Understanding the Fine Print: Dispute Resolution clauses

Dispute resolution is commonly looped in with other “Fine Print” clauses, is usually placed at the end of a written agreement, and is often categorized together in a “Miscellaneous” section. Notwithstanding, however, dispute resolution clauses can be deployed in various forms to achieve strategic impact.

Contracting parties can use a dispute resolution clause to allocate risk and incentivize (or disincentivize) litigation. What do I mean?

The High Cost of Arbitration

Arbitration is private adjudication of a dispute. Working with an arbitration service provider, such as the American Arbitration Association that handles all sorts of business-related disputes, the parties to a contract hire the arbitrators, set the rules and the pace for the litigation, and have a great deal of control over the entire dispute resolution process. In addition to general arbitration services, there exists also industry-specific arbitration services, such as the Independent Film & Television Alliance Arbitration (IFTA), that adjudicates disputes arising out of independent film and television productions.

Regardless of the dispute resolution service utilized, arbitration comes at high price. Most services charge an initial filing fee that can be anywhere from a few hundred dollars to a few thousand. Parties must pay the arbitrators hourly fees to show up at the hearing, review filings and evidence, and render a final decision. Parties also pay the costs of the hearing room, court reporter, and other logistical expenses.

Those costs come in addition to the normal costs of litigation, which can run into the tens of thousands or hundreds of thousands of dollars depending on the type and scope of the dispute and the size of the legal team.

Using Arbitration Clauses Strategically

Given high costs, parties can use contractually-mandated arbitration to effectively forestall litigation depending on the size of the deal. For example, it seems hardly worth it to prosecute an arbitration claim if you stand to recover less in damages than the amount it costs to actually bring and litigate the claim.

If there is no eligibility for attorneys fees, either contractually or as provided by statute, then litigation can potentially be a losing battle, even if you have a winning case and ultimately prevail at trial.

For a client that wants to impose a high bar to litigation, which would hopefully encourage the parties to work out any dispute on their own, specifying arbitration but excluding the winning party from recovering attorneys fees can be a means of deterring litigation and encouraging self-help. In this way, increasing the cost of litigation incentivizes parties to resolve their disputes outside of formal litigation and decreases the likelihood a party will file a lawsuit for harassment, dilatory, or other improper purposes.

On the other hand, for a client who is concerned about the risks of a contract and believes litigation with the other party may be likely, the goal would be to establish a dispute resolution framework that is cost-effective. By balancing the time and cost factors, clients can select a dispute resolution mechanism most likely to provide a good outcome in the event of litigation. For example, arbitration can be costly, but there is also a likelihood of reaching a resolution sooner. Currently, civil cases working their way through California Superior Court are facing a timeline of at least two years (on average) before any resolution.

Allocating Costs with Attorney Fee Clauses

Whether and how to allocate attorneys’ fees also factors in to the selection of dispute resolution mechanics. Allowing a prevailing party to recover attorneys fees, on the one hand, may disincentivize a party from litigating a dispute if the party has doubts about the strength of its case. Clauses which award attorneys fees if the losing party brings the claim in bad faith or acts improperly during litigation proceeding further deter trigger-happy parties from filing a lawsuit.

On the other hand, allowing a prevailing party to recover attorneys fees also makes litigation more cost effective for those parties that have a likelihood of prevailing on their claims.

As this broad overview of the strategic implications of dispute resolution clauses shows, just a few words at the end of a contract can have a huge impact on how the deal plays out and whether the deal is ultimately a successful undertaking for both parties.

Keep checking back for more posts about understanding the Fine Print.

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