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Don’t Automatically Include Arbitration Clauses in Commercial Contracts

For years, mandatory arbitration clauses have been almost automatically included in many commercial contracts, because they’ve been regarded as cost-effective detours for matters that might otherwise work their way through the courts. Over the last few years, we’ve adopted a more critical view of arbitration, and now regard it as a good strategy for some clients, but not for others.

Quite simply, arbitration has become much more expensive. We’ve seen cases where clients have spent more time and money in arbitration than they would have if they had used the court system to resolve a dispute. 

The problem is, that over the years, lawyers have incorporated many of the tools we use in litigation into the arbitration process. For instance, many arbitrations now rely on multiple depositions, expert witnesses and requests for huge troves of documents. The lawyers, of course, are just trying to do a good job for their clients, but this arms race in arbitration has stripped it of some of the efficiency and cost effectiveness that made it so attractive. Particularly in cases where you think you have an easy win, you may be better off pursuing summary judgment.

Not always the less expensive option

Even without expansive discovery, a multi-day arbitration can run into the thousands of dollars. Neutrals have become more expensive, and some arbitration panels now have three of them, with each party responsible for the one they pick and half the cost of the third. The popularity of senior lawyers and judges, or ex-judges, to sit on these panels has given them credibility, but these experienced professionals come with hefty hourly rates. Besides the arbitration session, they each must be paid to review evidence, and that can take many hours.

Aside from the cost escalation, some clients feel that arbitration is less likely to give them a decisive win. Arbitrators may “split the baby,” that is, reach a compromise that offers some measure of satisfaction for both parties. Clients who believe they are 100 percent right don’t want a compromise decision.

Arbitration still has its place

All this doesn’t mean that arbitration still isn’t an attractive option in many contracts.

It is particularly useful in situations where privacy is important. There are cases where trade secrets, competitive concerns or personal issues make privacy essential, regardless of the cost. If the matter involves a product that a client wants to shield from bad publicity – or anything that wouldn’t play well in the newspaper – the confidentiality of arbitration will close the door on bad press.

Arbitration also can be viable if you specify rules that have the effect of limiting expenses, which in most cases will mean limiting discovery and setting tight deadlines. The details will vary, depending on the type of contract and industry, but experienced counsel will know how to place boundaries on arbitration. Getting cases to arbitration quickly is important because if you give lawyers more time, they’ll think of ways to use it. 

In all cases, a litigator should review arbitration clauses in contracts. Arbitration is just another name for “private litigation,” and transactional lawyers always should obtain input from a litigator colleague when including an arbitration clause in a contract.  While you don’t have to recreate the wheel with every contract, using cookie cutter arbitration clauses may set you up for unexpected problems. 

One option that we usually don’t recommend is non-binding arbitration, which places the arbitrator in the position of offering what is essentially a recommendation. If both sides don’t like the recommendation, they’re right back where they started. Mediation, which encourages the give and take of negotiation, is more likely to yield an acceptable resolution to a dispute. 

Arbitration clauses can still be useful in commercial contracts, but we are past the days when they should be boilerplate in every contract. Discuss with legal counsel the pros and cons of an arbitration clause before deciding if it is likely to make your dispute resolution more or less expensive. 

C. Pierce Campbell is a shareholder at Turner Padget in Florence, S.C., where he serves as practice group leader for the firm's Business Litigation Practice Group. His practice focuses on business and commercial litigation, as well as probate litigation, and his clients range from small partnerships to large corporations. He may be reached at (843) 656-4429 or by email at pcampbell@turnerpadget.com.

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