Arbitration and Utilizing It When Clients Won’t Pay

While the goal is to make sure your clients are 100% happy, there may times where this might fall short, and depending on the situation you will be left hung out to dry. This was the case with a client I had last year that refused to pay for services rendered and we decided to settle this utilizing arbitration. As an owner of ARC Software Studios (http://www.arcsoftwarestudios.com), while part of my job is ensuring clients are happy, but the other half is to enforce the contractual agreements signed and agreed upon by both parties. Below is some advice on how to handle the situation.

Before we get into the process itself here are a few things to think about beforehand:

Contact an attorney

We contacted an attorney immediately once we ran into a problem and the client refused to work in good faith to settle the situation. Depending on your legal structure (I run a S-Corp), representation could be required if you decide to go to court.

Try to settle

I offered the parties involved with the contract an opportunity to settle where everyone would share the pain and we ultimately would take a minor loss ourselves instead of risk sending this to court or arbitration.

Decide on your strategy

Consulting with our attorney we looked at all the scenarios to see what the best course of action would be and what the goals would be. Given the amounts involved my fellow partners agreed while we probably would lose money pursuing this, it was important to set a standard where we wouldn’t let a larger business walk all over us. At this point we decided to invoke our right to take the claim to Arbitration.

Utilizing Arbitration

Arbitration is similar to court proceeding but for us was a lot simpler and faster (supposedly it is cheaper as well but I cannot talk to that point given what we spent). Arbitration allows a dispute to be handled legally without utilizing the full court system. This has its advantages to be faster but you do lose some of the rights you get through the court system. Binding arbitration results cannot be challenged in court unless there’s something completely grossly negligent and even then courts have refused action to not impair arbitration process integrity. After going through this process, we’ve adjusted our contracts to take a more advantageous approach to invoking arbitration (more on this later).

So once you decide to invoke your right to take a claim to arbitration there are a few major events that happen:

Picking the arbitrator

The parties will have to agree on the arbitration and this is extremely important. We felt lucky that our dispute was handled by an arbitrator who had a background in technology and technology consulting. Our concern was ensuring the arbiter would understand industry customs and jargon a lot easier than someone without a background in the space.

Discovery

This probably is the most important part where parties have to exchange information. Text messages, social media messages, emails, Skype logs, and any and all other media and logs should be turned into your attorney and should be requested from the other party. We got extremely lucky that Skye logs were turned in by the opposing party and messages from social media were obtained. These were pivotal to proving our legal arguments. Going forward our business is in the habit of keeping all major communication on channels where we control the information as most of our information was left on a laptop that was surrendered back to one of the other parties. This limited what we had.

Counterclaims

Since this is a legal battle you’re starting, there’s the potential the other party may try to fight fire with fire and issue a counterclaim. The idea here is that while the counterclaim may have low value it still adds uncertainty which might further induce the parties to settle. The other parties filed a counterclaim on us for 8x the value of our original claim. Our attorney felt their claim had very little standing but it did add to the risk of continuing forward. This leads us to the next point…

Insurance Claim

When anything happens, it’s always good to talk to your insurance carrier and notify them about a potential loss. In our case, the insurance carrier was very proactive and helpful and we were told the costs of the entire arbitration process would be split with them given the counterclaim. This was actually extremely helpful, as though it did need more work from our attorney, it also got the arbitration fees split which we were paying out of pocket anyways, so this saved us a bunch of cash.

Proceedings

At this point statements, rebuttals, and briefs are exchanged with each other and the arbitrator. For us the proceedings did not involve an in person and was done all through paper. This may not always be the case though. The documentation is all in legalese and lays out the arguments for your position while establishing rebuttals to the other parties position. We worked hard to keep the language very concise which I fully believed helped make our case a lot stronger. The documentation we received in return was consistently very vague, trying to very hard to catch a very large net on things.

Ruling

In the end the arbitrator will go ahead and then issue a final ruling. This ruling may not contain reasoning. In our case it didn’t. In this instance we won the full amount we were seeking though we didn’t get any additional amount for costs. This basically showed that the arbitrator agreed with our position but it wasn’t gross enough to warrant the additional fees for legal costs. Luckily our insurance carrier picked up a piece of the tab so the costs to us were minimal. We knew going in this was going to be breakeven at best.

Collection

While the arbitrator’s ruling signals the end of proceedings, it’s not the final step. The final step is actually collecting the award. For us this was nuisance and we were about ready to start court proceedings (so while using court to overturn arbitration won’t happen, you can use the courts to enforce the award). Luckily the other parties mailed us a check at the very last-minute though they were definitely very bitter about it.

arbitration-award

Very bitter that they lost

What We Learned

Going through arbitration taught us a lot about what we need to do better as a business going forward and what we need to improve upon.

Ensure contracts are concise and explicit

The other party that provided the contract left the terms very vague in multiple ways. The biggest point we focused on was that they required “reasonable documentation”. Courts have held that in lieu of an explicit list, the definition of acceptable forms is determined by the party that needs to fulfill the vague obligation. After this we actually went through all of our contracts and rewrote multiple sections to be very explicit. While the contract lengths have increased dramatically due to this, it offers better protection and communication to all parties.

We also updated the contract with concise timelines to utilize arbitration. We allow counter parties to invoke arbitration but we also hold on our right to sue, thus not fully forcing arbitration. We found that having the capability to sue was an important one to hold on to as not all claims may be a good fit for arbitration. This wording took some time to get right to avoid unilateral enforcement which is not valid in all jurisdictions apparently. This is something to definitely consult with an attorney with.

Know what you are paying for

The other parties involved were focused on results and project performance but the contract was written as a staff augmentation position that focused on hours worked. We were to provide a person to perform services for up to X number of hours a week. No performance metrics or goals were included on the Statement of Work (SOW).

Know your clients

From the get go, we probably should not have worked with this client. They were supposedly “open and transparent” as we negotiated the original agreement to sub-contract. In arbitration discovery we found out they lied. The client made certain claims that the documents provided proved false. After this I’ve made it a mandate for us to be completely transparent with our customers as we negotiate new contracts. By being completely transparent on rates (both market and internal) we get clients that understand we need to eat and live as well and don’t run a charity, but at the same time understand the value we provide. We invest heavily in our clients so potential clients that focus on getting the lowest price are ones we tend to turn away (we see how well that’s done for Walmart). This has been an unfortunate trend I’ve found in the Boston market, but that’s for another article.