Challenging arbitral damages decisions
Court challenges to approved arbitral awards are still relatively unusual. Two recent attempts to overturn both the basis and but also the quantum of international arbitral damages awards again have proved unsuccessful. In each case, the court appeal or enforcement fight was based on much wider issues, with the approach by the respective tribunals to quantum issues being merely one focus area. This article, however, focuses only on the issues unsuccessfully argued concerning both the respective approaches taken by the tribunals to issues of quantum, as well as the actual value of damages awarded. Kevin Haywood Crouch of BDO explains the similarities of the superintendent court decision making processes in each of these unsuccessful challenges.
Yukos -v- Russia
On 18 February 2020, the Hague Court of Appeal gave its much-anticipated judgment in the Yukos award set-aside proceedings. In doing so, it reinstated the Permanent Court of Arbitration (PCA) awards under the Energy Charter Treaty (ECT) against the Russian Federation. These awards are worth more than US$50 billion in favour of the oil company’s former shareholders. Since then, the successful shareholders have moved quickly to again seek enforcement of the award in various jurisdictions. Of course, that is not the end of the matter, with the Russian Federation in May 2020 announcing that it had filed a cassation appeal with the Supreme Court of The Netherlands to overturn the earlier reinstatement.
At the original PCA hearing, the quantum expert on behalf of the former shareholders had calculated damages comprising of various heads of loss including the value of the shares at the expropriation date, lost dividends and loss of opportunity for business combinations and a NYSE listing. In total, the amounts claimed exceeded US$100 billion.
In contrast, Russia’s quantum expert did not advance his own valuation or damages calculation, but instead was instructed only to critique and ‘correct’ the claimants’ experts’ approach. As a result, the tribunal ultimately adopted its own approach to the valuation task-at-hand. This resulted in it rejecting certain heads of loss as well as using its own assumptions on how best to calculate the appropriate quantum of loss suffered.
At its first instance appeal to the Hague District Court, the Russian Federation was successful in obtaining annulment of the PCA awards. This resulted from a 2016 court ruling that the PCA tribunal had lacked jurisdiction under the ECT. Unsurprisingly, Yukos’s former shareholders appealed, with a direction from the Court of Appeal that it would hear these arguments alongside Russia’s other set-aside arguments. Russia’s ongoing set aside arguments then included that it had had no opportunity to comment upon the PCA tribunal’s ultimate methodology used to calculate the US$50 billion damages awarded, which Russia contended ‘double-counted’ a large part of the damages awarded.
Earlier this year, that argument was rejected by The Hague Court of Appeal, with it specifically highlighting the difficulties faced by the PCA tribunal when it was effectively presented with only one damages model:
“… it is also important to note that although the Russian Federation has extensively criticised [the Claimants’] damage calculations, it has not itself proposed an alternative valuation of Yukos [...] It is thus foreseeable that the tribunal, which took on board many of the criticisms of the Russian Federation of [the Claimants’] calculations, would calculate the damages itself, as it did in this case, on the basis of the assumptions of [the Claimants] which it considered acceptable and applying the criticisms made by the Russian Federation.
The Court of Appeal also noted that it was also by no means clear that the tribunal had adopted its own, new methodology, noting further that in any event a tribunal has the freedom to choose the damages calculation method it sees fit.
According to the appeal judgment, therefore, it concluded that arbitrators have a wide discretion under international law when addressing the issue of the quantum of damages. Once a tribunal considers that a claimant has demonstrated that it suffered damage and that the tribunal has sufficient information to proceed to assess that loss, then the tribunal has a large degree of discretion and freedom to estimate the exact amount of the loss, or damages.
This is particularly so when a tribunal has to base its estimate of loss on a hypothetical situation, in this case the hypothetical situation that Yukos had not been expropriated but had continued its business, including paying out dividends. Accordingly, the Court of Appeal found both that in determining a hypothetical situation, it necessarily represented an estimate, and that it represented a situation in which a tribunal had the necessary freedom, with sufficient information, to approach its damages assessments in the best way it saw fit, including to decide its existence and scope.
Carpatsky Petroleum Corporation -v- PJSC Ukrnafta
In another challenge to an arbitral damages award, this time in the English courts, the discretion of tribunals in setting damages, including in particular departing from expert quantum evidence, was the subject of appeal.
The appeal proceedings related to an original arbitral award made by the Stockholm Chamber of Commerce in 2010. In those original proceedings, the Claimant had calculated damages based on a discounted cash flow (DCF) model of the 25-year development of a Ukrainian gas field in which it had been determined to have an interest that it had been blocked from developing. However, similar to the Yukos proceedings, the Respondent did not provide its own alternative damages calculation, but instead critiqued the Claimants’ expert’s assumptions, illustrating the extreme sensitivity of many of the assumptions and inputs adopted within the expert’s financial model, including highlighting the model’s latent project funding gap.
In the absence of an alternative damages model from the Respondent, the arbitral tribunal again adopted the Claimant’s damages model. Although there was no joint statement between the quantum experts, certain input assumptions were agreed through the experts’ oral evidence. However, in a number of cases, the tribunal discounted those assumptions, including concerning a number of output interdependencies within the damages model. The effect was that the tribunal adjusted for itself certain values on inputs and outputs, resulting in a reduction of the amount claimed from US$400+ million to an award of US$145 million. This was achieved by addressing each input, and its unique sensitivity, separately. The result was a series of individual reductions applied to the amount claimed. However, had the tribunal requested the exact same input determinations to be applied within the damages model itself, because of the agreed internal mechanics of that model, the final award would have been lower still, at US$62 million.
In a prior challenge before the Swedish courts – the arbitration had a Stockholm seat - the Swedish Court of Appeal concluded that this discrepancy related to the merits of the case and represented the tribunal’s substantive assessment of loss. In other words, it held that even where the tribunal may have deviated from the parties’ calculations of loss and reached an incorrect conclusion by not considering certain important circumstances relating to those calculations, this did not constitute grounds for challenge of the award. It also held that even where the quantum experts agreed on issues, this also did not amount to an explicit instruction to the tribunal to calculate the amount of the loss in a specific manner.
Before the English Court of Appeal in enforcement proceedings, the Respondent again submitted that the tribunal’s approach had resulted in a procedural error, arguing that the tribunal had arrived at the answer wrong by misunderstanding or misapplying the evidence before it, and reaching a numerical result which did not follow rationally from the evidence, in this case the expert evidence. This issue was dealt with summarily by the court, finding that those were not grounds for non-enforcement of an award.
Whilst in both these cases, the appeals have been predicated on a belief that courts or tribunals are required to limit their role to certain parameters set by the parties’ experts, the reality is that courts and tribunal will seldom adopt the entire position of either parties’ expert without further assessment or adjustment. Parties consequently should consider how to best manage this issue. In most cases with damages in issue, a tribunal wields a very wide discretion on how it chooses to approach its determination of the final quantum award.
A common theme from the two cases is the absence of a formal alternative damages calculation by the respondents. This was a particular issue in the Carpatsky Ukrnafta arbitration. Even though the quantum experts had agreed on a DCF damages model that included various inter-dependent inputs and assumptions for the anticipated cashflows of the future joint venture, the opposing expert only illustrated the effect of adjusting for alternative individual input assumptions. This was intended to show how sensitive the quantum model was to those drivers of the loss calculation, but as a necessity incorporated a not uncommon expert practise of keeping all other assumptions and inputs the same. However, this approach to the DCF model did not reflect the inter-dependent nature of many of the assumptions that in reality could only be assessed in combination.
At the point, therefore, that the tribunal adopted its own conclusions on the individual assumptions, it was not in a position to understand what would have been intuitive to the quantum experts. That multiple linear adjustments within a DCF model are more likely than not to have additional, non-linear consequences.
In both the cases discussed in this article, although certain matters were agreed between the experts during their oral evidence, there were no additional binding instructions or joint statements directing how the tribunal was to, or might, proceed. Indeed, in the Carpatsky Ukrnafta case, the tribunal adopted different assumptions to those agreed between the experts during cross examination.
Nonetheless, it may have been more persuaded by a joint statement or memorandum prior to the arbitral hearing that was unprompted by examination. However, as noted by the Swedish Court of Appeal, the mere circumstance that both of the experts in their calculations proceeded on the basis of certain common assumptions did not mean that the parties were deemed to have provided a binding instruction to the arbitral tribunal to calculate the loss in a certain way. As a result, experts, as well as their instructing legal advisers, ought now to be reminded of this aspect of a tribunal’s wide discretion when it comes to its assessment of quantum in a case, and where possible, consideration should be given to pre-empting these risks.
This article takes a timely look at the wide discretion arbitral tribunals have in calculating quantum awards, and the difficulty in challenging those calculations even when tribunal calculations may seemingly not add up. A recent successful challenge just made public, albeit not the subject of this article, still took the intervention of the Court to pronounce as a ‘serious irregularity’ a simple computational error where a tribunal mistakenly added two figures together rather than subtracting one from the other. The effect in that case was to overstate the awarded damages by more than US$50 million. The subject of this article is two other recent, but unsuccessful, attempts to challenge quantum awards, and the issues that the challenges highlighted. This article will hopefully be of interest to arbitration practitioners and experts alike, with the former in particular benefitting from an understanding of the potential disadvantages of directing experts to adopt certain tactical or strategic approaches in their expert role.