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Advocate’s View: Mandatory arbitration: Pearl or peril?

Mary Jo S. Korona

Mary Jo S. Korona

Starting and formalizing a business relationship, be it a partnership, limited liability company or closely held corporation, often includes a discussion about an agreement to resolve disputes only by way of arbitration. At the beginning of the business relationship, when the business possibilities seem limitless, everyone is getting along and “all is right with the world,” the concept of “staying out of court” seems attractive and practical. The agreement to resolve disputes in accordance with the “standard” arbitration clause is signed, and the partners move on to deal with the real stuff.

Fast forward to when there is a real dispute, the kind that causes partners, now adversaries, to confer with newly retained litigation counsel about the obligation to arbitrate disputes. All too often that discussion produces surprising or disquieting revelations about the meaning and significance of the standard arbitration clause. This article will identify a few questions commonly faced by litigation counsel in relationship to the “standard” arbitration clause.

“Will I be required to arbitrate issues concerning management of my company?

Typically, the arbitration clause broadly calls for arbitration of “any dispute, claim or controversy arising out of or relating to this contract.” Sometimes referred to as “the paradigm broad clause,” would-be litigants will likely be surprised to learn that such language creates a presumption of arbitrability, which may be overcome only if “it could be said with positive assurance that the arbitration clause is not susceptible of any interpretation that it covers the asserted dispute,” Calamia v. Riversoft Ltd., 2002 U.S. Dist. LEXIS 23855 (EDNY 2002).

Thus, for example, if such an arbitration clause is included in an operating agreement that also addresses the ways in which the company will be managed, the parties have likely agreed to submit management disputes to one or even three arbitrators.

“Who will decide the dispute?”

Parties subject to mandatory arbitration agreements will have disputes resolved by arbitrators selected from rosters created by the arbitration provider designated in the parties’ agreement. There are three national arbitration associations, known as American Arbitration Association (AAA), The Resolution Experts (JAMS) and the International Institute for Conflict Prevention and Resolution (CPR), with AAA maintaining the largest roster.

Arbitrators for all three providers include former state and federal judges, practicing attorneys and industry experts. All three of the major provider’s rules call for confidentiality with respect to hearings and awards, (see e.g. AAA R-23; JAMS, Rule 26; CPR Administered Arbitration Rule 20). Thus, as compared with traditional litigation, the parties will not have the guidance offered by decisions made by state or federal courts.

“What are the rules of the game?”

The arbitration rules are those created by the organization identified in the agreement as the arbitration provider. The rules applicable to AAA, JAMS and CPR arbitrations are available online. As between the three major arbitration providers, the rules are similar; however there are differences that should be considered before designating one arbitration provider over the other.

One significant difference relates to the nature of the arbitrator’s award, [see e.g. AAA R-42 (b) (arbitrator need not render a reasoned award); JAMS Rule 24 (h) (award to include reasons unless parties agree otherwise); CPR Rule 5.2 (awards to be in writing and to state the reasoning)].

“Do arbitrators have the same powers as a judge?”

With the standard arbitration clause, the parties have agreed to an arbitrator with broad authority to “take whatever interim measures” deemed necessary, including injunctive relief and measures for the protection or conservation of property, (see e.g. AAA, R-33; JAMS, Rule 19-b; CPR Rule 10.3).

“What if I disagree with the arbitrator’s award?”

An agreement to arbitrate disputes effectively eliminates review aimed at overturning the award. Thus, the grounds for overturning an arbitration award are limited to proof that the award was procured by fraud and/or partiality, corruption or misconduct on the part of the arbitrator in the performance of his or her duties.

“Can costly and time consuming battle be avoided?”

Generally, private arbitration rules are designed to achieve resolution more quickly and cost effectively as compared to traditional litigation. As compared with traditional litigation, discovery is restricted. In addition, all three of the major arbitration providers have expedited or accelerated procedures.

In terms of costs, however, mandatory arbitration involves administrative or filing fees imposed by the arbitration providers, which are either based upon the value of the claim or determined as a function of the arbitrator’s time. In addition to the administrative fees, there are the hourly rates charged by the arbitrators. In the case of agreements to arbitrate before a three person panel, such costs could be significant.

Arbitration can be the optimal method for resolving private commercial disputes. All too often, however, the arbitration path is viewed as perilous precisely because the path was not understood when the parties agreed to the standard arbitration clause. Under such circumstances, the attributes of arbitration are lost or overshadowed by the angst caused by an uninformed decision.

Mary Jo S. Korona is a founding partner in the law firm of Leclair Korona Giordano Cole LLP. She concentrates primarily in the area of commercial litigation in state and federal courts and she is a certified federal court mediator serving the U.S. District Court-Western District of New York.