Recent Dubai Court decision on arbitration clauses

In a notable recent judgment, the Dubai Court of Cassation has provided guidance on the separability of arbitration clauses from the underlying contract in which they appear – and the circumstances in which the nullity of a contract will also nullify its arbitration clause. The judgment highlights the importance of ensuring that the terms and purposes of a commercial contract are valid, as well as offering a reminder of the potentially far-reaching consequences of contravening public policy in the UAE. The judgment is of particular relevance to clients with legacy shareholding and remuneration arrangements arising from previous mandatory local ownership requirements in the UAE.

What has happened?

In a recent case, (Dubai Cassation Case No. 585 of 2023), the Dubai Court of Cassation (CoC) was asked to consider a judgment of the Dubai Court of Appeal (CoA), in which the CoA annulled an award rendered in a Dubai International Arbitration Centre (DIAC) arbitration (Appeal No. 46 of 2022). The CoA had done so on the basis that the company documents in which the arbitration clause appeared were invalid as a matter of public policy. In the CoA’s view, this invalidity extended to the arbitration clause itself.

The case concerned a dispute between the two shareholders of a limited liability company engaged in the construction industry. In the company’s Memorandum of Association, the first shareholder – an Emirati national – was stated to own 51% of the company, with the second shareholder – a foreign national – holding the remaining 49%.

In parallel, however, the shareholders entered into a secondary agreement (the Appendix), which purported to amend the Memorandum. This Appendix – which the CoA noted had not been formally notarised – presented a different arrangement: the Emirati national (a) did not own any shares in the company; (b) was not entitled to any of the company’s profits; (c) was not liable for the company’s losses; and (d) was not responsible for the company’s obligations or collections. Instead, and in exchange for the inclusion of his name in the Memorandum of Association, the Emirati national was entitled to the greater of an annual salary of AED 100,000 or 1.5% of the value of the business conducted by the company.

The parties had agreed to settle shareholder disputes through arbitration under the DIAC Arbitration Rules. In due course, the Emirati national commenced arbitration against the foreign national and company – now the respondents – seeking payment of the entitlements set out in the Appendix, along with interest. An award was rendered in his favour, with the respondents jointly ordered to pay the Emirati national the sum of AED 2,500,000, plus interest.
The respondents sought to set aside the award in the CoA arguing (insofar as relevant) that: (a) the arbitration clause was invalid as it contravened public policy by virtue of the Appendix not being notarised; and (b) the contract between the parties was invalid as the arrangements set out in the Appendix contravened public policy.

The CoA annulled the award. In doing so, the CoA relied upon Article 29(3) of UAE Federal Law No. 32 of 2021 Concerning Commercial Companies, which provides (in our translation) that:

A company’s Memorandum of Association depriving a partner of the profits or exempting him from sharing the losses, or granting him a fixed percentage of profits, shall be deemed null and void. (Emphasis added.)

The CoA ruled that the arrangements in the company’s Memorandum, as amended by the Appendix, fell within the scope of Article 29(3). Moreover, the CoA considered this Article to reflect public policy within the UAE.

The CoA then considered Article 4(2) of UAE Federal Law No. 6 of 2018 on Arbitration (the Arbitration Law), which provides that parties cannot resort to arbitration to resolve matters where conciliation is not permitted (in other words, certain reserved matters that cannot be arbitrated). Continuing with this analysis, the CoA ruled that previous judgments of the CoC have established that conciliation is not permissible in matters related to public policy. As a result, the CoA reasoned, the award was invalid as it attempted to determine issues that were matters of UAE public policy, which is not permitted under Article 4(2) of the Arbitration Law.

These findings are uncontroversial. However, having established these principles, the CoA went further, stating that an agreement that is invalid due to public policy “must be cancelled and considered as if it did not exist”. This, the CoA reasoned, meant that not only were the remunerative arrangements between the two parties invalid, but the arbitration clause and filing of the arbitration proceedings were similarly invalid. This is because both stemmed from an agreement that was contrary to public policy and that, in the eyes of the CoA, never existed. There was, therefore, no proper basis on which arbitration could been commenced at all. The Emirati national appealed the CoA’s judgment before the CoC. The CoC rejected the appeal and upheld the judgment of the CoA. In doing so, the CoC largely adopted and confirmed the CoA’s reasoning. However, the CoC took an expansive view of the effects of public policy.

• First, the CoC reasoned that the mere fact that a tribunal would not have jurisdiction to consider matters of public policy – in this case, the arrangements in the Appendix – demonstrated that the arbitration clause could not be valid (as its intended purpose was impermissible by law).
• Second, the CoC confirmed that, when there is a dispute concerning the validity of an agreement as a whole – and not a specific or separate dispute as to the validity of an arbitration clause – the ruling on the validity of the agreement will extend to all of its terms and conditions, including the arbitration clause.

Why is this important?

The CoC’s judgment is important because it raises questions about the separability of arbitration clauses under UAE law. Separability is an important safeguard in commercial contracts – essentially, it ensures that the parties’ contractually agreed method of resolving their disputes will survive the termination of the underlying contract. This is particularly relevant in circumstances where, for example, a claim that a contract is voidable would otherwise terminate the arbitration clause as well, defeating its purpose. Separability is therefore an important mechanism by which party autonomy – the freedom to agree the manner and forum in which disputes shall be resolved – is upheld.

In many jurisdictions, this principle of separability of the arbitration clause – sometimes known as autonomy – effectively requires the contract to be viewed as two separate agreements: the first concerning the parties’ commercial obligations and fundamental purposes of the agreement; the second concerning the manner in which the parties must resolve their disputes. Indeed, such is the importance of this principle that it is enshrined in many arbitration rules and laws. Article 23(1) of the UNCITRAL Arbitration Rules 2021 provides:

An arbitration clause shall be treated as an agreement independent from the other terms of contract. A decision by the arbitral tribunal that the contract is null shall not entail automatically the invalidity of the arbitration clause.

Similar provisions are found in the UNCITRAL Model Law (Article 16(1)), LCIA Arbitration Rules 2020 (Article 23(2)) and, to an extent, the ICC Arbitration Rules 2021 (Article 6(9)).

In the UAE, recognition of the principle of separability can be found in Article 6(1) of the Arbitration Law, which provides:

An arbitration clause shall be treated as an agreement independent from the other terms of contract. The nullity, rescission or termination of the contract shall not affect the arbitration clause if it is valid per se, unless the matter relates to an incapacity among the Parties.

At first glance, therefore, it may seem that the judgment of the CoC runs contrary to the provisions set down in the Arbitration Law. If so, this would leave parties in the position of losing their right to arbitrate if their underlying contract was held to be void (or, at least, running the risk of challenges to enforcement of the award).

However, Article 6(1) of the Arbitration Law is not absolute and contains some caveats. Whilst the judgment does not analyse the Arbitration Law in detail, it seems likely that the CoC considered that, due to the above-mentioned reasons of public policy, the parties’ arbitration agreement could not be “valid per se” for the purposes of Article 6(1). (Alternatively or additionally, it may be that, by reason of impermissibility of arbitrating matters of public policy, the parties were “incapable” of agreeing to arbitration of these matters at all.)

Looked at from this perspective, the CoC’s reasoning is consistent with UAE law and previous decisions relating to public policy. There is also some support for this approach in international practice: in the French Civil Code for example, Article 1448 permits the courts to take jurisdiction where an arbitration clause is manifestly void or inapplicable (“manifestement nulle”). It appears that the CoC has adopted a similar view.

What will be interesting to see is how the Dubai courts would approach an arbitration agreement in a contract void for reasons other than public policy. In past judgments (for example, Dubai Cassation Case No. 190/2010), the courts have upheld the principle of separability of the arbitration agreement and it is hoped that, as a general rule, this approach is followed save in rare and exceptional cases.

What should you be doing?

It is worth noting that, with increasing relaxation of company ownership requirements in Dubai and the wider UAE, remunerative arrangements such as in this case are correspondingly likely to become increasingly rare.

However, parties to contracts – and particularly those entering into ancillary or supplementary arrangements seeking to amend primary contracts, such as Memoranda of Association or shareholder agreements – should consider whether these agreements concern, as the CoC put it, “the supreme interest of the country, whether politically, socially or economically, [or] relate to the natural, material and moral situation of an organized society”. If so, these arrangements may fall within the scope of public policy and parties should consider carefully the potential impact on any agreed dispute resolution mechanisms and whether their agreements are valid at all.

In light of this recent judgment, clients with legacy shareholding arrangements should amend their agreements to ensure that they comply with matters of public policy in the UAE and that their arbitration agreements remain valid and effective.

Clients seeking guidance on arbitration matters in the Middle East are encouraged to reach out for expert advice from Beau McLaren and Harriet Jenkins at Simmons & Simmons.