China: Ground Handling in China – Investors Beware

These contracts are in use at many Chinese airports since foreign airlines and airport service providers investing in China, and their insurers, expect relations to be governed by these terms. However, few investors have considered in detail what consequences lie in store for them should a dispute arise.

The means of regulating the liability position between airlines and ground handling companies is the infamous Article 8. Effectively, the airline picks up the tab for any damage to his aircraft (or other property) or any liability in respect of passengers, employees, baggage or cargo unless it arose from an act or omission of the handler done with intent to cause damage or recklessly with the knowledge that such damage would probably result. This language has a familiar ring since the words were taken from Article 25 of the Hague Protocol which governs air carrier liability to passengers and cargo owners. However, there has been considerable debate and litigation over the approach taken by courts to interpretation of Article 25 and Article 8. In some countries, such as Hong Kong, a very strict approach is taken, so that it will be almost impossible to establish reckless misconduct on the part of the handler, while in other countries like South Korea, courts will be more ready to find that it exists. Although China has implemented the Hague Protocol through the Civil Aviation Law of 1996, Chinese courts have yet to reach a consensus on what approach should be adopted to what constitutes reckless misconduct and they are often unwilling to receive guidance on the approaches taken by other countries. This presents a problem for handlers, airlines and their insurers since their potential liability exposures remain uncertain.

Article 9 of IATA SGHA provides for the resolution of disputes by arbitration. In the early versions of this agreement, the parties were left to appoint one or more arbitrators who would settle their own procedures and if necessary decide the law to be applied. In the event that either party failed to appoint an arbitrator, such appointment would be made by the IATA Director General. In 1999, IATA produced a set of IATA Arbitration Rules. However, many of the ground handling agreements in use today in China do not explicitly refer to the existence of such rules. This can present a problem for airlines or handlers where one of them is seeking to stay proceedings issued by the other in favour of arbitration. This is because courts in China expect parties to have reached an agreement on the rules that should be followed in the arbitration at the time the contract was entered into. There is a further related complication with these handling agreements in China, since while they refer to the resolution of disputes by arbitration and sometimes specify that IATA rules of procedure are to apply, they do not specify that the arbitration will be conducted in a recognized permanent arbitral institution, as opposed to a tribunal established on an ad hoc basis.

Article 5 of the Arbitration Law of the PRC, 1995, clearly bars a court from accepting an action over dispute whether parties have concluded a valid arbitration agreement. Therefore, if the circumstances are such that one party has instituted an action in a court without informing the court that a valid arbitration agreement exists, the other party may force dismissal of the action by submitting the relevant arbitration agreement to the court any time prior to the first hearing. However, under Article 26 of the Arbitration Law, if no objection to the court’s jurisdiction is raised prior to the first hearing, the other party may be deemed to have waived its rights under the arbitration agreement and the court may proceed to try that case. Article 257 (Chapter XXVIII "Arbitration") of the Civil Procedure Law of the PRC contains similar wording.

The Arbitration Law does not explicitly exclude the possibility of ad hoc arbitration in China. However, ad hoc arbitration is implicitly discouraged, most obviously because:

1. parties are required to reach agreement on the selection of a "designated Arbitration Commission" (Articles 6 and 16); where the parties cannot reach clear agreement on the arbitration organization, the arbitration agreement shall be deemed void (Article 18);
2. the mandatory provisions governing qualifications and selection of arbitrators are stated only within the context of an arbitrator serving as part of an arbitration organization (Article 13); and
3. arbitration organizations, rather than arbitration tribunals, are assigned roles with respect to the appointment of arbitrators and applications for interim measures of protection (Articles 28, 32 and 68).

Therefore the Arbitration Law imposes a number of significant obstacles to the conduct of ad hoc arbitration in China.

What does this all mean? It means that if party to a ground handling arrangement in China wants disputes to be resolved in private they should explicitly provide for institutional arbitration before a recognized institution. IATA is unlikely to be regarded as a recognized institution since it does not manage a permanent arbitral body. There are a number of formal arbitral institutions in China including the China International Economic and Trade Arbitration Commission ("CIETAC"). However, handlers and airlines should consider very carefully what institution they choose to conduct arbitrations in since few arbitral institutions have experience in handling aviation liability matters or an understanding of the manner in which aviation risks are arranged.

One final point for investors to be aware of is the governing law and jurisdiction provision in these agreements. These need to be agreed in advance since IATA has not provided a standard provision. Typically, the governing law is based on the jurisdiction where the activities are conducted so most handling agreements in China provide that the agreement is to be governed by Chinese law. However, some agreements fail to mention such a provision at all. This has caused difficulties for some investors in view of the limited experience that Chinese courts and tribunals have with understanding aviation disputes and interpreting applicable international aviation law and regulations. It is therefore common for investors to insist on a governing law other than Chinese law, with arbitration to be conducted in another jurisdiction.

Understandably, many Chinese organizations are reluctant to allow disputes to be resolved in another country and subject to a governing law which they are unfamiliar with. This is particularly true of common law systems.

However, the situation appears to be changing since a number of Chinese parties have now agreed to the resolution of disputes through the Hong Kong International Arbitration Centre ("HKIAC"), with Hong Kong law applying. Chinese courts recognize the validity of this institution and recognize and enforce arbitral awards made in Hong Kong. A compromise situation would be to agree to arbitration outside China but with Chinese law applying. Either way, parties need to consider very carefully the risks involved in such decisions, including the likely interpretation of aviation laws, the ability to seek interim relief and the ability to enforce any awards.

Given the rapid transformation of the aviation industry in China and the new opportunities that exist for foreign entities to conduct business in China, handlers and airlines are moving quickly to establish operations. Although, provisions relating to liabilities and indemnities, dispute resolution, governing law and jurisdiction are often not in the forefront of minds of bargain hunters, it would be wise to consult lawyers before concluding any ground handling agreements. Barlow Lyde & Gilbert has been advising a number of investors in this sector as well a number of unwary airport service providers and airlines caught in handling disputes in China.