Believe it or not, our Supreme Court justices can unanimously agree on some things. For example, all nine justices were on board to resolve a circuit split regarding waiver of an arbitration agreement. Companies that include arbitration agreements in their contracts should be aware of the Court's recent decision Morgan v. Sundance, Inc., which limits a litigant's options if it wants to avoid waiving its right to arbitrate.
Before the Court decided Morgan, nine federal circuits invoked the Federal Arbitration Act's ("FAA") "strong policy favoring arbitration" to support an arbitration-specific waiver rule. Under that rule, a party waived its contractual right to arbitration if:
(1) it knew of the right;
(2) it acted inconsistently with that right; and
(3) it prejudiced the other party by its inconsistent actions.
Morgan v. Sundance, Inc., 142 S.Ct. 1708, 1712 (2022).
The circuit split emanated from the third requirement: prejudice to the other party. The Seventh and D.C. Circuits both allowed a finding of waiver of arbitration on a showing of only the first two elements, without imposing a prejudice requirement. The First, Second, Third, Fourth, Fifth, Sixth, Eighth, Ninth, and Eleventh Circuits, however, required a showing of prejudice as a crucial part of their waiver analysis.
The prejudice component required courts to analyze the status of the litigation so far: had formal discovery started? Had either party contested the case on the merits? According to the circuits that implemented it, the prejudice test balanced the FAA's "policy favoring arbitration" with the opposing party's time, money, and efforts already poured into the litigation.
Last month, the Supreme Court sided with the minority and did away with the prejudice requirement. It reasoned that, outside the arbitration context, a federal court assessing waiver does not generally ask about prejudice. Waiver, as the Court has said, "is the intentional relinquishment or abandonment of a known right." Id. at 1713 (citing United States v. Olano, 507 U. S. 725, 733 (1993)). To decide whether a waiver has occurred, the court focuses on the actions of the person who held the right; the court seldom considers the effects of those actions on the opposing party. Id.
The Supreme Court held that courts should not treat a right to arbitration differently than any other contractual right. Accordingly, it concluded that the FAA's "policy favoring arbitration" does not authorize federal courts to invent special, arbitration-preferring procedural rules. Id. That policy, according to the Court, "is about treating arbitration contracts like all others, not about fostering arbitration." Id.
Bottom Line
Federal courts must now hold parties to their arbitration agreements just as a court would to any other kind of agreement. If you are a litigant in a jurisdiction that previously employed the "prejudice" requirement, your strategic options are now limited once you find yourself in court. Under the Morgan rule, it is no longer possible to wait and see how things might play out in court-if you have an agreement to arbitrate, you better use it or lose it. Waiver of a right to arbitrate now depends exclusively on the knowledge and conduct of the party asserting the right, regardless of how it might affect the opposing party.
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