Arbitration. Arbitrability. Second Circuit holds that incorporation by reference of procedural rules into an arbitration agreement does not, per se, demonstrate clear and unmistakable evidence of the parties' intent to delegate threshold questions of arbitrability to the arbitrator

 DDK Hotels, LLC v. Williams-Sonoma, Inc., No. 20-2748-cv (2nd Cir. July 23, 2021) [click for opinion]

DDK Hotels, LLC, DDK/WE Hospitality Partners, LLC, and DDK/WE Hotels Management, LLC (collectively "DDK") entered into a joint venture with Williams-Sonoma, Inc. ("Williams-Sonoma") and Williams-Sonoma Stores, Inc. ("West Elm") to develop a line of boutique hotels that would complement West Elm's home furnishing business. Despite a promising start, disagreements over the vision for the project soon arose. As a result, West Elm began seeking other business partners for the project, allegedly in violation of the parties' joint venture agreement.

DDK subsequently filed suit against Williams-Sonoma and West Elm in the U.S. District Court for the Eastern District of New York, asserting claims for breach of contract, breach of the implied covenant of good faith and fair dealing, breach of fiduciary duty, aiding and abetting breach of fiduciary duty, and unjust enrichment. West Elm brought an action in the Delaware Court of Chancery, seeking to dissolve the joint venture.

The Delaware court dismissed West Elm's action, concluding that dissolution of the joint venture was not warranted. In response, DDK filed a supplemental complaint in the Eastern District of New York, asserting an additional claim for breach of the prevailing party provision of the joint venture agreement, and seeking the reasonable costs, charges and expenses incurred in the Delaware action. West Elm moved for arbitration on this claim.

The joint venture agreement incorporated by reference the American Arbitration Association ("AAA") Commercial Rules, including Rule 7(a), which provides that "[t]he arbitrator shall have the power to rule on his or her own jurisdiction, including any objections with respect to the existence, scope or validity of the arbitration agreement." Yet the district court rejected West Elm's assertion that incorporation of the AAA Commercial Rules was alone sufficient to evince the parties' clear and unmistakable intent to delegate questions of arbitrability to the arbitrator.

Because the joint venture agreement provided that the only arbitrable issues were "Disputed Matters," which the agreement defined narrowly, the district court held that this language rendered the parties' intent to delegate arbitrability to the arbitrator "neither clear nor unmistakable." The district court then itself decided that DDK's supplemental claim did not fall within the scope of the joint venture agreement's alternative dispute resolution clause and denied West Elm's motion to compel arbitration.

On appeal, the Second Circuit explained that "threshold questions of arbitrability," such as whether an arbitration agreement applies to a particular dispute, "presumptively should be resolved by the court and not referred to the arbitrator." For this reason, the courts do not assume that the parties agreed to arbitrate arbitrability unless there is "clear and unmistakable evidence that they did so." This rule is designed to guard against the risk of forcing parties to arbitrate a matter they may well not have agreed to arbitrate.

The Second Circuit noted that, in determining whether the court or the arbitrator is to resolve the arbitrability of a dispute, the arbitration agreement is determinative. Where the parties explicitly incorporate procedural rules that empower an arbitrator to decide issues of arbitrability, that incorporation may serve as such "clear and unmistakable intent." However, context matters. Incorporation of procedural rules into an arbitration agreement does not, per se, demonstrate clear and unmistakable evidence of the parties' intent to delegate threshold questions of arbitrability to the arbitrator, where other aspects of the contract create ambiguity as to the parties' intent.

The Second Circuit reasoned that the surrounding circumstances should be taken into account. Where the agreement is broad and expresses an intent to arbitrate all aspects of all disputes, this—coupled with the incorporation of a procedural rule like AAA Commercial Rule 7(a)—constitutes clear and unmistakable evidence of the parties' intent to delegate the question of arbitrability to the arbitrator. Conversely, where the arbitration agreement is narrower, vague, or contains exclusionary language suggesting that the parties consented to arbitrate only a limited subset of disputes, incorporation of rules that empower an arbitrator to decide issues of arbitrability, standing alone, does not suffice to establish the requisite clear and unmistakable inference of intent to arbitrate arbitrability. Here, the Second Circuit recognized that the arbitration clause at issue was not broad and did not cover all disputes. Instead, it covered only "Disputed Matters," that were narrowly defined in the agreement. For this reason, the Second Circuit agreed with the district court that the arbitration agreement did not "clearly and unmistakably" delegate arbitrability to the arbitrator, and affirmed the district court's order denying West Elm's motion to compel arbitration.

Isabella de la Guardia of the Miami office contributed to this summary.