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  • Shourya Bari, Anujay Shrivastava

How Serious is Serious Enough? Understanding Arbitrability of Fraud in India

[Shourya is an Associate (Dispute Resolution) at SAMVAD Partners (New Delhi) and an Editor at IRCCL, while Anujay is a law graduate (class of 2020) from Jindal Global Law School.]


Historically, arbitral tribunals have exercised jurisdiction over allegations of fraud. However, the scope of such adjudication has been a contentious issue. Is every allegation of fraud capable of being adjudicated by arbitration? Several judicial precedents have grappled with this issue, and it was the subject of a recent decision of the Supreme Court of India in Avitel Post Studioz Limited & Ors. v. HSBC PI Holdings (Mauritius) Limited (Avitel Post). This post discusses Avitel Post, and analyses two of its shortcomings.


Background


Contractually, Avitel and HSBC designated Singapore as the seat of arbitration, and all disputes had to be referred to the Singapore International Arbitration Centre (SIAC). Only Section 9 of the (Indian) Arbitration & Conciliation Act 1996 (Act) was made applicable.

The dispute’s epicentre is Avitel’s representation to HSBC, that it had nearly finalized a lucrative contract with the British Broadcasting Corporation. HSBC invested USD 60 million in Avitel’s equity capital on the basis of that representation. However, eventually, an investigation by HSBC revealed that there was no such contract and that their investment had been siphoned away by Avitel for their own benefit. HSBC moved to arbitration, and inter alia, alleged fraud against Avitel.

A SIAC emergency arbitrator passed two interim awards, directing Avitel to refrain from diminishing the value of their assets up to USD 50 million. Now, if HSBC eventually succeeded in the arbitration, it would have had to enforce the award against Avitel in India. Therefore, presumably, to financially/practically secure such enforcement in future, HSBC moved the Bombay High Court under Section 9 of the Act. It prayed that Avitel be directed to deposit a security amount to the extent of HSBC’s claim in the arbitration proceedings. This proceeding eventually culminated in a decision by a Division Bench of the High Court, which was impugned before the Supreme Court. The Division Bench had held that prima facie, HSBC had a good chance of success in the SIAC proceedings, and the allegations were arbitrable. Consequently, Avitel had to maintain a balance of USD 30 million in their account.

In the meanwhile, SIAC’s final award in HSBC’s favour found Avitel liable for fraudulent misrepresentation. HSBC proceeded under Section 48 of the Act to enforce the foreign award. The enforcement proceedings were pending, while the Supreme Court heard the matter.

Notably, the reasoning underlying the High Court proceedings largely hinged on HSBC’s likelihood of success in the actual arbitration proceedings, and in an eventual enforcement proceeding in India. Now, in order to enforce the SIAC award under Section 48, HSBC would have to ensure that the allegations of fraud were capable of being settled by arbitration under Indian law, or/and that the enforcement of the award would not contravene the fundamental policy of Indian law. In that context, Avitel discussed the arbitrability of fraud in India, which had a material bearing on the enforcement proceedings’ likelihood of success.


Analysis


To begin with, the Act does not expressly exclude any dispute from its purview. Judicially, certain disputes have been rendered non-arbitrable. Therefore, Avitel Post had to consider multiple precedents of the Supreme Court to lay down the law. Abdul Kadir was considered first. It held in the context of the erstwhile Arbitration Act 1940 that where serious allegations of fraud are made against a party, and that party desires a trial in open court, a reference to arbitration should not be made. A serious allegation was distinguished from a flimsy allegation of dishonesty.

Subsequent decisions, which culminated in Avitel Post, wrestled with the contours of “seriousness.” What really amounts to serious fraud? In this context, we shall consider the decisions of the Supreme Court in N. Radhakrishnan and Swiss Timing.

Radhakrishnan had refused to refer a dispute to arbitration, and upheld the impugned judgment of the High Court, which had noted that “allegations of fraud and serious malpractices could only be settled in court.Swiss Timing observed this aspect of Radhakrishnan and held it to be per incuriam on two grounds. First, that Radhakrishnan did not distinguish and follow the decision in Hindustan Petroleum. Second, the decision in P. Anand was not even brought to the court’s notice in Radhakrishnan. Both Hindustan Petroleum and P. Anand emphasized the mandate of a civil court to refer disputes to arbitration if there was an arbitration agreement.

Now, Swiss Timing could not have had precedential value as it was rendered in a Section 11 application. However, Avitel Post approved its reasoning and denuded Radhakrishnan of precedential value. The court had to dilute Radhakrishnan because it was being erroneously relied upon to stifle arbitration agreements by alleging fraud. In our understanding, Radhakrishnan had not actually deviated from the serious fraud threshold. It merely clumsily worded its upholding of the High Court’s ruling that “allegations of fraud” had to be settled in court. It was this portion, along with its final refusal to refer the dispute to arbitration, that was being misused. Justice Chandrachud’s concurring opinion in A. Ayyasamy lends support to this understanding.

Ayyasamy enhanced the threshold of “seriousness,” and qualified the phrase with objective tests. It held that all allegations of fraud are to be referred to arbitration unless a three-fold test it laid down is satisfied. The tests are; if there is a requirement of appreciation of voluminous evidence, or the allegations of fraud permeates the entire contract including the otherwise severable agreement to arbitrate, or if there is an implication in the public domain; the court would refuse to refer.

Ayyasamy was unconditionally approved in both Rashid Raza, and Avitel. However, it is our argument that in spite of the approval received by Ayyasamy, its holding was restricted; first by Rashid Raza, and even further by Avitel. Rashid Raza quoted Ayyasamy with approval, but explicitly ignored the test of ‘appreciation of voluminous evidence’ as a ground to not refer a dispute to arbitration, and formulated a two-fold test. Avitel did the same, and additionally, ascribed an extremely limited understanding to the test of “implication in the public domain”. According to Avitel, there would be an implication in the public domain only if “allegations are made against the State or its instrumentalities of arbitrary, fraudulent, or malafide conduct” and only a court in the exercise of its writ jurisdiction could adjudicate such questions. The court reasoned that such questions arise in the public domain, and not out of the contract itself.

Broadly speaking, Avitel Post attempts to bring certainty to the law by significantly limiting the court’s discretion to refuse to refer a dispute to arbitration. Avitel Post traced its power to do so in its understanding, that the Act (emphasizing on Sections 5, 8, and 16) almost compels a court to refer disputes to arbitration, as opposed to the Arbitration Act 1940.

Nevertheless, Avitel Post is ambiguous on two counts. First, in spite of approving the three tests in Ayyasamy, it adopts the two-fold test in Rashid Raza. It can be argued that Rashid Raza was a decision of a three-judge bench, and it could have curtailed Ayyasamy (two-judge bench decision). However, neither Rashid Raza nor Avitel alludes any reason for not including the test of “appreciation of voluminous evidence”, and this specifically creates an ambiguity. In the absence of any reason, and in light of the wholesome approval Ayyasamy received in both Rashid Raza and Avitel Post, the three decisions can be read together, and the ground, arguably, may still be availed by those alleging fraud and refusing to arbitrate.

The ground should not have been ignored without reason because an arbitral tribunal has constraints in collecting evidence. It is not bound by the Indian Evidence Act 1872 and is not empowered to any witness summons itself, or compel a party to produce any documents suo motu under the Act. While Section 27 of the Act caters to this limitation by prescribing a mechanism to seek a court’s assistance in taking evidence, the court is not bound to automatically grant a request under Section 27.[1] Section 27 (3) contains the word ‘may,’ and allows discretion to the court. In any case, an additional court proceeding to supplement an arbitrator’s limited powers may not be ideal in terms of efficiency in a dispute concerning serious fraud. Avitel Post fails to consider these factors while excluding the test.

Second, in our opinion, limiting the ground of “implication in the public domain” to allegations against the State or its instrumentalities is an unnecessarily restricted interpretation. An implication in the public domain may occur without the state being involved. For instance, what if fraud is alleged against a purely private player dispensing a public function? Additionally, the scope of a “State” is not conspicuously clear. It would have been better if courts had the freedom to consider the ground on a case-to-case to basis.


Conclusion


Apart from its ambiguities, Avitel Post must be credited for reading down Radhakrishnan, whose ratio was suffering an ill-conceived application. Additionally, AvitelPost made a critical observation to solidify its finding. Often, while alleging fraud, a party would argue that a criminal case has also been filed and would rely on that to exclude an arbitral tribunal’s jurisdiction. AvitelPost clarified that a parallel criminal proceeding, even if it results in a conflicting finding from that of the tribunal, would not be a reason to preclude an arbitral tribunal’s jurisdiction. Hopefully, Indian courts will uniformly apply the standards in Avitel Post and eventually iron out its ambiguities.

[1] 1 Justice Indu Malhotra, Commentary on the Law of Arbitration 733 (4 ed. Wolters Kluwer India Pvt. Ltd. 2020).

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