Key Elements and Legal Considerations in Drafting Arbitration Clauses

Introduction

Arbitration has become an increasingly popular method of dispute resolution in various sectors of business and law. As an alternative to traditional litigation, arbitration offers parties a more flexible, efficient, and often less costly means of resolving conflicts. At the heart of any arbitration process lies the arbitration agreement, typically in the form of an arbitration clause within a broader contract. The effectiveness of arbitration largely depends on the careful drafting of these clauses.

As Gary Born (2014) notes in his seminal work on international commercial arbitration, “The arbitration agreement is the foundation stone of international arbitration. It records the consent of the parties to submit to arbitration – a consent that is indispensable to any process of dispute resolution outside national courts.” This underscores the critical importance of well-drafted arbitration clauses.

• The Importance of Well-Drafted Arbitration Clauses    A well-drafted arbitration clause is crucial for several reasons:

1. It clearly establishes the parties’ intent to arbitrate, reducing the likelihood of court challenges to the arbitration process.
2. It provides a roadmap for the arbitration process, minimizing disputes about procedural issues.
3. It can help ensure the enforceability of the eventual arbitration award.
4. It allows parties to tailor the process to their specific needs and circumstances.

Blackaby et al. (2015) emphasize that “A well-drawn arbitration clause is a valuable asset; a poorly drawn clause is a source of weakness and generates problems.” They further note that a well-drafted clause can save time and costs by avoiding disputes over the arbitration process itself.

Studies on arbitration clauses highlight that the choice of the arbitration location, along with the selection of the applicable law, is one of the most frequently customized aspects of the basic ICC arbitration rules (Bond, 1989, p.18).

Another critical element in an arbitration agreement is the clause regarding the composition of the Arbitral Tribunal. This includes details on the number of arbitrators, their selection process, and required qualifications. This clause is closely linked to the decision between institutional and ad-hoc arbitration.

In ad-hoc arbitration, the parties must outline the procedure for appointing arbitrators. Typically, each party selects one arbitrator, and those two arbitrators choose the third. It is crucial for the parties to have a contingency plan in case of complications, such as one party failing to appoint an arbitrator or the appointed arbitrators being unable to agree on the third. Parties may opt to designate an authority to appoint the missing arbitrator if necessary. It is advisable for parties to agree on the number, qualifications, and requirements of the arbitrators to prevent future disputes.

In institutional arbitration, these responsibilities also lie with the parties but can be effectively managed by the chosen arbitration institution. The institution’s rules usually provide default provisions if the parties have not agreed otherwise.

Stephen R. Bond (1989, p.18) notes that parties from developing and Eastern European countries often prefer three-person arbitral tribunals. They believe that even though co-arbitrators must remain independent per ICC Rules, a co-arbitrator of the same nationality can better convey the legal, economic, and business context relevant to the party.

Another vital clause in an arbitration agreement is the one specifying the language of the arbitration. Agreeing on a common language helps avoid costly and time-consuming document translations and interpretations during hearings.

•  Key Elements of an Arbitration Clause

Scope of the Arbitration Agreement

One of the most critical elements of an arbitration clause is defining its scope. This determines which disputes will be subject to arbitration. Common approaches include:

1. Broad clauses: e.g., “Any controversy or claim arising out of or relating to this contract, or the breach thereof, shall be settled by arbitration.”
2. Narrow clauses: Limiting arbitration to specific types of disputes or claims.

Lew et al. (2003) point out that the scope of the arbitration agreement is often a source of contention, with courts in different jurisdictions taking varying approaches to interpretation. They note that while many jurisdictions favor a broad interpretation of arbitration clauses, others may take a more restrictive approach.

Choice of Arbitration Rules and Administering Institution

Specifying the rules that will govern the arbitration and the institution that will administer it can provide a comprehensive procedural framework. For example:

“The arbitration shall be administered by the International Chamber of Commerce (ICC) in accordance with its Arbitration Rules.”

This approach incorporates a full set of tried-and-tested rules, reducing the need to detail every procedural aspect in the clause itself. The 2018 Queen Mary University of London and White & Case International Arbitration Survey found that the ICC was the most preferred arbitral institution globally, followed by the London Court of International Arbitration (LCIA) and the Singapore International Arbitration Centre (SIAC).

Number and Selection of Arbitrators

Parties should specify the number of arbitrators (typically one or three) and the method of their selection. For instance:

“The dispute shall be settled by a panel of three arbitrators, with each party appointing one arbitrator and the two appointed arbitrators selecting the third arbitrator who shall serve as the chair.”

Moses (2017) notes that the choice between a sole arbitrator and a three-member tribunal involves balancing considerations of cost, efficiency, and the complexity of the dispute. She suggests that for smaller, less complex disputes, a sole arbitrator may be more appropriate, while larger, more complex cases may benefit from a three-member tribunal.

Seat of Arbitration

The seat (or legal place) of arbitration is crucial as it determines the law that will govern the arbitration proceedings and the courts that will have supervisory jurisdiction. For example:

“The place of arbitration shall be Paris, France.”

Born (2014) emphasizes the importance of choosing an arbitration-friendly jurisdiction as the seat, noting that this choice can have significant implications for the conduct of the arbitration and the enforceability of the award.

Language of Arbitration

In international contracts, specifying the language of the arbitration is essential:

“The language of the arbitration shall be English.”

Blackaby et al. (2015) point out that the choice of language can have significant practical and cost implications, particularly in terms of translation and interpretation requirements.

Governing Law

Parties should specify the substantive law that will govern the interpretation of the contract and the resolution of the dispute:

“This agreement shall be governed by and interpreted in accordance with the laws of Switzerland.”

Lew et al. (2003) note that the choice of governing law can significantly impact the outcome of the dispute, as different legal systems may interpret contractual provisions differently.

Legal Considerations in Drafting Arbitration Clauses

• Enforceability

To ensure enforceability, arbitration clauses should:

1. Clearly express the parties’ intention to arbitrate.
2. Be in writing.
3. Be signed by the parties.
4. For domestic U.S. arbitrations, include language allowing for the entry of judgment on the award.

The New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards (1958) provides a framework for the enforcement of international arbitration agreements and awards. Article II of the Convention requires contracting states to recognize arbitration agreements in writing.

• Arbitrability

Parties should be aware of any limitations on what disputes can be arbitrated under applicable law. For example, some jurisdictions restrict the arbitrability of certain types of disputes (e.g., employment or consumer disputes).

Born (2014) notes that the concept of arbitrability varies across jurisdictions, with some countries taking a more restrictive approach than others. He advises parties to carefully consider the arbitrability of potential disputes under the laws of relevant jurisdictions when drafting their arbitration clause.

• Separability

The doctrine of separability, recognized in many jurisdictions, treats the arbitration clause as a separate agreement from the main contract. This allows the arbitration to proceed even if the main contract is alleged to be invalid. Parties may wish to explicitly recognize this principle in their clause.

• Competence-Competence

This principle allows arbitrators to rule on their own jurisdiction. While often recognized by arbitration laws, parties may choose to explicitly grant this power to the arbitrators in their clause.

• Confidentiality

While arbitration is generally private, confidentiality is not always automatic. Parties wishing to ensure confidentiality should include specific language to this effect:

“The parties agree to keep confidential all matters relating to the arbitration, including the existence of the arbitration, all pleadings, documents, and awards, except as may be required by law.”

The IBA Guidelines on Conflicts of Interest in International Arbitration (2014) provide guidance on maintaining the integrity and impartiality of the arbitration process, which can be particularly relevant when dealing with confidentiality issues.

1. Additional Provisions to Consider
2. Multi-Tiered Dispute Resolutions

Parties may wish to include a multi-tiered process, starting with negotiation or mediation before proceeding to arbitration:

“In the event of a dispute, the parties shall first attempt to resolve the dispute through good-faith negotiations. If negotiations fail to resolve the dispute within 30 days, the parties shall submit the dispute to mediation under the CEDR Model Mediation Procedure. If mediation does not resolve the dispute within 60 days of the mediator’s appointment, the dispute shall be resolved by arbitration as provided in this clause.”

Moses (2017) notes that multi-tiered dispute resolution clauses can promote early settlement of disputes but cautions that they need to be carefully drafted to avoid creating additional procedural hurdles.

• Interim Measures

Parties may want to explicitly provide for the possibility of interim measures: “The arbitrator(s) shall have the power to grant any provisional or interim measures they deem appropriate, including injunctive relief and measures for the protection or conservation of property.”

The UNCITRAL Model Law on International Commercial Arbitration, as amended in 2006, provides a comprehensive framework for interim measures in arbitration, which parties may wish to incorporate by reference.

• Document Discovery

Parties can tailor the extent of document discovery:

“Document discovery shall be limited to the exchange of documents on which the parties rely in support of their respective cases, to be exchanged within 30 days of the constitution of the arbitral tribunal.”

Blackaby et al. (2015) note that the scope of document disclosure can significantly impact the cost and duration of the arbitration and that parties from different legal traditions may have varying expectations in this regard.

• Qualifications of Arbitrators

For disputes requiring specific expertise, parties may specify the required qualifications:

“The arbitrators shall have at least 10 years of experience in the semiconductor industry.”

The IBA Guidelines on Conflicts of Interest in International Arbitration (2014) provide guidance on ensuring arbitrator impartiality and independence, which can be particularly relevant when specifying arbitrator qualifications.

•  Time Limits

To ensure an expeditious process, parties might include time limits:

“The arbitral tribunal shall render its final award within six months from the date of the constitution of the tribunal unless extended by agreement of the parties or by the tribunal in exceptional circumstances.”

• Allocation of Costs

Parties can specify how arbitration costs will be allocated:

“The costs of arbitration shall be borne equally by the parties, but the tribunal may reallocate costs in its final award based on the relative success of the parties’ claims.”

1. Potential Pitfalls to Avoid
2. Overly Complex Clauses

While customization can be beneficial, overly complex clauses can lead to disputes about the clause itself. Simplicity and clarity should be prioritized.

• Inconsistent Dispute Resolution Provisions

In complex transactions involving multiple contracts, ensure that dispute resolution provisions are consistent across all related agreements to avoid conflicting obligations.

• Imprecise Language

Avoid vague or ambiguous language that could lead to disputes about the interpretation of the clause itself.

• Failure to Consider Applicable Law

Ensure that the clause complies with any mandatory provisions of the law governing the arbitration agreement and the law of the seat of arbitration.

• Ignoring Enforcement Considerations

Consider where an award might need to be enforced and ensure the clause doesn’t create obstacles to enforcement in those jurisdictions.

Conclusion

Drafting an effective arbitration clause requires careful consideration of numerous factors, balancing the desire for a tailored process with the need for clarity and enforceability. While standard clauses provided by arbitral institutions can serve as a useful starting point, parties should not hesitate to customize these clauses to fit their specific needs and circumstances. However, such customization should be done with caution, always keeping in mind the potential legal implications and the overarching goal of creating an efficient and effective dispute-resolution mechanism.

As Paulsson (2013) aptly puts it, “The idea of arbitration is that of binding resolution of disputes accepted with serenity by those who bear its consequences because of their special trust in chosen decision-makers.” A well-drafted arbitration clause is the first step in realizing this ideal.

By paying close attention to the key elements and legal considerations outlined in this article, practitioners can craft arbitration clauses that not only meet their clients’ immediate needs but also stand up to scrutiny if and when a dispute arises. As with many aspects of law, the art of drafting arbitration clauses lies in striking the right balance – in this case, between comprehensiveness and simplicity, between customization and proven standards, and between addressing foreseeable issues and maintaining flexibility for the unforeseen.

Sources

1. United Nations Convention on the Recognition and Enforcement of Foreign Arbitral Awards, art. II.1, June 10, 1958, 21 U.S.T. 2517, 330 U.N.T.S. 38.
2. John M. Townsend, Drafting Arbitration Clauses: Avoiding the 7 Deadly Sins, Dispute Resolution Journal, Feb.-Apr. 2003, at 1.
3. Townsend, J.M. (2003). Drafting Arbitration Clauses: Avoiding the 7 Deadly Sins. Dispute Resolution Journal, 58(1), p. 1.
4. UNCITRAL Model Law on International Commercial Arbitration adopted in 1985, with amendments as adopted in 2006.
5. http://www.uncitral.org/pdf/english/texts/arbitration/ml-arb/07-86998_Ebook.pdf
6. See CLOUT case No. 44 – William Company v. Chu Kong Agency Co. Ltd. And Guangzhou Ocean Shipping Company, High Court-
7. Court of First Instance, Hong Kong, 17 February 1993, http://www.hklii.hk/eng/hk/cases/hkcfi/1993/215.html; CLOUT case No. 365
8. Schiff Food Products Inc. v. Naber Seed & Grain Co. Ltd., Court of Queen’s Bench, Saskatchewan, Canada, 1 October 1996, http://canlii.ca/t/1nsm0;
9. Jiangxi Provincial Metal and Minerals Import and Export Corporation v. Sulanser Co. Ltd., High Court—
10. Court of First Instance, Hong Kong, 6 April 1995, http://www.hklii.hk/eng/hk/cases/hkcfi/1995/449.html
11. 10. Great Offshore Ltd. V. Iranian Offshore Engineering & Construction Company, Supreme Court, India, 25 August 2008, http://www.indiankanoon.org/doc/394001/ (4.09.2015).