By: Samuel L. McDermott and Ahllam H. Berri at Wood, Smith, Henning & Berman LLP
An employee who brought suit against his employer for multiple Labor Code violations was not held to the provisions of an arbitration agreement as several terms were skewed in favor of the employer. The court found that an agreement signed as a condition as employment as well as containing multiple unfair terms that were stacked against Plaintiff, rendered the contract as a whole unconscionable and unenforceable.
Relevant Background
Plaintiff, De Leon, applied for employment with Pinnacle Property in 2016. As part of the application process he was required to sign a separate document entitled the “Issue Resolution Agreement” (IRA), as a precondition of employment.
The IRA provided that the parties “agreed to settle any and all previously unasserted claims, disputes, or controversies arising out of Plaintiff’s application or candidacy for employment, employment and/or cessation of employment with Pinnacle.. exclusively by final and binding arbitration before a neutral arbitrator.” The IRA indicated to the reader in bold that signing the agreement affected their legal rights and encouraged consultation with an attorney.
The terms at issue were (1) a statute of limitations clause that required the Arbitration Request Form to be submitted no later than one year after which the employee knew, or should have known through “reasonable diligence” of the existence of a claim and (2) a discovery clause that allowed only one set of twenty interrogatories, including a request for all documents upon which the party responding relies on when answering the interrogatories, three depositions for each side, and provided that the arbitrator could allow additional discovery if a party showed “substantial need” and the additional discovery is not “overly burdensome and will not unduly delay arbitration.”
In 2020, Plaintiff filed a complaint against Pinnacle and his supervisor alleging violations of the Fair Employment and Housing Act (“FEHA”) and the California Labor Code, among other related claims. The Defendant moved to compel arbitration based upon the IRA, but Plaintiff opposed the motion on the basis that that the IRA was unconscionable due to the provision shortening the statute of limitations to one year and the limited discovery options, arguing that the limited discovery denied him the opportunity to gather basic information about defendant’s policies and procedures, as well as obtain information from relevant parties who were privy to the circumstances surrounding his claim.
The trial court denied the Defendant’s motion to compel and found that the arbitration agreement between the parties was unconscionable procedurally as well as substantively. It also found that it was not viable to sever the offending clauses, particularly the discovery provision, from the agreement, because striking the provision would leave the parties with no provisions on discovery.
When is an Arbitration Agreement Unconscionable?
Unconscionability is the “absence of meaningful choice on the part of one of the parties together with contract terms which are unreasonably favorable to the other party.” Armendariz v. Foundation Health Psychcare Services, Inc. (2000) 24 Cal.4th 83. Unconscionability requires a showing of both a procedural and substantive defect in the document for the agreement to be rendered unenforceable by the court.
Procedural unconscionability results from oppression or unfair surprise to one party caused by unequal bargaining power. Substantive unconscionability focuses on overly harsh or one-sided results. Courts utilize a sliding scale when analyzing unconscionability. The more substantively oppressive the contract terms are against the party challenging the agreement, the less evidence of procedural unconscionability (and vice versa) that is required to render the agreement unconscionable and therefore, unenforceable.
Procedural Unconscionability
“Procedural unconscionability may be proven by showing oppression, which is present when a party has no meaningful opportunity to negotiate terms or the contract is presented on a take-it-or-leave-it basis.” Wherry v. Award Inc. (2011) 192 Cal.App.4th 1242. In the employment law context courts have often found that arbitration agreements which are required as a condition of employment are procedurally unconscionable.
In finding that the IRA had some degree of procedural unconscionability, the Court of Appeal considered a few factors. First, as Defendant conceded, the agreement was a contract of adhesion, which made the agreement procedurally unconscionable. The Court found that the procedural unconscionability was limited by the fact that the IRA was a stand-alone agreement, not hidden in another agreement, with the word “arbitration” in bold text at the top of the document, and the first page clearly indicated that the signor was agreeing to arbitrate any claims relating to their “application for employment, employment, or termination of employment.” The Court also considered Plaintiff’s declaration in which he acknowledged signing the IRA, but indicated that he did not understand all of the terms and that he was pressured to sign the agreement, which was weighed in favor of finding procedural unconscionability.
Substantive Unconscionability
Substantive unconscionability is present when a term is so one-sided as to shock the conscience of a reasonable person. In the employment context, courts have found that an agreement is substantively unconscionable when it is so one-sided in favor of the employer that it is without justification. Pinnacle Museum Tower Assn. v. Pinnacle Market Development (US), LLC (2021) 55 Cal.App.4th 223, 246.
Courts look for the presence of certain terms within the agreement to determine if it meets minimum levels of fairness for both parties.
- Whether the agreement provides for neutral arbitrators;
- Whether the agreement provides for more than minimal discovery;
- Whether the agreement requires a written award that permits limited judicial review;
- Whether the agreement provides for the same relief that would be available to Plaintiff in court;
- Whether the agreement requires the employer to pay the arbitrator’s fees and all costs unique to arbitration.
Armendariz, 24 Cal.4th at 102.
Courts have held that the absence or interference with any one of these factors can render an arbitration agreement in the employment context unenforceable.
The Arbitration Agreement between De Leon and Pinnacle
The arbitration agreement substantially limited discovery as well as shortened the statute of limitations that would have been afforded to Plaintiff under applicable laws. Shortening the statute of limitations to less than the limitations period provided by the California Labor Code and the FEHA was found to be unconscionable on its face.
As for the discovery provisions, the court evaluated whether the limits on discovery met the “minimum fairness” threshold. Generally, courts require that discovery allow a party access to essential documents and witnesses to enable them to adequately and fully arbitrate their claim. The court will look to following factors to make this determination:
- The amount of default discovery permitted under the arbitration agreement;
- The standard for obtaining additional discovery;
- Whether plaintiffs have demonstrated that discovery limitations will prevent them from adequately arbitrating their statutory claims.
Davis v. Kozak (2020), 53 Cal.App.5th 897.
Here, the IRA limited discovery to twenty interrogatories per party and three depositions per side. While the agreement allowed the arbitrator to order additional discovery if a party shows “substantial need,” it required the arbitrator to find that such an order “is not overly burdensome and will not unduly delay the conclusion of arbitration.” The court found that although the provision appeared neutral on its face, in practice, it favored Defendant because the employer already has in its possession the documents relevant to an employment case, as well as many of the relevant witnesses. Unlike many other arbitration provisions limiting discovery that have been upheld, the IRA does not provide for the initial disclosure of documents the parties would rely on, or have a provision for a continued obligation to supplement.
The court also determined that the standard here for the arbitrator to order additional discovery was too high in light of the above limitations. The court concluded that Plaintiff has set forth a clear claim stating that he is unable to vindicate his rights under the law due to the limitations placed upon him by the arbitration agreement in place between the parties.
Severability
Civil Code section 1670.5 subdivision (a) gives trial courts discretion to sever unconscionable terms from a contract. In deciding whether to sever unconscionable clauses, or render the entire agreement as a whole unenforceable, the overarching inquiry is whether the “the interests of justice” would be furthered by severance – the preference is to sever unless the agreement is “permeated” by unconscionability. An agreement is permeated by unconscionability when it contains more than one unconscionable provision because it would indicate a systematic effort to impose arbitration as an inferior forum to the employer’s advantage. Further, if the court would have to, in effect, reform the contract by augmenting with additional terms, the court must void the entire agreement.
In this case, because there were multiple unconscionable provisions, the court found that the agreement was permeated by unconscionability. The court noted that if employers who write unconscionable terms into arbitration agreements only suffer the penalty of severance of that term, the incentive to avoid such terms in the first place would be low. The court found that the defendant in this case was well aware of the potential unconscionability of the terms presented in its agreement and therefore, acted in bad faith when presenting it to employees as well as in making it a condition of employment. Therefore, the Court of Appeal affirmed the trial court’s denial of the motion to compel arbitration.
Important Takeaways
- Arbitration agreements that are one-sided in favor of the employer without sufficient justification will likely be found substantively unconscionable, risking the court’s refusal to compel arbitration.
- Provisions shortening the statute of limitations and providing inadequate discovery are substantively unconscionable.
An arbitration agreement with multiple substantive unconscionable terms is “permeated with unconscionability” and risks being rendered unenforceable by the court.
