When you include an arbitration agreement in your contract, make sure it specifies what the law applicable to the arbitration agreement is. Without such specification, you run the risk of problems during the arbitration itself, as well as at the enforcement stage.

This should be every company’s take-away from the (in)famous Kabab-Ji saga, which came to its end in the form of a decision by the French Cour de Cassation on 28th September 2022.1 In this decision, the French apex court – as expected – confirmed the long-standing position of French courts that where the seat of arbitration is in France, French law shall apply to the arbitration agreement. In this case, French law governs the validity, effectiveness, transfer or extension of an arbitration agreement.

Generally, the position under English law (where the law governing the arbitration agreement is unspecified) is that a governing law clause for the whole contract applies to the arbitration agreement which forms part of the contract except where, inter alia:2

  • Any provision of the law of the seat indicates that where an arbitration is subject to that law, the arbitration agreement will also be governed by that country’s law; and/or
  • The existence of a serious risk that, if governed by the same law as the main contract, the arbitration agreement would be ineffective.

In this battle of law of the seat vs. law governing the contract, English courts were called upon to enforce the award and French courts to set it aside. The UK courts – including the UK Supreme Court3 – refused to enforce an arbitral award when it was alleged that the respondent of the arbitration had not been a party to the arbitration agreement. They reached this decision applying English law. In contrast, the French courts – now including the Cour de Cassation – refused to set aside the very same award on this allegation. As you may have guessed, they reached this decision applying French law. To anyone who isn’t an expert in international arbitration, this raises several questions:

i. Does the arbitration agreement not form part of the contract?

ii. Then, how can there be several laws which apply to one and the same contract and in one and the same matter?

iii. And, most importantly: what can you do to remove the uncertainty as to what the applicable law should be?

Let’s look at these in detail.

An arbitration agreement – even if part of larger contract – is treated as an independent agreement. Therefore, more than one laws can apply

Arbitration agreements can be standalone agreements, typically in the form of agreements to submit a certain dispute, which has already arisen, to arbitration (i.e., submission agreement).4 In practice, however, they usually form part of a larger contract (e.g. contract for the sale of goods), which at the end contains a clause on jurisdiction, the applicable law, etc.

However, even when an arbitration agreement forms a part of a larger contract, the principle of separability dictates that the arbitration agreement shall be treated as an agreement independent of the other terms of the agreement.5 As a result, it is only natural to assume that each contract could be governed by a different law.

Whether this assumption is correct depends entirely on the law governing the arbitration agreement. But, as Kabab-Ji shows, courts from two neighbouring countries determined different laws applicable even in the same matter.

How can you remove the uncertainty as to the applicable law?

The answer is very simple: just include a phrase in your contract which sets forth the law applicable to the arbitration agreement. For instance, the AIAC’s model arbitration clause includes the recommended inclusion: “The law governing the arbitration clause/submission agreement shall be […].”6

There cannot be any general guideline as to which law you should choose when drawing up the contract. It depends on the type of contract, whether you are claimant or respondent in the arbitration proceedings (and who could know when drafting the contract?) and several other factors. In addition, you need to find a law that is acceptable to your contract partner.

However, irrespective of what law you choose: a specific choice leaves no room for discussion. You will have certainty. Had the parties in the Kabab-Ji saga chosen English law to govern the arbitration agreement, the arbitral tribunal would have likely found that it had no jurisdiction. There would not have even been any disputes before the French and the English courts. Had they chosen French law, there would possibly not have been any setting-aside proceedings in France and the enforcement proceedings in the UK would have been completed much faster and at lower costs: English courts fully recognize the parties’ choice to the law governing the arbitration agreement and thus would not have had to determine the law applicable.

The Malaysian view on the law governing the arbitration agreement

The Federal Court ruled in 2017 in Thai-Lao Lignite that “[u]nless it is shown to be the contrary, the stipulation of Malaysia as the seat is a tacit agreement that the law applicable to the arbitration agreement is the law of Malaysia.”.7 Thai-Lao Lignite was affirmed by the Federal Court in Masenang,8 which was however concerned with domestic arbitration. In other words, the Malaysian approach is more in line with the French approach rather than the English approach.

But knowing this only provides more clarity for Malaysia. The courts of other countries could well take a different approach – as we saw in Kabab-Ji.9

Certain aspects of Malaysian Laws on arbitration agreement

In the context of Malaysian laws, certain subject-matters of dispute are “not capable of settlement by arbitration”.10 For instance, dispute in respect of default of payments and remedies available to the chargee. This is because the National Land Code 1965 is a complete and comprehensive code of law on the rights and remedies of the parties under statutory charge of the land.11

Further, in some circumstances, the arbitration agreement may well be contrary to public policy12 beyond the circumstances of contravention of public policy stated in the Malaysian Arbitration Act 2005, i.e. the award was induced or affected by fraud or corruption, or the rules of natural justice were breached in the arbitral proceedings or in the making of the award.13 For instance, in the analogous context of court proceedings, which is likely to be similarly applied to arbitral awards:

  • The Federal Court in Merong Mahawangsa,14 said that it was contrary to the Malaysian public policy to hire the person for valuable consideration for the purpose of using his position and interest to procure benefits from the government because “… the sale of influence engenders corruption and undermine public confidence in the government, which is inimical to public interest”; and
  • The High Court in The Ritz Hotel,15 said that profits that may be made from gambling and prostitution could fairly be said to be profits from vice. So, a foreign judgment for such profits would face impediment to enforcement in Malaysia.

Also, where third party funding (“TPF”) is envisaged, in the event of arbitral proceedings, again it would be wise to be pro-actively advised on potential aspects of TPF which may not stand in law. For instance, terms of the TPF agreement may well run afoul of the relevant provisions of the Moneylenders Act 1951 (Rev. 1981), if they could be construed as in truth a moneylending transaction and in which case, the funder must be a licenced moneylender. In another scenario, if the terms are such that lawyers representing the funded party are bound to follow the funder’s instructions even in circumstances which would compromise their professional independence or be incompatible with the administration of justice, they may well be held as contrary to public policy and thus, void.16

Your next steps – the actions you should take based on the Kabab-Ji saga This brings us back to what we already highlighted above: you will only have certainty if you stipulate the law applicable to the arbitration agreement in your contracts. Don’t stipulate it and you may end up in a dispute of its own within your arbitration. In order to ensure that you don’t unnecessarily waste money, we recommend you take the following steps:

  • For all your contracts with an arbitration agreement you enter in the future, make sure to always include a provision on the law governing the arbitration agreement:
    • A simple “The law governing the arbitration agreement shall be the law of [name of country].” is sufficient.
    • This simple addition will potentially save you millions of Ringgits in (foreign) courts.
  • For all your existing contracts, review the arbitration agreements in your contracts:
    • Start with your key customers and your key suppliers and work your way down to less important ones.
    • Where language regarding the law applicable to the arbitration agreement is missing, inform your customer/supplier accordingly and suggest that you include according language to remove uncertainty. Arguably, it is better to let your customer/supplier choose the law applicable than not having any according language.
  • However, keep in mind our public policy concerns mentioned above. Therefore, whenever you are in doubt, reach out to your legal advisor. It is better to spend a small amount to get advice on your arbitration agreement now, then having to spend a large amount on arbitration and setting-aside/enforcement proceedings later.

Conclusion

Arbitration agreements are sometimes referred to as “midnight clauses” – they are the very last provisions that parties agree upon in their contract. Once the commercial terms of a contract are set, the parties regularly do not pay much attention to other parts of the contract, including the arbitration agreement. All the while, the arbitration agreement including the law(s) chosen by the parties play a very important role, as is illustrated by the Kabab-Ji saga.

The above shows that it is always prudent to procure legal advice on repercussions of the relevant laws the parties intend to govern the arbitration agreement prior to entering the contract. It may well be the case that any or some of the repercussions may not be palatable to the parties or any of the parties.