Argument in Class Waiver Case Favors Consumers, States

Power between enterprises and individuals hangs in the balance as the U.S. Supreme Court considers whether organizations can prevent people from banding together to challenge crooked practices that involve stealing small sums from large numbers of people. The judges and lawyers engaged in a riveting oral argument on the hot topic in a case pitting the mighty AT&T against a couple of California citizens. The case also pits the federal government against the states.

At issue are the clauses that companies now routinely include in standard form consumer contracts requiring disputes to be resolved in one-on-one arbitration. People give up the right to mount class claims in arbitration or court. Some unscrupulous companies use this as a way to cheat large numbers of people out of small amounts of money.

Companies following this route benefit from a strict federal law (the Federal Arbitration Act, or FAA) saying states cannot treat arbitration clauses differently than they treat other contracts. Courts nationally have struggled to evaluate whether these clauses pass standard contract tests of unconscionability. Yesterday’s case will determine whether those states are taking the right approach.

The principal theme of questioning probed how the Justices could tell if a state’s judges comply with the FAA’s mandate to treat arbitration clauses like other contracts. The company’s lawyer (Andrew Pincus) said it was simple: look at the general unconscionability doctrine applied to all contracts and compare it to the unconscionability doctrine applied to arbitration clauses.

In California, Pincus sees the general doctrine to ask whether: (1) at the time of contract formation, (2) based on how it affects parties to the contract, it (3) shocks the conscience. He says California courts use a special version applied to arbitration contracts looking at whether: (1) at the time dispute arises, (2) based on effects on third parties too, it (3) deviates too much from recognized litigation practice and its deterrent effects. Pincus called this an easy case.

The Justices did not appear to agree. All six who questioned him—Scalia, Sotomayor, Kagan, Ginsburg, Kennedy, and Breyer—pressed on versions of what test to apply. Pincus kept repeating variations of: compare the three prongs of California’s general doctrine to the three prongs as applied to arbitration clauses. But many problems appear and went unanswered.

Ginsburg suggested that the cases equally support the thesis that California is expanding unconscionability doctrine generally; she also hinted what everyone knew, that “shock the conscience” isn’t a test but a slogan and is not an element of today’s general unconscionability law. Kagan pointed out how law changes over time. Scalia and Kennedy stressed how contract law itself contains many principles that only apply to certain kinds of contracts and how general principles applied in particular settings look different.

(This raises a wonderful and long-vexing question: is there a single law of contracts or many different laws of contract?)

Pincus never gave a good answer about what test the Court should apply, other than reading and comparing cases. He also kept insisting that the comparison must be between the unconscionability doctrine applied to arbitration clauses and general unconscionability doctrine applicable to any contract—not just other dispute resolution clauses. He noted that the FAA endorses contract law principles that apply to “any contract” not sub-categories of contracts like “any dispute resolution contract.”

That did not seem to persuade Breyer, Ginsburg or Kagan though, who stressed that the FAA addresses hostility to arbitration compared to litigation and the California cases treat both the same. Though not offering much of a test, Pincus did toward the end hint at a test: whether the state law can be justified as valid under some “independent and adequate” ground showing that the state is not really being hostile to arbitration. That could prove to be quite a concession.

The consumer’s lawyer (Deepak Gupta) contended California law obeys the FAA’s equal footing mandate. Gupta disagrees that California applies its unconscionability doctrine in an impermissibly different way to arbitration clauses compared to any other contract. Roberts pressed on differences on when to test and whose interests to consider.

Gupta said the test is ex ante and addresses the parties to this contract, asking: when these customers signed, was the clause obnoxious, given that they would not know whether they would have a claim capable of economic enforcement only via collective action. The cases also focus on the parties to the contract, though certainly also considering the interests of non-parties. But that happens in other unconscionability cases too, such as those addressing whether exculpation provisions affect the “public interest.”

Alito probed the substance of the test, how fairness is evaluated (nicely eschewing talk of “shocking the conscience”). Why are these people better off with class rights than not, he asked. Gupta explained that, ex ante, they don’t know whether they’ll have claims to bring whose small-stakes requires collective action to warrant pursuing and for which the class action device and attorneys are essential.

But that, Alito challenged, is what makes this test of unconscionability different from general tests. What is unfair is the absence of this device to get private attorneys to take the case. Gupta countered that the ultimate problem with the clauses is how they functionally insulate companies from liability and cited kindred cases finding unconscionable clauses truncating statutes of limitation.

Sotomayor then returned to the theme of the day: what test the Court should use to distinguish legitimate from preempted state contract law approaches to arbitration clauses. Gupta stated a clear test, drawing on the Court’s approach to state law in general. The first principle is federal deference to state courts. That is subject to qualifying principles to catch obvious subterfuge based on an objective determination about the state’s faithfulness to the federal statute.

A relatively crude qualifying principle asks whether the state law is tantamount to a rule of non-enforceability of arbitration agreements. An example is a rule prohibiting jury trial waivers. That would be preempted. But that population of obvious subterfuge is extremely small. So the Court often will want to ask whether the state law is an obstacle to the federal statute (obstacle preemption).

Alito pressed on how that test enables drawing the line between, say, laws requiring using the rules of evidence in all cases from laws banning class action waivers. Alito discerned the difference as whether a law is consistent with the concept of arbitration or not: requiring evidence rules is not consistent with the idea of arbitration but insisting on the class mechanism is consistent with arbitration.

Gupta suggested that a better reconciliation uses obstacle preemption analysis to probe the state’s credibility: no state can credibly say using the rules of evidence is essential to fairness in the way all can say banning class waivers is essential to avoid allowing functional exculpation. Though both may be obstacles to arbitration in some sense, the two differ because evidence rules don’t systemically advantage either side but the class waiver clearly does. Any state claim that evidence rules are necessary for fairness in dispute resolution is not credible. The FAA protects contracts that choose a forum; it does not protect contracts that exculpate.

Many Justices seemed persuaded. Kagan probed whether the test would concentrate on a state’s purpose or its law’s effect and Gupta said both. Breyer wondered what evidence you use to apply the test about obstacles and Gupta said evidence about the state’s objective. Kennedy pushed on what the obstacle obstructs—what kind of arbitration does the federal statute envision that a state law could obstruct. Scalia said he was having trouble seeing how the class action waiver was tantamount to exculpation. Gupta stressed that the law’s prohibition applies only when the effect is to gut consumer protection that is functionally equivalent to exculpation.

In rebuttal, Pincus repeated what he said all morning about comparing the two batches of cases to see if they apply the same test. In doing so, he promised that you’ll see the test on class action waivers is not done ex ante because if you did it then you would say it is entirely fair (most claims expected then are individual, not class, and arbitration is better than court for them) and it looks to third parties who could be members of the class and that’s different from looking at the “public interest.”

The case is a close call and the outcome hard to predict. A dozen amicus briefs were filed on each side. Notably, five such briefs came from groups of law professors (in the fields of arbitration, contracts, class actions, and federal jurisdiction). Four of those briefs supported the consumers, states and class actions; only one, by a contracts group, supported the company. Yesterday’s argument touched on points raised by all groups.

Though hard to predict, the edge in yesterday’s oral argument went to Gupta. Based on what was said during the argument, I predict a 8-1 or 7-2 vote for the consumers and California, with Alito dissenting and Roberts a toss up. Thomas, who never speaks at oral argument, will vote for the consumers and state on federalism grounds, as he always does in FAA cases.

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2 Responses

  1. Bruce C. says:

    Seems to me that what is unconscionable is that a collective entity (a corporation) does not allow consumers to contend disputes on an equal footing (as a class of consumers). What is unconscionable in a contract between a collective and an individual might not be unconscionable in a contract between individuals (or between corporations). That doesn’t sound like the basis of the law or the arguments here, however.

  2. Benjamen R. Meyer says:

    Glad to see something like this coming to court, especially SCOTUS. I certainly think it is an unconscionable and unfair clause – one company I worked for put it to the employee contract; the only recourse was to quit (continued employment was deemed acceptance). Did I really have a choice in the matter? No. Same goes for most companycustomer contracts. The company is fully willing to ignore or not accept contract changes the customer may want for purposes of a having a uniform contract; as a result their customers cannot forgo parts of the contract that they do not agree – it’s a take-it-or-leave-it approach, and often customers feel they have no alternative – especially when nearly every company does it.

    For example, you go into company X to buy a service contract; but you don’t like a clause in the contract and they won’t change it. Their suggestion is to go to someone else. So you go to company Y for the service contract instead, only to find the same thing and equally object. Both company X and company Y claim competition since there are N companies in the field, yet in trying to get the service contract you find all N companies have the clause you object to. Your options are either (i) capitulate and sign with one of the companies, or (ii) try to create a new company in the same field to provide the service contract without that clause. If the barriers are sufficient, then the N companies or even the government could preclude you from creating a new company – for example, if you wanted to create a new land-line telecom business you’d essentially be out of luck given the barrier to entry. Or if you want to start a new cable TV distribution company you will run into local contracts between counties and companies that provide companies with exclusivity for the county.

    Or suppose that company employs this in their employment contract, and then discriminates against a class of people in some way, not necessarily in an obviously illegal way. Their continued employment may be the acceptance of the contract, but how is that acceptance when the individuals do not necessarily have (i) recourse to keep their job and fight it, and (ii) the ability to quickly and easily find a suitable job to replace their current job. Or should we require employers to provide benefits and pay to employees that leave for those reasons until such time as equitable employment can be found to replace their position at the company?

    Thus you may find that even in a competitive field that there is no choice in the matter. The companies can benefit because they can apply the concurrent litigation/arbitration to multiple cases that overlap using the same resources while the other side is barred from joining together as a class.