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Small Business B-2-B Arbitration Part I: Introduction — Should we Make Arbitration Part of the Deal?

March 28th, 2013 Arbitration Agreements, Making Decisions about Arbitration, Small Business B-2-B Arbitration Comments Off on Small Business B-2-B Arbitration Part I: Introduction — Should we Make Arbitration Part of the Deal? By Philip J. Loree Jr.

Small businesses (including sole proprietors) frequently must negotiate arms-length commercial transactions with their more economically powerful counterparts and,  not infrequently, must decide whether to accept an offer to make an arbitration agreement part of the deal.  Whether or not to accept that invitation, and, if so, under what terms, may seem like a straightforward question susceptible to an easy answer, and it can be tempting to think that the risks associated with making the wrong choice are minimal, even in the event that a dispute arises and a party demands arbitration.

Yet any businessperson who has found herself at the wrong end of an out-of-whack-but-unlikely-to-be-vacated arbitration award will surely question the validity of that assumption,  irrespective of whether she relied upon it when she agreed to arbitrate.  Arbitration can offer some significant benefits, but to achieve them one must accept some significant risks.  Whether or not to agree to it in the context of any particular deal is a decision requiring meaningful due diligence tailored to address the specifics of the contemplated transaction that may give rise to a dispute subject to arbitration.

Even if a businessperson were to do some basic research before agreeing to arbitrate, one could hardly blame her for concluding that arbitration is, for the most part, an excellent method of dispute resolution, particularly for B-2-B commercial disputes.  Our hypothetical businessperson might sample some of the judicial opinions and trade and academic commentary on the subject, where she would readily find a virtually endless supply of praise for arbitration in general.  That praise may be warranted in a general, aspirational sense – that is, what potential benefits arbitration is capable of delivering – but all too often it tends to understate arbitration’s risks or simply ignores them in whole or part.  How could we blame our hypothetical businessperson from concluding that agreeing to arbitration will likely serve the interests of her business?

But like many other things, arbitration’s proverbial devil is in its details, and those details include not only the arbitration agreement itself, but the particular transaction to which it will apply and a host of other matters.  More diligence is due than background reading authored by persons who, as we shall see, may be institutionally predisposed to promote arbitration, even in situations in which it may not be the best choice for both parties, or who may otherwise have a stake in its proliferation.  That does not mean the case law and commentary is false or even misleading, for it is not; it simply means that its utility is usually quite limited when it comes to making specific decisions about arbitration in light of the particular circumstances presented by and surrounding any given transaction and proposed arbitration agreement.

This is the first of a series of posts that will discuss some of the basics small businesspersons should know about the risks and potential benefits associated with agreeing to arbitrate disputes arising out of or relating to a particular transaction, and a more thorough, yet not unreasonably difficult or burdensome, way to approach arbitration-related due diligence.  Recognizing that agreeing to arbitrate is not necessarily the wrong choice in any given situation, and that refusing to agree to arbitrate can sometimes undermine the chances of consummating what otherwise appears to be a desirable deal, we shall also discuss how good drafting and negotiation can help allocate arbitration-related risks and benefits more evenly and effectively.

Some of arbitration’s risks depend in part on an assessment of what your counterpart stands to gain or lose from agreeing to arbitrate.  And, as you’ll see, a meaningful assessment needs to, among other things, take into account the arbitration-related knowledge, skill, experience, and resources of your counterpart.

While smaller businesses do not always appreciate fully the importance of making an informed risk-benefit analysis before agreeing to arbitrate, their large-business counterparts do not typically make the same mistake, even if their representatives do not have the same level of business savvy possessed by the small business’s principals.  For reasons we shall discuss, large businesses have a decided edge when it comes to making arbitration-related decisions, and they usually do not propose arbitration unless they think it to be in their best interests.  They are usually well aware that their business’s knowledge and experience with dispute resolution, including arbitration, is in all likelihood significantly greater than that of their small-business counterparts, and they can and do use that disparity to their advantage.  That can enable them to exact – without any quid pro quo — meaningful benefits from their counterparts, which those counterparts may give up without realizing the full implications of what they have done until it is too late.

We shall therefore focus on the arbitration-related risk-benefit calculus that a small business should engage in when a larger, more economically powerful business entity proposes arbitration of disputes arising out of a reasonably large-dollar transaction, for it is in this context that meaningful due diligence is particularly important.  Yet despite that focus, the principles we shall discuss can be applied to transactions with smaller businesses or individuals, and they may provide the added benefit of helping you advance the legitimate dispute-resolution interests of your business by using your own arbitration-related savvy.

In the meantime, we close with a simple yet valuable  nugget of arbitration-related wisdom, the truth of which has been acknowledged and appreciated at least since Roman times and probably even before:  caveat emptor.  .  .  .


Links to Future Segments of this Multi-Part Small Business B-2-B Arbitration Post:

Part II.A

Part II.B.1

Part II.B.2(A)

Part II.B.2(B)

Part II.B.2(C)

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