Validity of Arbitration Agreement

On October 28, the Supreme Court granted a cert petition in a case in which the Kentucky Supreme Court refused to enforce arbitration agreements in nursing home agreements.  (Kentucky recently topped my list of states hostile to arbitration precisely because of the language in the decision that will be reviewed…)

In Kindred Nursing Centers Limited Partnership v. Clark, three wrongful death cases were consolidated.  In each of them, someone with power of attorney for the decedent had signed admission documents that included an arbitration clause.  However, Kentucky requires that a power-of-attorney document specifically authorize the agent to waive a jury or court trial in order to validly form an arbitration agreement, and these three POAs did not have that language.  The Kentucky court refused to infer the agent’s “authority to waive his principal’s constitutional right to access the courts and to trial by jury” unless that power is “unambiguously expressed” in the power-of -attorney document.

In its application to SCOTUS, the nursing homes engaged experienced Supreme Court practitioners and framed the question presented as: “Whether the FAA preempts a state-law contract rule that singles out arbitration by requiring a power of attorney to expressly refer to arbitration agreements before the attorney-in-fact can bind her principal to an arbitration agreement.”

I am always happy when SCOTUS takes a new arbitration case, because it usually provides further evidence of the need for my continued existence as an arbitration blogger, advocate, and specialist.  However, this grant strikes me as a bit odd.  Why wouldn’t SCOTUS just grant, vacate, and reverse (GVR) this case? It had all the hallmarks of a case ripe for GVR?  It also doesn’t make sense for SCOTUS to use this as a vehicle to address the many state court decisions refusing to uphold arbitration agreements in nursing home contracts, since in just one month, the federal government will start prohibiting the use of arbitration agreements in nursing home admission documents.  In that sense, this type of case is almost moot.  Nor does it make sense to me to clarify the preemption doctrine of Concepcion, when the Court just had that opportunity 11 months ago in DIRECTV.

One possible explanation is that SCOTUS wants to define which formation issues are appropriate for courts to tackle on motions to compel arbitration.  Indeed, in a cert petition in another arbitration case that was also conferenced on Friday, the petitioner alleged that state courts are (falsely?) labeling many disputes as ones of contract formation in order to keep them in the courts.

As long as we’re talking about the SCOTUS docket, it always surprises me which cases are and are not appealed to the highest court in the land.  For example, that Finn case from New Hampshire’s high court that left me speechless in June, because it held that Sections 9-11 of the FAA do not apply in state court?  Apparently the party whose arbitration award got vacated did not petition for cert.  (Though that party probably made the right call, as earlier this month SCOTUS denied cert in a case asking whether the FAA’s judicial review standards apply in state court.)  Same thing seems true of the for-profit college case in which the NJ Supreme Court refused to enforce a delegation clause (no cert petition).  But, the new circuit split over whether putting class action waivers in employment arbitration agreements violates the NRLA is already a subject of multiple cert petitions (this, and this and this ).  That issue seems like a strong contender for getting a petition granted.

The Supreme Court of Louisiana refuses to send customers who were injured while playing at Sky Zone to arbitration, finding that the arbitration clause “is adhesionary and therefore unenforceable”.  Duhon v. Activelaf, LLC, __ So. 3d __, 2016 WL 6123820 (La. Oct. 19 2016); Alicea v. Activelaf, LLC, __ So. 3d __, 2016 6123859 (La. Oct. 19, 2016).  [My alternate title for this post is “I TOLD YOU SO, SKY ZONE.”  Every time I bring my children to the trampoline park for a birthday party, I tell those poor teenagers who are enforcing the rules that those contracts are likely not enforceable.  But, I cared more about the waiver of liability than the arbitration bit.]

The arbitration clause at issue, which is required to participate in activities, was clicked electronically.  It states “If there are any disputes regarding this agreement, I on behalf of myself and/or my child(ren) hereby waive any right I and/or my child(ren) may have to a trial and agree that such dispute shall be brought within one year of the date of this Agreement and will be determined by binding arbitration before one arbitrator to be administrated by JAMS…in the state of Louisiana.”  Furthermore, the agreement imposes $5,000 of liquidated damages for any customer who files a lawsuit.

Louisiana’s highest court held that agreement was unenforceable.  Applying its ruling regarding an arbitration clause in 2005, the court analyzed whether consent of the non-drafting party was calling into question by the existence of a standard contract between unequal bargaining parties, and in particular the “physical characteristics of the arbitration clause” and its mutuality.  Because Sky Zone’s arbitration language was “the only specific provision not relegated to a separate paragraph or set apart in some explicit way,” Sky Zone was not bound to arbitration by the clause, and patrons could be subject to a penalty of $5,000 for filing suit, the court found the arbitration clause “adhesionary and unenforceable.”  The court then dutifully noted that its “application of Louisiana contract law…in the instant case is consistent with [Section] 2 of the FAA”.

While the court states that this decision employs the same type of contract defense that is applicable to any contract — not just one with an arbitration clause — it does not appear to cite any cases outside the arbitration context.  That alone leads me to believe this case is susceptible to a GVR by SCOTUS under the DirecTV analysis.

Within the U.S. Government, the CFPB has gotten most of the attention for trying to regulate consumer arbitration.  But this month, the Centers for Medicare & Medicaid Services (CMS) are bumping the CFPB out of the arbitration regulation spotlight.  In particular, the CMS issued a rule that will prohibit the use of pre-dispute arbitration agreements in most long term care facilities.

On its blog, the CMS explains the change this way:

The rule makes important changes to strengthen the rights of residents and families in the event that a dispute arises with a facility. Historically, many facilities require residents to agree to binding arbitration clauses when they are admitted to these facilities. These clauses require the resident to settle any dispute that may arise using arbitration rather than the court system. Effective November 28, 2016, our final rule will prohibit the use of pre-dispute binding arbitration agreements. This means that facilities may not require residents to sign pre-dispute arbitration agreements as a condition of admission to that long-term care facility.

The rule applies to all long-term care facilities that participate in the Medicare or Medicaid programs.  The prohibition is in keeping with the recommendation of the American Bar Association.

The rule is also in keeping with the decisions of many state courts, which have largely refused to enforce arbitration agreements in nursing home admission documents.  For example, the Supreme Court of Florida last month found that an admission document signed by the resident’s son did not bind the resident, and therefore claims of negligence and statutory violations could proceed in court.  Mendez v. Hampton Court Nursing Ctr., __ So. 3d __, 2016 WL 5239873 (Fl. Sept. 22, 2016).  The highest courts in Pennsylvania, Alabama, South Carolina, Kentucky, and Oklahoma have also refused to enforce arbitration agreements in recent years, for a variety of reasons.

It will be interesting to see whether CMS’ regulation of arbitration draws the same type of challenge that CFPB’s regulation of arbitration has drawn.

Lest anyone think that the preemption doctrine in arbitration has gone dormant, today’s cases should set the record straight.  Courts have recently found the FAA preempted state rules in Pennsylvania, South Carolina, and Alabama.

The Pennsylvania Supreme Court found that one of its rules of civil procedure was preempted by the FAA in Taylor v Extendicare Health Facilities, Inc., __ A.3d ___, 2016 WL 5630669 (Penn. Sept. 28, 2016).  The case involved claims regarding whether a nursing home properly cared for a patient.  The patient had signed an arbitration agreement, and under Pennsylvania law, that meant the “survival claim” on her behalf had to be arbitrated, but her heirs’ wrongful death claims were not subject to arbitration.  However, a rule of state civil procedure required that survival actions be consolidated with wrongful death actions for trial. Relying on that rule, the trial court and intermediate appellate court refused to enforce the arbitration agreement.  After clarifying its feelings about the current state of FAA case law (the court comments that the FAA has implicitly altered the Constitution and created a “preemption juggernaut” with Concepcion), the court acknowledged that it is “bound by the Supreme Court’s directive to favor enforcement over efficiency.”  Therefore, the survival action can proceed in arbitration.

Similarly, the South Carolina Supreme Court reversed two lower courts that had refused to compel arbitration of claims in Parsons v. John Wieland Homes & Neighborhoods of the Carolinas, Inc., __ S.E.2d __, 2016 WL 441112 (S.C. Aug. 17, 2016).  Those courts had relied on the “outrageous tort exception” in South Carolina common law, which allowed “parties whose claims arose out of an opponent’s ‘outrageous’ tortious conduct to avoid arbitration.”   Though a majority of the court did not agree to totally overrule the doctrine, it did decide that it was preempted using the analysis of DirecTV.

The Alabama Supreme Court found one of its insurance regulations preempted by the FAA in African Methodist Episcopal Church v. Smith, __ So. 3d __, 2016 WL 4417268 (Ala. Aug. 19, 2016).  In that case, plaintiffs argued that the arbitration agreement in their group life insurance policy was unenforceable because the company had not included the disclosures required by the Alabama Department of Insurance.  The court found “[a]ny state requirement that an arbitration provision in an insurance contract be specially disclosed . . . is unenforceable; federal law prohibits arbitration provisions from being singled out for such special treatment.”

If you stuck with me this far, here are two bonus cases for you.  Although the FAA is usually the winner in a preemption war, there are times another federal statute overrides the FAA.  For example, the Supreme Court of Arizona held that the Medicare Act preempts the FAA.  United Behavioral Health v. Maricopa Integrated Heath Sys., 2016 WL 4474155 (Ariz. Aug. 25, 2016) (holding that the “administrative appeals process provided under the Medicare Act preempts arbitration of Medicare-related coverage disputes between private healthcare administrators and providers”).  However, the Eleventh Circuit found that the Uniformed Services Employment and Reemployment Rights Act (USERRA) did not preempt the FAA.  Bodine v. Cook’s Pest Control, Inc., 2016 WL 4056031 (11th Cir. July 29, 2016).  Instead, the court found the two statutes could be harmonized, by modifying the aspects of an arbitration agreement that offended USERRA.

The 9th Circuit’s decision to enforce the arbitration agreement in Uber’s agreements with drivers made lots of news last week.  And although it includes no new principles of law, it does emphasize some principles that come up regularly in consumer and employment arbitration, so it’s worth reviewing the details.

Former drivers brought an action in federal court, alleging two primary things: that when Uber terminated them for having bad consumer credit, Uber violated statutes regulating the use of credit reports; and that Uber had misclassified them as independent contractors.  Mohamed v. Uber Technologies, Inc., __ F.3d __, 2016 WL 4651409 (9th Cir. Sept. 7, 2016).  Uber responded by moving to compel arbitration.  The district court denied the motion, finding that the delegation clauses were not “clear and unmistakable” and that the delegation clauses were unconscionable.

The appellate court disagreed on both fronts.  Critically, the operative agreements had this language in the Arbitration Provision: “Such disputes include without limitation disputes arising out of or relating to interpretation or application of this Arbitration Provision, including the enforceability, revocability or validity of the Arbitration Provision or any portion of the Arbitration Provision.”  Furthermore, the agreements mandated arbitration on an individual basis (precluding class or collective actions).  Drivers could opt out of the Arbitration Provision, but the named plaintiffs did not exercise that option.

The 9th held:

  • The delegation clause — authorizing an arbitrator to determine the validity of the Arbitration Provision — was clear and unmistakable (and therefore likely enforceable).  Although the drivers’ contracts also had venue clauses, providing that San Francisco courts had exclusive jurisdiction, the appellate court found the “conflicts are artificial.”  The venue provisions address the jurisdiction for fights over arbitration or those outside the scope of the Arbitration Provision; they don’t nullify the Arbitration Provision.  [This is an issue that comes up frequently, and the 9th Circuit addressed it head on.]
  • The delegation clause was not unconscionable.  Importantly, the ability of drivers to opt out of arbitration meant the delegation clause could not be procedurally unconscionable (a requisite aspect of unconscionability) under 9th Circuit precedent.  Nor did the requirement that drivers opt out in person or by overnight delivery make the ability to opt out illusory.  The court noted that some drivers successfully opted out.  [While not all federal circuits have addressed this issue, it provides good persuasive authority to use in favor of the conscionability of arbitration agreements with opt outs in any court.]
  • The drivers could effectively vindicate their rights in arbitration.  Plaintiffs argued they could not effectively vindicate their federal statutory rights because they had to split the costs of arbitration, which “may exceed $7,000 per day.”  However, because Uber “committed to paying the full costs,” the court did not reach that legal question.  [By agreeing to just pay the costs, Uber avoided a fight over the costs of arbitration to the drivers and probably helped its chances of winning the appeal.  This is a tactic that other litigants should consider when facing strong opposition to enforcement of an arbitration agreement.]

 

Continuing last week’s theme of “States Gone Wild,” here are three more oddball summer decisions from state supreme courts. All of them find interesting paths around federal case law (IMHO).

Georgia Says Class Complaint Is Deemed Arbitration Opt Out For All Class Members

In Bickerstaff v. SunTrust Bank, 2016 WL 3693778 (Ga. July 8, 2016), the issue was whether a class action challenging overdraft fees could proceed in court. The class complaint was filed in July of 2010, and in August of 2010 (in response to a court ruling), the bank amended its deposit agreement to allow customers to opt out of arbitration. In part, the amended arbitration agreement stated:

To reject this arbitration agreement provision, you must send the Bank written notice of your decision … by the later of October 1, 2010 or within forty-five (45) days of the opening of your Account. Such notice must include a statement that you wish to reject the arbitration agreement … along with your name, address, account name, account number and your signature … This is the sole and only method by which you can reject this arbitration agreement provision.

Just after October 1, the bank moved to compel arbitration. The issue of whether the complaint could serve as the formal rejection of the arbitration provision ended up before the Supreme Court of Georgia. That court unanimously held that “the filing of Bickerstaff’s complaint, thereby signaling his rejection of the arbitration agreement, tolled the time in which the putative class members were required to notify SunTrust of their intent to reject arbitration.”

In its analysis, the court leaned heavily on Georgia cases in the class action context, finding that class representatives may satisfy statutory or contractual preconditions on behalf of those class members who remain in the class after it is certified. “[T]he satisfaction of a precondition for suit by the class plaintiff typically avoids the necessity for each class member to satisfy the precondition individually.” Curiously absent from the decision was any discussion of Stolt-Nielsen, or Section 2 of the FAA (requiring strict enforcement of valid arbitration agreements), or the preemption rulings in Concepcion and DirecTV.

[Thanks to a reader for sending me this case before Westlaw did.]

Split South Carolina Court Reasons Its Way Around Rent-A-Center

Our next state court ruling at least acknowledges the relevant federal precedent. In Smith v. D.R. Horton, Inc., 2016 WL 3660720 (S.C. July 6, 2016), the issue was whether a husband and wife had to arbitrate their construction defect claims against their builder. Section 14 of the parties’ agreement was entitled “warranties and dispute resolution,” and made up of ten subparagraphs covering topics from whether the builder could remove existing trees, to the private warranty it provided, to the requirement to arbitrate disputes. The arbitration agreement was in 14(g), with its own subheading “mandatory binding arbitration.” The builder moved to compel arbitration and the homeowners argued that clauses within Section 14 made the arbitration agreement unconscionable.

The builder relied on the severability doctrine, first set forth in Prima Paint but reiterated in Buckeye Check Cashing and Rent-A-Center, which holds that courts may only decide disputes about the validity of the arbitration agreement itself, all other challenges to the contract must be determined by the arbitrator. The builder defined the arbitration agreement as 14(g), which the homeowners did not challenge, while the homeowners defined the arbitration agreement as all of Section 14. The court agreed with the homeowners, relying largely on the title of Section 14, and the fact that the subparagraphs had “cross-references to one another, intertwining the subparagraphs so as to constitute a single provision.”

Having defined the arbitration agreement to include all of Section 14, the court went on to find the arbitration agreement unconscionable due to its disclaiming implied warranty claims and prohibiting monetary damages. (As Section 14 had no severability clause, the court refused to analyze whether the unconscionable portions could be stricken.) Two justices dissented, noting that “the majority has not followed controlling precedent of the United States Supreme Court.” (That should help the cert petition…)

[NOTE TO DRAFTERS: Move your arbitration agreement into a separate paragraph with its own heading right now! Give it its own severability clause. Then you can keep reading.]

North Dakota Forgets To Read The Footnotes

Not to be left out of the “buck SCOTUS” summer trend, North Dakota issued a decision finding that a district court did not err in compelling arbitration of the formation of the parties’ contract. 26th Street Hospitality, LLP v. REAL Builders, Inc., 2016 WL 3022054 (N.D. May 26, 2016). One party to the contract argued the contract was invalid because it was executed without the knowledge and authority of the Partnership, as proper consent had not been received pursuant to the company’s charter documents. Nevertheless, the district court compelled arbitration, without deciding the formation of the contract. The North Dakota Supreme Court unanimously found the district court did not err in refusing to decide formation before ordering arbitration, relying on Rent-A-Center’s discussion of severability.   What it did not discuss, however, is 1) the first footnote in Buckeye Check Cashing which specifically states that the severability doctrine does not apply when the issue is “whether any agreement between the alleged obligor and obligee was ever concluded,” or 2) the fact that a majority of federal courts have concluded formation is an issue for courts, not arbitrators.

As long as we’re talking state courts…

Two state supreme courts have new decisions on waiver. The Texas Supreme Court found a company did not waive its right to arbitrate claims with individual customers in RSL Funding, LLC v. Pippins, 2016 WL 3568134 (Tex. 2016). Importantly, the Texas court said that for Party A to waive its right to arbitrate with Party B, the court will only analyze Party A’s litigation conduct with respect to Party B after a dispute arises. In this case, the majority of the company’s litigation conduct at issue was directed at third parties before a dispute arose with the individual customers.

The Supreme Court of South Carolina found a nursing home waived its right to arbitrate wrongful death claims in Johnson v. Heritage Healthcare of Estill, 2016 WL 3022394 (S.C. May 25, 2016). The nursing home had litigated over the estate’s right to records and conducted discovery before moving to compel arbitration.

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While regular people count down the days to summer blockbusters that come in the form of high-paid actors fighting aliens or robots, I prefer my summer blockbusters in the form of arbitration opinions that have been months in the making (maybe finally released because the clerks are about to turn over?). Today, I report on three of these arbitration blockbusters, all from state high courts.

Blockbuster 1: New Hampshire Rejects Application of FAA.

In the most ambitious of the three decisions, the New Hampshire Supreme Court found that the FAA’s sections regarding confirming and vacating awards do not apply in state courts.  Finn v. Ballentine Partners, LLC, __ A.3d __, 2016 WL 3268852 (NH June 14, 2016) (an opinion that took five months to produce).  In that case, a company ousted one of its founders, and she instituted an arbitration challenging her termination.  She was awarded about $6.5 million.  After the company engaged in some major restructuring, which resulted in lots of cash, the ousted founder started a new arbitration.  Although the company argued her claims were barred by res judicata, the second arbitration went all the way through hearing and she was awarded another $600,000.

The New Hampshire Supreme Court refused to confirm the award.   Because the FAA allowed no avenue for vacating the award, the court based its decision on a state statute allowing courts to vacate an award for “plain mistake.”  The founder had argued that the state statute was preempted by the FAA.  The court responded that “we conclude that §§ 9-11 of the FAA apply only to arbitration review proceedings commenced in federal court.”  WAIT, WHAT?? (Truly, this stuff is what keeps me blogging.  There is never a dull moment with state courts and arbitration law.)*  The court essentially found that since most of the state court cases that have ended up at SCOTUS were about enforcing arbitration agreements in the first place, enforcing arbitration agreements is the limit of the FAA’s application in state courts.  (“Preemption… is at its apex when parties cannot get to arbitration…  In contrast, state rules . . . without the potential consequence of invalidating an arbitration agreement are not preempted.”)  Having gotten that pesky FAA out of the way, the court easily found that the failure to apply res judicata as the court interprets it was a “plain mistake” and reversible error.

Blockbuster 2: Michigan Allows Law Firm To Compel Arbitration Of Suit Against Its Principals

Michigan’s decision has more interesting facts but less of a jaw-dropping result.   In Altobell v. Hartmann, __ N.W.2d__, 2015 WL 3247615 (Mich. June 13, 2016), a principal in a law firm had gotten the chance to be an assistant football coach at the University of Alabama.  (What attorney has a second act as a football coach?  I imagine him giving his clients half-time type pep talks during trial: “Clear eyes.  Full hearts.  Can’t lose!”)   He got the impression that his firm would allow him to keep his ownership interest for a year, but the firm audibled and declared the coach had withdrawn from the partnership.  No law firm money was coming his way.

The coach then sued seven principals of the law firm in court, and the firm moved to compel arbitration.  Although the lower courts had found that naming individual defendants was sufficient to avoid his arbitration agreement with the firm, the Michigan Supreme Court sided with common sense. The arbitration agreement called for binding arbitration of any dispute “between the Firm…and any current or former Principal.”  The court found it “must consider the concept of agency” in interpreting whether the firm was meant to include the individuals who makes its decisions.  Therefore, the court found claims against the individual defendants were arbitrable, and the coach’s claims were also within the scope of the arbitration agreement.

Blockbuster 3: Kentucky Finds CPA Determination Is Not “Arbitration”

Kentucky waded into the muddy issue of defining arbitration in The Kentucky Shakespeare Festival, Inc. v. Dunaway, __ S.W.3d__, 2016 WL 3371085 (Ky. June 16, 2016).  In that case, a theater fired its director but agreed to pay his bonus for 2013.  The agreement noted that “the parties agree to abide by the determination of the … certified public accountants…in case of a dispute as to the true amount of the net profits, and each party agrees to accept such determination as final.”  After the CPAs concluded the director was entitled to no bonus, the director filed suit.  A year later, the theater filed for summary judgment, arguing the CPA determination was a binding arbitration award.  The district court denied the motion and the intermediate appellate court agreed.

The Kentucky Supreme Court affirmed for two reasons. First, it found even if the language was binding, it related only to “net profits” not to the director’s bonus.  But more interestingly, it rejected the concept that this was an arbitration clause, as it “makes no express reference to arbitration”, did not allow for “fundamental components of due process” like presenting evidence and cross-examining witnesses, and the agreement had a general venue provision selecting Kentucky state court.

Speaking of defining arbitration, watch for an upcoming post about how courts around the country are trying to put some parameters on what is and is not an arbitration. 

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*Would love to hear from any academic types who have looked into this argument. What about these statements from SCOTUS, not limited to Sections 2-4 of the FAA??

  • “State and federal courts must enforce the Federal Arbitration Act (FAA), 9 U.S.C. § 1 et seq., with respect to all arbitration agreements covered by that statute.” Marmet Health Care Ctr., Inc. v. Brown, 132 S. Ct. 1201, 1202, 182 L. Ed. 2d 42 (2012).
  • “It is well settled that ‘the substantive law the Act created [is] applicable in state and federal courts.’” Nitro-Lift Technologies, LLC v. Howard, 133 S.Ct. 500, 503 (2012).

In a decision that appears intentionally controversial, the Supreme Court of New Jersey yesterday refused to enforce the delegation clause in a for-profit college’s enrollment agreement in a 5-1 opinion.  Morgan v. Sanford Brown Institute, 2016 WL 3248016 (N.J. June 14, 2016).  Although the delegation clause had never been specifically challenged by the plaintiffs, as is required by SCOTUS’s Rent-A-Center in order to avoid delegating the issue of arbitrability to the arbitrator, the court found that was immaterial

The plaintiffs alleged that Sanford Brown Institute had induced them to enroll via misrepresentations and deception.  In response, the defendants moved to compel arbitration, based on an arbitration agreement in the plaintiffs’ enrollment agreement.  The trial court denied the motion, but the intermediate appellate court reversed, concluding that an arbitrator should decide whether the arbitration agreement was enforceable, due to the presence of a delegation clause.

At the state’s highest court, the issue of whether the delegation clause was enforceable was the sole issue.  The plaintiffs argued they were unaware the arbitration agreement “denied them their right of access to a judicial forum and to a jury trial,” making the arbitration agreement unenforceable under New Jersey’s Atalese decision.  Plaintiffs — and the court– characterized their failure to understand that arbitration is a substitute for court, not an addition to court, as preventing a meeting of the minds, and therefore a challenge to the very existence of the entire agreement.  In response, defendants pounded on Rent-A-Center, arguing that it is binding precedent and must be applied to conclude that since the plaintiff failed to challenge the validity of the delegation clause specifically, an arbitrator must address any challenges to arbitrability (including challenges under Atalese).

Although the NJ Supreme Court identified the key issue in this case as “who decides whether the parties agreed to arbitrate disputes arising from the enrollment agreement: a court or an arbitrator,” I would say the real issue in the case is “can New Jersey find a way around Rent-a-Center’s rule enforcing delegation clauses that does not entirely give the middle finger to SCOTUS and thereby invite reversal?”

The delegation clause that was enforced in Rent-A-Center, because plaintiff did not challenge its validity in particular, stated: “[t]he Arbitrator, and not any federal state, or local court or agency, shall have exclusive authority to resolve any dispute relating to the interpretation, applicability, enforceability or formation of this Agreement.”  The delegation clause that New Jersey refused to enforce in Morgan stated: “Any disputes, claims, or controversies between the parties to this Enrollment Agreement arising out of or relating to…(v) any objection to arbitrability or the existence scope, validity, construction, or enforceability of this Arbitration Agreement shall be resolved pursuant to this paragraph (the “Arbitration Agreement”).”  [Note that the NJ sample does not specifically say the issue will not be addressed by a court, but the words used to describe the types of disputes that will be arbitrated are very similar.]

After acknowledging that the plaintiffs did not specifically challenge the delegation clause in Morgan, the court went on to establish some logical building blocks for distinguishing Rent-A-Center.  First, it noted that state law governs whether the parties “entered an agreement to delegate” arbitrability.  Second, delegation clause must be clear and unmistakable under First Options.  Third, no one challenged the “clarity” of the delegation clause in Rent-A-Center.  (There is the wiggle room!)  Therefore, because the NJ plaintiffs challenge whether the delegation clause was clear enough to allow a meeting of the minds, the New Jersey Supreme Court defines that as a challenge to the formation of the arbitration agreement containing the delegation clause, putting the issue of arbitrability squarely before the court.  And, having concluded that the court, not an arbitrator could decide the validity of the arbitration clause, this Court went on to find it unenforceable. Critically:

The arbitration provision in the Sanford Brown enrollment agreement suffers from the same flaw found in the arbitration provision in Atalese — it does not explain in some broad or general way that arbitration is a substitute for the right to seek relief in our court system.  That flaw– non-compliance with the dictates of Atalese–extends to the purported delegation clause…

***

In conclusion, the arbitration provision and purported delegation clause do not meet the requirements of First Options and Atalese and do not satisfy the elements necessary for the formation of a contract, and therefore are unenforceable.

The lone dissenting justice stated “I cannot reconcile the majority’s reasoning with the United States Supreme Court’s decision in Rent-A-Center.”

Here is some context:

  • The Morgan majority repeatedly comments that the defendants did not raise the delegation clause issue at the trial court.  So, why not just say the appeal issue was not properly preserved and reject delegation on those narrow procedural grounds?  SCOTUS would never grant cert of that.  Instead, however, NJ went out of its way to forge a path through Rent-A-Center.  
  • Actually, not much forging happened here.  NJ followed the trail blazed by Kentucky last year.  Kentucky also refused to enforce the delegation clause in a for-profit college agreement, finding it was never formed (in that case, because the signatures were not at the end of the agreement).  West Virginia did something similar, refusing to enforce a delegation clause because it was not “clear and unmistakable,” because “arbitrability” is an ambiguous word.  (W. Va, Kentucky, and NJ are strange bedfellows, no?)
  • NJ may not have openly thumbed its nose at SCOTUS in this opinion, but a recent opinion from its intermediate appellate court did.  It complained that SCOTUS’s “liberal federal policy favoring arbitration…in many cases has caused the forfeiture of important rights because consumers and employees lack the bargaining power to object to an arbitration clause’s inclusion; citation of the ‘liberal federal policy favoring arbitration’ merely evokes the old saying, ‘a good catchphrase can obscure fifty years of analysis’.”  Kleine v. Emeritus at Emerson, Docket A-4452-14T3 (N.J. Ct. App. June 9, 2016).
  • The U.S. Department of Education has recently proposed a rule that would preclude postsecondary institutions from requiring that students arbitrate disputes.  So, New Jersey has some political cover in deciding not to force these students into arbitration.  (We just did it a year before the rule would have done it anyway!)
  • And – one state supreme court enforced a delegation clauses in recent weeks.  Alabama enforced this delegation clause: “Any dispute regarding whether a particular controversy is subject to arbitration, including any …dispute over the enforceability, scope, reach or validity of this agreement…shall be decided by the arbitrator(s).”    Regions Bank v. Rice, 2016 WL 3031357 (Ala. May 27, 2016).

All in all, I often feel that arbitration law is a big game of Whack-a-mole, where the U.S. Supreme Court is the kid holding the hammer, and the state courts keep randomly popping up with new and creative ways around arbitration precedent.  But now, with only eight Justices, and no Scalia, will SCOTUS be willing to bring down the hammer on states for not following its controversial 5-4 decision in Rent-A-Center?  I am guessing not.  Send me your thoughts.

 

What are the defining characteristics of an arbitration agreement? The dissent in a new 9th Circuit case took on that vexing issue, while the majority sidestepped it altogether while refusing to compel arbitration.

In Boardman v. Pacific Seafood Group, __ F.3d __, 2016 WL 1743350 (9th Cir. May 3, 2016), a group of fishermen brought antitrust claims against seafood processors in 2010.  They settled in 2012, and Paragraph 3(a) of the settlement agreement provided:

In the event that [] Pacific Seafood and Ocean Gold intend to enter into any new agreement that requires Pacific Seafood Group to act as the exclusive marketer of any seafood product produced by Ocean Gold Seafoods, [defendants] shall first give 60 days’ notice to class counsel and…an opportunity to object to the agreement. In the event of an objection to the new contractual arrangement, Judge Hogan shall determine whether the proposed new agreement…may be approved.

[Hogan was a federal judge in the District of Oregon until 2012.] Pause for a moment. Does that look like an arbitration agreement to you? It never says “arbitrate,” there is no third party administering the dispute, no indication what rules would govern any arbitration, and the decision maker is a federal judge.  But, it also does not require the plaintiffs to institute a new action, and it provides for a swift resolution…

In any case, fast forward to December of 2014, when Pacific Seafood tells the fishermen that it plans to acquire Ocean Gold. The plaintiffs object, but instead of using Judge Hogan to resolve it (who had retired by then), they started a new antitrust action, alleging monopolization and violation of the settlement agreement.  In response, the defendants move to compel arbitration.  The district court denies the motion, saying that the dispute is outside the scope of the arbitration agreement.

The Ninth Circuit affirmed that decision, finding that the fishermen’s new claims were not encompassed by the language about using Judge Hogan to resolve objections. In particular, the court found that the purchase and sale agreements between the processors do not deal with the marketing of Ocean Gold’s products, and do not require that Pacific Seafood act as the exclusive marketer of Ocean Gold’s products.  (Even though Pacific Seafood would own Ocean’ Gold.)

In the words of the majority, “it need not decide whether Paragraph 3(a) of the [settlement] constitutes a valid agreement to arbitrate because we conclude that Plaintiff’s claims are not encompassed by Paragraph 3(a)’s plain language.”

The dissent, however, found that Paragraph 3(a) was an arbitration agreement, and the Plaintiff’s claims fell within it.  The dissent defined arbitration as an agreement: 1) to submit a dispute for decision by a third party; and 2) not to pursue litigation until that third-party process is complete. In this case, the dissent found that because the parties agree to submit disputes to a third party (the judge), and did not allow litigation before the judge made a decision, it “should properly be considered as an arbitration agreement.”  The dissent was unmoved by the lack of the word “arbitrate” and plaintiffs’ arguments that federal judges are precluded from serving as arbitrators.

I have written before about “accidental arbitration” clauses. This case is a reminder that anytime drafters provide for a third party to decide a dispute, that clause may be construed as an arbitration clause, and carry with it all the trappings of the Federal Arbitration Act.

On Monday of this week, after stringing the parties along for five months, SCOTUS denied cert  in a case involving the intersection between arbitration and franchise regulation.  The petition was filed in November of 2015, and after the respondent initially declined to respond, the Court specifically requested a response, and conferenced the case twice, before denying the petition.   This could be an indication that, without Scalia, the Court is less interested in arbitration issues, or at least less interested in those that will not garner five of the current eight votes.

The case is Chorley Enterprises Inc. v. Dickey’s Barbecue Restaurants, Inc., 807 F.3d 553 (4th Cir. 2015).  [I admit that I did not blog about it when it initially came out last summer because it was complicated and messy and I was feeling lazy.  But, today, I came up with a few Prince tie-ins, so I am taking it on.]  Franchisees of the barbecue chain alleged the franchisor misrepresented costs and profits, and the franchisor alleged the franchisees were in breach for poor operation of the restaurants.  The franchisor also demanded that the claims be arbitrated.

The problem is that the franchise agreement called for both arbitration and litigation in court.  First there was an “Arbitration Clause” requiring arbitration of all claims related to the franchise agreement.  Then, in a “Maryland Clause” required by the state of Maryland, the agreement said the franchisees retained their right to file a lawsuit under the Maryland Franchise Law in court.  (Maryland franchise regulations make it illegal for a franchisor to require a franchisee to waive the franchisee’s right to file a court lawsuit under the franchise statutes.)  The Fourth Circuit essentially enforced both provisions, by allowing the franchisees’ claims under the franchise statutes to proceed in court, while directing the franchisor’s contractual claims to proceed in arbitration.

In reaching its Solomonic decision, the court rejected arguments from both sides.  It rejected the franchisees’ argument that the Maryland Clause completed trumped the Arbitration Clause, reasoning that the Maryland Clause only applies to claims under the franchise statutes, and finding that the franchisees could still raise affirmative defenses based on the franchise statutes in the arbitration.  It reminded the parties that SCOTUS is just fine with piecemeal litigation, when it conforms with the parties’ contracts.

The Fourth Circuit also rejected the franchisor’s argument that the Maryland Clause was forced on it by state law in Maryland, and therefore the clause is preempted by the FAA.  Its harsh assessment of the franchisor’s options follows:

Dickey’s was not forced to do anything…It could have simply declined to do business in Maryland.  Or…it could have filed a declaratory action challenging the [state’s] position before including the Maryland Clause in its agreements.

This is a fascinating issue.  Can state agencies that regulate franchisors preclude arbitration of franchise claims?  Wouldn’t that be exactly the kind of state law that stands as an obstacle to the goals of the FAA and is therefore preempted under ConcepcionI look forward to another franchisor setting up a stronger record of state insistence on the arbitration waiver and taking another run at a preemption argument.

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I’m sure Dickey’s serves ribs, unlike Prince (“ I don’t serve ribs / You better be happy that dress is still on/
I heard the rip when you sat down”).  And before I was known for being an arbitration geek, I was known for being a Prince geek.  As we are all mourning today in Minneapolis, I used some “purple” in today’s title and image.  If you want a recommendation for a great song that is outside the usual Prince play list, try “How Come U Don’t Call Me Anymore?”