Sanctions and arbitration
Sanctions and arbitration: procedural management, force majeure, hardship clauses and enforcement of awards in wartime
International contractual relationships may be significantly affected by extraneous events. The recent global pandemic, armed conflict, and international sanctions such as export blocks, transport restrictions and in general all measures affecting the supply of goods and services (e.g. financial measures) can render the performance by a party more onerous or even impossible. A recent example is the eighth sanctions package issued by the EU against Russia, which extends the existing ban on the provision of services to Russia to include architecture, engineering, IT consultancy and legal advisory services.
When unexpected, unforeseeable, and unavoidable circumstances arise, parties must consider whether their contractual performance remains feasible. If not, there are various options to redress the contractual imbalance, which may range from suspending performance until the circumstances change to terminating or renegotiating the contract.
Defining force majeure and hardship
In this context, force majeure and hardship clauses often come into focus in international disputes. The drafting of these clauses is of crucial importance, given that disputes typically arise from their interpretation. It is for this reason that in recent years, important international institutions, such as Unidroit and the ICC, have updated their principles and model clauses.
The Unidroit Principles of International Commercial Contracts 2016 (the “Unidroit Principles”) incorporate the features of force majeure developed by arbitral jurisprudence. Force majeure is described as an impediment resulting from circumstances beyond the control of the affected party that were not foreseeable at the time of the conclusion of the contract and are impossible to avoid or overcome. In 2020, Unidroit also published the guide “Note of the Unidroit Secretariat on the Unidroit Principles of International Commercial Contracts and the Covid-19 health crisis” on how the Unidroit Principles can help parties deal with contractual disruptions caused by the pandemic.
In 2020, the ICC published a model force majeure clause, accompanied by a list of situations that qualify as presumed force majeure events. If a presumed force majeure event occurs, the burden of proof falls not on the affected party but on the other party to show that the event does not fall within the definition. War, hostilities, invasion, acts of foreign enemies, extensive military mobilisation, currency and trade restrictions, embargos and sanctions are all presumed force majeure events in the standard formulation proposed by the ICC, which the parties may decide to keep or modify.
In terms of hardship, although domestic law usually governs the presence of factors hindering performance, the Unidroit Principles may be a valuable guide. Hardship is defined in the Unidroit Principles as the occurrence of events, which substantially alter the balance of the contract either because the cost of a party’s performance has increased or because the value of the performance a party receives has diminished. Such events, which are beyond the control and risk assumed by the affected party, must occur or become known after the conclusion of the contract. The hardship event must also be one that the affected party could not reasonably have taken into account at the time the contract was entered into. In the event of hardship, the Unidroit Principles offer several solutions: (i) renegotiation between the parties; or (ii) termination or modification by a court or arbitrator.
The ICC has also published a standard form hardship clause referring to cases where performance becomes more onerous due to events that are unforeseeable, which a party could not reasonably have taken into account at the time of the conclusion of the contract, and in which the event or its consequences cannot be avoided or overcome. In terms of remedies, the ICC clause provides that if the parties have not been able to renegotiate the contract, the party invoking the hardship clause may terminate the contract. Alternatively, the parties may choose from wording that empowers a judge or arbitrator to adapt the contract with a view to restoring equilibrium or to terminate the contract.
International sanctions and arbitration
International sanctions can raise important questions for arbitrators when deciding on issues concerning the substance of the dispute. Arbitrators may, for example, have to consider whether cost increases for companies only indirectly caused by sanctions against certain countries can be considered unforeseeable events at the time the contract was concluded. The dispute may concern the affected party seeking to invoke force majeure due to non-performance by a third party (e.g. a supplier), as well as whether the affected party could have or should have considered alternative means to perform its obligations despite the constraints. Note that the ICC model force majeure clause (discussed above) addresses this issue by precluding the non-performance by a third party from being considered a force majeure event, unless the affected party proves that the force majeure situation also exists for the third party.
International sanctions may impact not only the substance, but also the administration of the arbitration proceedings, directly or indirectly. For instance, measures prohibiting services from being rendered to sanctioned entities may prevent arbitrators and arbitration institutions from receiving payment, which, among other things, are also affected by measures involving banks in the sanctioned country. 1 Other challenges may concern the manner and possibility of notification or practical situations such as witness examination of individuals who are unable to travel due to sanctions.
Generally, arbitration is a valuable dispute resolution mechanism due to the ease of enforcing arbitral awards in most countries under the Convention on the Recognition and Enforcement of Foreign Arbitral Awards (New York Convention, 1958). Nonetheless, enforcement may be a challenge for the award creditor if it is sought in a country placed under a special legal regime.
Enforcement of arbitral awards in Ukraine
One such example is Ukraine, which has been placed under martial law. This does not impact the recognition and enforcement of awards under the New York Convention. Martial law also does not affect the functioning of the courts in Ukraine, including for the purpose of the recognition and enforcement of foreign arbitral awards against Ukrainian debtors. Depending on the location of a particular court, the proceedings may be slower due to interruptions related to war hostilities/infrastructure disruptions. However, the courts having jurisdiction over recognition and enforcement proceedings (i.e. Kyiv Court of Appeal and Supreme Court) are both located in Kyiv, which is relatively safe.
Still, the war in Ukraine has impacted the enforcement of the awards in two main ways:
- the physic
- al accessibility to the award debtor and, potentially, the assets available for enforcement (i.e. if the debtor is located in the temporarily occupied territories, or if the debtor’s assets have been destroyed as a result of hostilities, etc.); and
- depending on who the award creditor is, compliance with enforcement of the award may impinge on public policy considerations.
(i) Physical limitations
If the award debtor is located in temporarily occupied/uncontrolled territory, it (or its legal counsel) may not be able to participate in the court proceedings to present its objections to the enforcement. The court may be unable to notify the debtor of the process to ensure the parties to the proceedings have a fair trial.
As a matter of practice, the Ukrainian courts tend to pay attention to parties’ claims concerning their limitations in exercising their procedural rights and are likely to grant a prima facie substantiated request to adjourn the proceedings or extend a deadline to allow parties to properly participate in hearings.
(ii) Public Policy Considerations
Public policy considerations play a key role in the enforceability of an arbitral award. Where armed conflict, as is often the case, leads to the imposition of international sanctions, difficulties may arise in the enforcement of an award in which force majeure or hardship is accepted because of applicable sanctions on a party, as possibly conflicting with public policy.
The Ukraine Supreme Court has expressed the view in the context of sanctions and national security considerations that the enforcement of an arbitral award in favour of a sanctioned Russian creditor against a Ukrainian enterprise belonging to the defence sector would violate Ukraine’s public policy. Consequently, the court denied enforcement of the award. 2 The Ukraine government has since introduced a special regulation, which expressly prohibits any money transfers (as well as any other transactions) in favour of entities with ties to Russia or in favour of Russia.
There has since been an emerging trend in which parties have objected to the enforcement of arbitral awards that would require making payment to Russia or Russia-related entities. Procedurally, it is being alleged in these cases that the making of payment and the courts’ granting of requests for payment would constitute a breach of Ukraine’s public policy.
In summary, the procedures for recognition and enforcement of foreign arbitral awards in Ukraine during wartime have not been substantially impacted. Arbitral awards with no connection to Russia or to any sanctions regime more generally are being recognised by Ukrainian courts normally. The key change we expect to see is in relation to awards in favour of Russia or Russia-related entities with reference to an alleged breach of Ukraine’s public policy (in the war context). Given this context, and also in view of the increasing number of sanctions imposed on Russia and Russia-related entities, we anticipate that denying recognition and enforcement of arbitral awards in favour of Russia is highly likely to become the new approach of Ukrainian courts.
