When the Model is Mandatory: EDE Capital v. Guan, 2023 ONSC 3273
Significance of Decision
In EDE Capital Inc. v Guan,[1] the Ontario Superior Court of Justice ("ONSC") dismissed an application to set aside an arbitral award, finding that the applicant had failed to furnish proof that its right to procedural fairness was breached or that the Arbitrator exceeded her jurisdiction. This case serves as a reminder that parties whose disputes meet the criteria of an international commercial arbitration, cannot contract out of the International Commercial Arbitration Act (“ICAA”), and by extension the Model Law, by agreeing to the application of the Arbitration Act, 1991, S.O. 1991, c. 17, in their arbitration agreement.
Background
EDE Capital arises out of a dispute between the Applicant, EDE Capital Inc. (“EDE Capital”), and certain of its shareholders, for breach of the shareholders’ agreement and misrepresentation.
In February 2018, the Applicant, the parent company of the “EDE group of companies” and the 100% shareholder of EDE Securities Inc. (“EDE Securities”) among other subsidiaries, met with potential investors, including most of the Respondents, for the purpose of soliciting investment in EDE Capital through a private placement of Class A shares. The Applicant made a presentation outlining the benefits of the investment and provided a one-page term sheet (the “Term Sheet”) that indicated the proceeds of the offering would be used for the purpose of:
(a) supporting the expansion of its subsidiaries’ businesses, including the hiring of staff and the application of EDE Securities for registration as an investment dealer with the Investment Industry Regulatory Organization of Canada (“IIROC”), and
(b) general and administrative expenses.[2]
The Term Sheet provided that every subscriber to the offering had to become a party to the shareholders’ agreement between the Applicant and its shareholders.
In March 2018, the Applicant raised a total of $2,090,000 from the Class A share offering. The Respondents invested a total of $1,050,000. The Applicant, the Respondents and other shareholders all executed a shareholders’ agreement effective as of September 27, 2018 (the “Shareholders’ Agreement”), which contained an arbitration agreement that stated the arbitration would be governed by the Arbitration Act.
In late 2018, due to market turbulence, EDE Capital decided not to pursue IIROC registration for EDE Securities, and instead kept the proceeds of the private placement invested in speculative stocks. When asked by investors about the progress of the IIROC application, the Applicant’s directors advised that everything was on track.
On December 4, 2019, during an extraordinary meeting of shareholders, the Applicant admitted that the funds raised through the private placement had not been used to pursue the IIROC registration for EDE Securities. Unhappy, a number of the shareholders demanded their money back, stating that the use of the funds was contrary to what had been represented and agreed. The Applicant refused.
In May 2020, the Applicant issued a meeting notice for an Annual and Special Meeting of the Shareholders, which stated that the Applicant considered the private placement proceeds to be “excess cash for investing”, and proposed a resolution for the Applicant to make an investment in the EDE Value Fund LP. The resolution passed over the objections of the Respondents.
The Arbitration Proceedings
In June 2020, the Respondents initiated an arbitration proceeding against EDE Capital, citing Article 21 of the Model Law, as outlined in Schedule 2 of the ICAA. In its statement of defence, the Applicant denied all of the Respondents’ claims, including that the ICCA applied to the arbitration. However, the parties agreed to bifurcate the proceedings into liability and damages phases, and also agreed to the procedure to follow in the arbitration, such that it was not necessary to resolve the question of which act (the ICAA or the Arbitration Act) applied to the proceedings.
On June 23, 2021, the Arbitrator released the “First Partial Award – Liability” (the “Liability Award”), finding that, among other things:
(a) the Term Sheet was a Related Party Agreement under the Shareholders’ Agreement and an offering memorandum for the purposes of the Securities Act, R.S.O. 1990, c. S.5;
(b) EDE Capital’s refusal to pursue IIROC registration for EDE Securities was a breach of the Related Party Agreement and the Shareholders’ Agreement;
(c) EDE Capital made misrepresentations to the Respondents contrary to section 130.1 of the Securities Act and/or fraudulent misrepresentations; and
(d) EDE Capital’s conduct was oppressive.[3]
On December 23, 2021, the Arbitrator released the “Partial Award on Damages” (the “Damages Award”). The Arbitrator found that it was appropriate to require the Applicant to purchase the Respondents’ shares, at the aggregate subscription price of $1,050,000, and that disgorgement of the profits earned from the investment of the funds raised was an appropriate remedy for the Applicant’s wrongdoing.[4]
On January 7, 2022, the Applicant submitted a request for reconsideration of the Damages Award pursuant to subsection 44(1)(b) of the Arbitration Act. In denying the Applicant’s request for reconsideration, the Arbitrator held it was not necessary to determine which of the ICCA or the Arbitration Act governed the arbitration, because section 44 of the Arbitration Act was part of the agreed procedure and not inconsistent with the provisions of the ICAA:[5]
The governing legislation is determined by operation of law and is not selected by the parties to the arbitration. That issue is one for a court to determine in the event it becomes necessary and is not relevant to any of the issues in dispute in the arbitration. Accordingly, this decision should not be read as making any determination as to this issue.[6]
On May 2, 2022, the Arbitrator released her Costs Award, ordering that the Applicant pay for the Respondents’ legal fees and expenses of the arbitration.
On February 2, 2022, the Applicant brought an application to set aside the Liability Award and Damages Award, pursuant to section 46(1) of the Arbitration Act.
Application to Set Aside Liability and Damage Awards
At the application before the ONSC, the Applicant maintained the position that the Arbitration Act applied to the proceedings and challenged the Arbitrator’s award on the basis that the Arbitrator breached the procedural guarantees in the Arbitration Act by: (1) reopening issues that were finally determined at the liability stage of the arbitration in the Damages Award; and (2) making new findings of fact in the Damages Award that were inconsistent with and contrary to the final findings of fact in the Liability Award.
The Respondents submitted that the ICAA and the Model Law applied to this case based on the commercial nature of the parties’ agreement and the foreign residence of one of the Respondents at the time the Shareholders’ Agreement (which contained the arbitration agreement) was signed. The respondents argued that it was inappropriate to set the Arbitrator’s award under Article 34 of the Model Law.
The ICAA governs all international commercial arbitration
The Court reiterated that the Arbitration Act and the ICAA are mutually exclusive statutes: i.e., if the ICAA governs an agreement, the Arbitration Act does not.[7] It noted that courts have recognized that the Model Law contains mandatory provisions that cannot be excluded by agreement of the parties, meaning that parties cannot contract out of the application of the ICAA and the Model Law by reference to the Arbitration Act in their arbitration agreements.[8]
With respect to the arbitration before it, the Court noted that the Supreme Court of Canada has recognized that investment transactions are commercial relationships for the purpose of the Model Law.[9] It also held that because one of the Respondents resided in China at the time the Shareholders’ Agreement was executed, the arbitration was international. Consequently, the appropriate framework for the set aside application was Article 34 of the Model Law:[10]
Article 5 of the Model Law states that “[i]n matters governed by this Law, no court shall intervene except where so provided in this Law.” In my view, Article 5 contains mandatory language and is a mandatory provision of the Model Law. If a court is to intervene and set aside an award to which the Model Law applies, the court can only do so in accordance with and based on the provisions of the Model Law.[11]
No basis to set aside the Arbitrator’s Awards
After finding that the Model Law applied, the Court assessed whether the Arbitrator’s decision should be set-aside on the basis of: (a) procedural fairness; or (b) the Arbitrator exceeding her jurisdiction.
(a) Procedural Fairness – Article 34(2)(a)(ii)
In order to meet the high threshold required to set aside an award under Article 34(2)(a)(ii) of the Model Law:
[The] conduct of the arbitral tribunal must be sufficiently serious to offend [the] most basic notions of morality and justice… Judicial intervention for alleged violations of the due process requirements of the Model Law will be warranted only when the tribunal’s conduct is so serious that it cannot be condoned under Ontario law.[12]
The Court rejected the Applicant’s submissions that the Arbitrator reopened issues that were finally determined at the liability stage of the arbitration and/or made new and inconsistent findings of fact in the Damages Award. It held that most of the Applicant’s arguments were based on the premise that the Arbitrator adopted the incorrect methodology for disgorgement of profits when funds have been co-mingled were related to the merits of the Arbitrator’s decision, not its procedural fairness.[13] It also held that the Applicant had the opportunity to cross-examine the Respondents’ expert witness and make submissions, and, thus, had been treated fairly.
Similarly, the Court found that, because the set aside application was not an appeal, it was not for the Court to determine whether the Arbitrator interpreted the Securities Act erroneously when determining which remedies were available to the Respondents.[14]
Based on those findings, the Court held that the Applicant “[had] not established any valid ground for setting aside the Damages Award for reasons of fairness or natural justice under Article 32(a)(ii) of the Model Law.”[15]
(b) Jurisdiction – Article 34(2)(a)(iii)
Jurisdiction is a question of whether an Arbitrator had the authority to make the inquiry they made, not a question of whether the Arbitrator made the correct decision.[16]
The Court held that the Arbitrator did not exceed her jurisdiction by affecting non-party shareholders or by re-opening liability issues,[17] and found that the Applicant had not established valid grounds for setting aside the Damages Award under Article 34(2)(a)(iii) of the Model Law.[18]
Concluding Thoughts
This case is a reminder that although the arbitration process provides parties with significant choice in how their arbitration will take place, certain decisions, such as the seat of the arbitration, will result in the mandatory application of the appropriate legislation—which is determined by the operation of law and cannot be selected by the parties. As such, when negotiating the seat of potential future arbitration, parties should not only consider the convenience of the seat, but also what legislation will govern matters such as set aside application and appeals.[19]
The Court’s findings are also consistent with prior court decisions that have maintained a high bar for set aside applications.
[1] EDE Capital Inc. v Guan, 2023 ONSC 3273.
[2] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 9.
[3] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 36.
[4] EDE Capital Inc. v Guan, 2023 ONSC 3273 at paras. 48-49.
[5] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 54.
[6] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 53.
[7] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 80.
[8] EDE Capital Inc. v Guan, 2023 ONSC 3273 at paras. 89-90.
[9] EDE Capital Inc. v Guan, 2023 ONSC 3273 at paras. 80-82.
[10] The Court noted that it would have reached the same conclusions in this case under the Arbitration Act; EDE Capital Inc. v Guan, 2023 ONSC 3273 at paras. 91-92.
[11] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 91.
[12] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 95.
[13] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 101.
[14] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 107.
[15] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 108.
[16] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 100.
[17] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 109.
[18] EDE Capital Inc. v Guan, 2023 ONSC 3273 at para. 111.
[19] In Canada, the all of the provincial statues applicable to international commercial arbitration are based on the Model Law. However, provincial statues applying to domestic arbitration vary between the provinces and typically allowing for more involvement by courts.
arbitration international arbitration Arbitration awards Arbitration Agreements Arbitration Act commercial arbitration