The Camel’s Nose: Incorporating Commercial and Construction Arbitration Rules

Construction and Procurement Law News, Q1 2016

Client Alert

There is an old proverb that states, “If the camel once gets his nose in the tent, his body will soon follow.” Stated differently, one should not let the camel’s nose inside unless he or she is prepared to accept the whole camel. Within the arbitration context, this proverb is an important reminder for construction businesses to think carefully when entering contracts incorporating the rules of an arbitration administrator such as the American Arbitration Association (“AAA”); otherwise, they may be agreeing to more than they initially realize.

A recent Alabama Supreme Court decision, Fed. Ins. Co. v. Reedstrom , provides a good illustration of this lesson. In Reedstrom, a company held an insurance policy which protected company officers from loss for actions committed in the course of their employment with the company. The company fired its executive director, resulting in a lawsuit where the executive director and the company each filed claims against one another. The executive director gave the insurance company issuing the policy notice of the claims asserted against him and requested coverage per the policy’s terms. The insurance company denied his claim, prompting the executive director to file a separate action against the insurance company alleging breach of contract.

The insurance policy at issue contained a provision stating that any dispute or claim relating to coverage issues had to be submitted to binding arbitration. Furthermore, the provision specified that all arbitration proceedings would be conducted “pursuant to the then-prevailing commercial arbitration rules of the [AAA].”

The insurance company sought to compel arbitration. The executive director argued that such action was barred as (1) the insurance company had waived arbitration, and (2) the executive director was not bound by the arbitration provision as he had never signed the insurance policy. The Alabama Supreme Court noted that while both of these issues are typically resolved by a court of law, there is an exception where “the subject arbitration provision clearly and unmistakably indicates that those arguments should instead be submitted to the arbitrator.” In this case, the arbitration provision incorporated the commercial AAA rules, one of which, Rule 7(a), states, “The arbitrator shall have the power to rule on his or her own jurisdiction, including any objections with respect to the existence, scope, or validity of the arbitration agreement or to the arbitrability of any claim or counterclaim.” Accordingly, the Court held that the question of the arbitration provision’s enforceability must be submitted to an arbitrator per the commercial AAA rules incorporated within the policy.

Beyond questions of enforceability and jurisdiction, incorporated commercial and construction arbitration rules can control many aspects of disputed matters. For example, within both the AAA Commercial and Construction Rules, there are specific rules which govern discovery procedures, Rules R-22 and R-24 respectively. Such rules could present issues for parties planning to rely on traditional discovery to assess the strength of their positions and engage in settlement discussions. Furthermore, both sets of AAA rules establish a specific timeline ranging from the filing of the demand to the scheduling of the final hearing to resolve the dispute at issue. This timeline has the capacity to affect the manner in which parties prepare their claims and defenses and could play a substantial role in their strategic decisions.

The decision whether to commit to binding arbitration has many impacts on the dispute resolution process. It can undoubtedly be beneficial for purposes of certainty and case administration, but it is important to remember the potential impact that these short, seemingly innocuous provisions can have on disputes arising from your agreement. So take the time to read the arbitration rules that your contract incorporates and make sure that they make sense for the needs of your company. If not, you should amend them in the body of your arbitration clause in your contract. Otherwise, you may be stuck with a camel that you never wanted to ride.