June 14, 2016 Practice Points

Fifth Circuit Holds That Employer's Arbitration Agreement Is Illusory

By Karl Bayer

In Nelson v. Watch House Int’l, L.L.C., No. 15-10531 (5th Cir., Mar. 2, 2016), the Fifth Circuit ruled that an arbitration agreement included in an employment contract was illusory and unenforceable because its “savings clause” failed to expressly require that advance notice regarding any amendments or termination of the arbitral agreement be provided to workers.  

The plaintiff, Nelson, secured a position as a training instructor with Watch House International (Watch House) in Dallas, Texas. Prior to beginning his employment, Nelson received an electronic copy of an employee handbook. The handbook included an arbitration agreement which stated the parties agreed to resolve any disputes through binding arbitration. The arbitration agreement also stated: 

This agreement is issued with the authority of the Company and is binding on the Company. This Agreement may not be altered except by consent of the Company and shall be immediately effective upon notice to Applicant/Employee of its terms, regardless of whether it is signed by either Agreeing Party. Any change to this Agreement will only be effective upon notice to Applicant/Employee and shall only apply prospectively.

After working for Watch House for approximately four years, Nelson reported to his employer that he was being harassed at work over both his race and religion. About two weeks after reporting the alleged harassment, Nelson was fired. 

In response to his termination, Nelson filed a lawsuit against his former employer in the Northern District of Texas. Watch House then filed a motion to compel arbitration. In his opposition to Watch House’s motion, Nelson argued that its arbitration agreement was unenforceable because it was illusory under, inter alia, In re Halliburton Co., 80 S.W.3d 566 (Tex. 2002), and Lizalde v. Vista Quality Markets, 746 F.3d 222 (5th Cir. 2014). 

The district court granted Watch House’s motion to compel arbitration and dismissed Nelson’s case without prejudice.  

Nelson appealed to the Fifth Circuit and argued that Watch House’s Arbitration Plan was illusory because it failed to include a savings clause related to existing claims and disputes and requiring advance notice of termination. After stating that Texas law governed the parties’ dispute, the Fifth Circuit held that: 

Here, the Plan provides that Watch House may make unilateral changes to the Plan, purportedly including termination, and that such a change “shall be immediately effective upon notice to” employees. Watch House’s retention of this unilateral power to terminate the Plan without advance notice renders the Plan illusory under a plain reading of Lizalde, which is supported by recent decisions from Texas intermediate courts. See, e.g., Temp. Alts., Inc., 2014 WL 2129518, at *4–5 (collecting cases).

Because the Arbitration Plan was illusory, Nelson was not bound by it, and the order compelling arbitration was reversed. This case counsels that employers wishing to preserve the right to make future changes in their arbitration agreements with employees must make sure that their arbitration agreements clearly provide, among other things, that prior notice will be given before any future changes will become effective.  

Keywords: alternative dispute resolution, adr, litigation, advance notice, illusory, amendment or termination, employee, employer 

Karl Bayer is the founder of Karl Bayer Dispute Resolution in Austin, Texas.

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