International Arbitration and Financial Institutions - Current Status and the Path Ahead
Traditionally financial institutions have preferred litigation over international arbitration. The reasons are many, but they are mainly related to the fact that arbitrators generally lack the power to render summary judgments, to grant interim measures, and that there is no precedent in international arbitration. However, international arbitration has gain ground in the last few years, due to the fact that arbitral institutions have addressed the main criticisms to the system. In this article I discuss the way in which said institutions offer solutions to the traditional weaknesses of international arbitration in the financial sector, I highlight its advantages, and finally I discuss the use of international arbitration in each of type of financial transaction.
Unlike other industries such as energy and construction, financial institutions have traditionally preferred litigation over international arbitration. (1) The financial community, for reasons explained below, considers litigation more suitable than arbitration for financial disputes. This seems to be changing, as in a survey, 52% of the respondents stated that they prefer international arbitration as a dispute resolution mechanism.(2) Furthermore, in a more recent survey, 56% of the respondents anticipated an increase in the use of arbitration in the sector.(3)
This article is organized in four sections. Section II analyzes the advantages and the alleged disadvantages of international arbitration; Section III discusses the use of international arbitration in various types of financial transactions while Section IV concludes.
1) Enforceability: This is undoubtedly one of the most significant advantages of arbitration over litigation. (4) In effect, the New York Convention provides a comprehensive regime for the enforcement of international arbitral awards, and enforcement will only be denied if there has been a violation of the due process or if enforcement of the award would be contrary to public policy of the country where enforcement is sought. (5)
2) Confidentiality: This is also a major attraction of international arbitration, and one of the determining factors in a financial institution´s preference for this dispute resolution mechanism. (7)
3) Finality: Unlike judicial decisions, arbitral awards are generally not appealable. Finality is commercially desirable, as it increases certainty in the ultimate result, and saves costs and time that would otherwise be spent litigating in court. (8). Nonetheless, it should be noted that some financial institutions expressed an interest in exploring the inclusion of an appeal mechanism. (9)
4) Neutrality: Neutrality allows the parties to choose a politically and procedurally neutral forum for dispute resolution. (10) This is particularly important for multinational organizations and other institutions lending to developing countries. (11)
5) Technical Expertise: It is a harsh, but undeniable fact that some national courts are distressingly inappropriate choices for resolving international commercial disputes. (12) Accordingly, the ability to appoint arbitrators with sector-specific expertise is perceived as a key advantage of arbitration in banking and financial matters. (13)
b) Alleged Disadvantages:
1) Lack of summary judgment: The ability to obtain summary judgments from courts in New York and London is one of the main reasons why financial institutions have preferred litigation over arbitration, especially where there is no factual dispute that payment has not been made. (14). However, summary judgments are available in international arbitration. Some very important arbitral institutions such as SIAC and SCC have amended their rules to include an express provision that empowers arbitrators to render a summary judgment (15). Furthermore, the parties can expressly provide in the arbitration clause that the arbitrators have the power to grant summary judgments.
2) Absence of power to grant interim measures: The fact that the parties have to wait for the constitution of the arbitral tribunal in order to request an interim measure has been considered a major drawback of international arbitration. However, this problem has been solved by the most important arbitral institutions with the creation of the “emergency arbitrator”. (16) Said arbitrator is appointed before the constitution of the arbitral with the sole purpose to determine whether an interim measure should be granted or not.
3) Lack of precedents: Financial institutions appreciate the value of precedent, as it gives them a sense of certainty regarding the outcome of the case. However, this shortcoming of arbitration can certainly be addressed. PRIME Finance, an institution specialized in financial disputes, is publishing arbitral awards in a redacted form. The same practice is followed by the ICC, SCC, SIAC and LCIA. (17) This approach is particularly important with respect to internationally recognized standard templates such as Loan Market Association (LMA) facility agreements and the ISDA Master Agreement. (18)
4) Consolidation: Unlike litigation, where consolidation of claims can be easily accomplished by applying national procedural rules, arbitration is a consensual process so that parties cannot be joined against their will. One way to deal with this “weakness” of international arbitration is by bespoke drafting in the particular context. (19). In this regard, it has been suggested that if parties are open to all disputes arising from more than one agreement related to a project being dealt with together, they could expressly treat disputes arising from related agreements in a single proceeding (20).
5) Lack of an appeal mechanism: Some financial institutions have express an interest in an appellate procedure in arbitration. (21) However, the finality of arbitral awards is generally considered to be in the parties´ interests, especially in the financial context, as the ability to appeal the award might go against the interest of financial institutions as it could increase the time and costs to obtain a final award. (22)
The financial sector involves transactions that are not amenable to a “one size fits all” approach. (23). In this section, I analyze different types of financial transactions and how frequent and convenient is the use of international arbitration in each of them.
a) Derivatives: While traditionally agreements concerning derivatives establish litigation in London or New York as the dispute resolution method, arbitration is increasingly been viewed as a viable alternative. In effect, the ISDA Arbitration Guide (2013) offers guidance on arbitrating derivatives disputes and includes some model arbitration clauses that can be incorporated into the ISDA Master Agreement (24).
Common types of disputes concerning derivatives include: (i) that the valuation of the derivative position is wrong; (ii) that the financial institution mis-sold the final product to the customer; (iii) that the financial institution has breached a duty of care owed to the customer; (iv) that the financial institution made a misrepresentation that induced the customer to enter into the transaction; (v) that transactions are invalid or enforceable under the alleged mandatory provisions of the law of the place of the customer (25).
b) Project Finance: Project Finance has been considered one area in which international arbitration attracts considerably more interest than others, as it often involves parties and assets that are located in or are subject to the jurisdiction of courts that are considered by lenders as inadequate to handle the disputes that may arise in such transactions. (26) It has been suggested that international arbitration merits special consideration as dispute resolution mechanism in (i) loan documentation where a currency risk exists, so long as the debt situs is inside the regulating country; (ii) situations where the borrower´s default is the direct result of the off-taker´s failure to honor its off-take contractual obligations, where the off-taker is the government, by introducing the possibility of consolidation of arbitral proceedings under the loan agreement and the off-take contract. (27)
c) Investment Arbitration: Investment Arbitration has been another area that has increasingly attracted the attention of financial institutions. The key issue in this context has been whether debt claims qualify as an investment or not. The issue of whether a debt claim qualifies as an investment has been addressed in investment arbitration cases such as Fedax v. Venezuela and Ablacat v. Argentina. (28) To determine whether promissory notes were an investment under Art. 25 of the ICSID Convention, the arbitral tribunal In Fedax considered the preparatory work of the ICSID Convention, which listed loans as objects of ICSID Arbitration, so it decided that indeed the promissory notes qualified as investments. (29) Furthermore, it considered that the key issue to determine whether an investment was made within the territory was whether the funds were used by Venezuela to finance various governmental needs. (30) The arbitral tribunal in Abaclat adopted the same reasoning. (31)
In terms of substantive matters, the fair and equitable treatment is the principal standard invoked by investors to protect their rights in cases involving financial institutions (32). While this standard or protection is certainly broad, it is not clear whether a simple breach of contract would violate the FET standard, if the State did not use its sovereign power to repudiate the contract. (33) Overall, it has been suggested that in order to determine the applicability of the FET standard to contract claims, it should be determined whether the interference with the investor´s rights was arbitrary or a legitimate response to a situation of genuine difficulty (34).
d) M&A: International Arbitration is considered suited for M&A, as it usually involves complex issues, there is a frequent need for confidentiality, it has a sensitive nature both in terms of cost and reputation, and there is potential difficulty in enforcing court judgments. (35)
The following are types of disputes that usually arise in the M&A context, and that can be solved through international arbitration: (i) disputes that arise during the interim period; (ii) the determination of whether a Material Adverse Change (MAC) or a Material Adverse Event (MAE) has occurred; (iii) the determination of whether the conditions precedents have been fulfilled; (iv) disputes related to price adjustment; (iv) whether the triggering events of the put and call options have happened. (36)
Stating that the financial industry is reluctant to international arbitration could be considered a misstatement nowadays. While it is certainly not as widely used as in the energy and construction fields, its use is growing.
Said growth can be attributed mainly to the fact that arbitral institutions have heard the criticisms of the financial industry, and have taken measures to remedy its weaknesses such as the lack of summary judgments, the impossibility to obtain a interim measures before the constitution of the tribunal, and the lack of precedent, to mention the main ones. In this regard, most arbitral institutions nowadays have rules that empower arbitral tribunals to (i) render summary judgments; (ii) to appoint an emergency arbitrator who can grant interim measures before the constitution of the tribunal; (iii) are publishing redacted awards.
Furthermore, in the context of a more complex and globalized world, the main strengths of international arbitration are appealing for the financial industry. Given the increasing complexity of some financial products such as derivatives, the possibility to appoint a financial expert to solve the dispute makes arbitration very attracting. Moreover, the fact that many financial transactions such as those related to project finance, involve emerging countries, means that the enforceability of judgments have become a major concern of financial institutions. International Arbitration has an advantage over litigation in this regard, as it is much easier to enforce an arbitral award abroad, thanks to the world-wide acceptance of the New York Convention. Finally, as arbitral proceedings can be confidential, parties involved in transactions such as M&A, favor international arbitration.
The current status of the relationship between international arbitration and the financial institutions reflects an increase in the use of international arbitration. With regard to the path ahead, so long as arbitral institutions continue to be responsive the needs of the financial industry, and further work is made to spread the virtues of international arbitration for financial disputes, the path ahead looks promising.
Eusebio Olindo López Samudio (*)
*) Lawyer, Law School of the National University of Asunción (2012). LLM in International Legal Studies, American University Washington College of Law (2016). Associate at Vouga Abogados
1) Park W., “Arbitration in Banking and Finance”, 1998 Annual Review of Banking Law, p. 215.
2) Queen Mary University of London and PWC, 2013 “Corporate Choices in International Arbitration: Industry Perspectives” School of Arbitration, Queen Mary University of London
3) Queen Mary University of London and White & Case, “2018 International Arbitration Survey: The Evolution of International Arbitration”
4) Han I., “Rethinking the Use of Arbitration Clauses by Arbitral Institutions”, 2017 Journal of International Arbitration, Kluwer Law International, p. 220
5) Art. V, New York Convention.
6) Han I., p. 221.
7) ICC Commission Report on Financial Institutions and International Arbitration, International Chamber of Commerce, p. 9
8) Han I., p. 226.
9) ICC Commission Report on Financial Institutions and International Arbitration, p. 9.
10) Han I., p. 223.
11) ICC Commission Report on Financial Institutions and International Arbitration, p. 10.
12) Born G., “International Commercial Arbitration” (2014), p. 80.
13) ICC Commission Report on Financial Institutions and International Arbitration, p. 9
14) Ibid., p. 4
15) Singapore International Arbitration Centre Rules (2016), Rule 29.1; Stockholm Chamber of Commerce (2017), Art. 39 (1)
16) International Chamber of Commerce Arbitration Rules (2017), Art. 29; International Centre for Dispute Resolution Arbitration Rules (2014), Art. 6; Stockholm Chamber of Commerce Arbitration Rules (2017), Art. 1 Appendix II; Singapore International Arbitration Centre (2016), Art. 30.
17) International Chamber of Commerce; Stockholm Chamber of Commerce; Singapore International Arbitration Centre; London Court of International Arbitration.
18) ICC Commission Report on Financial Institutions and International Arbitration, p. 10
19) See Herbert Smith, “Dealing with Multi-Party and Multi-Contract Arbitration Issues”, https://hsfnotes.com/arbitration/2012/06/11/dealing-with-multi-party-and-multi-contract-arbitration-issues/ (accessed 05 Jan. 2019)
20) ICC Commission Report on Financial Institutions and International Arbitration, p. 4
22) Han I., p. 216.
23) ICC Commission Report on Financial Institutions and International Arbitration, p. 6
24) Ibid., p. 11
25) Liu J., “The Use of Arbitration for Derivative Contracts”, Kluwer Arbitration Blog, March 31 2015, http://arbitrationblog.kluwerarbitration.com/2015/03/31/the-use-of-arbitration-for-derivative-contracts/ (accessed 06 Jan 2019)
26) ICC Commission Report on Financial Institutions and International Arbitration, p. 17
27) Davies M., “The Use of Arbitration in Loan Agreements in International Project Finance: Opening Pandora´s Box or an Unexpected Panacea” 2015 Journal of International Arbitration, Kluwer Law International, p. 144.
28) Fedax N.V. v. Venezuela (1997) ICSID ARB/96/3; Abaclat and others v. Argentine Republic (2007) ICSID ARB/07/5
29) Ibid., ¶22
30) Ibid., ¶41
31) Abaclat and others v. Argentine Republic, ¶374
32) ICC Commission Report on Financial Institutions and International Arbitration, p. 14
33) Simões J., p. 24
34) Ibid., p. 24-25.
35) ICC Commission Report on Financial Institutions and International Arbitration, p. 21
36) Almonguera J., “Practical remarks on some of the most common issues in M&A arbitration” 2016, Spain Arbitration Review.
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