This article has been written by A R K Ashrith pursuing Diploma in US Corporate Law for Company Secretaries and Chartered Accountants and has been edited by Oishika Banerji (Team Lawsikho).
Table of Contents
Introduction
The doctrine of separability states that an arbitration agreement would remain in force even after the termination, regardless of the outcome of the conclusion in a separate contract or arbitration. In other words, the spirit of agreement between the parties to uphold the engagement of arbitration would continue even after the termination of the main contract. The case of the N.N. Global Mercantile Private Limited vs M/S Indo Unique Flame Limited (2021) gives raise to some key issues in respect of the application of the above-introduced doctrine, following are the same-
- Whether an arbitration clause is non-existent in law and unenforceable, if the substantive underlying contract which contains the arbitration clause is not stamped as per the relevant Stamp Act.
- Whether the allegations of fraudulent invocation of bank guarantee furnished in the substantive underlying contact would be an arbitrable dispute.
This article discusses the doctrine of separability in light of the case of M/S Global Mercantile Pvt. Ltd. v. Indo Unique Flame Ltd. & Ors (2021).
Facts of the case
Indo Unique Flame Limited was allotted a tender by Karnataka Power Corporation Limited (KPCL) for the supply of coal, in an open tender. Subsequently, Indo Unique Flame Limited (IUFL) entered into a sub-contract with Global Mercantile Private Limited (GMPL) to supply the coal. Along similar lines, KPCL was provided a guarantee by IUFL and further IUFL provided a guarantee by GMPL for the supply. The guarantee was extended from time to time by the parties over the period of the contract.
KPCL due to certain differences with IUFL led to the invocation of the guarantee provided by IUFL. Further, IUFL invoked the guarantee provided by the GMPL. This invocation of guarantee by IUFL led to the proceedings in the commercial court initiated by the GMPL stating that “Indo Unique had not allotted any work under the Work Order, nor were any invoices raised, or payments made by it. Consequently, there was no loss suffered which would justify the invocation of the Bank Guarantee”
The main contract entered by the parties i.e., IUFL and GMPL is at the start of the contract which has a clause referring the disputes to the arbitration. After that all the transactions overwrite the main contract via the Work Order generated by the IUFL, this allows the arbitration clause to continue on the basis of the doctrine of separability
IUFL made an application to the Commercial Court referring to Section 8 of the Arbitration and Conciliation Act, 1996 asking for referring the dispute to the arbitrator for resolution. GMPL opposed the application stating that a bank guarantee is a different contract and there is no clause referring to the arbitration. The Commercial Court held that since neither party performed the contract entered upon in respect of the recent work order which overwrote the main contract, the court held that it would not accept the application made by the IUFL and would enforce its jurisdiction.
IUFL approached the Bombay High Court challenging the order issued by the Commercial Court. The Bombay High Court issued an order stating that arbitration is maintainable. The contention of the court was that the allegations of fraud on the invocation of the bank guarantee provided, should not be construed as a criminal offence. Henceforth, admitted the application under Section 8 and directed the matter to the arbitrator.
Whether the arbitration clause mentioned in the main contract is enforceable if the substantive underlying contract (main contract) is not stamped
The substantive underlying agreement is an unstamped agreement and contains the arbitration clause. The doctrine of separability states that parties entered into two separate agreements, where one is the agreement on the rights and obligations of the parties from the commercial transaction, the second one is the arbitration agreement which binds the parties to resolve the disputes through arbitration.
This doctrine of separability indicates that the validity of the arbitration agreement continues even if the substantive commercial contract is invalidated, ineffective or terminated except if the arbitration agreement itself challenged that. The autonomy of the arbitration agreement is based on twin concepts of separability and kompetenz.
To explain further the doctrine of kompetenz, it must be stated that the competence of the arbitral tribunal has the competence to determine and rule on its own jurisdiction, including objections with respect to the existence, validity, and scope of the agreement. It is an established fact from the various pronouncements that a change in the competence of the arbitration agreement would continue even if the substantive underlying commercial agreement is held as invalid.
Other factors considered for the competence of the arbitration agreement
- An arbitration clause that is a part of the contract shall be treated as an independent agreement excluding other terms of the contract; and
- The decision by the arbitral tribunal that the contract is null and void shall not entail ipso jure the invalidation of the arbitration clause in that contract. In other words, the contract should not be invalidated by operation of law.
GMPL contended before the Supreme Court of India, the main agreement can’t be considered as evidence as per the relevant state stamp act. However, IUFL argued that it would be enforceable after it is duly stamped, for which opportunity must be given to the parties to make up the deficient stamp duty. So, it was further argued that it is a curable defect. The relevant stamp act, it is said that the instrument may be accepted as evidence provided the duty and applicable penalty for the same is paid in accordance with the provisions of the act.
It was made clear that the payment of Stamp Duty on the substantive contract as assessed by the collector, would be subject to the right of revision/appeal available under the relevant Stamp Act. Hence, the instrument can be admitted as evidence and it is a curable defect.
What is an arbitrable dispute
Disputes which are under the jurisdiction of the arbitrator. To understand this topic better is to understand the areas which are not arbitrable disputes.
The question of arbitrability was solved by the Supreme Court of India in Booz-Allen & Hamilton Inc vs SBI Home Finance Ltd. & Ors (2011).
In the above-mentioned judgment passed the three facets of arbitrability, relating to the jurisdiction of the arbitral tribunal, are as under:
- Whether the disputes are capable of adjudication and settlement by arbitration? That is, whether the disputes, having regard to their nature, could be resolved by a private forum chosen by the parties (the arbitral tribunal) or whether they would exclusively fall within the domain of public fora (courts).
- Whether the disputes are covered by the arbitration agreement? That is, whether the disputes are enumerated or described in the arbitration agreement as matters to be decided by arbitration or whether the disputes fall under the `excepted matters’ excluded from the purview of the arbitration agreement.
- Whether the parties have referred the disputes to arbitration?
Fraudulent invocation of bank guarantee
The civil aspect of fraud is defined by Section 17 of the Indian Contract Act, 1872 as follows:
Fraud means and includes any of the following acts committed by a party to a contract, or with his connivance, or by his agent, with intent to deceive another party thereto or his [agent], or to induce him to enter the contract:
- The suggestion, as a fact, of that which is not true, by one who does not believe it to be true;
- The active concealment of a fact by one having knowledge or belief of the fact;
- A promise made without any intention of performing it;
- Any other act fitted to deceive;
GMPL claimed that the invocation of a bank guarantee is fraudulent as the agreement was never acted upon by the IUL. There is no invoice raised or payment received, hence omitting from the legal liability. Hence, the GMPL was on the contention that the invocation of the Bank Guarantee was fraudulent.
In N. Radhakrishnan v. Maestro Engineers (2009), the applicant made serious allegations of fraud against the respondents. Court took the view that the issues require detailed investigations and the arbitrator cannot properly deal with the same. The doctrine of kompetenz is applicable to understand the arbitrability of the agreement with the exception that the agreement itself is impeached as it is obtained by fraud.
Analysis of the judgment delivered
- Impugned the judgment and order passed by the high court.
- Directed for the payment of Stamp Duty to the Secretary of the court and forward the same to the Collector of Stamp Duty of the respective state within a period of 45 days from the date of receipt.
- Directed the Appellant / Plaintiff to make the payment of Stamp Duty in the next four weeks from the date of communication of the order. Court said a contract is enforceable only if the contract is duly stamped in the earlier judgments. But after considering the evolved positions in modern law and arbitral jurisprudence, held that the non-payment of the Stamp Duty on the substantive main agreement will not make the arbitral agreement unenforceable.
- The court placed main consideration on the doctrine of separability and kompetenz, and gave a verdict that the arbitral agreement stands valid irrespective of whether the main substantive contract is stamped adequately or not.
Conclusion
This judgment made several practices undertaken by the reluctant parties to rest and minimised the undue judicial interference in the matters. The judgment made the Indian Arbitration law in line with the international benchmarks. This also improved the overall efficacy of the arbitration processes for Indian businesses and improved the trust among the international communities for enforcing the contracts in the Indian business environment.
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