If you are entering into a contract with another business, you may want to consider what would happen if you entered into a dispute. Planning ahead for the worst eventualities can help you if something goes wrong. One way of doing this is to include an arbitration clause in your contract. This article will explore the advantages and disadvantages of using an arbitration clause so you can make the right choice for your business.
Put simply, arbitration is one form of alternative dispute resolution.
In a dispute, you and the other party disagree about something in the contract. Additionally, a dispute occurs if you or the other party are in breach of your obligations under the contract. If this happens, you can try to solve your dispute in many ways, such as negotiation, mediation, arbitration or litigation.
Arbitration, in particular, is where the disputing parties resolve their problem through arbitration proceedings. This occurs in front of an arbitration hearing. During a hearing, you must argue your case in front of an arbitrator, who then makes a decision (usually called an arbitration award). The decision is likely to give one of the parties compensation.
In many ways, arbitration is similar to litigation. Litigation is where you take your case to court through formal court proceedings, and you argue your case before a judge.
There are, however, some key differences between arbitration and litigation which make arbitration more appealing in some situations.
If you decide that arbitration is a type of dispute resolution which you would like to use in the future if necessary, then it is a good idea to include an arbitration clause in your contracts.
An arbitration clause is a clause in a contract that requires both parties to solve their dispute through arbitration rather than any other way. Usually, this means that the other party cannot forcefully bring litigation against you. Instead, they will have to use the arbitration process. This can be preferable for you, as you can avoid dealing with a party who insists on using litigation, even when it is less cost-effective and less time efficient for you.
Another party might insist on litigation if they think that they can drag out legal proceedings to the point where your business cannot afford to continue. Having an arbitration clause will help you avoid such a situation.
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There are two main arbitration clauses that depend on the words ‘may’ and ‘shall’.
The first type states that the parties should ‘consider’ the use of arbitration, but it is not mandatory unless one party formally requests arbitration. This allows the parties to proceed directly to legal action if they have no confidence that arbitration will resolve the dispute.
The second type states that the contracting parties ‘must’ refer any dispute under the contract to arbitration. It makes arbitration mandatory for the parties and removes the chance of future legal action.
Your business needs to choose the correct form of the clause. This will depend on how keen you are to avoid court battles and have a quicker, cheaper route to resolving disputes. Let us explore the benefits and disadvantages of arbitration below.
First, it can provide a much quicker result. A litigation process can take several years in some instances. Alternatively, you can schedule an arbitration date within a few months, choosing to conduct the process online if you prefer. An arbitration decision is also usually binding. This means that you cannot appeal it, and it applies to the disputing parties in any case. Therefore, a final decision can be reached quickly without the process being drawn out. Naturally, this also means that it will usually cost less money to organise because you will reduce lawyer costs.
Second, arbitration proceedings have less complicated rules on evidence and procedure. If you begin litigation, you will likely have to deal with lots of paperwork, filings, motions, and obligations to attend court hearings and motions. In arbitration, on the other hand, you will not have to take out as much time from your life.
In addition, the ‘discovery’ process is reduced in arbitration cases. Discovery is the process through which you have to submit relevant evidence to the judge or arbitrator. In a litigation, the discovery process is extensive and will require you to answer interrogatories and depositions, and you will also have to give in lots of documents. In arbitration on the other hand, the issues about calling in witnesses and giving in documents is usually dealt with a simple phone call from the arbitrator, as opposed to a formal system of submitting evidence and documents.
An arbitration decision is also private and confidential. This means that you do not have to put your company’s reputation and brand on the line through a highly public dispute. However, in litigation, the judge’s decision is published and publicly available. In arbitration, however, the decision is not made public – the information used to reach the arbitration award is kept private. This means you can solve your dispute without worrying about optics and the public eye.
The lack of an appeal mechanism in most (but not all) arbitration processes can be problematic. Since arbitrators do not have legal training like judges, they may be more likely to make a mistake. Therefore, the inability to challenge an incorrect decision can be a significant disadvantage of the dispute resolution mechanism.
Similarly, since previous legal cases are not binding on an arbitrator, their decisions are more unpredictable. Conversely, the predictability of litigation leads to most parties settling before the main court hearing based on the likelihood of success or defeat.
Finally, the losing party in a commercial court case usually pays the (reasonable) legal costs of the other side. However, this is not usually the case in arbitration. Thus, you can have a successful outcome from arbitration but still have less money due to arbitration fees.
Many business owners prefer the informality and speed of arbitration to litigation. Furthermore, arbitration tends to be confidential in comparison to public court hearings. However, some businesses may refuse an arbitration clause due to the lack of appeal mechanisms and unpredictability of the final decision. Depending on the contract and nature of the other party, it is always worth considering whether an arbitration clause could be of merit. Suppose your company is interested in arbitration but does not wish to limit its future options. In that case, you can use an arbitration clause that only makes arbitration mandatory if a party requests it.
If you need help with arbitration or the use of an arbitration clause, our experienced contract lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 0808 196 8584 or visit our membership page.
Although the process is not a formal legal claim, a lawyer can still prepare documents and negotiate on your behalf. A business can attempt arbitration without a legal representative, but this is rare.
Is it common for businesses to agree to arbitration clauses?Not always. Many companies fear the unknown and may favour formal legal action if prior dispute resolution fails.
