Quantum awards in international arbitration – how can arbitrators and experts get it right?”

Forensic accountants sometimes describe their skill and raison d’être as being to simplify complex accounting concepts for dispute resolution lawyers.  Yet, at the recent ICCA commercial and investment arbitration conference, some of the world’s leading arbitrators said that they really found quantum experts’ reports very difficult to understand.

Furthermore, it has been stated that the process of scrutinising draft arbitration awards at the ICC picks up errors in the calculation of damages in up to 40% of draft awards.

As quantum experts have become a normal part of clients’ teams in international arbitration cases, what can be done to improve the situation as well as get awards right?

The responsibility of quantum experts

As quantum experts who regularly act in international arbitration, our view is that experts should have the responsibility of making their reports understandable and as simple as possible for both the lawyers on both sides and the arbitrators.  How can we complain that an arbitration tribunal has made a mistake in its award simply because the tribunal could not understand the reports?  For example, can a tribunal really be expected to understand 800 pages of spreadsheets in pdf format with no explanation that states the purpose of each page?  It must be the responsibility of the expert to explain and justify his own model rather than relying on the opposing expert to understand and explain it.

As quantum awards have followed particular trends, such as increasingly being based on Discounted Cash Flow (DCF) and a Discount rate, based on the Capital Asset Pricing Model formula, so arbitrators have learnt the terminology that quantum experts use and have often tried to adjust the models themselves.  However, it is still the quantum expert’s responsibility to explain in simple terms why they have adopted this or that methodology for calculating the quantum in a dispute, and to explain all the inputs and calculations in their model.

The responsibility of arbitrators

In their turn, given that they are making an award that may mean the payment of hundreds of millions of dollars from one company to another or from a country and its taxpayers to a company, arbitrators have a responsibility of ensuring that the quantum section of their award is properly calculated and is economically robust.

We respect the fact that arbitrators do not tend to be accountants, and so they can be excused for finding the legal aspects of an award more interesting than the quantum element, and they can also be excused if they do not articulate the quantum section of their award in the same way that a forensic accountant might use.  However, the parties surely have a right to expect that the award should be properly calculated and based on a logical and coherent argument, which includes the calculation of any damages awarded. Given the current dissatisfaction in some quarters with the Investor State Dispute Settlement System (“ISDS”), this could indeed provide an additional (and unnecessary) reason for dissatisfaction with ISDS in general.

Types of quantum errors in arbitration awards

Far be it from us to point to any awards which include errors, but in our experience, various types of error may arise – for example:

(a) arithmetical errors that are apparent on the face of the award itself;

(b) computational errors that arise where the arbitrators have calculated their own award by taking the quantum experts’ calculations and making their own changes; or

(c) conceptual errors that arise where the arbitrators have recalculated the award themselves, but have misunderstood or overlooked some fundamental concept in the quantum experts’ reports.

Clearly there can be disagreements between experts, or between one expert and the tribunal, on either the calculations or the economic theory, and the losing expert may complain that these are errors – but, if one expert has argued credibly for one methodology or valuation technique and the tribunal finds in his favour and against the other side, this is not something we refer to here as an error.

Fortunately, we are not aware of any examples of type (a) errors, and this is the sort of error that should be picked up by review procedures such as the ICC’s scrutiny process; it is also the sort of error that is referred to as “manifest error” in expert determinations, and is extremely rare.  However, it is the type (b) and (c) errors we want to focus on below, and to discuss possible ways in which tribunals could avoid them.

Computational errors

In the English High Court, it is common for judgments to be submitted to the parties’ counsel immediately prior to publication, to enable them to correct any factual inaccuracies – such a mechanism could be used for the parties to review an arbitration award and correct for any computational error.  Alternatively, we acted in one case where the judge gave the parties and their quantum experts a half hour recess to agree on the quantum number between them – as by this stage both quantum experts had each other’s models on their laptops we were able to come to an agreed number.

A principal argument put forward for not letting the parties or their quantum experts to check the award before it was finalised is that the tribunal has to be seen as the final arbiter of the case – and any submission of a “draft” award to the parties risks being taken by the party as an opportunity or a necessity for them to produce further submissions to argue their case after evidence has closed.  However, if the tribunal is absolutely clear that the parties are only invited to comment on the arithmetical accuracy and logic of the draft award, that should be less of a problem.  This process would have been very useful in one particular award that we have seen where the tribunal simply copied the wrong sequence of ten cells in a spreadsheet into its final award calculation. Had the parties seen the draft award in advance, both parties’ experts ought to have identified this and reached an agreement for the tribunal as to which were the correct cells to copy.

In our experience, it is becoming increasingly common for the tribunal to request the experts’ models in electronic form;  this is done to enable the experts  to save time and costs by testing each other’s models and thus being able to point out any errors before the hearing, and also so that the tribunal itself can take away the model for its deliberations, understand it and make appropriate modifications to it in order to generate a quantum number  that is in line with the award on the merits.

In theory, a younger generation of arbitrators is likely to have more experience of using Excel spreadsheets so they can manipulate the models themselves, but in practice, the models that we quantum experts use in our DCF calculations are still rarely simple enough for non-accountants to edit.  A tribunal recently took us up on our offer to agree on a model with the opposing expert for the tribunal to use in coming to its award – but, even though less than ten accounting items remained in dispute, it was not easy to design a foolproof model for the tribunal to use.  In this case, it was already simpler because the tribunal had directed us to prepare a joint statement, and that in itself had considerably narrowed the number of items remaining in dispute.

Conceptual errors

With respect to Russia’s challenge to the PCA award on the Yukos case, Russia’s expert seems to have been prepared to accept the tribunal finding in favour of the claimants on quantum if that finding had been based on sound economic argument – but he pointed out that what he found troubling was where the tribunal adopted its own non-standard method, which he considered to be based on flawed economic theory that would not have been accepted by either side’s quantum expert.

This type of “error” is more difficult to deal with, as it is not simply arithmetical, but arises from a tribunal either straying outside its expertise, or deciding that it has a novel insight into economic theory that may not be supported by any body of economists or forensic accountants– even though if an expert was to adopt such a non-standard theory, his report could justifiably be attacked for being outside of generally accepted accounting/economic/valuation parameters.  Probably, the answer to this type of “error” is that tribunals simply need to be extremely careful when they arrive at quantum awards that are outside the parameters of the calculations put forward by the two opposing experts.  It may not be unreasonable for a tribunal to award quantum on a basis that was not pleaded – but it is taking risks when it chooses a basis that was not tested at the hearing.

Possibly one radical solution that would assist tribunals to avoid these conceptual errors would be more use of tribunal-appointed quantum experts or a form of tribunal quantum secretary, who would be able to check the tribunal’s calculations and advise on the accuracy and the logic of the tribunal’s deliberations in advance – or even the appointment of a forensic accountant as the third member of the tribunal, along the lines adopted by the UNCC Panels a decade ago.  This, of course, raises other hot topics such as the role of a tribunal secretary – but is worthy of consideration in a situation where the quantum at stake is hundreds of times greater than the cost of a tribunal appointed expert or secretary.

The ICC’s vetting procedures

And one final thought –if the ICC’s scrutiny procedures are really picking up quantum errors in up to 40% of awards before they are issued, this scrutiny procedure is to be applauded – but maybe the other arbitral institutions should consider adopting a similar procedure, or even employing a forensic accountant to do the scrutinising in-house.

www.bdo.co.uk

Gervase MacGregor

Gervase MacGregor

Head of Forensic Services at BDO LLP

Email: gervase.macgregor@bdo.co.uk
Tel: +44 (0)20 7893 2665

Gervase MacGregor is Head of Forensic Services at BDO. He has a Bachelor’s degree in geology from the University of Liverpool and a Master’s degree from HEC in Paris.

He is a Chartered Accountant and a Certified Fraud Examiner.

He joined BDO in 1982, qualified in 1986, was made a partner in BDO in 1991 and became head of the London based Litigation Support and Forensic Accounting Department in 1994.

His first forensic investigation, in 1985, was into a contested takeover by a client of his firm, Caparo Plc. His work into accounting irregularities gave rise to the Caparo case on auditors’ liability.

He has a particular expertise in valuation and damages disputes and share purchase agreement disputes in the energy sector.

He has given evidence in the High Court, in international arbitrations and before select committees of the UK Parliament.

Andrew Maclay

Andrew Maclay

forensic accountant at BDO LLP

Email: andrew.maclay@bdo.co.uk
Tel: +44 20 7893 3487

Andrew Maclay is a forensic accountant who has specialised in all aspects of Forensic Accounting since 1996. He has an MA in Economics from the University of Cambridge.

He is a Chartered Accountant, a Certified Fraud Examiner and an accredited Accountant Expert Witness.

He specialises in the quantification of damages in international arbitration, and has worked on disputes in many jurisdictions, particularly France, Switzerland, West and East Europe, Africa and the Middle East. Between 1991 and 1994, he worked in Burundi, Africa and is fluent in French.

He has given evidence in international arbitration tribunals, the High court, a criminal court and by way of deposition in US proceedings.

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About Gervase MacGregor

Email: gervase.macgregor@bdo.co.uk
Tel: +44 (0)20 7893 2665

Gervase MacGregor is Head of Forensic Services at BDO. He has a Bachelor’s degree in geology from the University of Liverpool and a Master’s degree from HEC in Paris.

He is a Chartered Accountant and a Certified Fraud Examiner.

He joined BDO in 1982, qualified in 1986, was made a partner in BDO in 1991 and became head of the London based Litigation Support and Forensic Accounting Department in 1994.

His first forensic investigation, in 1985, was into a contested takeover by a client of his firm, Caparo Plc. His work into accounting irregularities gave rise to the Caparo case on auditors’ liability.

He has a particular expertise in valuation and damages disputes and share purchase agreement disputes in the energy sector.

He has given evidence in the High Court, in international arbitrations and before select committees of the UK Parliament.