Broad arbitration agreements unfairly rob employees and consumers of their day in court against corporations that have wronged them. By invoking an arbitration agreement early in litigation—often before a plaintiff can obtain critical incriminating evidence through the discovery process—a company can rip a case from the judge and instead compel the plaintiff to bring it before a corporation-friendly arbitrator.

But sometimes defendants try to “have their cake and eat it, too,” choosing to litigate a case until the plaintiff starts winning and only then enforcing a long-neglected arbitration clause. Federal courts do not look kindly upon this practice. And in a recent case, an appellate court slapped down a defendant for just this sort of dirty trick. In Martin v. Yasuda, a unanimous panel of the Ninth Circuit Court of Appeals held that defendants who litigated a case for 17 months before compelling arbitration had waived their right to arbitrate.

Working for Free

The plaintiffs, cosmetology students in California at Milan Institute of Cosmetology (Milan), performed free manicures, haircuts and other beauty services for Milan’s paying customers. The plaintiffs also cleaned, swept, did laundry, cleaned pedicure bowls, sold beauty products, booked appointments and promoted the school, all without pay. Instead, the hours they worked counted toward their state-mandated training time.

In October 2013 Paige Martin and several other students filed a federal class-action lawsuit against Milan and its owner, Gary Yasuda, alleging under federal and state law they were unpaid employees entitled to a minimum wage, overtime pay, and meal and rest breaks.

Playing Along

Upon enrolling at Milan each student had signed an agreement containing an arbitration clause. In relevant part, the clause said the parties agreed that “any dispute arising from my enrollment at Milan Institute, no matter how described, pleaded or styled, shall be resolved by binding arbitration.”

But Milan and Yasuda didn’t seek to enforce this arbitration clause. Instead, they spent several months working with the plaintiffs to figure out how the case would best be handled. In May 2014 the parties proposed to the court that they first address whether the students could be considered employees under federal and California law. Milan and Yasuda vigorously litigated the issue over the following months: In June and July 2014, they filed, briefed and argued a motion to dismiss, arguing in part that California’s Barbering and Cosmetology Act prevented the plaintiffs from being considered employees under state law.

The court rejected this argument, handing the plaintiffs an early victory on the merits.

Bait and Switch

Even then, the defendants didn’t move to compel arbitration, deciding instead to keep on defending the suit in federal court. In September 2014 they prepared and filed an answer, and by November discovery had begun in earnest. The parties formulated a discovery plan, exchanged documents, noticed depositions, and submitted a joint discovery report to the court. In December, they all participated in a scheduling conference, and discovery continued through February 2015. In that month, the defendants produced discovery responses, stipulated to a protective order, and even allowed Milan’s CFO to be deposed by the plaintiffs.

Finally, in March 2015—after nearly 17 months of motions and discovery—the defendants moved to compel arbitration. The district court denied the motion, finding that through their conduct in litigating the case Milan and Yasuda had waived their right arbitrate. The defendants appealed.

Martin and Yasuda Knew of Their Arbitration Rights but Acted Inconsistently With That Right

In the Ninth Circuit, courts apply a three-factor test to determine whether a party has waived its right to compel arbitration. The defendants admitted that they knew they had a right to compel arbitration, satisfying the first factor.

The second factor is met when a defendant engages in acts inconsistent with his right to arbitrate, and instead “actively litigating his case to take advantage of being in federal court.” The Ninth Circuit found this factor was satisfied because Milan and Yasuda spent so long litigating—including filing, briefing and arguing their losing motion to dismiss on the “key” issue of employee status. Moreover, the court noted the defendants didn’t even mention arbitration until September 2014, nearly a year into the lawsuit, as an affirmative defense in their answer. (They also mentioned it once in a footnote of a subsequent filing.) Indeed, the court noted that during one hearing, the defendants “told the district judge and opposing counsel that they were likely ‘better off’ in federal court” than in arbitration. Thus, Milan and Yasuda’s acts were inconsistent with their right to arbitrate.

No Mulligans

Finally, the court found that Milan and Yasuda’s conduct prejudiced the plaintiffs. If the case were to go to arbitration, the plaintiffs would have to relitigate whether California law precluded them from being considered employees—“a key legal issue on which the district court has ruled in their favor.” The defendants would effectively get “a mulligan on a legal issue [they] chose to litigate in court and lost.” Furthermore, by waiting so long to compel arbitration, Milan and Yasuda forced the plaintiffs to expend “considerable money and effort” on motion practice and discovery, which is “almost inevitably” more expensive in federal court than before an arbitrator. 

No Gaming the System

The Ninth Circuit thus affirmed that companies cannot adopt a strategy of defending claims in federal court while it suits them and then compelling arbitration once things go south. In doing so, the court struck a blow for basic fairness, and against a company that tried to have its cake and eat it, too.