Award Passed For The Loss Of Profit Without Substantial Evidence Is Contrary To Public Policy Of India: A Case Study Of Unibros Vs All India Radio & Anr.

INTRODUCTION

This Article aims to analyse the moot point that without substantial evidentiary value, an arbitrator cannot pass the loss of profit award by placing reliance merely on the formulaic approaches. The rationalization is carved out from the celebrated judgement of “M/s UNIBROS. v. All India Radio¹”, wherein the Hon’ble Supreme Court delivered a significant ruling that reshaped the landscape of infrastructure arbitration in India.

The Hon’ble Supreme Court has delineated the crucial evidentiary requirements for contractors seeking compensation for loss of profit and overheads due to project delay. The Hon’ble Apex Court further outlined the pivotal role of public policy in safeguarding the integrity of arbitration proceedings.

BEFORE DIVULGING INTO THE FACTS OF THE CASE, IT IS IMPERITIVE TO UNDERSTAND THE ESSENTIAL TERMS REFERRED IN THE JUDGEMENT

A. LOSS OF PROFIT

Loss of profit is the loss accruing to the contractor on account of reduction in the profit margin caused by prolongation of the contract or on account of the profit that the contractor could not earn during the extended period by being unable to deploy resources and manpower in some other project or when Contractor failed to execute the work due to breach of terms and condition of the Contract by the Employer.

B. USE OF HUDSON FORMULA TO EVALUATE THE LOSS OF PROFIT

Three formulae have been evolved for computation of a claim for increased overhead and loss of profit due to prolongation of the works: The Hudson Formula; The Emden Formula and Eicheay Formula.²

For analysing the ratio decided by the Hon’ble Supreme Court in the present case, the elucidation of Hudson Formula is pertinent:

Hudson’s formula has received legal acceptance and is generally used by courts and other judicial bodies in awarding loss of profit. In Hudson's Building and Engineering Contracts, Hudson formula is stated in the following terms:

(Head Office overheads + profit) ÷ 100 x contract sum ÷ period in weeks x delay in weeks

For the application of the formula, a Claimant must prove a necessity to maintain resources on the project and an inability to re-allocate them to more profitable work and must give evidence of the processes within the head office to enable an assessment of the portion of overheads, if any, that are attributable to the delay caused by the breach.

C. PUBLIC POLICY

The concept of public policy connotes some matter which concerns public good and the public interest. Public policy inter alia includes compliance with fundamental policy of Indian law, statutes and judicial precedents, need for judicial approach, compliance with natural justice and the policy that deals with Wednesbury Unreasonableness and Patent Illegality.

BRIEF FACTS OF THE CASE

All India Radio (“AIR” or “Respondent”) has awarded the work contract in the favour of M/s Unibros (“UNIBROS” or “Appellant”) to carry out the construction of Delhi Doordarshan Bhawan in New Delhi. As per the contract, the construction work was scheduled to commence on 12th April 1990 and be completed by 11th April 1991. However, the construction work faced significant delays extending the completion timeline by approximately 42 ½ months. As a result, thereof, the construction was finally completed on 30th October 1994.

The delays in construction and the prolongation in completion of the contractual obligations led to the emergence of disputes and differences between AIR and UNIBROS. The issues were then subsequently referred to an Arbitrator for the purpose of its adjudication and resolution.

LITIGATION JOURNEY

The Arbitrator vide award dated 11th February 1999 (“First Award”) awarded the contractor, UNIBROS, sum of Rs. 1,44,83,830 towards loss of profit along with an interest at the rate of 18% p.a., which was determined by using the Hudson’s formula. The Arbitrator has arrived at this calculation by multiplying the contractor’s anticipated monthly profit by the duration of the delay in months.

The award was based on the finding that the delay in completing the construction work beyond the stipulated contract period was attributable to AIR. The Arbitrator while passing the award noted that despite the original contract period being 12 months, UNIBROS was retained by AIR for an additional period of 3½ years to complete the construction work. This extended period of protracted retention without any corresponding increase in monetary benefit earned, led to a loss of profit-earning capacity for UNIBROS, which formed the basis of the awarded compensation.

Being aggrieved by the First Award, AIR filed an objection under section 34 of the Arbitration & Conciliation Act, 1996 (“Act”) for setting aside the First Award before the Hon’ble High Court of Delhi. The Hon’ble High Court by an order dated May 20, 2002, set aside the First Award and remitted the disputes back to the Arbitrator “for re-consideration and for passing a fresh award”, since the claim was allowed by the Arbitrator without considering the credible evidence required to substantiate the loss of profit.

The Hon’ble High Court observed that the award was passed by the arbitrator against the fundamental policy of Indian Law and thereby attracting the provisions of Section 34 (2)(b) (ii) of the Act.

Accordingly, the Arbitrator while passing the fresh award dated 15.07.2002 (“Second Award”) retained its previous decision regarding the compensation for loss of profit and interest to the Appellant as outlined in its First Award and observed that “Appellant was not required to establish the exact amount of gain or loss with absolute certainty; instead, presenting fairly persuasive and the best available evidence under the particular circumstances of the case would suffice.”

Further, after being aggrieved by the Second Award, AIR again filed an objection under section 34 of the Act, for setting aside the Second Award. The Ld. Single judge of the High Court vide its judgment and final order dated 25.02.2010 allowed the objection under Section 34 and rejected the Appellant’s claim with an observation that there was no sufficient evidence presented by the Appellant to establish the claim for loss of profit.

Being dissatisfied with the finding of the Ld. Single Judge, the UNIBROS preferred an appeal before the Division Bench of the Hon’ble Delhi High Court under Section 37 of the Act. While dismissing the appeal, the Division Bench also took the similar view as taken by the Hon’ble Single Bench, held that no credible and reliable evidence had been produced on behalf of the UNIBROS to support the plea of loss of profit and thus the findings returned by the Arbitrator are, therefore, contrary to law, more particularly the Contract Act which governs matters related to loss of profit.

ISSUES BEFORE THE HON’BLE SUPREME COURT

There were two issues before the HON’BLE Supreme Court: Firstly, can an arbitral award, which is in contravention of a High Court judgment, be sustained? Secondly, whether the Arbitrator could have allowed the claim for loss of profits merely on the ground that there has been delay in the execution of the construction contract, attributable to the Respondent?

ANALYSIS AND FINDINGS

Appositely the Hon’ble Supreme Court took a pragmatic view in line with all the noting of the Hon’ble High Courts (Both the benches) and thus pronounced that:

(1) The Arbitrator in both of the awards had failed to access the proper evidentiary value while allowing certain claims in respective award passed.

(2) For claims related to loss of profit, profitability or opportunities to succeed, following conditions shall be established:

i. First, there was a delay in the completion of the contract;

ii. Second, such delay is not attributable to the claimant;

iii. Third, the claimant’s status as an established contractor, handling substantial projects; and

iv. Fourth, credible evidence to substantiate the claim of loss of profitability.

(3) loss of profit evidence:

i. To support this claim, it is imperative for the contractor to substantiate the presence of a viable opportunity through compelling evidence. The contractor should be able to convincingly demonstrate that had the contract been executed promptly, the contractor could have secured supplementary profits utilizing its existing resources elsewhere.

ii. Evidence such as other potential projects that the contractor had in the pipeline that could have been undertaken if not for the delays, or the total number of tendering opportunities received and declined due to the prolongation of the contract, financial statements, or any clauses in the contract related to delays, and compensation for loss of profit etc.

The Supreme Court held that compensation cannot be awarded without proof of loss, and any contravention of the same would outrightly be perverse and in conflict with the “public policy of India” as contemplated under section 34(2)(b) of the Arbitration Act. The Supreme Court thus dismissed the appeal preferred by UNIBROS, by holding that there was no credible evidence to substantiate the claim of loss of profit in the present case.

CONCLUSION

The Hon’ble Apex court in this landmark judgement significantly noted that for computation of the claim of loss of profit, merely relying on a formula to access the loss without any credible evidence will not be valid and sustainable in the eyes of laws. The contractor/claimant must provide the credible evidence i.e., the availability of a viable opportunity, the resources engaged in the completion of contract could have been utilised for some other business and substantial profit that could have been earned to substantiate the claim. Unless such a plea is raised and established, claim for loss of profits could not be granted.

Disclaimer: This article was first published in the S&A Law Offices - 'Indian Legal Impetus' newsletter in May 2024.