Every working day countless newly-hired, newly-promoted, or newly-stock optioned employees have arbitration agreements placed in front of them. Employers have asked employees to sign these agreements assuming they will hold up under judicial scrutiny, but with enough uncertainty in the law to warrant a “we’ll cross that bridge when we come to it” disclaimer. A recent Supreme Court decision has given employers added confidence in the effectiveness of their employment-based arbitration agreements by further limiting the opportunities for judicial review.
On June 21, 2010, the Supreme Court offered its opinion (two actually – a five-member majority opinion and a four-member dissent) on whether these rather typical circumstances for securing employment-based arbitration agreements leave them uniquely susceptible to challenge and judicial review. Although the majority’s ultimate holding rests on very narrow grounds, and thus should not be overstated, it appears that most of the time, with most employment-based arbitration agreements, an arbitrator in an arbitration proceeding shall determine whether the parties have validly agreed to present their disputes to an arbitrator in an arbitration proceeding.
If this holding strikes you as both consistent with the Federal Arbitration Act’s goal of promoting arbitration of private disputes as well as a precise reading of the plain language of the statute, then you share the majority view of Justices Scalia, Alito, Kennedy, Roberts, and Thomas. If, on the other hand, this holding strikes you as attenuated (if not outright circular) you are not alone. Justices Stevens, Breyer, Ginsburg, and Sotamayor decried the Court’s majority ruling as unnecessary and indeed “fantastic” (but not in a good way). Those on both sides of the debate agree, however, that this ruling will result in more employment disputes remaining in (or being remanded to) arbitration.
Employer and Employee Entered into Typical Employment-Based Arbitration Agreement and Wound Up in Equally Typical Dispute
The facts in Rent-a-Center likely resonate with many employers and most employment law practitioners. The employee signed a free-standing arbitration agreement at the start of and as a condition of employment that required, in material part:
- Arbitration of all disputes arising out of the employee’s employment, including statutory claims of employment discrimination, but allows the employer to bring certain non-compete and trade-secret claims against the employee directly in court;
- That the employer and employee would equally split the arbitrator’s fees in the event of a covered dispute;
- That the arbitration would allow for only limited discovery and depositions prior to hearing; and
- That the Arbitrator, and not any federal, state, or local court or agency, shall have the exclusive authority to resolve any dispute relating to the interpretation, applicability, enforceability or formation of this Agreement including, but not limited to any claim that all or part of this Agreement is void or voidable.
After complaining about alleged discriminatory promotion decisions, the employee suffered a decline in performance, ultimately culminating in his termination. The employee sought to bring suit against the employer alleging race discrimination in violation of 42 U.S.C. § 1981; the employer, in turn, moved to dismiss and compel arbitration pursuant to the FAA.
In opposing the motion to dismiss, the employee challenged the validity of the arbitration agreement, contending that it arose from grossly unequal bargaining positions resulting in an entirely one sided agreement in favor of the employer. In particular, the employee argued that no reasonable employee in a truly fair bargaining situation would have agreed to divert all of his/her claims to arbitration while allowing the employer to bring its claims directly in court, or agree to split the arbitration costs equally with the employer’s much deeper pockets.
The employer defended its motion by arguing that even the threshold issue of whether the parties have a valid agreement to arbitrate was, itself, a question the parties agreed would be decided in arbitration. Thus, the employee had to raise all these challenges first in arbitration, even if the employee fundamentally was asserting that he was not bound to arbitrate anything at all.
Majority Opinion Upheld Delegation of Authority to Arbitrator, Even to Decide Validity of Arbitration Agreement as a Threshold Matter
The majority held that both the FAA and its own past precedent, particularly its 1967 decision in Prima Paint Corp. v. Flood & Conklin Mfg. Co., draw a crucial distinction between: (a) challenges to the validity of the delegation of authority to an arbitrator to decide threshold issues; and (b) challenges to the validity of the underlying agreement as a whole. In other words, unless the employee does (and factually can) argue that the delegation clause was invalidly procured (such as through fraud or duress), then all threshold challenges to the underlying agreement must be directed to the arbitrator.
The majority acknowledged that this could lead to the somewhat ironic (and some would say unlikely) result of an arbitrator invalidating the entire agreement, including the arbitration provision that put the matter before the arbitrator in the first place. The majority, however, found that outcome would better serve the spirit and letter of the FAA than allowing parties to use a challenge to another aspect of the agreement to skirt an otherwise valid arbitration provision. The majority also offered a virtual road map that, while perhaps difficult to traverse, would have enabled the employee to focus his challenge specifically on the delegation of authority to the arbitrator and, potentially, have those issues first resolved by a court.
The dissent found the majority’s reasoning overly formalistic, particularly in the instant case where the delegation clause resided in an independently executed arbitration agreement and not merely as an ancillary clause of a broader employment agreement. In other words, “any challenge to the contract itself is also, necessarily, a challenge to the arbitration agreement. They are one and the same.” Rather, the minority would have considered whether the resolving the validity of the arbitration agreement (or clause) would bear on the merits of the underlying dispute between the parties. If not, and with respect to race discrimination claims asserted in this case the minority thought not, then a court ought to determine the arbitrability of a matter, rather than leaving the arbitrator essentially to decide his/her own fate. As the dissent concluded, “[t]he notion that a party may be bound by an arbitration clause in a contract that is nevertheless invalid may be difficult for any lawyer – or any person – to accept.” Indeed, even before the Rent-a-Center decision, traditional labor interests had begun seeking support for legislation that would limit employment-based arbitration agreements.
Employer Lessons from Rent-a-Center Ruling
So what does this mean for employers currently operating under or contemplating the introduction of arbitration agreements? The Rent-a-Center decision clearly bolsters the effectiveness and reliability of employment-based arbitration agreement. Unless or until the legislative landscape changes, such agreements are more likely to be upheld and enforced. Employers, however, would be well advised to include a clause expressly delegating to the arbitrator authority to resolve all threshold issues, including those related to the basic formation and validity of the agreement. Otherwise, they may find themselves first having to argue through such threshold issues in court, which tends to defeat the purpose of the arbitration agreement.
The Court (both the majority and minority) also seemed untroubled by the arbitration fee-splitting provision in the Rent-a-Center agreement. At least neither felt it warranted much mention, which could suggest tacit approval of equal fee-splitting arrangements in employment-based arbitration agreements. Employers who seek to shift more than an equal portion of the arbitration costs onto the employee (such as under a prevailing party standard) do so at their own risk, however, as many lower costs have struck down arbitration agreements in their entirety on that basis.
The Court similarly seemed unaffected by the employee’s complaints about the potential unfairness of limited discovery and deposition practice. Although it may be the case that, particularly in an employment dispute, the employer possesses most of the material information and has access to most of the material witnesses, the truncated pre-hearing proceedings (and the supposed time and costs savings that result) are partly what makes arbitration an “alternative” to the courtroom.
Whether arbitration delivers on those promises of quicker results at less cost warrants more discussion than space allows; however, it suffices to say that arbitration proves a potentially more attractive alternative to litigation under one or more of the following conditions:
- Where the employer foresees a benefit in maintaining the confidentiality of proceedings (such as may be the case when a dispute would involve senior executives of the company);
- If the requirement to arbitrate applies to both employee and employer, where the agreement either carves out employer claims that often warrant application for emergency injunctive relief, such as non-compete or trade secret disputes, or otherwise provides a process for obtaining such relief (preferably by allowing direct application to a court of competent jurisdiction);
- Where the agreement provides for fairly detailed rules governing pre-hearing discovery (whether explicitly or by reference);
- Where material witnesses and/or indispensable parties reside predominantly within the jurisdiction (or at least not outside of the Unites States);
- Where the agreement empowers the arbitrator to rule on dispositive motions sufficiently in advance of the hearing (and, indeed, encourages the arbitrator to exercise that authority); and/or
- Where the parties expect to have some ongoing business relationship (which provides an incentive to cooperate with the arbitrator and in the arbitration proceedings in the absence of a court’s guiding hand).
Assuming an employer has satisfied itself that arbitration truly offers advantages to litigation, they now have, thanks to the Rent-a-Center decision, greater confidence that matters they intend for arbitration will, in fact, be resolved in arbitration.