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Corporation Denied Motion to Enjoin Arbitration against its Alleged Alter Ego

In Royal Wine Corp. v. Cognac Ferrand SAS, Justice Andrea Masley of the Commercial Division denied Plaintiff Royal Wine Corporation’s (“Royal”) motion for a preliminary injunction to enjoin arbitration that defendant Cognac Ferrand SAS (“Cognac”) initiated against Royal’s alleged alter ego, Mystique Brands, LLC (“Mystique”).[i] The case raised the issue of whether a non-party to an arbitration agreement has standing to assert defenses on behalf of an alleged alter ego while nevertheless denying the alter ego relationship.

In 2008, Cognac and Mystique entered into a five-year contract which granted Mystique the exclusive right to import certain Cognac products to North America.[ii] Royal was not party to the contract.[iii] Prior to the expiration of the agreement, Mystique became insolvent and Cognac terminated the contract.[iv] The contract provided for a termination fee, and in July 2009, Sheldon Ginsburg, Royal’s CFO and Mystique’s Board Member, demanded that Cognac pay Mystique a $238,000 termination fee.[v] Mystique then initiated arbitration against Cognac to recover the fee, and Cognac filed counterclaims for fraud and breach of contract.[vi] The arbitrator dismissed Mystique’s claims and granted Cognac’s counterclaims, leaving open the issue of damages to be determined in a subsequent arbitration.[vii]

Before the amount of Cognac’s damages could be determined, Mystique filed for bankruptcy, and the first arbitration was stayed.[viii] According to the Bankruptcy Trustee’s complaint, Royal funded Mystique’s unsuccessful arbitration and also filed Mystique’s bankruptcy proceeding.[ix] Cognac moved the Bankruptcy Court to lift the stay to permit Cognac to get a judgment for damages against Mystique and to proceed against Mystique’s principals on an alter ego theory of liability.[x] The Bankruptcy Court denied Cognac’s motion to lift the stay.[xi]

After the conclusion of Mystique’s bankruptcy action in 2017, Cognac filed a new notice of arbitration against Mystique, asserting claims similar to its counterclaims in the first arbitration and seeking to recover $5 million in damages.[xii] Royal filed the instant action in the Commercial Division seeking (1) a declaratory judgment that Royal is not, and never has been, Mystique’s alter ego, and (2) a permanent injunction barring Cognac from maintaining the second arbitration against Mystique.[xiii]

In its motion for a preliminary injunction, Royal argued that Mystique is a defunct entity, that “serial arbitrations” are prohibited, and that the second arbitration is untimely.[xiv] The court denied Royal’s motion, finding that Royal has no standing to stay the arbitration and is not entitled to assert Mystique’s defenses to the arbitration.[xv]

The court began its analysis by determining that Royal has no standing to stay the arbitration because it is not a signatory to the arbitration agreement between Cognac and Mystique.[xvi] In addition, the court found that Royal failed to satisfy the elements necessary to obtain injunctive relief.[xvii] In order to obtain injunctive relief, Royal was required to establish (1) a likelihood of success on the merits of its claim, (2) the danger of irreparable harm in the absence of a preliminary injunction, and (3) the balance of the equities favors it.[xviii] The court found that Royal failed to establish a likelihood of success on the merits because it is not entitled to advance arguments on Mystique’s behalf while denying that it is Mystique’s alter ego.[xix] For example, although “serial arbitrations” may be prohibited, the court found that such an argument belongs to Mystique, which had yet to be served with notice of the second arbitration.[xx]

Royal also claimed that it will suffer irreparable harm if it is unable to assert Mystique’s defenses because Mystique is a defunct entity and Royal, the alleged alter ego, faces a potential default judgment for $5 million.[xxi] By contrast, Cognac would suffer no harm if the arbitration was delayed while the court determined the issue of Royal’s alter ego status.[xxii] The court rejected Royal’s argument, finding that if it denied the motion for preliminary injunction and Royal is later successful in its lawsuit, Royal will establish that it is not Mystique’s alter ego and will moot the issue of whether Royal may raise Mystique’s defenses.[xxiii]

The holding in Royal Wine highlights the standing issues that an entity faces when attempting to defend against alter ego liability in arbitration to which it is not a party. The court ruled that a potential financial stake in the outcome of the arbitration may not be sufficient on its own to allow a party to obtain a stay of an arbitration proceeding, particularly where the party denies a legal relationship with the party bound by the arbitration agreement.

By Peter Y. Shakro and Muhammad U. Faridi

[i] Royal Wine Corp. v. Cognac Ferrand SAS, No. 650249/2018, 2018 BL 75519 (Sup. Ct. Feb. 26, 2018).

[ii] Id. at *1.

[iii] Id. at *2.

[iv] Id. at *1.

[v] Id. at *2.

[vi] Id.

[vii] Id.

[viii] Id.

[ix] Id.

[x] Id. at *2.

[xi] Id.

[xii] Id. at *1.

[xiii] Id.

[xiv] Id. at *2.

[xv] Id. at *2-3.

[xvi] Id. at *2 (citing Mark Ross & Co. v. XE Capital Mgmt., 46 A.D.3d 296, 297 (1st Dep’t 2007)).

[xvii] Royal Wine, 2018 BL 75519 at *2.

[xviii] Id.

[xix] Id. at *3.

[xx] Id. at *2.

[xxi] Id. at *3.

[xxii] Id.

[xxiii] Id.