Alternative Dispute Resolution Articles
Do I Want an Arbitration Clause?
April 17, 2012
One of the vexing issues of contract drafting is whether to insert an arbitration clause. Having recently had two good arbitration experiences, we are considerably more favorably disposed toward arbitration than we were six months ago.
Arbitration, and Alternate Dispute Resolution ("ADR") in general, which includes mediation, is a growth industry with some of the providers rivaling cold-call investment advisors with their saturation marketing. Both California and federal courts have come around to a "strong policy in favor of arbitration," although California courts have refused to enforce arbitration clauses that are perceived to unfairly favor one side over the other, particularly an employer or in adhesive contracts.
Many, seemingly most, trial attorneys have an innate suspicion of arbitration. We are more comfortable in court, with the twin safety valves of the right to a jury and the right to an appeal. We object to the rates charged by many arbitrators and are suspicious of the abilities and work habits of those who charge less.
Right now we are having trouble seeing why we don't always recommend arbitration clauses in our clients' contracts. Probably, we are one cantankerous, sleeping arbitrator away from changing our minds again, but while we are in this mindset, here is a discussion of the key factors that is quite sympathetic to arbitration.
Arbitration is significantly faster in most situations. To enhance this, an arbitration clause should specify that a single arbitrator will decide the case, not three. Scheduling the time of three arbitrators and the parties is extremely difficult.
Given the recent cutbacks in funding for the courts, the waiting time for trial is increasing in many California counties. This is undoing the accomplishments of the Trial Court Delay Reduction Act, passed in 1990, which provides that most cases should be tried within a year after they are filed. The last great wave of enthusiasm for ADR, which spawned JAMS and other ADR organizations, occurred in the 1980s as courts became increasingly unable to provide trials sooner than five years after filing.
Speed can be provided in the agreement, establishing the time for and extent of discovery and for a speedy hearing. We filed an arbitration petition in a reasonably complex dispute last August 15th and received a decision by the end of the year thanks to tight contractual provisions drafted when there was no dispute on the horizon. That may be faster than you want to go, and it requires an arbitrator up to the task, but it can be done.
One reason an arbitration process can be reasonably quick is that discovery generally is limited. The default position of California law is that no depositions for discovery are allowed in arbitration. The parties may limit or enlarge discovery in their agreement and the rules of the leading arbitration providers specify limited discovery. Depositions are often prohibited or permitted only at the discretion of the arbitrator.
For example, the Employment Arbitration Rules of the American Arbitration Association provide for "discovery, by way of deposition, interrogatory, document production, or otherwise, as the arbitrator considers necessary to a full and fair exploration of the issues in dispute, consistent with the expedited nature of arbitration."
The Arbitration Rules of JAMS, another leading provider call for an exchange of all documents and information, such as witness lists, but only one deposition per party. The arbitrator determines if there will be additional depositions "based upon the reasonable need for the requested information, the availability of other discovery options and the burdensomeness of the request on the opposing Parties and the witness."
Code of Civil Procedure section 1203.05, which generally applies to tort cases, but can be added to arbitration agreements for other causes of action, provides for the same discovery as in court, but depositions are allowed only with leave of the arbitrator(s).
Discovery can be useful or burdensome. It certainly takes time. Obtaining the basic documents and learning of the other party's contentions through interrogatories is useful, but most disputes can be fairly decided without everyone being deposed, as they often are in court. Generally, in arbitrations, the depositions of key players will be allowed, perhaps with a time limit. This often is preferable to the unlimited depositions in California courts.
One caveat is that one possible basis on which an arbitration decision is thought to be vulnerable on appeal is failure to provide discovery consistent with due process. Arbitrators are sensitive to this, leading to liberality in granting requests for depositions, but still what is allowed is generally less than court. Just getting out of interrogatories is often a sufficient benefit.
LESS CHANCE OF MISCHIEF
If you are in a court case with a difficult and over-reaching opponent, it is unlikely that you will receive immediate relief. In arbitration, a telephone conference can resolve a dispute that would not have been resolved or would have required a noticed motion in court, thus saving the cost of preparing a motion and the time spent in meet-and-confer and waiting for an available courtroom. These conferences also tend to be effective because attorneys are generally wary of losing credibility with the person who will later decide their case.
The most obvious limitation imposed by an arbitration agreement is the lack of a jury. The benefit is a great saving of time and an increase in the likelihood that the finder of fact will actually understand the issues. The fear is that the arbitrator will dislike your case on Day One and the rest will be a huge and unsuccessful waste of time.
Obviously, a big part of succeeding in arbitration is selecting the right arbitrator, but our view is that an arbitration is more likely to reach the "correct" result. Thus, agreeing to an arbitration clause in your contract generally provides a lower cost manner to vindicate your rights.
SELECTING THE FINDER OF FACT
Arbitration gives litigants a lot more control over who decides the case. You reach an agreement with the other side or go through a ranking process with a provider such as AAA or JAMS. In federal court, you must accept the judge to whom you are assigned and in California state court, you are allowed only one challenge. Often, the attorneys, each confident of their own cases, can agree on a arbitrator. Although one party is likely to be disappointed with the result, the best arbitrators keep control over the proceedings and reach a result based on logic.
The arbitration agreement can limit the number of hearing days in advance or the parties can do so for a specific dispute. In one of our recent arbitrations, the agreement called for a decision within a specified time after filing, so the hearing time for each side was limited to three days. In another, the parties agreed that the documents reflected the best evidence of what occurred, so they agreed that each side would only call one percipient witness and that the documents would be admitted with something short of a formal foundation for each. These six or seven day hearings were weeks shorter than what would have happened in court and the result, in our view, was at least equally just.
"SPLlTTING THE BABY?"
Arbitrators are often suspected of reaching compromise decisions. This has not been our recent experience, either as litigants or sitting as arbitrators. Where it is clear that one party is right and the other wrong, arbitration decisions generally reflect that reality. Again, this comes down to picking an arbitrator who is not afraid to make a clear decision.
It is probably true that it is harder to get a case adjudicated on motion in an arbitration than in a court, but in our experience, it is not impossible. Again, this requires a selection of an arbitrator who is willing to decide the case quickly. We admit this can be a problem, but we do not think it is determinative, especially because it is difficult to get a case adjudicated on motion in California state court.
An insurance adjuster with whom we work, perhaps stunned by our newfound enthusiasm for arbitration, has expressed the view that the lack of discovery makes a settlement less likely. Our view is that the arbitration clause should require mediation before arbitration and perhaps document exchanges before that. Additionally, because having an arbitrator trying to mediate a settlement is awkward, the agreement could provide for another mediation session close to the arbitration hearing.
Cases in arbitration certainly are more likely to actually be decided in a hearing than those in court. Not only is the hearing itself less costly, but there is not really a framework for resolution once the arbitration is proceeding. In contrast, the pressure to settle in court is immense. A presiding judge once confided to us that if he were doing his job, each court department available to start a trial should dispose of eleven cases, one that is actually tried and ten that settle because trial is imminent.
Payingan arbitrator $650 an hour is daunting, but surely the accurately computed cost of a court case is more, with the additional discovery, the inefficiencies of the court calendar, jury fees and, now, the cost of a reporter, all mounting up over the longer life of the case. We believe that proceeding in court would have cost our clients several hundred thousand more dollars in each of our recent arbitrations.
Unless the parties agree otherwise, an appeal from an arbitration award is severely limited, requiring a finding of corruption or that the arbitrator proceed "in excess of jurisdiction." This last phrase has proven somewhat flexible, but generally, an appellate court will not reverse an arbitration decision for mistake of law or insufficient factual support. This makes litigators nervous because there is no check on a runaway arbitrator, but it contributes significantly to the speed and value of arbitration.
The California Supreme Court has now held that the parties can expand the right of appeal by contract. (Cable Connection Inc. v. DIRECTTV, Inc. (2008) 44 Cal.4th 1334. A good compromise arbitration clause would contain language that questions of law and fact shall be subject to appellate review as they would from a trial court decision. Generally, this would require the parties to order a transcript, which adds to the cost.
Depending on the nature of the contract, the parties may not want a public airing of their dirty laundry. Unlike in courts, where many aspects of the dispute become part of the public record, the pre-hearing filings and the arbitration itself occur in a private setting. Many arbitration clauses and the rules of the ADR provider frequently require the parties and the arbitrator to maintain the confidential nature of the proceedings and the award. An arbitrator may also exclude any non-party from any part of a hearing, further ensuring the privacy of the proceeding. In fact, because of the lack of the right to appeal and the additional cost, parties frequently forego hiring a court reporter to transcribe the proceedings, which has the added benefit of not creating a record that might be subject to production in a future dispute.
So today, arbitration is looking good. We have another in May, so check back then.