The Madras High Court has clarified that arbitral awards may be set aside under Section 34 of the Arbitration and Conciliation Act, 1996, not merely for procedural defects but where the arbitrator’s reasoning exhibits patent illegality through inconsistent and selective appreciation of evidence. This judgment reinforces that arbitrators must apply uniform standards across all parties and cannot cherry-pick documentary evidence to favor one side.
Background & Facts
The Dispute
The dispute arose between M/s KRK Education Trust, a charitable trust running educational institutions, and M/s Aintiram Developers (P) Ltd., a construction contractor. The trust engaged the developer to construct multiple blocks of a college campus under a contract dated 22.3.2010. The trust supplied major materials including steel, cement, and ready-mix concrete. Disagreements emerged over billing, material usage, and alleged defects, leading to eight claims by the trust and eleven counterclaims by the developer.
Procedural History
- 2010 - 2012: Construction work executed; multiple bills raised by developer.
- 2012: Architect certified final bill (Ex.R.3) for Rs.833.40 lakhs; trust paid Rs.842.42 lakhs.
- 2013: Architect revised certification (Ex.C.35), reducing payable amount by Rs.60.85 lakhs, alleging overpayment.
- 2020: Arbitral Tribunal awarded developer Rs.34.69 lakhs plus interest and refund of retention money, while rejecting most counterclaims.
- 2021: Both parties filed petitions under Section 34 of the Arbitration and Conciliation Act, 1996 challenging the award.
Relief Sought
The trust sought to set aside the award directing it to pay the developer, arguing the arbitrator erred in rejecting its claims for steel deduction, construction defects, and window material discrepancies. The developer sought to set aside the rejection of its counterclaims, particularly for parapet wall, weathering course, and cupboard works.
The Legal Issue
The central question was whether an arbitral award can be set aside under Section 34(2)(a)(ii) of the Arbitration and Conciliation Act, 1996, when the arbitrator’s appreciation of evidence is inconsistent, selective, and fails to apply the same standard to both parties, thereby constituting patent illegality.
Arguments Presented
For the Petitioner (Trust)
The trust argued that the Arbitral Tribunal committed patent illegality by:
- Disregarding meeting minutes (Ex.C.10, Ex.C.11, Ex.C.32) that established a mutual understanding on steel consumption at 3.5 kg/sq.ft., while relying on the same minutes to grant relief in other disputes.
- Rejecting its claim for deduction on aluminium windows despite the developer’s admission that they used aluminium for uniformity.
- Making speculative deductions for painting and rectification without documentary support, amounting to guesswork.
- Relying on Gayatri Balasamy v. ISG Novasoft to argue that the award was severable and only the illegal portions should be set aside.
For the Respondent (Developer)
The developer contended that:
- The Architect’s revised certification (Ex.C.35) was unilateral and without notice, violating contractual procedures.
- The arbitrator correctly held that the trust failed to prove steel consumption was reduced below 5 kg/sq.ft.
- The trust’s claims for deductions were speculative and unsupported by evidence.
- The award was consistent with the contract terms and should not be interfered with.
The Court's Analysis
The Court conducted a granular review of each dispute and counterclaim, focusing on the Arbitral Tribunal’s inconsistent treatment of evidence. It emphasized that patent illegality arises not merely from error but from a failure to apply legal principles consistently.
"The Arbitral Tribunal relied upon the minutes of the meeting held on 24.12.2010 to grant relief in a parallel case involving another contractor, yet completely disregarded the same minutes when dealing with the respondent’s case. This selective reliance is not merely an error in appreciation - it is patent illegality."
The Court held that the arbitrator’s conduct violated the principle of audi alteram partem and the requirement of reasoned decision-making under Section 29A and Section 31 of the Act. The tribunal’s failure to explain why the same evidence was accepted in one context and rejected in another rendered its reasoning arbitrary.
The Court further noted that the arbitrator’s deduction of Rs.5 lakhs for painting without any basis in evidence constituted a finding based on “mere presumption,” which is impermissible under Section 34(2)(a)(ii). The tribunal’s reliance on Ex.R.3 and Ex.C.35 was contradictory: it upheld Ex.R.3 for some purposes but invalidated it for others without justification.
Crucially, the Court recognized that the parties’ subsequent conduct - through meetings and mutual understanding - may have amounted to a novation of the original contract. The arbitrator’s failure to examine this possibility was a fundamental legal error.
The Court applied the principle from Gayatri Balasamy v. ISG Novasoft to sever the illegal portions of the award. It found that the disputes over steel, windows, and painting were distinct from those concerning parapet walls and cupboard works, which were properly adjudicated.
The Verdict
The petitioner (trust) succeeded in part. The Madras High Court set aside the Arbitral Tribunal’s findings on disputes A, H, B, and D, and counterclaims 5 and 6, holding them vitiated by patent illegality. The award on counterclaims 2, 3, 4, and 11 was upheld. The Court permitted the trust to withdraw the deposited amount of Rs.34.69 lakhs with interest, as the award was partially set aside.
What This Means For Similar Cases
Arbitrators Must Apply Evidence Standards Uniformly
- Practitioners must challenge awards where the arbitrator accepts documentary evidence (e.g., meeting minutes) for one party but rejects it for another without explanation.
- Selective reliance on evidence constitutes patent illegality under Section 34(2)(a)(ii), even if the outcome appears plausible.
Guesswork in Awards Is Grounds for Setting Aside
- Arbitral awards based on speculation, such as arbitrary deductions for painting or rectification without supporting documents, are voidable.
- Tribunals must ground all findings in evidence; conjecture or “best guess” reasoning is legally unsustainable.
Novation Must Be Explicitly Considered
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Where parties engage in post-contractual discussions and alter terms through mutual conduct, arbitrators must examine whether a novation occurred.
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Failure to consider novation as a possible legal consequence of subsequent conduct amounts to a failure to apply the law correctly.
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If an award contains both valid and invalid portions, petitioners should seek severance under Gayatri Balasamy rather than full set-aside.
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Courts will now scrutinize whether arbitrators have treated all parties’ evidence with equal rigor.
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Practitioners should preserve and highlight inconsistent reasoning in arbitral awards as a primary ground for challenge under Section 34.
