Corporate Veil Pierced to Enforce Forum Selection Clause

The recent Ontario Court of Appeal decision in Downey v. Ecore International  [2012] O.J. No. 3086 suggests that the courts’ pro-enforcement policy toward forum selection clauses (“FSC’s”) goes beyond the presumption of enforceability approach laid down by the Supreme Court of Canada in ECU Line v Z I Pompey Industrie. The Supreme Court decided there that FSC’s are to be enforced unless there is  “strong cause” on the facts of a particular case not to enforce them.  Downey strongly signals that  a court will even pierce the corporate veil if necessary in order to give effect to an otherwise enforceable FSC.   

The Facts

The facts are that Ecore, a Pennsylvania company, offered Paul Downey employment.  Downey arranged instead, for tax reasons, for a contract between his consulting company CSR and Ecore, whereby CSR would provide Downey’s services to Ecore.  Ecore signed the consulting agreement with CSR, not Downey.  This agreement required CSR to sign a confidentiality agreement.  CSR never signed one, but Ecore had Downey sign one in his personal capacity on his first day at work in 1999.  That agreement did not mention CSR at all, and referred to Downey as an employee, contrary to the consulting agreement. That confidentiality agreement contained an FSC that required Ecore and Downey to litigate in Pennsylvania any action that “in any way relates to [Ecore’s] business relations with the Employee”.    The consulting arrangement continued from 1999 to 2011; the parties never replaced it with an employment agreement with Downey personally.  In 2011, Downey sued Ecore in Ontario, in his personal capacity, to enforce a separate 2001 assignment agreement between Downey and Ecore pertaining to a product he had invented then assigned to Ecore.  Ecore moved to stay that action, saying that the invention was governed by that confidentiality agreement and thus the FSC should apply. 

The motion court dismissed the motion on the ground that the FSC was invalid because the confidentiality agreement lacked consideration for Downey, in that the recipient of the confidential information would be CSR, not Downey himself.  That court held that but for the lack of consideration, the FSC would have been enforceable in that it covered the subject matter of the dispute and there was no strong cause not to enforce it.

The Appellate Ruling

The Court of Appeal held unanimously that Downey did get consideration under the confidentiality agreement, and that therefore the FSC is valid and the action should be stayed.   The consideration for Downey was that he gained access to Ecore’s proprietary, confidential information which was necessary if the services under the consulting agreement were to be provided, which “thereby permitted Downey, both personally and through CSR, to realize the benefits of the Consulting agreement”.  The Court stated the “de facto relationship between the parties was between Downey and Ecore”, having regard for the intentions of the parties as shown by the two agreements read together as a whole.  The consulting agreement identified Downey as being a “Key person”.   The parties must have intended the confidentiality agreement to bind Downey personally because as a practical matter it would be Downey who would actually receive Ecore’s confidential information.   The Court called the consulting arrangement with CSR “simply a tax device”. 

Comment

If the relationship was between Ecore and CSR, not Downey, the benefit of the confidentiality agreement would go to CSR, not Downey, and the FSC would not be enforceable.  The ruling that the de facto relationship between the parties was between Downey and Ecore is at odds with the law as to when courts will disregard separate corporate personality.  According to Anthony VanDuzer’s book The Law of Partnerships and Corporations (2^nd edition, 2003), courts will disregard separate corporate personality on three grounds:  a.) that to not do so is “flagrantly opposed to justice”; b.) that the corporation was created for an improper purpose, typically fraud, or c.)  that the corporation is merely an agent for a person or other corporation that completely dominates the first corporation and that corporation has been set up for an improper purpose.  None of these grounds apply here; Downey’s purpose for setting up CSR was certainly not improper.  The Court did not clearly explain which of these three grounds supported its ruling.   The inconsistencies between the consulting agreement and the confidentiality agreement (i.e. that the latter makes no mention of CSR and refers to Downey as an employee) and the fact the consulting agreement stated that the confidentiality agreement was supposed to be with CSR, not Downey, indicate the confidentiality agreement probably named Downey in error.   The fact that the Ecore-CSR consulting agreement continued for over eleven years is a further indication that the de facto relationship was between Ecore and CSR, not Downey.

The fact the confidentiality agreement arguably applied to the subject matter of the action likely carried great weight in the decision to find that agreement and its FSC valid.   Downey v. Ecore tells us that courts will go to considerable lengths to find an FSC enforceable.

Internal CEITAC Dispute Causes Confusion

             My May 18, 2012 post covered the new procedural rules of CEITAC, which went into effect on May 1, 2012.  Since then, a dispute has arisen between the head office of CEITAC and its Shanghai Sub-commission and its South China Sub-commission (earlier known as the Shenzhen Sub-Commission).  Last month the head office of CEITAC announced that because these two sub-commissions have not abided by the new rules, they are not permitted to take on or administer any CEITAC arbitrations.  The disputes are to be submitted instead to the CEITAC secretariat for it to administer.  The arbitration hearings will still take place in Shanghai and Shenzhen, as per the parties’ arbitration agreement.

It is said that the sub-commissions have taken exception to a new rule that says that where the arbitration agreement does not clearly specify the sub-commission, the choice of sub-commission will be made by the CEITAC secretariat.   The previous rule said it is the party commencing the arbitration who makes that decision.  

The sub-commissions have stated that they will continue to accept disputes for arbitration, and have established their own rules.  However, parties whose arbitration clauses require a CEITAC arbitration must consider whether arbitration by one of these sub-commissions absent CEITAC approval might undermine the validity and enforceability of the award.   

Recent Surge in Accessions to Hague Service Convention

The past few years have seen many accessions to the Hague Convention on the Service Abroad of Judicial and Extra-judicial Documents in Civil and Commercial Matters,  sponsored by the Hague Conference on Private International Law.  Columbia, Montenegro, Armenia have all acceded to the convention this year, and Moldova will next year.  In 2011,  Malta, Morocco, and Serbia acceded.  In 2010  Australia and Belize acceded, and  in 2010, and in 2009 another three – Iceland, Bosnia-Herzegovina and the former Yugoslav Republic of Macedonia acceded,  for a total of twelve new countries.

The convention  has been in force in most major trading nations and in most highly populated nations for several years, but this surge in accessions gives the Convention much needed momentum.    Too many important and populous nations have yet to accede, including Indonesia, Bangladesh and Singapore, and even Hague Conference members Brazil, Malaysia, and the Philippines.   Among  nations in the Middle East, a remarkable number  have yet to accede, including Saudi Arabia, Lebanon, Jordan, Bahrain, Yemen, the Sultanate of Oman, Qatar, Iran, Iraq, and – despite the importance of Dubai as an international centre -- the United Arab Emirates.   The convention is in force in Israel, Egypt and Kuwait.

Service of originating  process (e.g. statements of claim or notices of application) in non-Convention countries can be cumbersome.    In some of these countries,   personal service by a private process server  is illegal.   Instead, one must obtain letters rogatory. This is an instrument by which a Canadian court requests that the foreign country’s court permit service of the Canadian statement of claim.  The instrument is transmitted via diplomatic channels. Service of the claim can take a year or longer.   Even in countries where  service by private process server is not illegal, service by letters rogatory is nonetheless advisable if one intends to enforce the judgment in that country. 

British Court Imposes Duty on Directors of Corporate Contemners to Ensure Freezing Orders are Obeyed

The British courts, which first developed the Mareva injunction remedy, continue to demonstrate their leadership of the common law world in the area of  freezing injunctions.    The High Court of Justice, Queen’s Bench Division, Commercial Court has recently ruled, in Templeton Insurance v. Motorcare Warranties,  that corporate directors who are aware of a freezing order against their company have a duty to take reasonable steps to ensure the order is obeyed, and wilful failure to take such steps is punishable as contempt.  That the director did not know his/her actions constitute a breach of the order is not a defence.   

Here are the facts of the case.  Motorcare sold insurance as an agent for Templeton. Templeton sued Motorcare after  Templeton came to believe Motorcare was providing false financial information. The trial court issued the following injunction:  Motorcare was not to “remove from England and Wales or in any way dispose of, deal with, or diminish the value of,  other than by payment to [Templeton] any of its assets in England and Wales”.  This particular order was issued only against Motorcare, not its directors.  The order also stated “It is a contempt of court for any person notified of this order knowingly to assist in or permit a breach of this order. Any person doing so may be sent to prison, fined or have his assets seized”.   The directors knew of the injunction. Shortly after the trial, Motorcare went into liquidation, and transferred to a successor company called Motorcare Elite all of the Motorcare business, including the network of sales agents, office premises, staff, website, business name, goodwill and so on.  The directors of Motorcare were shareholders in Motorcare Elite.  Templeton then sought an order for committal of the directors for contempt. 

Because the directors were not personally bound by the order,  to prove contempt (criminal, not civil contempt), under  British law one must show the accused’s act constitutes a “wilful interference with the administration of justice”.  Templeton argued that because the accused were directors of the company, there was no need to prove they knowingly breached the order.  The directors claimed not to know that the transfer from Motorcare to Motorcare Elite constituted a breach of the order, and  argued that they cannot be found guilty without proof they knowingly breached the order.  The Court rejected Templeton’s argument as too broad, and the directors’ argument as too narrow. The court held instead that directors who are aware of a freezing order against the company (or undertaking) have a “duty to take reasonable steps to ensure the order is obeyed, and wilful failure to take such steps is punishable as contempt”.  Such failure is wilful unless the directors had a reasonable belief that other officers or directors would take such steps.  The Court found the directors guilty of contempt; the court did not decide the penalty at that hearing but made clear it would consider incarceration.

While Mareva injunctions directed against third parties -- e.g. orders compelling a defendant’s bank to freeze its accounts -- are a potent weapon, the effectiveness of Mareva injunctions directed against a corporate defendant depends largely on whether the risk of a contempt proceeding would influence the officers and directors.  If the officers and directors can take the assets out of the defendant with impunity, the Mareva injunction will be of little practical value. The ruling in Templeton reflects the view that Mareva injunctions are an important part of modern litigation and thus the law should ensure they have practical value.

Under the rules of court in some provinces including Ontario and Manitoba, where a corporation has been found in contempt, a judge may impose sanctions also on an officer or director of the corporation  (For Ontario, see rule 60.11(6) of the Rules of Civil Procedure).  To prove contempt it must be established that the accused  deliberately or wilfully or knowingly did some act which was designed to result in the breach of a court order.  The law in Ontario does not presently impose the same duty imposed in Templeton.     However, Canadian courts have followed Britain’s lead on many aspects of pre-trial remedies, and should consider following Templeton too. 

B.C. Court Finds Enforcement of Arbitral Awards in PRC “Irregular”

The B.C. Supreme Court has recently granted a Mareva injunction on the grounds that enforcement of an arbitral award in the People’s Republic of China (“PRC”) could be problematic, in BlueHorizon Energy Inc. v. Ko Yo Development and Guangan Lotusan Natural GasChemical 2012 BCSC 58. 

The case arose out of the plaintiff’s contract with two Chinese defendants to dismantle a methanol and ammonia plant in Kitimat, B.C., for shipment to the PRC.  A dispute arose in the course of dismantling the plant, the agreement was terminated, and the dispute was referred to arbitration.  At this point the plaintiff had performed about three million dollars worth of work, for which it had not been paid, and a further four million dollars of work remained under the contract. The plaintiff brought a motion for a Mareva injunction restraining the defendants from moving parts of the dismantled plant out of Canada, or requiring them to post security, on the grounds that the defendants have no assets in Canada, and enforcement of an arbitral award in the PRC would be problematic (despite the fact the PRC is a signatory to the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards).  Based on expert evidence from a Hong Kong lawyer, the court found that “enforcement of arbitral awards in the PRC is irregular” (para. 47). 

The evidence before the Court regarding enforcement of foreign arbitral awards in the PRC – which consisted of  several articles written by experts in arbitration --  provided some anecdotal evidence of controversial refusals to enforce, but did not clearly show a strong tendency to refuse enforcement, particularly on improper or controversial grounds.  One article said enforcement is sometimes delayed for months or longer.  Another said that Chinese law gives the local courts (which are responsible for enforcement) discretion not to enforce even an award that has been confirmed by the Supreme People’s Court, but no examples of the exercise of this discretionary power were disclosed. 

    There was also an article that surveyed twenty refusals of enforcement between 2000 and 2009 (most but not all of which were awards against Chinese parties) on grounds recognized in the New York Convention or because the limitation period for enforcement had expired.  However, there was no evidence as to the proportion these refusals represent in the total number of foreign arbitral awards presented for enforcement in the PRC, nor was there evidence that such refusals are more common in the PRC than in other countries. 

Another article stated that under Chinese law the public policy exception to enforcement (which in the PRC legislation is referred to as “social and public interest”) may be wider than in other countries.  However, another article showed that the application of this defence to enforcement reflects a pro-enforcement philosophy.

The finding in the Blue Horizon case about enforcement may help those who seek alternatives to enforcement of arbitral awards in the PRC.  However, courts outside B.C. would not likely grant a Mareva injunction on the same facts as in Blue Horizon.  The requirements for a Mareva injunction in B.C. are not as stringent as in other parts of Canada.   B.C. law requires only that the plaintiff present a strong prima facie or arguable case on the merits, and that, having regard for all the circumstances, the granting of the injunction be just and equitable.   Unlike in Ontario, B.C. law does not require evidence of fraud or impropriety. 

French Courts Now May Enforce Foreign Judgments for Punitive Damages

France’s highest court, the Court of Cassation, has ruled that foreign judgments awarding punitive damages are enforceable, at least in principle.  This ruling ends France's long-standing blanket prohibition on enforcement.  In France until now, as in some other European countries, damages are available only to compensate for loss, not to deter or punish wrong-doing. 

The judgment in question was awarded by a court in California against a French yacht manufacturer that had failed to disclose to its customer, the plaintiff, the fact the yacht had been damaged and repaired before delivery to the customer.  The court awarded $1,391,650 for general damages and $1,460,000 for punitive damages. 

In France, as in Canada and elsewhere, foreign judgments contrary to public policy are not enforceable. Up until now, in France that meant that judgments for punitive damages are not enforceable at all.  The Court of Cassation ruled that in principle, punitive damages are not contrary to public policy, unless the amount of punitive damages is disproportionate to the amount of the damage sustained and the debtor’s breach of contractual obligations.   In this case, the Court held the amount was “manifestly disproportionate”, and thus declined to enforce the judgment.   Unfortunately the Court did not provide much guidance on what constitutes a disproportionate amount.

French legislators have proposed a revision to the French Civil Code to permit punitive damages, up to twice the amount of the compensatory damages.  However, owing to the recent change of government in France, enactment of that amendment is not expected soon.

This court decision and the proposed legislative amendment are part of a trend in French law toward greater receptivity to foreign legal traditions and philosophies.  Article 14 of the Civil Code permits a French citizen to sue non-resident defendants in French courts regarding contracts made in France, or even those made outside France, which provision is at odds with principles of jurisdiction in a number of countries including Canada .  In 2007, the French Court of Appeal tempered the reach of this provision when it ruled that a French citizen that has agreed to arbitrate a dispute may not avoid arbitration by relying on Article 14 of the Civil Code.   In other words, by agreeing to arbitration the French citizen surrendered his rights under Article 14.  

Digest of NY Convention Case Law Launched

A new, online searchable digest of case law relating to the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards (“the Convention”) was launched July 2, 2012.  Created jointly by   UNCITRAL, the U.S. law firm Shearman and Sterling LLP, and Columbia Law School, and available at www.newyorkconvention1958.org ,  the digest pulls together case law relating to the application and interpretation of the Convention from fifteen different jurisdictions, including Canada, the U.S., the U.K., India, the People’s Republic of China, the Russian Federation and Brazil.   More jurisdictions may be added later.   The cases are presented as summaries focusing on the court’s decision as to the application and/or interpretation of the  Convention, with a link to the whole decision, although it appears summaries have not yet been prepared for all decisions.   At this point the digest contains over 700 cases.  This digest, called the New York Convention Guide, is  a welcome addition to the research resources for international arbitration.