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Tiers for fears

by Antony Collins on 23 Jul 2014

The advent of alternative dispute resolution (ADR) has resulted in ever-more sophisticated clauses in domestic and international contracts, notably multi-tier clauses, sometimes dubbed “waterfall clauses”.

Waterfall clauses lay out different steps that parties can enter as a precursor for arbitration.

 For example, parties may agree to undertake procedures like mediation; “friendly discussions”, structured negotiations between senior officials of disputing parties, expert determination, adjudication and med-arb agreements before going to a tribunal.

Craig Tevendale, a partner at Herbert Smith Freehills, points out that multi-tier dispute clauses have always been utilised but are often culturally specific. “For instance, in some jurisdictions it is impossible to formalise a contract with a government or state-owned entity without including such clauses,” he continues. “Even so, as a generalisation the level of formality and prescription in the clauses has increased in recent years, which reflects a trend that broad or unspecific clauses have generated jurisdictional challenges.”

Waterfall clauses, of course, push parties towards the well-known benefits of ADR, such attempting to avoid court, which can save money, time and business relationships as well as reduce the confrontational nature of a dispute. Even so, clauses do not come without risk. A badly constructed clause can leave parties open to more legal spats over the drafting and remit of clauses. Parties can end up spending considerable court time debating the enforceability of clause, which can delay action and increase costs further.

Tevendale observes that one of the challenges for some clauses, such as “friendly discussions” obligations, is that it is “difficult to say definitively what must be done in order to satisfy the requirement and this makes for uncertainty in relation to enforceability of the clauses”.

To this end, a recent High Court ruling provided new guidance on multi-tier clauses.

Friendly is formal

In the case of Emirates Trading Agency LLC v Prime Mineral Exports Private Limited [2014] it was “friendly discussions” that came under scrutiny. The dispute centred on a 2010 arbitration claim over a contractual clause providing that, “the parties shall first seek to resolve the dispute or claim by friendly discussion” and that if a settlement could not be obtained within a four-week period, arbitration proceedings can commence at the International Chamber of Commerce in London with English as the chosen language.

According to a note from Vasanti Selvaratnam QC, who acted for the Claimants, the defendant argued that the clause was a mere agreement to agree and too uncertain to be enforceable, relying (inter alia) upon the House of Lord’s decision in Walford v Miles [1992]. The Judge, Teare J, disagreed.

Teare J decided that a “friendly discussion” could be deemed as a condition precedent to arbitral jurisdiction, which, according to a briefing from Tevendale, represents “a stark change in the English courts’ position on the enforceability of agreements to negotiate in dispute resolution clauses”.

Selvaratnam explained that Teare J took inspiration from similar rulings in other jurisdictions to claim that “an agreement to seek to resolve a dispute by friendly discussions in good faith is not incomplete”, and, as such, is enforceable and the dispute may be referred to arbitration.

Tevendale says of the Emirates ruling: “[It] gives ‘friendly discussions’ clauses more bite in the eyes of English law, although arbitration tribunals are not often quick to reject their own jurisdiction, and will often find that whatever efforts have been made are sufficient to satisfy the clause.”

Clause for concern

Emirates highlights the growing complexity of waterfall clauses and the possible challenges that can arise. While the case may yet be appealed, it is the latest twist in case law governing the remit of such clauses. This can be traced back to the aforementioned Walford v Miles [1992], which established the core rule that an agreement to agree or to negotiate is not enforceable.

The rules have been tweaked over the years, with various exceptions made, notably Cable & Wireless plc v IBM United Kingdom Ltd [2002] when the court ruled that any clauses that clearly identified a specific process can be enforceable. Subsequently, cases such as Sulamerica CIA Nacional De Seguros SA v Enesa Engenharia SA [2012] and Tang Chung Wah (aka Alan Tang) v Grant Thornton International Limited and Ors [2012] have ironed out issues such as clauses having to be suitably detailed and enforceable in their entirety.

Parties are reminded to consider waterfall clauses very carefully and ensure that the steps outlined – including pre-ADR agreements, mediation and also the arbitration process itself – are clear, concise and suitably worded.

This post was written by Antony Collins who is a freelance journalist. He can be contacted at ac@acollinsmedia.com

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Topics: International Arbitration, ADR, Mediation

Antony Collins

Written by Antony Collins