The Insider: The search for the perfect arbitration clause

Sterling Miller

If you have ever been involved in civil litigation in the U.S. as an in-house lawyer, you know that it is expensive, intrusive, slow, and often leads to unsatisfactory results, including lack of confidentiality and, sometimes, punitive damages. If that’s not enough, the U.S. system also provides for class-action litigation, which can turn small claims into big claims. While some of this is unique to the U.S. system, these same issues are creeping into the litigation process in other parts of the world, including Europe and parts of Asia.

For the past 15 years or so, many practitioners and commentators have touted arbitration as the remedy to the many ills of litigation. Unfortunately, the arbitration process is steadily becoming just as bloated, slow, expensive, and unsatisfying as litigation, leading you to ask, “Why arbitrate at all?” My experience is that the arbitration process is not really the problem. Rather, it is the fact that those preparing arbitration clauses are not spending enough time digging into what they really want their arbitration process to look like if it ever becomes needed. Instead, we see contracts with a one sentence “arbitration clause” stating simply that all disputes under the agreement are subject to arbitration under the rules of [insert name of arbitral body here]. If this is all there is to your arbitration agreement, you will let others control your arbitration process. Those “others” tend to be outside counsel (for both sides) who, unless directed otherwise, will fall back to their traditional litigation comfort zone. Consequently, unless you set out a detailed arbitration process, you will end up with just another version of civil litigation.

In this month’s edition of The Insider, I search for the perfect arbitration clause. Alas, much like Moby Dick, El Dorado, Sasquatch, and honesty in politicians, the search comes up dry. Frankly, there is no such thing as a “perfect” arbitration clause, because every situation is different. But, with a little work, you can come up with a “really damn good” arbitration clause, one that will better suit your company’s interests and goals. It requires time and effort on your part, such as taking a long look at the clauses you are using now and asking yourself some tough questions about what you really want out of an arbitration process.¹ If you’re ready to roll up your sleeves, here are some things you need to think through when drafting an arbitration provision:

• Do you really want to arbitrate? The first thing you need to consider is whether you want to arbitrate disputes at all. If done correctly, arbitration can be faster and less expensive than traditional litigation. It also has the added benefit of being confidential, so all your dirty laundry is not aired in the press (think “Trump University”). If done incorrectly, it can be just as slow and expensive as litigation with the additional downside of no right of appeal. You must also consider the cost of arbitration in terms of filing fees, payment for the time of the arbitrators (by the hour), the cost of renting the rooms for the hearing, etc. Arbitration is not necessarily an inexpensive process even setting legal fees aside. Accordingly, you want to be selective about which agreements include an arbitration clause. We called it “planning for the divorce,” i.e., what do we want to have happen in the case of a material dispute under the contract. We typically used arbitration provisions in international contracts, especially where our customer was headquartered in a country where we were not familiar with nor confident about the court system. We felt arbitration would give us a better chance at a fair result in the event of a dispute. Likewise, in domestic contracts, we used arbitration (if possible) where the contract was particularly sensitive and we valued confidentiality in the event of a dispute, or where the other side to the contract was known to run to court “early and often.” Otherwise, so long as we had choice of law/forum clauses we were comfortable with, litigation in the U.S. was fine. The important point is to consider the circumstances of each contract and whether, after properly tailoring your clause, the upsides/downsides of arbitration provide you what you’re looking for in case of a fight under that agreement.
• Scope of the agreement. If you decide to arbitrate, you need to decide the “scope” of the agreement, i.e., what disputes do you want covered? If you want “everything” to be arbitrated, then you need to use the broadest language possible to ensure all disputes arising under or related to the agreement are arbitrated. If there are claims you want to carve out (e.g., injunctions around IP claims) be sure those are clearly stated as not subject to arbitration. Run through all of the different types of disputes that could arise between you and the other party to the contract and decide whether or not you want to subject them to arbitration. Once decided, use care to either broadly or narrowly define which claims/disputes are subject to the arbitration process.
• Get the “fundamentals” right. There are a number of items in an arbitration clause that I find “fundamental” to ensuring a smoothly functioning process. Consider and address all of these points when drafting your clause:
• Which arbitral body – You need to pick who will administer your arbitration and under whose rules you will arbitrate. In the resources section below, there is a link to a list of all of the major arbitration bodies. The most commonly used are the ICC, JAMS, AAA, and the LCIA. Every arbitral body brings something different to the table (including a different schedule of costs and fees). Each body typically has different rules for different types of disputes (small vs. large dollar, complex vs. simple, etc.) so decide which rules will apply to which disputes. There are also sample arbitration clauses on the websites that you can use in your agreements – at least as a starting point for drafting your clause.
• Location of the arbitration – Where do you want the actual arbitration to occur? Unless the leverage is very one-sided, select a location that is convenient and neutral to both sides. Note that the costs of hotels, travel, room rental, etc., will be more expensive in some cities than others (e.g., London vs. Manchester). Likewise, the availability of quality arbitrators is greater in some locations than others (but consider the cost of arbitrator travel). You also want a location where the local courts will not interfere with the arbitration process.
• Specify the language – Set out the language under which you will conduct the arbitration. English is very typical, but not exclusive. Regardless of which language you pick, be sure you are comfortable litigating in that language. And note that translation of documents may be necessary.
• The panel (selection and size) – You need a process to select the arbitration panel. Do you want arbitrators with special skills/qualifications or language fluency? Do you want each side to select an arbitrator and then have those two select a chair, or do you want the arbitral body to select the panel? How big is your panel? Unless your dispute is very small, I would go with three arbitrators. This will help prevent getting an odd result in the event a single arbitrator goes “rogue.” Keep in mind that multiple arbitrators will increase the cost and will make scheduling hearings, etc. much harder. So, do not dismiss a single arbitrator out-of-hand.
• Time frame – Because it’s an agreement, the parties can set out any time frame they want in terms of how quickly the dispute will be heard and decided. For example, the panel must be selected within 60 days of filing, the hearing take place within six months, and a written decision issued 30 days after the hearing. In reality, short time frames are very unlikely to hold up. The process of agreeing on the panel, finding dates that work for everyone (you, witnesses, the other side, the arbitrators), the likelihood of having your hearing broken up into different dates, etc. will almost always stretch your time frames. So, go ahead and pick a tight time frame, be realistic in what you pick and in your expectations – and expect the process to take at least one year. Additionally, you can also include specific time frames to bring claims – which may differ from the statute of limitations otherwise applicable under the governing law.
• Confidentiality – One of the huge benefits of arbitration is the ability to keep it confidential, including any filings, documents, testimony, outcome, etc. Be sure to include specific language regarding the confidential nature of the arbitration along with a remedy for violation of the confidentiality requirement (i.e., injunction, damages, annulment of award).
• No class actions – Consider including “no class actions” language in your clause. While not common, there are B2B class actions out there (e.g., MasterCard/Visa).
• Separate exhibit – Make the arbitration agreement a separate exhibit to the contract. This way, the drafters of the contract will not feel the need to “limit” the length of the arbitration provisions so that they don’t dwarf the “business” sections of the contract.
• Governing law – Lastly, you need to pick the law that will govern the arbitration, e.g., the laws of the State of Texas, the UK, or Singapore. Be careful here and make sure you understand how arbitration is treated in the jurisdiction you select. Is there wide deference to the power of the arbitrators or can/will the court interfere with the result? Set out clearly the scope of the arbitrators’ powers, including, for example, that the arbitrators’ judgment on all issues, including the award, the law of the jurisdiction, and whether or not the dispute is subject to arbitration is final.
• Scope of discovery/rules of evidence. The place where most arbitration clauses fall down is on the scope of discovery. Usually, there is no discovery process set out in the agreement, which is a mistake. Discovery is a place where you can truly ensure that your arbitration is not like civil litigation. You can limit the number and length of depositions (if you permit any at all), scope of document exchanges, interrogatory requests, request for admissions, number of expert witness, etc. You have a blank slate to write on. Accordingly, consider exactly what you want to happen in terms of discovery. If you leave it blank or leave it to the rules of the administering body, you will likely find yourself stuck with a discovery process that looks and feels a lot like regular litigation. The opposite problem occurs when thinking about the rules of evidence. If nothing is said about it in the agreement, then at the actual arbitration you will find the panel to be very “flexible” about what comes into evidence. If you are used to the U.S. system of evidence, for example, this can be very surprising. Consider what rules of evidence, if any, you want to apply to your arbitration and state that in the agreement. Note that regardless of which rules of evidence you specify, you will still find that the admission of evidence in arbitration is more “flexible” than civil litigation.
• Prehearing motions/provisional remedies. One of the perceived downsides of arbitration is that dispositive motions (i.e., motion to dismiss, motion for summary judgment, etc.) are unusual/not frequently granted. In civil litigation, these types of motions can get rid of a weak case early in the process or narrow the claims at issue. If you want the ability to knock-out or limit claims early in the process, build that into your agreement. But, even if you do write dispositive motions into the agreement, the arbitrators are still less likely to grant such relief vs. a court. Similarly, consider whether or not to give the panel the power to grant injunctive relief (though this area is usually one most parties carve out of arbitration agreements and leave to the courts), attachment, garnishment, or other types of provisional remedies.
• Limits on damages, costs, and fee awards. You can limit the ability of the panel to award or not award certain types of damages. For example, an exclusion against awarding punitive damages is common. Traditionally, costs (other than initial filing fees) in an arbitration are borne equally by the parties with some exceptions, such as if one party wants a transcript of a hearing and the other doesn’t. That said, many arbitration agreements allow or require (an important distinction) the panel to award costs (including expert witnesses), interest (pre- and post-award), and attorneys’ fees to the prevailing party (and I recommend making fee shifting required). Whatever your thinking here, you want to spell out the powers and requirements around the panel awarding costs and attorneys’ fees.
• Dispute escalation procedures. Many dispute resolution clauses contain “escalation” procedures that must occur before arbitration can begin. For example, the project managers must meet within ten business days, then the vice presidents of the company within ten days after that, and ultimately the CEOs. Then the parties are required to go to nonbinding mediation, and only if that fails can either party file an arbitration claim. Think hard about including such a process in your arbitration agreement. While it is certainly possible that the dispute might get resolved at any one of these steps, it is probably going to take a while to get there – possibly many months before the dispute is ripe for arbitration (and the CEO may start asking why you ever agreed to such a long and drawn out process). The other side may use the process to drag a weak position out for as long as possible with the hope that you’ll settle for far less than the company is entitled to. There is nothing in an arbitration clause that will prevent you and the other side from agreeing to do any of these things (e.g., mediation) while the arbitration is underway.
• Get the litigators involved from the start. One of the root causes of “bad” arbitration clauses is the lack of involvement of the in-house litigation specialists (or outside counsel if there are no in-house litigators). The commercial lawyers (for both sides) often draft/add an arbitration clause without consulting the people who have to live with the resulting process. As you are drafting your arbitration provision (or deciding whether to include one at all) be sure to set up time to discuss the issues and the drafting with a litigation lawyer. This can be someone in-house or from outside counsel (and it will be well worth the few hours of billable time to get an outside pair of eyes to look things over). The litigators should have firm views on all of the issues noted herein, and will have the best interests of the company top of mind.
• Enforcing the award/appeal. A dispute resolution process is fairly worthless unless the parties have a good way to enforce the decision. Arbitration is no different. Fortunately, the enforcement of arbitration awards is generally a straightforward process in over 150 countries that have signed onto the New York Arbitration Convention. The countries signing onto this treaty agree that arbitration awards and agreements issued/made in the jurisdiction of one country are enforceable in another. There is nothing special you need to do here other then make sure your arbitration hearing takes place in a signatory country. As most lawyers know, it is extremely difficult to appeal an arbitration award. There usually needs to be some type of fraud/corruption, unrevealed conflict of interest on the panel, or manifest disregard of the law. All of these have very high bars to clear. The lack of ability to appeal is one of the main reasons some companies do not utilize arbitration. There are two things you should consider on this point. First, consider requiring that the arbitrators give a “reasoned decision” when making their decision, i.e., writing out the reasons for the decision. If there is a manifest error, it is much easier to detect if there is a reasoned decision vs. a short standard award statement of “who wins.” Second, and this is much more controversial, consider building some type of appeal rights into your arbitration clause. By including the latter, you almost guarantee the loser will appeal – which may run counter to why you selected arbitration in the first place. One idea here is to ensure the loser on appeal pays for the attorneys’ fees of the winner.
• Resources. Here are some additional resources that I have found useful over the years that can help you, as you determine whether you want to arbitrate or not, draft your own arbitration provision, or once your arbitration process is underway:
• Practical Law (numerous helpful resources – subscription required)
• Latham & Watkins Guide to International Arbitration
• Proskauer Guide to Arbitration
• Arbitration Nation (blog)
• Arbitration Notes (blog)
• Arbitral Institutions and Arbitration Courts (listing)
• List of Global Arbitration Bodies
• Sample Arbitration Clause (ACC)
• Sample Arbitration Clauses (ABA/Hogan Lovells)
• Sample Arbitration Clauses (Charles Routh)

All of the above should be helpful regardless of where your company is based. The key to ensuring arbitration is different than typical litigation starts with a well thought out and drafted arbitration clause. If you are going to arbitrate, invest the time in researching and drafting a customized arbitration clause for each agreement. Whatever you do, do not leave it as some type of “boilerplate” paragraph tossed in at the end of the drafting or just “re-use” whatever you put in your last contract.

¹ For purposes of this article, I am going to discuss arbitration clauses in the context of business-to-business commercial agreements. Employee agreement arbitration clauses and consumer contract arbitration clauses add too many issues to cover with limited space. Though you should be aware that in the U.S., arbitration provisions in both of these types of contracts are under attack and the ground is shifting quickly. Likewise, complex multilevel/multiparty/multicontract arbitration clauses contain issues beyond the scope of this article.

About the author

Sterling Miller spent over twenty years as in-house counsel, including being general counsel for Sabre Corporation and Travelocity.com. He currently serves as Senior Counsel for Hilgers Graben PLLC focusing on litigation, data privacy, compliance, and consulting with in-house legal departments. You can follow his blog “Ten Things You Need to Know as In-House Counsel” at www.TenThings.net and follow him on Twitter @10ThingsLegal. His first book, The Evolution of Professional Football, was published in December 2015 and is available on Amazon and at www.SterlingMillerBooks.com.

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