Is The Commencement Of An Arbitration Claim Also The Commencement Of An Arbitration Counterclaim?

In a recent English decision, the court held that the commencement of an arbitration by the claimant could also amounted to the commencement of the arbitration of any counterclaim. In Glencore International AG v (1) PT Tera Logistic Indonesia (2) PT Arpeni Pra, the English court held that if the notice given by the claimant, and the appointment of an arbitrator by the respondent, refer to “claims” and “all disputes” then the notice and appointment are sufficient, under the English Arbitration Act, 1990, to amount to the commencement of any counterclaim arising from the same facts and which effectively asserts a claim which can be brought into the balance of accounts between the parties.

This decision is obviously of considerable importance for many reasons, and especially limitation purposes. If this decision applies, then the respondent in the arbitration does not have to serve its own notice of arbitration in respect of its counterclaim and may, in effect, shelter under the claimant’s notice, if the counterclaim can be brought into account in respect of the claim being made by the arbitral claimant.

Would the same decision be made by a Canadian court?

The English Decision

The claims arose under a shipping contract. Two arbitrations were commenced. In the first arbitration, the Owners gave notice in writing that they commenced “arbitration proceedings against you in respect of their claims under this Contract”, appointed an arbitrator and required Glencore to appoint an arbitrator. Glencore responded by appointing a second arbitrator “in relation to all disputes arising under the [contract]”. (underlining added)

In the second arbitration, the Owners gave notice in writing that they commenced “arbitration proceedings against you in respect of claims under this Contract”, appointed an arbitrator, and required Glencore to appoint an arbitrator. Glencore responded by appointing a second arbitrator “in relation to all disputes arising under the [contract]”. In due course in each arbitration, the two appointees then appointed a third arbitrator. (underlining added)

By the time Glencore served its defence and counterclaim submissions in the arbitrations, the limitation period for claims under the contracts had expired. Two members of the arbitral tribunal found that the counterclaims were time-barred. The third member of the tribunal dissented, holding that the notices of commencement of arbitration and the appointments of arbitrators included both claims and counterclaims.

The English decision was based upon section 14(3)-(5) of the English Arbitration Act, 1990 which states as follows:

(3) Where the arbitrator is named or designated in the arbitration agreement, arbitral proceedings are commenced in respect of a matter when one party serves on the other party or parties a notice in writing requiring him or them to submit that matter to the person so named or designated.

(4) Where the arbitrator or arbitrators are to be appointed by the parties, arbitral proceedings are commenced in respect of a matter when one party serves on the other party or parties notice in writing requiring him or them to appoint an arbitrator or to agree to the appointment of an arbitrator in respect of that matter.

(5) Where the arbitrator or arbitrators are to be appointed by a person other than a party to the proceedings, arbitral proceedings are commenced in respect of a matter when one party gives notice in writing to that person requesting him to make the appointment in respect of that matter. (underlining added)

Relying on the underlined words, the English court held that the claimant’s notice of arbitration and the respondent’s appointment of arbitrator, referring to “claims” and to “all disputes arising under the contract,” stopped the running of time in respect of the counterclaim for the purposes of s 14(4) of the English Act if the claim and counterclaim arise from a single set of facts which effectively create a ‘balance of accounts’ between the parties. The judge did not deal with the circumstances which would arise in respect of other counterclaims and whether, and in what circumstances, the respondent must issue its own notice of arbitration. The judge held as follows:

“In my judgment the reference in the notices to “claims” and to “all disputes arising under the contract” had the effect of referring counterclaims for MV Demurrage, and not just claims for FC Detention, to the arbitrations. The context is one of a contract under which delay was capable of giving rise to money obligations on either side of an account, with a net sum falling for payment. The party commencing the arbitration is in effect asking for an account and asserting that the balance is in its favour. It is further commercially unlikely that the parties would contemplate that MV Demurrage and FC Detention Claims would be separate for the purposes of reference to arbitration, so that only one and not the other would be within a reference unless the parties were more explicit that both were within the reference. The attendant possibility that there could otherwise be separate tribunals reinforces the unlikelihood.“

The specific order that the judge made was as follows:

“In circumstances where a claim and a counterclaim arise from a single set of facts giving rise to a balance of accounts or netting-off under a contract, a reference to “claims” and to “all disputes arising under the contract” in notices of appointment of an arbitrator will ordinarily suffice to interrupt the running of time in respect of the counterclaim for the purposes of s. 14(4) Arbitration Act 1996, and does so in this case.” (underlining added)

The judge specifically declined to decide whether the word `claims` alone would have had the same effect.

The judge in this case was clearly influenced by commercial common sense under a shipping contract. How far this decision applies outside of those circumstances is unclear. But the decision is clearly an important one which will be cited in the future.

Would the same result arise under Canadian arbitration statutes?

In addition to questions about the scope and effect of this English decision, would the logic of this decision apply in Canada?

Arbitration Statutes

Many Canadian provinces have, in whole or in part, adopted the Uniform Arbitration Act (UAA”) promulgated by the Uniform Law Conference of Canada (“ULCC”). The UAA addressed the limitation period applicable to counterclaims in two ways.

  1. Section 23 of that UAA states the various ways in which an arbitration can be commenced. One of the ways that the arbitration may be commenced is set forth in Section 23(1)(a):

A party to an arbitration agreement serves on the other parties notice to appoint or to        participate in the appointment of an arbitrator under the agreement. (underlining added)

Then, section 24 states as follows:

A notice that commences an arbitration without identifying the dispute is deemed to refer to arbitration all disputes that the arbitration agreement entitles the party giving the notice to refer. (underlining added)

The Commentary to this section says that, “The purpose of this is self-explanatory.”

  1. Section 52(1) of the UAA says that the law with respect to limitation periods applies to an arbitration as if the arbitration were an action and a claim made in the arbitration were a cause of action. So presumably, the limitations statute of a province adopting this sub-section applies to a counterclaim in an arbitration.

These sections are adopted in some, but not all, of the provincial arbitration statutes.

Thus, the arbitration statues in Alberta, Saskatchewan, Manitoba, Ontario, New Brunswick and Nova Scotia appear to adopt these provisions from the UAA. The limitation statutes in the other common law provinces do not appear to address these issues.

Article 2892 of the Quebec Civil Code says that cross demands and notices to submit a dispute to arbitration constitute judicial applications, and Article 2882 says that any ground of defence may be asserted after prescription even if it could be asserted as direct action.

There are clear differences between section 23 of the UAA, and in the various provincial limitations statutes which adopt that section, and section 14 of the English statute.

First, the Canadian section refers to the disputes that the “party giving the notice” may refer to arbitration.   This wording would appear to exclude claims that the respondent might refer to arbitration.

Second, the Canadian section says the effect of that section is “deemed” to be so. The English statute refers to “a matter” and “in respect of that matter”.

Limitations Statutes

The provincial limitations statutes are quite different across Canada. To the author’s understanding there are basically three different regimes applicable to limitation periods and counterclaims:

  1. In four provinces, the limitations statutes extend the limitation period for counterclaims if an action is commenced, in certain circumstances relating to the connection of the counterclaim to the main action: British Columbia, Alberta, Manitoba, and Newfoundland and Labrador. This provision reflects section 13(1) of the Uniform Limitations Act (“ULA”) of the ULCC.

2.     The limitations statutes of six provinces and territories do not seem to contain any such extension of the time to commence a counterclaim, and state that the same limitation period which is applicable to actions also applies to counterclaims and set-offs: Nova Scotia, P.E.I., Saskatchewan, Yukon, Northwest Territories and Nunavut. Quebec law appears to adopt the same approach. In Book 8, Prescription, Article 2892 of the Quebec Civil Code says that cross demands (and, as noted above, notices to submit a dispute to arbitration) constitute judicial applications. Article 2882 says that any ground of defence may be asserted after prescription even if it could be asserted as direct action.

3.     In Ontario, the limitation statute does not appear to expressly address this issue so far as counterclaims are concerned. One could infer that, therefore, the limitation period for counterclaims is not extended by the original action.

4.     Presumably, however, the judge-made rule with respect to equitable set-offs (namely that they can be relied upon in the defence and therefore are not caught by the limitations period) would apply in all these cases.

Discussion

The Canadian arbitral and limitation statutes appear to raise a Rubik’s cube of possible results. In the absence of a definitive Canadian decision to discuss, now is not the time to answer questions but to raise them. Here are just a few of them:

1.     Do the words “in respect of a matter” in the English statute, and the words “the party giving the notice to refer” in section 23 of the UAA (and provincial statutes which adopt it) mean that, in Canada under the provincial limitations statues which adopt section 23 of the UAA, the commencement of arbitration is limited to those claims which the claimant can submit to arbitration, and not those which can be raised by counterclaim?

2.     Can the claimant forestall the application of section 23 of the UAA by stating, expressly or by implication, that the arbitral claim does not raise any issue by, or related to, an arbitral counterclaim?

3.     If the claims raised by counterclaim are ones that can be “brought into account” within Glencore decision, why do they not fall within the apparent right of the arbitral respondent to assert an equitable set-off without commencing a counterclaim?

4.     What is the basis or effect of the Glencoe decision?

Does it mean that the respondent’s notice appointing an arbitrator is itself the commencement of a counterclaim if it refers to “all disputes” or words to that effect? If so, that would mean that the words “notice to appoint….an arbitrator” in section 23(1)(a) mean and include the appointment of an arbitrator by the respondent in response to the claimant’s demand for the appointment of an arbitrator.

Does it mean that the provisions of the applicable arbitration statute over-ride the limitations statute, and that, because of the nature of arbitration proceedings, once an arbitration is commenced and arbitrators appointed then the arbitration is commenced for all applicable purposes including counterclaims (as delimited in the Glencoe decision) notwithstanding the limitations statute?

How does that approach conform to, say, those sections of Canadian limitation statutes (such as section 19(2) of the Ontario Limitations Act, 2002) that provide that the limitation period prescribed in the Act applies notwithstanding any other statute?

Or is that approach consistent with a section such as section 52(1) of the UAA, and the provincial sections that follow it, which state that the provisions of the limitations statute that apply to actions also apply to arbitrations?

In other words, is the decision in Glencoe consistent with relationship between arbitral and limitations law established under the UAA?

If the arbitration statute prevails over the limitation statute (in the sense that the commencement of the arbitration and appointment of arbitrators amount to the commencement of all potential proceedings in the arbitration, at least to the extent of “money obligations on either side of an account, with a net sum falling for payment”, to use the words from Glencoe), then at least some of the discussion about the effect of the limitation statues on counterclaims in arbitrations may be irrelevant. To the extent that is not the case, however, then:

5.     In those provinces and territories whose limitation statutes state that the limitation period applies to set-off, does that mean that the reasoning in the Glencoe decision does not apply?

6.     In four provinces, the limitation statutes expressly provide for the extension of the limitation period if the counterclaim is related to the claim in the original action. However, the arbitration legislation in only two of these Provinces (Alberta and Manitoba) provides, as does section 52(1) of the UAA, that the limitation period for arbitrations is the same as those in actions. Does that mean that in the other two provinces (British Columbia, and Newfoundland and Labrador) that the extension of time to commence a counterclaim does not apply to arbitrations?

One can imagine many other permutations or combinations of these statutory provisions. In addition, in those provinces which have not expressly dealt with some of these issues, arriving at a reasoned conclusion may be even more difficult.

What can be said is that parties to arbitrations should be aware of the pitfalls relating to the limitation period. A party wishing to assert a counterclaim in an arbitration notwithstanding a prescription or limitation period, or a party wishing to preclude the assertion of a counterclaim in an arbitration by reason of prescription and limitation period, must be familiar with the provisions of both the arbitral statute and the limitations or prescription statute, and should consider the inter-relation, if any, between the two.

Glencore International AG v (1) PT Tera Logistic Indonesia (2) PT Arpeni Pra [2016] EWHC 82 (Comm)

Arbitration – counterclaim – limitation and prescription periods

Thomas G. Heintzman O.C., Q.C., FCIArb                                                             March 25, 2016  

www.heintzmanadr.com

www.constructionlawcanada.com

 

Can An Arbitral Tribunal Summons The Decision-Makers Of A Public Authority?

When a contract dispute between a public authority and a private party proceeds to arbitration, can the private party inquire into the process or reasoning that led to public authority’s decision in question? For instance, if the public authority decides to terminate a construction contract, or to award a tender to one bidder, can an arbitral tribunal compel the public authority’s decision-makers to testify about their decision-making process?

It might be argued that this sort of inquiry is irrelevant and impermissible because the public authority is making a public law decision for which the publicly released decision is all that is relevant, and the reasons of the decision-makers within the public authority are unknowable; and the arbitral tribunal is there to make the determination as to whether the decision was valid or not, not what the decision-makers within the public authority thought about the matter.

However, in Commission scolaire de Laval v. Syndicat de l’enseignement de la région de Laval the Supreme Court of Canada has just held that the arbitrators may summon the decision-makers within a public authority, and the arbitrator may receive evidence about the process leading to the decision that is relevant to the arbitration. And in its decision, the Supreme Court made strong statements about the inadvisability of any court interfering beforehand in the arbitrator’s role in making these evidentiary rulings.

While the decision was rendered within an employment context, it raises serious issues about the powers of arbitral tribunals to inquire into the motives and the processes of public authorities. Combined with the recent decision of the Supreme Court in Bhasin v. Hrynew, which has mandated the honest performance of contracts, it could very much broaden the powers of arbitral tribunals to look behind the decisions of public authorities relating to the performance of contracts.

Background

B was a vocational training instructor employed by the Laval School Board since 2000. In March 2009, the principal of the school where B worked asked B to submit a declaration concerning his judicial record. As a result of recent amendments to the Quebec Education Act, (EA) a school board was required to “ensure” that “persons who work with minor students and persons who are regularly in contact with minor students . . . have no judicial record relevant to their functions within that . . . board.” If a school board notes that a teacher or a person holding a teaching licence has a record it considers relevant to that person’s functions, it must inform the Minister of Education and the Minister may refuse to renew the teacher’s licence or may suspend or revoke it or attach conditions. That power cannot be exercised, however, if the teacher’s offence is unrelated to his or her employment or if a pardon has been issued to the teacher.

In June 2009, B was summoned to attend a special meeting of the Board’s executive committee. The Supreme Court of Canada said the following about that meeting:

“After hearing B in a “partially in camera meeting” (from which the public was excluded), the executive committee ordered a “totally in camera meeting” (from which the teacher and his representative were excluded) in order to deliberate. Upon completion of these two in camera meetings that lasted a total of 27 minutes, the committee, sitting in public once again, proceeded to adopt resolution No. 238, which terminated B’s employment contract.”

This resolution listed the offences of which B had been convicted, noted [translation] “the provisions of the [EA] concerning judicial records of persons who work with minors” and mentioned the recommendations of the human resources unit and the director general that B’s record was relevant to his functions. The executive committee unanimously decided that “the employment relationship between the teacher [B] and the Board [is] resiliated as of this day on the ground of incapacity”. In the Board’s view, the fact that a teacher has a judicial record that is relevant to his or her functions makes the teacher legally incapable of performing those functions.”

On July 2, 2009, the Union filed a grievance on B’s behalf to contest his dismissal. The collective agreement between the Union and the board stated that a teacher’s employment contract could be terminated “only after thorough deliberations at a meeting of the board’s council of commissioners or executive committee called for that purpose.”

On July 3, 2009, the day after the grievance was filed and four days after the employment relationship was terminated, the National Parole Board granted B a pardon.

The Union’s grievance on behalf of B came to an arbitration hearing in May 2010. The Union summoned three members of the executive committee who had been present for the deliberations in June 2009. The Board objected, arguing that the motives of the members of the committee were irrelevant and that doctrine of deliberative secrecy shielded the members from being asked what had been said in camera. The Union submitted that this testimony would be relevant, admissible and necessary, given that it contested both the procedures and the substantive grounds relating to the termination.

The Lower Decisions

The arbitrator held that Union was entitled to examine the members of the executive committee on what had been said in camera. In order to determine whether the committee’s deliberations had been “thorough” as required by the collective agreement, he held that it was necessary to know their substance, including what information had transmitted orally and in writing in the discussions between the members, as well as any objections that were raised.

The arbitrator held that the doctrine of deliberative secrecy did not preclude him hearing the evidence which the executive committee had heard in camera. The fact that a body deliberated in camera did not necessarily mean that it benefited from deliberative secrecy, and the mere fact that the executive committee had decided unilaterally to sit in camera did not shield its members from scrutiny by a grievance arbitrator. The arbitrator said that he would hear the evidence of the executive committee’s members in camera if he received a request to that effect, to ensure that they would be able to speak as freely as in their deliberations.

Mr. Justice Delorme J. heard a motion for judicial review of the arbitrator’s interlocutory decision. He held that the intentions of members of the executive committee’s decision to terminate B’s contract of employment were irrelevant. He also held that the executive committee’s decision to deliberate in camera had rendered its deliberations confidential.

By a majority, the Quebec Court of Appeal allowed the appeal. The majority held that a decision with respect to employment, and more specifically with respect to dismissal, made by a public body falls under employment law, whether individual or collective, and not under public law. The rule that deliberative motives are irrelevant did not apply. The majority of the Court of Appeal also held that deliberative secrecy did not apply since the executive committee was not an adjudicative body, and the fact that the executive committee decided unilaterally to meet in camera did not shield its members from testifying.

The dissenting judge would have dismissed the appeals. He held that the rule against the admissibility of the motives of public decision-makers applied to the decisions of any public collective decision-maker, whether acting in a private or public capacity, provided that the communicated decision officially expresses the public body’s will.

Decision of the Supreme Court of Canada

The Supreme Court of Canada unanimously dismissed the appeal. The majority and minority of the Supreme Court were divided on which standard of review to apply. That issue is not one that this article will address. On the other issues, the court held as follows:

  1. The rule that the motives of a public decision-maker are irrelevant and “unknowable” (known as the Clearwater principle from a decision of the Supreme Court) applies to a legislative body, or a public body exercising regulatory, policy or purely discretionary powers. But that rule does not apply to any decision of a public authority in a contractual or other private law context.

In this respect, the Supreme Court did not draw a dividing line between employment cases and other cases. Rather, it drew the dividing line between decisions of a legislative, regulatory and pure policy nature, on the one hand, and decisions relating to the assertion of private law rights, on the other. Decision-makers within a public body that was involved in contractual or other private law matters were subject to testifying about their deliberations, if their testimony is relevant.

On this point, the reasons of the Supreme Court are important:

“…it is wrong to say that Clearwater established a rule of relevance that applies to every collective decision made by a decision‑making body by means of an official document regardless of the nature of the decision or of the body making it. Rather, the “unknowable” motives in question are those that led a legislative body to adopt provisions of a legislative nature, that is, to carry out acts of a public nature….[the Clearwater rule] applies to decisions made by a public body when it carries out acts of a public nature. (emphasis added)

In the instant case, even though the Board is a legal person established in the public interest under the EA, it was acting as an employer when it decided to dismiss teacher B by way of a resolution of its executive committee. That decision had an effect on the employment contract between B and the Board and was made in the context of a process provided for in the collective agreement between the parties. It was not a decision of a legislative, regulatory, policy or discretionary nature. Rather, it was made in the context of the very type of contractual relationship that was at issue in Dunsmuir and Wells. In reviewing such a decision, a grievance arbitrator applies the principles of employment law that are applicable to any dismissal. As a result, this case is clearly distinguishable from Clearwater. A rule of relevance based on the public nature of an impugned decision does not apply here.”   (emphasis added)

The Supreme Court also noted the fine line between process, motives and substance in the making of a decision relating to private or contractual rights:

“Furthermore, it is quite hard to distinguish questions concerning the process that led to a decision from questions concerning the motives behind the decision. A single question could be useful for determining both whether the process was lawful and whether the disciplinary sanction satisfies the substantive requirements provided for in the collective agreement and in labour legislation. For example, the question whether the members of the executive committee considered the existence of B’s application for a pardon might be relevant to the assessment of the process followed by the committee. The same question might also be relevant to the assessment of the validity of the committee’s substantive decision.”

Finally, the Supreme Court noted that principles involved should apply equally to the private and public sector if contractual and other private-law rights are in issue. It said:

“In the appellants’ submission, Clearwater would apply not only to public bodies like school boards, but also to Crown corporations, all of which make their decisions known through resolutions adopted collectively by their decision‑making authorities. And the same rule would apply to private corporations that operate in the same way. If that were the case, the makers of a wide range of decisions made collectively would be shielded from ever testifying about their motives or their deliberations, even in cases in which such testimony would be of particular relevance to the dispute. It would not be desirable to attribute such a scope and such effects to the reasons of narrow scope given by Binnie J. in Clearwater.” (emphasis added)

  1. The Supreme Court held that the members of the Board’s executive committee were not protected from testifying by the doctrine of deliberative secrecy. That doctrine only applied to a body exercising an adjudicative function, such as a court, arbitrator or administrative tribunal.   The Board’s executive committee was not performing an adjudicative function. Rather, “it was acting as an employer in the context of a contractual relationship to which the principles of employment law applied.”
  1. The Supreme Court declined to rule on whether the proposed examination of the executive committee members was relevant, for three reasons:

First, the assessment of relevance fell within the exclusive jurisdiction of the arbitrator, and it is “not open to a reviewing court to speculate about the types of questions that could be relevant before the examination has even begun”;

Second, the arbitrator had authority over both the substantive validity of the board’s decision, and the issue of the proper penalty;

Third, the arbitrator had to decide whether the Board had taken “thorough deliberations” as required by the collective agreement.

In concluding, the Supreme Court made two observations that are very relevant to the law of arbitration.

First, the court said that it was inadvisable for a court to review an interlocutory decision of an arbitral tribunal, particularly a decision about the relevance or admissibility of evidence. The court noted that such a review is not suitable to the process:

Finally, it seems to me self‑evident that the nature of arbitration proceedings would be unsuited to an advance assessment of testimony that has not yet been heard. Relevance is established on the basis of the legal framework, the factual context and the circumstances of the particular case: …..Owing to certain features specific to grievance arbitration, the legal framework and factual context often become known only as the proceedings and the examination of witnesses unfold.…..To the above must be added the informal nature of the pleadings that lead to arbitration and the absence of applications with detailed allegations that would be available to a court of law to help it determine what is relevant on the basis of the facts alleged in support of a proceeding. In this context, it would be risky to rule in advance on the relevance of evidence that could depend on what will be revealed in the course of the examination of the employer’s representatives….. Likewise, it would be inappropriate to preclude in advance all questions about the motives behind the dismissal.  (emphasis added)

Second, the court also made the point that there are good policy grounds for disallowing review of the interlocutory decisions of arbitrators, as the present case illustrated:

“In concluding, I must make one final comment. In my humble opinion, it is most unfortunate that, more than six years after filing a grievance with respect to a dismissal, the Union has not yet been able to begin presenting its evidence. The mission of the grievance arbitration system, that is, to provide employers and employees with justice that is accessible, expeditious and effective, has been forgotten. I would note the importance of the sensible rule that, with only a few exceptions, a grievance arbitrator’s interlocutory decision, in particular one concerning evidence and procedure, is not subject to judicial review….The courts of several provinces have taken a similar deferential approach to interlocutory decisions of arbitrators….” (underlining added)

Discussion

This decision of the Supreme Court is important for the law of contracts, construction law and arbitration, and not just for employment law.

For arbitration law, The Supreme Court’s observation will undoubtedly confirm the modern approach to arbitration and the respect which court now give to arbitral awards and in particular the interlocutory decisions of arbitrators.

For contract and construction law, consider the situation in which a public body tenders a contract for the construction of a building. That tender process is governed by the law of contract, and particularly the law applicable to tenders. The public authority’s decision to award the building contract is governed the Supreme Court of Canada’s decision in Ron Engineering, and the many subsequent decision arising from that decision. An important element in the validity of that decision is the fairness of the decision of the public authority’s decision.

Consider also the recent decision of the Supreme Court of Canada in Bhasin v. Hrynew, in which the Supreme Court held that a party to a contract has a duty of honest performance. Whether a public authority has honestly performed the contract may be a serious issue, particularly in the authority’s use or mis-use of the change order regime and the dispute resolution process.

On these and other issues relating to the performance of contracts entered into by public authorities, the Laval School Board decision is a powerful statement. The decisions of public authorities in that context are not legislative, policy or regulatory decisions, but decisions made according to contract and other private law rules. The internal processes leading to those decisions will not be entitled to a blanket privilege against disclosure. The admissibility of evidence from the decision-makers will be determined by an arbitrator, if an arbitration agreement is applicable, and courts should be very reluctant to interfere with that process. The admission of evidence about the decision-making process of the public authority may well be in aid of an allegation of improper purpose or motive, or unfairness.

Commission scolaire de Laval v. Syndicat de l’enseignement de la région de Laval, 2016 SCC 8

Arbitration – Evidentiary rulings by arbitrators –review of interlocutory decisions of arbitrators –Public authorities – Distinction between private law and public law decisions of public authorities

Thomas G. Heintzman O.C.,Q.C., FCIArb                      March 30, 2016                                                                                                                

www.heintzmanadr.com

www.constructionlawcanada.com

Contractor Liable To Flooring Subcontractor For Failure To Provide Proper Sub-Floor

An owner is obliged to provide the contractor with proper access to the site for the performance of the work. That principle of construction law is well known. What is less well appreciated is that the contractor has the same or similar obligation to the subcontractor. And this obligation has an important ingredient to it: while a construction project is a dynamic process, the contractor must nevertheless provide the work space to the contractor in a condition in which the subcontractor can perform its work.

In McCabe v. Finn Way General Contractor, the Ontario Superior Court recently applied this principle to a general contractor and a flooring subcontractor. The court found that the sub-flooring was not in a condition which was fit for the installation of the flooring. The court held that it was the general contractor’s obligation to install the sub-flooring so that the flooring could be installed. While the subcontractor made efforts to install the flooring, the subcontractor ultimately refused to further proceed unless the sub-flooring was fixed. When the contractor told the subcontractor to “pick up your tools”, the subcontractor took that instruction as a termination of the subcontract.

The Principle

The court stated the principles in a clear fashion:

It is a principle in construction law….that a contractor must present to a subcontractor a project site capable of receiving the scope of the subcontractor’s work, in order to be in a position to tax the subcontractor with default for failure to perform…… The same principles apply whether the relationship is between owner and contractor or between contractor and subcontractor….Put positively, it stands as an implied term in construction contracts that performance by a subcontractor depends upon the proper performance by a contractor in ensuring that the worksite is properly prepared to receive the subcontractor’s work. Failure by the contractor to ensure this condition precedent will represent a breach of the contract by the contractor that allows the subcontractor to terminate the contract and sue for damages…”

The application of the Principle

The court then showed how the principle should be applied to the facts of the case:

  1. The specification showed the preparatory work that must be done before the floor was installed.
  2. The installation of the sub-floor was the contractor’s and not the sub-contractor’s responsibility, and this was admitted by the contractor.
  3. The evidence demonstrated that the deficiencies were with the sub-flooring, not the flooring, and the contractor knew this.
  4. The guidelines of the flooring material supplier demonstrated that the problem was with the sub-floor.

The court concluded that the contractor had was responsible for allowing a defective sub-floor to hinder the [subcontractor’s] ability to install his flooring in a workmanlike manner, and refused to relieve the plaintiff of his warranty over the work that formed the scope of his contract,” and had thereby made it impossible for the subcontractor to fulfill its responsibilities under the subcontract. Accordingly, it was the contractor which thereby breached the subcontract, not the subcontractor who walked off the job in those circumstances.

Discussion

This decision provides a clear statement of the principle that a contractor – just like an owner – must provide the construction site to the subcontractor in a condition in which the subcontractor can perform its work. This nature of the contractor’s obligation may be more complicated than the obligation of the owner. Unless the owner is itself doing some of the work, the owner’s obligation is largely static and involves the delivery of the site to the contractor at the beginning of the project in an unobstructed condition.

The contractor faces a more difficult challenge for two reasons.

First, its obligation to the subcontractor is a dynamic one as the project progresses. As the contractor may have its own forces on the job, and will likely have several subcontractors, the contractor has an ongoing responsibility to ensure, from time to time and from subcontractor to subcontractor, that the work space for one subcontractor – in this case the flooring contractor – is ready for the subcontractor to work on.

Second, its obligation may be multi-layered. The job and material specifications may dictate an order in which the work must be done. The contractor will have to determine which contractor is to perform which work, and in what order.

Coordinating the work-cycle and specification-cycle order of work may not be an easy job, but it is the essence of good contracting. It is also the essence of contractual performance. As this case demonstrates, when the contractor does not coordinate the project and then refuses to deal with the problem, then it is the contractor which repudiates the subcontract, not the subcontractor which refuses to continue to work.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed. chapter 4, part 2(b) and 7(d)(ii)(B), chapter 7, part 6(c) and (d) and chapter 12, part 6.

McCabe v. Finn Way General Contractor, 2015 CarswellOnt 19200, 2015 ONSC 7557

Building contracts – subcontracts – availability and condition of site

Thomas G. Heintzman O.C., Q.C., FCIArb                                          March 1, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

 

An Opt-In “May Arbitrate” Clause Is Enforceable, But Only If Triggered: Privy Council

One of the ongoing issues in Canadian arbitration law is whether an “opt in” arbitration clause is enforceable as a mandatory submission to arbitration. Under such a clause, one party “may” serve a notice of arbitration, and if that party does so, then arbitration shall ensue. Some Canadian court decisions, particularly older ones, held that this sort of clause is a permissive clause, not a mandatory submission to arbitration, and is therefore not enforceable. Other Canadian decisions, particularly the more recent ones, have held that this sort of clause amounts to a mandatory submission to arbitration once one party does elect to serve a notice to arbitrate.

Recently, the Privy Council examined such a clause. In Anzen Limited and others v. Hermes One Limited, the Privy Council held that the clause constituted an enforceable arbitration clause once it was properly triggered by one of the parties. The triggering of the clause did not require the defendant to itself commence arbitration but to make a sufficient election that the dispute was to be arbitrated.

This decision will be useful in interpreting Canadian arbitration clauses in building contracts because they generally use the word “may” and the issue then arises as to whether one party can enforce arbitration against the other.

The Background

The relevant portion of the clause in question read as follows:

“…If a dispute arises out of or relates to this Agreement or its breach (whether contractual or otherwise) and the dispute cannot be settled within twenty (20) business days through negotiation, any Party may submit the dispute to binding arbitration. Such arbitration will be conducted by a sole arbitrator designated by the International Chamber of Commerce (ICC) and will be in accordance with the ICC’s arbitration rules. The arbitration will be held at a neutral site in London, England. The arbitrator will determine issues of arbitrability, including the applicability of any statute of limitation, but may not limit, expand or otherwise modify the terms of the Agreement……” (underlining added)

Hermes commenced court litigation arising from a shareholders’ agreement containing this clause. Anzen did not serve a notice of arbitration. Rather, it brought a motion to stay Hermes’ action, taking the position that if Hermes wished to proceed with its claim, it was obliged to do so by way of arbitration. Hermes’ position was that Anzen was obliged to commence arbitration before Hermes’ claim should be stayed. The court’s below agreed with Hermes and dismissed Anzen’s stay motion. The Privy Council allowed the appeal.

Decision of the Privy Council

The Privy Council said that there were three ways to interpret this clause:

  1. The clause is an exclusive arbitration clause, meaning that the clause is a mandatory arbitration clause and the parties are required to arbitrate. The Privy Council called this Analysis I.
  2. The clause is a permissive arbitration clause, meaning that either party can commence litigation but if the other party wishes to arbitrate, then it must start an arbitration proceeding, in which case the litigation would be stayed by the court. The Privy Council called this Analysis II. This is the approach adopted by the courts below. Because Anzen had not itself commenced arbitration before seeking a stay of the action, those courts dismissed its stay motion.
  3. The clause was a permissive arbitration clause, meaning that either party could commence litigation but if the other party wished to arbitrate, then it did not need to start the arbitration proceeding itself but could request arbitration and then bring a motion to stay the litigation.

The Privy Council held that Alternative III was the proper interpretation of this clause. Alternative I was rejected as being inconsistent with the word “may” and the choice or election inherent in that word. Accordingly, the triggering of the clause required some election by the defendant. The question was, what kind of election: the commencement of an arbitration by the defendant, or some election short of that?

Alternative II was rejected as inconsistent with commercial common sense. It did not make sense for the defendant to be required to commence an arbitration itself when the defendant may not wish to have any proceedings, may have no claim to assert and would have to assert a negative declaration. As long as the defendant made a clear election for arbitration, that should be sufficient to trigger the arbitration clause.

Accordingly, since the defendant had by its conduct made a clear election for arbitration, the Privy Council stayed the action.

Discussion

This decision is a useful one for Canadian construction law because it confirms the line of cases that holding that using the word “may” in an arbitration clause does not mean that the arbitration clause is entirely permissive, so that agreement to arbitrate of both parties is necessary at the time the dispute arises. Indeed, the Privy Council did not even canvas this alternative.

Nor does the word “may” in an arbitration clause give rise to mandatory arbitration clause. The word is too permissive to be given that interpretation.

Rather, the word “may” will usually give rise to what might be called an “opt in” or “elective” arbitration clause, under which either party may elect arbitration. If that party does so on a proper and timely basis, then arbitration is mandatory. In this case, the dispute was whether that proper and timely basis required the defendant to itself start an arbitration. The Privy Council held that it was not.

Interestingly, one of the main decisions upon which the Privy Council relied is the decision of the Ontario Court of Appeal in Canadian National Railway v Lovat Tunnel Equipment Inc. (1999), 174 D.L.R. (4th) 385. In that case, the arbitration clause simply said that “the parties may refer any dispute under this Agreement to arbitration, in accordance with the Arbitration Act of Ontario.” In staying the action, Ontario Court of Appeal held that the words “ the parties may” meant that:

“either party may refer a dispute to binding arbitration and arbitration then becomes mandatory. Failing such an election by one of the parties, the matters in dispute can be resolved in the courts.”

This issue is of importance to building contracts in Canada. Thus, GC 8.2.6 of the CCDC 2 Stipulated Price Contract says that, after certain preliminaries including notice and mediation, “either party may refer the dispute to be finally resolved by arbitration….”

There are Canadian decisions all over the map on this issue. Some have held that the word “may” creates a purely permissive regime obliging neither party to arbitrate. Some hold that it creates a mandatory regime. The more recent decisions seem to adopt the approach in Canadian National Railway v. Lovat Tunnel Equipment Inc. Based upon the present Privy Council decision in Anzen Limited and others v. Hermes One Limited, the latter is the proper interpretation.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed. Chapter 11, part 3(c)

Anzen Limited and others v. Hermes One Limited, [2016] UKPC 1

Arbitration – mandatory, permissive and opt-in arbitration – motion to stay  

Thomas G. Heintzman O.C., Q.C.                                               February 20, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

 

 

Arbitral Rules Held To Exclude Right To Appeal Arbitration Award

Parties who select arbitral rules, or the administration facilities of an arbitral institution, may do so because they believe that the rules or institution will provide a fair and efficient administration of the arbitral process. They may not suspect that the rules will affect their right to appeal the award.

However, in Highbury Estates Inc. v. Bre-Ex Ltd., the Ontario Superior Court recently held that by adopting arbitral rules which preclude an appeal, the parties thereby opt out of statutory appeal rights.

The Arbitration Act, 1991 and the National Arbitration Rules

Sub-sections 45(2) and (3) of the Ontario Arbitration Act, 1991 provide for a right of appeal on law, fact and mixed fact and law if the parties agreement so provides. Sub-section 45(1) states that, if the arbitration agreement does not deal with appeals on questions of law, then an appeal on a matter of law may be allowed with leave of the court. Section 3 of the Act permits the parties to contract out of Section 45. By making Ontario the place of the arbitration or by otherwise making the arbitration subject to the Act, the parties agree to these statutory rights of appeal unless they contract out of them.

In the present case, the arbitral agreement stated that National Arbitration Rules applied to the arbitration. Rule 47 of those rules provided that ‘[u]nless otherwise agreed, the award of the Tribunal shall be final and binding and there shall be no appeal’.

In effect, both the Act and the Rules allowed the parties to “otherwise agree.” The Act does so in Section 3. The Rules do in the provision referred to above. In this circumstance, how does one tell if the parties “agreed otherwise” to the Act or to the Rules?

The Decision

The decision of the court was based on the following:

  1. The court referred to a number of prior decisions which dealt with contracting out of section 45 of the Act: Orgaworld Canada Ltd. v. Ottawa (City), 2015 ONSC 318 (Ont. S.C.J.), paras. 48-72, Inforica Inc. v. CGI Information Systems & Management Consultants Inc. (2009), 97 O.R. (3d) 161 (Ont. C.A.), Ontario Hydro v. Dennison Mines Ltd., [1992] O.J. No.2948 (Ont. Gen. Div.), Piazza Family Trust v. Veillette, 2011 ONSC 2820 (Ont. Div. Ct.). The court then concluded that “Where parties have turned their minds to the question and have decided that a decision of the arbitrator will be final and binding, and not subject to appeal on a question of law, s. 45 of the Act operates to exclude recourse to an appeal.”
  1. The court concluded that the language in the arbitration agreement was sufficient to incorporate the arbitral rule excluding appeal, in this case Rule 47 of the National Arbitration Rules. The court held that the decision in Orgaworld, was “unequivocal that language such as was used in Rule 47 and incorporated into the Arbitration Agreement expresses the necessary intention by the parties to forgo a right to appeal, or to seek leave to appeal, on questions of law.”

However, these cases did not deal with arbitration rules which barred an appeal.

In the Orgaworld Canada case, article 25.1(d) of the arbitration agreement itself said that the decision of the arbitrator “shall be final and binding on the parties and there shall be no appeal therefrom.” Based upon this wording, the court held that there was no right of appeal.

In the Inforica case, the question was whether the arbitrator had jurisdiction to order security for costs. The arbitrator held that the ADR Chambers rules had been incorporated into the arbitration agreement and that, therefore the arbitrator had authority to order security for costs as provided in section 8(1)(h) of those rules. The arbitrator also held that he had the authority to order security for costs pursuant to s. 20 of the Act, which provides that an arbitrator “may determine the procedure to be followed in the arbitration”.

The decision of the arbitrator in the Inforica case was upheld by the Ontario Court of Appeal.  The Court of Appeal held that “it was clearly open to the arbitrator to conclude on this record that the arbitration was tak[ing] place with ADR Chambers” and it was, therefore, subject to the ADR Chambers Rules. Accordingly , the Court of Appeal held that the arbitrator’s conclusion that he had jurisdiction to grant security for costs under the ADR Chambers’ rules “was either a finding of fact or a finding close to the fact end of the mixed fact and law spectrum with which a court should be reluctant to interfere.” The decision did not deal with appeals.

The Denison Mines case involved a motion to stay the action to rectify a commercial agreement between Denison Mines and Ontario Hydro. The stay motion was based on the existence of the arbitration agreement in the commercial agreement. The decision did not deal with appeals or arbitration rules. Interestingly, in a later decision in Denison Mines Ltd. v. Ontario Hydro, (2002), 58 O.R. (3d) 26, 2002 CarswellOnt 88 the Ontario Court of Appeal dealt directly with the issue of whether an arbitration agreement barred an application for leave to appeal, and held that it did not when there was nothing expressly in the agreement to that effect.

The Piazza Family Trust case involved a co-tenancy agreement which contained an arbitration clause which stated that “the decision arrived at by the arbitrator shall be final and binding upon the parties and shall not be appealed.” The parties entered into a mediation/arbitration agreement and that agreement provided that “the decision of the Arbitrator is final and binding, with no right of appeal.” The court concluded that “there is no right of appeal of the arbitrator’s decision under section 45 of the Arbitration Act where the arbitration agreement states that the arbitrator’s decision is final and binding with no right of appeal.”

Accordingly, the prior decisions cited in the Highbury Estates decision were not based upon arbitral rules, and did not decide that arbitral rules could bar an appeal. However, the Highbury Estate decision now holds that arbitral rules may have that effect.

Discussion

It is important for parties to realize that by choosing a seat or place for a domestic arbitration, they are making a decision about whether an appeal from the arbitral award is permitted. This issue will only be a consideration in the case of domestic arbitrations since the laws relating to international commercial arbitration (the UNCITRAL Model Law as incorporated into provincial international commercial arbitration statutes in Canada) do not provide for appeals from arbitral awards.

In Canada, the law of the place of a domestic arbitration may or may not allow an appeal on grounds of fact, law or mixed fact and law. For instance, the law of Ontario and some other provinces, which have adopted the Uniform Arbitration Act of the Uniform Law Conference of Canada, allows the parties to agree to an appeal on matters of fact, law and mixed fact and law. The laws of Newfoundland and Quebec do not provide for the parties to so agree.

Based upon the Highbury Estates decision, the parties should realize that by choosing arbitral rules, they may be barring an appeal from the arbitral decision even if the law of the place of the arbitration permits an appeal.

This latter point may not be intuitively obvious to all parties. The rules of the well-known international arbitration institutions do not appear to have any provisions relating to or restricting appeals, presumably because, as already noted, under international commercial arbitration (and the UNCITRAL regime) there are no appeals. So a party involved in a domestic arbitration may not expect the arbitration rules to deal with appeals. If those rules do contain provisions dealing with appeals and the parties do not wish to adopt those provisions, then they should exclude those appeal provisions in their arbitration agreement.

One could argue that arbitral rules should not deal with appeals, since the parties may not expect that the rules will do so. One could also argue that, at the very least, the rules should alert the reader, in bold upfront print, that the rules do limit or prohibit appeals, and not in a clause near the end of the rules without any separate heading or highlighting.

An appellate court may re-examine the Highbury Estates decision in the future. If that occurs, two issues may arise.

One is a factual issue. What if one of the parties testifies that he or she did not read the part of the arbitral rules banning appeals, did not expect the rules to deal with appeals and did not realize the rules did so. Will the court still hold that this part of the rules is incorporated into the arbitration agreement?

The second issue is a legal one: the law relating to incorporation by reference. That subject has been dealt with extensively in construction law. There, a bond or subcontract may incorporate the main contract between the owner and the contractor. The majority of cases hold that the dispute resolution clause in the main contract is not thereby incorporated into the bond or subcontract. The reasoning of those cases is that the parties to the bond or subcontract intend the “working” or project parts of the main contract to be part of the bond or subcontract, but not the dispute resolution part unless it is expressly adopted.

Similar logic might arguably apply to the present issue. When parties to an arbitration agreement adopt arbitration rules, they intend to have those rules apply to the procedures of the arbitration itself, but do they intend to alter the existing statutory regime applicable to the court dispute resolution system, namely appeals, absent clear agreement to do so?

See Heintzman and Goldsmith on Canadian Building Contracts (5th ed.), Chapters 4§3(d), 11§11(a), 12§6(b).

Highbury Estates Inc. v. Bre-Ex Ltd., 2015 CarswellOnt 12073, 2015 ONSC 4966, 257 A.C.W.S. (3d) 22

Arbitration – appeal from arbitral award – arbitral rules – incorporation by reference

Thomas G. Heintzman O.C., Q.C., FCIArb                                                 February 14, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

 

Alberta Court Issues Wide-Ranging Judgment on Settlement and Mediation of Arbitrations

In Pinder v. Woodrow, the Alberta Court of Queen’s Bench recently issued a judgment addressing a number of arbitration and mediation issues. The judgment arose from a settlement that in turn arose from a mediation conducted during the course of the arbitral hearing. As a result, the court dealt with a number of issues that are not frequently addressed in arbitration law. In particular, the judgment of the court dealt with the formalities –or lack thereof- that should be met in conducting a mediation and concluding a settlement during an arbitration. In Canada, there are two regimes relating to whether arbitrators may act as mediators. So this decision, while it involved a matrimonial dispute, is of interest to all those engaged in arbitral law.

Background

The parties entered into an arbitration agreement to deal with a number of matrimonial issues.  The agreement was subject to the Alberta Arbitration Act (the Act).  The agreement stated that the arbitration award would be delivered within 30 days of the close of the hearing “subject to any reasonable delay due to unforeseen circumstances.” The award was to be in writing and to set out the facts found by the arbitrator, apply the relevant law and the determination of the issues in dispute. The agreement provided for an appeal to the Court of Queen’s Bench on a question of law, or with leave of the Court on a finding of fact involving a material misapprehension of the evidence.

While evidence was being given during the hearing, the parties entered into settlement discussions. The Arbitrator acted as the mediator with the agreement of the parties. The parties reached a settlement agreement. Both parties, through their counsel, advised on the record that they were in agreement with the terms of the Settlement Agreement as a final settlement. The Arbitrator submitted his final statement of account three days later.

The settlement agreement was set out in a document entitled “Settlement Terms”. It was signed by the Arbitrator, both of the parties, together with their respective counsel. It included a term that any dispute involving the content of the agreement was to be referred to the Arbitrator for binding determination.

The parties then acted in accordance with that document. The husband commenced paying child support, the wife transferred property to the husband. The husband made repeated demands that the wife comply with all aspects of that document.

Two months after the document was signed, the wife’s counsel applied to the arbitrator for relief, taking the position that the arbitration had been adjourned and that it was still open to the arbitrator to continue the arbitration and issue a final award. The wife alleged that the arbitration had not been formally concluded and that it was still open to the parties to reach a full and final settlement, that the settlement document was not an Arbitral Award within the meaning of the arbitration agreement or the Act, that errors were made during the process that necessitated a remedy; and that the arbitrator retained jurisdiction to deal with these matters.

Counsel for the parties appeared before the arbitrator. After that appearance, the arbitrator issued a written decision in which he stated that the settlement agreement was his final award and he refused to grant any relief to the wife.  The next day, the wife filed an application appealing the arbitrator’s decision of the prior day.

Decision of the Court

The judge hearing the application made a number of decisions:

  1. Reasons for Decision in a Settlement: The requirement, in s. 36 of the Act – that an arbitrator give reasons for decision – does not apply when the parties settle the dispute during the arbitration.
  1. Ingredients of an Arbitral Decision: The settlement agreement complied with the other requirements of s. 38 of the Act, namely that it be signed by the Arbitrator, and indicate the date and place where it was made. The settlement document should be examined in conjunction with the executed Certificates of Independent Legal Advice, the Matrimonial Property Act acknowledgements signed by both parties and their counsel, the attachments to the agreement, and the content of the record from December 13, 2013 in which the parties confirmed their agreement with the settlement. In totality, those documents set forth the date of the settlement agreement and the place where it was made.
  1. Settlement Document may be an Arbitral Decision: The fact that the document was entitled “Settlement Terms” and was not referred to as an arbitration award was of no significance. “It was, in fact, an arbitral award and treated by all concerned as such until a much later date, well after the expiration of the 30 day appeal period…Further, there is nothing in the Act or the agreement which prescribes the form of an arbitration award, just that it comply with the requirements of s. 38.”
  1. Natural Justice, Fairness and Equal Treatment: While the wife was not present during some portions of the hearing, her counsel was present. Accordingly there was no breach of the rules of natural justice nor did the process result in either unfair or unequal treatment of the wife.
  1. Process for converting from Arbitration to Mediation: The conduct of the parties during the hearing – leading to the mediation – was sufficient to satisfy the requirements of s. 35(1) of the Act relating to the conversion of the arbitration to a mediation.

Subsection 35(1) says: “The members of an arbitral tribunal may, if the parties consent, use mediation, conciliation or similar techniques during the arbitration to encourage settlement of the matters in dispute.” (emphasis added)

The parties’ conduct during the arbitral hearing was a sufficient “consent” by the parties to convert the arbitration into a mediation. The court held that there was no need for that process to be “explicit, formal, on the record and take place in advance of the conversion of the process.” The Act contains no ‘formula or “recipe”’ for that consent, and that is “consistent with the overall objective of the legislation – to provide a flexible mechanism to litigants that potentially assists them in the resolution of their dispute outside of the formal court process….Both parties were represented by experienced counsel throughout the process. From their agreement to submit this matter to arbitration, the parties must be assumed, in the absence of any evidence to the contrary, to have understood the flexible nature of the process, including that the process could shift from one mode of dispute resolution to another as circumstances dictated.”

The judge did say that “it would have been preferable if the transcript had recorded the proceedings that led the parties and the Arbitrator to shift from arbitration mode to mediation mode.” However, there was no evidence indicating a lack of consent, and there was “very explicit agreement of both parties that is contained on the record at the conclusion of the proceedings.” On the whole record, the judge was satisfied that the parties had consented to shifting from an arbitration to mediation and that the requirements of s. 35 were met.

  1. Time to Appeal: The wife’s appeal was outside the 30-day period in the Act for an appeal to be brought. The settlement document was a valid arbitration award within the meaning of s. 38 of the Act. Once the 30-day period expired after the release of that document, then the arbitrator no longer had jurisdiction over the dispute. Neither the Act nor the agreement between the parties allowed for an extension of the 30-day period. The arbitrator’s later decision which dismissed the wife’s application to re-open the matter was of no legal significance or consequence, even though it was entitled “Arbitration Award”.

Discussion

This decision will be a useful reference anytime settlement discussions occur during an arbitration, and anytime the parties consider engaging in mediation during an arbitration.

The first issue is: how should the parties and the arbitrator record the process by which a settlement is reached during an arbitration?

Section 35(1) of the Alberta Arbitration Act says that “the members of an arbitral tribunal may, if the parties consent, use mediation, conciliation or similar techniques during the arbitration to encourage settlement of the matters in dispute.” (emphasis added) And subsection (2) then says that “after the members of an arbitral tribunal use a technique referred to in subsection (1), they may resume their roles as arbitrators without disqualification.” These subsections state the premise behind section 36 and the policy behind the Alberta Act, namely, that members of the arbitral tribunal may mediate the dispute if the parties consent, and then if the mediation is unsuccessful, they may revert to their position as members of the arbitral tribunal.

This policy position is quite different than that in some other provincial arbitration statutes. Thus, the Ontario Arbitration Act, 1991 states as follows: “The members of an arbitral tribunal shall not conduct any part of an arbitration as a mediation or conciliation process or other similar process that might compromise or appear to compromise the arbitral tribunal’s ability to decide the dispute impartially.”

However, section 3 of the Ontario Act says that, except with respect to certain specific sections, the parties may contract out of the Act. Section 35 and the section dealing with appeals (section 45 in the Ontario Act) are not listed in section 3, so the parties may contract out of them. In addition, under the Ontario Act, the parties could still engage in settlement discussions and mediation: the only prohibition (unless the parties otherwise agree) is that the members of the arbitral tribunal cannot be the mediators.

[This distinction in policy choices is expressly contained in the Uniform Arbitration Act of the Uniform Law Conference of Canada. Section 35 of the Uniform Act contains an Option A and an Option B. Option A is the one chosen by Alberta. Option B is that chosen by Ontario. The Commentary to Section 35 states:

“Enacting jurisdictions may choose either to allow the arbitrators to practise mediation and conciliation or to forbid them from doing so. The Uniform International Commercial Arbitration Act allows the arbitrators to engage in mediation on the consent of the parties. The present statute provides for a single consent at the beginning of mediation, without a separate consent when the arbitrator goes back to arbitrating, the mediation presumably having failed. The reason for eliminating the double consent found in the international statute was to prevent a party from subverting an arbitration in bad faith at the end of mediation, by refusing consent to return to arbitration. The reason for forbidding a change of role is that a mediator or conciliator may learn things from one party in confidence that he or she may not disclose to the other parties. Knowing this information might be perceived to prevent a judicial disposition of the case on the merits if the person then returns to arbitration.”]

Section 36 of the Alberta Arbitration Act then says that “If the parties settle the matters in dispute during arbitration, the arbitral tribunal shall terminate the arbitration and shall record the settlement in the form of an award.” As noted above, section 38(1) says that “An award shall be made in writing and, except in the case of an award made under section 36, shall state the reasons on which it is based.” (emphasis added).

So it is seems clear that a settlement during an arbitration should be recorded in something called “Award”, even though most litigation counsel might consider a settlement agreement to be an agreement between the parties, not an “award” of the tribunal. It also seems clear from section 38(1) that the settlement “Award” will not contain reasons, and the judge so concluded.

Sub-sections 38(2)-(4) of the Alberta Act say that: an award shall “indicate the place where and the date on which it is made” and “be dated and signed by all the members of the arbitral tribunal, or by a majority of them if an explanation of the omission of the other signatures is included”; and that “a copy of an award shall be served on each party.” (emphasis added) In these subsections, there is no exception for settlements under section 36. So, while one may wonder why these requirements should apply to a settlement, it seems that they do and that they must be met even if the “award” is a settlement.

Under sections 36-38 of the Ontario Act, these requirements apply to a settlement “Award”, even though the members of the arbitral tribunal cannot be the mediator.

The court in the present case demonstrated flexibility in considering all the surrounding facts in order to ensure that the technical requirements of section 38(2)-(4) are met. However, arbitrators and arbitral parties should be aware of these requirements – date, place, signature, service. These requirements should be addressed in the document which the arbitral tribunal issues as its “award” or in some other formal documentation, so that other documents or the surrounding circumstances do not have to be relied upon to provide those elements.

The second issue is: how should the parties’ consent to mediation during the arbitration be evidenced?

In the present case, the judge was satisfied by all of the surrounding evidence – and particularly the documentation after the settlement was made – that the parties had consented. But the judge did say that it would have been better if the “conversion” from arbitration to mediation had been recorded in the transcript of the hearing before the mediation commenced, and possibly in some formal Consent signed by the parties at that time. So counsel and arbitral tribunals in the future might be well advised to adhere to this advice in the future.

Should these requirements, and the same approach to them, apply if the members of the arbitral tribunal cannot be the mediator, as in Ontario (unless the parties contract out of section 35 of the Ontario Act)? Could one argue for a more lax – or stricter – regime when the mediator is a separate person? We will have to await a further decision on that point.

A third issue may be raised by this decision: if the wife’s application to the court related to the conduct or legal issues arising from her application to the arbitrator the day before (what might be called the “re-hearing application”), would it have been out of time?

In the present case, the wife appears to have been complaining about issues that related back to the matters leading up to the settlement. She does not appear to have been complaining about the specific events or legalities of her re-hearing application the day before to the arbitrator. In this situation, the arbitrator and the court found that her application was out of time. But if she had been asserting that her re-hearing application had not been properly dealt with, how should the court have dealt with the timing issue? Did the arbitrator’s disposition of her re-hearing application amount to an arbitral award from which judicial review or an appeal would lie? Does the Act provide any relief in respect of such an application? The present decision did not have to answer those questions.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed. Chapter 11

Pinder v. Woodrow, 2015 CarswellAlta 2182, 2015 ABQB 750

Arbitration – mediation – settlement – re-hearing application – appeal and review of arbitral awards

Thomas G. Heintzman O.C., Q.C., FCIArb                                   January 24, 2016

 

Claims By Equipment Supplier And Consultants Fall Within All Risk Insurance Umbrella

Claims By Equipment Supplier And Consultants Fall Within All Risk Insurance Umbrella

The owner and general contractor on a building project typically provide an “insurance umbrella” for the project. That umbrella will usually be referred to in the insurance clause in their building contract. That clause will provide that the owner or contractor will take out an All Risk Insurance policy which will apply to the project. That insurance clause, and the insurance policy taken out by one of them as a result of that clause, are of vital concern to all the subcontractors and other participants in the project, as they may be sued as a result of damage occurring during the project and they will want to have protection under the insurance.

There are a number of contract law and insurance law principles that apply to this situation. Often, those principles do not all arise or are not applicable in one situation. However, recently in DCMS GP (Dufferin-Steeles) Inc. v. Caribbean Tower Cranes Ltd., the Ontario Superior Court applied all of those principles to arrive at the conclusion that a subcontractor, equipment supplier and consultants could not maintain third party claims because all the claims fell within the insurance umbrella.

Background

DCMS was the owner and developer of a retirement residence. It hired a concrete forming contractor, Outspan Concrete Structure, to do the concrete forming work on the project. Outspan hired Caribbean Tower Cranes (CTC) to provide a crane and crane operator. CTC in turn hired Magna Tech to inspect the crane before and after erection at the project site. Magna Tech was owned by a Mr. Perri. Magna Tech in turn hired a professional engineer, Lee, to review and supervise the inspection reports.

During the project, the crane fell onto and significantly damaged the partially completed residence.

The contract between DCMS and Outspan stated the following regarding the “All Risk Property Insurance” which DCMS was to take out and maintain during the project:

“All Risks Property Insurance, subject to the exclusions of the policy, against all risks of physical loss or damage occurring, including but not restricted to: earthquake, flood and will cover all materials, property, structures and equipment purchased for, entering into, or forming part of the work while at the site of the work and during construction, erection and installation. ..

The insurance shall cover the Owner on its behalf, the construction manager acting as agent or representative of the owner, all consultants and engineers (except for their professional liability), trade contractors, subcontractors and others having an insurable interest in the work, engaged in or connected with the construction, site preparation and related operations all as related to the project. …” (emphasis added)

The All Risk insurance policy which DCMS took out with Aviva stated that: “The Insurer hereby waives the transfer of such [subrogation] rights…of any Insured included in this policy against any other Insured…..” That policy named DCMS as the Insured, did not define or extend the meaning of Insured, and in particular, did not provide an expanded definition of Insured to include subcontractors or anyone else.

The insurer, Aviva, paid the loss arising out of this incident and then commenced an action in DCMS’s name against all the other participants in the project, including Outspan, CTC, Magna Tech, Perri and Lee. That action was discontinued by DCMS against Outspan and CTC, but those companies had in the meantime been third partied by Magna Tech, Perri and Lee. Outspan and CTC brought a summary judgment motion to dismiss the third party claims against them and to be removed entirely from the action.

Decision

The motion judge granted the summary judgment motion. So far as Outspan was concerned, it was a party to the building contract which contained the insurance clause and was entitled to enforce that clause. Under that clause, DCMS had agreed to take out all risk insurance and had thereby assumed the risk of loss falling within the policy.

CTC was also entitled to the benefit of the insurance clause in the contract between DCMS and Outspan, for three reasons:

  1. The Third Party Beneficiary Rule: CTC was performing part of the work referred to in the DCMS-Outspan contract. Therefore, it was entitled to the protections contained in that contract to the same extent as Outspan, under the third party beneficiary principles stated by the Supreme Court of Canada in such cases as in Fraser River Pile & Dredge Ltd. v. Can-Dive Services Ltd.: “(1) the parties to the DCMS agreement intended to extend its benefit to CTC given that it is a “subcontractor” within the meaning of the insurance covenant; and, (2) the activities performed by CTC were within the scope of the DCMS agreement as it supplied the crane for the project which Outspan was required to provide under the DCMS agreement.”
  1. The No Liability Rule. Outspan and CTC could not be third partied by the other defendants since those other defendants were not liable to DCMS as they were themselves protected under the Third Party Beneficiary Rule: “…there can be no claim for contribution against Outspan and CTC by the other defendants as they are protected from liability by reason of the agreement between DCMS and Outspan.” This principle (that a defendant cannot assert a claim for contribution and indemnity if that person is not liable to the plaintiff) was stated by the Supreme Court of Canada in Dominion Chain Co. v. Eastern Construction Co.
  1. The No Subrogation against An Insured/Uninsured Interest Rule: Outspan and CTC were unnamed insureds under the Aviva policy because they had “an insurable interest in the construction project.” Accordingly, under basic insurance principles, Aviva could not maintain a claim against other insureds under the policy, even though those insureds were unnamed. In arriving at this conclusion, the court applied the principles stated by the Supreme Court of Canada in Commonwealth Construction Co. v. Imperial Oil Ltd. and sometimes this rule is referred to as the rule in Commonwealth Construction Co. v. Imperial Oil Ltd.. As the Supreme Court said in that case, the “ever present the possibility of damage by one tradesman to the property of another and to the construction as a whole” creates an insurable interest of all participants in the project.

Comments

This case provides a neat cross-reference to three contract and insurance principles that operate in the context of building projects. It is always a question of interpreting the building contract and/or the insurance policy taken out in respect of the project. But if the language of the building contract and policy reflect that intention – and the insurance policy should be written to reflect the insurance deal in the building contract – then it is logical that all three of these principles should either support (or contradict) the same conclusion, namely that the subcontractors and other persons engaged on the project are (or are not): carrying out the work of the general contract; not liable (or are liable) because the general contractor is not (or is) liable to the owner; or (or are not) engaged in the same project as the general contractor.

The factual matrix of the third party claims in this action was important. The damage occurred when the crane was on the site. Would the same result have occurred if the damage occurred off the site or arose from the supply of defective materials by a supplier? Would the language of the contract between the owner and DCMS (which referred to “equipment purchased for, entering into, or forming part of the work while at the site of the work”), or the Aviva policy have precluded such a claim? In other cases, suppliers have been found not to be unnamed insurers and not to fall within the rule in Commonwealth Construction Co. v. Imperial Oil Ltd.

One aspect of this decision seems somewhat ironic. In applying the No Liability Rule, the court held that the other defendants, Magna Tech, Perri and Lee. were not liable to DCMS. Based on that finding, DCMS’s claim against those parties – which apparently were the only claims left by DCMS -must be dismissed. That result would seem to bring the action to an end. Yet, DCMS was not represented on the motion.

DCMS GP (Dufferin-Steeles) Inc. v. Caribbean Tower Cranes Ltd., 2015 CarswellOnt 12593, 2015 ONSC 4125, 258 A.C.W.S. (3d) 312

Building contracts – insurance – subrogation – third party beneficiaries

Thomas G. Heintzman O.C., Q.C., FCIArb                                           January 10, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

Evaluation Breached Tender Conditions: Alberta Queen’s Bench Court

You would think that the owner would get one thing right before issuing an invitation for tenders: its standard for evaluating the tenders.

Yet, in Elan Construction Limited v South Fish Creek Recreational Association, the Alberta Court of Queen’s Bench recently found that the owner’s tender evaluation criteria were unfair and did not reflect the terms of the tender, and awarded nominal damages to the unsuccessful bidder. The decision is a good checklist for owners in establishing tender evaluation standards.

Background

In July 2010, the South Fish Creek Recreational Association (“SFCRA”), issued an invitation for tenders for the construction, as additions to its existing recreational facilities, of two ice surfaces and multi-purpose rooms and other spaces. Elan was a pre-qualified bidder and filed a bid.

The published evaluation matrix provided for a maximum of 100 points and contained the following elements: Price, 35 points; Date of completion, 35 points; Previous community and arena experience, 20 points; References, 10 points.

Elan was not awarded the contract and sued for damages. The trial judge found the following with respect to the bid criteria:

Price: Elan’s bid was the lowest by $400,000.

Completion Date:  The Invitation to Bid stated that SFCRA wanted the Project to be substantially completed by August 1, 2011, with that date highlighted in bold. The Instructions to Bidders contained a liquidated damages clause providing for liquidated damages in the event of late completion in the amount of $15,000 per day, later reduced to $3,000 per day.

Elan’s bid provided for substantial completion by August 1, 2011 and completion of deficiencies by August 15, 2011. The successful bidder’s completion date was August 31, 2011.

The adjudicator did not use August 1, 2011 as the relevant date. Instead, he took the average of the completion dates of certain, but not all, of the bidding contractors considered most relevant, arriving at a completion date of September 5, 2011; and then awarded bidders points out of 30 based on their proximity to that notional date. As a result, Elan received 25 points for its on–time date of August 1, 2011 for substantial completion, while the successful bidder received 34 points for its later substantial completion date of August 31, 2011.

The evaluator used the same approach to deal with the estimated time to complete deficiencies, arriving at an average figure of 45 days after his notional completion date of September 5, 2011. As a result, Elan received zero points for its 14 day estimate while the successful bidder received four points for its longer 30 day projection.

LEED: Leadership in Energy and Environmental Design (“LEED”) experience was used as a factor in the evaluation criteria factor, but there was no indication in the Bid Documents to this effect.

Court’s Decision

The Court of Queen’s Bench found that on various accounts the evaluation factors used by the owner had not been disclosed in the bid documentation, and therefore the owner breached the implied duty of fairness inherent in the tender process. Here are the reasons of the court on some of the factors:

Substantial Completion Date

“Mr. Quinn’s methodology, as described above, created an arbitrary standard that could not have been within the contemplation of the bidders. His testimony as to his method and rationale served only to underscore the arbitrary nature of his evaluation. Moreover, his approach created, in my view, the kind of undisclosed evaluation criterion that the Supreme Court of Canada has said constitutes a breach of Contract A.”

Experience

“….SFCRA’s approach to evaluating the relative experience of the bidders cumulatively amounted to breach of the Bid Contract….While I agree that it would not be unreasonable for SFCRA to put greater emphasis on arena experience given the nature of the Project, in my view, that emphasis should have been disclosed in the Bid Documents…..an explicit preference for such experience could and should have been indicated in the Bid Documents….”

Other undisclosed criteria

“I find that other undisclosed criteria influenced SFCRA’s assessment of the bidders’ experience. ….any consideration of LEED in the assessment of experience…..should have been brought to the attention of bidders….Similarly, while interviewing candidates may be useful and may fall within SFCRA’s right to seek further information, bidders should have been made aware that interviews were a possibility. Further, Elan should not have been forced into the position of attending an important interview without key employees who were designated to work on the Project. In my view, both the use of interviews and the process by which they are conducted must be fair to all bidders.

In its analysis the court referred to the recent decision of the Supreme Court of Canada in Bhasin v Hrynew. In that decision, the Supreme Court held that there is a duty to perform contracts honestly. Applying that principle, the Court of Queen’s Bench said:

“I hasten to add that there is no suggestion that SFCRA acted dishonestly or with malice. Nevertheless, as the Supreme Court of Canada held in Bhasin, a duty of good faith may require more than honesty. Where a bid evaluation has been conducted in an arbitrary manner or on the basis of undisclosed criteria, that is sufficient to constitute breach.

The court concluded that, absent the owner’s breaches of contract, Elan would have been the successful bidder.

In assessing damages, the court held that either the cost of preparing the bid, or the lost profit on the construction contract that would have been awarded to Elan, is the proper measure of damages, but not both. In assessing damages under the second approach the court reduced Elan’s claim:

  1. because Elan had, in the court’s view and based on the next lowest tender, underestimated the subcontracts. On this account Elan’s claim should be reduced by $185,000, from $704,908 to $519,908
  2. because the contractor who was actually awarded the contract was anticipating a $300,000 profit and made a loss of $600,000, and Elan would likely have encountered a similar experience. Accordingly, Elan’s claim should be reduced from $519,908 to nominal damages of $1,000.

Having awarded damages based upon loss of profit, the court said that no damages could be awarded for the cost of preparing the bid, and in any event no proof of that cost had been provided.

Discussion

This decision is a good illustration of two perils relating to claims for breach of an invitation to tender, and the “smell tests” which the court will likely apply in the course of litigation over a tender.

First, a court will be very unsympathetic to an owner that has not prepared and applied tender evaluation criteria that fairly reflects the bid conditions. There is really no excuse for an owner applying criteria that do not accurately reflect the bid conditions which it has itself prepared and published. Interestingly, the court used the concept of “honest performance” of a contract, enunciated in the Bhasin case, to judge the owner’s performance of its obligations under the invitation to tender.

Second, the court will carefully scrutinize the bidder’s claim for damages. The court may well think: “Well, this contractor was fortunate not to have won that contract!”

Elan Construction Limited v South Fish Creek Recreational Association, 2015 ABQB 330

Construction law – tenders- Contract A/Contract B – honest performance – damages

Thomas G. Heintzman O.C., Q.C.,  FCIArb                                                      December 20, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

Penalty Clauses: Seven Principles Stated By The U.K. Supreme Court

The recent judgment of the Supreme Court of the United Kingdom in Cavendish Square Holding BV v Talal El Makdessi is a must-read for anyone involved in contract law.

In this decision of some 132 pages and 316 paragraphs, the U.K. Supreme Court provides an exhaustive analysis of the history and policy behind one of the most contentious principles of contract law: the penalty doctrine. In doing so, the court lays to rest, at least for U.K. law, many of the contentious issues relating to the rule against penalties. This decision is bound to influence the views of Canadian courts as they wrestle with the same issues.

Under the traditional penalty doctrine of contract law, a clause in a contract which imposes a “penalty” for breach of the contract is unenforceable, while a clause which imposes a reasonable pre-estimation of damages – called “liquidated damages” – is enforceable. Because the penalty doctrine interferes with the freedom of contract –by striking down penalty clauses – it is a contentious one in modern contract law. Some commentators argue that the doctrine should be eliminated. Others argue that it should be extended to apply to all types of claims and clauses in contract law, not just those involving a breach of contract.

It was into that controversy that the U.K. Supreme Court dived in the Cavendish Square decision.

There are many elements of that decision which may be important for the development of Canadian law. However, the one that may be the most important is the conclusion of the U.K. Supreme Court that a contractual clause imposing agreed damages or repercussions on the wrongdoer is valid even if those damages are not a reasonable pre-estimate of damages, as long as they are justified by an interest of the innocent party in the performance of the contract, and are not extravagant or exorbitant.

The Background

The U.K. Supreme Court’s decision arose from two cases.

In Cavendish Square, one group of shareholders bought control of the company from the other group. The agreement between the two groups provided that if the seller breached the agreement by competing with the company whose shares were being sold, then two consequences occurred; under clause 5.1 the buyer did not have to pay the balance of the purchase price; and under clause 5.6, the buyer had the right to purchase the seller’s remaining shares at a much reduced price. In fact, the seller did breach the agreement by joining a competitor, and the buyer refused to pay the balance of the purchase price and exercised the right to buy the seller’s remaining shares at the lower price. The seller argued that those two rights amounted to unenforceable penalties because the impact of the exercise of those rights was totally disproportionate to any loss suffered by the buyer. The seller’s position was upheld in the Court of Appeal. The U.K. Supreme Court reversed that decision, holding that neither of the rights exercised by the buyer violated the penalty doctrine.

In the Parking Eye case, Parking Eye leased and operated a parking lot. Drivers could park their cars on the lot for up to two hours for free, but no longer. If they parked longer than two hours, then they had to pay £85. The idea behind this parking lot and charging system was to provide short term free parking for customers of the near-by shops, so customers could shop and park for short terms and get out of the lot and other customers could then come in. Mr. Beavis parked longer than two hours and when he was charged this amount, he argued that the charge was a penalty, saying that the charge was totally disproportionate to any loss suffered by Parking Eye due to his over-staying the two hours. His position was not accepted by the Court of Appeal or the U.K. Supreme Court.

Decision of the U.K. Supreme Court

Anyone interesting in the penalty doctrine should read this decision, so I am going to take this opportunity to set out what, in my view, are the principle issues decided by the Court:

  1. Enforcement of a remedial, or secondary, obligation

The U.K. Supreme court outlined three elements of the penalty doctrine. Under the first element, a contractual clause only falls within the rule against penalties if it imposes a secondary means of enforcing a primary contractual obligation.

The reason for this element of the rule is that the courts should not be allowing parties out of a bad deal, and the penalty doctrine does not permit them to do so. If a party enters into an “unfair” bargain, that is not a problem that the penalty doctrine can address. Lord Neuberger and Lord Sumption stated it this way:

“This principle is worth restating at the outset of any analysis of the penalty rule, because it explains much about the way in which it has developed. There is a fundamental difference between a jurisdiction to review the fairness of a contractual obligation and a jurisdiction to regulate the remedy for its breach. Leaving aside challenges going to the reality of consent, such as those based on fraud, duress or undue influence, the courts do not review the fairness of men’s bargains either at law or in equity. The penalty rule regulates only the remedies available for breach of a party’s primary obligations, not the primary obligations themselves.” This [concept]…. provided the whole basis of the classic distinction made at law between a penalty and a genuine pre-estimate of loss, the former being essentially a way of punishing the contract-breaker rather than compensating the innocent party for his breach…It is not a proper function of the penalty rule to empower the courts to review the fairness of the parties’ primary obligations, such as the consideration promised for a given standard of performance. For example, the consideration due to one party may be variable according to one or more contingencies, including the contingency of his breach of the contract. There is no reason in principle why a contract should not provide for a party to earn his remuneration, or part of it, by performing his obligations. If as a result his remuneration is reduced upon his non-performance, there is no reason to regard that outcome as penal. Suppose that a contract of insurance provided that it should be cancelled ab initio if the insured failed to pay the premium within three months of inception. The effect would be to forfeit any claim upon a casualty occurring in the first three months but it would be difficult to regard the provision as penal on that account.” (emphasis added)

Lords Neuberger and Sumption held that Cavendish Square’s claims for the non-payment of the balance of the purchase price of the shares already bought was:

“in reality a price adjustment clause…... Clause 5.1 belongs with clauses 3 and 6, among the provisions which determine Cavendish’s primary obligations, ie those which fix the price, the manner in which the price is calculated and the conditions on which different parts of the price are payable. Its effect is that the Sellers earn the consideration for their shares not only by transferring them to Cavendish, but by observing the restrictive covenants.” (emphasis added)

  1. Not a legitimate interest of the innocent party    

Second, for the clause to contravene the penalty doctrine, the impact of the clause must be one which does not fall within the innocent party’s legitimate interest under the contract. In this respect, the court has narrowed the financial consequence of a contractual provision before it will offend the penalty doctrine. As long as the financial consequence has a legitimate relationship to the contract (and is not egregious), then it will not be a penalty.

The inquiry about the legitimacy interest of the innocent party is not confined to the actual damages arising from the breach, and the amount need not be justifiable as a reasonable pre-estimation of the likely damages that will be suffered by the innocent party. Rather, the overall consequences of the breach, and other similar breaches, may justify the imposition of the amount forfeited by the clause. As Lord Neuberger and Lord Sumption said:

“ The true test is whether the impugned provision is a secondary obligation which imposes a detriment on the contract-breaker out of all proportion to any legitimate interest of the innocent party in the enforcement of the primary obligation. The innocent party can have no proper interest in simply punishing the defaulter. His interest is in performance or in some appropriate alternative to performance. In the case of a straightforward damages clause, that interest will rarely extend beyond compensation for the breach……. But compensation is not necessarily the only legitimate interest that the innocent party may have in the performance of the defaulter’s primary obligations.” (emphasis added)

Lord Hodge and Lord Mance agreed with this approach. In Lord Hodge’s view, this “broader approach escapes the straightjacket into which the law risked being placed by an over-rigorous emphasis on a dichotomy between a genuine pre-estimate of damages on the one hand and a penalty on the other.”

In the present cases, the court held that the amounts involved had a legitimate relationship to the contracts. Cavendish Square’s right not to pay the balance of the purchase price of the already purchased shares, and to pay a lower price for the to-be purchased shares, were direct consequences of the larger harm inflicted on the company, and thus the lesser value of the company to the shareholders, due to the seller’s breach of his fiduciary duty to the company. Lords Neuberger and Sumption said:

“Although clause 5.1 has no relationship, even approximate, with the measure of loss attributable to the breach, Cavendish had a legitimate interest in the observance of the restrictive covenants which extended beyond the recovery of that loss. It had an interest in measuring the price of the business to its value. The goodwill of this business was critical to its value to Cavendish, and the loyalty of Mr Makdessi and Mr Ghossoub was critical to the goodwill. The fact that some breaches of the restrictive covenants would cause very little in the way of recoverable loss to Cavendish is therefore beside the point. As Burton J graphically observed in para 43 of his judgment, once Cavendish could no longer trust the Sellers to observe the restrictive covenants, “the wolf was in the fold”. Loyalty is indivisible. Its absence in a business like this introduces a very significant business risk whose impact cannot be measured simply by reference to the known and provable consequences of particular breaches. It is clear that this business was worth considerably less to Cavendish if that risk existed than if it did not. How much less? There are no juridical standards by which to answer that question satisfactorily.”

The court arrived at a similar conclusion with respect to clause 5.6. As Lords Neuberger and Sumption said:

“[Cavendish had] an interest in matching the price of the retained shares to the value that the Sellers were contributing to the business. There is a perfectly respectable commercial case for saying that Cavendish should not be required to pay the value of goodwill in circumstances where the Defaulting Shareholder’s efforts and connections are no longer available to the Company, and indeed are being deployed to the benefit of the Company’s competitors, and where goodwill going forward would be attributable to the efforts and connections of others. It seems likely that clause 5.6 was expected to influence the conduct of the Sellers after Cavendish’s acquisition of control in a way that would benefit the Company’s business and its proprietors during the period when they were yoked together. To that extent it may be described as a deterrent. But that is only objectionable if it is penal, ie if the object was to punish. But the price formula in clause 5.6 had a legitimate function which had nothing to do with punishment and everything to do with achieving Cavendish’s commercial objective in acquiring the business.” (emphasis added)

Parking Eye’s claim to £85, while apparently egregious in relation to what might be a very minor breach of the parking limit, was reasonably related to its interest in ensuring that parkers did not overstay the parking time limit, and funding Parking Eye’s operation of the parking lot for other patrons at no cost. The very fact that it was an amount that was in terrorem was part of its legitimacy in making the whole “free-parking for a short period” system operable. Lords Neuberger and Sumption explained the situation as follows:

“The reason is that although Parking Eye was not liable to suffer loss as a result of overstaying motorists, it had a legitimate interest in charging them which extended beyond the recovery of any loss. The scheme in operation here (and in many similar car parks) is that the landowner authorises Parking Eye to control access to the car park and to impose the agreed charges, with a view to managing the car park in the interests of the retail outlets, their customers and the public at large. That is an interest of the landowners because (i) they receive a fee from Parking Eye for the right to operate the scheme, and (ii) they lease sites on the retail park to various retailers, for whom the availability of customer parking was a valuable facility. It is an interest of Parking Eye, because it sells its services as the managers of such schemes and meets the costs of doing so from charges for breach of the terms (and if the scheme was run directly by the landowners, the analysis would be no different). As we have pointed out, deterrence is not penal if there is a legitimate interest in influencing the conduct of the contracting party which is not satisfied by the mere right to recover damages for breach of contract. Mr. Butcher QC, who appeared for the Consumers’ Association (interveners), submitted that because Parking Eye was the contracting party its interest was the only one which could count. For the reason which we have given, Parking Eye had a sufficient interest even if that submission be correct. But in our opinion it is not correct. The penal character of this scheme cannot depend on whether the landowner operates it himself or employs a contractor like Parking Eye to operate it. The motorist would not know or care what if any interest the operator has in the land, or what relationship it has with the landowner if it has no interest.….

  1. Extravagant or Exorbitant Impact of the clause

Third, in order to offend the penalty doctrine the clause must impose a consequence which is out of all proportion to the second element of the test, namely any interest that the innocent party can legitimately seek to protect. Lord Mance expressed how this third element works in relation to the second element:

“There may be interests beyond the compensatory which justify the imposition on a party in breach of an additional financial burden…… What is necessary in each case is to consider, first, whether any (and if so what) legitimate business interest is served and protected by the clause, and, second, whether, assuming such an interest to exist, the provision made for the interest is nevertheless in the circumstances extravagant, exorbitant or unconscionable……the focus should be not on any particular possible breach or its timing or consequences, but on the general interest being protected, and the question whether the protection which the parties agreed can be condemned as unconscionable or manifestly excessive.” (emphasis added)

Lord Hodge explained the same elements as follows:

“ I therefore conclude that the correct test for a penalty is whether the sum or remedy stipulated as a consequence of a breach of contract is exorbitant or unconscionable when regard is had to the innocent party’s interest in the performance of the contract. Where the test is to be applied to a clause fixing the level of damages to be paid on breach, an extravagant disproportion between the stipulated sum and the highest level of damages that could possibly arise from the breach would amount to a penalty and thus be unenforceable. In other circumstances the contractual provision that applies on breach is measured against the interest of the innocent party which is protected by the contract and the court asks whether the remedy is exorbitant or unconscionable.”

Lords Neuberger and Sumption explained why Parking Eye’s charge did not infringe this element of the rule:

“None of this means that Parking Eye could charge overstayers whatever it liked. It could not charge a sum which would be out of all proportion to its interest or that of the landowner for whom it is providing the service. But there is no reason to suppose that £85 is out of all proportion to its interests.….. While not necessarily conclusive, the fact that Parking Eye’s payment structure in its car parks (free for two hours and then a relatively substantial sum for overstaying) and the actual level of charge for overstaying (£85) are common in the UK provides support for the proposition that the charge in question is not a penalty.”

  1.  Other remedies or secondary obligations may fall within the rule against penalties

The members of the court who gave reasons stated that other clauses, aside from those requiring payment of damages as a result of a breach of contract, might be subject to the penalty doctrine. They appeared to agree that withholding payments on breach, or requiring the transfer of money or property on breach, also ran afoul of the doctrine. But the members of the court do not appear to have entirely agreed as to whether, or in what circumstances, the forfeiture of instalments or deposits could be classified as penalties. Those issues did no arise in the present appeals.

  1.  Penalty doctrine should not be abolished or limited

By one side of the debate, the U.K. Supreme Court was asked to abolish the penalty doctrine as an arcane piece of old contract law that interfered with freedom of contract and made no sense in today’s world, or to limit the doctrine to commercial contracts, procedural misconduct or payment of money. The court declined to do so, and gave lengthy reasons for its decision. It basically held that the penalty doctrine: continued to fulfill a public policy purpose in eliminating unconscionable financial remedies for breach of contract; was in line with contract law in other comparable jurisdictions; and should only be eliminated by legislators after a proper inquiry which courts are not able to undertake.

  1.  Penalty doctrine should not be extended beyond breach of contract

By the other side of the debate, the U.K. Supreme Court was asked to extend the penalty doctrine so that it applied to any term of a contract that imposed an egregious or unconscionable result, whether or not the claim arose from a breach of contract. In particular, the court was asked to follow the decision in Andrews v Australia and New Zealand Banking Group Ltd (2012) 247 CLR 205. In that decision, the Australian High Court held that the penalty doctrine applied to any clause in a contract, and not just a breach of contract, if the nature of the clause (in that case, the payment of a bank fee to process an NSF cheque) and the circumstances rendered the clause egregious or unconscionable. (See my article dated October 20, 2012 on the Andrew case)

The U.K. Supreme Court refused to follow the Andrews decision, and declined to extend the penalty doctrine beyond the field to which it has usually applied, namely as a consequence of a breach of contract. Lord Hodge said: “There is no freestanding equitable jurisdiction to render unenforceable as penalties stipulations operative as a result of events which do not entail a breach of contract. Such an innovation would, if desirable, require legislation.”

  1.  Relief from forfeiture may apply even if the penalty doctrine does not

The U.K. Supreme Court drew attention to the fact that relief from forfeiture may be available even if the clause is valid and does not infringe the penalty doctrine. Lord Mance and Lord Hodge were explicit in holding that relief from forfeiture could be granted in this situation. Lord Neuberger and Lord Sumption said that it was not necessary to decide that issue in the present appeals, but they could see the “force of the argument” to that effect.

The impact of the two rules occurs at different times. A clause is invalid under the penalty doctrine at the time the contract is written, and the actual circumstances in which it is imposed are irrelevant. Lord Neuberger and Lord Sumption stated this point as follows:

“The question whether a damages clause is a penalty falls to be decided as a matter of construction, therefore as at the time that it is agreed…. This is because it depends on the character of the provision, not on the circumstances in which it falls to be enforced. It is a species of agreement which the common law considers to be by its nature contrary to the policy of the law. One consequence of this is that relief from the effects of a penalty is….“mechanical in effect and involves no exercise of discretion at all.” Another is that the penalty clause is wholly unenforceable…”

But relief from forfeiture only occurs if, at the time a remedy is sought, the court decides that relief from forfeiture should be granted and the remedy declined. Accordingly, the penalty doctrine is “forward looking” and relief from forfeiture is “20-20 hindsight”. Again, Lord Neuberger and Lord Sumption stated the matter this way:

“What equity (and, where it applies, statute) typically considers to be contrary to the policy of the law is the enforcement of such rights in circumstances where their purpose, namely the performance of the obligations in the lease or the mortgage, can be achieved in other ways – normally by late substantive compliance and payment of appropriate compensation. The forfeiture or foreclosure/power of sale is therefore enforceable, equity intervening only to impose terms.” (emphasis added)

So a defendant may well wish to seek relief from forfeiture even if the claim against him or her arises under a valid clause which survives the rule against penalties.

Discussion

The Cavendish Square will undoubtedly fuel the debate in Canada as to whether the penalty doctrine should be abolished, extended or varied. Apart from that public policy debate, this decision is a “good news – bad news” story for those enforcing (usually owners) or defending against (usually contractors) clauses which impose consequences for breach of contract.

By stating the elements of the penalty doctrine in the way it did, the U.K. Supreme Court has greatly widened the basis upon which these clauses may be justified by the party seeking to enforce them. The traditional Canadian approach is simply to look at whether the agreed-upon damages or amounts referred to in the clause represent a reasonable pre-estimation of the damages that the innocent party would suffer from the breach of contract sued upon. According to this decision, there is a much broader basis upon which the clause may be upheld. If the clause can be justified as a reasonable basis to secure the total performance of the contract, and if the amounts or damages called for in the clause are not ridiculous in relation to that interest, then the clause is valid. In some circumstances, the innocent party may have an time demonstrating those facts than showing that the amounts or damages are a reasonable pre-estimation of damages.

On the other hand, a party defending itself against such a clause may rely on this decision to seek relief from forfeiture even though the clause is valid under the penalty doctrine. That possibility is not one that has been widely recognized in Canada.  

This decision is going into our toolbox to be used the next time we have to deal with penalty clauses.

See Heintzman and Goldsmith on Canadian Building Contracts (5th ed.), chapter 4, part 3(h) and chapter 9, part 6(j).

Cavendish Square Holding BV v Talal El Makdessi [2015] UKSC 67

Construction contract – penalty clause – liquidated damages clause – relief from forfeiture

Thomas G. Heintzman O.C., Q.C., FCIArb                                    November 29, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

Can Conduct Relating To A Mediation Lead To A Higher Costs Award?

In Ross v. Bacchus, the Ontario Court of Appeal recently set aside an order of the trial judge awarding a higher level of costs because of the defendant’s conduct at the mediation. This decision emphasizes that, absent proof of bad faith, courts will be reluctant, at least in Ontario, to impose costs awards relating to the conduct of parties during settlement discussions.

The decision also opens up interesting questions about how participation in mediation and settlement discussion may be proven and how a standing offer to settle affects the court’s decision about the reasonableness of a party’s conduct at mediation.

Background

In a personal injury case arising from a traffic accident, the jury awarded the plaintiff $248,000 and the judge ordered costs in favour of the plaintiff in the amount of $217,000. That costs award included $60,000 because the trial judge found that the defendant’s insurer had failed to attempt to settle the claim as expeditiously as possible, and had refused to participate in the mediation of the claim, as required by sections 258.5 and 258.6 of the Ontario Insurance Act. Those sections provide that a trial judge can take the insurer’s failure to perform those obligations into consideration when awarding costs.

The action was started in September 2010. The defendant’s insurer offered to settle for $40,000 in August 2011 and withdrew the offer in March 2012. About three weeks before the trial in November 2013, the plaintiff offered to settle for $94,065 plus prejudgment interest and costs and, for the first time, offered to participate in mediation. The defendant then offered to settle for $30,000 plus interest and costs and to participate in a half-day mediation, but counsel for the defendant stated that the insurers were “not interested” in settling the case. The plaintiff responded with an offer to settle for $79,065 plus prejudgment interest and costs.

A half-day mediation occurred four days before trial. After the six day trial and the jury’s award of $248,000, the trial judge ordered costs in favour of the plaintiff on a partial indemnity basis up to the plaintiff’s pre-trial offer and substantial indemnity costs after that offer. The trial judge awarded an additional $60,000 in costs in favour of the plaintiff by reason of the failure of the defendant’s insurer to comply with sections 258.5(5) and 258.6(2) of the Ontario Insurance Act.

Four points emerge from the Court of Appeal’s decision over-turning the judgment of the trial judge:

  1. The statement by the defendant’s counsel before the mediation that the defendant’s insurer was “not interested in settlement” was not a sufficient basis to conclude that the insurer would not make a bona fide effort to settle at the mediation. Effectively, the Court of Appeal said that posturing of that sort is part of the litigation and settlement process:

“An insurer’s statement on the eve of trial that it is not prepared to settle a claim cannot be equated with an insurer’s failure to “attempt to settle the claim as expeditiously as possible.” Nor can an insurer who actually participates in a mediation be declared to have failed to participate simply because the insurer indicated prior to the mediation that it was not prepared to settle the claim. A clear statement of the insurer’s position going into the mediation, even a strong statement, does not preclude meaningful participation in a mediation….. The trial judge assumed that because the insurer’s counsel advised that his client was “not interested” in settling the case, the insurer’s subsequent participation in the mediation was “a sham.” The assumption was unwarranted. A firm position strongly put going into mediation does not preclude meaningful participation in the mediation.”

  1. The plaintiff did not tender any evidence that the defendant had not participated meaningfully in the mediation. In writing for the court, Justice Doherty ducked the question as to whether evidence about the conduct of the mediation would have been admissible. He said that this question “raises an interesting legal issue. I need not get into that issue.” Rather, the court held that the plaintiff’s position failed because there was no evidence on the issue:

“If the respondent wanted costs for the insurer’s failure to participate in the mediation, it was incumbent on the respondent to lead evidence establishing the failure to participate in the mediation. Had the respondent attempted to do so, the question of the impact of the settlement privilege on the admissibility of evidence relevant to the insurer’s participation in the mediation may have come front and centre. On this record, the trial judge’s finding that the insurer did not participate in the mediation fails, not because the settlement privilege cloaks the mediation in confidentiality, but because the factual finding of the trial judge has no support in the evidence.”

  1. The fact that the defendant’s insurer had made offers to settle which was of considerable importance to the Court of Appeal. It referred to this fact several times in its judgment:

“There is no evidence that the appellant’s insurer failed to attempt to settle this claim as expeditiously as possible. The appellant made an “all-in” offer to settle for $40,000 in August 2011, less than one year after the action was commenced……. In any event, the insurer had made a settlement offer which was not revoked before trial…..

  1. The Court of Appeal held that the trial judge’s finding about the insurer’s motivation in rejecting the plaintiff’s offer and proceeding to trial were unsupported and irrelevant:

“…the trial judge was also influenced by what he saw as the insurer’s attempt to intimidate the respondent by refusing to make a counteroffer after the respondent’s last offer. The trial judge described the insurer as risking a trial for the sake of $50,000, the difference between the two offers…..Insurers, like any other defendant, are entitled to take cases to trial. When an insurer rejects a plaintiff’s offer and proceeds to trial, the insurer risks both a higher damage award at trial and the imposition of substantial indemnity costs after the date of the rejected offer. Both risks came to pass in this case. The insurer paid a significant financial penalty for its decision to proceed to trial. The costs provisions in ss. 258.5 and 258.6 do not address those risks, but instead address the failure to meet the specific obligations identified in those provisions. The trial judge’s assumptions about the insurer’s motivation for rejecting the respondent’s offer and proceeding to trial had no relevance to the determination of whether augmented costs should be awarded under the Insurance Act provisions.”

Discussion

A number of lessons can be learned from this decision.

The first lesson is that a standing offer to settle can be powerful evidence of a bona fide intention to settle. So parties to litigation are well advised to make the best offer they can, if for no other reason than to avoid an order of costs based upon an unreasonable refusal to discuss settlement.

The second lesson is that it requires evidence to establish that a party has failed or refused to participate in mediation. This lesson may ultimately require a court to decide whether the conduct of a party at the mediation is admissible in evidence. It seems unlikely that such evidence will be admissible. Section 9 of the Ontario Commercial Mediation Act, 2010 states that mediations are confidential, unless the parties otherwise agree. The recent decision of the Supreme Court of Canada in Bombardier v Union Carbide emphasized the confidential nature of mediation, although it did find that, if a settlement is alleged to have been made during mediation, that fact can normally be proven.

The Bombardier v. Union Carbide case opens up the question of whether evidence of a total failure to mediate would be admissible. Say, the defendant attends the mediation with its insurer, and the insurer announces to the mediator: “We’re here but we decline to make or respond to any offer by the plaintiff or to engage in settlement discussions.” Would those facts be admission in evidence? There seems to be a powerful argument that they would be, and that the settlement privilege should not apply to a refusal to participate in settlement discussions. The mere fact that this conduct occurred in the mediation room rather than before the parties came to that room does not logically seem to make that conduct part of the mediation and preclude it from being proven. Rather, it would appear to be conduct which “preclude[s] meaningful participation in a mediation” as referred to by the Court of Appeal.

However, it seems unlikely that evidence about the conduct of a mediation itself, if a real mediation does commence, will be admissible in evidence. Accordingly, if a party does actually participate in mediation, it will be difficult to prove that it failed to do so in a bona fide manner, especially if it has made an offer to settle which was open until trial.

While this decision arose in the context of sections 285.5 and 285.6 of the Ontario Insurance Act, these issues could arise in any litigation or arbitration in which a party’s failure to make reasonable efforts to settle is an issue and, as a result, a higher amount of costs is sought by the other party.

See Heintzman and Goldsmith on Canadian Building Contracts (5th ed.), chapter 11, part 13(d).

Ross v. Bacchus, 2015 ONCA 347

Alternate Dispute Resolution – mediation – offer to settle – costs- insurance

Thomas G. Heintzman O.C., Q.C., FCIArb                                                   November 8, 2015

www.heintzmanadr.com

www.constructionlawcanada.com