"Interferes With Judicial Functions": Supreme Court Holds Kerala Law To Revoke Aribtral Awards Unconstitutional

In 1961, the State of Kerala started constructing the Kallada Irrigation Project, a part of which was proposed to be executed with the financial assistance from the World Bank. As per the requirement of the World Bank, a Local Competitive Bidding Specification (LCBS) condition was inserted in the agreement. Clause 51 and 52 of the said LCBS provided for arbitration. Eventually, the State found that arbitrators in cahoots with the contractors had arbitrarily and irregularly awarded unreasonable amounts against the provisions of the agreement. In public interest, the State cancelled the arbitration clauses. Subsequently, it passed the Kerala Revocation of Arbitration Clauses and Reopening of Awards Act, 1998 which received the assent of the President of India as required under Article 254(2) of the Constitution of India. The State legislation was assailed before the Kerala High Court, which had held it to be unconstitutional, primarily on two grounds -

1. State Legislature did not have the competence to enact the Act; and
2. The Act encroached upon the judicial power of the State.

Contentions raised by the appellant

Senior Advocate, Mr. Jaideep Gupta, appearing on behalf of the State of Kerala argued that the State Act is not repugnant to the Arbitration and Conciliation Act, 1996 ("1996 Act"). The 1996 Act enacted by the Parliament, would be applicable where the parties had agreed to refer the dispute to arbitration, whereas the State Act pertains to cancellation of contract and would be covered by Entries 7 and 13 of the Concurrent List of the Seventh Schedule of the Constitution. It was asserted that while tracing the source of the State Act, the doctrine of pith and substance ought to be applied and the enactment needs to be read as a whole along with its object, scope and effect. Mr. Gupta further argued that without any explicit prohibition in the Constitution, the State legislature cannot be restrained from legislating on entries enumerated in the State List and Concurrent list of the Seventh Schedule. Senior Advocate, Mr. Pallav Shishodia laid emphasis on the argument of repugnancy.

Contentions raised by the respondents

Senior Advocate, Mr. Krishnan Venugopal, appearing for some of the respondents argued that the State Act was arbitrary as it singled out the concerned Project for revoking the arbitration clauses. He averred that the State legislature had traveled beyond its jurisdiction to enact a statute which draws its power from Entries 12,13, 14, 37 of the Union List of the Seventh Schedule. It was asserted that when the Parliament enacts a statute for giving effect to international agreement (UNCITRAL Model Laws) under Article 253, the State would be divested from passing a legislature on the same subject matter, even when such subject matters falls in State or Concurrent List. Mr. Venugopal submitted that the impugned Act confers power on the State to pick and choose awards against which it would prefer an appeal. He argued that the State Act meddled with the doctrine of separation of powers and encroached upon the powers of the judiciary. Senior Advocate, Mr. P.C. Sen submitted that the State Act infringes upon the right to property under Article 300A as the awards passed had already been made a decree of the Court. It was also pointed out that as the awards had been acted upon and payments were made, the vested rights had crystallized in favour of the contractors, which cannot be taken away by the State. He argued that the State's act to unilaterally alter the contract violates fundamental principles of justice. Violation of basic structure was also contended, as the Act, he alleged, impinges on exercise of judicial power. Senior Advocate, Mr. C.N. Sreekumar opposed the validity of the State Act on the ground of manifest arbitrariness. He argued that once Section 34(2A) was inserted in the 1996 Act in the year 2015, the State Act was impliedly repealed. Advocate, Ms. Haripriya Padmanabhan contended that unless the State establishes that relevant material was placed before the President, the assent alone would not be sufficient to defend the validity of the Act. She averred that by not distinguishing between the contractors who had defrauded and those who have not, the State has treated unequals equally in violation of the right to equality guaranteed under Article 14. She emphasised that the legislature cannot by way of an enactment set aside an award passed by a court. Advocate, Mr. John Mathew submitted that the State Act contravenes Article 13(2), which prohibits it from enacting any law violating Part III rights. He argued that apart from the 1996 Act, the State Act is also in the teeth of the Commercial Courts Act, 2015. Being a subsequent enactment, 2015 Act, would prevail in case of repugnancy and would also impliedly repeal the State Act. Advocate, Mr. Kuriakose Varghese submitted that the State legislation was enacted on the basis of the finding of collusion between the arbitrators and the contractors. He argued against the validity of the Act on the ground of lack of material to establish the same. It was asserted that the State Act is contrary to public interest as it confers unbridled power to the State to derogate from the principle of speedy settlement to disputes. Advocate, Mr. Roy Abraham made submission on similar lines as the others.

Analysis by the Supreme Court

State Legislature Competent to Enact the State Law

The Court noted that in G.C. Kanungo v. State of Orissa (1995) 5 SCC 96 and MP Rural Road Development Authority And Anr. v. L.G. Chaudhary Engineers and Contractors (2012) 3 SCC 495, the Apex Court had observed that Entry 13 of the Concurrent List deals with arbitration. It was of the view that the State could legislate on the subject of arbitration, but the same ought to have been reserved for the assent of the President. Referring to G. Mohan Rao and Ors. v. State of Tamil Nadu And Ors. 2021 SCC OnLine SC 440, it further noted, that in cases of repugnancy between State and Central Legislations, Central law would prevail under Article 254(1), however when State law received assent of the President, it would prevail in terms of Article 254(2) of the Constitution of India. As held by the Constitutional Bench in State of West Bench v. Kesoram Industries Ltd. And Ors. (2004) 10 SCC 201 if the State is competent to legislate on the subject, any incidental encroachment on any entry in List I would not affect the State Legislation. On perusal of the Statement of Objects and Reasons of 1996 Act and resolution of the UN General Assembly dated 11.12.1985 regarding Model law on international Commercial Arbitration, the Court opined that the 1996 Act was not enacted to implement the decision of an international conference in terms of Article 253 of Constitution. It was enacted on the basis of a resolution where recommendation was made to adopt the UNCITRAL Model Law. Therefore, Article 253 does not enure to the benefit of the 1996 Act.

State Legislature encroached on Judicial Powers

The Court noted that in most of the cases involved in the present matter the award was passed prior to 1992, which were made the rule of court before 1993. On the day the State Act was enacted, in some of the cases, the appeals preferred under Section 39 of 1940 Act were pending before courts. The State relied on C.G. Kanungo wherein the Court held that decrees made by courts to make an award 'Rule of Court' is merely for the purpose of enforceability and cannot be treated as judgments and decrees passed in exercise of judicial power. However, ultimately Kanungo held that the concerned 1991 Amendment Act to be unconstitutional as it annuls the awards passed by the Special Arbitration Tribunals which are passed in exercise of judicial power. On perusal of several provisions of the 1940 Act and referring to the Constitution Bench judgments in Harinagar Sundar Mills Ltd. v. Shyam Sundar Jhunjhunwala And Ors.(1962) 2 SCR 339 and Shankarlal Aggarwala And Ors. v. Shankarlal Poddar And Ors. (1964) 1 SCR 717, the Court was of the view that under Section 17 of the 1940 Act the judgment and decree passed is not a mere formality. The Court held that the observation in Kanungo that decrees making awards 'Rules of Court' are not passed in the exercise of judicial power was per incuriam to the 1940 Act and Constitution Bench judgments of the Apex Court, and was also hit by the rule of sub silentio. It was of the view that judgments and decrees passed by civil courts can only be set aside by higher courts and not by way of legislation. Applying the three-fold test of 'separation of powers' as elucidated in State of Tamil Nadu v. State of Kerala (2014) 12 SCC 696, the Court held that the State Act, which has the power to annul awards that have become 'Rules of Court' encroaches upon judicial powers and hence violates the doctrine of separation of powers.

Case Name: The Secretary of Govt. of Kerala Irrigation Department And Ors. v. James Varghese And Ors.

Citation: 2022 LiveLaw (SC) 447

Case No. and Date: Civil Appeal No. 6258 of 2014 | 4 May 2022

Corum: Justices L. Nageswara Rao and B.R. Gavai

Authored By: Justice B.R. Gavai

Click Here To Read/Download Judgment

Headnotes

Kerala Revocation of Arbitration Clauses and Reopening of Awards Act, 1998- Held unconstitutional as it had an effect of annulling the awards passed by the arbitrators and the judgments and decrees passed by the courts.

Concurrent List of the Constitution of India - Subject of Arbitration - G.C. Kanungo v. State of Orissa (1995) 5 SCC 96 - It could thus be seen that this Court has observed that the subject of arbitration finds place in Entry 13 of List III, i.e., the Concurrent List of the Seventh Schedule to the Constitution of India. It has been held that the legislation pertaining to the said entry could be made either by the Parliament or the State Legislature. It has been held that since the subject of arbitration is in the Concurrent List, the State can also make a law with regard to the same. The only requirement is that to validate such a law, it is necessary to reserve the same for consideration of the President of India and obtain his assent. When such an assent is obtained, the provisions of the State Law or Act so enacted would prevail in the State concerned, notwithstanding its repugnancy with an earlier Parliamentary enactment made on the subject. It is not in dispute that in the present case also, the State Act was reserved for consideration of the President of India and the assent of the President of India has been obtained. As such, the State Act so enacted would prevail in the State of Kerala. [Paragraph 62]

Conflict between Central and State Laws - G.C. Kanungo v. State of Orissa (1995) 5 SCC 96 and MP Rural Road Development Authority And Anr. v. L.G. Chaudhary Engineers and Contractors (2012) 3 SCC 495 - the source of the enactment of the 1940 Act, 1996 Act so also the State Acts legislated by Orissa and MP Legislatures is Entry 13 of List III of the Seventh Schedule to the Constitution of India. Ordinarily, if there is any conflict between the Central law and the State law, in view of clause (1) of Article 254 of the Constitution of India, the Central law would prevail. However, in view of clause (2) of Article 254 of the Constitution of India, the State law would prevail when it is reserved for consideration and receives assent of the President of India. [Paragraph 66]

Allegation of State Legislature encroaching upon competence of Parliament - apply doctrine of pith and substance - incidental and superficial encroachments are to be disregarded - State of West Bench v. Kesoram Industries Ltd. And Ors. (2004) 10 SCC 201 - It could thus be seen that the Constitution Bench has held that when the legislative competence of a State Legislature is questioned on the ground that it encroaches upon the legislative competence of the Parliament, since some entries are bound to be overlapping, in such a situation, the doctrine of pith and substance has to be applied to determine as to which entry does a given piece of legislation relate to. Once it is so determined, any incidental trenching on the field reserved to the other legislature is of no consequence. The court has to look at the substance of the matter. The true character of the legislation has to be ascertained. Regard must be had to the enactment as a whole, to its main objects and to the scope and effect of its provisions. It has been held that incidental and superficial encroachments are to be disregarded. It has been held that the predominance of the Union List would not prevent the State Legislature from dealing with any matter within List II, though it may incidentally affect any item in List I. [Paragraph 71]

Article 253 of the Constitution - Parliament can make law for implementing treaty, convention or agreement of international conference - Arbitration and Conciliation Act, 1996 - UNCITRAL Model law only recommended by the UN General Assembly -

It is thus clear that whereas, the 1986 Act and the NGT Act have been enacted specifically to implement the decisions taken at the international conferences, the 1996 Act is enacted on the basis of the Resolution passed by the General Assembly of the United Nations in 1985, whereby the General Assembly only recommended the adoption of UNCITRAL Model Law insofar as international commercial arbitration practices are concerned. As such, the 1986 Act and the NGT Act are directly referable to Entry 13 of List I of the Seventh Schedule and Article 253 of the Constitution of India. Therefore, reliance on the above referred judgments, in our view, would not be of any assistance to the case of the respondents, inasmuch as the Resolution of the General Assembly of the United Nations is only recommendatory in nature and there is no binding decision taken thereat. [Paragraph 85]

Arbitration Act, 1940 ; Section 17 - Arbitral Award made Rule of court - Exercise of Judicial Power [Paragraph 107]

G.C. Kanungo v. State of Orissa (1995) 5 SCC 96 - observed that the judgments and decrees made by the civil courts in making the awards of the Special Arbitration Tribunals the "Rules of Court" are for the sole purpose of their enforceability through the machinery of courts and therefore, cannot be such judgments and decrees of civil courts made in exercise of the judicial power of the State exclusively vested in them under the Constitution of India. This Court, therefore, held that the 1991 Amendment Act, which nullifies the judgments and decrees of the court by which awards of Special Arbitration Tribunals are made "Rules of Court", cannot be said to be an encroachment upon the judicial powers of the State exercisable by the courts under the Constitution of India [Paragraph 89] - Harinagar Sundar Mills Ltd. v. Shyam Sundar Jhunjhunwala And Ors.(1962) 2 SCR 339 and Shankarlal Aggarwala And Ors. v. Shankarlal Poddar And Ors. (1964) 1 SCR 717 and provision of 1940 Act not considered - observations per incuriam and sub-silentio. [Paragraph 112]

Doctrine of Separation of Powers - State Act, which has the effect of annulling the awards which have become "Rules of Court", is a transgression on the judicial functions of the State and therefore, violative of doctrine of "separation of powers" - State Act liable to be held unconstitutional. [Paragraph 122]