Arbitration - Conduct of arbitration proceedings - Breach of rules of natural justice - Whether Court should exercise discretion under Commercial Arbitration Act 1985, s 42(1) to set award aside for misconduct - Applicant may have been materially unjustly prejudiced - Award set aside - Turns on own facts

Commercial Arbitration Act 1985, s 4(1) and s 42(1)

Krohn & Co (Import-Export GMBH & Co KG) v P T Tulung Agung Indah [1992] 1 Lloyds Rep 377

Motrix Supplies Pty Ltd v Bonds & Kirby (Victoria Avenue) Pty Ltd, unreported; SCt of NSW (Giles J); No 50438 of 1990; 12 September 1990

1 STEYTLER J: This is an application, brought pursuant to s 42(1) of the Commercial Arbitration Act 1985, to set aside the award of an arbitrator upon the ground that he has misconducted the proceedings. The word "misconduct" is defined in s 4(1) of the Act to include a breach of the rules of natural justice and it is this which is alleged against the arbitrator.

2 The dispute which led to the arbitration arose out of the construction by the respondent, a registered builder, of a house on the applicant's farm at Lower Chittering. The house was built pursuant to a contract in writing made between the parties on 16 April 1998. The house was to have exposed raked timber ceilings. The specifications provided that the roof framing timber would be "dry dressed Oregon". Oregon was in fact used for the purposes of the roof framing but the parties were in dispute on the question whether it was "dry dressed" oregon. The applicant said that it was not. The respondent said that it was. The issue went to the arbitrator.

3 The parties agreed that the arbitrator should decide the dispute upon the basis of documentary evidence submitted to him by consent and without the need for any oral evidence. They also agreed that the dispute could be decided upon the basis of written submissions only. They consequently forwarded to the arbitrator the documents they considered to be relevant together with their written submissions.

4 The applicant submitted, in a nutshell, that "ship-dried oregon" had been supplied and that this could not be categorised, for the purposes of the contract, as "dry dressed Oregon". It contended that ship dried oregon is cheaper than, and inferior to, dry dressed oregon. It said that it was consequently entitled to damages for breach of contract.

5 The respondent admitted that it had supplied and installed "ship dried oregon". It said that "ship dried oregon" is "dry dressed Oregon" for the purposes of the contract. It consequently denied that there was any breach of contract.

6 The arbitrator found in favour of the respondent.

7 Before saying what is the breach of natural justice contended for by the applicant, it is, I think, necessary to set out the arbitrator's reasoning at some length.

8 The arbitrator, after mentioning that the applicant bore the onus of demonstrating that the oregon provided was not dry or not dressed or both, said that there was, in the witness' statements provided to him, general agreement on some issues. The first was that the word "dry" commonly equated to "seasoned". The second was that published standards referred to "seasoned" timber as being timber with a moisture content of not more than 15 per cent. The third was that timber which is not "dry" or "seasoned" can be referred to as "green" or "unseasoned".

9 He next referred to evidence which was led in respect of the term "ship dried oregon". He mentioned in that respect, inter alia, the evidence of Dr Graeme Siemon of the Department of Conservation and Land Management who had said that ship dried timber "is green timber which has been block stacked". However the arbitrator pointed out that, in a letter written by Dr Siemon to a representative of the respondent, Dr Siemon had said:

"Ship-dried timber has been green timber which is block-stacked, which reduces air circulation and therefore drying rate, but which dries to a certain extent while being transported. It would be very unlikely that this timber would conform to the moisture content requirements of AS 2858."

10 The arbitrator emphasised the distinction between what was said in the letter to the effect that ship dried timber "has been" green timber and what was said by Dr Siemon in his written evidence to the effect that ship dried timber "is" green timber. He also mentioned that Dr Siemon had not said that the oregon provided by the applicant was not the timber specified.

11 The arbitrator next referred to the evidence of a roofing contractor, Mr S R Macdonald, who had expressed the opinion that the timber used in the roofing was "most certainly" not dry dressed oregon and that he would class it as green oregon although it "later turned out that it was ship dry [sic] oregon".

12 Then, in par 5 of his reasons, the arbitrator said:

"All seasoned or 'dry' timber has been green at some stage. In the case of kiln-dried timber the moisture content is reduced or modified under controlled conditions in a process specifically designed for the purpose. In the case of ship-dried timber the moisture content is reduced, as Dr Siemon has said, while being transported but the extent of moisture reduction also depends on time stacked before being shipped as well as after delivery to the point of sale, and also on the cross sectional sizes of the timber stacked before, during and after shipping. The evidence does not mention those factors but one does not need to be an expert to understand that air drying is related to both time and surface area, as well as other factors such as air flow, air temperature and humidity."

13 Then, after referring to methods of determining moisture content, the arbitrator said that there was no evidence of whether the moisture content in any or all of the oregon roof timber which had been supplied was less than or more than 15 per cent. Nor, he said, was there any reference in the evidence to any measurement of the moisture content at any time before or after the timber had arrived on site.

14 The arbitrator next referred to the evidence of Mr John Pidgeon, an architect. Mr Pidgeon's view was that kiln drying was the only method which would ensure that the moisture content of timber would be not more than 15 per cent. However, the arbitrator said, this was inconsistent with documents referred to by Mr Pidgeon and, he said, Mr Pidgeon's conclusion was only that, "if" the timber had a moisture content over 15 per cent, it did not comply with the specification. He said that the "key" to Mr Pidgeon's conclusion was the word "if".

15 The arbitrator next referred to evidence from the architect who had prepared the specification. That architect's intention was, the arbitrator said, "that the 'dry' timbers he required for his design were 'ship-dried' because in his experience dry dressed oregon and ship dried oregon for structural timbers and roof framing were the same".

16 After referring to some other evidence in this respect the learned arbitrator went on to say:

"I do not know why the architect did not administer the building contract but if this were the more normal case in which the architect-designer is also the contract administrator the complaint that the timber did not comply with the contract would have been directed to the architect, not the builder, because as far as the architect was concerned, the roof timber provided by the builder was what he, the architect, specified in the contract."

17 The arbitrator then referred to the evidence of a Builders' Registration Board inspector, Mr B Knowles, who had inspected the house. In his report to both parties Mr Knowles expressed the understanding "that 'dry dressed oregon' would require the merchant to supply 'ship-dried oregon' which may have such imperfections as knots, gum veins or cracking in the timber."

18 The arbitrator said of Mr Knowles that inspectors of the Builders' Registration Board could be assumed to have a wide range of experience and knowledge in most aspects of domestic building work.

19 Then, after referring to some other aspects of the evidence, the arbitrator said, in par 14 of his reasons, the following:

"The contract drawing 9710 104 02 shows the sizes of the roof timbers:

All of these dimensions except 240 (which is greater than the largest dimension in the Standard) are dimensions of softwood according to AS 1684-1992, which distinguishes between 'nominal' dimensions in unseasoned timber (i.e., 'green' timber) and actual dimensions in seasoned timber (i.e., 'dry' timber). Table 1.1 in this Standard includes the following information

The dimensions of the roof timbers required by the contract were dimensions of seasoned timber, or 'dry' timber. They were not dimensions of unseasoned timber, or 'green' timber. I have no evidence that the dimensions of roof timber used were other than the dimensions required by the contract.

I have referred above to AS 1684-1992. This is titled 'National Timber Framing Code'. It is referred to expressly on engineering drawing S3 and by implication in Specification clause A1.5, 'Australian Standards'."

20 Immediately thereafter the arbitrator went on to say, in par 15, that:

"It is part of the Claimant's case that ship-dried oregon is 'not understood in the industry to be equivalent to dry dressed oregon'. The witness statements of witnesses who may be said to be 'in the industry' (if it [sic] means the building industry - are those of John Pidgeon, architect, Robert McCarthy, of Timber Traders Cockburn and R S Macdonald, of Timber Constructions WA. Witness statements who [sic] have a different view are those of the builder, who ordered 'shipped dry dressed oregon', the architect, who wrote the relevant part of the contract, and an inspector of the Builders Registration Board. The evidence in witness statements of persons who can be classed as 'in the industry' is clearly divided.

There were two others whose views may have some weight. Dr Siemon does not say that ship-dried oregon is not equivalent to dry dressed oregon but he does say it would be 'very unlikely'. Dr Siemon is an expert in forestry, wood properties and timber utilisation. He is not in the category of witnesses 'in the building industry' who may understand a particular expression used in the industry. Another document provided to me is the report of ArchiCentre by Barry Jones [a building consultant], who had every opportunity to report that the roof timbers did not comply with the contract but did not do so.

The Claimant's claim that 'ship-dried oregon is not understood in the industry to be equivalent to dry dressed oregon' is not by any means universally supported in the industry."

21 Having expressed this conclusion the arbitrator turned to the question whether or not the oregon which was supplied was "dressed". He found that it was.

22 The arbitrator then went on to consider a report which had been prepared by Mr Jones, the building consultant to whom he had earlier referred, which, he said, did not address the question whether the rafting timbers were made of "dry dressed oregon" but, instead, addressed other issues.

"I determine that the Respondent was not in breach of this clause in the manner described because the evidence does not support the claim that ship dried oregon was installed in lieu of dry dressed oregon or the proposition that the timber installed, if it was ship-dried oregon, was not dry dressed oregon."

24 The failure of natural justice contended for by the applicant relates to par 14 of the arbitrator's reasons. The matters there dealt with were not raised by either party. Neither party had sought to support its case by reference to the dimensions of the timber. That being so, the applicant contends, it was taken by surprise by what was done by the arbitrator and it was denied the opportunity of placing any additional evidence before the arbitrator and of making submissions to him in respect of the dimensions of the timber. It submits that, had it known that the arbitrator would be influenced by the dimensions of the timber, it would have placed additional evidence before him. This evidence would have established that the roof timber, when purchased by the sawmiller who supplied it to the respondent, had dimensions which were consistent with those of unseasoned timber and that the sawmiller dressed it down to the dimensions ordered by the respondent. The evidence would also have established that the dressing down process involved the passing of the timber through a dressing machine which reduced its thickness but which did not otherwise alter the timber.

25 The applicant contends that, had it had the opportunity to lead this additional evidence and other ancillary evidence to which it referred, the arbitrator would have arrived at the conclusion that the dimensions of the timber did not in fact support the conclusions at which he arrived and, indeed, that the dimensions of the timber, prior to the dressing down, were such as to lead him to the opposite conclusion.

26 Before returning to this contention I should refer to some of the authorities upon which the parties relied.

27 Both referred to the judgment of this court in Thiess Contractors Pty Ltd v Water Corporation of Western Australia, unreported; SCt of WA; Library No 970561; 28 October 1997. Parker J there said (at 37 - 38):

"It is well settled that in contexts such as s 42 of the Act, misconduct may include a mistake in procedure which has, or may have, unjustly prejudiced a party: Melbourne Harbour Trust Commissioners v Hancock [1927] HCA 26; (1927) 39 CLR 570 at 587, 588. The consideration of what constitutes misconduct for these purposes by Marks J in Gas and Fuel Corporation of Victoria v Wood Hall Ltd [1978] VicRp 41; [1978] VR 385 at 391 ff has received wide acceptance. The analysis by Marks J was relied on by each of the judges in Doran Constructions Pty Ltd v Health Administration Corporation of New South Wales (1994) 12 BCL 59, particularly at 62 per Cole JA, Gleeson CJ agreeing and at 63 per Kirby P (as he then was). In that case, as Kirby P pointed out at 63, the term 'misconduct':

'may not, by the authorities, amount to much more than such a mishandling of the arbitration as to be likely to amount to a substantial miscarriage of justice'.

The learned President referred to Williams v Wallis and Cox [1914] 2 KB 478 at 485. There was also acceptance of the decision of ... [Staughton J] in Edible Oil Products (Malaysia) ... [Bhd] v Jayant Oil Mills Private Ltd [1982] 2 Lloyds Rep 95 at 97 for the proposition:

' ... the mere failure to put a party on notice of an argument as to a point which might be decided ... may not, in the context of an arbitration, necessarily amount to misconduct.'

From this brief identification of relevant authority, I would for present purposes accept that procedural unfairness may amount to misconduct, but that is not necessarily the case. What is to be discerned is that the procedure has, or may have, unjustly prejudiced a party in some respect material to the outcome. The notion bears much similarity to procedural unfairness amounting to a substantial miscarriage of justice."

28 There is no question as to the proposition that breach of the rules of natural justice amounts to "misconduct" for the purposes of s 42(1)(a) of the Act. That is the effect of the definition of that term in s 4 thereof. The real question is whether, where there is misconduct of that kind, it is such as should attract an exercise of the discretion which s 42(1) affords to the court, on the application of a party to the arbitration agreement, to set aside the award either in whole or in part. It is unlikely that a court would exercise its discretion in that way, even in the case of a denial of natural justice, unless the denial was such as (to use the words of Isaacs J in Melbourne Harbour Trust Commissioners v Hancock [1927] HCA 26; (1927) 39 CLR 570 at 588) "has or may have unjustly prejudiced a party" in a respect material to the outcome of the arbitration (cf Doran Constructions Pty Ltd v Health Administration Corporation (NSW) (1994) 12 BCL 59 at 62 - 63 and Van Dongen v Cooper [1967] WAR 143 at 145).

29 It is not difficult to see why, even in the context of an Act which provides (by s 19(3)) that the arbitrator is not, unless otherwise agreed in writing by the parties to the arbitration agreement, bound by the rules of evidence but may inform himself in relation to any matter in such manner as he thinks fit, the legislature has seen fit to include within the concept of "misconduct" a breach of the rules of natural justice. It is a matter of fairness. As was said by Goff LJ in Interbulk Ltd v Aiden Shipping Co Ltd [1984] 2 Lloyds Rep 66 at 75:

"In truth, we are simply talking about fairness. It is not fair to decide a case against a party on an issue which has never been raised in the case without drawing the point to his attention so that he may have an opportunity of dealing with it, either by calling further evidence or by addressing argument on the facts or the law to the tribunal."

"If an arbitrator considers that the parties or their experts have missed the real point - a dangerous assumption to make ... - then it is not only a matter of obvious prudence, but the arbitrator is obliged, in common fairness or, as it is sometimes described, as a matter of natural justice, to put the point to them so that they may have an opportunity of dealing with it."

31 More recently, in Pacol Ltd v Joint Stock Co Rossakhar [2000] 1 Lloyds Rep 109 at 115 Colman J said:

"In a paper arbitration the temptation to arrive at a conclusion which may not have been envisaged by either party by reference to matters upon which the parties have not had the opportunity of addressing the arbitrators or in respect of which they have not had the opportunity of adducing further evidence, may be a particular temptation which arbitrators should be careful to avoid."

32 There is, in this case, no real contest as to the fact that the arbitrator did not give to the parties the opportunity of dealing with the point canvassed in par 14 of his reasons. Neither party had raised it and neither expected the arbitrator to raise it. It is readily apparent from the affidavit evidence put forward by the applicant that, had the parties been given an opportunity to deal with the point, it would have been shown to be one of no substance, at worst for the applicant, or, at best for the applicant, one which supported a conclusion different to that at which the arbitrator ultimately arrived.

33 While counsel for the respondent submitted that the matters taken into account by the arbitrator in par 14 of his reasons were not material to the finding at which he ultimately arrived I am not satisfied that this is so.

34 The arbitrator does not say, in terms, what it is which led him to the conclusion that the evidence did not support the claim that the timber installed was not dry dressed oregon. However it must be inferred, from his reasons, that what was said by him in par 14 thereof played some part in assisting him in arriving at this conclusion. There would otherwise have been no point in that paragraph. Consequently, it seems to me, the fact that, as he assumed to be the position, the dimensions of the timber used in the building were those of seasoned or "dry" timber rather than those of unseasoned or "green" timber was one of the factors which led him to conclude that the evidence did not support the claim that the timber installed was not dry dressed oregon. While it is true, as counsel for the respondent pointed out, that the arbitrator said that he had no evidence that the dimensions of the roof timber used were other than the dimensions required by the contract, rather than that the dimensions were those required by the contract, it seems to me, from what he said, that he inferred that the dimensions were those required and that he regarded this as being significant for the reasons earlier outlined. Had he mentioned to the parties that he considered these dimensions to be significant (as he should have done in circumstances in which he proposed to take them, and the standard to which he referred, into account and in which neither party had referred, at all, to this issue) the additional evidence to which I have referred would have been placed before him. How that would have affected his ultimate determination, if at all, is a matter for speculation but it cannot, in my opinion, be said with any confidence that it would have made no difference to the result.

35 It is, I think, important to bear in mind in this respect that, as was said by Ackner LJ in Interbulk, above, at 76:

"Where there is a breach of natural justice as a general proposition it is not for the Courts to speculate what would have been the result if the principles of fairness had been applied. I adopt, with respect, the words of Mr Justice Megarry in John v Rees, [1969] 2 All ER 274 at p 309 where he said:

'As everybody who has anything to do with the law well knows, the path of the law is strewn with examples of open and shut cases which, somehow, were not; of unanswerable charges which, in the event, were completely answered; of inexplicable conduct which was fully explained; of fixed and unalterable determinations that, by discussion, suffered a change.' "

36 In the end it seems to me to be plain that there was, in this case, a breach of the rules of natural justice. It also seems to me, as I have said, that the consequence of the breach was one which might have affected the result. That being so the applicant may have been materially unjustly prejudiced.

37 While counsel for the respondent submitted that there can be no material prejudice because the arbitrator went on, in his award, to find that the applicant had not suffered any loss, I do not accept that this is so.

38 It seems that the applicant had, in its Points of Claim, suggested that the measure of its loss was "the cost saving which the Respondent has obtained in using Ship Dried Oregon in lieu of Dry Dressed Oregon" and that it sought directions "for a true accounting of the cost savings". Leaving to one side the question whether this was an appropriate way of calculating any damages to which the claimant might be entitled (a point on which no argument was addressed to me) it is, I think, plain that the arbitrator declined to make directions of the kind sought, or to make any further enquiry in this respect, only because he found that there had been no breach. While it is true that he said, in the course of his reasons, that there was no evidence of any "savings" obtained by the respondent through his purchase of the less expensive roof timbers, he went on to say:

" ... nor should there be if, as I have determined, the timber complied with the contract. There is therefore no need for any direction for 'a true accounting of the cost savings'." [My italics.]

39 The arbitrator also said that there was no evidence that what the respondent had claimed in respect of the cost of the timber was "anything more than the true cost" and consequently that what the applicant had been asked to pay was "more than what ... [it] should pay". While it is not entirely clear to me what was intended by this comment (and I should add that I was told that the contract was a "lump sum" contract), it might well be the case that the arbitrator's conclusion in this last respect was a consequence of his finding that there had been no breach. It was plain, at least on the evidence before me, that the timber supplied cost significantly less than did seasoned oregon.

40 Moreover, at the foot of par 19 of his reasons, the arbitrator said the following:

"The Claimant in paragraph 19 of its Outline of Submissions says, 'By analogy, had the Claimants requested a variation of the contract to substitute ship-dried oregon for dry dressed oregon, they would have been entitled to a credit for the variation ... '. It is my finding that, in another analogy, had the architect been administering the contract he would have responded to such a request by explaining that the requested change could not be a variation to the contract. He wrote the relevant part of the contract and his evidence is that ship-dried is the same as dry dressed."

41 It is apparent from that paragraph that, had the learned arbitrator arrived at a different conclusion on the question of breach, he might also have arrived at a different conclusion as regards the question of entitlement to a credit for the variation.

42 Moreover, in respect of the claim for "loss of amenity and inconvenience" which had been brought by the applicant, the arbitrator found not only (as was pointed out by counsel for the respondent) that there was no explanation of the amenities said to be lost, inconvenience said to be suffered or enjoyment said to be lost but also that, because there was no breach, it was unnecessary for him to consider this claim further.

43 Once again it is not clear that, had the arbitrator found that there was a breach, he would not have given further consideration to this question.

44 In all of these circumstances I am satisfied that this is a proper case for the exercise of my discretion to set aside the award in whole. While this is an unfortunate result it seems to me that the arbitration will have to be re-heard.

45 I will hear further from the parties as to the form of orders required to give effect to this conclusion.