While a court may vacate an arbitration award if the arbitrator exceeds the scope of his authority, the City of Lebanon was unable to convince the Supreme Court of New Hampshire that an arbitrator exceeded his authority when siding against the City in a tax dispute.

The plaintiff in Lebanon Hanger Assoc. v. City of Lebanon, ___ A.3d ___, 2012 WL 2094387 (N.H. June 12, 2012), had been leasing property from the City for 15 years.  During the first 14 years, the City only taxed the value of the buildings.  In the 15th year, the City taxed the value of the buildings plus the value of the land, quintupling the taxable amount.  The plaintiff objected and the parties then arbitrated under a clause in the lease saying “any controversy arising out of or relating to this lease… shall be settled by arbitration.”

The arbitrator ruled for the plaintiff.  The arbitrator found the lease allowed the City to tax the value of the land, but that mutual mistake warranted reformation of the lease such that the plaintiff was not obligated to pay taxes on the value of the land.  The trial court vacated that decision, finding that the arbitrator’s authority was limited to deciding the meaning of the “four corners of the lease agreement.”

The Supreme Court of New Hampshire wisely saw that the City was playing too cute with its arbitration clause and its static definition of “lease,” and held that the arbitrator did not exceed the scope of his authority.    The Court relied on the broad scope of the arbitration clause, the parties’ statements to the district court in initially staying the case, and the parties’ submissions to the arbitrator in concluding that the parties’ agreed to have the arbitrator consider extrinsic evidence and to fully decide the dispute about whether the land was taxable.

To date, courts have largely limited the impact of the Rent-A-Center decision to arbitration agreements with explicit delegation clauses. But, what if Rent-A-Center applied to every single arbitration agreement that mentioned the AAA rules?  That is a very real possibility, and one which would send almost all arbitrability disputes to arbitrators.

The ­Rent-A-Center decision used “delegation clause” to mean any aspect of an arbitration agreement that authorizes an arbitrator to decide questions about the validity of the arbitration agreement.  Rent-A-Center held that unless a party could allege a fatal flaw in the delegation clause itself, the arbitrator should decide the arbitrability question.  Courts have applied that ruling to explicit delegation clauses like this one: “Any issue concerning … the formation, applicability, interpretation or enforceability of [the arbitration agreement] . . . will be resolved by the arbitrators.”  Rai v. Ernst & Young, LLP, 2010 WL 3518056, at *1 (E.D.Mich. Sept. 8, 2010).  However, not many courts have yet had to struggle with what really constitutes a delegation clause?  Must it be so explicit?

In the 20 years before Rent-A-Center, many federal circuits reached a related decision: that an adoption of the AAA rules clearly and unmistakably demonstrates the intent of the parties to delegate the question of arbitrability to the arbitrator.  That is because the various AAA rules themselves state that the arbitrator has the power to rule on any questions of arbitrability ( the same rule should hold for any forum whose rules delegate that same power).  At least the First, Second, Eighth, Ninth, Eleventh, and Federal Circuits agree in that holding (with only the Third and Tenth Circuits disagreeing).  SCOTUS has never addressed whether adopting the AAA rules clearly and unmistakably delegates arbitrability to the arbitrator. (See case cites at end.)

The question is – how long will it take for these two lines of cases to meld into an airtight zipper that excludes 99% of arbitrability challenges from courts?   Here is how the argument would go: 1) the arbitration agreement at issue calls for application of AAA rules; 2)  federal courts have concluded that the adoption of AAA rules is an unmistakable delegation of arbitrability to the arbitrator; 3) therefore, the sentence mentioning the AAA rules is a “delegation clause”; and 4) Rent-A-Center applies, such that the anti-arbitration party must specifically challenge that delegation clause in order to have the court hear the challenge.

Of course, it may be just that sort of result  — a nearly wholesale denial of the court venue to litigants who challenge their larger arbitration agreement — that will create a five-Justice majority in favor of a less harsh severability doctrine.

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ENDNOTE

Cases holding that the parties’ agreement to arbitrate under AAA rules constitutes a clear and unmistakable delegation of arbitrability to the arbitrator:  Fadal Machining Centers, L.L.C. v. Compumachine, Inc., 2011 W.L. 6254979, *2 (9th Cir. 2011); Fallo v. High-Tech Institute, 559 F.3d 874, 878 (8th Cir. 2009); Terminix Intern. Co., L.P. v. Palmer Ranch Ltd. Partnership, 432 F.3d 1327, 1332 (11th Cir. 2005); Contec Corp. v. Remote Solution, Co., Ltd., 398 F.3d 205, 208 (2d Cir. 2005); Qualcomm Inc. v. Nokia Corp., 466 F.3d 1366, 1372-73 (Fed. Cir. 2001); Apollo Computer, Inc. v. Berg, 886 F.2d 469, 473 (1st Cir. 1989) (relating to ICC, not AAA rules).

Two Circuits have declined to follow the majority.   In Quilloin v. Tenet Health System Philadelphia, Inc., 673 F.3d 221, 225-26, 230 (3d Cir. 2012), the Third Circuit held that the parties “did not agree to arbitrate the issue of arbitrability,” despite agreeing to abide by the procedural arbitration rules of the AAA in their arbitration agreement.  Similarly, in Riley Mfg. Co., Inc. v. Anchor Glass Container Corp., 157 F.3d 775, 780 (10th Cir. 1998), the court held that, although the arbitration agreement in question required submitting to the rules of the AAA, the court could properly resolve the issue of arbitrability.

 

The Sixth Circuit easily affirmed a district court’s finding that the defendant had waived its right to arbitration by participating in litigation for eight months.  Johnson Assoc. Corp. v. HL Operating Corp., __ F.3d __, 2012 WL 1861675 (6th Cir. May 23, 2012).  Plaintiffs had filed suit in late December of 2009 and a discovery deadline was set for August 26, 2010.  The defendant did not assert its right to arbitrate in its answer, engaged in judicial settlement conferences, and participated in discovery.  Then, the day before the discovery deadline, the defendant moved to compel arbitration.  The court found that the defendant’s behavior was inconsistent with its right to arbitrate.  Furthermore, it found the plaintiffs were prejudiced by the defendant’s behavior, largely because they “engaged in more discovery than would be permitted in arbitration.”

Neither of those rulings is especially surprising, but the court also had to address an interesting argument by the defendant.  It argued that it could not have waived arbitration, because the contract at issue stated “no waiver by either party of any provision of this Agreement or of any breach or default shall constitute a continuing waiver of such provision or of any other provisions of this Agreement.”  In essence, the defendant was hoping it had contracted around federal case law holding that parties can waive their arbitration rights.  The Sixth Circuit made clear that a “no waiver” clause will not affect courts’ analysis of whether a party waived its right to arbitrate.  It quoted reasoning from the Second Circuit:

“[T]o allow the ‘no waiver’ clause to preclude a finding of waiver would permit parties to waste scarce judicial time and effort and hamper judges’ authority to control the course of the proceedings” and allow parties to “test[] the water before taking the swim” by delaying assertion of their right to arbitration until the litigation is nearly complete.

I don’t usually associate arbitration with swimming, but the policy point here is right on target.

The Fifth Circuit just issued a decision openly disagreeing with how the Second Circuit has interpreted both the Stolt-Nielsen decision and case law regarding the level of deference that courts owe arbitrators.  In Reed v. Florida Metropolitan Univ., Inc., __ F.3d __, 2012 WL 1759298 (5th Cir. May 18, 2012), the Fifth Circuit vacated an arbitration award that permitted class arbitration, acknowledging that SCOTUS’s “lengthy discussion of the significant disadvantages of class arbitration” in Stolt-Nielsen and Concepcion led the court to ditch the extraordinary deference it usually grants decisions by arbitrators.

Reed involved a potential class of students who attended undergraduate online learning programs, only to find out that graduate programs and employers did not recognize their online degrees.  The students’ Enrollment Agreements contained these key provisions: “any dispute arising from my enrollment at Everest University…shall be resolved by binding arbitration under the [FAA] conducted by the” AAA; and “any remedy available from a court under the law shall be available in the arbitration.”  Based on these provisions, the federal district court had compelled arbitration, but concluded that the arbitrator should decide whether the case could proceed as a class action in arbitration.  After interpreting the enrollment agreement and the relevant case law, the arbitrator ruled that the students could proceed as a class.  The district court confirmed that award.

The Fifth Circuit reacted like a guard dog, growling protectively about Stolt-Nielsen.  After confirming that the arbitrator (and not the court) had the power to decide whether the claims should proceed as a class in arbitration (based on the parties’ incorporation of the AAA rules, which now include Supplementary Rules clearly authorizing arbitrators to decide whether the arbitration clause permits class arbitration), the court launched into an eight page analysis of the merits of the arbitrator’s decision.  Why is that significant?  Because SCOTUS has said (and the Fifth Circuit even quoted) that “as long as the arbitrator is even arguably construing or applying the contract and acting within the scope of his authority,” the arbitrator’s decision should be confirmed.  In Reed, the Fifth Circuit implicitly acknowledges that the arbitrator thoughtfully construed the enrollment agreement and the appropriate case law under the FAA, and had the authority to do so.  Even so, the Fifth Circuit vacated the arbitrator’s decision.

The Fifth Circuit held that neither of the contract clauses cited by the arbitrator (and quoted above) could properly be interpreted as allowing class arbitration.  It found the “any dispute” clause only reflects an agreement to arbitrate and is “not a valid contractual basis upon which to conclude that the parties agreed to submit to class arbitration.”  Similarly, it found the “any remedy” clause insufficient because “while a class action may lead to certain types of remedies or relief, a class action is not itself a remedy.”  In sum, said the Fifth, “the arbitrator lacked a contractual basis upon which to conclude that the parties agreed to authorize class arbitration.  At most, the agreement in this case could support a finding that the parties did not preclude class arbitration, but under Stolt-Nielsen this is not enough.”

Toward the end of the opinion, the Fifth Circuit acknowledged that the Second Circuit came to a different conclusion in Jock v. Sterling Jewelers, Inc., 646 F.3d 113 (2d. Cir. 2011).  The Second Circuit’s decision in Jock, confirming an arbitrator’s decision to permit class claims, was fundamentally determined by its understanding of the appropriate standard of review.  The Second Circuit noted that it could not decide whether the arbitrator correctly interpreted the arbitration agreement, but only whether the arbitrator had authority to do so and “whether the agreement or the law categorically prohibited the arbitrator from reaching” its conclusion.  What the Fifth Circuit failed to acknowledge is that the Third Circuit issued a decision just last month, agreeing with the Second Circuit.  See Sutter v. Oxford Health Plans LLC, __ F.3d __, 2012 WL 1088887 (3d Cir. April 3, 2012) (affirming an arbitrator’s decision to allow class arbitration based on an arbitration agreement that never mentioned class actions at all).

My own prediction is that the Supreme Court will not grant an appeal of these decisions, but will leave the circuit courts to try and develop a majority approach to this issue in the coming years.  As long as the existing cases about the deference courts must grant to arbitrators under Section 10 of the FAA remain good law, the approach of the Second and Third Circuits should be persuasive.

A few months ago I posted about actions that FINRA and the NLRB were taking in support of allowing class arbitration, and those agencies have recently taken additional actions that help consumers or employees with relatively low dollar claims.

The NLRB brought a complaint against 24 Hour Fitness USA, Inc.  The complaint alleges that 24 Hour Fitness’s requirement that all of its employees waive their rights to any type of collective or class action suits — whether in arbitration or litigation — “violates protections guaranteed by the National Labor Relations Act.”   The complaint cites seven instances where classes of employees were claiming wage and hour violations and 24 Hour Fitness moved to compel those plaintiffs to individual arbitrations. 

FINRA also recently approved a change in its arbitration rules.  In recognition that $25,00 is no longer the cutoff for “smallish” claims, FINRA raised the dollar limit for its simplified and streamlined arbitration from $25,000 to $50,000.  Cases under $50,000 can now be heard by one arbitrator on written submissions with expedited discovery.   This should help securities customers with lower damages afford to prosecute their claims.

Maryland’s highest court recently affirmed the dismissal of an employer’s non-compete claims as time-barred, even though the employer argued that the parties’ arbitration excused the untimely filing.  Kumar v. Dhanda, __ A.3d ___, 2012 WL 1521567 (Md. May 2, 2012).

The employee, a urologist, had signed a contract calling for all disputes to be “resolved pursuant to arbitration,” but noting “both parties can go to Court if not satisfied by the decision” of the arbitrator.  [The Court commented that the agreement was prepared “without the assistance of counsel,” as if to explain why such a useless provision was drafted in the first place.]  The employee’s contract was terminated in 2002, and the employee had a three year non-compete provision, which  extended through 2005.  In 2005, the employer sued the employee, alleging a breach of the non-compete and other claims.  The district court judge dismissed all counts (because they were subject to arbitration) and compelled arbitration.

Inexplicably, the employer waited two years to begin the arbitration. In June of 2008, the arbitrator denied all relief to either party (except a nominal $868 of insurance premiums).   The employer waited another nine months and  filed a lawsuit in the Maryland trial court in March of 2009.  The employee successfully moved to dismiss all claims based on Maryland’s three year statute of limitation on breaches of contract.

Maryland’s highest court affirmed that result.  In response to the employer’s argument that its action had not “accrued” until after the arbitration was complete, the court noted that claims accrue once all the elements of the claim have occurred.  Since arbitration is not an element of the breach of contract claim, the employer’s breach claim had accrued at the time of the breach.  In response to the employer’s argument that the arbitration tolled the statute of limitation, the court found that Maryland law did not support a tolling exception for non-binding arbitration.

Critical to the court’s analysis was this question: Why didn’t the employer avail itself of one of the many options it had to preserve its claim?  The court pointed out that the employer could have: negotiated for a tolling agreement with the employee, or asked the court hearing its 2005 claim to stay the case during the arbitration (instead of dismissing it), or just gotten off its rear and pursued its claims in a more timely fashion.

The lesson for litigators is this: do not rely on arbitration to toll any statute of limitation that may be running.  (The flip side is also true — do not rely on your court case to toll a statute of limitation that may apply in arbitration.)  Instead, file a placeholder suit in the alternative venue, and ask for a stay.

 

Relying on the Rent-A-Center decision, the Eighth Circuit Court of Appeals issued a decision today that construed the parties’ relevant arbitration agreement very narrowly, thereby ducking a decision about whether the larger “disputes” section of the contract was void under state law.  That makes the Eighth Circuit the first federal court to do exactly what the Rent-A-Center dissenters feared: force parties with an unenforceable arbitration agreement into arbitration just because the invalid provision was outside the sentence(s) containing the phrase “all disputes shall be decided in arbitration” (or a variation on that phrase).

I am the first to acknowledge that I am not even remotely impartial about this case, having represented the appellant, the party who argued its arbitration agreement was invalid.  But, whether one agrees with the Eighth Circuit or not, there is no question that this is an important decision expanding the rule of Rent-A-Center and the general severability doctrine of federal arbitration law.  This decision will allow courts in the Eighth Circuit (and potentially across the country) to define the relevant arbitration agreement very narrowly, and will make it much more difficult for parties to have a court decide whether their arbitration agreements are invalid.

In this case, M.A. Mortenson Co. v. Saunders Concrete Co, Inc., No. 11-2749 (8th Cir. April 30, 2012), the parties’ contract had a four paragraph section entitled “Disputes.”  The second of those four paragraphs obligated the subcontractor to arbitrate disputes with the general contractor, at the general contractor’s discretion, even if the general contractor was not obligated to arbitrate with the owner.  The general contractor never argued that the second paragraph was a “delegation clause” like the one present in Rent-A-Center (a clause agreeing to send disputes about the validity of the arbitration agreement to the arbitrator), and neither the district court nor the Eighth Circuit interpreted the second paragraph as a delegation clause.

Instead, the general contractor successfully compelled arbitration by arguing that under Rent-A-Center, that second paragraph contained a “specific agreement to arbitrate” that could be enforced, regardless of the content of the remaining four paragraphs.  In contrast, the subcontractor had argued that all four paragraphs must be considered together — because they all related to any disputes arising under the subcontract, and just differentiated the process the subcontractor had to follow in particular instances (for example, pursue an administrative procedure or a third party before demanding arbitration with the general).   The subcontractor had a strong argument that the fourth paragraph of the Disputes section was void under New York law (as a pay-if-paid provision).  The Eighth Circuit avoided analyzing the fourth paragraph, however, by finding that the second paragraph “is a separate provision containing a specific agreement to arbitrate” and affirming the district court’s decision to compel arbitration.

I am unaware of any other federal court applying Rent-A-Center as the Eighth Circuit did today.  (And let me tell you, I have spent a lot of time looking.)  In fact, to date courts have carefully limited Rent-A-Center to its facts, so that only the poor soul with a delegation provision in his or her larger arbitration contract has to argue there is something invalid about the delegation clause in particular.  E.g., Quilloin v. Tenet Healthsystem Phil., ___ F.3d __, 2012 WL 833742 (3d Cir. March 14, 2012) (finding Rent-A-Center “inapposite” because the there was “only one agreement to arbitrate” and the parties did not agree “to arbitrate arbitrability”); Palmer v. Infosys Technologies, Ltd. Inc., No. 2:11cv217, 2011 WL 5434258, at *2-4 (M.D. Ala. Nov. 9, 2011) (concluding that the arbitration agreement did not include a delegation provision and therefore the court could address the unconscionability arguments directed at multiple aspects of the arbitration agreement).  For that reason, the M.A. Mortenson case is an important one for anyone who litigates arbitrability.

Just a few months after its first Director took office in January of 2012, the Consumer Financial Protection Bureau is embarking on a study of arbitration.  The CFPB announced on April 24 that it invites the public to send information about “how consumers and financial services companies are affected by arbitration and arbitration clauses,” so that it can eventually determine whether to flex its rule-making muscle.

This request for information does not signal any particular bias of the new Director, Richard Cordray.  Instead, it shows the new agency is fulfilling its mandate under the Dodd-Frank Act to study the use of pre-dispute arbitration agreements in the consumer financial arena.

The agency, however, is starting its study with the speed of a tortoise and in the style of a professor wearing tortoise shell glasses.   Instead of diving right in, the CFPB is holding off its real study while it decides how to choose the questions.  For example, it is seeking information about 1) how to assess how prevalent pre-dispute arbitration agreements are in consumer financial agreements; 2) what data it should seek from what sources; and 3) whether it should find out whether consumers who arbitrated disputes against financial services companies were satisfied with the process.  (Let me publicly answer that last question: Yes!  Of course!  Please ask both consumers and companies whether they were satisfied with the process.)

While I am excited about the prospect of this new agency investigating and publicizing important data about consumer arbitrations that is currently inaccessible, the CFPB’s current list of questions makes me wonder whether it is up to the task.

 

A new survey found that Fortune 1,000 corporations are significantly less likely to arbitrate contract disputes today than they were in 1997.  In the 1997 study, 85% of companies reported using arbitration in commercial contract disputes at least once during the prior three years.  In 2011, however, only 60 percent of companies so reported.  In contrast, the companies’ usage of mediation remained steady at around 80%.

 The most common reasons given by survey respondents (general counsel and senior corporate lawyers) for not using arbitration included: the difficulty of appeal, the perception that arbitrators tend to compromise, the concern that arbitrators may not follow the law, a lack of confidence in neutrals, and high costs of arbitration.  The study, conducted through Cornell’s Survey Research Institute, was co-sponsored by Pepperdine’s Straus Institute for Dispute Resolution, Cornell University, and the International Institute for Conflict Prevention & Resolution (CPR).  (Its results are not currently available on-line.) 

I find it interesting that during this same time period—1997 – 2011—the Supreme Court has been making it more and more difficult for businesses to argue that their arbitration agreements are invalid (consider Buckeye Check Cashing, Rent-a-Center, Concepcion, etc.).  While those two trends may not be causally related, the end result is that the Supreme Court is strictly enforcing arbitration agreements at the same time that corporate counsel are growing less enchanted with arbitration. 

Many organizations and individuals are thinking of various solutions to the problems with arbitration identified in the survey, and legislators are brainstorming statutory solutions.  One interesting proposal to increase transparency about various arbitration programs is from Professor Thomas Stipanowich of Pepperdine University, who proposes an “Arbitration Fairness Index”: an independent system to rate and rank consumer and employment arbitration programs.

Although courts and practitioners may think of the Stolt-Nielsen decision as the death knell of class arbitration, the Third Circuit’s ruling last week serves as a reminder that the Stolt-Nielsen did not deal a mortal blow.  In fact, in Sutter v. Oxford Health Plans LLC, __ F.3d __, 2012 WL 1088887 (3d Cir. April 3, 2012), the Third Circuit affirmed an arbitrator’s decision to allow class arbitration based on an arbitration agreement that never mentioned class actions at all.

The arbitration agreement at issue in this dispute over medical reimbursements succinctly provided: “No civil action concerning any dispute arising under this Agreement shall be instituted before any court, and all such disputes shall be submitted to final and binding arbitration…”  (Before you criticize the drafters, let me point out that this agreement was executed in 1998, before the availability of class arbitration was a hot topic.)  The putative class of doctors initially brought their case in state court, and the court granted the insurer’s motion to compel arbitration, noting that the issue of whether the case could proceed on a class basis was for the arbitrator to determine. 

The arbitrator determined that the arbitration agreement allowed the doctors to proceed in arbitration as a class.  The arbitrator based his analysis on both the breadth of the arbitration agreement and the absence of any express carve-out for class arbitration, which led him to conclude the parties intended to authorize class arbitrations. 

After the arbitration proceeded on a class-wide basis, the insurer moved to vacate the arbitrator’s decision to allow the class-wide claim.  The insurer argued the arbitrator “exceeded his power” within the meaning of Section 10 of the FAA.  (It is probably safe to assume the insurer lost the arbitration, although the opinion does not say…)  The district court and Third Circuit both upheld the arbitrator’s decision. 

The extraordinary deference that courts grant arbitrators was critical to the decision; the Third Circuit noted that as long as an arbitrator “makes a good faith attempt” to interpret and enforce the contract, the court will not vacate the arbitrator’s decision.  Because the arbitrator in Sutter rooted his decision in an analysis of the text of the arbitration agreement, the court concluded “the arbitrator performed his duty appropriately” and his decision on class arbitration could not be vacated. 

This decision is important for other courts, counsel, and arbitratorswho are interpreting Stolt-Nielsen S.A. v. Animal Feeds Int’l Corp., 130 S. Ct. 1758 (2010).  The Third Circuit recognized that “an arbitrator may exceed his powers by ordering class arbitration without authorization,” but also addressed some misconceptions about Stolt-Nielsen.  Most critically, the court emphasized that “Stolt-Nielsen did not establish a bright line rule that class arbitration is allowed only under an arbitration agreement that…expressly provides for aggregate procedures.”  Instead, it “established a default rule” that parties may not be compelled to class arbitration unless the contract indicates the party consented to class arbitration.   

What is the distinction?  It is that courts and arbitrators should not use the presence or absence of magic words like “class arbitration” or “class action” as the basis to rule on the availability of class arbitration, but instead must carefully analyze the contract to determine the parties’ intent.  The “default rule” mentioned in Sutter leaves the door open a smidge wider for arguments about the propriety of class arbitration than the “bright line rule”.  Just a smidge.