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Federal Arbitration Act Preempts Conflicting California Law Exempting from Arbitration Claims for Public Injunctive Relief

On November 1, 2013 by Schnader in Finance

By Melissa Lor

Consistent with the preemption principle of the U.S. Constitution’s Supremacy Clause, the Ninth Circuit recently held that the Federal Arbitration Act preempts California’s so-called Broughton-Cruz rule, which exempts claims for “public injunctive relief” from arbitration.

In Ferguson v. Corinthian Colleges, former students of for-profit schools owned by Corinthian brought a putative class action on behalf of current and former students alleging that Corinthian engaged in a deceptive scheme to entice enrollment of prospective students in violation of California law. Among other relief, plaintiffs sought an injunction. Defendants moved to compel arbitration. The district court granted the motion in part, but denied it with respect to the plaintiffs’ demand for injunctive relief.

Although Corinthian moved to compel arbitration pursuant to arbitration clauses in plaintiffs’ enrollment agreements, the district court declined to compel arbitration of plaintiffs’ claims for injunctive relief under California’s unfair competition law, false advertising law, and Consumer Legal Remedies Act. The district court reached this decision after concluding that it was bound by California Supreme Court decisions establishing the so-called Broughton-Cruz rule, which exempts claims for “public injunctive relief” from arbitration.

On appeal, the Ninth Circuit held that the Broughton-Cruz rule is preempted by the Federal Arbitration Act. The FAA provides that agreements to arbitrate are “valid, irrevocable, and enforceable,” unless legal or equitable grounds exist for the revocation of the contract. The Court further overruled that portion of prior circuit authority, Davis v. O’Melveny & Myers, which applied the Broughton-Cruz rule, because it was clearly irreconcilable with subsequent United States Supreme Court decisions concerning the FAA. Hence, the Ninth Circuit employed the analysis set forth in AT&T Mobility LLC v. Concepcion, and reaffirmed in Marmet Health Care Center, Inc. v. Brown, to reason that, by exempting from arbitration claims for public injunctive relief, the Broughton-Cruz rule incorrectly prohibited outright arbitration of a particular type of claim.  In so doing, the Court concluded, the FAA preempts the conflicting rule.

In championing preemption by the Federal Arbitration Act and federal policy in favor of arbitration, this case demonstrates the importance of considering in the contract drafting stage whether arbitration or a judicial forum better serves the client’s interests, and underscores the due attention and care that practitioners must take in drafting, negotiating, and subsequently enforcing arbitration clauses in contracts.

Category: Finance
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