Once is legally interesting, twice is a trend, and three times is a message. In the last seven years, at least three federal appeals courts (two very recently) have held, following an arbitration ordered by a district court, that the lower court had no jurisdiction over the claims, rendering its order to compel arbitration void. As either a party or counsel, there are two interesting questions here: (1) what do you do when you potentially face a ruling nullifying an order to compel arbitration when that arbitration has already been held; and (2) what can you do to prevent number one from happening?
Background
First, some background on how we got here. As counsel, many of us had drilled into our heads that the first thing we need to look at in responding to a complaint (other than whether the client has insurance for the claim) is whether the dispute is covered by an applicable arbitration provision. If such a provision exists, we are told that the first substantive filing in response to the complaint should be a motion to compel arbitration. Filing first prevents the other side from even attempting to argue that you waived your ability to move to arbitrate. What happens if your motion is granted, you arbitrate, then on a motion to vacate (or opposition to motion to confirm) the arbitration, the appeals court finds that the order to arbitrate was invalid because the trial court had no jurisdiction over the claim?
The Conundrum
A few federal appeals court cases demonstrate how the failure to consider the jurisdiction of the court when moving to compel arbitration can potentially come back to cost your client both time and money.
Third Circuit
Let’s start with the recent Third Circuit case, George v. Rushmore Service Center, LLC, et al., 114 F. 4th 226 (August 13, 2024). In George, the Plaintiff asserted a (class action) claim under the Fair Debt Collection Act. The defendant moved to stay pending individual arbitration, the plaintiff asserted that the claim was not arbitrable, and the district court ordered arbitration. The claim was individually arbitrated with the Claimant challenging arbitrability before the arbitration tribunal. The Claimant lost and moved to vacate; vacatur was denied. An appeal followed to the Third Circuit. There the Court held that the party moving to vacate – George – didn’t have standing to bring the initial FDCA claim and therefore the district court had no jurisdiction over the claim. Without jurisdiction, the order to arbitrate was void and vacated. The Third Circuit remanded the case and left the question about what to do with the completed arbitration to “the proper forum.”
Second Circuit
Shortly after the George decision, the Second Circuit was faced with a similar issue in Herkovic v. Verizon Wireless (September 17, 2024) (non-precedential). The plaintiff sued in state court over allegedly illegal collection actions. Verizon removed the case to federal court and moved to compel arbitration. The district court granted the motion and stayed the case. The arbitration was completed (with the arbitrator ruling for the Claimant but ordering no damages). On a motion to vacate, the district court affirmed the arbitration. However, upon appellate review, the Second Circuit found that the case had not been properly removable and remanded it to the state court. Like the Third Circuit in George, the Second Circuit did not affirmatively rule on what happened to the completed arbitration.
Fifth Circuit
It is not just a motion to compel response to a complaint that can lead to a question on whether a completed arbitration actually ends a dispute. In Lower Colorado River Authority v. Papalote Creek II, L.L.C., 858 F.3d 916 (5th Cir. 2017) the LCRA filed a claim to initiate arbitration in state court on a disputed issue concerning a damage ceiling provision in a contract with defendant. The defendant removed the case and asserted that the issue was non-arbitrable both because the underlying issue was not ripe (a dispute over the meaning of the damage ceiling in the event of a contractual breach when no breach had occurred), and because that issue was not covered by the arbitration clause. The federal district court disagreed and ordered the party to arbitration. The parties arbitrated (where Papalote again argued ripeness) and the arbitrator found in favor of the LCPA. The LCPA then terminated the underlying contract, and paid the ceiling found to be applicable by the arbitrator. Papalote moved to vacate on the ground that the federal court had no jurisdiction to compel arbitration as the case was not ripe at the time of the ruling (though due to LCPA’s post-arbitration action it was ripe at the time of appeal). The Fifth Circuit agreed and vacated the order compelling arbitration, remanded the case and again did not say what should happen to the completed arbitration. The district court (in a convoluted procedural posture ruling in a separate suit brought by Papalote Creek to vacate the award) vacated the arbitration award as the “fruit of an order [it] had entered without subject matter jurisdiction”, but then ruled that the issue was now ripe and ordered the parties to arbitrate…again.
Of interest, perhaps, is that in 2019 the Fifth Circuit again examined this dispute. Papalote Creek II, L.L.C., v. LCRA, 918 F.3d 450 (5th Cir. 2019). The Fifth Circuit, agreeing with Papalote’s original position, held that the damage ceiling dispute was not within the party’s contractual arbitration provision. And it once again remanded the case. But wait … there’s more. The LCRA filed a declaratory judgment action in federal court seeking a ruling that there was a certain numeric cap to its liability for a breach (in effect that the original arbitrator’s decision on the limit of its liability was correct). The trial court, five or six years after the arbitration decision, reached the identical conclusion as the arbitration and the Fifth Circuit agreed. Papalote Creek II, L.L.C., v. LCRA, 2021 U.S. App. LEXIS 21131(5th Cir. July 16, 2021). Imagine the attorney fees incurred by both parties in those five or six years.
What to do, what to do?
If a case in court, already arbitrated, is found to have been improperly brought in that court, what should the court the case is sent down to do with the arbitration when the claim is remanded/refiled. Is the prior arbitration considered res judicata when the federal court was without jurisdiction to order arbitration in the first place? Or is it void like in Papalote? Do you want to take that risk? So, what might you do?
Consider Jurisdiction Before Filing a Motion to Compel Arbitration
First, don’t simply focus on the motion to compel as your initial response. Consider whether the court you find yourself in has the right to rule on a motion to arbitrate (consider standing, federal question, damages sought, diversity, subject matter or jurisdiction in general). If considering removal, perhaps you don’t do it if the grounds are not rock solid. Why run the risk of removal, motion to arbitrate, granting motion, arbitration, then a denial of a motion to confirm on the grounds that removal was improper? Examine the jurisdiction of the court where the complaint was filed. If there are any potential grounds to challenge that court’s right to hear the case, make any jurisdictional argument the initial argument in your brief that contains your motion to compel (“if this court finds it has jurisdiction over the claims, then we move to arbitrate under x and y.”)
This is not a perfect solution – many times you are moving to compel arbitration and if you challenge the jurisdiction as the defendant, if the motion to arbitrate is granted, you have “won”, and if in federal court there generally is no right to an immediate appeal of an order compelling arbitration. Note that some state courts allow an appeal of an order granting or denying a motion to compel. Though potentially more costly up-front, perhaps you want to stay in that state court because if there is a jurisdictional question it would be beneficial to have it decided before an actual arbitration.
Understand that you cannot necessarily litigate yourself to protection from a potential jurisdictional voiding of a prior arbitration. Consider Papalote; it initially objected to a motion to compel on ripeness and arbitrability grounds. Yet they had to arbitrate – then winning the ripeness argument on the first appeal (voiding the initial arbitration), and the arbitrability argument on the second appeal. Then they had to litigate in court and ended up in the same place that they had been after the initial arbitration years before.
Consider Renegotiating the Arbitration Agreement
Perhaps another alternative, though anathema to many inside and outside company counsel, no matter which side of the “want to arbitrate under the existing agreement” you fall, is to consider entering into a new “arbitration agreement” with the other side following the granting of a motion to compel arbitration. Remember that arbitration is a creature of contract, and parties can agree to arbitrate at any time. So, maybe you have a concern about the jurisdiction of the court that granted your motion to compel. Maybe you or the other side objected due to the perceived scope of the existing agreement or of the contractual burden, timing, discovery obligations, number of arbitrators, costs, etc., in that agreement. The post-arbitration order may be a time to negotiate those perceived burdens emanating from the original arbitration agreement, to reach a new binding agreement on the manner and method of the arbitration to be held. Though you may give up some rights, or incur more costs, than you would have in the original arbitration agreement, you have a new agreement to arbitrate that both parties would agree is binding. That way, you confirm that the arbitration held will not be voided on jurisdictional grounds.
While this may cost your client some time, money or efficiency in the short-time, having an agreement that all parties acknowledge is binding can be worth it in the long-run. Just ask the parties that have had to arbitrate a case, and litigate it again, because the initial court had no jurisdiction to order the matter to arbitration in the first case. Was that really worth it?
