Supreme Court Reiterates its Limited Jurisdiction to Interfere with Contractual Terms

[Raghav Bhatia is an Advocate practising at the Supreme Court of India]

Recently, in Indian Oil Corporation Ltd. v. Shree Ganesh Petroleum Rajgurunagar, the Supreme Court of India (“Supreme Court”) has reiterated that courts and arbitral tribunals have limited jurisdiction when it comes to interfering with the terms of a contract.

Background

The Indian Oil Corporation Ltd. (“lessee”) and M/s Shree Ganesh Petroleum (“lessor”) entered into a lease agreement dated September 20, 2015 for a period of 29 years, under which the lessee set up a retail outlet for sale of its petroleum products at a monthly rent of Rs. 1750/-. Subsequently, the parties also entered into a dealership agreement dated November 15, 2006 under which the lessor was appointed as a dealer of the said retail outlet.

As mentioned above, the lease agreement was for a period 29 years after which the lease could be extended mutually. However, the dealership agreement was for a period of 15 years and thereafter, it would continue for successive periods of one year each, until determined by either  party.

Both the lease and the dealership agreements provided for reference of disputes to arbitration, but with different procedures. The lease agreement provided for reference to the Managing Director (“MD”) of the lessee and if the MD was unable to act as a sole arbitrator, then the disputes would be adjudicated by a sole arbitrator nominated by the MD. The dealership agreement, on the other hand, provided for reference of disputes to the sole arbitration of the Marketing Director of the lessee who may either themself act as an arbitrator or nominate some other officer of the lessee to act as the arbitrator. Thus, the lease agreement and the dealership agreement were distinct agreements.

During a routine inspection, the lessee noticed certain irregularities with regard to the functioning of the retail outlet, and in view of the same, terminated the dealership of the lessor. Responding to the same, on August 24, 2009, the lessor invoked the arbitration clause in the dealership agreement. The Marketing Director of the lessee appointed a sole arbitrator under the dealership agreement. In the Statement of Claim (“SOC”), the lessor challenged the termination of the dealership agreement and thus prayed for setting it aside, along with damages. Alternatively, the lessor prayed for enhancement of the monthly rent to Rs. 35,000/- with a 20% increase every three years.

The arbitrator passed an Award dated November 4, 2010 observing that the dealership has been validly terminated by the lessee and cannot be restored, for it is binding between the parties. However, the arbitral tribunal accepted the alternative prayer in the SOC and increased the rent from Rs. 1750/- per month to Rs. 10,000/- per month, with 10% increase after every three years w.e.f. the date of the termination of the dealership agreement. Further, the lease period was also reduced from 29 years to 19 years and 11 months.

The Award was challenged by the lessee under section 34 of the Arbitration and Conciliation Act, 1996 (“the Act”) before the District Court. The District Court observed that although the arbitral tribunal was not empowered to reduce the lease period from 29 years to 19 years and 11 months, the enhancement of rent to Rs. 10,000/- per month with a 10% increase every three years was justified. Both the parties challenged the order of the District Court under section 37 of the Act before the High Court of Bombay (“High Court”). The High Court observed that the District Court erred in interfering with the Award and upheld the award in its entirety. The lessee challenged the award before the Supreme Court.

Proceedings before the Supreme Court

The Supreme Court set aside the Award in so far as it dealt with disputes pertaining to the lease agreement, observing that it was against the public policy of India under section 34(2)(b)(ii) of the Act. In the instant case, the lessor invoked the arbitration clause under the dealership agreement and approached the Marketing Director of the lessee who appointed a sole arbitrator. Therefore, the arbitral tribunal had no jurisdiction to adjudicate upon any dispute pertaining to the lease agreement, which contained a distinct mechanism for reference of disputes to arbitration.

The Supreme Court relied on its earlier judgement in Associate Builders v. Delhi Development Authority and laid down some of the circumstances in which an award is against the public policy of India as follows: first, the award, on its face, is in patent violation of a statutory provision; second, the arbitral tribunal has not adopted a judicial approach in deciding the dispute(s); third, the award is in violation of the principles of natural justice; fourth, the award is unreasonable or perverse; fifth, the award is patently illegal; and finally, the award shocks the conscience of the court, i.e., it is contrary to the interests of India, or against justice or morality.

It was further observed that an arbitral tribunal, being a creature of a contract, is bound to act in accordance with the contractual terms. The Supreme Court then relied on PSA SICAL Terminals Pvt. Ltd. v. Board of Trustees of V. O. Chidambranar Port Trust Tuticorin to observe that an arbitrator can only adjudicate within the four corners of a contract. Any adjudication by an arbitrator beyond the terms of the contract would not be jurisdictional.

At this juncture, the Supreme Court clarified that mere erroneous interpretation of the contractual terms by an arbitrator would not render the award invalid, unless the interpretation is patently unreasonable. However, in the present case, the arbitral tribunal has failed to act in accordance with the contract under which the appointment was done. Therefore, the Supreme Court observed, that where the lease agreement which was in force for a period of 29 years and specifically provided for monthly lease rent of Rs. 1750/- per month for the land on which the retail outlet had been set up, the arbitrator could not have altered the rent or the duration of the lease fixed.

Analysis

The Supreme Court in this judgement has rightly said that where parties have entered into a contract with their eyes wide open, it is not for the courts or arbitrator(s) to interfere with the terms of the same. If the lessor wanted a higher rent, it could have either negotiated the same at the time of entering into the agreement or could have acted under the terms of the lease agreement. In the present case, the lessor’s prayer for enhancement of rent in an arbitration under the dealership agreement should have been refused by the arbitral tribunal. However, the Supreme Court has rightly interfered with the award to that extent and at the same time, also upheld the award insofar as it dealt with termination of the dealership agreement.  

– Raghav Bhatia