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NATIONAL RULES ON ARBITRABILITY AND THE VALIDITY OF AN INTERNATIONAL ARBITRAL AWARD: The Example of Disputes Regarding Petroleum Investments

in Russia*

By Giuditta Cordero Moss**


1. INTRODUCTION
1.1 Arbitrability There are various rules of national law that restrict the ability of the parties to submit to arbitration disputes between them. One of the main effects of submitting a dispute to arbitration is that the parties exclude the jurisdiction of courts of law on the same dispute; the other important effect of arbitration is that the winning party can present the award for enforcement to any court in a country where the losing party has assets.1 Arbitration enjoys such a broad recognition as long as the disputed matters concern areas that national legal systems consider suitable for self-regulation by private parties. As soon as matters of public policy or of special economic or social interest are touched on, however, it can seem less appropriate for a state to waive jurisdiction or to lend its courts authority to enforce private awards2. In such areas with
_______________ * This article is based on a lecture that I held for the Centre for Energy, Petroleum and Mineral Law and Policy, University of Dundee, on 10 November, 2000. ** PhD (Moscow), Dr. Juris (Oslo). The author is associate professor at the Institute of Private Law, University of Oslo, in charge of International Commercial Law. She is a partner in a major international law firm and she is admitted to practice law in Italy and in Norway. Her main areas of practice are: business transactions, financing, international litigation, business projects in Russia. 1 Provided that that country has ratified the New York Convention of 1958 on Recognition and Enforcement of Foreign Arbitral Awards. More than 100 countries have ratified the New York Convention. 2 In some of these areas special arbitral tribunals have been established by treaty; this article is not focusing on arbitration based on treaties, but on commercial arbitration agreed upon by the parties to a contract.

important policy implications, the states desire to preserve the jurisdiction of their own courts of law: this preference is based on the assumption that an arbitral tribunal would not be able or willing to apply the law as accurately as a judicial court would.3 We can observe a clear trend towards reducing the areas in which disputes are not deemed arbitrable. In the past decades the US legal system has undergone a clear shift from an expressed suspicion against arbitration, to an arbitration-friendly attitude;4 the same evolution can be observed in other legal systems, such as, for example, the Swedish system5. Notwithstanding this trend in favour of arbitrability, however, various areas of law are still deemed to be for the exclusive competence of courts of law. The areas where arbitrability is excluded vary from country to country: as a general rule, arbitration is usually permitted in all matters that the parties can freely dispose of. This would exclude from the scope of arbitration matters such as taxation, import and export regulations, concession of rights by administrative authorities, bankruptcy, the protection of intellectual property. These matters are mostly regulated by mandatory rules from which the parties cannot derogate. Disputes concerning the other aspects of commercial transactions, which fall within the scope of the freedom to contract, should be arbitrable.

_______________ 3 Whether this assumption is right or wrong cannot be examined within the limited scope of this article: here it may suffice to mention that various authors are of the opinion that arbitration should pay more attention to the will of the parties, rather than to rules of national law. On the contrary, other authors are of the opinion that an arbitral tribunal is not free to disregard applicable rules of law or not to follow ordinary legal reasoning (unless the tribunal has been requested by the parties to act as amiable compositeur). Each of these approaches is followed in arbitral practice. The latter approach seems to be preferable, both to ensure effectiveness and enforceability of the awards, and to avoid weakening the recognition that arbitration enjoys. For bibliographic references and an extensive analysis of the matter, see our International Arbitration. Party Autonomy and Mandatory Rules, Oslo 1999, pp. 122 f., with further references. 4 The first Supreme Court judgement recognising the arbitrability of matters that previously were deemed to be for the exclusive competence of courts of law, was Scherk v Alberto-Culver, 417 US 506 (1974). See, for further references, Carrington, P.D., and Hagen, P.H., Contract and Jurisdiction, in (8) The Supreme Court Review, 1997, 331-402, pp. 362f., and Sternlight, J.R., Panacea or Corporate Tool? Debuking the Supreme Courts Preference for Binding Arbitration, in 74 Washington University Law Quarterly 3, 1996, 637-712, p. 652. 5 See, for example, the evolution regarding the validity of arbitration clauses entered into in the framework of general conditions of contract, as it appears from the comparison of three Swedish Supreme Court decisions rendered in 1949, 1969 and 1980: Heuman, L., Current Issues in Swedish Arbitration, Stockholm 1990, pp. 22ff.

1.2 The Validity of Arbitral Awards What happens if an international arbitral tribunal accepts jurisdiction and renders an award on a dispute regarding matters that are not arbitrable? Is the validity of the award affected, and how can this invalidity be acted upon? The matter has to be divided into two: the validity of an arbitral award may first be proven by the courts in the country where the arbitral tribunal had its venue; the enforceability of an arbitral award is proven by the courts in the countries where the arbitral award is sought enforced. The validity of an international award can be verified by national courts of law only in few cases; one of the grounds for deeming an award invalid, is precisely that the dispute was not arbitrable. However, before jumping to the conclusion that an arbitral award rendered on a dispute that was not arbitrable is invalid, it will be necessary to ascertain which national law governs the question of arbitrability. To illustrate the interaction between national arbitrability rules and the validity of an international award, I will bring the example of arbitrability under Russian law of disputes regarding petroleum investments in Russia; more specifically, investments organised in the form of Production Sharing Agreements.

2. RUSSIAN PRODUCTION SHARING LEGISLATION AND ARBITRATION


A legislation permitting to explore, develop and produce hydrocarbons under the regime of Production Sharing was strongly desired and lobbied for by foreign investors and financial institutions. Why was a Production Sharing model so attractive? The answer to this question is useful to fully appreciate the relevance of the question of arbitrability of disputes.6 2.1 The Act on the Subsoil of 1992 Petroleum activity in Russia has been regulated, since 1992, by the Subsoil Act7, which provides for a system based on licences. The State is the owner of the mineral resources present within its territory, and grants the right to explore, develop and produce under certain terms and conditions, that are set forth in a licence. The licence is being granted by the State in its quality as a sovereign: thus, the licence is not a contract, and its terms and conditions are
_______________ 6 For an analysis of the legislative process in this area and for extensive bibliographic references, see our Contract or licence? Regulation of petroleum investment in Russia and foreign legal advice, Journal of Energy and Natural Resources Law, 1998, pp. 186-199. 7 No 23951 of 21 February 1992.

not mutually agreed between the state and the investor. The terms and conditions of the licence are dictated by the competent authority, and the investor is subject to them. The State retains its prerogatives as a sovereign, even after it has issued a licence: therefore, under certain circumstances, the terms and conditions of the licence may be unilaterally modified, or the licence may be revoked, without having to obtain the prior consent of the investor. In short, the licence is governed by public law, not by private law. This is a distinction that has significance in respect of the question of arbitrability. We will come back to this distinction8. 2.1.1 A Licensing Regime Assumes a Stable Investment Climate A licensing regime like the one described above seemed inappropriate to govern petroleum investments in the Russia of the 1990s, where the investment climate could not be defined as stable. An investor must rely on the stability of the investments terms and conditions: in particular petroleum projects require a huge employment of technical, human and financial resources, and it may take years before the investment starts being paid back. If there is a possibility that the conditions of the project are amended during the term of the investment, so that the project becomes economically unfeasible, the investment runs the risk of being considered as unattractive. Amendments to, for example, the licence, the tax rate, the calculation of the taxable base, the possibility to export or the access to transportation, may seriously prejudice the return on investment or even the payback. In the Russia of the 90s, foreign petroleum investment did not enjoy a favourable climate: shifting political programmes and contradictory interests threatened the stability of the framework within which the investments were supposed to be effected. The Duma was divided into a progressive wing (wishing to encourage foreign investment) and a conservative wing (wishing to enhance the Russian control on mineral resources). This lead to an impasse in the legislation on petroleum investments, and sometimes to self-contradictory regulations. Moreover, the federal authorities and the regions, which, according to the Russian constitution, have joint competence in matters regarding mineral resources, pursued each their own interests. The investor had, thus, to face contradictory or cumulative directives by central and local authorities. Another cause of uncertainty was the struggle for power that various governmental agencies conducted against each other, for the purpose of enhancing their authority in the field of mineral resources. It seems clear that a licensing regime was not a satisfactory framework for petroleum investments that might be affected by continuous shifts in political directions or power balance.
_______________ 8 See below, 3.1 and 3.2.

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2.2 The Production Sharing Act of 1995 (99) Based on the observation that a licensing system was not appropriate to govern petroleum investments, the legislature started to focus on a contractual regime, that of the Production Sharing. A Production Sharing Act was enacted in Russia in 19959, and significantly improved in 199910. 2.2.1 Contractual Regime Very briefly, a Production Sharing regime is based on a contract, entered into by the investor and the host country, whereby the investor is granted the right to carry out petroleum operations, and the petroleum production is split into three parts: (i) the Cost Oil, which covers the costs incurred by the investor in connection with the petroleum operations, (ii) the Government Take, which goes to the host country, and replaces some of or all of the taxes and charges that would otherwise be payable by the investor, and (iii) the Profit Oil, which goes to the investor. The main characteristics of the Production Sharing system is that all terms and conditions of the investment, including also taxation, are regulated contractually between the host country and the investor. This means that any changes to such conditions would be changes to a contract (the Production Sharing Agreement), and would require the consent of both parties. In a Production Sharing system the State is acting as a contractual party (within the sphere of private law), as opposed to the licensing system, where the State acts as a sovereign (within the sphere of public law). 2.2.2 Contractual Regime and Arbitration A contractual regime like the one just described is capable of balancing an instable investment climate, provided, however, that it is combined with a mechanism for solving disputes that ensures a neutral and independent process. Courts of ordinary jurisdiction or courts of arbitration, if they are seated in the host country, might be subject to the pressure of the double role of the State: the host country acts both as a party to the disputed contract, and as a sovereign, which may modify the framework to which the contract is subject. A neutral proceeding is more likely to be carried out if the court is an international arbitral tribunal.

_______________ 9 No 225-FZ of 30 December 1995. 10 Amendments dated 7 January 1999.

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3. ARBITRATION UNDER THE PRODUCTION SHARING ACT


The Russian Production Sharing Act opens for the possibility to solve disputes arising out of the Production Sharing Agreement by international arbitration (section 22). However, as we will see below, the scope of arbitration is not completely clear. 3.1 Only Contractual Matters and Matters of Private Law are Arbitrable Section 22 of the Production Sharing Act defines as arbitrable any disputes regarding the performance, the termination or the validity of the Production Sharing Agreement: it is the contractual matters, that are submitted to arbitration. As contractual may be considered those matters that the parties may regulate according to their freedom to contract: the parties do not enjoy freedom to contract if a matter is regulated by public law. This is in consistence with the scope of arbitrability as determined in a vast number of countries:11 the disputes that can be submitted to arbitration are the disputes regarding contractual matters and other matters regulated by private law. The scope of arbitrability is limited for the purpose of preserving the jurisdiction of ordinary courts when the dispute has a public law character: public law matters are considered sensitive matters that have important policy implications, and the ordinary courts are considered as the only appropriate forum to deal with such important issues. 3.2 Do Petroleum Disputes have a Contractual and Private Law Character? How are disputes under Production Sharing Agreements affected by the fact that the disputes that are arbitrable are disputes regarding contractual matters and matters of private law? Operations regarding natural resources may be qualified, according to the new Russian civil code,12 as operations having a private law character. There_______________ 11 See, for example, section 452.1 of the Norwegian Civil Procedure Act, section 1 of the Swedish Arbitration Act, section 806 of the Italian Civil Code. Even more restricted is section 2061 of the French Civil Code. In other countries, on the contrary, the scope of arbitrability is wider: the English Arbitration Act, for example, considers arbitrable also disputes that are not contractual, and the same does the UNCITRAL Model Law (section 7.1). The Swiss Private International Law Act defines as arbitrable all disputes having a patrimonial character (section 177.1). 12 Chapter 17 of the Civil Code.

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fore, nothing seems, prima facie, to limit the arbitrability of disputes arising in connection with Production Sharing Agreements. However, the Production Sharing Act makes reference to, and renders applicable to the Production Sharing Agreement, prevailing Russian law in a series of respects that have public law character, such as licensing13, taxation14, accounting15, regulation on export16. At some point, during the drafting of the Production Sharing Act, a formulation was inserted, that defined as matters of private law all matters related to petroleum operations, if such operations were subject to the Production Sharing regime.17 The aim of this formulation was, inter alia, to ensure that any dispute arising in connection with a Production Sharing Agreement be arbitrable. However, the final version of the Act achieved quite the opposite result: section 1.3 of the Production Sharing Act states that those rights and obligations of the parties to a Production Sharing Agreement, that have a private law character, are regulated by the Production Sharing Act and by Russian private law. The final formulation of the Production Sharing Act, thus, does not qualify all rights and obligations arising out of a Production Sharing Agreement as matters of private law; it simply establishes that, to the extent the rights and obligations have private law nature, they will be regulated by Russian private law. Section 1.3, therefore, quite clearly implies that some rights and obligations under a Production Sharing Agreement have not a private law character and are not regulated by Russian private law. These rights and obligations have, consequently, a public law character, and are regulated by Russian public law: for example, in the area of licensing, taxation, determination of the taxable base, export of the production, the Production Sharing Act expressly states that the Production Sharing Agreement is subject to the relevant legislation, having a public law character. Among other consequences, disputes arising in connection with such rights and obligations are not arbitrable: it is evident that these aspects might have a significant importance for the economic feasibility of an investment.

_______________ 13 Section 4. 14 Section 13. 15 Section 8. 16 Section 9. 17 See Knoplyanik, A., Sosna, S. and Subbotin, M., Russia is Looking for Concession Legislation, in (6) Oil and Gas Law and Taxation Review, 1995, 246-250. For further bibliographic references, see our Contract or Licence?, o.c., 1998, p. 197 at footnote 36.

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3.3 Can the Grandfathering Clause extend Arbitrability of Disputes under the Production Sharing Act? The Production Sharing Act contains two sections, so-called grandfathering clauses, that provide for compensation to the investor: (i) in case of imposition of taxes or charges by the local authorities in violation of the Production Sharing Agreement (section 13), and (ii) in case the economic position of the investor is negatively affected by new rules introduced by federal legislation, local legislation or local governments (section 17). To the extent these grandfathering clauses become applicable, therefore, a dispute arising in connection with such compensation may be considered as a dispute relating to a contractual obligation of the state (the obligation to compensate the investor in case of changes in legislation of public law which affect the investment). Disputes regarding modifications of public law cannot be arbitrated, but disputes regarding the states obligation to compensate in case of any such modifications can be arbitrated. But have these grandfathering clauses completely solved the question of arbitrability? The states obligation to compensate the investor (which is the arbitrable matter) is applicable only in case of changes introduced by federal legislation, local legislation, local governments. Changes introduced by the federal government do not trigger any obligation to compensate, and neither do changes in the interpretation of, or application of existing federal or local legislation. Many hypothetical examples can be thought of, where the conditions of the investment may be subject to modifications because of new governmental regulations or new practices by the authorities: just to name one example, section 8 of the Production Sharing Act states that the determination of which costs can be recovered under the Cost Oil is made by governmental regulation. Amendments to such governmental regulation, therefore, are capable of modifying, and rather significantly, the conditions of the investment. A governmental regulation on this matter has, arguably, a public law character, and disputes in connection therewith are not arbitrable. The grandfathering clause is not triggered, because amendments to governmental norms fall outside of its scope; therefore, there is no contractual obligation of the state that can be arbitrated. In conclusion, not all disputes arising in connection with a Production Sharing Agreement are arbitrable under Russian law.

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4. WHAT DOES ARBITRABILITY UNDER RUSSIAN LAW MEAN FOR THE VALIDITY OF AN INTERNATIONAL ARBITRAL AWARD?
What if an international arbitral tribunal has nevertheless accepted jurisdiction and rendered an award in connection with a dispute that regards the public law aspects of a Production Sharing Agreement? 4.1 The Impact of National Legislation on Arbitration: Judicial Control International arbitration enjoys a wide recognition among contractual parties: as a mechanism for dispute resolution, it is efficient, it ensures confidentiality, it is rapid and the awards can be easily enforced. All these characteristics are achieved by way of a delicate balance between, on one hand, the arbitral tribunals duty to follow the parties will in all matters relating to the scope and the procedure of arbitration, and, on the other hand, the national courts possibility to exercise control on the arbitral tribunals accuracy in applying the law. 4.1.1 Arbitration is Based on the Parties Will Arbitration is a method for solving disputes which is based on the will of the parties: if the parties had not agreed to submit their dispute to arbitration, the arbitral tribunal would not have any authority in connection with that dispute (in the case of ad hoc arbitration, the tribunal would not even exist). The scope of the tribunals authority is also determined by the parties, who may elect to exclude certain aspects of their dispute from the arbitral proceedings18; the procedure to be followed by the arbitral tribunal19 and the law to be applied
_______________ 18 An arbitral award that decides on matters that were not submitted to arbitration by the parties, is invalid and may set aside under most national laws on arbitration see, for example, article 34.2 (iii) of the UNCITRAL Model Law on International Commercial Arbitration, that has been adopted in more than 30 countries; among the countries that have not adopted literally the Model Law, see, for example, art. 34.2 of the Swedish Arbitration Act; art. 1502 no 3 of the French Code of Civil Procedure combined with art. 1504.1; article 190.2.(c) of the Swiss Private International Law Act; Section 68(2)(b) of the English Arbitration Act. Moreover, an award that exceeds the powers that were granted by the parties may be refused enforcement under the New York Convention, see article V.1.(c). 19 Within the few limits of its own mandatory rules, the UNCITRAL Model Law on International Commercial Arbitration states that the parties are free to determine the procedure to be followed by the arbitral tribunal (art. 19.1). See also the English Arbitration Act, section 1 (b), and the Swedish Arbitration Act, especially art. 21. Some legislations even permit the parties to choose for the procedure of the arbitration a law different from the law of the country where the arbitral proceeding takes place: see, for example, art, 182.1 of the Swiss Private International Law Act and art. 1494 of the French Code of Civil Procedure.

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to the merits20 are also determined by the parties. In summary, arbitration is founded on the agreement between the parties. An arbitral award is, as a general rule, final, and not subject to review by ordinary courts. Once an arbitral award is rendered, the dispute between the parties is finally solved. As known, this is considered the main reason why arbitration is such an attractive method for dispute resolution: the parties may tailor the proceeding to their needs, and thus ensure that the arbitration proceeds in an effective, rapid and appropriate manner. 4.1.2 Arbitration Depends on the Recognition by National Legal Systems However, arbitration is not purely a contractual matter between the parties: national laws and international conventions recognise also a judicial function to arbitration. The most notable aspects of such recognition are the exclusion of the jurisdiction of ordinary courts if the parties have agreed that a dispute shall be solved by arbitration21, and the enforceability of an arbitral award by ordinary courts22. Thanks to these legal effects, arbitration is recognised as a method to solve disputes, which is in alternative to national courts of law; without these legal effects, arbitration would simply be a contractual means that depends on the voluntary fulfilment by the parties. To justify this recognition, the legal systems must provide a certain framework for arbitration, to ensure that the most basic principles of dispute resolution are taken due care of. 4.1.3 Judicial Control: Two Phases The efficiency and attractiveness of arbitration will depend on the balance that any given legal system creates between the two characteristics of arbitration that I just mentioned: if the contractual character is given too much primacy, the parties might be left without the proper means of guaranteeing due process
_______________ 20 The rule of party autonomy, that permits the parties to choose the law governing their legal relationship, is recognised within the vast majority of legal systems as the most important choice-of-law rule. The importance of this rule is confirmed also in the context of arbitration, see, for example, art. 28.2 of the Model Law, section 46.3 of the English Arbitration Act, article 187.1 of the Swiss Private International Law Act, article 1496 of the French Code of Civil Procedure. 21 The exclusion of the jurisdiction of courts of law is provided by art. II of the New York Convention on Recognition and Enforcement of Foreign Arbitral Awards of 1958. The New York Convention has been ratified by more than 100 countries, this means that arbitration agreements enjoy a wide and uniform recognition. 22 The enforceability of arbitral awards is regulated by the New York Convention, which provides in article V a simple procedure for ensuring enforcement. As mentioned in the previous footnote, the New York Convention represents a uniform regulation in more than 100 countries.

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of law; if the judicial character is emphasised too much, the arbitral proceeding might lose the speed and finality which are of the essence for efficient arbitration. An arbitral award may not be reviewed in the merits by national courts, but the validity of an arbitral award may be controlled by a judicial court. There are two phases in which an award can be controlled: if the losing party challenges the award before the courts of the country where the arbitral tribunal had its venue, and if the winning party seeks enforcement of the award by a court in any country where the losing party has sufficient assets. In the first phase, the phase of challenge, the award may be set aside if it is deemed invalid by the court; grounds for setting aside are determined by the national law of the court of challenge. In the second phase, the phase of enforcement, enforcement of an award may be refused if the court deems the award invalid; grounds for refusing enforcement are determined, in the vast majority of countries, by the New York Convention of 1958 on Recognition and Enforcement of Foreign Arbitral Awards. To a great extent the grounds for invalidity of an award are similar in both phases; however, there might be differences or national peculiarities in connection with the grounds for challenge, that are contained in national law rather than being uniformly regulated by an international convention. In general, the scope of judicial control is extremely restricted, and limited to verifying the respect of basic principles of due process, such as the validity of the arbitral agreement, the constitution of the arbitral tribunal, the regularity of the proceedings. 4.2 Arbitral Award Invalid Because of Lack of Arbitrability If the subject-matter of a dispute is not arbitrable, an arbitral award rendered on that subject is invalid: this is generally regulated by national laws, in respect of the phase of challenge, and uniformly regulated by the New York Convention, article V.2 (a), in respect of the phase of enforcement. What does this mean for an arbitral award? If the losing party voluntarily carries out the award, the invalidity of the award has no consequences. As known, the vast majority of arbitral awards is actually carried out voluntarily23, out of various considerations made by the
_______________ 23 For a substantiation of this statement see, for example, Redfern, A., Hunter, M., Law and Practice of International Commercial Arbitration, London 1999 (3rd ed.), pp. 443ff. Both national arbitration laws and the New York Convention are based on the general rule that arbitral awards are final and binding. The grounds for challenging the validity of an award or for opposing its enforcement are listed exhaustively and do not permit review in the merits or wide-ranging appeals. See, for example, article 34 of the UNCITRAL Model Law, art. 34 of the Swedish Arbitration Act, art. 1502 of the French Code of Civil Procedure combined with art. 1504;

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losing party (mainly, the losing party wishing to avoid negative effects on its commercial reputation, as not fulfilling an arbitral award is usually looked upon as despicable). The vast majority of the awards, therefore, never ends up in court: therefore, the lack of arbitrability and the following invalidity of the award have no consequences. The number of losing parties who challenge the arbitral award before the courts of the country where the tribunal had its seat has, traditionally, been extremely low, but is increasing: if the court of challenge deems the award invalid, the award is set aside. It might still be possible to enforce an award that was annulled: there are some extremely controversial precedents in France24 and the USA25. As a general rule, however, an award that has been set aside by the courts of the country where the award was made, is deprived of any legal effects26. More common (although, as mentioned, only in respect of a minority of cases) is that the losing party simply refuses to carry out the award, for example does not pay the amounts that the award directs it to pay. In such case, the winning party has to seek assistance by the courts of the country where the losing party has assets, to obtain enforcement of the award. If the court of enforcement deems the award invalid, it wont enforce the award. This does not prevent the winning party from seeking enforcement by the courts of other countries, if the losing party has assets in other countries as well.

_________________________________________________________________________________ article 190 of the Swiss Private International Law Act; Section 68(2) of the English Arbitration Act. In respect of enforcement under the New York Convention, see article V. 24 The most known case is the OTV v. Hilmarton: an award was rendered in Switzerland (ICC, No 5622 of 1988), then annulled by the competent Swiss court, subsequently recognised in France: see International Council for Commercial Arbitration, Yearbook- Commercial Arbitration, XIX (1994), 655-657, and XIX (1995), 663-665. Following the annulment of the award in Switzerland, a new arbitral proceeding was initiated, that resulted in an award conflicting with the previous one. This second award was also enforced in France: see Yearbook-Commercial Arbitration XX (1995), 194-197. After various conflicting decisions, the French Supreme Court quashed the decisions enforcing the second award, maintaining the enforcement of the first, annulled award: see Yearbook-Commercial Arbitration (XXII) 1997, 696-698. For further bibliographic references, see our International Commercial Arbitration, o.c., 1999, pp. 240 ff., at footnote 584. 25 Chromalloy Aeroservices v. Arab Republic of Egypt, 939 F.Supp. 907 (D.D.C. 1996). For bibliographic references, see our International Commercial Arbitration, o.c., 1999, pp. 242 ff., at footnotes 587ff. 26 See, for example, van den Berg., A.J., Annulment of Awards in International Arbitration, in International Arbitration in the 21st Century: Towards Judicialization and Uniformity?, Lillich R. and Brower C. (eds), 1993, 133-162, 137ff.

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4.2.1 Law Governing the Question of Arbitrability Having established that an arbitral award is invalid if it is made on a dispute which is not arbitrable, however, is not sufficient to answer our question on the impact of Russian arbitrability on arbitral awards: we must also establish which law determines whether the dispute is arbitrable or not. (a) Choice of Governing Law in the Phase of Challenge National laws may vary from country to country when it comes to determining what law is applicable to the question of arbitrability in connection with a challenge of an award. The most common criterion seems to be that of the law of the country where the arbitral tribunal had its seat. The law of the arbitral seat is expressly mentioned by art. 34.2. (b) (i) of the UNCITRAL Model Law on International Arbitration of 1985, prepared by the United Nations Commission for International Trade and adopted by a large number of countries. It might be argued that the question of arbitrability might affect also the validity of the arbitration agreement, and invalidity of the arbitration agreement is, in turn, one of the grounds that under the UNCITRAL Model Law may be reason to set aside an award (art. 34.2. (a) (i)). If this view is accepted, than arbitrability of the dispute has to be verified in respect of the law chosen by the parties to govern (not the dispute, but) the arbitration agreement27 or, failing a choice by the parties, the law of the country where the award was made. The law of the arbitral seat is also designated by article 33.1 of the Swedish Arbitration Act; Swedish arbitration law has particular significance in the context of this article, as Stockholm has traditionally been and still is the
_______________ 27 Generally, arbitration is governed by the arbitration law of the place where the tribunal has its venue (territoriality principle): see, for example, the Swedish Arbitration Act, section 46, The Swiss Private International Law Act, section 176, the English Arbitration Act, section 2, the Italian Code of Civil Procedure, section 816.1, the UNCITRAL Model Law, section 1.2. The territoriality principle prevails only for the law governing the arbitration, and does not extend to cover also the law governing the merits of the dispute. The law governing the merits of the dispute is the law chosen by the parties or, failing such choice, the law applicable according to the conflict rules that the tribunal considers applicable (for example, UNCITRAL Model Law, section 28.2, English Arbitration Act, section 46.3), or the law that has the closest connection with the disputed matter (for example, Swiss Private International Law Act, section 187.1, Italian Code of Civil Procedure, section 834), or the law that the tribunal deems applicable (for example, French Civil Procedure Code, section 1496). Some countries have opened also for the parties to choose the law governing the arbitration, that is, for the parties to derogate the territoriality principle in respect of the arbitration: see, for example, the Swiss Private International Law Act, section 182.1, and the French Civil Procedure Code, section 1494. Choice of the law governing a contract between the parties, however, is not equal to choice of the law governing the arbitration. If the parties wish that the arbitration is regulated by a law different from the law of the place where the arbitral tribunal is seated, they have to refer the choice expressly to the arbitration (assuming that the arbitration law of the place of arbitration permits to make such a choice).

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preferred venue for arbitration between Western and Russian parties28. In addition to the law of the arbitral seat, the question of arbitrability may be proven also under the law applicable to the arbitration agreement (art. 34.1)29: this would be the law chosen by the parties to govern the arbitration agreement, or the law of the arbitral seat. Other national laws do not mention expressly the law applicable to the question of arbitrability, but it seems possible to designate the law of the arbitral seat by way of a systematic construction of each arbitration law (for example, the Swiss Private International Law Act defines in article 177 what disputes are arbitrable, and determines in article 176 that Swiss arbitration law is applicable to all arbitrations that take place in Switzerland). (b) Choice of Governing Law in the Phase of Enforcement The New York Convention clearly determines the law governing arbitrability: enforcement of an award may be refused by the enforcement court if the subject matter of the difference is not capable of settlement by arbitration under the law of that country. It is the law of the enforcement court that governs whether the dispute was arbitrable or not. In respect of the New York Convention it is rather controversial whether arbitrability might fall also under the scope of art. V.1. (a) of the New York Convention, which provides that invalidity of the arbitration agreement is one of the grounds that may justify a refusal to enforce the award30. If this view is accepted, then arbitrability of the dispute has to be verified not only in respect of the law of the enforcement court, but also in respect of the law governing the arbitration agreement. The New York Convention determines the law governing the arbitration agreement as the law chosen by the parties to govern specifically the arbitration agreement (and not, generally, the dispute)31 or, failing a choice by the parties, the law of the country where the award was made.
_______________ 28 The Arbitration Institute of the Stockholm Chamber of Commerce was recommended in 1977 as the venue for resolving disputes between US and USSR parties by the American Arbitration Association and the USSR Chamber of Commerce. Stockholm continues to be a preferred arbitration venue for East-West disputes even after the changed political situation and the decreased importance of considerations on political neutrality: see, for example, the text of the 1992 optional arbitration clause for use in contracts in USA-Russian trade and investment, prepared by the American Arbitration Association and the Chamber of Commerce and Industry of the Russian Federation, recommending arbitration in Sweden under the UNCITRAL Rules, in Yearbook-Commercial Arbitration XIX (1994), 279-282. 29 See Heuman, L., Skiljemannartt, Stockholm 1999, 702. 30 The most authoritative commentator to the New York Convention excludes that the question of arbitrability can be considered as falling also within the scope of the validity of the arbitration agreement: see van den Berg, A.J., The New York Arbitration Convention of 1958, 1981, 288f. 31 See, for example, van den Berg, The New York Arbitration Convention, o.c., 291 ff. In respect of Swedish law, see Heuman, Skiljemannartt, o.c., 697f.

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(c) Applicable Laws In conclusion, the invalidity of an arbitral award because of lack of arbitrability may lead to annulment or refusal to enforce the award only if the dispute was not arbitrable according to the law of the arbitral seat, or the law of the enforcement court, or the law chosen by the parties to govern the arbitration agreement. The law that governs the merits of the dispute, on the contrary, is not applicable to the question of arbitrability. 4.3 Russian Arbitrability Rules and International Arbitral Awards The foregoing shows that Russian rules on arbitrability may affect the validity of an international arbitration award only in the following two cases: (i) if the award is sought enforced in the territory of Russia, or (ii) if the parties have subjected the arbitration agreement to Russian law. 4.3.1 Arbitration Agreement Governed by Russian Law? In respect of this latter case, it must be mentioned that it is extremely unusual and not recommendable to subject an arbitration agreement to a law different from the law of the country where the arbitration will take place32. I would like to refer to the considerations made earlier on how important it is to have a neutral and independent arbitration, in cases when the relationship between the contractual parties is not balanced: in this context, it is important to have an arbitration which is geographically placed in a third country, but even more important is that the arbitration has an independent legal framework. Therefore, choice of the arbitral seat and choice of the arbitral seats arbitration law should go hand in hand. The arbitration and the arbitration agreement are governed by the law of the arbitral seat, unless the parties decide otherwise; and I would like to remind that choice by the parties of another law to govern the commercial agreement or the merits of the dispute does not imply that the parties have chosen that law also to govern the arbitration agreement.

_______________ 32 In England, a High Court decision ([1993] 3 Lloyds Rep, 48 commented that in theory it would be possible to submit arbitration to a procedural law different from the law of the country where the arbitral tribunal has its venue, but the result would be highly unsatisfactory or absurd. On the adequacy of considering that the law governing the arbitral agreement is the law of the country where the tribunal is seated, see Mann, F.A., Lex facit arbitrum, in Liber Amicorum for Martin Domke, The Hague, 1967, 157- 183, 164ff.

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4.4 Other Countries Arbitrability Rules We have now established that Russian limitations on the arbitrability of disputes regarding Production Sharing Agreements may be relevant primarily if the arbitral award is sought enforced in Russia. We have also established that the arbitrability rules of the arbitral seat and of the enforcement court are applicable and may impair the validity of the award. What if one of these applicable arbitration laws contains a rule excluding arbitrability of matters that have a public law character? The Swedish Arbitration Act (art. 1) permits to arbitrate only disputes on matters where the parties enjoy contractual freedom: therefore, matters of public law are not arbitrable33. Would an award rendered in Stockholm on a dispute, for example, between a US investor and the Russian state, arising out of a Production Sharing Agreement, be deemed invalid by a Swedish court on the ground that the disputed matter was not arbitrable under Swedish law? 4.4.1 Scope of the Arbitrability Rule To answer the question it may be useful to remind of the rationale of the arbitrability rule: the arbitrability rule is meant to preserve the jurisdiction of the courts of law in certain areas of law that are deemed to deserve a particularly accurate application of the law. This affects, particularly, areas of law with public policy implications, where the public interest is deemed to prevail against the freedom of the parties to regulate their own interests. The legal system does not consider private mechanisms of dispute resolution as sufficiently reliable in this context, and wishes to maintain the jurisdiction of its own national courts of law. How does this rationale apply to our US-Russian arbitration in Stockholm? We assume that the dispute regards the application by Russian authorities of tax law. Disputes regarding taxation are not arbitrable under Swedish law; the Swedish legal system does not intend to renounce to the jurisdiction of Swedish courts of law in favour of a private arbitration. Assuming that the Swedish court set aside the Swedish arbitral award, on the ground that the dispute was not arbitrable: would that mean that Swedish courts of law have jurisdiction on the dispute? Of course not: Swedish courts have no jurisdiction and no interest in exercising jurisdiction on that dispute, because the subject matter has no connection with Sweden and is not subject to Swedish law. The rationale of the arbitrability rule, in short, is not applicable if the dispute has no contact with the country where the arbitration takes place. Then why should the arbitrability rule be applicable?

_______________ 33 For more extensive comments on the scope of the arbitrability rule under Swedish law, see Heuman, Skiljemannartt, o.c., pp.

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4.4.2 Arbitrability Rule like Ordre Public Rule? It may be advocated that, if a dispute has no connection with the legal system of the arbitral seat, the arbitrability rule should be applicable to set aside an award only if the annulment of the award is necessary to avoid an unacceptable result to which the arbitral tribunal has come34. In itself, the fact that the arbitral tribunal has resolved a dispute that is not arbitrable under the law of the arbitral seat would not be unacceptable: the courts of the arbitral seat would have neither the interest nor the competence to apply their own law to that dispute. What would be unacceptable is a decision made in a specific case, for example, because it has given effect to an agreement that violated a UN embargo. In short, what should be an annulment ground in this situation is not the fact that the tribunal has exercised jurisdiction on the dispute, but the fact that the result of the decision conflicts with the fundamental principles of the courts law. In situations where the dispute does not have any links with the legal system of the arbitral seat, therefore, the arbitrability clause would overlap with the ordre public clause35. 4.4.3 Evaluation on the Basis of the Specific Circumstances The evaluation of the awards validity, in other words, cannot be made in advance, automatically applying an abstract measure of arbitrability; the evaluation of the awards validity has to be made on the basis of the specific decision rendered in the particular case, and measuring the actual decision against fundamental principles of the courts law.
_______________ 34 For a more extensive analysis of the matter see van den Berg, A.J., The New York Arbitration Convention of 1985, Deventer 1981, pp. 360, 368 ff., III-5.1, footnote 337, who considers the arbitrability rule as a sub-concept of the ordre public rule, and therefore superfluous. Partially in the same direction, within Swedish law, Heuman, Skiljemannartt, o.c., p. 701, stating that a dispute that would not be deemed arbitrable if it was domestic, may still be arbitrated if it has an international character. Implying that the arbitrability rule of domestic law coincides with the international public policy of the seat of arbitration, B. Hanotiau, The Law Applicable to Arbitrability, in ICCA Congress Series no. 9, 40 Years of Application of the New York Convention, The Hague etc. 1999, pp.146-167, 158, For a more extensive discussion, as well as references to some judicial decisions confirming this theory, see our International Commercial Arbitration, o.c., 293f. 35 Ordre public is an open category encompassing the fundamental principles of a legal system. Traditionally it is interpreted in a very restrictive manner: not all mandatory rules of law are considered to be rules of ordre public, only those that are deemed to constitute the basic principles of a system. In connection with international disputes, the content of ordre public is generally considered to be even more restricted, so that an international disputes avoids to be made subject to principles which are peculiar only to one system or are the expression of merely local policies. For an analysis of the scope of ordre public in the context of international arbitration, as well as a criticism of the notion of international ordre public, see our International Commercial Arbitration, o.c., pp. 308-311, 313, 356-360, with further bibliographic references.

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The court of challenge might conclude, in certain cases, that the award runs against the fundamental principles of the courts legal system, because, e.g., it decided on matters clearly belonging to the sphere of sovereignty of the host country (in our example, Russian law). For example, an award deciding that the investor is not subject to paying certain taxes introduced by Russian law, would be an award that decides on matters that belong to the sphere of Russian sovereignty. A court of challenge may consider this award as running against the principles of comity between nations; therefore, the award may be set aside because it violates the principle of comity in the courts legal system. In other cases, the court of challenge might conclude that the award is valid, even if it decided on matters that are not arbitrable under the courts law. For example, an award deciding that the investor is entitled to a certain compensation as a consequence of modifications to Russian taxation law, would be an award that decides on matters relating to taxation, therefore not arbitrable. However, the award would be aimed not at restricting the sphere of sovereignty of the Russian state, but at reinstating the balance of interests in the contract between the investor and the state. Even if the dispute is not arbitrable under the courts law, the award may still be deemed valid. Violation of the arbitrability rule is not, in itself, sufficient to annul an award (when the court has no jurisdiction on the dispute); as long as the award does not violate other fundamental principles of the courts legal system, the award is valid.

5. CONCLUSION
In conclusion: the Russian Production Sharing Act permits to submit to international arbitration only some of the disputes that may arise out of Production Sharing Agreements. Should, nevertheless, an international arbitration be initiated to solve a dispute that is not arbitrable under the Russian Production Sharing Act, the arbitral award may be considered to be valid, unless the parties have determined that the arbitration agreement is subject to Russian law. If the award does not violate other principles in the courts law than the arbitrability rule, the award is valid. The arbitral award would remain valid, even if the Production Sharing Agreement and the merits of the dispute are governed by Russian law. The arbitral award may be enforced in any country where the losing party has assets; however, the award will not be enforceable in Russia.

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