term Lease Agreement, without examining whether the shortfall was caused by inadequate or interrupted water supply?

Whether the respondents’ failure to consider and give reasons for rejecting the petitioner’s specific defence regarding water availability rendered the termination arbitrary and violative of Article 14 of the Constitution?

Whether the existence of a contractual dispute-resolution mechanism barred the maintainability of the writ petition challenging the State instrumentality’s termination decision?

The Court applied Article 14 of the Constitution, which prohibits arbitrary State action, and the principle that judicial review in contractual matters is available where the decision-making process is arbitrary, irrational, unreasonable, biased or affected by non-application of mind.

It relied on Silppi Constructions Contractors v. Union of India, (2020) 16 SCC 489; Air India Ltd. v. Cochin International Airport Ltd., (2000) 2 SCC 617; Master Marine Services (P) Ltd. v. Metcalfe & Hodgkinson (P) Ltd., (2005) 6 SCC 138; and Joshi Technologies International Inc. v. Union of India, (2015) 7 SCC 728, for the limited but recognised scope of judicial review over State contracts.

M.P. Power Management Co. Ltd. v. Sky Power Southeast Solar India (P) Ltd., (2023) 2 SCC 703, was applied for the principle that contractual obligations do not exempt State action from the requirements of non-arbitrariness under Article 14.

The Court relied on S.N. Mukherjee v. Union of India, (1990) 4 SCC 594, for the duty of administrative authorities to record reasons, thereby excluding arbitrariness and ensuring fairness.

Sections 32 and 37 of the Indian Contract Act, 1872 were invoked by analogy to hold that an obligation dependent upon an external and uncertain circumstance cannot be treated as an unexcused breach without first determining whether that circumstance occurred.

The Court distinguished between a numerical CUF shortfall and an attributable contractual breach. Although Article 10.3 imposed a minimum CUF obligation, the contract did not state that every shortfall, irrespective of cause, automatically constituted an Event of Default warranting termination.

Article 10.4.2 contemplated a proportionate reduction in the O&M rate where CUF fell below 30%, indicating a graded financial consequence and militating against treating every shortfall as an automatic ground for termination.

Because hydel generation necessarily depends upon adequate water availability and discharge, the respondents were required to determine whether the shortfall resulted from deficient operation or maintenance, technical defects and avoidable shutdowns, or from inadequate water supply beyond the petitioner’s control.

The respondents did not inspect the plant or determine whether the CUF deficiency arose from operational or technical failures. Instead, they proceeded substantially on the admitted CUF figures and relied on the “as is where is” clause without addressing the petitioner’s specific defence regarding water availability.

This amounted to non-application of mind to a material issue and failure to provide a reasoned determination of default, contrary to Article 14 and the requirement of reasoned administrative decision-making.

The alternative contractual remedy did not bar the writ petition because the challenge concerned the legality and fairness of the State instrumentality’s termination process, rather than merely a monetary or technical contractual claim.

The termination order dated 30.05.2022 was held arbitrary and legally unsustainable and was quashed.

The notices dated 03.11.2021 and 06.04.2022 were also quashed to the extent that they formed the basis of the termination.

The petitioner’s other claims and issues were left open for adjudication before the arbitral tribunal, and the parties were directed to bear their own costs.