The advent of Arbitration as a means of alternative dispute resolution mechanism recognizes party autonomy and gives legal backing to the will of the parties and by way of an Arbitration Agreement the parties can legally oust the ordinary jurisdiction of a civil court to decide the dispute and confer jurisdiction on a mutually agreed arbitrator or arbitrators.

Section 11(2) of the Arbitration and Conciliation Act , 1996 which points towards the intention of the Legislature to give weightage to the will of the parties is reproduced hereunder:-

Section 11(2) - Subject to sub-section (6), the parties are free to agree on a procedure for appointing the arbitrator or arbitrators.

Thus, parties are free to agree on any procedure for appointing the arbitrator or arbitrators. The parties may agree and include fulfilment of certain conditions as part of the procedure before appointing the arbitrator. These may include exhausting formalities of conciliation proceedings, departmental appeals (in case of Government contracts), pre-deposit condition etc. This list is by no means exhaustive, and parties have absolute autonomy to include any condition precedent before initiating arbitration.

The condition precedent under discussion in the present topic relates to pre-deposit of a certain percentage of the claimed amount and whether the same acts as a deterrent or helps prevent filing of frivolous claims.

Before discussing the relevant case law on the subject a reference is being made to relevant parts of Section 31A of the Arbitration and Conciliation Act, 1996 relating to Regime for costs

Section 31A (3) In determining the costs, the court or arbitral tribunal shall have regard to all the circumstances, including:

1. the conduct of all the parties
2. whether the party has succeeded partly in the case
3. whether the party had made a frivolous counter claim leading to delay in the disposal of the arbitral proceedings
4. whether any reasonable offer to settle the dispute is made by a party and refused by the other party

Section 31A makes a provision for imposition of cost in case a frivolous counter claim is filed with an oblique object to delay the arbitration proceedings. Such cost is imposed only on the conclusion of the arbitration proceedings after examining various factors like conduct of parties, their intent etc.

There is no provision in the Arbitration and Conciliation Act 1996 for a pre-deposit as a condition precedent for initiation of Arbitration proceedings. It is only by virtue of Section 11(2) of the Act that the parties being free to agree on a procedure for appointment of arbitrator(s) that such condition is incorporated as part of the arbitration agreement between them.

In Lombardi Engineering Ltd vs Uttarakhand Jal Vidyut Nigam Ltd 2023 SCC OnLine SC 1422 a dispute arose as to whether this condition of a pre-deposit of a certain percentage of the claimed amount before initiation of Arbitration was violative of Article 14 of the Constitution of India in the sense of being unfair and unjust. It was argued that such a clause does not have any nexus in preventing the filing of a frivolous or vexatious claim.

The relevant part of arbitration clause in Lombardi Engineering (supra) is reproduced below:

However, the Party initiating the arbitration claim shall have to deposit 7% of the arbitration claim in the shape of Fixed Deposit Receipt as security deposit.

An argument was raised before the Hon'ble Supreme Court that the above condition had been held to be bad in law in the case of ICOMM Tele Ltd vs Punjab State Water Supply and Sewerage Board (2019) 4 SCC 401

Countering the above it was submitted before the Hon'ble Supreme Court that a three judge bench in the case of S.K. Jain vs State of Haryana, (2009) 4 SCC 357 held a similar clause requiring a security deposit of certain percentage of the claim amount to be valid. It was further argued that a party having consented to the pre-deposit clause cannot be permitted to turn around and question its validity at a stage when petition u/s 11(6) of the Act was being considered thereby circumventing the principle of "party autonomy".

One of the issues culled out by the Hon'ble Supreme Court in Lombardi Engineering (supra) was as follows:
Whether this Court while deciding a petition filed under Section 11(6) of the Act 1996 for appointment of a sole arbitrator can hold that the condition of pre-deposit stipulated in the arbitration clause as provided in the Contract is violative of the Article 14 of the Constitution of India being manifestly arbitrary?

Since the rival contentions in Lombardi Engineering ( supra ) related to ratio of law as stated in S.K. Jain (supra) on one hand AND ICOMM Tele ( supra) on the other and particularly to the verbiage of the respective arbitration clauses involved therein it will be useful to reproduce the arbitration clauses which were under consideration in S.K. Jains case and ICOMM Tele case.

In S.K. Jain (supra) the relevant part of arbitration clause reads as under:
"25-A. (7) It is also a term of this contract agreement that where the party invoking arbitration is the contractor, no reference for arbitration shall be maintainable unless the contractor furnishes to the satisfaction of the Executive Engineer in charge of the work, a security deposit of a sum determined according to details given below and the sum so deposited shall, on the termination of the arbitration proceedings be adjusted against the costs, if any, awarded by the arbitrator against the claimant party and the balance remaining after such adjustment in the absence of any such costs being awarded, the whole of the sum will be refunded to him within one month from the date of the award

 

Amount of Claim	Rate of Security Deposit
1.For claims below Rs. 10,000	2% of amount claimed
2.For claims of Rs 10,000 and above and below Rs. 1,00,000 and	5% of amount claimed
3. For claims of Rs 1,00,000 and above	7% of amount claimed

In ICOMM Tele (supra) the relevant part of arbitration clause reads as under:-

It shall be an essential term of this contract that in order to avoid frivolous claims the party invoking arbitration shall specify the dispute based on facts and calculations stating the amount claimed under each claim and shall furnish a "deposit- at-call" for ten per cent of the amount claimed, on a schedule bank in the name of the arbitrator by his official designation who shall keep the amount in deposit till the announcement of the award. In the event of an award in favour of the claimant, the deposit shall be refunded to him in proportion to the amount awarded with reference to the amount claimed and the balance, if any, shall be forfeited and paid to the other party.

As can be seen there is a stark difference in the verbiage of the 2 arbitration clauses.

IN S.K. Jains case the pre-deposit was to be adjusted against the costs if awarded and the balance amount was to be refunded to the claimant.

In ICOMM Teles case the pre-deposit, in the event of an award in favour of the claimant was to be refunded only in proportion to the amount awarded with reference to the amount claimed and the balance if any was to be forfeited and paid to the other party

It may be noted that in Lombardi Engineering Ltd the Hon'ble Supreme Court also analysed few judgments rendered by the Hon'ble Punjab & Haryana High Court namely - Brij Gopal Construction Co Pvt Ltd vs HSVP - CWP No 14587 of 2022, Garg & Co vs State of Haryana - CWP No 21840 of 2020 and The Assan Co-op L & C Society vs HVPNL Ltd - ARB 127 of 2019.

The Hon'ble Punjab & Haryana High Court in all the above judgments held the view that the clause in SK Jains case was materially different from the clause in ICOMM Tele where SK Jains arbitration clause provided for an adjustment and refund of the pre-deposit whereas ICOMM Teles arbitration clause provided for forfeiture of the pre-deposit. The arbitration clause in those cases being similar to the one in SK Jains case the Hon'ble Punjab & Haryana High Court followed the ratio of law as culled out in SK Jains case by upholding the pre-deposit condition. The relevant part of observation of the Hon'ble Punjab & Haryana High Court in Garg & Company vs State of Haryana - CWP No 21840 of 2020 is reproduced below:-

Learned counsel for the petitioner is unable to deny that Clause 33(7) of the Agreement in the present writ petitions is identical to Clause 25(7) of the Agreement, which was under consideration in S.K. Jain's case (supra). Though learned senior counsel for the petitioner/s was at pains to submit that the ratio of M/s. ICOMM Tele Limited's case (supra) suggests that any kind of pre-deposit has to be set aside as it necessarily leads to deterring a party to an arbitration from invoking this alternate dispute resolution system and in-fact renders the entire arbitral process ineffective, however, keeping in view the specific discussion by the Hon'ble Supreme Court in its decision in M/s. ICOMM Tele Limited's case (supra) of S.K. Jain's case (supra), I do not find any merit in the argument raised by learned counsel for the petitioner. The same is accordingly rejected as it is clear that this Court is bound by the judgment of the Hon'ble Supreme Court in S.K. Jain's case (supra), which has not been overruled till date

The Hon'ble Supreme Court in Lombardi Engineering Ltd after a detailed analysis of the different arbitration clauses in SK Jain and ICOMM Tele held that there was in fact no conflict between SK Jain and ICOMM Tele as the arbitration clauses for consideration in both the cases stood on a different footing. It was further held as follows:-

Keeping the aforesaid in mind, if we look into the 7% pre-deposit condition in the case on hand, as contained in Clause 55 of the GCC it is evident that nothing has been provided as to how this amount of 7% is to be ultimately adjusted at the end of the arbitral proceedings.

As can be seen that in Lombardi Engineering Ltd the arbitration clause stopped short of specifying as to how the 7% pre deposit amount was to be treated i.e. whether the same was to be adjusted and refunded OR forfeited.

In the above circumstances the Hon'ble Supreme Court held that pre-deposit amount of 7% as stipulated was vague and ambiguous and made the same vulnerable to arbitrariness thereby violating Article 14 of the Constitution of India. It was further held that in case the clam was found to be frivolous the arbitral tribunal could always award costs in accordance with Section 31A of the 1996 Act.

An argument in favor of 7% clause that it was in line with the concept of "party autonomy" was negated by the Hon'ble Supreme Court by stating that the said concept cannot be stretched to an extent where it violates the fundamental rights under the Constitution of India. It further held that for an arbitration clause to be legally binding it has to be in consonance with the provisions of the Constitution of India.

The Hon'ble Supreme Court therefore held as under:
We are of the view that as such there is no conflict between S.K. Jain (supra) and ICOMM Tele Limited (supra), as the relevant arbitration clauses that fell for the consideration of this Court in both the cases stood completely on a different footing. What is relevant to note are the points of law on which S.K. Jain (supra) was distinguished and explained in ICOMM Tele Limited (supra).

In the context of the arbitration clause in the case at hand (Lombardi Engineering) the Hon'ble Supreme Court held as under:

In view of the aforesaid discussion, we have reached to the conclusion that we should ignore the two conditions contained in Clause 55 of the GCC, one relating to 7% deposit of the total amount claimed and the second one relating to the stipulation empowering the Principal Secretary (Irrigation) Government of Uttarakhand to appoint a sole arbitrator and proceed to appoint an independent arbitrator.

The final analysis as coming forth from the decision of the Hon'ble Supreme Court in Lombardi Engineering is that an Arbitration clause providing for adjustment and refund of pre-deposit amount is valid & enforceable and therefore cannot be said to be a deterrent to initiate Arbitration proceedings but in fact aids in preventing the filing of frivolous claims whereas an Arbitration clause providing for forfeiture of pre deposit amount OR which is ambiguous about the adjustment/non-adjustment of pre-deposit amount is violative of Article 14 of the Constitution of India and is not enforceable and is a deterrent to initiate Arbitration proceedings and cannot be insisted upon.

Written By:Aman Bahri, Advocate
P/842/2000