Modern commercial contracts often have dispute resolution provisions buried in the “boilerplate” at the end of the contract. Often, the boilerplate provisions at the end of contracts are overlooked because they are “standard”, but they should never be overlooked or skimmed because they can have significant consequences. Dispute resolution clauses are one of those since they will define how the parties will resolve any disputes. They will typically specify the state law that will apply to any disputes as well as the forum in which any dispute must be resolved. On occasion, the provisions will address mediation, arbitration and litigation. The question is, what procedure is best for a given situation?
If a contract is silent as to the method of resolving any disputes, then the default forum is the court system. Many modern contracts, especially in the construction industry, will specify arbitration as the dispute resolution procedure for any disputes that arise under or relate to the contract. The idea behind arbitration provisions is that they enable the parties to avoid a congested court system that is expensive and takes a long time to get a decision. More and more, we are seeing multi-step dispute resolution procedures specified that require a face-to-face meeting by the parties’ principals to discuss the dispute and try to reach a resolution. Failing that, step two is to attend a mediation session, and if no resolution is reached there, then the dispute is resolved through the courts or through arbitration. Understanding what each of those procedures involves is essential to negotiating an appropriate or desired dispute resolution method.
Mediation. Mediation began gaining favor about 20 years ago when most court systems were perceived as being overcrowded and cases took a long time to get through the courts. To some extent, that concern is no longer the case, but mediation is still favored by the court system and can be a very useful tool. Unlike arbitration and litigation, mediation is an informal settlement conference where the parties meet with an impartial mediator to discuss the issues as well as methods of resolving the dispute. One benefit of mediation is that by law everything said is confidential and cannot be used in court or arbitration proceedings. That allows the parties to talk freely without concern that their statements will later be used against them.
The mediator’s role is to facilitate the negotiations, and keep the parties negotiating until there is an agreement or it becomes clear that the impasse cannot be resolved. Mediators do not make decisions that are binding on either party and do not care which party “wins.” A mediator wins when a settlement agreement is reached regardless of the terms. While mediation can occur without attorneys present, the parties’ attorneys often serve a very useful role in advising the party with respect to their claim or defense, what the potential exposure and risk might be if the matter is not resolved, and using the proceeding as a means of gathering information that could potentially be useful in court or arbitration proceedings.
Mediation is now being required before trial by a large majority of courts before a trial will be held. It helps reduce costs, and also gives the parties one last chance to have input into the resolution of the dispute, whether that is through the payment of money to settle the claim or pursuing more creative measures that might effectively allow the parties to continue to do business together in the future.
Arbitration. Arbitration is a dispute resolution procedure that can only be imposed on parties that contractually agree to it or agree to it after the dispute arises. It is very similar to court proceedings in that discovery takes place through the exchange of documents and possibly depositions, and then the parties meet to conduct a arbitration hearing that is much like a trial. At the end, the arbitrator makes a decision as to who wins, and the amount of the award.
There are both pros and cons to arbitration. On the pro side are the following: (i) the parties get to select their arbitrator and can select one that has experience in the parties’ industry (construction is a good example); (ii) discovery can be more limited, thus reducing cost, but it is not always; (iii) the matter does not become a public record since it is private; (iv) the arbitrator’s decision is final with no right of appeal; (v) depending on the nature of the case, the time for resolution can be shorter; and (vi) hearings are much more informal since no formal rules of procedure or evidence apply. Some of the cons are (a) the parties pay the arbitrator which can be a substantial expense; (b) there is typically no appeal, so if the arbitrator makes a mistake there is no way to correct it; (c) arbitrators have much more procedural discretion than courts, so a party may not feel like they are getting a fair hearing; (d) compared to current court dockets, the time to complete arbitration may be as long as trial procedures; (e) arbitrators cannot issue injunctions or other equitable orders necessary to preserve matters; and (f) the arbitrator has no means of enforcing the award - if the losing party refuses to pay the winner still has to file a lawsuit in order to obtain an enforceable judgment.
Litigation in the courts. Litigation proceedings are much the same as arbitration except there are more specific rules of procedure and evidence that the court’s and parties must follow. The court congestion that was discussed years ago no longer seems to be an issue. The biggest case backlogs are currently in the family courts and, now, the bankruptcy courts. Business cases are being resolved in a fairly reasonable time that is often not much longer than arbitration proceedings. The courts have much broader powers than arbitrators. For example, if someone is violating a non-compete agreement, the court can issue an injunction prohibiting further violations and back it up with contempt orders. The rules governing courts typically create an environment that is perceived as more neutral and allow trial by either a judge or a jury If one is not happy with the result, there are various levels of appeals available. From a cost perspective, court proceedings can be less expensive because the judge and jury come with no cost to the parties, the filing fees are much lower than arbitration, and discovery can be limited by the rules of procedure depending on the nature of the case or by the judge for good cause. And, when the dispute is finally resolved and any appeals are exhausted, the winning party has an enforceable judgment in hand.
As can be seen, the answer to the question of which procedure is the best is “it depends.” Consideration should be given the parties’ relationship, the nature of potential disputes and whether the subject matter may be highly technical or specialized, the availability of experienced arbitrators in the parties’ locale, the potential costs, whether attorney’s fees can be recovered, and whether the right to appeal is important. Those considerations should be made at the contract formation stage when the parties still have the right to shape their destiny and not lamented when it is too late.