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The Matters involving the Allegation of Fraud cannot be referred to Arbitration, especially when Third-Party Rights are at Stake --- Lahore High Court

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The Matters involving the Allegation of Fraud cannot be referred to Arbitration, especially when Third-Party Rights are at Stake --- Lahore High Court

Islamabad 06-09-2024: In a significant ruling, the Lahore High Court dismissed an application seeking a stay of proceedings in a company dispute involving allegations of fraud, mismanagement, and transfer of shares. The Court, presided by Mr. Justice Muhammad Sajid Mehmood Sethi, held that the disputes involving third-party rights and factual controversies in company matters are not arbitrable, thus denying the stay request under Section 34 of the Arbitration Act, 1940.

The application was filed by Respondents No. 1 to 3, who sought to halt Court proceedings, citing an arbitration agreement contained in the disputed contract between the parties. The respondents argued that the matter should be referred to arbitration under the arbitration agreement between Qatar Lubricants Company W.L.L. (QALCO) and Kausar Rana Resources Pvt. Ltd. (KRR). However, the petitioners, including Petitioner No. 2, challenged the validity of the agreement and alleged fraudulent transfer of their shares in KRR.

In his ruling, Mr. Justice Muhammad Sajid Mehmood Sethi, highlighted that under Section 34 of the Arbitration Act, 1940, the Court has the discretion to stay legal proceedings if there is a valid arbitration agreement. However, the Court held that the arbitration agreement dated 12.04.2020 did not bind all parties involved in the dispute, particularly Respondent No. 2 (Sameen Naeem Rana), who was not a signatory to the agreement. The Court emphasized that non-signatories cannot be compelled to arbitrate unless exceptional circumstances exist.

Moreover, the Court underlined that allegation of fraud, which render contracts voidable under Section 19 of the Contract Act, 1872, are not suitable for arbitration, as they require judicial oversight to prevent miscarriage of justice. Fraud matters are traditionally not arbitrable because they fall within the public policy exception, which mandates that Courts handle such disputes.

The judgment also delved into the non-arbitrability of certain company law matters. Mr. Justice Muhammad Sajid Mehmood Sethi, noted that under the Companies Act, 2017, the Court holds exclusive jurisdiction over issues like the rectification of the register, investigation into company affairs, oppression, mismanagement, and winding-up of companies. The Court found that these matters cannot be referred to arbitration, especially when third-party rights are at stake.

The Court further remarked that bifurcating judicial actions between arbitration and Court proceedings would lead to delays, increased litigation costs, and the risk of conflicting decisions, which are contrary to the principles of justice.

The Court’s decision was grounded in several legal principles, including the competence-competence doctrine, which allows arbitrators to determine their own jurisdiction, and the *discretionary nature of stay proceedings under Section 34 of the Arbitration Act, 1940. Mr. Justice Muhammad Sajid Mehmood Sethi, referenced key judgments, including M.A. Chowdhury v. Messrs Mitsui O.S.K. Lines Ltd. (PLD 1970 SC 373), Eckhardt & Co. Marine GmbH v. Muhammad Hanif (PLD 1993 SC 42), and Sukanya Holdings Pvt. Ltd v. Jayesh H. Pandaya & Anr. (AIR 2003 SC 2252).

The Court held that arbitration agreements cannot oust the jurisdiction of Courts, particularly in cases involving allegations of fraud and company law disputes, which affect third-party rights.

Concluding the judgment, Mr. Justice Muhammad Sajid Mehmood Sethi, dismissed the application for stay, holding that the dispute at hand involved factual controversies, third-party rights, and fraud allegations, all of which required judicial adjudication rather than arbitration.

The ruling sets an important precedent for the non-arbitrability of company law disputes involving third-party rights and fraudulent conduct, reaffirming the exclusive jurisdiction of Courts in such matters.

This decision underscores the Court’s role in addressing complex corporate disputes, especially when arbitration agreements fail to cover all parties or involve non-arbitrable issues like fraud and third-party rights.