Arbitration with the stars

A movie star and a production company agreed to make a movie and signed a contract with an arbitration clause. After a dispute arose over fees, the movie star commenced arbitration against the company and moved to add the company's sole owner under an alter ego theory.

May the arbitrator add the individual to the arbitration proceeding? After all, California case law clearly recognizes alter ego as an exception to the rule that only signatories to an arbitration agreement may be compelled to arbitrate. And the arbitration agreement gave the arbitrator the power to determine the parties to the arbitration.

Evidently not, according to a recent state appellate court decision. Benaroya v. Willis, 2018 DJDAR 4634 (May 17, 2018).

The Benaroya case

Benaroya Pictures entered into a contract with Westside Corporation to pay the actor Bruce Willis, the president of Westside, to perform in a movie produced by Benaroya. The contract included an arbitration clause that incorporated by reference JAMS Comprehensive Arbitration Rules and Procedures.

After a dispute arose over payment to Willis, Westside and Willis commenced a JAMS arbitration against Benaroya. Willis moved to add Michael Benaroya individually, as "the founder, principal, managing member, sole officer and chief executive officer of Benaroya Pictures," under an alter ego theory.

The arbitrator granted the motion relying on JAMS Rule 11(b), which provided that jurisdictional disputes, including regarding who are proper parties to the arbitration, "shall be submitted to and ruled on by the Arbitrator."

Ultimately, the arbitrator rendered a $5 million award against Benaroya and Michael Benaroya that the trial court confirmed.

The appellate court reversed. Although non-signatories to an arbitration agreement may be compelled to arbitrate in limited circumstances, such a determination must be a judicial one. An arbitrator has no power to compel a third party to arbitrate.

Notwithstanding California's strong public policy favoring arbitration, our courts are equally cognizant of the substantial right to have controversies determined in a judicial forum, a right that is "not lightly to be deemed waived." Thus, the court in the first instance must determine if a non-signatory to an arbitration agreement may be compelled to arbitrate.

This is so even if, as here, the JAMS rules provided the arbitrator with the authority to determine jurisdiction over parties to the arbitration. Otherwise, the proverbial cart is placed before the horse because only parties to an arbitration agreement may be compelled to arbitrate. To presume arbitrability before an initial, judicial determination, is to require a non-signatory to be bound by an arbitration agreement they did not sign.

Implications of Holding

For transactional counsel, the Benaroya holding demonstrates the importance of including as signatories to an arbitration agreement the owners of small companies, especially where judgment "collectability" issues could arise. For litigators, the Benaroya holding raises interesting procedural and tactical questions for practitioners regarding how to compel and resist the arbitration of commercial/business disputes that may include claims against non-signatories. California law provides for at least six theories under which a non-signatory may be bound to arbitrate: (a) incorporation by reference; (b) assumption; (c) agency; (d) veil-piercing or alter ego; (e) estoppel; and (f) third-party beneficiary.

Compelling Non-Signatories

How does a claimant arbitrate claims under an arbitration contract signed by some, but not all, of the potentially liable parties under one of the six theories? Benaroya holds that only the court may compel non-signatories to arbitrate, which would require a judicial determination to add a non-signatory before an arbitration hearing is commenced, a cumbersome process inconsistent with the goals of efficient arbitration as it requires adjudication in two forums.

Resisting Arbitration

Ironically, related parties (such as a company and its owner) wanting to avoid arbitration could point to Benaroya and decline to arbitrate if faced with a court and arbitration proceedings. Code of Civil Procedure Section 1281.2(c) provides the court with broad discretion to decline to compel arbitration because of the "possibility of conflicting rulings on a common issue of law or fact."

Conclusion

Perhaps a procedural solution for the claimant is to file one proceeding, a court action, to compel arbitration against all parties, and seek a judicial determination against non-signatories before requesting the court to order all parties to arbitrate. Benaroya raises interesting procedural and tactical questions that will have to be addressed by future published opinions. Until then, the holding is clear. Only the court, and not the arbitrator, may compel arbitration against non-signatories to the underlying arbitration agreement.