IN C.M.P. 110 OF 2022- KRNTK HC- Arbitration Act -- It is the duty of Referral Court while exercising pre-referral jurisdiction under Sec 11(6) to decide the said issue with respect to existence and validity of arbitration agreement, to conclusively protect the parties from being forced to arbitrate when there does not exist any arbitration agreement and / or when there is no valid arbitration agreement at all: Karnataka High Court
Justice Alok Aradhe and Justice Anant Ramanath Hegde [23-06-2023]

Read more: Manyata Developers Private Limited  v.  Arcil-ast-ix-trust

Simran Singh

New Delhi, June 26, 2023:  The Karnataka High Court dismissed a petition which had sought appointment of a nominee arbitrator on behalf of Asset Reconstruction Company India Limited (ARCIL) for resolution of a dispute between the parties as per Clause 18.10 of the Facility agreements dated 27.09.2017 and 23.02.2018. The Bench held that it was not necessary to advert to the contentions urged in the petition in result of which the same had failed.

The Division Bench of Justice Alok Aradhe and Justice Anant Ramanath Hegde placed heavy reliance on the decision of the Supreme Court namely Magic Eye Developers Private Limited v Green Edge Infrastructure Private Limited and Vidya Drolia v Durga Trading Corporation while stating that the inescapable conclusion was that the dispute between the parties was non arbitrable and had to be adjudicated under the provision of the Securitization and Reconstruction of Financial Assets and Enforcementof Security interest Act, 2002 and Recovery of Debts Due to Banks and Financial Institutions Act, 1993. It was thus held that the dispute between the parties was excluded from the purview of arbitration agreement.

In the matter at hand, the company was engaged in business of development of properties and the respondent was an asset reconstruction company engaged in the business of resolution of non-performing assets after acquisition of Indian Banks and Financial Institutions. A term loan of Rs.470,00,00,000/- was sanctioned in favour of the company. Subsequently, a facility agreement dated 26.09.2017 was executed between the company and the original lender. Another loan agreement dated 23.03.2018 was executed between the company and ARCIL.

However the Company defaulted on its obligation under the loan agreement since 2019 itself and the original lenders had sent default intimation notices from June 2019. Thereafter, the original lenders and the company entered into a memorandum of understanding dated 15.06.2020 under which the company undertook to furnish additional security in relation to repayment of loan under the loan agreement. The original lenders agreed to extend the moratorium under the loan agreement from March 2020 to August 2020. From August 2020 to January 2021 original lenders sent notices to the company several times, to make payment of the amount due under facility agreement.

On 16.03.2021, the account of the company was classified as Non Performing Asset (NPA). The original lenders entered into two assignment agreements dated 30.03.2022 with ARCIL. The company continued to default on its obligations under the loan agreements. Thereupon ARCIL by a demand notice dated 27.10.2021 recalled the entire amount due under the agreement. The company thereafter filed a petition under Section 9 of the Act seeking to restrain ARCIL from transferring /selling / alienating / encashing or disposing of creating any third party rights or otherwise part with ‘any security’ under the loan documents. The company issued a notice dated 13.11.2021 seeking to invoke the arbitration agreement contained in the loan agreements. The respondent by a notice dated 06.12.2021 denied the existence of the arbitration agreement and pointed out that the dispute between the parties is non arbitrable. The Commercial court by an order dated 15.12.2021 allowed the petition preferred by the company under Section 9 of the Arbitration and Conciliation Act, 1996 (Arbitration Act). The ARCIL had filed commercial appeal in which the validity of the aforesaid order passed by the commercial court had been assailed. The company thereafter, filed a petition under Section 11 of the Arbitration Act seeking appointment of an appropriate nominee arbitrator on behalf of the ARCIL who shall along with the arbitrator nominated by the company would appoint the third arbitrator to adjudicate upon the claims of the company against ARCIL as per clause 18.10 of the facility agreements dated 26.09.2017 and 23.02.2018.

The Bench navigated through Section 7 of Arbitration Act which dealt with the expression 'arbitration agreement' and provided that arbitration agreement meant an agreement by the parties to submit to arbitration all or certain disputes which had arisen or which may arise between them in respect of defined legal relationship whether contractual or not. It was stated that the intention to refer the dispute to arbitration must be clearly discernible from the terms of the agreement. The Bench further perused clause 18.10 of the agreement between the parties.

The Court referred to the Supreme Court case in Magic Eye Developers Private Limited v Green Edge Infrastructure Private Limited wherein it was held that “pre-referral jurisdiction of the court under section 11(6) of the Arbitration Act is very narrow and inheres two inquiries. The primary inquiry is about the existence and the validity of an arbitration agreement, which also includes an inquiry as to the parties to the agreement and the applicant's privity to the said agreement…The secondary inquiry that may arise at the reference stage itself is with respect to the non- arbitrability of the dispute. Both are different and distinct. So far as the first issue with respect to the existence and the validity of arbitration agreement is concerned…the same has to be conclusively decided by the referral court at the referral stage itself. Now, so far as the non arbitrability of the dispute is concerned…the court at pre referral stage and while examining the jurisdiction under Section 11 (6) of the Act may even consider prima facie examining the arbitrability of claims. As observed, the prima facie review at the reference stage is to cut the deadwood and trim off the side branches in straight forward cases where dismissal is barefaced and pellucid and when on the facts and law the litigation must stop at the first stage. However, so far as the dispute with respect to the existence and validity of an arbitration agreement is concerned and when the same is raised at pre-referral stage, the referral court has to decide the said issue conclusively and finally and should not leave the said issue to be determined by the arbitral tribunal. The reason is that the issue with respect of the existence and validity of an arbitration agreement goes to the root of the matter…Sans an agreement, there cannot be any reference to the arbitration….We are of the opinion that therefore, if the dispute / issue with respect to the existence and validity of an arbitration agreement is not conclusively and finally decided by the referral court while exercising the pre referral jurisdiction under Section 11(6) and it is left to the arbitral tribunal, it will be contrary to Section 11 (6A) of the Arbitration Act. It is the duty of the referral court to decide the said issue first conclusively to protect the parties from being forced to arbitrate when there does not exist any arbitration agreement and / or when there is no valid arbitration agreement at all.”

Thus, the Court was of the view that, while deciding the petition under Section 11 of the Arbitration Ac,  had to conclusively determined the issue of non-arbitrability of a dispute between the parties. Further while dealing with the issue of arbitrability of the dispute, the Court stated that the company had failed to deposit the interest under the facility agreement from October 2020. Therefore, the company had committed default under Clause 13.1(i) and therefore, the ARCIL had exercised the powers under the agreement to recover the dues.

The Court further referred to the case of Vidya Drolia v Durga Trading Corporation  which had held that “Implicit non-arbitrability is established when by mandatory law the parties are quintessentially barred from contracting out and waiving the adjudication by the designated court or the specified public forum. There is no choice. The person who insists on the remedy must seek his remedy before the forum stated in the statute and before no other forum…There are three elements of election, namely, existence of two or more remedies; inconsistencies between such remedies and a choice of one of them. If anyone of the three elements is not there, the doctrine will not apply. … However, non-arbitrability may arise in case the implicit prohibition in the statute, conferring and creating special rights to be adjudicated by the courts/public fora, which right including enforcement of order/provisions cannot be enforced and applied in case of arbitration…”