Governing law of arbitration agreements

This post has been adapted from a presentation made by Angeline Welsh at the Chartered Institute of Arbitrators’ International Arbitration Master Class on 15 November 2016

The governing law of arbitration agreements has been the subject of renewed focus.  It started with the English 2012 Court of Appeal case of Sulamérica Cia Nacional De Seguros S.A. and others v Enesa Engenharia S.A.[1] – a decision which was departed from by the Singapore High Court in FirstLink Investments Corp Ltd v GT Payment Pte Ltd and others[2] only to be subsequently re-instated by the same court earlier this month BCY v BCZ[3].  The debate surrounded the role of the concept of separability in determining the governing law of the arbitration agreement.

In this post I am going to suggest that:

• FirstLink was right, and that the rationale of the courts in Sulamérica and BCY is internally inconsistent when it comes to the issue of separability of the arbitration agreement; and
• while underplaying the role of separability in the current case law makes the approach to determining the governing law of the arbitration agreement complex, this complexity gives the court the flexibility to apply the governing law which preserves the validity of the arbitration agreement.

But, first I am going to start with the importance of the governing law of the arbitration agreement.

The importance of the law of the arbitration agreement

The governing law of the arbitration agreement – which I will refer to as the Governing Law – is not an esoteric topic.  It plays an important role, particularly in respect of the jurisdiction of the arbitral tribunal – which in turn will go to the enforcement of any arbitral award.[4]  The Governing Law could determine issues such as:

• Interpretation of the Arbitration Agreement, including its scope;
• Validity;
• Effect (e.g. implied term in English law that the parties will perform the award);
• Identification of the parties; and
• Termination of the arbitration agreement.[5]

The choice of Governing Law can make all the difference: consider the question as to whether non-signatories are bound by an arbitration agreement.  The position may well differ depending on the application law to the arbitration agreement.  Under French law, the “group of companies” doctrine may make it easier to join non-signatories, whereas English law takes a stricter approach[6].

The choice of Governing Law can make all the difference: consider the question as to whether non-signatories are bound by an arbitration agreement.

The difficulty is that typically an arbitration agreement will not specify its own governing law.  It will at the minimum specify the seat of the arbitration.  But, until recently at least, specifying the Governing Law was not seen as a key ingredient. Most underlying matrix agreements will also include a governing law clause specifying the law that will apply to the merits of any dispute – which I will refer to as the Substantive Law.

One of the more interesting and challenging aspects to the practice of international arbitration is the number of possible applicable laws, and their interplay.  This common situation – a contract which specifies the Substantive Law and the Seat of the arbitration, but does not specify the Governing Law of the arbitration agreement – gives rise to a crucial interplay of potentially applicable laws.  Specifically, is the Governing Law of the arbitration agreement to be determined by reference to either: (i) the Substantive Law; or (ii) the law of the Seat of arbitration?

Sulamérica

The appropriate starting point in recent case law is the English Court of Appeal’s decision in Sulamérica Cia Nacional De Seguros S.A. and others v Enesa Engenharia S.A.[7]  This case concerned a dispute in relation to an insurance policy.  The Substantive Law of the policy was expressly agreed to be Brazilian law.  The policy included both a clause for the exclusive jurisdiction of the Brazilian courts and an arbitration agreement with a London Seat.  There was no express agreement as to the Governing Law of the arbitration agreement.

A dispute arose as to which was the proper forum for the dispute; the São Paulo courts or the arbitration seated in London.  In this context the English court was called upon to determine whether Brazilian law or the law of the Seat – English law – governed the arbitration agreement.

It was common ground in that case – and has not been disputed since – that the proper way of answering this question is by reference to the common law rules for ascertaining the proper law of any contract.  This is essentially a three-step process:

• Did the parties expressly agree a law to govern the arbitration agreement?
• If not, did they implicitly agree to a law to govern the arbitration agreement?
• Failing an agreement, express or implied, it is necessary to identify the system of law with which the contract has the closest and most real connection.

In Sulamérica, as there was no express agreement as to the governing law of the arbitration agreement, so the court started at stage two: had the parties implicitly agreed to a governing law?

Weighing up the various factors, the court grappled with two competing applicable laws:

• Substantive Law: where the parties have agreed to the substantive law of the contract, should they be taken to have agreed that this law governs all of their relations – including the arbitration agreement?
• Law of the Seat: it is well recognised that the arbitration agreement is a separable agreement – should it therefore be viewed in isolation – with the effect that the law of the seat is intended to be the Governing Law of the arbitration agreement?

The court was not prepared to accept that either theory dictated the outcome when faced with the question of what law the parties had reached an implicit agreement on.  However, it did weigh up which applicable law should be the starting presumption.

Ultimately the court took the Substantive Law as its starting point: the majority concluding that where there was an express agreement as to the Substantive Law, the starting point was that the parties had impliedly agreed that this law would govern all of their contractual relations, including the arbitration agreement.  However, this could be rebutted by factors pointing to a different conclusion. Such factors could include the terms of the arbitration agreement itself or the consequences of its effectiveness of choosing the proper law of the substantive contract.

There were two main reasons were behind the court’s conclusion on this point:

• First, it felt it could not ignore previous authorities that had found an express choice as to the Substantive Law of the contract being an important factor to take into account; and
• Second, it held that the concept of separability simply reflects the parties’ presumed intention that their agreed procedure for resolving disputes should remain effective in circumstances that would render the substantive contract ineffective. Its purpose is to give effect to that intention, not to insulate the arbitration agreement from the substantive contract for all purposes.

Having set down the principles, the court went on to consider the facts of Sulamérica and ultimately held that it could not find an implicit agreement from the parties as to the Governing Law.  Given that the Substantive Law of the policy was Brazilian law, you might wonder how it got there.  While the Court of Appeal did take Brazilian law as the starting point but found that there were two factors pointing the other way.

• First, it took into account the fact that the parties had agreed on a London Seat – this inevitably imports an acceptance that the law of that country relating to the conduct and supervision of arbitrations will apply to proceedings. This tends to suggest that the parties intended English law to govern all aspects of the arbitration agreement, including matters touching on the formal validity of the agreement and the jurisdiction of the arbitrators.
• Second, the consequence of the choice of Brazilian law as the governing law of the arbitration agreement. The insured had alleged that this meant that the arbitration agreement would only be enforceable with their consent, and this was said to be a powerful counter factor.

Having failed to find an implicit agreement as to the Governing Law, the court went on to consider which law had the closest and most real connection.  This was a much more straight-forward exercise.  It held that this was English law because the arbitration agreement has its closet and most real connection with the law of the place where the arbitration is to be held and which will exercise the supporting and supervisory jurisdiction necessary to ensure that the procedure is effective.  The law governing the policy is unrelated to that of the dispute resolution.

FirstLink

The judgment in Sulamérica has divided opinion in the Singapore High Court.

In FirstLink Investments Corp Ltd v GT Payment Pte Ltd and others[8]  the Singapore High Court departed from the court’s approach in Sulamérica on the question of the right approach to determining the implied law of the arbitration agreement.

In FirstLink, the underlying matrix agreement included a provision that it was to be governed by and interpreted under the laws of the Stockholm Chamber of Commerce.  Certainly an unusual provision.

When looking at the issue of the law applicable to the arbitration agreement, the Singapore court confirmed that it would follow the general approach of the English Court in Sulamérica: i.e. the three-step process I have already identified.  However, when it came to determining the law implicitly agreed by the parties, the Singapore High Court held that it preferred the law of the Seat as the starting point rather than Substantive Law.  This was for the following reasons:

• when a dispute arises, the parties desire for neutrality comes to the fore – with the implication being that the law of the Seat was more neutral than the Substantive Law;
• the parties’ choice of seat denotes their intention to have the law of that seat recognise and enforce the arbitration agreement. This is so because the courts at the seat are likely, by virtue of their supervisory jurisdiction, to determine any jurisdictional dispute arising in connection with the arbitration agreement.  Given that the Governing Law of the arbitration agreement is most likely to be engaged in any jurisdictional dispute, it follows that the parties would be presumed that the law of the supervisory courts is the law which would apply.

BCY

The rationale of FirstLink in departing from Sulamérica has been directly criticised in a different Singapore High Court judgment issued earlier this month: BCY v BCZ.[9]

In BCY the Substantive Law was New York Law and the Seat of the arbitration was Singapore.  No express agreement was included as to the Governing Law of the arbitration agreement.  The Singapore court held that it preferred the Sulamérica approach; that the implied choice of law for the arbitration agreement is likely to be the same as the Substantive Law.  This was on account of: (a) the weight of judicial authority in support of that position; and (b) as a matter of principle.  As to principle, the Singapore court attacked the notion that doctrine of separability justified a distinct governing law for the arbitration as opposed to the Substantive Law.   Referring to Article 16 of the UNCITRAL Model Law on International Commercial Arbitration,[10] the court said that: “separability serves the narrow though vital purpose of ensuring that any challenge that the main contract is invalid does not, in itself, affect the validity of the arbitration agreement”.[11]

As to the reasoning of the court in FirstLink, the court in BCY said that:

• it is not correct to assume, as a matter of principle, that the law governing the arbitration agreement will be more neutral than the Substantive Law (I agree with this); and
• the rationale of the court in FirstLink was circular: it relied on the fact that under the Model Law an arbitral award may be set aside, or refused to be enforced, if the arbitration agreement is invalid either under the law to which the parties have subjected it or, failing any indication thereon, the law of the seat. This, it was said, led you back to whether the parties had reached an agreement as to what law applied to the arbitration agreement, and in turn, to the principles set down by the court in Sulamérica (I do not necessarily with this, as to which see below).[12]

Has the doctrine of separability been underplayed?

I am sympathetic to the analysis of the Singapore court in FirstLink.   Two short points can be made in support of the approach taken by the Singapore Court in that case:

First, the doctrine of separability has been cast aside, or belittled, but at the same time, the courts’ analysis in Sulamérica looks at this issue through the prism of separability.  If one were to accept that arbitration agreement as a separate agreement has no role to play, then it would follow that the Substantive Law would dictate the Governing Law of the arbitration agreement, but instead: (a) in discerning the implicit agreement of the parties, the agreement on Seat was taken into account and able to rebut the choice of Substantive Law; and (b) in discerning the closest and most real connection, the court looks at the arbitration agreement in isolation.

I am sympathetic to the analysis of the Singapore court in FirstLink.

Second, part of the problem is that the doctrine of separability has been viewed in isolation.  The point is not that the arbitration agreement is intended to survive an attack on the matrix agreement, but that the courts have looked at the arbitration agreement as an agreement to the supervisory jurisdiction of the courts at the seat.  This was the analysis in C v D.[13]  If one is seeking to discern the intention of the parties from looking at the arbitration agreement by itself, then it seems to me that they would want to ensure that the agreement is upheld in the place most likely to determine that issue – the courts of the Seat.  This leads to an intention that the law at the Seat should apply – because the courts are most familiar with that law and this produces important certainty as to how the law will be applied in practice.

In making these observations, it may be said against me that transactional lawyers may not turn their mind to these finer distinctions and therefore an agreement that the law of the seat may not be implied.  I disagree.  From the choice of Seat, the courts regularly discern an acceptance from the parties of the procedural law of the arbitration and the supervisory jurisdiction of the Seat.  Quite often these points will not necessarily be followed by transactional lawyers, but applied nevertheless.

Complexity means flexibility

In any event, should we be overly concerned that the complex nature of the case law means that parties who neglect to specify the Governing Law are likely to face serious difficulties in respect of the enforcement of their arbitration agreement?  How much of a danger does this pose?  I would argue that the danger is limited for the following reasons:

First, there are a number of situations where there is no conflict between the Substantive Law and the law of the seat, and in those circumstances, it is relatively easy to discern the law governing the arbitration agreement:

1. where there is an express agreement as to the Governing Law of the arbitration agreement – clearly in those circumstances it is likely that this agreement will be effective;
2. where the parties have not specified the Substantive Law – this makes it likely that the law of the Seat will be applied[14]; and
3. conversely, where no Seat has been specified but a Substantive Law has – this makes it likely that Substantive Law will be applied to the arbitration agreement.

Second, while Sulamérica puts the Substantive Law at the forefront of the analysis when it comes to determining the implied agreement of the parties, the choice of a Seat with a different law can rebut that starting presumption.  In this regard, it is important to note that in Sulamérica itself the court noted that there is little between step 2 (implied agreement) and 3 (closest and most real connection) in terms of analysis, and one often merges into the other.  This is because identification of the system of law with which the agreement has its closest and most real connection is likely to be an important factor in deciding whether the parties have made an implied choice of proper law.

It has been said in later cases that a different law of the Seat would not be sufficient by itself to rebut the Substantive Law, but the extent to which this is correct has not been thoroughly tested in the English courts.[15]  Subsequent cases have either not had an express choice of Substantive Law or had other factors that have contributed to the analysis.[16]

Third, in practice the Court’s approach in Sulamérica gives it enough scope to correct any difficulties.  What I mean by this is that in the event the application of the Substantive Law would have the result that it would render the arbitration agreement invalid, then it will not be applied.  This is precisely what happened in Sulamérica when the court held that a powerful factor that meant that the law of the Seat should apply and not the Substantive Law was one parties’ submission that in applying the Substantive Law the arbitration agreement might be ineffective.

Certainty

The above said, lawyers like nothing if not certainty.  We might all take comfort from the fact that there is a simple quick fix solution to any uncertainty surrounding the Governing Law of the arbitration agreement: specify in advance agreement as to what this should be. There are two ways of doing this.

First, in the arbitration agreement itself.  It is worth noting that both the HKIAC and SIAC recommend that a governing law provision is included in the arbitration agreement through their model arbitration clauses.

Second, include a provision in the institutional rules that the law at the Seat is the default Governing Law of the arbitration agreement in the absence of any express contrary choice. This is the approach followed by the LCIA at Article 16.4 of their 2014 Arbitration Rules.

Footnotes

[1] [2012] EWCA Civ 638

[2] [2014] SGHCR 12

[3] [2016] SGHC 249

[4] Article V(1)(a) of the New York Convention on Enforcement of Foreign Arbitral Awards

[5] I am grateful to Hannah Ambrose, Professional Support Consultant at Herbert Smith Freehills for her assessment as to the issues which may be affected by the Governing Law of the arbitration agreement.

[6] Neil Kaplan and Olga Boltenko, “The Dangers of Neglect Governing Law of Arbitration Agreement” in Julio César Betancourt (ed), Defining Issues in International Arbitration: Celebrating 100 Years of the Chartered Institute of Arbitration (OUP 2016) Ch 8, See also Peterson Farms Inc v C&M Farming Ltd [2004] EWHC 121 (Comm) where Langley J applied English law to the arbitration agreement and unequivocally rejected the “group of companies” doctrine.

[7] [2012] EWCA Civ 638

[8] [2014] SGHCR 12

[9] [2016] SGHC 249

[10] Dealing with the competence of the arbitral tribunal to rule on its jurisdiction this Article provides: “The arbitral tribunal may rule on its own jurisdiction, including any objections with respect to the existence or validity of the arbitration agreement.  For that purpose, an arbitration clause which forms part of a contract shall be treated as an agreement independent of the other terms of the contract.”

[11] [2016] SGHC 249 at [61]

[12] [2016] SGHC 249 at [64]

[13] [2007] EWCA Civ 1282 at

[14] This was the situation in Habas Sinai Ve Tibbi Gazlar Istihsal Endustrisi AS v VSC Steel Co Ltd [2013] EWHC 4071 (Comm)

[15] Arsanovia Limited & others v Cruz City 1 Mauritius Holdings [2012] EWHC 3702 (Comm) at [19]; BCY v BCZ [2016] SGHC 249 at [65]

[16] In Habas Sinai Ve Tibbi Gazlar Istihsal Endustrisi AS v VSC Steel Company Ltd [2013] EWHC 4071 (Comm) there was no express choice of law in the matrix contract and the parties had agreed to a London seat.  The consequence was the governing law of the arbitration agreement was English law. In Arsanovia Limited & others v Cruz City 1 Mauritius Holdings [2012] EWHC 3702 (Comm) the matrix contract was governed by Indian law and the seat was London.  However, the additional factor said to point back to Indian law as the governing law of the arbitration notwithstanding the London seat was a reference in the arbitration clause not to seek interim relief under the Indian Arbitration and Conciliation Act, 1996, including section 9, and that the provisions of Part 1 of that Act were excluded.   In my view this case was wrongly decided because those types of provisions were only included to ensure that the Indian court did not assume jurisdiction over the arbitration rather than be any type of indicator as to the governing law of the arbitration agreement, although this was an argument rejected by the court.