Privity and Arbitration Agreements

A person who is not a party to a contract may not enforce or be bound by any term of the contract. This is known as the doctrine of privity. However, in both the UK and in Singapore, the Contracts (Rights of Third Parties) Act (the “UK Act” and the “Singapore Act” respectively) provide that a party may in certain circumstances be entitled to the benefit of a term of a contract even if that person is not a party to that contract.

This exception to the doctrine of privity also applies to arbitration clauses within the contract itself. Both the UK Act and the Singapore Act provide that where a third party seeks to rely on a clause in the contract, and where that contract contains an arbitration clause, that third party is bound by the arbitration clause. Furthermore, both acts also provide the option for parties to the arbitration to agree that a third party may be treated as a party to the arbitration agreement and enforce the arbitration agreement as against them.

In Fortress Value Recovery Fund I LLC & Ors v Blue Skye Special Opportunities Fund LP & Ors [2013] EWCA Civ 367, the English Court of Appeal took the opportunity to examine the scope and extent of third parties’ entitlement to rely on an arbitration clause in order to obtain a stay of court proceedings pursuant to section 8 of the UK Act. Section 8 of the UK Act is materially similar to section 9 of the Singapore Act.

The Court of Appeal also examined the extent to which section 9 of the UK Arbitration Act 1996 applied in situations which involved non-contractual claims under the agreement. The claimants in this English court case alleged various English law torts including conspiracy, unlawful interference with the contract, procuring a breach of the relevant agreement and dishonest assistance. The claimants also claimed various actionable torts under Luxembourg law (see paragraph [7]).

The Court of Appeal dismissed the appeal and refused a stay of the court proceedings, but on grounds which were different from those given by the High Court.

The Facts

The relevant arbitration clause was found in a deed of limited partnership (the “Deed“) forming an investment structure called Blue Skye Special Opportunities Fund Limited Partnership (“Blue Skye Fund“). Being a limited partnership, Blue Skye Fund was made up of one general partner (Blue Skye GP Limited) and 3 limited partners (“LP“). The principal LP was Stepstone Acquisition SARL which assigned its rights to Fortress Value Recovery Fund I LLC (“Fortress“). Fortress was one of the claimants in the English court proceedings. The other two LPs were Omega Partners and Omega Skye Partners SARL, LP.

The appellants were managers of the Blue Skye Fund. Under the Deed, they were also to be considered “Associates” of Blue Skye GP Limited.

Stepstone commenced court proceedings in tort against, inter alia, the appellants alleging conspiracy on their part together with 3 other individuals and 12 corporate entities (including various Blue Skye entities as well as the other 2 LPs) to design and implement “a dishonest scheme to reorganise the fund and its assets” to the detriment of Stepstone and the other investor claimants (see paragraph [6]).

The appellants sought to rely on Clause 17.2 of the Deed (“Exculpation and Indemnities“) and in particular Clause 17.2.1 as affording them “substantial exclusions from and indemnities in respect of liability” to Blue Skye Fund and its partners (see paragraph [20]).

The Governing Act

Section 8 of the UK Act (which is in pari materia with Section 9 of the Singapore Act) reads,

“(1) Where –

(a) a right under section 1 to enforce a term (“the substantive term”) is subject to a term providing for the submission of disputes to arbitration (“the arbitration agreement”), and

(b) the arbitration agreement is an agreement in writing for the purposes of Part I of the Arbitration Act 1996,

the third party shall be treated for the purposes of that Act as a party to the arbitration agreement as regards disputes between himself and the promisor relating to the enforcement of the substantive term by the third party.

(2) Where –

(a) a third party has a right under section 1 to enforce a term providing for one or more descriptions of dispute between the third party and the promisor to be submitted to arbitration (“the arbitration agreement”),

(b) the arbitration agreement is an agreement in writing for the purposes of Part I of the Arbitration Act 1996, and

(c) the third party does not fall to be treated under subsection (1) as a party to the arbitration agreement,

the third party shall, if he exercises the right, be treated for the purposes of that Act as a party to the arbitration agreement in relation to the matter with respect to which the right is exercised, and be treated as having been so immediately before the exercise of the right.”

High Court decision

The High Court in Fortress Value Recovery Fund I LLP & Ors v Blue Skye Special Opportunities Fund LP (A Firm) & Ors [2012] EWHC 1486 (Comm) allowed Omega Partners and Omega Skye’s application for a stay of the court proceedings pursuant to section 9 of the UK Arbitration Act 1996.

The High Court cited Fiona Trust & Holdings Corp v Privalov [2007] UKHL 40 and held that the arbitration clause should be construed broadly. Accordingly, the claimant’s claims in torts fell within claims “arising out of or in connection with” the Deed or “the formation, breach, termination or invalidity” of the Deed. Such language in the arbitration clause is fairly standard in most arbitration agreements.

However, the High Court found that the appellant managers could not bring themselves within the UK Act so as to entitle them to the benefit of the arbitration clause and a stay of the court proceedings against them. This was because Clause 17.2.1 operated as contractual defence and not a contractual right. While reliance on a contractual right would require the parties relying on the contractual right to be bound by the arbitration clause, this was not the case for a contractual defence (see paragraph [103] and [104] of the High Court judgment).

The Appeal

The appeal was upheld but on different grounds from those of the High Court below.

First, the Court of Appeal agreed with the High Court that the language of the arbitration agreement included non-contractual claims (see paragraph [13] and [14]). Second and critically, the Court of Appeal held that the distinction between a contractual right and a contractual defence was not determinative.

However, the Court of Appeal considered that in the absence of clear words in the Deed to the contrary, parties simply had not intended that a third party’s reliance on the exclusion clause should be subject to an arbitration not initiated by that third party (see paragraph [36]).

“…The fact that one is a contractual right of action and one a contractual defence is in my view relevant but not in itself determinative. It is relevant because when construing the agreement in order to ascertain the intention of the parties thereto, it is easier to conclude that the parties intended enforcement of the contractual indemnity by a third party to be subject to the arbitration provision than it is to conclude that the parties intended reliance on the contractual exclusion by a third party to be likewise subject to the arbitration provision. … there is no express language in the Agreement to the effect that either the indemnity or the exclusion is subject to the arbitration clause. In each case that result can only be achieved by way of inference. It is however to impute to the parties a really very far reaching intention if it is to be inferred that they positively intended to bring about the result that third parties would be bound by the outcome of arbitration proceedings which they had not themselves initiated in order to secure a benefit apparently conferred upon them by the Agreement. That is, as I have explained, the inevitable consequence of treating third parties as party to the arbitration agreement in the manner prescribed by s.8(1) of the 1999 Act, in contrast to the consequences of treating them as a party in the manner prescribed by s.8(2) of the Act. … However that may be, the consequences are so far reaching that very clear language is I think required to bring about the result that the right of a third party to avail himself of an exclusion clause in an agreement to which he is not party is in turn subject to an arbitration clause in the same agreement. In my judgment there is no such clear language in the Partnership Deed.”

The Court of Appeal reasoned that were it otherwise, a third party would be bound by an arbitration which it had no desire to initiate. This would be contrary to the concept of party autonomy, which was a hallmark of consensual arbitration. The Court of Appeal considered that to accept the arguments for a stay would mean that,

“…an arbitral tribunal constituted on the initiative of the claimant partner would have jurisdiction over the entirety of the dispute between the promisor partner and the third party, notwithstanding (a) that the third party has not agreed to arbitrate at all indeed has not agreed to anything and (b) that there are aspects of the dispute which have no connection with the question whether the third party may avail itself of a contractual defence. This seems a very odd and unprincipled outcome.” (see paragraph [30])

Two of the learned law lords (the Right Honourable Lord Justice Toulson with whom the Right Honourable Lord Justice Pill agreed) drew a further distinction between section 8(1) and section 8(2) of the UK Act. Section 8(1) deals with what the learned law lords considered to be a “procedural qualification of substantive right given to [the third party]“. Section 8(2) on the other hand deals with “the grant of a procedural right” i.e. the right of a third party to assert the arbitration agreement against the parties to the agreement. This right, however, had to be specifically provided for by the parties and the parties had failed to do so. The two learned law lords concluded that,

“[55] In summary, the fallacy in the appellants’ argument lies in confusing the nature of a procedural qualification of a substantive right given to T under section 8(1) with the grant of a procedural right under section 8(2). With hindsight it may be regrettable that the partnership deed did not give the managers a right to insist that any claim made against them by a partner (or assignee of a partner) in connection with the agreement should be referred to arbitration, but it did not do so.

As an aside, the rationale for granting such a procedural right pursuant to section 8(2) is so that the third party is entitled to certain reliefs under the UK Arbitration Act 1996. The explanatory note to the UK Act explains that,

“35. Subsection (2) is likely to be of rarer application. It deals with situations where the third party is given a right to arbitrate under section 1 but the “conditional benefit” approach underpinning subsection (1) is inapplicable. For example, where the contracting parties give the third party a unilateral right to arbitrate or a right to arbitrate a dispute other than one concerning a right conferred on the third party under section (1). To avoid imposing a pure burden on the third party (in a situation where, for example, the contracting parties give the third party a right to arbitrate a tort claim made by the promisor against the third party) the subsection requires the third party to have chosen to exercise the right. The timing point at the end of the subsection is designed to ensure that a third party who chooses to exercise his right to go to arbitration by, for example, applying for a stay of proceedings under section 9 of the Arbitration Act 1996, can do so. Under section 9 of the Arbitration Act 1996, the right to apply for a stay of proceedings can only be exercised by someone who is already a party to the arbitration agreement.” (emphasis added)

In the main, the Court of Appeal accepted the irony of its reasoning in light of the situation, but decided that it could not detract from adopting a principled approach to the legal issue (see paragraph [37]),

“…there is an irony in this outcome in that a reluctance to conclude that the Appellants are bound by an arbitration provision has led to a denial to the Appellants of the opportunity to take advantage of that provision in order to compel Fortress to pursue its claim in arbitration. However for the reasons which I have already given the Appellants could not in reliance on s.8(1) of the 1999 Act compel arbitration of the entirety of the dispute between themselves and Fortress. In any event, the irony of the outcome cannot deflect the court from a principled approach. …”

Conclusion

Given the similarities in the UK Act and the Singapore Act, this English Court of Appeal decision is likely to have persuasive value in the Singapore courts should a similar issue arise. This is of particular relevance because the Singapore courts have already previously held that the Singapore Act was the only manner in which a third party is entitled to assert a benefit under a contract to which it is not a party to.

In Jiang Haiying v Tan Lim Hui and another suit, [2009] 3 SLR(R) 13, the Singapore High Court held that the doctrine of privity meant that, generally non-parties to an arbitration agreement could not participate in an arbitration conducted pursuant to that agreement. Furthermore, save for the Act, the High Court rejected any third party beneficiary exception to privity in Singapore. Such an exception would have entailed that third party beneficiaries might participate in an arbitration conducted pursuant to an agreement to which they were not parties. In this respect, the High Court considered that the case cited by Halsbury’s was no authority for the contrary proposition (see paragraph [45]).

Parties should therefore be mindful of the effect of the Contracts (Rights of Third Parties) Act. To the extent that an arbitration clause exists in the contract, parties to that contract and third parties to be conferred a benefit should take legal advice and actively consider explicitly stipulating whether and how such third parties are to be bound by the arbitration agreement.

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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One Response to Privity and Arbitration Agreements

  1. Pingback: Arbitration of Trust Disputes | Singapore International Arbitration Blog

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