When a party is sued and has a right to move to compel arbitration, but delays and engages in the litigation process, there arises the question of whether, or at what point, the defending party has waived its right to arbitration. In May 2022, the Supreme Court issued its opinion in Morgan v. Sundance, Inc., where it held that under the Federal Arbitration Act (“FAA”), courts may not “condition a waiver of the right to arbitration on a showing of prejudice.” Prior to Morgan, a majority of federal circuit courts had required a showing of prejudice before finding arbitration waiver. According to the Supreme Court that was erroneous because the federal policy “favoring arbitration” does not permit courts to “invent special, arbitration preferring procedural rules.” Rather, it simply requires courts to place arbitration agreements “on the same footing as other contracts.” Since “a federal court assessing waiver does not generally ask about prejudice,” the Court held it could not do so in the context of arbitration waiver either.
Sounds simple, but there is room for disagreement regarding how courts should interpret Morgan. As the Southern District of New York recently recognized in Herrera v. Manna 2nd Avenue LLC:
[T]he Supreme Court’s decision suggests that courts should toss out special rules for considering waivers of the right to arbitration, and instead use the same test for waiver as would be used in any other contractual dispute. However, in its directions to the Eighth Circuit on remand, the Supreme Court commented that the Eighth Circuit could “strip” its test “of its prejudice requirement” and ask, “[d]id Sundance, as the rest of the Eighth Circuit’s test asks, knowingly relinquish the right to arbitrate by acting inconsistently with that right?” That language suggests that the Eighth Circuit should merely strip analysis of prejudice from its existing test for waiver of the right to arbitrate, rather than applying the Circuit’s standard test for evaluating waiver in cases not involving arbitration agreements.
That instruction is not entirely consistent with Morgan’s instruction to adopt a general waiver analysis, as the remainder of the opinion suggests. That is because the Eighth Circuit’s test for general waivers of contract rights differs from its test for waivers of the right to arbitrate—even when the latter is stripped of its prejudice requirement.
The Court in Herrera then proceeded to explain that while the two tests in the Eight Circuit are fairly similar once prejudice is removed from the equation, “in the Second Circuit—which has not yet interpreted Morgan—there is a more significant (and, in some cases, possibly dispositive) difference between the two tests.” As a result, the court proceeded to analyze the issue of arbitration waiver using both of the Second Circuit’s waiver tests.
In light of the ambiguity highlighted in Herrera, counsel litigating arbitration waiver should evaluate whether the general contractual waiver test in the jurisdiction where the dispute is pending differs from its arbitration-specific waiver test, particularly where application of the different tests might yield different results. The issue will be most pronounced if the jurisdiction’s general implied waiver test contains a prejudice requirement, as discussed more fully in Part IV of Alto Litigation’s blog series on Morgan v. Sundance.
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Please contact Alto Litigation partners Bahram Seyedin-Noor (bahram@altolit.com) or Bryan Ketroser (bryan@altolit.com) if you require counseling on a securities litigation matter.
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¹ Morgan v. Sundance, Inc., 142 S.Ct. 1708, 1713 (2022)
² Id.
³ Id.
⁴ Id.
⁵ Herrera v. Manna 2nd Avenue LLC, 1:20-cv-11026-GHW, 2022 WL 2819072, at *7 (July 18, 2022) (internal citations omitted).