Legislature Should Reject Renewed Attack on Arbitration Agreements – Part 1

Chris Micheli
Chris Micheli is a Principal with the Sacramento governmental relations firm of Aprea & Micheli, Inc.

Assemblywoman Lorena Gonzalez (D-San Diego) is again carrying a measure to preclude the use of arbitration agreements in employment disputes. While last year’s effort passed the Legislature, AB 3080 was vetoed by Governor Jerry Brown, just as he had done with a narrower bill in 2015 (AB 465 – Hernandez). With the election of Governor Gavin Newsom, Gonzalez has introduced AB 51 to see if this federally-preempted bill will be treated differently.

The Federal Arbitration Act (FAA) provides, in part, that agreements to arbitrate “shall be valid, irrevocable and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract.” (see 9 US Code Section 2) In reviewing AB 51, legislators should appreciate how the U.S. Supreme Court views the reach of the FAA and how the court has consistently rejected state efforts to limit or preclude the use of arbitration, no matter the perceived just cause.

More than three decades ago, the high court explained the purpose of the FAA in Southland Corp. v. Keating (1984) 465 US 1, where the US Supreme Court held: “In enacting Section 2 of the FAA…Congress declared a national policy favoring arbitration and withdrew the power of the states to require a judicial forum for the resolution of claims which the contracting parties agreed to resolve by arbitration.”

The FAA evidences a strong preference for enforcement of arbitration agreements, so long as the underlying contract is fair. More than eight years ago, the U.S. Supreme Court ruled in the key case of AT&T Mobility LLC v. Concepcion (2011) 131 S.Ct. 1740 that the FAA prohibits states from conditioning the enforceability of an arbitration agreement on the availability of class wide arbitration as such a requirement is inconsistent with the FAA’s intent.

Specifically, the Supreme Court stated: “[w]hen state law prohibits outright the arbitration of a particular type of claim, the analysis is straightforward: The conflicting rule is displaced by the FAA.” Furthermore, the Court ruled a state law that frustrates or interferes with a prime objective of arbitration to streamline proceedings and provide expeditious results is preempted by the FAA.

In another case emanating from California, the nation’s high court addressed employees’ rights. In Sonic-Calabasas A, Inc. v. Moreno (2013), the U.S. Supreme Court held that an arbitration agreement that waived an employee’s right to pursue a claim with the Labor Commissioner was not per se unconscionable. While the Court specified that states could still regulate contractual defenses, those defenses must be applicable to all contracts, not just those targeted at arbitration.

In re-emphasizing this point, the U.S. Supreme Court in DIRECTV, Inc. v. Imburgia (2015) 136 S.Ct. 463 criticized California for discriminating against consumer arbitration agreements.  In the opinion authored by Justice Breyer, the Supreme Court stated, because California applied an invalid state law to only arbitration agreements and no other contracts, such an application did not place arbitration agreements on “’equal footing’” with other contracts and, therefore, was preempted by the FAA.

Similarly, the California Supreme Court issued a decision in Sanchez v. Valencia Holding Co., LLC (2015) 61 Cal.4th 899, in which Justice Goodwin Liu wrote the opinion that held the Consumer Legal Remedies Act (CLRA), which prohibited any waiver of the provisions of that law including the right to pursue a class action, was preempted by the FAA. The state Supreme Court determined that the CLRA’s anti-waiver provisions interfere with the “fundamental attributes of arbitration, such as speed and efficiency, and thus disfavors arbitration as a practical matter.”

Thereafter, the United States Supreme Court held in Kindred Nursing Centers, LP v. Clark (2017) 581 US __, that a Kentucky statute violated the FAA by singling out arbitration agreements for disfavored treatment. In a 7-2 opinion authored by Justice Kagan, the Court held the FAA not only preempts any state law rule that discriminates against arbitration on its face, but also “any rule that covertly accomplishes the same objective by disfavoring contracts that (oh so coincidentally) have the defining features of arbitration agreements.”

Specifically, the Court ruled that arbitration agreements may only be invalidated based on “generally applicable contract defenses like fraud or unconscionability, but not on legal rules that apply only to arbitration or that derive their meaning from the fact that an agreement to arbitrate is at issue.” The Court reasoned that limiting the FAA to only state laws that affect contractual enforcement could have the effect of undermining the FAA completely. Justice Kagan wrote, “The FAA would then mean nothing at all — its provisions rendered helpless to prevent even the most blatant discrimination against arbitration.”

The Supreme Court in the Kindred Nursing case underscored that the FAA applies to rules governing contract formation, not just rules governing contract enforcement. The Court explained that the FAA “cares not only about the ‘enforce[ment]’ of arbitration agreements, but also about their initial ‘valid[ity]’—that is, about what it takes to enter into them.” And, the Court pointed out that a contrary interpretation would make it “trivially easy” for courts hostile to arbitration to undermine the FAA— “indeed, to wholly defeat it.”

The proponents of AB 51 argue that their bill only deals with contract formation and protects workers’ rights. However, the Court rebuffed Kentucky’s argument that the state was merely regulating contract formation and would likely do the same in the case of AB 51. The high court said Kentucky’s claimed principle of protecting fundamental constitutional rights was simply a pretext to discriminate against arbitration

Chris Micheli is an attorney and lobbyist at the Sacramento governmental relations firm of Aprea & Micheli, Inc.

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