India: Arbitrator’s Power To Grant ‘Interest On Interest’

The Arbitrator's power to grant post-award interest on the total sum of principal plus interest awarded has had a chequered history in courts, dating back to decisions under Arbitration Act, 1940 ("1940 Act"). In the recent three-judge bench decision, Hyder Consulting (UK) Ltd. v. State of Orissa¹the Supreme Court was called upon to decide the correctness of its earlier decision in State of Haryana v. S.L. Arora and Company.² The issue in these two cases was whether the word 'sum' in section 31(7)(b) of the Arbitration and Conciliation Act, 1996 (hereinafter "1996 Act") can be interpreted to include pre-award interest within the principal sum in the arbitral award, for the purposes of granting post-award interest.While SL Arora had held that it did not, the three judge bench (by a majority of 2:1) has held that it does, such that post-award interest can run on the composite sum of principal and pre-award interest.

In this note, we will first briefly examine the power of arbitrators to award 'interest on interest' or compound interest. We then analyze the decision in S.L. Arora, and finally, we examine the new position of law in this regard following the decision in Hyder Consulting.

Power to Grant Interest

Section 31(7) of the 1996 Act, which is the relevant provision with regard to granting of interest by the arbitrator, provides as follows:

From a reading of the above provision, it is clear that the section has demarcated the period for granting of interest into two stages: from the date when the cause of action arose to the date of award and, from the date of award to the date of payment. The issue that has come up for debate was whether, under section 31(7)(b), the arbitrator may grant interest from the date of award till the date of payment on the principal sum together with interest awarded under section 31(7)(a).

Under the 1940 Act there were no express provisions vesting arbitrators with power to award interest at all - pre or post-award. It only stipulated that once the award is decreed by the court, the court may award interest on the principal sum from the date of the decree until payment.³ Nevertheless, it was established that the arbitrator had the power to grant interest by virtue of the Interest Act, 1978 and Section 34 of the Code of Civil Procedure, 1908 ("CPC") – the same provisions which empowered courts to grant interest.⁴ Therefore, under the previous arbitration regime, the power of arbitrators and judges to award interest in civil disputes was synonymous.

Section 34 of the CPC empowers the court to grant interest for three distinct periods: prior to institution of suit, pendete lite interest, and interest running from the date of the decree. Through various judicial pronouncements, it has been long-settled that Section 34 of the CPC does not grant power to award compound interest or interest on interest.⁵ However, a controversy regarding whether post-decree interest could run on the interest allowed pre-decree – contention being that allowing such interest would amount to allowing 'interest on interest' – was resolved by holding that the pre-decree interest is to be considered to have been subsumed in the principal sum and therefore, post award interest could run on it.

Once the 1996 Act came into force, it was widely understood that section 31(7) of the 1996 Act was simply a codification of the S. 34 CPC powers as interpreted by courts over time and applied to arbitrators. However, in the S.L. Arora case, the Apex Court held that S. 31(7) was a conscious departure and an exhaustive provision with respect to power of arbitrators; and that decisions rendered under the 1940 Act were irrelevant to its interpretation.

S.L. Arora

In the S.L. Arora case, the arbitrator awarded the Respondent a sum of INR 14.94 lakh along with interest till the date of award and, in case the total amount of award together with interest was not paid within 30 days from the date of award, the award stated that "future interest shall be paid @ 18% per annum on the sums due to the claimant from the date of award up to the actual date of payment". The Respondent argued that the phrase "sums due to the claimant" implied that post-award interest was payable on the total amount i.e. the award amount together with interest until date of award. On the other hand, the Appellants contended that Section 31(7) of the 1996 Act permits an arbitrator to award future interest only on the principal amount and not on the interest accrued thereon.

The Court, after analyzing the wording of Section 31(7) of the 1996 Act concluded that the section clearly contemplates award of only simple interest and not compound interest or interest on interest. It then went on to note that the said section does not explicitly refer to payment of compound interest or payment of interest upon interest which means that no such power has been conferred on arbitrators. The Court, however, concluded that compound interest could be granted for the pre-award period if the contract expressly contained a term for compound interest but not otherwise.

The Court also briefly dealt with the decisions of McDermott International Inc. v. Burn Standard Co. Ltd.,⁶ U.P. Coop. Federation Ltd. v. Three Circles⁷and Oil & Natural Gas Commission v. M.C. Clelland Engineers S.A.⁸ relied upon by the counsel for the Respondent. It was held that M.C. Clelland was not relevant in the instant case since that decision had been rendered under the 1940 Act. Further, it was held that McDermott did not even deal with the issue of the arbitrator's power to grant interest on interest, and since Three Circles wrongly relied on a certain section of the McDermott decision which recorded arguments of parties and not the decision of the court – therefore, the Three Cicles decision was held to be per incuriam.

The Supreme Court therefore held that:

1. Arbitrator's power to grant interest is contained exhaustively in Section 31(7) of the 1996 Act and decisions under the 1940 Act are not relevant.
2. Arbitrator has complete discretion in granting simple interest for pre-award and post-award period. This discretion applies to the period for which interest is to be allowed, the sum on which interest is to be allowed, and the rate of interest.
3. Arbitrator has no power to grant compound interest except if the contract between parties contains a specific provision for the same, compound interest can be allowed for pre-award period.
4. Pre-award interest does not subsume into the principal sum awarded for the purposes of calculation of post-award interest. Therefore, post-award interest can only run on the principal sum awarded and not on the sum granted as interest on such principal sum for the pre-award period.

Hyder Consulting

Following the S.L. Arora case, several high court decisions relied on the S.L. Arora case in holding that interest cannot be added to the principal sum when awarding post-award interest.⁹ However, to the extent that the SL Arora decision made the power of arbitrator to grant post-award interest on the sum awarded as interest for the pre-award period, it was believed that the decision created an artificial distinction between powers of the court and arbitrators. In the Hyder Consulting case, it was submitted before a division bench of the Apex Court that S.L. Arora was wrongly decided on this point – primary contention being that it refused to follow the Three Circle and McDermott decisions on equivalent benches. The division bench found sufficient merit in the contention to refer the question to a three-judge bench to resolve the apparent conflicting decisions of various equivalent benches of the Apex Court. The three-judge bench decision being discussed in this note was a result of that reference.

The decision in Hyder Consulting was a 2:1 majority overruling the S.L. Arora case, with Justice Bobde and Justice Sapre rendering separate but concurring decisions, and Chief Justice Dattu giving a dissenting opinion. Justice Bobde, in his majority judgment, overruled the S.L. Arora case on the limited point of whether interest awarded for the pre-award period can be said to be subsumed in the principal sum for the purposes of awarding post-award interest. He held that it does, since the power of the arbitrator to grant interest is synonymous with S. 34 of the CPC, concluding that arbitrators have the power to award post-award interest on the total sum of principal amount awarded along with pre-award interest. After analyzing the decisions in McDermott, Three Circles and M.C.Clelland, he agreed with the conclusion in S.L. Arora that these decisions were inapplicable to the present issue. However, thereafter he differed with the conclusion in S.L. Arora, and opined that since Section 37(1) gives the arbitrator the discretion to award interest on the principal sum, or to not award any interest at all, this would imply that the term 'sum' in Section 37(1)(a) could either mean only a principal amount or amount plus interest. Likewise, under Section 37(1)(b), the same meaning should be attributed to the word sum – either only the principal amount or the principal amount plus interest, depending on the award rendered by the arbitrator. The Court explained that this conclusion is especially obvious since the legislature has not chosen to prefix the term 'sum' with the word 'principal' or any other qualifying term, which implies that 'sum' only means 'a particular amount of money'.

Justice Sapre, in his separate but concurring judgment, further opined that once interest is granted in the award by the arbitrator, it becomes a part of the "sum" and there is no distinction between "sum" with interest and without interest. He concluded that, therefore, it was not even appropriate to term arbitrator's award of future interest on the sum as 'interest on interest', since the future interest is on the 'sum' which includes interest.

In his dissenting judgment, Chief Justice Dattu, while holding that the S.L. Arora was rightly decided, opined that the word 'sum' in its most common usage would mean 'money' and hence, when the clause states that interest may be awarded on the "sum" for which the award is made, the same would mean that interest may be awarded on the "money" for which the award is made. The Court held that "money" in this case can only mean the principal sum awarded. It went on to say further that 'interest' is an amount that is awarded by way of compensation for withholding the money that rightfully belongs to the other party. In the case of an award, the principal sum is the amount that has been withheld by one party from another under the relevant contract and hence interest can be awarded only on that amount. He thus concluded that Section 31(7) should not be construed as vesting an arbitrator with power to grant interest on interest.

Conclusion

The apparent anomaly has now been resolved by Hyder Consulting, in favour of arbitrator's power to grant post-award interest on the pre-award interest. With this decision, the power of courts and arbitrators have once again become synonymous, not leaving the ability of what interest can be recovered dependent on which forum the dispute is subject to. Except that arbitrators do not have the power to grant compound interest for the pre-award period except where contract specifically provides for it, the arbitrator'spower to grant interest in India is now similar to the transnational standards in most leading arbitral seats.

Footnotes

1 2014 (13) SCALE 169

2 (2010) 3 SCC 690

3 Section 29, Arbitration Act, 1940.

4 State of Rajasthan v. Ferro Concrete Construction Pvt. Ltd. (2009) 3 Arb LR 140.

5 State of Maharashtra v. Saifuddin Mujjaffarali Saifi AIR 1994 Bom 48.

6 (2006) 11 SCC 181

7 (2009) 10 SCC 371

8 (1999) 4 SCC 327

9 Indian Farmers Fertiliser Cooperative Ltd. v. Duggal Constructions (India) Ltd. 186 (2012) DLT 658; Zenith Ropes Pvt. Ltd. v. Union of India, 2013(1) ARB LR 27 (Delhi); Pt. Munshi Ram and Associates (P) Ltd. v. DDA, (2011) 163 PLR 20.

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