Alyssa M. Bussey | Smith Currie & Hancock | April 20, 2016
The construction industry has long been a leader in the use of arbitration. An arbitration clause was first included in the AIA standard form contract in 1915. The Federal Arbitration Act (FAA) was first enacted in 1925 and the American Arbitration Association was created in 1926. Although initially hostile, courts throughout the United States and the world have come to generally favor arbitration and the enforcement of arbitration agreements. But not all arbitration clauses are equally enforceable. As arbitration provisions have become more widely used, contracting parties have continued to test the limits of enforceability. This article discusses a generally permissible practice—incorporating by reference arbitration rules granting the arbitrator the power to determine the arbitrability of a dispute—and a potentially impermissible provision—prohibiting the parties from challenging the validity of the arbitration award.
By way of background, the FAA applies broadly to all contracts that evidence a transaction involving interstate commerce. The validity of an arbitration agreement is governed generally by the FAA. For more than 50 years, federal courts treated the FAA as a procedural rule applicable only to federal cases. This limited the enforceability of construction arbitration agreements. In a 1983 decision, Moses H. Cone Memorial Hospital v. Mercury Construction Corp., 460 U.S. 1 (1983), the United States Supreme Court precedent established a federal policy favoring arbitration and of resolving any doubts as to the scope of arbitrable issues in favor of arbitration. Since the Moses Cone decision the FAA is recognized to preempt state laws that would otherwise prevent enforcement of a construction arbitration agreement.
Incorporating Arbitration Provisions By Reference
Many construction contracts contain incorporated references to other party and third-party documents, such as industry form documents and arbitration rules. Incorporation by reference is universally recognized as a valid time and paper saving method of expressing the parties’ intent. Based on this general principle, many courts also recognize that arbitration agreements can be incorporated by reference. For example, the Texas Court of Appeals recently confirmed that the incorporation by reference of an unsigned document containing an arbitration clause evidences a valid agreement to arbitrate. LDF Construction, Inc. v. Texas Friends of Chabad Lubavitch, Inc., 459 S.W.3d 720 (2015). The court found that the main contract document did not need to specifically mention arbitration. The Court went on to hold that “there is no requirement that the incorporated document containing the arbitration clause must necessarily be attached to the contract for the clause to be enforceable.” It was enough that the document referred to was a standard industry AIA form “readily identifiable from the contract and available from the AIA.” This result is not surprising given the presumption in favor of arbitration and the presumption that a party signing a contract knows and accepts the terms of that contract.
Arbitration agreements sometimes explicitly state that the arbitrator will determine arbitrability, that is the arbitrator will decide whether the dispute is subject to arbitration in the first place. The Supreme Court has rules that the question of arbitrability is a question for the court—unless the parties clearly and unmistakably agree for the arbitrator to decide arbitrability. First Options of Chicago, Inc. v. Kaplan, 514 U.S. 938 (1995). This then raises the question whether an agreement to arbitrate arbitrability must be explicitly stated in the agreement or whether it can be incorporated by reference.
The majority of federal appellate courts that have considered the issue have held that incorporation of the AAA Rules on Arbitration, which provide that the arbitrator has the power to rule on his own jurisdiction, is a clear and unmistakable agreement or the arbitrator to decide arbitrability. The 10th Circuit, the only appellate court to conclude otherwise, found no clear and unmistakable intent to arbitrate arbitrability because the arbitration agreement and subsequent settlement agreement were ambiguous as to whether there was even a valid arbitration clause applicable to the dispute. Riley Mfg. Co. v. Anchor Glass Container Corp., 157 F.3d 775 (1998).
A recent Florida appellate decision recognized that the majority of federal courts considering the incorporation by reference of AAA arbitration rules is sufficient evidence of the parties’ intent to have arbitrators and not a court hear and decide issues of arbitration. Glasswall, LLC v. Monadnock Const., Inc., 2016 WL 314177 (2016).
Courts Might Not Enforce A “No-Challenges” Clause
If parties can agree that the arbitrator will have the first say with respect to arbitrability of the dispute, can parties also agree that the arbitrator will have the final say? Can the parties agree in advance not to challenge the validity of the arbitration or arbitration award? A 2015 Georgia Court of Appeals decision agreed with the Ninth Circuit and said no.
In Atlanta Flooring Design Centers, Inc. v. R.G. Williams Const., Inc., the parties expressly agreed “not to challenge the validity of the arbitration or the award.” The Court found that provision to be void and unenforceable because it conflicts with and frustrates Georgia public policy as expressed in the Georgia Arbitration Code which expressly permits the court to vacate or modify an arbitration award in certain specified circumstances, including corruption, fraud, misconduct, partiality.
The Court aligned itself with cases interpreting the Federal Arbitration Act, including In re Wal-Mart Wage & Hour Employment Practices Litigation, 737 F.3d 1262 (2013). Section 10(a) of the FAA provides for a limited review of an arbitration award if it falls within four categories: corruption, fraud, partiality or misconduct causing prejudice, or if the arbitrators exceeded their powers. The Supreme Court has held that the statutory grounds for judicial review in the FAA are exclusive and may not be expanded by contract. Hall St. Assocs., LLC v. Mattel, Inc., 552 U.S. 576 (2008). By the same token, the Ninth Circuit reasoned, because the statutory grounds are mandatory and exclusive, they are not waivable or subject to elimination by contract.
The Ninth Circuit held that parties cannot waive or eliminate the FAA’s statutory grounds for reviewing an arbitration award. The FAA’s provisions allowing a court to review and vacate an arbitration award “demonstrate Congressional intent to provide a minimum level of due process for parties to an arbitration . . . .” Permitting parties to bypass judicial review of awards would contradict the text of the FAA, frustrate the intent of the FAA, and leave parties “without any safeguards against arbitral abuse.”
Practical Pointer
On the front-end of arbitration…