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26 January 2021
The High Court recently found that a tribunal's admission of a simple computational error, and its refusal to correct it, was a serious irregularity that caused substantial injustice. Based on this, the court remitted an arbitration award back to the tribunal for correction so that the tribunal would have the room to carry outs its stated intention to award substantial damages to one of the parties.(1)
In February 2015 Mikhail Khabarov and Alexander Bogatikov entered into a call option deed that granted Khabarov the option to buy 30% of Bogatikov's company, DL Management Limited (DLM), for $60 million. Following a disagreement, Khabarov started arbitration proceedings under the London Court of International Arbitration Rules. It was common ground that Bogatikov had repudiated the call option deed, so the only substantive issue was the value of DLM at the relevant time to establish Khabarov's loss caused by being denied the opportunity to purchase the shares.
The parties drew up an agreed model for calculating the value of DLM on the relevant date. Although they and their experts differed (sometimes drastically) as to the values of the various inputs and adjustments to the agreed model, they did agree on the mechanics of the calculation. This included, among other things, the generation and application of an earnings before interest, taxes, depreciation and amortisation (EBITDA) profit to revenue ratio and the subtraction of historic tax liabilities from the overall valuation.
In its final award, the tribunal awarded Khabarov $58 million as compensation for his loss, by using the agreed model. Yet, doubt was expressed over the reliability of the EBITDA generated by the model in that it may have undervalued DLM (and therefore undercompensated Khabarov). However, the tribunal did not feel justified in substituting its own higher EBITDA figure because the final output of the agreed model was not, in the tribunal's view, wildly wrong. The tribunal also mistakenly added the value of DLM's historic tax liabilities rather than subtracting it. On the face of it, this mistake led to Khabarov being overcompensated by $54 million.
The tribunal refused Bogatikov's request to correct the mistake. In its response to the request, the tribunal admitted that adding rather than subtracting the tax liabilities was an error, but said that it had not applied the agreed model in a mechanistic manner and that it had reached the final loss figure via an iterative process.
Bogatikov subsequently challenged the award in court on the basis of serious irregularity (Section 68 of the Arbitration Act 1996).
The judge remitted the award back to the tribunal for correction. The tribunal's response to Bogatikov's application to correct the award could be used as evidence of its admission of the mistake; therefore, there had been a 'serious irregularity' within the meaning of Section 68(2)(i) of the Arbitration Act 1996. Bogatikov had overcome the high hurdle of demonstrating that the serious irregularity had caused (or would cause) substantial injustice to him. The judge simply stated that it could not be permitted to leave uncorrected an award which is enforceable in other jurisdictions and which contains a computational error that may lead to a significant difference in the damages payable.
The judge remitted not only those parts of the award that dealt with the historic tax liabilities (so that the computational error could be corrected), but also the parts dealing with the EBITDA value. The judge did so due to the tribunal's concerns that the EBITDA may have undervalued DLM and because the tribunal had failed to fully interrogate those concerns only because the overall outcome provided by the agreed model seemed fair. In essence, this provided a route for the tribunal to issue a new award that would reflect its intention to award substantial damages to Khabarov, but by means of a corrected calculation.
This is an interesting and unusual case. It is rare for Section 68 challenges to be successful and even rarer for an English court judge to find that there has been a serious irregularity that caused or would cause substantial injustice in such a straightforward manner. This is undoubtedly because of the unusual circumstances in which a tribunal admitted an error in its award but refused to correct it.
The judge's approach demonstrates the tightrope that the English courts must walk when dealing with these challenges: they must uphold the integrity of the arbitral process by not allowing serious mistakes to go uncorrected but must also do so by intervening as lightly as possible in order to maintain that process's independence from the courts. It may be for this reason that the judge refrained from remitting the award for the simple correction of the identified error (which would, in the tribunal's own view, have cut across its intentions) but reopened just enough of the award to allow the tribunal to correct the error while maintaining control of the ultimate outcome. Therefore, this is a good example of the court's nuanced role in maintaining the integrity and independence of arbitration in England.
For further information on this topic please contact Tatiana Minaeva or Rosy Gibson at RPC by telephone (+44 20 3060 6000) or email (email@example.com or firstname.lastname@example.org). The RPC website can be accessed at www.rpc.co.uk.
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