Governing Law & why it matters

• Why is it important?

  A governing law clause confirms the parties’ intention as to which law should apply when interpretating the rights and obligations of each party under the contract. If drafted correctly, the clause can extend to apply to non-contractual obligations as well.

  If the choice of law is not clear, you may find that when it comes to a dispute the contract is not interpreted in the way that you or the other party intended at the time. This can be the case even within Europe – each country’s legal system has developed independently and, while bodies such as the EU and European Parliament have codified certain laws, even within Europe major differences can occur in how laws (and contracts) are interpreted and applied.

  In general, parties are free to choose the governing law of a contract, and courts will generally seek to enforce this choice, therefore it is always worthwhile to include the clause from the outset.
  

• What if the governing law is not English law, what are the options?

  Most of our clients are located within the UK or have a strong preference to enter into contracts governed by the laws of England and Wales. However, many of our clients also regularly enter into cross-border agreements for the supply of goods and services, and the governing law is often debated. Even so, the parties may still agree to the governing law of England and Wales, as it is a well-developed legal system and is often used in international trade and shipping. If the other party is part of a larger multinational group, it is often worth sticking to your guns on the governing law, as it is likely within their group there are businesses using it in their contracts.

  If the other party is resistant to moving from its own choice of law, either one party will need to compromise (and usually obtain an opinion from a local law firm as to the effect of that governing law) or the parties may choose a “neutral” governing law, where neither party feels the other has home advantage. While this can help to break a deadlock, it may mean both parties have to seek a local legal opinion, or take the risk there may be unknown elements to the contract. Often this route is taken only in early stage agreements (e.g. NDAs for high level discussions) with later, more definitive agreements requiring further negotiation on governing law and jurisdiction.

• What if the contract is silent?

  Depending on the country (or jurisdiction), there may already exist rules which cover how the governing law of a contract may be determined, if there is no express governing law clause. In the UK, these rules derive from EU law, and currently still apply in a similar way since Brexit (often referred to as UK Rome I and II, covering both contractual and non-contractual obligations). Such rules are too complex to cover in this note, but are not as straightforward as having an express clause in the contract. As an example, in a contract for the sale of goods without an express governing law clause, under UK Rome I the governing law is the law of the country where the seller has its habitual residence. If this is not clear to determine (e.g. because the seller has multiple manufacturing sites across different countries), the governing law may then be the law of the country with which the seller is most closely connected. While it is helpful to have these rules, it is often clearer to just include an express clause.

• Jurisdiction – exclusive or non-exclusive, or somewhere in-between?

  The jurisdiction clause provides the parties with the option to determine the courts of the jurisdiction (or several jurisdictions) that may resolve any disputes that arise between the parties in relation to the contract. Often, but not always, this may follow the governing law clause.

  A UK supplier may feel comfortable with governing law as England and Wales, and a jurisdiction clause that states disputes are to be exclusively resolved by the English courts. While this is a good basis and often seen, it is worth to consider if this fully protects the supplier. For example, if the contract is for the supply of goods to a customer based solely in Japan, if a dispute arose and the claim was brought before the English courts, even if the UK supplier is successful, they are left with an English court order, which they still need to try and enforce in Japan, where the customer’s assets are located. This often involves a secondary process of obtaining a local court order in the customer’s home jurisdiction, to enforce the English court order.

  Jurisdiction clauses can be amended to tackle the issue above, and provide exclusive jurisdiction in one location, but with the right for the supplier (or both parties) to bring a claim in the other’s home country. Another alternative is to move away from litigation before the courts, and use an alternative dispute resolution method, such as arbitration.

• Alternatives to litigation – arbitration

  Arbitration is a popular mechanism for dispute resolution used in cross-border trade agreements; one primary reason being the ease with which an arbitral award may be enforced. This requires the parties to be located within  countries that are members of the New York Convention, which governs enforceability of awards. Given there are over 170 contracting states to the convention, there is a good chance they will be!

  There is a very helpful lawskool article which describes arbitration in more detail. For the purposes of this note, it is important to know that arbitration is a common alternative used by parties and, while there can often be similar debates around governing law and which arbitration rules should apply, parties usually land upon neutral, international rules, such as the International Chamber of Commerce (ICC) Rules of Arbitration. Parties are also usually more open to selecting a neutral seat or venue for the arbitration, which may sound like more travelling for both parties, but hearings can now be held remotely.

Conclusion

Please contact us if you would like to explore the issues above in more detail or have any questions.