Works Contracts – MSME Act, Arbitration & Other Compliances

General perception is that unless an agreement has an arbitration clause therein, arbitration cannot be invoked. However, the works contract agreement are treated on a different footing due to their peculiar nature and their recognition as such in law. In a case of M/S. P.L. Adke Vs Wardha Municipal Corporation, the works contract agreement expressly excluded arbitration as a means of dispute resolution. However, the party still chose to file an application for injunction under Sec. 9 of Arbitration and Reconciliation Act for restraining the opposite party to levy penalty and fine etc. ?Having lost in District Court, the matter went to Bombay High Court.

Bombay High Court noted in the case that in CCE and Customs v/s. Larsen & Toubro Ltd., the Supreme Court has observed that a works contract is a separate specie of contract, distinct from contract for services, is recognized by the world of commerce as such. In M/s. Kone Elevators India Pvt. Ltd. v/s. State of Tamil Nadu and others, the Supreme Court considered the observations in Larsen & Tubro (supra) and observed that four concepts clearly emerged. Firstly a works contract is indivisible but by legal fiction is divided into two parts for sale of goods and the other for supply of labour and services. Secondly, the concept of a dominant nature tests does not apply to a works contract. Thirdly, the term 'works contract' as used in Clause (29A) of?Article 366 of Constitution takes in its sweep all genre of works contract and is not to be narrowly construed. The Supreme Court reiterated in Larsen & Tubro (supra) that the dominant nature test or the overwhelming component test or the degree of labour and service test are not really applicable if the contract is a composite one. The court observed that in a contract requiring a contractor to install a lift in building the nature of the contract is a composite contract. Although there are two components, firstly the purchase of components of the lift from a dealer, it would be a contract of sale. If a separate contract is executed for installation that would be a composite contract for it because it is not for a sale of goods. This concept has been recognized by this court in Sterling And Wilson Private Vs Union Of India.

Accordingly, it was held by the Bombay High Court that while in law, there is no doubt that the provisions of the MSME Act would prevail over contractual provisions of arbitration, on facts in hand, the appellant being a contracting party to a Works Contract and in view of express and consensual exclusion of arbitration as a means of dispute resolution could not have?invoked the provisions of MSME Act. By this judgment, as a result, firstly, if a MSME is a party to an agreement, existence of an arbitration clause in agreement as priori to start arbitration was debunked. Secondly, in case of an agreement to supply in which either party is a MSME party and agreement requires an arbitration clause to invoke arbitration or where there is no clause for arbitration/dispute resolution, then any dispute arising therefrom is mandatorily to be referred only to the facilitation Centre as prescribed under Sec 47 of the MSME Act.

The application of MSME Act to works contracts was more directly came into consideration in later judgment of Supreme Court arising out of a bunch of Writ Petitions Nos.27670, 27673, 27691, 27693, 27826, 27829, 28010, 28034 of 2021 And 4721, 6249 and 7616 of 2022. The Apex Court went through the entire scheme of MSME Act together with the earlier judgments on works contracts including that of M/S. P.L. Adke Vs Wardha Municipal Corporation. And it was held that for all the above reasons and in line with the case law cited holds that the work that the MSME would not apply to the works contracts which were awarded by the Visakhapatnam Steel Plant in these cases by a process of tender. Some element of supply is involved in these works and that by itself is not enough for this Court to hold that the stand of the respondents is correct. Thus the whole genre of works contract is now taken out from the ambit of MSME Act.

Therefore, now normal rules relating to arbitration will apply to works contract and no interest for delay in payment can be recovered by a MSME party under a works contract. Also, neither Specified Companies (Furnishing of Information about payment to micro and small enterprise suppliers) Order, 2019 nor additional requirement per Schedule III to the Companies Act w.r.t. interest payable and dues of MSME and interest payable thereon are applicable to works contracts even if entered into with MSME parties.