18 September 2020
In its recent judgment dated 19 August 2020, the Supreme Court of India in the matter of Avitel Post Studioz Ltd. v. HSBC PI Holdings (Mauritius) Ltd. [2020 SCC OnLine SC 656], the Supreme Court has laid down two tests to determine whether serious allegations of fraud in a particular case can be taken as a ground for exemption from initiating arbitral proceedings.
After reviewing the precedents on the issue and the legal arguments raised by the parties, the Supreme Court observed that it is clear that “serious allegations of fraud” arise only if either of the two tests laid down are satisfied, and not otherwise, which are:
(a) The first test is satisfied only when it can be said that the arbitration clause or agreement itself cannot be said to exist in a clear case in which the court finds that the party against whom breach is alleged cannot be said to have entered into the agreement relating to arbitration at all.
(b) The second test can be said to have been met in cases in which the allegations are made against the State or its instrumentalities of arbitrary, fraudulent, or mala fide conduct, thus necessitating the hearing of the case by a writ court in which questions are raised which are not predominantly questions arising from the contract itself or breach thereof, but questions arising in the public law domain.
It is pertinent to note that the Supreme Court in its earlier judgments of Afcons Infrastructure Ltd. v. Cherian Varkey Construction Co. (P) Ltd., (2010) 8 SCC 24 and Booz Allen & Hamilton Inc. v. SBI Home Finance Ltd., (2011) 5 SCC 532 had held that cases involving serious and specific allegations of fraud, fabrication of documents, forgery, impersonation, coercion will not be arbitrable. However, in the present case, the Supreme Court has clarified that the aforesaid ruling must now be read subject to a rider that the mere fact that civil or criminal proceedings can or have been instituted in respect of a subject matter involving serious allegations of fraud would not lead to the conclusion that a dispute which is otherwise arbitrable, ceases to be so.
Therefore, parties cannot seek exemption from invoking arbitration merely due to serious allegations of fraud and that civil and/or criminal proceedings can or have been initiated basis the same. In order to seek exemption from arbitration proceedings the aforementioned two tests must be satisfied.
To further explain the aforementioned point, the Supreme Court referred to the Bombay High Court’s judgment in Fazal D. Allana v. Mangaldas M. Pakvasa, AIR 1922 Bom 303, wherein it has been held that section 17 of the Indian Contract Act only applies if the contract itself is obtained by fraud or cheating.
However, a distinction is made between a contract being obtained by fraud and performance of a contract (which is perfectly valid) being vitiated by fraud or cheating. The latter would fall outside section 17 of the Contract Act, in which the remedy for damages would be available, but not the remedy for treating the
contract itself as being void. This is for the reason that the words “with intent to deceive another party thereto or his agent” must be read with the words “or to induce him to enter into the contract”, both sets of expressions speaking in relation to the formation of the contract itself. This is further made clear by sections 10, 14 and 19, all of which deal with “fraud” at the stage of entering into the contract. Even section 17(5) of the Contract Act which speaks of “any such act or omission as the law specially deals to be fraudulent” must mean such act or omission under such law at the stage of entering into the contract.
Thus, fraud that is practiced outside of section 17 of the Contract Act, i.e., in the performance of the contract, may be governed by the tort of deceit, which would lead to damages, but not rescission of the contract itself. Both kinds of fraud are subsumed within the expression “fraud” when it comes to arbitrability of an agreement which contains an arbitration clause.
Applying the principle of law as set out above to the facts of the case, the Supreme Court held that there is no such fraud as would vitiate the arbitration clause in the Shareholder Subscription Agreement (“SSA”), entered into between the HSBC Bank and Avitel Post Studioz Ltd., as this clause has to be read as an independent clause. Further, any finding that the contract itself is either null and void or voidable as a result of fraud or misrepresentation does not entail the invalidity of the arbitration clause which is extremely wide and that the impersonation, false representatio s made, and diversion of funds are all inter parties, having no “public flavour” so as to attract the “fraud exception”. The appeals were disposed of accordingly.
For further information, please contact:
Vasudha Luniya, Clasis Law
vasudha.luniya@clasislaw.com