Issue

The 1958 New York Convention (the ‘Convention’) – the centrepiece in the mosaic of treaties and arbitration laws that ensure acceptance of arbitral awards and arbitration agreements – is applied and interpreted in an increasingly unified and harmonized fashion by courts around the world. However, the Lithuanian Supreme Court’s ruling in Serbian Privatization Agency v Arvi ir Ko & Sanitex (‘Agency v Sanitex’),1 issued on 13 June 2019, demonstrates how much room for improvement there still is in Lithuania, particularly when interpreting the public policy ground of the Convention (Article V(2)(b)).

This particular case concerned the award of contract-based penalties and, in turn, raised questions regarding the role of national (as opposed to international) public policy as a ground for refusal of enforcement of an award.

Background of the case

Azotara Pančevo (‘Azotara’), once the largest factory of ammonia and artificial fertilizers in the Balkans, was privatized in 2006 by the Serbian Privatization Agency. It was acquired by a consortium of two Lithuanian companies (‘Arvi’ and ‘Sanitex’) and one Serbian company (‘Univerzal Holding’) (the ‘Consortium’) for EUR 13 million (‘the Privatization Contract’). In January 2009, following the divestment by Azotora of certain assets, the Serbian Privatization Agency cancelled the Privatization Contract.

Eventually, based on the arbitration agreement contained in the Privatization Contract, the Serbian Privatization Agency referred the dispute to the Foreign Trade Court of Arbitration at the Chamber of Commerce and Industry of Serbia claiming a breach of the Privatization Contract and requesting the payment of contractual penalties envisaged therein. An arbitral award was rendered in April 2012 under which the Consortium was ordered to pay the Serbian Privatization Agency approximately EUR 4 million in penalties. After several unsuccessful attempts by the Consortium to annul the award in Serbia, the Serbian Privatization Agency applied to the Court of Appeal of Lithuania in November 2017 for the recognition and enforcement of the award.

In defense, the respondents Arvi and Sanitex argued that (i) the part of the arbitral award ordering the payment of contractual penalties was contrary to Lithuania’s substantive public policy, and (ii) that the contractual penalties ordered by the arbitral tribunal should be considered as punitive (as opposed to compensatory) and, therefore, not enforceable.

The Serbian Privatization Agency, on the other hand, argued that (i) the Consortium had freely agreed to the contractual penalties, (ii) the terms of the Privatization Contract, including the penalty provisions, were based on Serbian privatization law, and (iii) the respondents did not claim that the arbitral tribunal had made an incorrect application of the contract terms.

In January 2019, the Court of Appeal of Lithuania rejected all of the arguments raised by Arvi and Sanitex as ungrounded and granted recognition and enforcement of the award in Lithuania. The Court of Appeal established that unreasonably high penalties could be considered a violation of public policy in cases where they would legitimize usury. However, in the opinion of the Court of Appeal, the fact that the parties agreed to a significant penalty in the contract (in that case 25% of the purchase price) did not, in itself, mean that the arbitral award ordering the payment of such penalty infringed public policy. The Court of Appeal noted that the parties to the contract were private business entities with extensive experience in business, negotiation and large privatizations who could foresee the consequences of default and freely agree on contract terms.

Arvi and Sanitex appealed the judgement to the Supreme Court of Lithuania. The Supreme Court quashed the ruling of the Court of Appeal and refused to recognize and enforce the award based on public policy ground (Article V(2)(b) of the New York Convention).

Supreme Court Decision

In its ruling of 13 June 2019, the Supreme Court of Lithuania refused recognition and enforcement of the award, holding that the Award was ‘unfair’ and against the public policy of Lithuania.

The Supreme Court first based its reasoning on a 2012 ruling of the Lithuanian Constitutional Court, where the Constitutional Court had established that the provisions of the Lithuanian privatization law, which enable to take back the privatized company into public hands and keep the amounts paid for the privatization, were contrary to the Lithuanian Constitution.2

The Supreme Court also noted that, by canceling the Privatization contract and taking over the shares of Azotara and claiming the penalties provided under the Privatization contract, the Serbian State imposed a sanction on the Consortium, and that the amount awarded by the arbitral tribunal was intended to punish the Consortium rather than compensate the Serbian Privatization Agency for foreseeable or actual losses.

The Supreme Court ruled that such ‘unreasonable’ penalties contradict the constitutional principle of fairness, which coheres not only with Lithuania’s public policy, but also with international public policy:

The amount awarded by the Serbian arbitration, assessed in the context of all sanctions imposed on the buyer party to the privatization contract, is intended to punish, not to compensate for, any foreseeable or actual loss. Prohibition of such fines forms part of the content of public order of the Republic of Lithuania but also the content of international public order.3

The Supreme Court also ruled that such a conclusion is not affected by the fact that (i) the penalty was directly provided for in the privatization contract and (ii) Serbia’s counterparty - the Consortium - was a sophisticated business entity which was aware of the specificity of such contracts.

Commentary

The Supreme Court’s ruling raises several concerns regarding the application of the New York Convention in Lithuania, such as the diverging interpretation of the public policy ground and the application of national law while reviewing a foreign arbitral award, and the limits of a de novo review of the award (i.e. relitigating the merits of the award).4

As advocated by a considerable number of cases rendered worldwide, the Convention should be interpreted and enforced having in mind its ‘international’ character. In this context, the analysis should be carried out pursuant to the scope and purpose of the Convention rather than the provisions of the relevant domestic law.5

In the author’s view, the Convention, as an international legal instrument, should be interpreted in accordance with the rules for the interpretation of international conventions provided by the 1969 Vienna Convention on the Law of Treaties, i.e. having in mind its ‘object and purpose’ (to facilitate the recognition and enforcement of foreign arbitral awards and the enforcement of arbitration agreements).6 While the courts should adopt a pro-enforcement approach when interpreting the Convention, this view does not automatically rule out any reference to relevant domestic law(s).7

It is generally accepted that the mere fact that the recognition or enforcement of an award (or the dispute contract upon which it is based) is contrary to the law of the forum state does not per se trigger the public policy exception. Domestic laws are of course variable across the New York Convention’s signatory Parties, but a technical or even a substantive illegality of an international award pursuant to domestic law should not render an award unenforceable. Equating any national legislation to public policy of even international public policy would seriously compromise the enforcement of international awards. Thus, the best approach of the courts should be to look to international public policy norms and minimise the significance of inconsistencies with local law.8 In Agency v Sanitex, the Supreme Court of Lithuania did not address whether the privatization legislation of Lithuania reached the level of public policy or even international public policy.9

With regard to de novo review issue, it is to be noted that the competence of the Supreme Court of Lithuania is limited to the review of legal basis and reasoning of the Court of Appeals decision, and does not include a review of facts.10 In the long-established practice of the Supreme Court of Lithuania, questions, such as the amount of penalties, were considered to be questions of fact and, therefore, not within the competence of the Supreme Court of Lithuania. The amount of penalties awarded by the arbitral tribunal in Agency v Sanitex was, however, extensively reviewed by the Supreme Court of Lithuania. It can be argued that the court should have been more deferential to the award and base its review on strict statutory or judicially established standards (review of legal – not factual – issues) so as not to undermine the very purpose of international arbitration agreements.11 Finality of international awards enhances the political and procedural neutrality of arbitration, but is compromised if the winner must re-litigate the case before the national courts of its counterparty.

Conclusion

For the past ten years, Lithuania has been considered as a pro-arbitration jurisdiction. However, the recent decisions of the Supreme Court applying the New York Convention echo a rather changing approach to recognition and enforcement of foreign arbitral awards.12 It seems that the understanding and application of the New York Convention by Lithuanian courts go against the global trend towards a more international and even transnational understanding of the application of the Convention, including the public policy exception.


1
Available at https://eteismai.lt/byla/31023126198921/e3K-3-182-969/2019

2
The 2012 Decision of the Constitutional Court of Lithuania is available at https://www.lrkt.lt/lt/teismo-aktai/paieska/135/ta129/content.

3
See para. 41 of the Supreme Court ruling.

4
Before the ruling in Agency v Sanitex case, the Supreme Court of Lithuania had a long-established practice that the Courts shall not and should not do a de novo review of foreign arbitral awards since it would entail in relitigating a dispute already decided by an arbitral tribunal.

5
See E. Gaillard, J. Savage (eds.), Fouchard Gaillard Goldman on International Commercial Arbitration 735–80 (Kluwer, 1999); A.J. van den Berg, The New York Arbitration Convention of 1958: Towards a Uniform Judicial Interpretation 49, (Kluwer, 1981); G. Born, International Commercial Arbitration pp. 3411-3417 (Kluwer, 2014).

6
Lithuania is a monist country, i.e. the 1969 Vienna Convention on the Law of Treaties is relied upon by the Lithuanian courts. See Art. 31(1) of the Vienna Convention provides: ‘A treaty shall be interpreted in good faith in accordance with the ordinary meaning to be given to the terms of the treaty in their context and in the light of its object and purpose’. The Supreme Court, in its previous practice, has consistently referred to the ‘object and purpose’ of the New York Convention when recognizing and enforcing foreign arbitral awards.

7
See supra note 5. In Pencil Hill Limited v US Citta di Palermo S.p.A. on 19 Jan. 2016, the English High Court enforced an arbitral award issued by the Court of Arbitration for Sport in Switzerland, which was based on a penalty clause. The Court declared that the public policy of upholding international arbitral awards outweighed the public policy of refusing to enforce penalty clauses. The Court also noted that applying the law chosen by the parties should be respected.

8
P. Gillies, ‘Enforcement of International Arbitration Awards – The New York Convention’. Int'l Trade & Bus. L. Rev.9, 19 (2005).

9
In a case in Colombia, Tampico Beverages Inc. v. Productos Naturales, Tampico Beverages Inc. v. Productos Naturales de la Sabans S.Z. Alqueria, SC9909-2017, Case N° 11001-02-03-000-2014-01927-00, for example, the Supreme Court of Colombia was asked to enforce an ICC award that had been challenged as a violation of public policy because of an arbitrator’s conflicts of interest. Although the court acknowledged that enforcement under these particular circumstances might violate Colombia’s domestic public policy, it concluded that the country’s international public policy was different, and that the court should look to international authorities to determine if there was a violation. It then turned to the 2014 IBA Guidelines on Conflicts of Interest as representative of international practices. Thus, the court looked outwardly, toward international practices, relying on an international soft law instrument to help it determine that its country’s international public policy was not violated.

10
See e.g. the ruling of the Supreme Court of Lithuania in case No. 3K-3-656/2013, available at https://eteismai.lt/byla/46105376230045/3K-3-656/2013

11
K. A. Helm. ‘The Expanding Scope of Judicial Review of Arbitration Awards: Where Does the Buck Stop?’ Dispute Resolution Journal Vol. 61, No. 4. 2006.

12
In a ruling of 27 Sept. 2018, the Supreme Court of Lithuania referred to the provisions of local code of civil procedure while interpreting Art. VI of the New York Convention. The Supreme Court equated the institute of guarantee provided in Art.VI of the Convention to interim measures regulated by Lithuanian code of civil procedure. This ruling is another example of reference to idiosyncratic local rules, which can undermine the broad enforcement goals of the Convention.