Arbitration Clause in Commercial Contracts: Advantages and How to Draft It Properly

An arbitration clause is a provision in a contract under which the parties agree to refer any disputes that may arise between them to an arbitrator or arbitral tribunal instead of the courts. In Saudi Arabia it is governed by the Arbitration Law, and its main advantages include confidentiality, flexibility and the ability to choose experienced arbitrators. However, it only delivers these advantages if it is drafted clearly, setting out its scope, the seat and language of arbitration, the number of arbitrators and how they are appointed.

What is the difference between an arbitration clause and a submission agreement?

An arbitration agreement takes one of two forms:

• Arbitration clause: included in the contract before any dispute arises, and covering future disputes.
• Submission agreement: a separate agreement the parties conclude after a dispute has arisen, to refer it to arbitration.

In both cases the agreement must be in writing. An arbitration clause is treated as an agreement independent of the other terms of the contract, so it does not automatically fall away merely because the contract is alleged to be void or has been rescinded.

What are the advantages of arbitration in commercial contracts?

1. Confidentiality: arbitration hearings are, as a rule, not public, which matters to companies concerned about their reputation and trade secrets.
2. Expertise: arbitrators with technical experience in the field of the dispute, such as construction, technology or finance, can be chosen.
3. Procedural flexibility: the parties agree on the language, place and procedure to suit the nature of their relationship.
4. Suitability for international contracts: it offers a neutral forum acceptable to parties from different countries, and the Kingdom is a party to the international convention on the recognition and enforcement of foreign arbitral awards (the New York Convention).
5. Finality: an arbitral award is not subject to appeal in the usual way; it can only be challenged by an action for annulment in cases specified by law.

Does arbitration have drawbacks to consider?

Yes, it is not always the best option:

• Cost: the fees of arbitrators and arbitration centres can be high relative to the value of small disputes.
• Limited avenues of challenge: finality is an advantage, but it also means errors are hard to correct.
• Some matters cannot be arbitrated, such as matters that cannot be settled by compromise.
• Government entities are subject to special restrictions and procedures before agreeing to arbitration.

In addition, enforcing an arbitral award involves procedures before the competent judicial authority; it is not enforced automatically once issued. For contracts of limited value, the commercial courts may therefore be more suitable.

When is arbitration the most suitable option?

Arbitration is usually suitable in the following cases:

• High-value contracts that justify the cost of the proceedings.
• Complex technical contracts such as construction, technology and energy, where a specialist arbitrator's expertise is valuable.
• Contracts with foreign parties, to provide a neutral forum and the possibility of enforcing the award in other countries.
• Relationships requiring a high degree of confidentiality, such as acquisitions and shareholders' agreements.

For small, recurring contracts, such as everyday sales or low-value services, relying on the jurisdiction of the courts together with an amicable negotiation clause may be more practical. The decision should be made when drafting the contract, based on the nature of the relationship and the level of expected risk, not by copying a ready-made arbitration clause from another contract.

How do you draft a valid arbitration clause?

A defective or ambiguous clause can lead to an additional dispute about the arbitration itself. Make sure the clause specifies:

• The scope of disputes: "any dispute arising out of or in connection with this contract, including its existence, validity, interpretation, performance or termination".
• The type of arbitration: institutional arbitration administered by a specialist body under its rules, such as the Saudi Center for Commercial Arbitration (SCCA), or ad hoc arbitration whose procedure is managed by the parties.
• The number of arbitrators: the law requires an odd number, usually one or three.
• How the arbitrators are appointed, and what happens if one party fails to appoint its arbitrator.
• The seat of arbitration: an important legal matter that determines the legal framework and the judicial authority competent to assist and supervise.
• The language of the arbitration and the law applicable to the substance of the dispute.

The clause should ideally include a negotiation or mediation stage for a set period before resorting to arbitration, and should avoid contradictory wording, such as providing for both arbitration and the exclusive jurisdiction of the courts in the same contract. For more, see our contract drafting and review service.

It is also worth confirming that the person signing the contract has authority to agree to arbitration on the company's behalf, because a lack of such authority may later be used to challenge the arbitration agreement.

Frequently Asked Questions

Q: Can a claim be brought in court despite an arbitration clause? A: If there is a valid arbitration agreement and the other party invokes it at the proper time, the court will not, as a rule, hear the merits of the dispute. The existence of the clause should therefore be raised early.

Q: How is an arbitral award enforced in Saudi Arabia? A: An enforcement order is requested from the competent judicial authority in accordance with the statutory procedures, after it has been verified that the award meets the specified conditions.

How can we help?

FATIMA AL ASMARI Law & Intellectual Property Company in Jeddah drafts arbitration clauses and dispute resolution provisions to suit the nature of your contract and its parties, serving companies across all regions of Saudi Arabia. Book your consultation or contact us on +966 56 685 9556.

Legal sources

This article is for general awareness and is not legal advice.