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Understanding arbitration clauses in business contracts

by | Jan 17, 2023 | Business Transactions

Many business contracts include some type of arbitration clause. Recognizing when to include one and when not is vital to any operation.

What is an arbitration clause?

An arbitration clause in a contract is a provision whereby parties involved agree that, in the event of a dispute or breach of contract, they will use arbitration to solve the problem in lieu of another dispute resolution method, like litigation.

What is arbitration?

Arbitration is a form of alternative dispute resolution (ADR), and an alternative to traditional litigation. If the parties agree to use arbitration to solve issues, they choose an arbitrator or panel of arbitrators and go before them to present their cases. The arbitrator is the ultimate decision maker and, after reviewing both sides, evaluating the evidence and if necessary, calling in experts to testify, the arbitrator will render an award, or make a decision.

Why is arbitration beneficial?

Arbitration has a variety of benefits, including:

  • Arbitration is a private way to solve disputes (in contrast to litigation which is often public record).
  • Arbitration is cost-effective and can save businesses hundreds of thousands of dollars in lengthy litigation.
  • Arbitration is usually binding. While you might think this is a negative, it can be beneficial because after the decision is made, ideally the parties will accept the decision without the option of appealing.
  • Arbitration aims to be non-adversarial. Unlike litigation, the parties come together in good faith and attempt to solve their problems. This can also sometimes preserve their relationship which can be highly beneficial if they will continue to do business together.

There are different alternative dispute resolution options available and businesses have multiple options when drafting and executing contracts. Understanding the reasoning behind ADR and arbitration in particular and its important role in contracts and business in general is essential.