Case Law Conflict

Dean Witter first argued that the calls and options agreement did contain an arbitration provision, and the Superior Court agreed.



Todd said the front page of the agreement contained a bold-faced statement saying: “This agreement contains an arbitration clause on the reverse side at paragraph six.” The related paragraph was, in fact, an arbitration clause, Todd said.



Dean Witter then argued that an attack on the validity of a contract for fraud does not invalidate an arbitration provision in the contract unless the allegation of fraud goes specifically to the arbitration provision.



Because Paone’s allegations of fraud were not directed at the arbitration provision, Dean Witter argued its petition to compel arbitration should have been granted.



However, Paone claimed that his limited intelligence and experience considered along with Smith’s experience in financial matters created a confidential relationship much like a fiduciary duty.



That relationship made the contracts and their arbitration provisions voidable, Paone argued.



Todd said the arguments created a sticky situation for the court to resolve.



“As both Dean Witter and Paone rely on generally sound legal principles,” Todd said, “this case presents a conflict between case law that regards an arbitration provision as enforceable even where an agreement is challenged as fraudulently induced, and case law that requires that an agreement borne of a confidential relationship be given special scrutiny.”



Todd cited a 1975 state Supreme Court case, Flightways Corp. v. Keystone Helicopter Corp., 331 A.2d 184 (Pa. 1975), in which the justices set out the rule for deciding the validity of an arbitration provision in an allegedly fraudulent contract.



The Flightways court said the arbitration provision should be considered a severable part of the agreement unless the allegation of fraud goes directly to that provision.



Paone did not specifically allege the arbitration provision was fraudulently induced, so the Flightways rule would appear to control, Todd said.



However, Paone’s case was unique because, unlike Flightways and the recent cases that have cited it, the agreements at issue were alleged to be the product of a confidential relationship, Todd said.



“Entirely different presumptions come into play when a confidential relationship is at issue,” Todd said.



According to another state Supreme Court case, Frowen v. Blank, 425 A.2d 412 (Pa. 1981), from 1981, once a confidential relationship is shown to exist, it is the obligation of the party attempting to enforce the agreement to prove that there has not been a breach of the other party’s trust.



Todd said Dean Witter had not shown that the contract was fair or entered into with an understanding of its nature and terms, as Frowen requires.



In addition, Todd said, under Flightways the court is limited to examine whether an agreement to arbitrate was “entered into” and whether the dispute is governed by the arbitration agreement.



“Here, it is true that Paone signed the calls and options agreement. However, in the context of a confidential relationship, the fact that the party against whom an agreement is to be enforced signed the agreement is insufficient for its enforceability,” Todd said.



“Rather, it must be shown that the party had an ‘understanding and knowledge of its nature, terms and consequences’ … before the agreement may be enforced against him.”

Trial Court’s Instruction

In essence, Todd said, the court’s decision means that the “presumptions and burden-shifting” espoused by Frowen take precedence over the general principles of Flightways.



When a trial court is presented with an arbitration agreement between parties alleged to be in a confidential relationship, the court must first determine whether the evidence supports the existence of the confidential relationship.



“If so, the trial court must determine whether the proponent of the arbitration provision (presumably the stronger party) has met its burden of showing that the provision is unfair under all the circumstances, … that it was entered into with knowledge of its nature and consequences … and thus that the provision was not itself a result of a violation of the trust reposed in the confidential relationship,” Todd said.



“If this burden is not met, then the arbitration provision is unenforceable. Where this burden is met, or if the evidence does not support a finding that a confidential relationship exists, then Flightways dictates the enforceability of the arbitration provision.”



Todd said the trial court’s order was vacated and remanded for a hearing to give Dean Witter an opportunity to comply with the standards set out in the majority opinion.



Superior Court Judge Frank L. Musmanno joined Todd in the majority.

Dissent