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Ninth Circuit Applies Limited Exception to Supreme Court’s Holding in Italian Colors to Affirm Denial of a Motion to Compel Arbitration

On November 25, 2013 by Schnader in Finance

By Christopher Reese

The Ninth Circuit recently affirmed the denial of a motion to compel arbitration based on a limited exception to the United States Supreme Court’s holding in American Express v. Italian Colors Restaurant.  The Ninth Circuit determined that California’s rules for deciding whether a contract is unconscionable were not preempted by the Federal Arbitration Act in the case before it, because provisions contained in the arbitration agreement “effectively foreclose[d] pursuit of the claim.”

The plaintiff in Chavarria v. Ralphs Grocery Company filled out an employment application while seeking employment with defendant Ralphs.  Chavarria obtained employment, and worked as a deli clerk for Ralphs for approximately six months.  After her employment ended, she filed an action on behalf of herself and all similarly situated employees of Ralphs, alleging that Ralphs violated several provisions of the California Labor Code and the California Business and Professions Code by failing to pay employees for rest and meal breaks.

Ralphs’ employment application contained a clause pursuant to which the prospective employees acknowledged receipt of a mandatory arbitration policy.  The arbitration policy contained a procedure for selecting an arbitrator that ensured that the selected arbitrator would be nominated by the party that did not bring the claim.  The arbitration policy also required the parties to split evenly the arbitrator’s fees between them at the outset of the arbitration, without any consideration for the merits of the claim.  The district court held that the arbitration policy was unconscionable under California law and therefore denied Ralphs’ motion to compel arbitration based on the arbitration policy.

The Ninth Circuit began its analysis by setting forth California’s rules for determining whether a contract is unconscionable.  Under California law, the party challenging the enforceability of the contract must demonstrate both procedural unconscionability, which concerns the manner in which the contract was negotiated and the circumstances of the parties, and substantive unconscionability, which concerns whether the contract is so unjustifiably one-sided that it “shocks the conscience.”  The Ninth Circuit determined that Ralphs’ arbitration policy was procedurally unconscionable because: (1) a prospective employee had to agree to it as a condition of applying for employment with Ralphs; (2) the arbitration policy was presented on a “take it or leave it” basis, without any opportunity for negotiation; and (3) Ralphs did not provide Chavarria with the terms of the policy until three weeks after she agreed to be bound by it.

The Ninth Circuit also determined that Ralphs’ arbitration policy was substantively unconscionable for two reasons.  First, the arbitrator selection process would not result in a truly neutral arbitrator because Ralphs’ chosen arbitrator always would be selected in claims brought by an employee against Ralphs.  Second, the policy imposed great up-front costs on the employee – which could run as high as $3,500 to $7,000 per day of arbitration – thus preventing many employees from bringing claims against Ralphs.  Therefore, the Ninth Circuit affirmed the district court’s holding that Ralphs’ arbitration policy was unconscionable and unenforceable.

The Ninth Circuit went on to hold that California’s unconscionability rules are not preempted by the Federal Arbitration Act because they do not disproportionately affect arbitration agreements.  The Ninth Circuit determined that the Supreme Court’s decision in Italian Colors (which we previously analyzed here) did not prevent it from examining the up-front cost that Ralphs’ arbitration policy imposed on employees seeking to bring claims against Ralphs, because Italian Colors only prohibited consideration of the costs needed to prove a claim, not costs imposed simply to “get in the door.”  The provision in Ralphs’ arbitration policy requiring employee-claimants to pay up-front half of the arbitrator’s potentially substantial fees without any consideration of the merits of the claims, the Ninth Circuit held, was just such a “get in the door” fee.  The Ninth Circuit concluded by stating its view that state law unconscionability rules still have a role to play in ensuring that arbitration agreements contain some level of fairness, even after the Supreme Court’s recent decisions in this area.