Arbitration clauses in adhesion contracts under Brazilian law

In Brazil, the use of arbitration is restricted in adhesion contracts. In such contracts, an arbitration clause is valid only if the adhering party either (i) initiates arbitral proceeding against the other party or (ii) expressly agrees to arbitration by means of a written document attached to the adhesion contract, or if it signs or initials the corresponding contractual clause, which must be inserted in boldface type in the adhesion contract. This applies to adhesion contracts in general, whether or not the relationship of the parties are considered a “consumer relationship” under the so-called “Brazilian Consumer Code".

In theory, arbitration clauses are valid for non-adhesive contracts on a consumer-relationship basis. I meant “theoretically” because the “Consumer Code" addresses consumer arbitration in different terms: it prohibits arbitration when imposed in standard contracts, where the consumer has little or no bargaining power at all. Some scholars argue that the Brazilian Arbitration Act has revoked this provision of the Consumer Code, while some others argue the other way around.

The enforceability of arbitration clauses in non-adhesive consumer contracts is unsettled under Brazilian law.

Domestic Arbitration

Arbitration is the preferred method of dispute resolution for foreign investors doing business in Brazil. Most foreign investors, however, prefer to select a foreign city —generally in the U.S. or Europe, as the case may be— as the seat of arbitration. They rarely select a Brazilian city as the seat (please read Seat in Brazil?). Foreign investors also prefer international institutions for administration of their arbitrations against Brazilian parties, such as the ICC, LCIA and the Triple A/ICDR. This is obvious as Brazilian arbitral institutions still lack the necessary ability to administering international disputes.

Some foreign investors doing business in Brazil through Brazilian subsidiaries (therefore, purely domestic transactions for purposes of Brazilian law) insist in inserting arbitral clauses providing for ICC arbitration. This is possible under ICC Rules of Arbitration. But while some believe that the party autonomy provided for Section 2 of the Brazilian Arbitration Act allows a party to a purely domestic transaction to elect any given law or lex mercatoria as the contract's governing law, the majority of scholars and arbitration practitioners believe otherwise.

Purely domestic disputes submitted to arbitration must (i) have Brazilian law as the governing law and (ii) establish a Brazilian city as the seat of arbitration. Foreign investors must avoid anything different than that in their arbitration clauses, unless the contract is —in fact— an international contract.

Publicly traded companies participating in arbitrations... Do they have to disclose such participation to their investors?

Early this week Brazilian newspaper Valor Econômico published an article about disclosure of arbitration to investors by publicly traded companies.

According to the article, just a few companies traded at Bovespa have been disclosing information about arbitrations they are parties to. The article mentions three of such companies: Grupo Pão de Açúcar; Embratel; and Brasil Telecom.

Two things to keep in mind:

1. The Brazilian Arbitration Act does not have any provision regarding the confidentiality of arbitration (arbitration in Brazil is private, but not necessarily confidential);
2. The Brazilian Securities and Exchange Commission - CVM does not have any specific rule regarding disclosure of arbitrations, therefore, parties should look for general disclosure rules when in doubt whether or not to disclose any arbitrations t their investors.
   

To date, neither a Brazilian court has ruled on this subject nor any fines have been imposed by CVM for lack of disclosure of participation in arbitration proceedings.

Seat in Brazil?

Attractiveness of a particular location as a potential seat of arbitration lies ―to a great extent― to the issue of whether there are, in such seat, a modern and arbitration-friendly legislation, supportive (pro-arbitration) courts, and a good general infrastructure.

Brazilian cities are hardly chosen as neutral seats of arbitration. I believe there are two main (and obvious) reasons for that:

(i) arbitral clauses are inserted in international contracts mainly because arbitration is seen as a "neutral forum" of dispute resolution. And, from a practical and financial standpoint, it may not necessarily make sense to establish the seat of an international arbitration in Brazil (if the parties are, for instance, from Europe, the US or Asia, the logistics involved may make it very expensive to arbitrate in Brazil).

(ii) not only the arbitrators may be trusted by the parties; the court system of the arbitral seat must be trusted by the parties as well. The parties cannot "appoint" the court system. Although Brazilian courts have been very supportive to arbitration and there are plenty of pro-arbitration decisions in Brazilian case law, arbitration is still in its infancy in Brazil.

I believe that Brazil has achieved a very good level of receptivity towards international arbitration in the last 11 years, since the passing into law of the Brazilian Arbitration Act. Brazil is, undoubtedly, an arbitration-friendly jurisdiction. But it will take some time until Brazil is becomes accepted, both legally and commercially, as a favored forum for resolving international commercial disputes. In the words of a practitioner in the field of international commercial arbitration, "arbitration is about trust, and establishing trust takes time".

Should São Paulo be considered the Latin American Arbitration Center?

I have read an article (in Portuguese) the other day which stated that São Paulo will be the most important arbitration venue of Latin America.

I think São Paulo may not necessarily become the leading arbitration venue of Latin America, mainly because:

1. There is no strong arbitration institution in Brazil, and the existing Brazilian institutions have not signed cooperation agreements with the leading international organizations; and
2. The Brazilian Arbitration Act must be revised, and the specificity of international arbitration must be expressly recognized by Brazilian law.

Parties from abroad very rarely choose São Paulo (or Rio de Janeiro) as seat of their arbitrations. When either seat is selected, it is not because they offer advantages to the participants, but because the contract has a strong connection with either city or any other strong reason. For example, if the party likely to be the defendant is domiciled in São Paulo, and their assets are located in Brazil, it may make sense to set a Brazilian city as the arbitral seat. Although Brazil is a party to the New York Convention, enforcement proceedings are very slow and it usually takes at least one year until the successful party at the arbitration obtains the so-called exequatur at the STJ (and the party still need to enforce the award through the Federal Court system).

São Paulo is never an option as a purely neutral third-country venue. For São Paulo to become a venue of choice for international arbitration, many things need to change.

FDI in Brazil, and Brazilian FDI Abroad

In my earlier posting I talked about arbitration and foreign direct investment ("FDI") in Brazil, but it is important to point out --again--, that foreign investors doing business in Brazil do not benefit from the arbitration framework set by the 1965 Convention on the Settlement of Investment Disputes between States and Nationals of Other States ("ICSID Convention"). Foreign investors in Brazil do not benefit from protection of bilateral investment treaties ("BITs") either, as to date Brazil has not ratified any of the 14 BITs it entered with different countries --worldwide-- during the 1990s.

It is obvious that the existence of a framework for investment-state disputes in Brazil ("Investment Arbitrations"), would not only bring more certainty for foreign investors investing in Brazil, but also make Brazil an even more attractive destination for FDI.

Brazil’s lack of (i) signature of the ICSID Convention and (ii) ratification of BITs, however, not only has an effect on FDI flows to Brazil --as the lack of Investment Arbitrations subject foreign investors to the slowness of Brazilian courts, in case they have a dispute with the Brazilian government-- but also affects the investment of Brazilian multinational corporations ("Brazilian MNCs") abroad, as the investment of Brazilian MNCs will not be protected by investment treaties affording neutral dispute resolution for foreign investors. This is significant, because in 2006 alone, Brazilian MNCs have invested abroad more than the country has received as FDI, to the extent that Brazilian MNCs currently have a total amount of investment abroad of over $106 billion U.S. dollars (from January 2006 to November 2006, Brazilian MNCs have made FDI overseas of approximately $25 billion U.S. dollars [See Múltis brasileiras crescem mais no exterior (O Globo, January 21, 2007, at 31), available at http://www.oglobo.com.br/].

Brazilian MNCs should make FDI overseas using --as vehicles for such investments-- subsidiaries incorporated in countries signatories of the ICSID Convention. This is the case of Petrobrás, Brazil’s state-controlled oil company with an "imbroglio" with the Bolivian government over expropriation of Petrobrás assets in that country. Fortunately for Petrobrás, if negotiations with the Bolivians fail, and Petrobrás is obligated to litigate against Bolivia, Petrobrás can initiate Investment Arbitration proceedings against Bolivia, under the ICSID Convention, instead of bringing suit in Bolivian Courts. This, because (a) Petrobrás’ FDI in Bolivia was made through a Dutch subsidiary company of the Petrobrás’ group, and (b) Bolivia and the Netherlands are both signatories to the ICSID Convention.

Growth of Arbitration in Brazil

As of 1995, when former President Fernando Henrique Cardoso took office, some amendments to Brazil’s 1988 Federal Constitution have been passed into law. Said amendments opened formerly closed sectors of the Brazilian economy, such as oil and gas, mining, energy, and telecommunications, to the extent that Brazil has become a very attractive destination to foreign direct investment ("FDI").

This boom in infrastructure projects in Brazil, especially those related to power generation and oil and gas, have resulted in a growing number of arbitration proceedings being held in Brazil (invariably involving multinational corporations).

In 2006, Brazil maintained its position as one of the world's most favored destinations for FDI worldwide.

It looks like Brazil has never been more attractive to foreign investors. I say this because Brazil has been enjoying increased levels of FDI in 2007.

It looks like that growth of arbitration in Brazil is guaranteed (at least, the growth of high profile arbitration).

The "Dark Side" of Brazilian Arbitration

Brazilian arbitration has a "dark side", which is unknown to foreign practitioners. That's the so-called "arbitragem pirata", as it has been named by Brazilian arbitration practitioners (meaning literally "pirate arbitration", in the sense of fake, fraudulent arbitration companies existing in Brazil).

These fake arbitration companies —they cannot be called "arbitral institutions"— have the sole purpose of generating profit to their owners, performing illegal activities to that end. Most of such companies pretend that they are courts of law and —to appear legitimate to the general public— they use symbols proprietary to the Brazilian court system. It is not uncommon that these fraudulent companies serve fictitious service-of-process notices on people who have never agreed to use arbitration in the first place, and the fake symbols give them "legitimacy".

Another scam used by those fraudulent organizations involves the offering of "mandatory" arbitrator courses, under the false allegation that arbitrators must receive certification in order to act as such (Brazilian law does not require that potential arbitrators have any particular qualifications in order to act as arbitrators, and anybody can act as arbitrators as long as they (i) have legal capacity, (ii) are trusted by the parties, and (iii) act with impartiality, independence, competence, diligence and discreetness). Said "mandatory" courses are advertised in national newspapers such as O Globo, published in Rio de Janeiro.

The good news is that some of these fake arbitration companies have already been shut down by the real courts of law, in several different Brazilian States. It is also worth mentioning a recent initiative of the Brazilian Ministry of Justice, which has created a booklet explaining what arbitration is all about, and warning the general public about the fraudulent arbitration companies that are —unfortunately— still selling their services to the general uninformed population.