Arbitration is a creature of contract. In the arbitration provision of a business contract, the broadly stated terms—such as "the resolution of all such disputes shall be determined by arbitration in accordance with the rules of [an arbitral entity such as] the American Arbitration Association (AAA)"—are no longer clear enough to grant the arbitral panel, rather than the federal court, the jurisdiction to rule on issues of class-action arbitrability.
In a precedential ruling, the U.S. Court of Appeals for the Third Circuit's decision in Chesapeake Appalachia v. Scout Petroleum, 809 F.3d 746 (2016), cautions that companies should state the terms in the arbitration provision of a contract. Key terms include whether claims such as class actions are subject to arbitration and, in the event of a dispute, the forum where the issue of arbitrability will be determined—either from the federal court or from the arbitral panel. Significantly, the Third Circuit established the rule that, absent "clear and unmistakable" terms stating that the arbitral panel rules on the issue of class-action arbitrability, then the federal court rules on this issue.
Significance
Business contracts containing arbitration provisions often state, generally, that the arbitration is to occur pursuant to the rules of an arbitral entity, such as the AAA or an industry group's arbitration panel. Although the arbitration provision incorporates those rules by reference, it is not unusual for an arbitration provision to include few other terms regarding the mechanics of the arbitration process, including identifying the decision maker for jurisdictional disputes and the availability of class actions or group claims.
The Third Circuit previously ruled in Opalinski v. Robert Half Int'l, 761 F.3d. 326 (3d Cir. 2014), that the availability of class arbitration constitutes a "question of arbitrability" to be decided by the courts—not the arbitrators—unless the parties' arbitration agreement "clearly and unmistakably" provides otherwise. Id. at 329, 335-36. Yet, Opalinski left open the question of what exactly was required for a party to establish such clear and unmistakable intent. The Third Circuit answers this question in the Chesapeake ruling.
The Procedural History
In March 2014, Scout Petroleum filed an arbitration demand, on behalf of itself and similarly situated lessors, against Chesapeake Appalachia, contending that Chesapeake paid insufficient royalties under lease agreements. Scout brought its claims as a class-wide arbitration action before an AAA panel, based upon the following arbitration provision contained in the leases at issue: "In the event of a disagreement between Lessor and Lessee concerning this Lease, performance thereunder, or damages caused by Lessee's operations, the resolution of all such disputes shall be determined by arbitration in accordance with the rules of the American Arbitration Association."
In its response to the arbitration demand, Chesapeake objected to the class arbitration on the grounds that it did not agree to resolve disputes arising out of the leases at issue in class arbitration, nor did Chesapeake agree to submit the question of class arbitrability—i.e., whether claimants may proceed on a class basis in arbitration—to an arbitrator.
In April 2014, Chesapeake filed a declaratory judgment action in the United States District Court for the Middle District of Pennsylvania. Chesapeake sought to avoid a class arbitration by asserting that it had not consented to class arbitration.
While the federal action was pending, the AAA arbitration panel—composed of three retired federal judges—analyzed the arbitration provision and ruled that "the arbitration contract in this case clearly and unmistakably authorizes [the panel] to make the decision about arbitrability." Thus, the arbitration panel decided that, based on the arbitration provision's incorporation of the AAA rules, the panel was the decision maker regarding the issue of whether class arbitration was available under the terms of Chesapeake's leases. The panel then ruled that class arbitration was appropriate.
In the federal court action, Chesapeake then sought and received an order vacating the arbitrators' ruling. On Oct. 16, 2014, the district court held that the arbitrators lacked authority to decide whether class arbitration was appropriate, relying on Opalinski and a Sixth Circuit ruling, Reed Elsevier v. Crockett, 734 F.3d 594 (6th Cir. 2013).
The Third Circuit's Decision
In the Third Circuit, Scout appealed the district court's ruling in Chesapeake, seeking the court to defer to the panel's decision regarding arbitrability. The Third Circuit noted that the day after the district court ruling, which is the subject of this appeal, a different judge in the same district issued a conflicting ruling.
On Oct. 17, 2014, as noted above, a different judge in the same district entered an opinion—concerning the same arbitration language in a different oil and gas lease—reaching a different ruling, essentially agreeing with the AAA arbitration panel's ruling in the Chesapeake case. In this other case, the district court ruled that the AAA arbitration panel authorized the arbitrators, not the court, to resolve the question of arbitrability of the class claims. Chesapeake Appalachia v. Burkett, No. 3:13-3073, 2014 U.S. Dist. LEXIS 148442 (M.D. Pa. Oct. 17, 2014).
The Third Circuit analyzed the two conflicting rulings and reaffirmed the prior ruling of Opalinski, holding that the availability of class arbitration is a question of arbitrability for a court to decide unless the parties unmistakably provide otherwise.
The Third Circuit reviewed the specific lease agreements, analyzing whether the parties had "unmistakably" given authority to a panel of arbitrators to decide whether class arbitration was available. Scout contended that the arbitration provision's reference to the AAA's rules in the lease agreements incorporated all of the AAA's standards, including the Commercial Arbitration Rules and the Supplementary Rules for Class Arbitration, which purport to allow an arbitrator to determine whether the parties have agreed to class arbitration.
Significantly, the Third Circuit noted that the AAA's "Commercial Arbitration and Mediation Procedures" publication is nearly 50 pages long and includes 58 different "Commercial Rules." These rules are couched in terms of individual or "bilateral" arbitration proceedings as opposed to proceedings on behalf of a class. They also generally address basic procedural issues.
The Third Circuit disagreed with Scout, finding that mere reference to the AAA's rules is insufficient to constitute the "clear and unmistakable evidence" required to pass authority from the court to the panel of arbitrators. The Third Circuit acknowledged that no "special incantation" is required to give the arbitrator control over questions of arbitrability, but the incorporation of the AAA's many rules by reference is insufficient to overcome the heavy presumption in the Third Circuit in favor of judicial decision on class-wide arbitrability.
The Third Circuit affirmed the district court's order vacating the arbitrators' decision as to the availability of class arbitration because the parties had not given the arbitrators the authority to make that decision. Thus, the court's opinion focused on the question of "who decides" the issue of class arbitration.
In Chesapeake, the Third Circuit became aligned with the Sixth Circuit as the only federal appellate courts to consider and decide the impact of references to general arbitration rules on the question of who decides whether the parties have agreed to class-wide arbitration. See Huffman v. Hilltop Cos., 747 F.3d 391 (6th Cir. 2014); Reed Elsevier v. Crockett, 734 F.3d 594 (6th Cir. 2013).
Other circuits are anticipated to weigh in more closely on this issue during the coming years. Likewise, the media have given more attention to arbitration provisions, such as the recent series of articles in The New York Times, so there will likely be more disputes regarding the mechanics of how arbitrations should proceed.
Lesson
If the parties seek to incorporate the AAA's—or any arbitral entity's—rules into a contract giving the arbitral panel the authority to determine whether the parties have agreed to specific arbitration mechanics, then a general reference to the AAA rules is not sufficient to allow an arbitrator to determine whether the parties have agreed to classwide arbitration.
Further, the rules set forth by the arbitral entity may change over time from the date the contract was executed to the date of the dispute to the date of the arbitration. Thus, a general reference to an arbitral entity's rules may not specifically identify the particular rules under which the parties seek to proceed.
The terms of an arbitration agreement should: (1) identify the specific rules under which claims are to be decided; (2) describe the types of disputes that are covered by the arbitration provision; and (3) specify where jurisdiction lies for the determination of arbitrability itself, either with the courts or the arbitral panel. Arbitration is a creature of contract, so the contract should be drafted to specifically and clearly memorialize the parties' expectations about how the arbitration proceeding will proceed.
Reprinted with permission from New Jersey Law Journal, © ALM Media Properties LLC. All rights reserved.