By: R. Harikrishnan (Advocate, High Court of Kerala)
In this piece, the author examines a recent decision of the English Court of Appeal in Enka Insaat Ve Sanayi AS v. OOO Insurance Company Chubb (“Enka”) which held that the law governing the arbitration agreement would, unless there are powerful reasons demonstrating to the contrary, would be that of the curial law, as a matter of implied choice. This is a departure from the well-accepted principle that the law governing the arbitration agreement ordinarily follows the law governing the substantive contract as well as the three-stage test to determine the law governing the arbitration agreement propounded by the earlier judgment of the Court of Appeal in Sulamerica Cia Nacional De Seguros S.A. v. Enesa Enganharia S.A. (“Sulamerica”).
In Part I of this piece, the author examines the state of the law before Enka and the reasoning of the Court in Enka. Part II of the piece will examine the correctness of the view in Enka and the significance of this decision for Indian arbitration law. The author argues that the decisions starting from BALCO onwards indicate the view in Enka that the arbitration agreement will be governed by the law of the seat, although in none of these decisions determination of the law governing the arbitration agreement was expressly an issue.
THE LAW BEFORE ENKA
In practice, the law governing the substantive contract, in absence of any contrary indication, governs the arbitration clause. [See: Lord Mustill’s judgment in Channel Tunnel Group Ltd. v. Balfour Beatty Ltd.] This is so because a choice of law expressed in customarily broad and general terms would ordinarily draw no distinction between the main contract and the arbitration agreement [See: Adrian Briggs, Private International Law in English Courts (Oxford University Press, 2014) at para 14.39). However, by virtue of the doctrine of separability of an arbitration clause, it is perfectly possible to have an arbitration clause with a different law from that of the main contract. With the above backdrop, the decision in Sulamerica is examined.
THE DECISION IN SULAMERICA
In this case, the Court of Appeal laid down a working test to determine the proper law of the arbitration agreement. According to the Court, the proper law (of arbitration agreement) is to be determined by undertaking a three-stage inquiry into:
- express choice,
- implied choice,
- closest and most real connection.
Lord Justice Moore-Bick, after formulating the test quoted above, also held that the three stages ought to be embarked on separately and in that order, (emphasis supplied) since any choice made by the parties ought to be respected, but it has been said on many occasions that in practice stage (ii) often merges into the stage (iii), because identification of the system of law with which the agreement has its closest and most real connection is likely to be an important factor in deciding whether the parties have made an implied choice of proper law.
Thereafter, a distinction was drawn in paragraph 26 between a situation in which there is a “free-standing agreement to arbitrate” containing no express choice of law and a situation in which the arbitration agreement formed part of a substantive contract with an express choice of proper law governing the substantive contract. In the former situation, the system of law with which the arbitration agreement had the closest and most real connection has to be identified, while in the latter situation it would usually be that the arbitration agreement will also be governed by the law governing the substantive contract, unless the terms of the arbitration agreement say otherwise or that applying the substantive law of contract would make the arbitration agreement ineffective.
In an earlier decision of the Court of Appeal in C v. D, it was held that an agreement to arbitrate will normally have a closer and more real connection with the place where the parties have chosen to arbitrate than with the place of the law of the underlying contract. In the concurring opinion of Lord Justice Neuberger, while agreeing with the reasoning of Lord Justice Moore-Bick, nevertheless, expressed doubts as to the correctness of the new approach in C v. D with the earlier decisions that there is a presumption that the parties had intended that the arbitration agreement be governed by the same law as the substantive contract but that it could be rebutted on contrary evidence (paras. 53-58) but decided to leave that question unanswered. (para. 59)
The Sulamerica test was later followed in Arsanovia Ltd. v. Cruz City 1 Mauritius Holdings (applying ‘implied choice’ limb of the test, the Court found that Indian law, which governed the main contract also governed the arbitration clause despite having chosen London as the seat of arbitration) and Habas Sinai Ve Tibbi Gazlar Istihsal Andustrisi AS v. VSC Steel Company Ltd., which approved the three-stage test and held that when there was no express choice of law for the main contract, the law that will govern the arbitration agreement will be that of the law of the seat of the arbitration.
However, in a recent decision in Kabab-Ji S.A.L. (Lebanon) v. Kout Food Group (Kuwait) (“Kabab-Ji”), a slightly different approach was adopted on the determination of the law governing the arbitration agreement.
THE DECISION IN KABAB-JI
In Kabab-Ji, the arbitration agreement provided for arbitration in Paris and the law governing the main contract was English law. Article 1 of the Franchise Development Agreement [“FDA”] in question was significant in this case, which provided that
“This Agreement shall be construed as a whole and each of the documents mentioned is to be regarded as an integral part of this Agreement and shall be interpreted as complementing the others.”
When Article 15 of the FDA provided that the FDA would be governed by the English law, it followed that the arbitration clause in Article 14 would, therefore, follow the proper law of the contract- i.e. English law, in view of the wording in Article 1 of FDA that the agreement shall be construed as a whole. (Para. 62) This constituted an express choice of parties and the Court found it unnecessary to consider the question of whether there was an implied choice of English law. (Para. 70)
In this case, the Court followed a straightforward approach to decide the law which governed the arbitration agreement. The Court, instead of skipping to the implied choice or closest connection limbs of the Sulamerica test, adopted the express choice limb of the test. The decision, it is respectfully submitted, turned on the facts therein- the wide wordings used in the F.D.A.
THE DECISION IN ENKA INSAAT
In Enka, the proper law of the contract was Russian law and the seat of arbitration was London. The Court observes that in view of the confusion caused due to the different approaches, it is necessary to clarify the law as to the relative significance to be attached to the main contract law on the one hand, and the curial law of the arbitration agreement on the other, in seeking to determine the law governing the arbitration agreement. (para. 89)
According to the Court, an express choice of the law governing the arbitration agreement can only be found in rare cases like Kabab-Ji (para. 90). In all other cases, the general rule should be that the law governing the arbitration agreement is the curial law, as a matter of implied choice, subject only to any particular features of the case demonstrating powerful reasons to the contrary (emphasis supplied). The Court then proceeds to give three reasons for arriving at this conclusion:
Firstly, by virtue of the doctrine of separability, there is no principled basis for treating the law governing the substantive contract as a significant source of guidance for the law governing the arbitration agreement in cases where there is an arbitration clause with a different curial law. Thus, if the arbitration agreement is properly isolated from the main contract by the doctrine of separability for the purposes of one aspect governed by the law governing the arbitration agreement, namely its validity, existence and effectiveness, that is a powerful indication that it is to be isolated for the purpose of determining the law governing the arbitration agreement more generally. This is also a sensible business approach. (Paras. 92-95)
Secondly, the overlap between the scope of the curial law and that of the law governing the arbitration agreement strongly suggests that they should usually be the same. It involves the curial court determining aspects of the substantive rights of the parties under their arbitration agreement by reference to the curial law. This is well illustrated by provisions of the English Arbitration Act 1996. [See: XL Insurance v. Owens Corning  2 Lloyd’s Rep. 500]. This approach also stems from the fact that of the three potentially different systems of law, the connection between the law governing the arbitration agreement and the curial law is very much closer than that between the law governing the arbitration agreement and the main contract law. (Paras. 96 & 99)
Thirdly, the seat of arbitration is an implied choice of law rather than applying the closest and real connection test. In other words, the designation of the seat itself becomes the choice of law for arbitration agreement and there is no need to undertake an inquiry as to finding the law with which the agreement had the closest and real connection. This is supported by the views in Hamyln & Co. v. Talisker Distilleryand and Cie D’Armement Maritime SA v Cie Tunisienne de Navigation SA  A.C. 572 (Para. 100)
However, the Court notes that conceptual problems may arise where no seat has been chosen as the English law does not recognize the concept of a floating proper law but did not choose to elaborate on that since it was unnecessary for the present case (Para. 105)
Thus, the Court of Appeal effectively departs from the view in Sulamerica by holding that the choice of seat is an implied choice of the law governing the arbitration agreement. The consequence would be that the law governing the arbitration agreement would be that of the law governing the main contract, only in cases like Kabab-Ji, where it is express and in other cases, instead of the law governing the main contract, the curial law would become the law of the arbitration agreement. In other words, the presumption that the law governing the arbitration agreement follows that of the law governing the main contract has been displaced by a new presumption in favor of the curial law. [para. 105 (3)]. The correctness of this approach will be examined in the next post.
(R. Harikrishnan is currently practising in the High Court of Kerala. He can be contacted at email@example.com.)