Who Is the Party to A CDM Validation Contract
Sun Wei ^*

1. An introduction to the CDM

1.1. The Clean Development Mechanism

    The Clean Development Mechanism (CDM), as one of the three market-oriented mechanisms under the Kyoto Protocol to the United Nations Framework Convention on Climate Change[1] purporting to limit and reduce the worldwide greenhouse gases emissions, provides a new mechanism of trading the gases emission reduction quantity between developed and developing countries. CDM allows emission-reduction projects in developing countries to earn certified emission reduction (CER) credits, each equivalent to one ton of CO₂. These CERs can be traded and sold, and used by industrialized countries to a meet a part of their emission reduction targets under the Kyoto Protocol.

    The Kyoto mechanisms include International Emissions Trading (IET), CDM, and Joint Implementation (JI). While IET and JI are operated among developed countries, CDM is closely related to developing countries. It created a new type of trade, and in this way stimulates sustainable development and reduces gases emissions.

1.2. The CDM project cycle

    The CDM project cycle usually includes 7 steps as follows[2] :

    (1) Project design. Project participants shall submit information on their proposed CDM project activity using a Project Design Document (PDD), making use of approved emissions baseline and monitoring methodology.

    (2) National approval. Project participant should secure letter of approval from a member state of Kyoto Protocol. The Designated National Authority (DNA) of a member state involved in a proposed CDM project shall submit a letter indicating that the country has ratified the Kyoto Protocol and the participation is voluntary as well as a statement that the proposed CDM project activity contributes to sustainable development from host parties.

    (3) Validation. PDD is independently evaluated by accredited Designated Operational Entity (DOE), a private third-party certifier. It is validated against the requirements of the CDM as set out in CDM modalities and procedures and relevant decisions of the Kyoto Protocol member states and the CDM Executive Board (EB), on the basis of PDD.

    (4) Registration. DOE shall submit valid project to EB with request for registration. Registration is the formal acceptance by EB of a validated project as a CDM project activity. In this step, the EB secretariat will make a completeness check and vet the valid project, and then the project will be vetted by EB. If a Party or three members of EB request review, project undergoes review, otherwise proceeds to registration.

    (5) Monitoring. Project participant should be responsible for monitoring actual emissions according to approved methodology in order to meet the requirements in the approved monitoring plan.

    (6) Verification. The DOE shall make a periodic independent review and ex-post determination of the monitored reductions in anthropogenic emissions by sources of greenhouse gases that have occurred as a result of a registered CDM project activity.

    (7) CER issuance. A DOE shall submit verification report with request for issuance to EB. EB then issue a specified quantity of CERs for a project activity to the CDM Registry Administrator for subsequent distribution to accounts of project participants in accordance with the CDM rules and requirements.

1.3. CDM in China

    Promulgated in 2005 and amended in 2011, the Measures for Operation and Management of Clean Development Projects (the Measures) is the most important legal document regulating CDM projects in China. According to the Measures, the National Development and Reform Commission (NDRC) is the DNA of China, in charge of launching CDM projects and the implementation thereof, and hence the approvals of NDRC are required for CDM projects in China [3] . A Chinese participant of a CDM project should be a Chinese-funded enterprise or Chinese holding enterprises in China[4] .

    To promote CDM projects in China, NDRC established a website Clean Development Mechanism in China (http://cdm.ccchina.gov.cn/ ), providing various CDM information, statistics, etc., both domestic and international. Currently, the trading price of CERs in China is 7-10 Euros per ton. From the perspectives of potential emission reduction and investment, China, as the largest developing country and the second economy of the world, will become one of the most attractive markets for CDM project in the future.

    In practice, most of CDM projects are invested and constructed by local governments, or alternatively, by local states-owned companies. To acquire the CERs through the aforesaid CDM cycle, the Chinese participants are mostly represented by CDM agents, responsible for preparing PDD and related documents, getting approvals from Chinese governmental authorities, and recommending foreign buyers. Yet those agents themselves are not capable to finish all the steps required. To get the CER issuance, the core procedure lies in the step (3) set above, namely the Validation, from which a CDM project and its participants get connection with EB, the overseer of the mechanism and the decision maker. According to the Clean Development Mechanism Accreditation Standard for Operational Entities, only DOEs may conclude contracts with CDM project participants for validation[5]. In this step, it is the DOE that makes an independent evaluation against the requirements set out in CDM modalities and procedures. The agent therefore, when performing the contract with its principal namely the CDM project participant, will select certain DOE(s) it deems competent and proper and enter into a CDM validation contract therewith. In recent years, with the increase of CDM projects investment and construction, the caseload between Chinese agent companies and foreign DOEs are going up regarding the performance of their contracts. One of the subject matters in these cases is the identification of the parties to the contracts, which will be discussed in detail with a sample case as below.

2. A Sample case

2.1. Background

    In 2007, X Environmental Tech Ltd. (X Ltd.), a Chinese CDM agent, and Y Group Beijing Ltd. (Y Group Beijing), a Beijing-registered subsidiary of Y Group, a European DOE, reached a Validation Contract on the CDM project of A City Hydro Power Stations (the Contract). Under this contract, X Ltd. entrusted the opposing party to conduct the validation of the project, primarily including review and assessment of documents, submission of a summary of issues to be corrected, review and assessment of the final PDD version and other documents, application for registration with EB. The Contract also includes an arbitration clause, selecting Beijing Arbitration Commission as the arbitration institution, its rules the arbitration rules, and Chinese Laws the applicable law.

    In 2012, X Ltd. initiated arbitration against Y Group Beijing, submitting that Y Group Beijing failed to perform its obligations under the Contract during the 5 years time period after its signature, which finally made it impossible to get the CER issuance any more. X Ltd. requested to terminate the Contract[6] and claimed RMB 5 millions for all its losses[7]. Y Group Beijing raised jurisdictional objection, arguing that it was not a party to the Contract, but signed the Contract representing Y Group, and thus the arbitration clause could not bind upon Y Group Beijing and the arbitral tribunal lacked the jurisdiction.

2.2. Who is the party?

    The Contract described the parties thereto in its first paragraph that “X Ltd. having its registered office at ____, Beijing, China and The certification body ‘Climate and Energy’ of Y Group represented by Y Group Beijing having its registered office at ____, Beijing, China”.

    To substantiate its arguments, the respondent submitted the Letter of Authorization by Y Group in 2005, which stated that Y Group “herewith authorize Y Group Beijing to act on behalf of Y Group regarding the signature of CDM contracts”.

    From the arguments and the evidences, the tribunal further noticed that from the List of DOEs on the website of United Nations Framework Convention on Climate Change[8] , Y Group could be easily found. Besides, on Clean Development Mechanism in China, the sole and the most authoritative Chinese CDM website, Y Group was clearly listed as one of the 24 DOEs, while X Ltd. one of the 85 consulting agencies.

    It was therefore fair and reasonable to expect that X Ltd., as a professional CDM consulting agency, should have noticed who the opposing party to the Contract really was when signing it, since all the necessary information about Y Group, including the entity name, location, reference number, sectoral scopes for verification and certification, quantity of successful registered projects in China, contact info., indicate the CDM DOE under the Contract should be Y Group, the parent company of Y Group Beijing.

    Clearly, either pursuant to the governing substantive law[9] or in accordance with the agency principle, all the facts revealed that the real opposing party should be Y Group, and it would be hard for the tribunal to find their jurisdiction over a dispute between X Ltd. and Y Group Beijing.

2.3. Non-signatory party and “signatory non-party”

    To compel Y Group Beijing to arbitrate, a possible way is to refer to the third party theories. The issue of non-signatory third party has long been widely noticed and frequently discussed in the international arbitral community. There have been various theories and practices under different legal systems trying to sort out this problem. Still, the issue was kept ambiguous and arguable. Traditional principles of agency law are widely accepted that may bind a non-signatory to an arbitration agreement.

    In mainland China, despite the fact that courts have been conservative on the expansion of arbitration agreements/clauses over any third party, several such theories have been recognized and adopted, not only in the legislation but also in the practice. And the principle of agency law is one of them. The Arbitration Law of People’s Republic of China did not address this issue, nor did the interpretations or notices on the Arbitration Law of the Supreme People’s Court (SPC). However, both the General Principles of the Civil Law and the Contract Law have stipulated the binding effect of an agent’s legal activity upon the principal. The courts have fully noticed those substantive laws when hearing cases involving agencies. In cases like JCD CO., LTD v Zhongshan Gannyuan Industrial Ltd.[10] and Foreign party v Sinotrans Nanjing Co. Ltd.[11] , courts upheld that the principal should be deemed as a party to the contract signed by its agents.

    In the sample case, therefore, if X Ltd. initiated the arbitration directly against Y Group, the non-signatory, it would have a strong argument. However, the situation was exactly the opposite: X Ltd. was not trying to bind the non-signatory party, but the “signatory non-party”. During the arbitral proceeding and the hearing, X Ltd. had fully noticed this problem, but insisted their argument, on the ground that Y Group Beijing not only signed the Contract, but was engaged in its performance along with their European colleagues of Y Group. In view of this, the principle of the agency law shall not be applicable in the case.

    Still, some other theories may be considered. Under the principles of Veil Piercing or Alter Ego, one corporation would in some instances be legally accountable for the actions of the other, normally among parent companies and their subsidiaries. In China, the Company Law stipulates the shareholder(s) shall be accountable for any misuse of the company’s limited liability as an independent legal person[12]. Y Group is undoubtedly the shareholder of Y Group Beijing. Nevertheless, it will be hard to say that Y Group was conducting any misuse of its subsidiary’s limited liability by concluding the Contract through the subsidiary as an agent, since the Contract has been performed for years and the dispute just arose from its performance, with nothing to do with the limited liability or fraud at all. More importantly, X Ltd. was trying to bind Y Group Beijing, not its shareholder at all. Needless to say, referring the principles of Veil Piercing or Alter Ego to address the above mentioned issue of “signatory non-party” shall be an improper application of law and thus is out of the consideration of the tribunal.

2.4. The settlement

    During the first hearing, the arbitral tribunal primarily focused on the jurisdictional objection. And either from the Contract, the evidence, or the statements of the parties, the tribunal, after the post-hearing deliberation, believed that the Claimant had mistaken the Respondent on the following grounds:

    (1) the Contract itself made it more than clear who the parties were;

    (2) Y Group Beijing was duly authorized;

    (3) as a professional CDM agency, X Ltd. should have been aware who a DOE should be under the
Contract;

    (4) X Ltd. has been performing the Contract directly with Y Group, despite the somewhat engagement of Y Group Beijing;

    (5) law stipulations on agency and the rules of Clean Development Mechanism Accreditation Standard for Operational Entities on DOEs.

    The tribunal thus was about to support the jurisdictional objection and dismiss all the claims, when both parties request the tribunal to mediate the case. After several rounds of ex parte and then inter parties mediation, the two parties finally reached a settlement agreement. Thereafter, upon the request of the parties and based on the settlement agreement, the arbitral tribunal issued the Statement of Mediation, and the case was then concluded.

3. Remarks

    Due to the features of CDM projects and their practice in the Chinese market, it will be highly important and advisable to identify the parties when drafting or concluding a CDM validation contract.

    For DOEs, signing contracts through its China-registered subsidiaries can still be considered as a useful barricade or firewall against the Chinese CDM agent companies in case of arbitration. For Chinese agent companies, on the contrary, they should fully understand and predict the procedural risk of trying to bind a “signatory non-party” in arbitration before signing it.

    When referring the dispute to arbitration, both parties should also bear in mind that mediation could be an effective and efficient way to settle the case. On the one hand, if the Chinese agent company raises claims against the DOE’s signing subsidiary, it risks the claims being dismissed, while if against the DOE itself, it will have to face the uncertainty of cross-border enforcement of the arbitral award. On the other hand, despite all the legal advantages aforesaid, the DOE will also have to think about its commercial disadvantages, since its market share may shrink if such case(s) defame its reputation among the Chinese CDM agents society. Clearly, both parties will have to compromise, since both legal and commercial considerations require reconciliation. Nevertheless, as a foreign party, the DOE may understandably have concerns regarding the impartiality and confidentiality of the arbitration-mediation approach. To address such concerns, some leading arbitration institutions have made special stipulations in their arbitration rules, and parties are free to apply to replace the arbitrator if the arbitration-mediation fails[13] .