The arbitration Two-Step

In McGill v. Citibank, NA, 2017 DJDAR 3305 (April 6, 2017), the California Supreme Court perfected its latest move in the decades-old search for a path around the Federal Arbitration Act (FAA). Call it the "Arbitration Two-Step."

McGill was supposed to be the case which forced the Supreme Court to confront the Broughton-Cruz rule. In Broughton v. Cigna Health Plans of Cal., 21 Cal. 4th 1066 (1999), and Cruz v. Pacificare Health Systems, Inc., 30 Cal. 4th 303 (2003), the court established a rule barring arbitration of claims for public injunctive relief under the Unfair Competition Law or the Consumers Legal Remedies Act. In AT&T Mobility, LLC v. Concepcion, 131 S. Ct. 1740 (2011), the U.S. Supreme Court called into serious question the Broughton-Cruz rule when it held that the FAA preempts state law rules which prohibit the arbitration of particular claims, or that otherwise frustrate the FAA's objective of ensuring that arbitration agreements are enforced according to their terms. In Ferguson v. Corinthian Colleges, Inc., 733 F.3d 928 (9th Cir. 2013), the 9th U.S. Circuit Court of Appeals followed Concepcion to hold that the FAA preempted the Broughton-Cruz rule.

In McGill, the 4th District Court of Appeal adopted the 9th Circuit's reasoning in Ferguson, holding that Broughton-Cruz was no longer good law under the more recent U.S. Supreme Court authority.

Thus, McGill was to Broughton-Cruz what Iskanian v. CLS Transp. Los Angeles, LLC, 59 Cal. 4th 348 (2014), was to Gentry v. Superior Court, 42 Cal. 4th 443 (2007), cert. denied sub nom Circuit City Stores, Inc. v. Gentry, 552 U.S. 1296 (2008): The California Supreme Court's chance to bring California law into line with the supreme law of the land. But the court had other ideas.

The McGill court held that "it is now clear that the Broughton-Cruz rule is not at issue in this case" and, accordingly, there is no issue of FAA preemption to consider. Why? Because, in the court's view, provisions in the arbitration agreement forbidding the arbitrator to issue a ruling on a consolidated, class or representative basis mean that by agreeing to arbitration, the plaintiff has agreed to waive her statutory right to seek injunctive relief on behalf of the public in any forum. Such a waiver runs afoul of Civil Code Section 3513's prohibition on the waiver of "a law established for a public reason," rendering the arbitration agreement void. Since this is a generally applicable contract defense, it falls within the FAA's savings clause and is not preempted.

There is only one problem with this analysis: By agreeing to individual arbitration, the plaintiff did not waive her right to seek public injunctive relief in any forum. Instead, she agreed to resolve any dispute in arbitration of a particular form. This is a critical point. The court's analysis applies two rules of contract, not one: First is the rule which says that agreeing to arbitration that does not permit a particular form of relief constitutes a waiver of that relief. Second is the rule which says that if the relief is provided for in "a law established for a public purpose," then the waiver is unenforceable. The second rule, as the court held, is undoubtedly a generally applicable contract defense within the scope of the FAA's savings clause.

But the first rule — the waiver rule — stands on very different footing. This is because, as the court freely acknowledged, under Concepcion, "arbitration agreements ... may not ... be invalidated 'by defenses that apply only to arbitration or derive their meaning from the fact that an agreement to arbitrate is at issue.'" The waiver rule is clearly one that "derive[s its] meaning from the fact that an agreement to arbitrate is at issue."

The waiver rule enforces the conclusion that certain rights — statutory rights — are so important that they cannot be relinquished in arbitration. Indeed, McGill cites as "consistent" with its result U.S. Supreme Court's decisions in Mitsubishi Motors Corp. v. Soler Chrysler-Plymouth, Inc., 473 U.S. 614 (1985), and American Express Co. v. Italian Colors Restaurant, 133 S. Ct. 2304 (2013), which stand for the proposition that "the FAA does not require enforcement of a provision in an arbitration agreement that ... 'eliminates ... [the] right to pursue [a] statutory remedy.'"

But the U.S. Supreme Court's "effective vindication" cases — like Mitsubishi Motors and American Express — make it crystal clear that the FAA only yields in certain cases to "effective vindication" or federal statutory rights — not state. The 9th Circuit in Ferguson expressly drew this federal-state distinction when it held that the "effective vindication" does not save Broughton-Cruz from FAA preemption. McGill simply rejects the federal-state distinction without even bothering to acknowledge, let alone refute, the 9th Circuit's analysis.

The Arbitration Two-Step has its origin in Iskanian. Although Iskanian reversed Gentry, it saved the corollary to Gentry established in Franco v. Athens Disposal Co., 171 Cal. App. 4th 1277 (2009), and Brown v. Ralphs Grocery Co., 197 Cal. App. 4th 489 (2011), which applied the Gentry rule to representative actions under the Labor Code Private Attorneys General Act (PAGA), Labor Code Sections 2699 et seq., despite the fact that no fewer than 11 federal district courts held before Iskanian that the FAA preempted the Franco-Brown rule along with Gentry. Franco-Brown-Iskanian is based on the idea that PAGA is a mechanism necessary for the "effective vindication of statutory rights," giving the state a heightened interest in actions under PAGA, which interest may not be compromised by private actors who are "standing in the shoes" of the state. Indeed, Justice Ming Chin's concurrence in Iskanian's affirmance of the Franco-Brown rule is expressly based on this broader ground. Now Chin, writing for the McGill majority, has brought the Arbitration Two-Step into the mainstream of California law.

The Arbitration Two-Step is the Supreme Court's latest attempt to save Armendariz v. Foundation Health Psychcare Svcs., Inc., 24 Cal. 4th 83 (2000), which relied extensively on Broughton to justify conditioning enforcement of agreements to arbitrate claims under the Fair Housing and Employment Act on the provision of extensive remedial and procedural rights in arbitration. Armendariz was already in trouble after the California Supreme Court was summarily reversed by the U.S. Supreme Court in Sonic-Calabasas A, Inc. v. Moreno, 57 Cal. 4th 1109 (2013), cert denied, 134 S. Ct. 2724 (2014). Although Sonic attempts to carve out some breathing room for Armendariz, at least one published Court of Appeal decision, Lona v. Citibank, N.A., 202 Cal. App. 4th 89 (2011), recognized that Armendariz sat on shaky FAA ground.

And so we begin another round of the decades-long dance between the California Supreme Court and the U.S. Supreme Court over the FAA.