Archive for May, 2010

Unconscionability of Class Action Waivers: Who Decides?

Thursday, May 27th, 2010

Recently the US Third Circuit Court of Appeals, sitting en banc on its own motion, held that when a motion to compel arbitration is opposed to the extent that the arbitration clause bars class actions, the District Court must resolve the challenge to the class action prohibition, and not refer that issue to the arbitrator. (Puleo v. Chase Bank USA, 2010 U.S. App. LEXIS 9497 (3d Cir. May 10, 2010)).


The Third Circuit en banc majority opinion starts from the premise that a “question of arbitrability” is presented whenever one party challenges in whole or in part the validity of the arbitration agreement.


I question this broad an approach. Certainly if a party contends that the agreement to arbitrate is a contract of adhesion and should not be enforced, there is a question of arbitrability. If that party’s position is sustained, the dispute is resolved in court.


But how does the principle articulated by the Third Circuit apply when, as in Puleo, the named parties do not contest that their claims must be arbitrated, but insist that those portions of the arbitration clause that prevent them from arbitrating in a representative capacity are unconscionable? Is this a question of “arbitrability” as the courts have defined that phrase? When the consequence of deciding the validity challenge favorably is to enlarge the scope of arbitration, not to remove disputes or parties from arbitration, is that an “arbitrability” decision?


The Third Circuit majority says “yes.” The Court maintains that the issue is one of the alleged partial invalidity of the arbitration agreement. The majority addresses the issue from several directions. First, they point out that the FAA only permits a court to compel arbitration in accordance with the terms of the parties’ agreement. Thus, the Court reasons, if there is a dispute over what those terms are, the Court must resolve it before making its order to compel arbitration. On this view, a challenge to the validity of any portion of the arbitration agreement, when raised in conjunction with a motion to compel, must be regarded as a question of arbitrability for the court to decide (absent a clear and unmistakable agreement of the parties to have the arbitrator decide it).


Thus, the Court holds, the District Court here could not have entered an order to compel arbitration without first resolving Plaintiffs’ unconscionability challenge to the class action waiver.


Next, the Third Circuit expresses the view that deciding whether the arbitration may proceed as a class action “calls into question the very authority of the arbitrator to preside over the dispute, and, by extension, the validity of the Agreement itself.”


This articulation is imprecise. When the Claimant questions not the duty to arbitrate but only the clause’s limitation on arbitrable claims to those claims that are personal to the Claimant, the arbitrator’s “authority to preside” is not at issue. The question is does the arbitrator have authority to preside over dozens or hundreds of consolidated disputes that are substantially identical, and as to which the putative individual claimants have not opted in, nor assigned their claims to the nominal Claimant, nor otherwise indicated a desire to have their rights arbitrally determined.


It is this array of “who” questions — with whom have Defendants agreed to arbitrate in this case, and which Claimants have agreed to arbitrate their claims in this case, that makes the issue of whether the class action waiver is unconscionable a question of arbitrability. Indeed, in the Supreme Court’s recent decision in the Stolt-Nielsen case, the “who are the parties to the agreement” question is identified as the marker that makes the issue of class action arbitration a question of arbitrability on which no deference is due to an arbitrator’s decision.


Four of the ten judges of the Third Circuit, joining in a dissent, held the view that no question of arbitrability was presented, and that the question of whether the class action waiver was unconscionable was suitable for the arbitrator to decide as a question of arbitral procedure. The dissenters’ state that their conception of arbitrability is that of the Supreme Court in Howsam v Dean Witter — i.e. either a dispute over the validity of the arbitration agreement, or a dispute of whether a particular claim or dispute is within the scope of what the parties agreed to arbitrate. The dissenters find that the class action waiver unconscionability issue does not fall into either category.


But the position that this is not a “scope of arbitrable issues” arbitrability question is, in my view, flawed. Whether the parties’ agreement provides for arbitration over the alleged unfair treatment by the bank of a credit card holder other than the named claimant seems to me to be just as much a scope issue as whether the sgreement provides for arbitration of the named claimant’s unfair treatment claim. In my view a matter of procedure is a matter concerning how the arbitrator organizes proceeding leading to the final adjudication of the claimant’s claim. If the arbitrator were permitted to decide whether she may also adjudicate claims belonging to absent claimants for whom the nominal claimant wishes to be a proxy, she would not be deciding only the procedure for getting to a result on the claimant’s claim.


The politically-charged access to justice considerations associated with disputes over class arbitration appear to have been as divisive within the Third Circuit as they were on the Supreme Court in Stolt-Nielsen. Regrettably, these considerations threaten to interfere with precise analysis. Within the framework of federal jurisprudence on the allocation of decisions between courts and arbitrators, the unconscionability issue in Puleo v Chase seems to have been clearly one for the court. Taking that view should not brand its proponents as opponents of arbitral class actions merely because, in this case, the District Court held that the class action waiver was not unconscionable. Indeed a growing body of federal appellate jurisprudence has sustained district court decisions finding such waivers in comsumer contracts to be unconscionable under applicable state law. District courts in the Third Circuit, such as the one in Puleo v Chase, have been inhibited from so ruling by a much-criticized Third Circuit decision in 2007 (Gay v CreditInform, 511 F.3d 369) that suggested in dicta that Pennsylvania unconscionability law as applied to class action waivers is pre-empted by the Federal Arbitration Act. But the Third Circuit in a subsequent case held that New Jersey law as applied to class action waivers is not pre-empted by the FAA (Homa v. American Express, 558 F.3d 225).


Last week the Supreme Court accepted certiorari in a case from the Ninth Circuit, in which the Court affirmed a District Court decision finding an arbitral class action waiver unconscionable under California law. (AT&T Mobility v. Concepcion). The Supreme Court has agreed to consoider whether the FAA pre-empts California law because the unconscionability principles applied are specific to arbitration clauses and not applicable to contracts generally. (Discussion of that issue will be the sunject of a future Commentary).

Canada’s Supreme Court Applies Alberta’s General Two-Year Limitations Period for Civil Actions to Proceedings to Enforce Foreign Arbitral Award

Friday, May 21st, 2010

Yesterday the Supreme Court of Canada held unanimously that Alberta’s two-year Statute of Limitations applicable to actions seeking “remedial orders” applies to an action for recognition and enforcement of certain foreign arbitral awards.  The consequence was to affirm judgments of the Alberta trial and appellate courts that had dismissed as time-barred the application of a Russian oil services company to enforce an award of nearly $1 million against an Alberta supplier made in Russia by an international arbitral tribunal.


Unlike the Federal Arbitration Act in the United States, Alberta’s International Commercial Arbitration Act incorporates both the New York Convention and the UNCITRAL Model Law on International Commercial Arbitration, but contains no limitations period for the commencement of an action to obtain recognition and enforcement of a foreign arbitral award.   The New York Convention expressly reserves matters of judicial procedure relating to the enforcement of Convention awards to the jurisdiction in which recognition and enforcement are sought, and so there is little question as a matter of international law of the right of an enforcing jurisdiction to decide what shall be the limitations period governing such proceedings.


But Alberta incorporated the Convention and the Model Law into its international arbitration legislation in 1986, and in the intervening 24 years had not seen fit to ordain, within that statute, a limitations period specifically applicable to enforcement of awards.  So the curious question in this case – Yuganreft Corp. v. Rexx Management Corp., 2010 SCC 19 (May 20, 2010)) – at least to this avid reader and self-proclaimed Canadian sympathizer – was why should the courts find that any limitations period not  expressly applicable to foreign arbitral awards such as the one at issue in the case should be construed to apply?  Alberta’s (domestic) Arbitration Act contains an express two-year limitations period for enforcement of domestic awards, and expressly excludes foreign awards from that  prescription without establishing a different period.  Alberta’s Reciprocal Enforcement of Judgments Act (REJA) fixes a six-year period for enforcement of foreign arbitral awards made in jurisdictions that reciprocally recognize and enforce Canadian judgments. The REJA was silent as to a limitation period for incoming awards from non-reciprocating States such as Russia. (Note: Russia as a member State of the New  York Convention presumably does reciprocally enforce arbitral awards made in Canada — a fact not noted by the Court.) Given the presumably not inadvertent silence of two Alberta statutes dealing specifically with limitations periods for enforcement of arbitration awards, was there not good reason for the Supreme Court of Canada to conclude that Alberta had decided not to impose a limitations period on foreign awards issued by States that do not reciprocally enforce Canadian court judgments but do reciprocally enforce Canadian arbitration awards?    


The Court relies mainly on legislative history of the Limitations Act, which supports the position that Alberta intended to establish comprehensive and uniform application of the two-year limitations period to nearly all claims seeking a “remedial order” (that term being defined as an order “requiring a defendant to comply with a duty or to pay damages for violation of a right).”  But the Court was unable to cite any legislative history indicating that Alberta intended to treat applications to enforce foreign arbitral awards  as requests for a “remedial order” akin to a civil actions seeking to vindicate the underlying contract rights . One can readily agree with the Court that the Limitations Act was “intended to be pervasive.“   But pervasive in what domain?  Enforcement of foreign arbitral awards entails a distinctive public policy considerations that are not implicated in the regulation of limitations periods for ordinary civil actions.  Perhaps it was to vindicate that view that the organized Canadian international arbitration community (including ADR Chambers and the Canadian Arbitration Congress), joined by the London Court of International Arbitration, were intervenor participants in support of the Russian appellant in this case. But their position was not embraced.  


It is a hazardous matter for a U.S. practitioner to comment critically on the application of principles of statutory construction by a foreign court to the legislation of one of its federal states. But it does appear that given Alberta’s substantial commitment to promoting international arbitration through its adoption of the Convention and the Model Law, the Court was perhaps too willing to draw inferences about Alberta’s intent to apply its general limitations rules to foreign award enforcement from such equivocal  indicia of legislative intent as the mere fact that Alberta revised its Limitations Act several years after it had adopted of the Convention and the Model Law.  The international comunity has reason to be disappointed in the Canadian Supreme Court’s approach in this case.


More Support for Limiting Arbitral Subpoena Power

Thursday, May 13th, 2010

A federal magistrate judge in Chicago last week quashed an arbitrator’s  subpoena for the pre-hearing deposition of a non-party witness, citing with approval decisions of the Second, Third, and Fourth U.S. Circuit Courts of Appeal  that interpret Section 7 of the Federal Arbitration Act to permit an arbitrator to subpoena witnesses only to appear before the arbitrator at a hearing and to bring with them to the hearing requested material documentary evidence. The magistrate judge also quoted with approval from a decision of the Seventh Circuit Court of Appeals: “The choice of arbitration is a choice to trade off certain procedural safeguards . . . against hoped-for savings in time and expense (other than the expense of the tribunal), a measure of procedural simplicity and informality, and a differently constituted tribunal.”  (Matter of Arbitration Between Gloria Ware v. C.D. Peacock, Inc., 2010 U.S. Dist. LEXIST 44737 (N.D. Ill. May 7, 2010), quoting from Smith v. American Arbitration Ass’n, 233 F.3d 502, 506 (7th Cir. 2000).

More Fuel on the Fire Concerning Section 1782 in Arbitration

Tuesday, May 11th, 2010

Last week a federal district court judge in New York granted an application made by Chevron Corporation, pursuant to 28 U.S.C. Section 1782, to obtain discovery from a non-party in the United States for use as evidence in a ICSID arbitration between Chevron and the Republic of Ecuador. (In re Application of Chevron Corp., Misc. No. 19-111 (S.D.N.Y. May 6, 2010). A copy of the not- officially-published decision is linked here.) That arbitration is taking place under the UNCITRAL Rules, based on the Bilateral Investment Treaty (“BIT”) between Ecuador and the United States. Two commentaries on a Partial Award in that arbitration have appeared in Arbitration Commentaries in recent weeks.

It is of course a much-debated, and sporadically litigated, question whether a private commercial arbitration tribunal constituted pursuant to a private commercial contract is a “foreign or international tribunal” as that term is used in Section 1782. That question was not presented in the Chevron matter. It is not controversial that an ICSID tribunal, whose facilities for arbitration exist by reason of one international treaty – the Washington Convention — and the use of which is agreed upon in another international treaty – the BIT between nation states – is indeed an “international tribunal” under Section 1782. The U.S. Supreme Court’s analysis of the legislative history of Section 1782 in the Intel case (Intel Corp. v. Advanced Micro Devices, Inc., 542 U.S. 241 (2004)) makes it plain that arbitral bodies established by inter-governmental agreements were clearly intended to be covered by the statute.

The Chevron court need only have drawn this clear distinction to resolve the case. But instead, after drawing this distinction, it wrote more expansively, giving advocates of the use of Section 1782 in private arbitration new ammunition. The Court wrote:

“As an initial matter, the arbitration here at issue is not pending in an arbitral tribunal established by private parties. It is pending in a tribunal established by an international treaty, the BIT between the United States and Ecuador, and pursuant to the UNCITRAL Rules. Further, in [Intel…], which post-dated National Broadcasting (the NBC v. Bear Stearns case from 1999 in which the Second Circuit held that 1782 does not apply to a private ICC arbitration), the Supreme Court in dictum quoted a law review article for the proposition that ”[t]he term ‘tribunal’. . . includes investigating magistrates, administrative and arbitral tribunals, and quasi-judicial agencies, as well as conventional civil, commercial, criminal, and administrative courts.” In the wake of Intel, at least two district court in our Circuit and one in the Third Circuit have followed the Supreme Court’s dictum and held that international arbitral bodies operating under UNCTITRAL rules constitute “foreign tribunals” for purposes of Section 1782. This Court agrees.”

Unfortunately, this analysis begins with clarity and dissolves into confusion. Two of the three post-Intel district court cases mentioned in this quoted excerpt were BIT cases. But the third, decided by a federal district court in Delaware, involved an electric power supply contract between what appears to have been either an El Salvador energy agency or a state-owned company in El Salvador, and the affiliate of a U.S. energy company. The contract provided for arbitration under the UNCITRAL Rules. The published opinion in the Delaware case cited by the Chevron court was a decision denying a motion for reconsideration of the order granting Section 1782 discovery, and that opinion contains merely a conclusory assertion that Intel and post-Intel district court decisions indicate that Section 1782 “does indeed apply to private foreign arbitrations.” The original order granting Section 1782 discovery was made entirely without findings of fact, conclusions of law, or any statement of reasons. (It is found on PACER in the case docket.) And the El Salvador entity, in its application (also on PACER), elided the question of its relationship to the El Salvador government.

So, future arbitral Section 1782 applicants, and commentators bullish on use of Section 1782 in arbitration, should tread carefully if they attempt to place the Chevron case in the private commercial arbitration camp. It truly does not belong there. Its citation of the Delaware case appears to have been made without careful study of the record in that case. (To make matters even more complicated, that decision was vacated and remanded as moot by the Third Circuit, a subsequent history overlooked by the Chevron court). And perhaps an argument can be made that if Section 1782 reaches an investor-state arbitration under a BIT, it may fairly be said to reach the scenario of the Delaware case, i.e. an investor-state arbitration under a bilateral contract with a foreign state, providing for arbitration under United Nations (UNCITRAL) Rules. But that is still a far cry from saying that Section 1782 applies to private commercial arbitration based on a bilateral contract between non-state actors to arbitrate under private auspices such as those of the ICDR or the ICC.

I do not here revisit the entire debate, but only sound a cautionary note on whatever new contribution the Chevron case can fairly be said to make.

Court Injunction Against FINRA Arbitration Again Denied

Wednesday, May 5th, 2010

I have reported on three recent occasions concerning judicial decisions on arbitrability in the context of FINRA arbitrations. FINRA is the Financial Institutions Regulatory Authority, successor to the National Association of Securities Dealers, the principal self-regulatory organization of the financial services industry.

In yet another such case, a New York federal judge last week denied a motion by J.P. Morgan Securities, Inc. (“Morgan”) (on its own behalf and as successor to Bear Stearns & Co. (“Bear”)) to enjoin a FINRA arbitration pending in Louisiana. However, the Court declined to enter an order compelling arbitration, interpreting Section 4 of the Federal Arbitration Act to prohibit such an order where a choice of forum clause in the arbitration agreement provides for, or is applied to direct that, the arbitration to proceed elsewhere. (J.P. Morgan Securities, Inc. v. Louisiana Citizens Property Insurance Corp., 2010 U.S. Dist. LEXIS 42953 (S.D.N.Y. April 30, 2010).

Morgan and Bear had acted as co-underwriters on a $1 billion bond issue for the Louisiana company that commenced the arbitration. The company also entered into interest rate swaps with affiliates of Morgan and Bear to hedge its exposure on the bonds. When the market for auction rate securities (ARS) based on the bonds collapsed in 2008, interest on the bonds soared, causing losses well beyond the protection offered by the swaps. The company alleged fraud by Morgan and Bear in failing to disclosure their activities as market-makers in the ARS market.

As noted in my prior commentary, FINRA arbitrability decisions are often for the court not the arbitrators in the first instance, if a party seeks judicial intervention on that issue, becasue customer arbitration often arises not from a bilateral agreement to arbitrate with the customer, but from the FINRA member’s agreement with FINRA to submit disputes with customers to arbitration under FINRA’s Arbitration Rules at the customer’s request – provided the dispute arises out of the business activities of the firm with the customer. (As explained in this most recent decision, the customer is considered a third-party beneficiary of the FINRA-member firm agreement.) The reason for this, the Second Circuit and New York federal courts have held, is that the FINRA-member firm arbitration agreement does not provide the needed “clear and unmistakable evidence” that the member firm and its adversary in a particular case intend to submit arbitrability issues to the arbitrators.

The district court in J.P. Morgan Securities, after finding that its powers to enjoin arbitration are derived from Section 4 of the FAA even though that provision does not explicitly confer such power, declined to issue the injunction. The court held that the relationship of issuer and underwriter was indeed a member-customer relationship. It based this decision on a Third Circuit Court of Appeals case that had similarly held, and the Third Circuit’s reference to an NASD committee statement that the compulsory arbitration provision in the NASD Code was intended to cover disputes over a proposed underwriting. The court then proceeded to find that the case involved Morgan and Bear’s business activity with the member, as the alleged fraudulent nondisclosure of the role as market-maker “relate[d] directly to plaintiffs’ role as underwriters of the ARS bonds….”

The court declined, however, to compel arbitration, finding that FINRA’s designation of New Orleans as the venue of the arbitration, based on the venue-selection powers conferred in the FINRA Rules, had the effect of divesting any district court other than a district court at the arbitration venue from entering an order compelling arbitration.The key language of FAA Section 4, in the court’s view, is that “The hearings and proceedings, under such agreement, shall be within the district in which the petition for an order directing such arbitration is filed.”

While noting that some courts had interpreted Section 4 to allow a district court to compel arbitration in its own district notwithstanding the choice of another venue in the arbitration agreement, the court held that to do so would in its view ignore the statutory directive to compel arbitration “in accordance with the agreement.” The court noted that, of course, the arbitration claimant could seek an order compelling arbitration in the federal district court at the place of the arbitration.

Interim Measures: Renewed Stringency in U.S. Injunction Standards

Tuesday, May 4th, 2010

Arbitration practitioners should take note of a trend toward renewed stringency in U.S. judicial application of historical equitable standards for the granting of preliminary and permanent injunctions. The trend is most recently reflected in an important copyright law decision from the US Second Circuit Court of Appeals, discussed today in a new posting that will appear in the Legal Developments section of my website. Transnational principles governing the issuance of interim measures by international arbitrators are substantially informed by standards in domestic courts of major legal systems. As the recent U.S. trend dictates a return to a more rigorous application of rules with a common law heritage dating back to the earliest days of federal equity practice, it is reasonable to expect that such decisions will be discussed in, and affect analysis of interim measures applications in, international arbitrations involving American parties, counsel, and arbitrators.


While at the website, also read about the latest decision from the Second Circuit on securities fraud liability of attorneys who assist clients with sham transactions.

And visit the Counsel Culture Corner, with updated event and exhibition listings through mid-May.