Supreme Court Interprets “Change in Law” Clause in Oil Drilling Contract: SEAMEC Ltd. vs. Oil India Ltd. (2020)

Date of the Judgment: May 11, 2020

Citation: 2020 INSC 407

Judges: N.V. Ramana, J., Mohan M. Shantanagoudar, J., Ajay Rastogi, J.

Can a price increase in High-Speed Diesel (HSD) due to a government circular be considered a “change in law” under a contract, thus requiring reimbursement? The Supreme Court of India recently addressed this question in a dispute between South East Asia Marine Engineering and Constructions Ltd. (SEAMEC Ltd.) and Oil India Limited. The core issue revolved around the interpretation of a specific clause in their contract concerning “subsequently enacted laws.” The court had to determine whether a government circular altering HSD prices qualified as a “change in law” that would trigger a reimbursement obligation for Oil India Limited. The judgment was delivered by a three-judge bench comprising Justices N.V. Ramana, Mohan M. Shantanagoudar, and Ajay Rastogi, with the opinion authored by Justice N.V. Ramana.

Case Background

In 1994, Oil India Limited (the Respondent) issued a tender, which led to a work order dated July 20, 1995, being awarded to South East Asia Marine Engineering and Constructions Ltd. (SEAMEC Ltd., the Appellant). The contract, effective from June 5, 1996, was for well drilling and related operations in Assam. Initially set for two years, the contract was extended twice by one year each, finally expiring on October 4, 2000.

During the contract period, the price of High-Speed Diesel (HSD), a crucial material for drilling, increased. SEAMEC Ltd. claimed that this price hike, triggered by government circulars, constituted a “change in law” under Clause 23 of the contract. They argued that Oil India Limited was liable to reimburse them for the increased costs. Oil India Limited rejected this claim, leading SEAMEC Ltd. to invoke arbitration on March 1, 1999.

Timeline

Course of Proceedings

The dispute was referred to a three-member Arbitral Tribunal. On December 19, 2003, the majority of the tribunal ruled in favor of SEAMEC Ltd., awarding them ₹98,89,564.33, later revised to ₹1,32,32,126.36, with 10% annual interest. The tribunal concluded that while a circular increasing HSD prices was not “law” in the strict sense, it had the “force of law” and thus fell under Clause 23 of the contract. However, one member of the tribunal dissented, arguing that executive orders were not covered by Clause 23.

Oil India Limited challenged the award under Section 34 of the Arbitration and Conciliation Act, 1996, before the District Judge, who upheld the tribunal’s decision on July 4, 2006. Subsequently, Oil India Limited appealed to the Gauhati High Court under Section 37 of the Arbitration Act. The High Court, in its judgment dated December 13, 2007, overturned the arbitral award, stating that the tribunal’s interpretation of the contract was erroneous and against the public policy of India. SEAMEC Ltd. then appealed to the Supreme Court.

Legal Framework

The Supreme Court examined the scope of judicial review under Section 34 of the Arbitration and Conciliation Act, 1996, which allows courts to set aside an arbitral award only under specific circumstances. Section 34(2) of the Arbitration and Conciliation Act, 1996 states:

“An arbitral award may be set aside by the Court only if— (a) the party making the application furnishes proof that— (i) a party was under some incapacity, or (ii) the arbitration agreement is not valid under the law to which the parties have subjected it or, failing any indication thereon, under the law for the time being in force; or (iii) the party making the application was not given proper notice of the appointment of an arbitrator or of the arbitral proceedings or was otherwise unable to present his case; or (iv) the arbitral award deals with a dispute not contemplated by or not falling within the terms of the submission to arbitration, or it contains decisions on matters beyond the scope of the submission to arbitration: Provided that, if the decisions on matters submitted to arbitration can be separated from those not so submitted, only that part of the arbitral award which contains decisions on matters not submitted to arbitration may be set aside; or (v) the composition of the arbitral tribunal or the arbitral procedure was not in accordance with the agreement of the parties, unless such agreement was in conflict with a provision of this Part from which the parties cannot derogate, or, failing such agreement, was not in accordance with this Part; or (b) the Court finds that—(i) the subject-matter of the dispute is not capable of settlement by arbitration under the law for the time being in force, or (ii) the arbitral award is in conflict with the public policy of India.”

The Court also discussed Section 56 of the Indian Contract Act, 1872, which deals with the doctrine of frustration of contract due to impossibility of performance:

“An agreement to do an act impossible in itself is void. A contract to do an act which, after the contract is made, becomes impossible, or, by reason of some event which the promisor could not prevent, unlawful, becomes void when the act becomes impossible or unlawful.”

The Court also referred to Section 65 of the Indian Contract Act, 1872, which deals with the obligation of a person who has received advantage under a void agreement, or contract that becomes void, and states:

“When an agreement is discovered to be void, or when a contract becomes void, any person who has received any advantage under such agreement or contract is bound to restore it, or to make compensation for it to the person from whom he received it.”

Arguments

Arguments by the Appellant (SEAMEC Ltd.):

• The High Court incorrectly imposed its own interpretation of Clause 23, acting as an appellate body over the Arbitral Tribunal’s award.
• The interpretation of Clause 23 is a matter of contractual interpretation, and the Arbitral Tribunal correctly interpreted it based on cited authorities.
• If two interpretations of a legal question are possible, the High Court should defer to the Arbitral Tribunal’s plausible interpretation.
• The legal question decided by the Arbitral Tribunal is beyond judicial review, and the High Court should not have interfered with a reasoned award that was neither against public policy nor patently illegal.
• The Arbitral Tribunal correctly applied the principle of beneficial construction to interpret Clause 23 liberally, thereby including price increases due to government circulars.
• The term ‘law’ in Clause 23 should be interpreted broadly to include government orders and resolutions, as the parties were aware that oil price changes were not made through statutory enactments.

Arguments by the Respondent (Oil India Limited):

• The Arbitral Tribunal’s award contradicted the contract terms and essentially re-wrote the contract.
• The Arbitral Tribunal was bound to adjudicate disputes within the contract’s parameters, and awarding additional reimbursement not under Clause 23 was perverse and illegal.
• By overlooking the contract’s terms, the Arbitral Tribunal violated Section 28 of the Arbitration Act, exceeding its jurisdiction.
• The Arbitral Tribunal did not accept one of two possible interpretations but rather made perverse and unreasonable findings by not considering the contract as a whole.
• The Arbitral Tribunal re-wrote the contract under the guise of interpretation, which conflicts with the contract terms and public policy.
• Clause 23 was intended to address unforeseen eventualities, not to revise fixed contract rates.
• Clause 23 is similar to a ‘force majeure’ clause and the doctrine of frustration, meant to address changes in law or new interpretations of existing law.

The core of the dispute revolved around whether the increase in HSD prices, mandated by government circulars, could be considered a “change in law” under Clause 23 of the contract. SEAMEC Ltd. argued for a broad interpretation, while Oil India Limited contended that the clause was meant for more significant legal changes, not routine price adjustments.

Submissions Table

Issues Framed by the Supreme Court

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

• Whether the interpretation of Clause 23 of the contract by the Arbitral Tribunal was reasonable and fair, thus warranting non-interference by the High Court under Section 34 of the Arbitration Act.
• Whether a government circular mandating an increase in the price of HSD falls within the ambit of “change in law” under Clause 23 of the contract.

Treatment of the Issue by the Court

The following table demonstrates as to how the Court decided the issues

Authorities

The Supreme Court considered the following authorities:

Cases:

• McDermott International Inc. v. Burn Standard Co. Ltd. [(2006) 11 SCC 181] – Supreme Court of India: Cited by the appellant to argue that deference should be given to the plausible view of the Arbitral Tribunal.
• Dyna Technologies Pvt. Ltd. v. Crompton Greaves Ltd. [2019 SCC Online SC 1656] – Supreme Court of India: Cited to emphasize that courts should not interfere with arbitral awards unless the perversity of the award goes to the root of the matter. It also stated that courts should not interfere merely because an alternative view on facts and interpretation of the contract exists.
• Satyabrata Ghose v. Mugneeram Bangur & Co., AIR 1954 SC 44 – Supreme Court of India: Cited to explain the doctrine of supervening impossibility under Section 56 of the Contract Act, stating that the word “impossible” should be taken in its practical sense.
• Chandler v. Webster, [1904] 1 KB 493 – Court of Appeal (UK): Discussed to illustrate the common law interpretation of frustration of contract, where loss falls on the party sustaining it before the frustrating event.
• Fibrosa Spolka Akcyjna v. Fairbairn Lawson Combe Barbour Ltd., [1942] UKHL 4 – House of Lords (UK): Cited to show how the harsh consequences of frustration were moderated by the introduction of the law of restitution.
• Cantiare San Rocco SA (Shipbuilding Company) v. Clyde Shipbuilding and Engineering Co. Ltd., [1924] AC 226 – House of Lords (UK): Cited to highlight the view that leaving loss where it fell was appropriate only among “tricksters, gamblers, and thieves.”
• Sumitomo Heavy Industries Limited v. Oil and Natural Gas Corporation Limited, (2010) 11 SCC 296 – Supreme Court of India: Cited by the appellant to argue that an additional tax burden could be recovered under an indemnity clause. The Court distinguished this case, stating that the evidence on record did not suggest that the parties had agreed to a broad interpretation of Clause 23.

Legal Provisions:

• Section 34 of the Arbitration and Conciliation Act, 1996: Discussed to outline the grounds on which a court can set aside an arbitral award.
• Section 28 of the Arbitration and Conciliation Act, 1996: Mentioned by the respondent to argue that the tribunal exceeded its jurisdiction by overlooking the terms and conditions of the contract.
• Section 56 of the Indian Contract Act, 1872: Discussed to explain the doctrine of frustration of contract due to impossibility of performance.
• Section 65 of the Indian Contract Act, 1872: Discussed to explain the obligation of a person who has received advantage under a void agreement or contract.
• Section 32 of the Indian Contract Act, 1872: Mentioned to highlight that parties may choose the consequences that would flow on the happening of an uncertain future event.

Treatment of Authorities Table

Judgment

Treatment of Submissions Table

Treatment of Authorities Table

The Supreme Court held that the Arbitral Tribunal’s interpretation of Clause 23 was not a possible interpretation of the contract. The court emphasized that a contract should be read as a whole, and the tribunal had ignored this basic rule while interpreting Clause 23. The court found that the contract was based on a fixed rate, and the parties had mitigated the risk of price increases. The court noted that the Arbitral Tribunal had expanded the meaning of Clause 23 to include changes in the rate of HSD without sufficient evidence. The court also stated that a prudent contractor would have factored in price fluctuations while bidding in the tender.

The Court also disagreed with the High Court’s reasoning that Clause 23 was inserted in furtherance of the doctrine of frustration. Instead, the court stated that the parties had chosen to mitigate the risk of price variations through Clause 23. The court observed that the other contractual terms also suggested that the interpretation of the clause, as suggested by the Tribunal, was perverse.

The Supreme Court concluded that the Arbitral Tribunal’s interpretation of Clause 23 to include changes in the rate of HSD was not a possible interpretation of the contract. The court upheld the High Court’s decision to set aside the arbitral award. The court dismissed the appeal filed by SEAMEC Ltd.

What weighed in the mind of the Court?

The Supreme Court’s decision was heavily influenced by the principle that a contract should be interpreted as a whole, and that the parties had already mitigated the risk of price variations. The Court was also influenced by the fact that the contract was based on a fixed rate, and the Arbitral Tribunal had expanded the meaning of Clause 23 without sufficient evidence. The court also emphasized that a prudent contractor would have factored in price fluctuations while bidding in the tender.

Sentiment Analysis Ranking

Fact:Law Ratio

The court’s reasoning was based on a combination of factual analysis (the nature of the contract, the tender process) and legal interpretation (the scope of Clause 23, the principles of contract interpretation). The legal considerations slightly outweighed the factual aspects in the Court’s decision-making process.

Logical Reasoning

Issue 1: Was the Arbitral Tribunal’s interpretation of Clause 23 reasonable?

Issue 2: Does a government circular increasing HSD prices qualify as “change in law” under Clause 23?

Decision

The Supreme Court dismissed the appeal filed by SEAMEC Ltd. The court upheld the decision of the Gauhati High Court, which had set aside the arbitral award.

Significance

This judgment is significant for several reasons:

• Interpretation of “Change in Law” Clauses: The judgment clarifies that a “change in law” clause should be interpreted strictly and not broadly to include routine price adjustments or government circulars unless explicitly stated in the contract.
• Judicial Review of Arbitral Awards: The Supreme Court reiterated that while courts should generally defer to the findings of an arbitral tribunal, they can intervene if the tribunal’s interpretation is not a possible one, goes against the contract terms, or is against public policy.
• Contractual Interpretation: The judgment emphasizes the importance of interpreting contracts as a whole, considering all terms and conditions, and not in isolation.
• Risk Mitigation: The judgment suggests that parties should be prudent in their contractual agreements and should mitigate foreseeable risks, such as price fluctuations, through appropriate clauses in the contract.