California Strikes Down An Employee’s Agreement to Arbitrate on Substantive ‎Unconscionability Grounds (As “One-Sided”)‎

One of the most important trends in the relationship between employers and employees is the proliferation of mandatory arbitration clauses in the employment contract.  In particular, we’ve noted that once an employment contract contains an agreement to arbitrate, courts frequently send non-contractual claims to the arbitration forum as well under the theory that such claims “arise out of” the employment agreement.

Because arbitration is generally perceived as being employer-friendly – although we’ve cautioned employers that isn’t always the case – employee plaintiffs are on the lookout for ways to convince a court that their arbitration clauses should not apply.

One approach is for the employee to argue that the employer has waived his or her right to arbitrate because the employer has “acted inconsistently” with the right to arbitrate claims.  We looked at the legal basis for this argument (as well as indulged in some trash TV) in a two-part series just a few months ago.  (Part one, Part two)

Another approach is for plaintiffs to challenge the clause as unfair.  The argument goes something like this:  for many employees – although typically not executives – the employment contract is presented on a “take it or leave it” basis; that is, it is a contract of adhesion over which the employee has little to no ability to negotiate particular provisions.  Accordingly, if an arbitration provision is drastically unfair to the employee, the court can strike it down under the doctrine of “unconscionability,” which permits a court to throw out a contractual provision that is so one-sided as to be “unusually harsh and shocking to the conscience.”

The latter approach is vividly illustrated by a recent California appellate decision, Compton v. American Management Services.

Leasa Compton was a property manager for American Management Services (AMS) from 2006 until 2009.  In October of 2010, Ms. Compton filed a class action complaint in state court alleging that her former employer had violated various state laws regarding the payment of minimum and overtime wages, providing mandatory meal and rest breaks, and reimbursing expenses.

Ultimately, AMS moved to compel arbitration, arguing that Ms. Compton had signed an agreement that required her to arbitrate those claims.  The arbitration agreement also provided that the arbitrator “has no authority to adjudicate a ‘class action.’”  Thus, had AMS succeeded in its motion, the arbitrator would have likely dismissed the class action.

However, the California appellate court denied AMS’s motion, striking down the arbitration clause as unconscionable.  What drove the Court to this conclusion?  The primary factor seemed to be that the arbitration clause subjected the employees to conditions to which the employer wasn’t willing to subject itself.  Thus, for example, the arbitration clause permitted the employer to bring legal claims – including claims for injunctive relief for unfair competition and unauthorized disclosure of trade secrets or confidential information – in court, with a four-year statute of limitations, while confining other claims (workers comp, unemployment, EEOC claims, and statutory and/or common law discrimination) to arbitration with a one-year statute of limitations.  As the court put it:  “By compelling employees to arbitrate the claims they were most likely to bring, while retaining for itself the right to litigate those claims it was most likely to bring, the employer created an essentially unilateral arbitration agreement.”

Notice that nothing in the Court’s analysis inherently prevents an employer from prohibiting class action lawsuits in employee arbitration clauses.  But here, because the employer was perceived as overreaching, the entire clause was struck down due to its one-sidedness.  That’s a powerful lesson for employers in drafting future arbitration clauses in their employment agreements.

• Arbitration
• Arbitration and ADR