by Michael J. Quirk and Kate Gordon
Nearly two years after a Ninth Circuit panel wrongly held that arbitrators, not courts, should decide whether arbitration clauses are unfair and invalid under state law, the en banc Court came out with a decision firmly bringing the law back on track. In the case of Nagrampa v. MailCoups, Inc., No. 03-15955 (9th Cir. Dec. 4, 2006) (en banc), the U.S. Court of Appeals for the Ninth Circuit restored the rights of parties to challenge contracts that unfairly strip them of access to the civil justice system. In doing so, the en banc court overturned the earlier three-judge panel, whose misapplication of federal law would have allowed companies to enforce one-sided and abusive mandatory arbitration clause terms against workers, consumers, and small-business franchise operators like Connie Nagrampa.
Ms. Nagrampa’s victory comes after a long and complicated saga. She first attempted to open her own business in 1998 as a direct mail coupon advertising franchise operator. When Nagrampa contracted for this franchise with Mailcoups, Inc., a Massachusetts corporation, the company’s sales representative told her she would receive a 41% profit return on her investment. Instead, she incurred over $180,000 in personal debt, while paying Mailcoups over $400,000 in fees. Backed into a financial corner, she terminated the franchise after just two years.
Not content with the fees it had already collected from Nagrampa before she terminated the franchise, Mailcoups filed an arbitration action against her seeking another $80,000 in fees. Mailcoups filed this action pursuant to a standard-form mandatory arbitration clause in its franchise contract – a clause that it requires all franchise operators to accept. The arbitration was originally filed in Los Angeles. Nagrampa objected, requesting that the arbitration be moved nearer to her home and work in the San Francisco Bay area; she also objected to the burdensome cost of arbitration. The American Arbitration Association instead transferred the arbitration even further away, to Boston, the venue designated by Mailcoups in its arbitration clause. Nagrampa again objected to the venue and costs, arguing that these conditions effectively barred her from participating and putting forth her claims in the arbitration, but the arbitration proceeded without her. The arbitrator ultimately entered an order requiring Nagrampa to pay Mailcoups over $160,000.
Since the venue and costs blocked her from bringing counterclaims in arbitration, Nagrampa filed suit in court in California claiming that Mailcoups had violated her rights under California’s Franchise Law and Consumer Legal Remedies Act. She also claimed – as she had throughout the pre-arbitration negotiations – that the arbitration clause was unconscionable based on its non-negotiable, one-sided and exculpatory terms concerning venue and cost. After Mailcoups removed her case to federal court, the U.S. District Court for the Northern District of California held that the arbitration clause was not unconscionable and that Nagrampa would have to arbitrate her claims in Massachusetts under the clause’s terms.
When Nagrampa appealed, a three-judge panel of the Ninth Circuit affirmed the district court, but on different grounds. Going squarely against California law – and at least six of the court’s own decisions in this area – the panel held that a court could not even decide Nagrampa’s challenge to the arbitration clause, but instead that she would have to go to arbitration to challenge the clause requiring her to arbitrate. The court reached this conclusion by misapplying Prima Paint Corp. v. Flood & Conklin Mfg. Co., 388 U.S. 395 (1967). In Prima Paint, the Supreme Court held that courts can only decide challenges to the validity of an arbitration clause, while an arbitrator must decide a party’s challenge to the validity of a whole contract that contains an arbitration clause. The Ninth Circuit panel misapplied Prima Paint by misconstruing Nagrampa’s challenge to Mailcoups’ arbitration clause as a challenge to the entire franchise contract. While the panel recognized that the only terms Nagrampa challenged as unfairly one-sided and exculpatory were the terms of the arbitration clause, the panel noted that Nagrampa also alleged that the terms were part of a non-negotiable contract of adhesion. This, the panel alleged, was a challenge to the entire contract, rather than to the arbitration clause alone. The mistake that the panel made was in treating this allegation as a separate challenge rather than as a necessary component of the argument that the arbitration clause (and only the arbitration clause) is unconscionable.
Nagrampa challenged the panel opinion by petitioning for rehearing by the Ninth Circuit sitting en banc. In our briefs on her behalf, we argued that the panel opinion was seriously flawed for several reasons. First and foremost, we challenged the result as patently unfair because Ms. Nagrampa would have to travel 3,000 miles from California to Boston and pay over $6,000 in arbitration fees just to assert her claims that these travel and cost requirements were prohibitive. Second, we argued that the panel misapplied Prima Paint by confusing a challenge to the arbitration clause for a challenge to the whole contract. Third, we argued that the decision overturned at least six Ninth Circuit cases where the court had resolved identical challenges to overreaching and exculpatory arbitration clauses (rather than send these challenges to arbitration). The panel had distinguished these cases by saying they involved challenges to stand-alone arbitration clauses where no other contract terms existed. In our brief, we countered that this distinction defies common sense because it says, in essence, that where there is a non-negotiable and overreaching arbitration clause, the addition of more non-negotiable terms strips a court of authority to assess the arbitration clause. As a result, companies could force courts to rubber stamp one-sided, overreaching arbitration clauses that strip workers, consumers, and franchise operators like Ms. Nagrampa of their ability to vindicate their rights in any forum.
The Ninth Circuit granted Nagrampa’s petition and, in its en banc decision of December 4, 2006, embraced Nagrampa’s arguments that (1) her challenges to the arbitration clause were for the court, not an arbitrator, to decide; and (2) the arbitration clause is unconscionable and unenforceable under California law. On the first question, the eight-judge majority (out of eleven) held that, since the only provision Nagrampa’s complaint challenged as unconscionable was the arbitration clause, this challenge is for a court to decide under Prima Paint. The Court found that if “the arbitration provision is unenforceable, then [any] remaining claims that address the contract as a whole were never properly arbitrable.” On the second question, a seven-judge majority of the Court held that the arbitration clause was unconscionable under California law because of both the disparity in bargaining power between a national corporation and a first-time franchise operator, and because of the clause’s one-sided terms requiring Nagrampa to arbitrate across the country but leaving Mailcoups’ rights – even the right to go to court on certain issues – essentially intact. The Court found that “[t]he forum selection provision has no justification other than as a means of maximizing advantage over franchisees.” The Court thus held that the arbitration clause was not enforceable, and remanded the case for Nagrampa to pursue her claims in federal court.
By overruling a panel decision that required parties to arbitrate challenges to inaccessible arbitration systems, the Ninth Circuit’s en banc decision restores a measure of fairness and common sense to this area of the law. The decision ensures that courts will continue to play a role in ensuring that waivers of people’s rights to access the public court system are truly voluntary, and that the private arbitration systems that companies impose against workers, consumers, and franchise operators provide an accessible and fair alternative to the court system. Perhaps most important, the decision gives Ms. Nagrampa the opportunity, after years of fruitless negotiations and attempts at resolution, to finally have her side of the franchise story heard in a balanced forum.
This article is cross-posted from the American Constitution Society Blog. Mike Quirk briefed and argued Ms. Nagrampa’s en banc appeal while he was an attorney with Trial Lawyers for Public Justice (“TLPJ”), a national public interest law firm, in Washington, D.C. Kate Gordon is a Senior Policy and Outreach Associate with the Center on Wisconsin Strategy in Madison, WI, where she provides policy assistance to lawmakers and advocates across the country, primarily on economic development and energy issues. She was lead appellate counsel for Ms. Nagrampa while she was an attorney with TLPJ in its Oakland, California office. TLPJ litigated this appeal as part of its Mandatory Arbitration Abuse Prevention Project, which is part of the organization’s ongoing Access to Justice Campaign fighting to keep America’s public court system open to its citizens.
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