ELP Arbitration Update – Kerala Revocation of Arbitration Clauses and Reopening of Awards Act, 1998 encroaches upon the judicial power of the State; Hon’ble Supreme Court of India analyzes Article 254 (2) of the Constitution and the Doctrine of Separation of Powers

Kerala Revocation of Arbitration Clauses and Reopening of Awards Act, 1998 encroaches upon the judicial power of the State; Hon’ble Supreme Court of India analyzes Article 254 (2) of the Constitution and the Doctrine of Separation of Powers

The Secretary to Govt. of Kerala, Irrigation Department & Ors. v. James Varghese & Ors.^[i]

The Hon’ble Supreme Court of India (Hon’ble Court) has upheld the Hon’ble High Court of Kerala’s decision on the unconstitutionality of the Kerala Revocation of Arbitration Clauses and Reopening of Awards Act, 1998 (Kerala Act). The Hon’ble Court held that state legislatures do have the legislative competence to introduce enactments such as the Kerala Act (subject to certain constitutional modalities mandated under Article 254 (2) of the Constitution), which contain provisions that may be repugnant to the Arbitration & Conciliation Act, 1996 (Arbitration Act). However, the Hon’ble Court has held the Kerala Act to be unconstitutional as it results in entirely vitiating awards rendered in arbitral proceedings and decisions / decrees of civil courts that upheld such awards. Hence, despite the Kerala Act falling within the competence of the Kerala State Legislature, nonetheless, the same has been set aside as having transgressed on the judicial functions of the State, and ergo, was violative of the doctrine of separation of powers.

• In 1961, the State of Kerala (“Appellant”) commenced with the construction of the Kallada Irrigation Project (“Project”), which was proposed to be completed with financial assistance from the World Bank.
• However, in order to facilitate such financial assistance, the World Bank required the inclusion of a particular provision – the Local Competitive Bidding Specification (“LCBS agreements”), which inter alia, provided for the settlement of disputes through arbitration.
• The Appellant was of the opinion that the arbitral proceedings envisaged under the World Bank’s LCBS were riddled with issues of corruption, incompetence, and bias.
• As such, the Appellant deemed it necessary and in the public interest to deal with arbitration clauses in these LCBS agreements in the following manner vide the Kerala Act:

– The arbitration clauses in every LCBS agreement would stand cancelled; the authority of an arbitrator appointed under an LCBS agreement would stand revoked; and any LCBS agreement would cease to have effect insofar as it related to the matters in dispute or difference referred[ii].

– Further, there would no prohibition upon any party to a LCBS agreement to file a suit in a court of competent jurisdiction on issues to which the LCBS agreement related. Further, questions regarding the validity or effect of such agreement would be decided by the court, as if the arbitration clauses had never been included in the agreement[iii].

– A suit could be preferred by a party within a period of six months from the date of commencement of the Kerala Act or within such period as is allowed by the provisions of the Limitation Act, 1963 (“Limitation Act”), in relation to such suits, whichever was later[iv]. The Kerala Act also enabled the State Government to file an appeal against any award within a period of 90 days from the date of commencement of thereof. The only criteria for the State Government to invoke such entitlement was a) any award passed was not in accordance with the terms of the LCBS agreement b) there was failure to produce relevant data or other particulars before the arbitrator before passing the award, or c) the award passed is of unconscionable amounts[v].

The Kerala Act was challenged before the Hon’ble High Court of Kerala immediately upon its enactment. In 2013[vi], the Hon’ble High Court of Kerala allowed the petitions challenging the Kerala Act and declared the same to be unconstitutional as being beyond the legislative competence of the Kerala State Legislature, along with encroaching on the judicial power of the State, which was exercised through the courts in terms of the laws already made and in force (“2013 Judgment”). The 2013 Judgment held that the Kerala Act infracted the quality doctrine and the avowed constitutional principles insulating the judicial function which is cardinal to deliverance of justice as part of the seminal constitutional values, including separation of powers.

The Hon’ble Court upheld the decision of the Hon’ble High Court of Kerala in setting aside the Kerala Act. However, as is evident hereinafter, the rationale employed by the Hon’ble Court was limited to the Kerala Act encroaching on judicial powers and violating the doctrine of separation of powers, as compared to the other factors that weighed with the Hon’ble High Court of Kerala.

• Competence of the Kerala State Legislature to enact the Kerala Act:

– The Hon’ble Court sought to make its determination of the legislative competence to enact the Kerala Act by conducting an in – depth analysis of the source of Kerala Act and the juxtaposition thereof with the source of the Arbitration Act.

– In this respect, the Hon’ble Court examined (1) Entry 13 of List III of the Seventh Schedule to the Constitution (“Concurrent List”); (2) Entries 12, 13, 14 and 37 of List I of the Seventh Schedule to the Constitution (“Union List”); and (3) the scope of powers of the Parliament under clause (2) of Article 254 to the Constitution.

– Having regard to the aforesaid, the Hon’ble Court proceeded to examine its previous decisions in respect of other state legislation that had been in conflict with the Arbitration Act, notably C. Kanungo v. State of Orissa[vii] (“G.C. Kanungo Judgment”), and Madhya Pradesh Rural Road Development Authority & Anr. v. L.G. Chaudhary & Contractors[viii] (“2018 MP Rural Judgment”), which pertaining to the Arbitration (Orissa Second Amendment) Act, 1991 (“1991 Orissa Act”), and the Madhya Pradesh Madhyastham Adhikaran Adhiniyam, 1983 (“1983 MP Act”), respectively.

– The Hon’ble Court opined that an examination of the relevant provisions of the Concurrent List read with the Union List demonstrated that the subject of arbitration finds mention on both, and ergo, legislation pertaining to the subject of arbitration could be promulgated by both Parliament and a state legislature[ix]. However, in the event a state legislature opted to invoke such jurisdiction in respect of a subject on the Concurrent List, the enactment would necessarily have to obtain the assent of the President. Upon the aforesaid assent being granted to such legislation, the provisions of the state legislation would prevail in the concerned State, notwithstanding its repugnancy with an earlier Parliamentary legislation on the same subject.

– Admittedly, the source of the Arbitration Act and the Kerala Act is the Concurrent List and ordinarily, in the event of conflict between these legislations, the Arbitration Act would prevail on account of Article 254 (1) of the Constitution. However, the Hon’ble Court held that as the Kerala Act had received the requisite Presidential assent in terms of Article 254 (2) of the Constitution, due to the clear exemption provided therein to operationalize and enforce state legislation that is repugnant qua an enactment of Parliament, it would prevail over the Arbitration Act in the State of Kerala[x].

– In this respect, the Hon’ble Court also examined State of West Bengal v. Kesoram Industries Ltd. & Ors[xi] (“Kesoram Judgment”), which dealt with the residuary powers of the Parliament under Article 246 of the Constitution, and the applicability of the doctrine of occupied field. The Kesoram Judgment held that the doctrine of pith and substance is to be applied and if the impugned legislation substantially falls within the power expressly conferred upon the legislature which enacted it, an incidental encroaching in the field assigned to another legislature is to be ignored.

– As such, in line with the aforesaid precedent, the Hon’ble Court reiterated the earlier ratio laid down and held that the subject of arbitration was covered both in the Concurrent and Union Lists. As such, the Kerala State Legislature was competent to promulgate the Kerala Act, which had received Presidential assent, in terms of Article 254 (2) of the Constitution, and ergo, would prevail over the Arbitration Act in the State of Kerala, in the event of any repugnancy.

• Interplay between the UNCITRAL Model Law and Arbitration Act

– The Hon’ble Court examined the Arbitration Act and the resolution[xii] passed by the United Nations General Assembly (“General Assembly”) and held that the call to implement the UNCITRAL Model Law is merely a recommendation by such General Assembly and not a decision taken at an international conference.

– Hence, the Hon’ble Court held that the General Assembly’s resolution did not create any binding on members such as India to enact the UNCITRAL Model Law as it is.

– The Hon’ble Court juxtaposed the enactment of the Arbitration Act to the Environment Protection Act, 1986 and the National Green Tribunal Act, 2010 to determine what would constitute a “decision taken at an international conference”. After examining its decisions in S Jagannath v. Union of India[xiii] and Mantri Techzone Private Limited v. Forward Foundation & Ors[xiv], the Hon’ble Court opined that both the Environment Protection Act, 1986 and the National Green Tribunal Act, 2010 were enacted by Parliament as a consequence of decisions taken at international conferences and were therefore, binding in nature in terms of Entry 13 of List I of the Seventh Schedule read with Article 253 of the Constitution.

– However, in the opinion of the Hon’ble Court, the decision taken in the General Assembly to recommend the implementation of the UNCITRAL Model Law, could not constitute a “decision taken at an international conference”.

• The Kerala Act constitutes an encroachment on judicial powers and ergo, goes against the doctrine of separation of powers:

– The Hon’ble Court agreed with the Hon’ble High Court of Kerala in holding that the State Legislature encroached upon the judicial powers of the courts, and ergo, was vitiated on account of being contrary to the doctrine of separation of powers by enacting the Kerala Act.

– The Hon’ble Court proceeded to conduct and in – depth examination on the issue of whether the judgments and decrees by which arbitral awards are made “Rules of Court”, are passed in the exercise of the court’s judicial power. In the G.C. Kanungo Judgment, this proposition was rejected, but nonetheless, the Hon’ble Court held that awards passed by special arbitral tribunals were in exercise of judicial power, and in the event that the State nullifies such awards, the same would constitute an encroachment on judicial power on account of the State abrogating itself a judicial power.

– In this respect, after examining its decisions in Harinagar Sugar Mills v. Shyam Sundar Jhunjhunwala & Ors[xv] and Shankarlal Aggarwala & Ors v. Shankarlal Poddar & Ors[xvi], this Hon’ble Court held that the determination of whether an order was administrative or judicial would depend on the exercise of discretion in an objective manner in rendering the same. As such, the Hon’ble Court was of the opinion that the aforesaid ratio as espoused in the G.C. Kanungo Judgment, was per incuriam as the powers exercised by a civil court when making an award a “Rule of Court”, is not a mechanical power, and constitute judicial powers[xvii].

– The Hon’ble Court also discussed how the exercise of powers under Section 11 (6) of the Arbitration Act were not administrative, but rather, judicial powers[xviii].

– Apart from the aforesaid precedent, the Hon’ble Court relied heavily on a decision of the Constitution Bench in State of Tamil Nadu v. State of Kerala & Anr[xix] (“Tamil Nadu Judgment”), which had laid down three (3) tests to determine whether a legislation has breached the doctrine of separation of powers – (a) does the legislative prescription or direction interfere with judicial function (“Test 1”); (b) is the legislation targeted at a decided case or is required to be applied to a case already finally decided (“Test 2”); and (c) what are the terms of the legislation, the issues dealt with by it, and the nature of the decision that has attained finality (“Test 3”). In the Tamil Nadu Judgment, the Constitution Bench held that in the event that Test 1 and 2 are answered in the affirmative, and the consideration of aspects noted in Test 3 sufficiently establishes that the legislation interferes with judicial functions, the same may be declared to be unconstitutional.

– Relying upon the Tamil Nadu Judgment, and applying the aforesaid tests, the Hon’ble Court proceeded to examine the Kerala Act, and held the same to be unconstitutional for the following reasons:

• Although a law enacted by the legislature may appear to be within the ambit and scope of its competence, nonetheless, if upon an examination of the same it is determined that such legislation attempts to interfere with the judicial process, the law may be invalidated on the ground of breach of the doctrine of separation of powers;
• Despite the Kerala Act falling into the legislative competence of the Kerala State Legislature on account of the Concurrent List, the same would have to be examined in terms of whether it seeks to interfere with the judicial process.
• The Kerala Act had been enacted on account of the Appellant being aggrieved by various arbitral awards rendered against it, which were made “Rules of Court” prior to the enactment thereof, and in respect of which the Appellant had preferred appeals. Hence, it was evident that the legislative prescriptions and directions contained in the Kerala Act, undoubtedly interfered with the exercise of judicial functions.
• As such, the Hon’ble Court held that Test 1 and 2 as laid down in the Tamil Nadu Judgment, were required to be answered in the affirmative. The Hon’ble Court was of the opinion that upon the consideration of the provisions of the Kerala Act and the issues dealt with thereunder, it was clear that the Kerala Act interfered with judicial functions.
• In this context, the Hon’ble Court held that the Kerala Act, which had the effect of annulling awards that had become “Rules of Court”, wherein, rights had accrued in favour of parties[xx] much prior to the enactment thereof, constituted a transgression on the judicial functions of the State and therefore, is violative of the doctrine of separation of powers.

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Abhay Chattopadhyay, Partner – Email – AbhayChattopadhyay@elp-in.com

[i] 2022 SCC OnLine SC 545.
[ii] Section 3 (1), Kerala Revocation of Arbitration Clauses and Reopening of Awards Act, 1998.
[iii] Section 3 (2), Kerala Revocation of Arbitration Clauses and Reopening of Awards Act, 1998.
[iv] Section 4, Kerala Revocation of Arbitration Clauses and Reopening of Awards Act, 1998.
[v] Section 5, Kerala Revocation of Arbitration Clauses and Reopening of Awards Act, 1998.
[vi] James Varghese & Anr. v. State of Kerala, (2013) 4 KLJ 388.
[vii] (1995) 5 SCC 96.
[viii] (2018) 10 SCC 826.
[ix] G.C. Kunungo v. State of Orissa, (1995) 5 SCC 96.
[x] G.C. Kunungo v. State of Orissa, (1995) 5 SCC 96; Madhya Pradesh Rural Road Development Authority & Anr. v. L.G. Chaudhary & Contractors, (2018) 10 SCC 826; G. Mohan Rao & Ors. v. State of Tamil Nadu & Ors., (2021). SCC OnLine SC 440.
[xi] State of West Bengal v. Kesoram Industries Ltd., (2004) 10 SCC 201.
[xii] U.N. GAOR, 40^th Sess., C.6 at 135, U.N. Doc. A / 40 / PV.112 (Dec. 11, 1985).
[xiii] S. Jagannath v. Union of India, (1997) 2 SCC 87.
[xiv] Mantri Tehzone Pvt. Ltd. v. Forward Foundation & Ors., (2019) 18 SCC 494.
[xv] Harinagar Sugar Mills v. Shyam Sundar Jhunjhunwala & Ors., (1962) 2 SCR 339.
[xvi] Shankarlal Aggarwala & Ors. v. Shankarlal Poddar & Ors., (1964) 1 SCR 717.
[xvii] Steel Authority of India Ltd. v. J C Budhiraja, Government and Mining Contractor, (1999) 8 SCC 122; Ramachandra Reddy & Co. v. Andhra Pradesh & Ors., (2001) 4 SCC 241.
[xviii] SBP & Co. v. Patel Engineering Ltd. & Anr., (2005) 8 SCC 618.
[xix] State of Tamil Nadu v. State of Kerala & Anr., (2014) 12 SCC 696.
[xx] P. Tulsi Das & Ors. v. Govt. of A.P. & Ors., (2003) 1 SCC 364.