The Delhi High Court (“Delhi HC”) has, in its judgement dated June 2, 2023, in the matter of B. L. Kashyap and Sons Limited v. Mist Avenue Private Limited [Commercial Arbitration 190/2019], held that an arbitration clause contained in a contract would perish with its novation if the novated contract does not contain any arbitration clause.

Facts

B. L. Kashyap and Sons Limited (“Petitioner”) and Mist Avenue Private Limited (“Respondent”) entered into an undated construction contract in August, 2014 (“Construction Contract”) for civil and structural works relating to a project known as ‘MIST’ in Uttar Pradesh. The estimated value of the Construction Contact was INR 229 Crores, to be executed on a bill of quantities (“BBQ”) on an item rate basis. The Construction Contract contained an arbitration clause which provided the parties with the right to refer any dispute arising out of or in connection with the Construction Contract to a sole arbitrator, where the parties were unable to resolve such dispute amicably by way of joint discussions.

Subsequently, certain disputes arose between the Petitioner and the Respondent which were resolved mutually and its terms were recorded in a memorandum of understanding dated October 8, 2015 (“MoU”). The MoU recorded the terms upon which the Construction Contract would stand fully satisfied towards both the parties and was also accompanied by an annexure titled ‘List of Assets Paid for’. Notably, the MoU did not contain an arbitration clause.

The Respondent breached the MoU by failing to make payments to the Petitioner in accordance with the terms of the MoU. Consequently, the Petitioner invoked the arbitration clause in the Construction Contract and an arbitrator was appointed by the Delhi HC (“Arbitrator”) under Section 11 (Appointment of arbitrators) of the Arbitration and Conciliation Act, 1996 (“Act”)..

The Petitioner lodged seven claims before the Arbitrator amounting to total of INR 35,17,69,185/-. The Respondent challenged the arbitrability of the dispute on the basis of the execution of the MoU and contended that it had paid an excess amount of INR 32,83,865/- to the Petitioner, which in fact, the Respondent was entitled to claim from the Petitioner.

The Arbitrator, while examining the claims made by the Petitioner, concluded that even though the MoU was not fully complied with, it would not lead to the conclusion that the arbitration clause in the Construction Contract stood revived. Moreover, as the parties had moved from the BBQ/item rate basis of payment to a ‘cost plus’ basis of payment as set out in the MoU, there was no question of revival of the Construction Contract, even if the terms of the MoU had been breached by the Respondent.

Relying on the judgement passed by the Hon’ble Supreme Court (“SC”) in Young Achievers v. IMS Learning Resources Private Limited [(2013) 10 SCC 535] (“Young Achievers Case”) and the judgement of the Delhi HC in Ansal Housing and Construction Limited v. Samyak Projects Private Limited [2018 SCC OnLine Del 12866], the Arbitrator in its award dated January 7, 2019 (“Impugned Award”) opined as follows:

“Once there is full and final settlement in respect of all the disputes in relation to a matter covered in the arbitration clause in the contract, such disputes or differences do not remain arbitrable and the arbitration clause cannot be invoked…Though the original contract was validly executed, the Petitioner and the Respondent had decided to put an end to it as if it never existed and substituted a new contract in its place, governing their rights and liabilities. In such a situation, the original contract is extinguished by the substituted one, the arbitration clause of the original one perishes with it.”

Aggrieved by this, the Petitioner filed a petition under Section 34 (Application for setting aside arbitral awards) of the Act, urging the Delhi HC to set aside the Impugned Award.

Issues

• Whether an arbitration clause survives a supervening agreement between the parties.
• Whether the Construction Contract stood novated by the MoU.

Arguments

Contentions of the Petitioner:

The Petitioner contended that the Arbitrator’s interpretation of the Construction Contract and the MoU was arbitrary and perverse, therefore rendering the Impugned Award manifestly illegal. The Petitioner submitted that as per the MoU, the Construction Contract was to stand satisfied only upon the fulfilment of conditions enumerated therein and that the Respondent had failed to make full payment of the sum of INR 132 Lakhs to the Petitioner. Therefore, the Petitioner was entitled to claim all dues under the Construction Contract. Further, the MoU contemplated execution of a new contract on ‘cost plus’ basis which was not done. For that reason, the Petitioner had submitted its claims before the Arbitrator under the Construction Contract rather than under the MoU.

The Petitioner argued that the Impugned Award would have an effect of taking away the Petitioner’s right to make claims for its dues and losses under the Construction Contract, which was contrary to the terms of the MoU.

In order to support its contention that the Construction Contract did not stand novated by the MoU and that the arbitration clause contained in the Construction Contract survived the execution of the MoU, the Petitioner sought to distinguish the judgement in the Young Achievers Case on the basis of the decision rendered in Union of India v. Kishorilal Gupta and Brothers [AIR 1959 SC 1362] wherein the SC made a distinction between a contract which stands finally determined only on payment of the agreed amount and a contract which stands determined on the date of settlement. The Petitioner submitted that a proper interpretation of the terms of the MoU would place the instant case in the first category. Thus, the Arbitrator had missed the conditional nature of cancellation of the Construction Contract. Reliance was also placed by the Petitioner on the judgement passed in Lata Construction v. Rameshchandra Ramniklal Shah [(2000) 1 SCC 586] wherein the SC opined that an original agreement would remain enforceable if the payment under a second contract was not made.

Contentions of the Respondent:

The Respondent submitted that the Arbitrator’s interpretation of the Construction Contract and the MoU was a plausible one and therefore, does not call for interference of the Delhi HC under Section 34 of the Act. Further, while the MoU permitted the Petitioner to make claims with respect to amounts that were due to it under the Construction Contract, it neither revived the Construction Contract nor resurrected the arbitration clause contained thereunder.

The Respondent further submitted that under the terms of the MoU, the Petitioner and the Respondent had arrived at a settlement by which the Construction Contract was ‘cancelled’ or ‘closed’. Further, the Respondent’s failure to make full payments to the Petitioner under the terms of the MoU was due to the Petitioner’s failure to hand over the consumables mentioned in the annexure of the MoU to the Respondent.

In order to support its submission, the Respondent relied on the judgements passed by the SC in the cases of Nathani Steels Limited v. Associated Constructions [1995 Supp (3) SCC 324] wherein it was held that a party cannot invoke an arbitration clause after having entered into a settlement and Damodar Valley Corporation v. K.K. Kar [(1974) 1 SCC 141] wherein it was held that if a contract is put to an end, the arbitration clause, which is a part of it, also perishes along with the contract. Therefore, in light of the settlement that had been arrived at between the Petitioner and the Respondent under the MoU, it was not open to the Petitioner to invoke the arbitration clause contained in the Construction Contract and seek performance based on the terms thereunder.

Observations of the Delhi HC

While dealing with the question on whether an arbitration clause would survive a supervening agreement, the Delhi HC examined the judgements relied upon by: (i) the Arbitrator; (ii) the Petitioner; and (iii) the Respondent; and observed that the principles emerging therefrom were as follows:

• An arbitration clause contained in an agreement which is void ab initio cannot be enforced as the contract itself never legally came into existence.
• A validly executed contract can also be extinguished by a subsequent agreement between the parties.
• If the original contract remains in existence, for the purpose of disputes in connection with issues of repudiation, frustration, breach, etc., the arbitration clause contained therein continues to operate for those purposes.
• Where the new contract constitutes a wholesale novation of the original contract, the arbitration clause would also stand extinguished by virtue of the new agreement.

The Delhi HC observed that an application of the above-mentioned principles would require an interpretation of the MoU in order to determine whether the arbitration clause in the Construction Contract would remain enforceable.

Further, the Delhi HC observed that interference by courts with arbitral awards on the ground of patent illegality was permitted only in limited circumstances and that the findings of the arbitral tribunal were generally to be respected, unless they are found to be irrational or perverse. Moreover, in the context of arbitral awards, it is not sufficient to show that an arbitrator has committed an error if the matter falls within the jurisdiction of the arbitrator. The courts are mandated to adopt a circumspect approach, and to uphold an award, so long as the findings of the arbitrator pass the plausibility test.

While dealing with the question on whether the Construction Contract stood novated by the MoU, the Delhi HC observed that this in itself was a question of contractual interpretation and that as per Section 34 of the Act, the Delhi HC was not required to accord its own interpretation to contractual documents but only to assess whether the provisions thereof were capable of the interpretation placed upon them in the Impugned Award.

The MoU recorded the terms upon which the Construction Contract would stand fully satisfied towards both the parties. However, this did not lead to a conclusion that the Construction Contract would stand revived, if the terms thereunder were not fulfilled. Pertinently, the MoU itself referred to the Construction Contract as a ‘closed contract’. Further, the MoU incorporated an agreement between the Petitioner and the Respondent to ‘cancel’ the Construction Contract. There was no express or implicit provision in the MoU stating that the Construction Contract would stand revived on account of any breach of the terms contained in the MoU.

Decision of the Delhi HC

The Delhi HC held that the contention of the Petitioner that the Impugned Award suffered from patent illegality was not acceptable. Further, the Arbitrator’s conclusion that the MoU constituted a novation of the Construction Contract was unimpeachable within the limited jurisdiction of the Delhi HC under Section 34 of the Act.

Therefore, the Delhi HC did not find sufficient cause to interfere with the Impugned Award passed by the Arbitrator and dismissed the petition filed by the Petitioner.

VA View:

The Delhi HC has rightly upheld the Impugned Award given that the Petitioner and the Respondent had decided to put an end to the Construction Contract and substituted it by entering into a MoU governing their respective rights and liabilities. Moreover, the MoU referred to the Construction Contract as a ‘closed contract‘. In the instant case, the Construction Contract would stand extinguished by the MoU and the arbitration clause in the Construction Contract perishes with it.

Through this judgement, the Delhi HC has yet again set the legal position straight that in instances where a former contract stands novated, that is, completed or superseded by a fresh contract, the arbitration clause contained in the former contract would perish with its novation and cannot be carried over or enforced as part of the fresh contract. The judgement also serves as a reminder on how important it is for parties entering into contracts to ensure that they understand and agree to the terms set out thereunder, especially in cases where such contracts have the effect of superseding a past contract.

For any query, please write to Mr. Bomi Daruwala at [email protected]

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