The Proper Law of the Arbitration Agreement

It is common for an arbitration agreement between parties to be embodied in a clause within a contract between those parties. However, a recent decision of the English Court of Appeal in Sulamerica CIA Nacional de Seguros SA and others v Enesa Engenharia SA and others, [2012] EWCA Civ 638, provides a timely reminder that the arbitration agreement forms a separate and distinct agreement from the main contract. The effect is that the arbitration agreement may be governed by the laws of a jurisdiction different from that governing the performance of the substantive portion of the contract.

In the absence of an express choice of law to govern the arbitration agreement, the English Courts will undertake a three-stage enquiry to determine what the proper law is. In this case, a reference in the arbitration clause to the place of arbitration as London, England was sufficient to override (i) an express choice of Brazilian law as the governing law of the main underlying contracts; and (ii) an exclusive jurisdiction clause providing that any disputes arising out of, or in connection with the main contracts was to be resolved in the Brazilian courts.

The material facts are that there were two policies of insurance entered into between the insurers (the plaintiffs/respondents) and the insureds (the defendants/appellants) in respect of a power project in Brazil. The policies contained a London arbitration clause under the ARIAS (the Insurance and Reinsurance Arbitration Society) Arbitration Rules. However, the policies also contained an express choice of Brazilian law as the governing law of the contracts as well as an exclusive jurisdiction clause in favour of the Brazilian courts. As a result of a dispute arising between the parties, the insurers gave a notice of arbitration to the insured. In response, the insured started court proceedings in Brazil seeking, amongst others, to establish that the insurers were not entitled to refer the dispute to arbitration. However, the insurers successfully obtained an anti-suit injunction in the English High Court to restrain the insureds from continuing the court proceedings in Brazil. The anti-suit injunction was upheld on appeal.

The issue of the proper law of the arbitration agreement arose because the insured argued that under Brazilian law (which they argued was the proper governing law of the arbitration agreement), the arbitration agreement was only enforceable against them with their consent. If true, then the reference to arbitration would be ineffective and the anti-suit injunction discharged.

The insurers argued that the arbitration agreement was severable from the policy and could be governed by a law different from Brazilian law. In this respect, the law with which the arbitration agreement had its closest and most real connection was that of England because the arbitration clause provides for the seat to be London, England.

The Court of Appeal recognised that there were two seemingly contrary strands of authority in determining the proper law of the arbitration agreement. On the one hand, the older authorities regarded it to be “exceptional” or “rare” for the law of the arbitration agreement to differ from the governing law of the main contract. On the other hand, the most recent decision of the Court of Appeal on this issue in C v D, [2007] EWCA Civ 1282, considers instead that it would be rare for the law of the arbitration agreement to differ from the law of the seat of the arbitration.

In the absence of binding authority, the Court of Appeal therefore adopted the approach that the proper law of the arbitration agreement is to be determined in accordance with the established common law rules for ascertaining the proper law of any contract. The proper law is to be determined by undertaking a three-stage enquiry into (i) express choice, (ii) implied choice and (iii) closest and most real connection. The Court of Appeal held that as a matter of principle, the three-stage inquiry was to be embarked upon separately and in the order listed above but acknowledged that stage (ii) often shaded into stage (iii). Nevertheless, the Court of Appeal cautioned that “it is important not to overlook the question of implied choice of proper law, particularly when the parties have expressly chosen a system of law to govern the substantive contract of which the arbitration agreement forms part” (see paragraph [25]).

The insureds placed reliance on three points to demonstrate that the proper law of the arbitration agreement was the law of Brazil: (a) the express choice of Brazilian law to govern the main policy, (b) parties’ agreement to submit to the exclusive jurisdiction of the Brazilian courts and (c) the pre-condition to arbitration, which was mediation, was itself subject to Brazilian law. The key argument made was that notwithstanding the express choice of the seat of arbitration as London,England, nevertheless, Brazilian law was in reality the implied choice of proper law made by the parties to govern the arbitration agreement.

Notably, the Court of Appeal considered that the separability of the arbitration agreement from the main contract was not in itself determinative (see paragraph [18]). Furthermore, the Court of Appeal could not accept a bright line rule that the proper law of an arbitration agreement is determined by the law of the place of the seat of the arbitration despite noting that such a rule would “no doubt be convenient and would prevent many disputes of the kind that has arisen in this case” (see paragraph [24]).

Notwithstanding the recognition that there were “powerful factors” in favour of an implied choice of Brazilian law as the governing law of the arbitration agreement, the Court of Appeal held that there were countervailing factors to the contrary which were sufficient to establish that the proper governing law of the arbitration agreement was that of England and Wales.

First, on the insureds’ own argument, Brazilian law would have required their consent to commence arbitration. This would significantly undermine the arbitration agreement itself and the Court of Appeal decided that the parties could not have intended to choose a system of law that would create such a serious risk of undermining the agreement to arbitrate (see paragraph [31]).

Second, on the issue of which system of law had the closest and most real connection to the arbitration agreement, the Court of Appeal decided that this question should not be decided by the system of law governing the substantive performance of the contract as that had nothing to do with the juridical nature of an arbitration agreement. Instead, the Court of Appeal considered that the agreement to arbitrate in London has the “closest and most real connection with the law of the place where the arbitration [was] to be held and which [would] exercise the supporting and supervisory jurisdiction necessary to ensure that the procedure [was] effective” (see paragraph [32]).

What significance does this case have for businesses that are keen to refer their disputes to arbitration? Arbitration clauses are often one of the last clauses to be considered, even in closely negotiated contracts and occasionally insufficient attention is paid to the fact that arbitration clauses are not simply a dispute resolution mechanism but jurisdictional clauses in their own right. Since arbitration clauses are separate agreements from the main contracts, it may be prudent for parties to expressly state what the governing law of the arbitration agreement is.

About Shaun Lee

International Dispute Resolution and Arbitration lawyer. Fellow of the Chartered Institute of Arbitration. Panel of Arbitrators and Panelist for Domain Name Dispute Resolution at the KLRCA.
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8 Responses to The Proper Law of the Arbitration Agreement

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