India: Dual Rate Of Interest Not Allowed In Arbitral Awards

Introduction and Facts of the case

In the recent case of Vedanta Ltd. vs. Shenzen Shandong Nuclear Power Construction Co. Ltd. judgment passed on October 10, 20181, the Hon'ble Supreme Court faced a peculiar issue of dual interest rate imposed on the final arbitration award by an Arbitral Tribunal. On May 22, 2008, the present Appellant and Respondent entered into four interrelated contracts which were collectively called as "EPC Contract" for the construction of a 210-MW Co-Generation Power Plant.

The Appellant in the present case was an Indian company while the present Respondent was a company incorporated in People's Republic of China. All four contracts entered between the parties had an arbitration clause, where the governing laws for these contracts were the laws of India and the seat of arbitration was chosen as India. These contracts also had a termination clause where the purchaser was required to pay 105% of the cost incurred by the supplier till the date of termination while fulfilling its obligation under the contracts.

A dispute arose between the parties and led to the termination of these EPC Contracts by the present Respondent through a notice issued on 25.02.2011. The present Respondent demanded payments for the outstanding dues mentioned under the abovesaid notice. The Appellant failed to make the requested payment.

Subsequently, the present Respondent was forced to invoke the arbitration clause and a three-member arbitral tribunal was formed. The present Respondent raised various claims in multiple currencies against the present Appellant along with 18% interest rate for the period of pendent lite. In its response, the present Appellant refuted these claims and raised certain counter claims against the present Respondent during this arbitration proceeding.

The Tribunal passed its final award in the favour of the present Respondent allowing their claims partially. Surprisingly, the Tribunal also imposed two different rates of interest on the final award based on timeline of realization of the award by the present Respondent. In its award, the Tribunal imposed an interest rate of 9% from the date of institution of the arbitration proceeding till the date of actual realization of the award by the present Respondent. The Tribunal held that the amount decided in the award must be paid within 120 days from the date of passing of the award. In case, the present Appellant fails to reimburse the abovesaid amount within 120 days, then it will be liable to pay further interest at the rate of 15% till the date of realization of the complete award by the Respondent. The Tribunal, herein, adopted a dual interest rate approach while awarding the amount in favor of the present Respondent. The Arbitral Tribunal also refused to allow the counter claims of the present Appellant.

The present Appellant aggrieved by the final award of the Tribunal appealed before the Single Judge of Delhi High Court under Section 34 of the Arbitration & Conciliation Act, 1996 (hereinafter referred as "Act"). The said appeal was rejected by the Delhi High Court. A further appeal under Section 37 of the Act was presented before the Division Bench of the same High Court, which was again dismissed by the Court. Hence, the Present Appellant was forced to approach the Supreme Court through a special leave petition.

Decision of the Apex Court

The Hon'ble Supreme Court commenced its decision by elaborating the definition of the term 'interest'. The court held that,

"'Interest' is defined as "the return or compensation for the use or retention by one person for a sum of money belonging to or owned by any reason to another". In essence, an award of Interest compensates a party for its forgone return on investment, or for money withheld without a justifiable cause."

The court acknowledged the inconsistency and lack of uniformity in rate of interests awarded by the Tribunals in various arbitral proceedings around the globe. The court held that there is no consensus nor a common agreed method for the determination of rates of interest which are imposed on the final arbitral awards.

However, the Apex Court held that the arbitral tribunals must impose rates of interest as per the laws of the seat of the arbitration unless something contrary is agreed between the parties. The Hon'ble Court said that the present case is an international commercial arbitration seated in India and must be governed by the Act.

The Hon'ble Court then examined section 37 (1) of the Act which empowers the Arbitral Tribunal to impose interest rates on the awards passed by them unless something contrary has been agreed between the parties in advance.

31. Form and content of arbitral award:

....

(7)... (a) Unless otherwise agreed by the parties, where and in so far as an arbitral award is for the payment of money, the arbitral tribunal may include in the sum for which the award is made interest, at such rate as it deems reasonable, on the whole or any part of the money, for the whole or any part of the period between the date on which the cause of action arose and the date on which the award is made. [(b) A sum directed to be paid by an arbitral award shall, unless the award otherwise directs, carry interest at the rate of two per cent, higher than the current rate of interest prevalent on the date of award, from the date of award to the date of payment.

The Hon'ble Court established that section 31(7) of the Act has two parts. The sub section (a) deals with interest rate imposed by the Tribunal for the period of pre-reference and during pendent lite of the dispute. This power of the Tribunal shall be subject to any agreement between parties wherein they may agree in advance to prohibit this power of the Tribunal to impose interest for these periods during the dispute. The court emphasized on the phrase "Unless otherwise agreed by the parties" in the provision of the aforementioned subsection while interpreting the sub-section.

However, the Hon'ble Court also noted that the second part of Section 31(7) i.e. clause (b) deals with interest rate imposed by the Tribunal for the post-award period. This period kicks off from the date of passing of the final award by the Tribunal and continues till the actual date of realization of this award. Interestingly, the Hon'ble Court noted that this particular sub-section lacks party autonomy and cannot be subjected to any prior agreement between the parties in this regard. The apex court also highlighted the absence of the phrase "Unless otherwise agreed by the parties" in this particular sub-section which is present in the preceding sub-section (a) of 37(1).

The Hon'ble Court categorically held that the power of an arbitrator to award interest in an arbitration proceeding must be exercised reasonably. The apex court held that:

"On the one hand, the rate of Interest must be compensatory as it is a form of reparation granted to the award-holder; while on the other it must not be punitive, unconscionable or usurious in nature."

The apex court held that the courts are within their power to reduce the rate of interest awarded by an arbitral tribunal when a) it notices that the rates are unreasonable or are not in accordance with the prevailing economic conditions or b) to promote the interest of justice.

The Hon'ble court held that the dual interest rate imposed on the award, especially the higher interest rate of 15% for the period after 120 days is unjustified and arbitrary. This higher rate of interest seriously impacts the rights of the award debtor to challenge this award under sec. 34 of the Act. The court also pointed out that there is no justification or reason provided by the Tribunal for imposing this higher rate of interest for post-120 days period.

Similarly, the apex court also found that the rate of 15% was exorbitantly high from an economic point of view having no co-relation to prevailing economic conditions. The Tribunal cannot impose an interest rate on the award debtor which is penal in nature and when his statutory right to challenge the award in a court of law is still subsisting with or even for the period later than that.

In the present case, the award was passed in two different currencies i.e. INR and Euro. The court held that a uniform rate of interest on different kinds of currencies in an award may result into absurd financial implications for the award debtor. Hence, a uniform rate of interest on two different kinds of currencies is also not justified. The court went on to apply LIBOR rate for the Euro components and the INR component remained undisturbed with 9% interest rate on the award till the realization of award.

Analysis

Interest rate imposed on awards of an arbitration dispute is an issue which remains highly unregulated. In most instances, the Tribunal fails to provide a reasonable basis to the rates imposed by them to an award. Similarly, it becomes a herculean task to challenge the rate of interest of an award in court of law.

The apex court, in this judgment, has rightly identified this problem which plagues the current regime of arbitration. The court, through this judgment, has clearly signaled that the powers of the arbitral tribunal are not always absolute and unfettered while deciding the rate of interest to be imposed on the award. The Tribunals will henceforth inculcate a habit of bringing consistency, reasonableness and certainty in the decision-making process while imposing the rate of interest on awards.

This judgment will be particularly useful in cases of international commercial arbitral disputes where it involves various different kinds of currencies and it becomes impractical to impose a uniform rate of interest on these different kind of currencies during passing of an award. The introduction of LIBOR rate will provide consistency and economic viability to the award which is the dire need of the hour for international commercial arbitration.

Finally, this decision will serve as an impetus to make India an attractive destination for international commercial arbitration as it brought a cure to the inconsistency which the Indian Arbitration jurisprudence is marred with.

Footnote

1. Civil Appeal No. 10394 of 2018

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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