Recap of Group Companies Doctrine in Indian Arbitration: Must Read Before Season 2

Introduction

Arbitration is an alternate dispute resolution mechanism, whereby the mode, manner, and choice of going through the route of arbitration is always through the consent of the parties who have agreed to be bound by it. As global commerce continues to grow, and businesses become more complex, commercial transactions can also become more complicated. In some cases, this “consent” may then be implied rather than express. This essentially means that even if a “third party” has not expressly signed and stamped the arbitration agreement, but because they benefit from it, they are deemed to be bound by it.

However, how and when third parties are bound to arbitration is an area of jurisprudence that is being slowly developed and refined by the courts world over, including Indian courts. A subset of such jurisprudence is the applicability of the group companies doctrine (the doctrine) to the arbitration jurisprudence.

Simply put, the group companies doctrine is a legal principle that recognises a group of companies as a single economic entity for the purpose of determining their liability and obligations. In other words, when companies in a group have a common economic interest and operate as a single entity, they can be held jointly liable for the actions of any one of the companies. The doctrine is often used in cases of international arbitration involving companies with multiple subsidiaries or affiliates in different countries.

In fact, one of the most challenging areas of the jurisprudence relates to multi-party and multi claim proceedings. This doctrine becomes even more complicated and intricate when international elements are involved.

The aim of this article is to narrow down on the development of the doctrine, the current scenario and how the Supreme Court is still to clarify various aspects to consolidate the doctrine especially considering the fact that it is not expressly included in the Arbitration and Conciliation Act, 1996¹ (the A&C Act), with a special development made recently in Cox and Kings Ltd. v. SAP India (P) Ltd.² (Cox and Kings) referring the subject to a larger Bench.

The roots of the group companies doctrine in India

In India, the foundations of the doctrine in the domestic context can be seen in Sukanya Holdings (P) Ltd. v. Jayesh H. Pandya³ (Sukanya Holdings). In this case, some of the parties were not part of the original arbitration agreement which formed part of a partnership agreement. The appellant was claiming relief against such other parties. The Supreme Court of India observed that under Section 8 of the A&C Act⁴ any matter which is the subject-matter of an arbitration agreement was required by court to be referred to arbitration. Neither the A&C Act nor the Code of Civil Procedure, 1908⁵ allows the bifurcation of the subject-matter of the suit/arbitration and therefore the entire matter ought to be referred to arbitration notwithstanding the fact that some parties were not party to the arbitration agreement. Although this initial case did not deal directly with companies, it is one of the oldest cases laying down the foundations for the doctrine in India. The applicability of Sukanya Holdings⁶ has been widely accepted to be only vis-à-vis Part I of the A&C Act, which deals with domestic arbitration.

The first time the doctrine was expounded by the Supreme Court of India was in Chloro Controls India (P) Ltd. v. Severn Trent Water Purification Inc.⁷ (Chloro Controls). This was a case under Part II of the A&C Act dealing with international commercial arbitration for the invocation of Section 45 of the A&C Act. This section grants the judicial authority, the power to refer parties to arbitration when one of the parties to the arbitration agreement or any person claiming through or under him requests for the same⁸. In this case, the Court observed the difference between Sections 8 (under Part I) of the A&C Act and Section 45 (Part II) of the A&C Act, which both deal with the power of the judicial authority to refer a matter to arbitration. The Supreme Court noted that when contrasted, Section 45 uses the expression “parties or any person claiming through or under him” as compared to only “parties” under Section 8. This enlarges the scope of who could be referred to arbitration under Part II. The Court noted, that therefore, any enquiry of whether a third party could be joined to arbitration under Section 45 should include a sine qua non that such a person/applicant should claim through or under the signatory party. The doctrine in India could have only been under Part II for international commercial arbitrations because at that point in time, the language of the two sections (that is Sections 8 and 45) differed significantly.

In Chloro Controls⁹ although the Supreme Court observed that intention of the parties is significant to establish the introduction of non-signatory parties, it developed a four-pronged test to extend arbitration agreements to non-signatories without prior consent and in exceptional circumstances. This test included the following elements:

(a) direct relationship to the party signatory to the arbitration agreement;

(b) direct commonality of subject-matter;

(c) the composite nature of the transaction, that is the agreement between the parties being of a composite nature where performance of “mother agreement” may not be feasible without aid, execution, and performance of the supplementary or ancillary agreements for achieving the common object and collectively having bearing on the dispute;

(d) if the composite reference of such parties would serve the ends of justice.

The Court pointed to the fact that all the above ingredients should have been fulfilled in order for the case to fall under exceptional circumstances, when even non-signatories can be referred to the same arbitration proceedings. Not much emphasis was laid on looking at mutual or implied consent or the intention of the third parties to be bound by the arbitration agreement.

In Chloro Controls¹⁰ although the Court accepted that there must be some legal relationship between the non-signatory parties and the parties to the arbitration agreement, it accepted the doctrine as a sufficient basis to establish this legal relationship, notwithstanding the absence of implied/express consent.

Post Chloro Controls developments, expansions, and interpretations

Following Chloro Controls¹¹, the position of the doctrine was considered in the 246th Law Commission Report. The Report recommended an amendment to Sections 2(1)(h)¹² and 8¹³ of the A&C Act to modify the definition of “party” under Part I of the A&C Act, to resemble the language of Section 45 of Part II. The words “a party to an arbitration agreement or any person claiming through or under such party” were recommended to be introduced to do away with the anomaly between the two parts.

Following this recommendation of the Law Commission, the Arbitration and Conciliation (Amendment) Act, 2015¹⁴ (the 2015 Amendment) was passed which widened the scope of “party” under Section 8 to include “or any person claiming through or under him”. However, the recommended amendment under Section 2(1) was not introduced. Section 2(1)(h) still reads, “ ‘party’ means a party to an arbitration agreement” and does not include any reference to any person claiming through or under such party.

This amended Section 8 was then applied in Ameet Lalchand Shah v. Rishabh Enterprises¹⁵ (Ameet Lalchand), where the Court observed that this was a case of a composite transaction, where several parties were involved in a single commercial project executed through several agreements/contracts where all parties could be covered by the arbitration clause in the main agreement. Both, the Division Bench and the Single Judge of the Delhi High Court had rejected the application under Section 8 of the Act and held that since the agreement in question was unrelated to the principal agreement, the parties could not be referred to arbitration following the Sukanya Holding case¹⁶. The Supreme Court in Ameet Lalchand¹⁷ rejected this conclusion, holding that the arbitrator assigned can properly investigate the claims of fraud. The Supreme Court also determined that all agreements are interconnected, and hence the disagreement must be resolved by an arbitrator.

In Cheran Properties Ltd. v. Kasturi & Sons Ltd.¹⁸ ( Cheran Properties), the Court expanded Chloro Controls¹⁹ by interpreting Section 35 of the A&C Act²⁰ to enforce an arbitral award against a non-signatory even though it had not participated in the arbitration proceedings.²¹ In Reckitt Benckiser (India) (P) Ltd. v. Reynders Label Printing (India) (P) Ltd.²² (Reckitt Benckiser), the Supreme Court interpreted Chloro Controls²³ narrowly and refused to apply the doctrine as the applicant had failed to prove the commonality of the intention of the non-signatories to be bound by the arbitration agreement.

In MTNL v. Canara Bank²⁴ (MTNL) the Court observed that the doctrine could also be invoked where there is a tight group structure with strong organisational and financial links, so as to constitute a single economic unit, or single economic reality. The Supreme Court opined that this would apply particularly when funds of one company are used to financially support or restructure other members of the group.

The anomalies and the current scenario

The current scenario of the doctrine has created confusion in arbitration jurisprudence in India. As such there are only a handful of countries where the doctrine permits joinder of non-signatories to arbitration, namely, France and India. This is mainly because the group company doctrine as currently applicable has given rise to several anomalies:

Lack of intention — Expansion and contraction

The inception of the doctrine has been through Chloro Controls²⁵. However, there seems to be an inherent contradiction in the manner in which the case deals and develops the doctrine.

This is evident from the fact that although the Supreme Court emphasised that the intention of the parties is a very significant feature which must be established before the arbitration can be said to include a non-signatory, it in fact, went on to introduce a test to extend the applicability of arbitration agreements to non-signatories even without their prior consent, albeit in exceptional circumstances. So, the said test extends an arbitration agreement to non-signatories notwithstanding the absence of intention of parties to be bound by it.

Ultimately such a contradiction creates a conclusion where mutual consent and intention should be disregarded if equity so requires.

This is also evident from the varied ways in which the Supreme Court itself has applied the doctrine. While in some cases the scope has been expanded in others it has been narrowed down.

For instance, relying on Chloro Controls²⁶ in Ameet Lalchand²⁷ the Court by a mere finding of a composite transaction existing with a mother agreement and ancillary agreements in a single commercial project, thus presuming the intention from the companies being part of the Group. Similarly, Cheran Properties²⁸ expanded the scope of Chloro Controls²⁹ for enforcement of an arbitral award against a non-signatory. MTNL³⁰ also expanded the scope of Chloro Controls³¹ by invoking an analysis of tight group structure or single economic reality.

To the contrary, Reckitt Benckiser³² has narrowed down the scope by noting a failure to prove commonality of intention. This element was missing from the aforementioned judgments which expanded the scope of the group company doctrine and was a contradiction in the original Chloro Controls judgment³³.

More recently, the Supreme Court in ONGC Ltd. v. Discovery Enterprises (P) Ltd.³⁴ (ONGC) observed that “a non-signatory may be held to be bound on a consensual theory founded on agency and assignment or a non-consensual basis such as estoppel or alter ego”. This judgment also added an additional element to the factors laid down in Chloro Controls³⁵ to bind non-signatories that is “mutual intent of the parties”. However, this does not take away from the fact that this judgment in no way has overruled Chloro Controls³⁶.

In view of the above discussion a major anomaly created by Chloro Controls³⁷ is that even where non-signatories have not been shown to have a mutual intention to be bound by the arbitration agreement, they can still be held to be bound if the tests laid down in Chloro Controls³⁸ are fulfilled. This anomaly has already created a variety of offshoots in the form of expansion and contraction cases as discussed above, and there might be more to come.

Responsibilities but no rights

As highlighted above, the 246th Law Commission Report had recommended adding the words “any person claiming or through or under such party”³⁹ in both the definition Section 2(1)(h) as well as Section 8 of the A&C Act. However, when the 2015 Amendment was brought about, only Section 8 was amended, and Section 2 remains unamended.

The direct result of this is that while a non-signatory could be referred to arbitration (due to the presence of these words in Section 8) at the same time, they cannot invoke other sections such as Section 9⁴⁰ or Section 17⁴¹ to seek interim relief. Similarly, a non-signatory cannot challenge an award under Section 34 of the A&C Act⁴². This is because these sections refer only to “parties” and do not include “persons claiming to or under” the parties.

The anomaly created therefore, is that although non-signatories can be bound to the arbitration, or the award, they do not have the benefit of availing remedies available to “parties” or signatories to the arbitration agreement.

Lack of party autonomy

Party autonomy is a major cornerstone of arbitration in India as well as internationally. However, after Chloro Controls⁴³, the expansion cases by the Supreme Court of India as well as several judgments by the High Courts in India are premised more on convenience and efficiency in resolution of disputes rather than a consistent and clear legal doctrine which respects party autonomy and mutual intentions.

Failure to recognise separate legal identity of companies

Various contradictory judgments as already highlighted have mushroomed in the Indian scenario. In MTNL⁴⁴ the concept of “single economic reality” was highlighted as a means of expanding the doctrine. This is a marked departure from the separate legal corporate personality of companies even within the same group.⁴⁵

The concept of single economic reality is also a significant departure from the alter-ego concept or the concept of piercing the corporate veil. These two concepts are more for the purpose of identifying fraudulent or duplicitous acts by a third party which would then inevitably lead to the application of group companies doctrines to bind them to such duplicitous acts.

Despite this stark difference, High Courts across the country have applied the principles of alter ego and piercing corporate veil thereby completely bypassing the principle of separate legal identity of companies even within the same group.

In order to bind a third party to an arbitration, it ideally should be necessary to inquire into implied consent by such a party, by looking at the explicit facts and circumstance of each case.

The road ahead: Season 2

Several of the anomalies highlighted above have been recently observed by the Supreme Court of India in Cox and Kings⁴⁶.

Cox and Kings was a petition under Section 11 of the A&C Act⁴⁷ for appointment of an arbitrator in an Indian-seated international commercial arbitration. Here the applicant and first respondent entered into a software licensing agreement. This agreement was later divided into three separate agreements the first one being signed by the applicant and Respondent 1, the second and third one being signed by all parties. The arbitration was being invoked under the third agreement.

When there were issues in appointment of the arbitrator between the parties, the group companies doctrine was invoked which the Supreme Court then went into depth, and thought it fit to refer the issue to a larger Bench of clarity.

The majority decision, refers the following questions to the larger Bench in the context of the group companies doctrine:

(a) Whether the phrase “claiming through or under” in Sections 8 and 11 could be interpreted to include the “group of companies doctrine”?

(b) Whether the “group of companies” doctrine as expounded in Chloro Controls⁴⁸ and subsequent judgments is valid in law?

In addition to these questions, the minority judgment has referred the following questions to the larger Bench:

(a) Whether the group of companies doctrine should be read into Section 8 of the A&C Act or whether it can exist in Indian jurisprudence independent of any statutory provision?

(b) Whether the group of companies doctrine should continue to be invoked on the basis of the principle of “single economic reality”?

(c) Whether the group of companies doctrine should be construed as a means of interpreting the implied consent or intent to arbitrate between the parties?

(d) Whether the principles of alter ego and/or piercing the corporate veil can alone justify pressing the group of companies doctrine into operation even in the absence of implied consent?

Another interesting observation made by the Supreme Court was how the doctrine is very relevant in the Indian context. The minority judgment observes:

97. … a large chunk of Indian business houses are composed of family run entities or groups. The individuals running these entities often occupy multiples roles in different companies within the group. Thus, the commonality in terms of key managerial personnel and the preponderance of family members occupying these positions moulds the way these companies conduct business….

98. … in this scenario it becomes even more relevant to have a doctrine such as the group companies doctrine in Indian arbitral law.⁴⁹

Denouement and future outlook

Currently in the Indian scenario, the group company doctrine has created several anomalous results in the arbitration jurisprudence of India. There seem to be inherent contradictions in not only the development of the doctrine but from its very inception. At the same time, it is a doctrine that appears to be intrinsic to the Indian arbitration regime.

It is still to be seen what kind of clarity the larger Bench of the Supreme Court provides on whether the current interpretation of the group company doctrine is sufficient to imply consent, or whether consent is even to be looked into by the courts while invoking the doctrine.

However, while the matter remains sub judice several arbitrations and court proceedings are underway where anomalous interpretations continue to be made.

The appropriate response to this uncertainty would be a quick and much appreciated authoritative determination of the different facets of the group company doctrine. All eyes are on the Supreme Court as of now to see whether the group company doctrine is retained due to its importance to the Indian scenario or whether it is done away with altogether.