Briefing

Preliminary discovery and arbitration clauses in Australia: Lessons from basketball

Background

In a case that looks at the interplay between pre-action/preliminary discovery proceedings in arbitration, The Supreme Court of New South Wales stayed preliminary discovery proceedings brought by two National Basketball League (NBL) clubs against the league operator. The court did so, not on the basis that preliminary discovery constitutes a “matter capable of settlement by arbitration” under the International Arbitration Act 1974 (Cth) (IAA), the court found it does not, but rather because the application breached a contractual covenant not to sue contained in the parties’ licence agreements.

The case clarifies the limits of the mandatory stay regime under s 7(2) of the IAA and the court’s inherent power, and the role that a broadly worded contractual non-suit covenant can play in precluding access to court-based procedures, even where those procedures are not available in the agreed arbitral forum.

Background and facts

The defendant, National Basketball League Pty Ltd (NBLCO), oversees the NBL. The plaintiffs, the Illawarra Hawks and South East Melbourne Phoenix basketball clubs, field teams in the NBL.

The clubs each held an almost identical licence agreement with NBLCO.

The clubs were considering claims against NBLCO and its director and ultimate beneficial owner, Larry Kestelman, relating to alleged breaches of their licence agreements. To assist with their consideration of the potential claims, they sought preliminary discovery from NBLCO under r 5.3 of the Uniform Civil Procedure Rules 2005 (NSW).

However, the licences contained an arbitration clause providing for disputes to be arbitrated by the Court of Arbitration for Sport (CAS) in Switzerland. NBLCO sought a stay of the preliminary discovery proceedings under s 7(2) of the IAA, Article 8 of the UNCITRAL Model Law on International Commercial Arbitration (contained in Schedule 2 of the IAA), or the Court’s inherent jurisdiction.

Preliminary discovery in Australia

Preliminary discovery in Australia is a procedure by which a potential plaintiff obtains documents from a potential defendant before the commencement of proceedings in circumstances where, despite reasonable enquiries, it has been unable to obtain sufficient information to decide whether to commence proceedings. In preliminary discovery proceedings, there is no adjudication of substantive rights or liabilities in the application: the court’s task is simply to decide whether it appears that the applicant may be entitled to seek relief and that the prospective defendant may possess relevant documents, without the applicant establishing even a prima facie case or specifying the proposed cause of action with precision. The Arbitration Agreement Part 14 of the licence agreements contained a “Grievance Procedure”, culminating in referral to arbitration by CAS. “Grievance” was defined broadly in cl 2.1 to mean:

“a dispute arising out of or in relation to the Club’s participation in the NBL, including a dispute about the breach, termination, validity, or subject matter of”, among other things, the licence “or any other matter”.
Clause 14.2 set out a tiered process “to obtain a resolution to any Grievance or any other matter regarding this Agreement or their participation in the NBL”: the parties were to attempt to negotiate a resolution, and if unsuccessful to mediate, and if unsuccessful then to arbitrate.

Critically, the parties agreed to follow the Grievance Procedure in cl 14.1 and that the decision of CAS was to be final and binding; it was further agreed that:
“no party will institute or maintain proceedings regarding a Grievance or any other matter regarding this Agreement or their participation in the NBL in any court or tribunal other than CAS”.

Does preliminary discovery fall within s 7(2) of the IAA?

The statutory framework

Section 7(2) of the IAA provides that where “proceedings instituted by a party to an arbitration agreement … against another party to the agreement are pending in a court” and the “proceedings involve the determination of a matter that, in pursuance of the agreement, is capable of settlement by arbitration”, the court “shall” stay the proceedings on the application of a party and refer the parties to arbitration.

Where the court identifies a “matter” that is the subject of a valid arbitration agreement and is capable of being resolved by arbitration, a stay is mandatory.

Does preliminary discovery fall within the arbitration agreement?

Interpretation of the arbitration agreement was guided by the orthodox principles governing the interpretation of arbitration agreements, including giving “meaning to the words chosen by the parties and giving liberal width and flexibility to elastic and general words of the contractual submission to arbitration”.

Despite the broad definition of “Grievance” in the licence agreements, the court was not persuaded that a contested preliminary discovery application qualifies as a “dispute” because it is a separate interlocutory process that lacks any substantive determination of the parties’ rights or liabilities. The wording of the arbitration agreement was framed in terms of a “process to obtain a resolution”, intended to capture only those “disputes” which can in fact be resolved by arbitration in CAS. The parties accepted that preliminary discovery is not available in CAS in the way it is under the procedural rules of the court, which told against the parties having intended such a procedure to fall within the arbitration agreement.

Is preliminary discovery a “matter capable of settlement by arbitration”?

Even if preliminary discovery fell within the arbitration agreement, the court held it would still not constitute a “matter capable of settlement by arbitration”, which requires “some subject matter, some right or liability in controversy” that is susceptible of settlement “as a discrete controversy” falling within the scope of the arbitration agreement and relating to rights not required to be determined exclusively by the exercise of judicial power.

The term has been construed broadly, but it does not “include every issue which would, or might, arise for decision in the course of the determination of such a claim”. Peden J identified four principal reasons why preliminary discovery does not constitute such a “matter”:

An arbitral tribunal cannot be seized of a “dispute” or “matter” unless and until a claimant brings a claim in relation to “some right or liability” under the arbitration agreement. Preliminary discovery operates in circumstances where the applicant has not commenced proceedings and is unsure whether it has a claim at all.
The very purpose of such an application is to allow a prospective applicant to gather evidence before deciding whether a cause of action or “matter” exists. There is no adjudication of substantive rights or liabilities in the sense contemplated by the term “matter” in s 7(2) of the IAA.

While statute gives the court jurisdiction to order preliminary discovery, there is no statutory authority for arbitral tribunals to order such relief. The references to “interim measures” in the Model Law presume that a dispute has already been referred to arbitration and have no application to pre-arbitral preliminary discovery.

It is clear from the experts’ joint report that preliminary discovery is not a procedure known to, or available in CAS, which reinforces that the application is not “capable of settlement by arbitration” as required by s 7(2) of the IAA.

Therefore, the preliminary discovery application did not fall within s 7(2) of the IAA and could not be stayed by that route.

Inherent/statutory power and the covenant not to sue in the arbitration agreement

This issue is the decisive basis for the stay. NBLCO’s primary submission was that a stay should be granted because the clubs’ application was contrary to the contractual promise to arbitrate and the contractual covenant not to sue in the arbitration agreement, drawing on the power enjoyed by courts of equity to restrain a breach of a negative covenant by issuing an injunction. After the adoption of Judicature
legislation, that result is achieved by granting a stay of proceedings.

The court accepted that it “has a broad statutory power to stay any proceedings before it”. It then undertook a careful textual analysis of the arbitration agreement:

It held that, properly construed, the second sentence of cl 14.3 was not merely “the other side of the coin” of the promise to arbitrate. It goes further. Both parties promised not to “institute or maintain proceedings regarding a Grievance or any other matter regarding [the licence agreement] or their participation in the NBL in any court or tribunal other than CAS”. The language goes beyond “resolution” of a “Grievance” or “other matter” in the first sentence; the promise is not to institute or maintain proceedings “regarding … any other matter regarding … their participation in the NBL”. The reference to the second sentence being a “further” agreement reinforces that it was intended by way of addition and not mere emphasis.

The court accepted that the preliminary discovery application was “any other matter” regarding the clubs’ involvement in the NBL and that such an application amounted to instituting proceedings. Accordingly, the application fell within the scope of the covenant not to sue in the arbitration agreement.

The court also rejected the clubs’ submission that it would not be proper to exercise the stay power where there is no arbitration that could or would resolve the relevant dispute. The absence of arbitral power to order preliminary discovery does not revive or preserve a right that has otherwise been expressly relinquished by a covenant not to sue.

Accordingly, the court stayed the proceedings pursuant to s 67 of the Civil Procedure Act 2005 (NSW) because the clubs’ application for preliminary discovery was in breach of the promise in cl 14.3.

Key takeaways and practical implications

Preliminary discovery can be a powerful tool for parties subject to an arbitration clause and who are within the jurisdiction of certain Australian courts: because such an application falls outside the mandatory stay regime under s 7(2) of the IAA, it is not defeated at the threshold by the existence of an arbitration clause. However, the Illawarra Basketball Club case makes clear that this is not a general principle that preliminary discovery will always survive an arbitration clause, the outcome turns on the precise wording of the dispute resolution clause.

The key point concerns the drafting of negative covenants. The arbitration clause in the licence agreements went beyond a simple agreement to arbitrate; the second sentence contained an express promise by each party not to “institute or maintain proceedings regarding a Grievance or any other matter regarding [the licence] or their participation in the NBL in any court or tribunal other than CAS”. Language that the court construed as extending beyond merely excluding litigation of arbitrable disputes to a comprehensive prohibition on any court proceedings, including preliminary discovery.

Commercial parties and their advisers should be alert to such clauses. As we have observed, a broadly drafted covenant not to sue is routinely included in dispute resolution provisions without full appreciation of its reach. Yet, as this case demonstrates, it can extinguish access to court-based pre-claim procedures that would otherwise be available and that no arbitral tribunal has power to replicate.