Arbitration Is Hailed As A Faster Alternative To Traditional Litigation, But Reality In India Falls Short Of Object: Allahabad HC

The Allahabad High Court has held that interference in an arbitral award on grounds of violation of public policy can be done if it is against the substantive provisions of the Act.

The Court held that interference in arbitral award under Section 37 of the Arbitration and Conciliation Act, 1996 on grounds of 'public policy' must be cautiously done as it can lead to excessive judicial review due the subjective and broad interpretation of 'public policy.'

“An award can be interfered with on the ground of public policy when it is in contravention of substantive provisions of the Act itself. Any award passed against the statutory or constitutional principles goes against the public policy of India,” held Justice Shekhar B. Saraf.

The Court held that while dealing with an appeal against an arbitral award the Court must consider if the arbitral tribunal has acted within the contractual provisions between the parties. The Court held that “any act or decision of the arbitral tribunal beyond clearly defined contractual provisions is patently illegal and unsustainable.”

Further, elaborating on the applicability of principle of severability, the Court held that the Corut under Sections 34 and 37 of the Act have the power to set aside part of the arbitral award provided such part can be separated from the remaining issues.

While deciding an appeal under Section 37 of the Arbitration and Conciliation Act, 1996 after almost 18 years of the date of the arbitral award, the Court observed that such inordinate delay in finally deciding the rights of the parties underscores the issues with arbitration In India. The Court held that

“While arbitration is often hailed as a faster and more efficient alternative to traditional litigation, the reality in India frequently falls short of this ideal due to systemic challenges.”

Factual Background

Dispute arose between parties regarding reimbursement of Rs.6,28,268/- claimed by the respondent-company for rectifying certain defects. The Arbitrator awarded Rs.6,22,268/- along with interest at the rate of 12% p.a. from 02.02.1998 to 31.07.2006 and at the rate of 8% p.a. from 01.08.2006 till the date of actual payment to the Respondent.

The arbitral award was challenged under Section 34 of the Act and was subsequently upheld in 2012. Thereafter, appeal was filed before the High Court under Section 37 of the Act.

Counsel of appellant argued that the arbitrator had no jurisdiction to award the amount beyond the terms of the contract between the parties. It was argued that the arbitrator is a creature of the contract and cannot travel beyond the terms agreed upon by the parties to pass an award in favor of the respondent.

High Court Verdict

The Court observed that a party to arbitration cannot be held liable for an act which was legal when it was committed and had later been penalized. It was held that rule of law cannot retrospectively applied unless specifically provided.

“Retrospective application of laws to arbitral proceedings could affect the validity of arbitral awards, challenge the jurisdiction of arbitral tribunals, or introduce procedural requirements that were not in place at the time of arbitration. Retrospective application of laws introduces uncertainty and unpredictability into legal relationships. Parties cannot foresee the legal consequences of their actions if laws can be altered retrospectively.”

The Court held that retrospective legal changes in the arbitration laws leads to prolonging dispute resolution, increasing cost, unpredictability and uncertainty amongst the parties.

The Court held that grounds for challenge to an arbitral award under Section 34 of the Act as introduced in by the amending act of 2015, will only apply to the arbitration proceedings which commenced under Section 21 of the Act on or before the amendment of 2015 came into force.

Reliance was placed on Ratnam Sudesh Iyer v. Jackie Kakubhai Shroff, where the Supreme Court held that unless the parties otherwise agree, the amendment of 2015 will not apply to proceedings which have commenced before the effective date of the amendment even if such proceeding had commenced under Section 21 of the Act.

Relying on Section 26 (Act not to apply to pending arbitral proceedings) of the Act, the Court held that since the arbitral award under challenge was passed in 2006, the provisions amended in 2015 will not apply to the case.

The Court held that the unamended Section 34, as it stood in 2006, provided that arbitral award could be set aside on grounds of being against the public policy of India. The Court held that the application of 'public policy' is complex, subjective, and varies depending on the context and factual circumstances.

The Court relied on Oil & Natural Gas Corporation Ltd. v. Saw Pipes Ltd. where when dealing with the Section 3, as it stood prior to amendment, the Apex Court had held that an arbitral award can be set aside as being contrary to public policy of India if it contravened Sections 24, 28 and 31 of the Act. The Supreme Court had held that

“Take for illustration a case wherein there is a specific provision in the contract that for delayed payment of the amount due and payable, no interest would be payable, still however, if the arbitrator has passed an award granting interest, it would be against the terms of the contract and thereby against the provision of Section 28(3) of the Act which specifically provides that “Arbitral Tribunal shall decide in accordance with the terms of the contract.”

Section 28(3) of the Act, prior to amendment in 2015, provided that an Arbitral Tribunal shall decide in accordance with the terms of the contract and shall consider the usages of the trade applicable to the transaction.

Further, the Court relied on Associate Builders v. DDA, where the Apex Court had held that violation of Section 28(3) constitutes patent illegality and makes the award liable to be set aside.

Holding that the arbitrator is a creature of the contract, the Court held that going beyond the terms of the contract harms party autonomy and risks “eroding the legitimacy and enforceability of the arbitral award.” The Court held that an arbitrator must refrain from exceeding his jurisdiction, i.e., must restrain himself from going beyond the terms of contract.

“After all, arbitral proceedings are not cricket matches, where hitting beyond the boundary is usually rewarded.”

The Court held that the award of Rs. 6,22,268/- along with interest in favor of the Respondent was beyond the terms of the agreement entered into between the parties. It was held to be in violation of Section 28(3) prior to the 2015 amendment.

“Arbitrator's decision also shocks the conscious of the court due to its unjust and inequitable nature. By awarding the claim of Rs. 6,22,268/- in favour of the Respondent, the Arbitrator has also set a dangerous precedent that undermines the sanctity of contracts and erodes trust in the arbitration process. If arbitrators are allowed to disregard contractual terms and impose arbitrary and unjustified outcomes, parties will lose confidence in the efficacy of arbitration as a means of dispute resolution.”

The Court held that the District Judge ought to have set aside the award for violation of Section 28(3). The Court held that failure on part of the District Judge in setting aside the award represents grave miscarriage of justice.

Applying the principle of severability, the Court set aside the arbitral award as well as the decision of the District Judge only to the extent of the aforesaid amount.

Case Title: Union Of India Through Garrison Engineer AF v. M/S Yauk Engineers [Appeal Under Section 37 Of Arbitration And Conciliation Act 1996 No.389 of 2023]

Click Here To Read/Download Order