Arbitration under MSME Act

Arbitration under MSME Act

The Micro, Small and Medium Enterprises (“MSMEs”) are regulated under ‘the Micro, Small and Medium Enterprises Development Act, 2006’ (“the MSME Act”) and one of the primary objective of the MSME Act has been to protect the MSMEs from defaulting buyers, who delay/stop the payments to the MSME enterprises. It is a comprehensive legislation that intends to ensure smooth flow of credit to small scale enterprises and boost the development of the micro, small, and medium enterprises  by inter alia providing for Arbitration under MSME Act.

The framework of the MSME Act mandatorily requires a buyer of goods and/or services from a MSME to make payments within forty-five days else the delayed payment is subjected to a steep rate of interest on delayed payment. Therefore, in order to provide a robust and efficient statutory mechanism, resolution of disputes under the MSME Act is through the ‘Micro and Small Enterprises Facilitation Council’ (“the Facilitation Council”).

The reference of disputes to a Facilitation Council under the MSME Act is a statutory tier-wise dispute resolution mechanism. Sub-section 3 of Section 18 of the Micro, Small and Medium Enterprises Development (MSMED) Act, 2006 provides that where the conciliation fails under the provisions of the Act, the Micro & Small Enterprises Facilitation Council shall either itself take up the dispute for arbitration or refer it to any institution or centre providing alternate dispute resolution services for such arbitration.

The dispute is firstly attempted to be resolved by the Facilitation Council through conciliation either by itself or by making a reference to an institution/centre for conducting Conciliation under the aegis of the Arbitration & Conciliation Act, 1996. If the disputes remain unsettled through Conciliation, then the Facilitation Council either takes up the dispute itself or refers it to an institution or centre for resolution of disputes by way of arbitration under the Arbitration Act which ought to be completed within the statutory period of ninety days from making such reference.

Sub-section 4 of Section 18 of the MSMED Act, 2006 provides that the MSEFC or the centre providing alternate dispute resolution services shall have jurisdiction to act as an Arbitrator or Conciliator under this section in a dispute between the supplier located within its jurisdiction and a buyer located anywhere in India.

To aid the sellers further, the MSME Act lays down that in case the buyer challenges by way of an appeal any order/decree/award, the appeal for setting aside such an award will not be entertained unless the appellant deposits a hefty 75% of the award amount and a portion of that amount, as deemed fit by the Court concerned, pending the appeal would be disbursed to the seller subject to necessary directions.

As per the Act, reference to the Council can only be made when the dispute pertains to amounts due to an MSME from the buyer/service recipient. However, what happens when the buyer seeks to invoke the arbitration agreement between the parties in cases where the MSME has executed the contract poorly or failed to perform altogether and is, therefore, liable to refund the amount received or pay damages under the Contract? To conclude that the buyer would have to raise its claim before the Council even in relation to such disputes, may amount to expanding the scope of the Act.

Thus, apparently there exits an overlap between the MSME Act and the Arbitration Act on many issues which is still a grey area on which various interpretations have been rendered by the High Courts across the country.

The Bombay High Court in Porwal Sales vs. Flame Control Industries,  held that when an MSME has not raised any claim invoking the jurisdiction of the Council, Section 18(4) of the Act would not be attracted, and the buyer would be free to seek the appointment of an arbitrator under Section 11 of the Arbitration Act. It held that Section 18(4) cannot be read as creating an absolute bar to the institution of any proceedings other than as provided under section 18(1) of the Act. It reasoned that if the intention of the legislation had been to bar any appointment under Section 11 of the Arbitration Act, the Act would have expressly provided for the same.

The Supreme Court in the case of Silpi Industries vs. Kerala State Road Transport Corporation & Anr., considered the maintainability of counterclaims in arbitration proceedings initiated as per Section 18(3) of the Act, among other issues. It was also contended that the Act is a beneficial legislation aimed to aid the MSMEs, and therefore its scope cannot be expanded to allow reference of counterclaims raised by a buyer in arbitration proceedings initiated as per Section 18(3) of the Act.

It further  held that while the Arbitration Act is a general law, the MSME Act is a special, beneficial legislation intended to benefit MSMEs. It also observed the following 3 key differences in the mechanism provided under the two enactments:

1. • While the Council is required to undertake mandatory conciliation before arbitration under the Act, the same is not the case for the arbitrations under the Arbitration Act.
   • While the Council or the centre identified by it is required to conduct the arbitration, under the Arbitration Act, the parties are free to agree upon the constitution of the tribunal.
   • Whereas in the event an award in favour of the MSME is challenged, the buyer is required to pre-deposit 75% of the amount awarded, there is no such condition under the Arbitration Act.

From its judgment, the Supreme Court has clarified the scope of arbitrations under the MSME Act but still some grey area is left leaving the buyers in a quagmire regarding the options available to them.