Does the Court or Arbitrator Determine Arbitrability? Once Again . . .

Calling this a “mind-bending” question that is “the queen of all threshold issues,” the Third Circuit Court of Appeal has held that this question is for the courts to decide, “unless the parties have clearly and unmistakably referred those issues to arbitration in a written contract whose formation is not in issue.” That standard hints at a critical issue in the case.

MZM Construction Company was an open shop contractor doing work at the Newark Airport in 2001. The company president signed at that time what she thought was a single project agreement with a laborers’ union. It was a one-page document that referenced a collective bargaining agreement (CBA). MZM’s president said the union rep had told her the one-page agreement was only for the Newark airport project, and indicated that the workers would be pulled off the project by the union if the one-page agreement was not signed.

MZM continued to do work from time to time over the years that required union labor. According to the court decision, the company paid more than $500,000 in benefit funds between 2001 and 2018.

In 2018, the union audited MZM’s records and claimed that another $230,000 was due. When MZM balked, the union sought arbitration. MZM filed a court action seeking to stay the arbitration, arguing that there was no arbitration agreement. The union responded that the one-page agreement signed in 2001 incorporated the CBA by reference, and the CBA had an arbitration clause.

The MZM lawsuit included a fraud-in-the-execution argument, on the grounds that the union rep in 2001 had represented, or misrepresented, that the agreement signed was only for one project, and was not a statewide agreement. And if the union was going to claim in 2018 that there was a statewide agreement, that position was based on a fraudulent misrepresentation.

The district court held that there was a presumption that issues of arbitrability were for the court to decide, unless the contract and arbitration clause contained “clear and unmistakable evidence that the parties agreed to arbitrate arbitrability.” And the lower court found that the arbitration clause did not have language meeting that threshold, in the face of an argument that one party never “saw, heard about, or agreed to a CBA at all.”

The Court of Appeal framed its analysis this way:

The critical question in this appeal is who decides MZM's contract defense, i.e., its claim that it never intended to execute [a short form agreement] incorporating statewide CBAs with an arbitration provision but rather intended to execute a single-project agreement with no mention of arbitration. As explained more fully below, the answer to that question is bound up with the determination of whether MZM's claim sounds in fraud in the execution, which voids a contract as if it had never been executed, or fraud in the inducement, which presumes the existence of a contract but renders it voidable.

The court also noted Supreme Court precedents supporting arbitration and guarding against “unwarranted judicial interference” with the arbitration process. Citing the decision in Prima Paint Corp. v. Flood & Conklin Mfg. Co., the Court of Appeal said: “For instance, a claim of fraud in the inducement of the arbitration clause is for the court to decide, but a claim of fraud in the inducement of the container contract [at issue in that case] is for the arbitrator.”

The court also noted other US Supreme Court decisions which have held that an arbitration clause can resolve the issue of who decides arbitrability by a “delegation provision” granting the arbitrators exclusive authority to decide arbitrability.

But here, MZM had challenged the formation or existence of the entire agreement. Thus, the argument was between the presumptive validity of a delegation agreement, and section 4 of the Federal Arbitration Act, which “affirmatively requires” the court to rule on the formation of the contract.

When there is a question, as here, about whether agreement on the underlying contract was ever concluded, the Court of Appeal said that the court must be “satisfied” that an arbitration agreement exists: “Indeed, it can hardly be said that contracting parties clearly and unmistakably agreed to have an arbitrator decide the existence of an arbitration agreement when one of the parties has put the existence of that very agreement in dispute.”

In sum, the Court held 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.”

The MZM president did not disagree that the one-page document referenced the CBA. But her testimony was that she had relied on the union rep’s statement that she was signing a single-project agreement, and she trusted the union rep’s statement without asking to see the CBA. The underlying circumstances supported an indication of coercion, which would support a fraud-in-the-inducement cause of action.

With the formation of the delegation provision (in the CBA) at issue, the court was empowered to review and determine arbitrability. Confused enough? The case is MZM Constr. Co. v. N.J. Bldg. Laborers Statewide Benefit Funds, 2020 U.S. App. LEXIS 29039 (3rd Cir., Sept. 14, 2020).