Suraj Sajnani and Jesse Tizard look at a recent Hong Kong court decision which determined that decisions regarding compliance with arbitration preconditions are a matter of admissibility.
On 30 June 2023, the Court of Final Appeal (CFA) delivered its judgment in C v D, concerning enforcement of escalation clauses. The CFA held that decisions about whether a pre-condition to arbitration contained in an escalation clause (typically, negotiation or mediation) has been complied with is a matter for arbitral tribunals, not courts.
The decision is the final word on the long running saga in C v D, a case we have covered in earlier posts on: Court of First Instance (CFI) decision, the Court of Appeal (CA) decision, and the CFA’s decision granting leave to appeal.
How does the decision improve the efficiency of arbitral proceedings?
Escalation or ‘multi-tiered’ dispute resolution clauses are often used in contracts to encourage parties to amicably resolve their differences before resorting to more costly and protracted formal proceedings. However, the efficiency that these clauses are intended to achieve can be thwarted by procedural disputes, for example over whether the parties have negotiated in good faith, whether the commencement of arbitration is premature, or (as in C v D) the interpretation of escalation clauses and what exactly is required before proceeding to arbitration.
By confirming that disputes about compliance with pre-conditions to arbitration are for the tribunal to hear, the CFA decision forecloses (in all but exceptional cases) the possibility of such disputes spilling over into court litigation. It is now for tribunals to decide such issues. Where it is found the parties have not complied, a tribunal could decline to hear the dispute outright, refrain from hearing a dispute until the parties have complied with the pre-condition, or account for non-compliance when deciding costs.
Drafting considerations
The decision affirms that, where parties have agreed to arbitration, it is presumed that their intention was for the tribunal to be a “one-stop-shop” for all their disputes including for procedural aspects, and subject only to the grounds of intervention afforded in the law of the seat.
It is important for the parties to clearly set out what process they intend to follow in the event of disagreements. In C v D, the escalation clause featured two different mechanisms: (1) negotiation and (2) referral to the parties’ respective CEOs for discussion. The parties agreed that negotiation was mandatory, but they could not agree whether it was essential for the CEOs to attempt resolution before arbitration (as explained further below). The lesson is clear: parties are well-advised to ensure their disputes clauses set out precisely what steps must be followed in the event of a dispute prior to commencing arbitration, leaving nothing open to different interpretations.
The court did recognise that there may be unusual cases where the parties agree to arbitrate their disputes yet vest limited jurisdiction with the court to determine compliance with pre-conditions to arbitration (or other procedural matters). However, this kind of fragmented dispute resolution clause would require “unequivocally clear language”.
Background to the decision
The background to the dispute was as follows:
- The appellant C was a Hong Kong company in the business of owning and operating satellites. The respondent D was a Thai company operating satellites in the Asia Pacific region. The parties entered into an agreement for deployment of a jointly owned broadcasting satellite, whereby C would develop its business in the PRC, and D would do so outside the PRC. The agreement between the parties was governed by Hong Kong law.
- The dispute resolution clause in the agreement provided as follows:
“14.2 Dispute Resolution. The Parties agree that if any controversy, dispute or claim arises between the Parties out of or in relation to this Agreement, or the breach, interpretation or validity thereof, the Parties shall attempt in good faith promptly to resolve such [dispute] by negotiation. Either Party may, by written notice to the other, have such dispute referred to the Chief Executive Officers of the Parties for resolution. The Chief Executive Officers (or their authorized representatives) shall meet at a mutually acceptable time and place within ten (10) Business Days of the date of such request in writing, and thereafter as often as they reasonably deem necessary, to attempt to resolve the dispute through negotiation.
14.3 Arbitration. If any dispute cannot be resolved amicably within sixty (60) Business days of the date of a Party’s request in writing for such negotiation, or such other time period as may be agreed, then such dispute shall be referred by either Party for settlement exclusively and finally by arbitration in Hong Kong at the Hong Kong International Arbitration Centre (‘HKIAC’) in accordance with the UNCITRAL Arbitration Rules in force at the time of commencement of the arbitration (the ‘Rules’) …”
- On 6 December 2018, C issued certain commands to the satellite which D considered a breach of the agreement.
- On 18 April 2019, D issued a notice of arbitration under clause 14.3. The parties agreed that clause 14.2 required both sides to negotiate in good faith before submitting their dispute to arbitration. What they could not agree on was whether it was mandatory to refer any dispute to the CEOs before commencing arbitration. The appellant C said that the pre-conditions to arbitration set out in clauses 14.2 and 14.3 had not been satisfied and the arbitration was therefore premature.
- The tribunal sided with D. It considered that negotiation in good faith was compulsory, that referral to the CEOs was merely optional, and found that the essential pre-condition for arbitration had therefore been fulfilled. Arbitration on the merits ensued and the tribunal ultimately delivered an award in favour of the respondent D.
- The CFI and CA agreed with the respondent D, affirming the generally held view that non-compliance with a pre-condition to arbitration is a question of admissibility not jurisdiction, meaning that it was not up for review by the court. The award therefore could not be set aside under Hong Kong law and the decision of the tribunal prevailed on both the procedure and merits.
The CFA’s reasoning
All five justices of the CFA agreed the appeal should be dismissed since the dispute about the pre-conditions to arbitration could not come within the Arbitration Ordinance (AO) s 81, Model Law (ML) Art 34(2)(a)(iii). However, they differed in approach:
- The majority (Chief Justice Cheung and Ribeiro, Fok and Lam PJJ) drew on the admissibility / jurisdiction distinction as a “helpful aid” to distinguish between matters open for review by the courts and those that are not. Using that approach, their Honours considered the appellant C’s objection went to the admissibility of the claim rather than jurisdiction of the tribunal. There was no indication in the relevant clauses (14.2 or 14.3 above) that the parties intended to confer jurisdictional status on the pre-arbitration conditions. As such, the claim was not amenable to judicial intervention under the AO.
- Gummow NPJ relied on the terms of the AO and contract alone and did not resort to the admissibility / jurisdiction distinction, which he referred to as an “unnecessary distraction”. Using this approach, he found the dispute was within the scope of the parties’ submission to arbitration. The relevant clauses captured “any controversy, dispute or claim [arising] between the Parties out of or in relation to this Agreement, or the breach, interpretation or validity thereof”. As such, there was no basis to confine the scope of arbitrable disputes to those arising under the agreement but exclude a specific subset of disputes relating to the fulfillment of pre-conditions to arbitration.
The appellant had also argued that the pre-arbitration conditions were a condition precedent to the arbitration agreement and, unless complied with, relieved the parties of any obligation to proceed to arbitration. The court rejected that argument as “untenable”, noting the condition precedent was directed to the claim not the arbitration agreement itself. Ribeiro PJ held, “It is not in dispute that the pre-arbitration condition in clause 14.2 is a condition precedent to the tribunal dealing with the claim. The question is who finally decides – the tribunal or the Court – whether it has been met”.
Jurisdiction / admissibility distinction
The distinction is helpfully explained by Ribeiro PJ who delivered the leading judgment:
“31. … If it is contended that a tribunal has wrongly ruled that it has jurisdiction when in law it has no authority to deal with the arbitration, the policy of the law is clearly that the supervisory or enforcing court should have power to decide whether jurisdiction was correctly assumed. As Lord Saville of Newdigate JSC commented, an arbitral tribunal may rule on its own jurisdiction but cannot be the final arbiter of jurisdiction, “for this would provide a classic case of pulling oneself up by one’s own bootstraps”
32. It is less obvious why “admissibility” has been adopted as the label for the other half of the distinction. It has nothing to do with evidential admissibility but refers to what might be termed “procedural admissibility”. The term is used to characterise objections which allege that a claim is defective and cannot be proceeded with, to be contrasted with challenges to the authority of the tribunal to conduct the arbitration.”
In short, the distinction asks whether the objection was directed to the claim or the tribunal itself. The distinction has been endorsed in different contexts in a number of jurisdictions, including England and Wales, Singapore and New South Wales. It also finds support in a number of esteemed scholarly writings.
Ribeiro PJ considered the jurisdiction / admissibility distinction to be a “unifying principle” applicable to the various instances where the AO permits judicial intervention. Examples where intervention is permitted include disputes to determine the:
- Validity of the arbitration agreement, i.e., where it is alleged that the agreement is non-existent, invalid, vitiated by the incapacity of a party to the agreement, null and void, inoperative or incapable of being performed.
- Scope of arbitration agreement, i.e., where it is alleged that matters submitted to arbitration are not in accordance with the arbitration agreement, where the tribunal exceeds its authority to determine matters; where a counterclaim or claim by way of set-off falls outside the scope of the same arbitration agreement.
- Arbitral process objections, i.e., where a party claims it was not given proper notice of the appointment of the arbitrator or the proceedings or was otherwise unable to present his case.
The other justices (except for Gummow NPJ) agreed with Ribeiro PJ that the distinction provides a useful framework, albeit the terms ‘jurisdiction’ and ‘admissibility’ are just labels, and the outcome of challenge will depend on substance. Fok PJ explained his endorsement of the admissibility / jurisdiction distinction as follows:
“… I respectfully agree that it is sound in principle and useful to adopt a distinction between a challenge to the tribunal and a challenge to the claim as well as a presumption that challenge based on non-fulfilment of pre-arbitration condition is non-jurisdictional. Since the distinction only operates as a presumptive aid to the construction of an arbitration clause, it is open to the parties to draft a clause in a manner which clearly overrides the effect of such presumption in respect of the fulfilment of pre-arbitration conditions. The availability of judicial recourse is therefore ultimately dependent upon the proper construction of the parties’ agreement...”
It was noted that any rejection of the distinction would “risk placing Hong Kong at variance with other jurisdictions, which like Hong Kong, promote international arbitration and limit the extent of court intervention in the arbitral process”. As it now stands, the CFA’s decision is likely to be regarded as persuasive authority in more than a hundred Model Law jurisdictions.
Key Takeaways
- Consider carefully whether an escalation clause is appropriate and desired for your transaction. On the one hand, use of such clauses promotes cheaper and more commercial resolution of disputes before they result in formal proceedings; on the other hand, parties are always free to engage in without prejudice negotiations and may prefer to have the option of direct resort to arbitration. The best option is a matter to discuss with your legal advisers.
- As with any other aspect of a contract, if parties wish to have a multi-tiered disputes clause, it is crucial to draft it with precision to ensure it is clear what each tier requires, and when a party may escalate the dispute to arbitration.
- If a dispute arises, ensure each tier or pre-condition is properly complied with. An arbitral tribunal may find the dispute to be outside of its scope or decline to hear the dispute until the parties have complied.
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