Can an arbitration agreement be formed when the contract of which it forms part is not? The Court of Appeal and the Separability Principle


The principle of “separability”, namely that an arbitration agreement is, or must be treated as, a contract which is separate from the main contract of which it forms part, is widely accepted internationally. It is the reason why an arbitration agreement may have a governing law which is different from the governing law of the main contract.

The Court of Appeal recently considered the separability principle in DHL Project & Chartering Limited v Gemini Ocean Shipping Co Limited [2022] EWCA Civ 1555. The Appellant submitted that an arbitration agreement had been formed, even when the contract of which it formed part, had not. The question that followed was whether the arbitrator had jurisdiction to decide whether the arbitration agreement had been formed, and if so, what rights were to flow from it.

The position “I never agreed to that” was held to apply to the arbitration agreement as much as it did to any other part of the contract. The case makes clear that, where the issue in dispute is of the validity of the underlying contract, the arbitration agreement will continue to operate as a mechanism to resolve the dispute, unless the parties have agreed otherwise. In this case, because the Court had to consider formation (as opposed to validity), the operation of the arbitration agreement to resolve the dispute was questionable.

The facts of this case   

This case arose in the shipping context. The parties were negotiating, through a broker, the terms of a proposed voyage charter to lease a vessel known as the 'Newcastle Express' to carry coal from Australia to China. The broker circulated a document entitled “M’Term recap” which stood for “Main Terms” as a record of where the negotiations were up to.

The recap included, amongst other things, a standard arbitration clause and a clause with a condition precedent which stated that the vessel should be “RightShip Approved”, recognising that the Owner intended the vessel to be inspected by RightShip, a widely used vetting system, prior to the voyage. The terms also stated (in bold): 'SUB SHIPPER/RECEIVERS APPROVAL WITHIN ONE WORKING DAY AFMT & RECEIPT OF ALL REQUIRED/CORRECTED CERTS/DOCS'.

When the inspection by RightShip did not occur by the specified date, the Charterer emailed the broker to say that the vessel was rejected. The Owner took this as repudiation of the charterparty (which it considered formed) and commenced an arbitration.

The arbitrator found in favour of the Owner and awarded damages of US $283,416.21 plus interest and costs. The arbitrator interpreted the clauses that were "subject to approval" as performance conditions (like pre-set 'targets'), rather than as pre-conditions to the formation of the contract.  

The first instance decision

The Charterer made an application under section 67 of the Arbitration Act 1996 (UK) to challenge the substantive jurisdiction of the Arbitral Tribunal on the basis that the arbitration agreement had not been formed. It also appealed, in the alternative, on a question of law under section 69 of the Arbitration Act, to ensure that if it failed on the jurisdiction argument, it had an alternative basis to challenge enforceability of the award.

The Judge at first instance (Jacobs J) held that the arbitrator had no jurisdiction, but granted leave to appeal that decision to the Court of Appeal. Jacobs J held that, just as when agreement is reached “subject to contract”, the common practice in the chartering market of a vessel being “fixed on subjects” has the effect of negativing any intention to enter into contractual relations until the subjects are “lifted”, leaving both parties free to withdraw in the meantime. The subject in this case, “subject shipper/receivers approval”, had this effect, which applied in the same way to the arbitration clause as to any other clauses of the recap.

In addition, the Judge granted leave to appeal to the Commercial Court under section 69, and indicated that, if it had been necessary, he would have allowed the appeal because the interrelationship between the "subject" (or condition) in the recap, and the terms of the incorporated proforma recap, raised a question of general public importance on which the arbitrator’s conclusion was at least open to serious doubt.

The application to the Court of Appeal

The Owner then appealed to the Court of Appeal.

Counsel for the Owner submitted that the parties had "undoubtedly concluded" their arbitration agreement. The question of whether the vessel had been approved as required by the recap (and whether that approval was, relevantly, a performance condition or a pre-condition) had nothing to do with, and therefore could not impeach, the arbitration clause. The Arbitrator therefore had jurisdiction to make the award.

The Owner conceded that there may be cases where the main agreement and the arbitration agreement will sink or swim together; but there would need to be clear and powerful reasons for this to be the case. This submission, it was said, was consistent with the function of the court which is to support arbitration agreements and not to undermine them.

Counsel for the Charterer submitted before the Court of Appeal that the arbitration clause in the recap was nothing more than a clause which the parties would have included in their contract if the contractual pre-condition for approval had been satisfied. The requirement that the charterparty was "subject to approval" negatived any contractual intention, including in respect of the arbitration agreement. 

The Court of Appeal’s judgment 

The Court of Appeal held that Rightship approval was a pre-condition, the effect of which was to negative any intention to conclude a binding contract until such time as it was given. Either party could walk away at the time the Charterer did, and no separate arbitration agreement had been formed. Jacobs J's decision was upheld and the arbitrator's award was set aside. The Court of Appeal noted that, while parties who conclude an arbitration agreement are generally presumed to favour one-stop adjudication, that presumption says nothing about whether an arbitration agreement has been entered into in the first place.

Key takeaways

  • Unless otherwise agreed by the parties, arbitration agreements (when formed) are distinct agreements, separate from the contracts of which they form part. As such, an arbitration agreement will not be regarded as invalid, non-existent or ineffective because that underlying contract is invalid.
  • A lot of uncertainty is created where the issue is whether an arbitration agreement itself exists. For the party wishing to rely on the (allegedly) binding arbitration agreement, it is often left to commence an arbitration, with its associated expenses, and then possibly to defend a challenge in court to the arbitrator's jurisdiction. This is, naturally, unappealing to businesses and other users of arbitration, who seek certainty, efficiency and finality in the arbitral process.  
  • The Court of Appeal suggested that one solution is for the parties to make an "ad hoc" agreement to submit the issue of whether a binding contract and/or arbitration agreement has been concluded to arbitration, without prejudice to any issue, including whether such an ad hoc agreement was necessary. If that course were taken, the arbitrators would produce an award which was final and binding, subject only to the possibility of a limited appeal on a question of law.
featured image