Contractual Cap On Damages Cannot Be A License For Inordinate Delay; Bombay HC Upholds Award Bypassing 1% Liability Limit

"If PWD’s contention were to be accepted, it would follow that PWD would be entitled to keep KTIPL deployed for an infinite time... and take its own time to provide the ROW with no scope for damages for such delay ever crossing 1% of the contract value. Such a proposition is absurd to say the least," Bombay High Court, in a significant judgment, held that an arbitral tribunal is justified in bypassing a contractual cap on damages in extraordinary circumstances where the defaulting party’s breach renders the cap "absurd and irrational."

 A single-judge bench of Justice Somasekhar Sundaresan observed that while arbitrators must take contract terms into account, they are not bound to blindly apply exclusionary clauses that allow a party to take advantage of its own wrong.

Brief Background of the Case

The Public Works Department (PWD) of Maharashtra had entered into an Engineering Procurement and Construction (EPC) contract with Khare And Tarkunde Infrastructure Pvt. Ltd. (KTIPL) for bridge construction projects. Under the agreement, PWD was mandated to hand over 90% of the Right of Way (ROW) within 15 days of the execution, with a project completion timeline of 18 months. However, the ROW was never fully provided, leading to a 45-month delay, after which PWD terminated the contract. KTIPL invoked arbitration and was awarded damages exceeding the 1% cap stipulated in Clause 4.1.5 of the agreement.

Legal Issues Before the Court

The primary question before the court was whether an arbitrator could award damages beyond a contractually agreed cap of 1% of the contract price. The court was also called upon to determine whether the award of 18% compounded quarterly interest was sustainable when the contract provided for different calibrated interest rates for specific breaches.

Arbitrator Not Bound To Blindly Apply 1% Cap In Cases Of Abject Default

The court noted that Clause 4.1.5 of the agreement attempted to limit the aggregate damages payable by the Authority to 1% of the contract price. However, the bench observed that this provision could not be read in isolation from the foundational obligation of the PWD to provide 90% of the site within 15 days.

The court held that if the foundational element of a contract—such as the provision of the work site—is missing, the reciprocal promises are vitiated. In such extraordinary situations, the bench noted that a "hidebound approach" to a liability cap regardless of the nature and extent of the breach would be an absurd proposition.

Section 28(3) Gives Arbitrators Elbow Room To Factor In Contract Terms Rather Than Absolute Compliance

Court Explains Shift In Section 28(3) Of The Arbitration Act

The judgment highlighted a conscious departure made by Parliament through the 2015 amendment to Section 28(3) of the Arbitration and Conciliation Act. Previously, the law mandated that the tribunal decide "in accordance with" the terms of the contract, which was interpreted as a strict obligation.

The bench observed that the amended Section 28(3) now requires the tribunal to "take into account" the terms of the contract. This change provides greater "elbow room and leeway" to the arbitrator to adjudicate facts based on the peculiarities of the case and the conduct of the parties during implementation.

Business Efficacy Test Invoked To Reconcile Conflicting Clauses

The court applied the "Business Efficacy Test" to interpret the conflicting promises within the contract. It noted that the 1% cap on damages was premised on the project being completed within 18 months. Since the contractor was kept mobilized for 45 months due to PWD's failure, the court found it irrational to restrict damages to a tiny ceiling.

The bench emphasized that the interpretation of a contract should not do violence to its other parts. By reconciling the 1% cap with the 15-day site handover requirement, the arbitrator gave business efficacy to the agreement as a whole rather than allowing one clause to facilitate a "wanton breach."

Award Of 18% Compounded Interest Set Aside For Being In Conflict With Calibrated Bargain

High Court Sets Aside Interest Component Citing Contractual Conflict

While upholding the damages, the court struck down the interest component of the award. The arbitrator had granted 18% interest compounded quarterly for pre-arbitration, pendente lite, and post-arbitration periods. PWD argued that this rate was derived from a clause relating to the contractor's repayment of advance payments, not PWD's failure to pay.

The court found this approach "perverse and patently illegal." It observed that the parties had consciously agreed to different rates of interest for different scenarios in Clauses 19.9.2 and 19.2.7. By taking a rate meant for the contractor and applying it to the PWD while adding quarterly compounding, the tribunal had turned the contractual bargain on its head.

Power Of Court To Partially Quash Award Regarding Interest

Relying on the Supreme Court's decision in Gayatri Balasamy v. ISG Novasoft Technologies Ltd., the bench noted that while a Section 34 court cannot modify an award, it can excise and segregate the portion relating to interest if it is in conflict with the contract.

The court held that the issue of the appropriate interest rate remains "arbitrable." While upholding the rest of the award, the court quashed the interest portion and allowed the parties the liberty to refer that specific element back to arbitration for resolution.

The court concluded that the attack on the award regarding the 1% damages cap was unsustainable as the arbitrator had merely interpreted the contract to avoid an absurd outcome. However, the interest component warranted intervention as it ignored the calibrated bargain between the parties. In the result, the petitions were partly allowed, with the award being upheld on all aspects except for the grant of interest.

Date of Decision: June 12, 2026