ARBITRATION CLAUSES - NOT ALWAYS THE BEST THING

Back in September (2010), I wrote about my opinion that often, ADR methods can be quite beneficial in resolving disputes - beneficial from both a cost perspective as well as time.  I mentioned how effective forum choice should be discussed in contractual relations from the outset, either by requiring disputes over the interpretation or operation of an agreement to first try to be resolved via mediation (non-binding), and then possibly include a binding arbitration clause in the agreement as well.

Arbitration clauses in business contracts are quite common.  However, as recently discussed with a client of mine, arbitration is not always the better course, especially in situations where multiple parties are involved in the relationship.

Example:

Widget Company (WidgetCo) makes widgets.  In an effort to save money, it retains the use of independent contractors who consult with WidgetCo on the design of these widgets (Designer) as well as manufacture of said widgets.  WidgetCo then outsources the distribution to another consultant (Distributor).  WidgetCo has separate, but similar written independent contractor agreements with both Designer and Distributor.  In each agreement, any disputes between the parties must be placed into mediation, and if no settlement is reached, the parties agree to waive trial and go to binding arbitration.

Distributor sells widgets to Pain and Panic (P&P), an auto repair shop that uses the widgets in repairing cars.  One of P&P's customers drives away after getting her repairs completed, loses control of her car, crashes, and sustains injuries.  Customer sues P&P, who in turn, sues Distributor and WidgetCo.  Customer amends her complaint and names Distributor and WidgetCo as Doe defendants.  Can Distributor, WidgetCo, or P&P go after Designer as well?

1.  Customer, P&P, and Distributor can sue Designer in court.
2.  WidgetCo can sue P&P in court.
3.  Designer, upon being brought into the lawsuit, may be able to sue P&P and Distributor.
4.  However, WidgetCo will not be able to seek indemnity via the court system from either Distributor or Designer, and Distributor cannot go after WidgetCo directly (nor can Designer) due to the mediation/arbitration provisions in their respective IC agreements.

In practice, the IC parties would likely "waive" their right to arbitrate, and allow court action to reduce the cost/time to fight in a different forum.  However, parties do not always agree to waive such action.  What happens then?

Alternative Dispute Resolution provisions are quite valuable. However, be mindful that scenarios should be approached on a case-by-case basis, and carefully analyzed to determine if ADR is right for the particular circumstance.

Please, Share Your Thoughts!