Fifth Circuit Vacates Northern District of Texas Order Compelling Arbitration

The United States Court of Appeals for the Fifth Circuit has reversed a district court’s order compelling a proposed class action lawsuit to arbitration.  In Forby v. One Technologies, L.P., et al., No. 17-10883 (5th Cir., November 28, 2018), a customer, Forby, filed a putative class action lawsuit against a company, One Technologies (“One Tech”), in an Illinois state court.  In her complaint, Forby asserted that One Tech violated the Illinois Consumer Fraud and Deceptive Business Practices Act (“ICFA”) and received unjust enrichment under Illinois law.  Soon after Forby’s case was filed, it was transferred first to the Southern District of Illinois and later to a Texas federal district court based on One Tech’s assertion that Forby’s claims were subject to arbitration in Texas.

After the case was transferred to the Northern District of Texas, counsel for One Tech filed a motion to dismiss the case based on Rule 12(b)(6) of the Federal Rules of Civil Procedure.  In One Tech’s 12(b)(6) motion, however, the company failed to state the case was subject to arbitration.  After Forby responded to One Tech’s motion to dismiss, the company filed a reply that once again did not bring up arbitration. The Texas federal court granted One Tech’s motion to dismiss Forby’s unjust enrichment claims, but refused to dismiss her ICFA cause of action.

Next, the parties attended a Rule 26(f) discovery conference and Forby submitted several requests for production.  Four days after receiving Forby’s requests, One Tech filed a motion to compel the case to arbitration.  In addition, the company sought to stay all further discovery until the district court ruled on One Tech’s motion to compel.

The Northern District of Texas granted One Tech’s motion to compel arbitration and dismissed Forby’s case with prejudice.  The court stated although One Tech substantially invoked the judicial process, Forby was not significantly prejudiced.  According to the federal district court, Forby merely experienced additional delay which was not sufficient to demonstrate waiver under Fifth Circuit precedent.  In response, Forby filed an appeal with the nation’s Fifth Circuit.

On appeal, the court first addressed the appropriate standard of review.  The appellate court then stated the right to arbitration is waived where a party to a lawsuit has substantially invoked the judicial process and the opposing party is prejudiced as a result.  After that, the court turned to the question of whether One Tech’s actions substantially invoked the judicial process.  The court stated:

We first examine whether One Tech substantially invoked the judicial process. To invoke the judicial process, a party “must, at the very least, engage in some overt act in court that evinces a desire to resolve the arbitrable dispute through litigation rather than arbitration.” In Re Mirant, 613 F.3d 584, 589 (5th Cir. 2010) (quoting Subway Equip. Leasing Corp. v. Forte, 169 F.3d 324, 326 (5th Cir. 1999)). “A party waives arbitration by seeking a decision on the merits before attempting to arbitrate.” Id. (quoting Petroleum Pipe Ams. Corp. v. Jindal Saw, Ltd., 575 F.3d 476, 480 (5th Cir. 2009)). “A dismissal with prejudice for failure to state a claim is a decision on the merits and essentially ends the plaintiff’s lawsuit.” Id. (quoting Mahone v. Addicks Util. Dist. of Harris County, 836 F.2d 921, 940 (5th Cir. 1988)).

One Tech was fully aware of its right to compel arbitration when it filed its 12(b)(6) motion to dismiss. After all, it presented the right to arbitration as the reason it sought to transfer the case from Illinois to Texas. However, once in Texas, One Tech did not move to compel arbitration even in the alternative to its motion to dismiss. Rather, it pursued and partially obtained a dismissal with prejudice of Forby’s claims. One Tech’s action of moving to dismiss Forby’s claims with no mention of compelling arbitration demonstrated a desire to resolve the dispute in litigation rather than arbitration.

Next, the Fifth Circuit ruled the cases One Tech offered in support of the company’s claim it did not substantially invoke the judicial process were distinguishable.  The court said:

The cases One Tech cites in which courts found no invocation of the judicial process are distinguishable from its full-throated attempt to win this case on the merits in federal court. Some of those cases found that the party seeking arbitration did not invoke the judicial process because its motion to dismiss was filed concurrently with a motion to seek arbitration. See, e.g., Keytrade USA, Inc. v. Ain Temouchent M/V, 404 F.3d 891, 897 (5th Cir. 2005) (motion for summary judgment filed concurrently with motion to compel arbitration). In others, the party seeking arbitration did not wait for the court’s merit ruling—and thus get a sense of the court’s view of the case—before moving to compel arbitration. Pacheco v. PCM Const. Servs., L.L.C., 602 F. App’x 945, 948 (5th Cir. 2015) (motions to dismiss dealt with narrow ancillary issues and had not been ruled on when the motion to compel arbitration had been filed.). Even further afield are cases in which the party seeking arbitration never sought a merits ruling in court but only delayed or raised procedural concerns. See Gulf Guar. Life Ins. Co. v. Conn. Gen. Life Ins. Co., 304 F.3d 476, 485 (5th Cir. 2002); Sedco, Inc. v. Petroleos Mexicanos Mexican Nat’l Oil Co., 767 F.2d 1140 (5th Cir. 1985). In contrast, One Tech sought a full dismissal on the merits—prejudice attaches to a Rule 12(b)(6) dismissal. Its conduct thus fits squarely within our caselaw recognizing that the judicial process is invoked when a party “seek[s] a decision on the merits before attempting to arbitrate.” Petroleum Pipe, 575 F.3d at 480; see also Mirant, 613 F.3d at 589. Accordingly, the district court was correct in finding One Tech substantially invoked the judicial process.

After that, the appellate court turned to the question of whether Forby was prejudiced by One Tech’s actions.  The Court of Appeals stated:

One Tech received a transfer to Texas for the sole purpose of compelling arbitration but waited thirteen months before moving to compel arbitration while it attempted to obtain a dismissal with prejudice from the district court. The district court correctly concluded that Forby experienced prejudice from One Tech’s delay in invoking arbitration. “A party cannot keep its right to demand arbitration in reserve indefinitely while it pursues a decision on the merits before the district court.” Mirant, 613 F.3d at 591. However, the district court failed to find prejudice for damage to Forby’s legal position or from additional expenses incurred litigating her case in the district court.

The district court erred in concluding that Forby failed to establish prejudice to her legal position. When a party will have to re-litigate in the arbitration forum an issue already decided by the district court in its favor, that party is prejudiced. Nicholas, 565 F.3d at 911; see also Petroleum Pipe, 575 F.3d at 482 (citing Kramer v. Hammond, 943 F.2d 176, 179 (2d Cir. 1991) (“Prejudice can be substantive, such as when a party loses a motion on the merits and then attempts, in effect, to relitigate the issue by invoking arbitration.”). A party does not get to learn that the district court is not receptive to its arguments and then be allowed “a second bite at the apple through arbitration.” Petroleum Pipe, 575 F.3d at 482.

One Tech’s motion to dismiss included the attachment of declarations and exhibits detailing One Tech’s website and went directly to the merits of Forby’s ICFA claim. Specifically, the motion requested that the district court find the disclosures present on One Tech’s website meant that the website was not deceptive as a matter of law. The district court was not receptive to One Tech’s argument and declined to find that the website was not deceptive as a matter of law. To be sure, the Rule 12 ruling did not finally resolve whether the website was deceptive. However, it was not a motion seeking dismissal because of a technical pleading deficiency—it asked the court to look at the key question the case presents concerning adequacy of the website disclosures. If this case were to proceed to arbitration, Forby would have to re-litigate whether One Tech’s website was deceptive in front of an arbitrator after One Tech already tested its arguments with a district court judge. Furthermore, One Tech’s agreement not to seek a Rule 12 dismissal in the arbitration would not eliminate the prejudice from withdrawing this dispute from the court where its attempt at early dismissal failed. One Tech was able to check the district court’s temperature on the disclosure issue. It should not now be able to move the case to a forum that might prove more favorable. Therefore, we find that Forby’s legal position was damaged by One Tech’s delay in moving to compel arbitration. Accordingly, the district court erred in finding Forby was not prejudiced.

Because the district court committed error when it ruled Forby was not prejudiced by One Tech’s substantial invocation of the judicial process, the United States Court of Appeals for the Fifth Circuit vacated the lower court’s order compelling arbitration and remanded the case.

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