Contract Formation

Court Upholds Arbitration Provision Despite Allegations of Fraud in Contract’s Execution

March 10, 2020 by Michael Wolgin

The dispute involved the potential trade-in of a car and the purchase of a pickup truck by two customers at a car dealership. During the course of the transaction, one of the customers signed a document that he later learned was a contract including an arbitration provision. Before the transaction was completed, the customers had second thoughts and requested the return of their trade-in and deposit. The dealership refused, insisting that the customers had a binding contract to buy the truck. The customers sued the dealership and certain employees, alleging common law fraud and violations of state consumer protection laws. The defendants moved to dismiss and compel arbitration.

The court granted the motion to compel arbitration and stayed the case. As to the customer who signed the contract containing the arbitration provision, the court found that, although the customer contended that he was deceived into signing the contract, the arbitration provision would be enforced. The provision included a delegation of issues involving arbitrability to the arbitrator. Upon review of New Jersey and federal case law, the court held that unless a plaintiff challenges the validity of the arbitration provision itself, the dispute over the validity of the contract as a whole must be arbitrated. The court found that “precedent compels only one conclusion,” namely, that the arbitrator must decide the validity of their sales contracts and the arbitrability of the dispute.

The court also rejected the argument that the court should permit discovery on the issue of whether the signing customer was fraudulently induced into signing the contract. The court observed, “Importantly, [the customer] is arguing he was fraudulently induced into entering the entire contract, and not just the arbitration provision. A challenge based on fraud in the inducement of the whole contract (including the arbitration clause) is for the arbitrator, while a challenge based on the lack of mutuality of the arbitration clause would be for the court.”

Last, the court stayed the second customer’s claims that were not subject to arbitration because if “the arbitrator finds that the contract, including the arbitration agreement, is invalid, then he will likely return to litigate in this Court, where his action is stayed. In the event that this occurs, it would be sensible for [the two customers] to litigate their claims together, as they initially attempted to do, to avoid inconsistent rulings.” The court therefore stayed the entire case.

Lomonico v. Foulke Management Corp., No. 1:18-cv-11511 (D.N.J. Feb. 20, 2020).

Ninth Circuit Affirms Denial of Motion to Compel Arbitration in Smartphone App Case Based on Obscure “Browsewrap” Arbitration Clause

January 21, 2020 by Brendan Gooley

The Ninth Circuit recently denied a motion to compel arbitration after concluding that an arbitration agreement “buried” in difficult to access terms for a smartphone app did not put users on constructive notice that they were agreeing to arbitration (and a class action waiver).

Huuuge Inc. operated a smartphone application that allowed users to play casino games. Sean Wilson downloaded and played that app for more than a year. Wilson then filed a putative class action alleging that Huuuge violated the state of Washington’s gambling and consumer protection laws by charging users for chips to play the casino games.

Huuuge moved to compel arbitration. It relied on an arbitration agreement and class action waiver in the terms and conditions for the app. The U.S. District Court for the Western District of Washington denied Huuuge’s motion to compel arbitration.

The Ninth Circuit affirmed on appeal. The court explained that a “user would need Sherlock Holmes’s instincts to discover the [t]erms” containing the arbitration agreement. A user could access the terms in two ways. First, before downloading the app, the user could click on a “more” button in the app store, which took the user to a page that discussed the app. The user would then need to scroll down and see a paragraph that began with: “Read our Terms of Use.” Although a “link” was in that paragraph, the user could not click on it. Instead, the user had to copy and paste it into a web browser to access the terms. Second, after downloading the app, the user could click a “three dot ‘kebob’ menu button in the upper right-hand corner of the home page,” which took them to a pop-up menu. The fifth option down on that menu read: “Terms & Policy.” Clicking on that option opened the terms, including the arbitration agreement.

Users were not required to view or assent to the terms and conditions. Thus, the agreement was a classic “browsewrap” agreement, which does “not require the user to take any affirmative action to assent to the website terms.” (In contrast, a “clickwrap” agreement “require[s] users to affirmatively assent to the terms of use before they can access the website and its services.”)

Applying traditional contract law of the state of Washington, the Ninth Circuit concluded that the manner in which Huuuge displayed the arbitration agreement and class action waiver did not put Wilson on constructive notice that he was agreeing to arbitration and a class action waiver. It explained: “Users are put on constructive notice based on the conspicuousness and placement of the terms and conditions, as well as the content and overall design of the app.” Constructive notice did not exist where terms are “buried” or “in obscure corners,” particularly where scrolling to such areas was not required to use the app. Indeed, the Ninth Circuit noted that “[e]ven where the terms are accessible via a conspicuous hyperlink in close proximity to a button necessary to the function of the website, courts have declined to enforce such agreements.”

Huuuge’s terms were not anywhere close to meeting the constructive notice standard.

The court also rejected Huuuge’s claim that Wilson was on actual notice of the arbitration agreement merely because he was “likely” to have viewed the terms at some point because he played the game so much. The court also concluded that Huuuge had waived its request for discovery regarding actual knowledge, noting that Huuuge chose not to pursue such discovery at the outset, instead moved to compel arbitration, and only then sought discovery (and did so insufficiently in a footnote in its reply brief) after moving to compel arbitration.

Wilson v. Huuuge, Inc., No. 18-36017 (9th Cir. Dec. 20, 2019).

California Court Finds Arbitration Agreement Invalid and Unenforceable as a Result of Economic Duress and Undue Influence

November 20, 2019 by Nora Valenza-Frost

The plaintiff, an agricultural laborer, brought suit against his employer who, in turn, moved to compel arbitration based on the arbitration agreement in the parties’ employment contract. The plaintiff opposed, successfully arguing that the arbitration agreement should not be enforced because of economic duress and undue influence.

The court found that all the elements of economic duress were met: (1) a sufficiently coercive wrongful act on the part of the defendant (the arbitration agreement was provided to the plaintiff after he had arrived in California and living in employer-controlled housing); (2) no reasonable alternative on the part of the plaintiff (the plaintiff was in possession of an H-2A visa obtained with the help of the defendants, believed he was only permitted to work for the defendants and had already begun working for the defendants); (3) knowledge of the plaintiff’s economic vulnerability (the defendants acknowledged that employees like the plaintiff often were the sole financial earners in their families); and (4) actual inducement to contract (the plaintiff was in a challenging financial situation with very few financial resources available to him, and no reasonable worker in his shoes could have refused to sign the arbitration agreement).

The court also found that a number of factors suggestive of undue influence were present. Such factors include: (1) discussion of the transaction at an unusual or inappropriate time; (2) consummation of the transaction in an unusual place; (3) insistent demand that the business be finished at once; (4) extreme emphasis on untoward consequences of delay; (5) the use of multiple persuaders by the dominant side against a single servient party; (6) absence of third-party advisers to the servient party; or (7) statements that there is no time to consult financial advisers or attorneys. Here, the plaintiff was presented with the arbitration agreement during a new-hire orientation in a hotel parking lot, at the end of the workday, where he was given no place to sit. Further, evidence was presented that the defendants made insistent demands that the signing of the contracts be completed rapidly, without time to review them, and repeatedly emphasized the negative consequences of failing to comply with the rules. Accordingly, the arbitration agreement was found to be invalid and unenforceable, and the defendants’ motion to compel arbitration was denied.

Martinez-Gonzalez v. Elkhorn Packing Co., No. 3:18-cv-05226 (N.D. Cal. Oct. 29, 2019).

Court Enforces Arbitration Agreement Incorporated Into “Notice to Employees”

November 19, 2019 by Brendan Gooley

The U.S. District Court for the Northern District of Texas compelled arbitration in a putative Fair Labor Standards Act class action based on language in a “notice to employees” that put the plaintiffs on notice that they were agreeing to arbitrate claims in an incorporated (and hyperlinked) arbitration agreement. The court also rejected various other defenses to arbitration raised by the plaintiffs in an attempt to avoid arbitration.

Cotton Patch Café LLC, a restaurant chain, hired Ian Norred to be a server when he was 17 years old. Cotton Patch also hired Rain Bennett when she was 18 years old. Norred and Bennett signed an electronic document titled “Notice to Employees” that contained a section titled “Arbitration Acknowledgment, Safety Pledge and Receipt” and another section titled “Agreement to Arbitrate.” The latter section provided, among other things: “I agree to use binding arbitration, instead of going to court, for any claims, including any claims now in existence or that may exist in the future” against Cotton Patch. It also referred Norred and Bennett to a hyperlink that read “View Agreement” where they could read the full arbitration agreement. The notice to employees also stated: “By my signature below, I acknowledge that I have received and read (or had the opportunity to read the … [a]rbitration [a]greement. …”

Norred sued Cotton Patch claiming that it had violated the Fair Labor Standards Act by not adequately compensating him and other similarly situated employees. Bennett joined Norred’s suit. Cotton Patch responded by seeking to invoke the arbitration provision. Norred and Bennett claimed that they were unaware of the terms of the agreement and could not have assented to them (because the terms were not in the notice to employees and were accessible by hyperlink). They also claimed that there was no valid agreement to arbitrate because the notice to employees did not indicate that Cotton Patch had offered consideration in exchange for the arbitration clause.

Applying Texas contract law, the Northern District of Texas concluded that a valid contract existed and that the contract included the notice to employees and arbitration agreement. The notice to employees contained sufficient language to incorporate the arbitration agreement by reference. The notice to employees was also clear on that point. The arbitration agreement was also supported by mutual consideration and was mutual, requiring all parties to arbitrate.

The court also rejected Norred and Bennett’s defenses. Norred and Bennett argued, among other things, that the contract was illusory because the agreement to arbitrate was unilateral and because Cotton Patch could unilaterally terminate the agreement. The court rejected that argument, noting that the agreement was mutual and Cotton Patch’s power to terminate the agreement did not apply to claims prior to termination. The court also rejected the argument that the language in the agreement established that it applied only to current employees (Norred and Bennett had previously stopped working at Cotton Patch.) Notably, the court rejected Norred’s argument that he was not bound by the agreement because he signed it while he was underage. Although it was true that a minor could repudiate a contract, he had to do so within a reasonable time after turning 18, which Norred did not do in this case. Finally, the court concluded that the agreement between Cotton Patch and Norred and Bennett was not unconscionable.

Norred v. Cotton Patch Café, LLC, No. 3:19-cv-01010 (N.D. Tex. Oct. 22, 2019).

Court Compels Arbitration Based on Clause Incorporated Into Guaranty Agreement

October 10, 2019 by Brendan Gooley

The U.S. District Court for the District of the Virgin Islands recently compelled arbitration after concluding that a personal guaranty incorporated an arbitration agreement from an underlying contract and rejecting various arguments to the contrary.

Solar Leasing Inc. signed a leasing agreement with Dun-Run Holdings to install solar panels at a golf course in the Virgin Islands. William Hutchinson, a principal at Dun-Run, guaranteed Dun-Run’s obligations in a personal guaranty. The leasing agreement contained an arbitration provision, but the personal guaranty did not. The personal guaranty did, however, provide that Hutchinson guaranteed the “performance of any and all financial obligations of the Lessee to the Lessor … subject to the terms and conditions contained in the … Leasing Agreement.”

Solar Leasing subsequently sought to bring suit claiming that Hutchinson, in his capacity as a principal at Dun-Run, had breached the leasing agreement’s terms by, among other things, selling the golf course. Hutchinson sought to compel arbitration under the terms of the leasing agreement. Solar Leasing opposed, arguing that the personal guaranty, which it was seeking to enforce, did not contain an arbitration provision, that even if the leasing agreement’s arbitration clause was incorporated into the personal guaranty, it was not enforceable, and that a condition precedent to arbitration had not been met because the parties were required to first engage in informal efforts to resolve their dispute and then proceed to mediation before arbitration.

The district court sided with Hutchinson and compelled arbitration. The plain language of the personal guaranty incorporated the arbitration provision from the leasing agreement. The personal guaranty did not incorporate only the financial obligations as Solar Leasing suggested. The limitation regarding financial obligations “only describe[d] what [was] being guaranteed, not how th[e] guaranty may be enforced.”

The leasing agreement, meanwhile, clearly articulated a desire to arbitrate by stating that a dispute regarding the leasing agreement would be “resolved by binding arbitration.” Although the leasing agreement did not delineate the process for selecting arbitrators, that was not fatal.

The dispute in the instant case was within the scope of the leasing agreement’s arbitration clause because all of the alleged breaches that Solar Leasing complained of were financial in nature. Even if that was not the case, however, the language was at best for Solar Leasing ambiguous and the court was required to resolve that ambiguity in favor of arbitration.

Solar Leasing, Inc. v. Hutchinson, No. 3:17-cv-00076 (D.V.I. Sept. 20, 2019).