By: SWACHITA RAVI; Junior Staffer
The choice of law governing the arbitration clause in franchising agreements has led to divergent opinions in the highest courts in the United Kingdom (UK) and France. Both nations have applied a different standard of review when interpreting choice of law provisions, looking at the clarity and specificity of the provision. Each court arrived at conflicting conclusions on whether to enforce or annul an arbitral award, referencing local laws which determine how the courts interpret the language in the provision. The standard practice of not specifying the choice of law in arbitration clauses or agreements has led to inconsistent interpretations by courts in different jurisdictions, as witnessed in Kabab-Ji SAL (Lebanon) v Kout Food Group (Kuwait),  UKSC 48 (appeal taken from Eng.).
Institutional arbitral rules not providing a remedy for vague choice of law provisions have also widened this gap. The London Court of International Arbitration (LCIA) Rules provides that the law of the seat shall be the governing law where the arbitration agreement do not specify the choice of law, whereas the International Chamber of Commerce (ICC) Rules do not provide a provision addressing this issue. see London Court of International Arbitration Rules 2014, art. 16.4; International Chamber of Commerce Arbitration Rules 2021. This could be because the courts in different countries follow different practices to determine governing law when an arbitration clause is silent. For example, French courts state that the seat of arbitration shall be the governing law while Singapore holds the substantive law of the main contract as the governing law. In England, courts hold that the law governing the underlying contract is the governing law over arbitration and, in its absence, the law most closely connected to the arbitration, based on Enka Insaat Ve Sanayi AS v. OOO Insurance Company Chubb  UKSC 38 (appeal taken from Eng.). In the future, parties may opt for judicial dispute settlement under an agreed neutral legal system with a binding judgment rather than international arbitration to avoid the complications arising in enforcing arbitral awards.
In the Kabab-Ji v Kout Food Group case, a dispute arose regarding franchising agreements between Kabab-ji SAL (“Kabab-ji”) and Al Homaizi Foodstuff Company (“AHFC”). The petitioner, Kabab-ji, commenced arbitration proceedings against Kout Food Group (“KFG”), which was not a party to the franchise agreements. They argued that KFG was the parent company of AHFC after corporate restructuring and thus was responsible for its performance under the franchising agreements. The critical issue before the arbitral tribunal was which law shall govern the arbitration as the parties did not specify the choice of law. This was necessary to determine the treatment of non-signatory parties to be bound by arbitration, as different countries have used different principles and theories. Typically, United States (U.S.) courts have examined contract and agency law theories to determine whether non-signatories demonstrated implied Consent to be bound by arbitration. Thomson-CSF, SA vs. American Arbitration Ass’n, 64 F.3d 773, 776 (2d Cir., 1995). But arbitral tribunals may not follow the same principles as they prioritize express consent of parties and thus may not compel non-signatories to arbitrate. In an ICC award, the tribunal refused to bind the non-signatory despite being involved in the contract’s performance, stating that the arbitration clause, as a separate agreement, requires express consent to arbitrate. ICC award no. 2138 (1974). Further, while parties chose English law to govern the franchising agreements, they agreed that the seat of arbitration would be Paris under the ICC Rules. The arbitral tribunal unanimously agreed that French law, which is the substantive law governing the seat of arbitration, was applicable for deciding whether KFG was party to the franchising agreements, but English law applied to the acquisition of rights and obligations by KFG. Kabab-Ji v Kout Food Group,  UKSC 48  (appeal taken from Eng.). The tribunal pronounced the final award stating that under French law, KFG was bound to the agreements. Further, by novation, under which the contractual obligations of AHFC had transferred to KFG, it had acquired additional party status through conduct. Id
KFG petitioned for annulment of the award before the Paris Court of Appeal and Kabab-ji petitioned for enforcement of the award before the English Commercial Court. Kabab-ji v Kout Food Group,  UKSC 48 , . The Paris Court of Appeal dismissed the annulment proceedings, holding that as per French law, non-signatory parties are bound to the arbitration if they are directly involved in the performance of the contract. Id. The French Court of Cassation upheld the Paris Court of Appeal decision. Kabab-Ji (Societe) v Kout Food Group (Societe),  I.L.Pr. 6
Parallelly, the English Commercial Court held that English law governed the arbitration agreement, and on appeal, the English Court of Appeal refused enforcement of the award. Kabab-ji v Kout Food Group,  UKSC 48 , . The UK Supreme Court, contrary to the Paris Court of Appeal’s decision, held that English law governed the arbitration as the parties chose to govern the franchising agreements and consequently the arbitration provisions included in the agreements as well. Applying said English law, the UK Supreme Court found that KFG was not a party to the agreements and thus, not bound by the arbitration agreement. Kabab-ji v Kout Food Group,  UKSC 48. The application of varying standards of interpretation has limited universal enforcement of the arbitral award, compelling parties to initiate multiple enforcement proceedings. The initiation of multiple enforcement proceedings would again result in different interpretations, as the other party involved may counter the enforcement proceedings claiming exceptions under Article V of the New York Convention on Recognition and Enforcement of Arbitral Awards, leading to no resolution.
Consequently, future arbitral tribunals in the UK could face the issue of deciding the law governing the arbitration when the choice of law clause is silent or vague and a party challenges the validity of the main contract. After the French ruling, courts may force non-signatories to adhere or submit to arbitration as the independence of an arbitration agreement from the contract would render immaterial principles of contract and agency. Binding non-signatory parties to arbitration based on their involvement as a parent company would be contrary to the current precedent in the U.S., in the case of Trina Solar US, Inc. v. Jasmin Solar Pty Ltd., 954 F.3d 567 (2d Cir. 2020). There the court found that it cannot enforce an arbitral award against a parent company regardless of their involvement in performing the original contract. Id. Parties can avoid such adverse consequences if the original contracts or agreements expressly specify the choice of law and the role of the parent company in the event of an arbitral dispute.
Lawyers and drafters of international contracts must ensure that they expressly mention and agree upon provisions that prevent the inclusion of non-signatories to avoid this conflict. Specifying the choice of law in an arbitration agreement would enable the parties to be conscious of the legal system binding their arbitration and be aware of the validity and enforceability of their arbitral awards in different jurisdictions. The parties in the Kabab-Ji v Kout Food Group case had to pursue parallel judicial actions in different jurisdictions resulting in contrary opinions. This has left Kabab-Ji with an arbitral award that is not enforceable in the jurisdiction of their choice and KFG with an adverse arbitral award that was upheld in the jurisdiction of their choice. To conclude, specifying the choice of law in an arbitration agreement can not only ensure the enforceability and validity of arbitral awards but also provide parties with a cost-effective and efficient alternative to the potentially time-consuming court proceedings.