The construction industry is a leading economic sector in the Middle East, worth approximately US$41 billion in 2024 and expected to reach US$50.4 billion by 2029, according to market reports. The latest Dubai International Arbitration Centre (DIAC)’s report, published in 2023, shows that approximately 50% of construction disputes are resolved through arbitration, which is by far the preferred mechanism when foreign parties are involved.
In the wake of these trends, the arbitration landscape in the Middle East has undergone a number of important changes over the past few years. Competition among jurisdictions and arbitral centres to become the port of call in terms of place of arbitration, administering institution and applicable substantive law for this type of disputes is intensifying. As an example of this trend, Saudi law now provides that the law of the Kingdom of Saudi Arabia shall mandatorily apply to disputes between foreign companies and a Saudi Arabian governmental entity if the contract value exceeds SAR 100 million (approximately US$26.7 million).
In a kaleidoscopic environment such as the Middle East, rich in legal diversity and interwoven with a variety of legal cultures, the choice of the substantive law applicable to construction contracts is a crucial strategic passage. The legal systems of the Middle East are mainly based on the principles of civil law and influenced by Islamic law, with the exception of Oman and Saudi Arabia, which are primarily based on Sharia law. The Kingdom of Saudi Arabia, however, has recently enacted a new Civil Code, which came into force in December 2023, and marks an important milestone in the modernisation of the Saudi legal system. The civil law principles of Middle Eastern jurisdictions derive mainly from Egyptian law, which, in turn, was heavily influenced by the French civil legal system.
The choice of the substantive law is often underestimated by the parties, which tend to insist on the application of their own law as the law best known by them and their lawyers of choice. However, the choice may have crucial consequences on the outcome of construction disputes, which negotiators tend to overlook. Indeed, the interpretation and application of a contractual clause and the solution to a given legal issue may differ significantly depending on the applicable law, particularly whether this belongs to the common law or the civil law system.
Practical examples of different approaches and practices include the following:
Preambles and recitals
In civil law jurisdictions, arbitrators tend to attach importance to recitals, which set out the grounds leading to the conclusion of the contract and are used to interpret it. In situations where a provision of the contract refers to them as being an integral part of the contract, recitals may even be regarded as conditions precedent for the contract itself, with the possible consequence that, if the recitals turn out to be untrue, the contract may be considered ineffective or invalid. Conversely, consistent with their approach to contract interpretation, which tends to disregard motives, courts and tribunals from common law jurisdictions will attach less importance to preambles and recitals, relying only on the main body of the contract.
Liquidated damages and penalty clauses
A common issue in construction disputes, liquidated damages are governed by a very different regime in common law and civil law, respectively. Common law jurisdictions distinguish between liquidated damages clauses, which provide an agreed remedy for breach of contract, and penalty clauses, in which the agreed amount does not correspond to a genuine pre-estimate of the damage, and which are unenforceable. Civil law jurisdictions will presume the enforceability of liquidated damages/penalty clauses as a valid means of compelling performance. However, under most civil law systems, judges and arbitrators are empowered to reduce liquidated damages/penalties when their amount is disproportionate to the actual damage.
Calderbank offers
A Calderbank offer is a settlement offer made during the course of a dispute which, if rejected, cannot be used in arbitration or litigation, other than for the purpose of allocating costs. These offers have been increasingly common in construction arbitrations and are likely to be used more frequently in the coming years. Calderbank offers are typical of common law contractual practice, and civil lawyers and arbitrators with a civil law background are frequently unfamiliar with them and unable to advise their clients on the possible advantages of these offers. However, there are no obstacles of principle to the use of these practices in a civil law environment.
While growing convergence between common law and civil law principles has been observed in recent times, fundamental differences still exist, if not in the norms, at least in the way legal notions are interpreted and applied.
Accordingly, even though the parties literally have a world of choices when it comes to agreeing on the substantive law applicable to a construction contract, it is advisable to consider this choice carefully, depending on the specific factual elements of each case and on each party’s case.
By Andrea Carlevaris, partner and co-head of the international arbitration practice at BonelliErede, and Letizia Santin, associate in the international arbitration practice at BonelliErede, based in Dubai.
