Virginia: When an Option to Arbitrate May Not Be an Option: The Virginia Supreme Court Makes a Permissive-Sounding Arbitration Clause Not So Permissive
If you’re not sure you want to arbitrate or litigate a construction dispute or if you want to leave both options open in the event of a dispute, here’s a word to the wise: do not feel safe simply because an arbitration provision in your construction contract sounds optional or states that the parties “may” – as opposed to “shall” – commence arbitration when a dispute arises. In Virginia (and other states), courts are increasingly enforcing these kinds of permissively worded arbitration provisions and, as a result, sending some disappointed parties to arbitration after they have filed suit in court with the expectation of litigation.
In TM Delmarva Power LLC v. NCP of Virginia LLC, 263 Va. 116, 557 S.E.2d 199 (2002), the Virginia Supreme Court, in a divided opinion, enforced an arbitration provision that it acknowledged is based on “permissive” language. In that case, TMDP and NCP entered into an operating agreement to construct a power plant. The Dispute Resolution section of the parties’ agreement contained two parts: (1) “Resolution by Conciliators” from representatives within the two companies; and (2) “Resolution by Arbitration.” The arbitration provision provided that “[i]f any material dispute, disagreement or controversy concerning this Agreement is not settled in accordance with [the conciliation procedure], then either Party may commence arbitration hereunder by delivering to the other Party a notice of arbitration.”
After a dispute arose, NCP initiated a conciliation procedure in accordance with the parties’ agreement. When the conciliation procedure was unsuccessful, NCP filed suit against TMDP. TMDP then filed a motion to compel arbitration and stay NCP’s lawsuit based on the agreement’s arbitration clause. The trial court denied TMDP’s motion on the ground that the agreement, as worded, did not compel arbitration.
In reversing the trial court’s ruling, the Virginia Supreme Court stated that NCP placed “too much emphasis” on the “may” term contained in the agreement’s arbitration clause, since the term was “an isolated word” and that NCP had “ignore[d] the context in the which the word was used.” The Court specifically acknowledged that “may,” as used in the arbitration provision, “is permissive” and that “may” meant that either party may invoke the arbitration provision but that neither party is required to do so. However, the Court held that once a party exercises its discretion under the agreement’s arbitration provision and formally seeks arbitration, “arbitration is compelled under the agreement.”
The Court based its decision on cases from Maine, Kentucky and California, among other federal appeals rulings, in which courts have interpreted similar, permissive-sounding arbitration clauses “to mean that arbitration is mandatory once initiated by a party.” The Court further recognized “Virginia’s public policy in favor of arbitration and the validity of arbitration agreements” in reaching its decision.
In interpreting the language from TMDP and NCP’s agreement, the Court viewed the agreement’s Dispute Resolution section as an “if then” proposition – i.e., “if a party seeks conciliation and it is not successful, then either party may require arbitration.” Moreover, the Court indicated that the parties could have made arbitration more of an option and less of a requirement had the agreement added the words “with the consent of the other party” following the phrase “either Party may commence arbitration.” Finally, and perhaps most strikingly, the Court feared that the arbitration provision would be “rendered meaningless and unnecessary” if it was invoked by a party and not legally enforced.
The TM Delmarva decision illustrates the potential perils of arbitration clauses for parties in the construction industry. Owners, contractors and engineers of all shapes and sizes thus should be wary of including an arbitration provision of any kind – no matter how permissively it may be worded or optional it may sound – or referencing arbitration in any way in their agreements if they are not reasonably certain that arbitration is their desired course of dispute resolution. The TM Delmarva decision also should make construction parties cautious about framing their dispute resolution clauses as an “if-then” process, with arbitration being the second or final step in the process. No arbitration provision is guaranteed to be interpreted as truly “permissive” or discretionary. However, if arbitration is referenced in a construction-related contract, TM Delmarva and the cases before it should encourage parties who are uncertain about arbitration to include, at the very least, an express qualification requiring the consent of the non-initiating party before proceeding to arbitration.