When is an arbitration agreement contemplated between parties? - International Law Office

International Law Office

Litigation - India

When is an arbitration agreement contemplated between parties?

November 23 2010

Facts
Decision
Comment


In SN Prasad v Monnet Finance Ltd(1) the Supreme Court made an important pronouncement on the scope of determining when an arbitration agreement can be contemplated between parties under the Arbitration and Conciliation Act 1996. The court considered the question of whether a guarantor for a loan that is not a party to the loan agreement containing the arbitration agreement that has been executed between the lender and the borrower can be made a party to a reference to arbitration regarding a dispute over repayment of such loan and subjected to the arbitration award.

Facts

The second respondent company borrowed Rs7.5 million from the first respondent. Through a letter dated October 27 1995, the appellant, in his capacity as director of the second respondent, stood guarantee for the loan from the first respondent.

A loan agreement dated October 28 1995 was entered into between the lender, the borrower and the third respondent as guarantor in regard to the lending of Rs5 million. Clause 18 of the loan agreement provided for the settlement of disputes by arbitration. Similarly, on November 6 1995 a tripartite loan agreement was entered into in respect of a loan of Rs2.5 million between the first, second and third respondents, followed by a promissory note by the second respondent and a deed of guarantee by the third respondent. The appellant was not a party to the loan agreements; nor did he execute any separate deeds of guarantee or other documents in favour of the first respondent. The loan agreements did not refer to the appellant's letter of guarantee.

On the basis of the respondent's acceptance, the appellant concluded a deal with a bauxite supplier in Australia and entered into a binding charterparty agreement with a shipowner in Oslo. The respondent acknowledged the acceptance of the offer in the minutes of a meeting held on October 26 1997. A formal contract containing a detailed arbitration clause was also sent by the respondent to the appellant on November 8 1997, which the appellant accepted with some changes and returned to the respondent the same evening.

The lender issued a notice demanding payment and proposing to refer the claims against the borrower and its guarantors to arbitration. This was followed by two applications by the lender under Section 11 of the act for the appointment of an arbitrator. The borrower, its managing director-cum-guarantor and the appellant were impleaded as respondents in the application.

By two orders dated May 23 2000, the Delhi High Court appointed a retired judge of the high court as the sole arbitrator. The arbitrations resulted in two awards dated May 1 2002. The first award directed the second and third respondents and the appellant to pay Rs9.32 million with interest charged at an annual rate of 18% from May 24 2000. Similarly, the second award directed the second and third respondents and the appellant to pay Rs4.64 million with interest charged at an annual rate of 18% from May 24 2000. The appellant challenged both arbitration awards by filing applications under Section 34 of the act. The second and third respondents also challenged the awards. By a common order dated May 22 2006, the single judge of the Delhi High Court dismissed the applications. The common order, insofar as it dismissed the appellant's applications, was challenged by the appellant by means of a special leave petition before the Supreme Court.

Decision

First, the appellant contended that he was not a party to the tripartite loan agreements executed between the first, second and third respondents (ie, the lender, the borrower and the borrower's managing director-cum-guarantor) containing the arbitration clause. As there was no arbitration agreement between the first respondent and the appellant, the claim against the appellant could not be referred to arbitration; nor could any award be made against him. The awards against the appellant were therefore liable to be set aside under Section 34(2)(a)(ii) of the act. It was also contended that the appellant had merely given a letter dated October 27 1995 indicating his willingness to stand guarantee, but he had not executed the loan agreement or any deed of guarantee, as it was decided that the third respondent would be the guarantor instead of the appellant. Consequently, the third respondent executed the loan agreement as guarantor also as a deed of guarantee. Therefore, the appellant was not a guarantor and thus not liable.

With respect to the first contention, the Supreme Court dwelt on certain sections of the act to render its decision. The court was of the opinion that Section 2(b)(2) defines an 'arbitration agreement' as an agreement referred to in Section 7 of the act. Section 2(h)(3) defines a 'party' as party to an arbitration agreement. Section 7(4) defines an 'arbitration agreement'. The primary issue of interest was whether the appellant could be said to be a party to the arbitration because of Sections 7(4)(a), 7(4)(b) or 7(4)(c).

The court was of the opinion that it is settled law that there can be reference to arbitration only if there is an arbitration agreement between the parties. Furthermore, the act makes it clear that an arbitrator can be appointed under the act at the insistence of a party to an arbitration agreement only in respect of disputes with another party to the arbitration agreement, and not non-parties.

Having perused the executed document containing the arbitration clause, the court held that the appellant was not a party to the same. The court also noted that the appellant's letter of guarantee for Rs7.5 million was given on October 27 1995, before the dates of the two loan agreements. In view thereof, the court opined that an arbitration agreement between the lender on the one hand and the borrower and one of the guarantors on the other could not be deemed or construed to be an arbitration agreement in respect of another guarantor that was not a party to the arbitration agreement. Therefore, there was no 'arbitration agreement' as defined under Section 7(4)(a) or 7(4)(b) of the act as far as the appellant was concerned.

The next point of determination was whether there was an arbitration agreement as contemplated under Section 7(4)(c), which provides that an arbitration agreement in writing can be said to exist if it is contained in an exchange of statements of claim and defence in which the existence of the arbitration agreement is alleged by one party and not denied by the other. With respect to the same, the court opined that the words 'statements of claim and defence' occurring in Section 7(4)(c) are not restricted to the statement of claim and defence filed before the arbitrator. If there is an assertion of existence of an arbitration agreement in any suit, petition or application filed before any court, and if there is no denial thereof in the defence, counter or written statement thereto filed by the other party to such suit, petition or application, it can be said that there is an 'exchange of statements of claim and defence' for the purposes of Section 7(4)(c).

In view thereof, the court referred to the application under Section 11 of the act that had been filed for appointment of an arbitrator. The court observed that the application filed under Section 11 referred to the loan agreement containing the arbitration clause, which was executed by the second and third respondents as borrower and guarantor in favour of the first respondent. The application specifically relied on Clause 18 of the loan agreement as the arbitration agreement under which appointment of an arbitrator was sought. Significantly, the application under Section 11 did not allege or refer to the existence of any arbitration agreement between the first respondent and the appellant. As regards the respondent's contention that since the appellant's name appeared in the column entitled "Name of other parties to the arbitration agreement with complete address" in the application, it could be inferred as an averment of the appellant being a party to the arbitration clause.

Negating this contention, the court ruled that to constitute an arbitration agreement under Section 7(4)(c), a statement of claim containing a specific allegation about the existence of an arbitration agreement by the applicant and the 'non-denial' thereof by the other party is required. The court was of the opinion that in the entire application under Section 11 there was no allegation as to the existence of any arbitration agreement between the first respondent and the appellant. It further ruled that Column 3 containing names of other parties to the arbitration agreement with addresses could not be considered an assertion or declaration of the existence of an arbitration agreement between the first respondent and the appellant. Therefore, Section 7(4)(c) was held inapplicable to prove the existence of an arbitration agreement.

In view of the above, the court concluded that as there was no arbitration agreement between the parties (ie, the first respondent and the appellant), the impleading of the appellant as a respondent in the arbitration proceedings and the award against the appellant in such arbitration could not be sustained. Consequently, the arbitration award against the appellant was set aside and the appeal was allowed.

Comment

This judgment seeks to reinforce the primary aim of arbitration proceedings as an alternative dispute resolution mechanism between consenting parties to a contract. It is clear that a non-party to an agreement or a party on whose name no specific pleadings or averments have been made as being a party to the arbitration agreement cannot be a party for reference to arbitration or a subject matter of the award. Arbitration is essentially a consensual procedure for dispute resolution and burdening a party that did not consent to it for whatever reasons is against the intention of the act, and the courts have rightly deprecated such attempts.

For further information on this topic please contact Bishwajit Dubey or Tamal Mandal at Amarchand & Mangaldas & Suresh A Shroff & Co by telephone (+91 11 4159 0700), fax (+91 11 2692 4900) or email (bishwajit.dubey@amarchand.com or tamal.mandal@amarchand.com).

Endnotes

(1) Civil Appeal 9224/2010 (arising out of Special Leave Petition (C) 17114/2008) and Civil Appeal 9225/2010 (arising out of Special Leave Petition (C) 17115/2008) decided on October 22 2010.

(2) "Section 2(b): 'arbitration agreement' means an agreement referred to in section 7."

(3) "Section 2(h): 'party' means a party to an arbitration agreement."

(4) "Section 7: Arbitration Agreement:

1. In this Part, 'arbitration agreement' means an agreement by the parties to submit to arbitration all or certain disputes which have arisen or which may arise between them in respect of a defined legal relationship, whether contractual or not;

2. An arbitration agreement may be in the form of an arbitration clause in a contract or in the form of a separate agreement;

3. An arbitration agreement shall be in writing;

4. An arbitration agreement is in writing if it is contained in:

a. a document signed by the parties;

b. an exchange of letters, telex, telegrams or other means of telecommunication which provide a record of the agreement; or

c. an exchange of statements of claim and defence in which the existence of the agreement is alleged by one party and not denied by the other;

5. The reference in a contract to a document containing an arbitration clause constitutes an arbitration agreement if the contract is in writing and the reference is such as to make that arbitration clause part of the contract."


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