What is a mediation clause in a commercial contract?

In many commercial contracts, one of the dispute resolution avenues offered is mediation. However, it is important that these mediation clauses are drafted tightly, in order to be valid.

Essentially, to be valid, a mediation clause in a commercial contract must clearly describe the steps which the parties are required to take or incorporate a structure for a mediation. A clause that simply requires the parties to attempt to resolve a dispute through mediation, has been regarded as unenforceable. The clause was held as uncertain where it simply stated that the dispute shall be submitted to a ‘Third Party Mediation Procedure.’

A mediation clause may be found to be uncertain and unenforceable if it does not state the person who is to deal with the dispute, what type of disputes are to be mediated, how the mediator is to be appointed or who is to bear the costs of the mediator, as some examples.

Why are these clauses helpful?

A dispute resolution clause specifying that an alternative process should be adhered to when a dispute arises, avoids the costs, disruption and delays involved in litigating disputes, provides the parties with flexibility and an element of control over the process and their dispute.

So what constitutes a valid and enforceable mediation clause in a commercial contract?

The Australian Dispute Centre (ADC) provides a guideline of a sample simple clause that can be inserted into commercial contracts. For instance:-

  1. “Mediation”

a. The parties shall endeavour to settle any dispute arising out of or relating to this agreement, including with regard to it existence, validity or termination, by mediation administered by the Australian Dispute Centre (ADC) before having recourse to arbitration or litigation.

b. The mediation shall be conducted in accordance with the ADC Guidelines for Commercial Mediation operating at the time of the matter is referred to the ADC (the Guidelines).

c. The terms of the Guidelines are hereby deemed incorporated into this agreement.

d. This clause shall survive termination of this agreement.”

As you can see, the above example ADC clause provides clarity as to the type of disputes the clause is operates on, the manner in which the mediation process is to be administered and the Guidelines which the mediation process must follow.

Case study

Dispute resolution clauses are often incorporated into commercial contracts without thought of their implications. The case of Inghams Enterprises Pty Ltd v Hannigan [2020] NSWCA 82 provides insight as to why the wording of dispute resolution clauses matters. This case involved Inghams and Hannigan, who had a grower agreement between them regarding the supply of chickens (Agreement).

Inghams in 2017, attempted to terminate the Agreement. Hannigan disputed this, issued proceedings and was successful in his claim for ‘wrongful termination.’ Hannigan did not seek damages at this time.

Hannigan in 2019, issued a notice of dispute seeking unliquidated damages for the loss incurred during the ‘wrongful termination’ period in which the Agreement.
In a nutshell, clause 23 of the Agreement contained a detailed dispute resolution process, which essentially provided that dispute resolution of all disputes should be via a mediation, and if unsuccessful, arbitration for any disputes that concern monetary amounts payable and/or owing to either party under the Agreement.

Inghams and Hannigans dispute failed to resolve at mediation. Thus, Hannigan sought to have the matter dealt with by arbitration. Inghams then issued proceedings to restrain the referral to arbitration on the basis that:

(a) the dispute did not fall within the ambit of clause 23.6.1 of the Agreement; or, in the alternative;

(b) Hannigan had waived his right to insist on compliance with clause 23 of the Agreement as a result of the 2017 proceedings.

At first instance, the Court found in Hannigan’s favour and determined that the claim fell within the construction of clause 23.6.1.

On Appeal, the Court of Appeal, by a majority 2:1 decision, reversed the primary judges decision and found that Hannigan’s claim for unliquidated damages for breach of contract was not a claim under the Agreement. Thus, it did not fall within the scope of clause 23 requiring arbitration.

The majority held that the wording ‘monetary amount payable and/or owed’ referred to a payment obligation of one party to the other. Read together with the wording ‘under this agreement’, it was found that the clause in fact required that the Agreement be the source of the payment obligation to enliven the requirement to arbitrate. Thus, Hannigans claim for unliquidated damages was determined to be outside the scope of the clause.

The dissent between the majority and Bell P turned on whether an assessment for unliquidated damages for breach of contract is governed by the Agreement. The majority found that liquidated damages were a right of recovery created by the contract due to a breach, and unliquidated damages for a breach are compensation determined by the Court (common law quantum of damages).

In essence, Bell P agreed with the majority on the construction of ‘arise out of this agreement,’ but concluded differently on the interpretation of ‘under this agreement.’

Key takeaways

Whilst it is clear that the parties in the Inghams case took a lot of care when drafting the dispute resolution clauses in their agreement, allowing for only a subset of disputes to be referred to arbitration, via the tiered clauses, created uncertainty in the application of the dispute resolution process. This uncertainty resulted in extensive and costly litigation about what disputes could be arbitrated under the Agreement; likely uncontemplated by the Agreement’s drafter.

Accordingly, one should think carefully as to whether tiered dispute resolution clauses are necessary. Where there is no tiered dispute resolution processes allowed for in a contract, the dispute resolution clause should be drafted as broadly as possible to accommodate all disputes.

Should you have any queries relating to appropriate mediation clauses in your commercial contracts, or their applicability, please do not hesitate to contact Danielle Snell or Robert McGirr of Elit Lawyers by McGirr and Snell.

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