Group of companies doctrine in arbitration: The Supreme Court must close the door it opened

A decade after the group of companies doctrine was adopted by the Supreme Court in Chloro Controls Ltd v. Severn Trent Water Purification, a coordinate bench of the Court in Cox and Kings Ltd v. SAP India recently cast doubts on its legal correctness.

The doctrine allows joinder to arbitration proceedings of non-signatories to the arbitration agreement. The decision in Chloro Controls created waves in the domain of Indian arbitration law and was controversial given that arbitration proceedings are strictly premised on principles of party autonomy and the express consent of those willing to take their disputes to arbitration. The doctrine was welded by the Court into the phrase, “any person claiming through or under him” found in Section 45 of the Arbitration and Conciliation Act, 1996 and recognised the power of courts to join into arbitral disputes non-signatory parties operating within the same economic or commercial reality.

Amendments since Chloro Controls have added similar text to Section 8 of the Act, which recognises a court’s power to refer parties, including those claiming through or under them, in domestic arbitration. However, no amendments have been made to Section 2(1)(h) which defines a ‘party’ to an arbitration agreement, and continues to exclude a person claiming through or under the signatory. This absence in the definition provision is pertinent because of an incongruence that remains. While courts have the power to join non-signatory third parties to arbitration proceedings under Sections 8 and 45, because the meaning of ‘party’ indicates only the signatories of an arbitration agreement, this means that non-signatories that are added to arbitration proceedings have no remedies otherwise available to signatories under the Act.

Chief Justice NV Ramana, writing for the majority in Cox and Kings, noted the divergent and potentially extra-legal applications of the Chloro Controls ratio since 2012 and slotted it for reference along with some questions, including:

• “Whether the ‘group of companies’ doctrine, as interpreted by the Chloro Controls case and subsequent judgments, is valid in law.
  

• Whether the ‘group of companies' doctrine should be construed as a means of interpreting the implied consent or intent to arbitrate between the parties.”

Before attempting to address the aforesaid questions, we take a look at the law and jurisprudence leading up to Chloro Controls to posit that joinder of unwilling non-signatories to arbitration proceedings had never been envisaged, regardless of commonalities in commercial subject matter. A conjoint reading of statutory principles, policy and jurisprudence on arbitration makes it clear that the use and operation of the group of companies doctrine has no cogent basis.

Group of companies doctrine as applied by Chloro Controls

The group of companies doctrine uses certain contexts to deem non-signatories as parties to arbitration proceedings. This doctrine does not lay out clear-cut situations where joinders of non-signatories to an arbitration agreement traditionally appear to be a foregone conclusion, like in relations emphasizing agency, alter ego, transfers, assignment, or third party beneficiaries. Rather, when an arbitration agreement exists between only signatories, the doctrine encourages the concerned judicial authority to investigate into the complex commercial relations surrounding that agreement or commonality of subject matter, so as to determine whether the signatories’ corporate structure or commercial deliverables are so interlinked with other third parties, that a resultant joinder would appear only logical.

Apropos the above, Chloro Controls explained the phenomenon of “composite transactions”, where multi-party agreements existed for a particular commercial object with arbitration agreements only between some of those parties. The Court concluded that where it finds that the performance of the principal agreement is supported and made possible by ancillary agreements, and where all of them are so intrinsically bound that the the fulfilment of a commercial goal depended on the performance of each of the agreements, a court under Section 45 could gauge that it likely constitutes an ‘intent to arbitrate’ among all parties - signatories or not - who happen to be essentially operating under the same economic reality. Interestingly, as a reason for the inclusion of non-signatory third parties to an arbitration agreement, the Court used the text, “any person claiming through or under him” in Section 45, as being permissive justification, the reliance on which appears to be misplaced.

Foundational principles underlying arbitration agreements

The law on arbitration and consequent judicial decisions are replete with emphasis on principles that prioritize party autonomy and express written consent as necessary prerequisites for the existence of a valid arbitration agreement. Section 7 of the Act - broadly in tandem with Article 7 of the UNCITRAL Model Law on International Commercial Arbitration and Article II of the New York Convention, 1958 - defines an ‘arbitration agreement’ and strictly stipulates that parties intending to arbitrate must reduce such intention to a written agreement to arbitrate.

Further, Article 2 of the Model Law prescribes to judicial authorities that while deciding whether or not to refer parties to arbitration, not only must a valid arbitration agreement first exist, but it must also be evidenced in writing to be binding on the parties. Moreover, the reference should only be with regard to the particular issue chosen by the concerned parties to take to arbitration. The group of companies doctrine defies this requirement as it encourages investigation into corporate or transactional relationships that are way beyond the scope of judicial power in referrals. The doctrine is way beyond the scope of law and policy surrounding the hallmark of an arbitration agreement and the ‘intent to arbitrate’, which is clearly borne out from judicial decisions preceding Chloro Controls.

In Delhi Iron & Steel Ltd. v. UPSEB (2002), the Delhi High Court held that pre-conclusion offers or correspondence contemplating arbitration, before a contract already concluded, cannot be used to gauge intent of the parties to arbitrate. ‘Intent to arbitrate’ is discernible only if the arbitration agreement expressly manifests in the underlying contract.

The Supreme Court in Jagdish Chander v. Ramesh Chander (2007) held that, “an agreement that merely contemplates a possibility of parties agreeing to arbitrate in the future is non-binding and invalid”. Even stray mentions of “arbitration” or “arbitrator” will not constitute a valid arbitration agreement. Thus, the parties’ intention to arbitrate must be indubitably clear and “not merely contemplate the possibility of referring to arbitration.”

In MR Engineers & Contractor (P) Ltd v. Som Dutt Builders Ltd (2009), while discussing the scope of incorporation of an arbitration agreement by reference, the Supreme Court noted that “when the parties enter into a contract which makes a general reference to another contract, such general reference would not have the effect of incorporating the arbitration clause from the referred document into the contract between the parties.”

In Indowind Energy Ltd v. Wescare (I) Ltd & Anr (2010), the apex court refused to appoint an arbitrator under Section 11 of the Act in a proceeding where a non-signatory, albeit an alter ego of the signatory, was requested to be added as a party. The Court opined that one who was not party to the arbitration agreement could not be whimsically brought into arbitration proceedings.

Defining the scope of “claiming through or under”

Before Chloro Controls, the Supreme Court had in Sumitomo Corporation v. CDS Financial Services (2008) discussed the possibility of adding non-signatories under Section 45 of the Act for reference. The Court declined to do so by reading the exclusionary definition of ‘party’ under Section 2(1)(h) into Section 45 and held that the provision could not have envisaged non-signatories. Subsequently, Chloro Controls overhauled this interpretation and used the text, “any person claiming through or under him” as a justification to bring to existence the group of companies doctrine into Indian arbitration law.

While it is true that the phrase “claiming through or under” in Sections 8 and 45 mean the inclusion of non-signatory third parties, it means as such after a sufficient legal or derivative contractual basis is established. For example, non-signatories may stake a claim in the arbitration proceedings after establishing derivative legal relationships with the signatory through assignment, agency, sub-contracts, or transfers. This does not infringe principles of consent and party autonomy required in valid arbitration agreements and also squarely fit the words in the phrase “claiming through or under” to include third parties.

The ideal interpretation of the phrase must remain narrow and not lose focus from the fact that “claiming through or under” conveys a “derivative” element. This means that while seeking the inclusion of third parties/non-signatories under this phrase, it must first be established that the right is contractually derived from the signatory, and also that it first vested in the signatory that the third party claims from. This ensures that no unwilling third parties are compelled by reference to arbitration proceedings due to their unwitting participation in the execution of ancillary contracts supporting a broader commercial purpose.

It is pertinent to note that ‘party’ in Section 2(1)(h) contemplates only the signatories to an arbitration agreement, and no derivative rights. It is suggested that this be amended to harmonize the wording used for parties in Sections 8 and 45. However, the interpretation of this phrase must indicate the inclusion of willing non-signatories only after derivative contractual rights from under the signatory are established. There must be no scope for applying the extra-legal economics-driven logic of ‘composite transactions’ from Cholo Controls.

Conclusion

The application of the group of companies doctrine to arbitration has impinged on foundational principles of party autonomy and consent underpinning arbitration agreements by creating scope for judicial authorities to weave in unwitting non-signatories into arbitration proceedings that they did not sign up for. The doctrine since its adoption by the Supreme Court in 2012 has undergone expansion and divergent application due to its amorphous nature.

In one case, the Court permitted an award to be enforced against a non-signatory that did not even participate in the arbitration proceedings; in another, a non-signatory company was roped into arbitration because the Court found the existence of “a tight group structure with strong organizational and financial links, so as to constitute a single economic unit, or a single economic reality”. Inchoate metrics like ‘commonality of subject matter’ and the ‘relationships of non-signatories with signatories of an arbitration agreement’ have also been used as justification for joinders of unwilling third parties to arbitration proceedings. In either case, there was no investigation into the legal requirements of a valid arbitration agreement, or whether an express, unmitigated and unmistakable intent to arbitrate existed among the non-signatories.

The group of companies doctrine prioritizes practicality over long-standing legal positions and seems to do away with time-tested principles such as the separate legal personalities of companies by assigning undue importance to their proximate holding-subsidiary relationship. The doctrine also abandons crucial metrics required to meet the ‘intent to arbitrate’ test as established by policy and jurisprudence.

The referral Bench of the Supreme Court now has the opportunity to reorient the interpretation given to the phrase “claiming through or under”, so as to fully oust the doctrine from the law on arbitration. The application of this phrase ought only to apply to contractually derivative third parties, while preserving the integrity of written arbitration agreements, party autonomy and consent. The referral Bench ought to hold that the doctrine cannot be dangled over unwilling non-signatories as a means to compel them into arbitration, no matter what kind of ‘implied’ consent appears obvious or logical to the eye.

Raghav Kacker practices civil and commercial laws before the Supreme Court and Delhi High Court, and is Managing Partner at Amanullah Raval & Kacker (ARK); Ruchi Chaudhury is an Of Counsel at ARK.