The Road Not Taken: Avoiding Waiver Of Arbitration Rights

Businesses often anticipate the need to resolve disputes and draft arbitration clauses into their contracts. This preserves the option to litigate or arbitrate, depending upon the scope of a specific case and the need to press or close it in a particular time-frame. All too often, however, companies take a wait-and-see approach, choosing to litigate first and invoke arbitration later if the need arises. As is illustrated by recent caselaw, the flexibility gained at the drafting table may be lost in the courtroom if companies wait too long to invoke their arbitration rights while still litigating.

A recent decision by the New Jersey Appellate Division addresses when businesses may lose their ability to arbitrate. The case of Wein v. Morris, 388 N.J. Super 640 (App. Div. 2006), has held that parties who actively litigate for several years may waive their right to arbitration. Importantly, the Wein ruling provides litigants with guidelines as to when, in the course of managing a dispute, they may be approaching the point of no return. To avoid this risk altogether, businesses should consider at the outset of any dispute whether they desire a race to the courthouse or arbitration. As the Wein case demonstrates, invoking arbitration early may avoid the risk of losing the option of arbitrating before it is too late.

A. Background

The Wein case arises from a dispute over unpaid commissions. The Plaintiffs, including Howard Wein ("Wein"), introduced potential tenants to the Defendants, including Jack Morris ("Morris"), to lease commercial space. The parties entered into "lease commission agreements" which entitled Plaintiffs to fees if they successfully produced a willing tenant to the Defendants. During negotiations about two properties, the Defendants allegedly bypassed the Plaintiffs, arranged leases directly with the potential tenants, and terminated the "lease commission agreements" without paying Plaintiffs any fees. Plaintiffs sued alleging breach of contract and interference with Plaintiffs' business relationships with those tenants. The "lease commission agreements" contained arbitration provisions.

However, the parties proceeded to litigation, directly and willingly. Their lawsuit lasted almost five years. Following the close of discovery, Morris sought to compel arbitration but withdrew his request. The case continued. Both parties filed summary judgment motions and the case was scheduled for trial. Surprisingly, on the eve of trial, the judge unilaterally decided the case was arbitrable. Both parties objected. Nonetheless, the trial judge disagreed, compelled the parties to arbitration, and ordered the lawsuit dismissed.

Rather than appeal, the parties followed the order and arbitrated for over two weeks. The arbitrator found in favor of the Plaintiffs and awarded them unpaid commissions "in full settlement of all claims." Wein, supra. In so doing, the arbitrator failed to address Plaintiffs' claims for counsel fees and future commissions on potential lease renewals. Accordingly, the arbitrator amended his award which was later confirmed by the trial court.

Having lost, the Defendant appealed. The Wein court held the parties had waived their rights to arbitrate and should not have been compelled to do so in the first instance. It thus reversed the trial court's decision to send the case out for arbitration and reinstated the lawsuit.

B. Application

1. Establishing Waiver of Arbitration

The basic concept of waiver involves the "voluntary and intentional relinquishment of a known and existing right." Quigley v. KPMG Peat Marwick, LLP, 330 N.J. Super. 252, 267 (App. Div.), certif. den., 162 N.J. 527 (2000) (internal citations omitted). Under this standard, parties may waive their rights under valid arbitration agreements. Parties may indicate their intentions by word or deed. That is, parties may inform courts that they wish to waive arbitration or they may demonstrate their desire not to arbitrate by actively litigating their dispute. Either way, once arbitration has been waived, the matter must be litigated.

Against this backdrop, New Jersey courts have analyzed when waiver occurs in several fact patterns. At one end of the spectrum, waiver does not arise simply by commencing suit. For example, in Hudik-Ross, Inc. v. 1530 Palisade Ave. Corp., 131 N.J. Super. 159 (App. Div. 1974), arbitration was raised immediately as a defense to the lawsuit, followed by a separate demand for arbitration four months into the case. The timely objection before any prejudice arose prevented a waiver from occurring. On the other end, courts have found a waiver when the objection was not raised until the eve of trial. For example, in Farese v. McGarry, 237 N.J. Super. 385 (App. Div. 1989), arbitration was not raised as a defense until two weeks prior to trial. The failure to object over time led to prejudice and, therefore, a waiver.

The Wein case falls outside the far end of the spectrum and thus serves as an example of when waiver surely occurs. Wein, supra. First, the parties chose to litigate for almost five years. In that time, they had several chances to fully assert their rights to arbitrate but failed to do so. The defendant waited to compel arbitration for three and a half years while the lawsuit was pending and then withdrew his only attempt. Moreover, in response to the order to arbitrate, the parties mutually asserted that their right "to compel arbitration had been waived." Accordingly, "the parties waived their contractual right to arbitrate by actively litigating the matter in the trial court for a prolonged period of time." Id .

While the Wein court opined that "it would be difficult to find a stronger case for waiver than the circumstances presented here," it also provides guidance for those closer cases falling between the extremes. Wein, supra. Following Wein, courts will look at factors including the "duration of discovery proceedings and the trial court's extensive involvement in managing suit." Id. Litigants must be mindful as they progress towards trial that, as either factor increases, so does the potential for prejudice to their adversary. In deference to fairness, the greater chance of prejudice, the greater chance of waiver and, hence, loss of arbitration rights.

2. The Effect of Waiver on Litigation

The Wein case also provides a clear example of how waiver directly impacts a court's power to resolve cases. Courts are empowered to compel parties to abide by their agreements to arbitrate. Importantly, arbitration agreements do not strip courts of their jurisdiction to hear disputes. Rather, courts "will hold the parties to their under-takingin recognition and enforcement of the agreement of the parties." Wein, supra. For this reason, if parties consent to waive their arbitration rights, the court may exercise its jurisdiction and hear the case. Id. ("to put it another way, such bar to the exercise of jurisdiction as arises out of the agreement to arbitrate may be lifted by the consent or waiver of the parties.")

As Wein demonstrates, once waiver is established, it will then "preclude enforcement of a contractual promise to arbitrate." Id. That is, a court may not relinquish its jurisdiction over a matter once the parties waive their right to resolve it through arbitration. Following this rule of timing, "having waived their contractual right to arbitrate by actively litigating the matter in the trial court for a prolonged period," arbitration was no longer an option. Id.

This timing element is especially important in cases like Wein where waiver was established during the course of prolonged litigation. Future litigants not willing to lose their arbitration rights should be aware that, at some point during active litigation, they may unwittingly waive them. To avoid this outcome, businesses should be guided by the factors set forth in Wein and seek out arbitration before prejudice arises and the courts will be unable to oblige their requests.

C. Conclusions And Ramifications

The Wein decision illustrates a clear case for waiver of arbitration rights through active litigation. Furthermore, Wein provides guidance beyond the well-settled rule that parties may waive their rights by voluntarily choosing to litigate in lieu of arbitrating. It provides the key factors courts will consider when determining whether a party has waived its rights to arbitration. Potential litigants should be mindful of the tipping point created by prolonged litigation. Moreover, they should be guided by the Wein case as to when, in the course of litigation, they should act to preserve their rights to arbitrate the dispute at hand.

Published May 1, 2007.