Judicial Interference in Determining the Existence and Validity of an Arbitration Agreement

The quest to make India a global hub of arbitration seems to have taken a step in the wrong direction. Recent pronouncements of the Apex Court have left one wondering whether our judicial system is aligned to this idea and is serious in turning this seemingly distant dream into a reality. This article examines the recent judgment in Magic Eye Developers Ltd. v. M/s Green Edge Infrastructure Pvt. Ltd. (“Magic Eye”), where the Supreme Court has muddled the waters once again vis-à-vis judicial determination of the existence and/or validity of an arbitration clause contained in an agreement.

The Bench headed by Justice MR Shah in Magic Eye has ruled that the courts must ‘finally and conclusively determine’ the existence and validity of an arbitration agreement at the stage of deciding a Section 11 petition under the Arbitration & Conciliation Act, 1996 (“Act”). This effectively means that a court while exercising jurisdiction under Section 11 of the Act must finally and conclusively determine whether an arbitration clause is valid and binding on parties, as opposed to a prima facie or tentative examination. This article seeks to address this aspect especially keeping in mind the principle of Kompetenz Kompetenz and the powers vested with an arbitral tribunal under Section 16 of the Act.

The principle of Kompetenz Kompetenz, also known as "competence-competence," empowers the arbitral tribunal to rule on its own jurisdiction, including the existence and validity of an arbitration clause. This principle recognizes that arbitrators are best positioned to determine their jurisdiction, as they possess the expertise and understanding of the subject matter. The Courts have by and large acknowledged and applied this principle in various cases, ensuring minimal interference in the arbitral process.

The doctrine of kompetenz-kompetenz is statutorily recognized in the Act through Section 16, which lays down the powers of the arbitral tribunal to rule on its own jurisdiction, including with respect to the existence or validity of the arbitration agreement. This forwards the ultimate goal of alternate dispute resolution by ensuring minimal judicial intervention. However, even with the existence of this principle, over the years there has been uncertainty with regards to who shall deal with the validity of arbitration agreements, the court or the tribunals. The same can be attributed to the confusion caused by the wide scope of Section 11 of the Act, that deals with the appointment of arbitrators by a court.

To address this issue, the Law Commission in its 246^th Report proposed changes to Section 11 by adding sub-section (6A) to the mix. Explanation 1 to the proposed 11 (6A) mandated that the court would render a prima facie satisfaction regarding the existence of an arbitration agreement while dealing with petitions for appointment of an arbitrator. It was further proposed that the final determination of existence of an arbitration agreement ought to be left to the tribunal in accordance with Section 16 of the Act. Similar amendments to Section 8 of the Act were also mooted.

By Act 3 of 2016 (“2016 amendment”), Sections 8 and 11 were amended in line with the recommendations of the Law Commission. While Section 8(1) specifically used the words “prima facie”, no such words were used in the context of Section 11. Section 11(6A) mandated that the court would confine itself to the examination of the existence of an arbitration agreement. The words “prima facie” were conspicuously absent from the aforesaid provision, thus adding to the confusion.

Post the 2016 amendment, the Supreme Court in Duro Felguera, SA v. Gangavaram Port Ltd. (“Duro”) held that “all that the courts need to see is whether an arbitration agreement exists--nothing more, nothing less….The legislative policy and purpose is essentially to minimise the Court's intervention at the stage of appointing the arbitrator and this intention as incorporated in Section 11(6-A) ought to be respected”

However, the Supreme Court seems to have deviated from the test laid down in Duro while passing the judgment in United India Insurance Co. Ltd. v. Hyundai Engineering & Construction Co. Ltd.. Rather than just determining the prima facie existence of the arbitration agreement the court denied the appointment of an arbitrator on account of non-arbitrability of the dispute. Thus, the Supreme Court overstepped the prima facie principle while deciding the said case.

Then came Vidya Drolia & Ors. v. Durga Trading Corporation (“Vidya Drolia”) which was briefly considered to be the end of the debate. The 3 judge bench of the Supreme Court while answering a reference framed the following question;

“...the conundrum – “who decides” – whether the court at the reference stage or the arbitral tribunal in the arbitration proceedings would decide the question of non-arbitrability”

In Vidya Drolia, the Bench held that the test to be employed in deciding the above question was a prima facie test and if the validity of an agreement cannot be determined on that basis, the court must refer the parties to arbitration. The court used the oft quoted phrase ‘when in doubt, do refer’ and answered the reference accordingly.

In NN Global Mercantile P. Ltd. v. M/s Indo Unique Flame Ltd. & Ors (“NN Global”), the Constitution Bench of the Supreme Court while deciding on the aspect of inadequate stamping of arbitration agreements, also had occasion to deal with Section 11(6A) and its effect on the pre-referral jurisdiction. The Constitution Bench once again reiterated the prima facie test in relation to determination of ‘existence and validity’ of an arbitration clause.

In Magic Eye however, the Supreme Court has gone a step further and held that the referral court under Section 11 of the Act, must finally and conclusively decide the aspect of existence and validity of an arbitration agreement. The words ‘finally and conclusively’ used in the judgment effectively means that a full-fledged adjudication is now mandated in such cases. The judgment seems to have abandoned the prima facie test which has been reiterated time and again. In fact, the Delhi High Court in this case had clearly observed that the arbitrability of the disputes between the parties was an involved issue, and keeping in mind the complexity of the same, it would be appropriate for the arbitral tribunal to determine the same. The Delhi High Court had thus followed the ‘when in doubt, do refer’ principle as propounded in Vidya Drolia.

This dehors the fact that Magic Eye has been rendered by a two judge bench, and may be plainly contrary to the earlier pronouncements, the same creates practical problems at many levels, such as in cases where one party alleges forgery and fabrication of the alleged arbitration agreement, how does the court finally decide the existence and validity? Will parties lead evidence on this aspect? How do disputed questions of fact get decided at this stage?

Surely, the courts are not powerless while exercising pre-referral jurisdiction under the Act, and can certainly throw out ‘the dead wood’, however, to hold that a court must finally and conclusively determine the existence and validity of an arbitration agreement at the pre-referral stage is stretching the proposition a bit too far. This further goes against the very ethos of party autonomy and komptenz komptenz. The judgment in Magic Eye, with all due respect, tends to undermine the various judgments rendered prior and the very structure of the Act. It is hoped that the Supreme Court does some ‘magic’ soon and corrects this.

Saurabh Seth heads the Chambers of Saurabh Seth. The author would like to thank Sumeera Seth and Neelam Deol, Counsel and Vikram Choudhary for their contribution and inputs in compiling this piece.

All views expressed by the authors are personal.