NPAC's Arbitration Review: The validity of Mandatory Arbitration Clauses in unequal Contracting Relationships

Bar & Bench November 25 2019

Payal Chawla

The validity of unilateral arbitration clauses remains a vexed issue worldwide and is the subject of nigh ubiquitous jurisprudential discourse. Jurisdictions such as the United Kingdom, United States, and Singapore generally uphold unilateral clauses with certain riders. Indian High courts have remained diffident on this issue, giving primacy to mutuality, and a direct authority from the Supreme Court on the validity of unilateral or asymmetrical clauses remains elusive.

That said, some decisions of the Supreme Court peripherally touch upon the issue of unilateral clauses, in the context of employer-employee, consumer disputes, and unilateral appointment of an arbitrator. Interestingly, even jurisdictions that have an 'affirmative party autonomy' approach to unilateral clauses in arbitration have displayed a rather conservative approach to mandatory-optional arbitration provisions when it comes to inequitable contracting relationships. 

Employer-Employee Disputes

In 1998, the Supreme Court, in the matter of K. K. Modi v. K N Modi [(1998) 3 SCC 573], held that an essential attribute of a valid arbitration agreement includes the decision of an arbitral tribunal to ‘be binding on the parties to the agreement’.  This decision was later relied upon by the Supreme Court - in a dispute relating to the existence of an arbitration agreement involving a multinational corporation and a past employee (‘Coca-Cola Case’). (In the interest of disclosure, the petitioner, in this case, is also the author of this article.)

In the peculiar facts of the Coca-Cola case, the arbitration clause was embodied in a company policy applicable to employees, known as the Solutions Program. The arbitration agreement also provided that in the event the employee was not satisfied with the arbitral award, the employee would have the option to pursue the dispute in court. Relying on K.K. Modi (Supra), the Court was of the view that the agreement of the parties to be bound by the decision of the arbitrator is an ‘integral element' of arbitration. In contrast, the Solution Program left the employee with the ‘option to accept or reject the decision of the arbitrator’ and hence held there was no binding agreement to arbitrate. It is pertinent to mention that the Court found the optional arbitration clause bad under Indian law, despite the employee in question, having filed an affidavit agreeing to be bound by the final arbitral award. 

In contrast, in the U.S., and in a broad generalisation of their law on the subject, it could be said that mandatory arbitration clauses that are inserted in the employment agreement at the instance of the Employers, are generally held to be permissible. Refusal to enforce such arbitration agreements is usually driven by unequal bargaining power considerations. In such cases, the burden of proof is on the Employers to demonstrate that they took adequate steps to ensure that the Employees were made aware of the arbitration clause.

In the matter of Roderick Campbell v. General Dynamics Government Systems (4007 F.3d. Court of Appeals, 1st Circuit 2005), the Appeals Court was called upon to consider the enforceability of a mandatory arbitration clause contained in a dispute resolution policy announced by the employer to its employees by a mass e-mail. The Court was of the view that as a general principle, 'an e-mail, properly couched, can be an appropriate medium for forming an arbitration agreement’. However, in the peculiar circumstances of the Campbell case, the Company was unable to provide any evidence to demonstrate that it had any historical process of disseminating information to employees through mass e-mail of a binding contractual significance. The Court held that announcement by e-mail of an arbitration agreement would not ‘have apprised a reasonable employee that the Policy was a contract’ and therefore refused to uphold such a clause. 

In 2018, the Supreme Court of the United States in Epic Systems Corp. v. Lewis, [138 S.Ct. 1612 (2018)] was confronted with the question - whether one-on-one mandatory arbitration agreements imposed by employers upon their employees are enforceable. On 21.05.2018, in a 5 to 4 majority, the U.S. Supreme Court held that even in individualized arbitration (as opposed to merely on class or collective proceedings), the arbitration agreement would be enforceable. 

Grounds for refusal to uphold arbitration clauses in employer-employee disputes would be on the ground of 'generally applicable contract defenses, such as fraud, duress, or unconscionability [AT&T Mobility LLC v. Concepcion, (563 U.S. 333,339)]. 

In the United Kingdom, the courts have, in regard to general contracts, found there to be nothing wrong in one party being ‘better’ positioned than the other (N.B. Three Shipping Ltd. v. Harebell Shipping Ltd., (1 All E.R., 2004) and the fact that option to arbitrate is exercisable by only one party is ‘irrelevant’ (Pittalis v. Sherefettin, (1986) 2 All ER 227), and upheld contracts where one party has a more advantageous position (Debenture Trust Corp Plc. v. Elektrim Finance BV, [(2005) EWHC 1999 (Ch)]. However, in the context of employer-employee disputes, Courts in the U.K. have been more conservative. They have interpreted clauses that seek to give employers the right to make unilateral changes in employment terms more restrictively and against the employers favouring employees (Norman and others v National Audit Office, UKEAT/0276/14).

Seen in this context, what should India's approach to arbitration be - in the context of employer-employee disputes? Blindly following the U.S. example would not be the correct approach for India, because the litigation landscape of both the U.S. and India are different. First, employers in the United States are more motivated to incorporate arbitration clauses in their employment contracts as against companies incorporated in India, primarily, due to the high quantum of damages that could potentially be awarded to employees in jury trials. It is in this context that employees resist mandatory arbitration clauses. Secondly, there is not as much stigma attached to being laid-off, which is perceived more routinely than in India. On the contrary, in India, employers prefer dragging employees through protracted legal battles. Arbitration can be some refuge to employees, particularly in view of the 2015 amendments, which provides for a time-bound arbitral process. Furthermore, arbitrations offer the privacy of a closed room process as opposed to the very public nature of a court dispute, thereby hampering future employment prospects for the employee. It is no wonder employers are diffident to incorporate arbitration provisions in their contracts in India and prefer to drag employees through a protracted court process. The incorporation of mutually agreed institutional arbitration clauses in employer-employee disputes could also provide impetus to the arbitral universe.

Consumer Disputes

In the U.S., consumer contracts are generally perceived to be contracts of adhesion. Although not unenforceable, they are required to pass the test of unconscionability. In the U.K., the approach of the courts in regard to consumer disputes is primarily founded on the concept of fairness and the E.U. law. The E.U. Directive 93/13 (On Unfair Terms in Consumer Contracts, April 5, 1993) treats a provision, which has not been individually negotiated, to be unfair and to the detriment of the consumers, and is seen as causing a significant imbalance in the parties' rights and obligations arising under the contract. The Directive also regards a mandatory arbitration provision to be unfair.  The Directive was implemented in the U.K. through the Consumer Rights Act, 2015. The CRA read with other legislations [(ss 89-91of the (U.K.) Arbitration Act, 1996 & Unfair Arbitration Agreements (Specified Amount) Order 1999]) inter alia requires mandatory consumer agreements of certain specified value to be automatically unfair and unenforceable against the consumer.

The test of ‘unconscionability’ would be on a case-by-case basis; regard being had to oppression and unfair surprise to the disadvantaged party and superior bargaining power (Zapatha v. Dairy Mart, Inc., 381 Mass. 284 (1980), oppressive conduct, the existence of unfair terms in the contract, relative position of parties, and availability of meaningful alternatives to the employees.  

In India, the Supreme Court, in 2018, in the matter  of Emaar MGF Land Limited v. Aftab Singh, [(2018) SCC OnLine SC 2771] in the context of a consumer dispute, held that if a consumer seeks a remedy from the Consumer Forum, even when an arbitration agreement exists, would invalidate the remedy provided under the (Indian) Arbitration and Conciliation Act, 1996 by implication, should the consumer opt for the Consumer Forum. However, if the consumer does not opt for a special remedy under the Consumer Forum, there would be no inhibition in proceeding to arbitration. The issue of unilateral clauses was not before the Court, but the Court, did in a sense, validate the optionality of the forum or jurisdiction in favour of the party having the perceptible inequitable balance in the power equation. 

Unilateral Appointment of Arbitrators

As a general rule of thumb, unilateral arbitration clauses giving one party the right to appoint an arbitrator, are not illegal and have long been justified based on party autonomy. Although, in a recent judgment, the Supreme Court of the Czech Republic (23 Cdo 1098/2016) invalidated the right of one party to appoint an arbitrator. 

Arbitration agreements that allow one party to unilaterally appoint an arbitrator appear to be permissible under Indian law currently (Voestalpine Schienen GmbH v. Delhi Metro Rail Corporation Ltd. [(2017) 4 SCC 665]). However, in July 2017, a three-judge bench of the Supreme Court (TRF Ltd. vs. Energo Engineering, (2017) 8 SCC 377) (‘TRF judgement’) held – “once the arbitrator has become ineligible by operation of law, he cannot nominate another as an arbitrator”, in the context of a clause that stated that the disputes between the parties were to ‘be referred to sole arbitration of the Managing Director of Buyer or his nominee’. According to the Court, since the Managing Director could not be an arbitrator, being ineligible as per prescription contained in s.12(5) of the Arbitration and Conciliation Act, neither could his nominee. The decision raised some confusion as to its import, i.e. – can the ratio of the judgement be construed to mean that one party can no longer be the appointing authority for an arbitrator? The issue came up for interpretation in another matter before the High Court of Delhi (D.K. Gupta v. Renu Munjal, (2017) SCC OnLine Del 12385]).  The High Court, was of the view that TRF judgement (supra) did not lay down a universal proposition that one party to an arbitration could no longer be an appointing authority, but was limited to the issue that if a person was ineligible to act as an arbitrator, such person could not appoint another in its place. While this has put the issue to rest, for the time being, it cannot be said with certainty that the matter has attained finality until the Supreme Court rules again. And if the Supreme Court does – perhaps India could lead the way – to begin the end of unilateral appointment of arbitrators, particularly in case of inequitable bargaining power. 

Party autonomy is the strongest argument in favour of unilateral arbitration clauses. However, there are calls from various scholars all over the world – U.K., U.S., and Singapore – to declare such clauses as unenforceable.  Justice Sunderesh Menon, in his article  - Adjudicator, Advocate, Or Something In Between? Coming to terms with the role of the party-appointed arbitrator  - says, “There is no question that the current system of party appointments is one which is historically entrenched. However, it does not follow as a matter of logical necessity that just because disputants have been appointing arbitrators from time immemorial, it ought therefore always to be so […] But to the extent we now regard the system of unilateral appointments as an integral feature of arbitration, I see it as something that has come about by dint of long usage rather than as a feature that is rooted in sound principle”.

Payal Chawla is the founder of JusContractus, a New Delhi, India based full Commercial and Disputes law firm, with a primary focus on arbitrations. She is also a Director of the Nani Palkhivala Arbitration Centre. The author recognises the able assistance of Ms Hina Shaheen, an Advocate at JusContractus. For feedback, contact payalchawla@juscontractus.com.