Amy C Kläsener - The Guide to M_A Arbitration

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request the enforcement of specific performance from the court; provided, however, that this shall not apply to the cases where the nature of the obligation does not permit such enforcement.’

Request for specific performance does not preclude the request for compensation by way of monetary damages.19 Article 415 of the Civil Code further provides that ‘if an obligor fails to perform consistent with the purpose of its obligation, the obligee shall be entitled to demand damages arising from such failure.’ In practice, the most common remedy requested by parties and granted in M&A arbitrations and Japanese courts are damages.

Measure of damages

Obligee shall be entitled to demand the compensation for (1) the damage which would ordinarily arise from the breach and (2) the special damages which arise from the circumstances which the party could foresee or should have foreseen.20

Punitive damages are not permitted under the public policy and good-morals principle set out in Article 90 of the Civil Code.Therefore, even if punitive damages are awarded in foreign arbitration, they would not be enforceable in a Japanese court.21

The law does not prescribe any specific method for calculation of damages and it would be largely at the decision maker’s discretion and dependent on the circumstances of the case. Given the difficulty in proving the exact amount of damages suffered, some statutes provide presumption of amount of damages, such as in patent infringement cases22 or security fraud cases.23 In other cases where proving the amount of damages is extremely difficult, the court may exercise its discretion and decide the appropriate amount of damages, pursuant to Article 248 of the Civil Procedure Code.

Special substantive issues

Synergy effect arising out of M&A

Under the Companies Act, where the court determines the ‘fair price’ of the share held by the dissenting shareholders, it should include the future synergy effects (if any) arising out of the merger.

Liquidated damages

In certain M&A agreements, parties provide for liquidated damages to be a fair determination of losses that may be suffered by a party. Currently, under the Civil Code, liquidated damages are generally permissible even if characterised as a penalty, and the court cannot discretionally decrease or increase the agreed amount of liquidated damages even if the

19Article 414(4) of the Civil Code.

20Article 416(1) of the Civil Code provides that ‘the purpose of the demand for the damages for failure to perform an obligation shall be to demand the compensation for damages which would ordinarily arise from such failure.’Article 416(2) further provides that ‘the obligee may also demand the compensation for damages which arise from any special circumstances if the party did foresee, or should have foreseen, such circumstances.’

21Supreme Court Decision dated 11 July 1997, Minshu 51, p. 2573.

22Article 102 of the Patent Act.

23Article 21-1 of the Financial Instruments and Exchange Act.

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actual damages differ substantially.24 That said, there may be a case that such liquidated damages provision becomes null and void in full or in part if the amount is considered to be extremely excessive in light of the circumstances, pursuant to the public policy and good-morals doctrine contained in Article 90 of the Civil Code.25

Special procedural issues

Exclusive jurisdiction of Japanese court

An action concerning the organisation of a company (which includes an action seeking invalidation of issued shares or stock options, seeking invalidation of merger of a company, seeking revocation of a resolution of a shareholder meeting, seeking dissolution of a company, etc.) are under the exclusive jurisdiction of the district court having jurisdiction over the location of the head office of the defendant company.26 Therefore, these claims are not arbitrable.

No parol evidence rule

Although entire-agreement clauses are popular in Japanese M&A practice, there is no rule under the Japanese law corresponding to the parol evidence rule in common law jurisdictions.The effect of entire-agreement clauses depends on the exact wording of the provision and the circumstances. For robustly drafted entire-agreement clauses that expressly prohibit the parties from seeking to rely on any extrinsic evidence other than the contract itself in any legal proceedings, a court precedent has found the entire-agreement clause to be effective. It accepted the clause’s exact literal effect and excluded the extrinsic evidence when construing the disputed contractual clause in question.27 On the other hand, there is a court precedent in which the court did take into account external circumstances when construing the meaning of a contractual provision even where there was an entire-agreement clause that provided that ‘The basic agreement is the only agreement which constitutes the entire agreement between the parties relating to the purpose of this basic agreement and supersedes all prior or present negotiations or understandings.’28

Attorney–client privilege

Attorney–client privilege as a concept is not clearly recognised under the Japanese law, while a concept similar to attorney–client privilege exists under the Civil Procedure Code in the context of document disclosure and evidence production during court proceedings.

24Article 420(1) of the Civil Code.This clause shall be deleted under the new Civil Code, which is planned to enter into force by 2 June 2020.

25Supreme Court Decision dated 14 March 1944, Minshu 23 p. 147.

26Article 835 of the Companies Act.

27The Decision of Tokyo District Court dated 13 July 1995, Hanta 938, p. 160.

28The Decision of Nagoya District Court dated 12 November 2007, Kinyu-Shoji Hanrei 1319, p. 50.

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15

Korea

Chul Won Lee, Una Cho and Hye Won Chin1

Frequency of M&A disputes

The number and value of Korean M&A deals have been continuously increasing since the 1997 Asian financial crisis. In particular, the years 2014 to 2016 broke records, with sharp increases in M&A activity in the Korean market resulting from a significant number of inbound deals and many domestic transactions, partly driven by internal restructuring of Korean conglomerates and global and local private equity funds.While there are no published statistics on how many M&A transactions result in litigation or arbitration, market trends show that the number of disputes has grown in proportion to the M&A market.

With the increasing sophistication of the Korean M&A market during the past 20 years, deal structures and contractual arrangements have become more complex and highly customised to meet the various needs of the parties. As a result, the nature of the claims and disputes have also become more varied, leading the courts and arbitral tribunals to address new and complex issues, and bringing more clarity in some previously ambiguous areas of law in the M&A context.

Notably in 2017, deal volume and value fell by 8.5 per cent and 19 per cent, respectively, compared with 2016, which is by far the biggest drop in the past 10 years.2 Whether this is the beginning of a downward spiral remains to be seen, but we foresee the number, complexity and variety of disputes related to M&A transactions will continue to increase in the foreseeable future.

1Chul Won Lee is a partner, Una Cho is a senior foreign attorney and Hye Won Chin is an associate at Kim & Chang.

2Bloomberg Korea M&A Legal Ranking FY 2017.

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Form of dispute resolution

While the majority of M&A disputes that involve domestic parties are still predominantly resolved through Korean court proceedings, disputes arising out of cross-border transactions are much more frequently resolved through arbitration. ‘Phased’ dispute resolution, which requires mediation or expert determination prior to litigation or arbitration, is less frequently found in M&A contracts.

Data published by the Korea Fair Trade Commission indicates that the percentage of M&A deals in Korea involving at least one foreign party between 2014 and 2016 was around 22 per cent,3 which is roughly consistent with our view on the ratio of contracts with arbitration clauses (involving one or more foreign parties) versus contracts selecting court litigation in M&A disputes.

Grounds for M&A arbitrations

The most frequently cited bases for M&A arbitrations are misrepresentations and breach of warranties. As misrepresentation and breach of warranty claims are provided for in most M&A contracts, parties are likely to be familiar with and comfortable raising such claims. Given that most of the operative representations and warranties are provided by the seller, the majority of the claims are asserted by the buyer. Nonetheless, indemnity escrow arrangements are frequently used in Korea, and the seller at times will be the first to initiate a claim for release of the escrow amount, or raise it as a counterclaim.

Claims based on misrepresentation and breach of warranty are often accompanied by claims for breach of covenant. Claims regarding pre-closing covenants are closely aligned with misrepresentation and warranties claims (e.g., continuing obligation on the accuracy of representations and warranties, absence of material adverse change, notice or approval provisions). In situations where the buyer or target company are in the same industry as the seller, claims for breach of post-closing covenants (e.g., non-compete, non-solicitation, intellectual property issues) are also not infrequent.

Claims of tort related to pre-contractual failure to disclose and fraud claims are possible under the Korean Civil Code, but as of yet are rare in Korea. As various limitations on liability for breaches in M&A contracts are increasingly common, claimants are starting to consider ways around the limitation by raising tort and fraud claims either in arbitration together with other contractual breach claims or through parallel litigation.

The post-closing price-adjustment mechanism through use of closing accounts has been a common pricing method in Korea, but claims related to price adjustments (often involving requirements for expert determinations) have been rare and are more generally raised as breach of representations and warranties claims. In cases where buyers retain a holdback as indemnity for price adjustments, sellers have initiated claims or counterclaims for release of the holdback.

3M&A Trend Report issued by Korean Fair Trade Commission for years 2014 to 2016. See www.ftc.go.kr/ www/selectReportUserView.do?key=10&rpttype=1&report_data_no=7199, www.ftc.go.kr/www/ selectReportUserView.do?key=10&rpttype=1&report_data_no=6583, www.ftc.go.kr/www/ selectReportUserView.do?key=10&rpttype=1&report_data_no=6116.

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Claims related to earn-outs are rare in Korea but not unheard of, as earn-out mechanisms are not frequently used in sizable Korean transactions, other than from time to time in transactions involving start-up companies or where the parties are unable to resolve their differences in valuation.

Disputes regarding failure to complete the transaction, especially related to break-up fees, are frequent in Korea, but the majority have been raised in litigation, as most of the operative agreements did not contain arbitration clauses.We expect to see an increase in arbitration relating to failure to complete in the future; for example, a high-profile dispute between two private equity funds regarding the cancellation of the acquisition of a parcel delivery company was reported to be in arbitration.4

Disputes regarding the rights of minority shareholders to exit under shareholder agreements,such as a put option or a drag along,have been on the rise recently.Several high profile arbitration cases filed by financial investors in relation to their put option execution against the controlling shareholder are currently pending. In an appellate decision in 2018, the court ordered a company to purchase the shares of the investors who were unable to exit using their drag-along rights when the company failed to cooperate in the drag-along process.

Fraud and failure to disclose

Claims related to failure to disclose or fraudulent misrepresentation in M&A transactions are generally raised by the buyer in connection with the information or representations provided by the seller during due diligence or contract negotiations.These claims are often brought for breach of representations and warranties terms in the contract, and the substantive standards tend to follow the requirements provided in the language of the relevant provisions.

Separately from contractual claims, a tort claim based on fraudulent misrepresentation or failure to disclose could be brought by the buyer. According to general statutes on tort under Korean Civil Code, the party claiming tort would be required to prove four elements to establish tort liability: (1) unlawfulness of the act, (2) wilfulness or negligence, (3) damage and (4) a causal connection between the act and the damage. However, a tort claim based on fraud is less frequently raised in M&A disputes as it would require an exceptional situation where the failure to disclose amounted to fraud, wilful concealment or deception.

A frequent defence raised by the sellers in responding to claims related to failure to disclose or misrepresentation is that the buyer had actual knowledge of the allegedly undisclosed or misrepresented facts and should not be allowed to claim damages based on the good-faith principle. In 2015, the Korean Supreme Court rendered a notable decision regarding the ‘knowledge’ defence.The Supreme Court held that the buyer’s prior knowledge of the seller’s misrepresentations and breach of warranties at the time of the execution of the agreement should not affect the buyer’s right to seek a remedy, unless the parties expressly agreed to exclude matters known to the buyer from the scope of representations and warranties.The Supreme Court added that limitation of contractual right by the application of the good-faith principle should only be made in extremely exceptional cases. This decision sets a clear precedent in favour of sandbagging in M&A disputes where the underlying M&A contract does not contain an anti-sandbagging clause.

4 www.theinvestor.co.kr/view.php?ud=20170125000698.

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Burden of proof

The basic rule for burden of proof under Korean law is that each party bears the burden of proving the facts it seeks to rely on.As a result, claimant must prove the underlying facts that constitute its claim, and the responding party must prove the facts for its defence. Such distribution of burden of proof is consistently applied, unless the burden is switched or alleviated by act of law or established jurisprudence.

Switching or alleviation of the burden of proof is applied in limited circumstances under Korean law. For instance, Korean courts have applied an ‘alleviated’ standard for establishing causation between environmental harm and damages considering its technical and complex nature. However, this alleviation of burden of proof has not often come up in the context of M&A disputes.

Under the Civil Code, while ‘wilfulness or negligence’ is an element of breach of contract, in contrast to tort claims, the claimant is not required to prove wilfulness or negligence of the non-performing defendant. It is up to the non-performing party to prove the absence of wilfulness or negligence as part of its defence, for example, by establishing that the non-performance is attributable to circumstances beyond its control. If it is established that the performance became impossible through no fault of either party, the parties are released from their obligations under the contract.The statutory effect is similar to force majeure even if a force majeure clause is not specifically included in the contract.

Knowledge sharing

There are no specific rules or standards on whether the knowledge of management or other representatives of the target can be treated as knowledge of the sellers, who are often shareholders of the target. In practice, terms are often included in M&A contracts to determine the scope of groups’ knowledge.Therefore, the decisions of the courts or the arbitral tribunals largely depend on the facts of the case and the contractual language on the scope of knowledge.

If there is no particular definition or provision in the agreement with regard to the criteria of persons whose knowledge is taken into account, general principles from the Commercial Code will be applied to interpret the agreement.The knowledge of the seller’s directors, who make material business decisions of the company through board resolutions, would be considered as the seller’s principal knowledge, and if any of the seller’s directors were also serving as directors of the target, their knowledge is likely to be seen as the seller’s. Generally, such directors are the registered directors who are official members of the board.

However, in the context of director’s liability, the Commercial Code expands the meaning of ‘directors’ to unregistered directors or persons under various titles that have de facto control or influence over the operations of the company or have active participation in the execution of the company’s business, which means certain persons exercising the authority of an executive officer or ‘management’ may be held to bear the same liability as a registered director.The same approach is likely to be applied in determining the scope of persons whose knowledge could constitute that of the company.

In determining whether knowledge held by certain representatives of the target should be imputed to the seller, the actual role, involvement and responsibilities of the seller in the target’s day-to-day management will be significant factors that the court will take into account. If any of the seller’s directors or executives were appointed as the target’s director

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or executive, such facts may be used as grounds to ‘pool’ the knowledge of the seller and the target.Also according to the ‘expanded’ approach under the Commercial Code, participation by the seller in the target’s operation of its business is likely to contribute in establishing the nexus between the seller’s and the target’s knowledge. The actual ‘pooling’ of knowledge is likely to depend on the facts of the case, including the role and responsibility of the relevant individual according to the by-laws or internal regulation of the company. In the context of M&A transactions, knowledge of the person in charge of the deal on the seller’s side would be particularly relevant.

Remedies

As remedies for breach of contract, in the context of M&A disputes, claimants may seek performance of specific actions, such as transfer of shares or assets as required under the contract, or seek compensation of monetary damages in lieu of performance. In practice, monetary damages claims are more commonly sought by claimants in M&A disputes in accordance with the contractual mechanism agreed between the parties such as price adjustment and indemnification, or as general damages claims based on breach of contractual obligation or tort. In cases of specific performance, the award will take the form of an order requiring the respondent to take certain action, or of an order that is a constructive statement by the respondent (e.g., to provide consent).

Under the Civil Code, a party may terminate or cancel a contract based on non-performance of a material obligation by the other party. In addition to statutory termination rights, a party claiming fraud may seek to rescind the contract by arguing that the agreement was based on fraud by the other party. If such claim is accepted, the expression of intention to agree to the contract is revoked and the contract is retroactively rescinded in accordance with the Civil Code. However, in practice, statutory rescission claims are rarely accepted in the context of M&A disputes.

Generally, contractual termination terms as defined in the contracts will be given deference, and statutory termination rights are less frequently used.Termination or cancellation of the transaction becomes less of an issue after the closing because most M&A contracts specify that no unwinding of the transaction is allowed after closing.

The statutory interest rate for monetary damages is set at 5 per cent per annum under the Civil Code, unless otherwise agreed between the parties. However, the statutory rate of 6 per cent per annum can be applied under the Commercial Code where the parties are entities or natural persons in commercial business, which would likely apply to most M&A transactions.The Special Act on Expedition of Litigation5 provides that interest rate of 12 per cent per annum6 shall apply to monetary damages claims from the date of filing of the lawsuit.Although this act applies to litigation in Korean courts, some tribunals have applied this interest rate for arbitrations seated in Korea.

5The purpose of this Act is to award higher delay interest on successful monetary claims once court litigation is commenced so as to avoid intentional delay in litigation. It is arguable whether the Act also applies to arbitration seated in Korea.

6The interest rate under the Special Act on Expedition of Litigation was lowered from 15 per cent to 12 per cent per annum in June 2019.

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Measure of damages

The Civil Code defines two broad categories of compensable damages in both contract and tort claims under Korean law: ordinary damages and special damages. Ordinary damages are those that are commonly expected to result from a breach of contract or a particular tort. While not specifically defined by law, ordinary damages can be claimed for loss that may be expected to ordinarily flow from the underlying act in question.The claimant needs to prove the amount of loss that was directly or proximately caused by the breach or the tortious act to recover ordinary damages. Special damages arise through circumstances that are specific to the parties’ situation other than ordinary damages. Special damages can be sought only when the breaching party ‘knew’ or ‘could have reasonably foreseen’ such circumstance.

Under Korean law, punitive damages in civil claims are not recognised or recoverable, unless specifically provided by law. (For example, the Product Liability Act prescribes ‘triple’ damages for intentional disregard of defective products.)7 In fact, if a foreign court judgment or an arbitral award governed by foreign substantive law grants punitive damages, it is possible that a Korean court would reject enforcement.The Civil Procedure Act specifically provides that the court shall reject enforcement of a foreign money judgment on damages if the judgment is in serious conflict with the laws of Korea.There are court precedents where punitive damage portion of a foreign judgment was excluded from the scope of enforcement, and for this reason, Korean courts may find arbitral awards ordering payment of punitive damages to violate public policy under the NewYork Convention.

Contractual liquidated damages and penalty provisions are recognised in Korean legal practice. Nonetheless, the Civil Code empowers the court to review and reduce the liquidated damages agreed between the parties if the court finds the amount to be unjustly excessive. In contrast, the court has no power, in principle, to reduce the penalty.Therefore, the claiming party usually attempts to portray the relevant provision as a penalty clause instead of liquidating damages to avoid discretional reduction by the court. This can become an issue with ‘break-up fees’ or ‘guarantee deposits’ in the M&A context, allowing the buyer to terminate the contract by giving up the deposit delivered to the seller, or the seller to terminate by paying reverse break-up fees. Unlike penalties, if a court determines the ‘guarantee deposits’ to be payment of liquidated damages for early termination, the amounts at issue may be subject to the review of the court.

In 2016, the Korean Supreme Court rendered a noteworthy decision on break-up fees, reversing the lower-court decisions in a case brought by the buyer for the return of a performance guarantee deposit in a failed acquisition deal.The key question was whether the guarantee deposit constituted a ‘penalty’ or ‘liquidated damages’.Although the language of the contract expressly specified that the guarantee deposit would constitute a ‘penalty’ for breach of the underlying agreement, the Supreme Court found that the facts strongly supported the nature of the ‘guarantee deposit’ as that of liquidated damages for failure to complete the transaction.The court went on to find the amount of damages to be excessive and accordingly ordered a reduction of the amount.The case demonstrates that Korean courts may be willing to look beyond the contractual language in determining the nature of the break-up fees, depending on the facts and circumstances of the dispute.

7 Article 3-2, Product Liability Act, as amended by Act No. 14764 of 18 April 2017.

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Special substantive issues

Korean law provides a wide scope of set-off rights. The right to exercise set-off requires matching mutual obligations of the same kind owed from one another which are due and payable, but these obligations need not necessarily share the same contractual or factual grounds. As a result, most monetary payment obligations are considered to be eligible for set-off under Korean legal practice, unless parties specifically agreed to exclude such obligations from set-off. Set-off rights can be asserted within court litigation or arbitration proceedings and also outside the dispute context by notification of such intention. Set-off is frequently argued in M&A disputes, as parties often hold corresponding payment obligations related to indemnity payments, hold-back or escrow.

Claims of set-off under Korean law may create conflict with the jurisdiction of the tribunal in international arbitration.There is currently no certainty on the jurisdiction of the arbitral tribunal to examine a dispute related to the exercise of set-off rights arising from a contract separate from the contract containing the arbitration agreement. If the responding party rejects the set-off by arguing that the alleged corresponding claim does not exist or is not due and payable, the arbitral tribunal may be asked to examine factual and legal matters beyond its jurisdiction, which may eventually subject the award to challenge. As such, in practice, set-off claims in international arbitrations are generally limited to claims arising from the same agreement or closely related agreements that are subject to arbitration.

Special procedural issues

The scope and procedure of document production in international arbitrations with a Korean nexus are not significantly different from the generally accepted practice in international arbitration proceedings. However, arbitrations under the Korean Commercial Arbitration Board (KCAB) domestic rules tend to follow Korean court litigation procedure, which allows a substantially narrower scope of document production compared with the generally accepted standard in international arbitration proceedings. As in litigation, in KCAB domestic proceedings, there may not be a separate step for ‘document production’ and instead, a party may need to ask the tribunal to order the other party to produce certain documents during the arbitral proceedings. The party making the request must specify the documents being requested and provide the grounds for such request. In practice, production requests are usually limited to a narrow scope of specific documents with clear relevance.

Multiparty arbitration can be particularly relevant, as many M&A transactions involve more than two parties.While the KCAB International Arbitration Rules were amended in 2016 to enable arbitral tribunals to allow third parties to be joined in certain conditions, as of yet there are no specific provisions in the Arbitration Act and no clear court precedent on multiparty arbitration issues, such as consolidation of multiple arbitral proceedings or joinder of additional interested parties. It remains to be seen whether the changes in the KCAB rules will spur further changes in the practice of international arbitration and the courts’ acceptance of multiparty proceedings in Korea.

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16

Poland

Marcin Rudnik and Paweł Wysocki1

Frequency of M&A disputes

As a rule, the frequency of M&A disputes reflects the general condition of the economy and does seem to depend to a significant extent on the performance of the M&A market in general and the types of parties to a transaction.

Permanent courts of arbitration in Poland do not publish detailed statistics relating to the frequency of M&A disputes. From the data that is available, however, it can be deduced that the Court of Arbitration at the Polish Chamber of Commerce, which is the largest arbitral institution in Poland, decides, on average, on fewer than 10 M&A-related disputes per year. In 2017, the eight M&A cases made up for 4.1 per cent of all cases resolved before this court.

The transaction parties are another factor in determining the frequency of M&A disputes.While in the case of professional investors of similar (significant) size, arbitration is often the very last resort and alternative dispute resolution mechanisms (such as business mediation or other forms of settlements) seem to be preferred. Small-scale transaction parties tend to seek arbitral relief more frequently.

Form of dispute resolution

No statistics on the frequency of M&A disputes are being published, either by the Polish courts or by the Ministry of Justice.Therefore, any assessment of the relative frequency of arbitration in the context of M&A disputes can only rely on market experience.

It is common practice in international and large-scale M&A transactions to incorporate arbitration clauses into the contracts. The aspects of arbitration viewed as most advantageous when compared with litigation include confidentiality and the possibility of choosing arbitrators with experience in international business dealings and knowledge of the

1 Marcin Rudnik and Paweł Wysocki are senior associates at Wolf Theiss.

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