Arbitrator must adhere to agreement and cannot apply equity principles without authorization of parties: Bombay High Court

Arbitrator must adhere to agreement and cannot apply equity principles without authorization of parties: Bombay High Court

The Bombay High Court has restated that the doctrine of severability can be used in arbitral awards, as long as the objectionable portion can be segregated. The Court further stated that if the award is partially invalidated through the use of the doctrine of severability, it would not be considered a correction or alteration of the arbitrator's mistakes.

Additionally, Justice Manish Pitale's bench determined that the Arbitral Tribunal cannot address an issue in contradiction to the parties' agreement by implementing equitable principles. This is particularly true when the parties have not specifically given the arbitrator authority to make a decision ex aequo et bono or as amiable compositeur under Section 28(2) of the Arbitration and Conciliation Act, 1996 (A&C Act), the bench noted.

John Peter Fernandes, the petitioner, made an agreement with the respondents, including Saraswati Ramchandra Ghanate, to acquire the latter's property. When a disagreement emerged between the parties concerning the sum paid by the petitioner according to the agreement, the matter was submitted to arbitration.

The Arbitral Tribunal dismissed Fernandes' claim for specific performance of the agreement, stating that the petitioner did not demonstrate a readiness and willingness to fulfil his part of the deal. The Tribunal instructed the respondents to return the sum paid under the agreement to Fernandes, along with interest. However, the arbitrator deducted an amount claimed to have been paid in cash to the respondents because there was insufficient evidence to support it.

Both the petitioner and the respondents disputed the award by filing a Section 34 petition under the A&C Act with the Bombay High Court.

Ghanate, the respondent, argued that the award's first decision/direction, which dismissed the petitioner's demand for specific performance, should be upheld. Nonetheless, by using the doctrine of severability, the award could be partly invalidated to the degree that it instructs the respondents to return the sum to the petitioner with interest.

Ghanate argued that the Arbitrator exceeded his jurisdiction by ordering a refund of money, which violated the terms of the agreement.

The Bombay High Court took into account the facts of the case and noted that during cross-examination, the petitioner, Fernandes, had conceded that apart from his testimony, there was no evidence on record to substantiate his claim of having made the remaining payment in cash.

The Court noted that the Arbitrator had also taken into consideration the admission made by the petitioner that he was not in a position to pay the balance consideration at the stage of recording of evidence. Therefore, the Court opined that the deduction made by the Arbitrator in the refund amount cannot be challenged on the grounds of 'public policy of India' or 'patent illegality'.

The Court upheld the Arbitrator's findings that the petitioner had defaulted under the agreement and concluded, "This Court finds no reason to interfere with the said finding and hence the first direction/conclusion in the operative portion of the award, rejecting specific performance of the registered agreement dated 6th October 2003 at the behest of Mr. Fernandes, cannot be interfered with."

The bench, while dealing with the Section 34 petition filed by the respondent, Ghanate, made an observation that the principle of severability can be applied to arbitral awards, as long as the objectionable part can be segregated from the rest of the award.

The Court expressed its conviction by stating, "This Court is convinced that the respondents are justified in invoking the said principle and contending that if their contentions are accepted, the impugned award could be partially set aside."

The bench further elaborated that the application of the principle of severability may result in the partial setting aside of the award, but this would not amount to the modification or correction of the errors committed by the arbitrator.

After examining the agreement between the parties, the Bombay High Court noted that according to the relevant clause, in the event that the purchaser, Fernandes, defaults and the transaction is not completed, the respondents have the option to either seek specific performance of the agreement or forfeit the amount paid as earnest money or deposit.

The Court concluded that the Arbitrator, having found that Fernandes had defaulted under the agreement and that specific performance was not appropriate, could not have directed the refund of money. It added that such a direction could only have been granted within the confines of the clauses of the agreement.

The Court held that the award, to the extent it directed refund of money to Fernandes, suffered from patent illegality and must be set aside as the said direction for a refund of money was in violation of the relevant clause of the agreement.

The Court observed that the Arbitrator had relied on principles of equity to direct the refund of money to Fernandes, which was in violation of the terms of the agreement. The Court emphasised that the parties had not authorized the Arbitrator to decide the matter ex aequo et bono or as amiable compositeur under Section 28(2) of the A&C Act. Therefore, the Arbitrator could not have decided on an issue in violation of the terms of the agreement by applying the principles of equity.

“But, in the teeth of the above-quoted terms of the agreement dated 6th October 2003, there was no scope for applying the principles of equity, more so when the parties had not expressly authorized the learned arbitrator to decide the matter ex aequo et bono or as amiable compositeur under Section 28(2) of the said Act,” the Court remarked.

The Court referred to the decision of the Bombay High Court in Vilayati Ram Mittal Pvt Ltd. vs. Reserve Bank of India (2017) and observed that an arbitrator is bound by the specific terms of the contract between the parties. If the arbitrator issues a direction that is in violation of the terms of the contract, he would be exceeding his jurisdiction.

The Court further noted that the arbitrator is a creature of the contract between the parties, and thus, he cannot ignore the specific terms of the contract.

In conclusion, the Court found that the Arbitrator had exceeded his jurisdiction by directing the refund of money to the petitioner, which was in violation of the relevant clause of the agreement between the parties. The Court also observed that the arbitrator is bound by the terms of the contract and cannot ignore them. Therefore, the Court set aside the award to the extent it directed a refund of money to the petitioner but upheld the award rejecting the specific performance of the agreement.