Arbitration In IndiaCourts can only set aside and not modify the Arbitral Awards under Section 34 of the Arbitration Act, 1996

The Hon’ble Supreme Court in the case of M/s Larsen Air Conditioning and Refrigeration Company v. Union of India,Civil Appeal Numbers 3798 of 2023, decided on 11.08.23 held that courts lack the authority to modify an arbitral award, a power that was available under the Arbitration Act of 1940. Under Sections 34 and 37 of the Arbitration Act, 1996, courts are only empowered to set aside an arbitral award, either in part or in full, and that too solely if the limited grounds specified in the Act are satisfied.

FACTS

This case involved a contractual dispute between Larsen Air Conditioning and Refrigeration (hereinafter referred to as “the Appellant”) and the Union of India (hereinafter referred to as “the Respondent”). The dispute was referred to arbitration on April 22, 1997, and in January 1999, the arbitrator directed the four Respondents to pay 18% pendente lite and future compound interest on the claims. When the Respondents challenged this under Section 34 of the Arbitration and Conciliation Act, 1996, the District Court dismissed their plea due to a lack of evidence supporting their claims.

The aggrieved party then approached the Allahabad High Court, which partially allowed the petition, ruling that the 18% interest should not have been awarded as the case did not fall under the Arbitration Act of 1940. After reviewing the arguments, the High Court reduced the interest rate from 18% compound interest to 9% simple interest per annum. Dissatisfied with this decision, the Appellant appealed to the Supreme Court.

ISSUES

1. Was the High Court justified in altering the arbitral award by reducing the interest rate from 18% compound interest to 9% simple interest per annum?

2. What are the restrictions on judicial intervention in arbitral awards under the Arbitration and Conciliation Act, 1996, specifically regarding the modification of interest rates set by arbitrators?

CONTENTIONS OF THE PARTIES

The Appellant asserted that their initial claim sought 24% pendente lite interest, which the arbitrator had already lowered to 18%. They referred to the pre-amended Section 31(7) (b) of the Arbitration and Conciliation Act, 1996, which mandated a statutory interest rate of 18% per annum unless specified otherwise by the arbitrator. Additionally, they cited Clause 70 of the General Conditions of Contract, emphasizing that the arbitrator’s decision was final and binding on both parties.

On the other hand, the Respondent-state argued that the High Court had adopted a comprehensive approach and appropriately reduced the interest rate to a more reasonable level. They contended that even the Appellant’s counsel, during High Court proceedings, had acknowledged that the statutory interest rate should generally be 1-2% higher or lower than the prevailing bank rate, which had averaged around 7-8% over the past decade. Therefore, they maintained that awarding an 18% compound interest rate was excessive and misaligned with prevailing economic conditions.

DECISION AND FINDINGS

The Supreme Court ruled that Section 31(7) (b) of the Arbitration and Conciliation Act, 1996, was amended by Act 3 of 2016. Since arbitration proceedings between the parties commenced on April 22, 1997, after the enactment of the 1996 Act, they were governed by its provisions.

The Hon’ble Court referred to the case of Shahi & Associates v. State of U.P., (2019) 8 SCC 329 which had similar facts and was directly relevant to the present matter. Given that arbitration proceedings in this case commenced in 1997 and the Arbitration Act came into force on August 22, 1996, the Supreme Court held that the Act was applicable. As per Section 31(7) of the Arbitration Act, if the arbitral award does not specify an interest rate, a statutory rate of 18% per annum applies. The Court reiterated that the High Court did not have the authority to alter the interest rate determined by the arbitrator, unlike the previous legal framework, which allowed courts to modify arbitral awards

The Supreme Court further emphasized the highly restricted scope of judicial intervention under Section 34 of the Act. It reiterated that courts can only interfere with an arbitral award on grounds of patent illegality, meaning the illegality must be fundamental and not merely trivial. Additionally, while an arbitrator must adhere to the terms of the contract, a reasonable interpretation of contractual provisions does not justify setting aside the award. Another valid ground for rejecting an arbitral award is a violation of the principles of natural justice.

The Court also highlighted that Parliament had deliberately excluded the judiciary’s power to modify arbitral awards in the 1996 Act, a stance reaffirmed in NHAI v. Hakeem, (2021) 5 SCR 368. Consequently, the Supreme Court found that the High Court’s decision warranted intervention and reinstated the arbitrator’s original award dated January 21, 1999.

AMLEGAL REMARKS

This case serves as a precedent, underscoring that parties are obligated to abide by the terms of the awards they voluntarily accept through arbitration. The Court also clarified the scope and application of Section 34 of the Arbitration and Conciliation Act, 1996, stating that courts can invoke this provision only in cases involving a violation of natural justice or on the grounds of patent illegality.

By setting this precedent, the ruling strengthens confidence in arbitration as an alternative dispute resolution mechanism and further legitimizes its role in legal proceedings. The Supreme Court also highlighted a provision in the previous Arbitration Act that had granted courts the authority to modify awards. However, Parliament deliberately omitted this power when enacting the 1996 Arbitration Act, signaling a clear legislative intent to prevent courts from altering arbitral awards in any manner.

Team AMLEGALS