Friday, March 13, 2015

Fraud Claims in Arbitration

Arbitration improves access to justice. It enhances the likelihood of recovery. It delivers speedier results. It keeps costs down. For many, it is a superior option to the expensive, slow, cumbersome ways that have come to typify our civil justice system.”[1]

-           Peter B. Rutledge

Scales Justice Arbitration
Indian Courts have in several decisions held that matters, in which grave allegations of fraud, conspiracy or misappropriation are made, are too serious to be tried by arbitrators. Therefore, in India, and several other countries, such matters cannot be the subject-matter of arbitration. This view has also been upheld by the Supreme Court of India in N. Radhakrishnan vs Maestro Engineers[2] (“N Radhkrishnan”). The Courts have given various reasons for holding that arbitrators are incompetent to hear such matters. Reputation of the party, ineffectiveness of arbitration where substantial amount of documentary evidence needs to be produced and lack of legal knowledge of the arbitrator, are some of the most cited reasons for limiting the scope of arbitration by such a huge extent. It is also necessary to consider the impact of such a limitation on Indian arbitration law, from an international commercial arbitration perspective.

This article aims to analyze whether arbitration tribunals should be allowed to hear such matters and whether they can function effectively in cases involving fraud. It is to be noted that this article focuses only on fraud, conspiracy or misappropriation that relates only to the issues between parties of a valid arbitration agreement. This article does not dwell into issues which arise when the arbitration agreement itself was obtained by fraud, misrepresentation, coercion, undue influence or on mistake of fact. 'Fraud' wherever used in this article includes conspiracy or misappropriation and other similar acts, but only from the perspective of civil law. It is well settled in law that criminal offences cannot be referred to arbitration, and the author does not dispute the correctness of such a limitation on arbitration.
Part II of this article analyzes the various judgements that have held that matters involving   allegations of fraud cannot be tried by arbitrators. It also compares the ratio of the judgements passed under the provisions of The Arbitration Act, 1940 (“the Act of 1940”) with the judgements passed under the provisions of the Arbitration and Conciliation Act, 1996 (“the Act of 1996”). Part III of this article tests, theoretically, the applicability of 'confidentiality' on arbitration proceedings and awards, in India. It also considers confidentiality in arbitration proceedings, as a possible solution to widen the scope of arbitration, thereby bringing allegations of fraud within its ambit. Part IV proposes possible solutions to minimize judicial intervention in cases involving fraud, and also puts forth circumstances in which fraud claims can be tried by arbitrators.

Ineffectiveness of Arbitration tribunal
In N Radhkrishnan,[3] the parties before the Supreme Court had entered into a partnership and the partnership deed executed between them contained an arbitration clause. Disputes arose between the partners and letters were exchanged. In these letters, one partner who was the appellant, alleged fraud and serious malpractices by the other document partners and offered to resign from the partnership.
The appellant filed an application before the district court under section 8(1) of the Act of 1996 and requested the district court to refer the dispute to arbitration in light of the arbitration clause in the partnership deed. The district court dismissed the appellant's application to refer the matter to arbitration. On appeal, the Madras High Court also rejected his request for arbitration. The appellant then sought relief from the Supreme Court, but the Apex Court also found against him and dismissed his appeal to refer the dispute to arbitration. The reasoning adopted by the Supreme Court was that such situations cannot be appropriately settled by arbitration.
Supreme Court of India

In order to examine the judgement, it is necessary to refer to the relevant provisions of the Act. Section 5 of the Act of 1996 states as under:
"Notwithstanding anything contained in any other law for the time being in force, in matters governed by this Part (Part I of the Act), no judicial authority shall intervene except where so provided this Part (Part I of the Act)."
No provision of Part I of the Act of 1996 provides for judicial intervention in cases involving substantial questions relating to facts or those which involve serious allegations relating to fraud and malpractice. It is interesting to note that despite the huge impact of this judgement on section 5 of the Act, the Supreme Court's judgement does not once mention or refer to section 5 of the Act.
In N Radhkrishnan, the Supreme Court relied on Abdul Kadir Shamshuddin Bubere vs Madhav Prabhakar Oak[4], Haryana Telecom Ltd. vs. Sterlite Industries (India) Ltd. and Oomor Sait Vs. Aslam Sait.
Abdul Kadir Shamshuddin Bubere vs Madhav Prabhakar Oak arose under the Act of 1940. In this case, a three-judge bench of the Supreme Court held that "where serious allegations of fraud are made against a party and the party who is charged with fraud desires that the matter should be tried in open court, that would be a sufficient cause for the court not to order an arbitration agreement to be filed and not to make the reference to the arbitrator."
However, the court came to the conclusion that judicial intervention is permitted by virtue of sub-section (3) and (4) of section 20 of the Act of 1940 and reads as under:
(3) On such application being made, the Court shall direct notice thereof to be given to all parties to the agreement other than the applicants, requiring them to show cause within the time specified in the notice why the agreement should not be filed.
(4) Where no sufficient cause is shown, the Court shall order the agreement to be filed, and shall make an order of reference to the arbitrator appointed by the parties, whether in the agreement or otherwise, or, where the parties cannot agree upon an arbitrator, to an arbitrator appointed by the Court. “
Section 20 was the only provision under the Chapter 'Arbitration With Intervention of a Court Where There Is No Suit Pending' of the Act of 1940. In the judgement of Abdul Kadir Shamshuddin Bubere vs Madhav Prabhakar Oak, the Court had the benefit of the wide scope of judicial intervention provided by section 20 of the Act of 1940. Therefore, under the circumstances, it is humbly submitted that this case should not have been relied on by the Court in N Radhakrishnan.
The order of the Supreme Court in Haryana Telecom Ltd. vs. Sterlite Industries (India) Ltd., although it barely exceeds 500 words, resolved the important issue of whether winding up of a company can be referred to arbitration. While answering the question in the negative the Supreme Court held as under:
'Sub-section (1) of Section 8 provides that where the judicial authority before whom an action is brought in a matter, will refer the parties to arbitration the said matter in accordance with the arbitration agreement. This, however, postulates, in our opinion, that what can be referred to the arbitrator is only that dispute or matter which the arbitrator is competent or empowered to decide.'
Although the correctness of the order is not doubted, emphasis must be placed on the fact that the Supreme Court passed such an opinion in an order, and not in a judgement, that too without making reference to any precedents, whatsoever.  Other relevant factors such as lack of arbitration agreement with certain creditors were not gone into and more emphasis could have been placed on the uniqueness of the nature of winding up proceedings, bringing it out of the scope of arbitration.

Documentary Evidence
In N Radhakrishnan the Supreme Court upheld the argument of the Respondent that 'when a case involves substantial questions relating to facts where detailed material evidence (both documentary and oral) needed to be produced by either parties, and serious allegations pertaining to fraud and malpractices were raised, then the matter must be tried in court and the arbitrator could not be competent to deal with such matters which involved an elaborate production of evidence to establish the claims relating to fraud and criminal misappropriation.'
The Court upheld the High Court's decision that "since the case relates to allegations of fraud and serious malpractices on the part of respondents, such a situation can only be settled in court through furtherance of detailed evidence by either parties and such a situation cannot be properly gone into by the arbitrator".
The Court went on to state that 'the civil court is not prevented from proceeding with the suit despite an arbitration clause if dispute involves serious questions of law or complicated questions of fact adjudication of which would depend upon detailed oral and documentary evidence.'
In H.G. Oomor Sait And Another vs O. Aslam Sait[5] the Madras High Court held that although it was true that the discretion of the Civil Court to proceed with the suit is narrowed down by the Act, the Court unable read to anything from the Act of 1996 which would place a total embargo on the Civil Court to continue the proceedings before it only on the mere existence of an arbitration clause. A combined reading of all the provisions of the 1996 Act as well as section 8 disclosed that the time-tested reasons which were behind the several judgments of the various Courts as well as the English Courts holding that Civil Court can refuse to stay the suit and can proceed with the suit under certain circumstances continue to hold good even now. The Court acknowledged the short-comings and deficiencies of enquiries before an arbitrator. The Court laid down the reason why, over a century, Courts have repeatedly held that in cases where substantial questions of law arise for consideration or issues which require serious consideration of evidence relating to fraud and misrepresentation etc. are involved, such cases are best left to the civil court and that the arbitrator will not be competent to go into the said issues. It stated that the nature of the enquiry before an arbitrator is summary and that the rules of procedure and evidence are not binding.
In the above case the Court was of the opinion that the Act of 1996 did not remove the abovementioned inadequacies and deficiencies. The Rules of Procedure and evidence are not building on the proceedings before an arbitrator vide Section 19(1) of the Act. The Court agreed that a solemn agreement between the parties to resolve the disputes by an alternative forum before the arbitrator should be strictly complied with. Thus the Court held that disputes involving consideration of substantial questions of law and contested allegations of mala fides, fraud, misrepresentation etc. which depend on adducing of and scrutiny of detailed oral and documentary evidence, then the parties as well as the Civil Court would be justified in ignoring the arbitration clause.
Section 27 of the 1996 Act provides for the arbitrator to seek the assistance of the Court in taking evidence is an example of the admitted deficiencies of a proceeding before the arbitrator. Even after obtaining such assistance from the Civil Court, the arbitrator would still be unable to appreciate the demeanour of the witnesses which is an essential feature of appreciation of oral evidence. Assuming that the grounds of challenge of an arbitration award as provided under the New Act has been narrowed down compared to the old Act, that would be all the more reason why the jurisdiction of the Civil Court to go into such contentions issues like substantial questions of law or serious allegation of fraud etc., requiring detailed evidence, should be properly reserved for a Civil Court to go into and decide.[6]
The Court also entertained the possibility that the arbitrator may not be even a law-knowing person.

Reputation of the Party
The case of Bombay Gas Co. Ltd. vs Parmeshwar Mittal & Others[7], arose at a time when the proceedings under the Act of 1940 had not yet commenced and the Act of 1996 came into force. The Court said that the provisions of the new Act would apply. The Court  in this case held that it is settled position of law that it is the person against whom fraud is alleged has an option to have the matter decided by the Civil Court.
English Courts have also held that in cases of fraud or misconduct or dishonesty or misappropriation of money or negligence involving the professional reputation of a party is charged, the court will in general refuse to send the dispute to arbitration if the party against whom such charges are made desires trial in open court.[8] In the landmark judgement of Russel v. Russell[9] the Court held that in order to oppose reference of the matter for arbitration, the objection to arbitration proceedings must be by the party on whom fraud has been alleged.
In Cunningham Reid v. Buchanan-Jardine[10], the plaintiff alleged the defendant of wrongful conversion of money. The dispute arose under a contract which contained an arbitration clause. The defendant applied for stay of the suit. The court held that despite the serious charge of fraud, there was no good reason why the normal course of allowing the matter to proceed to arbitration in accordance with the parties' agreement should not be adopted.  The Court granted a stay, which was vacated in an appeal by the plaintiff, but was restored in a further appeal by the defendant. In the second appeal the Court held that a stay would be refused almost as of course if the party charged with fraud objected to a stay and wanted to clear his name in open court, but one could not escape from the conclusion laid down by the House of Lords that, if the case was the other way round, ie the party charged with fraud was seeking arbitration and the party charged with fraud was opposing a stay, then even if a strong prima facie case of fraud was made out, that was not by itself enough to warrant refusing a stay. Thus, the party on whom fraud was alleged had the right to choose whether or not to refer the matter for arbitration. It can be inferred that it is the reputation of the party on whom fraud is alleged, which is given importance.
This judgement has been commended by jurists, for it makes a valuable reconciliation between Russel v. Russell[11] and Camita Cotton Oil Co. v. Granadex. S.A. And Tracomin S.A.[12]
In another case, there was an arbitration clause in the contract of employment. The servant sued the master for wrongful dismissal. Since the master gave an undertaking to the court that he will not plead or suggest fraud in the arbitration proceedings, an application for stay was granted in favour of the master and the matter was referred to arbitration.[13]

If factors such as reputation of the party are considered for not referring a matter for arbitration, then perhaps it is also relevant to take into account the level of confidentiality in arbitration proceedings. If arbitration proceedings and awards are made confidential, then it will protect the parties reputation, since allegations of fraud, etc. will not be made public. Conversely, when negative allegations have already entered the public domain, the party on whom such allegations are made may wish to clear his name by making the decision or award public. In such case, making arbitration proceedings and awards confidential will be counter-productive.
Article 30[14] of the LCIA India Arbitration Rules[15] imposes a general principal of confidentiality in the deliberations, materials and even award in arbitration, and enumerates the limited circumstances in which the disclosure is permitted by the arbitrators and the parties to the arbitration. However, the Act of 1996 only mentions confidentiality only with respect to conciliation.
In England, the concept of confidentiality in arbitration, domestic as well as international, has slowly flourished. Although the English Arbitration Act, 1996 does not have any specific provision relating to confidentiality in arbitration proceedings, the general principles of confidentiality have been laid down in several cases.[16] Thus, in English law, confidentiality is considered as an implied term in arbitration agreements.[17]
It appears that, other than in England, the current trend in international arbitration is to discourage arbitral confidentiality.[18] In the Australian case of Esso Australia Resources Ltd v. The Honourable Sidney James Plowman[19] the court concluded that while confidentiality should be respected, it was not an essential attribute of arbitration. Courts in Sweden and the United States have moved away from a general duty of confidentiality in arbitration.[20] The new French arbitration law states that subject to legal requirements, and unless otherwise agreed by the parties, arbitral proceedings shall be confidential in the case of domestic arbitration.[21] Thus, the requirement of confidentiality in domestic arbitration proceedings is presumed. In the case of international arbitration, the new French arbitration law also provides that the deliberations of the arbitration tribunal must be confidential.[22]

It is humbly submitted that preventing the matter from going into arbitration merely because the arbitrator is not a person having legal-knowledge and may not be aware of rules of procedure and evidence, is not sufficient cause to refrain the parties from proceeding with arbitration. The qualification of the arbitrator may always be an issue, for sometimes the disputes may arise on unforeseeable technical complexities, other than on areas of law. For example, some cases would require the arbitrator to have a high-level knowledge of accounts, architecture, stock markets, a specific area of engineering, etc. Even judges, who may be skilled only in law, must in several case, become experts on other technical aspects. The fact that the arbitrator does not have legal knowledge may affect the choice of the arbitrator, but not the arbitration proceedings itself. Therefore, if parties are restrained from proceeding with arbitration simply because a particular arbitrator is not an expert on the subject-matter of the arbitration, arbitration agreements will not be worth the papers they are printed on.
Even in Justice Bachawat's 'Law of Arbitration & Conciliation' it is stated that, in view of the mandatory provisions of section 8, the objections as to reference to arbitration on the grounds that the action of the defendant amounts to criminal offence and fabrication of the records are without any merit.[23]
The issue of reputation of the parties can be resolved by giving the party on whom the fraud is alleged the option of confidentiality in arbitration proceedings. Since the Act of 1996 does not provide anything about confidentiality of the arbitration proceedings, Courts can adopt the practice of giving the “option of confidentiality”, which would have a minimal interference with the arbitration proceedings, instead of giving the “option of clearing name in open court”. As discussed above, when the arbitration proceedings are made compulsorily confidential it may prove to be counter-productive in cases where allegations of fraud against one of the parties has already entered the public domain. This issue does not arise when such party has the “option of confidentiality”.
In the author's opinion, the most valid reason for limiting the scope of arbitration in cases of fraud is ineffectiveness of arbitration tribunals in processing substantial amount of evidence. It is submitted that this limitation does not arise solely due to the provisions of the Act, but due to practical difficulties in their implementation. Whenever judicial intervention is required in arbitration proceedings, delays are bound to arise. Unfortunately section 27 of the Act of 1996 is a necessary evil. The mechanism for dealing with applications under section 27 is, indeed, in need of improvement.
However, instead of ousting the jurisdiction of the arbitral tribunal, perhaps the Courts could consider referring the matter for arbitration, while holding that the arbitrator, under section 16 of the Act of 1996, had the power to rule that the tribunal did not have jurisdiction, in cases where the evidence was too substantial. Thus, the decision of whether the evidence is too substantial or not, should be left to the arbitrator. This would ensure minimal judicial intervention in arbitration proceedings, and would be in-line with section 5 of the Act of 1996.
Excluding cases involving fraud or those involving large amount of documentary evidence from the scope of arbitration is a huge impediment on the flourishing of arbitration, as a mechanism for alternate dispute resolution, in India. Indian Courts must, as far as possible, refrain from interfering with the arbitral process. Such restrictions on arbitration also discourage parties from selecting the Act of 1996, or any part thereof, as the arbitral law.
However, until Courts change their view regarding fraud allegations and arbitration, or until the Act of 1996 is appropriately amended, parties entering into to an arbitration agreement and legal practitioners drafting such an agreement, must keep in mind the factors such as confidentiality of the arbitral proceedings, with respect to the nature of the possible disputes that may arise.


[1]    Catholic University of America, Columbus School of Law “Arbitration – A Good Deal for Consumers,” 2008
[2]    2009 (13) SCALE 403
[3]    2009 (13) SCALE 403
[4]    AIR 1962 SC 406
[5]    (2001) 2 MLJ 672
[6]    H.G. Oomor Sait And Another vs O. Aslam Sait, (2001) 2 MLJ 672
[7]    1998 (2) BomCR 25
[8]    Justice Bachawat's 'Law of Arbitration & Conciliation: Including Commercial, International & ADR', Volume 1, 5th Edition, LexisNexis Butterworths Wadhwa Nagpur, (2010), Page 52
[9]    (1880) 14 Ch D 471
[10] (1987) JBL 380
[11] (1880) 14 Ch D 471
[12] [1976] 2 Lloyd's Rep 10
[13] Schaik v. Kane (Frederick Co.) Ltd., (1963) 107 Sol J 273
[14] Article 30 Confidentiality: 30.1 Unless the parties expressly agree in writing to the contrary, the parties undertake as a general principle to keep confidential all awards in their arbitration, together with all materials in the proceedings created for the purpose of the arbitration and all other documents produced by another party in the proceedings not otherwise in the public domain - save and to the extent that disclosure may be required of a party by legal duty, to protect or pursue a legal right or to enforce or challenge an award in bona fide legal proceedings before a court or other judicial authority.
      30.2 The deliberations of the arbitral tribunal are likewise confidential to its members, save and to the extent that disclosure of an arbitrator’s refusal to participate in the arbitration is required of the other members of the arbitral tribunal under Articles 10, 12 and 26.
      30.3 The LCIA Court does not publish any award or any part of an award without the prior written consent of all parties and the arbitral tribunal.
[15] Commenced on 17 April 2010.
[16] Dolling-Baker v. Merrett [1990] 1 WLR 1205; Ali Shipping Corporation v. Shipyard Trogir [1997] EWCA Civ 3054, Emmott v. Michael Wilson & Partners Ltd [2008]  EWCA Civ 184.
[17] Simon Bushell, Arish Bharucha, Stephanie Balsys, Bringing Fraud Claims under an Arbitration Agreement – Does the arbitral Process Pack Enough Punch?, AUSTRIAN YEARBOOK ON INTER-NATIONAL ARBITRATION 2012 , 325, at page 341 (Klausegger, Klein, Kremslehner, Petsche, Pitkowitz, Power, Welser & Zeiler eds., 2012)
[18] Nigel Blackaby, Constantine Partasides, Alan Redfern, Martin Hunter, 'Redfern and Hunter on International Arbitration, 5th Edition, Oxford University Press, (2009) at 2.152.
[19] (1995) 193 CLR 10..
[20] Simon Bushell, Arish Bharucha, Stephanie Balsys, Bringing Fraud Claims under an Arbitration Agreement – Does the arbitral Process Pack Enough Punch?, AUSTRIAN YEARBOOK ON INTER-NATIONAL ARBITRATION 2012 , 325, at page 341 (Klausegger, Klein, Kremslehner, Petsche, Pitkowitz, Power, Welser & Zeiler eds., 2012)
[21] Republic of France, Ministry of Justice and Civil Liberties, Decree No. 2011-48 of 13 January 2011, Article 1464
[22] Republic of France, Ministry of Justice and Civil Liberties, Decree No. 2011-48 of 13 January 2011, Article 1479
[23] Justice Bachawat's 'Law of Arbitration & Conciliation: Including Commercial, International & ADR', Volume 1, 5th Edition, LexisNexis Butterworths Wadhwa Nagpur, (2010), Page 524


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