When insolvency law and arbitration meet, the question arises as to how the commencement of the insolvency proceeding affects the ability to arbitrate, the arbitration agreement, the arbitration proceeding and the setting aside proceeding, as well as the recognition and enforcement of the arbitral award.
In a global context, international arbitration meets international insolvency law, which brings into play the two following issues:
- first, whether the court or the arbitral tribunal is bound to recognise the cross-border insolvency of a party; and
- secondly, which law governs the effects of the commencement of the insolvency proceeding on arbitration.
The probability is that both should, as a general rule, be determined according to the insolvency recognition and conflict of laws rules applicable at the place of arbitration.
Fundamentally, arbitration is a consensual dispute resolution process (based on the arbitration agreement) and one of its advantages is that it affords the parties control over the arbitration process. In particular, the parties have considerable choice over the way in which their dispute is conducted. They are able to choose whether to engage in ad hoc or institutionally administered arbitration, choose the seat of the arbitration (particularly appealing to parties with international contracts who may want to avoid using the home courts of one of the parties to ensure neutrality and/or to avoid the unfamiliarity of local court proceedings), choose their presiding arbitrators and appoint arbitrators who have expertise in the particular area of dispute. They can also choose the language in which the arbitration is to be conducted.
Where there is commerce, there will be disputes, and where there are disputes there is always the threat of litigation. For most companies, even at insolvency stage, this is the option of last resort. It is far better to settle a dispute before it hits the courts. However, there are a host of alternative dispute resolution (ADR) approaches, from arbitration to mediation and adjudication.
In many cases, arbitration tends to be favoured over litigation. In some jurisdictions, such as the US, the costs and risks involved are far lower. However, the benefits can only be reaped with the right approach. A well-drafted arbitration clause is critical. In other words, the agreement to arbitrate:
- must be in writing;
- must effectively submit the parties’ disputes to arbitration; and
- should contain a place or seat for the arbitration.
But arbitration is not always better than litigation. Although technically it is an alternative, arbitration should be seen in the same basket as litigation and not classed as ADR.
Alternative ADR approaches
It is therefore worth considering other approaches. ADR may be divided into those that require a third person to make a binding decision – such as expert determination (where the powers of the expert are agreed as a matter of contract between the parties) – and those that do not, such as mediation.
Unlike arbitration and litigation, ADR methods do not require the third person to apply due process in reaching a decision (other than adjudication in construction contracts, at least to some degree) and none result in a decision that is enforceable like a court judgment or arbitration.
Alternatives include adjudication, which tends to only be used in building disputes, because this is the only industry that has the procedure built into the law.
The far more common approach is mediation. This is an impartial means of dealing with a dispute on the basis of assisted negotiation, but on a non-binding basis. A mediator should be neutral, with no axe to grind and, ideally, trained in mediation techniques. There are two main types of mediation:
- facilitative – where the mediator is there to help the parties get to a settlement; and
- evaluative – where the parties want the mediation to go down the route of focusing almost exclusively on an evaluation of the legal merits.
The problem with the latter option is that mediation is not a courtroom, ie not all of the evidence is available.
Mediation at work
Wouter van Everdingen, in-house lawyer at Spliethoff Group, was involved in mediation when a yacht carried by one of his company’s vessels was damaged after its cradle collapsed between Auckland and Houston, Texas. The four parties involved in the dispute (the carrier, stevedores, the cradle builder and the subrogated underwriter of the yacht), opted for mediation because the costs of proceedings would have been high due to the complicated nature of the matter. Van Everdingen says:
‘A lot of expert evidence would have been needed and crew members would have to be flown in to testify. We opted for mediation because of these costs and the ever-present trial risk; the carrier could be held liable for the full amount. By agreeing to mediation we hoped to share the liability and costs among all parties.’
The case was settled after a full day’s mediation. Each party contributed to the loss, including the claimant underwriters who proportionally lowered their claim. Van Everdingen adds:
‘I was quite happy with the mediation, the way the parties can speak freely about the matter (within limits) and try to resolve it. Of course, it involves some theatre and horse trading, but my overall impression was very good.’
Mediation can be combined with arbitration (med-arb). Med-arb involves the parties mediating, but agreeing that if no settlement is reached, the mediation turns into arbitration (often with the same person serving as both mediator and arbitrator). The advantage for the parties is they know their dispute will definitely be resolved by the end of the process. Med-arb is an interesting concept, but is not without its risks.
Part of the magic of the mediation process is that both sides reveal part of their hand to the mediator (but not necessarily to the other side) to try and facilitate a settlement. However, that might be a different position from that taken before an arbitrator.
Mediation considerations
The courts in many countries expect that parties consider ADR before litigation commences, and can punish in costs if they refuse. Michael McIlwrath, senior counsel at GE Oil & Gas, and chairman of the International Mediation Institute, says it is interesting how some courts have recognised that aggressive use of mediation can help them dramatically reduce their busy dockets:
‘Despite this, some countries, such as India (where dockets are legendary in their backlogs), there does not appear to be a huge effort to promote the use of mediation except for private efforts led by mediation institutions, which although noble will not have the tremendous financial resources necessary to drive a dramatic change in the country’s many states and courts.’
McIlwrath thinks that most large companies around the world today are probably towards the lower end of the scale in terms of knowledge or experience with ADR and therefore probably underuse it. He adds, however:
‘There is a natural progression, or evolutionary movement, in the direction of becoming more sophisticated embedded users, as large companies realise the commercial and cost benefits to be gained.’
As sophistication increases, there are growing risks that the system will be manipulated.
There is a risk that if either party says ‘let’s mediate’ that you do it cynically with no intention of settling. Either party find out about the other side’s case and bottom settlement, and then later offer less.
Expert arbitrators should always use ADR to resolve disputes, because of the time it takes to do so through litigation and arbitration.
Although perhaps not suitable for every case, where the facts are not very clear (and the trial costs high), ADR can certainly be a useful alternative for litigation. Van Everdingen says:
‘With ADR one generally also has a better control over the outcome, as opposed to litigation which is often a lottery, especially in certain jurisdictions. It is important though that from the outset there is general consensus among the parties to resolve the matter without litigation.’
Forum shopping
Systems of litigation and arbitration differ between jurisdictions, so when a dispute ends up in court, the parties will wrangle over where the case is held. In terms of litigation, unless the contract between the parties specifies a particular country in which to litigate, each party strives to have their case heard where they feel they’ll get the most favourable judgment, forum shopping between any relevant jurisdiction.
Although sometimes viewed as costly, English courts are a popular place for companies to litigate.
Commercial clients want reliability and certainty. They like the fact that English judges are not bribed and are held in high regard around the world.
By contrast, non-US parties dislike litigating in the US because of the fear of high legal costs, of exemplary damages and because costs do not follow the award.
There is more scope for forum shopping in cases of arbitration.
By agreement, either party can contract into another jurisdiction that would not otherwise have jurisdiction. So if a US company was selling infrastructure to Saudi Arabia, there is no basis on which the English courts would have jurisdiction. There could be a contract that expressly submitted the parties to the jurisdiction of the English courts, but big entities in international situations do not tend to do that; they tend to go for arbitration.
The differences in arbitration are less striking, as the New York Convention and the UNCITRAL Model Law on International Commercial Arbitration attempts, with great success, to harmonise the process. However, some differences remain. There are contrasts between the US and the UK: US companies usually operate under the Federal Arbitration Act (FAA), while in England the rules of the Arbitration Act (AA) apply. Greater emphasis is placed on neutrality by the AA than the FAA, which tends to favour freedom of contract, allowing sophisticated parties to decide how impartial they expect each arbitrator to be. Different approaches and tactics therefore need to be employed in different jurisdictions.
Conclusion
As the nature of disputes being referred to arbitration continues to grow in complexity, and bearing in mind that arbitration is a party-funded process, the time and costs spent during arbitral proceedings are on the increase.
With the principal focus of modern insolvency legislation, and business debt restructuring practices no longer resting on the liquidation and elimination of insolvent entities, but on the remodelling of the financial and organisational structure of debtors experiencing financial distress, so as to permit the rehabilitation and continuation of their business, various forms of dispute resolution are therefore an option. Out-of-court debt restructurings, or workouts, became an increasingly global reality during the recession, so it will be interesting to see the impact of the slow growth that many jurisdictions are now seeing, on corporate restructurings and the negotiated approach taken to achieve what is required.