On September 30 2010 the Federal Supreme Court confirmed that foreign arbitration agreements which do not adhere to the formal requirements of Article II(2) of the New York Convention may still be valid under the less strict criteria of Section 1031 of the Code of Civil Procedure.(1) The court held that, even though the wording of Section 1031 of the code deals only with the validity of arbitration agreements in arbitration proceedings seated in Germany, it may be applied to foreign arbitration agreements and awards in light of the most-favoured treatment clause set out in Article VII(1) of the convention. The decision confirms what had already been signalled in passing in rulings on September 21 2005(2) and June 8 2010,(3) and shows that the Supreme Court is willing to apply recognition-friendly national provisions not only to domestic awards, but also to foreign national awards. The decision may have far-reaching practical consequences; arbitral agreements which do not conform to Article II(2) of the convention and the arbitration laws of many countries may still be upheld by German courts in recognition and enforcement proceedings.
The applicant had obtained a favourable arbitral award, obliging the respondent to pay it damages for failing to deliver a certain amount of wool as had been agreed by the parties, despite the fact that no written arbitration agreement that had been signed by both parties existed. The applicant then applied to have the award declared enforceable by the Frankfurt am Main Higher Regional Court. The court granted the request, holding that although a written arbitration agreement did not exist between the parties, an arbitration agreement had been reached by way of a document confirming the content of an agreement in accordance with common usage within the meaning of Section 1031(3) of the code. Therefore, the requirement of an arbitration agreement signed by both parties could be dispensed with.
The respondent appealed on the grounds that Section 1031 of the code applies only to the recognition and enforcement of national arbitral awards, and not to the recognition and enforcement of international arbitral awards.
The question of which formal requirements apply to an arbitration agreement is of great importance. This is particularly true in Germany, where additions to and modifications of contracts which are deemed to be within a reasonable scope of expectation can be made by way of one party notifying the other of the modification, and the other party failing to object to it within a reasonable timeframe, provided that both parties are individuals or corporations doing business on a larger scale. This legal concept, which is referred to as 'kaufmännisches Bestätigungsschreiben' ('commercial confirmation letter') may in some cases (including this case) allow for the inclusion or modification of an arbitration agreement. Since the formal requirements of Section 1061(1) of the code and Article II (2) of the convention for an "agreement in writing" will almost never be fulfilled in these scenarios, there was some debate as to whether the more lenient provision of Section 1031 of the code could be applied. The Supreme Court had already indicated an answer in the affirmative by way of an obiter dictum in two previous decisions, but only in this case was it forced to decide the matter and substantiate its reasoning.
The court faced difficulty in explaining the applicability of Section 1031 of the code to a foreign arbitration agreement forming the basis of a foreign arbitral award. The Arbitration Law, which is incorporated in the 10th book of the code, does not envisage a separate regime for the recognition and enforcement of foreign arbitral awards. Section 1061(1) of the code merely provides that the recognition and enforcement of foreign arbitral awards shall be granted in accordance of the convention. The convention, in turn, stipulates in Article VII(1) that the "provisions of the present Convention shall not... deprive any interested party of any right he may have... by the law or the treaties of the country" where recognition of an arbitral award is sought. This back-and-forth referencing between the of the convention and the code could lead to the belief that, since the latter contains no provisions specifically regarding the formal requirements of foreign arbitration agreements, the rules of Article V(II) of the convention shall solely govern this question. This point of view has traditionally been advocated in German legal literature.(5)
However, the Supreme Court reached a different conclusion through an extensive interpretation of the most-favoured treatment clause in Article VII (1) of the convention. It held that applying stricter standards to the recognition of foreign arbitral awards than to German arbitral awards would contradict the spirit of the clause. The court reasoned that the formal requirements of Article II of the convention were fairly liberal when they were first introduced in 1958, but have since been surpassed by national legislation (eg, that of Germany) taking a more affirmative approach towards arbitration. However, this more affirmative approach was not intended to put international arbitration proceedings at a disadvantage as against proceedings seated in Germany. Consequently, the lenient provisions introduced for the recognition and enforcement of German arbitral awards must also be applied to foreign arbitral awards.
In light of its previous decisions, the Supreme Court's ruling came as no surprise and has enjoyed a mostly positive reception. The actual reasoning, however, has not escaped criticism, stemming from the fact that the New York Convention deals only with the recognition and enforcement of international awards.(6) Consequently, the most-favoured treatment clause laid out in Article VII (1) of the convention refers only to national and public international law regulations regulating the recognition and enforcement of international awards – and not to regulations in national legislation covering the recognition and enforcement of national awards. If the Supreme Court's reasoning were accurate, national legislature would be deprived of the possibility of treating national arbitration agreements and awards more favourably than international awards. This would conflict with Article III, Sentence 2 of the convention, which, by disallowing the imposition of "substantially" more onerous conditions on the recognition and enforcement of international as opposed to domestic arbitral awards, at the same time implies that such conditions are acceptable, so long as they remain below a certain threshold.
Critics therefore suggest that the Supreme Court should have justified its result by referring to German law instead of the convention.(7) They suggest to apply Section 1031 (1) of the code to foreign arbitral agreements/awards by way of a corrective reading of Section 1061(1) of the code. They argue that, when drafting the latter, the German legislature failed to realise that the chain of reference would go from Section 1061(1) of the code to Article V(2) of the convention, and not back to the more lenient Section 1031(1) of the code. However, if it was the legislature's intention to create a situation in which national and international arbitral awards and agreements would be treated equally(8), then it is now within the competence of the courts to apply the law in a fashion which pays regard to that intention, thus rectifying the unfortunate wording of Section 1061(1) of the code.
The most notable practical difference between this line of argument and that followed by the Supreme Court is that the latter draws upon Article VII(1) of the convention and therefore could be cited or used as reference in proceedings in other countries that have adopted the New York Convention, while the former is rooted within the provisions of the code and is unlikely to have significance in other jurisdictions dealing with similar issues. However, provided that the Supreme Court follows the line of argument of its September 30 2010 decision, it will remain safe to cite this decision in the context of arbitration proceedings which are seated outside Germany.
For further information on this topic please contact Alexandra Diehl at Clifford Chance LLP by telephone (+49 69 7199 01), fax (+49 69 7199 4000) or email (email@example.com).
"The arbitration agreement shall be contained either in a document signed by the parties or in an exchange of letters, telefaxes, telegrams or other means of telecommunication which provide a record of the agreement.
The form requirement of Subsection 1 shall be deemed to have been complied with if the arbitration agreement is contained in a document transmitted from one party to the other party or by a third party to both parties and - if no objection was raised in good time - the contents of such document are considered to be part of the contract in accordance with common usage.
The reference in a contract complying with the form requirements of Subsection 1 or 2 to a document containing an arbitration clause constitutes an arbitration agreement provided that the reference is such as to make that clause part of the contract."
(6) Article I (1), Sentence 1 of the convention: "This Convention shall apply to the recognition and enforcement of arbitral awards made in the territory of a State other than the State where recognition and enforcement of such award are sought."