Arbitration Clauses in Construction Agreements: Mandatory or Permissive?

Introduction

Although arbitration clauses are commonplace in many standard form construction contracts, owners and contractors may only turn their minds to the implications of such clauses for the first time after a dispute arises. Once a dispute arises, the arbitration clause must be carefully considered, as it may oust the jurisdiction of the court. Language like “may” and “shall” needs to be carefully considered in light of analogous jurisprudence, as such language may not be an indication that an arbitration clause is permissive or mandatory. Further, there may be notice or other requirements that must be met before a mandatory arbitration clause becomes enforceable, or such a clause may be inoperative in certain contexts.

Selecting an Appropriate Dispute Resolution Process

Where a resolution to a dispute is not forthcoming, parties may wish to litigate for several reasons. A court’s decision is public, is generally considered unbiased, and there is a right of appeal. On the other hand, alternative dispute resolution processes such as arbitration are commonly pursued for being private, efficient, cost-effective and flexible procedures. Once a dispute arises, it is important to review the construction contract to determine if a dispute resolution procedure and forum is mandated by the terms of the contract.

Mandatory Arbitration Clauses

On its face, an arbitration clause that uses the word “may,” vis-à-vis resolving disputes by way of arbitration, appears to be permissive. However, courts have held that the word “may” indicates that a party has the option to invoke the arbitration clause, but once invoked, arbitration becomes mandatory.^[1] At the same time, in the case of a contract containing a mandatory arbitration clause, which indicates, for example, that the parties “shall” have disputes decided by way of arbitration, if neither party elects arbitration as a means of dispute resolution, they may pursue other avenues to resolution, including in the court.

Does a Dispute Fall Within the Scope of an Arbitration Clause?

In determining how the parties will resolve a dispute, it must be considered whether the arbitration clause contemplated the nature of the dispute that has arisen.

Arbitration clauses in construction contracts often contain broad language that requires “any dispute arising out of, or relating to, the contract” to be referred to an arbitrator. While the language encompasses an array of disputes, it does not capture every possible dispute that may arise.^[2] Such clauses are self-limiting, constraining matters that shall proceed to arbitration to those that arise specifically from the contract documents.^[3]

Not every claim arising is governed by the contract. It must be determined whether the plaintiff is enforcing rights that arise by way of the contract, or rights that are extraneous to the contract. The court has provided guidance on this point, directing one to look to the pleadings themselves; if the plaintiff relies on the contract documents and the contractual relationship to establish the claim, the dispute is likely captured by the broadly worded arbitration clause. On the other hand, a personal injury claim relying on the duty of care owed to one’s neighbour, though potentially arising between an owner and contractor, for example, is not a “dispute arising out of, or relating to, the contract.” Such a claim is pleaded without reference to the contract and is not within the scope of such arbitration clause.^[4]

Whether a dispute falls under the arbitration clause may be controversial in itself. The competence-competence principle indicates that such questions of the arbitrator’s jurisdiction should be decided by arbitrators at first instance,^[5] signalling the current approach to encourage commercial arbitration. An exception to this rule exists where the jurisdictional issue is a pure question of law or a question of mixed fact and law, requiring only a “superficial consideration of the evidentiary record.”^[6] Only then should a court intervene to resolve a challenge to an arbitrator’s jurisdiction.

An Example: OPSS.MUNI 100, General Condition 3.14, Arbitration

Most municipal construction contracts for roads and public works include the following arbitration clause, imported from the Ontario Provincial Standards (“OPS”):

If a claim is not resolved satisfactorily through the negotiation stage noted in clause GC 3.13.04, Negotiations, or the mediation stage noted in clause GC 3.13.05, Mediation, either party may invoke the provisions of subsection GC 3.14, Arbitration, by giving written notice to the other party.^[7]

The use of the word “may” indicates that the clause is permissive. This clause contains two conditions precedent that must occur prior to either party invoking mandatory arbitration:

1. the parties must have “[made] all reasonable efforts to resolve their dispute by amicable negotiations.”^[8] Where negotiations are unsuccessful, optional mediation in accordance with the contract terms may be pursued;^[9] and
2. written notice of arbitration must be provided to the other party.

Once the conditions are satisfied and the clause invoked, arbitration becomes mandatory and binding.

Prior to unilaterally invoking the arbitration clause, the party must consider whether the language of the clause captures the type of dispute that has arisen. In the case of municipal construction contracts utilizing the OPS, the language limits disputes that may be arbitrated to “claims for additional payment.”^[10] Thus, disputes arising that are unrelated to the payment of contract or additional work are not within the scope of the OPS arbitration clause.

Conclusion

Arbitration clauses should be reviewed and negotiated by both parties prior to entering a construction contract, as such clauses will impact how disputes arising between the parties may be resolved. Arbitration clauses may set out notice periods or other private dispute resolution processes that must be explored prior to commencing arbitration.

Where parties have consensus ad idem with respect to an arbitration clause, for reasons of public policy, the courts will enforce the clause.^[11]

When it comes to municipal contracts, the Request for Tender or Request for Proposal generally includes a boilerplate arbitration clause. The Contract Administrator may not specifically turn their mind to such clause in consideration of the specific project being procured. The bidder is generally not permitted to submit a qualified or conditional bid, and therefore, does not have an opportunity to negotiate terms, including that of the arbitration clause.^[12] Since the arbitration clause may have significant impact on how a dispute is resolved, including who the arbitrator will be, how the process shall proceed and limiting potential rights of appeal, it is critical that both parties turn their mind to such clauses prior to entering the contract. If the arbitration clause is not ideal for the bidder with no opportunity to negotiate, it may have a monetary impact on the bids received by the municipality, or contractors may elect not to submit a bid.

[1] For example, see: Campbell v. Murphy, 1993 CanLII 5460 (ON SC).