Estoppel Doctrine Allows Arbitration Provisions To Be Enforced By and Against Non-Signatories

07/01/2008

from The Houston Lawyer, July/August 2008. Reproduced by permission.

The Supreme Court of Texas recently opined that if parties “have not agreed to arbitration, no trial court has discretion to make them go.”1 But that is not entirely true. In fact, both federal and state courts recognize that “under certain circumstances, principles of contract law and agency may bind a non-signatory to an arbitration agreement.”2 Federal courts recognize six theories that may bind non-signatories to arbitrate:3 (1) incorporation by reference;4 (2) assumption; (3) agency;5 (4) alter ego; (5) estoppel; and (6) third-party beneficiary.6

The Supreme Court of Texas devotes considerable attention to estoppel doctrine, endorsing two distinct theories since 2005.7 The first, direct benefits estoppel, may be applied to bind a non-signatory to arbitrate where a signatory seeks to compel arbitration.8 The second, equitable estoppel, may be used to bind a signatory to arbitrate against a non-signatory who seeks to compel arbitration.9 

Direct Benefits Estoppel

Under direct benefits estoppel, “a non-signatory plaintiff seeking the benefits of a contract is estopped from simultaneously attempting to avoid the contract’s burdens, such as the obligation to arbitrate disputes.”10 The underlying principle behind this doctrine is that a “nonparty [to a contract] cannot both have his contract and defeat it too.”11

The Supreme Court of Texas has examined direct benefits estoppel in several cases and has determined that parties may be bound to arbitrate under this theory: (1) when the non-signatory pursues a claim “on the contract” or (2) when the non-signatory seeks and obtains substantial benefits from the contract.12 Thus, non-signatories generally must arbitrate claims arising from the contract, but not if claims arise from general legal obligations.13 A non-signatory will not be bound simply because a claim is related to a contract with an arbitration provision.14 Rather, the Court explained that “a non-signatory should be compelled to arbitrate a claim only if it seeks, through the claim, to derive a direct benefit from the contract containing the arbitration provision.”15

Thus, a non-signatory subcontractor in In re Kellogg Brown & Root, Inc. was not forced to arbitrate its quantum meruit claim when its right to payment stemmed from a second-tier subcontract containing no arbitration clause, even though the first-tier subcontract contained an arbitration agreement.16 In contrast, a non-signatory in In re Weekley Homes, whose father purchased a home for her benefit, could be compelled to arbitrate when she had exercised contract rights in the past and was equitably entitled to other contractual benefits.17

Thus far, Texas courts and the Fifth Circuit have utilized the direct benefits estoppel doctrine only to compel arbitration by non-signatories who have sued signatories.18 However, a court in the Southern District of Texas recently held that the doctrine may be employed outside this context.19 It remains to be seen whether other courts in Texas will follow the Southern District’s lead.

Equitable Estoppel

The Fifth Circuit held in Grigson v. Creative Artists Agency that a signatory plaintiff cannot “have it both ways.”20 It cannot, on one hand, seek to hold a non-signatory liable under duties imposed by an agreement containing an arbitration clause, while on the other hand, seek to avoid arbitration because the defendant is a non-signatory.21 Thus, Grigson established two different circumstances in which a nonsignatory may compel arbitration against a signatory.22 First, equitable estoppel applies when a signatory to a written agreement containing an arbitration clause must rely on the terms of the agreement in asserting its claims against a non-signatory.23 Second, equitable estoppel applies when a signatory to a contract containing an arbitration clause raises allegations of substantially interdependent and concerted misconduct by both the non-signatory and one or more of the signatories to the contract.24

After Grigson, Texas courts began applying both kinds of equitable estoppel to compel signatories to arbitrate.25 The Supreme Court of Texas formally adopted the first kind of equitable estoppel, involving reliance on an agreement with an arbitration clause, in Meyer v. WMCO-GP, LLC.26 However, in In re Merrill Lynch Trust Co., the Supreme Court of Texas recently declined to apply the second “concerted misconduct” test, departing significantly from case law in the Fifth Circuit,27 Texas courts of appeals,28 and even its own analysis in Meyer.29 Although the Court appeared to embrace the “concerted misconduct” test in Meyer,30 the Merrill Lynch Court asserted that it had never compelled arbitration based solely on substantially interdependent and concerted misconduct and determined it was not bound to apply the test.31 The Court emphasized, however, that its decision would remain tentative until the United States Supreme Court clarifies whether concerted misconduct estoppel correctly reflects federal law.32

Where equitable estoppel does apply to a given situation, it is subject to traditional equitable defenses.33 Thus, courts have declined to apply equitable estoppel where a non-signatory defendant had “unclean hands”34 and where a non-signatory defendant unreasonably delayed asserting its motion to compel arbitration under laches.35 

Adapting to New Estoppel Law

In light of recent precedent applying estoppel in non-signatory situations, parties might consider protecting themselves by narrowly tailoring arbitration provisions to include only specific disputes between the parties to the contract.36 The Supreme Court of Texas held that an arbitration provision which applied to “controvers[ies] between the parties to this Agreement” was not specific enough to preclude application of equitable estoppel,37 noting however that a more specifically worded arbitration provision could limit application of estoppel.38 Still, this solution is only useful to protect signatories from equitable estoppel. Unsuspecting non-signatories do not have the luxury of protecting themselves on the front-end from later application of direct benefits estoppel.

Christina Crozier is an associate in the appellate section of Haynes and Boone, LLP. who concentrates her practice in the areas of state and federal civil litigation and appeals. 

Endnotes

1. In re Merrill Lynch Trust Co., No. 04-0865, --S.W.3d--, 2007 WL 2404845, at *4 (Tex. Aug. 24, 2007).   2. In re Kellogg Brown & Root, Inc., 166 S.W.3d 732, 738 (Tex. 2005) (citing cases); see also Meyer v. WMCO-GP, LLC, 211 S.W.3d 302, 305 (Tex. 2006) (noting that “sometimes a person who is not a party to [an arbitration agreement] can compel arbitration with one who is, and vice versa.”); McMillan v. Computer Translation Sys. & Support, Inc., 66 S.W.3d 477, 481 (Tex. App.—Dallas 2001, orig. proceeding) (“Non-signatories of arbitration agreements may be bound by the agreement under ordinary contract and agency principles.”).   3. See In re Kellogg, 166 S.W.3d at 739; Anthony M. DiLeo, The Enforceability of Arbitration Agreements by and Against Non-signatories, 2 J. Am. Arb. 31 (2003).  The Fifth Circuit analyzes the application of these theories under federal law.  Wash. Mut. Fin. Group, LLC v. Bailey, 364 F.3d 260, 267 n.6 (5th Cir. 2004).  The Texas Supreme Court has noted that it relies upon state law to determine whether non-signatories are bound to arbitrate, but it is “informed by persuasive and well-reasoned federal precedent.”  In re Kellogg, 166 S.W.3d at 739.   4. See, e.g., In re Bank One, 216 S.W.3d 825, 826 (Tex. 2007) (per curiam) (holding a valid arbitration agreement was incorporated by reference when the plaintiff’s representative signed an account signature card); In re Raymond James & Assoc., Inc., 196 S.W.3d 311, 319 (Tex. App.—Houston [1st Dist.] 2006, orig. proceeding) (holding former client agreement with arbitration clause was incorporated by reference into new account form, even though account holders claimed they never saw the agreement); Cappadonna Elec. Mgmt. v. Cameron County, 180 S.W.3d 364, 373 (Tex. App.—Corpus Christi 2005, orig. proceeding) (holding incorporation by reference applies when a party binds itself by incorporating a document by reference into its own contract, but non-signatory non-parties could not use the doctrine to enforce a provision of a document it did not sign or incorporate).   5. See In re Merrill Lynch Trust Co., 2007 WL 2404845, at *1-2; In re Kaplan Higher Educ. Corp., No. 06-0072, --S.W.3d--, 2007 WL 2404836 (Tex. Aug. 25, 2007) (per curiam).   6. See, e.g., Fleetwood Enter., Inc. v. Gaskamp, 280 F.3d 1069, 1075-76 (5th Cir. 2002); In reRangel, 45 S.W.3d 783, 787 (Tex. App.—Waco 2001, orig. proceeding); Nationwide of Bryan, Inc., v. Dyer, 969 S.W.2d 518, 520 (Tex. App.—Austin 1998, no pet.).   7. See Meyer, 211 S.W.3d at 305; In re Weekley Homes, L.P., 180 S.W.3d 127, 135 (Tex. 2005); In re Kellogg, 166 S.W.3d at 739; In re Vesta Ins. Group, Inc., 192 S.W.3d 759, 761-62 (Tex. 2006) (per curiam).   8. In re Kellogg, 166 S.W.3d at 739.   9. SeeMeyer, 211 S.W.3d at 305. Equitable estoppel cannot be used by a signatory to compel a non-signatory to arbitrate, regardless of how closely the non-signatory is affiliated with the signing party.  Bridas S.A.P.I.C. v. Gov’t of Turkmenistan, 345 F.3d 347, 361 (5th Cir. 2003); In re Merrill Lynch, Pierce, Genner & Smith, Inc., 195 S.W.3d 807, 815 (Tex. App.—Dallas 2006, orig. proceeding).   10. In re Kellogg, 166 S.W.3d at 739.   11. In re Weekley Homes, L.P., 180 S.W.3d at 135.   12. Id. at 131-33. The Texas Supreme Court has taken note of another species of direct benefits estoppel applied by federal courts, which binds non-signatories “who, during the life of the contract, have embraced the contract despite their non-signatory status but then, during litigation, attempt to repudiate the arbitration clause in the agreement.” However, the court did not reach the question of whether this form of direct benefits estoppel would be available under Texas law.  In re Kellogg, 166 S.W.3d at 741 n.9 (citing cases).   13. In re Vesta Ins. Group, Inc., 192 S.W.3d at 761 (per curiam) (holding that non-signatories may be bound to arbitrate a tortious interference claim, even though such a claim arises from both the contract and general law, because a tortious interference claim falls more “on the arbitration side of the scale.”).   14. In re Kellogg, 166 S.W.3d at 741.   15. Id.   16. Id.   17. 180 S.W.3d at 133-35.  But see Gaskamp, 280 F.3d at 1076-77 (finding that, without more, children of signatory parents could not be bound to arbitrate merely on the basis of the parent-child relationship).   18. See, e.g., In re Weekley Homes, 180 S.W.3d at 134-35; Hellenic Inv. Fund, Inc. v. Det Norske Veritas, 464 F.3d 514, 517-20 (5th Cir. 2006).   19. Wood v. PennTex Res., L.P., 458 F. Supp. 2d 355, 370-73 (S.D. Tex. 2006).   20. Grigson v. Creative Artists Agency, 210 F.3d 524, 528 (5th Cir. 2000).   21. Id.   22. Id. at 527.   23. Id.  A signatory relies on the terms of the written agreement “[w]hen a party’s right to recover and its damages depend on the agreement containing the arbitration provision.”  Meyer, 211 S.W.3d at 307; see alsoGrigson, 210 F.3d at 527 (“When each of a signatory’s claims against a nonsignatory makes reference to or presumes the existence of the written agreement, the signatory’s claims arise out of and relate directly to the written agreement, and arbitration is appropriate.”); ANCO Ins. Serv. of Houston v. Romero, 27 S.W.3d 1, 6 (Tex. App.—San Antonio 2000, pet. denied) (stating that a party relies on a written agreement when it “would have no claims had the agreement containing the arbitration provision not been signed”).   24. Grigson, 210 F.3d at 527.  This prong prevents a signatory from escaping enforcement of an arbitration clause by simply including a non-signatory in its suit.  See Grigson, 210 F.3d at 528.   25. See, e.g., Meyer, 211 S.W.3d at 305 (applying the first test to compel arbitration under equitable estoppel theories); Brown v. Anderson, 102 S.W.3d 245, 250 (Tex. App.—Beaumont 2003, pet. denied) (applying the second test to hold that a signatory plaintiff could not avoid arbitration where the causes of action against non-signatory defendants were “based upon the same operative facts” and were “inherently inseparable” from the causes of action against a signatory defendant); In re EGL Eagle Global Logistics, L.P., 89 S.W.3d 761, 765 (Tex. App.—Houston [1st] 2002, no pet.) (applying the second test to find equitable estoppel where signatory plaintiff alleged non-signatory defendants assisted and conspired with a signatory defendant); In re Double S Petroleum, Ltd., No. 04-05-00643-CV, 2005 WL 3406295, at *5 (Tex. App.—San Antonio 2005, orig. proceeding) (not designated for publication) (applying the second test to compel arbitration where plaintiff signatory asserted “essentially the same claims” against a non-signatory and signatory defendant).   26. Meyer, 211 S.W.3d at 305 (applying equitable estoppel where signatory plaintiffs asserted claims against non-signatories which would not have existed but for the agreement containing the arbitration provision, despite the plaintiffs’ contention that their claims merely “touched upon” the agreement).   27. See Grigson, 210 F.3d at 527-28; Brown v. Pac. Life Ins. Co., 462 F.3d 384, 399 (5th Cir. 2006).   28. See Brown, 102 S.W.3d at 249-51 (holding the trial court abused its discretion by failing to compel arbitration where Grigson’s “intertwined claims” approach applied); In re Double S Petroleum, 2005 WL 3406295, at *5 (holding the trial court abused its discretion in not ordering arbitration under equitable estoppel doctrine where claims were inherently inseparable); see also In re EGL Eagle, 89 S.W.3d at 765 (holding the trial court did not err in applying equitable estoppel where there was concerted misconduct).  The Court did not overrule, or even mention, these cases in Merrill Lynch.   29. Meyer, 211 S.W.3d at 305-06 (stating that “equitable estoppel allows a nonsignatory to compel arbitration in two different circumstances” and refuting the court of appeal’s conclusion that the claims were not intertwined).    30. Meyer, 211 S.W.3d at 305-06 (calling Grigson a “substantially correct statement of Texas law”).  Justices Johnson and Wainwright noted this inconsistency in their partial dissent in In re Merrill Lynch Trust Co., 2007 WL 2404845, at *14 (stating that “less than a year ago we at least implied both prongs of Grigson’s equitable estoppel construct apply even in cases subject to the TAA.”).  The Merrill Lynch Court briefly addressed Meyer in a footnote, stating, “We noted allegations of concerted misconduct in Meyer, but compelled arbitration because the plaintiff’s claims depended on the underlying agreement, and thus were governed by principles of direct-benefits estoppel.”  Id. at n.22 (citation omitted).  Because direct benefits estoppel applies to situations in which signatories seek to compel arbitration against non-signatories, the author suspects that the Court intended to refer to Grigson’s first prong, and not to direct benefits estoppel as the term previously has been used by the Texas Supreme Court.   31. In re Merrill Lynch Trust Co., 2007 WL 2404845, at *3-5.   32. Id. at *5.   33. In re EGL Eagle Global Logistics, L.P., 89 S.W.3d at 766.   34. Romero, 27 S.W.3d at 6.   35. Texas Enter., Inc. v. Arnold Oil Co., 59 S.W.3d 244, 249–50 (Tex. App.—San Antonio 2001, orig. proceeding).   36. See Meyer, 211 S.W.3d at  306.   37. Id. at 306-07 (holding that the phrase “between the parties,” without more, suggested only that the parties meant to ensure that the agreement applied to disputes between them).   38. Id. at 307 (noting that estoppel “cannot give non-parties a greater right to arbitration than the parties themselves have”).

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