In most cases, the question which law applies to the arbitration agreement is rather academic, but in some rare cases, this question can decide about the validity of the arbitration clause or even the extension to non-signatories. After the UK Supreme Court decided on the famous „Enka v. Chubb“ matter, the German Supreme Court now had the chance to rule on a similiar issue.
Why is it important?
The law governing the arbitration agreement determines such matters as formal and substantive validity, formation, interpretation, assignment and waiver of the arbitration agreement. It can also apply to the question whether or not third parties are bound by the arbitration agreement.
If it is not specified, multiple options might be considered – that is, the law governing the underlying contract, the law with the closest connection with the arbitration, a validation principle that gives effect to the agreement to arbitrate and the law of the seat.
German Federal Supreme Court Approach: Tribute to Severability
The Federal Supreme Court of Germany (German: Bundesgerichtshof) ruled in its recent decision that the law applicable to the arbitration agreement shall be determined in accordance with Art. V para. 1 letter a of the New York Convention (BGH, Judgement as of 26.11.2020, I ZR 245/19, recital 48).
This decision follows the earlier line of the Federal Supreme Court that the law under which the enforcement court must examine the question of validity and scope of an arbitration agreement is determined by the applicable regulations of international private law (BGH, Judgement as of 8.06.2010 – XI ZR 349/08; BGH SchiedsVZ 2011, recital 30). It is clear now: Such regulations are found in Art. V para. 1 letter a of the New York Convention.
The facts of the case
The parties had not made an explicit choice of law for the arbitration agreement. The main contract was supposed to be governed by Dutch law with an exclusion in respect of the CISG. The court however did not consider whether this choice of law could be interpreted as an implied choice of law for the arbitration agreement, as the choice of Dutch law proved to be invalid. In the absence of a choice of law governing the arbitration agreement, the court followed the approach prescribed by Art. V (1) (a) of the New York Convention and determined the law of the seat (that is Amsterdam) to be the governing law of the arbitration agreement. The arbitration agreement and its form are therefore governed by Dutch law, including the CISG.
Choice-of-law approach of the German Supreme Court
Article V (1) (a) of the New York Convention prescribes a default rule which in the absence of an express or implied choice of law calls for application of the law of the arbitral seat (not the law of the underlying contract).
The Federal Supreme Court has laid down the following principles to determine the applicable law:
- If parties have chosen expressly the law governing the arbitration agreement, the court will respect that choice.
- In the absence of an express choice, the court determines whether parties made an implied choice of law governing the arbitration agreement.
- In the absence of an express or implied agreement, the law of the arbitral seat shall apply.
In light of the severability principle and the autonomy of the arbitration agreement the law applicable to the underlying contract does not automatically apply to the arbitration clause – although parties may agree upon a choice-of-law clause that expressly applies to both.
The same choice-of-law-rule is suggested by Gary Born in his commentary on international commercial arbitration (3. edition, volume1, § 4.04 [A] (p.529):
“Applying Article V(1)(a), the better view is that a “general choice-of-law provision” in the parties’ underlying contract does not ordinarily constitute either an express or implied choice of law governing the arbitration agreement; rather, in most cases, the law governing the existence and substantive validity of the arbitration agreement is the law of the arbitral seat – applied as either the parties’ implied choice of law, or by virtue of Article V (1)(a)’s default rule. ”
Enka v. Chubb: The facts of the case
The English Supreme Court had to decide a similiar question in the already famous „Enka v. Chubb“ case and took a slightly different approach:
Enka, a Turkish engineering company, had been engaged as a subcontractor in the construction of a power plant in Russia. The contract between Enka and the plant owner did not expressly state what law governed the contract or what law governed the arbitration agreement. Although an “applicable law” clause provided for the incorporation of Russian law in some circumstances. An arbitration agreement providing for ICC arbitration with a London seat.
Following a fire at the power plant 2016, Chubb, the plant owner’s insurer paid US$400 million and was subrogated to the right to claim compensation from third parties. The insurer then initiated proceedings against Enka in Russia, alleging that the fire had been caused by Enka’s negligence. Enka responded by bringing an application in England for an anti-suit injunction, contending that the arbitration agreement was governed by English law and that the insurer’s claim was in breach of that agreement. The insurer objected to the application on the basis that the arbitration agreement was governed by Russian law, under which it argued the insurer’s claim fell outside the agreement’s scope.
The Commercial Court rejected Enka’s argument that the parties’ choice of seat was a choice of law for the arbitration agreement but did not determine the law governing the arbitration agreement. Thus, the Commercial Court refused to grant an anti-suit injunction.
The UK Court of Appeal overruled this decision and in April 2020 granted the anti-suit injunction restraining Chubb from pursuing its claim in Russia. It held that in absence of an express choice of law governing the arbitration agreement, the law of the seat (here, English law) would apply to the arbitration agreement, as a matter of implied choice.
Practical approach of the UK Supreme Court
The UK Supreme Court rejected the reasoning of the Court of Appeal and disregarded the “separability doctrine” preferring to favor a commercial practice point of view: To the commercial parties the contract is a contract, whereas the doctrine of separability is a legal doctrine much better known to arbitration lawyers. Commercial parties would therefore reasonably expect a choice of law to apply to the whole of that contract. The Supreme Court further imposed a general rule that in the absence of a choice of law for the main contract, an arbitration agreement will have its closest and most real connection with the law of the Seat. The UK Supreme Court therefore laid down the following principles:
- If parties have chosen (expressly or impliedly) a governing law of the main contract, it shall generally apply to the arbitration agreement.
- The choice of a different country as the seat of the arbitration does not in itself displace this presumption, unless there is a serious risk that the arbitration agreement would be ineffective if the governing law is used.
- If parties have not chosen a governing law of the main contract, the court must apply the “most closely connection test”, that is, in practice, generally the law of the seat.
In most cases, where there is a clear arbitration clause, under which law that clause has to be considered is in fact academic. But it is the rare cases that need to be considered when drafting contracts and arbitration clauses and in these rare cases, the approach of the German and the English Courts may come to a different result:
The German Federal Supreme Court and the UK Supreme Court follow different approaches, under English law, the choice of law of the contract bears more importance, under German law, ultimately, the seat of arbitration determines the applicable law. Both decisions however illustrate the importance of incorporating an express provision stating the governing law of an arbitration agreement. It is rarely done, but will clearly help to minimise the scope of disputes in court proceedings relating to such matters, particularly, at the jurisdictional and enforcement stages.
The formula suggested by the German Federal Supreme Court is convincing and reasonable. Application of the choice-of-law rule contained in article V (1)(a) is a persuasive argument and confirms the doctrine of separability of the arbitration agreement (which in fact, is even laid down in para 1040 of the German Civil Procedure Code – ZPO).
The approach of the UK Supreme Court disregards the doctrine of severability but in the absence of a choice of law for the main contract still does align with the option which primarly considers the closest connection with the arbitration, which is the law of the seat. Both courts provide a measure of certainty of outcome and reduce the potential for disputes in an area of law which has long been unclear.