|The Dangers of Binding Mandatory Arbitration (BMA) Clauses|
Credit card holder Christopher Boehr was outraged when he learned that Discover Bank imposed a $29 late fee on some customers even if their payments arrived on the due date.
But when he sued for breach of contract and consumer fraud for an estimated class of 25 million people, Discover Bank invoked a little-known clause that requires cardholders to waive the filing of a class action, as well as participate in arbitration.
That meant that Boehr, a resident of San Gabriel, Calif., would have to go it alone if he wanted to recover his small sum of individual money -- an expensive prospect that few lawyers would touch and would leave Discover Bank at no risk of getting hit with a class-sized judgment.
Today the California Supreme Court will step in, hearing arguments in Los Angeles to determine whether arbitration clauses that ban class actions, such as Discover's, are un-conscionable under California law.
State appeal courts have split on the issue, with one ruling that such a contract "violates fundamental notions of fairness," and the other – in Boehr's case -- holding that the Federal Arbitration Act prevents states from voiding most contract terms.
The issue has raised tempers on both sides.
Plaintiffs lawyers claim class action bans put consumers at a severe disadvantage in the commercial realm, while immunizing corporations from liability.
Defense attorneys, meanwhile, contend that class actions undermine the arbitral benefits of cheap costs and expeditious results, and could encourage disgruntled consumers to forum shop for courts in friendly states. They also say class actions that involve small amounts of individual money, such as Boehr's, serve no purpose other than fattening plaintiff lawyers' wallets.
In November, the giant Irvine, Calif.-based arbitration provider JAMS announced that it wouldn't enforce contracts that eschewed class actions, but appeared to cave in to industry pressure by renouncing its policy four months later.
Discover Bank and Citibank had written JAMS out of its contracts in response to the service's original position.
Brian Strange, a partner in L.A.s Strange & Carpenter who represents the prospective class, said last week that he believes Discover Bank v. Superior Court (Boehr), S113725, is the "single most important" consumer case in a decade.
"If the corporations are allowed to ban class actions, it effectively strips the consumers of any remedy to pursue small claims," he said, "and every major corporation that deals with mass numbers of consumers is going to insert these bans on class actions [into] an arbitration clause."
Strange will handle 10 minutes of oral argument, while F. Paul Bland Jr., a staff attorney with the Washington, D.C.-based Trial Lawyers for Public Justice, will take the other 20 minutes.
According to court documents, Boehr obtained a credit card from Discover Bank in 1986. Fifteen years later, he filed a class action in Los Angeles County Superior Court challenging the bank's policy of imposing about $29 in late fees on payments received after a previously undisclosed 1 p.m. cutoff time on the due date.
In 1999, however, Discover Bank had unilaterally added the arbitration clause prohibiting class actions. Superior Court Judge Carolyn Kuhl sided with the bank initially, but changed her mind in 2002 after Santa Ana, Calif.'s 4th District Court of Appeal issued Szetela v. Discover Bank, 97 Cal.App.4th 1094, which declared arbitration clauses prohibiting class actions unconscionable under state law.
While the advantages to Discover "are obvious," Justice Eileen Moore wrote, such a policy "provides the customer with no benefit whatsoever; to the contrary, it seriously jeopardizes customers' consumer rights by prohibiting any effective means of litigating Discover's business practices.
"This is not only substantively unconscionable," she wrote, "it violates public policy by granting Discover a 'get out of jail free' card while compromising important consumer rights."
Nine months later, L.A.s 2nd District, ruling in Boehr's case, rejected its sister court's reasoning, finding instead that the Federal Arbitration Act has pre-empted a state's ability to refuse to enforce an arbitration agreement on the basis of state law.
"While a state may prohibit the contractual waiver of statutory consumer remedies, including the right to seek relief in a class action," then-Justice Reuben Ortega wrote, "such protections fall by the wayside when the waiver is contained in a validly formed arbitration agreement governed by the FAA."
In their arguments to the court, Boehr's lawyers insist that the 2nd District got it wrong.
"The decision of the court of appeal in this case is that even if a contractual ban on class actions is illegal under generally applicable California law, the FAA requires that such a ban nonetheless be enforced if it is included in an arbitration clause," Bland, Strange and others wrote. "As the FAA itself and the U.S. Supreme Court have made clear, the FAA incorporates -- rather than sweeps away -- such generally applicable state laws.
"The absolutist reasoning of the court below," they continued, "is also flatly contrary to several rulings of this court and many other courts that arbitration clauses whose 'express terms' are particularly unfair or one-sided are unconscionable and thus unenforceable."
Discover Bank's attorneys in the Los Angeles office of Kirkland & Ellis declined comment on the pending case. But in their court papers, they argue almost exclusively that the law of Delaware -- where Discover Bank is incorporated and which allows class action waivers in arbitrations - should apply.
"Permitting [Boehr] to pursue a nation-wide class in this state," partner Jeffrey Davidson wrote, "would put many of [Boehr's] putative class members at odds with the high courts of their own states and do nothing to promote the respect and harmony that should be comity's hallmarks.
"Given the millions of cardholders scattered across the 50 states," he added, "it makes sense to choose one state's law to govern the uniform agreement, and choosing Delaware as that one state makes eminent sense."
The Washington, D.C.-based U.S. Chamber of Commerce, acting as an amicus curiae for Discover Bank, took a more cynical view, contending that victory would produce no more than pennies on the dollar for the average class member.
"From all appearances, Mr. Boehr's claim (which purportedly is representative of the claims of the members of the putative class) is worth somewhere between 33 and 86 cents -- the amount he allegedly was overcharged under his contract with Discover," Donald Falk, a partner in the Palo Alto, Calif., office of Mayer, Brown, Rowe & Maw, wrote.
"Allowing claims of this tiny magnitude to be litigated," he continued, "will inure to the benefit of no one except for plaintiffs' attorneys themselves, who at the end of the day likely will be the only people to gain a cent from the litigation."
Strange and San Francisco attorney Cliff Palefsky of McGuinn, Hillsman & Palefsky said class actions aren't about winning big awards for individual consumers, but giving millions of individuals the clout to stop dishonest practices.
"The reason you have class actions is so you can aggregate people's claims to have the economic incentive to go forward," Strange said. "It's about stopping the practices."
Palefsky agreed, saying most consumer cases of this type involve dollar amounts that wouldn't be practical to pursue individually.
"This is about [corporations] avoiding liability, stripping people of rights and turning arbitration into a forum that is inferior to court," he said. "This is about over-reaching."
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