Avoiding Pathological Arbitration Clauses: Do’s and Don’ts for In-House Counsel

Carefully crafted dispute resolution clauses are vital for facilitating transactions, yet they are often overlooked or hastily drafted during contract negotiations.[1] These defective clauses, referred to as “pathological clauses” by Frédéric Eisemann in 1974, can severely undermine parties’ intentions to resolve disputes through arbitration, potentially trapping them in challenging processes or even rendering agreements unenforceable.[2] For in-house counsel, understanding and avoiding these pitfalls is crucial to ensure efficient and effective dispute resolution.

What Makes a Clause “Pathological”?

According to Eisemann, an arbitration clause must fulfil four essential functions to be deemed valid and enforceable:

1. Produce mandatory consequences for the parties.[3]
2. Exclude the intervention of State courts in dispute settlement, at least until the award is issued.[4]
3. Grant arbitrators the power to resolve disputes likely to arise between the parties.[5]
4. Implement a procedure fostering efficiency and speed, leading to a judicially enforceable final award.[6]

A clause that fails to meet these requirements is considered pathological, with varying levels of seriousness.[7] Pathologies frequently arise from factors such as exhaustion (“midnight clauses”), external influences (“champagne clauses”),[8] or simply a lack of expert advice during drafting.[9]

Common “Pathologies” and Why They Are Problematic (the Don’ts)

In-house counsel should be aware of several common defects:

1. Unavailable Forum or Non-Existent Institution/Rules: This is a frequent pathology where the arbitration agreement refers to an arbitral institution or set of rules that either never existed, no longer exists, or is otherwise inaccessible.[10] For example, the Eleventh Circuit Court of Appeals has dealt with cases like Parm v. National Bank of California, N.A., and Inetianbor v. CashCall, Inc., where agreements mandated arbitration by the Cheyenne River Sioux Tribal Nation in accordance with non-existent consumer dispute rules.[11] While some courts, like the Seventh Circuit in Green v. U.S. Cash Advance Illinois, might use the Federal Arbitration Act (FAA) § 5 to appoint a substitute arbitrator,[12] other courts, especially those following the “integral provision rule,” may deem the entire agreement unenforceable if the chosen forum is considered fundamental to the parties’ intent.[13] Similar issues were addressed in Lucky-Goldstar International (H.K.) Ltd v. Ng Moo Kee Engineering Ltd, where reference to a misidentified (or non-existent) arbitral institution was encountered.[14]
2. Non-Existing Substantive Law: Clauses that attempt to specify a non-existent substantive law to govern the arbitration proceeding can also render the agreement problematic, as seen in Parnell v. Cashcall, Inc., which featured “contradictory and confusing” language that essentially created “a choice of no law clause”.[15]
3. Ambiguous or Non-Mandatory Arbitration Proceedings (Optional Clauses): This category includes clauses that are unclear about the mandatory nature of arbitration. Examples include contracts that feature both an arbitration clause and an ordinary forum selection clause,[16] single clauses providing for both arbitration and court jurisdiction,[17] or “optional” arbitration clauses.[18] While some courts interpret these to mean that once one of the parties initiates arbitration, the other is bound,[19] such ambiguity can invite unnecessary litigation over the clause’s validity.[20]
4. Bare or Blank Clauses: These clauses merely state that disputes will be resolved through arbitration but omit crucial details such as the seat of arbitration, language, applicable law, or the mechanism for appointing arbitrators.[21] While courts often strive to preserve the parties’ intent by applying default mechanisms or implied terms,[22] as showcased in KVC Rice Intertrade Co. Ltd v. Asian Mineral Resources Pte Ltd, the lack of detail can still lead to delays and disputes.[23]
5. Internally Contradictory Clauses: These provisions contain conflicting elements, such as selecting two different arbitral seats, two different institutions, or appearing to provide for both arbitration and litigation for the same disputes.[24] Courts generally attempt to enforce these by deleting superfluous parts or reconciling inconsistent terms through liberal interpretation, prioritising the parties’ predominant intention to arbitrate.[25]
6. Hybrid Arbitration Clauses: These specify arbitration administered by one institution but conducted under the rules of a different institution (e.g., SIAC administering under ICC Rules).[26] While courts have often upheld these, such clauses can lead to significant procedural complications and challenges to awards.[27] The ICC even amended its rules to state that its Court is the sole body authorised to administer arbitrations under its rules.[28]

Essential Do’s for In-House Counsel

The simplest way to avoid a pathological arbitration clause is to adopt a model clause from a reputable arbitral institution. Because these clauses are tried and tested, they significantly reduce the risk of any defects. Counsel should nevertheless confirm that they are relying on the current version of the model clause.

More generally, to avoid the risks of pathological clauses, in-house counsel should implement a proactive and meticulous approach to drafting:

1. Do Draft with Care, Not Haste: Avoid treating dispute resolution clauses as “midnight clauses” or boilerplate.[29] Sufficient time and resources should be dedicated to their drafting.[30]
2. Do Express a Clear Intent to Arbitrate: Explicitly state the parties’ unequivocal intention to submit all disputes arising from the contract to final and binding arbitration.[31]
3. Do Specify Essential Elements: Clearly define the arbitral seat (legal place of arbitration), chosen arbitral institution, applicable arbitration rules, language of arbitration, and the number of arbitrators.[32] While national law may provide default mechanisms, specifying these details ensures predictability and efficiency.[33]
4. Do Verify the Existence and Accessibility of Chosen Elements: Before finalising, confirm that the named arbitral institution, rules, and any specific arbitrators (if named) exist and are accessible. For institutions, check official names, physical addresses, and websites. If translation is necessary, include the original name in brackets.[34] Ensure the chosen institution handles the type of dispute relevant to your contract.[35]
5. Do Ensure Internal Consistency: Carefully review the entire contract to ensure there are no contradictions within the arbitration clause itself or with other dispute resolution provisions (e.g., forum selection clauses). If both are present, clearly delineate their respective scopes.[36]
6. Do Avoid Hybrid Arbitration Clauses: Combining administrative bodies and rules from different institutions often leads to procedural complications and potential challenges to awards, undermining the very efficiency arbitration seeks to provide.[37]
7. Do Regularly Review Standard Clauses: Legal landscapes evolve. Periodically review and update any standard arbitration clauses used in contracts to ensure they remain enforceable and compliant with new legal developments.[38]
8. Do Consider Post-Dispute Agreements Carefully: While possible, forming an arbitration agreement after a dispute has arisen is often “fraught and subject to new and special considerations of party advantage”.[39] Therefore, prioritising robust pre-dispute drafting is wise.

By adhering to these simple principles, in-house counsel can significantly reduce the risk of dispute resolution clauses becoming “pathological”, thereby safeguarding their organisations’ commercial relationships and ensuring that any disagreements can be resolved efficiently and effectively through arbitration.

• Daria Korniienko, William Kirtley, Aceris Law LLC

[1] H. J. Samra and R. Ramachanderan, A Cure for Every Ill? Remedies for “Pathological” Arbitration Clauses, 74(4) U. Mia. L. Rev. 1110, p. 1111.

[2] Samra and Ramachanderan, pp. 1110 – 1111; G. B. Born et al., Chapter 4: Rethinking “Pathological” Arbitration Clauses: Validating Imperfect Arbitration Agreements, in S. Tung et al. (eds.), Finances in International Arbitration: Liber Amicorum Patricia Shaughnessy (2019), p. 35; L. Shore et al., A Pathology (Yet) to Be Cured?, in Maxi Scherer (ed.), Journal of International Arbitration (2022), p. 365.

[3] Samra and Ramachanderan, p. 1111; Shore, p. 366; see Eisemann, La Clause d’arbitrage pathologique, in Commercial Arbitration: Essays in Memoriam Eugenio Minoli (UTET 1974), pp. 129 – 130.

[4] Samra and Ramachanderan, p. 1111; Shore, p. 366; see Eisemann, pp. 129 – 130.

[5] Shore, p. 366; see Eisemann, pp. 129 – 130; Samra and Ramachanderan, p. 1111.

[6] Shore, p. 366; see Eisemann, pp. 129 – 130; Samra and Ramachanderan, p. 1111.

[7] Shore, p. 366.

[8] N. Holtz, Beware the Midnight Clause: Hold the Champagne?, JAMS (2016), p. 1.

[9] Samra and Ramachanderan, p. 1111.

[10] Samra and Ramachanderan, p. 1117; Shore, p. 365; Born, p. 43.

[11] Samra and Ramachanderan, pp. 1117 – 1119.

[12] Samra and Ramachanderan, p. 1119.

[13] Samra and Ramachanderan, pp. 1112, 1119; M. Frank, Interpretation of Pathological Arbitration Agreements: Non-existing and Inaccessible Elements, 20(3) Pepp. Disp. Resol. L.J. 298, pp. 321-322.

[14] Shore, p. 372; Lucky-Goldstar Int’l (HK) Ltd v Ng Moo Kee Eng’g Ltd [1994] HKCFI, 1994 Arb. & Disp. Resol. L.J. 49, pp. 49-51.

[15] Samra and Ramachanderan, p. 1121.

[16] Shore, pp. 367, 369.

[17] Shore, p. 370.

[18] Shore, p. 372.

[19] Shore, p. 372.

[20] Born, p. 52.

[21] Shore, p. 372.

[22] Shore, p. 372.

[23] KVC Rice Intertrade Co. Ltd v. Asian Mineral Resources Pte Ltd [2017] SGHC 32, [2], [27].

[24] Born, p. 46.

[25] Born, p. 47.

[26] B. Hanotiau, Chapter 22: Pathological and Hybrid Arbitration Clauses, in S. Brekoulakis et al. (eds.), Achieving the Arbitration Dream: Liber Amicorum for Professor Julian D.M. Lew KC (2023), p. 234.

[27] Hanotiau, p. 240.

[28] Hanotiau, p. 240.

[29] Samra and Ramachanderan, p. 1111.

[30] Samra and Ramachanderan, p. 1111.

[31] Samra and Ramachanderan, p. 1115.

[32] See Shore, p. 378.

[33] See G. B. Born, International Arbitration: Law and Practice (3rd edn., 2021), [C][2] §3.01.

[34] See Shore, p. 377.

[35] Frank, p. 342.

[36] See Shore, p. 369.

[37] See Shore, p. 375.

[38] Samra and Ramachanderan, p. 1123.

[39] Samra and Ramachanderan, p. 1116.