Edward T. Kang, Kang Haggerty & Fetbroyt

In a recent article I co-authored, I discussed the “wholly groundless” exception to delegation clauses under the Federal Arbitration Act, “Should an Arbitrator Determine Arbitrability Where a Claim Is ‘Wholly Groundless’?” The Legal Intelligencer (July 26, 2018). There, I discussed the circuit split on this issue and that the U.S. Supreme Court would soon decide this issue for good. And the court has.

On Jan. 8, writing for a unanimous court in his first written opinion, Justice Brett Kavanaugh held that the wholly groundless exception to arbitrability is inconsistent with the FAA and, therefore, no such exception exists, see Henry Schein v. Archer & White Sales, ___ S.Ct. ___, 2019 WL 122164 (Jan. 8, 2019). The court held “when the parties’ contract delegates the arbitrability question to an arbitrator, a court may not override the contract, even if the court thinks that the arbitrability claim is wholly groundless.” In concluding this, the court stated, “the act contains no ‘wholly groundless’ exception, and we may not engraft our own exceptions onto the statutory text.”

The Henry Schein decision suggests that the wholly groundless exception is no longer recognized and that the arbitrability question must always be answered by an arbitrator when a delegation clause exists. Not so fast.  On Jan. 15, the court issued another opinion recognizing that a court may decide the arbitrability question despite the delegation clause in some cases.  See New Prime v. Oliveira, ___ S.Ct. ___, 2019 WL 189342 (U.S. Jan. 15, 2019).

  • What is the wholly groundless exception?

As discussed in my earlier article, arbitrability of a claim—that is, the question of whether a claim should be arbitrated under the parties’ agreement or litigated in court—has been discussed and debated at length. The article then discussed who decides the arbitrability question. The court or the arbitrator? Depending on who answers the question, the outcome could be different as arbitrators have strong financial incentives to retain jurisdiction over disputes.

Delegation clauses contained or incorporated in an arbitration agreement, which gives arbitrators, rather than the court, the authority to determine arbitrability, can cause a party to be forced to submit to arbitration for claims extremely attenuated from the parties’ agreement that were never anticipated as covered. Certain U.S. circuit courts have addressed this problem by allowing the court to decide arbitrability even where there is a delegation clause when the arbitration claim is wholly groundless. Other circuit courts have rejected this solution, leading to a circuit split on the wholly groundless exception.

  • There is no more wholly groundless exception under the FAA.

Recognizing the circuit split regarding the “wholly groundless” exception, the Supreme Court addressed the question “whether the wholly groundless exception is consistent with the Federal Arbitration Act.” The court held the FAA does not contain a wholly groundless exception, and, therefore, arbitrability must be addressed by an arbitrator when there is a delegation clause.

The facts of Henry Schein are as follows. Archer & White is a small business that distributes dental equipment. It entered into a contract with a predecessor of Henry Schein, a dental equipment manufacturer, to distribute Henry Schein’s dental equipment. The relationship eventually broke down, and Archer & White sued Henry Schein, alleging violations of federal and state antitrust law and seeking both money damages and injunctive relief. The agreement between the parties provided for arbitration of any dispute arising under or related to the agreement, except for, among others, actions seeking injunctive relief. The arbitration provision stated: “Any dispute arising under or related to this agreement (except for actions seeking injunctive relief and disputes related to trademarks, trade secrets or other intellectual property of [Henry Schein]), shall be resolved by binding arbitration in accordance with the arbitration rules of the American Arbitration Association.” Relying on this arbitration provision, Henry Schein sought to compel arbitration. Specifically, Henry Schein argued, because the AAA rules governing the agreement provide that arbitrators have the power to resolve arbitrability questions, an arbitrator—not the court—should decide whether the arbitration agreement applied.

In denying Henry Schein’s request, the district court agreed with Archer & White and concluded that Henry Schein’s argument was wholly groundless. Despite the delegation clause, the district court held Henry Schein’s argument was wholly groundless as the relevant arbitration provision makes an exception for arbitrability of a claim involving injunctive relief, which Archer & White was seeking. As such, the district court denied Henry Schein’s motion to compel arbitration. On appeal, the U.S. Court of Appeals for the Fifth Circuit affirmed the district court’s decision. The Fifth Circuit, along with the Federal, Fourth, Fifth, and Sixth circuits, recognized the wholly groundless exception.

In reversing the Fifth Circuit and rejecting all arguments advanced by Archer & White, the U.S. Supreme Court stated, “we reject the wholly groundless exception.” The court stated, “the exception … confuses the question of who decides arbitrability with the separate question of who prevails on arbitrability. When the parties’ contract delegates the arbitrability question to an arbitrator, the courts must respect the parties’ decision as embodied in the contract.”  I

Based on this unanimous decision issued by the court, the wholly groundless exception question has been finally answered. Then, a week later, the court issued another opinion that seemingly recognized the wholly groundless exception in some cases.

  • The court, not an arbitrator, may decide arbitrability in some cases despite a delegation clause.

Exactly a week after the Henry Schein decision, the Supreme Court issued another unanimous decision—except for the author of the Henry Schein decision, Cavanaugh, who recused himself—giving life back to the wholly groundless exception without explicitly mentioning the term wholly groundless in some cases. In New Prime, the court addressed whether arbitrability of a claim involving a dispute over the FAA’s Section 1’s application should be addressed by an arbitrator because of the delegation clause or by a court.

New Prime is an interstate trucking company, and Oliveira works as one of its drivers. (Oliveira is an independent contractor, and the court addressed another issue relating to whether Section 1 of the FAA covers an independent contractor, which is not relevant to this article.)  The relevant agreements state that any dispute arising out of the parties’ relationship must be resolved by an arbitrator. These agreements also contained or referenced a delegation clause giving an arbitrator the authority to rule on the arbitrability question. After a dispute arose between the parties, Oliveira brought a class action lawsuit in federal court. In response, New Prime moved to compel arbitration based on the parties’ arbitration agreement.

Section 1 of the FAA 1 carves out from the FAA’s coverage “contracts of employment” of workers engaged in interstate transportation. See 9 U.S. Code Section 1 (“nothing herein contained shall apply to contracts of employment of seamen, railroad employees or any other class of workers engaged in foreign or interstate commerce.”). New Prime discusses, albeit briefly, why there is “this very particular” exemption for transportation worker in the FAA.

Relying on this exemption, Oliveira argued, despite the delegation clause in the parties’ agreements, he should not be compelled to arbitrate his case and, more important, the court, not an arbitrator, must address the arbitrability question. Siding with Oliveira’s argument, the court stated, “a court should decide for itself whether Section 1’s ‘contracts of employment’ exclusion [for interstate transportation workers] applies before ordering arbitration.” “While a court’s authority under the FAA to compel arbitration may be considerable, it isn’t unconditional.” This authority does not “extend to all private contracts, no matter how emphatically they may express a preference for arbitration.” The court explained, that before compelling arbitration based on a contract’s terms, “a court must first know whether the contract itself falls within or beyond the boundaries of Sections 1 and 2 [relating to exemption and application].”

The New Prime decision does not refer to Henry Schein. Nor does it refer to the wholly groundless exception.

Conclusion

Henry Schein continues the Supreme Court’s pro-arbitration stance by refusing to recognize the wholly groundless exception. In doing so, the court held that when an agreement delegates the arbitrability question to an arbitrator, the arbitrator (not the court) must address whether a claim is arbitrable. The court found no exception where a court (not the arbitrator) may address the arbitrability question when an agreement contains a delegation clause. In New Prime, however, the court concluded that a court (not the arbitrator) should decide the arbitrability question even if an agreement contains a delegation clause if the contract relates to the exemption in Section 1 of the FAA (relating to interstate transportation workers). Although New Prime involved interstate transportation workers governed by Section 1, it appears if a practitioner could convincingly argue her client’s claim falls outside of the coverage of the FAA, the court could be persuaded into addressing the arbitrability question despite a delegation clause. In making such an argument, however, the practitioner should not use the term “wholly groundless.”

Edward T. Kang is the managing member of Kang, Haggerty & Fetbroyt. He devotes the majority of his practice to business litigation and other litigation involving business entities.