U.S. Supreme Court Rules on Arbitration Non-signatories’ Rights

Last week, the U.S. Supreme Court decided Arthur Andersen LLP v. Carlisle, No. 08–146, 2009 WL 1174853 (May 4, 2009). Justice Scalia delivered the majority opinion, joined by Justices Kennedy, Thomas, Ginsburg, Breyer, and Alito. Justice Souter filed a dissenting opinion, in which Chief Justice Roberts and Justice Stevens joined.

The Court decided the following issues:

• Whether appellate courts have jurisdiction under Section 16(a) of the FAA to review denials of stays of litigation requested by nonparties to the arbitration agreement.
• Whether Section 3 of the FAA can ever mandate a stay of litigation by nonparties to the arbitration agreement.

The Court concluded that Section 16(a) with “clear and unambiguous terms” expressly authorizes interlocutory appeals of motions denying Section 3 stays. Stressing that “[t]he jurisdictional statute here unambiguously makes the underlying merits irrelevant,” the Court rejected that this interpretation will produce frivolous interlocutory appeals.

Next, the Court explained that Section 2 of the FAA makes arbitration agreements “valid, irrevocable, and enforceable, ” requiring courts “to place [arbitration] agreements upon the same footing as other contracts.” Then, Section 3 allows enforcement of Section 2, by requiring the courts to stay litigation, “on application of one of the parties” if the issue is “referable to arbitration under an agreement in writing.” When interpreting the phrase “one of the parties,” the Court clarified in footnote 4, that the word “parties” refers to parties to the litigation, and not to the parties to the contract.

Then, the Court reasoned that Section 3 does not restrict the enforceability of Section 2. As a result, state law should be applied to determine which contracts are binding under Section 2 and enforceable under Section 3. The Court added that because state law allows contracts to be enforced by or against nonparties through different theories (assumption, piercing the veil, alter ego, incorporation by reference, third-party beneficiaries, waiver and estoppel), then nonparties may invoke Section 3.

Finally, the Court held that appellate federal courts have jurisdiction to review the denial of a request for a Section 3 stay and that a litigant who was not a party to the arbitration agreement may invoke Section 3 if the relevant state contract law allows the nonparty to enforce the agreement.

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