Christina Gallo

A New York appellate court has held that a company’s bankruptcy trustee was not bound by an arbitration agreement entered into by the company and an accounting firm.

In this action, Millennium Lab Holdings Inc. and Millennium Lab Holdings II LLC (Millennium Holdings LLC), pursuant to an engagement letter, retained petitioner KPMG LLP to audit their financial statements for certain time periods. The engagement letter contained a clause requiring the arbitration of “[a]ny dispute or claim arising out of or relating to this Engagement Letter or the services provided hereunder.”

In 2014, Millennium Holdings LLC and Millennium Laboratories LLC (collectively, Millennium) entered into a $1,825,000 credit agreement with various banks. On November 10, 2015, Millennium Holdings LLC and its affiliates filed for Chapter 11 bankruptcy. The bankruptcy court confirmed Millennium’s reorganization plan, which resulted in the creation of the Millennium Lender Claim Trust. Respondent Kirschner, as the bankruptcy trustee, commenced a California action against KPMG asserting claims for negligent and intentional misrepresentation.

KPMG brought an article 75 special proceeding to stay the California action and to compel arbitration. The Supreme Court of New York, New York County, granted the petition “to the extent of compelling arbitration on the issue of arbitrability and staying the California action for 30 days.” The trustee appealed.

The appellate court stated that the trial court should have decided the threshold issue of whether the arbitration provision was binding on the trustee, who did not sign the engagement agreement, but in the interest of judicial economy, the appellate court decided this issue.

Reversing the order of the Supreme Court, the appellate court found that KPMG did not meet its “heavy burden” under the direct benefits theory, as the benefits that the investors whose interests the trustee represents derived from the engagement letters between KPMG and Millennium were “merely indirect.” This was so because, in the California action, the trustee did not invoke the engagement agreement, but asserted solely common law claims, and because Millennium and KPMG did not contemplate that the investors represented by the respondent would benefit from the engagement letter.

Moreover, recognizing that for a non-signatory to be compelled to arbitrate, it must have knowingly exploited the agreement containing the arbitration clause, the appellate court found that there was no indication in the record that the investors had actual knowledge of the engagement letters between KPMG and Millennium.

Accordingly, the appellate court unanimously reversed the order of the Supreme Court, on the law, denied the petition and dismissed the proceeding.

In re KPMG LLP v. Kirschner, No. 11400N, Index No. 655664/18 (N.Y. App. Div. Apr. 16, 2020).

A federal judge in the Northern District of Illinois ruled that Chicago derivatives firm DV Trading LLC can force three futures traders to arbitrate claims that it is withholding $1.6 million to defray a $5 million regulatory fine for alleged market manipulation.

In 2016, the Commodity Futures Trading Commission (CFTC) assessed a $5 million monetary penalty against DV to settle allegations that its predecessors’ traders engaged in prohibited wash trading of eurodollar futures contracts between 2013 and 2015. The plaintiffs, who traded futures for DV until August 2016, brought this suit in their individual capacities seeking damages from DV for allegedly violating the anti-fraud, wash trading, and whistleblower retaliation provisions of the Commodity Exchange Act (CEA), and a judgment declaring that the plaintiffs had no obligation to reimburse DV for any portion of the penalty.

DV moved to stay the suit and compel arbitration in 2017, arguing that the claims “arise out of” DV’s holding company’s operating agreement, which calls for the arbitration of employment disputes. The court denied the request in regard to the whistleblower retaliation claim, saying the whistleblower amendment to the CEA “clearly” invalidates an agreement to arbitrate.

After additional briefing, the court denied the motion on the basis that the arbitration agreements were ambiguous, and the traders did not sign them in their individual capacities. But the court noted that the order was without prejudice and that DV could seek to compel arbitration again after discovery.

After limited discovery closed, DV filed a motion to dismiss the CEA and whistleblower claims for lack of standing or, alternatively, to compel arbitration under the doctrines of estoppel and corporate veil piercing.

Although the court considered the CEA claims for estoppel purposes, the court dismissed them for lack of standing, finding that the traders’ companies, rather than the individuals, incurred losses and that the plaintiffs did not have third-party or statutory standing to bring the CEA claims.

Recognizing that under ordinary contract law principles, an arbitration agreement generally cannot bind a non-signatory, the court looked to the limited exceptions to the signatory rule under Illinois contract law and found that the doctrine of direct benefits estoppel applied. The court noted that direct benefits can flow in two ways. First, a party can benefit directly by seeking to sue on the arbitration clause even if it is not a signatory. Second, under certain circumstances, the party may seek to benefit from the agreement containing the arbitration clause.

While the court determined that the plaintiffs did not benefit directly under the operating agreement, because they held an indirect financial stake in the disputed profits as employees and shareholders of their respective companies, the court found that the traders were nonetheless estopped from avoiding the operating agreement’s arbitration clause because the damages the plaintiffs sought from DV’s alleged violations of the CEA’s wash trading and anti-fraud provisions were profits to which they would have been entitled, if at all, through the operating agreement, and thus the plaintiffs sought to benefit directly from the operating agreement. Accordingly, the court granted DV’s motion to compel arbitration as to the declaratory judgment claim.

In addition, because the claim for whistleblower retaliation is nonarbitrable, the court stayed the litigation of this claim pending the outcome of arbitration. The court noted that “the facts alleged in plaintiffs’ whistleblower retaliation claim run a substantial risk of overlapping with facts and issues likely to arise in the arbitration of plaintiffs’ declaratory judgment claim” and that without a stay, the facts surrounding the CFTC’s investigation of DV as well as the interactions between the plaintiffs and DV’s principals will almost certainly be at issue both in this court and in arbitration proceedings.

Elsasser v. DV Trading, LLC, No. 1:17-cv-04825 (N.D. Ill. Mar. 16, 2020).

Pioneer Navigation Ltd. entered into a charter contract with Chemical Equipment Labs Inc. to ship road salt from Venezuela to the United States. The charter contained a force majeure clause and an arbitration clause. The vessel bearing the road salt shipment that was the subject of the charter never received authorization to depart from Venezuela. Chemical Equipment Labs communicated to Pioneer that it believed the Venezuelan government’s failure to authorize the salt shipment constituted a force majeure event that excused its performance under the charter. Pioneer disagreed and initiated arbitration.

In a 2-1 decision, the arbitration panel majority found in favor of Pioneer, noting that the “record of events … is replete with on-scene references to the lack of proper export documentation as the reason for the stoppage and offloading of the Vessel’s cargo.” Thus, the majority concluded that the force majeure clause did not apply because Chemical Equipment Labs did not “carr[y] its burden of establishing that an export permit and authorization were in place for this shipment and that the facts and circumstances leading to the Venezuelan Authorities’ intervention were not unforeseeable and not beyond its control.”

Pioneer then petitioned to confirm, and Chemical Equipment Labs moved to vacate, the arbitration award. The magistrate judge issued a report and recommendation recommending that Pioneer’s petition be granted and Chemical Equipment Labs’ motion be denied. Chemical Equipment Labs objected to the report and recommendation and largely recycled arguments that it made before the magistrate judge. Because the magistrate judge’s thorough and well-reasoned report and recommendation did not misstate the law or otherwise contain clear error, the district judge granted Pioneer’s petition to confirm the arbitration award, denied Chemical Equipment Labs’ motion to vacate the arbitration award, and confirmed the final award.

Pioneer Navigation Ltd. v. Chemical Equipment Labs, Inc., No. 1:19-cv-02938 (S.D.N.Y. Mar. 3, 2020).

In this employment case, Stacy Saunders appealed from the district court’s award of summary judgment in favor of her former employer, Metropolitan Property Management Inc. Saunders’ action against Metropolitan alleged a hostile work environment and retaliation under Title VII of the Civil Rights Act of 1964.

In affirming the district court’s award of summary judgment in favor of Metropolitan on the hostile work environment claim, the Fourth Circuit, focusing on whether an employee’s conduct is imputable to Metropolitan, found that there were no disputed issues of material fact concerning the investigation Metropolitan conducted, as the investigation into the employee’s conduct was reasonably thorough and completed in a timely fashion.

However, after reviewing the record, the Fourth Circuit concluded that there were genuine disputes of material fact with respect to the retaliation claim, mainly whether Saunders would have been fired but for her complaint of sexual harassment. The Fourth Circuit found that there was compelling evidence to support Saunders’ argument that the real reason she was fired was because she engaged in the protected activity of filing a complaint of sexual harassment.

The Fourth Circuit therefore vacated in part the district court’s award of summary judgment and remanded the retaliation claim for further proceedings.

Saunders v. Metropolitan Property Management, Inc., No. 18-2008 (4th Cir. Mar. 18, 2020).

The Supreme Court of Hawaii vacated the decisions of the intermediate appellate court and the circuit court, which found that the plaintiff’s claims against her former law firm and law partner were subject to the arbitration clause in the partnership agreement, remanding the case to the circuit court for further proceedings consistent with its opinion.

In Yamamoto v. Chee, the plaintiff, a former law firm partner, brought an action against the law firm and another partner after they refused to return personal funds that the plaintiff had tendered to repay a retirement account loan, which had already been repaid from the plaintiff’s partnership capital account. The circuit court granted the defendants’ motion to compel arbitration. The plaintiff appealed, and the intermediate appellate court affirmed. The Supreme Court granted certiorari review.

On certiorari, the Supreme Court of Hawaii found that the intermediate appellate court erred when it concluded that (1) the plaintiff’s claims were “in connection with” the partnership agreement; and (2) compliance with Hawaii Revised Statutes section 658A-9’s notice requirements was not required to initiate arbitration.

First, the Supreme Court held that the plaintiff’s conversion claims were not subject to the arbitration provision in the partnership agreement. The court noted that the partnership agreement by its own terms limited the scope of its provisions, including the arbitration clause, to “the conduct of the partnership business,” which was “solely for the purpose of rendering legal services and services ancillary thereto.” Because the “partnership business” was not to lend money or administer 401(k) plans, the arrangement fell outside the “partnership business.” As such, the Supreme Court found that any claims arising from the arrangement did not comprise a dispute “in connection” with the partnership agreement and were therefore not subject to the arbitration clause.

Second, the Supreme Court held that the defendants’ failure to comply strictly with the statutory arbitration notice requirements precluded granting the motion to compel. Relying on the guiding principles in Ueoka v. Szymanski, which mandate strict compliance with section 658A-9’s notice requirements, the Supreme Court found that the requirements of section 658A-9 must be met before a party files a motion to compel arbitration under section 658A-7. The Supreme Court noted that at the time the defendants filed their motion to compel, no letter had been issued by certified mail, no return receipt had been obtained, and therefore any allegations in the motion that the plaintiff had refused to arbitrate were baseless as a matter of law because a party “cannot be found to have refused to arbitrate” until the formal requirements for initiating an arbitration are met.

Accordingly, the Supreme Court vacated the intermediate appellate court’s judgment on appeal and the circuit court’s order compelling arbitration, and remanded to the circuit court for further proceedings consistent with its opinion.

Yamamoto v. Chee, No. SCWC-16-0000260 (Haw. Mar. 2, 2020).