One of the most confounding doctrines in federal arbitration jurisprudence is the severability doctrine.  The U.S. Supreme Court has held, since Prima Paint in 1967, that courts must enforce arbitration clauses within contracts, even if the entire contract is invalid or unenforceable.  (Most non-arbitration geeks don’t believe me when I tell them that’s the law.)  The only time a court can address the argument for invalidity is if the litigant directs it specifically at the arbitration clause.  For example, an argument that the elves’ contract with Santa is invalid because it’s illegal to pay them in candy canes is an argument about the contract as a whole, and would get sent to arbitration if the elves’ contract had a valid arbitration clause.  On the other hand, an argument that the arbitration clause in the elves’ contract with Santa is unconscionable because it calls for arbitration in the South Pole with Mrs. Claus as the arbitrator *is* specific to the arbitration clause, and should be decided by the court.  Unless, of course, the arbitration clause clearly and unmistakably delegated questions of validity to an arbitrator…

Two courts recently had an opportunity to remind litigants of the severability doctrine.  In Rogers v. Swepi LP, 2018 WL 6444014 (6th Cir. Dec. 10, 2018), the Sixth Circuit reversed a district court judge who failed to apply the severability doctrine.  In Rogers, a putative class of landowners brought suit against Shell for claims arising out of lease agreements.  Shell responded by moving to compel arbitration.  The landowners argued that the arbitration clause within the lease agreement (as well as the whole “second phase” of the lease) was only triggered upon payment of a bonus.  The court found this was an attack on more than just the arbitration clause, and therefore application of the severability doctrine called for the issue of arbitrability to be decided by an arbitrator.  (However, whether class arbitration was permissible should be decided by the court on remand.)

Similarly, the Supreme Court of Montana sent a dispute over arbitrability to an arbitrator in Peeler v. Rocky Mountain Log Homes Canada, Inc., 2018 WL 6498693 (Mont. Dec 11, 2018).   In Peeler, an owner sued both the design professional and contractor over claims relating to construction of a custom log home.  Only the contractor’s agreement had an arbitration clause, but the complaint alleged the design firm was an affiliated entity that should be treated the same as the contractor.  So the contractor and design firm moved to compel arbitration.  The homeowner argued that the arbitration agreement was permissive, not mandatory, and that the defendants had waived their right to arbitrate by waiting to assert it until after he filed suit.  Those arguments did not prevail at the trial court or the appellate court.  The Montana Supreme Court noted that the defendants did not waive their right to arbitrate, and because the owner did not challenge the validity or enforceability of the arbitration agreement, his arguments should be heard by an arbitrator.  Finally, the court found that the design firm could compel arbitration as a matter of equitable estoppel.

Speaking of construction cases, the Supreme Court of Nevada continues its campaign to remind all construction litigators that the FEDERAL Arbitration Act governs even local disputes between homeowners and contractors.  Since its Ballasteros decision in February of this year, it has issued two more decisions reiterating that holding: Lanier, 2018 WL 6264809 (Nev. Nov. 28, 2018), and Greystone Nevada, 2018 WL 6264756 (Ne. Nov. 28, 2018).  As evidence of interstate commerce, Lanier points to three things: the builder was incorporated in Delaware while the homeowners were Nevada residents, the large number of subcontractors and material suppliers who worked on the home made it likely that at least some of them are engaged in interstate commerce, and “in the aggregate, the general practice of developing, buying, and selling homes substantially affects interstate commerce.”  All of this mattered because trial court judges were relying on Nevada anti-arbitration rules to refuse to compel arbitration.  Those rules are preempted if the dispute is governed by the FAA.

Just three weeks into the year and already my pile of arbitration cases is a skyscraper! So, I will cover a lot of ground in this update.

First, the headline. Kimberly, Kourtney, and Khloe Kardashian moved to compel arbitration, although they were not signatories to the arbitration agreement.  Kroma Makeup EU v. Boldface Licensing + Branding, 2017 WL 192690 (11th Cir. Jan. 18, 2017).  Despite their celebrity status, they lost in both the Florida district court and the 11th Circuit.  The problem was that the claims they wanted to arbitrate were not within the scope of the arbitration clause, because the clause was limited to “disputes arising between [the Parties]” and they were not parties.  The court had a lot of fun with the fact that the dispute was over makeup companies, writing:

“Like makeup, Florida’s doctrine of equitable estoppel can only cover so much.  It does not provide a non-signatory with a scalpel to re-sculpt what appears on the face of a contract.”

(A defendant was also unable to compel arbitration of a non-signatory class of plaintiffs in Jones v. Singing River Health Services Foundation v. KPMG, 2017 WL 65384 (5th Cir. Jan. 5, 2017).  There, the court found the plaintiff did not rely on the contract to make their claims.)

SCOTUS. On January 13, the U.S. Supreme Court agreed to wade into the issue of whether class arbitration waivers are a violation of the federal labor laws.  The National Labor Relations Board (under the Obama Administration) has repeatedly found that they are, but a split developed among the federal courts on whether the NLRB was correct.  ( You can read more about the three cases in which cert was granted at Scotusblog.  And, yes, normally SCOTUS action on arbitration would be my headline, but I couldn’t pass up a chance to see if the Kardashians led to more blog traffic…)

California’s exception that could swallow the rule. In Prima Paint, a 1967 case, SCOTUS found that a plaintiff’s claim that a contract was induced by fraud must be sent to arbitration if that contract has an arbitration clause, as long as there is no argument that that the arbitration clause itself was induced by fraud.  But this week the 9th Circuit affirmed a finding that, under California law, there was “fraud in the inception” of a contract, making it void and the arbitration provision unenforceable.  DKS, Inc. v. Corporate Business Solutions, Inc., 2017 167475 (9th Cir. Jan. 17, 2017).  If I were a plaintiff, I might just try variations on the theme, maybe a claim of “misrepresentation in the inducement”?

Florida voids arbitration agreement as against public policy.  Without any consideration of federal preemption (maybe the parties didn’t raise it?), the Supreme Court of Florida held that the arbitration agreement in a patient’s contract with her clinic was “void as against public policy” because it excluded required provisions of a Florida statute (the Medical Malpractice Act).  Hernandez v. Crespo, 2016 WL 7406537 (Fl. Dec. 22, 2016).  In particular, the court found the contract’s arbitration clause was less favorable to the patient than the statute would have been in six ways.

Alaska says suing to collect debt does not waive the right to compel arbitration in later statutory case.  Banks had litigated debt-collection actions with credit card holders and gotten default judgments.  Later, the card holders filed statutory claims against those banks and the banks moved to compel arbitration.  Applying federal waiver law, Alaska’s Supreme Court found the banks had not waived their right to arbitrate by litigating the debts.  Hudson v. Citibank, 2016 WL 7321567 (Alaska Dec. 16, 2016).

Alabama says “ripeness” is a question for the arbitrator.  In the context of litigation over a claim of indemnification that was made before the claimant had been determined liable, the Alabama Supreme Court found that the defendant’s defense of “ripeness” had to be determined in arbitration, not in court.  “As we have held that the subject matter of the dispute is clearly within the arbitration provision, any ripeness issue must be resolved by the arbitrator, not by this Court.”  FMR Corp. v. Howard, 2017 WL 127991 (Alabama Jan. 13, 2017).

As a teaser, the Tenth Circuit also issued a blockbuster opinion recently, but it deserves its own (future) post…

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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A short new opinion from the Ninth Circuit may run counter to long-standing Supreme Court precedent. In Casa Del Caffe Vergnano v. Italflavors, 2016 WL 1016779 (9th Cir. Mar. 15, 2016), the court refused to enforce an arbitration agreement in a contract that the parties admitted signing, because the parties simultaneously signed a second agreement declaring the first one a sham.

The story is that two undocumented immigrants chose to become a franchisee of an Italian corporation, Caffe Vergnano, and open an Italian-style coffee shop in San Diego. They signed two contracts on the same day: a “commercial contract,” which was a standard franchise agreement including an arbitration clause; and a “hold harmless agreement” that said the commercial contract “does not have any validity” because it was designed simply to allow the immigrants to obtain visas to work in the U.S. The hold harmless agreement stated the parties “will sign a future contract which will regulate their commercial relationship.”

However, the parties did not enter into a new contract. Instead, the franchisees opened their Italian coffee shop and it folded within eight months. The franchisees sued the franchisor for violations of California statutes and the franchisor moved to compel arbitration. The district court compelled arbitration and the Ninth Circuit reversed.

Repeating language from Granite Rock that contract formation is for courts to decide, and relying on federal common law regarding contracts, a majority of the panel concluded that the commercial contract “was a mere sham to help Hector Rabellino obtain a visa” and was therefore unenforceable. The majority reasoned that the hold harmless agreement proved that the parties did not mutually consent to be bound by the commercial contract.

This decision raises a close question between formation and validity, in my view, that the court ignores completely. On questions of a contract’s validity, the severability doctrine, clarified in Buckeye Check Cashin, dictates that a party challenging arbitrability must “challenge[] specifically the validity of the agreement to arbitrate” in order to have that challenge heard by the court. Otherwise, the validity issue will be addressed by the arbitrator. SCOTUS found it was immaterial whether the challenge made the underlying contract void or voidable. In a footnote in Buckeye Check Cashing, however, SCOTUS excluded a limited set of formation issues from the severability doctrine, suggesting those still belong in court:

The issue of the contract’s validity is different from the issue of whether any agreement between the alleged obligor and obligee was ever concluded. Our opinion today addresses only the former, and does not speak to the issue decided in the cases cited by respondents (and by the Florida Supreme Court), which hold that it is for courts to decide whether the alleged obligor ever signed the contract, Chastain v. Robinson-Humphrey Co., 957 F. 2d 851 (CA11 1992), whether the signor lacked authority to commit the alleged principal, Sandvik AB v. Advent Int’l Corp., 220 F. 3d 99 (CA3 2000); Sphere Drake Ins. Ltd. v. All American Ins. Co., 256 F. 3d 587 (CA7 2001), and whether the signor lacked the mental capacity to assent, Spahr v. Secco, 330 F. 3d 1266 (CA10 2003).

Is the franchisee’s argument that the hold harmless agreement nullified the commercial contract really closer to an argument that the franchisee lacked mental capacity, and therefore belonged in court? Or is it closer to an argument that the commercial contract was fraudulently induced? In my view, that is a close call, but fraudulent inducement seems the better fit, meaning this decision belonged to the arbitrator. The line between formation and validity is not clearly drawn in FAA jurisprudence, and this decision blurs it further.

Lots of interesting arbitration law has been made already in 2016, so here is a roundup from the first four weeks of the year. As a teaser, courts have breathed life into the effective vindication doctrine, found arbitrators cannot determine the availability of class actions, and found state laws not preempted.  More surprisingly, state courts are following SCOTUS’s interpretations of the FAA.

Effective Vindication Lives On

Although I thought Italian Colors was an “effective elimination” of the effective vindication doctrine, the Tenth Circuit affirmed its use as a defense to a motion to compel arbitration this month in Nesbitt v. FCNH, Inc., 2016 WL 53816 (10th Cir. Jan. 5, 2016).  [Side note to WestLaw: can there really have been 53,816 cases by January 5th of the year??  Or do I misunderstand the numbering system?]  In that case, class action plaintiffs in a Fair Labor Standards Act case defeated a motion to compel individual arbitrations by asserting that under the AAA Commercial Rules, each plaintiff would have to pay between $2,300 and $12,500 in arbitrator fees and could not recover attorneys’ fees.  The appellate court affirmed.

Incorporation of AAA Rules Can “Unmistakably” Delegate Some Gateway Issues, But Maybe Not the Availability of Class Actions

The Third Circuit drew what seems to me a questionable distinction between parties’ ability to delegate some substantive issues of arbitrability from others. Despite acknowledging that federal courts of appeals have universally found that when parties agree to be bound by the AAA rules, they delegate substantive arbitrability to arbitrators, the Third Circuit found that does not extend to the availability of class arbitration. Chesapeake Appalachia, LLC v. Scout Petroleum, LLC, 2016 WL 53806 (3d Cir. Jan. 5, 2015).  Recall that in general, courts are presumed to have authority to determine whether an arbitration exists, whether it is valid, and whether it covers the scope of the parties’ dispute.  But, under First Options of Chicago, a SCOTUS opinion, parties can delegate even those issues to arbitrators as long as their intent to do so is “clear and unmistakable.”  In Chesapeake Appalachia, the court repeats its pronouncement from Opalinski that the “availability of classwide arbitration” is one of those substantive questions of arbitrability that courts presumptively decide, unless parties clearly and unmistakably state otherwise.  And then it further protects courts’ ability to make that determination by holding that the parties’ incorporation of AAA rules, which explicitly allow arbitrators to determine their own jurisdiction and contain supplementary rules about class arbitration, is not sufficient to delegate the availability of classwide arbitration to arbitrators.  Drawing on statements from Sutter, the court leaned on the “great” procedural differences between bilateral and class-action arbitration to support its distinction.

Waiver of the Right to Arbitrate is an Issue Presumptively for Courts

Maybe Bryan Garner can come up with a new term for “waiving” the right to arbitrate, so that it is not the same verb as waiving the substantive claim being arbitrated. If so, that would alleviate the problem that the Supreme Court of Nevada addressed in Principal Investments, Inc. v. Harrison, 2016 WL 166011 (Nev. Jan. 14, 2016).  That court wrestled with the issue of whether a court or an arbitrator should decide if a party has waived its right to arbitrate by participating in litigation.  In other words, is that type of waiver a substantive question of arbitrability (like whether there is a valid arbitration agreement) that is presumptively for courts, or a procedural question of arbitrability that is presumptively for arbitrators?  Adding to the confusion is language from Howsam and BG Group characterizing “waiver” as an issue presumptively for arbitrators.  After canvassing other courts and finding the majority have concluded that waiver-by-litigation is presumptively for courts, the Nevada Supreme Court followed the herd.

Missouri Enforces Prima Paint’s Severability Doctrine

As I have picked on Missouri for bucking federal arbitration law, I owe it to the Show-Me State to point out that it recently (but reluctantly) followed federal precedent on severability. In Ellis v. JF Enterprises, LLC, 2016 143281 (Mo. Jan. 12, 2016), the Supreme Court of Missouri recognized that under federal precedent, a plaintiff cannot avoid an arbitration agreement by asserting the contract as a whole is void, it must point to a deficiency with the arbitration clause specifically.  As a result, the court held that “no matter what logic or fairness” undergirded the plaintiff’s argument that her auto sale was invalid, she had to arbitrate that claim.

Kentucky’s Precedent on Wrongful Death Actions is not Preempted by FAA

In Richmond Health Facilities v. Nichols, 2016 WL 192004 (6th Cir. Jan. 15, 2016), the Sixth Circuit analyzed Kentucky’s state law rule, which holds that wrongful-death claims belong only to beneficiaries, and therefore any arbitration agreement signed by a decedent cannot bind a beneficiary bringing a wrongful death claim.  The Sixth Circuit found that state law rule does not stand as an obstacle to the FAA, because it does not categorically prohibit arbitration of wrongful death claims, so was not preempted.

Lots of Action on Attorneys’ Fees

The Supreme Court of Utah held that an arbitrator cannot award attorneys’ fees incurred in confirming the arbitration award, under the Uniform Arbitration Act. Westgate Resorts, Ltd. V. Adel, 2016 WL 67717 (Utah Jan. 5, 2016).

Massachusetts’ highest court also found an arbitrator is not authorized to award attorneys’ fees due to one party’s assertion of frivolous defenses (unless the parties specifically granted the arbitrator that authority). Beacon Towers Condominium Trust v. Alex, 2015 WL 9646024 (Mass. January 7, 2016).

Similarly, the Second Circuit held that a federal district court erred in awarding attorneys’ fees and costs to the party that successfully confirmed its arbitration award. Zurich Am. Ins. Co. v. Team Tankers (2d Cir. Jan. 28, 2016).  As part of its contractual analysis, the court repeated that parties may not contract around Section Ten of the FAA.  In other words, it would not read the parties’ contract as precluding an attempt to vacate the award.

PHEW. I have now alleviated the guilt that has been weighing on me for not blogging about these cases yet.  Hope February brings a more reasonable stream of opinions!

On Monday, the United States Supreme Court reminded the Oklahoma Supreme Court who is boss when it comes to the Federal Arbitration Act.  In Nitro-Lift Technologies, LLC v. Howard, 2012 WL 5895686 (U.S. Nov. 26, 2012), SCOTUS declared “It is a matter of great importance [] that state supreme courts adhere to a correct interpretation of the [FAA].  Here, the Oklahoma Supreme Court failed to do so.”

The issue at hand was the severability doctrine.  This is the counterintuitive doctrine that most often vexes parties, litigators, and courts in arbitration cases.  Stemming from the 1967 Prima Paint decision, the doctrine says that when the parties have an arbitration agreement in a fully formed contract, courts may only address arguments about whether the arbitration agreement itself is invalid, not any arguments that attack the contract as a whole or that attack provisions outside the arbitration agreement.  If the arbitration agreement is valid, those broader arguments will be addressed by the arbitrator.  For example, even when Florida state courts determined that the underlying contracts at issue were illegal, SCOTUS said that because the arbitration agreement within those illegal contracts was valid, the issues must be arbitrated.  That was six years ago.  Buckeye Check Cashing, Inc. v. Cardegna, 546 U.S. 440, 446 (2006).

Now enter Oklahoma, which appears not to have received the memo from Buckeye.  [Had to make one snarky comment about Oklahoma here since my husband is a die-hard member of the Burnt Orange Nation.]  Last November, its highest court found that employees with admittedly valid arbitration clauses in their non-compete agreements did not have to arbitrate disputes with their former employers, because the non-competes as a whole were void under a state statute.  Oklahoma tossed the severability doctrine out the window without much analysis.  It declared: “We hold that the existence of an arbitration agreement in an employment contract does not prohibit judicial review of the underlying agreement.”  Howard v. Nitro-Lift Technologies, 273 P.3d 20, 27 (Okla. 2011).  Reading between the lines, the Oklahoma court thought that the non-compete agreements at issue were so egregious (precluding the employee from working in their industry anywhere in the U.S. for a period of two years), that it refused to enforce one iota of those agreements.

SCOTUS is a big fan of its severability doctrine, though, and it vacated the Oklahoma Supreme Court’s decision.  In doing so, it took the opportunity to issue two major reminders to other state supreme courts.  First, the FAA and the federal case law interpreting it are applicable in state and federal courts.  Specifically, the Court said “the Oklahoma Supreme Court must abide by the FAA, which is ‘the supreme Law of the Land,'” citing the Constitution.  Second, attacks on the validity of the contract as a whole are for the arbitrator to resolve. (“An arbitration provision is severable from the remainder of the contract”).  If all state supreme courts would keep those concepts (plus preemption) in mind, the Supreme Court promises to stop reminding them of the their place in the court hierarchy.

 

Building off last post’s discussion of the Solymar case, and the surprisingly fuzzy line between challenges to the formation of contracts containing arbitration provisions and challenges to the validity of those contracts, here is a hypothetical for you to consider.  (Why a hypothetical?  Because it is spring break, and spring break reminds me of law school, and law school reminds me of endless hypotheticals about a fictitious restaurant named “The Lobster Pot”.) 

Let’s say A held a gun to the head of B, demanding that B sign a Contract to buy widgets.  So, B signed.  But since B never wanted to buy widgets from A in the first place, B defaulted.  A then demands arbitration with B, citing an arbitration agreement within the Contract.  Assuming the Federal Arbitration Act applies, will a Court hear the merits of a claim from B that the arbitration agreement is not enforceable?

 In general, Prima Paint and the severability doctrine mean that challenges to a contract as a whole must be sent to the arbitrator, while challenges to the arbitration agreement itself are for the courts to determine.  See Prima Paint Corp. v. Flood & Conklin, 388 U.S. 395, 403-04 (1967).  But, the Supreme Court has recognized that some types of challenges to the contract as a whole do belong in court: those that challenge “whether any agreement between the obligor and obligee was ever concluded.”  Buckeye Check Cashing v. Cardegna, 546 U.S. 440, 444 n.1 (2006); Granite Rock Co. v. Int’l B’hood of Teamsters, 130 S. Ct. 2847, 2855-56 (2010).

 The answer to the hypothetical depends whether a federal court would find that signing a contract because a gun is put to your head is more analogous to:

  • allegations that the entire contract is void due to fraud in the inducement, violating state law or public policy (all of which have been sent to arbitration); or
  • allegations that no agreement was ever concluded because one of the parties’ names was forged on the agreement, or because the agent who executed the agreement lacked authority to do so, or because the party lacked the mental capacity to contract (all of which have been determined by courts).

What do you think??  I tend to think a majority led by Justice Scalia would say the issue goes to the arbitrator, and that four Justices would vigorously dissent, but I am interested in hearing your thoughts.

Do you remember the moment when you first encountered the concept of arbitrating arbitrability?  Just the phrase is mind-bending!  It took me a while to wrap my head around the idea that parties could separately agree to arbitrate the question of whether they really had to arbitrate.   Well, here’s a similar mind-bender: how does state law regarding severability clauses intersect with the federal doctrine of severability?  This is an issue that courts (like the Florida courts in the previous post) are increasingly having to address.  (I am using “severability clause” to refer to a contractual provision stating that if any clause(s) are  found invalid, the invalid clauses should be severed and the remainder of the agreement enforced.)

44 years ago, the Court declared that arbitration provisions are severable from contracts that contain them and the enforceability of the arbitration agreement must be considered separately.  See Prima Paint Corp. v. Flood & Conklin Mfg. Co., 388 U.S. 395, 402-03 (1967); see also Buckeye Check Cashing, Inc. v. Cardegna, 546 U.S. 440, 445-46 (2006) (“[A]as a matter of substantive federal arbitration law, an arbitration provision is severable from the remainder of the contract.”)  What none of the Supreme Court cases has yet had to address is what happens if there is a severability clause in the very arbitration agreement itself and one of the parties argues that an aspect of the arbitration agreement is unenforceable. 

Like the Shotts and Gessa cases from the Florida Supreme Court, most courts will consider state law arguments that an invalid clause or provision within a larger arbitration agreement may be severed if there is a severability clause within the arbitration agreement.   See Jackson v. Cintas Corp., 425 F.3d 1313, 1317 (11th Cir. 2005) (using a severability clause within the arbitration agreement to sever the illegal provision within the arbitration agreement);  Anders v. Hometown Mortgage Services, Inc., 346 F.3d 1024, 1032 (11th Cir.2003)(finding objectionable provisions of arbitration agreement severable based on severability language within arbitration agreement); Brady v. Williams Capital Group, 64 A.D.3d 127, 137-38 (N.Y. App. Div. 2009)(excising the unconscionable fee language from the parties’ arbitration agreement based on severability clause in arbitration agreement).

This is an important drafting point.  If the drafting party wants an ironclad arbitration agreement,  it may want to insert a severability clause that is specific to that arbitration agreement (or specific to the paragraphs of the contract that form the arbitration agreement).

Just over a year has passed since the U.S. Supreme Court applied the severability doctrine in Rent-A-Center, West Inc.  v. Jackson, 130 S. Ct. 2772 (2010), in such a way that Justice Stevens and three others dissented, raising the specter of “infinite layers of severability” and a parade of arbitrability horribles.  A review of the case law applying Rent-A-Center in the past year suggests that the parade of horribles has not fully come to pass.  Courts have limited their application of Rent-A-Center to cases where the parties’ arbitration agreement authorized the arbitrator to decide claims that the arbitration agreement was invalid.

Rent-A-Center Refresher

First, a refresher on the Rent-A-Center case.  In it, a litigant argued that his stand-alone arbitration agreement was unconscionable and therefore invalid.  However, the agreement  contained a provision authorizing the arbitrator to decide questions of validity (the “delegation provision”).  The Supreme Court enforced the delegation provision and sent the decision regarding validity to the arbitrator.  The Court ruled that for the employee to have his unconscionability claims heard in court, he needed to allege that the delegation provision itself was invalid, citing the Prima Paint doctrine.

The dissent balked, claiming that the majority was taking the severability doctrine from Prima Paint too far.  It worried that courts would interpret the Rent-A-Center decision to make it virtually impossible for a litigant to have a court review the enforceability of an arbitration agreement:   

Before today, however, if respondent instead raised a challenge specific to “the validity of the agreement to arbitrate”— for example, that the agreement to arbitrate was void under state law—the challenge would have gone to the court. That is what Buckeye says. But the Court now declares that Prima Paint’s pleading rule requires more: A party must lodge a challenge with even greater specificity than what would have satisfied the Prima Paint Court. A claim that an entire arbitration agreement is invalid will not go to the court unless the party challenges the particular sentences that delegate such claims to the arbitrator, on some contract ground that is particular and unique to those sentences.
It would seem the Court reads Prima Paint to require, as a matter of course, infinite layers of severability: We must always pluck from an arbitration agreement the specific delegation mechanism that would—but for present judicial review—commend the matter to arbitration, even if this delegation clause is but one sentence within one paragraph within a standalone agreement. And, most importantly, the party must identify this one sentence and lodge a specific challenge to its validity. Otherwise, he will be bound to pursue his validity claim in arbitration.
Id. at 2787 (internal citations omitted).

The dissent raises at least two concerns.  First, whether litigants whose arbitration agreement(s) contain a similar delegation provision will ever be able to obtain a court hearing on issues of the validity of the arbitration agreement.  And second, whether courts will apply the same level of severability outside the delegation context.  For example, whether a litigant arguing that her arbitration agreement is unconscionable must argue that the particular sentence saying “any and all disputes arising out of this agreement shall be heard in arbitration” is unconscionable, instead of arguing that the other sentences describing the arbitral processes are unconscionable.

One Year of Application

In reviewing a full year of state and federal case law applying the Rent-A-Center decision (thank goodness for excellent summer associates!), we found no case applying its hard-line approach to an arbitration agreement without a delegation provision.  At least to date, then, courts applying Rent-A-Center have generally heeded that particular concern from the dissenting Justices.  Litigants without a delegation provision are unlikely to have to parse their arguments relating to the enforceability of the arbitration agreement as finely as they would have to if their arbitration agreement contained a delegation provision.

However, it is certainly true that Rent-A-Center has made it nearly impossible for litigants with a delegation provision in their arbitration clause to have a court hear their allegations that the arbitration agreement as a whole is invalid.  Numerous federal and state courts have sent those types of claims to arbitration in the past year, relying on the Rent-A-Center decision.  The only litigant who avoided that fate was one who wisely alleged that the delegation provision itself was invalid.  Howard v. Rent-A-Center, Inc., No. 1:10-CV-103, 2010 WL 3009515, at *1 (E.D. Tenn. July 28, 2010).  The victory was short-lived, however—while the Court agreed it was authorized to decide the gateway issue of the validity of the delegation clause, it quickly concluded the delegation clause was valid and “allowing arbitrators [t]o] determine their own jurisdiction is neither contrary to the public policy nor unconscionable.”  Id. at *5.