Relationship between Operator and the Non-Operators in Petroleum Operations

In the last post, we had discussed the decision of the Delhi High Court in HLS Asia Ltd. V. Geopetrol International Inc. & Ors where it was held that although the Non-Operators may not have been party to the contract between the Operator and the Contractor which contains the arbitration clause, they would be necessary parties to the arbitral proceedings in light of the interrelationship between the Operator and the Non-Operators as the members of the Consortium in terms of the Production Sharing Contract (JOA) and the Joint Operating Agreement (JOA). This series of short posts discusses this interrelationship between the Operator and Non-Operators. In this post, the concept of Operatorship in general is analysed.

Concept of Joint Operations:

Petroleum exploration is a highly risky business. Typically, such a company will encounter the following risks:

• Geological risks- risk of not finding any petroleum in commercially viable quantities
• Financial risks- risk that exploitation of the commercially viable quantities of petroleum is far complicated and therefore costlier than initially estimated or change in the economic laws of the host nation drastically increasing the costs to be expended
• Political risks- instability in the region such as civil war, riots, etc thereby resulting in loss of investments.

The business is characterised by high input costs, and when there is commercial discovery, huge profits. Considering the high risks and costs, it is common for two or more parties to share the risks inherent in the business. The term “Contractor” in the Indian context is employed to collectively denote the companies engaged in petroleum exploration. Although the risk is shared, the same is always not equal. Each Party comprising the Contractor generally commits itself only to a certain amount of risk in the exploration project. Consequently, it is entitled to the reward only to the extent of the percentage of the risk shared. Such percentage is known as Participating Interest. Thus, all the rights and all obligations of whatsoever nature including privileges, entitlements, duties, penalties, etc are shared between the consortium members in accordance with their Participating Interest percentage. The percentage of Participating Interest held is recorded in the PSC as well as in the JOA.

Relation between Operator and Non-Operators:

In order to conduct the petroleum operations smoothly and in a focussed manner, a member of the consortium, usually the party having the highest participating interest and resources, is nominated as the Operator. The Operator is responsible for performing virtually all the operations, obtain approvals, comply with laws, employ contractors, and do all activities necessary to perform the petroleum operations. In performing these obligations, the Operator acts not only on behalf of itself but also on behalf of the Non-Operators. The Operator is also authorised to enter into contracts on behalf of the consortium. Thus, the Operator, apart from acting on its behalf, also acts for, or, represents the Non-Operators in dealings with third persons.

Although the Operator is authorized to act as the agent of the Non-Operators, the contours of such authority are delineated by the JOA. In addition, a body called the Operating Committee consisting of representatives of all members of the consortium (typically) is constituted to supervise the functioning of the Operator. Certain important actions in conducting petroleum operations require express authorization from the Operating Committee. Three possibilities exist as regards approval of Operating Committee for awarding contracts:

1. the JOA authorizes the Operator to award contracts without the approval of the Operating Committee,
2. the JOA authorizes the Operator to award only contracts below a specific value without the approval of the Operating Committee, and
3. the JOA requires all contracts to be approved by the Operating Committee. In such cases, the Operator is bound to follow relevant procedure, as applicable. If no consent is taken when the JOA makes it mandatory, the Non-Operators would be entitled to refuse to share the costs and risks for such contracts.

Since the Operator is authorized to enter into contracts to conduct petroleum operations, it is expected that claims or legal proceedings may be initiated against the Operator. Generally, the Operator is authorized to represent the members of the consortium in defending legal proceedings. In doing so, the Operator is mandated to obtain the approval and direction of the Operating Committee in proceedings with such legal proceedings. Costs expended for defending the said proceedings are shared by the members proportionate to their Participating Interest. However, the Non-Operators are not prohibited from appointing their own counsel, in which case, the resultant costs are borne by the Non-Operators. In case a claim is initiated against a Non-Operator by a third party in respect of the petroleum operations, the Non-Operator is entitled to defend the same but in consonance with the directions of the Operating Committee and the costs expended for the same would be shared as per the Participating Interest.

In all, while performing the role of Operator, whether in conducting petroleum operations or in dealing with the government or third parties for the purposes of petroleum operations, the Operator acts as agent for the Non-Operators. Consequently, the general principles of the law of agency are applicable. It may be noted that the JOA grants restricted authority to the Operator to act as agent. Such authority is also circumscribed by the directions of the Operating Committee as provided by the JOA. Thus, subject to the JOA, the Operator is entitled to all the rights of an agent available under law. Such rights include the right to be indemnified by the Non-Operators against consequences of acts which are lawful and acts done in good faith, right to retain expenses incurred and his remuneration from moneys collected by him on behalf of principal, etc. At the same time, the Operator is, subject to the JOA, obligated to perform the duties of an agent as per law.

The above discussion generalises the concept of Operatorship prevailing in the petroleum industry. In the next post, the concept of Operatorship as found in some of the standard formats of agreements used in the petroleum industry would be discussed.

Non-Operators as Parties to Arbitral Proceedings against Operator

Recently, a Single Judge of the Delhi High Court in HLS Asia Ltd. V. Geopetrol International Inc. & Ors., MANU/DE/5356/2012 held that it was necessary that each member of a consortium be made party to arbitral proceedings initiated by the Contractor Petitioner when the Operator to the Consortium had acted on behalf of the consortium. This decision is significant as there are two views concerning the question as to whether the Petitioner has to invoke arbitration against all members of the consortium or merely against the Operator when the contract was executed by the Operator and the Petitioner. One view is that the Petitioner should proceed against the Operator and the Operator can claim from other members of the consortium (hereinafter “Non-Operators”) in accordance with the participating interest of each member to the consortium. The second view is that the Petitioner should invoke arbitration against all members of the Consortium as the contract was executed by the Operator on behalf of the Consortium. The Delhi High Court has held that the Petitioner is entitled to invoke arbitration against all the members of the Consortium. This post analyses the said decision.

Facts:

A consortium consisting of Geopetrol International Inc. (GII), National Thermal Power Corporation Ltd. (NTPC), Brownstone Ventures Ltd. And Canoro Resources Ltd. entered into a Production Sharing Contract (PSC) with the Government of India for exploration of petroleum block in Arunachal Pradesh. The said members of the consortium entered into a Joint Operating Agreement (JOA) to govern their inter se relationship. GII was nominated as the operator for conducting petroleum operations. The Operator was responsible as per the JOA to conduct the day-to-day petroleum operations in the Block and was authorized to enter into contracts on behalf of the consortium but in accordance with the JOA and the PSC. Pursuant thereto, GII entered into a contract with HLS Asia Ltd. (HLS) for wireline logging services to be provided by HLS. Preamble to the contract noted that GII, the Operator, was acting on behalf of the members of the Consortium and that each member of the consortium was jointly and severally liable and only to the extent of its participating interest.

Disputes arose between HLS and GII. Consequently, HLS invoked arbitration under the proceedings. Subsequent to the filing of statement of claim by HLS, GII stated to the tribunal that all the members of the consortium had to be impleaded. Consequently, notices were sent by the tribunal and all the Consortium members were impleaded by it.

NTPC objected to the same and stated that it could not be compelled to participate in the arbitral proceedings. GII countered and stated that the contract was entered into with HLS in its capacity as operator of the Block on behalf of the members of the Consortium.

The tribunal accepted the contentions of NTPC on the following grounds, against which appeal was filed by HLS under Section 37 of the Arbitration and Conciliation Act, 1996:

"(i) HAL had not produced any documents to establish that the members of the consortium had authorised GII to enter into the contract on behalf of the members of the consortium.

(ii) In the absence of such authority, the members of the consortium could not be held liable under a contract to which they were not a party and which contract had not been signed by them.

(iii) The decisions in Mohan Aluminium Orchards Pvt Ltd v. M.P.E.B. MANU/MP/0717/2002 : 2002 (5) MPHT 429 and Austbulk Shipping SDN BHD v. P.E.C. Limited 2005 (2) Arb. LR 6 (Delhi) relied upon by HAL were distinguishable on facts.

(iv) Since no arbitration agreement existed between HAL and NTPC, NTPC was liable to be deleted from the array of parties."

Against this GII stated to the tribunal that the tribunal did not have jurisdiction to adjudicate the dispute as the claim was against all the respondents, that each of the respondent was liable only to the extent of its participating interest, and that the prayer of the claimant went beyond the scope of the agreement and could be maintained only when all the respondents were made party to the arbitral proceedings. HLS, in the meanwhile, appealed to the court under Section 37. The decision of the court is summarized below:

• The PSC and the JOA (especially Article 4.7(g) and (r), JOA) authorized the Operator to act on behalf of the members of the Consortium to enter into contracts, pursuant to which GII entered into a contract with GII.
• Although NTPC did not sign the said contract, the contract was executed by GII on behalf of NTPC and other members of the consortium.
• Each member to the Consortium was necessarily to be made party to the arbitral proceedings as such move would obviate a subsequent plea by any member to the consortium that it was not bound by the award as it was not a party.
• Even in the recent case of Chloro Controls v. Severn Trent Water Purification Inc., the Supreme Court contemplated the possibility of reference to arbitration of non-signatories to the arbitration agreement. (Our comment on the Chloro Controls case can be accessed from here (Part I) and here (Part II)).

The High Court held:

“Consequently, in the present case, although the individual members of the Consortium may not have been party to the contract between HAL and GII, which contains the arbitration clause, they would be necessary parties to the arbitral proceedings in light of the inter relationship between the Respondents as the members of the Consortium in terms of PSC and JOA.”

NLSIR Symposium

The National Law School of India Review, the flagship journal of National Law School of India University, Bangalore is pleased to present the second NLSIR Public Law Symposium to be held on 22 December, 2012 at the National Law School campus. Last year, the editorial board of NLSIR spearheaded the first edition of the Public Law Symposium on the "Adjudication of Socio-Economic Rights by the Supreme Court of India" in an effort to initiate a systematic study of public law jurisprudence in India. The theme of the symposium this year is "Delimiting Media Freedoms: Discovering the 'Delicate Balance' Between Article 19 and Article 21", an issue which has seen significant legal developments in the recent past. For this project, we are collaborating with the Alternative Law Forum, Bangalore. The symposium shall field opinions from the judiciary, practising lawyers, the media and students, and will be attended by renowned luminaries including Justice Muralidhar (Delhi High Court), Geeta Seshu (The Hoot), Apar Gupta (Partner, Advani & Co.), amongst others.

The discussion will be divided into two sessions. In the first session (scheduled between 10.30 A.M.-12.30 P.M.) the panel will discuss the right to privacy and the problems posed by its uncertain ambit of protection under Article 21. Questions regarding the balance between the right to privacy and the media's purported objective to protect public interest as well as the standards of privacy enjoyable by public figures together with the development of procedural innovations globally will constitute an important part of the discussion. The second session (scheduled between 1.30 P.M.-3.30 P.M.) will focus on the controversial subject of 'trial by media' and the propriety of the judiciary governing the content of media reports through instruments such as the recently invoked 'doctrine of postponement'. Lunch and refreshments will be provided by the Organizing Committee.

The registration fee for the symposium is Rs. 200 for students and Rs. 500 for professionals. All those interested are requested to register their attendance at the following link: https://docs.google.com/spreadsheet/viewform?formkey=dHN1M1ZJem1nVlgzaUxoX0NMYU9MaEE6MQ.

For any further details regarding the symposium, please contact Ashwita Ambast (Chief Editor, NLSIR) at +91-9986478265 or Sahil Kher (Deputy Chief Editor, NLSIR) at +91-9739265715 or email us at mail.nlsir@gmail.com.

Judiciary sans independence: the Sri Lankan chronicle

(Published in Colombo Telegraph on 28/11/12. see, http://www.colombotelegraph.com/index.php/judiciary-sans-independence-the-sri-lankan-chronicle/)

The future of a judge who would have been the longest serving Chief Justice of the nation is grim in Sri Lanka. Widely alleged as politically motivated, the current move by the President to impeach her gives an opportunity to analyze the soundness of constitutional principles relating to judiciary in general and impeachment of judges in particular.

Constitution is the bedrock on which the judiciary in Sri Lanka is built like most constitutional democracies. Unlike many constitutions, it has very detailed provisions, spanning from Articles 107 to 147 with myriad of amendments, relating to judiciary.  

The primary concern in the present context is the competence of the relevant constitutional provisions to safeguard the interests of the institution of judiciary in a democracy. The most fundamental value would be independence of judiciary.  The independence is not only an end in itself but is also a means. It is in the independence of the institution, the present and future of a democracy rests. Independence of judiciary is a prerequisite of a sound legal and governance system. The provisions relating to appointment, tenure, conditions of service and removal are the bulwarks of judicial independence. Provisions of Sri Lankan constitution are an anathema to the claim of independence.

In the context of the current attempt to impeach a judge, an assessment of the provisions and procedure of removal is taken up to test on the claim of judicial independence.

Removal of judge in Sri Lanka as per the constitutional scheme is virtually in the hands of the executive. This cuts at the very root of judicial independence. Though the legislature is involved, the requirement of the simple majority makes the ultimate decision at the sweet will of any government, which invariably will have majority in the parliament. Article 107 of the constitution of Sri Lanka provides that the President may remove a judge on proved misbehavior and incapacity. The process is established by the standing orders (see, Standing Orders 78A). The impeachment process is kick started by the parliamentarians with a notice of resolution signed by one third of the members. After the lapse of one month, the speaker shall appoint a select committee of not less than eleven members who investigates and submits a report within a stipulated timeframe, which is one month from the commencement of the sitting of the committee. On the report of the select committee a resolution shall be passed by the parliament and the same shall be presented to the President for the action of removal. In this scheme of events, the judiciary is entirely under the benignancy of the government in power. It therefore remains as the affair of the government in power.

The breaches of independence vis-à-vis removal in the above scheme could be best understood in contrast with the structure provided by India, a neighbouring nation. Removal of a judge in India is commenced on the recommendation by the judiciary. The proceedings are detailed in the Judges Inquiry Act of 1968. It has elaborate provisions about the process. The enquiry is conducted by a committee of three; two from judiciary and one a distinguished jurists. The report of the committee is so decisive that if it does not find alleged misbehavior or incapacity, the proceedings are dropped.   Only on an adverse finding that there will be any further proceedings in the House and the same shall be discussion and adoption of the motion to impeach with special majority.  This process if nothing else does not leave the judges at the mercy of the government in power.

This limited comparative exercise brings out the inadequacies of the Sri Lankan scheme of removal of a judge, which is a heavy setback on independence of the institution. Judicial independence has been accepted as a coveted virtue world over. The lack of it is a severe dent on the rule of law record, human rights protection and liberty quotient of the citizen in its relation to its own government.

Kasab, buried with rights

Madabhushi Sridhar wrote a interesting piece in the Hindu on 23 Nov 2012 on the constitutional impropriety involved in the execution of Ajmal Kasab. Post series of judicial decisions, judicial review of the exercise of power of pardon is established in India. (See, Kehar Singh, Maru Ram, Dhanajoy Chatterjee and Epuru Sudhakar to mention few important decisions.)

The position of law on review of order by the President or the Governor under Articles 72 or 161 respectively is clear and in the positive. In Epuru Sudhakar, the court also summarise the grounds as follows

(a) that the order has been passed without application of mind

(b) that the order is mala fide

(c) that the order has been passed on extraneous or wholly irrelevant

considerations

(d) that relevant materials have been kept out of consideration

(e) that the order suffers from arbitrariness

Kasab therefore had the right to invoke the review power of the court of the order rejecting his mercy petition. A decision on that application would have sealed his fate. 

From the available news reports it is not clear whether he was aware of this opportunity and also the reasons to reject the petition by the President. There has also been debate as to whether the order rejecting mercy petitions has to be reasoned and courts have given contrary signals on this issues. Having said that, a reasoned order becomes imperative to exercise judicial review meaningfully. (See S. R Bommai) 

Composite Transactions and the Applicability of Arbitration Agreement to Non-Signatories: Chloro Controls: Part II

Composite Transactions and the Applicability of Arbitration Agreement to Non-Signatories: Chloro Controls: Part II

By Badrinath Srinivasan & Roshni Rajiv

In the previous post, we had dealt with a portion of the decision in Chloro Controls (I) Pvt. Ltd. v. Severn Trent Water Purification Inc. & Others. In this post, we complete the descriptive comment on the decision.

• In Sumitomo Corporation v. CDS Financial Services , the Supreme Court held that the parties in the judicial proceedings who are to be referred to arbitration in the disputes should be parties to the arbitration agreement as per Section 2(1)(h) of the 1996 Act ("party" means a party to an arbitration agreement.). However, the said decision is not altogether correct as regards Section 45 as the context in which the said provision is used demands the inclusion of a person claiming under such party as well. In fact, Section 2(1)(h) begins with the expression “unless the context otherwise requires”. Also, Sumitomo Corporation is not a binding precedent as this question never arose directly for consideration there.  
• A seven Bench of the Supreme Court in SBP & Co. v. Patel Engineering has settled the legal position that the nature of enquiry under Section 45 is identical to that of Section 11(6) of the 1996 Act. Patel Engineering has been explained and the kind of questions to be decided under Section 11(6) has been comprehensively dealt with in National Insurance Co. v. Boghara Polyfab. However, the case of Shree Ram Mills v Utility Premises seem to be at “some variance” with the above cases as in Shree Ram, the court was of the view that prima facie satisfaction of existence of live disputes is sufficient. The observations in Shree Ram are obiter and not binding, considering that a larger bench seems to have contradicted with Shree Ram. Thus, under Section 45, the determination by the court of questions that are decided there ( in line with Patel Engineering and Boghara Polyfab) are final and binding and not prima facie. 
• However, the question as to whether the determinations by the court can be reexamined by the tribunal or by the enforcement court under Section 48 does not directly arise in the case and is left open. However, as regards Section 11, Patel Engineering is clear in making the determination final. The advantage of such finality is that it would save considerable costs and money for the parties. 
• The correctness of Sukanya Holdings was questioned before the court. It is not necessary to decide the correctness of Sukanya Holdings as it arose under Section 8 which is not the case here. Further, there was no composite transaction involved in Sukanya Holdings, which is the case here. Sukanya Holdings is also distinguishable on facts. 
• Section 9 of CPC is not an absolute right. It contains certain inbuilt restrictions. Therefore, Section 45 of 1996 Act can prevail over provisions of CPC when Court is satisfied that an agreement is enforceable and operative and the Court is obliged to refer it to arbitration.
• On facts, the intra-legal relationship between the parties is directed towards one particular object - successful implementation of joint venture. The joint venture is not dependent on one single agreement but several agreements which is “one single chain consisting of different components”. 
• All the five agreements signed by the parties were primarily to fulfill their obligations and ensure performance of the Principal Agreement. (Para 138,139). Further, all the agreements were executed simultaneously on the same date which implies that parties intended to have all these agreements as a composite transaction.(para 147) . It being a composite transaction gives the parties the right to opt for any remedy from all the remedies provided under the agreements.(para 151,154)
• The arbitration clause in the Principal agreement is comprehensive enough to include the disputes arising ‘under and in connection with’ the agreement. The word ‘connection’ has been added by the parties to expand the scope of the disputes under the agreements.(para 144). The other agreements originate from the Principal Agreement and are covered under the arbitration clause contained in the Mother/ Shareholders agreement.(para 146) 
• As per the “Group of Companies Doctrine”, a party being non-signatory to one or other agreement may not be of much significance as performance of one may be quite different with the performance and fulfillment of the Principal/mother agreement(para 150).
• In certain agreements, there are arbitration & jurisdiction clauses. These clauses are restricted to disputes arising under those agreements. The real intention of the parties was to refer to arbitration disputes not only arising under those agreements in which the arbitration clauses were agreed to but even disputes which arose under the mother agreement. (152-154)

Thus, the court held that in case of composite transactions involving on 'mother' agreement followed by a series of other agreements, a party claiming under the party to the arbitration agreement has the right to apply to the court to get the matter referred to arbitration even if such party is not a party to some of the several agreements in the composite transaction, in which case the arbitration clause in the mother agreement will prevail.

Call for Papers: Indian Journal of Arbitration Law

The Call for Papers for Issue 1, Volume 2 of the Indian Journal of Arbitration Law is below

 

INDIAN JOURNAL OF ARBITRATION LAW

The Indian Journal of Arbitration Law is the flagship journal of the Centre for Advanced Research & Training in Arbitration Law [CARTAL], published under the aegis of National Law University Jodhpur. The inaugural edition of IJAL was launched in September and it would appear bi-annually, providing timely insights useful to the international arbitration community. The online edition is available here.

On 3rd November, Professor Martin Hunter, editorial advisor of IJAL has released the theme for the second issue (Volume 2: Issue 1) to be published in February 2013.

The editorial board is pleased to announce the call for submissions for this upcoming issue on the following theme:

“Investment Treaty Arbitration and Developing Countries: What Now & What Next”

Manuscripts may be submitted via email to editor.cartal@gmail.com latest by January 5, 2013

For further details regarding Editorial policy and submission guidelines please visit: http://www.ijal.in/?q=node/3

Composite Transactions and the Applicability of Arbitration Agreement to Non-Signatories: Chloro Controls: Part I

Composite Transactions and the Applicability of Arbitration Agreement to Non-Signatories: Chloro Controls: Part I

By Badrinath Srinivasan & Ms. Roshni Rajiv

Recently, a three judge Bench of the Supreme Court of India had the occasion in Chloro Controls (I) Pvt. Ltd. v. Severn Trent Water Purification Inc. & Others, Civil Appeal No. 7134 of 2012, Supreme Court of India, dated September 28, 2012 before SH Kapadia, CJ, AK Patnaik & Swatanter Kumar, JJ. to consider an important question related to reference of disputes to arbitrations arising out of a composite transaction involving several agreements and several affiliates of the parties.

The decision is significant because it authoritatively deals with several aspects such as those pertaining to the interpretation of Section 45 of the Arbitration and Conciliation Act, 1996, incorporation of an arbitration agreement by reference, applicability of arbitration agreement to non-signatories, consolidation of arbitration proceedings, scope of enquiry under Sections 11, 8 and 45, etc. This series of posts analyses the decision and related aspects.

Facts: (pardon the long factual narration, which is essential to the appreciation of legal issues involved)

Chloro Controls Company, Inc., USA were involved in the manufacture and sale of chlorination related equipments. Its Indian distributor was Chloro Controls Equipment Company, a sole proprietary concern, owned by MB Kocha (Respondent or R9). Chloro Controls Company, Inc., USA changed its name to Severn Trent Water Purification Inc. (STWP or R1). R9 and CCC entered into a letter of intent and  a letter of understanding by which a Joint Venture company called Capital Controls (India) Pvt. Ltd. (Capital CI or R5) was formed for selling chlorination related equipments. Another Company Capital Control (Delaware) Inc. (CCD or R2) merged in STWP and CCD ceased to exist. Prior thereto, R1 & R2 sold electrochemical equipments under the brand name "Hypogena" which was replaced by ""Sanilec" and "Omnipure". Titanor components Ltd. (Titanor or R3) is a company floated as   JV with an Italian Company. Hi Point Services Ltd (R4) is an Indian company engaged in the business of electro-chlorination and has a tie up with an American Company called Excel Technologies Inc. The Petitioner (Choloro Control (I) Pvt. Ltd- "Chloro CI") was entirely held by Respondents 9 to 11 (Kocha Group).

R5 is an Indian joint venture company with shares held by the Petitioner and R9 on the one hand and R1 and R2 on the other. 50% of the shares is held each by the Petitioner Chloro CI and R2. The primary agreement is the Shareholders Agreement by which R 1 and R2 together agreed with the Petitioner and R9 to manufacture, market, etc. electro-chlorination equipments. In furtherance of these objectives, various agreements, such as the Financial and Technical Know-How Licence Agreement, International Distributor Agreement, Supplementary Collaboration Agreement, were executed.

Agreement & Execution Date	Parties	Arbitration Clause
Shareholders Agreement (16.11.95)	R2, ,Chloro CI, R9	Construed according to Indian laws ICC Arbitration at London subject to English laws. Three arbitrators
International Distributor Agreement (16.11.95)	R1,R5	No arbitration clause
Managing Directors Agreement (16.11.95)	R1, R9	No arbitration clause
Financial & Technical Know-How Licence Agreement (16.11.95)	R1, R5	Construed according to Indian laws ICC Arbitration at London subject to English laws. Three arbitrators
Export Sales Agreement (16.11.95)	R1, R5	American Arbitration Association Arbitration at Pennsylvania, USA and courts at Pennsylvania.
Trademark Registered User Licence Agreement (16.11.95)	R1, R5	No arbitration clause
Supplementary Collaboration Agreement (August 1997)	R1,R5	No arbitration clause

Certain disputes pertaining to the joint venture arose between the parties. STWP (R1) wrote on 21.07.04 to the Petitioner, R5 and R9 that since the issues were not resolved, it was terminating the JV agreements with effect from 22.07.04.

Consequently, the Petitioner (Choloro Control (I) Pvt. Ltd- "Chloro CI") filed a derivative suit in the High Court of Bombay for declaration that (a) the Joint Venture Agreement and the Supplementary Collaboration Agreement were valid, subsisting and binding, and (b) the said agreements included within their scope manufacture, sale, distribution etc of the entire range of chlorination and electro chlorination equipments. Subsequently, the Defendant terminated the said agreements and therefore the Petitioner sought to amend its plaint to the effect that such termination was invalid. The defendants moved a notice of motion (778/2004) by which they prayed the court to refer the matter to arbitration in view of the existence of the arbitration clause. This was dismissed by the Single Judge of the High Court but allowed by a Division Bench of the High Court on appeal. The Petitioner/ Plaintiff appealed to the Supreme Court seeking special leave. The fundamental question before the Supreme Court was whether the disputes could be referred to arbitration.

Arguments:

On Behalf of the Petitioner/ Appellant/ Chloro CI (Mr. Fali S. Nariman):

 
1) Every person has an inherent right to approach the civil court under Section 9 Code of Civil Procedure, 1908 (CPC) and arbitration is merely an exception to such a right and not an alternative. Pursuant to that right, Chloro CI had approached the Bombay High Court and there is no bar under any statute which prevents it from doing so.

2) The Appellant, who has the real interest in the case, had included R3 and R4 not merely to overcome the arbitration clause but because R3 and R4 are necessary parties, against whom substantive relief has been claimed.

3) Under Section 45 of the 1996 Act, the request to refer the dispute to arbitration must come from all the parties to the suit. If not, request only by some of the parties and consequent reference would result in multiplicity of proceedings and further mischief. Therefore, "a party" in Section 45 should be construed as "all parties". Consequently, the reference by the Division Bench of the High Court ("Division Bench") of the entire suit to arbitration meant that even the non-parties and those against whom cause of action did not arise from the arbitration agreement were to be a part of arbitration proceedings.

4) The law prior to the 1996 Act was that the court could merely stay the suit and not actually refer the parties to arbitration. After the 1996 Act, it cannot be contended that some parties and some matters in a suit can be referred to arbitration.

5) The judgement in Sukanya Holdings binds the court. Bifurcation would lead to conflicting decisions.

6) In the facts and circumstances, reference to arbitration is impermissible as some agreements do not have arbitration clause and among those agreements that have arbitration clause the venue and the applicable rules are different. Composite reference to arbitration where some agreements provide for arbitration clause while others do not is impermissible as there should be a clear intent to arbitrate.

Hence, the Petitioner argued that the Division Bench was wrong to refer the matter to arbitration.

On Behalf of R1: (Mr. Harish Salve)

1) Part II is in favour of reference to arbitration and therefore the provisions are to be interpreted in favour of referring the dispute to arbitration.

2) The entire dispute relates to the scope of business of the joint venture and therefore the Shareholders Agreement is the principal agreement. Execution of different agreements would not make any difference.

3) Filing of the suit in the form of a derivative action and the joinder of R3 and R4 was only to prevent reference to arbitration.

4) Clause 21.3 of the Shareholders Agreement provided that in the event of termination, the JV company would be wound up and all obligations undertaken by the Petitioner would cease to exist. Hence, despite the existence of several agreements, the dispute is centered on the Shareholders Agreement.

5) The judgement in Sukanya Holdings would not be applicable to the facts of the present case which covers Part II of the 1996 Act. Severability of cause of action and parties is permissible in law.

6) Court is competent to pass any orders as it deem fit and proper under Section 151 of CPC. Further, 1996 Act does not restrict or limit on reference to arbitration as compared to the 1940 Act.

7) Under Section 45 of 1996 Act, the applicant seeking reference can either be a party to arbitration agreement or a person claiming through or under such party.

Hence, the Respondent argued that the Division Bench was correct in referring the matter to arbitration.

Judgement:

The Judgement of the Supreme Court is summarized below:

• The operation of Parts I and II of the Act do not arise directly for consideration in this case and are not dealt with (Note: This judgement was probably written prior to the judgement of the Supreme Court in BALCO v. Kasier Aluminium).
• Section 44, Chapter I, Part II of the 1996 Act prescribes the conditions of validity of arbitration agreements for the purpose of enforcing foreign arbitral awards under such agreements.
• The language and purpose of Section 45 mandates a construction of relevant provisions that favours reference to arbitration.
• Part I of the Act has been drafted to bring the arbitration law in line with the UNCITRAL Model Law on International Commercial Arbitration, 1985. Chapter I, Part II has been enacted to give filip to international commercial arbitration by incorporating the Convention on Recognition and Enforcement of Foreign Arbitral Awards, 1958 (New York Convention). Chapter II, Part II incorporates the Protocol on Arbitration Clauses in the scheme of the law.
• Considering the structure of the Act, provisions of Chapter I, Part II are to be interpreted are to be construed along with Schedule I to the Act (Conditions on the Recognition and Enforcement of Certain Foreign Arbitral Awards). Failure to do so would be inappropriate.
• Section 45 has been enacted along the similar lines to that of Artice II of the New York Convention. International Council for Commercial Arbitration had come up with a Guide to the Interpretation of the New York Convention. According to the Guide, when there is a challenge to the validity of the arbitration agreement, the following questions arise:
• Does the Arbitration Agreement fall under the Scope of the Convention?
• Is the arbitration agreement evidenced in writing?
• Does the arbitration agreement exist and is substantively valid?
• [If] there a dispute, does it arise out of a defined relationship, whether contractual or not, and did the parties intend to have the dispute settled by arbitration?
• Is the arbitration agreement binding on the parties to the dispute that is before the Court?Is this dispute arbitrable?
• In addition to the above, if the respondent challenges the application under Section 45 on the ground that the arbitration agreement is null and void, inoperative or incapable of being performed, the court has to consider the same. If the answer for the above questions is in the affirmative, the court must refer the matter to arbitration.
• The court should bear in mind three characterestics of arbitration- "(1) arbitration is consensual. It is based on the parties' agreement; (2) arbitration leads to a final and binding resolution of the dispute; (3) arbitration is regarded as substitute for the court litigation and results in the passing of [a] binding award." 
• The discretionary language "may" used in Arbitration Act, 1940 in the context of domestic arbitration is absent both in Sections 8 and 45. However, the right to reference under Section 45 is conditioned by the pre-requisites which are to be satisfied for the reference.  Under Section 45, an obligation is cast on the courts to determine at the threshold as to whether the agreement is valid, operative and capable of performance. This view is reinforced by the fact that there is no provision in Section 45 akin to Section 8(3) (“Notwithstanding that an application has been made under sub-section (1) and that the issue is pending before the judicial authority, an arbitration may be commenced or continued and an arbitral award made.”)
• In exceptional cases, a non-signatory to the arbitration clause may nevertheless be subject to arbitration. The intention of the parties is critical. To examine if a non-signatory would be so subject, the following factors would be relevant: (a) whether there is a direct relationship between the non-signatory and the signatory to the arbitration agreement, (b) commonality of subject matter, and (c) whether the transaction contemplated is composite.
• A transaction is composite where the performance of the “mother agreement” is not feasible “without aid, execution and performance of the supplementary or ancillary agreements” and all the agreements are aimed towards achieving a “common object” and have a collective bearing on the dispute. Here, the performance of one agreement is interlinked to the other agreements that they are “incapable of being beneficially performed without performance of the others or severed from the rest”. Another important factor is whether the parties intended to refer all disputes to arbitration. Apart from the above, the court is to determine if “ends of justice” would be met if the parties to the composite transaction are referred to arbitration. Thus, “[t]he principle of ‘composite performance’ would have to be gathered from the conjoint reading of the principal and supplementary agreements on the one hand and the explicit intention of the parties and the attendant circumstances on the other.”
• Some jurisdictions such as Switzerland have not been unequivocal in accepting the above but some, such as USA, have.
• In cases where there are several agreements relating to different parties, the dispute resolution terms might vary with such agreements. For example, one agreement might designate a particular law as the substantive law while another might designate a different substantive law. In such cases, having different arbitrations may lead to multiplicity of proceedings and inconsistent findings by different tribunals. In such cases, it would be prudent to strike off unnecessary parties and even cause of action in terms of the provisions of CPC. If parties cannot be struck off, the proceedings should continue before the court.
• A comparison of Sections 8 and 45 below reveals that reference to arbitration under Section 8 can be made only if a party to the arbitration agreement applies to the judicial authority to refer the matter to arbitration. Section 45 allows, in addition, any person claiming through or under a party to the arbitration agreement to request the court to refer the parties to arbitration.

Section 8

Section 45

A judicial authority before which an action is brought in a matter which is the subject of an arbitration agreement shall, if a party so applies not later than when submitting his first statement on the substance of the dispute, refer the parties to arbitration.

Notwithstanding anything contained in Part I or in the Code of Civil Procedure, 1908 (5 of 1908), a judicial authority, when seized of an action in a matter in respect of which the parties have made an agreement referred to in section 44, shall, at the request of one of the parties or any person claiming through or under him, refer the parties to arbitration, unless it finds that the said agreement is null and void, inoperative or incapable of being performed. (emphasis added)

• This being so, if “[e]xamined from the point of view of the legislative object and the intent of the framers of the statute, i.e., the necessity to encourage arbitration, the Court is required to exercise its jurisdiction in a pending action, to hold the parties to the arbitration clause and not to permit them to avoid their bargain of arbitration by bringing civil action involving multifarious cause of action, parties and prayers.” However, the onus is heavy on the person who seeks to establish that he is claiming through or under a party to the arbitration agreement. Examples of such situations are:
• (i) The plaintiff has acquired the rights, which the action is brought to enforce, from someone who is a party to an arbitration agreement with the Defendant;
• (ii) The plaintiff is bringing the action on behalf of someone else, who is a party to an arbitration agreement with the Defendant.
• (iii) When the expression used in the provision, the words ‘claiming under Plaintiff’ relative to substantive right which is being asserted.
• In fact, joinder of non-signatories is not unknown to arbitration. One prominent theory is the contractual right transfer theory wherein the contractual right is transferred to the non-signatory who can be brought in into the arbitration proceedings. Such transfer takes place due to several means such as implied consent, third party beneficiary, guarantee, assignment, etc. Another important theory is the group of companies doctrine where arbitration agreement executed with a company can bind its affiliate. The question as to the formal validity of arbitration agreement is different from the question as to whether the parties are bound by that agreement. The New York Convention does not prevent a party from giving consent on behalf of another person.
• “[W]hen a third party i.e. non –signatory party is claiming or is sued as being directly affected through a party to the arbitration agreement and there are principal and subsidiary agreements, and such third party is a signatory to the subsidiary agreement and not to the mother or principal agreement which contains the arbitration clause, then depending upon the facts and circumstances of the given case, it may be possible to say that even such third party can be referred to arbitration.”
• A party may not be a signatory to an agreement but the performance contemplated by the agreement would be through an affiliate of a signatory. In such cases, parties may opt to sign different agreements through different affiliates for various reasons. In such cases, reference to arbitration could be made even of such a non-signatory but there is a heavy onus on the person seeking reference of such a party to arbitration. 

(More in the next part)