After deciding Stolt-Nielsen, S.A. v. AnimalFeeds, Inc. and Rent-A-Center West v. Jackson, the United States Supreme Court left federal arbitration law at a crossroads. In both cases the Court adhered quite faithfully to its prior Federal Arbitration Act jurisprudence, under which it enforces arbitration agreements according to their terms, without regard to other considerations. In Rent-A-Center the Court implicitly reaffirmed that these pro-enforcement rules apply equally to contracts of adhesion.
We will find out whether the Court intends to continue down the same path when it decides AT&T Mobility v. Concepcion next term, a case that raises the question whether California’s Discover Bank unconscionability rule is pre-empted by the Federal Arbitration Act. That rule deems unconscionable under California law class-action or class-arbitration waivers where: (a) “the waiver is found in a consumer contract of adhesion in a setting in which the disputes between the contracting parties predictably involve small amounts of damages”; and (b) “it is alleged that the party with the superior bargaining power has carried out a scheme to deliberately cheat large numbers of consumers out of individually small sums of money. . . .” Discover Bank v. Superior Court, 36 Cal. 4th 148, 162-63 (2005) (citing Cal. Civ. Code § 1668).
The Discover Bank rule is grounded in a California-law principle – embodied in Cal. Civ. Code § 1668 – that “contracts which have for their object, directly or indirectly, to exempt anyone from responsibility for his own fraud. . . are against the policy of the law.” See Cal. Civ. Code § 1668. If a company is allegedly engaging in fraudulent acts designed to cheat numerous consumers out of small amounts of money, a class action or class arbitration waiver may, if enforced, effectively act as an exculpatory provision that insulates the company from the consequences of its small scale, but widespread fraud, because the individual, allegedly defrauded consumers have little incentive to pursue separate actions or arbitrations to recoup trivial amounts of damages. See Discover Bank, 36 Cal. 4th at 162-63. Any contract that had that effect – whether it is a class action waiver in an arbitration clause, an exculpatory agreement or a contract that simply forbids class actions — would be unconscionable under the rule.
In Fensterstock v. Education Finance Partners, No. 09-1562-cv, slip op. (2d Cir. July 12, 2010), the United States Court of Appeals for the Second Circuit suggested one path that the United States Supreme Court might take on Discover Bank preemption. In an interesting opinion, Senior Circuit Judge Amalya Lyle Kearse, joined by Circuit Judges José A. Cabranes and Chester J. Straub, held that the Discover Bank rule was not preempted by the Federal Arbitration Act. According to the Second Circuit, California’s Discover Bank rule “’places arbitration agreements on the exact same footing as contracts that bar class action litigation outside the context of arbitration,’” and for that reason the rule is not preempted by the Act. Slip op. at 16-17 (quoting Shroyer v. New Cingular Wireless Serv., Inc., 498 F.3d 976, 990 (9th Cir. 2007) (emphasis in original)).
On first blush the Second Circuit’s decision seems reasonable. But there are some important issues lurking beneath the surface that the Supreme Court will need to address when it decides AT&T Mobility. Continue Reading »
