A Ticking Time Bomb: Existing Arbitration Clauses in Light of New Law Permalink
By: Jacqueline A. Muttick, Esq. Associate, New JerseyDate: December 3, 2018 Appellate Division, arbitration, contract drafting, Jacqueline A. Muttick While there is a strong public policy in favor of arbitration, the Appellate Division in Flanzman v. Jenny Craig, Inc., et al., __ N.J. Super. __ (App. Div. 2018), has held that arbitration provisions need to specify the arbitral forum or otherwise set forth the process for arbitration in order to be enforceable. The Appellate Division, in a November 13, 2018, published opinion that superseded its prior October 17, 2018, opinion, held that an arbitration clause that did not specify the forum or process for arbitration was unenforceable, as there is no “meeting of the minds” when the parties do not understand the rights that replace the right to a jury trial. The Court found that parties to an arbitration agreement must select the forum, like the American Arbitration Association (“AAA”) or the Judicial Arbitration and Mediation Services (“JAMS”), or otherwise set forth the process for arbitration at the time of the agreement. Failure to specify the forum or set forth the process for arbitration may result in an unenforceable arbitration agreement. In Flanzman, plaintiff filed a lawsuit for employment discrimination and defendant, relying upon an arbitration clause, sought to compel arbitration. The clause at issue specifically stated the following:
“Any and all claims or controversies arising out of or relating to [plaintiff's] employment, the termination thereof, or otherwise arising between [plaintiff] and [defendant] shall, in lieu of a jury or other civil trial, be settled by final and binding arbitration. This agreement to arbitrate includes all claims whether arising in tort or contract and whether arising under statute or common law including, but not limited to, any claim of breach of contract, discrimination or harassment of any kind.”
While the trial court compelled arbitration, the Appellate Division reversed and held that there is no “meeting of the minds” between the parties when the arbitration clause lacks an agreed upon forum or process for arbitration. Citing Atalese v. United States Legal Services Group
, 219 N.J. 430 (2014), the Court explained that arbitration agreements, like any other contract, require mutual assent and a “meeting of the minds” before the agreement will be found enforceable. Parties to an arbitration agreement must “clearly and unambiguously” agree to waive their otherwise statutory right to a trial, and the parties must understand the ramifications of that waiver. “[T]o understand the ramifications of a waiver of a jury trial, the parties must generally address in some fashion what rights replace those that have been waived.”
This fashioning includes setting forth the arbitrator(s) who will be used, or identifying an arbitral institution, like AAA or JAMS. Selection of an arbitral institution “informs the parties about the right that replace those that they waived in the arbitration agreement,” including the rules, procedures, and setting for the arbitration. The Court noted that if an arbitration agreement does not specify an arbitration forum it could nonetheless suffice by setting forth the process for selecting a forum.
The Court distinguished this matter from one in which a court under the Federal Arbitration Act (9 U.S.C.
§5) or the New Jersey Arbitration Act (N.J.S.A.
2A:23B-11(a)) could appoint an arbitrator. The Court noted that the case under review was not a matter in which the parties could not select an arbitrator; rather, in this matter the forum, not the arbitrator, was unspecified. In the absence of a forum or forum selection process, there was no “meeting of the minds” or agreement to arbitrate.
The Court stressed in its ruling that there are no “talismanic words” required in an arbitration provision to make it enforceable, other than the requirement for a “clear mutual understating of the ramifications” of judicial waiver as set forth in Atalese
. Since the arbitration provision in Flanzman
did not set forth any arbitration forum or process for choosing an arbitration forum, or otherwise specify the rights replacing the right to proceed in court, the clause was unenforceable.
While the Appellate Division emphasized that this ruling does not require specific language in an arbitration clause to make it enforceable, it does add a previously unarticulated condition for such clauses to be valid. The Court in Atalese
mandated that arbitration provisions clearly and unambiguously state that parties waive the right to seek relief in court and instead elect arbitration. The Flanzman
ruling now requires the arbitration forum, or the process of choosing a forum, be denoted in sufficient detail so the parties understand the replacement forum.
dealt with an employment matter, it will likely have a far-reaching impact on arbitration clauses in other contracts, especially contracts between “sophisticated parties” and individuals. Now, parties seeking to enter into arbitration agreements need take heed not only to waive explicitly the right to bring an action in court (as required by Atalese
), but also to specify the arbitration forum or forum-selection process in accordance with Flanzman
Arbitrating Indemnity Issues During the Pendency of a Supreme Court Action, by Arthur Xanthos Permalink
Our last article warned of a pitfall with the traditional arbitration clause - an arbitrator may end up with a power (e.g., the power to award punitive damages) that was never intended by the parties. Here we highlight another arbitration issue that has arisen several times in our practice. ADR, alternative dispute resolution, arbitration, Arthur Xanthos, construction law, general contractors, indemnification, indemnity, insurance, labor law, lawsuit, personal injury, premises liability, real estate
Assume an Owner (O) hires a General Contractor (GC) to do work on a construction site, and the standard AIA form contract is executed containing a mandatory arbitration clause providing that "all disputes between the parties arising out of this agreement shall be resolved by binding arbitration under then applicable commercial arbitration rules". Plaintiff-worker (P) trips and falls while working on the site and sues both O and GC, alleging negligence, as well as violations of the New York State Labor Law (the "Lawsuit"). O and GC each answer the Lawsuit and assert cross-claims against each other for contribution, defense, and indemnification.
All of the above is standard fare and occurs almost reflexively. But then something unusual happens: O's counsel files an arbitration demand, demanding that GC arbitrate the issue of whether GC owes O defense and indemnification in the Lawsuit (the "Arbitration"). Inter-defendant arbitration of an indemnity obligation in the context of a pending personal injury lawsuit is an unusual tactic, and raises a host of procedural problems. For example, what happens to the rest of the case as the arbitration proceeds? What if the arbitration requires the resolution of other issues that have not yet been decided by the court? What if the arbitration takes the case beyond “standards and goals”? New York courts have come up with methods of dealing with the procedural problems. See, e.g., Weiss v Nath, 97 A.D.3d 661, 664 (2d Dep't 2012); County Glass & Metal Installers, Inc. v. Pavarini McGovern, LLC, 65 A.D.3d 940, 940-941 (1st Dep't 2009); and 624 Art Holdings, LLC v. Berry-Hill Galleries, Inc., 2012 N.Y. Misc. LEXIS 6440, 26-27 (N.Y. Sup. Ct. June 7, 2012). But even assuming counsel is willing to navigate the attendant procedural problems, in our opinion inter-defendant Arbitration of part of a Supreme Court action can only be justified in one of two circumstances:
1. Where a quicker resolution of the indemnity issue would occur in the Arbitration as opposed to the Lawsuit, and that speed is worth the arbitration fees; and/or
2. Where a more favorable resolution of the indemnity issue would occur in the Arbitration as opposed to the Lawsuit.
It is likely that New York counsel always will conclude that a quicker resolution would occur in the Arbitration. Counsel could also conclude that a more favorable resolution would occur in the Arbitration under the following scenarios:
1. If the rules applicable to the Arbitration (but not applicable to the Lawsuit) generate a better result -- of course then Arbitration would be advisable. But to make this decision counsel must retrieve the applicable Arbitration rules, review them for application to the indemnity issue, and compare the result with that obtained via the Lawsuit.
2. If the particular arbitrator used comes from a construction background and therefore knows or “feels” that such indemnity obligations should regularly be enforced -- here too Arbitration would be advisable.
So the conclusions are these: If the Arbitration would yield a more favorable result, choose inter-defendant arbitration regardless of the fees for arbitration. If the arbitration would yield a quicker result, and a result no worse than that yielded in Supreme Court, choose to arbitrate if you are willing to pay the cost to arbitrate in exchange for a speedier decision. In all other cases, bide your time and wait for the assigned Justice to make the decision on summary judgment.
Binding Arbitration: A New Timebomb for Lawyer and Client, by Arthur Xanthos Permalink
It is customary to recommend to a range of clients that they agree to binding arbitration as a mechanism to resolve future disputes under an agreement. Arbitration is often regarded as a cheaper, quicker alternative to litigation. The typical arbitration clause reads as follows: "Any dispute arising under this agreement shall be resolved by arbitration before the American Arbitration Association in New York City under the commercial arbitration rules then in effect." It is just as customary in the same agreement to choose a particular State law, e.g., New York law, to govern the resolution of future disputes. A simple version of this choice of law clause reads as follows: "This agreement shall be governed by the laws of the State of New York." ADR, alternative dispute resolution, arbitration, Arthur Xanthos, choice of law, contracts, Flintlock, Gartner + Bloom, limited liability company, operating agreement, punitive damages
Yesterday, the New York State Appellate Division, First Department, had the opportunity to consider a case involving an agreement containing both clauses. A limited liability company's operating agreement contained both an arbitration clause and a choice of law (New York) clause. But the commercial arbitration rules (mandated by the arbitration clause) conflicted with New York State law (mandated by the choice of law clause) in one important respect: commercial arbitration rules permit an arbitrator under some circumstances to assess punitive damages against a party to the arbitration. New York State law, on the other hand, does not permit an arbitrator to assess punitive damages. So when an agreement contains both clauses (commercial arbitration rules, and New York State choice of law), may an arbitrator award punitive damages?
Yes, said the Appellate Division in a sharply divided 3-2 decision. Matter of Flintlock Constr. Servs. LLC v. Weiss, 2014 NY Slip Op 05818 (8/14/2014). The majority held that the operating agreement's choice of law provision, in the absence of additional limiting language, "is insufficient to remove the issue of punitive damages from the arbitrator".
The Flintlock decision is problematic for two reasons: First, what do contracting parties do about their already executed agreements that now have conflicting clauses? It is barely overstatement to say that the overwhelming majority of shareholder agreements, operating agreements, asset sale agreements, and even employment agreements contain both of these clauses. Second, how should such agreements be drafted going forward? Pending an appeal of the Flintlock decision, attorneys should follow the First Department's direction and place limits on the arbitrator's power to impose punitive damages. The new clauses might read as follows:
"ARBITRATION. Any dispute arising under this agreement shall be resolved by arbitration before the [NAME OF ARBITRATION TRIBUNAL] in [LOCATION]. The arbitration shall be conducted under commercial arbitration rules then in effect, but the arbitrator(s) shall resolve the dispute in accordance with the laws of the State of New York without giving effect to principles of conflict of laws. The arbitrator(s) shall have the limitations on his, her and their power and authority as are found in New York State law, including without limitation no power or authority to award or assess punitive damages."
"CHOICE OF LAW. This agreement, its validity, construction, and enforcement, shall be governed by the laws of the State of New York, without giving effect to principles of conflict of laws."