Does your clause cover what you want it to cover?

In the case of North East Finance (Pty) Ltd vs Standard Bank of South Africa Ltd 2013 (5) SA 1(SCA) the Supreme Court of Appeal (SCA) made it clear that where an agreement has been brought about under fraudulent circumstances, and is therefore invalid, a clause that requires parties to refer any dispute between them to arbitration is also invalid. However, it is in principle possible to draft an arbitration clause in such a way that it will remain enforceable even where the agreement it forms part of turns out to be invalid.

North East Finance (North East) and Standard Bank (Bank) entered into a settlement agreement following disputes between them. An arbitration clause in the agreement stated that “in the event of any dispute of whatsoever nature arising between the parties (including any question as to the enforceability of this contract…), such dispute will be referred to arbitration…”

The Bank chose to walk away from the agreement after learning that North East had been defrauding it at the time the agreement was signed. North East then asked the Bank to attend pre-arbitration meetings, pursuant to the arbitration clause. The Bank refused, arguing that due to fraud, the arbitration clause was as invalid as the rest of the agreement. North East countered that since the arbitration clause specifically included the phrase “including any question as to the enforceability of the contract” it meant that the clause covered a dispute over allegations that the agreement was induced by fraud.

The SCA found that the agreement “did not have to be cancelled or rescinded: it was void”. This meant that there was no question as to the agreement’s enforceability and the arbitration clause therefore did not cover the dispute. Had the arbitration clause been drafted to provide that the scope of a dispute to be referred to arbitration included validity of the agreement and not merely enforceability, the outcome would have been different.

When a court is called to interpret an agreement, so the judgment goes, the court must find out what the parties to the agreement intended the contract to mean. The court found it to be clear that the Bank did not expect that there might have been fraudulent conduct by North East and therefore when concluding the agreement the Bank did not intend that the validity of the agreement or questions of fraudulent misrepresentation could ever have been matters to be arbitrated.

Finally, the SCA found that the agreement was probably induced by fraud with the result that the entire agreement, including the arbitration clause, was void. The Bank was therefore not obliged to submit the dispute surrounding the agreement’s validity to arbitration.

A further reminder to make sure that the boilerplate clauses in an agreement say what you want them to say.