Well Thought-Out Contract Terms Can Help Avoid High Litigation Costs


German Practice Alert

July 2016

Click here to view this article in German

German companies with business activities in the United States may be unpleasantly surprised by some aspects of the U.S. legal system, particularly U.S. procedural law. The “American Rule” regarding litigation costs and fees, as well as the entire subject area of “pre-trial discovery” are two of the most important culprits. Well thought-out and precisely formulated contract terms can help avoid unpleasant surprises.

Attorney’s fees and court costs
It comes as a surprise to many Europeans that, in the U.S., each party to a dispute bears its own court costs and attorney’s fees (so called “American Rule”). Even if a party must defend against unfounded claims, that party is generally not entitled to the reimbursement of court costs and attorney’s fees. There are only very few exceptions to this rule.

One exception is a contractual agreement between the parties. Parties generally have the option to modify the “American Rule” by including a fee shifting clause in their agreement. Whether this is desirable or not must be determined on a case-by-case basis. Among other things, the parties should consider that the potential obligation to bear the opponent’s attorney’s fees and court costs may be a deterrent to the commencement of a lawsuit, with the possible consequence that the parties may settle their dispute through alternative means (e.g., mediation) and are less likely to commence costly litigation. But when a party expects to win (whether that is realistic or not), it will certainly welcome a rule that obligates the opponent to bear all litigation-related costs and thus will not be deterred from initiating a lawsuit. The decision whether to include a fee-shifting clause into a contract or not should be made on a case-by-case basis after thorough consideration of all facts and circumstances.

Limitation of “pre-trial discovery”
Many Continental Europeans also react with disbelief when they encounter so-called “pre-trial discovery” proceedings, which include the obligation to hand over documents and data as evidence – including those relevant to the opposing party’s claims. One of the reasons for this reaction is that “discovery requests” are often extremely very wide-ranging compared to German standards and are therefore often called “fishing expeditions.” In this context, it is not unusual that a court orders a party to hand over all emails covering several years that may be relevant to the dispute. The costs of the search for the requested material as well as the costs for the sorting, analysis and production of the material can be very high – not even taking into account the disruption of day-to-day business activities. Even after the December 2015 amendments to the Federal Rules of Civil Procedure and the resulting stronger emphasis on proportionality, discovery proceedings are still likely to be a costly and time-consuming undertaking.

In order to avoid such extensive discovery proceedings concerning contractual disputes, German companies can include arbitration clauses in their contracts and terms and conditions. Such arbitration clauses should always be carefully thought-out and phrased in order to serve the desired purpose. Claims that are not based on or associated with a contract, however, often cannot be resolved through arbitration proceedings.

Certain discovery instruments such as depositions and interrogatories are generally not used in international arbitration proceedings. But it cannot hurt to expressly exclude those discovery devices in the arbitration clause to avoid all doubt. Furthermore, the parties can limit so-called “document discovery.” This can be achieved by generally including the “IBA Rules on the Taking of Evidence in International Arbitration” or by incorporating express limitations as for example the following clause, which is suggested by the AAA International Centre for Dispute Resolution: “Consistent with the expedited nature of arbitration, pre-hearing information exchange shall be limited to the reasonable production of relevant, non-privileged documents explicitly referred to by a party for the purpose of supporting relevant facts presented in its case, carried out expeditiously.”

Moreover, other aspects of an arbitration clause can indirectly lead to a limitation of the scope of discovery in an arbitration proceeding, as for example the designated rules of arbitration procedure, the agreement about the qualifications of the arbitrators (education and professional experience as litigation attorney in the USA or Great Britain, experience with trial or arbitration procedures in Continental Europe) and relatively short time periods to conduct the arbitration proceeding.

But it should be noted that discovery can also be helpful under certain circumstances, especially in relation to the enforcement of certain claims. That is the case when a party cannot prove a particular fact without documents that are exclusively in the possession of the opponent or a third party.

Well thought-out fee-shifting and arbitration clauses can lead to a more efficient resolution of any disputes and thus protect German companies from high U.S litigation expenses.