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Novel California Law Takes Shot at Limiting Worker Arbitration

Oct. 28, 2019, 11:56 AM

California’s novel new law to limit the use of workplace arbitration agreements stands a chance to survive judicial review despite the headwinds against such restrictions, according to some legal scholars.

The Golden State finalized a law this month that prohibits employers from requiring that job applicants or workers sign arbitration pacts as a condition of employment. That represents a departure from the other states’ tactic to declare that agreements to arbitrate certain types of claims are invalid, which all but guarantees that those measures will be preempted by the Federal Arbitration Act, scholars said.

“I think the approach taken by this statute is very innovative and could possibly elude FAA preemption,” said Jean Sternlight, law professor at the University of Nevada, Las Vegas, and director of the school’s Saltman Center for Conflict Resolution. “Regulation of labor and employment is a core state function, and I don’t think courts should rely on federal arbitration law to interfere with that function.”

Nevertheless, Sternlight said she wouldn’t be shocked if California’s law was preempted. Courts, especially the U.S. Supreme Court, have developed “overly broad interpretations and misinterpretations of the FAA, and its preemptive scope,” she said. While Sternlight wasn’t alone in saying the law could withstand court review, several academics said they expect it to fall to an FAA challenge.

Major Implications

The fate of California’s new law has major implications for employment litigation in the nation’s most populous state. California is home to 11.4 million private sector workers, the UC Berkeley Center for Labor Research and Education said in a July report.

Mandatory arbitration is particularly widespread in California, where about two-thirds of private employers use them, compared with 54% nationwide, according to a 2018 study from the left-leaning Economic Policy Institute. That high concentration is a consequence of companies reacting to the state’s protective employment laws, the study said. Arbitration agreements are often paired with clauses that waive a worker’s right to join class or collective actions.

If the California law overcomes FAA preemption, it could become a model for other states looking to curb the use of mandatory arbitration for workers’ employment disputes.

The California Chamber of Commerce, which opposed passage of the law, said it’s reviewing its options for a legal challenge. The U.S. Chamber of Commerce, which is litigating a challenge against New Jersey’s recent law that prohibits employee arbitration agreements, is also weighing its options, said Steven Lehotsky, chief counsel for the group’s litigation arm. But even if California’s law doesn’t face a direct challenge, it would be tested when employers ask courts to enforce arbitration agreements affected by the law.

Federal Preemption

The FAA has been trumping state-level measures to limit arbitration for decades. The U.S. Supreme Court’s extensive line of pro-arbitration jurisprudence, for example, includes a 1984 decision in Southland v. Keating that moved a 7-Eleven franchisee’s dispute into arbitration despite a California franchising law voiding the arbitration agreement.

Despite the FAA’s preemptive power, states have continued passing laws to limit arbitration. New York, New Jersey, Vermont, and Maryland enacted measures over the past two years, partly in response to the #MeToo movement and concern about the victims of workplace harassment being silenced.

“Every time a state tries to do something, it’s been viewed as preempted,” said Sarah Rudolph Cole, a law professor at The Ohio State University Moritz College of Law and director of the school’s Program on Dispute Resolution.

But California’s law was designed to withstand legal challenge by focusing entirely on what happens before a worker signs an arbitration agreement, said Steve Smith, spokesman for the California Labor Federation, one of the measure’s primary backers.

Vetoed Before

The law, which takes effect Jan. 1, bans employers from forcing workers to waive their any rights under the California Labor Code or the state’s antibias statute, including the right to bring claims in court. It specifically says it’s not intended to invalidate arbitration agreements that are enforceable under the FAA, nor does it apply to severance or post-dispute settlement agreements.

The California Legislature passed a nearly identical measure in 2018, but then-Gov. Jerry Brown (D) vetoed it. Gov. Gavin Newsom (D) signed the current bill into law Oct. 10.

“There are clear differences between the two governors,” Smith said. “Governor Newsom is much more willing to fight, especially on issues of social or economic justice.”

Brown said he vetoed the 2018 version because it “plainly violates federal law.” His veto message quoted a portion of the court’s 2017 opinion in Kindred Nursing v. Clark indicating that the FAA applies to forming arbitration agreements as well as enforcing them.

In Support of the Law

But three prominent legal scholars said the FAA doesn’t regulate contract formation. The Supreme Court recognized that limitation in its 1995 ruling in First Options of Chicago v. Kaplan, which said courts “should apply ordinary state law principles that govern formation of contracts.”

State laws govern the formation of contracts and legislators can impose conditions to determine when such agreements are so unfair that they’re unenforceable, said Catherine Fisk of the University of California at Berkeley, Judith Resnik of Yale Law School, and Benjamin Sachs of Harvard Law School.

California bars employers, for example, from requiring workers to sign away their rights to discuss wages or working conditions, the three scholars said in a letter supporting the 2018 version of the state’s arbitration law.

In addition, the law should survive a preemption challenge in part because it doesn’t disfavor arbitration, which is the congressional intent that animates the FAA, they said.

Hostility to California’s Arbitration Limits

But several arbitration scholars predicted California’s law would be preempted. The Supreme Court’s rulings on the FAA have described its preemptive power in broad terms, such that courts could rule against California’s law even though it regulates employer conduct before an agreement is signed, they said.

Courts could find FAA preemption because the law arguably has a disproportionate impact on arbitration, constrains parties from forming arbitration agreements, or interferes with employers’ right to demand arbitration, said Imre Szalai, a Loyola University New Orleans law professor who has written extensively about arbitration.

The Supreme Court has been particularly hostile to anything California does to regulate arbitration, said Martin Malin, a law professor and co-director of the Institute for Law and the Workplace at Chicago-Kent College of Law.

In addition to Southland v. Keating in 1984, the court ruled that the FAA preempted California laws in its 1987 ruling in Perry v. Thomas, and its 2008 opinion in Preston v Ferrer. The justices similarly said in its 2011 decision in AT&T v. Concepcion that the state’s rule against class action waivers in arbitration agreements was blocked by federal law.

In its April opinion in Lamps Plus v. Varela, the court ruled that an employment dispute had to be arbitrated individually even though the arbitration agreement didn’t waive class claims and California law construes ambiguous contracts against the drafter.

The high court’s 2015 ruling in DIRECTV v. Imburgia reversed a California appellate court ruling that turned on state contract law, saying the decision improperly singled out arbitration. Malin said part of the court’s analysis struck him as “totally bizarre.”

“The Supreme Court reinterpreted California law, deciding the ruling was inconsistent with the rest of the relevant contract interpretation precedent,” Malin said. “The Supreme Court isn’t supposed to reinterpret state law, but that didn’t get in its way.”

To contact the reporter on this story: Robert Iafolla in Washington at riafolla@bloomberglaw.com

To contact the editors responsible for this story: Karl Hardy at khardy@bloomberglaw.com; Jay-Anne B. Casuga at jcasuga@bloomberglaw.com

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