ARTICLE
21 July 2025

Unfair Payment Terms And MSME Survival: Legal Approach For Negotiating Unjust Contractual Obligations

LP
Legitpro Law

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Legitpro is a leading international full service law firm providing integrated legal & business advisory services, operating through 5 locations with 100+ people. Our purpose is to deliver positive outcomes with our colleagues, clients and communities. The firm proudly serves a diverse clientele, including multinational corporations, foreign companies—particularly those from Japan, China, and Australia and dynamic startups across various industries. Additionally, the firm is empanelled with the Competition Commission of India (CCI) to represent it before High Courts across India. Our Partners also serve as Standing Counsel for prestigious institutions such as the Government of India (GOI), the National Highways Authority of India (NHAI), Serious Fraud Investigation Office (SFIO) and the Union Public Service Commission (UPSC).
In the realm of commercial contracting, power imbalances frequently remain concealed in plain sight, nowhere is this more evident than in the payment terms.
India Corporate/Commercial Law

Introduction

In the realm of commercial contracting, power imbalances frequently remain concealed in plain sight, nowhere is this more evident than in the payment terms. In a particular instance, our client, a duly registered Micro, Small and Medium Enterprise (MSME), entered into a contractual agreement with a considerably larger corporate entity under what initially appeared to be a highly advantageous business opportunity. The deliverables were distinctly outlined, our client possessed the requisite capabilities, and the scope of work fell comfortably within their operational capacities. However, concealed within the contract was a 120-day payment term, a provision that would soon precipitate into a cash flow crisis. Through a meticulously crafted strategy that integrates statutory protections, commercial leverage, and proficient negotiation, we successfully revised the payment terms, ensuring legal compliance while preserving the commercial relationship. This case highlights substantial inquiries concerning the enforceability of inequitable contractual provisions, the practical efficacy of MSME protection laws, and the essential role that legal practitioners play as both legal advisors and commercial strategists.

Unfair Payment Terms: Vulnerability in MSME Agreements

In this particular instance, our client, a SaaS based MSME located in Gurugram, had entered into an agreement with a prominent multinational manufacturer within the consumer electronics sector. This contract represented a significant opportunity, providing access to a prestigious supply chain and enhanced market visibility. However, the executed Master Service Agreement included the following provision, "Payments shall be made within 120 (one hundred and twenty) days from the date of receipt of invoice". At first glance, it seemed to be a conventional boilerplate clause. Yet, within two months of execution, its detrimental effects became evident. While the client was required to pay its own vendors and staff on a 30 to 45 day cycle, its receivables remained trapped in a 120 day delay. Cash flow was restricted, credit lines were drained, and internal payments fell behind, thereby endangering our client's financial stability and reputation.

Protections for MSMEs

The initial phase of our legal audit involved assessing whether our client could leverage the protections granted to MSMEs under Indian law. Fortunately, our client was duly registered under the Micro, Small and Medium Enterprises Development Act, 2006 ("MSMED Act"). Section 15 of the Act specifies that "Where any supplier supplies any goods or renders any services to any buyer, the buyer shall make payment therefore on or before the date agreed upon between him and the supplier in writing or, where there is no agreement in this behalf, before the appointed day. Provided that in no case the period agreed upon between the supplier and the buyer in writing shall exceed forty-five days from the day of acceptance or the day of deemedacceptance.1" This provision is mandatory and supersedes any contractual terms to the contrary, thereby rendering any clause that extends the payment period beyond 45 days null and void in relation to a registered MSME. Additionally, Section 16 enforces a statutory penalty in the form of compound interest, calculated monthly at three times the RBI's announced bank rate, for any delays beyond the stipulated timeframe. Importantly, this interest accumulates automatically, without the necessity for a specific contractual clause.

Apart from the MSMED Act, we reviewed the legitimacy of the 120 day payment term as per the general contract law principles. Indian legal principles regarding unconscionable contracts have significantly evolved since the Supreme Court's groundbreaking ruling in Central Inland Water Transport Corporation Ltd. v. Brojo Nath Ganguly2, where the Court struck down a provision it deemed fundamentally unfair and imposed under conditions of unequal bargaining power. In this instance, the Court determined that a contract, which is unconscionable, unjust, and unreasonable, may be deemed void as it contradicts public policy. Although commercial contracts between private entities are typically assumed to be freely negotiated, a notable disparity in bargaining power, such as that between a large multinational corporation and a small supplier, necessitates closer examination. A 120-day payment term, imposed unilaterally and absent any mutual interest or escalation provision would arguably fit into this category.

In addition to legal mandates, a multitude of governmental directives and policy documents has further strengthened our position. The Reserve Bank of India has underscored the significance of timely payments to MSMEs through various notifications, crucial for maintaining their working capital cycles3. Likewise, the Ministry of Finance has called on buyers, especially public sector entities, to adhere to the payment timelines stipulated by the MSMED Act in its public procurement guidelines. In the aftermath of the COVID economy, the relevance of these protections has grown significantly. The Atmanirbhar Bharat Abhiyan (Self-Reliant India Campaign) has specifically underscored the vital role of MSMEs, offering both financial assistance and policy backing to ensure their sustainability and highlight their essential role in the economy.

Strategic Intervention and Representations

Our approach was to deal with the counterparty in good faith, using statutory protections existing for MSMEs and their commercial realities.We submitted a formal representation to the counterparty's legal and procurement teams, outlining the following key points in our ongoing negotiations:

  1. We pointed that the 120 day clause conflicts with Section 15 of the MSMED Act, which requires payments to MSMEs within 45 days.
  2. We emphasised that any delays in addressing the payment terms could result in financial difficulties and reputational harm to our Client.
  3. We also pointed to the newly introduced Section 43B(h) of the Income Tax Act, 19614. This provision, introduced by the Finance Act, 2023, prohibits tax deductions in the current financial year for payments to MSMEs made beyond the statutory timeline of the MSMED Act. We noted that adhering to this framework is not only legally wise but also commercially advantageous, given the heightened compliance demands and scrutiny that larger businesses are experiencing.
  4. We also pointed out that going ahead with such payment practices could adversely affect the counterparty's reputation as a responsible corporate entity, especially considering the growing regulatory and stakeholder oversight regarding fair treatment of MSMEs.
  5. On a commercial level, we highlighted that our client possessed a distinctive edge that they offered a tailored SaaS solution that would be thoroughly embedded within the counterparty's digital framework.

Within a span of three weeks, both the parties formalised the Master Services Agreement, encapsulating the results of their renegotiation. We were able to make the following notable changes:

  1. Reduction of the payment timeline to 45 days from the invoice date, thereby aligning the agreement with the MSMED Act and alleviating the client's working capital strain.
  2. Introduction of a usage based forecasting model to synchronise SaaS resource distribution with real time demand forecasts, facilitating proactive service scaling.
  3. Assurance of regular commercial assessments, guaranteeing that payment terms and operational arrangements would be routinely evaluated to ensure compliance with MSME standards and reflect current business dynamics.

This renegotiation not only reinstated financial stability for our client but also strengthened the commercial relationship, turning what could have been a contentious issue into a cooperative and future-focused partnership.

Key Takeaways and Conclusion

The case provides multiple significant insights for MSMEs and the legal advisors who support them. Registration under the MSMED Act is indispensable, without it the legal protections outlined in Sections 15 to 18 are rendered ineffective. MSMEs should regard this registration not merely as a bureaucratic requirement but as a vital protective measure. The review of contracts needs to encompass more than just primary terms like pricing or liability limits. Payment terms usually tucked away in the midst of complex agreements, can significantly influence a company's viability more immediately than a far-off indemnity clause. Legal entitlements should to be perceived as tools for negotiation, rather than instruments for conflict.

Ultimately, this case study reinforces an essential reality that contracts although enforceable, are not set in stone, particularly when they contravene public policy or statutory obligations. MSMEs, frequently underfunded and overlooked during the contracting phase, must acknowledge the power of their legal stance and confidently assert it. What ultimately safeguards a client is not solely the legal framework but the intentional and considered application of that legal framework which is grounded in sound business reasoning.

Footnotes

1 Section 15 (MSMED Act, 2006)

2 1986 AIR 1571 "Such contracts which affect a large number of persons or a group or groups of persons, if they are unconscionable, unfair and unreasonable are injurious to the public interest. To say such a contract is only voidable would be to compel each person with whom the party with superior bargaining power had contracted to go to Court to have the contract adjudged voidable. This would only result in multiplicity of litigation which no Court should encourage and also would not be in public interest. Such a contract or such a clause in a contract ought, therefore, to be adjudged void under section 23 of the Indian Contract Act, as opposed to public policy.

3 Reserve Bank of India. (n.d.).https://www.rbi.org.in/commonman/english/Scripts/Notification.aspx?Id=924

4 Chokhawala, C. M. S. (2025, May 13).Section 43B(h) Of Income Tax Act: Applicability, Date, Limit, Example. Cleartax.https://cleartax.in/s/section-43bh-of-income-tax-act

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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