IN THE HIGH COURT OF HIMACHAL PRADESH, SHIMLA. Arb. Case No.55/2005 Reserved on: 20.10.2008 Decided on: 16.12.2008 State of Himachal Pradesh. …Petitioner. Versus UHL Power Company Limited. …Respondent. Coram The Hon’ble Mr. Justice Rajiv Sharma, J. Whether approved for reporting ?1. yes For the petitioner : Mr. J.S. Bhogal, Sr. Advocate with Mr. Ashwani Sharma, Advocate. For the Respondent : Mr. Randeep Singh Rai, Sr. Advocate with Mr. Ajay Kumar, Mr. Abhishek Mishra, Ms. Meenakashi Dogra and Mr. Deepinder Brar, Advocates. Rajiv Sharma, J. This application under section 34 of the Arbitration and Conciliation Act, 1996 (hereinafter referred to as ‘the Act’ for brevity sake) has been filed for setting aside/modifying order dated 5.6.2005 passed by Justice R.K. Mahajan (Retired), learned Sole Arbitrator. Brief facts necessary for the adjudication of this arbitration case are that by an advertisement dated 29.10.1990, the State Government invited 1 Whether the reporters of Local Papers may be allowed to see the judgment? No 2 offers for the development of ten hydro-electric power projects in the State of Himachal Pradesh from private sector in line with the policy guidelines issued by the Government of India. These projects were to be developed on the following sites: Project Location i. Larji Mandi District ii. Uhl-III Mandi District iii. Ghanvi Kinnaur District iv. Baspa-II Kinnaur District v. Parbati-III Kullu District vi. Dhamwari-Sunda Shimla District vii. Malana Kullu District viii. Neogal Kangra District ix. Khauli Kangra District x. Hibra Chamba District In sequel to advertisement dated 29.10.1990, the Ballarpur Industries Limited (BILT) submitted their offer for development of either the Larji or Uhl-III hydro-electric power generation project on 24.11.1990. The company was called for negotiation/ discussion on 16.4.1991. The company submitted profile of their group of companies i.e. Thapar Group on 15.5.1991. A Memorandum of Understanding was signed between the Ballarpur Industries Limited (BILT) and the State Government on 10.2.1992. An agreement i.e. implementation agreement was signed between the parties on 22.8.1997. The State Government issued a show cause notice to the respondent-company on 1.1.1999 stating therein that as per clause 4.1 (a) and (b) it has failed to obtain TEC from CEA and the environmental clearance from the MOEF within one year from 22.8.1997. It was further alleged that as per clause 4.1 (c), the company was required to identify the purchaser of power and finalize power purchase agreements within one year from 22.8.1997. The company filed a detailed reply to the show cause notice on 25.1.1999. The principal stand of the 3 company in the reply was that TEC was to be obtained from CEA and most of the clearances were obtained and a close follow up was maintained with CEA for obtaining the remaining clearances, which would lead to the grant of TEC. As far as the clearance from MOEF was concerned, the stand of the company was that the application was filed in the year 1997 and as per the Government of India, a public hearing was mandatory for consideration of the MOEF clearance. A meeting of the expert committee constituted by MOEF to consider the project was held on 29.10.1998 and various clarifications sought by them were satisfactorily provided. Cumulatively it was stated that the clearances as stated in the show cause notice were beyond the control of the claimants. With regard to identifying the purchaser of power, it was stated that vide letter dated 9.10.1998, the State was informed that they had identified the purchaser of the power from the project and further negotiations could take place only after the claimant knew the exact project cost. With regard to design of the project and finalization of EPC contractor, it was mentioned that unless the mandatory clearances are obtained from the MOEF, it was not possible to finalize the EPC contract though the claimant had received quotations from reputed agencies. With regard to acquisition of land in project area, the stand of the company was that the necessary formalities were required to be done by the State Agencies. Regarding financial closure, it was stated that unless all the clearances are in hand, including taking possession of the land for the project, no financial institution would commit funds for the project. The State Government terminated the implementation agreement on 1.3.1999. The claimant invoked clause 20 of the agreement vide letter dated 22.7.1999. An application under section 11 (6) of the Act for appointment of Presiding Arbitrator was 4 preferred by the respondent-company. Mr. Justice R.K. Mahajan (Retired) was appointed as Arbitrator vide order dated 10.1.2003. In sequel to the appointment of Mr. Justice R.K. Mahajan (Retired) as Arbitrator, the respondent-company filed a statement of claim. The State Government filed reply to the same and also filed a counter-claim. The company has filed the detailed rejoinder to the reply filed by the State Government. The respondent-company has prayed for an arbitral award to the tune of Rs. 232,36,25,242.35 with interest @ 18% per annum as per relief clause of the statement of claim. The State Government had prayed for an award of Rs. 7.95 crores alongwith interest @ 18% per annum from 1.3.1999 till the payment of the entire amount of the counter-claim. It will be apt at this stage to reproduce paras 61, 62, 63 and 64 of the claim petition giving therein the details of the permissions which had been obtained by the claimant by January, 1999 and the steps taken regarding the CEA clearances in order to obtain the TEC and the sub authorities of the CEA, who had to give the clearance with details of the permission still pending with the authorities concerned. Paras 61, 62, 63 and 64 of the claim petition read thus: “Para 61. Despite the above, by January, 1999, the following permissions had been obtained by the Claimants: i) no objection clearance under Section 29 (2) of the Supply Act for setting up the Project; ii) clearance under Section 18A of the Supply Act; iii) clearance under Section 72 of the Supply Act; iv) approval of the Respondent for making available land for the Project; and v) air and water pollution clearance by the State Pollution Control Board. Para 62. Regarding the CEA, in order to obtain the TEC, clearance has to be obtained from 14 sub-authorities. Of these 14 sub-authorities, by January, 1999, permission was obtained from the following:- i) Hydrology 5 ii) Gates Design iii) Barrage & Canal Design iv) System Planning & Appraisal Division v) Power Potential Studies vi) Electro-Mechanical Design Para 63. The following sub-authorities of the CEA had yet to give their clearance: i) Hydro Civil Design ii) Civil Cost Appraisal iii) Construction Machinery Consultancy iv) Inter State matters v) Flood Design Studies vi) Electro-Mechanical Cost Appraisal vii) Legal Aspects viii) Financial & Commercial Appraisal Para 64. Among the permissions still pending were the following: i) Clearance for inter-state utilization of water to be obtained from the Respondent’s Department of MPP & Power. ii) Notification of acquisition of land by the Respondent’s Department of Revenue. iii) Forest clearance from the Respondent’s Department of Forests. iv) Clearance from the Respondent’s Department of Fisheries. v) Clearance from the MOEF, which can only be obtained after various clearances by the Respondent. vi) The TEC, which would only be obtained after MOEF clearance.” The claimant has also sought a sum of Rs. 26,08,89,107.35 for the expenditure incurred with effect from August, 1992 till the termination of the project in March, 1999, including amounts incurred till 31.1.2003, in the following manner: “During the period between the signing of the MOU in August 1992 and termination of the Project in March, 1999, a sum of Rs. 9,10,26,558.74 was incurred as expenditure on the Project. This figure includes amounts incurred till 31.1.2003. The expenditure after termination of the implementation Agreement is on account of administration costs and legal 6 fees. The interest accruable on the above figure is Rs. 16,98,62,548.61, making the total amount due from the respondent, Rs. 26,08,89,107.35. The yearly break-up of amounts spent and interest on them is contained in a statement annexed as Annexure ‘A’.” The termination of the agreement has been assailed in the following manner: “The termination is mala fide, illegal, arbitrary and unreasonable for the following reasons: i) According to clause 4.2 of the Implementation Agreement, it was mandatory for the Respondent to constitute a multi-disciplinary committee to monitor the progress of the project periodically. The committee was required to monitor the progress of steps taken/being taken by the company as per the implementation agreement and to make its recommendations to the respondent. Clause 4.2. is reproduced herein below: “The Government shall constitute a multi-disciplinary committee comprising representatives of the Government, the Board and the company to monitor the progress of the Project periodically. The Committee shall meet quarterly. The committee shall monitor the progress of steps taken/being taken by the company as per requirements mentioned in clause 4.1 and also implementation of the project as per Schedule mentioned in clause 2.7 above. The committee shall make its recommendations to the Government.” However, the said committee was not constituted by the respondent for reasons best known to them. On account of this, there were delays in obtaining clearances from various State Departments. The constitution of the committee was of utmost importance so that the various clearances envisaged in clause 4.1 could be obtained within one year from 22.8.97. This not having been done the Claimants could not be blamed for not obtaining the necessary clearances within the time stipulated. ii) Furthermore, the respondent did not co-operate with the Claimant in expediting the clearances from the various State Departments. According to clause 3.1 and 3.2 of the Implementation Agreement, the respondent had agreed to 7 grant all necessary permissions to establish the project and to provide all possible assistance and cooperation to the Claimants for expediting various statutory and non- statutory clearances required for implementation of the project from various State Government and Central Government Departments. However, the respondent failed to act in accordance with the agreement. iii) The sole ground on which the show cause notice dated 1.1.99 was issued, was the alleged failure on the part of the Claimants to meet their obligation under Clause 4.1 of the Agreement. As was made clear by the claimants in their reply, the TEC by the CEA would only be obtainable after the MOEF clearance was obtained, and the MOEF clearance would only be given after forest clearance was granted by the Respondent’s Department of Forests. In other words, the failure of the Respondent to act made it impossible for the Claimants to fulfill their obligations before the Termination. Apart from this, the full period during which the Claimants could obtain the various permissions required under Clause 4.1 of the Agreement was to expire only in August, 1999. The Termination, therefore, was premature and within the contractual period itself. iv) The above makes clear that the Respondent acted arbitrarily and with total non-application of mind. The Respondent failed to consider: a. that it was its own inaction that prevented the Claimants from fulfilling their obligations in the matter of obtaining permissions; and b. that the Termination was within the tenure of the implementation agreement. v) The claimants understand that similar projects in other parts of the State have also been unable to obtain their Central Government clearance. Their agreements have not been revoked. Therefore, the termination was discriminatory and violative of Article 14 of the Constitution. The action of the Respondent was malafide and for collateral purposes. vi) The termination was also in flagrant violation of the principles of natural justice. No opportunity of hearing was granted despite the claimants’ specific requests in 8 this regard, nor does the termination indicate the reasons why the claimants’ submissions in their reply to the show cause notice were not acceptable. vii) The termination is arbitrary and whimsical and totally against the interests of the general public at large: a. The Respondent is seeking to deprive the Claimants from executing the Project, a party whose superior research and investigation demonstrated to the Respondent that what was original conceived by it as a 70 MW plant was enhanced by the Claimants to 100 MW. b. In the course of its research and development, BILT were able also to demonstrate how the respondent had paid no attention to the ecological aspects, which have to be of paramount importance in any such project. Through the use of superior technology, the claimants showed how both plant and pipelines could be underground, obviating the necessity of acquiring valuable arable land. Regarding afforestation, the respondent’s budget contained a mere Rs. 8,00,000.00 as against Rs. 5,45,99,000.00 by the Claimants.” The claimants have based their claim on the basis of the following pleadings contained in paras 97 to 105, which read thus: “97. In the events that have happened, however, in which the Respondent has delayed the process of arbitration, the fact that the Project has been awarded to the HPSEB, and that no interim stay was granted by the Hon'ble High Court, the Claimants are no longer interested in the reliefs of specific performance and injunction and confine their claim to damages. 98. The Claimants submit that when a contract has been broken, the party who has suffered by such breach is entitled to receive from the party who has broken the contract, compensation for any loss or damage caused thereby which only arose in the usual course of things from such breach, or where the parties 9 knew when they made the contract, to be likely to result from the breach of contract. The Claimants claim damages based on the loss of profit which they expected to earn by executing the Project. 99. The expected loss of profit in the present case is the amount which would accrue to the Claimants annually in forty years during which they are entitled, in terms of the Implementation Agreement, to operate the power plant. Since, however, this full amount, which would accrue to the Claimants over a period of time, is being claimed today, the value of the amount in today's terms, known under principles of finance as net present value (NPV), is being claimed. The basis on which NPV is calculated, the particular method used to arrive at the amount due to the Claimants, and the computation of damages,)s -explained in Paragraphs 98 to 100 below. 100. There are three methods by which valuation is done: (i) 'Comparable Company Analysis" by which the fair market value of a business is obtained. by comparing it with similar companies, the shares of which are publicly traded. (ii) "The Underlying Asset Approach" by which the liabilities of a company are deducted from its assets. (iii) “The discounted Cash Flows” method (DCF) by which the expected future cash flows are calculated by a prescribed formula. It is the third method which is relevant for the computation of damages in the present case since it is the expected profit and not the market value of a company which is in issue. 101. The formula for DCF valuation and the principles on which it is based are as under: (i) DCF is based on the concept of time value of money. By this concept, the present value of future cash flows is calculated, i.e. the value of cash flows which would be received in the future, if they are actually received today. 10 (ii) For instance, Rs.100.00 received today is worth more than Rs.100.00 received tomorrow. This is because Rs.100.00 received today can be invested (for the purposes of illustration, at 10%) to accumulate to Rs.110.00 at the end of the year. (iii) Conversely, if an amount due in the future, is received today, its value, or NPV, is lesser because it is received before it is due. For instance, the NPV of Rs.1 00.00 recoverable at the end of one year is Rs.90.00 today. (vi) The present value of future cash flows is calculated by determining the rate of return which would accrue in investment opportunities which are similar. This rate is referred to as the "discounting" rate or the "opportunity cost" of capital, since it is a return which a person foregoes because the money is invested in the Project. (v) The accepted formula to arrive at present value is: Cash Flow ----------------------- (1 + rate of interest) " No. of years 102. Applying the principles of NPV to the facts of the present case, the Claimants claim as damages, an amount of Rs.186,27,36,135.00 computed as under: (i) Under the two part tariff system in the Tariff Notification in force today, a generating company is assured of a return of 16% of its equity capital over and above all expenses provided it achieves normative availability (90% availability of the installed capacity of a station) in a 90% dependable year. In other words, unless a generating company is itself in default, its profit is assured regardless of generation or consumption. (ii) Accordingly, the "discounting" rate has been taken at 7%, which is the rate of return which would be received from an investment free of any risk, such as Government Bonds. 11 (iii) Apart from the amount actually invested by the Claimants, no other costs are to be adjusted against the yearly profit which would accrue once the plant was in operation, since all costs are taken into account while fixing the tariff per unit of electricity. (iv) The total project cost, as submitted by the Claimants in the Cost updation of January 1996 and forwarded by the HPSEB to the CEA, was Rs.796,50,00,000.00. In order to generate this sum for execution of the Project, the Claimants needed an equity capital amounting to 28% of the Project cost, i.e. Rs.223,20,00,000.00. (v) The amount of Rs.223,20,00,000.00 must be deducted from the present value of the sum total of the yearly profit which would accrue to the Claimants over 40 years, since this amount is an investment made by it or on behalf of the Claimants. (vi) In terms of the Implementation Agreement, the Claimants were to commission the plant within four years; therefore, the figure of Rs.223,20,00,000.00 has been divided to spread over 4 years, i.e. Rs.55,80,00,000.00 per year. (vii) 16% of Rs.223,20,00,000.00 is Rs.35,70,000.00. The full expected profit which the Claimants would have earned over 40 years is Rs.35,70,000 x 40 = Rs.1428,00,00,000.00. From this figure the amount of Rs. 223,20,00,000.00 invested by the Claimants must be deducted, reducing the figures to Rs.12,04,80,00,000.00. The present claim of Rs.186,67,36, 135.00 is the NPV of Rs. 12,04,80,000.00. (viii) The present value of each figure in the chart, in sub-paragraph (xii) below, has been calculated by applying the formula in paragraph 100 (v) above. (ix) For instance, the present value of the. investment of Rs.55,80,00,000.00 in Year 2, on the expiry of one year is: 55,80,00,000.00 -------------- ---------- = Rs.52,14,95,327.00 12 (1 + 0.07) 1 (x) Similarly, the present value of the yearly profit, of Rs.35,70,00,000.00 has been calculated from year to year. The value of this fixed annual amount diminishes each year, from Rs.27,23,53,591.00 in Year 5 to Rs.1,94,61,028.00 in Year 44. (xi) Since in terms of the Implementation Agreement, the plant was to be commissioned within four years of the obtaining of permissions, it has been assumed that no profit would accrue to the Claimants before August, 2003. (xii) The following chart sets out the figures on the basis of which the present claim of Rs.186,67,36,135.00 has been computed: YEAR AMOUNT PRESENT VALUE Equity 1 - 55,80,00,000.00 - 55,80,00,000.00 Equity 2 - 55!80,00,000.00 - 52,14,95,327.00 Equity 3 - 55,80,00,000.00 - 48,73,78,810.00 Equity 4 - 55,80,00,000.00 - 45,54,94,215.00 Return on Equity @ 16% 5 35,70,00,000.00 27,23,53,591.00 Return on Equity @ 16% 6 35,70,00,000.00 25,45,36,066.00 Return on Equity @ 16% 7 35,70,00,000.00 23,78,84,174.00 Return on Equity @ 16% 8 35,70,00,000.00 22,23,21,658.00 Return on Equity @ 16% 9 35,70,00,000.00 20,77,77,250.00 Return on Equity @ 16% 10 35,70,00,000.00 19,41,84,346.00 Return on Equity @ 16% 11 35,70,00,000.00 18,14,80,697.00 Return on Equity @ 16% 12 35,70,00,000.00 16,96,08,128.00 Return on Equity @ 16% 13 35,70,00,000.00 15,85,12,269.00 Return on Equity @ 16% 14 35,70,00,000.00 14,81,42,308.00 Return on Equity @ 16% 15 35,70,00,000.00 13,84,50,775.00 Return on Equity @ 16% 16 35,70,00,000.00 12,93,93,229.00 Return on equity @ 16% 17 35,70,00,000.00 12,09,28,251.00 Retrun on equity @ 16% 18 35,70,00,000.00 11,30,17,057.00 Return on Equity @ 16% 19 35,70,00,000.00 10,56,23,418.00 Return on Equity @ 16% 20 35,70,00,000.00 9,87,13,475.00 Return on Equity @ 16% 21 35,70,00,000.00 9,22,55,584.00 Return on Equity @ 16% 22 35,70,00,000.00 8,62,20,172.00 Return on Equity @ 16% 23 35,70,00,000.00 8,05,79,600.00 Return on Equity @ 16% 24 35,70,00,000.00 7,53,08,037.00 Return on Equity @ 16% 25 35,70,00,000.00 7,03,81,343.00 13 Return on Equity @ 16% 26 35,70,00,000.00 6,57,76,956.00 Return on Equity @ 16% 27 35,70,00,000.00 6,14,73,791.00 Return on Equity @ 16% 28 35.70.00.000.00 5,74,52,141.00 Return on Equity @ 16% 29 35,70,00,000.00 5,36,93,590.00 Return on Equity @ 16% 30 35,70,00,000.00 5,01,80,925.00 Return on Equity @ 16% 31 35,7-0,00,000.00 4,68,98,061.00 Return on Equity @ 16% 32 35,70,00,000.00 4,38,29,963.00 Return on Equity @ 16% 33 35,70,00,000.00 4,09,62,583.00 Return on Equity @ 16% 34 35,70,00,000.00 3,82,82,787.00 Return on Equity @ 16% 35 35,70,00,000.00 3,57,78,306.00 Return on Equity @ 16% 36 35,70,00,000.00 3,34,37,669.00 Return on Equity @ 16% 37 35,70,00,000.00 3,12,50,158.00 Return on Equity @ 16% 38 35,70,00,000.00 2,92,05,755.00 Return on Equity @ 16% 39 35,70,00,000.00 2,72,95,098.00 Return on Equity @ 16% 40 35,70,00,000.00 2,55,09,438.00 Return on Equity @ 16% 41 35,70,00,000.00 2,38,40,596.00 Return on Equity @ 16% 42 35,70,00,000.00 2,22,80,931.00 Return on Equity @ 16% 43 35,70,00,000.00 2,08,23,300.00 Return on Equity @ 16% 44 35,70,00,000.00 1,'94,61,028.00 (xiii) The sum total of the four figures in Year 1 to Year 4 amounts to Rs.202,23,68,352.00, and that of Year 5 to Year 44, Rs.388,51,04,487.00. (xiv) By deducting Rs. 202,23,68,352.00 from Rs. 388,51,04,487.00, the claimants quantify their claim at Rs.184,27,36, 135.00, along with interest. (xv) It is pertinent that the equity capital on which a 16% return was assured, has been calculated as a percentage of costs in 1993. If the Claimants were to execute the Project today, they would naturally have to revise these costs. With any such revision, the equity capital would also have to be raised to a larger figure leading, consequently to a larger guaranteed return per year. On this basis, the legitimate due of the Claimants could be as high as Rs.235,63,00,000.00. (xvi) For instance, taking cost escalation at a conservative figure of 4.0% per year, the escalation in prices from September 1993 to December 1999, is 26.5%. The estimated project cost, on current prices, would be Rs.1008,00,00,000.00 as against Rs.7,96,50,00,000.00 taken 14 for the purposes of the present claim. The equity capital needed for a project cost of Rs.1008,00,00,000.00 would be Rs.282,24,00,000.00, on which the Claimants would be assured a yearly return of Rs.45,15,84,000.00. (xvii) Despite the above, the Claimants have confined their claim as the lower figure. In other words, the computation of damages is, in fact, substantially less than the amount that could be claimed. 103. The Claimants state that the Termination was arbitrary and whimsical and opposed to the principles of fairness to which the State is bound., The Termination was also premature and illegal. The Claimants claim a sum of Rs.20,00,00,000.00 (Rupees twenty crores only) as general damages for unlawful termination of the Implementation Agreement. 104. The Claimants also claim all expenses incurred by them amounting to Rs. 26,08,89,107.35 as set out in Paragraph 66 above and Annexure 'A'. 105. Accordingly, the Respondent is bound and liable to pay to the Claimants a total sum of Rs. 232,36,25,242.35 as under: (i) To loss of profit Rs.186,27,36,135.00 (ii) To general damages Rs. 20,00,00,000.00 (iii) To expenses Rs.26,08,89,107.35 --- --- ----- --------------- --- TOTAL Rs. 232,36,25,242.35 ------------- -----------------“ By way of preliminary objections, the stand of the State was that direct damages (expenditure incurred), consequential damages (loss of profit which the claimant expected to earn by executing the project) and general damages all of which set of claims for damages were not covered under Arbitration clause 20 of the Implementation Agreement and thus, the dispute