HOW THE SANCTIONS MAY CHANGE INTERNATIONAL ARBITRATION
Author: Roman Zykov
THE IMPACT ON THE LEGAL MARKET
The imposition of restrictive measures against Russia and its persons, as well as the retaliating measures taken by Russia, have sent shockwaves throughout the global economy. It has led to the suspension and termination of numerous contracts, projects, payments, the migration of workforce, the circulation of (mis)information, and cybersecurity issues. Furthermore, in just a few days, there were significant impacts in the areas of sports, culture, education, and many other humanitarian fields. The full effect is yet to be seen, but, clearly, it will reshape the global economy and consequently international commercial arbitration.
For several decades the Russian business has been a notable user of the Western legal infrastructure, especially that of England and Wales. In the last couple of weeks, there have been reports of international law firms refusing to accept instructions from Russian clients, some arbitral institutions suspending pending cases and declining to accept new cases, and banks refusing to wire money. Essentially, some activity can be seen as a disconnection of Russia from the Western legal infrastructure. As a result, we will see an increased number of international deals involving Russian parties and/or interests made under Russian law, and also likely under, for example, the laws of Hong Kong, as a substitute to English law, likewise the use of Hong Kong’s arbitration capabilities over other favoured seats of arbitration. Indeed, there has been a sense of some Russian-related disputes “moving Eastwards” as a trend in response to earlier sanctions regimes.
The sanctions have led to the rise of commercial disputes, both international and domestic. They may arise from frustrated and terminated contracts, currency depreciation, inflation, application of new regulations, and from the unprecedented freeze and expropriation of property and other circumstances.
I expect that we will see fundamental changes in the international dispute resolution system. We have already seen resignations of lawyers from cases, and closures of international law offices in Russia. Russian parties in arbitration proceedings are concerned about not being treated impartially. There have been reports that Russian cases have been put on hold and Russian arbitrators being excluded from arbitrator rosters of some arbitral institutions, etc.
The fundamental principle of equal access to justice has become obsolete for some parties. Potentially, it may negatively impact parties’ (not only Russian) trust in neutrality and impartiality of the legal system which has been providently nurtured for centuries.
WHAT TO EXPECT IN THE FUTURE?
The imposition of sanctions forces parties to rethink their dispute resolution policies and adapt to the new reality.
First, there is the question of which seats of arbitration parties can resolve disputes affected by current or future sanctions. Traditionally, Russian parties have favoured major European centres. Looking at available 10-year statistics, Russia-related disputes represented a notable chunk in the caseload. However, since 2014 there have been reports that some parties have been unable to bring their claims under the arbitration rules of certain arbitral institutions because the latter were allegedly unable to accept arbitration fees from the sanctioned entities and banks. A recent survey led by the Russian Arbitration Association confirmed that the problem with payments exists. Although it is possible to apply for a license to pay arbitration costs and fees, in practice, there have only been a handful of such cases.
Second, the exodus of foreign consultants from Russian projects will reshape the Russian legal market. Partly, they will be substituted by Russian ex-employees of international consultancy firms, partly by consultants from the states which have not/do not impose sanctions against Russia. On the other hand, there is a question of with what, and how quickly, mostly European and US lawyers will substitute their Russian clientele.
Third, for the same reasons, however unlikely, we may see evidence of arbitrators resigning from Russia-related cases, fearing themselves becoming a subject of secondary sanctions as their adjudication work may qualify as the provision of services to specially-designated nationals (SDNs).
Fourth, it is almost certain that some Russian parties will shift from choosing English, Swiss, Singaporean, and Swedish applicable laws which they have traditionally used in their contracts. This may happen because Russian parties may not be able to instruct legal counsel and experts or appoint arbitrators from such legal systems. It is plausible that there will be an increase in the use of Russian law, as well as Hong Kong law and even lex mercatoria in the years to come. The same shift may happen with regard to the choice of lex arbitri (the law of the arbitration) and therefore a change in preferences with respect to seats of arbitration.
Fifth, travel bans will limit the possibility of some Russian parties and consultants organising and attending evidentiary hearings in certain jurisdictions now and in the future. Again, the parties will look for new hearing venues or will use virtual hearings to the extent possible.
Sixth, the disconnection of Russian banks from the Society for Worldwide Interbank Financial Telecommunication (SWIFT) renders payment of the arbitration costs difficult, if not impossible. Similarly, Russian arbitrators may face difficulties in receiving payments of the fees for already concluded cases. It will necessitate arbitral institutions to use alternative currencies for their cases.
Seventh, application of the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards (New York Convention) 1958 by national courts may require clarifications. Questions may arise on matters such as the enforcement of arbitration agreements concluded by sanctioned persons, equal treatment of foreign awards, application of public policy in conjunction with unilateral economic sanctions imposed by third states, etc.
Any of the above may render existing arbitration agreements unenforceable and, therefore, the prospect of adjudicating sanctions-related cases under institutional arbitration rules may not be advisable. This may require renegotiation and readjustment of the existing arbitration agreements. Sanctity of arbitration agreements may require the parties to adapt to the new circumstances and use their best endeavors to arbitrate (as opposed to litigating), possibly using ad hoc arbitration or by using alternative arbitral institutions and their rules. In any event, it is advisable to contact any agreed arbitral institution to understand how a particular dispute may be arbitrated.
WHAT CAN BE DONE TO MITIGATE RISKS?
Parties have been implementing various measures to mitigate risks related to sanctions.First, there is a common practice to include so-called ‘waterfall arbitration clauses’, listing several arbitral institutions in order of preference such that if a dispute arises the arbitration goes to the highest-ranked institutions on the list. If a such arbitral institution is unable to administer the dispute for whatever reason, the parties agree to refer it to the second-ranked institution, etc.
Second, there has been a gradual shift to the Asian arbitral institutions, governing law, and seats of arbitration in commercial contracts. I expect to see that trend continue.
Third, parties may wish to agree to alternative currency payment provisions and price readjustment mechanisms in their contracts.
Fourth, parties work out quite sophisticated risks mitigation clauses, enabling them to adjust their contracts to the changing circumstances. Nothing is more constant than the change these days.
Fifth, force majeure clauses have gained particular importance in domestic and international commercial contracts, and parties and their advisors should work to understand the potential impact on their contracts.
THE IMPACT ON THE LEGAL MARKET
The imposition of restrictive measures against Russia and its persons, as well as the retaliating measures taken by Russia, have sent shockwaves throughout the global economy. It has led to the suspension and termination of numerous contracts, projects, payments, the migration of workforce, the circulation of (mis)information, and cybersecurity issues. Furthermore, in just a few days, there were significant impacts in the areas of sports, culture, education, and many other humanitarian fields. The full effect is yet to be seen, but, clearly, it will reshape the global economy and consequently international commercial arbitration.
For several decades the Russian business has been a notable user of the Western legal infrastructure, especially that of England and Wales. In the last couple of weeks, there have been reports of international law firms refusing to accept instructions from Russian clients, some arbitral institutions suspending pending cases and declining to accept new cases, and banks refusing to wire money. Essentially, some activity can be seen as a disconnection of Russia from the Western legal infrastructure. As a result, we will see an increased number of international deals involving Russian parties and/or interests made under Russian law, and also likely under, for example, the laws of Hong Kong, as a substitute to English law, likewise the use of Hong Kong’s arbitration capabilities over other favoured seats of arbitration. Indeed, there has been a sense of some Russian-related disputes “moving Eastwards” as a trend in response to earlier sanctions regimes.
The sanctions have led to the rise of commercial disputes, both international and domestic. They may arise from frustrated and terminated contracts, currency depreciation, inflation, application of new regulations, and from the unprecedented freeze and expropriation of property and other circumstances.
I expect that we will see fundamental changes in the international dispute resolution system. We have already seen resignations of lawyers from cases, and closures of international law offices in Russia. Russian parties in arbitration proceedings are concerned about not being treated impartially. There have been reports that Russian cases have been put on hold and Russian arbitrators being excluded from arbitrator rosters of some arbitral institutions, etc.
The fundamental principle of equal access to justice has become obsolete for some parties. Potentially, it may negatively impact parties’ (not only Russian) trust in neutrality and impartiality of the legal system which has been providently nurtured for centuries.
WHAT TO EXPECT IN THE FUTURE?
The imposition of sanctions forces parties to rethink their dispute resolution policies and adapt to the new reality.
First, there is the question of which seats of arbitration parties can resolve disputes affected by current or future sanctions. Traditionally, Russian parties have favoured major European centres. Looking at available 10-year statistics, Russia-related disputes represented a notable chunk in the caseload. However, since 2014 there have been reports that some parties have been unable to bring their claims under the arbitration rules of certain arbitral institutions because the latter were allegedly unable to accept arbitration fees from the sanctioned entities and banks. A recent survey led by the Russian Arbitration Association confirmed that the problem with payments exists. Although it is possible to apply for a license to pay arbitration costs and fees, in practice, there have only been a handful of such cases.
Second, the exodus of foreign consultants from Russian projects will reshape the Russian legal market. Partly, they will be substituted by Russian ex-employees of international consultancy firms, partly by consultants from the states which have not/do not impose sanctions against Russia. On the other hand, there is a question of with what, and how quickly, mostly European and US lawyers will substitute their Russian clientele.
Third, for the same reasons, however unlikely, we may see evidence of arbitrators resigning from Russia-related cases, fearing themselves becoming a subject of secondary sanctions as their adjudication work may qualify as the provision of services to specially-designated nationals (SDNs).
Fourth, it is almost certain that some Russian parties will shift from choosing English, Swiss, Singaporean, and Swedish applicable laws which they have traditionally used in their contracts. This may happen because Russian parties may not be able to instruct legal counsel and experts or appoint arbitrators from such legal systems. It is plausible that there will be an increase in the use of Russian law, as well as Hong Kong law and even lex mercatoria in the years to come. The same shift may happen with regard to the choice of lex arbitri (the law of the arbitration) and therefore a change in preferences with respect to seats of arbitration.
Fifth, travel bans will limit the possibility of some Russian parties and consultants organising and attending evidentiary hearings in certain jurisdictions now and in the future. Again, the parties will look for new hearing venues or will use virtual hearings to the extent possible.
Sixth, the disconnection of Russian banks from the Society for Worldwide Interbank Financial Telecommunication (SWIFT) renders payment of the arbitration costs difficult, if not impossible. Similarly, Russian arbitrators may face difficulties in receiving payments of the fees for already concluded cases. It will necessitate arbitral institutions to use alternative currencies for their cases.
Seventh, application of the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards (New York Convention) 1958 by national courts may require clarifications. Questions may arise on matters such as the enforcement of arbitration agreements concluded by sanctioned persons, equal treatment of foreign awards, application of public policy in conjunction with unilateral economic sanctions imposed by third states, etc.
Any of the above may render existing arbitration agreements unenforceable and, therefore, the prospect of adjudicating sanctions-related cases under institutional arbitration rules may not be advisable. This may require renegotiation and readjustment of the existing arbitration agreements. Sanctity of arbitration agreements may require the parties to adapt to the new circumstances and use their best endeavors to arbitrate (as opposed to litigating), possibly using ad hoc arbitration or by using alternative arbitral institutions and their rules. In any event, it is advisable to contact any agreed arbitral institution to understand how a particular dispute may be arbitrated.
WHAT CAN BE DONE TO MITIGATE RISKS?
Parties have been implementing various measures to mitigate risks related to sanctions.First, there is a common practice to include so-called ‘waterfall arbitration clauses’, listing several arbitral institutions in order of preference such that if a dispute arises the arbitration goes to the highest-ranked institutions on the list. If a such arbitral institution is unable to administer the dispute for whatever reason, the parties agree to refer it to the second-ranked institution, etc.
Second, there has been a gradual shift to the Asian arbitral institutions, governing law, and seats of arbitration in commercial contracts. I expect to see that trend continue.
Third, parties may wish to agree to alternative currency payment provisions and price readjustment mechanisms in their contracts.
Fourth, parties work out quite sophisticated risks mitigation clauses, enabling them to adjust their contracts to the changing circumstances. Nothing is more constant than the change these days.
Fifth, force majeure clauses have gained particular importance in domestic and international commercial contracts, and parties and their advisors should work to understand the potential impact on their contracts.