Ex Nihilo Aliquid Fit: Separability and SMS Tea Estates

While explaining the Separability Presumption in the Arbitration and Conciliation Act, 1996, the Supreme Court in SMS Tea Estates Pvt. Ltd. v.Chandmari Tea Company Pvt. Ltd. derived its juristic basis from the fact that the arbitration clause is merely a collateral term in the main agreement.While this alone is not the justification for the Separability Presumption, the Supreme Court went on to hold:

“But where the contract or instrument is voidable at the option of a party (as for example under section 19 of the Indian Contract Act, 1872), the invalidity that attaches itself to the main agreement may also attach itself to the arbitration agreement, if the reasons which make the main agreement voidable, exist in relation to the making of the arbitration agreement also.”

The issue here is why does the court accord a specific treatment to voidable contracts? According to the court, in a voidable contract, the invalidity that attaches to the main agreement may also attach to the arbitration agreement if the reasons which make the main agreement voidable also exist in relation to the making of the arbitration agreement as well. Here, the court cited the following example:

“For example, if a person is made to sign an agreement to sell his property under threat of physical harm or threat to life, and the said person repudiates the agreement on that ground, not only the agreement for sale, but any arbitration agreement therein will not be binding.”

Wouldn’t the same rationale logically apply to a void agreement as well? The invalidity that attaches to the main agreement might also attach to arbitration clause as well. This blawgger is not sure if the separability doctrine was adequately formulated by the Supreme Court. In this post, we look at how the separability doctrine is formulated in the Model Law and see if the text of the statute comports with it. The motive of this exercise is to see if the separability doctrine as enunciated in the Model Law and the statute has been fully appreciated by the judiciary.

Separability in the Model Law:

Relevant Provisions:

Article 7(1):

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

Article 16(1)

"The arbitral tribunal may rule on its own jurisdiction, including any objections with respect to the existence or validity of the arbitration agreement. For that purpose, an arbitration clause which forms part of a contract shall be treated as an agreement independent of the other terms of the contract. A decision by the arbitral tribunal that the contract is null and void shall not entail ipso jure the invalidity of the arbitration clause."

The Model Law treats the arbitration clause separable from the main contract for the purposes of according the arbitral tribunal the competence to decide on its own jurisdiction. Article 16(1) quoted above creates two fictions. The first fiction, which provides that the arbitration clause shall be treated as an agreement independent of the main agreement, has the effect of preventing a party from going to court and challenging the validity of the main agreement. The fiction assumes that any objection to the validity of the main agreement would be an objection to the arbitration clause as well. By treating the arbitration clause as an independent agreement, any objection to the validity of the main agreement would not affect the arbitration clause. The fiction in treating the arbitration clause independently presumes (or at least, provides a default rule) that the parties agreed that disputes pertaining to the validity of the agreement(s) has to be raised before the tribunal. The second fiction is a counter to the Ex nihilo nihil fit argument. The Latin phrase means "nothing comes from nothing". The purpose of the fiction is to save the award or decision by the arbitral tribunal in case the tribunal declares the main agreement containing the arbitration clause (and therefore the arbitral clause) to be void.

Separability in the Text of the Arbitration and Conciliation Act, 1996:
It is well known that the Arbitration and Conciliation Act, 1996 (Act) is modelled on the Model Law. Separability being one of the fundamental principles of arbitration law is also modelled on the Model Law. Relevant provisions:

Section 7(2)

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

Section 16(1)

"The arbitral tribunal may rule on its own jurisdiction, including ruling on any objections with respect to the existence or validity of the arbitration agreement, and for that purpose,-
(a) an arbitration clause which forms part of a contract shall be treated as an agreement independent of the other terms of the contract; and
(b) a decision by the arbitral tribunal that the contract is null and void shall not entail ipso jure the invalidity of the arbitration clause."

A comparison of the relevant provisions of the Model Law and the Act would reveal that the provisions are virtually identical and therefore any separability doctrine expounded by the Indian courts should be in consonance with the separability doctrine as found in the Model Law. The separability doctrine expounded by the Supreme Court in SMS Tea Estates as applicable to voidable agreements seems to be not in accord with the language and the spirit of the Act or the Model Law.

Image from here.