Irrelevance of Seat in Domestic Arbitration: SC Agrees in Principle

In a previous post in this blog, we had argued: "For domestic arbitrations, it is necessary to abandon the concept of seat as it is understood in international arbitration parlance." Readers are kindly request to read this post before reading the below post or the decision.

The Supreme Court of India seems to agree with this in principle in its decision today (29.04.2020) in the case of Quippo Construction Equipment Ltd. v Janardan Nirman Pvt. Ltd. (CA 2738/2020). Although the Supreme Court has not directly addressed the issue in depth, it has stated:

"The specification of “place of arbitration” may have special significance in an International Commercial Arbitration, where the “place of arbitration” may determine which curial law would apply. However, in the present case, the applicable substantive as well as curial law would be the same."

This is not the first time an Indian court has expressed doubts over BALCO and subsequent decisions importing the concept of seat from international commercial arbitration to domestic arbitration. The Calcutta High Court has held in the case of Debdas Routh and Ors. v. Hinduja Leyland Finance Ltd. and Ors. (2018) 4 CALLT 57 (HC): 2018 SCC OnLine Cal 14093 : AIR 2018 Cal 322 that juridical seat of arbitration was irrelevant in domestic arbitrations since arbitration law did not change based on the designation of place of arbitration (see Para 67 of the decision).

Therefore, it is time that courts revisit this fancy but needless innovation of importing the ICA concept of seat into domestic arbitration.

Interest Rate Indexing in Commercial Contracts: Part II: LIBOR Retirement

With the legal world (and the rest of it) combating the Covid 19 and its effects, there is a development that is likely to substantially disrupt existing contracts and loan arrangements world over: LIBOR Retirement. 

This blog discussed index rate indexing in commercial contracts about a decade back: (See, Interest Rate Indexing in Commercial Contracts: Part I) where we discussed about Prime Lending Rate. (PLR) Thereafter, several developments had taken place, the main development being replacement of the PLR with the concept of Base Rate (see, here). This post is about the most commonly used international index in commercial contracts: the London Inter-Bank Offered Rate or the LIBOR. Some mistakenly refer to LIBOR as London Inter-Bank Offer Rate; it is “Offered Rate” and not “Offer Rate”.

What then is LIBOR?

LIBOR is the average rate at which an empanelled bank “could obtain unsecured funding for a given period in a given currency.”

How is LIBOR Calculated?

The LIBOR is calculated vis-à-vis business days in London for five currencies with seven maturity periods ranging from overnight to 12 months, producing 35 rates each business day. It is calculated by the Waterfall methodology. For further details, see here.

Why is LIBOR Important?

About US$ 350 trillion worth contracts world-over are indexed to LIBOR. Even in India, LIBOR is commonly used in high value commercial transactions. Numerous Joint Operating Agreements between various Petroleum companies use the LIBOR as interest rate index; so do various international agreements.

What was the LIBOR Scandal About?

On 27 July 2012, The Financial Times published an op-ed piece by Douglas Keenan about LIBOR manipulation since 1991 (here). The bankers were understating or overstating the rates and profiting from trades. This was not the first time the credibility of the LIBOR was questioned. See, for instance, this paper titled “Does the LIBOR Reflect Banks’ Borrowing Costs” by Snide & Youle which argues:

“Abstract

The London Interbank Offered Rate (LIBOR) is a vital benchmark interest rate to which hundreds of trillions of dollars of financial contracts are tied. Recently observers have raised concerns that the Libor may not accurately reflect average bank borrowing costs, it's ostensible target. In this paper we provide two types of evidence that this is the case. We first show that bank quotes in the Libor survey are difficult to rationalize by observable cost measures, including a given bank's quotes in other currency panels. Our second type of evidence is based on a simple model of bank quote choices in the Libor survey. The model predicts that if banks have incentives to affect the rate (as opposed to simply reporting costs), we should see bunching of quotes around particular points and no such bunching in the absence of these incentives. We show that there is strong evidence of the predicted bunching behavior in the data. Finally, we present suggestive evidence that several banks have large portfolio exposures to the Libor and have recently profited from the rapid descent of the Libor. We conjecture that these exposures may be the source of misreporting incentives.”

The manipulation was done to the tune of billions of dollars.

Aftermath of the LIBOR Scandal

Subsequent news reports and investigations led to transfer of administration from the British Bankers' Association to the Intercontinental Exchange (ICE) Benchmark Administration (IBA) in 2014. The LIBOR rates are regulated by the UK Financial Conduct Authority (UKFCA). Fines were imposed on several banks which were involved in the manipulation. LIBOR was upgraded with new technology and surveillance tools to ensure credibility. See, the publication of IBA, Roadmap for ICE LIBOR (18.03.2016), for details of the reforms undertaken.

Retirement of the LIBOR

Notwithstanding the investigations and the reforms undertaken, the credibility of the LIBOR took a severe hit. On 26 July 2017, nearly five years after the Financial Times op-ed, the UKFCA stated that it was not sustainable to prolong the LIBOR beyond 2021 for the reason that the banks were not lending to each other as much as they had previously and that there were not enough transactions in certain currencies so as to make a good estimate of the rates. Thus began the steps to retire the LIBOR rate. 

In April 2017, a working group, known as the Risk Free Rate Working Group in UK selected SONIA (Stering Over Night Index Average) as the replacement for the LIBOR. In the US, SOFR (Secured Overnight Financial Rate) is being used. There have been many alternatives proposed but all these options, including SONIA, are specific currency based. Further, the SONIA is an “overnight rate” while LIBOR used to, and still, publishes a three month rate as well. Both are not comparable. LIBOR will be maintained as a shadow benchmark rate till 2021.

Impact of COVID 19 and the LIBOR Transition

There has been a consistent view that the current plans of LIBOR Retirement are continued, it could create further destabilise the already unstable market (whose cause if the Covid 19 pandemic)(see, here, for instance).

LIBOR Retirement and Impact on International Transactions

LIBOR retirement would not have substantial impact on current transactions whose duration will end prior to LIBOR retirement (2021). It will affect future transactions and transactions whose duration would extend beyond 2021. 

For instance, if an agreement, say, a Joint Operating Agreement, extending beyond, and up to 2025, uses LIBOR as the index rate for interest, what should the parties do?

It is rare that parties would have opted in their contracts for an alternative in case LIBOR is not applied. Therefore, there are two options left for them:

Option 1

The first option is for the parties to renegotiate the contract and replace LIBOR with an alternative index rate. While choosing such a rate, the parties should take care to employ a credible index rate. 

Option 2

In case LIBOR is retired after 2021, the clause choosing LIBOR as the index rate would become void and the applicable interest rate will be dealt with by the applicable law. The rate of interest will be governed either by the law governing the arbitration or the substantive law of contract.

It is also theoretically possible that UK might adopt a legislative measure to provide that any reference to LIBOR in contracts would be interpreted to mean a new benchmark rate but such measures will create uncertainties, especially where the applicable law is not English law.

Conclusion

It is certain that the LIBOR retirement will affect trillions of dollars’ worth transactions. If the parties feel that LIBOR should no more be used, it is important for them to sit on the negotiating table to agree on the new index. If not, they run the risk of being bound by an interest rate index that could be highly unfavourable for them.

Seat, Venue and All that Needless Confusion

This blog began its journey about twelve years back, when International Commercial Arbitration in India was at a nascent state. With the help of great readers, who commented on various aspects of the subject, we were able to clarify several concepts to readers. Gradually, international arbitration reached a state in India where there were hardly any bloopers and thus the need for pointing out errors in decisions became lesser and lesser. Of late, we have not been regular in our posts mainly because Indian arbitration law, except for certain aberrations, is moving in the right direction. And then comes this Seat, Venue and Place confusion, which is toootally needless. As a prelude to this, readers are advised to have a look at this short post: The Mystery of Seat and Place in International Arbitration: History & the Indian Connection. 

There are two fundamental errors in the seat, place and venue debate. If these two gross errors are corrected, there would be very less confusion: (1) For domestic arbitrations, it is necessary to abandon the concept of seat as it is understood in international arbitration parlance. (2) Courts should stop using the term "seat" although it sounds stylish and use the term "place" in all its seriousness, as it is used in Section 20(1) and (2) of the Arbitration and Conciliation Act, 1996.

The reason why (2) above is suggested is because of a recent decision of the Supreme Court in Mankastu Impex Pvt. Ltd. v. Airvisual Ltd. (2020: SC), where the three judge Bench of the Supreme Court had the occasion to determine whether parties had agreed on Hong Kong as the place of arbitration and had to therefore decide if a petition for appointment of arbitrator could be filed in India. The arbitration clause in question read:

"17. Governing Law and Dispute Resolution

17.1 This MoU is governed by the laws of India, without regard to its conflicts of laws provisions and courts at New Delhi shall have the jurisdiction.

17.2 Any dispute, controversy, difference or claim arising out of or relating to this MoU, including the existence, validity, interpretation, performance, breach or termination thereof or any dispute regarding non-contractual obligations arising out of or relating to it shall be referred to and finally resolved by arbitration administered in Hong Kong.

The place of arbitration shall be Hong Kong.

The number of arbitrators shall be one. The arbitration proceedings shall be conducted in English language.

17.3 It is agreed that a party may seek provisional, injunctive, or equitable remedies, including but not limited to preliminary injunctive relief, from a court having jurisdiction, before, during or after the pendency of any arbitration proceeding."

Clause 17.2 is clear. The place of arbitration is Hong Kong. To paraphrase the oft-cited statement, the moment there is a designation of place (in international commercial arbitration), it operates akin an exclusive jurisdiction clause. The arbitration was to be administered in Hong Kong. Nevertheless, there is a slight aberration. Clause 17.1 provides that courts at New Delhi shall have the jurisdiction. This was needless as there was no need for designation of a court, especially given that Clause 17.3 allows a party to approach a court having jurisdiction for equitable relief. But whether this choice can create a doubt on the intent of the parties over the place designation clause? Don't think so.

The court, rightly, came to the conclusion that the place of arbitration was Hong Kong and so the petition was maintainable. But the journey it went through to reach the ultimate conclusion had a howler: "It has also been established that mere expression “place of arbitration” cannot be the basis to determine the intention of the parties that they have intended that place as the “seat” of arbitration." (Para 20) Indian arbitration law uses the term "place" for seat. Therefore, the general rule is and should be that the expression of "place of arbitration" is the basis for determining party intent that they intended the place to mean seat. There is no term called "seat" used in the 1996 Act. Also, the judgment, like this post, is badly edited: "Hardy Exploration is not a god [!] law".

The correct course of action for the court is to do what the Supreme Court did almost a decade ago in a decision on international commercial arbitration. See, this post, on what happened. To cut the story short, the court has to once again list the matter and correct these errors in the decision. Would be great if one of the counsels files an IA and gets the errors corrected.

Happy Holi!

Default Rules (Finally!) Enters into Indian Jurisprudence: SC Decides on Unreasoned Arbitral Awards

In this blog, we have been writing about the concept of default rules for the past decade. In many posts, we have lamented the absence of this useful concept in analysing various provision in Indian Contract Law. Finally, a recent three judge Bench of the Supreme Court in Dyna Technologies v. Cromption Greaves (SC: 2019) has expressly recognised the concept of default rules. The Supreme Court stated:

"29. Similar to the position under the Model Law, India also adopts a default rule to provide for reasons unless the parties agree otherwise. As with most countries like England, America and Model Law, Indian law recognizes enforcement of the reasonless award if it has been so agreed between the parties.
30. There is no gainsaying that arbitration proceedings are not per se comparable to judicial proceedings before the Court. A party under Indian Arbitration Law can opt for an arbitration before any person, even those who do not have prior legal experience as well. In this regard, we need to understand that the intention of the legislature to provide for a default rule, should be given rational meaning in light of commercial wisdom inherent in the choice of arbitration." 

With the introduction of the concept, hopefully there will be more clarity on the classification of various contract law rules as default and mandatory. 

The case dealt with the issue relating to the interpretation of Section 31(3) of the 1996 Act, which provided: "(3) The arbitral award shall state the reasons upon which it is based, unless- (a) the parties have agreed that no reasons are to be given, or (b) the award is an arbitral award on agreed terms under section 30.” (Section 31(3) has remained unamended since enactment of the 1996 Act.)

The Supreme Court held that the requirement of reasons in Section 31(3) meant that the reasoning should be intelligible and adequate. The court also held that in addition to intelligibility and adequacy, a reasoned award should be proper. However, the court took pains to clarify that propriety or pervasity in the reasoning of the award should be judged "strictly on the grounds provided in Section 34".

On intelligibility, the court held that if the award suffers from unintelligibility, it is "equivalent of providing no reasons at all". 

On adequacy, the court stated that the validity of the award should be tested on the touchstone of "degree of particularity of reasoning having regard to the nature of issues" that the tribunal had to decide. The court was not in favour of any precise formulation of the concept of "degree of particularity" but clarified that even if "there were gaps in the reasoning for the conclusions reached by the Tribunal, the Court needs to have regard to the documents submitted by the parties and the contentions" so as to ensure that "awards with inadequate reasons are not set aside in a casual and cavalier manner".

Distinguishing between the tests for setting aside the award suffering from inadequacy of reasoning and unintelligibility, the court held that unlike inadequacy in reasoning, even "ordinarily unintelligible awards" could be set aside, the only restriction being where parties agree that no reasoning is required. 

These aspects have been dealt with in Paras 35 and 36 of the court's decision.

The court also provided guidance on how an award suffering from the aforesaid infirmities could be dealt with. The court stated that Section 34(4) can be used in cases where there is "complete pervasity in reasoning" (by which the award could be challenged under Section 34) so as to cure the defects (Para 38). Even so, the court did not want to apply the said provision on facts considering that it had taken 25 years for the adjudication of the dispute. On facts, the Supreme Court set aside the award for want of reasons. 

It is also to be noted that Section 34(4) can be used when there is a request from a party [See, Kinnari Mullick and Ors. vs. Ghanshyam Das Damani (20.04.2017 - SC) : MANU/SC/0514/2017]. The SC did not take the said decision into consideration. It should not be taken that the decision of the SC in the case under discussion in any away deviates from the requirements under Section 34(4) as clarified in Kinnari Mullick, where another three Judge Bench of the SC held:

"In any case, the limited discretion available to the Court Under Section 34(4) can be exercised only upon a written application made in that behalf by a party to the arbitration proceedings. It is crystal clear that the Court cannot exercise this limited power of deferring the proceedings before it suo moto. Moreover, before formally setting aside the award, if the party to the arbitration proceedings fails to request the Court to defer the proceedings pending before it, then it is not open to the party to move an application Under Section 34(4) of the Act. For, consequent to disposal of the main proceedings Under Section 34 of the Act by the Court, it would become functus officio. In other words, the limited remedy available Under Section 34(4) is required to be invoked by the party to the arbitral proceedings before the award is set aside by the Court."