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Arbitration in the Construction Industry

The construction industry is one of the largest contributors to economic growth universally. This holds true specifically to India as this industry is a major contributor to India's GDP. This industry constitutes various facets such as, inter alia, development and infrastructure projects, engineering works, commercial and residential construction.

The construction industry is littered with complexities and technicalities; therefore, it becomes necessary that the disputes arising out of any such activities connected to the construction industry, would require personnel who have distinct expertise in such area and are adept at understanding such the complexities of such issues.

In this note, I will briefly give an outline of construction contracts and the various issues that often arise out of these contracts. Further, I will attempt to elucidate the effective role of arbitration as a dispute resolution mechanism in construction disputes.

Construction Contracts

As per the Accounting Standard (AS) 7, a construction contract is a contract that is specifically negotiated for the construction of an asset or a combination of assets that are closely interrelated or interdependent in terms of their design, technology and function or their ultimate purpose or use.[1] Generally, a construction contract involves multiple parties. It is entered into by the employer, the contractor, the supplier, the project management consultant, amongst others.

Disputes Arising Out Of Construction Contracts

As I have mentioned above, construction contracts involve multiple parties and deal with complex issues and technicalities. Naturally, disputes of various natures arise from such contracts. Disputes related to construction contracts can arise from the very initial stages of the formation of contracts on the existence of a valid contract.[2]

Additionally, disputes may arise when interpreting key provisions of the contract or certain inconsistent provisions in the documents contained in the contract.[3] Certain disputes arise from fraud in tenders that attract penal laws or the contract may give rise to disputes pertaining to bank guarantees and the conditional/unconditional nature of such guarantees.[4]

However, the disputes that most frequently arise are substantive in nature. For example, the time clause in a construction contract is of essence, however, altercation due to delays in completion are frequent.[5] Other substantive disputes include breach of contract, variations and extension of time, wrongful termination, and non-rectification of defects, amongst others.

Dispute Resolution Mechanisms

The parties involved in a construction contract usually opt for a dispute resolution mechanism that is specifically tailored to maximise time and cost savings and efficiency and would also be the most effective depending on the nature of the construction project. These mechanisms may range from multi-tier dispute resolution clauses (MTDRC) to a dispute adjudication board (DAB). In this note, I will briefly explore through these two mechanisms.
  1. MTDRC
    Parties to a construction contract alter the dispute resolution mechanism they want to adopt based on their own needs. For instance, parties may want to preserve their relationships if they are involved in a long-term project. To this cause, through an agreement, parties sometimes undertake to engage in non-binding dispute resolution process(es), like negotiation, conciliation, or mediation, before moving on to binding and final process of arbitration (if no settlement is achieved through the non-binding process(es)).

    These clauses containing a multi-tier dispute resolution process are referred to as Escalation Clauses.

    For example, a Nego-Med-Arb clause that provides that parties undertake:
    1. negotiations to resolve a dispute, followed by
    2. formal mediation, followed by
    3. binding arbitration.
    Similarly, parties involved in smaller or simpler construction projects may directly opt for arbitration to ensure speedy and binding relief.

    Are MTDRCs or Escalation Clauses enforceable in India?
    The courts of India on may occasion have not just interpreted but also enforced conditions precedent to arbitration (pre-arbitral steps) contained in MTDRCs,[6] subject to certain requisites. The requisites are non-exhaustive and have been developed through judicial jurisprudence.

    This list includes, inter alia:
    1. The MTDRC should contain the word 'shall' instead of 'may' to explicitly express the intention of the parties' agreement on the mandatory nature of the pre-arbitral steps;
    2. The MTDRC should be cautiously and deliberately drafted without any unambiguous terms or phrases;
    3. The MTDRC should provide that the pre-arbitral steps are time bound, and it should ensure that the rights of all parties involved are balance;[7] and
    4. The parties should not have waived their rights, expressly through words or conduct, to invoke any conditions precedent to arbitration as against a counterparty.[8]
    It is imperative to note that this list is non-exhaustive, and the enforceability of escalation clauses depends on the court's interpretation of such clauses on case-to-case basis. However, there is modern judicial consensus globally that a (valid) Escalation Clause constitutes an arbitration agreement and therefore, they are subject to the principles/ provisions of arbitration law.[9]
     
  2. DAB
    As stated above, time is of the essence in construction projects. This applies to resolution of disputes relating to construction projects as well. It is not prudent for parties involved to cease all work every time a dispute arises as that leads to cost overruns and would ultimately affect the viability of the protect itself.[10] To avoid such drastic consequences, a body of adjudicators is now specifically established to provide interim reliefs in the event of disputes without halting the construction work. This body is called the Dispute Adjudication Board (DAB)[11] or the Dispute Review Board (DRB).[12]

    The DAB is constituted by one or more (a panel) neutral members that are appointed at the stage of the commencement of the construction contract. The panel is appointed on an ad hoc basis for the duration of the entire project or contract period. The panel generally consists of certain experts who are deemed to have the required knowledge and skills to effectively adjudicate upon disputes related to construction contracts and issue interim orders that are contractually binding on the parties involved.

    The DAB's jurisdiction stems from the contract itself and its orders are binding unless revised through settlement, an arbitrator or by court. If the parties involved are dissatisfied by the DAB's interim orders and they issue a notice of dissatisfaction within the stipulated time and/or they are non-compliant with the orders, the dispute is invariably referred to arbitration.[13]

    This points to a glaring disadvantage of adopting a DAB as the preferred dispute resolution mechanism as the DAB's interim order against a non-complying party can only be enforced through arbitration or by a court. This leads to a conundrum as the process then becomes prolonged and causes unnecessary delays and is thus, perceived as an ineffective mechanism to resolve disputes.

Construction Arbitration vis--vis Generic Arbitration

The complex nature of construction disputes requires speedy and effective resolution. The disputes frequently involve multiple parties, and this field is replete with complexities concerning joinders and consolidation gains.

These disputes require allocation of risks and recognition of liabilities amongst all the parties involved; for which there is a great need for deliberation and careful study of the various responsibilities each party has and their obligations towards other parties. These disputes also call for careful analysis of the breach of obligation each party owes and the calculation of the quantum damages. For such purpose, construction arbitration comprises of experts, who are equipped with specific the skill set to evaluate expert witnesses and testimonies.

Bigger construction projects quite often fall within various jurisdictions. For instance, international construction disputes arising out of contracts that bind the parties with the stipulated governing law also require those parties to be bound by the local laws, such as the planning and development laws and the health and safety measures. Thus, construction arbitration must comprise of people who comprehend the diverse cultural standpoints of each party, so as to adjudicate fairly upon the disputes. But, before the adjudication process the parties must, while framing the contract, participate in careful choosing of an appropriate seat that will serve their interests in the best possible light.

Moreover, construction disputes involve a pivotal financial angle. The sporadic lenders and creditors, insurance providers, security providers and guarantors, among others, are all often involved in construction projects and breed a range of disputes every now and then. Long tedious dispute resolution can add to these cost overruns and invariably harm the parties; thus, construction arbitration is often tailored to maximise time and cost savings.

These are only some of the characteristics that distinguish a construction arbitration from generic arbitration. The concoction of these complex features makes construction arbitration a very specialised area of practice that requires experts with immense knowledge about the construction industry and thus rights and remedies that are available to the parties involved in a construction contract.

Recent Trends in Construction Disputes in India

Construction disputes in India may be resolved by any of the dispute resolution mechanisms available. However, due to the large number of construction disputes and the complex nature of such disputes, arbitration is the proffered mechanism. Recently, the norm has become to refer construction disputes first to a DAB/DRB,[14] although as discussed above, the rulings of the board is not essentially binding on the parties.

Therefore, the parties dissatisfied by the DAB's orders, subject to any contractual obligations, refer their disputes to arbitration.

In India, arbitration that are seated in India are governed by the Arbitration and Conciliation Act of 1996 (Act). The Act further codifies framework for enforcing awards of foreign-seated arbitrations in India. This Act covers most procedural facets involved in a domestic arbitration as well as an international commercial arbitration, such as, the procedure for appointing arbitrators, interim reliefs granted by the arbitrators or the courts, judicial intervention in arbitrations, set-aside proceedings and so on.

Besides the procedural aspects of arbitration, the Act also covers the mechanism of conciliation. In this mechanism, if the parties involved reach a settlement, that settlement is recorded as an arbitral award and is thus, enforceable in India. Though, historically, conciliation was seldom preferred in practice, recent trends elucidate that this is changing.[15] Conciliation is now opted for resolving construction disputes, specifically for road construction disputes that involve public-private partnerships.

Another ADR mechanism is mediation. In India there are two kinds of mediation processes, namely, judicial mediation and private mediation. Judicial mediation is seldom chosen to resolve construction disputes in India, owing to the fact that generally one of the parties involved is a state entity, which deters the courts from getting involved.[16] Similarly, private mediations are also infrequent and may only be chosen for resolving low-value disputes.[17]

It is imperative to note that In India there is no specialised construction court, like for instance, the English Technology and Construction Court. However, the Commercial Courts Act of 2015 empowers the State governments to either establish district-level commercial courts within their states or establish a special commercial division under the High Courts of the states; and these courts or divisions deal with construction disputes, amongst other things.

Several state governments have already constituted a commercial court for this purpose. The Hight courts of Delhi and Mumbai have done the same. Further, India has been on the pursuit to constitute 'Special Courts' under the High Courts in the court hierarchy to deal with civil proceedings pertaining to specific performance of construction contracts.[18]

All infrastructure projects in the local territory fall within the jurisdiction of these courts. States like, Uttar Pradesh, Madhya Pradesh and Karnataka have successfully established Special Courts for this purpose. Notably, litigation is not preferred route for foreign investors. As they seek to avoid engaging with unfamiliar judicial processes.[19]

Recent Developments in Construction Arbitration Jurisprudence
India has been exponentially shifting towards a pro-arbitration stance recently. Following, the Indian Judiciary, through a plethora of judgements, has limited the scope of judicial intervention the arbitration procedure. This limited scope was solidified by the 2015 and 2019 amendments introduced in the Act of 1996.

This hesitance in judicial interference in arbitration proceedings can be seen in myriads of judgement wherein the courts, dealing with disputes relating to the construction infrastructure sector, have refused to interfere with the enforcement of the arbitral awards on merit. The Courts have further limited the scope of public policy used for challenging arbitral awards.

In NHAI vs. Bsc-Rbm-Pati (JV),[20] the Delhi High Court detested the practice of needless challenges made against arbitral awards, stating that this practice leads to docket explosion and wastes the valuable time of the courts. Similarly, in Jindal ITF Limited vs. NTPC,[21] the Delhi High Court, for the first time, enforced an interim order passed by an arbitral Tribunal u/s. 17 of the Act. Accordingly, the Court ordered the other party to pay the sum passed by the Tribunal as interim relief. The Courts interpretation and analysis of section 17 of the Act was very pro-abirritation and thus, has been lauded.

There has been another significant development in the construction arbitration jurisprudence. Before the 2015 amendment to the Act, there was a tendency, in construction contracts, specifically those concerning PSUs, for the owners to dominate over arbitral proceedings. This domination usually began with inserting one-sided or unilateral arbitration clauses in the construction contracts, that empowered only one party (generally the employer) to appoint an arbitrator, and by signing the contract all the undersigned by extension were bound by such unilateral arbitration clauses.

For instance:
heads of departments of the employing company or the directors of that company could be appointed as the arbitrator. The fact that such person were themselves an employee of one of the parties involved did not, ipso facto, raise a doubt of bias or impartiality or disqualify him as a potential arbitrator.[22]

However, post 2015, the Act mandates that subject to any prior agreement to the contrary, a person whose relationship with any of the parties involved in a dispute, or with the counsel of those parties or with the subject-matter of the dispute itself is of the nature as specified in the Seventh Schedule of the Act, he/she is deemed ineligible to be appointed as an arbitrator.[23]

In accordance with the Seventh Schedule, the employee, advisor, consultant, manager, director or any other person involved in the management of one of the parties involved in a dispute or their counsels are intrinsically disqualified from being appointed as the potential arbitrator of that dispute, regardless of what the arbitration agreement provides.[24]

This position has been reinstated by the Delhi High Court in its landmark judgement in the case of Orissa Concrete and Allied Industries Ltd v. Union of India & Anr.[25] Currently, in the event of an unilateral arbitration clause that provides for the appointment of a person as an arbitrator, who by the virtue of the Seventh Schedule of the Act, is deemed ineligible to be appointed as an arbitrator, then the parties may mutually appoint another arbitrator to resolve their dispute and if the parties fail to do so, then the court may make such an appointment; however, the arbitration agreement will continue to be valid and enforceable.

However, if the parties involved, after the dispute has arisen, agree in writing to appoint a person as an arbitrator who is otherwise ineligible by virtue of the Seventh Schedule of the Act, then party autonomy will be upheld.[26] This provision ensures that there is a balance of power in arbitral proceedings in the construction industry and no one party (generally the owner) dominates over the other by limiting doubts as to the independency or impartiality of the possible arbitrators.

Besides the Seventh Schedule, the 2015 amendment to the Act introduced various other changes to the arbitration process. Some of those changes directly impact the construction industry; among those are:
  1. The Act provides fixed timelines for completion of arbitral proceedings and challenges made against the arbitral awards. These provisions ensure that the void caused by disputes during a construction project, do not interrupt the project indefinitely;
  2. The Act has given more power to the arbitral tribunal w.r.t. the awards of interim measures to the parties; and
  3. The Act provides for an exhaustive regime for costs, inasmuch, the unsuccessful party is ordered to pay the costs of the successful party. This provision deters parties from using delaying tactics, lest they have to bear the greater costs.

Ending Remarks
The trajectory of the information provided above showcase that arbitration is the most viable route for effective resolution of construction disputes. Keeping in mind the complex nature of the construction disputes, parties involved can reap the maximum benefits if they adopt arbitration as their dispute resolution mechanism.

This mode allows the parties enough flexibility to appoint their preferred arbitral tribunal, giving them the freedom to appoint qualified experts who are well-versed with the technicalities and the complexities of a construction project and/or specialise in delay claims; which in turn simplifies the procedural aspects of the dispute resolution for the parties as that tribunal is well-equipped to handle all kinds of construction disputes.

Moreover, the Act codifies that an arbitrator may encourage the nudge the parties towards the settlement of a dispute at any given stage of the arbitral proceeding,[27] and in the event that the parties are successful in doing so, the terms of such settlement may be recorded as an award of the tribunal and thus, enforced.[28]

This proves to be a very effective and powerful tool to resolve disputes between parties. The unique blend of all the features of arbitration makes it the most alluring and therefore, the most preferred mode of dispute resolution in the construction industry.

End-Notes:
  1. Accounting Standard (AS) 7 available at https://www.mca.gov.in/Ministry/notification/pdf/AS_7.pdf as on 26 January 2022.
  2. Construction Disputes in India (Nishith Desai Associates, April 2020) available at https://www.nishithdesai.com/fileadmin/user_upload/pdfs/Research_Papers/Construction-disputes-in-india.pdf accessed 26 January 2022.
  3. ibid.
  4. ibid
  5. ibid
  6. See: Tulip Hotels Pvt. Ltd. v. Trade Wings Ltd. 2010 (1) Mah. L.J. 73.
  7. Ravindra Kumar Verma v. M/s BPTP Limited (2015) 147 D.R.J. 175.
  8. Demerara Distilleries Pvt. Ltd. v. Demerara Distilleries Ltd. (2015) 13 S.C.C. 610.
  9. See: Ling Kong Henry v Tanglin Club [2018] SGHC 153; Emirates Trading Agency LLC v Prime Mineral Exports Pte. Ltd. [2014] EWHC 2104 (Comm)
  10. n (2).
  11. Clause 20.2, FIDIC Red Book (1999 Edition).
  12. World Bank Standard Bidding Documents, 1990.
  13. n (2)
  14. Navigating through Construction Disputes in India (White & Case) https://www.whitecase.com/sites/default/files/2021-07/construction-arbitration-navigating-construction-disputes-india.pdf accessed 26 January, 2022.
  15. ibid
  16. ibid
  17. ibid
  18. ibid
  19. ibid
  20. National Highways Authority of India vs. Bsc-Rbm-Pati Joint Venture FAO(OS)(COMM)107/201.
  21. Jindal ITF Limited vs NTPC Limited OMP [ENF.][COMM.] No. 55 of 2018.
  22. See: Indian Oil Corporation Ltd v. Raja Transport Pvt Ltd (2009) 8 SCC 520; Ladli Construction Co. (P) Ltd v. Punjab Police Housing Corporation Ltd (2012) 4 SCC 609; Secy. to Govt., Transport Deptt v. Munuswamy Mudaliar 1988 Supp SCC 651; S. Rajan v. State of Kerala (1992) 3 SCC 608.
  23. Arbitration and Conciliation Act 1996, s 12(5).
  24. Arbitration and Conciliation Act 1996, Seventh Schedule, Rule 1 & 12.
  25. 2016 SCC OnLine Del 3463.
  26. n (23).
  27. Arbitration and Conciliation Act 1996, s 30(1).
  28. Arbitration and Conciliation Act 1996, s 30(2).

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