On September 14, the U.S. Court of Appeals for the Third Circuit addressed the perennially thorny issue of whether the courts or arbitrators retain the authority to resolve questions involving the enforceability of arbitration agreements. In MZM Construction Company, Inc. v. New Jersey Building Laborers Statewide Benefits Funds,[1] the Third Circuit held that the courts must decide questions of arbitrability in cases where a party challenges the validity of the underlying contract that contains the arbitration agreement — even when the putative arbitration agreement refers these questions to the arbitrators. The court’s decision highlights the complexities associated with the enforcement of arbitration clauses and the limits to a party’s ability to compel arbitration.

In 2001, New Jersey construction company MZM Construction Company hired workers from a local labor union for a construction project at Newark International Airport. After the project began, a labor union representative approached and asked MZM’s president to execute a “short-form agreement.” The short-form agreement incorporated by reference two statewide collective bargaining agreements that required MZM to make contributions to the New Jersey Building Laborers’ Statewide Benefits Funds (the Funds).

From 2001 to 2018, MZM made more than $500,000 in contributions to the Funds for MZM’s work at the Newark International Airport (which MZM completed in 2004) and other projects. However, in 2018, the Funds audited MZM’s contributions and concluded that MZM owed approximately $230,000 in outstanding contributions. In support, the Funds cited the collective bargaining agreements incorporated by reference into the short-form agreement that MZM signed in 2002.

The Funds also informed MZM that, absent payment, the Funds would initiate arbitration. The Funds noted that the collective bargaining agreements included arbitration agreements, whereby the contracting parties agreed to arbitrate, among other things, “questions or grievances involving the interpretation and application of this Agreement.” The arbitration agreements also included delegation provisions that provided, “The Arbitrator shall have the authority to decide whether an Agreement exists, where that is a dispute.”

In November 2018, the Funds initiated arbitration against MZM. The same month, MZM filed a complaint against the Funds in the U.S. District Court for the District of New Jersey seeking to enjoin the arbitration. According to MZM, notwithstanding the short-form agreement’s reference to the collective bargaining agreements, MZM never signed, received, or intended to be bound by the collective bargaining agreements. As a result, MZM sought a declaratory judgment that (1) MZM was not a signatory to the collective bargaining agreements, (2) had no obligation to arbitrate the dispute, and (3) was not liable to the Funds for the outstanding contributions.

The Funds moved to dismiss MZM’s complaint and asserted that the entire dispute, including whether MZM had to arbitrate the matter, must be decided in arbitration under the collective bargaining agreements’ delegation provisions. After hearing arguments, the district court questioned the arbitration agreements’ validity and denied the Fund’s motion to dismiss.

The Fund’s then filed a motion to reconsider, citing newly discovered evidence and the district once again denied the Funds efforts to send the dispute to arbitration. The district court concluded that the collective bargaining agreements’ delegation provisions “were not sufficient to send the matter to an arbitrator where a party legitimately disputes whether it ever saw, heard about, or agreed to a [collective bargaining agreements] at all.”

On appeal, the Third Circuit affirmed the district court’s ruling. In its opinion, the appellate court explained that although courts will regularly enforce contractual provisions that clearly and unmistakably refer questions concerning an arbitrator’s jurisdiction to arbitration, the courts always retain authority to decide questions of arbitrability where the formation of the underlying written contract is at issue. In other words, “questions about the ‘making of the agreement to arbitrate’ are for the courts to decide unless the parties have clearly and unmistakably referred those issues to arbitration in a written contract whose formation is not at issue.” (emphasis added).

The Third Circuit concluded that the district court retained the authority to decide whether an enforceable arbitration agreement existed because the plaintiff satisfied the standard required to plead a claim for fraud in the execution that challenged the validity of the entire written agreement. According to the court, the existence of a delegation provision does not change this conclusion. The lack of assent to the underlying contract “necessarily implicates the status of the arbitration agreement, when the container contract and the arbitration provision depend on the same act for their legal effect” and that this concept “is no less true when the container contract includes or incorporates a delegation provision.”

The Third Circuit’s opinion emphasizes that the severability doctrine — the doctrine that stands for the proposition that “an arbitration clause is ‘severable’ and independently enforceable from the rest of the contract in which it is contained”— is not absolute. Indeed, as the court acknowledged, under the severability doctrine, “a party cannot avoid arbitration by attacking the contract containing the arbitration clause as a whole.” Although the issue presented in MZM seemingly invoked severability doctrine and required the court to send the matter to arbitration, the Third Circuit established that the courts cannot independently enforce an arbitration agreement pursuant to the severability doctrine when there is a legitimate question about whether the underlying contract exists.

While the Third Circuit’s opinion in MZM hinged on MZM’s claim for fraud in the execution and could be construed narrowly, the opinion raises questions about how far the courts may venture into questions of arbitrability — even if the arbitration agreement at issue includes a seemingly valid delegation provision. As a result, MZM highlights how critical it is for parties to carefully consider and draft arbitration agreements. The failure of the parties to make their intent to arbitrate disputes and to delegate questions of arbitrability to the arbitrator risks forcing the parties to engage in costly and time consuming parallel litigation proceedings and may ultimately deprive a party of their intended forum.

[1] MZM Construction Company, Inc. v. New Jersey Building Laborers Statewide Benefits Funds, No. 18-3791, 19-3102 (3rd Cir. Sep. 14, 2020).