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| Arbitration 1 / Class Action 0:
The Supreme Court Upholds Arbitration Clause Barring Classwide Proceedings |
For many of our clients, individuals and businesses involved in commercial disputes, AT&T Mobility LLC v. Concepcion, 131 S. Ct. 1740 (2011), is the most important decision of the recently ended Supreme Court term. In AT&T Mobility the Supreme Court ruled that the Federal Arbitration Act (“FAA”) requires a court to enforce class-action waivers in arbitration agreements, even where the state law which otherwise governs the interpretation of the contract deems such class-action waivers unconscionable. Bottom line: After AT&T Mobility any business can shield itself from class-action litigation by those with whom it has a contractual relationship (such as customers or employees), by simply inserting a clause in their contracts requiring that all disputes be arbitrated on an individualized, non class-wide, basis. The case pitted arbitration and class action (two non-traditional dispute resolution procedures) against each. In a victory for arbitration, the Court’s block of five conservative Justices upheld a telephone company’s arbitration clause contained in a consumer, adhesion contract, which not only required that disputes be arbitrated, but disallowed class-wide arbitration. The Ninth Circuit had stricken the clause, holding, in accordance with California Supreme Court precedent, that class-action waivers in consumer contracts are unconscionable. But the Supreme Court reversed, holding that the California rule of unconscionability conflicted with the FAA and was therefore preempted by it. Accordingly, it ruled that the consumers who brought the purported class action in federal court must arbitrate their claims against the telephone company and do so individually, not collectively. I. Brief of History of Arbitration and Class Actions in the United States To understand the import of the decision it is helpful to first review the historical development of arbitration and class actions in the United States.
Arbitration has been known to the United States since Colonial times, when it was used to resolve certain disputes between businesses in the commercial community. See Stone, V.W. Katherine, “Arbitration-Domestic”, The Social Science Research Network Electronic Paper Collection: http://ssrn.com/abstract=781204 at 3. The goal of arbitration was, as the New York Chamber of Commerce stated in 1768, to “settl[e] business disputes according to trade practice rather than legal principles.” Id. In the late 19th and early 20th centuries, arbitration expanded along with the growth of trade associations. Id. In 1927 the American Arbitration Association listed over 1,000 trade association that had systems of arbitration. Id. However, while businesses increasingly sought to use arbitration to resolve disputes, it “remained outside of and in tension with the legal system.” Id. Courts, generally cool if not hostile to this non-judicial system of dispute resolution, refused to grant specific performance of agreements to arbitrate until the arbitral award was rendered. Hence, when a dispute arose, if one party reneged on its earlier contractual agreement to arbitrate, the other was powerless to compel arbitration. Id. at 3-4. In the early 20th century, the New York state legislature, urged on by the commercial bar and business interests in New York, passed the New York Arbitration Act, which gave statutory sanction to arbitration clauses, making them “valid, irrevocable, and enforceable save on such grounds as exist at Law or in Equity for the revocation of any contract.” Id. at 4. Critically, the New York Arbitration Act provided for specific performance of the agreement to arbitrate and very narrow grounds for judicial review of an arbitration award. Several other states with substantial commercial centers soon followed New York in adopting similar laws; however, several states’ laws were more restrictive, for instance, providing for the enforcement only of those agreements to arbitrate entered after a dispute arose, or providing for judicial review of arbitral awards on matters of law. Id. The ground swell for arbitration reached the United States Congress in the mid-1920’s. In 1925 Congress passed the FAA, which largely tracked the New York Arbitration Act. Originally, the FAA was interpreted narrowly to apply only to cases brought in federal court. In the 1980’s, the Supreme Court rendered a series of decisions that greatly expanded the scope of arbitration clauses and courts’ power and willingness to enforce them. Thus, it held that the FAA applied in state courts, not just federal, Moses H. Cone Memorial Hospital v. Mercury Construction Corp., 460 U.S. 1, 24, 25 n. 32 (1983), and that arbitration clauses required arbitration not only of contractual rights, but statutory rights, such as those rights given by securities fraud statutes and RICO, Shearson/American Express Inc. v. McMahon, 482 U.S. 220, 226 (1987), and the antitrust law, Mitsubishi Motors Corp. v. Soler Chrysler-Plymouth, Inc., 473 U.S. 614, 629 (1985). This judicial expansion of the FAA’s scope greatly increased the use of arbitration. Today, arbitration is used routinely not only to resolve business vs. business disputes, for which it was originally developed, but also to resolve consumer and employment disputes. The AT&T Mobility case arose from a consumer dispute with the phone company about a promotion of a “free” phone. B. Class Actions In the other corner of the AT&T Mobility case was the class action procedure for resolving disputes. In class actions, a small group of plaintiffs and their lawyers represent a large group or class of plaintiffs who have claims very similar to those of the class representatives against a defendant. The rationale for such class adjudication is to increase the efficiencies of dispute resolution and ensure that a greater number of legitimate claimants obtain redress.
This is a significant departure from traditional, bilateral, litigation, where the “necessary-party rule” requires that all parties materially interested in the outcome participate directly in the lawsuit. In 1820, Supreme Court Justice Story explained the necessary-party rule thusly: “[A]ll persons materially interested, either as plaintiffs or defendants in the subject matter of the bill ought to be made parties to the suit, however numerous they may be.” West v. Randall, 29 F. Cas. 718, 721 (No. 17,424)(C.C.D.R.I. 1820). However, Justice Story continued, where the necessary-party rule unfairly denied recovery to a party not before the court, equity developed exceptions: “where the parties are very numerous, and the court perceives, that it will be almost impossible to bring them all before the court; or where the question is of general interest, and a few may sue for the benefit of the whole; or whether the parties form a part of a voluntary association for public or private purposes, and may be fairly supposed to represent the rights and interests of the whole . . . .” Id. at 722. In 1842, the Supreme Court’s Equity Rules provided the first American statutory foothold for class actions. Rule 48 first sentence provided: “Where parties on either side are very numerous, and cannot, without manifest inconvenience and oppressive delays in the suit, be all brought before it, the court in its discretion may dispense with making all of them parties, and may proceed in the suit, having sufficient parties before it to represent all the adverse interests of the plaintiffs and the defendants in the suit properly before it.” However, Rule 48’s second and last sentence blew a substantial hole in the Rule, providing, “But in such cases the decree shall be without prejudice to the rights and claims of all the absent parties.” This was a substantial problem because it meant that absent parties could later seek to relitigate the issues already litigated in the class action. In 1912, the Supreme Court promulgated a new set of Federal Equity Rules, including Rule 23, the successor to Rule 48, which dropped the last sentence of old Rule 48, which excluded absent class members from a class-action’s binding effects. However, because the new rule did not state expressly that absent class members were bound by the outcome of the class action litigation, it was unclear whether they were. Finally in 1966, the Supreme Court amended Rule 23 to provide expressly that a judgment in a class action binds all absent class members and to set forth requirements for class certification and procedures for notifying class members that the action is pending. In recent years, however, this trend toward liberalization of class action rules and favorable treatment of the procedure by courts has slowed, if not retreated. For example, in 1995, Congress enacted the Private Securities Litigation Reform Act of 1995 (“PSLRA”) as a reaction to the perceived abuse of the class action mechanism by the plaintiffs’ securities bar. The PSLRA added significantly to the requirements for maintaining a securities fraud class action in federal courts, including the requirement of early notification to plaintiff class members, favoring plaintiffs with the largest claims as class representatives, providing for the award of attorney fees to the winner, and setting forth certain procedures required to settle the action. And in 1997, the Supreme Court in Amchem Products Inc. v. Windsor, 521 U.S. 591 (1997), strictly interpreted the criteria set forth in Rule 23, F.R. Civ. P., for certifying a class, in the course of rejecting a proposed class-action settlement of claims by asbestos victims, which settlement had been developed by legions of lawyers working for many years. Among other things, the Supreme Court found that the “common questions of fact and law” were not sufficient to “predominate” over individual questions arising in each individual asbestos claim, so that class action adjudication was not appropriate. Id. at 622-623. II. AT&T Mobility LLC v. Concepcion, 131 S. Ct. 1740 (2011) AT&T Mobility ought to be read with this history in mind. Increasingly our society is searching for alternatives to formal, one-on-one, lawsuits, motivated by a desire to streamline, reduce costs of and speed up dispute resolution. Proponents of arbitration and class-action procedures argue that they each achieve these goals, albeit in different ways. But in AT&T Mobility these alternatives clashed. The question presented was whether a state law forbidding contracts waiving class-action rights invalidated an arbitration clause waiving the right to class-action arbitration. The five-Justice conservative majority held that it did not, because the FAA, which sought to promote arbitration, prohibited state laws whose effect, if not intent, was to undermine the arbitration of disputes, save a narrow group of such state laws into which this California class-action waiver prohibition law did not fall. The facts are straightforward. The plaintiffs claimed that the phone company committed fraud and advertised falsely when it charged them sales tax on “free” phones given in a promotion. AT&T Mobility’s sales and services agreement with cellular customers provided for arbitration of all disputes, while specifically forbidding classwide arbitration. The plaintiffs eschewed arbitration, filing instead a class action in California federal court. They argued that the arbitration clause was unconscionable and therefore unenforceable under applicable California law. The district court and Ninth Circuit both agreed with the customers: Under California Supreme Court precedent the arbitration provision was unconscionable insofar as it forbade classwide arbitration, and the FAA did not preempt this California law. The Supreme Court reversed, holding that the FAA preempted the state law. The case turned on the meaning of 9 U.S.C. §2, the primary substantive provision of the FAA, which, in pertinent part, provides that arbitration provisions “shall be valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract.” (emphasis added). The question was whether the California rule striking class action waivers as unconscionable fell within the “savings clause”; that is, was it a ground existing “at law or in equity for revocation of any contract”? The Supreme Court had previously held that the savings clause permits agreements to arbitrate to be invalided by “generally applicable contract defenses, such as fraud, duress, or unconscionability.” Doctor’s Associates, Inc. v. Casarotto, 517 U.S. 681, 687 (1996). And this, argued plaintiffs, was just such a defense. However, the AT&T Mobility majority (Scalia, J. writing), held that the California rule falls outside the savings clause because it “interferes with fundamental attributes of arbitration and thus creates a scheme inconsistent with the FAA.” Id. at 1748. The majority observed that the FAA embodies a “national policy favoring arbitration”, with two goals: (i) “ensuring that private arbitration agreements are enforced according to their terms” and (ii) the “expeditious resolution of claims.” The majority focused on ways in which class action procedures conflict with those attributes normally associated with arbitration. It said that classwide arbitration sacrifices the informality of arbitration and makes the process slower, more costly, and more likely to generate procedural morass, than final judgment. “In bilateral arbitration, parties forgo the procedural rigor and appellate review of the courts in order to realize the benefits of private dispute resolution: Lower costs, greater efficiency and speed, and the ability to choose expert adjudicators to resolve specialized disputes.” Id. at 1751 (quotation and citation omitted). The majority further argued that a class-action arbitration would require procedural formality along the lines of the rules found in the Federal Rules of Civil Procedure to protect the rights of absent class members and ensure that they are bound by the results. Such formality is inconsistent with arbitration. Finally, the Court said that class arbitration increases the risks to defendants because they face the prospect of being ordered to pay damages to tens of thousands all at once. Finding that these two non-traditional dispute resolution techniques conflicted, the majority held that the California law invalidating clauses forbidding class-action adjudication was preempted by the FAA, which favors arbitration. The dissent (Breyer, J), representing the view of the four liberal Justices, disagreed with the majority that arbitration and class-action procedures were at odds. It pointed out that statistics from the American Arbitration Association and the Judicial Council of California show that class-action arbitration can take considerably less time than in-court class action proceedings. It further argued that a single class proceeding is more efficient than thousands of separate arbitrations of an identical claim. Id. at 1759-1760. Ultimately, however, the majority ruled and the phone company’s arbitration/class-action waiver clause was upheld, even though California state law invalidated it as unconscionable. In the Supreme Court as currently constituted, when arbitration and class action are pitted against each other, arbitration wins. |