When the legal rights and interests of partnerships are infringed, limited partners are entitled to initiate a derivative arbitration directly against a third party in their own name, based on the arbitration agreement made between partnership enterprise and the third party, if the executive partner fails to perform its duty.
There is no clear provision on whether arbitral institutions have jurisdiction over the derivative arbitration application brought by limited partners, as well as the necessary requirements for limited partners initiating a derivative arbitration. Different courts and arbitral institutions have taken different approaches to these issues. This article discusses the preconditions for limited partners initiating a derivative arbitration against a third party, summarising the opinions of current judicial practice and the arbitral tribunals in relevant cases accepted by the Beijing Arbitration Commission/Beijing International Arbitration Centre (BAC/BIAC).
Jurisdiction
In a discussion of whether arbitral institutions have jurisdiction over the derivative arbitration application brought by limited partners based on the arbitration agreement made between the partnership enterprise and a third party, a few courts hold that limited partners shall initiate a lawsuit to a court with jurisdiction, since there is no arbitration agreement between limited partners and the third party, and the subject matter in dispute is beyond the scope of the arbitration agreement between the partnership enterprise and the third party.
Conversely, some courts hold that the disputes to be settled are essentially arising from the contract made between the partnership enterprise and the third party, therefore, the jurisdiction over the case brought by limited partners shall be determined by the arbitration clause in the disputed contract.
Further, for some applications made by parties to courts in order to confirm whether the arbitration agreement between the partnership enterprise and a third party is binding on limited partners, the courts may consider that they are within the scope of an arbitral tribunal’s discretion and beyond the scope of, and causes for, reviewing the validity of an arbitration agreement stipulated by laws.
In judicial practice, the courts only review whether the three elements, as provided in article 16 of the Arbitration Law, are satisfied in the arbitration agreement made by parties, or whether the arbitration agreement falls under any of the circumstances of invalidity, as provided in article 17 of the Arbitration Law. Instead, the party may apply to an arbitral tribunal, during the arbitral proceedings, to confirm whether an arbitration agreement is binding on the other party, or apply to a court to cancel an arbitral award rendered.
In relevant cases accepted by the BAC/BIAC, the arbitral tribunal also holds that the BAC/BIAC has jurisdiction over the derivative arbitration application brought by limited partners.
In the discussion of jurisdiction of the BAC/BIAC, the arbitral tribunal concludes that the subject matter and the basis of the claim made by the claimant (the limited partner), as well as the ownership of interests in the case, are all within the scope of the arbitration clause of the disputed contract. Besides, the arbitral tribunal holds that the ruling of whether the claimant enjoys the right to initiate an arbitration also falls within the scope of its discretion.
Considering that limited partners enjoy the statutory right of initiating a derivative lawsuit under the Partnership Enterprise Law, and the award rendered is binding both on the partnership enterprise and its partners, the arbitral tribunal concludes that the claimant (the limited partner) has the same procedural status as the partnership enterprise, and shall have the right to initiate a derivative arbitration in its own name.
Preconditions for limited partners initiating a derivative arbitration, and typical circumstances of the executive partner failing to exercise its rights. First, the Partnership Enterprise Law does not address whether there are preconditions to the exhaustion of internal remedies for limited partners initiating a derivative arbitration. In a relevant case accepted by the BAC/BIAC, the arbitral tribunal holds that due to the combination of ownership and management nature of a partnership, partners have more managing rights than shareholders in a limited liability company, so the conditions for partners to initiate a derivative arbitration shall not be stricter than those for the shareholders in a limited liability company, prescribed by the Company Law.
In practice, the following circumstances satisfy the prerequisites for initiating a derivative arbitration:
(1) limited partners have made multiple written requests to urge the executive partner or the internal governance body of the enterprise to exercise its duty; and
(2) the executive partner fails to initiate arbitration within 30 days after it receives the request from limited partners. If in an emergency the failure to initiate an arbitration immediately will cause unrecoverable damages to the interests of the partnership enterprise, limited partners may directly initiate an arbitration on their own.
Second, only when the executive partner fails to exercise its rights for protecting the interests of partnerships can limited partners initiate a derivative arbitration. In judicial practice, the following behaviours of the executive partner shall be deemed as failure to exercise its rights:
(1) the executive partner refuses or fails to perform its duties of management;
(2) the executive partner refuses or fails to exercise the partnership enterprise’s due creditor’s rights; or
(3) the executive partner refuses or fails to exercise its right of initiating an arbitration on behalf of the partnership enterprise.
In relevant cases accepted by the BAC/BIAC, the arbitral tribunal holds that the circumstance under which the executive partner asserts that it lacks necessary funds, which the limited partner has already provided, to initiate arbitration can be deemed as an affirmative act of refusal.
In addition, attention should be paid to whether there is a parallel arbitration or lawsuit initiated by the executive partner during derivative arbitration, or the above-mentioned requirements for limited partners initiating a derivative arbitration will not be satisfied.
Fu Bing is a case manager of the Beijing Arbitration Commission/Beijing International Arbitration Centre（BAC/BIAC）
