Supreme Court clarifies incorporation of arbitration clauses by reference in construction contracts: Elite Engineering vs. Techtrans Construction (23 February 2018)

Introduction

Date of the Judgment: 23 February 2018

Citation: 2018 INSC 143

Judges: A.K. Sikri, J. and Ashok Bhushan, J.

Can a sub-contractor automatically be bound by an arbitration clause in a main contract just by a general reference? The Supreme Court of India recently addressed this critical question in a case involving a dispute between a sub-contractor and a contractor. This judgment clarifies the requirements for incorporating arbitration clauses by reference, impacting how construction contracts are interpreted. The bench comprised of Justice A.K. Sikri and Justice Ashok Bhushan, with the judgment authored by Justice A.K. Sikri.

Case Background

The National Highway Authority of India (NHAI) awarded a contract to M/s. T.K. Toll Road Pvt. Ltd. (the Concessionaire) on July 19, 2007, for a highway project. The Concessionaire then engaged M/s. Utility Energytech and Engineers Private Limited (the EPC Contractor) on January 31, 2008. The EPC Contractor, in turn, entered into a Construction Agreement with M/s. Techtrans Construction India Pvt. Ltd. (the Respondent) on March 14, 2008. This agreement allowed the Respondent to sub-contract structural work. The Respondent then awarded a sub-contract to M/s. Elite Engineering and Construction (Hyd.) Private Limited (the Appellant) on July 29, 2009. Disputes arose between the Appellant and the Respondent regarding the execution of work, leading the Appellant to raise claims on March 25, 2013.

The Appellant filed an Original Petition under Section 9 of the Arbitration and Conciliation Act, 1996, in the Principal Judge, Karur. The Respondent contested, stating there was no arbitration agreement. The Appellant then applied under Section 11(3) and (5) of the Act in the High Court of Judicature at Madras on January 28, 2014, for the appointment of an arbitrator. The Principal Judge, Karur, allowed the Section 9 petition on June 30, 2014, but left the issue of the arbitration agreement open. The High Court dismissed the Section 11 petition on September 18, 2015, stating no arbitration agreement existed between the parties.

Timeline

Course of Proceedings

The Appellant initially filed a petition under Section 9 of the Arbitration and Conciliation Act, 1996, before the Principal Judge, Karur, seeking interim relief. The Respondent contested this, arguing the absence of an arbitration agreement. While this was pending, the Appellant moved the High Court of Judicature at Madras under Section 11 of the Act, seeking appointment of an arbitrator. The Principal Judge, Karur, allowed the Section 9 petition but did not decide on the existence of an arbitration agreement. The High Court dismissed the Section 11 petition, holding that no arbitration agreement existed between the parties, leading to the appeal before the Supreme Court.

Legal Framework

The core legal issue revolves around Section 7 of the Arbitration and Conciliation Act, 1996, which defines an ‘arbitration agreement’. Specifically, sub-section (5) of Section 7 is relevant, which states:

“(5) The reference in a contract to a document containing an arbitration clause constitutes an arbitration agreement if the contract is in writing and the reference is such as to make that arbitration clause part of the contract.”

This section allows for the incorporation of an arbitration clause from another document into a contract by reference. However, the key question is whether the reference is sufficient to make the arbitration clause a part of the contract. The Supreme Court also considered the interpretation of contract law principles to determine the intention of the parties.

Arguments

The Appellant argued that the arbitration clause in the agreement between the EPC Contractor and the Respondent (dated March 14, 2008) was incorporated into their agreement (dated July 29, 2009) through the following clauses:

• Clause 2: “Subcontractor hereby agrees, undertakes to execute the said value of work, and is responsible for the efficient and successful execution of the work and is to be completed as per the contract period specified in the contract document.” and “All the conditions and special conditions of contract, specifications (general and additional clauses relating to the works and quality specified in the relevant agreement between the Construction Contractor and the Employer are binding on the Subcontractor.”
• Clause 9.10 of Annexure-I: “For items which are not mentioned in this Agreement Clauses, terms and conditions of Agreement between Contractor and EPC Concessionaire will be applicable.”

The Appellant contended that these clauses, when read together, meant that all terms and conditions of the main contract, including the arbitration clause, were applicable to their sub-contract. They also referred to clause 8.7: “Other terms related to Termination of work will be same as Agreement between EPC, Concessionaire and Construction contractor.”, arguing that this also implied the incorporation of dispute resolution methods. The Appellant relied on Groupe Chimique Tunisien SA v. Southern Petrochemicals Industries Corpn. Ltd. [(2006) 5 SCC 275] to argue that their initial mention of filing a suit was a mistake of law and didn’t preclude them from seeking arbitration.

The Respondent argued that the clauses in the sub-contract only incorporated the terms and conditions related to the “works and quality” and not the arbitration clause. They contended that there was no conscious acceptance of the arbitration clause and that even they were unaware of it. The Respondent relied on M.R. Engineers and Contractors Private Limited v. Som Datt Builders Ltd. [(2009) 7 SCC 696], Larsen & Toubro Limited v. Mohan Lal Harbans Lal Bhayana [(2015) 2 SCC 461], and Sharma and Associates Contractors Private Limited v. Progressive Constructions Limited [(2017) 5 SCC 743] to support their argument that a general reference to another document does not automatically incorporate an arbitration clause.

Issues Framed by the Supreme Court

The Supreme Court did not explicitly frame issues in a separate section. However, the primary issue before the Court was:

1. Whether the arbitration clause contained in the agreement between the EPC Contractor and the Respondent was incorporated by reference into the agreement between the Appellant and the Respondent.

Treatment of the Issue by the Court

Authorities

The Supreme Court considered the following authorities:

• M.R. Engineers and Contractors Private Limited v. Som Datt Builders Ltd. [(2009) 7 SCC 696] – Supreme Court of India: The Court discussed the distinction between reference to another document and incorporation of another document in a contract by reference. It was held that a mere reference is not sufficient for incorporating an arbitration clause; there must be a clear intention to do so.
• Groupe Chimique Tunisien SA v. Southern Petrochemicals Industries Corpn. Ltd. [(2006) 5 SCC 275] – Supreme Court of India: The Court held that a party is not barred from changing its stand on the existence of an arbitration agreement if the initial stand was based on a mistake or wrong understanding of law.
• Larsen & Toubro Limited v. Mohan Lal Harbans Lal Bhayana [(2015) 2 SCC 461] – Supreme Court of India: This case was cited by the Respondent to support the argument that a general reference to another document does not automatically incorporate an arbitration clause.
• Sharma and Associates Contractors Private Limited v. Progressive Constructions Limited [(2017) 5 SCC 743] – Supreme Court of India: This case was also cited by the Respondent to support the argument that a general reference to another document does not automatically incorporate an arbitration clause.
• Alimenta S.A. v. National Agricultural Coop. Mktg. Federation of India Ltd. [(1987) 1 SCC 615] – Supreme Court of India: The Court discussed the difference between incorporating terms related to supply of goods and incorporating an arbitration clause. It held that an arbitration clause is not a term of supply.
• Section 7 of the Arbitration and Conciliation Act, 1996 – This section defines ‘arbitration agreement’ and its sub-section (5) deals with incorporation of arbitration clause by reference.

Judgment

The Supreme Court analyzed the clauses in the sub-contract and concluded that there was no intention to incorporate the arbitration clause from the main contract. The Court relied heavily on the distinction between a mere reference to another document and the incorporation of that document by reference, as explained in M.R. Engineers and Contractors Private Limited v. Som Datt Builders Ltd. [(2009) 7 SCC 696].

The Court held that the clauses in the sub-contract only referred to the terms and conditions related to the execution of work and quality, not to the dispute resolution mechanism. The Court also distinguished the case from Groupe Chimique Tunisien SA v. Southern Petrochemicals Industries Corpn. Ltd. [(2006) 5 SCC 275], stating that the issue here was not about a party changing its stand due to a mistake of law but rather about the interpretation of contract clauses.

The Court specifically addressed the use of authorities:

• M.R. Engineers and Contractors Private Limited v. Som Datt Builders Ltd. [(2009) 7 SCC 696]*: The Court followed this case to distinguish between reference and incorporation, emphasizing the need for a clear intention to incorporate the arbitration clause.
• Groupe Chimique Tunisien SA v. Southern Petrochemicals Industries Corpn. Ltd. [(2006) 5 SCC 275]*: The Court distinguished this case as it dealt with a party changing its stand due to a mistake of law, which was not the primary issue here.
• Larsen & Toubro Limited v. Mohan Lal Harbans Lal Bhayana [(2015) 2 SCC 461]*: The Court cited this case, as relied upon by the respondent, to support the argument that a general reference to another document does not automatically incorporate an arbitration clause.
• Sharma and Associates Contractors Private Limited v. Progressive Constructions Limited [(2017) 5 SCC 743]*: The Court cited this case, as relied upon by the respondent, to support the argument that a general reference to another document does not automatically incorporate an arbitration clause.
• Alimenta S.A. v. National Agricultural Coop. Mktg. Federation of India Ltd. [(1987) 1 SCC 615]*: The Court cited this case to show that an arbitration clause is not automatically incorporated as a term of supply.

What weighed in the mind of the Court?

The Supreme Court’s decision was primarily influenced by the principle that an arbitration clause cannot be incorporated into a contract by a mere general reference. The Court emphasized the need for a clear and specific intention to incorporate the arbitration clause, which was absent in this case. The Court’s reasoning focused on the specific wording of the clauses in the sub-contract, which only referred to terms related to the execution of work and quality, and not to the dispute resolution mechanism.

The Court’s reasoning was based on a careful analysis of the contract clauses and the principles of contract law, as well as the interpretation of Section 7 of the Arbitration and Conciliation Act, 1996. The Court rejected the argument that a general reference to another contract would automatically incorporate the arbitration clause.

The Court’s reasoning was based on a careful analysis of the contract clauses and the principles of contract law, as well as the interpretation of Section 7 of the Arbitration and Conciliation Act, 1996. The Court rejected the argument that a general reference to another contract would automatically incorporate the arbitration clause.

The Supreme Court stated:

“The wording of Section 7(5) of the Act makes it clear that a mere reference to a document would not have the effect of making an arbitration clause from that document, a part of the contract. The reference to the document in the contract should be such that shows the intention to incorporate the arbitration clause contained in the document, into the contract.”

“There is a difference between reference to another document in a contract and incorporation of another document in a contract, by reference. In the first case, the parties intend to adopt only specific portions or part of the referred document for the purposes of the contract. In the second case, the parties intend to incorporate the referred document in entirety, into the contract.”

“When the incorporation clause refers to certain particular terms and conditions, only those terms and conditions are incorporated and not the arbitration clause.”

Key Takeaways

• A general reference to another contract is not sufficient to incorporate an arbitration clause.
• For an arbitration clause to be incorporated by reference, there must be a clear intention to do so.
• Contract clauses must be interpreted strictly, and courts will not expand their meaning beyond the explicit wording.
• Sub-contractors should ensure that arbitration clauses are explicitly included in their agreements if they wish to be bound by them.
• Contractors should not assume that arbitration clauses in main contracts will automatically apply to sub-contracts.

Directions

No specific directions were given by the Supreme Court in this judgment. The appeal was dismissed, upholding the High Court’s decision.

Development of Law

The ratio decidendi of this case is that a mere reference to another document in a contract is not sufficient to incorporate an arbitration clause from that document. There must be a clear and specific intention to incorporate the arbitration clause. This judgment reinforces the principle that arbitration clauses must be expressly agreed upon and cannot be implied through general references. It clarifies the interpretation of Section 7(5) of the Arbitration and Conciliation Act, 1996, and provides guidance on how to draft contracts to ensure that arbitration clauses are effectively incorporated. This judgment does not change the previous position of law but rather reinforces the existing legal principles.

Conclusion

The Supreme Court dismissed the appeal, holding that the arbitration clause in the main contract was not incorporated into the sub-contract by reference. The Court emphasized that a general reference to another document is not sufficient to incorporate an arbitration clause; there must be a clear and specific intention to do so. This judgment clarifies the requirements for incorporating arbitration clauses by reference and reinforces the principle that such clauses must be expressly agreed upon by the parties. This decision has significant implications for contract drafting and interpretation, especially in construction and other industries where sub-contracting is common.