York.
With different results, arbitration clauses were the topic of two decisions handed down within two weeks of each other in Manhattan district courts.
The liquidation of Lehman Brothers Inc. teaches that an arbitration clause cannot be enforced when the issue concerns the subordination of hundreds of employees’ claims.
In a case decided a fortnight later, individual debtors trying to mount class actions were unable to overcome an arbitration clause. That case, Belton v. GE Capital Consumer Lending Inc., is discussed in the following item.
The case where creditors lost involved Lehman, the largest broker ever liquidated. Decades before it went bankrupt, the brokerage established a deferred compensation plan allowing senior employees to set aside some of their income in exchange for retirement benefits to be paid years or decades later. To comply with tax laws, the plan provided that the workers’ claims would be subordinated to all other creditors’ claims in the event of bankruptcy.
The compensation plan called for arbitration of disputes in the stock exchange. Hundreds of employees joined together and filed a motion calling on the bankruptcy judge to have an arbitrator decide whether the subordination clause was enforceable.
The bankruptcy judge made findings of fact at the conclusion of a hearing and denied the arbitration motion. Manhattan District Judge Edgardo Ramos upheld the bankruptcy judge in an opinion on Sept. 30. The employees are appealing to the Second Circuit; their brief currently is not due until Feb. 10.
Judge Ramos began with the proposition that the policy in the Federal Arbitration Act favoring arbitration must be “rigorously enforced,” to use words penned by the Supreme Court.
According to Second Circuit precedent, arbitration clauses will be overridden only when there is an “inherent conflict” between arbitration and another statute.
In the bankruptcy context, the Second Circuit has a two-part test, the first being an analysis of whether the dispute is core or non-core. Even if the question is core, the second part of the test provides that an arbitration clause will not be overridden unless litigation outside of bankruptcy court “would seriously jeopardize the objectives of the Bankruptcy Code,” the Second Circuit proclaimed in MBNA Bank NA v. Hill.
Judge Ramos held that the bankruptcy court correctly decided that subordination issues are “quintessentially core bankruptcy proceedings.” He also upheld the bankruptcy court’s findings of a “severe conflict” between arbitration and the Code’s objectives.
Given the lower court’s findings, there was no abuse of discretion in refusing to compel arbitration, Judge Ramos held.