In a ruling that has garnered significant interest among employers, the U.S. Supreme Court held on Wednesday that the Federal Arbitration Act (FAA) preempts the California Supreme Court’s efforts to impose heightened unconscionability standards on class action waivers in consumer arbitration agreements. This decision may also sound the death knell for similar restrictions imposed by California and other states on arbitration agreements in the employment setting.

In AT&T Mobility LLC v. Concepcion, No. 09-893 (Apr. 27, 2011) (pdf), the plaintiffs sued AT&T for engaging in false advertising and fraud by charging $30.22 in sales tax on phones they had advertised as “free.” AT&T moved to compel arbitration under its standard purchase agreement that precluded class or collective actions. Citing a rule announced by the California Supreme Court inDiscover Bank v. Superior Court, 36 Cal. 4th 148 (2005), which effectively forbids class action waivers in consumer arbitration agreements, both the U.S. District Court and the Ninth Circuit Court of Appeals found AT&T’s agreement to be unconscionable and, therefore, unenforceable under the standards imposed by the California Supreme Court. 

The U.S. Supreme Court reversed the Ninth Circuit, however, finding that the FAA preempts California’s efforts to impose additional burdens on certain types of arbitration agreements. Writing for the majority, Justice Scalia concluded that California’s heightened standards for consumer arbitration agreements is inconsistent with the FAA’s policy favoring arbitration, and specifically with the FAA’s requirement that arbitration agreements be treated like other contracts are. Under the FAA, standard contract defenses are available (e.g., fraud, duress, and unconscionability), but those standards cannot be applied differently to an arbitration agreement.

Although AT&T Mobility does not specifically address the question of class action waivers in the employment context, the Court’s broad language calls into question the validity of at least two other decisions in which the California Supreme Court engrafted additional requirements upon arbitration agreements: Gentry v. Superior Court, 42 Cal. 4th 443 (2007) and Armendariz v. Foundation Health Psychcare Servs., Inc., 24 Cal. 4th 83 (2000). 

In Gentry, the California Supreme Court held that class action waivers in employment arbitration agreements are subject to a rigorous, four-factor examination by a court in order to determine their enforceability. Because Gentry relied explicitly upon Discover Bank (the opinion the AT&T MobilityCourt rejected on Wednesday), it appears to be no longer valid.

Extending the logic of the Supreme Court’s decision, Armendariz also may be overturned. There, the California Supreme Court announced heightened unconscionability standards for mandatory arbitration clauses in employment contracts that go beyond what is required for the enforcement of other types of contracts. Specifically, under Armendariz, employment arbitration agreements are unenforceable in California unless they (1) provide for a neutral arbitrator; (2) permit "adequate discovery"; (3) require the arbitrator to issue a written decision; (4) do not limit the relief that would be available to an employee plaintiff in court; and (5) do not require employees to pay costs in arbitration (such as the arbitrator’s fee) that they would not have to pay in court. To the extent that the FAA prevents states from engrafting special requirements on arbitration provisions that are not imposed on contracts generally, these requirements of Armendariz also may be preempted and no longer valid.

In view of the new U.S. Supreme Court decision, Gentry and Armendariz may no longer be used to impose additional restrictions upon employment arbitration agreements in California. At a minimum, it seems California employers may now be able to obtain class action waivers in their arbitration agreements, which could mean the tidal wave of such claims in California may have finally crested. In the wake of this important ruling, all employers are well advised to reexamine whether to adopt arbitration regimes if they don’t already have one in place and if they already do, to review those agreements to make sure they are in compliance with the new rules announced in AT&T Mobility this week.