Many of the first agreements you’ll sign for your startup will likely contain an arbitration or some other form of alternative dispute resolution clause (in fact, many of the commercial agreements you’ve signed in your life probably contain the same clauses). If your startup is going to be on the drafting end of an agreement, you might be wondering whether you should include an alternative dispute resolution or arbitration clause. You’ll find many who extoll the virtues of arbitration, and probably just as many who claim arbitration’s gotten more expensive than traditional litigation and advise you to avoid it like the Plague.
However, if done properly, alternative dispute resolution can be more cost effective than traditional litigation. No one really wants to think about suing the party they’re entering into an agreement with at the contract formation stage, but it is likely a good idea to at least agree ahead of time that claims will be resolved through alternative dispute resolution.
Today we’ll briefly describe the major types of alternative dispute resolution. The first type is simple negotiation. When there is a claim or dispute, in a negotiation the parties, simply putting it, get together and attempt to come to a resolution themselves. There is obviously little to no cost to negotiation (aside from the lawyers!), but if the relationship between the parties has deteriorated significantly negotiation is unlikely to be fruitful. Most importantly, negotiation is not binding — the parties can simply walk away to pursue their dispute in court or another forum.
The next type of alternative dispute resolution is mediation. Mediation is like negotiation, except that the discussion flows through a neutral mediator, which can help the parties feel like they’re not talking to an adversary. The mediator also has the benefit of bringing a new, impartial view to the dispute, and can help the parties to see the dispute from the other’s side’s perspective and can also suggest resolutions to the matter that the parties had not considered. While the mediator is paid for his or her services, the process can be far more informal and quicker than either litigation or arbitration. However, like negotiation, mediation is not binding — the mediator cannot force the parties to come to agreement.
The third major type of alternative dispute resolution is arbitration. Arbitration is the most court-like of the types of alternative dispute resolution, and more important, it is binding (unless otherwise agreed) upon the parties, unless they mutually come to an agreement during the process — the arbitrator (or a panel of arbitrators) will make a finding for one of the parties and and award of damages, which can then be enforced in a court. Though arbitration is court-like, it is also flexible, as the parties can adopt whatever rules they want (there are standard arbitration rules that clauses usually adopt, although those rules can also be modified. Therefore, arbitration can be very informal, or it can operate almost like a court, with motion and discovery practice.
Arbitration itself has several subtypes. Major ones include:
– Mediation-arbitration: The process starts out as mediation, but if the parties are unable to reach an agreement, the mediator then takes the role of an arbitrator and issues a ruling. This encourages the parties to negotiate reasonably and reach a mutually acceptable compromise, because if they don’t the mediation will become an arbitrator and impose a solution on the parties.
– High-low arbitration: In high-low arbitration, the defendant has usually accepted liability and the only remaining issue is damages. A minimum number and maximum number are set on the amount of damages that can be imposed on the defendant or that the defendant will have to pay (often lower than the potential maximum damages in a jury trial).
– Pendulum arbitration: Pendulum arbitration is the form of arbitration utilized in salary arbitration with baseball players, which leads to the more popular name, baseball arbitration. Each party submits a confidential settlement offer to the arbitrator, who must choose one of the offers (alternatively, in night baseball arbitration, the arbitrator(s) does not see the offers and issues a finding as normal — the offer closer to the award is the one selected). This of course forces the parties to make reasonable offers — if one offer is reasonable while the other is not, the arbitrator is more likely to select the more reasonable offer, even if it is not ideal.