Arbitration Clauses in Construction Contracts:

Expedient Justice or Potential Pitfall?

     The inclusion of arbitration clauses in construction contracts remains a popular method for resolving potential disputes.  Defined by the American Arbitration Association (AAA) as the “referral of a dispute to one or more impartial persons for final and binding determination,” arbitration offers numerous advantages, including expediency and finality, when dealing with multiple parties and claims typically associated with construction contracts.  However, despite the advantages offered by the arbitration process, parties should be aware of its various drawbacks before entering into an arbitration agreement.

     Parties entering an arbitration agreement sacrifice the expertise of the judicial system, as well as the benefits of the discovery process.   Disputants must submit to the mercy of an arbitrator who is not bound by any recognized rules of procedure, evidence, or legal precedent.  With limited time and resources devoted to the presentation of a claim, as well as little opportunity to investigate its merits, disputants also risk the possibility of an unreasonably disastrous result without the possibility of appealing to a reviewing court.  Fortunately, parties are able to include provisions in the arbitration agreement to address a variety of concerns including the lack of flexibility in the discovery and appeals process. 

     Moreover, arbitration costs can prove equally, if not more, cumbersome than litigation expenses.   In a commercial dispute arbitrated by the AAA, filing fees range from $500 for claims below $10,000 to $65,000 for claims exceeding $10 million, compared to $160 or $140 to file in Harris County district or county court, respectively.  Arbitrators, who normally serve without compensation for the first day of service on claims below $10,000, also charge hourly rates comparable to that of attorneys, depending on the arbitrator’s knowledge and experience.  All other expenses related to arbitration, including required travel and other expenses of the arbitrator, AAA representatives, witnesses and the cost of any proof produced at the direct request of the arbitrator, is divided up equally by the parties, unless otherwise agreed to or unless the arbitrator chooses to assess such expenses to a specified party in the award.    Notably, all of these fees associated with the arbitration process exclude the presence of a judge or jury.  Instead, these roles are assigned to a sole arbitrator or panel of arbitrators, who are not subject to the same standards as judges, and who cannot offer the same montage of perspectives offered by a jury panel of average citizens. 

     Despite these potential pitfalls, arbitration can serve as an effective alternative to traditional civil contests.  According to the American Arbitration Association (AAA), the average civil lawsuit takes 2 years or more to conclude in court, while the average arbitration claim is resolved in 8.6 months.  Unlike civil lawsuits, which permit extensive discovery methods and require adherence to federal and state rules of procedure and evidence, arbitration is typically governed by straightforward rules that significantly limit discovery and allow claims to be disposed of quickly.  Economically, arbitration can be very cost-effective with the exclusion of various out-of-pocket expenses including costs for experts, deposition stenographers, transcripts, copying, and delivery charges, as well as expenses related to the appellate process.  Furthermore, whereas parties in a civil lawsuit are almost always guaranteed an appeal, judicial review of the merits of an arbitrator’s decision is extremely limited.  Although limited appeal can be viewed as a disadvantage, parties may prefer the finality of the arbitration process in order to avoid the delay, uncertainty, and costs associated with the appeals process.

     Overall, binding arbitration agreements, though valuable, are not always the most judicially practicable answer to disputes arising out of construction contracts.   Before including a binding arbitration agreement, parties should assess their transaction and determine whether arbitration is a reasonable method for resolving a potential dispute.  Should parties include an arbitration clause, they should be aware of the potential risks involved, and craft an arbitration agreement that assures a fair process and is suitable for the transaction involved. 

About the Author:

Matthew Kornhauser is board certified in Civil Trial Law by the Texas Board of Legal Specialization and is a partner with the Houston, Texas law firm of Hoover Slovacek LLP.  His areas of concentration include litigation, mediation, and arbitration of construction defect and design defect cases, delay claims, and business disputes of all types, including those involving corporate, employment, and real estate related matters.  Special thanks to Magnus Rayos for his assistance in the creation of this article.