Allegations Of Fraud, Misappropriation With No Public Implication Doesn't Make Dispute Non-Arbitrable: Gujarat High Court

Brief Facts:

The matter revolved around the partnership firm M/s. Om Polyplast, through a partnership deed involving Pradeep Gaurishankar Trivedi, Vikas Raj Chhajer (Respondent), and Mr. Manoj N. Pandya. Mr. Pandya retired on April 1, 2014, and later, the Respondent expressed intention to retire. The partnership-cum-retirement deed was executed on March 19, 2018, creating a new firm, M/s. Sai Polyplast (Applicant). However, the applicant alleged that the respondent engaged in fraudulent transactions during his tenure, leading to misappropriation of funds. The applicant contended that the respondent, while switching firms, misrepresented facts and breached trust, eventually resulting in the termination notice on October 16, 2018. Criminal proceedings were initiated due to the alleged misappropriation.

The applicant argued that the forensic audit report of M/s. Om Polyplast, submitted on March 27, 2019, revealed significant misappropriation by the respondent. Despite settlement talks, the parties couldn't reach an agreement, leading the applicants to file applications in Gujarat High Court (“High Court”) under Section 11 of the Arbitration and Conciliation Act, 1996 (“Arbitration Act”).

In response, the respondent claimed that the dispute involved demands for payment of profit share and salary. He denied handling the finance department and argued that fraud allegations leading to criminal disputes renders the matter non-arbitrable.

Furthermore, the respondent highlighted FIRs filed under various sections of the Indian Penal Code, asserting that disputes arising from criminal cases are not subject to arbitration. He argued that the petition is a counteraction against actions taken by him and is a falsification of accounts.

Observations by the High Court:

The High Court referred to the case of World Sport Group (Mauritius) Limited vs. MSM Satellite (Singapore) Pte. Limited, (2014) 11 SCC 639, and noted that the arbitration agreement does not become “inoperative” or incapable of being performed merely because allegations of fraud are made. It emphasized that the dispute should not be refused arbitration under Section 45 of the Arbitration Act, solely on the grounds of fraud allegations. It clarified that the arbitration agreement can be declined only if it is found to be null and void, inoperative, or incapable of being performed, not based on the need to inquire into fraud allegations.

In the case of A. Ayyasamy vs. A. Paramasivam and others, (2016) 10 SCC 386, the trial Court rejected an application under Section 8 of the Arbitration Act, citing serious fraud allegations. The Supreme Court examined the correctness of this stand, noting that the Act does not categorize disputes as non-arbitrable. The Supreme Court affirmed that serious fraud allegations should not automatically render the dispute non-arbitrable.

The High Court made a distinction between a contract obtained by fraud and the performance of a valid contract being tainted by fraud or cheating. It emphasized that when fraud is raised as a basis to escape the arbitration agreement, it is essential for the court to be satisfied that the allegations are serious and complicated, making it more appropriate for the court to handle the matter than relegating it to arbitration. Simple allegations of fraud touching on internal party affairs with no public implications do not warrant avoiding the arbitration clause, and parties can be directed to arbitration.

Where the arbitration clause covers all disputes arising between the partners related to the partnership deed, the High Court noted that allegations in criminal proceedings regarding fraud and misappropriation of funds, being inter se parties and having no public implications, do not satisfy the twin tests laid down by the Suprem Court in A. Ayyasamy. The High Court rejected the objection to the maintainability of the applications under Section 11 of the Arbitration Act.

Consequently, the High Court appointed Mr. V.P. Patel, Former Judge, Gujarat High Court, as the sole arbitrator to resolve the disputes between the parties in accordance with the Arbitration Centre (Domestic and International), High Court of Gujarat Rules, 2021.

Case Title: M/S Sai Polyplast Vs Vikas Raj Chhajer

LL Citation: 2024 Livelaw (Guj) 25

Case Number: R/PETN. UNDER ARBITRATION ACT NO. 146 of 2019 With R/PETN. UNDER ARBITRATION ACT NO. 148 of 2019.

Advocate for the Petitioner: Mr Nirav Thakkar With Ms Roma I Fidelis.

Advocate for the Respondent: Mr Vishal J Dave With Ms. Hiral U Mehta, Mr Jay Koshti And Mr. Yuvraj Chauhan.

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