An arbitration or similar adjudication clause, contained in an agreement that is found to have been induced by fraud, does not survive the avoidance of the agreement. That would be offensive to justice. The position can only change if the parties specifically make provision in their contract for a dispute regarding fraud, misrepresentation or concealment in the negotiations to be made subject to arbitration. That requires very clear language.
The Supreme Court of Appeal has confirmed that a party who validly cancelled a contract because of fraudulent conduct of the counter-party cannot be compelled to submit to an arbitration process in accordance with the dispute resolution clause of the cancelled contract.
In the present case the arbitration clause provided that one party may give notice to the other party to resolve a disagreement ‘arising out of or concerning this agreement or its termination’. The clause therefore contemplated a dispute arising out of an agreement that was valid from the outset (not a contract that was void from inception). This was especially so because the arbitration did not relieve the parties from the obligation to perform the contract, which is not possible for a contract that does not exist because of the termination from inception on the grounds of fraud.
The attempt by the party guilty of fraud to rely on the breach clause also failed because notice of default was required and one can hardly be expected to give notice to cure fraud or corrupt conduct.
In English law, fraud vitiates every transaction known to the law. Their courts say that ‘fraud unravels all’. This overstates South African law principles but generally no court will allow a person to keep an advantage which they have obtained by fraud. Once an agreement induced by fraud has been rescinded by an aggrieved party the arbitration clause cannot stand.
In Namasthethu Electrical (Pty) Ltd v City of Cape Town and another a successful tenderer had fraudulently denied that the company and one of its directors had been convicted of fraud. As a Durban company it also gave a fictitious business address in Cape Town. The court was satisfied that all of the requirements for fraudulent misrepresentation had been met which rendered the contract voidable and the council validly and effectively elected to rescind the contract.
The arbitration clause contained no suggestion that it covered fraud nor that it involved an exception to the general rules referred to above.
In the circumstances, the referral of the dispute to arbitration was invalid and the arbitration award was set aside.