U.S. Supreme Court Finds FAA Preempts State Rule that Denied Enforcement of Class Action Waivers in Arbitration Agreements

On April 27, 2011, the Supreme Court issued a 5–4 decision that the Federal Arbitration Act ("FAA") preempts a California unconscionability doctrine that denies enforcement to arbitration agreements requiring consumers to waive any right to bring a class action unless the agreement also provides for class arbitration. AT&T Mobility LLC v. Concepcion, 2010 U.S. LEXIS 3367 (Apr. 27, 2011). Building on its ruling last year that read silence in arbitration agreements covered by the FAA to preclude arbitrators from imposing classwide arbitration, the Supreme Court is signaling to federal and state courts that any attempt to impose classwide arbitration may violate the FAA.


Respondents, the Concepcions, took part in an offer from Petitioner, AT&T, that advertised "free" cell phones. In conjunction with the offer, the Concepcions signed a service agreement with AT&T that included a clause requiring the arbitration of all disputes and prohibiting class proceedings. When the Concepcions were required to pay $30.22 in taxes on the phone, they filed a complaint against AT&T in federal court in California. After their complaint was consolidated with a putative class action alleging that AT&T had engaged in false advertising and fraud when it advertised "free" phones, AT&T moved to compel arbitration.


The District Court denied AT&T's motion to compel arbitration, and the Ninth Circuit affirmed. See Concepcion v. AT&T Mobility LLC, 584 F.3d 849 (9th Cir. 2009). Both courts applied California's Discover Bank rule, which refuses to enforce class action waivers on unconscionability grounds when (1) the waiver is in a "take it or leave it" consumer contract; (2) the waiver involves a dispute with a predictably small amount of damages; and (3) it is alleged that the party with superior bargaining power engaged in a scheme to deliberately cheat consumers. See id. at 854; Discover Bank v. Superior Court, 36 Cal. 4th 148, 113 P.3d 1100 (2005). The Ninth Circuit rejected the argument that the Discover Bank rule was preempted by the FAA, which requires courts to enforce arbitration clauses as written except "upon grounds as exist at law or in equity for the revocation of any contract." 9 U.S.C. § 2. In its view, Discover Bank did not discriminate against arbitration agreements but, rather, "placed arbitration agreements with class action waivers on the exact same footing as contracts that bar class action litigation outside the context of arbitration." 584 F.3d at 858 (emphasis and internal quotation omitted).


The Supreme Court reversed and held that the Discover Bank rule interferes with the fundamental attributes of arbitration and is preempted as an obstacle to achieving Congress's objectives in the FAA. The California rule permitted class arbitration proceedings in nearly every consumer or employment arbitration agreement, including those that contained a class action waiver. The Supreme Court determined that the California rule conditioned the enforceability of arbitration agreements on the party's acquiescing to a "manufactured … classwide arbitration" and undermined the FAA's chief purposes in three ways.


First, the Court explained that classwide arbitration "sacrifices the principal advantage of arbitration—its informality—and makes the process slower, more costly, and more likely to generate procedural morass than final judgment." Second, the Court expressed concern that classwide arbitration requires a level of procedural formality, such as notice to absent parties, that is inconsistent with conventional arbitration, and it was unlikely that Congress meant for arbitrators to take on such complex issues as class certification. Finally, the Court noted that "[a]rbitration is poorly suited to the higher stakes of class litigation," particularly given the FAA's extremely limited judicial review of arbitrators' decisions. The Court observed that, while defendants may be willing to accept some degree of error in decisions affecting individual litigants, the risks in classwide, and sometimes company-wide, proceedings were likely to be unacceptable, and if forced to roll the dice in class arbitration, defendants would settle questionable claims. The Court explained that the FAA permits parties to agree to classwide arbitration and that the FAA "requires courts to honor parties' expectations." However, when the parties have not contracted for classwide arbitration, state law may not require it.


Justice Breyer's dissent, joined by Justices Ginsburg, Sotomayor, and Kagan, argued that the Discover Bank rule "cannot fairly be characterized as a targeted attack on arbitration" and is a "variation on [a] theme" of unconscionability as applied to all other contracts.


AT&T Mobility continues a trend in the Supreme Court to uphold arbitration agreements against a variety of challenges that have been mounted by plaintiff lawyers for more than two decades. The confusion about class arbitration began in 2003, when the Court issued Green Tree Financial Corp. v. Bazzle, 539 U.S. 444, and suggested that arbitrators could construe silence in an arbitration agreement as authority to impose classwide arbitral proceedings. This reading led arbitration service organizations to design class arbitration procedures and otherwise facilitate arbitrator awards ordering classwide arbitration. Many companies, in turn, revised their arbitration programs to provide for the express waiver by the parties of any right to bring a class action, whether in court or arbitration. This led, in turn, to a series of state court rulings that applied the unconscionability doctrine, in effect, to require classwide arbitration of most consumer and employee claims.


With AT&T Mobility, and the Court's prior Stolt-Nielsen decision, the states will have to be more cautious in formulating and applying their unconscionability doctrines. Companies should not assume, however, that class action waivers may not be challenged. For instance, the Court in AT&T Mobility noted that the arbitration agreement provided that AT&T would pay claimants a minimum of $7,500 and twice their attorneys' fees if they obtained an arbitration award greater than AT&T's last settlement offer. The Court also noted the district court's finding that this scheme may be "sufficient to provide incentive for the individual prosecution of meritorious claims that are not immediately settled." Further, it is unclear whether a state that did not link its unconscionability analysis so closely to the availability of classwide arbitration would be as vulnerable as the California Supreme Court was in its Discover Bank jurisprudence.


To avoid such collateral litigation, companies would be well advised to review their arbitration programs to evaluate whether, in light of AT&T Mobility as well as Stolt-Nielsen, an express class action waiver provision is still worth the attendant costs.


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