Why arbitration? A basic overview and pointers

Why arbitration? A basic overview and pointers

Why arbitration? A basic overview and pointers

The FINANCIAL -- Arbitration has witnessed dramatic growth in the past twenty years, swiftly becoming the most popular means of resolving international business disputes. According to a recent study, more than half of construction and energy disputes – usually with an international element – are resolved through arbitration. Many high profile cases have been entrusted to arbitral tribunals. One prominent example is the Yukos shareholders’ claims against the Russian Federation for expropriation (and breaches of other investment protection standards), in which Russia was ordered to pay compensation in excess of US$50 billion (the author was a part of the team representing the Yukos shareholders).

This trend is likely to continue.

Arbitration is popular because it is flexible, tribunals have a high degree of specialized knowledge, and awards can be enforced the world over. Furthermore, most States strongly support and facilitate arbitration to ensure that a viable alternative to court litigation exists. In this spirit, late last year, Georgia signed a Memorandum of Understanding with a preeminent arbitral institution, the ICC (the International Court of Arbitration of the International Chamber of Commerce, based in Paris, France) to promote Georgia as an arbitration centre in the region.

Freely functioning arbitration is one of the core components of a business-friendly environment that offers a choice between court litigation and arbitration as a private dispute resolution method. This article focuses on commercial arbitration, i.e., the dispute resolution method for private/commercial disputes. Resolution of investor-State disputes regarding investments made by an investor in a host state through arbitration (generally referred to as investment arbitration), will not be discussed here.

What is commercial arbitration?

In commercial arbitration a binding decision is rendered by one or more individuals that are appointed as arbitrators by the parties to resolve their dispute. Commercial arbitration is contractual in nature and requires party consent. Such consent is usually provided through an arbitration clause in the parties’ original contract, or agreed upon later, once a dispute has arisen.
In terms of procedure, arbitration has much in common with court litigation: parties make written submissions and are given the opportunity to present their arguments and examine witnesses at the hearing. Arbitration is however generally more flexible than litigation, and its procedures can be tailored to the case at hand.

Arbitration results in a binding award that can be enforced against the assets of the losing party wherever they are located. Only in limited circumstances is a losing party able to set aside an arbitral award or resist enforcement.

What are arbitration’s advantages and disadvantages?

A starting point for lawyers and non-lawyers considering arbitration as a means of resolving their current or future disputes is to understand basic pros and cons of arbitration, which are summarised below:

Pros:
• Neutrality: Arbitration offers a neutral forum for companies (especially those which operate internationally), who may be reluctant to submit their disputes to national courts.
• Flexibility: Arbitration offers more flexibility than litigation. The parties themselves are free to choose the entire process. They select the arbitrators, the timeframes and rules that govern the procedure as well as where and in what language their dispute will be resolved.
• Expertise: The parties can select an arbitrator with specific legal and industry expertise, cultural background, and language skills.
• Confidentiality: Arbitration, unlike open court, is a private matter between the tribunal and the parties, which allows the proceedings and their outcome to remain confidential. This confidentiality enables commercial parties to ensure that sensitive information is not leaked.
• Speed, finality, and cost: Unlike court proceedings, which often lead to multiple appeals, an arbitral award is final and binding and can only be set aside in limited circumstances. Arbitration is usually considered quicker and cheaper than litigation.
• Enforceability: An Award can be enforced against the losing party’s assets regardless of their location. The 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards, has over 150 State parties (including Georgia) and provides for recognition and enforcement of arbitral awards in all member States. During the enforcement process, different assets located in different countries can be targeted simultaneously, and if outstanding sums cannot be fully recovered at once, new assets of the debtor, whether acquired or discovered later, can be seized. By contrast, the enforcement of court judgements abroad can prove a difficult and often impossible task.

Cons:
• Limited possibility for appeal: Litigation may be a better option if the parties wish to preserve their rights of appeal. As a general matter, there is no right to appeal even if the arbitrator makes mistakes of fact or law.
• Limited possibilities for involving third parties or consolidating the proceedings: Because arbitration is consensual in nature, arbitrators have limited power to join parties to the proceedings or to consolidate multiple proceedings into one.
• Awards are not binding on third parties: Arbitral awards only bind the parties involved. No binding orders or enforcement can be obtained against third parties.
• Arbitration may be less predictable: Arbitral awards do not create an authoritatively binding legal precedent. Because of the absence of such precedent, it is sometimes considered that the outcome of arbitration is less predictable than that of court litigation.
How can arbitration process be undermined?
Careful drafting of the arbitration agreement is of crucial importance, while shortcomings in the arbitration clause is one of the sure ways of frustrating the process. Arbitration clauses are sometimes referred to as “Midnight Clauses”, because they are often among the last provisions negotiated before finalizing a deal. At that stage, the parties will be most probably anticipating a prosperous business relationship and give little attention to the possibility of a potential dispute.

How to reduce those risks?

While there may be a whole range of deficiencies in an arbitration agreement, there are certain particularly common mistakes that can be easily detected and avoided.

Parties should avoid drafting an overly simplistic arbitration clause that lacks basic information about the parties’ consent to arbitration and basic procedural rules. They should also refrain from using an excessively detailed arbitration clause that attempts to precisely determine the procedure in every foreseeable scenario. This often ends up creating conflicting or unworkable requirements.

It is generally advisable to include a concise arbitration clause that sets forth the basic terms of the parties’ agreement to arbitrate their disputes. In this regard, a good starting point would be to consider using the standard arbitration clauses provided by arbitral institutions, available on their websites. A few further basic tips, which will assist with making informed and strategic choices about the content of an arbitration agreement, are discussed below:

• Choosing a seat of arbitration: The “seat” of arbitration is vital. The seat is a nominal location that governs certain formal and procedural aspects of arbitration and determines which court system provides a supervisory jurisdiction over the arbitral process and the validity of the award. Preference should be given to countries with arbitration-friendly legislation and courts. Designation of a particular seat does not oblige parties to hold meetings and hearings at that location.
• Choosing the applicable law: The parties’ ability to predetermine applicable law during the contract drafting phase is a key strategic advantage. By deciding at the outset, parties can be assured that their disputes will be arbitrable under their chosen law, and expensive, time consuming proceedings to determine the applicable law are avoided.
• Appointing the arbitral tribunal:
o The parties may directly participate in the appointment of the arbitral tribunal members or designate a third party for this purpose. If a third party is designated in the arbitration agreement, the parties should make sure that such a body exists and is likely to continue to exist; if it cannot be identified or no longer exists when the dispute arises, the commencement of the arbitration may be delayed or frustrated altogether, as there will be no one with the power to appoint the tribunal.
o In determining the number of arbitrators (usually one or three), the complexity of the dispute and amounts at stake should be taken into account. A three-member tribunal usually increases the cost and length of proceedings, but also enhances the quality of the reasoning and usually allows each party to directly select at least one arbitrator. A workable option would be to simply state that the dispute would be resolved by one or three arbitrators and reserve the decision as to the number to the time when the dispute arises.
o Specifications regarding arbitrators’ qualifications, language, and nationality should be made with caution: define these requirements too narrowly and there might be an insufficient pool of arbitrators from which to choose, define them too broadly and the appointment process becomes complicated. Unworkable appointment criteria may frustrate an arbitration clause unless the parties later agree to modify their agreement.

Arbitration in Georgia

Georgia has taken important steps at both governmental and private levels to follow the global trend of promoting and facilitating arbitration as a viable alternative dispute resolution method. It has adopted a modern arbitration law. There is also a recently-created arbitration centre – the Georgian International Arbitration Centre (GIAC) – whose rules were prepared with the involvement of prominent practitioners, who continue to be engaged in the functioning of the centre. Now the ICC, by virtue of the 2018 Memorandum, is supporting the promotion of Georgia as an arbitration centre in the region.
Georgia’s main challenge will be to ensure that its arbitration-friendly legislation is effectively and uniformly applied. The full support of domestic courts will be critical in this process. When there is a valid arbitration clause, Georgian courts should refer the parties to arbitration and order supportive measures when needed. They should also exercise the utmost caution when setting aside arbitral awards, and recognize and enforce both domestic and international awards unless exceptional circumstances prescribed by law and international treaty exist.

Opting for arbitration

The advantages of arbitration, and the increasingly arbitration-friendly environment in Georgia, make arbitration an appealing dispute resolution method for those conducting business in Georgia.

Needless to say, arbitration cannot be blindly accepted as the only means of dispute resolution. An informed decision about choosing an appropriate dispute resolution method should be made based on the particular circumstances of the case and the parties’ specific goals.

Further articles on topical issues in arbitration will follow in the coming months.


By Ketevan Betaneli
Knowledge Management Lawyer, International Arbitration Group, Freshfields Bruckhaus Deringer in Paris, France
ICC International Court of Arbitration in Paris, France, Court Member for Georgia
GIAC, Member of the Arbitration Counsel