Supreme Court Settles The Dust for MSMEs, Clarifies Facilitation To Override Arbitration

Clearing the fog on an issue plaguing industry confidence, the Supreme Court of India has delivered a precedential ruling in Gujarat State Civil Supplies vs. Mahakali Foods upholding that Medium, Small & Micro Development (MSMED) Act, 2006 being a special enactment would override the Arbitration & Conciliation Act, 1996 which is general legislation. 

Until now, there were conflicting views of various High Courts and the specific issue was not settled. The conflicts stemmed from a lack of recognition of a statute as a designated law dealing with a specific set of enterprises.

The MSMED Act addresses policy issues, investment ceilings, and coverage of the sector. It seeks to develop the MSMEs and facilitate their competitiveness while providing recognition to both manufacturing and service sector entities as enterprises and integrates the three tiers. It further provides for a statutory consultative mechanism with stakeholder participation, and establishes specific funds, schemes and programmes along with progressive credit policies and practices. 

One can thus deduce that this Act which replaced its preceding enactment; viz: Interest on Delayed Payments to Small Scale and Ancillary Industrial Undertakings Act, 1993 sought to specifically address its lacunae and work as beneficial legislation for a specific group of target industries. Thus, the ruling is justified in designating it as a specific legislation. 

The Division Bench of Chief Justice U. U. Lalit and Justice Bela M. Trivedi observed in the ruling that the MSMED Act has been customised to protect MSMEs by stipulating a statutory mechanism for the payment of interest on delayed payments which would override the provisions of a general law like the Arbitration Act.

It is pertinent to note that such a mechanism has been outlined under Sections 17 and 18 of the Act that provides for the MSME Facilitation Council. 

The bench held that a private arbitration agreement between the parties cannot obliterate the statutory provisions. The same is clarified in non-obstante provisions in Section 24 of the MSMED Act. Once the statutory mechanism of conciliation followed by arbitration under a facilitator is triggered by any party, it would override any other arbitration agreement independently entered into by the parties. 

Moreover, the legislature while enacting the MSMED Act in 2006 was clearly aware of the Arbitration Act which was legislated back in 1996. One can thus presume that the overriding provisions in MSMED Act take to its fold the Arbitration law as well. 

The apex court underscored in the pronouncement that a contract cannot override a statutory provision. Thus, an arbitration clause contrary to MSMED Act shall fail in case of a conflict. 

Earlier this year, a Division Bench of the Madras High Court had delivered the same ruling upholding that Section 18 of the MSMED Act shall override the arbitration clause between the parties and the same is given effect to, by the non-obstante provision. 

Incidentally, the SC had also taken a similar approach in Narmada Equipment Case (2021), relying on the earlier Essar Power Pronouncement (2008) where it observed that the statutory arbitration mechanism under the Electricity Act, 2003 shall prevail over the generic provisions of the Arbitration Act, 1996. 

However, these observations and interpretations shall be applicable only in cases where the party is a Medium, Small or Micro Enterprise at the time of entering into the agreement for availing these benefits of the MSMED Act. 

Takeaways: 

It is imperative for arbitration practitioners to note that party autonomy to arbitrate will not supersede the statutory dispute resolution mechanism governing the relationship between such parties.

MSMEs play a significant role in creating large employment opportunities at lower capital costs, and aids industrialisation and development in backward areas. It requires a quick resolution at a lower cost. 

The judgment has rightly noted that the law is meant to protect the medium, small and micro enterprises that comprise a bulk of service providers and vendors. Therefore, procurement managers and counsels must educate the company ecosystem about the need for faster payments, given their economic position, smaller margins and liquidity crunch.

The resolution rate of a dispute under the facilitation process is just 9381 of the 90906 cases in 2021. It can thus be inferred that facilitation is still a time-consuming process making dispute settlement a convenient option for such small enterprises. 

Author: Trisha Shreyashi is a legal professional. She is also an Honorary Member of the Harvard Business Review Advisory Panel.