To arbitrate or not to arbitrate – the pertinent question for non-signatory third parties - Germany

This is the fourth and final article in Clyde & Co’s series exploring the key considerations for non-signatory third parties to arbitration agreements. Clyde & Co’s European international arbitration teams have prepared various jurisdictional perspectives on this topic and Counsel Georg Schperf, Associate Antonios Politis, and Research Assistant Anna Isfort, from our Hamburg office, close out the series by covering the position in Germany.

Arbitration is based on consent, which is first and foremost expressed in the arbitration agreement. The arbitration agreement is usually concluded between two parties, sometimes more, binding them to this form of dispute resolution and authorising an arbitral tribunal to decide their dispute. Parties can subsequently be bound by succession, assignment, or agency to the arbitration agreement, but the basic set-up is of a bilateral nature.

There are, however, situations where this set-up does not seem to reflect the economic realities, in particular where more than the two signatory parties are involved in the negotiation or performance of the contract. In such cases, there is often a desire to extend the subjective scope of the arbitration agreement to include third parties who have not signed the arbitration agreement themselves (“non-signatories”). Since national arbitration laws, institutional rules, as well as the New York Convention are mostly silent on this issue, the requirements and limits of an extension to non-signatories has been handled differently depending on the jurisdiction.

In this article, we explain the situation under German law regarding non-signatories. First, we outline the different concepts often put forward to extend the arbitration agreement’s subjective scope and whether they are acknowledged by German law.  Then we discuss how to determine the applicable law in this regard based on the guidance given by the German Federal Court of Justice (Bundesgerichtshof – BGH). Finally, we look at other available forms of participation of third parties, in order to allow for a comprehensive dispute resolution.

1. Extending the subjective scope of arbitration agreements under German law

Under German law, the arbitration agreement, in principle, binds only the parties who enter into it. Third parties cannot be included in the arbitration unless they have consented to it. An extension of the arbitration clause is rejected in most cases, as the constitutional guarantee of access to justice before the competent state court will protect a non-signatory from being drawn into an arbitration against their will (Müller/Keilmann, Beteiligung am Schiedsverfahren wider Willen? SchiedsVZ 2007, 113, 121). In that sense, German law is relatively restrictive compared to some other jurisdictions.

Only in exceptional cases and due to special legal considerations can third parties be bound by an arbitration agreement where they are not the legal successor of one of the original parties to the agreement and have not signed it:

• Representation and implied consent: Third parties who have either given their authority to be represented or have given implied consent to an arbitration agreement are not – technically – “signatories” to the agreement but have given their consent and are therefore bound directly as parties to the arbitration agreement. This is not a case of “extension” per se.
• Assignment: A person who is assigned a claim connected with an arbitration agreement is bound by it, since he or she can be expected to know of the existence of the arbitration agreement (See, BGH, Decision of 2 October 1997 – III ZR 2/96).
• Guarantors etc.: A guarantor, co-obligor or surety will only be bound by an arbitration agreement if this third party has co-signed the arbitration agreement – an extension is not possible (Zöller/Geimer ZPO Section 1029 marginal no. 63 for more references.).
• Contract for the benefit of third parties (Vertrag zugunsten Dritter): It is widely accepted that the non-signatory third person who benefits from the contract under Section 328 et seqq. German Civil Code (BGB) is also bound by an arbitration clause included in that contract (Zöller/Geimer ZPO Section 1031 ZPO marginal no. 19).
• Accessory liability of shareholders of partnership: An arbitration agreement concluded by a legal partnership (i.e. Gesellschaft bürgerlichen Rechts, offene Handelsgesellschaft) also extends to the partners/shareholders as a result of their accessory liability stipulated in Section 128 German Commercial Code (HGB).
• Piercing the Corporate Veil (Durchgriffshaftung): The extension of an arbitration agreement to the shareholders or the legal representatives of a corporation in the sense of a “veil piercing” is rejected in most cases. Even in case a non-signatory, e.g. a major shareholder of the signatory, is liable under the (strict) conditions of veil piercing e.g. under tort law, such liability does not directly translate to the non-signatory being bound to the arbitration agreement concluded by the signatory as well (see Müller/Keilmann, SchiedsVZ 2007, 113, 117).
• Group of Companies-doctrine: Probably the most controversial theory for determining the subjective scope is the “Group of Companies” doctrine. According to this doctrine, an arbitration agreement concluded by a group company can also bind other companies affiliated with it, for example if they participated in the negotiations of the agreements or were involved in their performance in a relevant way. The concept is based on the notion that such companies might be separate legal entities but constitute one "economic reality" (Dow Chemical Company et al. v. Isover Saint Gobain, ICC-Arbitration Court, IX Y.B. Com. Arb. 1984, 131, 136). The BGH has not yet conclusively assessed whether this doctrine can lead to an extension to non-signatories under German law. However, in similar cases concerning attribution within company groups it has consistently emphasised that the legal concept of an autonomous juridical person (i.e. the corporate entity) may not be lightly ignored (see e.g. BGH, Decision of 10 December 2007 – II ZR 239/05). Rather, a strict distinction must be made between the different companies of a group. The mere fact that one company has concluded an arbitration agreement does not mean that other companies of the same group should be included against their will. Therefore, an arbitration agreement in contracts concluded by the subsidiary does not generally bind the parent company (and vice versa). However, even if the Group of Companies doctrine would most likely be rejected by the BGH for these reasons, a similar result might be achieved relying on the concept of “implied consent” – i.e. on a different legal basis (Müller/Keilmann, SchiedsVZ 2007, 113, 119). For example, third parties may be bound by virtue of apparent or ostensible authority ("Anscheins- oder Duldungsvollmacht"), where a company has "also concluded" the arbitration agreement for another company from the perspective of the contracting party.  The notion of veil-piercing can also play a role in this context (see above).

As can be seen, the options for extending the subjective scope of the arbitration agreement are fairly limited under German law. This does not, however, mean that foreign awards against non-signatories based on a rejected concept of extension would not be enforceable in Germany. Rather, the legal threshold applicable here is a violation of the ordre public in the sense of an incompatibility with the "essence of the domestic legal order" (“Kernbestand der inländischen Rechtsordnung”). In fact, the BGH does not see such incompatibility in Group of Companies cases.  If the law applicable to the question of extension – which might very well be different from the law applicable to the arbitration agreement itself (see below) – acknowledges the Group of Company Doctrine, a resulting award will not contravene German public policy and will therefore be enforceable (see BGH, Decision of 8 May 2014 – III ZR 371/12).

2. Determining the law applicable to the question of extension

How to determine the applicable law in this regard is a separate question altogether. Importantly, it must be separated from the question of which law governs the arbitration agreement (either the law governing the contract or lex arbitri), which is the subject of some debate among academics in Germany, as in many other jurisdictions (Stein/Jonas/Schlosser ZPO Section 1029 para. 108; Schütze, Kollisionsrechtliche Probleme der Schiedsvereinbarung, insbesondere der Erstreckung ihrer Bindungswirkung auf Dritte, SchiedsVZ 2014, 274, 275; The Proper Law of the Arbitration Agreement: A Comparative Law Perspective: A Report from the CIArb London’s Branch Keynote Speech 2021 - Kluwer Arbitration Blog). 

The question of which law governs the question of extension has not yet been conclusively decided by German courts. The BGH has briefly touched upon this question in two decisions (See BGH, Decisions of 8 May 2014 (III ZR 371/12), at para. 21, and of 8 November 2018 (I ZB 24/18), at para. 11). It has not, however, rendered a definite decision on the matter, as its decisions have so far only dealt with unusual cases (non-signatory’s option to arbitrate / participation in negotiations as representative). Nevertheless, some of the Court’s remarks can be used as a guideline on how the question of applicable law might be dealt with.

The BGH seems to take the position that – in principle – the question of extension should be governed by the law applicable to the arbitration agreement (BGH, Decision of 8 November 2018, at para. 11). However, the BGH considers that this is only the case if the third party/non-signatory does not need to be protected from “external determination” (Schutz vor Fremdbestimmung). Given that they have not signed the agreement themselves (except as an agent or similar) and would potentially be bound by an arbitration agreement concluded between other parties, a certain risk of third-party determination seems to be inevitable. In most cases, the law applicable to the arbitration agreement will therefore not be applicable to the question of extension. Instead, one has to look at other factors.

The default approach – which is briefly raised as an alternative by the BGH (Decision of 8 May 2014, at para. 21), and also adopted by German legal scholars, is that the law applicable to the extension of an arbitration agreement to third parties is determined by the legal basis of the extension - i.e. usually by the legal relationship between the signatory/main party and the non-signatory (Schütze, SchiedsVZ 2014, 274, 275; Gottwald, Zur Bindung Dritter an internationale Gerichtsstands- und Schiedsvereinbarungen, in: Festschrift Geimer 2017, pp. 132 et seqq.). However, the variety of conceivable legal bases results in a rather fragmented and complex situation.

For example, in the case of assignment, the question of extension to the legal successor/assignee depends on the law to which the assignment statute refers. In the case of the contract for the benefit of third parties (Vertrag zugunsten Dritter), the question of extension to the third-party beneficiary is determined by the law governing the main contract.

When it comes to extending the subjective scope in the corporate context, identifying the legal basis of extension is considerably more complicated as it is usually not sufficient simply to refer to the law of incorporation. For example, if the extension to other companies within a group is based on a parent company concluding the arbitration agreement on behalf of its subsidiary as its representative, then the law governing representation is applicable.

As regards the group of companies doctrine, there is some debate as to whether its legal basis lies in the group affiliation per se or in the prima facie power of representation that is strengthened by the group affiliation. Depending on the approach taken, German scholars tend to rely on either the company statute or the statute of prima facie power of representation (See, e.g., Schütze, SchiedsVZ 2014, 274, 277 et seq.).

For these reasons it is clear that the law applicable to the question of extension cannot be simply equated with the law governing the arbitration agreement or even that of the main contract. Rather, it depends on the precise legal ground on which the legal basis of extension – i.e.  the relationship between main party and non-signatory – is based. 

3. Considerations regarding multi-contracting situations and conclusion

All things considered, the cases in which a non-signatory may expect to be pulled into an arbitration are few under German law. As long as none of the above-mentioned exceptions applies, third parties which have not agreed to be bound by an arbitration clause may assume that they can only be sued in state courts. In addition, since an award will not be binding against them, they can generally stay out of pending arbitration between signatories and instead wait for the outcome of the proceedings – e.g., to develop a better defending strategy against recourse claims.

However, the lack of binding effect may also prevent an efficient one-stop dispute resolution process. Particularly in situations involving multiple contracts, for instance when several parties jointly carry out a large project on different contractual levels (e.g. as developers, main contractors and subcontractors), the lack of binding effect of the findings between two proceedings can lead to considerable legal uncertainty. This applies in particular to recourse claims.  If, for example, a main contractor wishes to take recourse against a subcontractor in subsequent proceedings, but the second arbitral tribunal does not recognise the first tribunal’s findings, the main contractor could face the unjustified loss of its recourse claim. It therefore seems preferable to bring related disputes between several parties before a single tribunal, thereby avoiding the risk of contradictory awards.  But, of course, this is not always feasible.

Procedural instruments like “third-party intervention” (Nebenintervention) or third-party notices (Streitverkündung) are missing in this context. In German state court proceedings, these instruments allow third parties with a legal interest to participate in the ongoing (first) proceedings as non-parties with certain rights, but binds them to its findings in the subsequent proceedings (so-called “intervention effect”, cf. Section 68 German Code of Civil Procedure - CCP). Since contradictory rulings are avoided, this special form of participation for third parties contributes to efficient dispute resolution before state courts. In arbitration, however, the possibility of third-party intervention or third-party notices cannot be read into most bilateral arbitration clauses, as it is usually not expressly included and does not yet play a role in institutional arbitration rules. The latter, however, might change soon, as the German Arbitration Institute (DIS) has set up a working group to look into the possibility of incorporating these procedural instruments into its arbitration rules and, to this end, has already published a preliminary draft on supplementary rules for third-party notices for discussion (https://www.disarb.org/fileadmin//user_upload/Foerderung_Vernetzung/DIS-ERSD_-_Diskussionsentwurf_-_U__berarbeitung_vom_20._Dezember_2021.pdf). Such rules could, once included in institutional rules, lead the way towards a more efficient dispute resolution in multi-contracting situations.

Until then, the best approach is not just to rely on state courts as the only suitable forum for multi-contracting situations.  Instead, it is of crucial importance to negotiate detailed arbitration clauses which cover not only bilateral situations but the participation of third parties (as well as the binding effect of findings of the Tribunal). These additional rules could, for example, be based on the rules on third-party notice under German law (Sections 74 and 64 et seqq. CCP).  In addition to the rights and obligations of the non-parties, they should also address issues arising from the intermingling of litigation instruments in arbitration proceedings.  In particular, the arbitration clause should include rules on whether side-parties have any say when selecting the party-appointed arbitrators or rules on costs allocation.

In this way, the advantages of arbitration (tailor-made dispute resolution) can be maintained, whilst overcoming the limitations of the usual bilateral set-up of arbitration clauses. For drafting such comprehensive arbitration and third-party participation clauses, it is advisable to consult experienced counsel.

In timing with Paris Arbitration Week, Clyde & Co’s next series covering the enforcement of awards that have been set aside will go live later this week, spanning five jurisdictional perspectives across Europe, starting with the position in France.