A recent Ninth Circuit case on mandatory arbitration dovetails with OnLabor’s coverage of NLRB v. D.R. Horton (see our discussion here and here), and offers an interesting departure from the general trend.  As quick background, the Supreme Court held in AT&T Mobility LLC v. Concepcion that the Federal Arbitration Act preempts state law contract defenses that disproportionately impact arbitration agreements, even if such defenses apply to all contracts generally.[1] In American Express Co. v. Italian Colors Restaurant, the Court found a waiver of class arbitration enforceable even where the individual cost of proving a claim exceeds potential recovery.[2]

In Chavarria v. Ralphs Grocery Co.[3] the Ninth Circuit found that the Federal Arbitration Act did not generally preempt California’s own state law contract defenses, invalidating an employer’s mandatory arbitration agreement as unconscionable. Notably, the court relied on the asymmetric bargaining power at play in employment contracts in finding the agreement procedurally unconscionable.

Chavarria’s Case

Plaintiff Zenia Chavarria completed an employment application at Ralphs’ Grocery Company, working as a deli clerk for about six months before leaving and filing an action alleging multiple violations of California’s labor code. By completing her employment application, however, Chavarria had agreed to be bound by Ralphs’ arbitration policy. Ralphs accordingly moved to compel arbitration of the claim. Chavarria opposed the motion, on the grounds that the arbitration terms were unconscionable under California law.[4]

The district court denied Ralphs’ motion to compel arbitration, holding the arbitration policy procedurally and substantively unconscionable under California law. (Note that California law requires both procedural and substantive unconscionability to be rendered invalid.)[5] During Ralphs’ subsequent appeal, the Supreme Court decided Concepcion, allowing Ralphs to argue on appeal that the FAA preempted Chavarria’s unconscionability contract defense.

On October 28^th, the Ninth Circuit affirmed and remanded. Writing for the 3-0 court, Judge Richard Clifton held that Ralph’s arbitration policy was unconscionable under California law, and further, that the state law supporting that conclusion was not preempted by federal law.

Substantive and Procedural Unconscionability

Following the district court’s reasoning, the court found that Ralphs’ mandatory and binding arbitration agreement procedurally and substantively unconscionable.

Importantly, the grounds for procedural unconscionability were tied to the agreement’s inclusion in an employment application. The “take-it or leave-it” quality of its inclusion in the application meant that “Chavarria could only agree to be bound by the policy or seek work elsewhere.”[6] The court analogized the agreement to prior cases where arbitration agreements had been found invalid – procedural unconscionability doctrine kicks in where the “employee is facing an employer with ‘overwhelming bargaining power’ who ‘drafted the contract and presented it to [the employee] on a take-it-or-leave-it basis.’”[7] The provision of actual arbitration agreement terms only upon employment, three weeks after completion of the application where Chavarria agree to be bound by those terms, further fueled the finding.

Substantively, Ralphs’ arbitration agreement was found to be impermissibly one-sided and cost-prohibitive. In terms covering arbitrator selection, the agreement disallowed use of an AAA or JAMS arbitrator, and furthermore, created a selection process that in practice would always result in arbitrator selection by Ralphs.[8] In addition, fees for arbitration were required to be paid from the outset, and split between parties. The fees – estimated to range from $7,000 to $14,000 per day[9] – would impermissibly impose “non-recoverable costs on employees just to get in the door.”[10]

FAA Preemption

The Court further found that neither California’s laws on substantive nor procedural unconscionability disproportionately affected arbitration agreements, and were therefore not preempted by the FAA.[11]  Unlike in Concepcion, finding a rule rendering class waivers unconscionable preempted, procedural unconscionability rules were found to focus on parties and apply equally to all contract formation.

As to preemption of substantive unconscionability claims, the Ninth Circuit’s inquiry focused on whether the arbitration agreement prevented “effective vindication” of a right. (Under Mitsubishi Motors Corp. v. Soler Chrysler-Plymouth, arbitration agreements that do so are invalid.[12]) The Chavarria court noted that this “effective vindication” doctrine survives American Express – though AmEx upheld an arbitration agreement despite high costs of proving a claim, it noted that an arbitration agreement may be impermissible if “filing and administrative fees attached are so high as to make access to the forum impracticable.”[13]  The up-front filing fees in Ralphs’ agreement were found to present this exact situation, effectively foreclosing the pursuit of claims.[14] The Chavarria court additionally held that substantive unconscionability objections on methods for choosing arbiters (unilaterally assigning one party selection power) were “agnostic toward arbitration,” and thus not preempted.[15]

In conclusion, Chavarria suggests grounds on which a mandatory arbitration agreement may be found invalid, post-Concepcion and AmEx, departing from a general trend of upholding such agreements. In the employment context, it suggests that the asymmetric bargaining power at play in the employment relationship is grounds for procedural unconscionability. The Ninth Circuit noted, in concluding, that “federal law favoring arbitration is not a license to tilt the arbitration process in favor of the party with more bargaining power.”[16] If further appealed or reviewed en banc, will other jurists agree?