This is my speech at the In-house Congress in Jakarta, Indonesia, on 23 April 2014. It was on why it’s important your commercial contracts contain an arbitration clause that works well.
The Midnight Clause
Almost sounds a bit romantic. But is it? What is a midnight clause?
I don’t know who coined the phrase, but the scenario is that of lengthy, exhausting contract negotiations lasting the entire day, stuffy conference room, with the parties discussing the terms and their lawyers rendering impromptu advice and taking everything down in black and white. Then, at the very end of it, in the deep of the night, when everyone only wants to go home, someone remembers something: perhaps we also need a dispute resolution clause?
Yes, but of course! (Oh man, really?!)
And someone puts in a dispute resolution clause, fast and without much consideration. Can we go home now?
As a consequence, what finds its way into the contract fast and inconsiderately isn’t always the most fitting solution. And this doesn’t apply only to disputes the parties want to submit to arbitration. It applies in the same way to litigation or any alternative dispute resolution. But today, let’s shine a light on this from an arbitration angle.
Off the Peg or Bespoke?
The situation has improved somewhat since many arbitral institutions provide model dispute resolution clauses. But it’s already midnight, remember? There is the risk that contract drafters simply copy such a model clause and paste it into the draft contract. That, then, is like wearing a ready-made suit.
And what is a ready-made suit? It can be the best solution for those with standard measures. Doesn’t take long to get, reasonably priced, and looking good. Likewise, a well-crafted model clause may just be the right thing for a standard contract.
But for those of us with non-standard corpulence, or height, or shortness, or with one arm longer than the other, a ready-made suit may not be – suitable. Tailor-made may look better. Likewise, where our contract deals with anything out of the ordinary, it may be better to make it to measure. And that would include the dispute resolution clause. Because if this clause suffers from a serious defect, dispute resolution may just not work as intended.
Now, all this is very general and refers to good contract drafting and as such is nothing specific to arbitration. Of course you should draft every contract clause in such a way that it is consistent, certain and operable. But we’re here to take a look at the ramifications on arbitration.
Let’s take a look at two scenarios. First, where the midnight arbitration clause is so amiss that, if we apply our analogy again, one wouldn’t say this is a fitting suit. Rather, this thing is so miscut and ugly you can hardly call it a suit. Second, where the midnight arbitration clause is flawed but perhaps can be used if you interpret it right. An ill-fitting suit I shouldn’t be wearing on the street. But perhaps it looks bad on me only, and even I can still tug it into place for one family photograph.
The Miscut: Hopeless
For both parties is a decision of Lloyd or Vienna stock exchange binding and both will subjugate to the International Chamber of Commerce.
This is a real-life dispute resolution clause but, as a textbook on arbitration puts it (Redfern and Hunter on International Arbitration, 5th edition 2009, at 2.180), it’s simply meaningless. It doesn’t make clear who is to decide a dispute. It doesn’t say if the dispute is to be settled by arbitration, mediation or conciliation, or some other procedure. And what for anyway will both parties subjugate to the International Chamber of Commerce?
New York Fashion
Take a look at the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards. This New York Convention doesn’t only deal with the recognition and enforcement of international arbitral awards, as its name implies. It also deals with the validation of international arbitration agreements. Its article II (3) reads as follows:
The court of a Contracting State, when seized of an action in a matter in respect of which the parties have made an agreement within the meaning of this article, shall, at the request of one of the parties, refer the parties to arbitration, unless it finds that the said agreement is null and void, inoperative or incapable of being performed.
All arbitration is based on the parties’ agreement to arbitrate. Where there’s no such agreement, state courts are less inclined to let go of their jurisdiction. In the words of the New York Convention (if you read only the bold part above): ‘The court of a Contracting State shall refer the parties to arbitration, unless it finds that the said agreement is null and void, inoperative or incapable of being performed.’
Further, this is a part of article V (1) of the New York Convention:
Recognition and enforcement of the award may be refused, at the request of the party against whom it is invoked, only if that party furnishes to the competent authority where the recognition and enforcement is sought, proof that:
(a) The parties to the agreement referred to in article II were, under the law applicable to them, under some incapacity, or the said agreement is not valid under the law to which the parties have subjected it or, failing any indication thereon, under the law of the country where the award was made; …
Similar wordings can be found in the UNCITRAL Model Law on International Commercial Arbitration, also on the setting aside of an award. The Model Law wasn’t adopted by Indonesia but by many other countries, hence its relevance.
What I am saying is this. If the arbitration clause is drafted so badly that it doesn’t do what it is supposed to, the courts may quash it before, during, even after the arbitration. If the courts of the arbitral seat quash the clause before the arbitration tribunal has gone to or finished its work, there will be no arbitral award. Unless the parties agree to arbitration again, but this time in a legally valid manner. Unfortunately, once a dispute has arisen, this is unlikely to happen.
Now, the scenario of an invalid arbitration clause is relatively clear, in principle.
The Ill Fit: Can Be Adjusted, Perhaps
The somewhat more interesting cases are those of the second scenario. That’s the midnight arbitration clause which is flawed but which we may bring into shape. Maybe. Take a look at this one.
Any and all such disputes shall be finally resolved by arbitration before the Singapore International Arbitration Centre in accordance with the Rules of Arbitration of the International Chamber of Commerce then in effect and the proceedings shall take place in Singapore and the official language shall be English.
Insigma Technology v Alstom Technology
This is the arbitration clause of Insigma Technology Co Ltd v Alstom Technology Ltd, a case before the Singapore Court of Appeal in 2009.
Here the parties had agreed one arbitral institution, the Singapore International Arbitration Centre (SIAC), should administer the arbitration rules of another arbitral institution, the International Chamber of Commerce (ICC). They had done so because the SIAC is cheaper. So there were cost concerns. Yet the question whether this midnight arbitration clause would work under the law had to go all the way to the Singapore Court of Appeal. This took years.
When the parties had a dispute, Alstom referred it for arbitration before the ICC. Insigma contested this, referring to that part in the arbitration clause which said SIAC. It also claimed the SIAC could apply the ICC Rules.
Alstom withdrew the arbitration from the ICC and commenced it at the SIAC. A tribunal came to being and went to work. It had to decide on its jurisdiction because now Insigma claimed this arbitration clause – the rules of institution A to be applied by institution B – was inoperable, namely because the SIAC was not able to administer the arbitration under the ICC Rules. In other words, now Insigma argued the exact opposite of what they had said earlier. Anyway, the tribunal asked the SIAC if it could administer the arbitration under the ICC Rules. The SIAC said yes. So the tribunal decided it had jurisdiction and issued a preliminary award to this effect.
…To Singapore’s Courts
Now Insigma applied to the Singapore High Court to have this award set aside because the arbitration clause wasn’t valid due to uncertainty. It said a non-ICC institution couldn’t administer the ICC Rules as these had so many unique features. Also, the parties had bargained for the ICC’s hallmark of quality. They wouldn’t get that if the arbitration ended up before the SIAC.
Contract Law Swerve
By the way, clause not valid due to uncertainty. This is of course common law of contract at work, whereby if the terms of the contract are uncertain, the parties can’t have reached an agreement. The rules of interpretation in most civil law jurisdictions, like Indonesia or Germany, give a judge more discretion to feel out what the parties wanted, even if they didn’t say it right. I’m not sure whether in a civil law jurisdiction Insigma would have pleaded that the arbitration clause was uncertain. Small digression. Back to the topic.
Where Were We?
The High Court rejected Insigma’s argument the arbitration clause wasn’t valid due to uncertainty. It said the parties hadn’t bargained for any ICC hallmark of quality but for a hybrid ad hoc arbitration before institution A under the rules of institution B. In principle there was no problem with that, especially since the SIAC had confirmed they could apply the ICC Rules. So yes, as you the parties have expressed your wish to arbitrate, go and arbitrate!
But instead, Insigma went to the Singapore Court of Appeal and suffered just another hammering. The Court of Appeal had a look at the situation and simply stated: ‘what the High Court said’. It also added a few general observations on the legal validity of hybrid international arbitration agreements.
Such as, you have to construe arbitration agreements like any other commercial agreement. This means you have to give effect to the parties’ intentions as expressed. (‘Stricter’ common law approach!) Where parties had expressed an intention to arbitrate, they should go and arbitrate. It doesn’t matter if certain aspects of the agreement might be ambiguous or even inefficient. The principles of party autonomy and effective interpretation dictated that.
What the Court of Appeal said is if the parties chose a suit, they should go out and wear it. If they deliberately chose an ugly but wearable suit, they should still go out and wear it. An ugly but workable arbitration clause is still a workable arbitration clause.
Paris, of Course
This Court of Appeal ruling came in mid-2009 and when the ICC got wind of that, it wasn’t very enthusiastic. So in 2012 the ICC amended its rules and added the following two clauses (in articles 1(2) and 6(2)):
The International Court of Arbitration (the ‘Court’) is made the only body authorised to administer arbitrations under the ICC Rules…
By agreeing to arbitration under the Rules, the parties have accepted that the arbitration shall be administered by the Court.
The ICC did that to discourage hybrid arbitration agreements. In addition, the ICC stated it would not administer any case involving a hybrid arbitration agreement and it hoped other arbitral institutions would do likewise.
End of story? No. We go back to Singapore.
Any dispute shall be settled by amicable negotiation between two Parties. In case both Parties fail to reach amicable agreement, all dispute out of in connection with the contract shall be settled by the Arbitration Committee at Singapore under the rules of the International Chamber of Commerce of which awards shall be final and binding both parties…
HKL Group v Rizq International
This is the unedited (except for the part in bold type) midnight clause which in February 2013 ended up in the Singapore High Court, in HKL Group Co Ltd v Rizq International Holdings Pte Ltd. The new ICC Rules were already in place, yet the parties here had agreed on hybrid arbitration again. That is to say they had agreed on arbitration before ‘the Arbitration Committee at Singapore’ under ICC Rules. Other issues aside, you can see this is a midnight clause because such an entity doesn’t exist.
There were new ICC-only clauses in the ICC Rules, but the court held the rules of an arbitral institution couldn’t bind two parties and therefore prohibit a hybrid arbitration clause. This would be against the parties’ freedom of contract. Also, no rules of an arbitral institution could curtail the power of a court to interpret an arbitration clause which provides for hybrid arbitration.
The court ruled this was a valid arbitration clause. Not a good one, perhaps, but one you can make work. You know, if it doesn’t fit, use a bigger hammer. There is no Arbitration Committee at Singapore, but the parties can go and ask any arbitral institution in Singapore which could and would apply the ICC Rules. For example: the SIAC.
The High Court said: this suit isn’t pretty, but pull here and tug there and it will be alright for taking one picture, if you stand straight.
Clothes Make the Man
With this, we’ve taken a look at two not so great arbitration clauses – textbook examples of midnight clauses – and where the parties using them ended up. This was to exemplify the unwarranted risk which lies in midnight clauses.
When a legal dispute arises, quite often the relationship between the parties would break down so completely that one party will do all it can to resist all forms of dispute resolution. In arbitration, this party may challenge the jurisdiction of the tribunal, boycott the proceedings entirely, seek a court order to set aside the award on the ground the arbitration agreement is void, or resist enforcement of the award. Or even all of the above, one by one.
In a scenario like Insigma or Rizq the party may rely on the new articles of the new ICC Rules. If in any of those instances the party managed to get a court to declare the arbitration agreement invalid, the entire arbitral process would go to waste. A huge risk for the innocent party to take. This risk is entirely unwarranted, because the use of a good arbitration clause would avoid it. Good can mean ready-made or tailor-made, it doesn’t matter. As long as it is good.
Risks, Consequences, Costs, Delays
In addition: think of the inherent costs and delays! In Insigma v Alstom, Alstom first filed a request for arbitration with the ICC in August 2006. After Insigma objected, Alstom commenced arbitration through the SIAC in November 2006. Insigma objected again. When in December 2007 the arbitral tribunal ruled it had jurisdiction to arbitrate, Insigma applied to the High Court of Singapore, which rendered its judgment in August 2008. Insigma finally appealed to the Court of Appeal, which gave its judgment in June 2009. It took the parties nearly three to obtain a final determination on whether the arbitration clause was valid.
And you know what? At the end of it Alstom got a final award against Insigma over 30 million US dollars but couldn’t even enforce it where it wanted to. It would have worked in Hong Kong, but that’s not really where Alstom wanted to go. Insigma’s main assets were in mainland China. There, it didn’t work.
Why? The Supreme People’s Court, just like the Singapore Court of Appeal, held this hybrid arbitration clause was an agreement to arbitrate ad hoc. But Chinese law doesn’t recognise ad hoc arbitration.
The Suit Bag
Midnight clauses. My takeaway points, obviously, are these. It is often wise to agree to arbitrate. But one shouldn’t underestimate the phrasing of the arbitration clause, or the advantages of arbitration may not come into effect. Parties should pay attention to the phrasing. Else they run the risk of costly jurisdictional fights before or parallel to the hearing of the merits.
That’s why: don’t let your arbitration clause be a midnight clause. Give this clause some consideration, if not more.
But if it is already midnight, make sure you and your lawyers get some fresh air and enough coffee before you draft the clause.
Or, to strain our analogy one last time: above all, make sure you choose a suit in the first place. Then, try to choose one that fits. Ideally, try to choose one that looks handsome. At any time of day.