Specific mention of price fluctuations is needed in contracts

Price fluctuations Contract

The Supreme Court in a recent judgment upheld the order of the Gauhati High Court, setting aside an award passed by the arbitral tribunal that was based on an impossible interpretation of a contract.

In South East Asia Marine Engineering and Constructions Ltd (SEAMEC Ltd) v Oil India Limited, the contractor, South East Asia Marine Engineering and Constructions, had been given a contract by Oil India for the purpose of well drilling and auxiliary operations in Assam, following a tender floated in 1994. The contract was initially for two years, however the same was extended for two successive periods of one year each.

The dispute arose when, during the subsistence of the contract, the prices of one of the essential materials – being high speed diesel (HSD) – increased significantly following a circular issued by the government. The contractor claimed that the increase in HSD price triggered the “change in law” clause of the contract (clause 23), and, as a result, Oil India were liable to reimburse the contractor.

The arbitral tribunal held that clause 23 was to be liberally construed, and any circular of the government will amount to change in law. Thus, the increase in the price of HSD through circulars issued by the government fell within the ambit of change in law, as contemplated under clause 23 of the contract. The arbitral tribunal therefore allowed the claim of the contractor.

The award was challenged by Oil India before the district judge under section 34 of the Arbitration and Conciliation Act, 1996. The district judge upheld the award, and held that the findings of the tribunal were not without basis, or against the public policy of India, or patently illegal, and did not warrant judicial interference.

The order of the district judge was challenged before the Gauhati High Court under section 37 of the Arbitration and Conciliation Act, 1996. The high court set aside the award, while holding that it was passed overlooking the terms and conditions of the contract.

The contractor challenged the high court’s order before the Supreme Court. The question before the Supreme Court was whether the view taken by the arbitral tribunal was a possible interpretation of the contract.

The Supreme Court held that the interpretation of clause 23 of the contract by the arbitral tribunal to provide a wide interpretation could not be accepted. The thumb rule of interpretation is that the document forming a written contract should be read as a whole to render the various provisions mutually explanatory.

In the case at hand, this basic rule was ignored by the arbitral tribunal while interpreting the clause. The contract was entered into by the parties in furtherance of a tender issued by Oil India. The contract was based on a fixed rate. If the purpose of the tender was to limit the risk of price variations, then the interpretation placed by the arbitral tribunal cannot be said to be a possible one, as it would completely defeat the explicit wordings and purpose of the contract.

There is no denying that there will be price fluctuations, which a prudent contractor would have taken into margin while bidding in the tender. Such price fluctuations cannot be brought under clause 23 unless specific language points to the inclusion. The Supreme Court therefore held that the interpretation of the arbitral tribunal to expand the meaning of clause 23 to include a change in the rate of HSD is not a possible interpretation of the contract.

The dispute digest is compiled by Numen Law Offices, a multi-disciplinary law firm based in New Delhi & Mumbai. The authors can be contacted at support@numenlaw.com. Readers should not act on the basis of this information without seeking professional legal advice.