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Supreme Court elucidates on invoking Arbitration Agreements in unstamped documents
A Full Bench of the Hon’ble Supreme Court comprising Justices Dr. Dhananjaya Y. Chandrachud, Indu Malhotra, and Indira Banerjee in the matter of N.N. Global Mercantile Pvt. Ltd. v. Indo Unique Flame Ltd. & Ors, REED 2021 SC 01006 has overruled its previous judgment in SMS Tea Estates Pvt. Ltd. v. Chandmari Tea Co. Pvt. Ltd., (2011) 14 SCC 66 (“SMS Tea Estates Judgment”), wherein it was held that a court cannot act on an arbitration agreement forming part of an instrument unless the stamp duty has been paid on that instrument.
The Supreme Court further held that the finding in Garware Wall Ropes Limited v. Coastal Marine Constructions and Engineering Limited, (2019) 9 SCC 209 (“Garware Wall Judgment”), which in turn followed the SMS Tea Estates Judgment, that the arbitration clause would be non-existent in law, and unenforceable, till Stamp Duty is adjudicated and paid on the substantive contract is erroneous. However, the Garware Wall Judgment has been cited with approval by a coordinate bench in Vidya Drolia & Ors. v. Durga Trading Corporation, C.A. No. 2402 of 2019, delivered on 14-12-2020 (“Vidya Drolia”), the Court referred the issue to a Constitution Bench of five judges. The brief facts of the case, the issues involved and the analysis of the ruling are discussed below.
Karnataka Power Corporation Ltd. (“KPCL”) issued a work order dated 18.09.2015 to the Indo Unique Flame Ltd. (“Respondent No. 1”) for washing of coal. In pursuance of the Work Order dated 18.09.2015, the Respondent No.1 furnished Bank Guarantees for Rs. 29.29 crores in favour of KPCL through its bankers, State Bank of India (“Respondent No.2”). Respondent No.1 subsequently entered into a sub-contract termed as a work order dated 28.09.2015 with M/s. N.N. Global Mercantile Pvt. Ltd. (“Appellant”), for the transportation of coal from its washery. As per Clause 9 of this work order dated 28.09.2015, Appellant furnished a Bank Guarantee for Rs 3,36,00,000/- on 30.09.2015, in favour of Respondent No 2. Further, clause 10 also incorporated an arbitration clause.
Under the principal contract with KPCL dated 18.09.2015, certain disputes and differences arose with Respondent No. 1, which led to the invocation of the Bank Guarantee by KPCL on 06.12.2017, Respondent No. 1 on 07.12.2017, invoked the Bank Guarantee furnished by the Appellant under the Work Order. It is the invocation of this Guarantee which has led to the present proceedings.
The Appellant filed a civil suit before Commercial Court against the Respondent seeking a declaration that Respondent No. 1 was not entitled to invoke the Bank Guarantee as no work was allotted under the work order and that no work was done, and no invoices were raised and accordingly Respondent No. 1 did not suffer any losses. Further, the Appellant alleged that the invocation was fraudulent since it was not in accordance with the work order.
On the other hand, as the subcontract contained an arbitration clause, the Respondents filed an application under section 8 of the Arbitration & Conciliation Act 1996 (“Arbitration Act”) seeking reference to arbitration. The application was rejected. In appeal, the Bombay High Court while hearing the writ petition held that (i) the Section 8 Application was maintainable in view of the arbitration agreement between the parties; (ii) the issue of fraud could be resolved by arbitration; (iii) the Commercial Court was not justified in restraining the invocation of the Bank Guarantee in the absence of any finding on fraud; and (iv) the question of whether the arbitration agreement was unenforceable since the Contract was unstamped could be raised either in an application under section 11 of the Arbitration Act or before the tribunal at the appropriate stage.
Whether an arbitration agreement would be non-existent in law, invalid or unenforceable if the underlying contract was not stamped as per the relevant Stamp Act?
Whether allegation of the fraudulent invocation of the bank guarantee is an arbitrable dispute?
Whether a Writ Petition under Articles 226 and 227 of the Constitution would be maintainable to challenge an Order rejecting an application for reference to arbitration under Section 8 of the Arbitration Act?
The Supreme Court held that the arbitration agreement would not be unenforceable as a result of non-payment of stamp duty on the main contract, as: (i) an arbitration agreement is an independent agreement and has an existence of its own; (ii) an arbitration agreement is not chargeable to stamp duty; and (iii) the non-payment of stamp duty on the main contract is a curable defect. However, the court disagreed with the SMS Tea Estates Judgment noting that it was given prior to the 2016 amendment, at which time courts had wider powers to examine issues in connection with an arbitration agreement, including whether a claim was time-barred or stale, etc. But after the amendment, the power was restricted to merely examining the “existence” of an arbitration agreement. Further, the Supreme Court held that the finding in Garware Wall Judgment that had followed SMS Tea Estates Judgment was erroneous. However, given the contrary ruling of a co-ordinate bench in Vidya Drolia’s Judgment wherein Garware Wall Judgment was approved, the Supreme Court referred the issue to the Constitution bench of five judges.
On the second issue, the Court observed that the view was taken by a two-judge bench earlier in N. Radhakrishnan v. Maestro Engineers, (2010) 1 SCC 72 that allegations of fraud were not arbitrable on the basis that the issues involved detailed investigation and production of elaborate evidence, was a wholly archaic view, which has now become obsolete, and deserves to be discarded. Reiterating Avitel Post Studioz Ltd. & Ors. v. HSBC PI Holdings, (2020) SCCOnLine SC 656 the Court observed that the civil aspect of fraud is considered to be arbitrable in contemporary arbitration jurisprudence, with the only exception being the allegation that the arbitration agreement itself is vitiated by fraud or fraudulent inducement, or the fraud goes to the validity of the underlying contract and impeaches the arbitration clause itself. Another category of cases is where the substantive contract is “expressly declared to be void” under Section 10 of the Contract Act. However, the criminal aspect of fraud can be adjudicated only by a court of law, since it may result in a conviction, which fell in the realm of public law. Hence, the Court found that the allegations of fraud with respect to the invocation of the bank guarantee are arbitrable as they arose out of disputes between parties inter se, and were not in the realm of public law. Further, it directed the Appellant to seek interim relief under Section 9 of the Arbitration Act with regards to the invocation of the bank guarantee.
With respect to the third issue, the Supreme Court observed that since the judgment and order of the Commercial Court refusing to refer the parties to arbitration was an appealable order under Section 37(1)(a)(10) of the Arbitration Act, the writ petition under Articles 226 and 227 of the Constitution was not maintainable. Accordingly, it set aside the writ petition decided by the Bombay High Court.