Arbitration Process Issues

This action arises out of a grievance filed by Theresa Taylor, a blind vending machine operator, with the Wisconsin Department of Workforce Development (DWD) over the DWD’s decision to award Jocelyn Belsha, another blind applicant, a bid to operate the vending machine at the Racine/Sturtevant correctional facility over Taylor. In 2007, Taylor accepted the DWD’s invitation to run the vending machines at three Wisconsin correctional facilities on an interim basis. In 2011, the DWD bid out these sites on a permanent basis, granting Belsha a bid to operate the vending machine at the Racine/Sturtevant correctional site.

In July 2015, the DWD convened a three-member arbitration panel to hear Taylor’s grievance.  The arbitration took place in September 2017, and in February 2018, the arbitration panel rendered a decision finding that the DWD “acted in an arbitrary, capricious and biased manner” when it failed to award Taylor the Racine/Sturtevant site during the two selection processes and that Taylor had proved her case “by substantial evidence,” even though she would have also prevailed under a “preponderance of the evidence” test.

The DWD filed a petition for judicial review of the arbitration panel’s decision favoring Taylor. The U.S. District Court for the Western District of Wisconsin vacated the arbitration award, ruling that there were no material deficiencies in the choice of Belsha for the Racine/Sturtevant site, the arbitration panel’s key factual findings were not supported by substantial evidence, and the arbitration panel’s ultimate conclusion was arbitrary and capricious.

Taylor appealed to the Seventh Circuit, which affirmed the district court’s decision. The Seventh Circuit held that Taylor’s appointment to Racine/Sturtevant by the arbitration panel ran afoul of administrative procedure in several ways.

First, the arbitration panel misapprehended the burden of proof — the Seventh Circuit held that preponderance of the evidence, rather than substantial evidence, was the correct burden of proof during the arbitration proceeding and that the arbitration panel fundamentally erred when it applied the substantial evidence standard.

Second, the key factual findings by the arbitration panel were not supported by substantial evidence — the Seventh Circuit held that the panel’s finding that the DWD should have evaluated Taylor based on earlier profitability data rather than more recent data in reinterviews was not supported by substantial evidence, under the Randolph-Sheppard Act, since there were only two questions in the selection criteria that assessed profitability data, and the record did not contain evidence of what operators’ scores would have been using recent data.

Third, the Seventh Circuit found that the arbitration panel’s decision for Taylor as the best operator for the Racine/Sturtevant site was contrary to the evidence and thus arbitrary and capricious.

State of Wisconsin, Dep’t of Workforce Development-Division of Vocational Rehabilitation v. U.S. Dep’t of Education, 980 F.3d 558 (7th Cir. 2020).

This litigation involved 21 parties spread across six different arbitrations in front of six different arbitrators. The litigation arose out of a dispute between two doctors, their business entities, and captive insurers (the plaintiffs), and a lawyer, law firm, and its affiliates (the defendants). The doctors engaged the defendants to create captive insurers and tax shelters for the doctors. After the U.S. Tax Court issued a ruling with negative consequences for the shelters, the doctors asked the defendants to “liquidate and wind down” the doctors’ program, but the defendants refused.

The Arbitrations

Both sides sought arbitration: the defendants brought the first arbitration in Houston, Texas, before Judge Dorfman, and the plaintiffs brought the second arbitration in Louisiana before Judge Duval. The plaintiffs also commenced a lawsuit against the defendants in Texas state court, alleging breach of contract, breach of fiduciary duty, tort, legal malpractice, and breach of professional obligations, which was removed to the U.S. District Court for the Southern District of Texas, in which the defendants moved to compel the doctors’ business entities’ participation in the Texas arbitration. The plaintiffs responded with a cross-motion to compel the defendants to join in the Louisiana arbitration and to challenge the Texas arbitration, while also seeking a stay of the Texas arbitration pending a ruling on the motions. The defendants then initiated a third arbitration before Judge Baker in Houston Texas, asserting additional claims that the defendants were denied leave to supplement their arbitration demand in the first arbitration.

The district court granted the defendants’ motion to compel and ordered the parties to arbitrate two of their disputes before Judge Dorfman and Judge Baker in Houston, relying on a written arbitration agreement between the parties that required all arbitrations to be conducted in Houston. The district court denied the plaintiffs’ motion to compel arbitration in Louisiana and stayed the arbitration pending before Judge Duval and the related proceedings in the federal litigation so that the Texas arbitration could go forward. The plaintiffs appealed the district court’s decision to stay the litigation.

While the district court was making its decision to stay the litigation, the plaintiffs filed a fourth arbitration before arbitrator Robert Kutcher in Louisiana. The plaintiffs thereafter filed a fifth arbitration, based on allegedly newly discovered facts, before Judge Medley in Louisiana, and a sixth arbitration before Judge Gill-Jefferson in Louisiana, but the plaintiffs requested that the new arbitrations be held in Houston.

Defendants’ Emergency Motion to Lift the Stay

After the district court issued its decision to stay the litigation, the defendants filed an emergency motion asking the district court to lift its stay and enjoin the fourth, fifth, and sixth arbitrations, arguing that these Louisiana arbitrations were proceeding in an improper venue and were inefficient “copycat” arbitrations seeking to resolve the same “core dispute” at issue in the Judge Baker and Judge Dorfman arbitrations in Texas.

The district court found no appropriate circumstances justifying an order lifting the stay in the case or staying the recently filed fourth, fifth, and sixth arbitrations. The district court recognized the interesting procedural questions that arose with respect to whether only the final hearing, or also interim hearings, must occur in Houston — as the arbitrators in these later-filed arbitrations were hearing disputes virtually via Zoom and some had issued interim decisions from Louisiana, but none had required the parties to travel to Louisiana. The district court also rejected the defendants’ argument that the fourth, fifth, and sixth arbitrations were inefficient “copycat” arbitrations, noting that the arbitration agreement did not preclude the parties from proceeding with separate arbitrations for disputes involving overlapping but different facts.

However, the district court concluded that while the more recently filed arbitrations must “proceed” in Houston under the arbitration agreement, the required location for interim hearings, the manner in which arbitrators must appear in a location, and permissible consolidation procedures are disputes about procedural questions that are best left for the arbitrators to address, not the court.

Defendants’ Motion to Confirm the Final Award

After the emergency motion was filed, Judge Dorfman issued a final award in the first arbitration, finding that the defendants were not required to immediately wind down and liquidate the captive insurers. The defendants moved to confirm that award before the district court.

The plaintiffs argued that the district court lacked jurisdiction to lift the stay it imposed in the litigation and confirm the award by Judge Dorfman because the plaintiffs were appealing the district court’s decision allowing arbitration before Judge Dorfman. Rejecting the plaintiffs’ argument that it lacked jurisdiction to lift the stay, the district court noted that this case involved several arbitrations that were not implicated by the plaintiffs’ appeal, and thus it had jurisdiction to lift the stay to address issues in arbitration proceedings not implicated by the plaintiffs’ appeal.

The district court, however, agreed with the plaintiffs that their appeal targeted Judge Dorfman’s appointment and his ability to preside over the parties’ arbitration. Because the defendants were asking the district court to confirm an award Judge Dorfman granted, which would require the district court to decide that Judge Dorfman had the power to grant an arbitration award, the district court recognized that such a decision may conflict with a decision of the appellate court. The district court therefore declined to exercise jurisdiction over issues currently on appeal.

The district court explained that these proceedings were “inefficient and messy” when it compelled arbitration back in August 2020, but since “the parties applied their contract to make this mess but agreed that arbitration would resolve their disputes, no matter how messy,” the district court was not going to “step in to clean it up and risk making it worse.” The district court simply refused to interfere.

Sullivan v. Feldman, No. 4:20-cv-02236 (S.D. Tex. Dec. 4, 2020).

A federal court recently refused to compel arbitration after it concluded that there had been no refusal to arbitrate. The court also refused to appoint arbitrators for the parties.

Linda L. Allen claimed Horter Investment Management, LLC’s “representatives sold fraudulent and unregistered investments.” She claimed those claims were subject to arbitration pursuant to a clause in a client agreement that provided that “[c]lient and [a]dvisor both agree that all controversies which may arise between them concerning any transaction or construction, performance or breach of this agreement that cannot be settled, be submitted to binding arbitration.”

Allen and her fellow plaintiffs moved to compel arbitration or, in the alternative, for the appointment of arbitrators. Horter responded that the plaintiffs lacked standing because it had not refused to arbitrate and was participating in the selection of arbitrators.

The United States District Court for the Southern District of Ohio (Western Division) agreed with Horter. Although the plaintiffs “initiated arbitration with the AAA, but the AAA declined to administer the clams because of [Horter’s] past actions,” the court did “not find that [Horter’s] acts amount to an unequivocal refusal to arbitrate. Instead, Defendant has expressly acknowledged the agreement to arbitrate. The parties have been working together in the Bruns case and this case to reach an agreement regarding the selection of arbitrators. The Court notes that some of the delay in this process is attributable to Plaintiffs’ change in position regarding consolidated arbitration.” The court also declined to appoint arbitrators because “[b]oth parties are amenable to private arbitration and the names of specific arbitrators have been exchanged.”

Linda L. Allen, et al. v. Horter Investment Management, LLC (S.D. Oh. Sept. 30 2020).

A court recently granted a temporary restraining order enjoining a FINRA arbitration from proceeding after the court concluded that there was a serious question regarding arbitrability.

Barry Horowitz, an estate planning attorney who had a relationship with Lincoln Financial Securities Corporation, allegedly referred some clients to Thomas D. Renison, an insurance agent.

Renison was charged with federal crimes (though those charges were later dropped). Renison nevertheless was barred from the securities industry. Horowitz ultimately terminated his relationship with Renison as a result of these alleged improprieties.

Several of Horowitz’s clients whom he had referred to Renison claimed that Horowitz and Lincoln Financial were liable for damages caused by Renison’s alleged fraud.

The clients sought to arbitrate the dispute under FINRA’s arbitration rules. Horowitz and Lincoln Financial sought to stay those proceedings, but when those requests were denied, filed a declaratory judgment action seeking a declaration that the clients did not have a right to compel arbitration because there was no written arbitration agreement between the parties, and FINRA did not apply. Horowitz and Lincoln Financial sought a temporary restraining order enjoining the FINRA arbitration from proceeding until a court could rule on the question of arbitrability.

The United States District Court for the District of Connecticut granted the temporary restraining order requested by Horowitz and Lincoln Financial. The court noted that, under Second Circuit precedent, Horowitz and Lincoln Financial would be irreparably harmed if they were forced to expend time and resources arbitrating an issue that was not arbitrable. The court also concluded that Horowitz and Lincoln Financial had raised a serious question as to whether FINRA applied because there was an open question as to whether the clients were their “customers” within the meaning of FINRA Rule 12200. Finally, the court found that the hardships tipped decidedly in favor of Horowitz and Lincoln Financial because a temporary restraining order maintained the status quo, and because arbitrability rested on a binary legal question.

Lincoln Fin. Sec. Corp. v. Foster et al., No. 3:20-cv-01132-VLB (D. Conn. Oct. 20, 2020).

In a case where both the plaintiffs and the defendant agreed the matter should be arbitrated, the Southern District of Ohio refused to compel arbitration and denied the plaintiffs’ motion for the appointment of arbitrators. The parties’ contract provided for arbitration before the American Arbitration Association, but the AAA declined to administer the arbitration because the defendant “failed to comply with the AAA’s policies regarding consumer claims.” Both parties were amenable to private arbitrations, but they could not agree whether the arbitration should be conducted individually or as one consolidated arbitration. As a result, the plaintiffs argued that the parties had reached an impasse and requested that the court either compel arbitration or appoint arbitrators.

The court first held that a party may not seek to compel arbitration under Section 4 of the FAA “where there has been no refusal to arbitrate.” “A party has ‘refused to arbitrate’ within the meaning of Section 4 if it commences litigation or is ordered to arbitrate the dispute by the relevant arbitral authority and it fails to do so.” The court denied the motion to compel arbitration under Section 4 because it found that the defendant had not unequivocally refused to arbitrate. Rather, the defendant expressly acknowledged the agreement to arbitrate, and the parties were working together to select arbitrators, but had so far failed to agree. Although the parties had not been able to agree on arbitrators for more than a year, the court found that some of this delay was attributable to the plaintiffs’ change in position regarding consolidated arbitration.

With regard to the plaintiffs’ motion for appointment of arbitrators, the court noted that the FAA “expressly favors the selection of arbitrators by parties rather than courts[, however,] Congress recognized that judicial intervention may be required in certain circumstances.” Section 5 of the FAA provides for the appointment of arbitrators “if for any [ ] reason there shall be a lapse in the naming of an arbitrator.” For purposes of Section 5, a “lapse” has been defined as “a lapse in time in the naming of the arbitrator … or some other mechanical breakdown in the arbitrator selection process.” Several courts have found such a “lapse” to have occurred where the parties have deadlocked with regard to the appointment of arbitrators or the process pursuant to which the appointments should be made. Here, despite the one-year delay, the court found that no deadlock had occurred, as the parties both agreed that they were amenable to private arbitration and the names of specific arbitrators had been exchanged. In addition, the AAA had informed the parties that it would consider accepting the arbitration if the defendant took certain steps.

As a result, the court found that it lacked jurisdiction under Section 4 to compel arbitration and under Section 5 to appoint arbitrators, and dismissed the action without prejudice.

Allen v. Horter Investment Management, LLC, Case No. 1:20-cv-11 (S.D. Ohio Sept. 30, 2020).