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The Risk Of Waiving Arbitration Rights Through Litigation Activity

How should an employer respond to a lawsuit by an employee (or former employee) subject to a contractual arbitration provision? If the employer would rather resolve the matter in arbitration than in court, then it should respond with a motion to compel arbitration or by otherwise giving the court prompt and appropriate notice that a binding arbitration provision appears to cover the dispute.

Moving to dismiss the lawsuit on the merits of participating in other litigation activity – without raising the arbitration issue with the court – could come back to haunt. In this regard, a subsequent attempt to invoke arbitration could result in a ruling that the employer waived the right to arbitrate and, as such, is stuck in court. This is the lesson of the Massachusetts Superior Court’s recent decision in Shalaby v. Arctic Sand Technologies, Inc.

The Facts Of Shalaby

Arctic Sand Technologies, Inc. (“Arctic Sand”) develops power conversion chips for electronic devices. Dr. Nadia Shalaby was a co-founder of Arctic Sand, where she served as CEO under a contract with an arbitration provision. During its start-up period, Arctic Sand replaced Dr. Shalaby as CEO and then terminated her employment. Dr. Shalaby, in turn, sued Arctic Sand in a nine-count complaint in the Massachusetts Superior Court.

When Dr. Shalaby filed her lawsuit on April 8, 2014, she immediately sought a preliminary injunction concerning the preservation and handling of data on a laptop computer, an external hard drive, and an iPhone. Arctic Sand opposed the motion, making no mention of arbitration. On April 14, 2014, the Court resolved the motion by ordering the parties to negotiate a forensic protocol and a confidentiality order. In carrying out this directive, the parties filed a joint motion on May 19, 2014, attended the ensuing motion hearing on June 5, 2014, and then implemented the protocol approved by the Court. Arctic Sand remained silent about arbitration.

On July 16, 2014, Arctic Sand filed a motion to dismiss all nine counts in Dr. Shalaby’s complaint. While this motion was pending, Dr. Shalaby filed a motion to compel Arctic Sand to produce certain documents. Arctic Sand opposed Dr. Shalaby’s motion on the ground that a favorable decision on its motion to dismiss would render the discovery dispute moot. In its court papers concerning these motions, Arctic Sand said nothing about arbitration rights.

On September 9, 2014, the Court decided Arctic Sand’s motion to dismiss, ruling that Dr. Shalaby could proceed with four of the nine counts in the complaint. Arctic Sand filed an answer and counterclaim. In its answer, Arctic Sand asserted for the first time, as an affirmative defense, that the Court lacked jurisdiction over Dr. Shalaby’s claims because they are all “subject to a mandatory arbitration clause.”

On October 21, 2014, Arctic Sand filed a motion to compel arbitration and dismiss Dr. Shalaby’s remaining four claims. In support of this motion, Arctic Sand argued that the arbitration provision in the parties’ contract was binding.

The Court’s Ruling

In a pointed decision, the Court denied Arctic Sand’s motion on the ground that the company “waived arbitration by its litigation conduct,” stating:

Arctic Sand waived any contractual right to arbitrate Dr. Shalaby’s claims by deliberately waiting six months before seeking to compel arbitration, and by actively litigating the case in Superior Court in the meantime. Arctic Sand did not promptly move to compel arbitration, but instead moved to “dismiss the Amended Complaint with prejudice” pursuant to Mass. R. Civ. P. 12(b)(6). It made no attempt to invoke its alleged contractual right to binding arbitration until after it learned that its motion to dismiss was not completely successful.

In the Court’s view, Arctic Sand “wanted to play heads I win, tails you lose,” which the Court described as “the worst possible reason for failing to move for arbitration sooner than it did.” The Court added that Arctic Sand “could have first moved to compel arbitration and then, if successful, filed a motion to dismiss with the arbitrator,” which would have been permissible under the arbitration rules specified in the parties’ contract.

In concluding that Arctic Sand committed “undue delay,” the Court emphasized that the company had opposed Dr. Shalaby’s motion for a preliminary injunction, participated in the creation and implementation of a discovery protocol, and engaged in “extensive and exhaustive” motion practice that “substantially invoked the litigation machinery” – all before asserting that the matter was subject to binding arbitration. This prejudiced Dr. Shalaby, the Court ruled, because it “caused the opportunity for an expeditious alternative to litigation to be lost.”

In denying Arctic Sand’s motion to compel arbitration, and thus requiring the case to remain in court, the judge remarked: “Arctic Sand had no legitimate reason for asking the Superior Court to decide the legal merits of Dr. Shalaby’s claims before moving to compel arbitration.”

Recommendations

In light of the Shalaby decision, an employer sued in court by an employee (or former employee) should:

      • Immediately review all applicable employment contracts, handbook provisions, and policies to determine if an arbitration provision may cover the dispute;
      • If so, then together with employment counsel, review the advantages and disadvantages of arbitration (as compared with litigation), based on such factors as the nature of the dispute, the applicable arbitration rules, budgetary considerations, and whether it would be preferable to keep the matter out of the public eye;
      • If arbitration is determined to be the forum of choice, then bring the arbitration provision to the attention of plaintiff’s counsel and request that the lawsuit be withdrawn in favor of arbitration; and
      • If that fails, then respond to the plaintiff’s complaint with a motion to compel arbitration or by immediately providing the court with some other appropriate notice that a binding arbitration provision appears to cover the dispute.

As Shalaby illustrates, remaining silent about arbitration while participating in litigation activity – even preliminary and seemingly unavoidable litigation activity – could result in a ruling that arbitration rights have been waived.

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Please feel free to contact us if you have any questions about the Shalaby case, or if you may need assistance in arbitration or litigation proceedings.