Contributed by Doron P. Kenter.
Feuding Siblings Learn that Active Participation in a Bankruptcy Case Does Not Constitute a Waiver of the Right to Pursue Binding Arbitration
In a recent decision in the Bankruptcy Court for the Southern District of New York, Judge Lane issued a comprehensive ruling staying a debtor’s complaint and modifying the automatic stay to permit binding arbitration to proceed.  Judge Lane’s decision in Cardali v. Gentile (In re Cardali) underscores the strong public policy in favor of arbitration, even when the parties already have engaged in extensive litigation before the bankruptcy court on the same issues as those to be arbitrated.
Robert Cardali and his sister, Joanne Gentile, had worked together at Cardali & Cardali, a law firm in which each sibling held a 50% interest.  After the siblings’ relationship deteriorated, the two lawyers ultimately entered into an agreement pursuant to which Cardali agreed to transfer certain funds to Gentile in connection with Cardali’s acquisition of the family legal business.  The agreement provided that “any claim or controversy” would be submitted to non-binding mediation, followed by binding confidential arbitration upon written notice by either party.  Shortly thereafter, Gentile commenced an arbitration to enforce her rights, and Cardali filed a statement of counterclaims in the arbitration.
Cardali subsequently commenced a chapter 11 bankruptcy case, in large part to stay the arbitration that his sister originally had brought.  After a flurry of pleadings (including a proof of claim filed by Gentile and orders permitting each of the siblings to undertake Rule 2004 examinations of the other), Gentile filed a motion to modify the automatic stay to permit the arbitration to proceed, and Cardali filed a related complaint against Gentile in the bankruptcy court.
Judge Lane’s decision to allow the arbitration to proceed reaffirmed Chief Judge Bernstein’s seminal Hagerstown decision, in which the court held that a bankruptcy court faced with a motion to compel arbitration must apply a four part test: (1) did the parties agree to arbitrate, (2) does the dispute fall within their arbitration clause, (3) if federal statutory claims are raised, did Congress intend those claims to be arbitrable, and (4) if the court concludes that some but not all of the claims are arbitrable, should it stay the non-arbitrable claims pending the conclusion of the arbitration?  See Kittay v. Landegger (In re Hagerstown Fiber Ltd. P’ship), 277 B.R. 181, 198 (Bankr. S.D.N.Y. 2002).
Notably, Judge Lane rejected Cardali’s argument that Gentile had waived her right to proceed with the arbitration with respect to the liquidation of her claim against Cardali.  In light of the strong policy in favor of arbitration, the court applied the three-factor test laid out in Brownstone, considering such factors as (1) the time elapsed from the commencement of the litigation to the request for arbitration; (2) the amount of litigation; and (3) proof of prejudice.  Even though Gentile had (1) participated in the § 341(a) meeting of creditors in Cardali’s chapter 11 case, (2) filed a proof of claim in her brother’s bankruptcy case, (3) obtained an order of the court providing for Rule 2004 examination, and (4) participated in some degree in the 2004 discovery, Judge Lane held that such activity did not constitute a waiver of Gentile’s right to proceed with the arbitration.  And even though Gentile could have invoked her right to arbitrate months before she ultimately moved for a modification of the stay to permit the arbitration to go forward, and well before she actively participated in her brother’s bankruptcy case, the court unequivocally rejected the notion that she waived her right to arbitrate.
While the court did not suggest how far liquidation of a claim must proceed in the bankruptcy court in order to constitute such a waiver, one wonders how far along the claims resolution process one must embark before such a waiver can be implicated.  In light of the Rule 2004 discovery, Gentile may have had an opportunity to assess her chances of success in the bankruptcy case before deciding to return to the arbitrator.  Of course, parties in interest should not be afforded a true “second bite at the apple” via an untimely invocation of a right to arbitration, but Cardali suggests that they may be permitted to look at the apple, smell the apple, and even feel the apple, in order to gauge whether to proceed in the bankruptcy court or in an arbitration proceeding.  Should Rule 2004 examinations be made contingent on an overt waiver of any rights to pursue liquidation of the claim in another context?  Or is a right to pursue arbitration so sacrosanct that it should be preserved in all cases other than the extreme?