Arbitral Tribunals Must Respect Contract Terms While Ensuring Business Efficacy: Bombay High Court

The Bombay High Court on 12 June held that Section 28(3) of the Arbitration and Conciliation Act, 1996 does not permit arbitral tribunals to ignore contractual terms but requires them to interpret the contract in a manner that gives effect to business efficacy.

A Bench of Justice Somasekhar Sundaresan partly allowed petitions filed by the Maharashtra Public Works Department (PWD) and upheld the arbitral award dated 14 April 2023 in favour of Khare and Tarkunde Infrastructure Pvt Ltd (KTIPL) on damages, while setting aside the award of 18% compound interest. He held:

“I must hasten to add that Section 28(3) of the Act is not a license to ignore the terms of the contract at all, but it is a statutory recognition that when parties invest their trust in an Arbitral Tribunal to adjudicate their disputes, the Arbitral Tribunal would take into account the terms of the contract as opposed to the earlier position of adjudicating only “in accordance with” the contract. It is in extraordinary situations such as the matter at hand, that it is arguable that the scheme of the fine balance of reciprocal promises that the parties wove together may be required to be given business efficacy where it otherwise presents completely irrational and absurd consequences.”

The dispute arose from EPC contracts executed in December 2014 for road and bridge projects valued at about Rs. 148.51 crore. The contracts required the PWD to provide at least 90% Right of Way (ROW) within 15 days and to complete the work within 18 months from 27 January 2015. KTIPL alleged that the PWD failed to hand over the ROW within the stipulated timeline, resulting in prolonged delays at the project site.

KTIPL invoked arbitration on 1 October 2018, and the PWD terminated the contracts on 25 October 2018.

The arbitral tribunal awarded damages in favour of KTIPL after finding that the contractor remained mobilised at the site for 45 months instead of the contemplated 18 months. The tribunal also declined to strictly enforce the contractual cap limiting damages to 1% of the contract value.

The Court upheld this approach and held that the tribunal correctly factored in the inordinate delay in handing over the ROW. It ruled that a Section 34 court cannot interfere merely because another interpretation of the contract exists. It further observed that accepting the PWD's interpretation would have allowed indefinite delay in handing over the site while limiting liability to 1% of the contract value, which would have produced an irrational commercial result.

However, the Bench set aside the award of interest. It held that the tribunal granted 18% compound interest, both pendente lite and post-award, without adhering to the contractual framework and in a manner inconsistent with Section 31(7)(a) of the Arbitration Act. It held:

“The Learned Arbitral Tribunal has granted 18% interest compounded at quarterly rests both pendente lite as well as post-award. I see no point in modifying the post-award interest rate alone, which would still not solve the issue relating to the interest granted under Section 31(7)(a), which is awarded without regard to the relevant provisions of the contract. The length of time for this component of the interest is also long and is in the realm of facts, and it is the Learned Arbitral Tribunal that is best placed to rectify it.”

Accordingly, the High Court upheld the award on merits but interfered only to the limited extent of the interest component and left that issue open for reconsideration.