Dissecting Common Basic Arbitration Clauses -- You Can Build a Better One
Arbitration is often promoted as faster, cheaper, more predictable, and more controllable than litigation. But to many, arbitration’s promise comes up short on delivery. Why? A prime reason is that many parties do not make use of their ability to shape a proceeding that fulfills those promises, and end up with an arbitration that is more time consuming, more expensive, and less predictable than it could have been.
Arbitration is actually the ultimate Choose Your Own Adventure story. Each arbitral proceeding is potentially unique because the parties get to prescribe their procedures in their arbitration agreement. A well-designed arbitration clause can give the parties substantial control over procedures and costs, as well as over who decides which issues and when. All too often, however, parties make agreements that leave the decisions on most of their options to others or to chance.
Indeed, many arbitration administrative bodies -- e.g., AAA, ICC, and LCIA -- actively promote the use of generic arbitration clauses, which suffice to compel arbitration but rarely compel the arbitration you want. A five minute online search for “sample arbitration clauses” verifies the point, revealing clauses like the following:
“All disputes arising out of or in connection with the present contract shall be finally settled under the Rules of Arbitration of the International Chamber of Commerce by one or more arbitrators appointed in accordance with the said Rules.” (https://iccwbo.org/dispute-resolution-services/arbitration/arbitration-clause/)
The unfortunate reality of arbitrating a dispute under such clauses is that they contain very few choices by the parties and leave wide latitude to the arbitral tribunal to define the procedural ground rules. In other words, the parties have ignored a fundamental advantage of arbitration -- their power to shape their own dispute resolution process.
This article will address what a basic arbitration clause (like the one above) actually says, what it leaves to chance, and what a more detailed clause could provide. We will also discuss how a party negotiating an arbitration clause can and should think about likely future disputes in order to assess specific potential terms of arbitration. And we also suggest several provisions to consider.
Dissecting the Generic Arbitration Clause
To frame the issue, consider a simple arbitration clause that the author has encountered (with slight variations) in a number of cases:
“Any and all disputes arising from or relating to this Agreement shall be submitted to full and final resolution by binding arbitration, to be conducted in San Diego, California under the Commercial Rules of the American Arbitration Association. Judgment on the arbitration award may be entered in any court of competent jurisdiction”.
This language is substantively comparable to numerous available sample clauses, and it too surrenders control over procedures to the generic rules of the arbitration administrative body and to the yet unknown arbitrators. In effect, parties to this provision agree to the following terms:
- to arbitrate any disputes related to this contract before one, or maybe three, strangers to be selected from an ever changing panel;
- to litigate for an undetermined number of days, calling a number of witnesses to be debated after a dispute arises;
- to the filing of an unlimited number of motions and briefs of any length with any number of exhibits;
- that the arbitration process can be as long as either party makes it, limited only by the discretion of a stranger or a panel of strangers to whom we will be paying hundreds or thousands of dollars per hour;
- that each party leaves to the discretion of the tribunal what discovery it may be entitled to;
- that the arbitration proceedings will not be confidential except to the extent that each party chooses to maintain confidentiality.
While there may be negotiation dynamics that compel a party to agree to a generic arbitration clause, and while it may even be advantageous for a party to leave the determination of procedures to a neutral at a later time, the parties could exercise far more control over prescribing the processes before they must face a dispute.
What an Arbitration Clause Should Do
While there are few limits to how creative parties can be in an arbitration clause, certain provisions should be considered in crafting all arbitration clauses.
Scope of Disputes
Every arbitration clause should define the scope of the disputes to be arbitrated. The language in the sample clauses above – i.e. “any controversy or claim arising out of or relating to this Agreement” – is sufficient to refer contract-related disputes broadly to arbitration, and parties drafting arbitration clauses ought to consider starting with a broad clause like that and then considering whether any carve outs should be added. Common carve outs might include patent disputes or other IP challenges, disputes concerning ITC or IPR rights, and disputes seeking only equitable relief like an injunction.
Arbitrators
A factor that has a considerable impact on the cost and duration of arbitrations, as well as the potential outcome, is the determination of who will hear your case. Parties can agree in advance on the number of arbitrators (typically one or three), how the arbitrators are selected, and qualifications that are to be required of an arbitrator. For example, in contracts concerning a technically specialized industry, it may be advisable to have your case heard by a tribunal having experience (either general or specific) in or concerning that industry. In that case, the parties should consider how those arbitrators will be selected. For example, a clause that enables each party to designate an arbitrator with such experience may be easy to implement but makes the tribunal somewhat more likely to suffer internal advocacy, notwithstanding a general requirement that arbitrators be neutral; on the other hand, leaving arbitrator recruitment to the case administrator may better preserve arbitrator independence but may task the administrator with recruiting from an industry with which he/she has little familiarity.
c. Rules of Engagement
Perhaps the greatest opportunity to control the duration and expense of an arbitration lies in crafting the procedural rules of engagement. Parties may choose among various existing sets of arbitration rules, and they may amend those rules or they may create a set of their own according to their mutual wishes.
For example, (i) parties can determine the extent of document discovery, or indeed whether it should be permitted; (ii) the permissibility of depositions can be determined, and if permitted, they can be limited in number and duration; (iii) pre-hearing motions may be barred or limited. In that regard, it may be provided that any party may make such motions, but that the arbitrator must promptly review each motion and determine (perhaps after consulting with the parties) whether it has any potential merit so as to require the submission of opposing papers. (Such a provision effectively blunts the ability of a party to drive up litigation costs by engaging in frivolous motion practice.)
Moreover, the arbitral “hearing” can be shaped. Indeed, parties can elect to waive an oral hearing and submit evidence and arguments solely in writing. Limits on numbers of witnesses and/or time limits for each party’s presentation of its case may be imposed. Opening statements and closing arguments can be waived in favor of written briefing or vice versa. In technical cases, parties can require or limit technology tutorials by experts to educate the tribunal on the relevant technology. Parties can also impose page limits on briefs, limits on the number of written exhibits, and determine the form, the content, and to some extent the timing of an award.
What an Arbitration Clause can do
The examples above comprise a few common variables in arbitrations, including those with considerable potential to impact the scope and cost of a proceeding. However, an arbitration clause can go further, and there are some creative forms of arbitration that should be considered as well.
- Baseball arbitration: In baseball arbitration, each party submits a proposed outcome and the arbitrator may only select one of the proposed outcomes. The intended effect is that the parties will moderate their positions to make them more plausible.
- Issue-by-issue baseball arbitration: A variation on traditional baseball arbitration involves identifying the determinative issues that must be resolved, and then addressing each in sequence, with the parties submitting their respective proposed resolutions of each, the arbitrator choosing one for each issue, and the issuance of interim awards accordingly.
- Arbitration in writing: The parties can submit their evidence and arguments solely in writing.
- Bifurcation, trifurcation, or other staging: The parties can provide for staging of issues in arbitration phases, and the issuance of interim awards. If any of the issues may be determinative, there is a potential for shortcutting the conclusion of the arbitration as a whole. If none of the issues are likely to be determinative, the seriatim resolution of those issues may promote settlement. For example, an employer might benefit from the bifurcation of a proceeding to determine liability before any litigation or even discovery concerning damages. Similarly, a patent licensee might want a determination of whether new products are covered by a patent before discovery or litigation on royalties.
- Class Arbitration: In contracts used repeatedly -- e.g., credit card agreements, consumer purchase agreements, employment agreements -- “class arbitration” might be expressly prohibited (or “waived”) or permitted.
Playing the David and Goliath Game
To plan and negotiate a dispute resolution provision in a commercial agreement, some forethought about potential disputes will be helpful. For example, parties typically know at the negotiation stage whether they are likely to be a David, a Goliath, or on equal footing with their adversary in terms of leverage should a dispute arise. Davids are typically concerned that dispute resolution may become a battle of attrition, decided based on pocket depth instead of the merits. Davids should typically negotiate for a shorter, leaner arbitration before a single arbitrator, including provisions preventing the deep pocket from making the litigation process excessively punishing. By contrast, a Goliath will typically be less concerned about extensive proceedings, perhaps before a panel of arbitrators, and including broadly permissive provisions for discovery.
Of course, other factors should be considered in crafting these clauses. For example, parties should consider which party is likely to control the required evidence, and provide for discovery accordingly. And a company with traditionally high employee turnover may often find it difficult to field witnesses for old disputes and therefore may wish to limit reliance on live witnesses or prohibit depositions.
Arbitration is potentially a party-crafted dispute resolution process, affording great flexibility in that regard. When a party chooses to forego utilizing that feature and instead uses only a generic arbitration clause, it has given up a considerably valuable right. Arbitration’s promise of being faster, more efficient, and more predictable than judicial litigation should be viewed as conditional – if the parties are willing to put in the effort to design a suitable process, arbitration can deliver on its promise.
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