Supreme Court: No Power to Award “Interest on Interest” under Section 31(7) of Arbitration Act—Earlier Contrary Precedents Declared Per Incuriam

Case Name: M/s Hyder Consulting (UK) Ltd. v. Governor, State of Orissa through Chief Engineer

Date of Judgment: September 26, 2014 (Civil Appeal No. 3148 of 2012 with connected matters)

Bench: Hon’ble Chief Justice H.L. Dattu; Hon’ble Mr. Justice S.A. Bobde; Hon’ble Mr. Justice Rohinton Fali Nariman

Held: The Supreme Court, deciding a reference made to a larger Bench, has conclusively settled the long-standing controversy over whether arbitral tribunals have the authority under Section 31(7) of the Arbitration and Conciliation Act, 1996 to award interest upon interest. The Court held that they do not. The Court affirmed that Section 31(7) contemplates only simple interest and does not empower an arbitral tribunal to award compound interest or interest upon interest for either the pre-award or the post-award period. The ruling declared that earlier decisions such as McDermott International Inc. v. Burn Standard Co. Ltd. and Three Circles which were understood to permit such awards were wrongly read and were in fact per incuriam. By reiterating the correctness of the decision in State of Haryana v. S.L. Arora & Co. (2010), the Court ended a cycle of conflicting interpretations that had plagued arbitration law for years.

Summary: The appeal arose from execution proceedings in which Hyder Consulting sought to enforce an arbitral award by claiming nearly ₹9 crores, a sum which included not only the principal amount of ₹2.3 crores but also interest pendente lite merged with the principal for the purpose of claiming post-award interest. The Orissa High Court, relying on S.L. Arora, had disallowed such a claim. The issue before the Supreme Court was whether interest awarded on the principal amount up to the date of the award became itself part of the principal for the purposes of awarding post-award interest, thereby allowing a species of “interest on interest.”

Senior Advocate K.K. Venugopal for the appellant argued that earlier precedents such as ONGC v. M.C. Clelland Engineers, McDermott International Inc., Three Circles, and Central Bank of India v. Ravindra supported the proposition that interest pendente lite merges with the principal and becomes part of the “sum” under Section 31(7). He further relied on the Law Commission’s 246th Report which had recommended clarifying amendments. The State, represented by L. Nageswara Rao, resisted, submitting that S.L. Arora was correctly decided and that Section 31(7) plainly contemplates only simple interest on the principal sum awarded.

After a lengthy survey of authorities, the Court concluded that the reliance placed on McDermott and Three Circles was misplaced, since the former never decided the question of compound interest and the latter merely adopted an argument advanced in McDermott without it being part of the ratio decidendi. Such reliance, the Court said, was clearly per incuriam. Similarly, precedents under the 1940 Arbitration Act such as ONGC were held to be inapplicable since the 1996 Act expressly provides a scheme for award of interest. The Court also rejected reliance on Central Bank of India v. Ravindra, noting that it arose under Section 34 of the Code of Civil Procedure and could not control the interpretation of the Arbitration Act.

The judgment elaborated on the meaning of the words “sum” and “interest” under Section 31(7), holding that “sum” must be understood as the principal amount directed to be paid by the award and “interest” as compensation for its use or detention. The Court emphasised that interest is distinct from the principal and can merge with it only upon actual payment or capitalisation. Unless parties expressly agree otherwise, arbitral tribunals cannot treat accrued interest as part of the principal for purposes of awarding further interest. Thus, both doctrinally and textually, Section 31(7) excludes the award of interest upon interest.

Decision: The Supreme Court dismissed the appeal and upheld the Orissa High Court’s order applying S.L. Arora. It was declared that arbitral tribunals under the 1996 Act have no jurisdiction to award compound interest or interest upon interest unless explicitly authorised by the contract. The ruling firmly entrenches the principle that Section 31(7) is confined to simple interest and preserves the authority of S.L. Arora as the controlling precedent on the point.