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Judgment
These two appeals arise out of the judgment of Panchapakesa Ayyar J. disposing of O. P. No. 181 of 1953 and O. P. No. 6 of 1954, on the
Original Side of this Court. The former petition was filed by the State of Madras for passing a decree in terms of the award, Ex. P. 6, made by the
arbitrator, Mr. B Somayya, a retired Judge of this court, on 2-10-1952. The latter O. P. was filed by the Vellore Electric Supply Corporation
Ltd., for setting aside the award u/s 30(a) of the Arbitration Act, or, in the alternative, for remitting the award to the arbitrator and directing him to
reconsider the matter u/s 16(l)(c) of the Act. The learned Judge dismissed the latter petition and ordered the former.
Though three grounds were urged before Panchapakesa Ayyar J. for setting aside the award or remitting it, learned counsel for the Electric
Supply Corporation before us urged only one ground, namely, that the arbitrator had misconducted the proceedings by taking into account
extraneous matters in construing the agreement, Ex. P. 5, in coming to the conclusion that the interpretation of clauses 27 and 29 of that agreement
contended for by the Government of Madras was the right interpretation.
The dispute arose between the Government and the Vellore Electric Supply Corporation Ltd., as regards the disposal of certain surplus profits
made by the company during the years 1946-47, 1947-48 and 1948-49 by the sale of electric power, Electric power was being purchased in bulk
by the company front the Government of Madras under an agreement dated 27-7-1936, which expired on 27-9-1948, and under a further
agreement commencing from 28-9-1948, which was in force at the time of the arbitration.
In both these agreements, provision was made For constituting a consumers fund from out of the profits earned in excess of a fair limit. Clauses 27,
28 and 29 of the agreement dated 27-7-1936 and Clauses 29, 30 and 31 of the agreement dated 28-9-1948 provide for the constitution of this
fund and the allotment of a share of the profits of this company to this fund for distribution among consumers. Clause 29 of the old agreement and
clause 31 of the new agreement provide for calculation of operation and maintenance expenses which were to be excluded from the profits for
ascertaining the share of the profits that should be taken over to the consumers fund. Sub-clause (b) of both these clauses provides that all rents,
rates and taxes (but excluding income tax) and payments made for insurance of property shall be taken into account in working out the operation
and maintenance expenses.
There is a slight difference between these two clauses in that the later agreement took into account the electricity duty, while the former did not.
That is of no consequence in the case. Clause 27 of the old agreement and clause 29 of the new agreement provide for the share of profits which
should be paid into the consumers'' fund. Clause 27 of the old agreement provided thus:
When the profits made by the licensee and available for distribution as interest and dividends, exceed an amount equal to ten per cent on the paid-
up capital including loans invested in the enterprise, that excess shall be utilised for the benefit of the consumer and shareholder. 60 per cent of the
excess over 10 per cent shall be contributed to a ''consumers'' fund'' .....The remainder of 40 per cent of the excess shall be retained by the
licensee for distribution in the form of increased dividends or for such other purpose as may benefit the shareholders"".
The corresponding provision in clause 29 of the later agreement is as follows:
When the profits made by the licensee and available for distribution as dividend exceed an amount equal to 8 per cent on the paid-up capital
invested in the enterprise, that excess shall be utilised for the benefit of the consumer"". There were slight variations between these ""two clauses in
other details, which are not material for our present purpose. Clause 28 in the old agreement and clause 30 in the new agreement provided for the
definition of ""profits"" which was the subject matter of division between the shareholders and the consumers. Clause 28 runs thus:
Profits in this case is defined as the difference between the gross revenue and operation and maintenance expenses of the system, which include
depreciation and emergency fund"". Clause 30 is identical. Clause 29 of the old agreement and clause 31 of the new agreement indicated the items
which could be included in the operation and maintenance expenses indicated in the previous clause. The licensee company had subscribed to the
interpretation put upon these clauses by the Government prior to 1948.
But, in 1949, when it had to comply with the terms of the new agreement, by which the limit for profits was fixed at 8 per cent, it raised the
objection that Income Tax paid by the company should be deducted from divisible profits before calculating the amount allottable to the
consumers'' fund. The Government did not accept this interpretation, and in accordance with the terms in the agreement providing for arbitration,
the parties agreed to refer the interpretation of these clauses to Mr. B. Somayya, and he gave the following award:
I have been asked to give my decision as regards interpretation of clauses 27 to 29 of the power agreement relating to the payment of incometax.
I heard the advocates for the parties and have perused the documents filed before me. The matter is not free from difficulty. Several considerations
were urged in support of the two conflicting views and I may say that there is great weight in the arguments urged on either side. After giving my
best consideration, I have come to the conclusion that the view urged by the State Government is right. Having regard to the wording of the
document and the circumstances attending the transaction, I hold that no deduction of incometax should be made from profits and that it should be
apportioned as specified in clause 27 of the old and clause 29 of the new agreement and that the licencee should itself bear the burden of
incometax on the entire profits...."" The argument of Mr. M. Subbaraya Aiyar for the company was that the arbitrator misconducted the
proceedings in that he allowed himself to Be influenced by the transactions which the Government had with the other electric licensees in the State
who had submitted to the decision of the Government that incometax should not be deducted before ascertaining the profits allottable to their
consumers'' fund. He maintained that the arbitrator was as much bound by Section 91 and Section 92 of the Indian Evidence Act as any court of
law and the arbitrator was not entitled to look into any evidence other than the document, the clauses of which he was called upon to interpret and,
-- the argument ran -- if, in arriving at his conclusion as to the interpretation of the disputed clauses, the arbitrator had admitted or considered
extraneous evidence which was inadmissible, his conduct amounted to misconduct of the proceedings. He further maintained that, where partly
relevant and partly irrelevant matter are relied on by the arbitrator for his conclusion and where it is impossible to say to what extent the mind of the
arbitrator was influenced by the irrelevant material used, the finding of the arbitrator is totally vitiated.
In support of this proposition he relied on the Supreme Court decision in Dhirajlal Girdharilal Vs. Commissioner of Income Tax, Bombay, . In view
of the limited scope of the enquiry open to us, it is not necessary for us to examine the argument of Mr. Subbaraya Aiyar as to the basis and effect
of payment of Income Tax by a company on its profits. The propositions he advanced based upon Cull v. Inland Revenue Commissioners, 1948 8
ITR (Sup) 1 and the Indian Income Tax Act that a limited company pays tax on its own liability and not as agent for its shareholders and that there
is no such thing as tax-free dividend known to the Income Tax Code, which knows of only dividends from which taxes had been deducted at the
source and dividends from which tax had not been so deducted, do not therefore fall for our examination.
It is common ground that the provisions of the Indian Evidence Act do not as such apply to proceedings before an arbitrator. Obviously, having
regard to this provision found in Section 1 of the Indian Evidence Act, detailed rules found in Chapter VI of that Act regarding exclusion of oral
evidence by documentary evidence in a case covered by a document will not apply as such to proceedings before the arbitrator. But the learned
Government Pleader did not go to the extent of contending that no rules of evidence at all would apply to arbitration proceed-in ES.
He made a distinction between reception of wholly inadmissible evidence as being opposed to principles of natural justice and reception of matter
which, under certain condition, though not strictly admissible under the Indian Evidence Act for construing the terms of a written contract, may still
be relevant to decide the dispute before the arbitrator which arises out of such a written contract. We do not consider it necessary to lay down in
this case the exact scope of the limitations of the rule governing applicability of the rules contained in the Indian Evidence Act to Arbitration
proceedings.
The limited question we are called upon to decide here is whether, in referring to ""the circumstances attending the transaction"" as part of the
material, upon which the arbitrator based his interpretation of ''he relevant clauses, he had misconducted the proceedings by admitting wholly
inadmissible evidence.
The contention of Mr. Subbaraya Aiyar was that, though the arbitrator had not indicated what these circumstances were, they could only refer
to the fact that other licencees in the State had been excluding Income Tax paid on the profits in calculating the share of profits attributable to the
Consumers fund. In the statements of the case filed before the arbitrator by both the parties, there is indeed reference to this fact. Equally, there is
also reference in the statement of the case of the Government and the documents produced before the arbitrator to the fact that the present
licensee, the Vellore Electric Supply Corporation, had itself subscribed to the Government''s interpretation of the three clauses in dispute as
regards division of profits for 1946-47 and 1947-48.
The present contention of the assessee-company was put forward only when it had to comply with the terms of the new agreement in 1949, where
the limit for non-divisible profits was lowered to 8 per cent. The previous limit was 10 per cent. This circumstance is certainly one which will fall
under the words ""circumstances attending the transaction,"" used by the arbitrator in his award.
This cannot be termed irrelevant for the purpose of construing the three clauses in question, because, it amounts to conduct of the parties in giving
effect to the terms of the agreement upto a certain point of time before the dispute arose. Indeed, there is obvious conflict between Clauses 28 and
29, which provide for computation of the profits divisible, and Clause 27 which fixes the percentage of the profits to be allotted to the consumers''
fund. Clause 27 specifically states that the total profit of the company for the purpose of division shall be taken as profit available for distribution as
dividends and interest, Whereas by reason of Clauses 28 and 29 the Income Tax payable by the company shall be excluded from such profits.
Where two such provisions in a contract are totally inconsistent and could not be reconciled, it would not be entirely correct to say that the
conduct of the parties with relation to the interpretation of this contract for a period of time prior to the dispute would be inadmissible.
Apart from this we are satisfied on the authorities tha1 the award in this case is purely upon a question of law and it should not be open to the
licensee company to attack the legality of the award on the ground that the arbitrator had misconducted the proceedings. There is a well-known
distinction in the authorities between the decision of an arbitrator upon a pure question of law and a decision of the arbitrator upon the dispute
between the parties, which rests incidentally upon the decision on a question of law.
In the former case, the parties having elected to accept the decision of the arbitrator on the question of law, it would not be open to them to attack
the decision on the ground that the decision was wrong^ while, in he latter case it would be open to them to attack the finding of the arbitrator if an
error of law was. apparent on the face of the record, which formed the basis of the finding of the arbitrator.
There are no direct cases for guidance on this point; but the following decisions throw some light on the question. Indian law and the English law
on the subject are the same. The House of Lords in Kelantan Government v. Duff Development Co. Ltd., 1923 AC 395 laid down that where a
question of construction of document was specifically referred to arbitration, the decision of the arbitrator should not be set aside, merely because
the court would have come to a different conclusion unless it appears on the face of the award that the arbitrator had proceeded illegally, that is,
had decided on evidence which was inadmissible or on principles of construction which the law did not countenance.
They specifically laid down that an arbitrator, in construing a deed, was entitled to have regard to the surrounding circumstances not only for the
purpose of making intelligible the terms of the deed and of applying them to the facts, but also for tha purpose of implying in the deed a covenant
which is not expressed therein. The case now before us is not one where the arbitrator has introduced any covenant in the deed by process of
implication. He has merely looked into the attendant circumstances for the purpose of making intelligible the terms of the deed and of applying them
to the facts. In dealing with the objection to the award. Viscount Cav L.C. said this:
First, it is said that the statement in the award that the arbitrator has taken into account the circumstances attending the preliminary negotiations
and the conclusion of the agreement shows that he in fact took into account the negotiations themselves and drew from them an inference as to the
contract by which the parties intended to be bound. If he did so, he was in error. But I do not think that the statement can fairly be so read. The
circumstances attending the preliminary negotiations are different from the negotiations themselves, and, although the phrase is not a happy one, I
think it means no more than this, that the arbitrator had regard to the facts existing before and down to the date of the deed.
But it is said that, even so, it appears by the award that he has used knowledge of those facts for a wrong purpose; that he was entitled to have
regard to the surrounding circumstances for the purpose of making intelligible the terms of the deed and of applying them to the facts, but not for
the purpose of implying in a deed a covenant which was not expressed therein. I know of no authority for so limiting the ordinary rule. No doubt,
the surrounding circumstances may not be used for the purpose of adding to a deed a stipulation to which the parties did not intend by that deed to
agree. But, if a Judge or an arbitrator, knowing the terms of a deed and the circumstances surrounding its execution, is satisfied by those means
that the parties intended by that instrument to agree to terms which, though not clearly expressed are in his belief, to be implied in it, there is no
reason why he should not give effect To his opinion.
This quotation sets out the limits of the rule as to the use which an arbitrator can make of surrounding circumstances. It explains that where the
directions of a deed are unintelligible--as terms of the three clauses in the instant case indeed are if they are to be read together, the surrounding
circumstances could be taken into account by the arbitrator in coming to his conclusion as to the interpretation of these terms in the contract or
deed. This statement of the rule has received the approval of our Supreme Court in Seth Thawardas Pherumal Vs. The Union of India (UOI), .
The decision of the House of Lords in 1923 AC 395 was re-affirmed by the same Tribunal in F.R. Absalom Ltd. v. Great Western (London)
Garden Village Society Ltd., 1933 AC 592. There Lord Wellington of Clyffe said thus:
I have also again read the opinion expressed in this House in 1923 A. C. 395. I think it is clear that this case decides that, in order to come within
the rule that a decision of an arbitrator on a point of law is final, it must be shown that the point is specifically referred to. It recognises he
distinction between cases'' in which a question of law is specifically referred for a decision and those in which such a question is involved
incidentally, as it is in the present case.
There is no dispute that the question referred to the arbitration of Mr. B. Somayya was only a question of law, because he was called upon to give
a decision on the interpretation of the three relevant clauses in the agreements. No other dispute was referred to him. The following passage in
Halsbury''s Laws of England, Vol. 2, 3rd Edn. page 35, summarises the English law on the subject:
Conduct of proceedings: In the conduct of the proceedings the arbitrator or umpire must conform to any directions which may be contained in the
agreement of reference itself. Subject to any such directions, he should observe as far as may be practicable the rules which prevail at the trial of an
action in Court. But he may deviate from those rules, provided that, in so doing, he does not disregard he substance of justice. Thus, the arbitrator
is hound by the rules ot evidence, and although the parties may agree that the rules of evidence as observed in the courts shall not bo strictly
followed, he must not admit and act upon evidence which is obviously inadmissible and which goes to the root of the question which he has to
decide,
Dealing with the scope of errors as to law of evidence committed by an arbitrator, Russell, in his Law of Arbitration, 15th Edn. page 153, states
thus: ""In deciding as to admissibility of evidence tendered, the arbitrator must act honestly and judicially, and, if while so acting, he decides
erroneously that evidence is or is not admissible, that is not in itself misconduct, and, as with other mistakes, his award will not be set aside on that
ground, unless the error appears on its face.
This rule is based upon a number of English decisions, which it is unnecessary to set down here. Applying these principles, we are unable to hold
that the statement in the award of the arbitrator that he relied upon the circumstances attending the transaction indicates that he took into account
the fact that other licensees in the State had submitted to the interpretation put by the Government upon similar clauses in the agreements which
they had executed. Unless this is clearly established, there is no reason to interfere with the award on the ground that the arbitrator had
misconducted the proceedings. We are of opinion, agreeing with Panchapakesa Aiyar J. that this is not made out, and therefore, the award is not
liable to be set aside. These appeals are accordingly dismissed with costs in one appeal.