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Courts Refuse to Enforce Arbitration Agreements

In two cases, California courts have refused to enforce employment arbitration agreements. In Gonzalez v. Hughes Aircraft Employees Federal Credit Union (February 23, 1999) and Kinney v. United Healthcare Services, Inc. (March 29, 1999), the courts found that the arbitration agreements were unconscionable and, therefore, invalid.

Doctrine of Unconscionability

The concept of unconscionability has two elements, procedural unconscionability and substantive unconscionability. [A & M Produce Co. v. FMC Corp., 135 Cal.App.3d 473, 486 (1982).] A contract is procedurally unconscionable when a party cannot negotiate the terms of a contract as a result of unequal bargaining power or lack of meaningful choice. In addition, a contract may be procedurally unconscionable where terms are "hidden" within a contract. A contract is substantively unconscionable when the contract imposes unduly harsh or oppressive, one-sided terms. [See Ingle v. Circuit City Stores, Inc., 328 F. 3d 1165 - Court of Appeals, 9th Circuit 2003.]

Courts will refuse to enforce a contract that is both procedurally and substantively unconscionable. Many courts will utilize a sliding scale. Where there is a greater degree of substantive unconscionability, a lesser degree of procedural unconscionability will be required for an agreement to be deemed unenforceable.

Unconscionable for Lack of Opportunity to Bargain Terms

In Gonzalez v. Hughes Aircraft Employees Federal Credit Union, Gonzalez was hired as a customer service representative. Two months later, Hughes Aircraft required her to sign a standardized form employment arbitration agreement. The arbitration agreement required employees to utilize the company's internal grievance procedure for all disputes. If the dispute was not successfully resolved through the grievance procedure, the employee had 20 working days to give notice of any claim to be arbitrated. Late claims were deemed void. The agreement limited discovery to two depositions. Although an employee was required to arbitrate all claims, Hughes Aircraft was permitted to seek judicial relief in court for virtually all employment-related issues.

Gonzalez sued Hughes Aircraft for harassment in a civil court and Hughes petitioned to compel arbitration. The court found the arbitration agreement was unenforceable. The court reasoned that Gonzalez did not have a realistic opportunity to bargain over the terms of the standardized agreement, especially since she was presented with the form agreement two months after her hire. Therefore, the agreement was procedurally unconscionable.

Due to the combination of the short statute of limitations and the one-sided restrictions, the court found that the arbitration agreement was substantively unconscionable. The 20 day period of time in which to provide notice of intent to arbitrate was far shorter than the limitations period for Gonzalez to file a civil lawsuit. The agreement permitted Hughes Aircraft to seek judicial relief in courts for virtually all employment issues, but prevented Gonzalez from doing so. Finally, the limited discovery might hinder an employee's ability to prove discrimination. Accordingly, the court refused to enforce the arbitration agreement.

Unconscionable for Hidden Terms

In the matter of Kinney v. United Healthcare Services, Inc., Kinney was hired as a utilization control consultant for Metra Health. United Healthcare acquired Metra Health and required its new employees to sign a document acknowledging receipt of the employee handbook. The handbook contained an arbitration policy.

The policy provided that arbitration was the employee's final and exclusive forum for the resolution of all employment disputes. Each side was limited to two depositions, 25 document requests, and 25 interrogatories designed to identify potential witnesses. The arbitrator was not permitted to find that the employment relationship was other than at-will. The amount of damages employees could recover was limited. United Healthcare could recover attorneys. fees under certain circumstances, but the employee was precluded from recovering attorneys. fees.

Kinney filed a civil lawsuit for discrimination and retaliation. United Healthcare petitioned to compel arbitration. According to the court, the policy was procedurally unconscionable. The employee handbook required employees to consent to its terms, including the arbitration provision, as a condition of employment. Employees were not permitted to negotiate the terms. In addition, the terms of the arbitration policy were hidden. United Healthcare presented Kinney with a large three-ring binder and told her to sign the acknowledgment form that same day. The language of the policy was difficult to read. The policy did not make it clear that United Healthcare was not limited to pursuing its claims through arbitration.

The arbitration policy was also very one-sided and, therefore, found to be substantively unconscionable. United Healthcare required Kinney to waive all of her rights to the benefits and protections of suing in court, but United Healthcare retained those rights. Although the limitations on discovery applied to employer and employees, the limitations disproportionately affected employees. Because United Healthcare was in possession of most of the evidence relevant to the discrimination claim, Kinney's ability to prove her case would be limited. The cap on recovery was unfair. The provision prohibiting the arbitrator from finding that employment was not at-will entirely disposed of a potential claim that Kinney could only be terminated for cause. Therefore, the court held that the arbitration agreement was unenforceable.

Lessons For The Employer

Because this area of the law is rapidly evolving, there may not be a bullet-proof employment arbitration agreement. These cases and prior cases, however, provide guidance on maximizing the chances of a court enforcing such an agreement. Employers should review their arbitration agreements and the methods used to distribute the agreements.

First, applicants should be informed about the arbitration agreement at or before the time an offer is extended. Employers should not wait until the employee has resigned from his or her previous position and is ready to begin employment. After an offer is extended, the applicant should be given a copy of the agreement and given a reasonable time to review and discuss it.

Second, the arbitration agreement should be a separate agreement and not part of an employee handbook. When the terms are part of a handbook, the terms may ultimately be considered hidden or buried within the handbook. Also, an employee generally cannot negotiate terms that are part of a handbook. Therefore, an agreement that is only in a handbook will probably be considered procedurally unconscionable.

Third, review the terms of the arbitration agreement. Omit any unfair terms that hinder the employee's ability to prove his case as well as terms that limit the employee's remedies. This includes severe limitations on discovery as well as limitations on recovery of damages and attorneys' fees.

Finally, employers should consider revising their arbitration agreement if the agreement provides that certain actions may be brought in a civil court. Many arbitration agreements exclude actions for unfair competition, misappropriation of trade secrets, or other claims. Courts will probably not enforce an arbitration agreement that excludes actions that are typically filed by employers and not employees. [See Armendariz v. Foundation Health Psychcare, 24 Cal.4th 83 (2000).] Courts may view such an agreement as one-sided and, therefore, substantively unconscionable. Also, because employers typically have a legal right to seek immediate injunctive relief even with an arbitration agreement, there may be little reason to exclude actions that are usually filed by an employer.

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