Key Points:

Process, requirements for negotiations, and rights of appeal should all be specified clearly in an alternative dispute resolution clause.

Alternative dispute resolution clauses in commercial contracts have the potential to enable parties to resolve disputes without resorting to litigation. They can be a powerful expression of the parties' agreed mutual desire to consult and negotiate, rather than litigate. However, a badly-drafted ADR clause can be the cause of further dispute and actually increase the risk of litigation. In this article we look at some of the common problems that arise in drafting ADR clauses in commercial contracts and the courts' treatment of those problem clauses.

Avoid uncertainty: "agreements to agree"

A clause which directs parties to attempt to agree to an ADR process, or does not outline a clear process for attempting to resolve a dispute will not be upheld. It offends the long-held position of the courts to neither infer the terms of, nor direct parties to perform, uncertain contractual obligations.

In WTE Co-Generation & Anor v RCR Energy & Anor [2013] VSC 314, the ADR clause required the parties to enter into an agreement to agree to another agreement:

"In the event the parties have not resolved the dispute then within a further 7 days a senior executive representing each of the parties must meet to attempt to resolve the dispute or to agree on methods of doing so."

This was found by the Court to be unenforceable because it was uncertain. It did not prescribe any process or model to be followed by the parties past the initial conference. Rather, it expressly relies upon the parties to agree to another agreement which would provide the process for attempting resolve the dispute. The clause was clearly an agreement to agree.

The Court focused on the function of ADR clauses to provide for certainty of process. It found that the process to negotiate ultimately need not be explicitly detailed, however it must be clear in explaining the steps parties need to perform in attempting to resolve their dispute.

Keeping the faith: "genuine and good faith negotiations"

A growing reliance on ADR clauses in commercial contracts reflects the perspective that ADR processes allow for a fair and efficient resolution to disputes. Parties often prefer to engage in private negotiations and attempt to preserve relationships, rather than heading straight for the more adversarial arbitration or litigation. Indeed, parties will often include a requirement in their contractual ADR clause that discussions or negotiations be held "in good faith" or that they be "genuine". But there can be a question as to what those requirements actually mean and whether they are sufficiently certain to be enforceable.

In United Group Rail Services Ltd v Rail Corporation of NSW (2009) 74 NSWLR 618, the Court found that an ADR clause which included a requirement for the parties to:

"…meet and undertake genuine and good faith negotiations with a view to resolving the dispute or difference…",

was certain and enforceable.

This was because it imposed a real obligation on the parties to attempt to negotiate a resolution of a dispute which arose from their shared contractual framework in a manner that:

"…respects the respective contractual rights of the parties, giving due allowance for honest and genuinely held views about those pre-existing rights".

Inserting such a clause within a commercial engineering contract, the Court found, lay the foundations for negotiations to be conducted in a manner that was honest and reasonable as between the parties and faithful to their bargain recorded in the contract.

Appealing the award: express consent the best

ADR clauses which prescribe an arbitration process as the method of resolving disputes must also factor in the right or otherwise to appeal the arbitral award on a question of law.

Some ADR clauses were caught out on this point by the introduction of new appeal requirements in the Commercial Arbitration Act 2010 (NSW). The 2010 Act replaced the 1974 Act, and, among other things, changed the requirements for appealing an arbitral award. Previously, a party needed either the agreement of all other parties to the arbitration or the leave of the Supreme Court. Under the new Act, a party needs both. And, importantly, a party needs the consent of all other parties prior to the expiry of the appeal period (ie. within three months of the award).

The 2010 Act immediately applied to then-unheard appeals from arbitrations conducted under the old Act, as was the case in Ashjal v Elders Toepfer [2012] NSWSC 545. In that case, because the appealing party had not secured the express consent of the other arbitrating party within three months after the award was made, the Court was asked to consider whether such consent could be implied from the terms of the arbitration clause in the commercial contract.

The Court applied the common law test for the implication of terms into commercial contracts and ruled that no consent could be implied. In particular, the existence of the 1974 Act at the time the contract was entered into meant that the implication of a term regarding consent was neither necessary to give business efficacy to the contract, nor was so obvious that it went without saying.

Parties should consider appeal rights and state expressly in their ADR clause how appeals will work.

Determining scope: defining determinations of experts

Expert determination is a common ADR process where an independent third party, with expertise in the subject matter of the contract, is appointed by the ADR clause to determine the dispute using his or her skills and experience. It is not an arbitration, but it is another form of third-party adjudication of a dispute from which there are extremely limited rights of appeal. It is important that ADR clauses which provide for an expert determination process contain clear and specific guidelines for the process and an express statement of factors that should be considered by the appointed expert when making a determination.

In TX Australia Pty Limited v Broadcast Australia Pty Limited [2012] NSWSC 4, Justice Brereton observed that an expert determination will be binding:

"…absent fraud or collusion…[and] if it was made in accordance with the contract and if so, it is beside the point that is proceeded on the basis of error, or was a gross over or under value, or took into account irrelevant considerations…",

This case exemplifies the high threshold a party will have to meet in order to challenge an expert determination. TXA sought a declaration in the Supreme Court of NSW that the Expert's Determination contained manifest errors or errors of law and shouldn't be binding. The Court dismissed the grounds of complaint made by TXA and upheld the Expert's Determination although it was grossly unfavourable for TXA.

The implication of the decision was clear: courts are keen to bind parties to the ADR bargains they strike when drafting a contract.