Special Report
India - Investing In The Future - Arbitration Strategy

22 September, 2014

 

 

Legal News & Analysis – Asia Pacific - India - Dispute Resolution

 

1.              Introduction

 

Arbitration has gained popularity as a principal method of alternate dispute resolution owing to its flexible, systematized and efficient nature.[1] However, this flexibility and efficiency is primarily dependent on a carefully worded arbitration clause. The importance of a well-drafted arbitration clause is not realized until parties actually find themselves in dispute. It is therefore in the best interests of the parties to properly tailor the arbitration clause to the contours of the contract and to their specific needs.

 

2.              Having a workable Clause

 

(a)            Arbitration is a creature of contract and the arbitration clause is the starting point for any arbitrable dispute that follows. During the negotiation and drafting of a commercial contract, parties' primary attention will be focused on the contract's substantive subject matter. The arbitration clause may be inserted in an abbreviated fashion or as an afterthought, using boilerplate lifted from some other contract. However, if the parties do agree to arbitrate future disputes, the clause must be carefully drafted because it will govern the process of adjudication and can have a dramatic impact on both the cost of resolution and the resolution itself.

 

(b)           The extent of provisions and modalities in the clause will determine how easily the dispute can be resolved. Certain basic provisions could avoid unnecessary motion practice, delays and expensive proceedings. Some of the most fundamental requirements of an arbitration clause include the scope, seat, language, number of arbitrators, venue and governing law; with the choice of the seat being of foremost importance. The choice of seat has consequent implications on the arbitration proceedings as in most instances; the law of the seat is by default applied as the law governing the arbitration and the underlying contract.

 

(c)            Most institutional model clauses are basic clauses and are perhaps the most common type of arbitral provisions for substantial transactions. They include certain optional provisions beyond those in a basic clause, designed to solve particular problems.[2]

 

(d)           Scope

 

(i)             The event in which arbitration is triggered depends on the careful wording of the arbitration clause. For instance, in the Singapore International Arbitration Centre standard clause, arbitration will be triggered when “any dispute”, “arising out of” or “in connection with”, “this contract” occurs.[3] These phrases have wide connotations and will cover more or less any dispute arising in connection with the underlying contract. However, it must be noted that not all disputes arising from a commercial contract are arbitrable. Some matters, by virtue of their nature, are “not capable of settlement by arbitration”.[4] Thus, even if they come within the scope of the clause and parties intended to submit them arbitration, public policy may bar the arbitrability of such disputes.

(ii)           The arbitrability of a dispute varies across different jurisdictions and shall be decided in accordance with the laws governing the arbitration proceedings.[5] Under Indian law, typically (i) disputes relating to rights and liabilities which give rise to or arise out of criminal offences; (ii) matrimonial disputes relating to divorce, judicial separation, restitution of conjugal rights, child custody; (iii) guardianship matters; (iv) insolvency and winding-up matters; (v) testamentary matters (grant of probate, letters of administration and succession certificate); and (vi) eviction or tenancy matters governed by special statutes are non-arbitrable given their public policy implications,[6] or because they involve determination of rights-in-rem[7].

(iii)          Parties must consider whether the arbitration clause is sufficiently comprehensive to include all disputes that may arise out of the transaction, or if the drafted language potentially excludes certain claims. Ambiguity in the scope of the clause can lead to costly motion practice to determine the parties' intent regarding which claims to arbitrate and which are outside the scope of the clause. Moreover, where a transaction involves multiple related contracts, (e.g. a purchase and sale agreement for assets of a business, accompanied by promissory notes, security agreements, and consulting or employment contracts of the selling principals) a party should ensure consistency in the approach and scope of arbitration clauses in all the relevant contracts. The failure to include an arbitration clause in one or more of the related contracts may lead to litigation to compel or resist arbitration. Such circumstances could have the undesirable result of some claims being litigated in court, while others involving the same contract or transaction are arbitrated, causing duplication of effort and potentially inconsistent outcomes between arbitration and court proceedings on the same set of facts.

 

(e)            Time to final award

 

To avoid a runaway arbitration that involves an overly long time to get to a final award, the parties should ideally specify a time frame in which the arbitration must be commenced (e.g., within six months of filing the demand) and completed. However, parties should be cautious about including overly restrictive provisions in their clause, because it is impossible to predict whether such restrictive time limitations will serve the corporation's interests in a later dispute of indeterminate scope. As a result, parties should consider including a caveat that any specified time frames may be modified by the parties' stipulation or in the arbitrator's discretion on a showing of good cause.

 

(f)            Number of arbitrators

 

Parties are free to mutually agree upon any number of arbitrators but it is recommended that an odd number of arbitrators (preferably one or three) be appointed to ensure that there is no dead-lock situation. Additionally, parties should ideally also articulate their manner of appointment in the clause itself to avoid any future conflict on the appointment of the tribunal. For instance, the disputing parties may agree to appoint one arbitrator each and the third arbitrator can be jointly appointed by the two party-appointed arbitrators. Such a mechanism ensures that each party has a say in appointment of at least one arbitrator and the third arbitrator is mutual and neutral choice of the two party-appointed arbitrators. Arbitrators are also required to disclose any conflict of interest with the parties at the appointment stage itself. It is important that disputing parties feel that their resolution of disputes is in the hands of unbiased and neutral tribunal, so as to later avoid the resistance of the enforcement of the award on the grounds that it was given by a biased tribunal.

 

(g)            An arbitration proceeding cannot be conducted in legal vaccum and there are several laws that form the framework of an arbitration. The laws governing an arbitration proceeding broadly include the following laws:

 

(h)           Law governing the underlying/substantive contracts

 

(i)             The proper law of the contract determines the principles which shall be used to interpret the clauses of the contract and thus is fundamental in the resolution of a dispute arising under a commercial contract. In an international commercial arbitration, the autonomy of the parties to select the proper law is generally recognized under Indian law.[8] Indian courts have held that if the parties have made an express choice of law in the contract itself, then that law will govern the contract.[9] The general limitations on this rule are that the intention of the parties must be expressed bona fide and it should not be opposed to public policy.[10]

(ii)           If there is no express choice, the determination of proper law will have to be done by the Court. The material facts surrounding the contract will be examined to determine whether there is an implied choice of law by the parties. Factors that will be generally considered are the general tone of the contract, the intention of the parties, the location and business centers of the parties, etc. If there is no express or implied choice of law, the proper law of the contract will be determined by the court on the basis of principles of private international law.[11] To avoid the involvement of the court in determining the applicable law, it is in the best interests of the parties to mutually agree on the proper law and draft it into the clause itself.

 

(i)             Law governing the arbitration agreement

 

(i)             Arbitration clauses are generally incorporated in the contract itself. Therefore, even though the arbitration clause is severable from the underlying contract, in most instances, the law governing the contract shall also be deemed to be the law governing the arbitration clause.

(ii)           In the event that arbitration is pursuant to a separate agreement to arbitrate, parties have the autonomy to choose a law applicable to such agreement, subject to restrictions laid down in NTPC v. Singer. However, in the event that parties have not specified a law, it will be either the proper law of the contract or the law of the seat of arbitration.[12]

(j)             Law governing the arbitral proceedings/governing law

(i)             The governing law is the law that governs the arbitration proceeding itself and therefore has implications on the supervisory jurisdiction of the courts, interim relief and enforceability of the award. Accordingly, parties should properly consider all these factors and choose a forum that is arbitration friendly. Indian law has recognized the autonomy of the parties to an international commercial arbitration to choose the law governing the arbitration.[13] That said, however, it may not be permissible to choose a wholly unconnected law which is not otherwise a proper law of contract as the governing law. [14] The ideal drafting strategy should be to choose a governing law and specify the same in the contract itself.

(ii)           In the event that the governing law is undefined, under Indian law, the proper law of the contract will normally be the governing law as well.[15] However, in the exceptional event that the proper law is also undefined, the law bearing the “closest connection” to the dispute shall be deemed to be the governing law. The factors that are generally considered for determining the “closest connection” to the dispute include the place/seat of the arbitration, place of signing of the contract, the residence of the parties, the place of businesses of the parties, etc.[16]

(iii)          It must be noted that the position of law in India earlier was that Part I of the Act shall apply to international arbitrations held outside India unless expressly or impliedly excluded by parties. [17] This position was heavily criticized and seen as excessive judicial intervention of courts. In fact, subsequently, courts have attempted to distinguish the applicability of Bhatia judgment on facts by holding that parties have impliedly excluded the applicability of the Act.[18] The Bhatia judgment was reversed in 2012,[19] and it has been clarified that the Indian Act will only apply to international arbitrations held outside India when it parties’ expressly choose to do so. If no such express choice is made, the governing law will be decided in accordance with the principles discussed in this section.

 

(k)           Law governing the enforcement of arbitral award

 

(i)             Most arbitration statutes provide that the award must not be in violation of the public policy of the seat of arbitration. The courts of the seat of arbitration are in the best position to determine the public policy of the forum state and accordingly review the award in light of the public policy of the forum state. Therefore, in most cases, the law of the seat of arbitration is generally deemed to be law governing the enforcement of the award as well.

(ii)           Additionally, most countries, including India, are signatories to the New York Convention. Awards passed in the territory of a signatory to the New York Convention should be recognized and enforced in other signatory countries, subject to very limited grounds of review.[20] However, the setting aside of an award is generally only done by the courts of the territory in which the award was passed, i.e. the courts of the seat of arbitration.

(l)             The applicable laws ultimately determine the substantive and procedural aspects of the dispute. Parties resolve to arbitration as they want their disputes to be resolved in a specific manner and under specific laws. This flexibility will be lost if the determination of applicable laws is left in the hands of a tribunal or court. From the development of Indian jurisprudence on choice of law, it becomes clear that the all the issues arising from involvement of courts in determining applicable laws stem from a poorly drafted arbitration clause wherein the choice of law is either not specified or the intention of the parties is unclear. Thus, the best way to avoid this is to mutually agree on a governing law and specify the same in the arbitration clause.

(m)          Seat of arbitration

(i)             It is highly recommended that parties choose a seat/place for arbitration as the choice of seat has several implications on the arbitration.[21] In the event that parties do no choose a seat, courts will have to attempt to decipher the intent of the parties from the wording of the arbitration clause and the rest of the underlying contract.

(ii)           The seat or place of arbitration is distinct from the venue of arbitral proceedings. The seat or place of arbitration has a legal significance. The venue is the actual place of hearings which may or may not be the same as the seat of arbitration.[22] The venue may be different from the seat in the instances when it may be more convenient to hold the hearings at a different place/(s). Recent trends have also involved the having hearings over video conference or other such mechanisms, as may be convenient. Under Indian law, parties have the autonomy to choose both seat and venue. However, in the event a seat or venue/(s) have not been defined by the parties, the tribunal has the power to determine it.[23]

 

(n)           Choice of foreign seat

 

(i)             Parties in an international commercial arbitration, have the freedom to choose any seat of arbitration (which may or may not be India). However, two Indian parties involved in a domestic dispute are not permitted to derogate from Indian laws,[24] and thus, the Act is mandatorily applicable to their dispute[25]. Recently, the Bombay High Court has further clarified that two Indian parties putting the clauses of foreign law is against public policy.[26] However, it must be noted that the court ruling is silent on whether two Indian parties can choose a foreign seat for arbitration but apply Indian arbitration law.

(ii)           A harmonious reading of Section 28 of the Act and the judgments passed by courts in India would essentially imply that two Indian parties would necessarily have to subject their dispute to the Indian Arbitration and Conciliation Act, 1996. However, the parties may have autonomy to choose a different seat and continue to apply Indian law to their arbitration. While this would lead to outsourcing of Indian disputes, there is currently no explicit bar on the same. However, the choice of seat of arbitration would also be subject to the limitations laid down in NTPC v. Singer and the courts in India have the power of overruling such choice if they are of the opinion that such choice is contrary to the public policy of India or is entirely unconnected to the dispute.[27] 

 

(o)           Therefore, all these requirements should ideally be included in the arbitration clause so as to make the clause complete in all respects. Courts and tribunals will interfere to fill in gaps in the arbitration clause (wherein parties’ intention are not specified or unclear). The flexibility of arbitration will be best achieved if parties mutually agree on certain basic requirements and draft a complete workable clause.

 

3.              Conclusion

 

(a)            A carelessly drafted arbitration clause may put parties in a fix (unenforceable or ambiguous, giving rise to expensive and time-consuming court challenges). In drafting the clause, in addition to certain mandatory requirements, there are additional optional provisions that may be included at the parties’ discretion.

 

(b)           There is no such thing as a single 'model' or 'all-purpose' arbitration clause that is ideal for all contracts. Rather, each arbitration clause must be carefully tailored to the specific circumstances of the contract and the requirements of the parties, taking into account the likely types of disputes that may arise, the parties’ needs and the applicable laws.

 

(c)            It must be noted that arbitration, though a simple and organized method of dispute resolution, is not inexpensive and can potentially be destructive of business relationships. It is therefore recommended that parties should attempt to mutually resolve their issues before submitting to arbitration. A good strategy would be to draft an escalation mechanism into the contract itself whereby parties would be mandated to attempt to resolve their dispute through good faith negotiations, discussions, mediation, structure settlement between principals of opposing parties, etc. before triggering the arbitration mechanism. This may resolve difficult disputes more quickly and less expensively than participating in arbitration. In conclusion, parties should explore all the available avenues and draft a strategic manner of dispute resolution which sufficiently and succinctly covers all foreseeable issues.

 


[1]     Alan Redfern and Martin Hunter, Law and Practice of International Commercial Arbitration  3 (4nd ed.,2006).

[2]     Examples of these clauses may be found in the energy industry in joint operating, drilling, natural gas supply and power plant construction agreements.

[3]     Model Clause, Singapore International Arbitration Centre, available at http://www.siac.org.sg/model-clauses/siac-model-clause.

[4]     Article II, Convention on Recognition and Enforcement of Foreign Arbitral Awards, 1958 (“New York Convention”).

[5]     For instance, arbitrability of anti-trust disputes was originally prohibited in the United States, European Union, etc. until the position was reversed by the US Supreme Court in Mitsubishi Motors Corp. V. Sole Chrysler Plymouth Inc 473 U.S. 614.

[6]     Booz Allen and Hamilton Inc. v. SBI Home Finance Limited, (2011) 5 SCC 532, para 35 and 36.

[7]     Id at para 37. See also, Olympus Superstructures (P) Ltd. v. Meena Vijay Khetan, (1999) 5 SCC 651 and V.H.Patel & Company and others vs. Hirubhai Himabhai Patel and ors, (2000) 4 SCC 368.

[8]     In a domestic dispute involving two Indian parties, such choice is inhibited and Indian substantive law shall mandatorily apply; See Section 28(1) of the Arbitration and Conciliation Act, 1996 (“the Act”).

[9]     National Thermal Power Corporation v. Singer Company, 1992 3 SCC 55.

[10]    Id at para 14.

[11]    Section 28(1)(iii) of the Act; See infra Section 2(j)(ii).

[12]    Supra note 9 at para 24; See also, Shin-Etsu Chemical Co. Ltd. v. Aksh Optifibre Ltd., AIR 2005 SC 3766.

[13]    Two Indian parties involved in a purely domestic dispute cannot choose a foreign governing law and the Indian Arbitration and Conciliation Act, 1996 shall mandatorily govern their arbitration; See TDM Infrastructure Private Limited v. UE Development India Private Limited, 2008 14 SCC 271.

[14]    British India Steam Navigation Co. Ltd. v. Shanmughavilas Cashew Industries and Others, 1990 3 SCC 481.

[15]    Supra note 9 at para 22.

[16]    Supra note 9 at para 25 (the court held that law of the place or seat of arbitration bears the closest connection to the dispute and thus shall be deemed to be the governing law); See also, Sumitomo Heavy Industries v. ONGC Limited and Others, AIR 1998 SC 825.

[17]    Bhatia International v. Bulk Trading S.A. & Anr., 2002(4) SCC 105 (“Bhatia”)

[18]    M/S Dozco India P.Ltd. vs M/S Doosan Infracore Co.Ltd., (2011) 6 SCC 179; Videocon Industries Ltd. v. Union of India, (2011) 6 SCC 161; Harmony Innovation Shipping Ltd v. Gupta Coal India Ltd. & Anr, 2015 (3) SCALE 295.

[19]    Bharat Aluminum Company v. Kaiser Aluminum Technical Services Inc., (2012) 9 SCC 552.

[20]    Article V, New York Convention.

      [21]    See supra Section 2(b).

[22]    Art. 20, UNCITRAL Model Law on International Commercial Arbitration; Art. 14, ICC Arbitration Rules; Art 16, LCIA Arbitration Rules.

[23]    Section 20, the Act.

[24]    TDM Infrastructure Private Limited v. UE Development India Private Limited, 2008 14 SCC 271.

[25]    Section 28, the Act.

[26]    M/s Addhar Mercantile Private Limited v. Shree Jagdamba Agrico Exports Pvt Ltd, Arbitration Application No 197 of 2014 along with Arbitration Petition No 910 of 2013.

[27]    Supra note 9 at para 14.

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