Before You Add That Arbitration Clause…
By: Craig Watrous
Before you decide to add that arbitration clause to your business contracts there are a number of factors that should be considered. Often arbitration is viewed as a cheaper, faster, and more effective way to handle disputes vs. traditional litigation. While arbitration can be an efficient, cost effective way to resolve a business dispute, arbitration is not a panacea. A generically drafted arbitration clause can create real problems and make effective dispute resolution a major headache. Arbitration clauses should be tailored to the particular contract, transaction, and relationship. The following list outlines some of the key areas that should be reviewed and considered in a well drafted arbitration clause.
1. Scope: What kinds of claims must be arbitrated? What types of claims are exempt from arbitration? You can (and should) spell out what types of disputes must be arbitrated. Often there are particular items which a business may want to exclude from arbitration, for example, intellectual property claims. A business may want to retain its right to go to court to get a TRO (temporary restraining order) or permanent injunction if its intellectual property (or confidential information) is at risk.
2. Fee Splitting: Who has to pay for the arbitration? If you want the fees to be split, the arbitration clause should say so. Keep in mind arbitrators don’t work for free. Mechanisms should be considered to handle instances when one party refuses to pay or stops paying half way through the arbitration.
3. Prevailing Party Attorney Fees: Similar to the fee splitting issue above, if a business wants to recover its attorney fees and costs from a favorable arbitration, the arbitration clause must say so.
4. How Many Arbitrators: Will one arbitrator be enough? Does the business want to rely on the judgment and expertise of one arbitrator or should three be required? How is the arbitrator going to be picked? Does the arbitrator need to have any particular qualifications? All of these items should be considered and then spelled out accordingly.
5. Rules and Governing Law: Is there a particular set of arbitration rules that the business would like followed? Often AAA rules are used, but has the business (or its attorney) actually reviewed AAA’s rules? What governing law is selected? If a business wants to use the law of its state of incorporation the agreement better say so.
6. Confidentiality: Parties often assume that arbitration proceedings are confidential. Unlike litigation in court, where court filings are made public, the arbitration hearing is confidential in that the general public won’t be present in the hearing room. However, without specific requirements in the contract (or applicable rules) there isn’t a general obligation to keep the content of an arbitration confidential.
7. Limit on Damages: A party may want to exclude the arbitrator from ruling on certain types of damages. Damages often excluded from arbitration are those that are difficult to ascertain and/or those which are potentially high like consequential damages, punitive damages, and special damages.
8. Location: Where is that arbitration going to take place?
9. Mediation: Do the parties want to require mediation prior to initiating an arbitration? If so, where? Is there a particular party/organization that will serve as the mediator? Who will pay for the mediation?
These are just a few of the key areas that a business should consider when deciding to put an arbitration clause into one of its contracts. Don’t assume that a generic arbitration clause will provide you with the protection and direction you need. I hope they’ve provided some food for thought.
(Mallon Lonnquist Morris & Watrous, LLC, is business transactional and litigation law firm. Craig T. Watrous is a Colorado litigator and partner at MLMW, based in Denver, Colorado. Craig regularly drafts and enforces arbitration provisions. Craig can be reached at firstname.lastname@example.org.)