Can MSME Disputes Be Settled through Mediation?

Key Takeaways

• MSME disputes can be settled through mediation or other consensual dispute resolution processes where the subject matter is legally capable of settlement and the parties are willing to negotiate.
• For delayed-payment disputes involving qualifying micro and small enterprises, Section 18 of the MSMED Act, 2006 presently requires conciliation before the dispute proceeds to arbitration.
• The MSEFC may conduct conciliation itself or refer the dispute to an institution or centre providing alternative dispute resolution services.
• The Mediation Act, 2023 creates a broader framework for mediation and also proposes changes to the MSMED Act, but several important substantive provisions are not yet in force.
• MSME disputes concerning delayed payments, contract performance, quality of goods, service obligations and continuing business relationships may be suitable for negotiated settlement.
• An existing arbitration clause does not necessarily exclude the statutory MSEFC mechanism where Section 18 of the MSMED Act applies.
• Mediation and conciliation may help businesses reach flexible settlements involving payment schedules, revised obligations, replacement goods or other commercially workable arrangements.

What Are MSME Disputes?

MSME disputes are commercial disagreements involving micro, small or medium enterprises. Such disputes commonly arise between suppliers and buyers, manufacturers and distributors, service providers and clients, contractors and principal employers, or business partners.

Common MSME disputes include:

Add LawBhoomi as your preferred source on Google.

Add Now →

• Delayed payment disputes: A buyer may fail to pay an invoice within the agreed period, resulting in a claim for the principal amount and statutory interest. Delayed payments to micro and small enterprises are specifically regulated under the MSMED Act, 2006.
• Contractual disputes: Parties may disagree about pricing, performance obligations, timelines, warranties, termination clauses or interpretation of contractual terms.
• Quality disputes: A buyer may allege that goods or services do not meet agreed specifications, while the supplier may dispute the allegation.
• Supply disputes: Disagreements may arise concerning delayed delivery, incomplete supply, cancellation of orders or rejection of goods.
• Service disputes: These may concern the scope, quality or completion of professional, technical or other commercial services.
• Business relationship disputes: Issues can also arise in dealership, distribution, franchise, partnership, outsourcing and long-term supply arrangements.

Many of these disputes involve continuing commercial relationships. This makes mediation particularly relevant because it focuses on settlement rather than determining which party must legally defeat the other.

Can MSME Disputes Be Settled through Mediation in India?

MSME disputes can generally be resolved through mediation where the dispute is capable of settlement and the parties are willing to negotiate.

Mediation is a consensual dispute resolution process in which a neutral third person assists parties in discussing their differences and exploring an acceptable settlement. The mediator does not ordinarily impose a decision on the parties.

For MSMEs, however, an important distinction must be made between voluntary mediation generally and the statutory mechanism under Section 18 of the Micro, Small and Medium Enterprises Development Act, 2006.

Explore practical law courses to build career-ready legal skills.

Explore Courses →

The presently operative Section 18 specifically requires conciliation rather than using the term mediation. If conciliation fails, the dispute can proceed to arbitration.

Therefore, MSME disputes may be settled consensually, but the precise procedure depends upon the legal route being used.

What Does Section 18 of the MSMED Act Provide?

Section 18 of the MSMED Act creates a specialised mechanism for disputes concerning amounts due to a qualifying supplier under Section 17.

Under Section 18(1), any party to a dispute relating to an amount due under Section 17 may make a reference to the Micro and Small Enterprises Facilitation Council, commonly known as the MSEFC.

The dispute resolution mechanism broadly works in two stages.

Stage 1: Conciliation

After receiving the reference, the MSEFC must either:

• conduct conciliation itself; or
• refer the dispute to an institution or centre providing alternative dispute resolution services for conciliation.

The present Section 18(2) applies the conciliation provisions of Sections 65 to 81 of the Arbitration and Conciliation Act, 1996 to this process.

The objective at this stage is to determine whether the buyer and supplier can resolve the payment dispute through negotiation and settlement instead of moving immediately to adjudication.

Join live law courses and learn directly from legal professionals.

View Live Courses →

Stage 2: Arbitration

Where conciliation is unsuccessful and terminates without settlement, Section 18(3) provides that the Council may:

• itself take up the dispute for arbitration; or
• refer it to an institution or centre providing alternative dispute resolution services for arbitration.

The Arbitration and Conciliation Act, 1996 then applies to the dispute as though the arbitration arose from an arbitration agreement under Section 7 of that Act.

Thus, the structure of Section 18 gives settlement an opportunity before the dispute moves into an adjudicatory arbitration process.

Is Conciliation the Same as Mediation?

Mediation and conciliation are both consensual forms of alternative dispute resolution. In both processes, a neutral third party assists disputing parties in attempting to reach a mutually acceptable settlement.

Traditionally, Indian legislation has used the terms separately in different contexts. Section 18 of the MSMED Act currently refers specifically to conciliation.

The Mediation Act, 2023, however, takes a broader approach. Section 3(h), which forms part of the provisions brought into force, defines mediation broadly and includes processes referred to as mediation, pre-litigation mediation, online mediation, community mediation, conciliation or an expression of similar import.

This shows a legislative move towards bringing mediation and conciliation within a more unified framework. However, their legal treatment may still depend upon the statute and procedure governing the particular dispute. The difference between arbitration and conciliation is also important because arbitration ultimately produces an adjudicatory award, while conciliation seeks agreement between the parties.

How Does the Mediation Act, 2023 Affect MSME Disputes?

The Mediation Act, 2023 was enacted to promote institutional mediation and provide a structured framework for resolving commercial and other disputes through mediation. However, the Act has not been brought into force in its entirety.

The notification dated 9 October 2023 brought specified provisions into force, including Sections 1, 3 and 26, Sections 31 to 38, Sections 45 to 47, Sections 50 to 54 and Sections 56 and 57. Several provisions governing substantive mediation proceedings were not included in that commencement notification.

Access subject-wise law notes for free on LawBhoomi.

Explore Notes →

This distinction is important while discussing MSME mediation.

Proposed Change to Section 18 of the MSMED Act

The Seventh Schedule to the Mediation Act, 2023 contemplates replacing the existing Section 18 of the MSMED Act.

Under the substituted provision, the MSEFC would conduct mediation itself or refer the matter to a mediation service provider under the Mediation Act, 2023. If mediation failed, the matter could proceed to arbitration.

However, the relevant amendment provision has not been brought into force under the presently applicable commencement framework. Therefore, the operative Section 18 continues to use the existing conciliation-before-arbitration mechanism.

This distinction prevents the enacted future framework from being incorrectly presented as the present procedure.

Which MSME Disputes Are Suitable for Mediation?

A wide range of commercial disputes can be suitable for mediation, including disagreements involving MSMEs.

Delayed Payment Disputes

Delayed payments are among the most important disputes affecting micro and small enterprises. Mediation or conciliation can allow parties to negotiate matters such as the amount payable, repayment schedules, disputed invoices and settlement timelines.

Contract Performance Disputes

Where one party alleges breach of a commercial contract, mediation can help identify the exact areas of disagreement and explore practical solutions.

For example, the parties may agree to revised timelines, replacement goods, additional performance, reduced claims or modified contractual obligations.

Quality and Specification Disputes

A buyer may refuse payment because goods allegedly failed to meet required standards. The supplier may dispute the complaint or contend that the specifications were satisfied.

Instead of treating the matter purely as a claim for damages, mediation may allow the parties to consider replacement, repair, price adjustment or partial payment.

Distribution and Dealership Disputes

Disputes involving distributors, dealers and suppliers often arise from territory allocation, pricing, incentives, unpaid dues, termination or exclusivity arrangements.

Where the parties wish to continue their relationship, mediation may provide greater flexibility than adjudication.

Service Agreement Disputes

MSMEs providing consultancy, technology, marketing, professional, maintenance or other services may face disagreements over deliverables, timelines, fees or performance standards.

These disputes may be resolved by restructuring obligations or agreeing on payment linked to completion of specified work.

Which Enterprises Can Use the MSEFC Mechanism?

An important distinction exists between the broad expression MSME and the particular statutory remedy available under Chapter V of the MSMED Act.

Sections 15 to 24 of the MSMED Act deal with delayed payments to micro and small enterprises. Section 18 operates in relation to amounts due to a “supplier” within the statutory framework.

Therefore, merely describing an entity as an MSME does not necessarily mean that every dispute involving that enterprise can automatically be referred to an MSEFC.

The enterprise must satisfy the applicable statutory requirements for claiming the protection of the delayed-payment mechanism.

This is particularly important because the term MSME includes micro, small and medium enterprises, whereas the special delayed-payment machinery focuses upon qualifying micro and small enterprise suppliers.

What Payment Protection Does the MSMED Act Give to Suppliers?

The MSMED Act contains specific protections intended to reduce delayed payments to micro and small enterprises.

Payment Period under Section 15

Section 15 requires a buyer to make payment for goods supplied or services rendered on or before the agreed date.

Where there is a written agreement, the agreed payment period cannot exceed 45 days from the day of acceptance or deemed acceptance.

Interest under Section 16

If the buyer fails to make payment within the required period, Section 16 imposes compound interest with monthly rests at three times the bank rate notified by the Reserve Bank of India, subject to the statutory conditions.

Recovery under Section 17

Section 17 makes the buyer liable to pay the amount due for goods supplied or services rendered together with interest calculated under Section 16.

A dispute concerning such an amount may then be referred to the MSEFC under Section 18.

What Happens during MSME Conciliation?

Once a matter enters the conciliation stage, the purpose is not to decide the dispute through a judgment or award. Instead, the process attempts to help both sides identify whether a negotiated resolution is possible.

Issues commonly discussed may include:

• the amount actually outstanding;
• whether particular invoices are disputed;
• reasons for withholding payment;
• claims relating to defective goods or incomplete services;
• interest liability;
• repayment schedules;
• settlement through instalments;
• adjustments against future transactions; and
• continuation or termination of the business relationship.

A successful settlement can prevent the matter from moving into arbitration. A settlement agreement reached through conciliation also carries legal consequences under the applicable statutory framework.

Where no settlement is possible, Section 18 permits the matter to proceed to arbitration according to the statutory process.

Can an Arbitration Clause Prevent an MSME Reference?

The existence of an arbitration agreement or arbitration clause in a commercial contract does not by itself eliminate the statutory mechanism under Section 18 where the MSMED Act applies.

The Supreme Court in Gujarat State Civil Supplies Corporation Ltd. v Mahakali Foods Pvt. Ltd. examined the relationship between the MSMED Act and contractual arbitration arrangements. The Court recognised the overriding effect of the MSMED Act in matters governed by the special statutory mechanism.

Therefore, parties dealing with qualifying micro and small enterprises cannot assume that an ordinary arbitration clause automatically excludes the MSEFC process.

What Happens If Settlement Fails?

Failure of mediation or conciliation does not mean that the underlying claim ends.

Under the presently operative Section 18, unsuccessful conciliation is followed by arbitration. The Council may itself act as arbitrator or refer the matter to an ADR institution or centre.

The arbitration then results in an arbitral award determining the rights and liabilities of the parties.

Section 19 of the MSMED Act also contains an important safeguard concerning challenges to such awards. A buyer seeking to set aside a decree, award or order covered by the provision is generally required to deposit 75% of the amount in terms of the decree, award or order before the court entertains the application.

This provision strengthens the statutory protection available to qualifying suppliers.

Why Is Mediation Useful for MSME Disputes?

Mediation and conciliation can offer several practical advantages in business disputes.

Commercial Relationships Can Be Preserved

MSMEs often depend on recurring buyers, suppliers and service providers. Aggressive litigation may permanently damage a commercially valuable relationship.

A negotiated settlement can resolve the existing dispute while allowing future transactions to continue.

Flexible Settlements Are Possible

A court or arbitral tribunal normally decides legal rights and liabilities. Mediation can accommodate broader commercial solutions.

A settlement may involve instalments, revised timelines, replacement goods, discounts, future orders or other mutually acceptable arrangements.

Business Disruption May Be Reduced

Dispute proceedings can require substantial management attention. An early negotiated resolution may allow management to concentrate on business operations rather than prolonged legal proceedings.

Confidential Resolution May Be Possible

Commercial disputes may involve pricing information, client relationships, trade practices or other sensitive business information. Confidentiality in mediation is an important feature of the process, although confidentiality is subject to the applicable legal framework and recognised exceptions.

Parties Retain Greater Control

Unlike adjudication, where an external authority determines the outcome, mediation allows the parties themselves to decide whether the proposed settlement is commercially acceptable.

This reflects an important distinction between voluntary and mandatory mediation. Even where participation in a mediation process may be required, settlement itself ordinarily depends upon agreement between the parties.

When May Mediation Not Be Appropriate?

Not every MSME dispute should necessarily be resolved through mediation.

Mediation may be less suitable where:

• one party requires an urgent injunction or other immediate judicial relief;
• allegations involve fraud or serious misconduct requiring adjudication;
• a statutory issue requires an authoritative legal determination;
• one party refuses to negotiate genuinely;
• important third-party rights are involved;
• the proposed settlement would be unlawful; or
• the dispute concerns a right that cannot legally be compromised.

The suitability of mediation therefore depends on the nature of the dispute, the legal issues involved and the willingness of the parties to negotiate.

Where an MSME dispute is proposed to be pursued as a commercial suit and no urgent interim relief is contemplated, the separate requirements concerning pre-institution mediation under the Commercial Courts Act, 2015 may also become relevant depending upon the nature and value of the commercial dispute.

Mediation, Conciliation and Arbitration in MSME Disputes

The three mechanisms should not be treated as identical.

The distinction is particularly important because the term mediation is increasingly being used within India’s broader ADR framework, while the present text of Section 18 continues to formally refer to conciliation.

Conclusion

MSME disputes can be settled through mediation and other consensual dispute resolution mechanisms in India. For qualifying micro and small enterprise delayed-payment disputes, the MSMED Act provides a specialised statutory route through the MSEFC. Under the presently operative Section 18, the Council must first attempt conciliation before the matter moves to arbitration.

The Mediation Act, 2023 also signals a shift towards a more unified mediation framework and expressly contemplates replacing the existing MSMED conciliation mechanism with mediation. However, the relevant provisions have not yet been fully brought into force, making the existing Section 18 framework important in current practice.

For MSMEs, consensual settlement can be particularly useful because disputes often concern ongoing commercial relationships, unpaid invoices, contract performance and practical business issues. Where settlement is legally possible, mediation or conciliation can provide a flexible route for resolving the dispute without immediately proceeding to adversarial adjudication.