When clients ask me whether I prefer arbitration or litigation as a method of dispute resolution in construction cases, I respond with a question of my own: Do you prefer Coca-Cola or Pepsi? While both are cola soft drinks, some folks have a personal preference for one over the other.
The same is true for arbitration and litigation. I could explain the positives and negatives of each method — and I have experienced my fair share of both in 27 years of practicing construction law. Likewise, clients have their own experiences and opinions and absent some extraordinary circumstance, I defer to their preference when drafting a construction contract.
This is because the draftsmanship is critical for selecting the method of dispute resolution. Unless the parties agree to have their disputes decided by arbitration, then their disputes will be decided by litigation in a court of law by default. Thus, arbitration is a “creature of contract.”
The contract sets forth the contours of arbitration, including but not limited to the scope of arbitration (i.e., arbitrability), the rules of arbitration and the powers of the arbitrator. While the threshold issue is seemingly arbitrability, there is one key issue that needs to be decided first: Who gets to decide whether an issue is arbitrable — a judge in court or an arbitrator?
Recent Case on Arbitrability
The recent trial court decision of Rosenberg v. Hotel Connections, Inc., No. 21-4876 (ZNQ), 2022 WL 7534445 (D.N.J. Oct. 13, 2022) offers an excellent dissertation on this precise issue. The case is instructive for parties who wish to ensure that their contractual disputes are adjudicated according to their preference.
Joel Rosenberg, the plaintiff, was a former employee of the defendant, Hotel Connections, a business specializing in obtaining hotel rooms and lodging for airline crews. Rosenberg was actually a company executive and he had an employment agreement with an arbitration clause. The clause provided:
“Subject to the duty to negotiate and mediate set forth above, all disputes, claims, or causes of action arising out of or relating to this Agreement or the validity, interpretation, breach, violation, or termination thereof not resolved by negotiation and/or mediation shall be finally and solely determined and settled by Arbitration, to be conducted in the State of New York, USA, in accordance with the Commercial Arbitration Rules of the American Arbitration Association (AAA) in effect at the date of Arbitration.”
The parties’ dispute began when the company was moving its primary office from New Jersey to Florida. Rosenberg indicated that he was not willing to relocate. Nevertheless, the defendant’s CEO wanted Rosenberg to remain employed by the company. The CEO sent Rosenberg an e-mail stating the following:
“I want u [sic] to stay with me. I love the fact that you have my back no matter what. I’m going to pay you a fee of 100k per year till I feel there’s no benefit or till I feel I should terminate the agreement. I would like you to come to Miami one week a month which I will pay for all expenses. Joel, this can last for a very long time. I so much value you and your support.”
A few minutes later, the CEO sent Rosenberg a second e-mail: “I will pay you a fee of 2 percent in the event [Hotel Connections] is sold while you’re under contract.” Rosenberg remained with the company in part because of this second e-mail.
On Aug. 10, 2020, Hotel Connections was sold for $75,000,000. In addition to the $75,000,000 payment, the defendant was also entitled to receive an additional earn-out payment based on the company’s third-quarter revenues in 2021 (approximately $30,000,000 to $60,000,000 in additional earn-out payments for the period).
Rosenberg alleges he was still under a contract with the defendant at the time of the sale. Accordingly, Rosenberg claimed he was entitled to the 2 percent sale-fee bonus based on the second e-mail from the CEO. The defendants refused to honor the sale bonus payment. Instead, defendant offered Rosenberg a consultant position for $400,000 a year if he waived all claims against the company. Rosenberg did not accept this offer.
On Oct. 9, 2020, the defendant terminated Rosenberg’s employment by way of a termination letter. Rosenberg subsequently sued Hotel Connections and the relevant executives in federal district court in New Jersey. After deciding that the parties’ dispute was governed by New York law (due in significant part to the relevant provision in the employment agreement), the Court turned to the issue of arbitrability.
Arbitration Favored When Included in Contract
The court began its analysis by noting that “arbitration is a matter of contract and a party cannot be required to submit to arbitration any dispute which he has not agreed so to submit.” Howsam v. Dean Witter Reynolds, Inc., 537 U.S. 79 (2002). Moreover, the court pointed out that federal policy requires courts to construe arbitration clauses as broadly as possible, thus favoring arbitration as a method of dispute resolution. Rosenberg, 2022 WL 7534445, at *5.
To determine arbitrability of claims, the U.S. Court of Appeals for the Second Circuit developed a two-part test. A court must consider (1) whether the parties have entered into a valid agreement to arbitrate, and, if so, (2) whether the dispute at issue comes within the scope of the arbitration agreement. ACE Capital Re Overseas Ltd. v. Centennial United Life Ins. Co., 307 F.3d 24, 28 (2d Cir. 2002).
The court also pointed out that before addressing the second part of the test, the court must decide who — the court or the arbitrator — properly decides the issue. Rosenberg, 2022 WL 7534445, at *5.
Under Second Circuit authority, where the arbitration agreement is broadly worded to require the submission of “all disputes” to the arbitrator, the parties intended to arbitrate the question of arbitrability. Rosenberg, 2022 WL 7534445, at *6 (citing Shaw Group Inc. v. Triplefine International Corp., 322 F.3d 115, 120 (2d Cir. 2003)).
Moreover, the terms “any and all” are “elastic enough to encompass disputes over whether a claim is within the scope of the arbitration.” Rosenberg, 2022 WL 7534445, at *6 (quoting PaineWebber Inc. v. Bybyk, 81 F.3d 1193, 1199 (2d Cir. 1996)).
In this case, Rosenberg’s employment agreement has a very broad arbitration clause, requiring arbitration for “all disputes, claims, or causes of action arising out of or relating to this Agreement or the validity, interpretation, breach, violation, or termination thereof not resolved by negotiation and/or mediation.”
As a result, the district court found that the parties intended to arbitrate the question of arbitrability and that an arbitrator must resolve the question of whether Rosenberg’s claims are within the scope of the parties’ arbitration agreement. Rosenberg, 2022 WL 7534445, at *6.
Arbitration clauses, such as the one in Rosenberg’s employment agreement, are often found in construction contracts, design professional contracts and other related documents. In order to avoid surprises and limit disputes regarding the issue of dispute resolution itself, it is critical that the “dispute resolution” clause be drafted carefully, consistent with applicable law (since jurisdictions may decide the issue of arbitrability differently).
As I tell my construction clients, you want to be careful with contract drafting on the front end so that you avoid more costly disputes on the back end. Such care will also help you avoid Pepsi when you have a strong personal preference for Coke.