Delegating unconscionability to the arbitrator

Whether an arbitration agreement is unconscionable is ordinarily an issue determined by a court, not the arbitrator. OTO, L.L.C. v. Kho, 8 Cal. 5th 111, 138 (2019). At the same time, parties to an arbitration agreement may “delegate” certain threshold issues to the arbitrator, including unconscionability, so long as the agreement does so by “clear and unmistakable” evidence. Henry Schein, Inc. v. Archer & White Sales, Inc., 139 S. Ct. 524, 530 (2019) (quoting Rent-A-Ctr., W., Inc. v. Jackson, 561 U.S. 63, 79 (2010)).

But what happens if the parties’ agreement delegates the “interpretation,” “application” or “validity” of the arbitration agreement itself to the arbitrator without expressly mentioning unconscionability? Is the issue of unconscionability for the arbitrator or the court to decide?

Recently, the United States District Court for the Northern District of California answered this question. Cornet v. Twitter, Inc., No. 3:22-CV-06857-JD, 2023 WL 187498, at *3 (N.D. Cal. Jan. 13, 2023). Cornet involved a putative class action brought by former Twitter employees alleging that layoffs violated state and federal laws. And in Cornet, the court construed the arbitration agreements as empowering the arbitrator to decide the issue of unconscionability.

As explained below, the decision serves as a reminder to litigants about the potential impact of specific language in arbitration clauses, and raises a number of issues and insights regarding the delegation doctrine.

Unconscionability and Delegation

Unconscionability is a state-law defense to any contract a party seeks to enforce, and applies equally to arbitration agreements. Kho, 8 Cal. 5th at 138. Generally, the defense involves whether the contract was unreasonably favorable to one party, procedurally or substantively speaking. Procedural unconscionability pertains to whether there was surprise or unfairness in the negotiation of the agreement due to the unequal bargaining power of the parties. Substantive unconscionability asks whether the actual terms of the arbitration agreement are “overly harsh or one-sided.” Pinnacle Museum Tower Assn. v. Pinnacle Market Development (US), LLC, 55 Cal. 4th 223, 246 (2012). Both procedural and substantive unconscionability must be found for the contract to be unenforceable.

California courts have held that both the California Arbitration Act (CAA) and the Federal Arbitration Act (FAA) allow the court to determine unconscionability so that the issue “will be resolved before arbitration is enforced.” Kho, 8 Cal. 5th at 138. However, courts have recognized an exception where the parties’ arbitration agreement contains a “delegation clause,” a provision where the parties agree to have the arbitrator resolve any “gateway” issues. If the parties delegated the issue of unconscionability, then the arbitrator, not the court, must decide the issue under the CAA and FAA’s liberal policies to enforce arbitration agreements according to their terms.

In order for the delegation clause to be enforced, two elements must be satisfied: (1) the delegation provision must be “clear and unmistakable,” and (2) the delegation provision itself must not be invalid based on another contract defense, such as fraud, duress, or unconscionability. Under the second element, if the party contesting arbitration makes a specific challenge to the validity to the delegation clause itself, the court resolves the argument. See Pinela v. Neiman Marcus Grp., Inc., 238 Cal. App. 4th 227, 242 (2015). But if the party is challenging the validity of the contract as a whole, not the delegation clause itself, the arbitrator will determine whether the contract is enforceable, not a court. Buckeye Check Cashing, Inc. v. Cardegna, 546 U.S. 440, 440 (2006).

Cornet v. Twitter

In Cornet, plaintiffs brought a putative class action after they were laid off by Twitter following Elon Musk purchasing the company. Plaintiffs alleged that Twitter had planned mass layoffs without providing adequate notice to the employees, which resulted in violations of the federal WARN Act, 29 U.S.C. § 2101 et seq. and the California WARN Act, Cal. Labor Code § 1400 et seq. Plaintiffs sought an injunction preventing further layoffs without the requisite disclosure, as well as compensatory damages.

Twitter filed a motion to compel arbitration. The arbitration agreements plaintiffs had signed with Twitter were governed by the FAA, and contained a delegation clause, which provided that the agreements apply to “disputes arising out of or relating to [the] interpretation or application of this Agreement, including the enforceability, revocability, or validity of the Agreement or any portion of the Agreement.” The agreements also contained a class action waiver, requiring plaintiffs to arbitrate their claims individually. Twitter’s motion also sought to have the arbitrator determine the issue of unconscionability based on the delegation clause.

Plaintiffs’ main defense to arbitration was that the agreements were unconscionable, arguing the agreements failed to provide plaintiffs with the applicable arbitration rules, and contained confidentiality provisions which unfairly favored the company over the employees. Plaintiffs only defended against Twitter’s delegation argument by claiming the agreements did not make a “clear and unmistakable” delegation to the arbitrator.

The court agreed with Twitter, finding the delegation provision required plaintiffs’ unconscionability claims to be determined by the arbitrator. The court rejected plaintiffs’ argument that the delegation clauses were not clear and unmistakable because they did not specifically refer to unconscionability. “[T]he delegation clauses in all three versions of the agreement state quite clearly that disputes about the enforceability and validity of the arbitration agreement are ‘to be resolved only by an arbitrator through final and binding arbitration.’ … This is just the kind of language which establishes that ‘the parties clearly and unmistakably agreed to arbitrate the question of arbitrability.’” Cornet, 2023 WL 187498, at *3 (quoting Momot v. Mastro, 652 F.3d 982, 988 (9th Cir. 2011)). Accordingly, the court ordered the parties to arbitration with the arbitrator to decide whether the agreements were unconscionable.

Arbitration Angle

Cornet is a good reminder that parties seeking to assert the defense of unconscionability in opposition to a motion to compel arbitration should carefully review the language in the agreement for a delegation clause before they oppose the motion. If there is one, is the language “clear and unmistakable” such that the arbitrator must render a determination on unconscionability? And if so, is there a separate and specific challenge that can be asserted to the delegation clause itself such as fraud, duress, or unconscionability?

Cornet appears to be the correct outcome based on the Supreme Court’s holding in Rent-a-Center and subsequent authorities. But is the rule allowing parties to agree to delegate issues of arbitrability the right one? Is it faithful to the FAA? Though the law here is well-settled, the answers to those questions seem less clear.

For example, the FAA does not address whether an arbitrator or court must decide issues of arbitrability. Section 2 of the FAA only states that arbitration agreements are valid “save upon such grounds as exist at law or in equity.” So why shouldn’t a court decide whether the “grounds as exist at law or in equity,” require or preclude arbitration of the controversy? And wouldn’t it be better for a court to make such determinations? After all, the default rule is that the court will decide such issues. Why is there a need for an exception simply because the parties agreed to delegate the gateway issues, especially when such issues are unlikely to affect the merits of the underlying dispute?

The counterargument, of course, is that arbitration agreements are ultimately contracts, and courts should enforce the benefit of the bargain between the parties. So if the parties agreed to have the arbitrator decide issues of arbitrability, a court should not be permitted to refuse to enforce the agreement. Yet, the FAA is not a common law doctrine about contract enforcement, it is a procedural statute establishing rules for enforcement of arbitration agreements. Then again, the FAA establishes a liberal policy in favor of arbitration; thus, it can be argued it logically follows that a dispute about arbitrability should also be sent to arbitration.

All that said, no matter what one thinks of the equities of the delegation doctrine, it seems hard to deny that the current legal landscape benefits defendants (at least in the employment and consumer contexts), as the parties likely to compel arbitration. After all, an employee or consumer plaintiff who signs an arbitration agreement is not likely to think ahead about an unconscionability defense at the time of signing, with an eye towards whether the court or arbitrator should decide the issue. And yet, the unconscionability defense exists where a party was unfairly surprised or was unable to foresee the one-sidedness of the agreement they later contend should not be enforced. So isn’t there some irony here? All things considered, is the delegation doctrine just another means of immunizing defendants from otherwise applicable judicial review and juries? In these kind of contexts, is this really contractual freedom?