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The U.S. Supreme Court Endorses Arbitration Clauses in Consumer Contracts Which Contain Waivers of the Right to Class Action Resolution

By: Erwin J. Shustak, Esq., Managing Partner, Shustak Reynolds & Partners, P.C., California and New York July, 2011       

Supreme Court Endorses Arbitration Clauses in Consumer Contracts


In a significant setback for consumers, the United States Supreme Court has endorsed and upheld contractual arbitration clauses in which the consumer has waived the right to class action resolution, through arbitration or litigation. In AT&T Mobility LLC v. Concepcion et ux, decided April 27, 2011, the Court overturned California’s consumer friendly policy of not enforcing arbitration clauses contained within “contracts of adhesion”1 if those arbitration clauses are “unconscionable”. In the seminal California case, decided by the California Supreme Court in 2005, Discover Bank v. Superior Court,2which has been overruled by the U.S. Supreme Court in the AT&T case, The California Supreme Court refused to enforce a consumer contract arbitration clause which barred consumer from asserting their claims as class actions. Most consumer contract damage amounts, per consumer, are quite low. In the AT&T case, for example, those consumers alleged damages to them of $30.22.

This decision represents a major set-back to consumers and severely restricts consumers and consumer rights advocates from effectively resolving consumer disputes that affect a large number of people, all of whom have actual, monetary damages of several dollars or less.

1 A contract of adhesion generally is defined as a contract prepared by a party with superior bargaining power and presented to the party signing it on a “take it or leave it” basis. The actual contract at issue in the AT&T case was a consumer contract between AT&T Mobile and all consumers contracting for AT&T mobile services, a contract that, in practice, is non-negotiable and must be accepted, as is, by any consumer desiring AT&T mobile service. These also are referred to as “take it or leave it” contracts. You don’t sign the contract; you don’t get the product or service

2 113 P.3d 1100, 36 Cal.4th 148 (Supreme Court 2005).

The Facts of the AT&T v. Concepcion Case

The Concepcions, Californa residents, brought a class action against AT&T in the San Diego Federal District Court. Their complaint alleged that AT&T engaged in deceptive practices when it advertised that new mobile phone subscribers would receive a “free phone”. The Conceptions signed up for the service, did receive a free phone but they were charged $30.22 of taxes on that purportedly “free” cell phone. They argued that having to pay $30.22 is not free.

AT&T moved to compel arbitration pursuant to the unilaterally imposed arbitration agreement contained within the AT&T standard contract. That arbitration clause specifically prohibited class action arbitration or litigation of any claims arising out of the contract, including the Concepcion’s deceptive practice claim. The Concepcion’s argued that by prohibiting class action resolution, the contract was unconcionable and unenforceable under California law. The trial court agreed and denied AT&T’s motion to compel arbitration, relying on the 2005 California Supreme Court decision in Discover Bank v. Superior Court3 The Ninth Circuit Federal Court of Appeals agreed and affirmed the trial court’s decision denying AT&T’s motion to compel arbitration. The U.S. Supreme Court reversed and, by so doing, changed the entire landscape of consumer contract arbitration clauses.

3 36 Cal. 4th 148, 113 P.3d 1100 (2005).

The California Supreme Court’s Decision in the Discover Card Case

In reversing the Ninth Circuit’s decision in Concepcion v. AT&T, the Supreme Court overturned and eviscerated the California Supreme Court’s 2005 decision in Discover Card v. Superior Court. In Discover Card, Discover Card customers alleged Discover Bank had been deceptive regarding late fees. Discover Bank had a stated policy of not charging late fees to an account if the funds were received by the specified date. In fact, Discover Bank actually charged late fees if the funds were received on the specified date prior to 1 pm. Any funds received after 1 pm were charged the late fee. Individual losses to any account holder were very minimal. In the aggregate, however, this practice generated tens of millions of dollar each year to Discover Bank. It was a deceptive practice which affected a large number of people in the identical situation.

The aggreived cardholders filed a class action against Discover Bank in the California Superior Court, Los Angeles County. Discover Bank, in turn, moved to compel arbitration based upon the mandatory arbitration clause in the cardholder agreement. The trial court initially compelled arbitration. On reconsideration, however, the trial court reversed itself and invalidated the arbitration clause which prohibited any form of class action arbitration or litigation. In invalidating the offending arbitration clause, the California Court found that Discover Bank’s actions resulted in “…damages so small as to individual consumers but large in the aggregate”.

On appeal, the California Supreme Court agreed and confirmed the lower court’s which invalidated and refused to enforce the Discover Card arbitration clause which prohibited class action resolution procedures. The California Supreme Court determined:

“We conclude, at least under some circumstances, the law in California is that class actions waivers in consumer contracts of adhesion are unenforceable whether the consumer is asked to waive class acton litigation or arbitration…Individual actions by each of the defrauded consumers is often impracticale because the amount of individual recovery would be insufficient to justify bringing a separate action; thus on unscrupulous seller retaines the benefits of its wrongful conduct”

Discover Bank v. Superior Court was the law in California until the recent U.S. Supreme Court decision in the AT&T case. Prior to the AT&T decision, any consumer contract containing a mandatory arbitration clause that waived class actions of any kind, was unenforceable under California law. California had strong public policy concerns about adhesion, “take it or leave it” consumer contracts limiting a consumer’s right to pursue his or her claims as a class action. California would not enforce a consumer arbitration contract if the contract required the consumer to waive the right to pursue class action resolution.

The Supreme Court’s Decision in the AT&T Case “Gutted” California’s Position

Unfortunately, bad facts make bad law. While the U.S. Supreme Court majority seemed intent on shielding companies from consumer class actions, the specific arbitration clause in the AT&T case gave the Court all the justification it needed to uphold contract waivers of the right to class action resolution.

The arbitration clause at issue in the AT&T case appeared, at least on its face, to be a very fair, straight forward, consumer friendly clause. AT&T allowed customers to initiate a dispute proceeding by completing a one page Notice of Dispute form available on the AT&T web site. AT&T then had 30 days to resolve the dispute to the customer’s satisfaction. If the consumer was not satisfied, he or she could initiate arbitration by filing a simple Demand for Arbitration form, also available on the AT&T web site. If the parties proceeded to arbitration, AT&T was obligated to pay all costs for nonfrivilous cliams; required that arbitration take place where the customer resided; that for claims of $10,000.00 or less, the customer could choose to have the actual arbitration in person, by telephone or based upon written submission; that either party could bring their claim in the applicable small claims court in lieu of arbitration; and the arbitrator may award “any form of individual relief”, including injunctions and presumably puntive damags. The arbitration agreement further prohibited AT&T from seeking reimbursement of its attorney’s fees and, in the event the customer recovered more than AT&T’s last written settlement offer, AT&T was required to pay the customer a $7,500.00 minimum recovery and twice the amount of the customer’s attorney’s fees.

As far as consumer arbitration clauses, the AT&T contract was, on its face, a very fair and reasonable clause, although it did preclude the right to assert class action claims. As fair and reasonable as the contract seems, however, it was very illusory. How many individual consumers- whose individual losses may be a handful of dollars- will bother going through the procedure? The less consumers that bring individual arbitrations against the company, the more incentive the company has to continue, and pursue new deceptive practices. It makes good business sense since the fear of a class action is taken out of the equation. How many individual consumers will pursue the process to recover, as was Mr. and Mrs. Concepcion’s case, $30.22 of actual damages! Without the threat of a potentially expensive, time consuming and financially damaging class action, many companies will be less concerned about getting “caught” breaching the contract or engaging in deceptive practices.

Nontheless, that seemingly “fair” arbitration clause was all the Supreme Court needed to use the AT&T contract as the platform from which it could effectively end class wide redress of smalll, individual claims in consumer contracts of adhesion

Justice Scalia, wrote the decision for the majority and Justice Thomas wrote a concurring opinion. Not surprisingly, the four dissenters- Justices Breyer, Ginsburg, Sotomayor and Kagen- amongst the most liberal of the Justices- wrote their own dissent.

Justice Scalia’s opinion was straightforward and got him to the result he wanted, taking a very strict constructionist approach. He framed the question before the Court as “[W]hether the FAA (The Federal Arbitration Act) prohibits States from conditioning the enforceability of certain arbitration agreements on the availability of classwide arbitration procedures”. Not surprisingly, Justice Scalia noted the specifics of the AT&T arbitration clause provisions were “quick, easy to use” and “likely to “promp[t] full or…even excess payment to the customer without the need to arbitrate or litigate”, as found by the trial court. This is where bad facts make bad law. Yes; on its face, at least, the AT&T arbitration clause seemed fair, reasonable and simple to use. The reality, however, is that very few, if any, consumers were likely to go through that process to recover, as in the case of the Concepcions, the munificent sum of $30.22!

Justice Scalia, citing the history of the FAA, determined there was both “a liberal, federal policy favoring arbitration” and, citing federal case law, found there was a “fundamental principle that arbitration is a matter of contract”. He then looked to California case law which allowed a court to refuse “to enforce any contract found ‘to have been unconcionable at the time it was made” or may “limit the application of any unconcionable clause”. Taking a strict constructionist view, Justice Scalia determined the principal purpose of the FAA is to “ensure that private arbitration agreements are enforced according to their terms”. Ultimately, he concluded that “California’s Discover Bank rule similarly interferes with arbitration. Although the rule does not require classwide arbitration, it allows any party to a consumer contract to demand it…”.

Adding insult to injury, and showing his obvious antigonism to class actions in general, Justice Scalia also found that “class arbitration greatly increases risks to defendants” and that “Arbitration is poorly suited to the higher stakes of class litigation”. Finally, noting the dissenting four Justices argued that “class proceedings are necessary to prosecute small-dollar claims that might otherwise slip through the legal system”, Justice Scalia flatly held that “..States cannot require a procedure that is inconsistent with the FAA, even if it is desireable for unrelated reasons”.

What is strikingly missing from Justice Scalia’s opinion and analysis is the fact that when the FAA was adopted, in 1928, the Federal Court system did not even have a class action procedure in the Federal Rules of Civil Procedure and class actions were virtually unknown at the time the FAA was adopted. Justice Scalia even went so far as to determine that “the Concepcions were better off under their arbitration agreement with AT&T than they would have been as participants in a class action which ‘could take months, if not years, and which may merely yield an opportunity to submit a claim for recovery of a small percentage of a few dollars”.

Justice Scalia and the concurring majority obviously were primarily concerned with the costs and expenses to which large companies may be subjected if consumers, each with only a few dollars at stake, actually banded together in a class action arbitration or litigation so that the stakes were sufficiently high enough to encourage attorneys to pursue class wide claims. The majority’s decision purports to defer entirelyto parties right to contract as they deem fit, but completely ignores the fact that the Discover Bank and AT&T cases involved “take it or leave it” contracts of adhesion and no consumer or customer of either Discover Bank or AT&T had any bargaining power whatsoever in actually negotiating the terms of the contract and the arbitration agreement.

The Aftermath of the AT&T Decision

Expect to see corporations quickly re-writing the arbitration clauses contained in their consumer contracts- contracts that are typically and virtually without exception, non-negotiable, “take it or leave it” contracts”. As this article is being written, no doubt corporate law departments are or already have re-written those non-negotiable contracts to model them on the AT&T model.

The inevitable consequence, in the absence of legislation, will be that many consumers with small amounts at issue- similar to the $30.22 the Concepcion’s individual loss- will have legitimate grievances that will go unheard and unchallenged. Big business is the beneficiary of this Court decision. Consumers are on the losing end.

Schedule a free initial consultation by calling Shustak Reynolds & Partners, P.C. toll free at 888-748-8748, or contact us online.

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