Arbitration or Arbitrary? A Guide to Help You Decide Whether to Arbitrate Construction Disputes

by Nexsen Pruet, PLLC

When will mankind be convinced and agree to settle their difficulties by arbitration?
- Benjamin Franklin

As a general rule, I am almost convinced that all disputes in the construction context should be settled by arbitration.  Arbitration offers the opportunity for cost savings and the selection of a fact finder who will understand the subject matter, listen to all sides, and try to render an award that is fair and is in line with the facts.

Arbitration also eliminates the commercial litigation nightmare of a jury trial.  If the parties and lawyers involved in an arbitration matter are committed to the arbitration process and to realizing the full extent of its intended advantages, then arbitration is superior to litigation.

Arbitration has one assured advantage over litigation in civil court – its results are generally confidential to the parties.  There are other potential advantages, but, again, that will depend on the drafting of the arbitration clause and the discipline of the parties, their counsel, and the arbitrator in following it:

  1. Limited discovery;
  2. Greater control over the hearing schedule;
  3. Reduced or non-existent motions practice;
  4. Relaxed rules of evidence;
  5. Highly limited ability to appeal from the arbitration award.

There are ways in which arbitration can be less expensive and more efficient.  Particularly in pre-trial activities, arbitration should be less expensive than litigation and problems (like discovery disputes) should be resolved more quickly.  However, the theory that arbitration is always less expensive, more efficient, and more likely to produce an “accurate” result than litigation is a myth. 

In practice, if one of the parties (or, more particularly, its lawyer) is determined to make the arbitration expensive or inefficient, it can do so.  If the arbitrator is passive and does not enforce the provisions of the arbitration clause designed for efficiency and frugality, then arbitration can be just as expensive and cumbersome as litigation, or even more so.  And if the parties do make it to a hearing without settling the case, they are likely to lose all savings that were generated in the pre-trial process, especially if the case is being heard by a three-member arbitration panel.

There is no perfect arbitration procedure and no way to guarantee a better result in arbitration.  In order to make an informed decision about whether or not to require arbitration in your contracts, here is a list of things to consider:

How important is the confidentiality of legal proceedings?

Legal proceedings filed in civil court are public knowledge and can be easily accessed by anyone.  If you have a strong interest in keeping the details of disputes secret from the public at large, then arbitration is the better alternative.  You should bear in mind that, even though the details of arbitration proceedings are private and confidential, the news of any kind of litigation spreads quickly and the fact that a dispute exists may well get into the open. 

In addition, publicly traded companies may have reporting requirements that cause the details of an arbitration to be released.  And, companies that book revenue or losses against arbitration awards may end up losing their confidentiality through that process.

What courts are available for a trial of disputes under the contract?

For example, if a civil court with jurisdiction has a “rocket docket” or some other kind of similar system that gets cases to trial quickly, does not abide shenanigans from counsel, and strictly enforces the rules of civil procedure, we might advise selecting that forum as the trier of fact.  The parties to the contract could specify in the contract that such a court is the exclusive forum for dispute resolution, without a jury trial. 

On the other end of the spectrum, if our client is doing business or has a construction project in a jurisdiction where it would be foolish to run the risk of being in civil court (i.e., overloaded dockets, “good ol’ boy”-ism), we would strongly advise our client to include an arbitration provision in its contracts.

What is the relative bargaining power of the parties?

For parties of equal bargaining power, the arbitration clause is a way to realize the advantages discussed above. 

If our client is in a position of greater bargaining power than the party with whom it is contracting, and it is not a contract of adhesion (“take it or leave it”) with a consumer, then a stringent arbitration clause with significant filing fees can be a deterrent to the filing of claims.  And fees for organizations like the American Arbitration Association have to be paid in advance.  Those fees can be quite large, depending on the amount of the claim and the number of arbitrators required.  In this scenario, we also like the idea of an arbitration clause that is effective only at the election of our client.  This gives our client the flexibility to choose arbitration at the time of the claim, without having to anticipate, at the time of contracting, what kind of claims it wants to arbitrate.

If our client is the vendor in a contract of adhesion with a consumer, then onerous arbitration clauses with high filing fees, burdensome procedural provisions, etc. may be challenged as being unconscionable and against public policy.  These challenges have had success is several jurisdictions, but are less likely to be successful in North and South Carolina.

How complex is the potential subject matter of a dispute?

We would almost never choose to try a complex construction case in front of a jury.  Some judges have the requisite experience, technical understanding, and interest to try a complex construction case, but it depends on the jurisdiction.  You may also run the risk that the judge with such experience does not get assigned to your case. 

Most state courts and many federal courts will attempt to force the parties to a complex construction dispute to settle the matter prior to trial.  Other courts simply will not give a complex construction matter enough time on the docket for a proper trial.  Choosing an arbitration clause that allows for an arbitrator with technical expertise or many years’ experience practicing construction law is usually the better option.

What organization should administer the arbitration?

The American Arbitration Association (“AAA”) is a popular choice to administer arbitration proceedings.  They have a regimented process of administration that is generally predictable and a long track record of administering cases.  They also have a large pool of arbitrators from which to draw. There is no right under the AAA rules for discovery or motions.  AAA arbitrators are trained to limit both discovery and motions. 

AAA filing fees can be high and the administration process can be cumbersome.  As an alternative, the parties can agree that the AAA rules will be followed but the arbitration will not be administered by the AAA.  In that case, the parties can pick another, more localized arbitration administration group or just leave the selection of the arbitrator to the parties and counsel at the time of a dispute.

Does your contract need to be consistent with other contracts of a similar nature or related contracts?

In the construction context, we would want all project participants to have the same dispute resolution procedure in their contracts.  If the Owner and General Contractor have agreed to arbitration, then the subcontractors and the design professional should also have arbitration provisions in their contracts.  There are many other scenarios in a commercial context in which this same principle would apply.

The grounds for appealing from an arbitration award are limited to the following: (1) the award was procured by corruption or fraud; (2) the arbitrators were impartial or corrupt; (3) the arbitrators committed some type of misconduct such as refusing to consider material evidence; and (4) the arbitrators exceeded their powers.   Basically, the law requires a showing that the arbitration was rigged in order to appeal. See, 9 U.S.C. §10(a).  This perceived advantage can also be a disadvantage.  While the limited grounds for appeal all but guarantee a faster ultimate resolution of a case, parties to arbitration risk getting an award that is boneheaded, with little ability to appeal from it. 

And this is where the “arbitrary” nature of arbitration comes into play.  Arbitrators have a general reputation for “splitting the baby” (which is a misnomer, since Solomon never actually split the baby; he simply used the threat of splitting the baby to reach the proper result).  Anyway, arbitrators do, in our experience, tend to avoid completely hammering one of the parties in an arbitration proceeding for fear of gaining a reputation as being unreasonable.  There is also no requirement that arbitrators issue written findings of fact and conclusions of law (though you can contract for this).  It can be very confusing and dissatisfying for parties when an arbitrator issues an award with no written basis for how the arbitrator reached the conclusion. 

Getting an arbitrator with a lot of experience in the subject matter of the dispute (i.e., a seasoned construction attorney or an expert in engineering) can be a double-edged sword, too.  Whereas the arbitrator will have a better understanding of the issues, that fact may lead the arbitrator to believe she has more knowledge than the parties or their counsel.  The arbitrator may also have biases about the construction industry that are brought to bear in the decision-making process.  For example, if the arbitrator does not like a certain kind of construction scheduling method, he may be less inclined to listen to the scheduling expert for the party that employs that method.

If you do opt for arbitration, we would propose using the simplest arbitration clause possible.  A lot of time and effort can be expended in drafting clauses with many controls, rules, and fee provisions, but those are subject to backfire or may not operate in practice as intended.  When the arbitration clause is the longest provision in your contract, we would suggest that something has gone terribly wrong.

In conclusion, the choice of whether to arbitrate a case should be made while considering all of the factors discussed in this article.  The decision should not be made due to a poor result in civil litigation or in arbitration.  Because, let’s face it: When you choose to let a third party decide a dispute, anything can and will happen, including results that seem arbitrary.

Written by:

Nexsen Pruet, PLLC

Nexsen Pruet, PLLC on:

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