[This guest post is authored by Archi Jain, a fourth year student at Dr. Ram Manohar Lohiya National Law University, Lucknow]
On 28 July 2021, the Supreme Court in PSA Sical Terminals Pvt. Ltd. v. The Board of Trustees of Chidambaran Port Trust Tuticorin and others (PSA Sical) ruled that arbitrators cannot rewrite the terms of parties’ contract. The Court held that an arbitrator’s jurisdiction is confined to the four corners of the agreement. He/she can only pass an order on the subject matter of reference.
The Court also reaffirmed that an award based on no evidence, or passed in ignorance of vital evidence, will be perverse. It will be liable to be set aside on the ground of patent illegality under Section 34 of the Arbitration and Conciliation Act, 1996 (Arbitration Act). The present article first provides the background of the case. Further, it presents the observation of the Supreme Court and finally gives an analysis of the judgment.
In 1988, the Tuticorin Port Trust (Respondent) awarded a tender for the development of Seventh Berth at V.O. Chidambaram Port, Tuticorin to PSA Sical Terminals Pvt. Ltd. (Appellant) for 30 years on a build, operate and transfer (BOT) basis. In 1999, the Appellant submitted its tariff proposal which included payment of royalty as an element of cost (royalty payment model). This bid was approved by the Tariff Authority for Major Ports (TAMP). Accordingly, the parties entered into a license agreement on 15 July, 1998 (License Agreement).
In 2003, the Ministry of Shipping issued a notification clarifying that revenue sharing/royalty payment will not be factored into as cost for fixation or revision of the tariff by TAMP. Accordingly, in March 2005, TAMP revised the guidelines disallowing royalty as an element of cost (the notification). However, its applicability was precluded in cases where the bidding process was finalised before 29 July, 2003 so as to avoid a loss to the operator.
Subsequently, a dispute arose between the parties on their royalty payment model. Article 14.3 of the license agreement authorised the Appellant to request amendments in the agreement if there was a change in law. In furtherance of the notification, the Appellant requested the Respondent to amend the License Agreement to incorporate a revenue-sharing model in the agreement. The Respondent declined. In 2012, the Appellant invoked the arbitration clause under Article 15.3 of the License Agreement.
The tribunal passed an award in favour of the Appellant, holding that there was a change in law. The tribunal’s observation was based on the assumption that there was an existing policy, at the time the contract was entered into, stipulating that royalty is to be factored into cost while fixation of tariff. Hence, the tribunal concluded that there was a subsequent change in policy in 2005 through the notification, which resulted in a change in law. Consequently, the Respondent was directed to convert its container terminal from a royalty payment model to a revenue-sharing model.
The Respondent unsuccessfully challenged the award before the District Court of Tuticorin. The Respondent then filed an appeal before the Madras High Court under Section 37 of the Arbitration Act. The High Court upheld the Respondent’s challenge and set aside the arbitral award on the ground of patent illegality. Aggrieved, the Appellant approached the Supreme Court.
Supreme Court’s decision
The primary questions before the Supreme Court were whether the arbitral tribunal exceeded its jurisdiction by modifying the terms of the parties’ contract and whether such award would be perverse under Section 34 of the Act. The key findings of the Court are as follows:
1. Tribunal’s jurisdiction
The Court relied on its earlier decision in Md. Army Welfare Housing Organisation v. Sumangal Services Pvt. Ltd. (2004) to reiterate that an arbitral tribunal is not a court. Its orders are not judicial orders, its functions are not judicial functions, and it cannot exercise its power ex debito justitiae. The Court further clarified that the role of an arbitrator is to arbitrate within the terms of the contract and can only pass orders which are the subject matter of reference. The tribunal has no power apart from what has been given to it by the parties under the contract. If it has travelled beyond the contract, which the tribunal did by thrusting upon a new term in the agreement, it would be acting without jurisdiction.
2. Judicial interference
The Court then examined the existing position on judicial interference with an arbitral award. In MMTC v. Vedanta Ltd. (2019), the Apex Court had held that that the court may interfere with an award if it is against the public policy under Section 34(3)(b)(ii) of the Arbitration Act. Interference does not entail a review of the merits of the dispute. It is limited to situations where the arbitrator’s findings are arbitrary, capricious, perverse; when the conscience of the court is shocked; or when the illegality is not trivial and goes to the root of the matter.
3. Contractual terms and patent illegality
While determining patent illegality, the Court mainly relied on its recent decision in Ssangyong Engineering and Construction Company Limited v. National Highways Authority of India (NHAI) (2009) (Ssangyong).In Ssangyong, the parties disputed over a revision of their contractual terms. The majority opinion (award) effectively created a new contract. A workable formula set out in the parties’ agreement was substituted with another formula.
The Court held that such a change in the formula was de hors the agreement. The tribunal had created a new contract for the parties. A unilateral addition or alteration of contract cannot be foisted upon an unwilling party, nor can a party to the agreement be liable to perform a bargain not entered into with the other party. The award was held to be contrary to the fundamental principles of justice and, resultantly, was set aside.
It was further held that the ground of patent illegality could be invoked when
(a) no reasons are given for an award.
(b) the view taken by an arbitrator is impossible while construing a contract.
(c) an arbitrator decides questions beyond a contract or his terms of reference, and
(d) if a perverse finding is arrived at based on no evidence, or overlooking vital evidence, or based on documents taken as evidence without notice of the parties as was also recognised by this Court in Associate Builders v. Delhi Development Authority (2015).
Accordingly, in PSA Sical, the Court concluded that the award should be set aside because of patent illegality resulting from the following factors:
(i) Ignorance of vital evidence
The parties had agreed under Article 14.3 that the Appellant may request an amendment to the License Agreement if there is any change in law after the date of the License Agreement that substantially affects the parties’ rights. The point of contention was whether there was a change in law within the meaning of Article 14.3 of the agreement and whether the tribunal was justified in converting the terms of the contract from royalty payment model to revenue sharing model.
According to the arbitral tribunal, there was a change in policy which led to a change in law and, resultantly, affected the rights of the Appellant. The Supreme Court examined the terms of the contract and the relevant documents to conclude that the tribunal’s award based on the finding that there was an existing law to the effect that the royalty shall be included in cost while fixation of tariff is based on ‘no evidence’. Additionally, the finding that there was a change in law in 2003 and 2005 has not taken into consideration the relevant evidence; and consequently, would come into the realm of perversity.
(ii) Rewriting the terms of the contract
The Court clarified that a contract duly entered into by the parties could not be substituted unilaterally without the consent of the parties. The Respondent had denied the Appellant’s request for an amendment. The tribunal’s decision to convert the parties’ payment model, against clear intention and wishes of one of the parties, had thrust upon them a new term in the License Agreement.
A new contract was created based on the Appellant’s unilateral intention. This was tantamount to the breach of fundamental principles of justice. Accordingly, the Supreme Court concluded that the Madras High Court was right in setting aside the award.
Comments and conclusion
As previously observed by the Supreme Court in Bharat Coking Coal Ltd v. Annapurna Constructions (2003), there lies a clear distinction between an error within the jurisdiction and an error in excess of the jurisdiction. The tribunal’s observation that there was a change in law is an error within its jurisdiction and hence has been set aside by the Court on the ground of perversity under Section 34. However, the change in terms of the contract is an error in excess of its jurisdiction. The functions of an arbitral tribunal are quasi-judicial, therefore, the scope of its authority is limited to interpreting and enforcing the terms of the contract.
The US Supreme Court took the same stance in PMA Capital Insurance Company v. Platinum Underwriters Bermuda Ltd. (2010). The Court interpreted the jurisdiction of an arbitrator operating under an engagement clause (the clause). The clause relieved the arbitrators of all judicial formalities and allowed them to abstain from following strict rules of law. It further authorised the arbitrators to make their awards to give effect to the general purpose of the agreement in a reasonable manner, rather than in accordance with the literal interpretation of the language. The parties disputed over alteration in the existing terms of the contract under the clause. The Court held that the arbitrators went beyond the scope of their authority by rewriting material terms of the contract. The clause permitted the arbitrators to stray from judicial formalities but did not give them the authority to reinvent the contract before them. Although courts’ intervention beyond an extent is discouraged, the courts can play an essential role in keeping a check on the authority of the arbitrators. Arbitration is a creation of a contract and hence should stay within the limit of the contract. The case demonstrates that reasoned judicial review of arbitral awards is justifiable.