Arbitrators' powers to order security

THE ultimate success of any arbitration is determined by the availability of funds to satisfy the sums awarded. No doubt some purists will bristle at this crass, mercenary statement, but if conducting arbitrations were not about winning, why even start one? One arbitrator once said, and this is presumably tongue-in-cheek, "Arbitration is hoping for a miracle, and if that doesn't work, then it is about prolonging the inevitable as long as possible."

Whatever the motivation, the expectation at the end of the arbitration is that the award will be satisfied. In aid of this goal, a variety of remedies exist - attachments, liens, arrests, bonds, escrows, etc. However, unless volunteered, most of these remedies cost money and involve time losses.

Over recent years, there has been an increased trend of parties applying to arbitrators for security requests. There is no question that arbitrators have the power to do so, but should it be granted every time it is requested? On the face of it, the ordering of security appears to be a reasonable and sound approach. Why then are there reservations to an across-the-board application?

For example, in a lacklustre freight market, owner A is looking for employment. The usual well-known charterer is willing to pay "last done" or hoping for less. A then finds a piece of business with a lesser-known charterer, which suits the vessel's onward employment. Charterer B is willing to pay ten per cent more than the current market. Since A does not recognize B as a regular player, A asks B for a performance guarantee or bond, which B, relying on the weak freight market, declines. A now evaluates the risks involved and decides that, since most fixtures are performed without problems, the higher rate, as well as the business in connection with the vessel's future employment, justifies, and hopefully compensates, for the risk of dealing with the unknown charterer.

Although this hypothetical case can develop into various and more complicated scenarios, we will, for the purpose of illustration, stick with a basic plot. The vessel is delivered into charter, the cargo is loaded, the first and second hires are paid, and the vessel is enroute to its discharging port.

A checks with the agents and learns that the vessel will encounter substantial delays, exceeding the originally expected time frame. Since B had punctually paid hire when due, A is not concerned, particularly since the market had dropped a bit more and A's future looks very attractive. When the third hire payment becomes due, there is a delay, but a flurry of explanations and excuses pacifies A.

The discharging prospects remain uncertain, and A learns that B is having difficulties in payment of freight on another vessel. A becomes concerned and, when the next hire does not arrive, A invokes the arbitration clause, claiming for unpaid hire. B acknowledges that some hire is due, but there may be a performance claim, which would greatly offset any hire due.

In arbitration, a panel is formed and hears, as the first order of business, A's demand for a partial final award for unpaid hire. The second request is for security to cover the anticipated balance of the time charter. A justifies this request by pointing to B's less-than-stellar performance and market rumours that B is encountering cashflow problems.

What position should the panel take? It is clear that, unless the deduction for performance claims is sanctioned in a charter party clause, A is entitled to full hire as due. B has a potential claim for performance, which, however, requires proof. Should B be entitled to security from A for the potential performance claim? Should A be entitled to security for the balance of hire period?

Some may answer that, of course, security should be established, as otherwise any award may remain unpaid, depriving the claimant of its earned rewards. Others may argue that security should not be posted, as the parties knowingly entered into this charter party, and particularly with A being aware of the financial condition of B at the time of the fixture. When A concluded a contract with B, it took a risk on the financial stability, but in turn obtained an above-market rate. To request B to now put up security would place A into a better position that it was at the time of fixing, as A would not only be guaranteed financial stability, in the form of a bond, an escrow or letter of credit, but a higher-than-market rate as well.

Like so many times, the truth probably lies somewhere in the middle. Requests for security should be carefully considered by the arbitrators and should not be granted just for the asking. The arbitrators must remember the importance of the status quo. Neither party should be placed in a better contractual or economic position than it was at the time of fixing. The following cases are of interest in this connection.

One of the earlier arbitration cases was East Asiatic Company v Transamerica Steamship, for the vessels Camar (SMA Award 2430) and Cinchona (SMA Award 2430A), both issued in 1988. These two cases have been cited over and over again as the basis for the appropriateness of ordering security. The language in the panel's preliminary findings was identical, except for the dollar amounts and charter party dates. Specifically, the arbitrators stated:

"The panel has considered owners' and charterers' arguments regarding the interpretation of Clause 33 of the charter party dated September 23, 1975, and finds that it is premature and inappropriate to issue an interim award in owners' favour at this time.

However, in view of the facts and circumstances presented, and in the interest of equity, the panel hereby directs charterers to deposit the sum of $84,183.62 in an interest-bearing joint escrow account, or alternatively, to provide said funds in a form acceptable to owners, no later than 30 days henceforth, to abide the panel's final determination of the ultimate liability or proportionate liabilities as between owners and charterers arising from the cargo loss and damage in dispute. Said principal and interest shall be released and disbursed as directed in the panel's final award, after appeal, if any, or in the event of settlement, upon the joint written instructions of counsel for each party."

In response to the motion to confirm, the court held:

"The awards in this case ordering the payment of funds into escrow were designed to protect East Asiatic's claims pending the final determination of liability for the cargo loss. As petitioner has urged, if the confirmation of the arbitrator's [sic] awards were refused, the entire purpose of the award would be frustrated and the awards would be a futile exercise of the arbitrator's [sic] powers."

The court's ruling was relied upon by the arbitrators in the Hallborg (SMA Award 2639). In that particular case, the charterer not only failed to supply a full cargo, but also failed to respond to the owner's demand for arbitration. The panel interpreted this as a clear sign that the charterer had no intention of meeting any of its contractual obligations. The arbitrators also took note of the "disappearance of charterers" as well as their failure to maintain a contractually required bank guarantee, and ordered security.

In the Balsa 9 (SMA Award 2803), the owner requested an award for the payment of a portion of withheld lumpsum freight, which the panel declined to do. Instead, it directed the charterer to place the disputed balance into an interest-bearing escrow account, subject to their determination of the charterer's claim for non-compliance (breach of description).

In the Enerchem Avance (SMA Award 2907), the sole arbitrator, who was the winning attorney in the Camara/Cinchona cases, stated:

"This arbitrator does not believe that arbitrators should order security to be established for unliquidated claims with impunity. There should be special circumstances, such as a special clause in the charter party, or outside considerations which require security in order to maintain the status quo."

Sometimes a statement as such is more important and consequential than the awarding or denying of security because it re-emphasises the underlying reasoning.

The case of the Eurogas (SMA Award 3005) concerned, inter alia, an incomplete freight payment, which the panel addressed in its partial final award. But then, apparently frustrated by the lack of charterer's timely responses to other pending claims, the arbitrators directed the charterer to establish an escrow account to cover those potential claims. Since the claims were contested, the panel ruled that the owner, too, had to establish security relating to the cost and fees incurred for the posting of charterer's security.

Although more than five years old, the case of Marianic K (1994 AMC 2522) still draws a few references. It was a case of hire accounting with claims and counterclaims. After hearing oral arguments, the panel issued a letter directing the charterer to place the aggregate of the disputed hire deductions into an escrow account. When the charterer failed to comply with the arbitrators' directions, the owner petitioned the court, and the letter ruling was confirmed. The security was posted and thereafter the parties completed their submissions and a decision was rendered (SMA Award 3168).

In this particular case, the arbitrators in fact had done nothing more than request the charterer to disgorge those funds, which they had improperly withheld, and place them into an escrow account. The charterer did not have to raise money from its own resources to establish the escrow, but it was merely requested to relinquish possession of sums temporarily, to which it had not yet established entitlement. Given these facts, it is surprising that the case has been cited so frequently in support of the arbitrators' powers to order security.

In the Cheshire arbitration (SMA 3129), the panel acknowledged arbitrators' powers to order security, but declined to do so, referring to Marianic K, and emphasising:

". . . the arbitrators' broad powers to impose equitable remedies and thereby insure that their ultimate decision on the merits will not be merely academic. Despite this positive and affirmative message to arbitrators, ordering security for claims is an act which arbitrators should approach cautiously. In our view, the mere request for security by one party should not be granted without careful consideration of the particular circumstances, including other remedies available to the petitioner. In this particular case, the panel declined to grant owners' request. Instead, the panel opted to complete and issue its award in an expeditious fashion, which we consider to be more in line with the scope and purpose of arbitration."

The Bregen (SMA Award 3378) involved a consolidated arbitration, but the security issue only affected the subcharterer and the charterer/disponent owner. The disputes arose from lightering operations and certain deficiencies of the vessel, for which the subcharterer made deductions from payments due the disponent owner. After security was ordered and posted, the matter proceeded on its merits.

Similarly, in the Rokos Vergottis (SMA 3415), the arbitrators dealt with security as an interlocutory. They found that the security demand was not unreasonable and that the charterer had an obligation to place the security.

In contrast, in the Allison (SMA 3410) and the Lacerta (SMA 3515), the arbitrators acknowledged the power to order security, but declined to do so. Specifically, in the Lacerta, the panel held:

"Other than pointing out that the Lacerta had been sold and citing various cases which addressed the posting of security, [charterers], in the panel's opinion, have not advanced any compelling reason to grant their request for security. . . . a careful review of those cited cases will show that there the arbitrators reversed unsubstantiated deductions made and had those funds placed into escrow and/or security accounts for further determination."

The record and precedents confirm that arbitrators indeed have awesome powers. In fact, arbitrators have greater powers than the judiciary on this particular issue. Arbitrators can order security, but judges cannot. So it should be obvious to arbitrators that with this power comes an equally important responsibility. Arbitrators must remember that maintaining the status quo is more important than some possibly ill-perceived notion of establishing general principles or succumbing to the persuasive arguments of an eloquent advocate.