In American Express Co. v. Italian Colors Restaurant (June 20, 2013) (“Amex”), the Supreme Court reaffirmed that the Federal Arbitration Act (FAA) makes arbitration “a matter of contract,” requiring courts to “rigorously enforce arbitration agreements according to their terms. In Amex, Italian Colors Restaurant, along with other merchants, sued American Express in a class action lawsuit. The plaintiffs alleged that American Express violated antitrust law by compelling merchants to accept American Express credit cards and pay exorbitant rates.
In the agreements signed, both parties agreed to use bilateral arbitration rather than class actions in resolving their disputes. Italian Colors refused to comply with the arbitration agreement and argued that the bilateral arbitration clause would (i) create prohibitive costs for any pursuit of their legal rights and (ii) effectively immunize American Express from any liability under the Sherman Antitrust Act. Italian Colors further claimed that, as a matter of public policy, arbitral proceedings were a poor vehicle to vindicate antitrust claims because of the length of time they would take to resolve disputes, thus incentivizing corporate abuse of the difficulty for potential claimants to pursue claims in compliance with the statute of limitation. American Express, on the other hand, contended that courts should adhere to the terms of arbitration agreements unless the terms would violate substantive Federal law. The Court held for American Express and ruled “[t]he Federal Arbitration Act does not permit courts to invalidate a contractual waiver of class arbitration on the ground that the plaintiff’s cost of individually arbitrating a federal statutory claim exceeds the potential recovery.”
In deciding the case, the Court rejected the theory that class procedures must remain available to claimants in order to ensure that they have sufficient financial incentive to prosecute federal statutory claims of relatively low value. The Court’s holding was consistent with the freedom-of-contract principles embalmed in the FAA—an arbitration agreement must be enforced—even if the manner in which the parties agreed to arbitrate leaves would-be claimants with low-value claims that are not worth pursuing.
The decision in Amex denotes the benefits of arbitration over litigation, that is, arbitration is more beneficial to lower income plaintiffs and less subject to abuse by frivolous or vengeful lawsuits. By holding parties to the deal they struck regarding the resolution of their disputes, the Court upheld the FAA’s freedom-of-contract mandates. Thus, Amex should be seen as promoting arbitration by eliminating uncertainty in contracting and removing a barrier to efficient resolution of disputes— a resounding victory for freedom-of-contract principles.
Separately, State Courts have grappled with the inclusion of arbitration clauses in corporate by-laws as a means to forestall costly and burdensome shareholder litigation. In Corvex Management LP v. Commonwealth REIT (“Corvex”) a Maryland court ruled on whether to enforce such by-laws clauses requiring shareholders to arbitrate their claims. In Corvex, two investment funds, Corvex Management LP’s and Related Fund Management, LLC’s, together plaintiffs, had acquired nearly 10% of shares in Commonwealth, defendant, a publicly traded real estate investment trust organized under the laws of Maryland. Plaintiffs initially launched a lawsuit against the company and its trustees seeking declaratory and injunctive relief to prevent alleged “self-interested” conduct by the defendants. The defendant company immediately initiated arbitration proceedings in compliance with the provision in the company’s bylaws. The provision stated: “any disputes, claims or controversies brought by or on behalf of any shareholder . . . should be resolved through binding and final arbitration.” The plaintiff funds moved to stay the arbitration, contending that (i) they had never assented to such an arbitration clause, (ii) the clause had been “unilaterally ‘foisted’ upon them” and (iii) no consideration had been exchanged. The plaintiffs argued that under ordinary contract principles, no binding arbitration agreement had been formed.
The Court rejected the plaintiffs’ objections and held the bylaw arbitration clause to be enforceable. In making its decision, the court stated that the funds had assented to the clause because there was “constructive knowledge” with each share certificate of Commonwealth stock bearing the legend: “the holder of this certificate . . . agrees to be bound by all of the provisions of the . . . Bylaws.” The court said: “Plaintiffs purchased shares with at least constructive knowledge that the Arbitration Bylaws were in effect and that their shares were subject to them. This Court finds that this is enough to constitute mutual assent of the parties to the Arbitration Bylaws […]” Id. The court further noted that the funds were sophisticated parties who actually had “actual knowledge” of the arbitration clause because they had investigated the company’s bylaws prior to purchasing Commonwealth stock. With respect to “contractual” consideration, the court concluded that the language of the Arbitration Bylaws was explicit and clear: “both parties are bound to-they must-arbitrate if the other party so demands.” In other words, either party could enforce the clause, and thus there had been sufficient consideration for the arbitration clause to be binding. The court stated: “Each party entered into the contract, and incorporated the Arbitration Agreement, voluntarily”, “no one forced plaintiffs to purchase shares of Commonwealth stock, they made this decision of their own free will with actual knowledge of the arbitration agreement.” Id.
Corvex is a trial level state court decision and has no precedential value in federal courts, however, it still remains unknown how other courts will address the question of the enforceability of arbitration clauses in corporate bylaws. As we have seen in Amex, the U.S. Supreme Court recently reaffirmed the Federal Arbitration Act (FAA), which makes arbitration “a matter of contract, requiring courts to “rigorously enforce arbitration agreements according to their terms.” Indeed, Federal and State courts have already “expressed relaxed standards for arbitration agreements enforceability to ensure that arbitration agreements are on equal footing with other contracts under state contract principles.” Century Indemnity Co. v. Certain Underwriters at Lloyd’s, London, 584 F.3d 513, 531-32 (3rd Cir. 2009). There is also a “liberal federal policy favoring arbitration” AT&T Mobility v. Concepcion , 131 S. Ct. 1740, 1745, 179 L. Ed.2d 742 (2011) (citing Moses H. Cone Mem’l Hosp. v. Mercury Constr. Corp., 460 U.S. 1, 24, 103 S. Ct. 927, 74 L. Ed.2d 765 (1983), “with its primary purpose being to ensure that private arbitration agreements are enforced according to their terms”. Id. at 1748. As a matter of public policy, there is a strong preference for arbitration agreements because they are “generally […] less expensive and [a] more expeditious means of settling litigation and relieving docket congestions.” Fraternal Order of Police Lodge No. 4, 429 Md. at 549 (citing Walther v. Sovereign Bank, 386 Md. 412, 425, 872 A.2d 735 (2005)).
The rulings in Amex and Corvex encourage arbitration agreements as a legitimate expression of the parties’ wishes and as an effective means to incentivate corporate activism. Decisions such as the one in Corvex could be helpful to include “broad” arbitration clauses in bylaws without seeking shareholder approval. With the U.S. Supreme Court reaffirming in Amex arbitration as “a matter of contract,” requiring courts to “rigorously enforce arbitration agreements according to their terms”, “liberal federal policy favoring arbitration”, and case law developments like the one in Corvex, more companies may be empowered to attempt to use arbitration clauses in their bylaws as a way to control costly and burdensome shareholder litigation.