PANCARAN PRIMA SDN BHD (Appellant)
V
ISWARABENA SDN BHD (Respondent)
FEDERAL COURT – CIVIL APPEAL NOS. 02(f) – 26-03/2019(W) & 02(f) – 27-03/2019(W)
MOHD ZAWAWI SALLEH, FCJ; VERNON ONG LAM KIAT, FCJ; ABDUL RAHMAN SEBLI, FCJ; ZALEHA YUSOF, FCJ; BADARIAH SAHAMID, JCA
27 AUGUST 2020
Arbitration – Dispute Resolution – Section 37 AA 2005 – Whether the threshold requirement in Section 37 AA 2005 is ‘very low’ – Section 42 AA 2005 – Whether an arbitrator who applies his own knowledge and expertise in the construction industry would constitute a breach of natural justice – quantum of ‘loss of profit’ followed the norm in the industry – value of the work done is a question of fact, not question of law
Background facts
By way of letter of appointment dated 18.7.2011, the Respondent appointed the Appellant as its sub-contractor for the construction and completion of vehicular box culverts and drainage works which formed part of the proposed Sungai Buaya Interchange and Toll Plaza contracted out to the Respondent. The sub-contract was for a Lump Sum Price RM 9.5 million for BOQ1 (preliminaries) and BOQ4 (drainage works) and a provisional sum of RM3.8 million for BOQ11A and BOQ11B. Dispute arose when the Respondent terminated the Sub-Contract pursuant to Clause 12 of the Sub-Contract purportedly due to the delay of more than 20% financially.
The dispute was referred to arbitration proceeding pursuant to the parties’ contract. The Learned Arbitrator, who is a professional engineer and chartered arbitrator published his Final Award on 11.1.2016 and ruled in favoured of the Appellant. The rulings are, in brief:
(i) the Respondent’s termination of the subcontract is unlawful; and
(ii) the Respondent to pay the Appellant the nett principal sum of RM2,351,264.20, comprised of the cost of the completed works RM1,409,154.75; and the loss of profit amounting to RM942,109.52.
While the Appellant applied for an Enforcement Order pursuant to Section 28 AA 2005, the Respondent applied to set aside the arbitration award pursuant to Section 37 (1)(a)(v) and 37(b)(ii) AA 2005 on the ground that the Arbitrator was in breach of natural justice and/or had exceeded his jurisdiction in his “loss of profit” ruling and pursuant to Section 42 AA 2005 on the ground that the arbitrator had committed errors of law.
The High Court varied the Award pursuant to Section 42 of AA 2005 and dismissed the enforcement application. The High Court found that the Arbitrator erred in law by applying physical progress delay instead of financial progress delay in finding that the threshold of 20% financial progress delay had not been reached. As such, the Respondent had lawfully terminated the contract and thus the Appellant is not entitled to the loss of profit claim. The High Court set aside the loss of profit award RM 942,109.52, but did not disturb the Arbitrator’s ruling on the value of completed works.
Thereafter, the Appellant filed 2 appeals to the Court of Appeal against the High Court’s decision. One against the variation of the arbitration award and the other against the dismissal of its application to enforce the award. The Respondent filed a cross-appeal, asking for a variation of the High Court Order. The Court of Appeal reversed the findings of the High Court pursuant to section 42 of AA 2005 and the appellant’s appeal against the High Court order varying the award was dismissed in its entirely. The respondent’s cross-appeal for a variation of the High Court order was allowed. Consequently, the Court of Appeal also set aside the finding of the High Court that the termination of the subcontract was lawful, which effectively means that the finding of the tribunal that the subcontract had been unlawfully terminated was restored and is subsisting.
On the issue of the loss of profit ruling, one of the grounds why the Court of Appeal found the arbitrator’s loss of profit ruling to be in breach of the rules of natural justice was because the arbitrator had “invented” extraneous evidence with a factual basis that was not tendered in evidence nor submitted by the parties. The Court of Appeal did not deal with the issue of the legality of the termination of the subcontract.
Unsatisfied with the outcome of the appeal, the Appellant sought leave to appeal to the Federal Court. Leave was granted and the following are the questions of law were before the Federal Court:
(i) “Whether the threshold requirement stipulated by section 37 of the Arbitration Act 2005 to set aside an award as ‘very low’ as set out in the cases of Petronas Penapisan and Sigur Ros Sdn Bhd v Master Mulia is indeed the correct test in the light of the various other provisions of the Arbitration Act 2005?”
(The question asks whether the threshold under section 37 of the Arbitration Act 2005 (“the Act”) is ‘very low’) (“Leave Question 1”);
(ii) “Whether the arbitrator who is an engineer who relies on his own knowledge of the construction industry in arriving at a decision on the quantum of ‘loss of profit’ pursuant to a provision recognised by section 21(3)(b) of the Arbitration Act 2005 for an arbitrator to be able to draw on its own knowledge and expertise, can then be said to be in breach of the rules of natural justice within the meaning of section 37(1)(b)(ii) read together with subsection 2(b) of the Act?”
(The question asks whether an arbitrator who is an engineer and has knowledge of the construction industry could be in breach of the rules of natural justice by relying on such knowledge in arriving at his decision on the quantum of ‘loss of profit’) (“Leave Question 2”);
(iii) “Whether the act of an Arbitrator relying on his own knowledge and expertise on matters of ‘evidence’ relating to an industry in which he is well acquainted will amount to a breach of natural justice within the meaning of section 37(1)(b)(ii) read together with subsection 2(b) of the Arbitration Act 2005?”
(The question asks whether an arbitrator who is well acquainted with matters of evidence relating to the construction industry could be in breach of the rules of natural justice by relying on such matters of evidence) (“Leave Question 3”);
(iv) “Whether the precept of a breach of the rules of natural justice extends to the Arbitrator applying his own knowledge and expertise on an issue where the parties have led evidence on and which forms one of the very issues which the arbitral tribunal has to deal with, especially when the knowledge of the Arbitrator has an impact on the quality of evidence required for evaluation by the tribunal?”
(The question asks whether an arbitrator who applies his own knowledge and expertise in the construction industry to a fact in issue can be in breach of the rules of natural justice) (“Leave Question 4”); and
(v) “Whether the decision of the Arbitrator in making an award on what constitutes the value of completed works, and the basis on which such an assessment is to be made, can constitute a ‘question of law arising out of the award’?”
(The question asks whether the decision of an arbitrator on the value of completed works is a question of law) (“Leave Question 5”).
The Federal Court allowed both appeals with cost. In summary, the Federal Court’s answers to the above questions are:
- Leave Question 1 – Affirmative
- Leave Question 2 – Negative
- Leave Question 3 – Negative
- Leave Question 4 – Negative
- Leave Question 5 – Negative
Leave Questions 2, 3 and 4 – (negative)
–
The issues (ii), (iii) and (iv) are inter-related. The crux of the issues is whether the Arbitrator could, on matters of evidence relating to an industry in which he is well acquainted with, rely on his own knowledge and expertise in awarding a loss of profit of 10% for the remaining drainage works and 7.5% for the remaining vehicular box culvert, without giving the parties the opportunity to submit on the issue.
The appellant’s claim was for loss of profit of RM2,635,936.26 which amounted to 25% of the remaining works. Its witness had testified that he had included a margin of 15% in the project budget. The respondent’s position on the other hand was rather straightforward. Its case was that the appellant’s computation ought to be rejected outright and that the appellant was only entitled, if at all, to nominal damages.
The Federal Court ruled that in awarding a loss of profit of 10% for the remaining drainage works and 7.5% for the remaining vehicular box culvert, the arbitrator was in fact moderating the appellant’s claim of 25% by reducing it for contingencies, albeit taking the 10-15% margin for P&A which he described as “almost the norm” in the Malaysian construction industry. It was ruled that the Arbitrator was only striking a balance between the high and low of the quantum of loss of profit. He did not slavishly apply the 10-15% “norm”.
Further, Section 21 of AA 2005 is key to the issues. Subject to the provision, the parties are free to agree on the procedure to be followed be the arbitral tribunal in conducting the arbitration proceedings. Failure to reach an agreement, Section 21(3)(b) allows the arbitral tribunal to “draw its own knowledge and expertise” on any fact in issue which it is acquainted with. To the argument that actual evidence (in this case evidence of the 10-15% no risk profit margin for P&A) must be produced before the arbitral tribunal before it could draw on its own knowledge and expertise under section 21(3)(b), the Federal Court says that such argument has a tendency to defeat the object behind the provision, which is to allow the arbitral tribunal exercise its own knowledge and expertise, rather than to put its object into effect and must be rejected.
The Federal Court also made a difference between a ‘lay arbitrator’ and an arbitrator with certain expertise and experience in particular field. In cases whether the arbitrators were appointed because of his knowledge and experience, there can be no doubt that with regard to questions of quality and matters of that description an arbitrator of this character can always act on his own knowledge. (Methanex Motunui Ltd v Spellman [2004] 1 NZLR 95 (HC); Mediterranean and Eastern Export Co Ltd v Fortress Fabrics (Manchester) Ltd [1948] 2 All ER 186; Fox and others v P G Wellfair Ltd; Fisher and another v P G Wellfair Ltd [1982] 2 EGLR 11)
The Federal Court note that the arbitrator in this dispute is a professional engineer, a chartered arbitrator and a Fellow of the CIArb. There was no argument raised by any parties that he did not have the requisite special knowledge and expertise to entitle him to make the pronouncement that “in the Malaysian construction industry, it is almost a norm when asked to indicate a ‘profit and attendance’ for having to manage a nominated subcontractor, most contractors would include a margin of 10-15”. The learned arbitrator was therefore competent to draw on his own knowledge and expertise on the existence of the 10-15% no profit risk norm in the Malaysian construction industry without giving the parties the opportunity of answering it and showing that his view was wrong.
Effect must be given to Section 21(3)(b) of AA 2005 in order to follow through with Parliament’s intention to allow the arbitral tribunal to draw on its “own knowledge and expertise”. Unless it can be shown that the arbitrator’s own knowledge and expertise on any fact in issue is plainly and unarguably wrong, the court must be slow to interfere with his findings.
The Federal Court further held that both courts below were wrong in setting aside the loss of profit award, either under section 37 or section 42 or under both Sections 37 and 42 of AA 2005.
Leave Question 5 – (negative)
The Award was issued before the deletion of Section 42 AA 2005 and hence it was still relevant to examine the meaning of “question of law arising out of the award”.
The Federal Court ruled that the award of the value of works completed was based purely on a finding of fact by the learned arbitrator and does not involve any question of law. The court recapitulated the correct test of what constitutes a question of law [see para 123], which is to fit into the paradigm of section 42 AA 2005.
The Federal Court held that if the reference on a question of law under section 42 is based on a qualified and non-acceptance of findings of fact by the arbitrator, such reference cannot be held to be within the meaning and scope of section 42 of the Act. Thus, the Arbitrator’s method and approach in computing the value of works completed is a question of fact and there was no compelling reason for the High Court and Court of Appeal to interfere the finding of facts by the Arbitrator.
Both courts below were held to be wrong in finding that the learned arbitrator had wrongly applied the physical delay test instead of the financial delay test in deciding whether the subcontract had been lawfully terminated by the respondent. The learned arbitrator was right in finding that the subcontract had been unlawfully terminated by the respondent.
Leave Question 1 – (Affirmative)
The effect of this decision is that if party cannot succeed under Section 37, an application under Section 42 will be futile as section 37 relates to arbitral process whereas section 42 relates to the arbitral award.
Indeed, based on Petronas Penapisan and Sigur Ros, the Court held that the answer is obvious. The threshold of ‘very low’ should be read in context to compare with the threshold in Section 42 AA 2005. The grounds to set aside in Section 37 are exhaustive, the court cannot set aside an arbitration award for reasons other than those listed out.
The question here should be how the court exercises its discretion under Section 37 to set aside an Arbitration award.
The court must undertake an evaluation of relevant factors such as those identified in Kyburn Investments Ltd v Beca Corporate Holdings Ltd [2015] 3 NZLR 644, amongst which would be the seriousness, magnitude or materiality of the breach, its nature and its impact, whether the breach would have any effect on the outcome of the arbitration and leaving room for ‘casual breach or occasional error’. Costs of rehearing and delay in raising the complaint are further relevant factors to be taken into account in the evaluation process.
The grounds enumerated in section 37 need to be construed narrowly as they represent exceptions to the finality of arbitration awards (section 36). This is to avoid devaluing the arbitration agreement that arbitral awards are final and binding and also to preserve the autonomy of the forum selected by the parties by minimizing judicial interference in arbitral awards: Jan De Nul (supra).
In conclusion, both appeals are allowed with costs awarded to the appellant.
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