Insecurities arbitration

15 Jun 2018

Unless you have been living under a rock for the last three years, you will have heard something about the corruption case in Brazil that has led to the impeachment of the last president, the conviction of the one before and an investigation of the current one.

What is it all about? It centres on a corruption scheme involving various political parties and the state-controlled oil company, Petrobras. The fallout led to Brazil’s largest arbitrations, estimated to be worth between USD 4-7 billion. The claims are brought by, amongst others, institutional investors, in and out of Brazil.


Petrobras is a public limited company listed in various exchanges domestically and internationally. In Brazil, article 109 of law 6.404/76 contains a specific provision confirming that listed companies can include arbitration agreements in their articles. In 2001, the São Paulo stock exchange (then Bovespa, now B3 SA Brasil Bolsa Balcão) introduced its own arbitration institution (Câmara de Arbitragem do Mercado da BMF&Bovespa) for listed companies in its top two levels of listing. Any company within those levels must agree to submit to arbitration all disputes between the company, its shareholders and managers, and B3.

When the corruption came to light, the share price plummeted. Institutional and minority investors sought redress.

In Re: Petrobras Securities Litigation, No. 14-9662 (JSR) (SD NY 2016), in response to a class action for breaches of the Exchange Act 1934, Securities Act 1933, misrepresentation and fraud, Petrobras argued that any dispute arising from the acquisition of shares was subject to arbitration in Brazil, in accordance with its articles of association. In its preliminary decision, the Southern District of New York decided that shares purchased via the New York Stock Exchange were subject to the federal acts and a separate, non-contractual cause of action arose. Shares purchased in Brazil, via B3, were subject to arbitration in Brazil. Petrobras eventually settled the US claims for a little under USD 3 billion.

Court of Appeal decision

In 2014, Mr José Wianey Adami filed a claim against Petrobras and the Brazilian government, known as the “Union” as the majority shareholder, for damages in the Federal District Court of the State of Santa Catarina. He claimed that, under Brazilian law, his express consent was needed where he purchased shares in a company whose articles of association included an arbitration agreement. The claim was dismissed, on the basis that a valid arbitration agreement existed between the parties.

Mr Adami appealed to the Fourth Circuit of the Federal Court of Appeal (TRF-4) in Appeal No. 500984610.2015.4.04.7201/SC. TRF-4 upheld the lower court’s decision, finding that:

  • The articles of association were public and available to all potential shareholders, in accordance to capital markets regulation.
  • There was no obligation on the shareholder to purchase shares; rather, he chose to purchase them of his own volition, implicitly agreeing to its corporate provisions including any agreement to submit to arbitration.

This decision was a victory for the sanctity of arbitration and followed the same reasoning as the Southern District of New York. Parties who purchased shares on the Brazilian exchange B3 were therefore subject to securities arbitration.

Brazilian arbitration

In 2016, proceedings were filed in the B3 arbitral chamber, claiming losses under causes of action based on the Brazilian civil code and in laws regulating capital markets. For example, law 7,913/89, which prescribes the right to damages for investors where a finding of fraudulent operations, price manipulation or creation of artificial operating conditions is made. Claimants also joined the Union as a party, on the basis that they appointed corrupt directors and shared liability with Petrobras.

Proceedings were originally filed by minority investors as the only viable procedure. Later, international institutional investors, domestic pension funds and banks joined the class action arbitration.

The claimants sought damages for the losses suffered from shares purchased prior to the exposing of corruption. The issue of quantum was highly complex, as damages should have excluded losses arising from the variation in oil prices and changes in the overall stock market. It must have been limited to the impact of false representations made by Petrobras, and the impact of corruption uncovered by Operation Car Wash.

The arbitration has been littered with procedural issues, which has caused proceedings to drag. First, the Union rejected the jurisdiction of the arbitration, arguing that it was not bound by article 58 of Petrobras’ articles of association. In light of the tribunal not having been formed, the decision fell to the president of the B3 chamber, who rejected the application. The Union applied and obtained a preliminary ruling from the first and second instance federal courts in the state of São Paulo (TRF-3), under the same article 58 argument. They found for the Union.

With competing decisions about the arbitration agreement regarding the Union, the claimants in the arbitration applied for a binding decision from the Superior Court of Justice (STJ), Brazil’s last instance court for non-constitutional issues. The matter was heard by Minister (Judge) Nancy Adrighi, who, on 9 May 2018, handed down her decision that the Union had to submit to the securities arbitration, as article 8 of law 9.307/96 gives exclusive jurisdiction to arbitral proceedings to decide on its own jurisdiction. The courts should not interfere with this jurisdiction, exclusively conferred on the tribunal. This is a trite principle of arbitration known as kompetenz-kompetenz. Consequently, the arbitral tribunal had to now be formed, and any arguments advanced by the Union on arbitrability of actions against it had to be aired there.

This decision by the STJ is another victory for Brazil’s reputation as an arbitration-friendly jurisdiction and demonstrates that its courts respect and uphold arbitration agreements, in line with major international consensus. It is also consistent with the earlier decisions in New York and TRF-4.

The road ahead

This arbitration is interesting for many reasons. Brazil has signed 14 bilateral investment treaties (BITs) and only ratified seven. In 2015, Brazil entered into a new phase when it signed cooperation and facilitation investment agreements (CFIA) with Angola, Chile, Colombia, Malawi, Mexico and Mozambique, which provide the template for Brazil’s alternative BIT.

Unlike traditional BITs, CFIAs do not provide for an investor-state dispute settlement (ISDS) mechanism. Where such a dispute arises between a foreign investor and the state, the CFIA provides for a two limb process. First, it provides for dispute prevention between investor and state. Second, it provides for a dispute resolution stage. However, the second limb applies only to state-to-state arbitration and offers no redress directly to a foreign investor against a host state.

The current securities arbitration may be the first arbitration in Brazil to involve the Union. If so, it will become a quasi-investor-state arbitration. The difficulty is that there is no legal framework for arbitrating against the Union in this way. It is therefore expected that this will be a lengthy and expensive arbitration, with procedural objections raised at every stage.

However, it is unlikely that claimants will become financially fatigued. So far, Leste, the Brazilian third party funder who has a partnership agreement with Woodsford, has invested heavily. Lex Finance, a Peruvian funder, Vannin a member of the Association of Litigation Funders (ALF) and other international funders have also made noises showing interest. There is both appetite and financial stamina to see this arbitration through. Much like the situation in New York, I suspect that there will be a large settlement along the way.

The fact that this is a securities arbitration is somewhat ironic, as the road ahead is peppered with uncertainty and insecurity.


This article was first published for Practical Law’s Arbitration Blog.


Frederico Singarajah

Frederico Singarajah

Call: 2009


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