United States: Arbitration For Construction Contractors

Construction of an industrial plant, pipeline, airport, or shopping center is a detailed and complicated process. When one or more of the many parties or materials fail to perform as contemplated, a controversy often arises as to who should bear responsibility for the failure. On major projects, it is the usual practice for the architect or engineer to resolve a dispute initially, providing the parties cannot agree to a resolution. If either party disagrees with the decision of the architect or engineer, and if the parties cannot resolve the matter through negotiation or mediation, the judicial process is invoked.

Through the years, arbitration has become the favored forum for the resolution of construction contract disputes because of the complexity of the work being performed. Arbitration allows the parties to select arbitrators who have experience in the construction industry, including owners, developers, contractors, architects, engineers, and attorneys familiar with construction contract law.

The American Institute of Architects (AIA) has developed form contracts for various types of construction projects. The various forms set out a dispute resolution mechanism that includes arbitration as a final step when the other steps of the process fail.

When drafting a construction contract, there are many factors to consider, including the law that will control (whether federal or state), proper drafting of dispute resolution clauses, and the various methods of dispute resolution that can be used, up to and including arbitration.

Included in the materials are copies of the Federal Arbitration Act (FAA), the Revised Uniform Arbitration Act (RUAA), the Arkansas Uniform Arbitration Act (AUAA), and the Administrative Dispute Resolution Act of 1996 (ADRA) which governs alternative dispute resolution with federal government agencies.

The Federal Arbitration Act

The Federal Arbitration Act governs arbitration of maritime transactions, and transactions involving interstate commerce. If a maritime transaction or a contract involving interstate commerce contains a written provision calling for arbitration to settle controversies, that provision will be valid, irrevocable, and enforceable, unless there is a ground for revocation at law or in equity.

If there is such a written agreement, and a court determines that the issue in controversy is covered under that agreement, the court will, upon application of one of the parties, stay a trial on that issue, pending arbitration of the matter. However, the party applying for the stay must not be in default in proceeding with the arbitration. Likewise, if a party refuses to proceed with arbitration, the other party may apply for the court to compel arbitration.

The FAA pre-empts conflicting state law in matters arising out of maritime transactions and contracts involving interstate commerce. However, when a contract dispute is a diversity action (the parties are from two different states), state law will apply if the dispute does not involve one of these two matters. Construction contracts invariably involve interstate commerce and so will generally be governed by the FAA. Neither federal nor state law has any prohibition against arbitration for construction contract disputes. State law that allows for a stay of arbitration proceedings pending a court decision on an issue of fact or law will not be pre-empted by the FAA, because the FAA contains no provision allowing for a stay of arbitration proceedings in such a case.¹

Under the FAA, there is a liberal federal policy favoring arbitration and enforcing arbitration agreements. However, there is no federal policy which designates any particular set of procedural rules to govern arbitration.²

As long as the arbitration hearing conforms with FAA requirements, an arbitration award will be enforceable. According to Section 10 of the FAA, the only grounds for vacating the award are as follows:

1. Where the award was procured by corruption, fraud, or undue means.
2. Where there was evident partiality or corruption in the arbitrators, or either of them.
3. Where the arbitrators were guilty of misconduct in refusing to postpone the hearing, upon sufficient cause shown, or in refusing to hear evidence pertinent and material to the controversy; or of any other misbehavior by which the rights of any party have been prejudiced.
4. Where the arbitrators exceeded their powers, or so imperfectly executed them that a mutual, final, and definite award upon the subject matter submitted was not made.
5. Where an award is vacated, and the time within the agreement that required the award to be made has not expired, the court has discretion to direct a rehearing by the arbitrators.

The Arkansas Arbitration Laws have similar grounds for vacating an award, but also provide for vacatur when there was no arbitration agreement, if both of the following are true: 1) a court did not compel arbitration; and 2) the party making the objection that there is no agreement to arbitrate did not participate in the arbitration hearing without raising the objection.

The Revised Uniform Arbitration Act (RUAA)

Arkansas has adopted the 1955 Uniform Arbitration Act. On August 3, 2000, the National Conference of Commissioners on Uniform State Laws (NCCUSL) voted to adopt the Revised Uniform Arbitration Act (RUAA).³ In compliance with a new federal law regarding electronic communications, a new provision was added which validates electronic signatures when a decision about an arbitral award is transmitted via the Internet to the parties involved.⁴

Some of the changes in the RUAA were made to conform to decisions that have already been made by Arkansas courts and courts in other jurisdictions. Among the new provisions in the revised version are the following:

• A new section which defines "court," "notice," and "record." The definition of "record" is based on the one found in the proposed revision of the Uniform Commercial Code, and includes information that is on a tangible medium (such as a written document), or information stored in an electronic medium which is retrievable.
• A revision to the Validity of the Agreement section makes valid electronic and other means of recording information of an agreement.
• A section (incorporating the holdings of most jurisdictions) that divides responsibilities of courts and arbitrators, stating that it is for a court to decide whether a substantive issue is arbitrable, and it is for the arbitrator to decide procedural issues, such as whether time limits, conditions precedent for arbitration, etc., have been met. This also allows arbitrators, at their discretion, to continue arbitration hearings even when a party has challenged the arbitrability of an issue, unless a court stays the arbitration or makes a final decision that the issue is not arbitrable.
• A new section providing that a court, before appointment of arbitrators, can grant provisional remedies to the same extent as if the dispute was in litigation rather than in arbitration. These remedies can include injunctions, restraining orders, mechanic's liens, writs of attachment, etc., following most jurisdictions holdings that these are appropriate remedies to preserve property or protect the integrity of the arbitration process. However, while this section does follow the interpretation of the Federal Arbitration Act (FAA) by the majority of jurisdictions, it is notable that the Eighth Circuit, which includes Arkansas, is the exception to this rule. The Eighth Circuit, in Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Hovey, refused to allow preliminary injunctive relief, saying this would allow courts into areas more appropriately left to arbitrators.⁵
• A new section on the arbitration process that allows arbitrators to hold pre-hearing conferences with the parties, provide for provisional remedies prior to a final decision being made (similar to the court's provision above), inspect and preserve evidence, and appoint experts to report neutral advice to the arbitrators.
• A revision allowing a party who objects to lack of proper notice to appear at a hearing without waiving the objection, as long as the objection is made at the outset of the hearing.
• A provision which allows parties to apply to the arbitrators to modify or correct an award, or allows a court to remand an award back to arbitrators to determine whether it should be modified or corrected. This is different from the FAA, which has no provision for arbitrators to correct or modify an award, and has only limited authority for a court to do so.
• A provision authorizing arbitrators to award attorney fees and punitive damages if they would have been allowed had the matter been litigated in a civil action rather than arbitrated, or if there is a provision in the agreement which provides for these awards. This provision was adopted because some courts have allowed arbitration awards only if the parties could retain the same rights they would have had in court. If there is no law or statute which specifically allows attorney fees or punitive damages, and the agreement does not reflect this either, the arbitrators can make these awards only when a party acts in bad faith.
• A revision that allows any party to the arbitration to apply immediately to the court for an order confirming the award. This prevents the losing party from divesting itself of assets or finding other ways of avoiding the obligation of the award. In the past, a confirmation order could be given only after a thirty to ninety day period had run in which the parties could file a motion to the court to vacate, modify, or correct the award. Under the new provision, the confirming order can be given immediately, rather than waiting for this filing period to run. This provision follows more closely with the FAA than did the previous UAA.
• (Under Section 16-108-211 of the Arkansas UAA, there is a waiting period for a party to apply for confirmation of the award; however, if a party moves to have the award vacated, modified or corrected, the court will not confirm the award until the motion is denied, per Section 16-208-212.)
• A provision which requires a party to raise an objection at the beginning of the arbitration hearing that no arbitration agreement exists, or the party will not be able to raise this objection when applying to have an order vacated.
• Provisions authorizing arbitrators to permit discovery and issue protective orders regarding privileged or confidential information.
• A codification of common law immunity for the arbitrator and the institution that administers the arbitration proceedings.

It should be noted that while the RUAA also applies to arbitration agreements between employers and employees, the Arkansas version has no application to employer-employee disputes, personal injury or tort matters, nor to insured parties or beneficiaries under insurance policies or annuities.

The Problems With Careless Construction

Many construction contracts contain ADR clauses that use the standard language found in the AIA A201-1997 form, subparagraph 4.6.1. Under this clause, disputes must arise out of or relate to the contract in order for them to be arbitrable. However, some parties prefer to draft their own ADR clause, to try to conform it to their particular situation. Some problems can arise when the ADR clause is poorly drafted. For instance, in a California case, Maggio v. Winward Capital Management, No. B134322 (Cal. Ct. App. May 23, 2000), the ADR clause stated that any dispute "shall be settled in accordance with the Code of Arbitration of the American Arbitration Association." The party that drafted the clause wanted only the American Arbitration Association (AAA) rules to be applied, but did not want to have the arbitration hearing held before the AAA. The court found that by referring to the AAA rules, the parties agreed for the AAA to administer the arbitration hearings.⁶

When referring to a particular set of rules, the drafting party should be sure to know the name of the rules. A reference to a non-existent set of rules, or to a set of rules belonging to an organization that does not exist, could cause a court to invalidate an ADR clause.⁷

Choice of language is another important part of any ADR clause. Because an arbitration proceeding "decides" a matter, and a mediation proceeding "settles" a matter, if the arbitration clause states that controversies will be "settled," this could cause a court to send the matter into mediation rather than arbitration.

A recent Arkansas case shows a problem that can be caused by drafting language. In Neosho Construction Co. v. Weaver-Bailey Contractors, 69 Ark. App. 137 (2000), a general contractor and a subcontractor entered into an agreement regarding some concrete-paving work. The ADR clause was included in a paragraph which stated that changes had to be made by written change order, and that any disputes that arose out of the terms of that paragraph would be referred to arbitration. The problem was that the changes in dispute had no written change orders. The contractor attempted to compel arbitration, citing the written ADR clause, but the Arkansas Court of Appeals affirmed the trial court's denial of the motion to compel arbitration, stating that the disputes were "outside the scope of the arbitration clause." Id. Because the paragraph stated that changes had to be made by written order only, then said that disputes under the terms of that paragraph would be arbitrated, changes that had no written order were not arbitrable.

An even more recent case did not concern construction contractors, but the holding by the Arkansas Supreme Court could have an effect on construction contracts if they are not drafted carefully. On September 21, 2000, the court handed down a decision in ShowMeTheMoney Check Cashers, Inc. v. Wanda Williams and Sharon McGhee, CA 99-1398, in which the check cashing company had advanced the defendants cash in exchange for checks that included a $15 "check-cashing fee" over and above the cash advance amount. The defendants did not deposit money into their checking accounts to cover the checks as agreed, and the plaintiff required the defendants to pay exorbitant amounts of money to continue holding their checks. The defendants filed a class action lawsuit against the plaintiff, stating it had violated usury laws. The plaintiff, in turn, petitioned the court for a motion to compel arbitration, stating that the defendants had agreed to arbitration in their contract and therefore could not sue in court.

In the contract between the parties, the plaintiff had inserted an ADR clause that stated all disputes and controversies arising between the parties out of the agreement would be subject to arbitration, with the exception of the actions of the plaintiff to collect the amounts of money due it. The Arkansas Supreme Court held that this agreement did not constitute a valid contract to arbitrate because there was no mutual obligation. The ADR clause required the defendants to arbitrate all matters arising out of the contract, but allowed the plaintiff to sue to collect amounts due it. Since the only obligation of the defendants was the money they owed, there was no real obligation on the plaintiff's part to arbitrate. The court held that, while arbitration agreements should generally be enforceable, "they should not be used as a shield against litigation by one party while simultaneously reserving solely to itself the sword of a court action." Id.

So it is important that ADR clauses have mutual obligations on both parties to arbitrate claims arising out of the contract.

Tailoring An ADR Clause

According to Justin and Jonathan Sweet, in Sweet on Construction Industry Contracts: Major AIA Documents⁸, there are many things drafters can do to tailor their ADR clauses to suit their needs. Some of these are as follows:

1. Specify the place of arbitration.
2. Limit arbitration to claims not exceeding a specified dollar amount or percentage of the contract price.
3. Arbitrate, using an expedited one-person panel, only disputes that can be completed while the work is proceeding.
4. Allow consolidation of separate arbitrations and allow joining other parties to an existing arbitration.
5. Provide a right to full or limited discovery.
6. Designate the number of arbitrators and their identity and whether all or only one of the arbitrators will be a neutral.
7. Limit the award to either the most fair of the final proposals or an amount between the two final positions of the parties.
8. Eliminate the use of attorneys.
9. Make the award non-binding.
10. Grant the prevailing party attorneys' fees and costs.

Obviously, not everyone would want to include these items in an ADR clause, but it is at least useful to have a laundry list of options to consider when drafting the clause.

If using the standard arbitration clause suggested by the American Arbitration Association, many problems will be eliminated, because the clause has consistently received judicial support. The clause refers to the AAA's rules and those rules, in turn, meet the requirements of an effective arbitration clause. If the AAA's standard arbitration clause is not used, the following items are suggested by the AAA as necessary, and should be either included in the clause itself, or included in the rules to which the clause refers:

1. It makes clear that all disputes are arbitrable.
2. It is self-enforcing.
3. It provides for a complete set of rules and regulations.
4. It provides for the appointment of an impartial neutral.
5. It settles disputes over the locale of the proceedings.
6. It can provide for administrative conferences.
7. It can provide for preliminary hearings.
8. Mediation is available. (If using A201-1997, mediation is required before arbitration).
9. It establishes time limits to assure prompt disposition of disputes.
10. It insulates the arbitrator from the parties.
11. It establishes a procedure for service of notices.
12. It gives the arbitrator the power to decide matters equitably and to fashion any appropriate relief, including specific performance.
13. It allows ex-parte hearings in the absence of a party who received due notice of the hearing. This prevents a party from thwarting the arbitration process by refusing to appear.
14. It provides for enforcement of the award.⁹

Traditional litigation in America is known as an adversarial system. The two sides each have an advocate who represents only their side, and maintains a strong stance to win the case. Litigation could rightly be called a win/lose proposition. One side is going to win and, necessarily, the other side will lose. There is little room for compromise or negotiation in litigation, because both are perceived to weaken the party attempting the compromise or negotiation.

Alternative Dispute Resolution methods, though, make an attempt at a win/win conclusion. The desired result is for both parties to come away from the table with a feeling that their needs were met, their contentions were considered, and the result is fair and equitable. While the most common ADR method is arbitration, mediation has become much more wide-spread and encouraged in recent years; and many other forms of ADR are gaining acceptance in the United States.

In construction contracts, dispute resolution is still mainly through arbitration, although with changes in the AIA rules and forms in 1997, mediation is now a condition precedent to arbitration, and is included in the AIA's A201-1997, in Section 4.5. Additionally, most claims must, prior to mediation, be submitted to the Architect for a decision. (See Section 4.4)

The AAA has traditionally been the organization that has administered arbitration proceedings, but more and more ADR providers have come to the forefront, and as long as a set of rules which encompasses all necessary requirements is used, construction contractors are free to select the ADR provider of their choosing in the contract's ADR clause.

If using the standard AIA A201-1997 form, the following steps will be taken to resolve a dispute:

Decision Of Architect

The Architect resolves disputes only between the Contractor and the Owner. Most of these disputes are referred to the Architect for a decision as a condition precedent to mediation or further proceedings. Once the Architect has made a decision, if there is still a dispute, the matter will go to mediation. Also, if more than thirty days has passed since the issue was referred to the Architect, and the Architect has rendered no decision, the matter can go to mediation. (4.4.1)

The Architect can take one or more of the following actions: 1) request additional data from either or both parties; 2) reject all or part of the claim; 3) approve the claim; 4) suggest a compromise; or 5) advise the parties that the Architect is unable to reach a decision because he either does not have enough information or it is inappropriate for him to resolve the claim. (4.4.2) Approval or rejection of claims is in writing. (4.4.5.) If the Architect reaches a decision after arbitration has begun, his decision is only binding if all parties agree. Otherwise it does not supersede arbitration, and is entered only as evidence. (4.4.6) (See A201-1997 for all detailed instructions on the decision of the Architect.)

Mediation

There has been much more emphasis on mediation in recent years. As stated above, the newly amended Construction Industry Dispute Resolution Procedures (CIDRP), and the AIA's A-201 forms, require mediation as a condition precedent to arbitration. Mediation is a process in which the parties go before a neutral third party who helps them reach a voluntary settlement. Where the arbitration decision is binding and enforceable by courts, a mediation settlement is not binding, but will often be entered into voluntarily to avoid the longer, more expensive arbitration process, or litigation. The mediator's primary function is not to arrive at a "decision," but to help both parties explore all the issues, find bases for agreement and understand the consequences of not reaching a settlement, and then encourage the parties to come to a conclusion that will be agreeable to everyone. It is a form of "assisted negotiation." Mediation can be particularly attractive when the parties have had or will continue to have a long relationship, but cannot reach agreement on their own.

The CIDRP include rules for mediation as well as the rules for arbitration. Included are the qualifications of a mediator, appointment and authority of a mediator, privacy and confidentiality of proceedings, interpretation and application of rules, as well as others. The mediator assists impartially in advising and consulting, and the parties will agree to their own settlement, rather than the mediator arriving at a settlement.

Once again, the AAA can be used to administer mediation proceedings, or the parties can instead choose another ADR provider, while still stipulating in their contract that the AAA's mediation rules or some other set of rules will apply.

Arbitration

The process of arbitration can include many of the things associated with traditional litigation, such as discovery process, depositions, witness testimony, production of documents, the use of subpoenas, etc. In Arkansas, all provisions of the law which compel a person under subpoena to testify are applicable in arbitration proceedings. Ark. Code Ann. 16-108-207. So in many ways, the arbitration process can resemble judicial proceedings.

The ultimate result of arbitration, though, can be very different from a judicial proceeding. Arbitration carries no right to trial by jury; arbitrators are given no instruction as to the applicable law; in fact, arbitrators can generally make decisions based on equity and fairness, rather than legal precedents.¹⁰ Arbitrators may not have to give the reasons or rationale for their results¹¹, and judicial review of an arbitration award is limited to very few situations. As long as the arbitration clause is part of a valid contract, and the matter is arbitrable under the clause, and there is no misconduct or bias on the part of the arbitrator, it is highly unlikely that an award will be appealable. Arbitration proceedings and awards are generally enforced, both under the Federal Arbitration Act, and the Arkansas Uniform Arbitration Act.

Under common law, arbitration agreements were revocable by either party, but under modern arbitration statutes, arbitration agreements are enforceable by either party. This is part of the modern trend of strongly favoring arbitration as a less expensive and more expeditious method of resolving disputes than litigation.

In Arkansas, the scope of arbitration is defined by the contract between the parties; and the Arkansas Uniform Arbitration Act "contemplates the court effectuating this agreement." See Anthony v. Kaplan, 324 Ark. 52, 918 S.W.2d 174 (1996). Parties will be ordered to arbitration only if there is an agreement between them to do so. The parties can make an agreement to arbitrate an existing dispute, or they can include an arbitration clause in the construction contract so as to resolve future disputes.

Any pending court action may be stayed upon application of one of the parties, if the action is based on an issue subject to arbitration. May Const. Co., Inc. v. Thompson, 341 Ark. 879 (2000). According to this recent Arkansas Supreme Court decision, while a final arbitration award can be reviewed by the court only on a limited statutory ground, the court ordering the arbitration can "continue to have jurisdiction and some control in the proceedings in certain circumstances" until there is a final award. Id.

When using the AIA's A201 forms, the arbitration procedures are the Construction Industry Dispute Resolution Procedures of the AAA. These rules were amended in January of 1999 and became effective September 1, 2000. They are included as an attachment to these materials. Among the revisions to the CIDRP is the new rule that provides for mediation as a condition precedent to arbitration. The rules include the mediation rules, and three arbitration tracks: 1) the Regular Track (apply to all arbitration cases unless they conflict with Fast Track or Large, Complex Construction Cases rules when applicable); 2) the Fast Track (for claims of $75,000 or less); and 3) the Large, Complex Construction Cases (LCCC) (for cases involving claims of $1 million or more).

The Regular Track includes express arbitrator authority to control the discovery process, while the LCCC includes broad arbitrator authority to order and control discovery. The Fast Track system includes a 60-day standard to complete the proceedings, an expedited appointment process, and an assumption that claims under $10,000 will be heard on documents only. These are just a few of the differences between the three tracks.

A construction contractor can choose to use the AAA's CIDRP, while at the same time choosing a different ADR provider to administer the proceedings. However, as mentioned in the section on ADR clause construction, it is important to state this explicitly in the ADR clause. Otherwise, if reference is made to the AAA's CIDRP rules without specifying the ADR provider of choice, a court will probably assume the AAA was to administer the arbitration hearings, as happened in California in the Maggio case. Because Arkansas courts look to other jurisdictions on matters that have not yet been heard here (see ShowMeTheMoney Check Cashers, Inc. v. Williams, CA-99-1398) this decision could very well be followed in Arkansas as well.

Other ADR Methods

There are several other ADR methods which are not as popular or as widely-used as arbitration and mediation, but are useful in some instances. Some of these are negotiation, facilitation, med-arb, arb-med, and mini-trial.

Negotiation

Negotiation is merely the meeting of the parties to try to come to an equitable settlement. This is usually a friendly, non-adversarial meeting and no third parties are necessary.¹²

Facilitation

Facilitation is an unstructured meeting between the parties and a neutral third party, who helps to facilitate negotiation between the parties. The two main differences between facilitation and mediation is that the neutral third-party facilitator does not meet separately with the parties and makes no suggestions as to settlement. The facilitator merely manages the discussions and keeps the parties on track so that they can make suggestions for settlement.¹³

Med-arb

In Med-arb, one neutral party is used as both a mediator and arbitrator. The neutral has more authority than a traditional mediator and will make a final decision at the arbitration stage of anything that wasn't decided during the mediation stage.¹⁴

Arb-med

In Arb-med, the first stage is arbitration and the final decision by the arbitrator is sealed. The parties then go through a mediation process and attempt to come to a settlement. If they are successful, the arbitration decision can be destroyed. If they are not, the arbitration decision is issued and becomes binding as in any arbitration proceeding.¹⁵

Mini-trial

A mini-trial is used to avoid lengthy litigation. The presiding party is someone who is trained in the law such as a lawyer, law professor or former judge, and is an impartial third party chosen by the disputing parties. The mini-trial takes a day or less, and the attorneys for each side present their cases before the neutral third party AND executives for each side who have the authority to make binding decisions for their companies. After the executives have seen the cases presented, they negotiate and try to arrive at a settlement. If they come to an impasse during negotiations, the neutral can advise them as to how the case would probably be resolved in court. This usually helps the parties to arrive at a settlement. The proceedings and advice from the neutral are not admissible if the case eventually goes to trial.¹⁶

With all the available resources to assist with drafting an ADR clause and incorporating it into a construction contract, and the many Alternative Dispute Resolution methods that can be chosen by the parties, construction contractors should be able to find an equitable, satisfactory way to resolve conflicts and, hopefully, avoid the huge expense and lengthy delays associated with litigation.

1. 4 Am. Jur. 2d, Alternative Dispute Resolution § 27 (1995).
2. Id.
3. American Arbitration Association, Dispute Resolution Times, July-September 2000.
4. Id.
5. 726 F.2d 1286 (8th Cir. 1984).
6. American Arbitration Association, Punch List, V. 23, No. 2, Aug-Oct 2000.
7. Id.
8. Justin Sweet & Jonathan Sweet, Sweet on Construction Industry Contracts: Major AIA Documents, Aspen Law & Business, (4th ed. 1999).
9. American Arbitration Association, Drafting Dispute Resolution Clauses - A Practical Guide, p. 6-7 (1993).
10. American Arbitration Association, Construction Industry Dispute Resolution Procedures, Number R-43 states, "The arbitrator may grant any remedy or relief, including equitable relief, that the arbitrator deems just and equitable and within the scope of the agreement of the parties."
11. Id, Number R-42 states, "The arbitrator shall provide a concise, written breakdown of the award. If requested in writing by all parties prior to the appointment of the arbitrator, or if the arbitrator believes it is appropriate to do so, the arbitrator shall provide a written explanation of the award."
12. 4 Am. Jur. 2d, Alternative Dispute Resolution § 14 (1995).
13. Id., § 15
14. Id., § 17
15. American Arbitration Association, Drafting Dispute Resolution Clauses - A Practical Guide, p. 12 (1993).
16. 4 Am. Jur. 2d, Alternative Dispute Resolution § 18 (1995).