Who Decides: The Court or the Arbitrator?

About the Authors:

Carolyn G. Nussbaum and Christopher M. Mason are each partners at the Rochester and New York offices, respectively, of Nixon Peabody LLP. This article was adapted from Recent Developments in Business and Corporate Litigation, 2014 Edition. This discussion may not include reference to certain decisions which were rendered in 2013 after the publishing deadline for Recent Developments. Those cases will be considered for inclusion in next year's issue of Recent Developments.

As anyone who practices in the field of arbitration knows, the mere existence of an arbitration clause does not answer all the questions of what will happen in the arbitration. Indeed, often it will not even answer clearly the question of who will decide what with respect to the arbitration. Courts have concluded that, unless the parties have agreed otherwise, "procedural arbitrability" will be decided by the arbitrator and "substantive arbitrability" will be decided by the court. 

As the recent decisions discussed in this article illustrate, how courts have applied this distinction continues to depend on the specific facts and circumstances of each dispute and the particular contract language. 

Who Decides the Timeliness of an Arbitration Demand? 

In United Steel, Paper & Forestry, Rubber, Mfg., Energy, Allied Indus. & Serv. Workers Int’l Union, Local 13-423 v. Valero Servs., Inc., ­No. 1:12-cv-113, 2013 U.S. Dist. LEXIS 19175, at *14-15 (E.D. Tex. 2013), the plaintiff union filed a grievance on behalf of a terminated employee of defendant Valero. After the grievance was denied, the union filed a demand for arbitration under a collective bargaining agreement (CBA). The CBA required the union to file any demand for arbitration within a prescribed time. Neither party disputed the existence of a valid agreement to arbitrate or that an arbitrator should decide the merits of the dispute. The defendant conceded that arbitrators generally decide issues of procedural arbitrability, including timeliness of an arbitration demand, but argued that under the terms of the CBA, the parties had agreed to submit all questions of arbitrability to the court. In particular, the CBA provided that “[a]ny dispute as to the arbitrability of a given matter shall be resolved by a court of competent jurisdiction and not by an arbitrator, unless the parties specifically agree otherwise in writing.” It also provided that “[a]ny question on any matter outside of this Agreement shall not be the subject of arbitration.” 

To decide whether the issues of timing was one of “arbitrability,” or was otherwise “outside” the agreement and thus for a court, the district court looked at the entire language of the arbitration clause, which expressly excluded certain issues from arbitration, such as the use of contractors or the exercise of the company’s right to lay off after notice, both of which are issues of substantive arbitrability. Applying principles of contract interpretation, it held that the CBA language applied only to substantive arbitrability and did not displace the general rule that procedural arbitrability is for the arbitrator to decide. Moreover, because the underlying dispute about the employee’s discharge was subject to arbitration, the related question of the timeliness of the arbitration demand was more appropriately before the arbitrator. The court acknowledged that a court may deny arbitration when the procedural provision in question operates to bar arbitration altogether, but there was nothing in the arbitration clause indicating that the timing provisions would completely preclude arbitration. 

Who Decides Whether an Arbitration May Proceed on a Class or Consolidated Basis? 

In Planet Beach Franchising Corp. v. Zaroff, C.A., No. 13-438 Section: J:1, 2013 U.S. Dist. LEXIS 121908 (E.D. La. Aug. 27, 2013), the plaintiff franchisee filed a unitary demand for arbitration with the AAA for damages based on a franchisor’s alleged misrepresentations and omissions in sales materials used to induce the franchisee to enter into four separate franchise agreements. Each of the four relevant franchise agreements stated that “[n]either party shall pursue class claims and/or consolidate the arbitration with any other proceeding to which the franchisor is a party . . . .” The franchisor then sued to compel the franchisee to maintain separate arbitration proceedings under each of its four separate agreements. The franchisee replied that it had filed a single arbitration, not a “consolidated” demand, and that an arbitrator must decide if the arbitration could proceed on a unitary basis. 

The Eastern District of Louisiana first sought to decide “who should make the determination as to whether the [franchisee] can pursue one arbitration proceeding against [franchisor] consisting of all of [its] claims that arise or relate to the four franchise agreements. . . .” (Emphasis in original.) It held that, contrary to the franchisor’s arguments, Stolt-Nielsen S.A. v. Animal Feeds Int’l Cor., 130 S. Ct. 1758 (2010), did not instruct courts to make the decision of whether an agreement prohibits class arbitration. Instead, the court held, based on the general presumption in favor of arbitration and the broad nature of the arbitration clause, that an arbitrator must interpret whether the parties’ agreement permits consolidated arbitration. It therefore denied the franchisor’s motion to compel four separate arbitrations. 

In Parvataneni v. E*Trade Fin. Corp., No. C 13-02428 JSW, 2013 U.S. Dist. LEXIS 136950 (N.D. Cal. July 2, 2013), the plaintiff sued defendant E*Trade for violations of California state law related to unpaid overtime. E*Trade removed to federal court and moved to dismiss or compel arbitration pursuant to an arbitration provision in the plaintiff’s employment agreement. The arbitration clause, which was concededly broad, stated that “[i]n the event of any dispute or claim arising out of or relating to your employment . . . such Disputes shall be fully, finally, and exclusively resolved by binding arbitration . . . ” conducted by the AAA. 

The plaintiff argued that this clause should be read to allow him to pursue collective arbitration, or, if not, that the arbitration provision was void under state law. The district court held that the issue of class arbitration was a question for the court in the absence of “clear and unmistakable evidence” that the parties intended to arbitrate arbitrability. The court noted, for example, that the parties did not choose to incorporate the rules of the AAA which would have constituted such “clear and unmistakable evidence” to permit an arbitrator to decide arbitrability. The court then proceeded to hold, however, that because the arbitration agreement was silent as to class arbitration, under Stolt-Nielsen, it could not construe the agreement to include class arbitration. 

Who Decides the Validity of an Arbitration Agreement and Arbitrability? 

In Rent-A-Center, West, Inc. v. Jackson, 130 S. Ct. 2772 (2010), the Supreme Court held that parties may agree to arbitrate “threshold issues” regarding the arbitrability of their disputes. Since Jackson, courts have struggled to define the exact limits of this rule. 

In Holzer v. Mondadori, No. 13-civ-5234(NRB), 2013 U.S. Dist. LEXIS 37168 (S.D.N.Y. Mar. 14, 2013), on remand and dismissed by Holzer v. Mondadori, 40 Misc. 3d 1233(A) (N.Y. Sup. Ct. 2013), for example, the defendants had marketed investments in a Dubai real estate venture to the plaintiffs. When the venture failed, the plaintiffs sued for damages in New York state court. One of the defendants petitioned for removal on the basis of Section 205 of the Federal Arbitration Act, 9 U.S.C. § 205 (implementing the New York Convention on Recognition and Enforcement of Foreign Arbitral Awards), which permits removal of an action “relating to” a foreign arbitration or arbitral award under the New York Convention, and sought to compel arbitration of the plaintiffs’ claims. This defendant was not a signatory to the underlying purchase agreements containing the arbitration clause. Furthermore, these agreements contained a Dubai choice of law provision. The court concluded, however, based on precedent in other circuits, that United States law must govern the arbitrability question because determinations of agreements governed by the New York Convention implicate the allocation of power between courts and arbitrators. It therefore held that, under federal common law, a party must provide “clear and unmistakable evidence” of intent for an arbitrator to arbitrate arbitrability. 

The purchase agreements expressly incorporated by reference the Arbitration Rules of the Dubai International Arbitration Centre (DIAC Rules). The district court found that this incorporation by reference could serve as “clear and unmistakable evidence” that the signatories intended to submit questions of arbitrability to the DIAC arbitration tribunal. But the language of the arbitration clauses in the purchase agreements also provided that arbitration of “all disputes between the parties in relation to or arising from” the contract would be submitted to arbitration. Because the moving defendant was not a signatory to the agreements, nor had a sufficiently close relationship to signatory defendants, the district court concluded that it could not compel arbitration and remanded to state court. 

In contrast, in Oracle Am., Inc. v. Myriad Group A.G., 724 F.3d 1069 (9th Cir. 2013), the district court concluded that UNCITRAL rules did not provide such evidence that an arbitrator should decide arbitrability; a decision, however, that the Ninth Circuit promptly reversed. The defendant Myriad, a Swiss mobile software company, licensed Java, a computer programing language, from the plaintiff Oracle. Based on that license, Oracle sued Myriad in the Northern District of California, asserting claims for breach of contract, violation of the Lanham Act, copyright infringement, and unfair competition under California law. Myriad moved in response to compel arbitration based on an arbitration clause in the parties’ license agreement that called for arbitration in accordance with the UNCITRAL rules. 

The district court granted Myriad’s motion to compel arbitration with respect to Oracle’s breach of contract claim, but denied Myriad’s motion with respect to all other claims. The court concluded that it had the authority to decide whether the other claims were arbitrable because UNCITRAL arbitration rules “did not constitute clear and unmistakable evidence that the parties intended to delegate questions of arbitrability to the arbitrator.” 

On appeal, the Ninth Circuit reversed the district court’s decision. It held instead that “as long as an arbitration agreement is between sophisticated parties to commercial contracts, those parties shall be expected to understand that incorporation of the UNCITRAL rules delegates questions of arbitrability to the arbitrator.” 

Whether a Contract as a Whole is Void Remains an Issue for the Arbitrator 

Almost half a century ago, the Supreme Court held that while challenges to an agreement to arbitrate contained in a contract may be decided by a court, challenges to the contract as a whole must be decided by an arbitrator. See, e.g., Prima Paint Corp. v. Flood & Conklin Mfg. Co., 388 U.S. 395 (1967). While litigants sometimes try to avoid the rule, it remains firmly planted in the judicial language. 

In Damato v. Time Warner Cable, Inc., No. 13-cv-944(ARR)(RML), 2013 U.S. Dist. LEXIS 107117 (E.D.N.Y. July 30, 2013), the plaintiff subscribers filed a putative class action against defendant Time Warner Cable for violations of multiple states’ consumer protection laws. Time Warner Cable replied with a motion to stay or dismiss the action pending arbitration pursuant to an arbitration clause in the plaintiffs’ subscriber agreements. The arbitration clause provided for binding arbitration unless the subscribers elected to opt out. The plaintiffs nonetheless argued that the arbitration clause was invalid as illusory because the subscriber agreement gave Time Warner Cable the power to change its terms unilaterally and therefore the agreement to arbitrate was not supported by any mutual obligation. The court found that these arguments challenged the validity of the contract as a whole, rather than just the arbitration clause, because Time Warner Cable retained power to change the terms of the entire agreement. It rejected the plaintiffs’ claims that the agreement to arbitrate was unconscionable, because the plaintiffs relied on terms that affected the entirety of the subscriber agreement rather than solely the arbitration clause. The court therefore concluded that plaintiffs’ arguments “chiefly attack the validity of the contract as a whole,” and must be determined by the arbitrator. 

Who Decides Procedural Issues Related to Arbitration? 

In AFSCME, Council 4, Local 1303-325 v. Town of Westbrook, 75 A.3d 1 (Conn. 2013), the plaintiff union filed an action to vacate an arbitration award deciding that the defendant town’s decision not to reappoint its assessor was outside the terms of a collective bargaining agreement. The trial court, limiting the scope of its review to only the arbitrators’ determination that the plaintiff’s claim was not arbitrable, affirmed the arbitrators’ award. On appeal, the union claimed that the trial court improperly limited its scope of review and had incorrectly concluded that the defendant’s reappointment decision was not arbitrable. 

The union argued that the arbitrators had exceeded their authority by considering state and city laws and thus that the trial court should have applied a broad scope of review to the arbitration decision. The Connecticut Supreme Court disagreed. It affirmed, holding that the arbitration agreement gave the arbitrators “broad authority” to decide the question of arbitrability, and noting that the award clearly revealed that the arbitrators had decided only that question. The parties had committed the question of arbitrability to the authority of the arbitrators and fully expected to be bound by the arbitrators’ decision on that issue. As the court held, “[w]hen a party that has agreed to arbitrate the question of arbitrability wishes to challenge the arbitrators’ determination regarding that issue, the court’s review of that determination, like its review of any other issue that parties empowered the arbitrators to decide, is limited.” 

In Duran v. The J. Hass Group, L.L.C., 531 Fed. Appx. 546 (2d Cir. 2013), plaintiff Duran sued the defendants, various debt settlement companies located in Arizona, under the Credit Repair Organizations Act and state law. The district court granted the defendants’ motion to dismiss the action and compel arbitration. On appeal to the Second Circuit, the plaintiff conceded that her claims were subject to arbitration, but contended that the forum selection clause contained in the arbitration agreement, which mandated arbitration in Arizona, was unconscionable. Because the plaintiff conceded that her claims were subject to arbitration, the Second Circuit agreed with the district court that it was for the arbitrator, rather than the court, to decide in the first instance whether the forum selection clause was unconscionable. As the court of appeals held, “[w]hile ‘a gateway dispute about whether the parties are bound by a given arbitration clause raises a question of arbitrability for a court to decide,’ [. . .] an arbitrator presumptively resolves issues of ‘contract interpretation and arbitration procedures.’” The Second Circuit noted that, had the plaintiff argued only that the arbitration agreement was itself unconscionable due to the forum selection clause, the court would have had to decide the matter. But because the plaintiff conceded that her claims were arbitrable, the unconscionability of the forum selection clause was for the arbitrator to decide. 

Who Decides Res Judicata in Arbitration? 

The decisions in Carlisle Power Transmission Prods., Inc. v. United Steel, Paper & Forestry, Rubber, Mfg., Energy, Allied Indus. & Workers Int’l Union, 725 F.3d 864 (8th Cir. 2013), arose from a dispute between a union and an employer (Carlisle) over long-term disability benefits for a Carlisle employee injured on the job. The union brought a grievance against Carlisle per the procedures listed in a 2001 collective bargaining agreement (CBA). A few days later, that CBA expired and was replaced by a 2006 CBA. The parties agreed to submit to an arbitrator the procedural issue of whether the union’s claim on behalf of the employee was arbitrable under the 2006 CBA. This arbitrator found that the grievance was arbitrable under the 2006 CBA even though the dispute arose while the 2001 CBA was in effect. Carlisle and the union then picked a different arbitrator to hear the substantive claims and scheduled a hearing date. But Carlisle also sought a declaratory judgment in court that the union’s claims were not arbitrable under the 2006 CBA (chiefly because the union was seeking disability benefits governed by a separate agreement). 

The union moved for summary judgment in the disability benefit action. It argued that Carlisle’s claim was barred by res judicata. The district court found that the requirements of res judicata were met, but that the union had waived its right to raise that defense by agreeing to limit the scope of the initial arbitrator’s decision to arbitrability of procedural issues. Proceeding to the merits, the district court then held that the 2006 CBA excluded disputes concerning long-term disability benefits and thus the union’s claims were not subject to arbitration. 

On appeal, the Eighth Circuit reconsidered the res judicata issue. It viewed the initial arbitrator’s decision as a decision on the merits, and concluded that Carlisle’s declaratory judgment claim arose out of the same facts, even though it advanced different legal theories. The Eighth Circuit agreed with the union that res judicata does not foreclose an action if the parties agree to allow a plaintiff to split its claim and proceed in two different actions. But it found that the union did not agree to allow claim-splitting because it did not agree to defer the merits determination until after the arbitrator decided the issue of arbitrability under the 2006 CBA. Moreover, while Carlisle had not raised the argument that the long-term disability benefits claims were not arbitrable in its initial arbitration proceeding, it could have done so. The court of appeals therefore vacated the district court’s order, holding that the initial arbitrator’s award was final and precluded Carlisle’s argument as to nonarbitrability of long-term disability benefits. 

In the case of In re: Yin-Ching Houng, 499 B.R. 751 (C.D. Cal. 2013), appellee Tatung initiated an arbitration proceeding against appellants Westinghouse Digital Electronics, LLC (WDE) and Houng for breach of contract. The arbitrator found Houng to be liable as an alter ego of WDE and assessed damages, plus interest. Houng then filed for bankruptcy. Tatung sought relief from the automatic stay in bankruptcy to complete the arbitration proceedings and confirm the award, as well as an order from the bankruptcy court that Houng’s debt was nondischargeable. 

The bankruptcy court held that the debt from the arbitration was nondischargeable, finding that the arbitration award had preclusive effect. Houng responded by appealing this decision to the district court. The district court held that the bankruptcy court had erred in giving the arbitration award preclusive effect under California law before it was confirmed. However, because the arbitration award was later confirmed, the district court found that the error was harmless. It therefore affirmed the bankruptcy court’s decision that the debt was nondischargeable. 

Who Decides Claims of Fraud in the Inducement? 

In Tower Ins. Co. of N.Y. v. Davis/Gilford, A JV, No. 13-0781 (RBW),2013 U.S. Dist. LEXIS 127121 (D.D.C. Sept. 6, 2013), plaintiff Tower, an insurance company, issued a performance bond to the defendant, a joint venture, guaranteeing work performed under a subcontract executed between the defendant and a third party. The bond incorporated the subcontract by reference. When the third party defaulted, Tower elected to continue performance and drafted a takeover agreement with the defendant that also referenced the subcontract. 

When a dispute arose, the defendant moved to compel arbitration pursuant to the arbitration provision in the subcontract. Tower separately instituted suit in district court seeking a declaration that it was not required to arbitrate because it had been fraudulently induced to issue the performance bond. Tower conceded that its allegations of fraud concerned the issuance of the performance bond in its entirety, and not the arbitration provision itself, but argued that submission of its fraudulent inducement claim to an arbitrator was “illogical” because “if a bond is void ab initio, then it never existed, and never incorporated the subcontract or the arbitration clause by reference in the first place.” The district court rejected the argument, basically relying on the Supreme Court’s decision in Buckeye Check Cashing, Inc. v. Cardegna, 546 U.S. 440 (2006), which acknowledged that a party may be forced to arbitrate even pursuant to a contract that an arbitrator later finds to be void. The court concluded that Tower was therefore required to arbitrate its fraudulent inducement claims.

As the discussion of the recent cases above reveals, questions of who decides certain threshold issues of arbitrability, including issues of timeliness, unconscionability, and whether an arbitration may proceed on a collective basis, continue to provide fodder for numerous opinions. Modern Supreme Court cases provide some guidance, but the many different mixes of the parties’ circumstances, arbitration clauses, and arbitration rules, continue to present unanswered issues, particularly where the clauses and rules chosen by the parties do not exactly match their particular circumstances. Parties who make an agreement to arbitrate simply by inserting what they think is a short and simple clause for a streamlined alternative dispute resolution mechanism, may, in the end, find that they have instead acquired a protracted and expensive dispute over threshold issues. This is why (despite the availability of boilerplate provisions from many sources) arbitration clauses should be carefully crafted by experienced counsel, using language tailored to the specific forum selected and any anticipated issues.

Additional Resources

For other materials on this topic, please refer to the following. 

Business Law Section 2014 Spring Meeting 

Program: The Nationwide Innovation of Specialized Business and Commercial Courts for Effective Resolution of Business Disputes
Friday, April 11, 2014, 10:30 AM - 12:30 PM
Presented by: Business and Corporate Litigation
Co-sponsoring Committee: Judges Initiative 

ABA Web Store 

Recent Developments in Business and Corporate Litigation 

The 2014 edition of Recent Developments in Business and Corporate Litigation contains two volumes plus a CD-ROM totaling 24 chapters spanning a broad range of substantive areas within corporate litigation. Over 170 attorneys from across the country have contributed to this publication, with comments on key issues, detailed outlines, and summaries of recent cases, legislation, trends, and developments during the past year. 

The 2014 edition contains two volumes that are separated by specific topics in business- and litigation-focused areas. 

Volume 1

  • Litigation and Dispute Resolution
  • Civil Business Claims

Volume 2

  • Business Associations Law
  • Employment & Labor Law
  • Finance and Securities Litigation and Arbitration

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