Cairn Energy dispute and Government disputes with private entities – Explained, pointwise

Introduction

Britain’s Cairn Energy Plc has secured an order from a French court authorizing the freezing of 20 Indian government properties in Paris valued at over 20 million euros. This is the first court order secured against India to enforce a $1.2-billion arbitration award that Cairn Energy had won against the Indian government in the retrospective taxation dispute. But the Indian government said that, it had not received any communication in this regard from any French court, and that it was trying to ascertain the facts.

About the Cairn Energy dispute

• In 2006, Cairn Energy Plc made a bid to consolidate its Indian assets under a holding company — Cairn India Limited. In doing so, Cairn UK transferred shares of Cairn India Holdings to Cairn India Limited, essentially transferring shares in non-Indian companies to an Indian holding company.
  • Indian tax officials said that capital gains tax of over Rs 6,000 crore is payable by Cairn UK for the transactions in 2006, even though the transactions had previously been cleared by them.
  • Capital Gains Tax is a tax on the profit realized on the sale of a non-inventory asset. The most common capital gains are realized from the sale of stocks, bonds, precious metals, real estate, and property
• However, due to different interpretations of capital gains, the company refused to pay the tax, which prompted cases to be filed at the Income Tax Appellate Tribunal (ITAT) and the Delhi High Court.
• The Supreme Court had ruled against the retrospective reading of the law by tax officials in the case of Vodafone. Despite that, In 2012, the Indian government then retrospectively amended the tax code, giving itself the power to go after mergers and acquisitions(M&A) deals all the way back to 1962 if the underlying asset was in India.
• Cairn argued that this retrospective taxation was in breach of the UK-India Bilateral Investment Treaty which had a standard clause that obligated India to treat investment from the UK in a “fair and equitable manner”.
• The retrospective taxation demanded by the Indian government was challenged by Cairn Energy Plc in the Permanent Court of Arbitration (PCA) at The Hague.
  • In December last year, a three-member international arbitral tribunal ruled unanimously that the Indian government was “in breach of the guarantee of fair and equitable treatment”, and against the India-UK Bilateral Investment Treaty. Further, the tribunal also ordered a compensation of $1.2 billion.
  • The Indian government is yet to accept the arbitration award. Since the arbitration award was delivered in Hague, India has moved an appeal to the Netherlands.
  • But, Cairn Energy is going after Indian assets overseas to recover the compensation. In May, Cairn began the process of extracting the $1.2 billion.
• Assets Cairn is going after: Cairn Energy has so far registered the arbitration award in several countries, where it has identified Indian assets worth over $70 billion. This includes jurisdictions in the US, UK, Canada, Singapore, Mauritius, France and the Netherlands.
  • While the French court award is the first one to succeed for Cairn, the French court order boosts its chances in other jurisdictions.

Impact of Cairn energy dispute award on India

• The government went for appeal in the Netherlands with the fear that accepting the demand may open space for other cases where bilateral treaties allow for arbitration. But the implications of its present position are far-reaching. Unwillingness to put this issue to rest will ensure that claims of improving the ease of doing business in the country are met with skepticism.
• Further, an adverse order in the Air India case will not only complicate matters for the government’s plans to privatize the airline but may also put a spanner in the privatization of other public sector entities.
• Retrospective taxation is not unique to India, it has been invoked in specific situations by other countries with reputed processes. But what India saw as a sovereign tax issue has been treated as an investment issue and deemed violative of bilateral investment treaties.

Previous such rulings in India

Seeking courts’ intervention in the enforcement of arbitration awards against foreign states is fairly common. For instance,

• Last month, in a case filed by two Indian private companies for enforcement of arbitral awards in their favor, the Delhi High Court directed the Embassies of Afghanistan and Ethiopia to file affidavits disclosing the assets owned and held by them in India.
  • Further, the Court held that “A Foreign State does not have Sovereign Immunity against an arbitral award arising out of a commercial transaction.”

How disputes with private entities are dealt in India?

• The Indian parliament enacted the Arbitration and Conciliation Act in 1996. The Act provided for the commencement of conciliation proceedings, appointment of conciliators, and assistance of suitable institutions for the purpose of recommending the names of the conciliators. This Act facilitated Arbitration
  • Arbitration is an alternative dispute resolution (ADR) procedure in which a dispute is submitted, by agreement of the parties, to one or more arbitrators who make a binding decision on the dispute.
• It also defines the role of the conciliator in assisting the parties in negotiating settlement of disputes between the parties.

Issues with government litigation against Private entities

• Tax authorities reportedly lose 85 percent of tax cases in the various high courts, and 74 percent of cases in the Supreme Court. This not only wastes the precious time of the Judiciary but also harasses the taxpayers and investors. The process of litigation itself is a punishment for taxpayers and private entities.
• The stock market regulator, the Securities and Exchange Board of India, is able to collect only a little over 1 percent of the financial penalties for which it sends out notices. For instance, SEBI issued notices worth Rs 81,086 crore since 2013, but it has been able to recover only Rs 887 crore.
• A similar trend is also observed with external players. For instance,
  • Retrospective taxation cases involving Cairn and Vodafone. In both these cases, India has lost arbitration cases internationally, that too in unanimous verdicts.
  • Devas Multimedia, which has won a case against Antrix Corporation (a subsidiary of the Indian Space Research Organisation) for arbitrary cancellation of a contract. As Devas subsequently argued in a US court, nine arbitrators and three international tribunals had deemed the termination of the Devas-Antrix deal as unlawful. The sums involved in each of these cases run to more than a billion dollars.
    • Devas Multimedia is also seeking a $1.3 billion award and has joined Cairn to seize Air India’s assets abroad.

The government is misusing some provisions of the Arbitration and Conciliation Act and pursue unnecessary appeals against the arbitration order.

Challenges with the Arbitration and Conciliation Act

• Section 34 of the Act: This section provides an application for setting aside arbitral awards. This section narrows down the scope of judicial interference and creates trouble for the taxpayers.
  • The arbitration hearings are generally held in camera, and decisions are usually not publicly accessible, giving rise to doubts about impartiality and fairness. But Section 34 does not include that as a ground for review.
• Vast discretion of the arbitral tribunals led to an over-indulgence in the tribunals by some parties. This is observed by Supreme Court in Tarapore and Company v. Cochin Shipyard Ltd case 1984. The Supreme Court had remarked that an honest man dreads arbitration more than lawsuits.
• Arbitration proceedings have become more complex with time. Arbitrators have strived to simplify the proceedings by limiting the pleadings, insisting on written arguments, reducing the number of sittings, and laying down a schedule for various milestones.
  • But the parties and their lawyers habitually derail the proceedings by filing extensive and superfluous motions, interrogatories, resulting in unending oral and written submissions.
• Even the clauses providing for fees of the arbitrators and fixed timelines for disposal are often disregarded. The Supreme Court, in National Highways Authority of India v. Gayatri Jhansi Roadways Limited, has upheld the agreement on the arbitral fees between the parties as binding.
• The Supreme Court, in Guru Nanak Foundation v. Rattan Singh and Sons, expressed its woefulness against the procedural delays and tardiness in the resolution of disputes through arbitration.

Arbitration has the inherent potential and characteristics to outperform other modes of dispute resolution. But it needs a small check on the arbitral fees and timelines, careful drafting of arbitration clauses, stringent procedural safeguards to curb delays, expeditious disposal of the court proceedings, and legislative intent. The government has to accept the Cairn Energy dispute and needs to avoid such retrospective taxation cases in future. Further, failure to accept the award only sends the wrong message to the international investor community.

Sources: The Indian Express (Article 1, Article 2 and Article 3) and Business Standard