Arbitrator and NAA member Lise Gelenter discusses a recent decision by the U.S. Court of Appeals for the 4th Circuit, involving “sham” arbitration agreements.
The United States Fourth Circuit Court of Appeals upheld a trial court’s determination that “sham” arbitration agreements could not be enforced against exotic dancers who had joined a collective and class action case against the Crazy Horse Saloon and Restaurant (doing business as “The New Dollhouse”). Degidio v. Crazy Horse Saloon & Restaurant, Docket No. 17-1145 (4th Cir. 1/18/18). The lawsuit, commenced in August 2013, alleged that Crazy Horse had violated federal and state minimum wage and overtime laws by misclassifying exotic dancers as independent contractors.
Crazy Horse defended itself in the case and participated in the discovery process. However, in November and December 2014, the restaurant began entering into arbitration agreements with potential plaintiffs that waived their right to join the collective action, but did not inform the court that it was doing so. When Crazy Horse made a motion to enforce the arbitration agreements against nine plaintiffs who had joined the collective action, the trial court denied the motion, finding that “Crazy Horse had obtained the arbitration agreements through a unilateral, unsupervised, and misleading pattern of communication with absent class members.”
When Crazy Horse appealed, the appellate court agreed with district court’s decision. Instead of using arbitration for the legitimate purpose of “an efficient alternative to litigation,” the court found that Crazy Horse had tried to use arbitration “as an insurance policy in an attempt to give itself a second opportunity to evade liability.” Crazy Horse had made motions, sought discovery and generally pursued a “merits-based strategy for three years,” the court held, which meant that the “only possible purpose of the arbitration agreements . . . was to give Crazy Horse an option to revisit the case in the event that the district court issued an unfavorable opinion.” The Court was also troubled by the arbitration agreements’ painting “a false picture of the entertainers’ legal posture” and the “furtive manner” in which Crazy Horse presented the agreements to the plaintiffs.
The Court found the arbitration agreements unenforceable despite the Federal Arbitration Act’s (FAA) requirement that courts stay lawsuits if there is an agreement to arbitrate the claims at issue. This was because the “policy undergirding the FAA is not without limits.” According to the court, the FAA does not require judicial enforcement of arbitration agreements after a party “so substantially utilize[es] litigation machinery that to subsequently permit arbitration would prejudice the party opposing the stay.” The lesson to be drawn from this case is that parties should think long and hard before jumping into a long litigation process if they are really intending to force the lawsuit’s claims to be decided in an arbitration process.