The Good, The Bad, and The Ugly of Recent Arbitration Decisions: The Good – Kilgore v. KeyBank Nat’l Assoc.

5 minute read | April.13.2012

In the wake of the Supreme Court’s landmark decision in AT&T Mobility LLC v. Concepcion, 131 S. Ct. 1740 (2011) (“Concepcion”), there has been a flurry of litigation pertaining to class action waiver provisions in employment arbitration agreements and, more generally, the permissibility of class arbitration.  The results of this uptick in litigation have been decidedly mixed, particularly in the undisputed epicenters of post-Concepcion activity – California and New York.  Several recent decisions exemplify the wide range of post-Concepcion activity, including Kilgore v. KeyBank Nat’l Assoc., 2012 WL 718344 (9th Cir. March 7, 2012), a decidedly pro-employer decision that is the first subject of our three-part series on “the good, the bad, and the ugly” of recent arbitration decisions.

Kilgore is a helpful example of a court applying Concepcion to a state law rule that would have otherwise prohibited arbitration.  The question in Kilgore was whether, in light of Concepcion, the Federal Arbitration Act (“FAA”) pre-empted California’s “Broughton-Cruz” rule prohibiting arbitration of claims for public injunctive relief.  The Court also considered whether the arbitration and class waiver provision at issue was unconscionable.

In Kilgore, students of a helicopter vocational school sued the issuer of their private student loans after the school declared bankruptcy and closed its doors before the plaintiffs could complete the program and receive accreditation.  Plaintiffs alleged that they had been the victims of a “sham aviation school” that targeted low-income students who had no choice but to take out student loans with Defendant KeyBank, which they alleged was complicit and served as the school’s “preferred lender.”  Plaintiffs did not seek damages, but rather an injunction prohibiting KeyBank from collecting on Plaintiff’s promissory notes, reporting defaults on the notes to the credit reporting agencies, and engaging in further false and deceptive practices.

The promissory notes that Plaintiffs signed contained an arbitration provision and class action waiver that were conspicuously set apart from other sections of the note in bold type.  In addition to several bold warnings and acknowledgements stating that the signor had read and accepted these provisions, the arbitration and class waiver provisions were subject to an “opt-out” clause that could be exercised up to 60 days after signing.

After Plaintiffs filed suit and KeyBank removed the case to federal court, the District Judge denied KeyBank’s motion to compel arbitration.  After rejecting a choice of law provision and applying California law, the trial court held that the arbitration clause was unenforceable under California’s Broughton-Cruz rule prohibiting arbitration of claims for broad, public injunctive relief.  KeyBank filed an interlocutory appeal to the Ninth Circuit.

“As the Supreme Court did with the Discovery Bank rule in Concepcion,” the Ninth Circuit examined the state law rule at issue to determine whether it was preempted by the FAA.  The Broughton-Cruz rule originated from a series of California Supreme Court decisions addressing the suitability of arbitration in the context of claims for public injunctive relief.  Finding that “the evident institutional shortcomings of private arbitration in the field of public injunctions” would be unacceptable where there was more “at stake” than the private interests of the parties at hand, the California Supreme Court held in Broughton v. Cigna Healthplans of California, 21 Cal. 4th 1066 (1999) that an agreement to arbitrate could not be enforced in a case where the plaintiff is “functioning as a private attorney general, enjoining future deceptive practices on behalf of the general public.”  The rule in Broughton applied to cases brought under the California Legal Remedies Act (“CLRA”), but was later expanded to cases brought under the Unfair Competition Law (“UCL”) in Cruz v. Pacificare Health Systems, Inc., 30 Cal. 4th 303 (2003).

After cataloguing several District Court decisions within the Ninth Circuit in which the trial judges had split on whether Concepcion preempted Broughton-Cruz, the Ninth Circuit held that Broughton-Cruz was in fact preempted by the FAA because it “prohibits outright the arbitration of a particular type of claim – claims for broad public injunctive relief.”  The Court further declared that Concepcion made clear that state rules and public policy decisions must bend to conflicting federal rules and policy decisions set forth in the FAA.  As the Court noted, under Concepcion a state rule “cannot require a procedure that is inconsistent with the FAA even if it is desirable for unrelated reasons.

Next, the Court turned its attention to whether the arbitration and class waiver provision was unconscionable.  As the Court noted, “Concepcion did not overthrow the common law contract defense of unconscionability whenever an arbitration clause is involved.”  Rather, “the savings clause preserves generally applicable contract defenses such as unconscionability, so long as those defenses are not applied in a fashion that disfavors arbitration.”  But the Court wasted little time in determining that the conspicuous, bolded language of the arbitration and class waiver provision in the promissory note at issue was not procedurally unconscionable.  Noting that the provision was set apart in its own section of the agreement, that the agreement contained several admonishments to read all terms, and most importantly, that it included a provision allowing plaintiffs to opt out of arbitration for up to 60 days after signing, the Court held that the agreement as a whole was enforceable.

not only supports increased enforcement of arbitration agreements in general, it provides a strong argument against the holding of Brown v. Ralph’s Grocery Co., 197 Cal. App. 4th 489 (2011) and later cases holding that waivers of the right to bring a representative action under California’s Private Attorneys General Act (“PAGA”) are unenforceable.  Brown held that California’s law prohibiting enforcement of representative action waivers for PAGA claims was not subject to the holding of Concepcion because such claims are the equivalent of law enforcement actions by state labor officials for the benefit of the public.  As the court in Brown noted, “[i]f the FAA preempted state law as to the unenforceability of the PAGA representative action waivers, the benefits of private attorney general actions to enforce state labor laws would, in large part, be nullified.”  But as Kilgore now establishes, when the FAA preempts a state law that prohibits arbitration of a particular type of claim, a necessary consequence “may be that state legislatures will find their purposes frustrated.”  Following Kilgore, there is good reason to question whether the rule announced in Brown would survive review by the Ninth Circuit.