Hong Kong Arbitration: The Ten Commandments

In the Hong Kong Court of First Instance case of KB v S (HCCT 13/2015), Justice Mimmie Chan, the Judge in charge of the Construction and Arbitration List, started her judgment delivered on 15 September 2015 by listing out the 10 bedrock principles behind the Hong Kong court’s approach to international arbitration.  After dismissing all of the Respondents’ complaints against the arbitral awards, she spent the last two pages of a 25 page judgment condemning the Respondents for breaching their duty of good faith by deploying delaying tactics.

We discuss the case more fully below.

Background Facts

The background facts are long and require elaboration.

The Applicant signed a Letter of Intent dated 12 April 2006 (“LOI”) with the Respondents.  The 1^st Respondent owned the 2^nd Respondent, who in turn owned the 3^rd Respondent.  Under the LOI, the Applicant will buy the shares of 2^nd Respondent from the 1^st Respondent.  Part of the transaction involved the transfer of assets in Zhuhai (including a hotel) (“Assets”) to the 3^rd Respondent, so that the Applicant will end up owning the Assets indirectly when the transaction was over.

The Assets were not transferred to the 3^rd Respondent within the contractual time period, so a dispute arose whether the LOI has been terminated as a result.  The Respondents’ position was that the LOI had been automatically terminated due to the failure to transfer the Assets to the 3^rd Respondent within the contractual time period, but the Applicant’s position was that the LOI still remained valid.  The LOI provided for Hong Kong law to govern and for all disputes to be arbitrated in Hong Kong.

The Applicant commenced arbitration against the Respondents in March 2010.  The Respondents challenged the jurisdiction of the Tribunal, which was dismissed under the 1^st Award.  Subsequently, the Parties went through proceedings in the Guangdong Provincial High People’s Court (“Guangdong Court”) concerning the LOI.  The Guangdong Court ruled on 21 September 2012 that the LOI had automatically terminated, thus upholding the Applicant’s position.  The case then went on appeal to the Supreme People’s Court.

The Respondents’ then obtained leave from the Tribunal to introduce a new issue that the Applicant cannot re-litigate the issue on the validity of the LOI in the arbitration because it has already been determined by the Guangdong Court.

The substantive hearing took place between January – March 2013, after which the Tribunal issued the 2^nd Award, ruling in favour of the Applicant that the LOI remained valid because the judgment of the Guangdong Court was not final and conclusive, which left it open for the Tribunal to make a fresh decision on the issue.

In the meantime, the Respondents applied to the Hong Kong Court of First Instance on 11 April 2014 to set aside the 2^nd Award, but this challenge was dismissed on 29 July 2014.

The Tribunal then needed submissions on the appropriate reliefs to award to the Applicant in light of the conflicting judgment of the Guangdong Court and existing freezing orders on the Assets, so they held a hearing which culminated with the 3^rd Award on 16 December 2014.  In the 3^rd Award, the Tribunal ordered that the Respondents to specifically perform the LOI.

The Applicant applied to the Hong Kong Court of First Instance to enforce the 2^nd and 3^rd Awards and leave to do so was granted on 17 June 2015 (the “Order”).  The Order was served at the registered offices of the 1^st Respondent on 15 July 2015, the 2^nd Respondent on 30 June 2015 and the 3^rd Respondent on 27 July 2015.

On 4 August 2015, the Respondents applied to resist enforcement of the Order by way of a summons and a supporting affidavit, which purported to set out the grounds for resisting enforcement as follows:

“…the Awards in question are not valid and/or those Awards are not in a form which can be entered as a judgment; and such further grounds as may be advised by Counsel upon sight of the evidence adduced by the Applicant in support of the application.”

The 1^st and 2^nd Respondents’ commencement of the proceedings to resist enforcement was outside the 14 day time period permitted by Order.  On 24 August 2015, the Applicant applied to dismiss and strike out the Respondents’ application as being frivolous, vexatious and/or an abuse of the Court’s process.

Both the Respondents’ application and the Applicant’s application were heard by Justice Mimmie Chan, the Judge in charge of the Construction and Arbitration List.

The Ten Principles of Hong Kong Arbitration

Chan J started her judgment by first setting out the 10 bedrock principles which underpin the Court’s approach to arbitration.  Given the importance of these principles in affirming Hong Kong’s arbitration friendly credentials, we have set them out here in verbatim (with citations omitted).

1. The primary aim of the court is to facilitate the arbitral process and to assist with enforcement of arbitral awards.
2. Under the Arbitration Ordinance (“Ordinance”), the court should interfere in the arbitration of the dispute only as expressly provided for in the Ordinance.
3. Subject to the observance of the safeguards that are necessary in the public interest, the parties to a dispute should be free to agree on how their dispute should be resolved.
4. Enforcement of arbitral awards should be “almost a matter of administrative procedure” and the courts should be “as mechanistic as possible”.
5. The courts are prepared to enforce awards except where complaints of substance can be made good. The party opposing enforcement has to show a real risk of prejudice and that its rights are shown to have been violated in a material way.
6. In dealing with applications to set aside an arbitral award, or to refuse enforcement of an award, whether on the ground of not having been given notice of the arbitral proceedings, inability to present one’s case, or that the composition of the tribunal or the arbitral procedure was not in accordance with the parties’ agreement, the court is concerned with the structural integrity of the arbitration proceedings. In this regard, the conduct complained of “must be serious, even egregious”, before the court would find that there was an error sufficiently serious so as to have undermined due process.
7. In considering whether or not to refuse the enforcement of the award, the court does not look into the merits or at the underlying transaction.
8. Failure to make prompt objection to the Tribunal or the supervisory court may constitute estoppel or want of bona fide.
9. Even if sufficient grounds are made out either to refuse enforcement or to set aside an arbitral award, the court has a residual discretion and may nevertheless enforce the award despite the proven existence of a valid ground.
10. The Court of Final Appeal clearly recognized in Hebei Import & Export Corp v Polytek Engineering Co Ltd that parties to the arbitration have a duty of good faith, or to act bona fide.

Decision of the Court

Mimmie Chan J agreed with the Applicant and dismissed the Respondents’ challenge against the 2^nd and 3^rd awards as an abuse of the Court process.  In reaching her decision, she had to decide the following issues.

The Adequacy of the Respondents’ Supporting Affidavit

Order 73, rule 10(6) of the Rules of the High Court provide that the losing party may apply to set aside the order granting enforcement of the award within 14 days of the order having been served.  The application to set aside the order must be made by summons supported by an affidavit.

The Applicant argued that the Respondents failed to provide an affidavit to support the grounds of challenge set out in their summons, which Chan J agreed with.  Chan J held that, as arbitration is meant to be speedier and less expensive than court litigation, it was an abuse of the Court’s process to file a summons without a supporting affidavit because the winning party is entitled to know as soon as possible where it stands with respect to an arbitral award.  Any challenge to an arbitral award should therefore be disposed of quickly.  The 14 day time period set out in the High Court Rules to apply to set aside the order granting leave to enforce the arbitral award is not unreasonable because the losing party should be well aware of any irregularity in the arbitral process which it had participated in.

Moreover, Chan J admonished the solicitors acting for the Respondents’ for making the supporting affidavit on behalf of the Respondents because it is bad practice for solicitors to make affidavits on behalf of their clients when facts relevant to a dispute have to be deposed to.

Although this case deals with a party seeking to resist enforcement of an arbitral award, the same considerations apply when a losing party seeks to set aside an arbitral award.

The Delay to the 1^st and 2^nd Respondents’ Application To Resist Enforcement

The 1^st and 2^nd Respondents’ application to resist enforcement of the award was out of time, so they needed to apply for an extension of time to resist enforcement of the award.  However, they failed to do so.

Even assuming that the Respondents impliedly asked for an extension of time through the affidavits filed by them, Chan J would refuse to grant an extension of time.  She held that the 1^st and 2^nd Respondents had to show good reasons for their delay and satisfy her that their application has merits.  The 1^st and 2^nd Respondents alleged that their sole director only knew about the Order on 23 July 2015 and that the service of the Order on the registered offices of the 1^st and 2^nd Respondents were not forwarded to him.  Chan J did not consider such reasons for the delay to be compelling enough to justify a time extension.

3^rd Respondents’ Challenge to Enforcement of Arbitral Award

The 3^rd Respondent failed to set out its grounds for resisting enforcement of the 2^nd and 3^rd Awards in its supporting affidavit that was served with its summons.  However, shortly before the hearing, the 3^rd Respondent served a follow up affidavit which elaborated on why it considered the 3^rd Award was not valid.

• The Tribunal ignored the presence of the 3^rd Respondent at the hearing and failed to consider the 3^rd Respondent’s position. The 3^rd Respondent was thus unable to present its case in the arbitration.
• The 3^rd Award will not be enforced by any court in China since a similar dispute is pending before the Supreme People’s Court.
• The 3^rd Award was uncertain and incomplete.

However, Chan J dismissed the 3^rd Respondents’ second and third allegations (above) that because these are not permissible grounds for refusing enforcement of an arbitral award in Hong Kong.

Concerning the 3^rd Respondent’s allegation that it was unable to present its case, the 3^rd Respondent did not refer to this ground of complaint in their summons, so Chan J held that this was improper.  Instead, the 3^rd Respondent should have applied to amend their summons to put this ground on record.  Any such application to add a new ground of complaint is effectively an application to extend time for which leave will only be given in exceptional circumstances and for compelling reasons.  As the 3^rd Respondent failed to make such an application, it would not be considered.

Even assuming that the 3^rd Respondent did obtain leave to adduce this ground of complaint, Chan J found that the 3^rd Respondent’s complaint was also without merit because it never complained at all about this irregularity during the hearing.  A prompt complaint by the 3^rd Respondent would have allowed the Tribunal to rectify any procedural irregularity during the hearing.  By keeping silent, the 3^rd Respondent was not acting in good faith.

In addition, the 3^rd Respondent did not demonstrate that its failure to present its case (if any) had materially prejudiced its position because it did not show how it would have presented a case that was distinct and separate from what the 1^st and 2^nd Respondents had already presented to the Tribunal.

With respect to the 2^nd Award, the 3^rd Respondent had no basis to challenge it again because its earlier challenge has already been dismissed by the Court.

Comments

Although the outcome in KB v S is unsurprising as it only involved the application of established law to facts that were almost one-sided, this case illustrates some practical lessons for arbitration practitioners.

1. Companies should always ensure that their registered offices are able to forward any legal documents to their directors as soon as possible. This is particularly significant if the legal document were an order granting leave to enforce an arbitral award, because the losing party has to instruct solicitors and prepare an affidavit to challenge enforcement within a very short period of time.
2. The supporting affidavit to a challenge against enforcement of an arbitral award must be prepared by the party and not the lawyers. In international arbitrations where the losing party may be outside Hong Kong, this often means that the affidavit has to be notarised by the Chinese embassy where the losing party is based.  The process of notarisation and courier of the affidavit to Hong Kong can sometimes take a long time, thus leaving little precious time for a party to consult with its lawyers on the grounds for challenge before it is filed.
3. If there are any procedural irregularities during the course of the arbitration, a complaint, preferably in writing, should promptly be made. Otherwise, a party prejudiced by any procedural irregularities may not find sympathy from a Court.

The efforts of the Hong Kong judiciary over the years to make Hong Kong  “arbitration friendly” have paid off.  The White & Case 2015 International Arbitration Survey found that Hong Kong was one of the top 5 preferred seats of choice worldwide and the 2^nd most improved seat worldwide.  Mimmie Chan J’s declaration of the 10 bedrock principles of Hong Kong arbitration justify the confidence which the international community has in Hong Kong as an arbitration hub.

So what more can be done by the Hong Kong judiciary to put Hong Kong ahead of its competition?

One possible way may be to introduce a need to obtain leave from the Court before a losing party can challenge an arbitral award.  This approach is employed in judicial review proceedings, where applicants dissatisfied with a government body’s decision has to seek leave from the Court to challenge the decision.  The requirement for leave can allow the Court can act as a filter for unmeritorious challenges and delaying tactics.

If this filter mechanism had been employed in this case, the Respondents’ challenge could have been quickly disposed of on the face of their summons and supporting affidavit because:

• the Respondents did not even have a proper supporting affidavit to support their challenge, which is one of the fundamental procedural requirements that have to be met;
• the 1^st and 2^nd Respondent’s challenge was out of time;
• two of the grounds relied upon by the Respondents (i.e. that the award is uncertain, incomplete and could not be enforced in China) are not even permissible grounds for resisting enforcement of arbitral awards under the Arbitration Ordinance; and
• the 3^rd Respondent did not show any evidence that it had complained about not being able to present its case during the hearing.

This author suggests that such a filter mechanism would help save time and costs for both the winning party, who need not employ counsel to deal with the challenge, and the losing party, who would avoid having to pay the winning party’s costs on an indemnity basis.  Much judicial time and resources would also have been saved as well.

Even if this filter mechanism had not fully disposed of this case, it would have greatly narrowed the issues which the Court and ultimately, the winning party, have to deal with, thus resulting in time and costs savings.