Russian Supreme Court will decide on whether an arbitration clause can be disregarded in cases involving persons under sectoral sanctions

January 2022 | EXPERT BRIEFING | LITIGATION & DISPUTE RESOLUTION

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Since 2014, sanctions have been a hot topic not only for Russian companies and individuals, but also for those doing business with Russians. There are, of course, different types of sanctions – some prohibit only certain business activities with sanctioned persons (so-called sectoral sanctions), while others impose an overall freeze on the person’s assets, such as Specially Designated Nationals (SDNs) and the Blocked Persons List.

Since the introduction of sanctions, there was a feeling within Russian business and governmental circles that Russian parties would no longer be able to obtain justice in the US and Europe. Asian arbitration seats, such as Hong Kong and Singapore, that advertised themselves as ‘sanctions free’ gained increasing popularity among many Russian businesses, particularly state-owned companies. In 2020, Russian legislator amended the Arbitrazh (Commercial) Procedural Code (APC) to give Russian arbitrazh courts exclusive jurisdiction in cases involving persons subject to restrictive measures. Under the new article 248.1 of the APC, the Russian courts have exclusive jurisdiction over disputes involving sanctions persons, unless there is a treaty or agreement between the parties that provides otherwise. If there is an arbitration or forum selection clause with respect to a dispute in question, the exclusive jurisdiction of the Russian courts only arises pursuant to article 248.1(4) if the clause provides for resolution of the dispute in a foreign court or arbitration, and the clause becomes inoperative due to the sanctions that create obstacles to the sanctioned person’s access to justice.

Because the provisions are rather new, there is only limited court application of article 248.1 of the APC. Nevertheless, recent cases still provide some guidance. When courts discuss obstacles to access to justice, they usually look at whether the sanctioned person can fund the proceedings abroad – both by paying arbitration fees and by being able to hire, and pay, sufficiently qualified lawyers to handle the matter.

Most cases so far have concerned individuals on the SDN list of the Office of Foreign Assets Control (OFAC) or individuals subject to asset freeze sanctions imposed by the European Union (EU), or both. When dealing with these types of sanctions, the threshold for obstacles to access to justice is relatively low. The courts usually note that it is very difficult for individuals subject to asset freezes to make bank transfers and obtain services from professionals, including lawyers. Sometimes, the courts also point to the need to obtain a licence to render services, including administering arbitrations, involving SDN-listed individuals, and a general unwillingness of banks and law firms to deal with such people. Accordingly, the Russian courts assume exclusive jurisdiction in matters involving SDN-listed individuals relatively easily, and have already done so in five difference cases.

The situation with respect to the persons subject to sectoral sanctions is not as straightforward. To start with, most Russian state-owned companies are subject to sectoral sanctions of some sort. Unless the deal in question is prohibited by relevant sectoral sanctions, the companies are usually very active in cross-border business and their contracts would usually provide for arbitration outside of Russia.

When it comes to access to justice, sanctioned persons would not face any obstacle conducting arbitration abroad, unless it concerns transactions expressly prohibited by relevant sanctions. They would not have difficulties in making cross-border bank transfers and thus paying arbitral institutions, lawyers and other service providers. Those service providers, including arbitral institutions, would not have to obtain relevant licences to handle work for such companies. And apprehension concerning the potential bias of European arbitrators against Russian companies rings no more true than in the era before sanctions. Accordingly, as a rule, sectoral sanctions should not create obstacles to access to justice when it comes to litigating or arbitrating cases outside of Russia.

So far, there has only been one case where the application of article 248.1 of the APC was tested in the context of sectoral sanctions – Ural Transport Machinery Construction Company JSC (Uraltransmash) vs Pojazdy Szynowe PESA Bydgoszcz Spolka Akcyjna (PESA). The case concerned a contract for delivery of trams by PESA and provided for arbitration under the rules of the Arbitration Institution of the Stockholm Chamber of Commerce (SCC). In 2019, PESA commenced arbitration at the SCC claiming total unpaid costs of over €55m for certain tram cars and contractual and statutory interest and penalties.

However, since September 2014, Uraltransmash was subject to EU sanctions, pursuant to Article 5(2)(c) of Council Regulation (EU) No 833/2014 of 31 July 2014 (as amended), as the subsidiary of Uralvagonzavod. According to Article 5(2), “it shall be prohibited to directly or indirectly purchase, sell, provide investment services for or assistance in the issuance of, or otherwise deal with transferable securities and money-market instruments with a maturity exceeding 30 days, issued after 12 September 2014 by [Uraltransmash]”. In addition, under article 5(3) “it shall be prohibited to directly or indirectly make or be part of any arrangement to make new loans or credit with a maturity exceeding 30 days to [Uraltransmash]”.

With reference to these sectoral sanctions, Uraltransmash filed a claim with the Russian court pursuant to the new article 248.1 of the APC. However, the lower courts were not convinced that the sanctions made the arbitration agreement inoperable or created any obstacles for Uraltransmash’s participation in arbitration proceedings abroad. In particular, the courts noted that the sanctions in question did not affect the contract for delivery of trams by PESA and that they did not prohibit banks from handling payments in euros from Uraltransmash. Moreover, the courts noted that Uraltansmash was making payments in euros to PESA under the contract after the sanctions were imposed. Furthermore, the courts noted that Uraltransmash participated in the arbitration proceedings at the SCC, paid its share of the advance on costs, appointed an arbitrator, hired legal counsel and made written submissions throughout the proceedings. On this basis, the courts concluded that the second limb of the test under Article 248.1(4) of the APC was not established. In other words, even though the party was subject to sanctions, the arbitration clause did not become inoperative, as the sanctions did not create obstacle to access to justice for the sanctioned individuals.

The case went through numerous appeals, including to the Supreme Court, but the first instance court judgement was upheld. However, the APC also provides for a rather peculiar method of appeal: a complaint can be made to the president or one of the vice presidents of the Supreme Court, who can look at the case and refer it for consideration to a panel of three judges of the Supreme Court, if there are grounds for reverting to the lower court judgements. This route is heavily criticised, but was used in the case at hand.

The vice president of the Supreme Court referred the case to the panel of three judges. Doing so, she shared her reading of article 248.1 of the APC. According to her view, under article 248.1 the very existence of sanctions against a Russian person is sufficient to conclude that there are obstacles to access to justice for that individual or entity in the foreign state that introduced the sanctions. Since sanctions are politically motivated, the vice president continued, their introduction creates doubts as to whether the relevant dispute would be considered in a fair and unbiased manner in the foreign country. Accordingly, she concluded, there is no need for a sanctioned person to show that they have difficulties accessing justice in a foreign state, as article 248.1 of the APC essentially allows a sanctioned person to choose whether to pursue the case in a foreign court or arbitration, or to opt for the exclusive jurisdiction of the Russian courts.

This case was originally scheduled for 11 November 2021, but subsequently adjourned until 2 December 2021. If the panel of Supreme Court judges supports the vice president’s reading of article 248.1 of the APC, it would mean that any sanctioned person would be able to opt for the exclusive jurisdiction of the Russian courts any time. No distinction would be drawn between SDN-listed persons (and individuals subject to an asset freeze), on the one hand, and persons subject to various sectoral sanctions, on the other. Furthermore, whether or not the subject matter of the dispute is affected by sanctions would become irrelevant. And finally, in the eyes of Russian courts, both the state courts and private arbitral tribunals would be treated equally – as the bodies concerned with furthering the policies of their home states.

This reading would mean that many existing arbitration clauses with Russian parties may be challenged at will by a sanctioned Russian person. It would also mean that, with respect to the new arbitration clauses with Russian parties, it may be better to opt for institutions and seats of arbitration in ‘sanction free’ jurisdictions, such as Hong Kong and Singapore. However, the sanctions landscape is constantly evolving, and it is difficult to predict how things will develop. Potentially, the best approach is to make a contract with a Russian party in such a way that a foreign counterparty would not have to claim anything in the future, such as by including 100 percent advance payments for the goods to be supplied to the Russian buyer.

Andrey Panov is counsel at Allen & Overy. He can be contacted on +7 495 662 6552 or by email: andrey.panov@allenovery.com.

Andrey Panov

Allen & Overy