Dueling Tribunals at the Jirau Dam

by Paul E. Mason, Veirano Advogados

This case has been widely reported among international arbitration lawyers. However there are important lessons to be learned for the business community as well.

It involves risk insurance coverage for labor disruptions which occurred in 2011 at the Jirau hydroelectric dam construction project on the Madeira River, state of Rondônia in the Amazon. The case is known as Sulamerica CIA Nacional de Seguros SA v. Enesa Engenharia SA.The labor riots there are said to have caused damages between 400 million and 1.4 billion reais.

The insurance agreements contain two seemingly divergent clauses on how to resolve any disputes between the insurance company and insured construction companies. Clause 7 (“Law and Jurisdiction”) provides for Brazilian law to govern the policy agreements, and for “Any dispute arising under, out or in connection with this Policy shall be subject to the exclusive jurisdiction of the courts of Brazil”. However Clause 12 (“Arbitration”) states that “In case the Insured and the Insurer(s) fail to agree as to the amount to be paid under this Policy though mediation as above [condition 11], such dispute shall then be referred to arbitration under the ARIAS [insurance industry] Arbitration Rules…The seat of the arbitration shall be London, England…”

The insured construction companies want Brazilian courts to decide their dispute while the insurer prefers arbitration in London. The construction companies filed suit in the São Paulo courts challenging the arbitration clause and its mediation pre-requisite, asking for an interim order restraining the insurers from conducting an arbitration in London. In counter-point, the insurers went to the London Commercial court to stop the construction companies from conducting their court proceeding in Brazil. Both the Brazilian and English courts on appeal granted the applications of each party respectively, causing a stalemate.

Insurance related contracts have a peculiar aspect in Brazil. The insurance industry is highly regulated here. The regulatory authority, SUSEP, requires that most insurance contracts involving Brazilian entities be subject to Brazilian law, and provides a standard default contract clause calling for resolution of disputes by the courts located in the domicile of the insured party. This may be a reason why the insurance contracts contained two seemingly contradictory dispute resolution methods and clauses, so as not to potentially violate insurance regulations even though the parties wanted to use arbitration to resolve at least certain types of disputes.

Here we must note that although seemingly contradictory, it is indeed possible under Brazilian law (and other national laws as well) to have peaceful coexistence between arbitration and court litigation clauses in a contract. Normal commercial disputes are usually settled by arbitration with court litigation available if necessary to enforce interim measures or the final award of the arbitral tribunal.

It is accepted practice to separate questions of legality of the parties’ main contract on one hand from its arbitration clause on the other. Although this may sound strange to those more accustomed to one-stop legal shopping, the reason is very sound. The arbitration clause usually forms part of the parties’ overall business agreement. If one side goes to court to question the legality or validity of the whole agreement by arguing, for example, that it was procured by bribery or other illegal act, then the clause calling for such disputes to be resolved by arbitration would fall by the wayside as well. This would defeat the entire purpose of the arbitration clause – to have such disputes settled privately by arbitrators chosen by the parties. Therefore, it is set legal practice to have the arbitrators themselves determine the validity of the contract in question. For this to happen the validity of the arbitration clause is examined separately from the main contract and is usually decided by the arbitrators, not by the courts. Called “Competence – Competence”, this is a cornerstone of arbitration everywhere.

Without going into all the technical legal details, the lower and appeal court decisions in both England and Brazil seem based on questionable grounds. The English Court of Appeal reasoned that because the physical seat of the arbitration is London, then English law should apply to the arbitration clause – something which does not necessarily follow under generally accepted principles of arbitration law. And it also ruled that the requirement to conduct non-binding mediation of any dispute before engaging in binding arbitration, was not sufficiently clearly expressed in the clause.

The São Paulo Court of Appeal, for its part, issued an injunction to prevent the insurer from engaging in arbitration in England under threat of heavy daily fines. The São Paulo Court issued its order based primarily on the requirements set forth in the Brazilian Arbitration Law and Brazilian insurance regulations dealing with arbitration clauses in contracts of adhesion, i.e.agreements such as consumer contracts which are imposed by the party with clearly superior bargaining power and which are not negotiated. Arbitration clauses in these kinds of contracts must be set out in boldface type in a clearly noticeable manner, and insureds must give their secondary consent to arbitration of these cases. The São Paulo court’s reasoning is also questionable since this was not a unilaterally imposed consumer contract of adhesionbut rather a complex insurance policy bargained for between two sophisticated companies.

Finally, in a decision dated 29 June 2012, the Brazilian Superior Court of Justice (STJ) seems to have put the matter to rest. The STJ is the highest court in Brazil dealing with questions of arbitration. It overruled the São Paulo Court of Appeal and decided, correctly, that issues of the existence, validity and effect of arbitration clauses must be decided by the arbitrators themselves and not by the courts.

We have had a standoff which has been both confusing and expensive, with dubious court decisions on both sides. Although the story is not quite over yet, we can draw some lessons now for the dispute resolution area. The main ones are –

1) Do not leave the dispute resolution section(s) of your contract to the last minute in order to avoid discussing a potentially unpleasant subject which you are afraid might throw cold water on your contract signing celebration;

2) Do not blindly accept standard (“boilerplate”) language in this area which may be simply cut & pasted from other contracts. Dispute resolution clauses need to be tailored to each individual situation – “one size fits all” does not work;

3) Although we do not know for sure, it appears that each side may have insisted on its own dispute clause, with the result that both clauses were used as a compromise. Or the two dispute clauses may well have been used in tandem so as not to run afoul of local insurance regulations. Either way, do not use one of your own clauses plus one from the other side without understanding how the two clauses may conflict or interact with each other. And if you do use both an arbitration and a court litigation clause, be sure that the spheres covered by each are very clearly marked out and defined.

4) In order to be safe, add a sentence in your arbitration clause stating that any questions regarding the existence, validity or interpretation of the arbitration clause shall be decided by the arbitral tribunal, applying the law of X[the country the parties agree on]. This is important because as the Jirau case shows, without this language the arbitration clause may go to the courts instead – precisely what the parties were trying to avoid when choosing arbitration as their dispute resolution method.

5) It is also recommended to insert the governing law the parties want to use in interpreting the arbitration clause, which may not be the same as the governing law for the main contract. The reason is that as noted earlier, the arbitration clause is legally evaluated separately from the main contract. This can be explained in more detail by your attorney.

6) Finally, if your side wants to include mediation as a requisite step before arbitration or court litigation, consult expert advice to have this drafted very clearly.

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