Limited Scrutiny of Court Under Section 11 Of Arbitration Act Through The “Eye Of The Needle”, Is Necessary And Compelling: Supreme Court

The Supreme Court has ruled that the court while exercising jurisdiction under Section 11(6) of the Arbitration and Conciliation Act, 1996 (A&C Act) is not expected to act mechanically, and that the limited scrutiny of the court at the pre-reference stage, through the “eye of the needle”, is necessary and compelling.

The bench comprising Chief Justice DY Chandrachud and Justice PS Narasimha remarked that the same is intertwined with the duty of the referral court to protect the parties from being forced to arbitrate when the matter is demonstrably non-arbitrable, adding that same is a legitimate interference by courts to refuse reference in order to prevent wastage of public and private resources.

The Court reiterated if this duty within the limited compass is not exercised, and the Court becomes too reluctant to intervene, it may undermine the effectiveness of both the arbitration and the court.

The Apex Court was dealing with an appeal filed against the decision of the Delhi High Court where the Court had allowed the claimant’s application under Section 11(6) of the A&C Act, after the parties had entered into a Settlement Agreement. While setting aside the High Court’s order, the Supreme Court observed that the High Court should have exercised the prima facie test to screen and strike down the ex-facie meritless and dishonest litigation. Further, it ought to have examined the issue of the final settlement of disputes in context of the principles laid down in Vidya Drolia and Ors. vs. Durga Trading Corporation ((2021) 2 SCC 1), the bench held.

After certain disputes arose between the appellant, NTPC Ltd, and the respondent, M/s SPML Infra Ltd, under a Contract, SPML filed a writ petition before the Delhi High Court seeking release of the Bank Guarantees withheld by NTPC.

During the pendency of the writ petition, negotiations between the parties culminated in a Settlement Agreement, in terms of which the Bank Guarantees were released by NTPC. Further, SPML withdrew its writ petition, undertaking not to initiate any other proceedings, including arbitration, under the said contract.

Thereafter, SPML repudiated the Settlement Agreement and filed an application under Section 11(6) of the A&C Act before the Delhi High Court, seeking to refer the dispute between the parties to arbitration. While NTPC alleged that the dispute between the parties was settled under the Settlement Agreement and thus, there was discharge of the contract by accord and satisfaction, SPML alleged coercion and economic duress in the execution of the Settlement Agreement. The Section 11 application was allowed by the High Court and the parties were referred to arbitration.

In the appeal filed before the Apex Court against the decision of the Delhi High Court, NTPC argued that the High Court was under an obligation to undertake a limited scrutiny to examine whether the matter was prima facie arbitrable.

The Supreme Court observed that in Vidya Drolia, a three-judge bench had laid down the principles governing the pre-referral jurisdiction of the court under Section 11(6) of the A&C Act.

The Supreme Court in Vidya Drolia had held that the court may interfere at the Section 8 or 11 stage when it is manifestly and ex facie certain that the arbitration agreement is non-existent, invalid or the disputes are non-arbitrable.

The Apex Court further reckoned that following its decision in Vidya Drolia, it has been consistently held by it that the arbitral tribunal is the preferred first authority to determine and decide all questions of non-arbitrability.

“As a general rule and a principle, the arbitral tribunal is the preferred first authority to determine and decide all questions of non-arbitrability. As an exception to the rule, and rarely as a demurrer, the referral court may reject claims which are manifestly and ex-facie non-arbitrable,” said the Court, while adding that the standard of scrutiny to examine the non-arbitrability of a claim is only prima facie.

The bench further held, “Referral courts must not undertake a full review of the contested facts; they must only be confined to a primary first review²⁶ and let facts speak for themselves. This also requires the courts to examine whether the assertion on arbitrability is bona fide or not.”

The prima facie scrutiny of the facts must lead to a clear conclusion that there is “not even a vestige of doubt that the claim is non-arbitrable”, and even if there is the slightest doubt, the rule is to refer the dispute to arbitration, the Court ruled.

Referring to the facts of the case, the bench concluded that the letter repudiating the Settlement Agreement was issued by SPML only to wriggle out of the terms of the said Agreement. Further, the allegations of coercion and economic duress made by SPML were not bona fide, and that there were no pending claims between the parties for submission to arbitration.

“The Respondent’s claim fits in the description of an attempt to initiate “ex facie meritless, frivolous and dishonest litigation,” the Court remarked, while adding that the claims sought to be submitted to arbitration were raised as an afterthought.

“In view of the above-referred facts, which speak for themselves, we are of the opinion that this is a case where the High Court should have exercised the prima facie test to screen and strike down the ex-facie meritless and dishonest litigation. These are the kinds of cases where the High Court should exercise the restricted and limited review to check and protect parties from being forced to arbitrate,” the Apex Court held.

The Court concluded that the High Court committed an error in allowing the Section 11 application and that it ought to have examined the issue of the final settlement of disputes in context of the principles laid down in Vidya Drolia. The Court thus allowed the appeal and set aside the High Court’s order.

Case Title: NTPC Ltd vs. M/s SPML Infra Ltd

Citation : 2023 LiveLaw (SC) 287

Counsel for the Appellants: Mr. Adarsh Tripathi. Adv., Adv. Mr. Vikram Singh Baid, Adv., Adv. Mr. Ajitesh Garg Adv, Adv. Mr. Gaurav, AOR

Counsel for the Respondent: Ms. Soumya Dutta

Section 11 of Arbitration and Conciliation Act (A&C Act)- The Apex Court has set aside the decision of the Delhi High Court where the Court had referred the parties to arbitration under Section 11(6) of the A&C Act, after the parties had entered into a Settlement Agreement which recorded that there were no subsisting issues pending between them. The Supreme Court held that the High Court should have exercised the prima facie test to screen and strike down the ex-facie meritless and dishonest litigation. Further, it ought to have examined the issue of the final settlement of disputes in context of the principles laid down in Vidya Drolia and Ors. vs. Durga Trading Corporation ((2021) 2 SCC 1)-The Supreme Court has ruled that while exercising jurisdiction under Section 11(6) of the A&C Act, the court is not expected to act mechanically, and that the limited scrutiny of the court at the pre-reference stage, through the “eye of the needle”, is necessary and compelling.

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