The Arbitration Debate: Does It Affect Commercial Arbitration

Arbitration has been in the news a fair amount lately. The Supreme Court has been quite friendly to arbitration, deflecting attacks against arbitration clauses — often characterized by detractors as “forced arbitration” —in consumer setting. For example, in AT&T Mobility LLC v. Conception, 563 U.S. 333 (2011), the Supreme Court made it clear that the FAA preempted and displaced a California Supreme Court ruling that class waivers and mandatory arbitration in consumer agreements were generally unconscionable and unenforceable.  The overarching purpose of the Federal Arbitration Act (“FAA”), the Court reasoned, is to enforce arbitration clauses according to their terms to facilitate informal, streamlined proceedings.  Because California’s rule stood as an obstacle to accomplishing the full purposes of Congress in the FAA, it was thus preempted.

The role of consumer arbitration

This, apparently, is exactly what some large financial institutions and corporations were hoping for, according to one recent article. See “ Consumer Arbitration – going . . . going . . . NOT gone?” Sirote & Permutt PC Consumer Financial Report Blog. From their perspective, in the 1990s, companies serving consumers were undergoing very large judgments for errors in disclosing terms — sometimes claimed to be material only in retrospect by the  plaintiff’s bar — in consumer contracts.  Many cases were brought, and juries were delivering large, punitive judgments for such errors.  These companies adopted arbitration clauses in their consumer contracts, thereby avoiding class actions in favor of arbitration of individual claims.

The backlash

Consumer advocates, of course, saw nothing wrong with the way things were before widespread adoption of mandatory consumer arbitration clauses.  Often, the individual claims were not large enough to pursue, so class actions were the only way to gain relief.  Mandatory arbitration made that impossible.

So legislation was proposed, including the Arbitration Fairness Act in one version or another, that sought to foreclose mandatory arbitration. E.g., Arbitration Fairness Act of 2015, H.R. 2081.  None has passed.

Meanwhile, mandatory arbitration is under attack on the regulatory front.  The Bureau of Consumer Financial Protection has proposed regulations prohibiting use of arbitration to bar consumer participation in class actions.  The Centers for Medicare & Medicaid Services issued rules effective in November of 2016 forbidding mandatory arbitration of claims by residents of long term care facilities. A federal court enjoined enforcement of the rule, relying in part on ATT v. Conception. Am. Health Care Ass’n v. Burwell, No. 3:16-CV-00233 (N.D. Miss. Nov. 7, 2016), ECF No. 44.

For now the issue remains in dispute and continues to receive attention.  The New York Times ran a series of stories on it last year, for example, entitled, provocatively enough, “Arbitration Everywhere, Stacking the Deck of Justice.”  New York Times, Oct. 31, 2016.  The paper describes its discussion as “a three-part series examining how clauses buried in tens of millions of contracts have deprived Americans of one of their most fundamental constitutional rights: their day in court.”

This is an interesting take on the situation.  The highest court in the land has apparently, according to the New York Times, interpreted a Federal Statute in a way that, in effect, deprives millions of Americans of a fundamental constitutional right.  However one might view that positon from a constitutional or legal point of view, this is a pretty stark indictment of arbitration by a prestigious newspaper.

Effect on commercial arbitration?

So what does all this have to do with commercial arbitration?  Actually, not much. But there is a danger this dispute will spill over into the commercial arena.

The evolution of arbitration

Arbitration evolved in a commercial context.  Two people or entities engaged in a business dispute agreed to submit the dispute to a trusted, knowledgeable person for a decision.  The decision was typically made on the basis of commercial practice and experience rather than legal precedent.  The process was fast and informal.  The courts were not involved.

Courts were often hostile to the role of arbitrators, but eventually the United States Congress was not.  In 1925, Congress passed the Federal Arbitration Act, 9 U.S.C. §1, et seq.  The Act applies in both federal and state courts and provides that agreements to arbitrate are valid, subject only existing grounds in law or equity for rescinding contracts.

Disparate power concerns

The concern about disparate bargaining power being abused in a commercial context doesn’t apply in commercial arbitration the way it can to consumer contracts.  Arbitration clauses should not be a surprise to commercial entities. They are usually negotiated and bargained for.  By contrast, consumers tend not to read all the “fine print” in their various agreements.  I know I don’t (although I often do pick out the arbitration clause just as a matter of curiosity). They are likely to be surprised to find that somehow they are required to arbitrate rather than have their day in court.

By contrast, the notion that arbitration could somehow deprive someone of constitutional rights doesn’t fit any arbitration of a commercial matter I have ever seen, or even heard of.  To be sure, if businesses or their counsel are not vigilant in reviewing arbitration clauses, they can be disadvantaged.  The venue might be inconvenient.  The procedure required might be more costly than it should be.  But a loss of important rights is generally not in the cards.  The clause will have been negotiated between two relatively sophisticated businesses.

Arbitration by oversight

I should, however, note one thing that can come up that companies need to watch out for.  It is common for some companies to put arbitration clauses in the terms and conditions of purchases orders, confirmations or other sales documents.  The clauses are usually in the “fine print on the back of the forms that nobody but lawyers usually read.  Or they can be in online terms people rarely read all the way through, if they bother to click a link to them at all.  Those should be reviewed like any other contract.  And the reviewers should understand the “battle of the forms” under section 2-207 of the Uniform Commercial Code.  Otherwise the company may unwittingly “agree” to arbitration provisions that are not good for them. But that is just a matter of good business practice and not something inherently unfair about mandatory arbitration.

The arbitration debate in a commercial context

Of course, it is possible that some smaller entities doing business with large companies might find themselves subject to arbitration clauses they would rather not have as the price of making the deal.  Yet, in many instances I have seen arbitration can actually represent a benefit to a smaller entity.  It can take advantage of a process that is typically less expensive and faster than a court battle should a dispute arise.

And it is at least conceivable that an arbitration clause could foreclose participation in a class action in some commercial contexts. But it would be the rare case where that is a consideration.  Most arbitration matters focus primarily on contractual obligations and performance of the parties and not issues that lend themselves to class actions.

Yet, while the concerns raised about mandatory consumer arbitration rarely apply in the commercial context, some of the negatives of the debate about “forced” arbitration could spill over to commercial arbitration.  For those hoping to avoid arbitration clauses because they simply don’t like arbitration or see an advantage to keeping away from it, the general criticism of arbitration as depriving people of their rights may be used to bolster their position.  A negative image for arbitration in general can simply make business people who aren’t familiar with arbitration skeptical about the whole concept.

What if you like arbitration?

If you are sold on the benefits of commercial arbitration and think it may be a good practice to include well-drafted arbitration clauses in contracts, what do you do?  See whether the benefits of arbitration are likely to apply if a dispute arises under the contract.  Will it be more efficient and less expensive?  Will it be faster? Is it useful to have a great deal of input into who the decision-maker will be?  Would it be helpful to have an experienced decision-maker, well versed in the industry or likely issues of the dispute? If so, propose a fair arbitration clause and explain to those you represent why it is a good idea.

The consumer arbitration debate will likely rage on for quite some time.  But that should not deter you or those that you represent from analyzing and achieving the benefits of including arbitration in your commercial contracts.