Suspension of the effects of an arbitral award by virtue of the breach of the equal treatment of the parties: the Paranapanema Case

By Daniel Becker Paes Barreto Pinto (Legal intern at Tauil & Chequer Advogados  in association with Mayer Brown LLP) and Matheus Sousa Ramalho (Legal intern at Karim Vakil & Cruz Vizaco Advogados)

In 2007, Paranapanema S.A.(Paranapanema), a metallurgical company, took a loan from two financial institutions: Banco Santander S.A. (Santander) and BTG Pactual S.A (Pactual). A clause in this loan agreement allowed Paranapanema to pay the debt with its own stocks. However, in order to ensure that the stocks would cover the whole debt, the parties decided to enter into several collateral subordinated risk swap agreements.

This specific swap contract that the parties entered into is very similar to the most common sort of swap agreement: the typical “plain vanilla” interest rate swap. The “plain vanilla” swap is an agreement entered by the parties in order to hedge their risks related to the volatility of interests’ rate in instable scenarios. In other words, this sort of agreement replaces a floating and unpredictable rate for a predetermined and stable one.

The swap contract that the parties entered has a similar logic to the “plain vanilla”, except for the fact that the agreement made by the parties was intended to hedge the risks related to the floating quotation of Paranapanema stocks value instead of hedging the risks of ordinary interest rates. Thus, pursuant to the terms of swap agreement entered by the parties, Paranapanema previously set with Santander and Pactual a predetermined and fixed price for its stocks in the case of default.

Both financial institutions agreed to accept this payment in stocks, albeit on one condition: before accepting it, the financial institutions would have to valuate the quotation of Paranapanema stocks on market in contrast with the price previously established for the stocks. Hence, if by the time of the payment the quotation of Paranapanema stocks was lower than what was previously set, then the metallurgical company would have to pay with money the accurate difference between the real market value of the stocks and the value set by the parties.

The dispute began on the maturity date, when Paranapanema decided to pay the debt with its own shares. However, Santander did not grant discharge of the debt, explaining that there was a difference between the final value of the shares and the amount due by Paranapanema. Therefore, Santander presented a request for arbitration against Paranapanema and Pactual before the Center for Arbitration and Mediation of the Chamber of Commerce Brazil-Canada (CAM/CCBC), with a seat in São Paulo, Brazil.

Whereas Santander could regularly appoint its arbitrator, Paranapanema and Pactual – respondents in the arbitration – could not reach an agreement on the designation of their common arbitrator. The President of the CAM/CCBC then appointed an arbitrator on behalf of respondents, pursuant to article 5.5 of the former Arbitral Rules of the CAM/CCBC of 2011. As a result, the only party that had an arbitrator of its choice was Santander.

At the end of the proceedings, the arbitral tribunal rendered an arbitral award in favor of Santander. Unsatisfied, Paranapanema filed a lawsuit to annul the award. On January 10, 2013, the 18th Civil Court of São Paulo granted an interim measure suspending the effects of the arbitral award until the very end of the annulment procedure before the Brazilian courts. In the grounds of his ruling, the judge held that there was a breach of equal treatment pursuant to article 32, subparagraph VIII of the Brazilian Arbitration Law. In addition, the likelihood of Paranapanema’s allegations and the high amount of money involved in the case also substantiated the concession of the provisional measure.

The lower court judge sustained that even though Pactual and Paranapanema were on the same side as respondents, both maintained different positions towards the claim, since Paranapanema wanted discharge from its supposed debts with Santander, while Pactual simple alleged its lack of standing to be sued as respondent since it was a mere creditor of both parties. The major problem thereof is that accordingly with the section 21.2 of the arbitration clause signed by all parties, in case all the parties present different motivations in their claims, each one will be entitled to nominate one arbitrator.

Considering the redaction of this particular dispute resolution clause hereinabove displayed, the lower court judge understood that even though Pactual and Paranapanema were on the same side as respondents, they, actually, did not need to reach out an agreement in nominating a sole arbitrator for them, since each one of them had the right to nominate one arbitrator of their trust, due to t different motivations towards the claim.

Another point emphasized by the judge in his decision was the fact that he was not putting on check the impartiality, knowledge, or even the capacity of the CAM/CCBC nominated arbitrator. In the sentence, the judge stated that despite the fact that the appointed arbitrator is technical and impartial, there are several other aspects involving his appointment that are relevant and, without affecting their impartiality or their expertise, may have a decisive influence on the outcome of the arbitration. Altogether, by having their possibility to choose an arbitrator of their trust suppressed, the judge considered the equal treatment of the parties compromised, what turned the annulment of the award the only possible option.

On May 2, 2013, the 11th Chamber of the São Paulo State Court upheld the injunction granted by the lower court. Recently, on July 24, 2013, the 18th Civil Court of São Paulo confirmed the provisional measure that was granted and annulled the arbitral award because of the violation of the principle of the equal treatment of the parties.

This decision is still subject to appeal before the São Paulo State Court. It is, however, unlikely that this judgment will be overturned. Taking under consideration all the particularities of this case, we tend to believe that this specific decision will be an isolated case, and will not turn into a precedent that will influence in other cases in which the arbitral chambers have to nominate an arbitrator when the parties present difficulties in nominating one.

 

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