The blog in a nutshell

The blog in a nutshell

Monday, December 14, 2015

Today, the Court decided DirecTV v. Imburgia.   The case involved a pretty complicated contract, one not likely to be seen in the future, where the arbitration clause was dependent on whether state law permitted class arbitration.  Specifically, the arbitration states that if the “law of your state” makes the waiver of class arbitration unenforceable, then the entire arbitration provision “is unenforceable.”

At the time the arbitration agreement in DirecTV was entered into, California banned class arbitration waivers, making such waivers unenforceable. In 2011, the Supreme Court found all such bans preempted by the Federal Arbitration Act.  The question in DirecTV was whether the provision above applied to make the arbitration provision unenforceable.

One easy way to decide this case would be to find that California law did not make the waiver of class arbitration unenforceable at the time.  Under this theory, despite what the parties may have thought at the time, California law did not actually make waivers of class arbitrations unenforceable.  This would be because California law in this regard was invalid and had no effect.  Such is consistent with a long history that, when a court announces a new rule, they are merely finding it, not changing it.  

In fact, that appears how the Court wanted to decide the case.  But California courts held otherwise, and the FAA does not allow the Supreme Court to *interpret* California law.   It only allows it to invalidate a California rule of decision that discriminates against arbitrability (more about that when discussing the dissent).

Rather than accept the decision of the California Court--which is what the dissent suggested--what the Court did here was say that, in other cases, California would have interpreted a provision incorporating the law of a state to include yet-discovered changes to the law; they would have adopted the "finding law" theory I summarized above.  By not incorporating the law of a state to include the change here, California was discriminating against arbitration provisions - a no-no under the FAA.

There were actually two dissents.  Thomas dissented on his usual grounds in cases like these, arguing that the FAA does not apply in state courts.  Ginsburg, along with Sotomayor, separately dissented.   Nothing in this post touches on Thomas's arguments, so I refer to the Ginsburg opinion as "the dissent."

The dissent's position was essentially that all the FAA really bars is the invalidation of arbitration provisions by state law:  The FAA's text bars arbitration-specific rules that would invalidate provisions "evidencing a transaction involving commerce to settle by arbitration a controversy."  Here, the California Supreme Court was merely interpreting the provision, not invalidating it.

I think the majority probably got this case wrong, but for a slightly different reason.  (I will explain my qualification of "probably" at the end.)  The dissent is not entirely convincing because choosing to find an arbitration provision inapplicable is the same thing as finding it not "enforceable."  So I don't think the FAA is as quite as narrow as the dissent makes it to be.  Nevertheless, as the dissent does note, the hallmark of arbitration is consent.  And for the FAA to apply, there must be an intent in the contract "to settle by arbitration a controversy."  And I don't think that existed here.

At the time the contract was entered into, the parties knew California law applied, and thought (incorrectly) that California law barred class arbitration waivers.  Thus, they would have thought the arbitration provision was inapplicable.  The majority assumed they at the time the contract was entered into, the parties agreed to enter into a class arbitration provision, subject to the waiver clause, and only to the extent the waiver clause is valid, so that a change in law might snap the arbitration provision back at any time.  (Indeed, the slice of time they thought mattered as to what the relevant law was not when the contract was formed, or even when the breach occurred or the claim brought, but at the time of the California court's ultimate decision.)  While "meetings of the mind" are often more legal fiction than fact, it seems unlikely that the  parties were agreeing to was a convoluted, conditional arbitration provision.  I think a better way to understand the intent of the parties at the time was that, when the arbitration agreement would be governed by a state that's law did not enforce class arbitration waivers, the entire arbitration clause was not agreed to.  Or, in other words, let's say hypotheically that the California rule as it existed was also the rule in 6 other states, say NY, NJ, MI, ME, IL, and IA.  The agreement was simply shorthand for saying, "this provision does not apply in NY, NJ, MI, ME, IL, IA, and CA."  

After all, how would a non-class case have proceeded prior to the Supreme Court announcing the class-arbitration-waiver-ban unenforceable?  If the arbitration provision is initially valid, then the arbitrator would have to initially decide the issue (as it had to in Green Tree v. Bazzle).  So the arbitrator would have to decide this broad issue about class arbitrations.  Only once that was decided, would a state court be able to review the decision.  It is unlikely a person in California, thinking the arbitration clause would not even apply to them, were agreeing to such procedural hurdles to their contractual rights to bring a claim. 

And if the parties were deciding not to arbitrate in California at the time of arbitration, a change in law should not create the consent to arbitrate.  That would be true even if California law changed on its own, without prodding by the Supreme Court.  So the required consent necessary for arbitration never existed, and the FAA should not apply to compel arbitration in this case.

Indeed, the Court treats the State Court's decision as discriminatory against arbitration, and it is; in this case.  But in doing so, the Court creates a rule of interpretation that might be discriminatory based on other facts.  What if the parties entered into the same agreement today, and then Congress changed the FAA to explicitly bar class-arbitration waivers?  This is not entirely infeasible should Democrats again control Congress, as the financial reforms after the 2008 recession will likely lead to a ban on such waivers in financial contracts within the regulatory purview of the Consumer Finance Protection Bureau.  Presumably, the Court would hold that the arbitration provision was unenforceable in California, even as it applies to non-class arbitrations.   But it is possible that the California court may have found, in that situation, the parties, not anticipating this change in the law, agreed to arbitrate their claims, and although this does not include an agreement to arbitrate class claims, such a limitation is unenforceable.  Thus, the Supreme Court's decision would be the one discriminating against arbitration!  (The Supreme Court's decision would nevertheless be consistently pro-corporate, for those of you who take a more realist view of Supreme Court decisions.)

The reason I say "possible" is the same reason I said "probably," and it may make my entire analysis moot.  As I mentioned above, it is the California court's interpretation of the provision that matters, not my own.  And the California court did not explicitly adopt my analysis.  Rather, the California court said that it interpreted the provision to apply to California law irrespective of whether that law was pre-empted by California law.  So, to treat the California decision literally, it's not entirely clear the California Court of Appeals agreed with my interpretation, and, from the Supreme Court's analysis, it is that interpretation that matters, not its own, and not mine.  I do think its interpretation is consistent with mine, at least to the extent that both of us broadly found that the heart of the parties' meeting of the mind was simply "no arbitration provision."

But I don't think the Court was taking that detailed a look at things, so I can't be sure if it would have applied the "opposite" reasoning above in the reverse hypothetical.  While the text of that decision implies that it would not, I don't know if the decision should be read that broadly. One reason for that is because, once the Supreme Court ruled such class-action-waiver-bans preempted by the FAA, nobody would put such a provision in their arbitration clauses.   And the fact that such a provision would be eliminated does highlight the likeliness that the parties simply agreed to omit the arbitration provision, rather than to apply it the way the Court holds.  

The fact that such a provision would be eliminated for all post-2011 contracts also highlights the limited reach of this decision.  It simply is not likely to be one that ever repeats itself.  It's application required a confluence of events:  class-action waiver bans originally thought to be allowed under state law becoming retroactively barred by Supreme Court interpretation.  The only way for it to happen again is if the Supreme Court changes its mind on its own about that 2011 pre-emption decision, someone drafts a similar arbitration provision, and then the Supreme Court changes it back again.  Given how unlikely such a scenario this is, it is curious why the Supreme Court bothered to take this case in the first instance.

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