International Arbitration for construction and engineering disputes

The value of international construction and engineering disputes grows year on year, with the world's largest disputes concerning projects located in the Middle East region.

In this article Paul Kinninmont and Alex Johnson discuss the use of international arbitration in construction and engineering disputes, the other dispute resolution methods that are typically considered, and how to ensure the right to refer disputes to international arbitration is preserved and free from challenge.

Typically, international arbitration is the best way to enforce the contractually agreed allocation of risk in a cross-border context. In addition to being a neutral, flexible and confidential process that results in a binding award, there are two main reasons for this:

1. Arbitration agreements allow parties to contract out of national court systems, a choice protected in most countries by international treaty. Neither recalcitrant parties nor national courts can undermine the arbitration agreement to force a dispute to be litigated in court.
2. Arbitral awards can be readily enforced in most countries, broadly in the same way as local judgments. Again, these awards are protected by international treaty, which makes it very difficult for award debtors or national courts to frustrate enforcement.

Typically, parties will agree to incorporate into their contract the rules of an appropriate arbitral institution, such as the International Chamber of Commerce (ICC) or London Court of International Arbitration (LCIA). The parties may agree an 'ad hoc' (usually nationally statutory) process if they prefer, which they can tailor by agreement for additional flexibility. Parties usually select their own arbitrators to run the arbitration. How the arbitration is run is heavily influenced by the legal backgrounds of the parties and the tribunal—for example the approach of the common law to evidence is very different to the civil law approach.

In construction and engineering projects, it is often the larger value disputes that are referred to international arbitration. These may include projects in the extractive sector (such as oil and gas), the energy sector (such as renewables), or which involve major infrastructure projects where the value of the claim justifies resolution by international arbitration, the cost and time commitment of which is very substantial. By their nature international construction and engineering disputes tend to be high-value, complex, and require expert evidence on technical issues, in addition to delay and quantum.

Even if they reach arbitration most construction disputes do not result in a final arbitration hearing, however. Because international arbitration is expensive and often takes several years to reach a final award, arbitration is often a deterrent or incentive that encourages parties to consider settlement in a shorter timescale and at lower cost—particularly where the real focus of attention is completing the project. The backdrop of an international arbitration to a live project can lead parties to pursue early settlement negotiations, or engage in other procedures such as mediation or expert determination. These can be effective means of bringing construction disputes to an end particularly where the dispute risks further delay to the project and/or where the cost of arbitration risks being disproportionate to the value of the claim. There are other motivations that may drive parties either towards arbitration or settlement, such as the prospect of winning further project work from the same client. 

The arbitration agreement 

To refer disputes to arbitration, parties must include an arbitration agreement in their contract. This must be legally valid in order to enjoy treaty protection. To be legally valid, the arbitration agreement must, at minimum, contain a clear intention to arbitrate (which constitutes the parties opting out of the jurisdiction of the relevant national courts) and must contain a seat (or place) of arbitration. The seat is usually a neutral country not associated with either party.

Arbitration agreements will usually specify their scope, the governing law and choice of arbitral institution. Parties may adopt boilerplate clauses produced by the arbitral institutions or use standard form contract clauses (for example the FIDIC form of contract in international construction and engineering projects). In higher value or more complex cases, parties may prefer to include bespoke arbitration agreements tailored to the needs of the parties and the specifics of the project. These agreements may contain certain mandatory pre-arbitration steps such as negotiation, mediation and/or expert determination. If a party attempts to commence arbitration before completing such mandated steps, the claims will not be admissible.

Arbitration agreements may become complex where there are multi-party contracts or multi-contract transactions involved. In such cases, tailored drafting will be required to address appointment of a tribunal, how to join parties to arbitrations against their will, and how to consolidate arbitrations if necessary. 

Potential pitfalls

Mistakes in the arbitration agreement risk its integrity and as a result parties may end up before the national court they were trying to avoid. If this happens, it becomes more difficult to enforce the contractually agreed allocation of risk that was the reason for the arbitration agreement in the first place. Additional time and cost will also be incurred. Problems with arbitration agreements include:

1. Lack of clarity in advancing from one pre-arbitration step to the next, for example an obligation to engage in mediation without a deadline for doing so.
2. Including reference to the national courts deciding the dispute in addition to an arbitration clause.
3. Not specifying the governing law of the arbitration agreement as opposed to the contract.
4. Choosing more than one seat of arbitration.
5. Choosing more than one arbitral institution.
6. Choosing a non-existent arbitral institution.
7. Mandating too many or too niche arbitrator characteristics, such that it becomes impossible to find an arbitrator.

Unfortunately, the risk of issues with the arbitration agreement can be greater in construction and engineering contracts where amendments to standard form arbitration clauses are made and bespoke arbitration clauses are introduced. It is always advised to make such clauses subject to legal review before contracts are signed.

Choice of arbitrator

The most important question is how to choose an arbitrator. One of the main benefits of international arbitration is that parties can chose arbitrators familiar with their sector—for example construction and engineering arbitrators may combine legal experience with industry knowledge or knowledge of certain technical disciplines. The key considerations are generally availability, neutrality, lawyer versus non-lawyer, experience as an arbitrator, expertise, nationality and languages spoken. Word-of-mouth recommendations, personal experience, reputation, the legal directories and online research all generally play a part in selecting the appropriate arbitrator.

A key consideration is often whether parties should appoint a civil code or common law arbitrator. Even where an English law style contract such as FIDIC is used, if it is subject to a civil code governing law then the parties may be best advised to appoint a civil code arbitrator. Civil codes can result in interpretations of contracts that are alien to common law practitioners.

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The international arbitration group at Freeths regularly advise our clients at the contract drafting and negotiation stage, on dispute avoidance and settlement during projects, and on cross-border disputes including in the construction and engineering industry.