The Arbitration Practitioner’s Series by MKBAC: The MSMED Act and The Arbitration Act - Interplay, Delay and Default Recourse

This article explores the nuanced intersection of two significant legislative frameworks in India i.e., the Micro, Small and Medium Enterprises Development Act, 2006 (‘MSMED Act’) and the Arbitration and Conciliation Act, 1996 (‘Arbitration Act’). The increasing inclusion of arbitration clauses in commercial contracts has exposed the many ways in which the two statutes often intersect and overlap. Specifically, the dispute resolution mechanism provided under the MSMED Act frequently finds itself at divergence with the mechanism provided under the Arbitration Act. In the present article, the author has attempted to examine the jurisdictional primacy of the statutory dispute resolution mechanism provided under the MSMED Act over the Arbitration Act, from the specific prism of delay and inaction by statutory authorities under the former legislation. The said analysis traces the evolving jurisprudence and the recent pronouncements on this subject by the Supreme Court as well as various High Courts across India, and addresses the divergent interpretative approaches adopted by each court, particularly regarding procedural legitimacy.

Arbitration has become the preferred mode of dispute resolution mechanism in the current economic landscape. Simultaneously, Micro, Small, and Medium Enterprises (‘MSMEs’) are widely recognised as engines of economic growth in India, often entering into contracts with entities far superior in terms of their comparative resources and bargaining power. The enactment of the MSMED Act was a legislative response to the systemic delays in payments to such enterprises and the absence of a swift legal remedy.

However, the increasing inclusion of arbitration clauses in MSME contracts has given rise to jurisdictional disputes. An emerging legal question in this regard was whether the invocation of an arbitration clause embedded in a contract between the parties, ousted the jurisdiction of the statutory MSME Facilitation Council under Section 18 of the MSMED Act. The said question was answered by the Hon’ble Supreme Court in Gujarat State Civil Supplies Corporation Ltd. v. Mahakali Foods Pvt. Ltd. & Anr. wherein the Court categorically held that the MSMED Act, being a special statute, will override the general law i.e., Arbitration Act. However, one legal conundrum persists: What recourse is available to the parties in case of procedural lapses and delays by the authorities under MSMED Act?

In this regard, the decision of the Karnataka High Court M/s Enmas GB Power Systems Projects Ltd. v. MSEFC holds relevance. The Court held that once the conciliation mechanism provided under the MSMED Act fails, the Facilitation Council is obligated to terminate the proceedings and refer the matter to arbitration under the Arbitration Act. The relevant paragraph from the said decision is extracted below:

“Once the conciliation had failed, it was the duty and obligation on part of the Council to terminate its proceedings and refer the matter to arbitration or take up the matter for arbitration, which would require the Arbitration and Conciliation Act. 1996 to apply to the Arbitral proceedings. None of them having occurred, the Council could not have on its own come to a conclusion that there is no reason to disbelieve or discard the claim of the petitioner allegedly supported by the documents without providing an opportunity to the petitioner to file its detailed objections to lead evidence and contest the matter.”

A similar view was taken by the High Court of Calcutta in Umc Technologies P Ltd v. Assistant Director of Postal Services, wherein the Hon’ble Court set aside an arbitral award under Section 34 of the Arbitration Act on the ground of perversity as the Facilitation Council failed to refer the matter to arbitration. The Court held that once mediation under the MSMED Act fails, the Facilitation Council should either itself take up the dispute in arbitration, or refer the dispute to an institutional centre providing alternative dispute resolution services for proceedings to continue under the Arbitration Act. The relevant paragraph from the decision is extracted below:

“The role of the council at the stage of facilitation was like a mediator and at that stage weighing of evidence was not necessary. However, the law provides that once mediation fails, the Council shall either itself take up the dispute in arbitration or refer the same to an institutional centre, providing alternative dispute resolution services. The proceedings would then continue under the Arbitration and Conciliation Act, 1996. The provisions of the said Act has been made applicable. The Council at that stage, is required to allow the parties to adduce evidence in support of their claims.”

While the MSMED Act is a special statute promulgated for a specific class of businesses, the statute is silent when it comes to various aspects, such as timelines for appointment or reference of a dispute from conciliation to arbitration. In an attempt to resolve the issues arising from the aforesaid statutory lacunae, the High Court of Delhi, in Vallabh Corporation v. SMS India Pvt. Ltd., held that  delay and/or failure on the part of the Facilitation Council to initiate conciliation within a reasonable time will allow the party to approach the High Court under Section 11(6) of the Arbitration Act for appointment of an arbitrator. Thus, while the MSMED Act is given precedence as a special statute, it does not become a source of delay or injustice when the Council is non-functional or inert.

Following the Delhi High Court’s approach, the Bombay High Court in M.B. Sugars & Pharmaceuticals Pvt. Ltd. v. MSEFC, emphasized that the delay in concluding the conciliation proceedings by the Facilitation Council does not extinguish the right to arbitration through alternate means. The Court added that, in such cases, judicial intervention under the Arbitration Act remains permissible.

Furthermore, the Hon’ble Delhi High Court in the matter of M/s Smartschool Education Private Limited v. M/s Baba Business Private Limited and Ors. held that if the Petitioner has withdrawn its application under Section 18 of the MSMED Act, the invocation of contractual arbitration and appointment of arbitrator under Section 11 of the Arbitration and Conciliation Act 1996, is permissible.

The very objective behind enacting the MSMED Act was to protect and safeguard the interests of MSMEs, enabling them to operate in a fair business environment, and ensuring that larger corporations are unable to frustrate their legitimate claims. The judiciary has consistently affirmed this legislative intent by adopting an interpretation of the provisions of the MSMED Act that is purposive and beneficial to MSMEs. However, it is essential that the authorities under the MSMED Act, perform their statutory functions with due expedition and strictly in terms of the extant provisions, failing which the default procedure of arbitration under the provisions of the Arbitration Act would be operationalized.

Meenakshi Sood is an independent counsel practicing before Supreme Court of India and the High Court of Delhi.