Arbitral Tribunal Is Not Above the Contract: Supreme Court Refers Bharat Drilling Judgment to Larger Bench on Excepted Clauses

“Party autonomy is the brooding and guiding spirit of arbitration… Arbitrators are bound by the substantive and procedural limitations agreed by the parties.” Supreme Court of India, in a significant judgment in The State of Jharkhand vs The Indian Builders Jamshedpur, Civil Appeal Nos. 8261–8262 of 2012, addressed the growing judicial uncertainty over the binding nature of “excepted” or “prohibited” clauses in government contracts within arbitral proceedings. The Court not only clarified the legal limits of arbitral jurisdiction under the Arbitration and Conciliation Act, 1996, but also referred the precedent-setting judgment in Bharat Drilling & Foundation Treatment Pvt. Ltd. v. State of Jharkhand to a larger bench for authoritative reconsideration, citing serious concerns about its sweeping application across arbitration disputes involving public contracts.

The bench comprising Justice Pamidighantam Sri Narasimha and Justice Atul S. Chandurkar held that arbitral tribunals cannot disregard contractual prohibitions and grant claims explicitly barred under the terms of the agreement. The Court sharply observed that “the award granting prohibited claims contrary to contract is unsustainable,” underscoring that party autonomy—not arbitral discretion—is the cornerstone of arbitration.

“Contractual Clauses That Limit Claims Are Founded on Freedom to Contract”: Supreme Court Restores Primacy of Contract in Arbitration

The ruling came in an appeal filed by the State of Jharkhand challenging a Jharkhand High Court judgment that had reinstated certain claims (Claim Nos. 3, 4 and 6) awarded by the Arbitral Tribunal, despite those claims being expressly barred under the contract. The Civil Court had earlier set aside these portions of the award under Section 34 of the Arbitration Act, citing clear violation of the contract's prohibitory clauses. However, the High Court reversed this and upheld the award, relying solely on the Supreme Court’s 2009 decision in Bharat Drilling.

The Supreme Court took strong exception to the High Court’s reliance on Bharat Drilling without any independent examination of the contractual provisions. “It is quite evident from the order impugned before us that the High Court has not examined the contractual clauses… and has proceeded to dispose of the appeal under the impression that the issue is conclusively covered by the decision in Bharat Drilling,” the Court remarked.

The dispute arose from a government construction contract between the State of Jharkhand and the Indian Builders Jamshedpur. The contractor raised claims relating to overhead charges (Claim 3), loss due to idle machinery (Claim 4), and business losses or loss of profit (Claim 6). These were allowed by the Arbitral Tribunal in its award dated April 19, 2007. However, the State challenged the award under Section 34, arguing that these claims were squarely barred under Clauses 4.20.2 and 4.20.4 of the Special Conditions of Contract.

Clause 4.20.2 states: “No claim for idle labour, idle machinery, etc. on any account will be entertained…”, while Clause 4.20.4 declares: “No claim shall be entertained for business loss or any such loss.”

Accepting this argument, the Civil Court set aside the award for Claim Nos. 3, 4 and 6. On appeal, the High Court reinstated them, holding that the matter was covered by the Bharat Drilling ruling.

The central legal issue before the Court was whether arbitral tribunals are bound by “excepted” or “prohibitory” clauses in a contract, or whether such clauses only bind the employer (government entity) and not the tribunal.

Senior counsel for the State, Mr. Rajiv Shankar Dwivedi, argued that Bharat Drilling has been repeatedly misapplied to override prohibitory clauses in public contracts, leading to an erosion of contractual sanctity in arbitration. The Court agreed that this issue warranted fresh consideration.

The Court extensively analysed the clauses and the doctrine of party autonomy in arbitration, holding that such provisions “crystallise the informed choices of parties” and must bind both the parties and the arbitrator.

Referring to its recent decision in Central Organisation for Railway Electrification (2024 SCC OnLine SC 3219), the Court reiterated:

“Party autonomy is fundamental… the arbitrator is bound by the procedures agreed upon between the parties.”

Further, in Pam Developments Pvt. Ltd. v. State of West Bengal, (2024) 10 SCC 715, the Court had categorically held:

“It is the duty of every Arbitral Tribunal and court alike… for contract is the foundation of the legal relationship.”

Distinction Between Interest Under Section 31(7) and Prohibited Claims:

The Supreme Court also drew a crucial distinction between awards of interest under Section 31(7) of the Arbitration Act and the enforcement of prohibitory contractual clauses. The judgment in Bharat Drilling had relied upon Board of Trustees v. Engineers-De-Space-Age, which dealt with the power of the arbitrator to award interest—an entirely distinct matter governed by Section 31(7).

Clarifying this, the bench held:

“Issues relating to payment of interest… stand on a different footing from that of contractual clauses excepting or prohibiting certain claims.”

Relying on Pam Developments, the Court emphasized that under the 1996 Act, party autonomy controls both procedural and substantive aspects of arbitration, including the arbitrator's power to grant interest or entertain specific claims. Any claim barred by clear contractual language cannot be allowed on the basis of arbitral discretion.

Referral of Bharat Drilling to Larger Bench:

Finding the reasoning in Bharat Drilling both fact-specific and jurisprudentially weak, the Court stated:

“The approach adopted in Bharat Drilling is not in tune with the principles laid down by this Court in recent decisions… We are of the opinion that the ratio of Bharat Drilling requires to be reconsidered.”

Accordingly, the Court directed the Registry to place the matter before the Hon’ble Chief Justice of India for appropriate orders to refer Bharat Drilling to a larger bench for authoritative adjudication. This move seeks to end the prevailing confusion and ensure consistency in the application of arbitration law across public contracts.

This judgment is a reaffirmation of the primacy of contracts in arbitral proceedings and a warning against arbitral overreach in ignoring excepted clauses. The Supreme Court has made it unequivocally clear that arbitrators must operate within the four corners of the agreement between the parties, and courts must ensure that arbitral awards reflect the contractual bargain—not override it in the guise of equity or precedent.

By referring Bharat Drilling to a larger bench, the Court has taken a decisive step toward restoring doctrinal clarity in arbitration law and ensuring that party autonomy is not sacrificed at the altar of interpretational expediency.

Date of Decision: December 5, 2025