Often, parties to a contract may agree that any dispute relating to the contract will be resolved by way of arbitration. This is usually achieved by inserting an arbitration clause into a contract, specifying that all disputes arising out of or in connection with the contract shall be determined by arbitration at a particular jurisdiction under a particular law. But what is effect of the arbitration clause if, for a particular transaction, further contracts are subsequently entered which do not prescribe the mode of dispute resolution? This issue was examined in a Hong Kong High Court case, Xu Yi Hong vs Chen Ming Han & Others.
In that case, the Defendants applied for a stay of the Hong Kong proceedings so that the disputes would be arbitrated in China, in accordance with the arbitration clause in the first of the 3 contracts entered into for the transaction.
The Plaintiff entered into a contract (the "Land Contract") with a Hong Kong company to acquire 100% of its shares in a wholly owned PRC company which in turn owned a piece of land in China intended for project development (the "Project").
The Plaintiff was unable to complete the Land Contract despite various extensions to make payments by the Vendor. It was at this time that 3 of the four Defendants approached the Plaintiff expressing an interest to invest in the Project. The parties then formed a joint venture by entering into 2 contracts on the same date. The first contract (the "1st Contract") was to transfer the rights of the Land Contract to 3 of the four Defendants so that they might jointly own the Project with the Plaintiff once the Land Contract was completed. The 1st Contract stipulated that the parties agreed to refer any disputes arising from it to an arbitration centre in China whose adjudication would be binding (the "Arbitration Clause"). The second contract (the "2nd Contract") was a joint venture contract regulating the parties' obligations in the joint venture.
Subsequently, the last Defendant expressed interests to partake in the joint venture for the Project. This gave rise to a supplemental contract (the "3rd Contract"), which stated that its purpose was to implement the 1st Contract. Among other things, the 3rd Contract contained a governing law clause stipulating that the laws of Hong Kong shall apply (the "Governing Law Clause") and if its terms were inconsistent or conflicting with the 1st Contract, the terms of the 3rd Contract would prevail.
Then disputes between the parties precipitated and the Plaintiff sued the Defendants for their breach of the 3rd Contract (the "Contractual Claim") and procuring the Vendor's breach under the Land Contract (the "Non-Contractual Claim"), which was an action not arising from the 1st, 2nd and/or 3rd Contracts.
The Defendants relied on the Arbitration Clause to apply for a stay of the Hong Kong proceedings for both the Contractual Claim and Non-Contractual Claim. The Plaintiff argued that due to the Governing Law Clause and to give business efficacy to the 3rd Contract, there was an implied understanding between the parties that any dispute under the 3rd Contract should be resolved by Hong Kong Courts. Hence, such implied term invalidated the Arbitration Clause. For the Non-contractual Claim, the Plaintiff argued that as it did not arise out of any contract, the Arbitration Clause did not apply.
The Court's Decision
The Court gave judgment in the Defendants' favour and stayed the proceedings for arbitration. The Court ruled that the Arbitration Clause was valid and it was not inconsistent or conflicting with the Governing Law Clause. Further, as the Non-Contract Claim was closely knitted with the Contractual Claim, the Arbitration Clause also governed it.
The Court stated that all the 1st, 2nd and 3rd Contracts entered by the parties were to be read as one composite contract since they related to one transaction with terms intertwining with one another. For the Arbitration Cause to be inconsistent with the Governing Law Clause, both clauses must contradict one another or be in conflict such that effect cannot fairly be given to both clauses. The Court will use every effort to give effect to the 1st and 3rd Contracts and no clause in any contract would be rejected unless they were manifestly inconsistent with or repugnant when read together as a whole. As there was no express jurisdictional clause in the 3rd Contract, it did not preclude an arbitration centre in China from resolving the dispute using laws of Hong Kong. Therefore, the Arbitration Clause did apply to the Contractual Claim.
To determine whether the Arbitration Clause applies to the Non-Contractual Claim, the Court would ask whether the resolution of the Contractual Claim was necessary for disposing of the Non-Contractual Claim or whether the facts of the 2 disputes were so closely knitted together that the agreement to arbitrate on one could be construed as covering the other. Here, the Court concluded that depending on the outcome of or what facts were accepted for the Contractual Claim, the Defendants would have a complete defence for the Non-Contractual Claim. Hence, the Arbitration Clause should also apply to the Non-Contractual Claim.
Clients are advised in a series of contracts to carefully define the relationships between each contract and how terms of various contracts interact. Clear distinction should also be made between a jurisdictional clause and a governing law clause.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.