Alert April 28, 2011

Class Action Update: Supreme Court Upholds Limits on Class-Wide Arbitration Contained in Consumer Contracts

Yesterday, the U.S. Supreme Court issued an important decision concerning the enforcement of arbitration provisions in consumer contracts. In AT&T Mobility LLC v. Concepcion, the Court held that the Federal Arbitration Act (“FAA”) requires courts to enforce an arbitration provision in a consumer contract even if the provision bars class-wide arbitration and even if the otherwise applicable state law declares such a provision to be void. AT&T reaffirms the strong public policy embodied by the FAA favoring the enforcement of arbitration agreements. The decision also provides businesses with a route to avoid being subject to class actions by their customers.

In AT&T, the Concepcions signed a contract for cellular telephone service. Advertisements stated that customers who signed up for the service would receive free telephones. The Concepcions received their free telephones, but they were charged sales tax based on the retail value of the telephones.

The AT&T service agreement required disputes to be arbitrated, but said that the arbitration could not proceed as a class action. Despite the arbitration provision, the Concepcions filed suit in federal court challenging the charging of sales tax on “free” telephones. The suit was combined with a putative class action raising the same question. AT&T sought to have the claims arbitrated in an individual (non-class) arbitration proceeding. The district court refused to compel arbitration, finding the arbitration provision unenforceable under the California Supreme Court’s application of the state’s unconscionability statute. The Ninth Circuit affirmed.

In a 5-4 decision, the Supreme Court reversed. Justice Scalia, writing for the majority, explained that the FAA preempts state laws that would nullify an arbitration clause effectively barring class-wide arbitrations because the statute reflects the “liberal federal policy favoring arbitration.” Justice Scalia reasoned that a state-law rule refusing to enforce arbitration clauses that bar class-wide arbitration would rob arbitration proceedings of their principal benefits:  greater speed, lower cost and informality. By the same token, the decision noted that “[a]rbitration is poorly suited to the higher stakes of class litigation” because, among other things, arbitration lacks many of the procedural protections that defendants need in putative class actions, including appellate review.

In a concurring opinion, Justice Thomas “reluctantly” joined the majority opinion while setting forth his own more expansive interpretation of the FAA, under which the grounds for allowing a state to refuse to enforce an arbitration clause would be limited to cases in which the entire agreement is unenforceable as a matter of state law. In a dissenting opinion joined by three other justices, Justice Breyer took issue with the majority’s reasoning, noting the “countervailing advantages” of class-wide arbitration, particularly in cases where small-scale grievances would otherwise go unredressed.

With respect to the interplay between arbitration and class action litigation, AT&T provides a strong statement by the Court that contractual arbitration provisions should be enforced as written and that individual arbitration can provide a viable alternative to class-wide proceedings in consumer cases. Conversely, the decision explicitly recognizes the dangers inherent in forcing defendants to defend against class actions in front of arbitrators, especially when compared to litigation in court, where judges are generally far more experienced than arbitrators in evaluating the many prerequisites to class certification.

From a broader perspective, AT&T illustrates and advances the trend by Congress and the courts to increase the level of procedural protections that attend the decision whether to allow litigation to proceed on a class-wide basis. One of the primary justifications for the enactment of the Class Action Fairness Act was to provide a federal forum for large, multi-state class actions that were being filed in state courts that were notorious for awarding large jury verdicts in disputes that had little connection to the state. Courts are also more likely to scrutinize the merits of a plaintiff’s claims in resolving motions for class certification. For example, in In re Hydrogen Peroxide Antitrust Litigation, 552 F.3d 305 (3d Cir. 2009), the Third Circuit stated that courts should “resolve all factual or legal disputes relevant to class certification even if they overlap with the merits.” 

Courts are also increasingly likely to engage in a full-fledged Daubert analysis of expert testimony submitted in support of class certification, and not to simply accept whatever expert opinion a plaintiff may present in seeking certification. In American Honda Motor Co., Inc. v. Allen, 600 F.3d 813 (7th Cir. 2010), the Seventh Circuit held that “the district court must perform a full Daubert analysis before certifying the class if the situation warrants.” These developments, along with AT&T, are part of a growing recognition that class certification puts unfair pressure on defendants to settle even meritless claims and that defendants should not be subjected to class action litigation unless a series of substantive and procedural requirements are satisfied.

AT&T thus gives businesses a clear right to contract with their customers to avoid having disputes between them resolved in a class action, where the company may be pressured to settle because of the sheer number of plaintiffs lined up against it.