Drafting issues relevant to Hong Kong and beyond: asymmetric clauses, multiple-contract scenarios and risks of arbitrating against non-parties in financial arbitration

Introduction

It goes without saying that a well-considered and well-drafted arbitration agreement avoids wasting time and costs on satellite arguments, which go to peripheral matters and not the substance of a dispute.

Common features in suites of financial agreements include: (a) asymmetric arbitration clauses; (b) multiple contracts incorporating multiple arbitration agreements; and (c) parties belonging to a complex corporate structure and which are parties to an arbitration agreement.  All of which may give rise to risks of enforcement of an arbitration agreement.

This article highlights how the foregoing issues may affect the validity (or otherwise effectiveness) of an arbitration agreement, with a view to providing some tips and best practices for drafting arbitration agreements in typical financial contexts. Save as to issues that clearly have an international dimension, discussions are premised on arbitration law in Hong Kong

A. Asymmetries

In a typical financial arrangement, especially that between a lender and borrower, arbitration agreements typically feature asymmetric dispute resolution clauses as a result of an imbalance in parties’ bargaining powers in favour of the lender.  These clauses provide two main advantages: the possibility of enforcing an award in whichever jurisdictions the assets are located, and the relative ease of enforcing an award as compared to enforcing a foreign judgment.[1]

Asymmetric clauses typically take two forms: (a) a unilateral right to arbitrate or litigate[2] given to the stronger party (confining the weaker party to either arbitration or litigation, but not both); or (b) a unilateral right to commence proceedings in one or more jurisdiction(s) given to the stronger party (confining the weaker party to bringing proceedings in an exclusive jurisdiction). Depending on the jurisdiction the dispute is subjected to, such asymmetries existing in an arbitration agreement risk the agreement being deemed invalid and thus unenforceable.

For the avoidance of doubt, “exclusive jurisdiction clause” and “unilateral jurisdiction clause” are used interchangeably for the purpose of discussions in this article.

Hong Kong, United Kingdom and Singapore

These jurisdictions put an emphasis on parties’ autonomy. Generally, asymmetric clauses are valid and enforceable in these jurisdictions.

The Hong Kong authority on point is China Merchants Heavy Industry Co Ltd v JGC Corp (2001) 3 HKC 580, which held that a clause giving one party a unilateral right to arbitrate falls within the meaning of art 8(1) of the Model Law.[3] The court upholds asymmetric clauses so long as they are not “null and void, inoperative or incapable of being performed”.

The U.K. position is similar to that in Hong Kong, with a slight caveat that the asymmetric clause has to be one that has been freely negotiated by the parties (which is not the same as requiring parties to have the same bargaining power) agreement. An authority on point is NB Three Shipping Ltd. v Harebell Shipping Ltd [2004] EWHC 2001 (Comm).

The Singapore position is in line with that of Hong Kong and the U.K.. A recent authority is Dyna-Jet Pte Ltd v Wilson Taylor Asia Pacific Pte Ltd [2017].

France (under the auspices of the European Union)

The French position is unsettled and is labelled as a “problematic” jurisdiction. The state of affairs, explained in the passage below, merits a discussion based on relevant court cases.

The famous (or notorious) decision of the French Supreme Court in the Rothschild, later reinforced by its decision in Credit Suisse (Switzerland) and Danne Holding Patrimoniale[4], shows the negative attitude of the French courts towards an exclusive jurisdiction clause. While the reasoning given for the former decision was the “potestative” nature of such a clause, which essentially means a lack of mutuality of obligation[5] (in violation of Article 23 of the Brussels Regulation (Council Regulation (EC) No 44/2001)), the latter decision was based on a lack of an objective basis (or objective criteria) for the alternative jurisdictions to which the party with the benefit of a unilateral jurisdiction clause resorts, contrary to the objectives of foreseeability and legal certainty underpinning the Lugano Convention.[6] Consistency in reasoning aside, it is clear that the French courts disapprove of an exclusive jurisdiction clause vesting unilateral court jurisdiction rights in the stronger party.

What is unclear is whether French courts are also similarly hostile to a unilateral right to litigate or arbitrate, a point which the courts have been silent on.

B. Multiple Interlinked Financial Contracts

A recent Hong Kong High Court decision in X v Y [2020] HKCFI 2782 makes clear the need for careful arbitration agreement drafting in the context of multiple interlinked contracts (which is particularly common in financial arrangements).  In X v Y, the financial relationship between X and the Bank had two aspects (among others), namely an investment management mandate (the “Mandate”) and a pledge of the managed assets as security for a loan (the “Pledge”), each of which was governed by a distinct arbitration agreement providing for a distinct dispute resolution mechanism. This led to two sets of proceedings commenced: (a) arbitration under Taiwanese law; and (b) litigation under Singapore law before the Singapore court. At issue was which dispute resolution mechanism should prevail. The court looked for the contract that has the “closest connection” with the dispute and claim, having regard to their nature, of which process should ultimately ascertain parties’ intentions as to how their disputes should be dealt with. Applying the “closest connection” test, the Court concluded that the Pledge was undisputedly the “centre of gravity of the dispute”, and therefore that the dispute must be referred to the Singapore court, not arbitration under Taiwanese law, for a conclusive finding on the issue of Pledge validity.[7]

C. Non-parties to An Arbitration Agreement

The first quarter of 2021 saw a salient decision on point. In AB v CD [2021] HKCFI 327, the Hong Kong court refused to enforce an award, since there was, inter alia, no valid arbitration agreement between AB (the Claimant) and CD (the Respondent) (Article 34(2)(a)(i) of the Model Law engaged).

This decision distinguished Giorgio Armani SpA v Elan Clothes Co Ltd [2019] 2 HKLRD 313 and [2020] 1 HKLRD 354[8], where the court decided the case on the basis of the clear expression in the underlying agreement that the agreement was made “by and between” the parent company, SpA, “together with its branch offices and Affiliates”, and the body of the agreement suggesting that rights and obligations of the named parties extended to their affiliated entities. In AB v CD, however, comparably clear indication of this kind, or references to any other subsidiary or affiliate of AB / Bureau in other parts of the agreement, was absent. These, coupled with other observations suggesting the lack of evidence that AB Engineering (i.e. the entity against which the claimant sought to enforce the award) had any role with respect to the performance of the underlying agreement, led the court to the conclusion that, though AB Engineering was a subsidiary of AB Bureau at the time of the agreement, and despite the seemingly wide definition of “AB”[9], AB Engineering was a non-party to the arbitration agreement.

Drafting Tips and Best Practices

1. In view of the analysis on the divergent approaches to asymmetric dispute resolution clauses, opt for Hong Kong (or Singapore or the U.K.) as the seat of arbitration and the laws in these jurisdictions as governing laws. If, however, a nexus with a jurisdiction which adopts an approach like in France is unavoidable, parties or legal advisers are advised to do the following:
   
   
   1. review the dispute resolution clause with a view to amending it where possible and desirable, so as to bring the clause in conformity concerns for parties’ mutuality, legal objectivity, and legal foreseeability and certainty; and / or
       
   2. adopt a hybrid arbitration clause (i.e. a clause with a unilateral right to arbitrate), given (i) French courts have been silent on whether the principle applied to cases involving an exclusive jurisdiction clause also applies to a hybrid arbitration clause, and (ii) arbitration to a large extent precludes arguments over court jurisdiction, if a party insists on having in place an exclusive jurisdiction clause; and / or
       
   3. list expressly the alternative jurisdictions to which the party with the benefit of a unilateral jurisdiction clause may refer the dispute. While such a clause has not been tested before the French courts, it might, to a certain extent, address the French court’s concerns about certainty, if a party insists on having in place an exclusive jurisdiction clause; and /or

2. In view of the analysis on X v Y, check if there exists an array of contracts governing inter-related financial relationships. Other than investment mandate, trust, loan and security agreements as seen in the instant case, agreements involving third-party guarantors are often made incidental to financial agreements.  If there are such contracts, check further to see if these contracts provide for different mechanisms of dispute resolution. If so, assess the likelihood of any contracts being deemed lacking sufficient connection with a potential dispute or the claim (should one arise). To this extent, amend relevant provisions where possible and desirable. Beware of competing jurisdiction clauses.

3. In view of the analysis on AB v CD (and the distinction made from Giorgio Armani SpA v Elan Clothes Co Ltd), ensure, particularly where the counterparty is part of a complex web of entities (e.g. a large corporate group), or where the counterparty is undergoing / has undergone restructuring giving rise to name change, change in control or ownership, and / or establishment of new entities, that all entities in the web, whether they be subsidiaries or affiliates (unless the entities can be safely carved out), are clearly and expressly made “Parties” to the underlying agreement (which contains the arbitration agreement), and referred to in the body of the agreement as “Parties”. Ideally, rights and obligations of the entities are set out in the agreement, such that their roles in the financial arrangement can be ascertained. It is noteworthy that mere references to a category of entities, such as “Affiliates” would not be sufficient for the purpose of making an entity of that category a party to an arbitration agreement, even if it is a subsidiary of a party to the agreement, and even if that category in question is defined in wide terms in the agreement.

Kevin Warburton / Jeffrey Tong

If you would like to discuss any of the matters raised in this article, please contact:

Pamela Mak
Partner | E-mail

Disclaimer: This publication is general in nature and is not intended to constitute legal advice. You should seek professional advice before taking any action in relation to the matters dealt with in this publication.

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[1] Another advantage is that if a party engages in delay tactics by commencing proceedings in a jurisdiction different from the agreed jurisdiction (so-called torpedo actions), the party with the benefit of a unilateral option clause may counter this by electing to arbitrate.

[2] This refers to a hybrid dispute resolution clause – combining both the option of litigation and arbitration.

[3] The Hong Kong Court of Appeal applied the Court of Appeal in England’s decision in Pittalis v Sherefettin [1986] QB 868.

[4] Cour de cassation, chambre civile 1, 25 mars 2015, 13-27.264.

[5] In more elaborate terms, a “potestative” term is one where the performance is subject to or dependent on an event which one of the contracting parties has the power to make happen or to prevent.

[6] This line of reasoning, as stated in the decision on 25 March 2015 (see footnote 4), was reinforced in the decision of the French Supreme Court on 7 February 2018.

[7] The court was of the view that illegality under Taiwanese law is the first part of the analysis under consideration of the validity of the Pledge under Singapore law, but it is not the final step of the analysis.

[8] The court granted an anti-suit injunction against Elan, restraining it from PRC court proceedings against affiliates of its counterparty SpA.

[9] the underlying agreement between AB Bureau and CD, which contained the arbitration agreement, defined “AB” to mean “AB Bureau or any other Affiliated entity”.