Labor & Employment Law Daily Court has primary power to decide whether fraud in the execution meant that no contract containing arbitration provision was ever formed
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Thursday, September 17, 2020

Court has primary power to decide whether fraud in the execution meant that no contract containing arbitration provision was ever formed

By Brandi O. Brown, J.D.

Although the putative agreement incorporated a CBA with an arbitration provision empowering an arbitrator to decide whether an agreement existed, the gateway issue of whether a contract was actually formed nevertheless remained with the court.

In litigation stemming from a union benefits fund’s attempt to force an employer into arbitration over underpaid contributions, the Third Circuit ruled that the court, and not the arbitrator, must determine whether an agreement actually existed when issues of contract formation are raised. The arbitration provision had a delegation provision purporting to empower the arbitrator to decide whether an agreement existed. However, the court explained that under the FAA and its decision in Sandvik AB v. Advent Int’l Corp., unless the parties clearly and unmistakably agree to arbitrate issues of contract formation, and they do so in a contract whose own formation is not in issue, those gateway questions are for the court (MZM Construction Co., Inc. dba MZM Construction Management & Transportation v. New Jersey Building Laborers Statewide Benefit Funds, September 14, 2020, Restrepo, L.).

“Open shop” employer. MZM Construction Company is an “open shop,” according to its president and sole shareholder, and does not ordinarily hire workers based on their union affiliation. However, she averred, when a site owner or general contractor directs it to do so, it will. In 2001 the company hired workers from a local labor union for a New Jersey construction project and later, to avoid potential labor interruptions, the president signed a one-page, short form agreement (SFA) with the union. The president averred that the local union representative, whom she had dealt with for years, told her that it was only for that particular project. The SFA stated that the parties “agree to be bound by” certain agreements, which were collective bargaining agreements (CBAs).

Underpaid contributions. Between 2001 and 2018, the employer made contributions to the New Jersey Building Laborers’ Statewide Benefit Funds (the Funds) for work related to that project, among others, but the Funds concluded they were insufficient. When the employer questioned the basis for the alleged additional liability, the Funds produced the SFA, along with an unsigned copy of the CBA, and warned that if payment were not made, the dispute would be submitted to arbitration. The CBA contained an arbitration clause covering “questions or grievances involving the interpretation and application of this Agreement.” It also included a provision stating that the arbitrator “shall have the authority to decide whether an Agreement exists, where that is in dispute.”

Employer fights arbitration. The Funds unilaterally scheduled arbitration and the employer filed a complaint in district court, seeking to enjoin arbitration and seeking declaratory judgment. The district court enjoined arbitration, denied the Funds’ motion to dismiss, and authorized “expedited discovery.” The court denied the Funds’ motion for reconsideration and concluded that the arbitration provision in question was not “sufficient to send the matter to an arbitrator where a party legitimately disputes whether it ever saw, heard about, or agreed to a CBA at all, and where it even disputes the scope of the SFA that supposedly incorporated the CBA.” The Funds filed multiple appeals, which were consolidated.

Who decides? On appeal, the Third Circuit described the case as one by which it was “confronted with a ‘mind-bending’ question that has been dubbed ‘the queen of all threshold issues’ in arbitration law.” The court had to determine, between a court and an arbitrator, who decides whether an agreement exists “when the putative agreement includes an arbitration provision empowering an arbitrator to decide whether an agreement exists?” In other words, who decides the employer’s defense that it never intended to execute an SFA that incorporated statewide collective bargaining agreements that included an arbitration provision but instead intended only to execute a single-project agreement without any mention of arbitration.

Intersection dispute. First, the appeals court considered whether the district court had the primary power to decide questions about the formation of the contract in light of the delegation provision involved. More specifically, who decides whether an arbitration agreement exists when the formation or existence of the contract that contains it (the “container contract”) is disputed? This dispute, the court explained, “sits at the intersection of the severability doctrine as articulated in Rent-A-Center” and section 4 of the FAA. In Sandvik, which was decided before Rent-A-Ctr, W., Inc. v. Jackson, the Third Circuit held that section 4 of the FAA affirmatively required a court to decide questions about the formation or existence of an arbitration agreement, particularly the element of mutual assent. The court has to resolve those questions even when the answer requires it to pass judgment on the formation of the container contract.

Sandvik still compels outcome. Even after Rent-A-Center, the court explained, the analysis in Sandvik still compelled the outcome in this case, although the court conceded that whether and how it applies is a “thorny issue” post-Rent-A-Center. However, it concluded that the text of section 4 of the FAA “tilts the scale in favor of a judicial forum when a party rightfully resists arbitration on grounds that it never agreed to arbitrate at all.” The court, therefore, chose to “reaffirm” its Sandvik decision and hold that “unless the parties clearly and unmistakably agreed to arbitrate questions of contract formation in a contract whose formation is not in issue, those gateway questions are for the courts to decide.”

Fraud in the execution. Formation of the arbitration agreement was placed “in issue,” the court concluded, by the employer’s claim of fraud in the execution. The company president claimed that she signed the SFA in reliance on the union rep’s assurance that it was a single-project agreement. He did not mention arbitration or advise her that he wanted her to agree to statewide collective bargaining agreements. The president alleged that the union rep did not provide her with copies of the incorporated agreements and that she had good reason to trust and rely on the union rep’s representations. She also claimed she signed the agreement to avoid labor interruptions. The allegations were sufficient to state a claim for fraud in the execution of the SFA by reason of excusable ignorance, the court explained, and without a validly executed SFA, the CBAs could not be incorporated. Without validly incorporated collective bargaining agreements, there could be no arbitration agreement.

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