Arbitration Clause in Written Contract Cannot Compel Arbitration in Oral Agreement, First District Finds

As Chicago alternative dispute resolution attorneys, we were pleased to read a decision from the First District Court of Appeal on compelling arbitration in an oral contract related to a written contract. In Marks v. RSM et al, No. 1-09-1988 (Ill. 1st. March 12, 2010), Carol Marks allegedly contracted with RSM McGladrey Inc. to do accounting for investments she held. That was a written contract including an arbitration clause. Marks alleges that she later entered a separate oral contract with the managing director of RSM and RSM for investment advice. However, she was unhappy with the advice she received and later sued the defendants. The defendants sought to compel arbitration under the written contract, and the trial court denied this, saying there was no arbitration agreement for the oral contract. The First upheld that decision.

Marks allegedly originally retained RSM to monitor her investment accounts. For that work, she signed an “engagement letter” as a contract, which included two clauses of interest. One specifies that RSM will use its professional judgment in applying “rule applicable to this engagement.” The other is a binding arbitration clause requiring dispute resolution to go through the American Arbitration Association. Marks signed, but during the remainder of her first year with RSM, she alleges that RSM failed to provide the portfolio reporting services she expected and instead allegdly began to promote various investments to her. She further alleged that RSM charged her separately for those services and emphasized that they were separate, but no written contract was signed. The court also notes that Bober and RSM allegedly  were not registered with the state of Illinois or with the SEC as providers of investment services.

As a result of the alleged solicitations, Marks allegedly put $500,000 into Lancelot Investors Fund II, which put the money into a hedge fund called Thousand Lakes. Marks alleged this conduct damaged her economically. She sued RSM and its managing director, alleging that they breached their fiduciary duties and oral contract with her by allegedly failing to investigate Lancelot and that they allegedly negligently held themselves out as investment experts. She sought to void the oral contract and the Lancelot investment.

In trial court, the defendants denied all of her allegations and also moved to compel arbitration under the engagement letter. This motion was denied without any decision rendered on the merits of the underlying breach of fiduciary duty claim. On their motion for consideration, the defendants alleged that they provided no investment advice and did not recommend Lancelot; rather, the RSM managing director saw from the accounting work that Marks could use such advice, so he introduced her to advisors who did recommend Lancelot. This motion too was denied, and defendants appealed, saying the dispute is covered by the arbitration agreement. They also argued that the Federal Arbitration Act supports this because it has a presumption of arbitrability.

The First rejected this position. Under the FAA, which it said was the governing law in this case, it was proper for the trial court rather than an arbitrator to decide arbitrability. Under that law and the Supreme Court’s decision in AT&T Technologies, Inc. v. Communications Workers of America, 475 U.S. 643, 649, 89 L. Ed. 2d 648, 656, 106 S. Ct. 1415, 1418 (1986), parties cannot be compelled to arbitration unless they have agreed to do so in their contract.

Illinois case law seems to confirm this. The court cited Johnson v. Noble, 240 Ill. App. 3d 731, 732-33 (1992), which also concerned a case with one written contract and one oral contract. In that case, as in this one, the defendant sought to compel arbitration based on the written contract, but the plaintiff argued that the claims arose from the oral contract. The trial and appeals courts agreed, saying the dispute was not arbitrable because it arose from a separate oral contract. Similarly, in Board of Managers of Chestnut Hills Condominium Ass’n. v. Pasquinelli, Inc., 354 Ill. App. 3d 749 (2004), an appeals court upheld the plaintiff’s right to sue because the claims at issue were outside the scope of the arbitration agreement.

In this case, the First wrote, defendants had two separate agreements, one oral and one written. The dispute arose out of the oral contract, it said, so Marks was not required to conform to the terms of the written contract. In fact, the court said the language of the written contract indicates that the parties did not intend to extend the contract past “this engagement.” For those reasons, it upheld the trial court’s decision and remanded it to the trial court for further proceedings.

When the case returned to the trial court, the parties ultimately agreed to it being dismissed with prejudice pursuant to a stipulation to dismiss.  The defendants denied all of the allegations and the case did not proceed to trial so plaintiff’s claims remained allegations that were not proven at a trial. Defendants maintain that the allegations that they did anything wrong were baseless and lacked any merit.

Lubin Austermuehle offers mediation and arbitration services to parties involved in a variety of business disputes, as well as advocacy by attorneys in alternative dispute resolution proceedings.  Our Wheaton mediation and arbitration attorneys also act as advocates in ADR proceedings. To set up a free consultation or talk more about how we can help your business, you can call us toll-free at 630-333-0333 or send us an email through our website.

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