It has been 56 years since the article which coined the term “pathological clauses” was published in 1974.[1] Throughout these years, many lectures, journal articles as well as entire book chapters have been dedicated to the issue of defective arbitration clauses and countless cases have dealt with it. One would expect that as a result of all that, pathological litigation and arbitration clauses were a thing of the past. This is, however, not the case.

Every year, Baker McKenzie publishes its International Arbitration Yearbook featuring case notes on arbitration related court decisions in 43 jurisdictions. The latest version of the Yearbook is available for free on Global Arbitration News (https://globalarbitrationnews.com/iayearbook2020/). We have reviewed the Yearbook and noted that in eleven reported cases the arbitration clause was pathological or was at least drafted inappropriately. We will, in the following, discuss a selection of these cases and will show how the dispute concerning the validity of the disputes clause could have been avoided if the parties had used a new legal tech tool that Baker McKenzie has recently developed, the Disputes Clause Finder (www.disputesclause.com).

The Issue:

Pathological clauses come in all shapes and forms. The most common deficiencies can be divided into three categories: uncertainty, inconsistency, and inoperability.[2] The adverse effects of pathological clauses, however, are largely the same: Irrespective of whether the arbitration clause is ultimately upheld, resolving the issue alone costs time – months, if not years – and money in the six-figure range before even attending to the material disputes.

But is it really that difficult to avoid these issues? The number of cases alone would suggest this. However, for the most part, one only needs to follow two simple rules:

  • Stick to the model clauses proposed by the arbitral institutions.
  • No wild drafting, but keep it simple.

This approach seems rather manageable. Then why are there so many cases dealing with pathological clauses? It is often a mix of reasons: parties do not follow the above rules to use model clauses and to keep it simple. This is most commonly a result of inexperience or of trying to reach a compromise with the contractual partner. In some cases, it might simply be a result of negligence if parties do not pay the same level of attention to the arbitration clause as they do while negotiating other clauses of a contract, as arbitration clauses are usually the “midnight clause”, i.e. the last clause that needs to be agreed upon while negotiating a contract.

Considering the importance of well-drafted dispute resolution clauses, however, this approach needs to change.

The Disputes Clause Finder:

In order to support parties in the drafting process and to reduce the number of pathological clauses, a team of dispute resolution lawyers at Baker McKenzie Germany has developed the Disputes Clause Finder (https://disputesclause.com). The Disputes Clause Finder is a legal tech tool that provides its users with a ready-to-use dispute resolution clause after answering a short set of questions. By taking into account the location of the parties, the seat of arbitration and the language of the proceedings, the Disputes Clause Finder can recommend a tailor-made disputes clause. The tool constitutes an alternative to unguided drafting of disputes clauses and already has users from more than 80 countries (for more statistics on the use of the Disputes Clause Finder see: https://globalarbitrationnews.com/disputes-clause-finder-2019-statistics/).

The Disputes Clause Finder as the cure to pathological clauses:

We have picked five cases reported in the latest edition of the International Arbitration Yearbook (2019-2020) (https://globalarbitrationnews.com/iayearbook2020/). In each case, we will analyze how the Disputes Clause Finder would have avoided the dispute.

1)     China: lack of clear choice of forum

The Supreme People’s Court denied the validity of a multi-tier dispute resolution clause which provided for litigation in case the arbitration-mediation failed.[3] The Court came to the conclusion that the parties had not agreed on arbitration as their final dispute resolution forum.

The issue in this case is rather about the lack of an express choice of forum than about multi-tier dispute resolution. It is a perfect example of a defect that stems from “wild drafting”.[4]

The Disputes Clause Finder would have avoided this dispute: The Disputes Clause Finder clearly distinguishes between litigation and arbitration. It decides which option is more suitable for the user and accordingly either recommends a ready-to-use choice-of-court or arbitration clause. Currently, the Disputes Clause Finder does not include multi-tier clauses. This will, however, be included in one of the next updates.

2)     China: no express reference to the administering institution

Another interesting Chinese case concerns the ruling of the Shijiazhuang Intermediate People’s Court.[5] Here, the Court had to deal with two different arbitration clauses, one clause stated that “[…] both Parties agree to arbitration as per the International Chamber of Commerce [Rules] and held in China […]”; the other clause provided that any dispute “[…] shall be finally settled in China by arbitration pursuant to the Rules of the International Chamber of Commerce whose award shall bind the parties thereof.” The Court found that the parties in both arbitration agreements referred to the ICC Rules of 1998. Contrary to the current ICC Rules, the ICC Rules of 1998 did not specify the ICC as administering institution. As a consequence, the Shijiazhuang Intermediate People’s Court found that the parties did not designate an administering institution; the court interpreted the arbitration clauses as ad hoc arbitration clauses. Since ad hoc arbitration is inadmissible under PRC law, the court found that the arbitration agreements were invalid.

The Disputes Clause Finder would have avoided this dispute: The Disputes Clause Finder is managed and regularly updated by arbitration experts at Baker McKenzie, who always have an eye on developments in their jurisdiction, and are aware of local court decisions. Amongst others, the clauses generated by the Disputes Clause Finder reflect the case law of the PRC courts and the recommendation of arbitral institutions – such as the ICC – to rephrase the arbitration clause in a specific manner in case the arbitration has its seat in China.

3)     India: additional requirements for the appointment of the arbitrator

In an order of 26 November 2019[6], the Supreme Court of India dealt with an arbitration clause pursuant to which the managing director of one of the parties was exclusively empowered to appoint the arbitrator. The Court held that the arbitrator appointed in such manner would not be fully impartial and that such clause would be invalid.

All arbitration rules and probably all national arbitration Acts deal with the method of the appointment of the arbitral tribunal. The arbitration rules and Acts ensure that both parties have equal rights in the process of constituting the tribunal and that the arbitrators are free from conflicts of interests. The decision of the Supreme Court of India emphasizes that it is important not to deviate from these model rules in the arbitration agreement.[7] Although constitution of a tribunal in modification of rules may not lead to the invalidity of the clause, they usually result in a lengthy dispute about whether the chosen method of appointment has been complied with (e.g. if the parties specify certain qualifications of the arbitrator) and whether the chosen method is admissible in the first place.

Parties should realize that dispute resolution clauses are not about bargaining power. On the contrary: wielding any such influence could easily result in a pathological clause and thus be counter-productive to both parties.[8]

The Disputes Clause Finder refers to the approved appointment methods of the arbitral institutions. Moreover, the Disputes Clause Finder avoids providing for additional requirements for the arbitrators, as including such requirements in an arbitration clause may later backfire.

4)     Singapore: no express choice regarding the seat of arbitration and the law governing the arbitration agreement

In a recent case before the Singapore Court of Appeal, the arbitration clause included a provision for disputes to be “submitted to the Singapore International Arbitration Centre (SIAC) for arbitration in Shanghai”.[9] It was unclear whether Shanghai was to be the seat of arbitration or merely the hearing venue. Additionally, the issue was aggravated by a lack of an express provision concerning the law governing the arbitration agreement. Under PRC law, the agreement would potentially have been invalid. The Parties first fought over these questions during the arbitration. These issues then went to the Singapore High Court which found that the law of Singapore applied to the arbitration agreement. Then, the matter was appealed to the Singapore Court of Appeal which overturned the decision of the High Court and found PRC law to be the law governing the arbitration agreement and Shanghai to be the seat of arbitration.

This case demonstrates the importance of clearly specifying the seat of arbitration and the law governing the arbitration agreement.

The Disputes Clause Finder would have avoided this dispute: The arbitration clauses recommended by the Disputes Clause Finder expressly specify the seat of arbitration and the law governing the arbitration agreement.

5)     Belarus: incorrect name of the arbitral institution

Last year, the Supreme Court of the Republic of Belarus had to decide on the enforceability of a clause which referred to the “Arbitration Court of Riga City”.[10] The issue was not only that there was no institution by that name but also that there were more than 50 institutions with similar names. Consequently, the Court found the clause to be non-enforceable.

The Disputes Clause Finder would have – of course – avoided this dispute: The Disputes Clause Finder currently recommends – depending on the input – 14 arbitral institutions (see https://globalarbitrationnews.com/comparative-chart/). The clauses recommended by the Disputes Clause Finder are based on the institutions’ model clauses in order to avoid the situation that it is in the end unclear what institution has been chosen.

“The Dream”:

As discussed above, if the parties in the examples cited above had used the Disputes Clause Finder, all pathological arbitration agreements could have been avoided.

With the Disputes Clause Finder, the Dream of a world without pathological litigation and arbitration clauses might not be unrealistic after all.

 

[1] Eisemann, “La clause d’arbitrage pathologique”, in: Commercial Arbitration Essays in Memoriam Eugenio Minoli (UTET 1974), 129

[2] Nigel, Partasides et al. in: Redfern and Hunter on International Arbitration (6th ed, OUP 2015), 135.

[3] (2019) Zui Gao Fa Min Zhong No. 279.

[4] For a similar example from the IA Yearbook 2019-2020, see the Judgment of the High Court of Justice of Madrid No. 6/2019, dated 18 February 2019 (AC 2019\729). Although the arbitration clause was upheld, the case demonstrates how unclear wording can lead to lengthy and costly legal proceedings.

[5] (2011) Shi Min Li Cai Zi No. 00002.

[6] Perkins Eastman Architects DPC v. HSCC (India) Limited, AIR 2020 SC 59.

[7] One example for additional qualifications from the IA-Yearbook is Mabuhay Holdings Corp. v. Sembcorp Logistics Limited (G.R. No. 212734, 5 December 2018), in which the arbitration clause required the arbitrator to have expertise in Philippine law.

[8] Davis, „Pathological Clauses: Frédéric Eisemann’s Still Vital Criteria” (Arbitration International, Volume 7, Number 4, 1991), 388.

[9] BNA v BNB and another [2019] SGHC 142.

[10] See the IA-Yearbook 2019-2020, https://globalarbitrationnews.com/baker-mckenzie-international-arbitration-yearbook-2019-2020-belarus/.