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Berkeley County School District v. HUB International Ltd.

United States District Court, D. South Carolina, Charleston Division

January 29, 2019




         This matter is before the court on defendants HUB International Limited, HUB International Midwest Limited, HUB International Southeast, and Knauff Insurance Agency, Inc.'s (collectively, “HUB”) motion to compel arbitration. Defendants Stanley J. Pokorney (“Pokorney”) and Scott Pokorney (“Scott Pokorney”) (collectively with HUB, “the Insurance Defendants”) joined in the motion. For the reasons set forth below, the court denies the motion to compel arbitration.

         I. BACKGROUND

         This case arises out of the alleged embezzlement of millions of dollars from plaintiff Berkeley County School District (“the District”). The District alleges that its former Chief Financial Officer Brantley Thomas (“Thomas”) conspired with HUB and HUB's employees Pokorney and Scott Pokorney to defraud the District through a concerted kickback scheme related to the purchasing of unnecessary insurance policies. Specifically, the District alleges that “Thomas engaged in a pervasive scheme of corruption, in which he embezzled and misappropriated District funds, demanded and accepted multiple illegal kickbacks, and exposed the District to exorbitant fees and losses that have cost the taxpayers of Berkeley County tens of millions of dollars.” ECF No. 36 at 2. Thomas allegedly conspired with Pokorney, who was the District's insurance consultant and broker, and HUB to concoct a scheme in which Thomas helped Pokorney and HUB obtain the District's insurance business in exchange for kickbacks. As part of this scheme, the District alleges, Thomas and the Insurance Defendants advised the District to purchase insurance policies that they knew were excessive and duplicative and for which the Insurance Defendants received commissions. The District also alleges that the Insurance Defendants charged sham broker's and consulting fees for the management of this insurance and the associated insurance reviews that were improperly conducted. The District alleges that from 2005 to 2017, it paid $6, 799, 956.50 in premiums and $2, 994, 311.65 in broker's fees to the Insurance Defendants. Throughout the scheme, Thomas was provided with kickbacks totaling $32, 000, in addition to expensive trips, hotel rooms, meals, and spa services.[1]

         As part of their alleged concerted effort to defraud the District, Thomas and the Insurance Defendants entered into a number of brokerage service agreements (“the Brokerage Service Agreements”), each containing the following arbitration clause:

All disputes, claims or controversies relating to this Agreement, or the services provided, which are not otherwise settled, shall be submitted to a panel of three arbritrators and resolved by final and binding arbitration, to the exclusion of any courts of laws, under the commercial rules of the American Arbitration Association.
In those instances where any party is involved in an underlying claim or coverage dispute but the other is not, it is agreed that the arbitrators shall not be bound by any factual or legal determinations in such underlying claim or coverage dispute and that the arbitrators shall, in those cases where liability and/or damages cannot fairly be evaluated until resolution of the underlying claim or coverage dispute, defer their consideration pending resolution of any such underlying claim or coverage dispute.

See, e.g., ECF No. 23, Ex. B at 3 (“the Arbitration Clauses”). The District claims that it had never seen these Brokerage Service Agreements until the Insurance Defendants filed the motion at issue here.

         On November 15, 2017, a South Carolina grand jury indicted Thomas on four counts of embezzlement. In one of the counts, the grand jury charged that Thomas deliberately caused the District to overpay a vendor and then ordered the vendor to send the refund of the overpayment to Thomas's home so that Thomas could use the refund for personal use. The complaint alleges that the vendor was Knauff Insurance Agency (“Knauff”), the predecessor to HUB, and Pokorney was the Knauff employee who refunded to the overpayment to Thomas. Thomas entered a plea of guilty to all of the state charges.

         In addition, on December 7, 2017, the United States Attorney for the District of South Carolina charged Thomas with ten counts of wire fraud arising out of the illegal kickbacks in the amount of $32, 000 that he received from “a broker employee” in exchange for “steer[ing] [the District's] insurance policy purchases through” the broker employee. ECF No. 36 at 9. Thomas entered a guilty plea to these charges. The broker employee, the District alleges, is Pokorney.

         On January 18, 2018, the District filed suit in this court alleging violations of the Racketeer Influenced and Corrupt Organizations Act (“RICO”), the South Carolina Unfair Trade Practices Act, fraud, aiding and abetting fraud, civil conspiracy, breach of fiduciary duty, negligence, constructive trust, and unjust enrichment against all defendants, and negligence per se and breach of contract against the Insurance Defendants. On March 5, 2018, HUB filed a motion to compel arbitration, arguing that all of the District's claims stem from the Brokerage Service Agreements that contain the Arbitration Clauses. ECF No. 23. Scott Pokorney joined the motion on March 12, 2018, ECF No. 29, and Pokorney joined the motion on March 19, 2018, ECF No. 35. On March 19, 2018, the District filed a response to the motion to compel arbitration. ECF No. 33. On that same day, the District also filed an amended complaint. ECF No. 36. In this amended complaint, now the operative complaint in this case, the District removes certain claims, such as the breach of contract claim, and levies the following causes of action: RICO, fraud, negligent misrepresentation, civil conspiracy, breach of fiduciary duty, aiding and abetting breach of fiduciary duty, negligence, conversion, constructive trust, and unjust enrichment against all defendants, and negligence per se against the Insurance Defendants. HUB filed a reply on March 26, 2018. ECF No. 38. The court held a hearing on May 17, 2018. Pursuant to the court's request, the parties submitted supplemental briefing on July 6, 2018 addressing the potential impact of the United States Supreme Court's grant of certiorari in Archer and White Sales, Inc. v. Henry Schein, Inc., 878 F.3d 488 (5th Cir. 2017), cert. granted, 138 S.Ct. 2678 (2018) (mem.). ECF Nos. 57-59.[2] The motion has been fully briefed and is now ripe for the court's review.


         The Insurance Defendants contend that this case must be resolved by arbitration because the Arbitration Clauses in the Brokerage Service Agreements clearly evince the parties' intent to submit the threshold question of arbitrability to the arbitrator. As such, they argue, any questions about the validity, scope, or enforceability of the Arbitration Clauses have been reserved for the arbitrators to decide. The District opposes arbitration and submits a number of challenges to both the Arbitration Clauses and the entirety of the Brokerage Service Agreements, including: (1) the Brokerage Service Agreements and Arbitration Clauses are invalid under South Carolina law because the District never agreed to them and was unaware they existed until the filing of this motion to compel; (2) Thomas could not have agreed to the Brokerage Service Agreements because the South Carolina state procurement code requires that the District undertake a competitive bid process to enter into such contracts, which was not followed here, and the procurement code does not allow for the District to enter into contracts that require arbitration; (3) the Arbitration Clauses should be found null and void because they were induced by fraud; (4) the Arbitration Clauses are unenforceable because the Insurance Defendants' and Thomas's actions related to the Brokerage Service Agreements were illegal, outrageous, and fraudulent; (5) Thomas was acting outside of the scope of his agency when he entered into the Brokerage Service Agreements; (6) not all of the claims in the amended complaint relate to the Brokerage Service Agreements; (7) the District is not seeking to enforce the Brokerage Service Agreements, which would in turn require enforcing the Arbitration Clauses; and (8) the Arbitration Clauses do not require arbitrators to determine arbitrability. The Insurance Defendants counter that all of the District's challenges to the existence of both the Arbitration Clause and the Brokerage Service Agreements must be resolved by the arbritrator, because the commercial rules of the American Arbitration Association (“AAA”) were incorporated by reference into the Arbitration Clauses. The rules state 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 or to the arbitrability of any claim.” ECF No. 38 at 3 (citing AAA Rules, R-7(a)). Thus, according to the Insurance Defendants, there is “clear and unmistakable evidence of the parties' intent to arbitrate arbitrability, ” meaning the court has no jurisdiction to determine even the threshold question of arbitrability and must send the case to arbitration. See Simply Wireless, Inc. v. T-Mobile US, Inc., 877 F.3d 522, 527-28 (4th Cir. 2017).

         The law on arbitration has become rather complex. There are nuances that can be easy to overlook, and courts use various terms interchangeably, which has led to areas of the law becoming convoluted. Therefore, before addressing the specific arguments of the case at hand, the court will provide an overview of the law related to the relevant arbitration principles at issue here.

         As an initial matter, courts use the word “agreement” in a variety of contexts when discussing arbitration, sometimes making it difficult to determine to which agreement the court is actually referring. The general meeting of the minds to use arbitration as a method of dispute resolution will be referred to as “an agreement to arbitrate.” Within an agreement to arbitrate, parties may also agree to send questions of arbitrability to arbitration. Arbitrability refers to “gateway questions, ” such as whether the parties agreed to arbitrate or whether the agreement to arbitrate covers a certain dispute. Rent-A-Center, W., Inc. v. Jackson, 561 U.S. 63, 68-69 (2010). An agreement to arbitrate these gateway questions “is simply an additional, antecedent agreement” to an agreement to arbitrate. Id. at 70.

         An agreement to arbitrate may be included in a contractual relationship in two ways. First, the parties may form a new relationship, for example, an employer/employee relationship. Pursuant to that relationship, they may sign a contract, the entirety of which requires parties to arbitrate any disputes related to their relationship. For example, in Rent-A-Center, the employer hired an employee, and they entered into a contract titled “Mutual Agreement to Arbitrate Claims” as a condition to the employee's employment. 561 U.S. at 65. The court will refer to this type of agreement to arbitrate as an “arbitration contract.” Within an arbitration contract, there may be a delegation provision that delegates any dispute regarding the parties' relationship to arbitration (“delegation provision”). Id. at 68.

         Alternatively, parties may enter into a contract related to any number of topics. The court will refer to this contract as a “container contract.” Within that contract, there may be an arbitration clause (“arbitration clause”) that requires any claim related to the container contract to be resolved by arbitration. An example of a container contract is found in Simply Wireless, Inc., where the parties entered into a contract titled “Amended & Restated Limited Purpose Co-Marketing and Distribution Agreement for Equipment Sold th[r]ough HSN & QVC” pursuant to the parties' joint project. 877 F.3d at 524. This contract contained an arbitration clause that sent claims related to the contract to arbitration. Id. at 525. Moreover, within the arbitration clause, there may be a delegation provision that requires an arbitrator to resolve any arbitrability questions. Here, the challenged agreement to arbitrate is an arbitration clause found within the Brokerage Service Agreements, which are container contracts. While there is no separate delegation provision in the Arbitration Clauses within the Brokerage Service Agreements, the Insurance Defendants argue that the incorporation of the AAA rules create a de facto delegation provision. Therefore, for ease of reference and where appropriate, in subsequent discussion the court will refer to agreements to arbitrate as arbitration clauses.

         A. Principles of Arbitration Law

         First, the court will discuss how a challenge to the validity of an arbitration clause under the § 2 of the Federal Arbitration Act (“FAA”) is handled. Then the court will distinguish between a challenge to the validity of the clause and a challenge to whether an agreement to arbitrate was formed in the first place. This distinction between validity and formation will become important later in the discussion. After identifying the distinction, the court will explain that when a party argues that it never agreed to arbitrate, it is generally the court's role to determine whether the parties did in fact form an agreement to arbitrate. In addition, the court will analyze the question of whether it must constrain its formation determination to the arbitration clause, or if it may consider formation of the container contract as well. Then, the court will discuss how challenges to a delegation provision are handled. Within this discussion, the court draws another distinction between the arbitrability issues of scope and formation. The court concludes by explaining that even if it appears that the parties agreed to arbitrate issues of arbitrability, the court still must first determine whether those parties entered into an agreement to arbitrate in the first place, meaning that here, the court must determine whether the District formed an agreement to arbitrate with the Insurance Defendants. The court also concludes that it may consider both the Arbitration Clauses and the Brokerage Service Clauses to determine if such an agreement exists. For the reasons discussed further below, the court finds here that an agreement to arbitrate was not properly formed, and thus denies the Insurance Defendants' motion to compel arbitration.

         1. Challenges to Validity of an Arbitration Clause under ...

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