In two recent judgments of the Hong Kong courts, Judge Mimmie Chan has (i) stayed court proceedings in favour of arbitration in a matter involving an “escalation clause”; and (ii) rejected an application to set aside an arbitral award on the basis of alleged errors of law.
William Lim & anor v Hung Ka Hai Clement
In this decision ( HKCFI 1439; HCA 1282/2016), the Hong Kong Court of First Instance stayed litigation proceedings in favour of a reference to arbitration, in the process rejecting the plaintiff’s argument that they were entitled to maintain the court proceedings by virtue of the operation of an “escalation clause” in the relevant dispute resolution provisions.
(An escalation clause is a dispute resolution provision which provides for one or more methods for resolving disputes before a party initiates an arbitration. These clauses are also commonly referred to as “multi-tiered dispute resolution clauses”.)
Section 20(1) of the Arbitration Ordinance (Cap. 609) (“Ordinance”) gives effect to Art. 8 of the UNCITRAL Model Law. It sets out the basic principle that a court before which an action is brought in a matter subject to an arbitration agreement shall, if a party so requests, stay the proceedings and refer the parties to arbitration.
However, under s. 20(1) a referral will only be made if certain conditions are met, including that the court does not find that “the agreement is null and void, inoperative or incapable of being performed”. As other recent decisions of the Hong Kong courts have confirmed, an applicant seeking a stay of proceedings to arbitration need only demonstrate that there is a prima facie case that the parties are bound by an arbitration clause. The test is not an onerous one. Unless it is clear that no clause exists, the court should not attempt to resolve the issue and the matter should be stayed in favour of arbitration. In William Lim, the Plaintiffs, partners of a multinational professional services firm were parties to the the firm’s Shareholders’ Agreement (“Agreement”).The Agreement in turn contained escalation provisions allowing for any dispute arising thereunder to be referred first to the Chairman and then to the Governing Board, further providing that “if such dispute shall not be resolved within twenty one (21) clear Business Days of being referred to the Governing Board, any party to the dispute may refer the matter for final resolution to arbitration” (the “Escalation Procedure”).
In this case, two partners of the firm challenged certain financial and other penalties imposed by the firm’s Governing Board for alleged breaches of the confidentiality obligations contained in the Agreement. Despite the fact that the Governing Board review comprised only the “second tier” of the Escalation Procedure before arbitration, the Plaintiffs commenced court proceedings challenging the Board’s decisions.
The Defendants applied to stay the proceedings to arbitration, pursuant to the arbitration clause contained in the Agreement.
In her judgment, Mimmie Chan J granted the stay. She rejected the Plaintiff’s contention that they were entitled to maintain the proceedings, on the basis that the dispute resolution mechanism in the arbitration clause had been exhausted and was therefore not capable of being performed. The sanctions granted by the Governing Board were “clearly not to the satisfaction of the Plaintiffs, who are manifestly disputing the validity of the Sanctions and the decisions made by the Board – as evidenced by the claims made in these proceedings and as set out in the SOC” (see para. 19).
Accordingly, “there is a dispute in existence between the parties, and such dispute falls within the ambit of the arbitration clause in the Agreement, as one which relates to a matter under the Agreement.” (Id.)
Further, on a wider point, Chan J noted that “even in the course of one reference to arbitration, more than one dispute may arise, and unless all these disputes are resolved and decided by the tribunal, the arbitration cannot be said to have been terminated”. Further, “one or more disputes may arise under the arbitration agreement between the same parties” and “[t]he fact that one dispute has been referred to arbitration cannot mean that the arbitration agreement has been performed, and cannot be further implemented.” (see para. 21).
Hence, the court granted the stay sought by the Defendants, with costs to be paid by the Plaintiffs on an indemnity basis.
American International Group and AIG Capital Corporation v X Company
In this decision (HCCT 60/2015), Chan J refused to set aside an arbitral award which the Plaintiff alleged had been wrongly decided on the basis of principles of fairness and equity, instead of under the strict law of the relevant agreements.
Section 81 of the Ordinance (incorporating Art. 34 of the Model Law) allows a court to set aside an arbitration award if the applicant party provides proof that one of a number of limited grounds exists. These include grounds that:
- ”the award deals with a dispute not contemplated by or not falling within the terms of the submission to arbitration, or contains decisions on matters beyond the scope of the submission to arbitration”
(Art. 34(2)(a)(iii)); or
- ”the composition of the arbitral tribunal or the arbitral procedure was not in accordance with the agreement of the parties” (Art. 34(2)(a)(iv)).
Further, under s. 64, which applies Art.28 of the Model Law, an arbitral tribunal is required to decide the dispute in accordance with such rules of law as are chosen by the parties as applicable to the substance of the dispute. Article 28(3) provides that the tribunal shall dispense with this principle and decide the matter on the basis of fairness and equity only (as opposed to on a strict application of the law) where the parties have authorised it to do so.
In the present case, the arbitral tribunal, in its award, found that the Plaintiff was not entitled to recover a deposit which it had paid into an escrow account pursuant to a failed M&A transaction. The plaintiffs subsequently commenced set-aside proceedings in the Hong Kong court, on the basis of alleged breaches of Art. 34 of the Model Law.
Both the Share Purchase Agreement (“SPA”) and the Escrow Agreement were governed by the laws of the State of New York. However, the Plaintiff complained that the tribunal had disregarded basic principles of New York law in order to arrive at what it considered the fair or equitable result. This, in turn, was alleged to have the effect that the tribunal decided the dispute on the basis of fairness and equity rather than, as it was required to do, on the strict application of New York law.
In her decision, Chan J confirmed that the setting aside remedy under Art. 34 of the Model Law is not an appeal on the law. On the contrary, “the Court is concerned only with the structural integrity of the arbitration process” (see para. 15). Accordingly, a set-aside application would not be granted only upon a finding that an arbitrator had incorrectly applied the applicable law – instead it must be shown to have “consciously disregarded” that law.
In the present case, Chan J found that there was no evidence to support an inference that the Tribunal had “consciously ignored New York law and deliberately failed to apply the principles set out in the cases decided by the US courts which are binding on them, with the intent to arrive at their conclusions which contradict the legal authorities” (see para. 22).
Indeed, upon a review of the Award, Chan J said that “it can be seen that the Tribunal had considered and referred to a host of authorities, including decisions of the Court of Appeals of New York (New York’s highest court), and of the Supreme Court. It cannot be said that it is plain from the Award itself, that the Tribunal or the Majority had totally disregarded or ignored the governing law.” (see para.13).
The court rejected the Plaintiffs’ application to set aside the Award and awarded costs on an indemnity basis.
The decision in William Lim, confirms the low threshold that an applicant must meet to secure a stay of court proceedings in favour of arbitration – namely that there is a prima faciecase that the parties are bound by an arbitration clause.
As for the decision in American International Group, this reconfirms that in Hong Kong, an error of law made by the arbitral tribunal, no matter how serious, will not constitute grounds for setting aside an award.
It is notable also that, in both instances, the court awarded costs on an indemnity basis, reflecting a typical practice in dealing with unsuccessful challenges to the arbitral process.
We would also like to thank Eliza Jiang for her contributions in drafting this article.