Mandatory Arbitration Provisions
Question: We are in the process of revising our employment agreements and want to put in a mandatory arbitration provision for all employees who have discrimination and wrongful-termination claims. Can you give us some tips on what such a provision should and should not look like in order to make sure it will be enforceable?
Answer: Mandatory arbitration agreements offer certain advantages to employers and, as a result, have increased in popularity over the past few years. This is because they can cover a wide or a narrow range of employment disputes and employers can tailor the provisions as they see fit. In order to best ensure that the mandatory arbitration agreement that your company uses will be enforceable, it is necessary to understand the rationale behind the creation of these agreements, and what aspects of them courts examine when determining enforceability. In sum, enforceability will turn on whether your arbitration agreement is perceived to be procedurally and/or substantively unconscionable. In order to increase the chances it will be upheld, HR, in conjunction with legal, should carefully consider the overall fairness of the clauses through the eyes of a neutral.
Why do organizations include a mandatory arbitration provision in their employment agreements?
In general, employers like arbitration agreements for two primary reasons: cost and predictability. Unlike litigation, which can be hugely expensive in terms of both time and money, employers view arbitration as faster and less expensive. Similarly, while jury verdicts can be notoriously unpredictable, employers view arbitration awards as more routine and constrained within certain parameters. In addition to these two primary concerns -- cost and predictability -- employers may also feel the arbitration process itself is more likely to preserve a good relationship between the employer and the employee. Arbitration is also more confidential than litigation.
As arbitration agreements have become more popular, courts have started to raise concerns about whether certain agreements are fair to employees. The concept behind this analysis is whether the agreement is unconscionable. Unconscionability is a contract term that essentially means a clause or agreement is so unfair to one party that it "shocks the conscience."
The basic test for unconscionability is "whether, in the light of the general background and the needs of the particular case, the clauses involved are so one-sided as to be unconscionable under the circumstances existing at the time of the making of the contract." American Software, Inc. v. Ali, 46 Cal. App. 4th 1386, 1390 (1996). Unconscionability is determined at the moment both parties enter into the contract, not in light of subsequent events.
A determination of unconscionability involves an inquiry into both the procedural and substantive aspects of the agreement. Usually, a contract must be both procedurally and substantively unconscionable for a court to strike it down.
Procedural unconscionability has to do with how the contract is formed. The inquiry focuses on two factors: oppression and surprise.
* Oppression concerns the notion of bargaining power and asks, "Was there any real negotiation here? Was there any 'meaningful choice' on the part of one of the parties?" In employment agreements, there are two ways that an employer might have an employee enter into a binding arbitration agreement. The first is through contract negotiation. In this instance, the employee must have some real bargaining power, and must receive some "consideration" (or benefit) in exchange for giving up the rights associated with litigation. For example, a senior executive might be highly sought after in the industry. Various employers, all seeking to hire this same executive, would offer certain benefits in exchange for getting the executive to sign a mandatory arbitration agreement. Contrast this example with the more common case: an employee needs a job, gets hired by the employer and signs a copy of a standard employment agreement or employment handbook that contains the arbitration provision. The employee in the latter instance has no real bargaining power and no real meaningful choice. He or she did not negotiate to get any consideration or benefit in exchange for giving up the right to litigate. The latter instance may likely be considered oppressive. Though fairly common, a finding that an agreement is oppressive does not, on its own, constitute grounds for striking down the agreement as unconscionable.
* The second factor involved in a charge of procedural unconscionability is surprise. Surprise involves the presence of hidden or obscured terms in an often-wordy and legalese-heavy agreement. Courts will consider whether the weaker party to the agreement -- generally the employee -- had a reasonable opportunity to understand the terms of the agreement, whether those terms were adequately explained, and whether the stronger party -- typically the employer -- used any deceptive practices so as to obscure key provisions.
Even if the agreement is found to be procedurally unconscionable, courts will only strike it down if it is also substantively unconscionable.
Substantive unconscionability refers to whether the agreement as a whole, or any of its terms, is so lopsided as to "shock the conscience" such that it overly favors the employer or places an unreasonable constraint on the employee. If a court finds that the agreement or any part of it is unconscionable, it can either "sever" the unconscionable part of the agreement or strike the entire agreement down. The outcome of this decision depends on how interwoven the unconscionable aspects of the agreement are with the agreement as a whole.
There are two key questions to consider when drafting an enforceable arbitration provision.
- Does the arbitration clause or agreement grant the same rights to the employee under the federal statute as litigation would?
Employees must be able to obtain comparable relief via arbitration to that which they could obtain through litigation. An arbitration clause cannot require an employee to both submit to binding arbitration and agree to fewer rights than the employee would have under, for example, the Americans with Disabilities Act (ADA) or Title VII of the Civil Rights Act. The employee is already giving up his or her right to a trial by jury, so it is important that the agreement does not force the employee to give up other substantive rights. For example, if a federal employment statute entitles an employee to receive punitive damages or recover attorneys' fees, the employee must be able to get that same relief via arbitration. Mandatory arbitration agreements which place limits on employees' remedies have consistently been found unconscionable.
- Are the individual terms fair to the employee?
This question examines the particular terms of the agreement for bias toward the employer. Some of the key aspects of the agreement that courts will examine are as follows:
a. Neutral Arbitrator. Do the terms provide for a neutral arbitrator? A neutral arbitrator is someone who is not affiliated with the employer, and who is not chosen entirely by the employer. One option is that the parties could reach mutual agreement as to the selection of an arbitrator. For instance, they could jointly select an arbitrator from a panel provided by the American Arbitration Association. Another solution is to instill in an independent arbitration agency the ability to choose the arbitrator itself. It is important that the arbitrator be impartial, well-versed on the issue at stake and properly trained so that he or she can reach a resolution.
b. Discovery. Does the agreement provide for more than minimal discovery? While the discovery available in arbitration is often less than that in litigation, a court will likely find undue restrictions on access to discovery of relevant information unenforceable. Most often courts find preferable those forms of discovery that include document production, information requests, depositions and subpoenas.
c. Costs. Does the agreement require the employee to pay unreasonable costs, a disproportionate share of the costs or a certain fee to even access the arbitration forum? These sorts of provisions are likely to be struck down. Courts recognize that employers have greater bargaining power and more resources than their employees. Clauses that tend to make it harder for an employee to bring claims through arbitration than litigation are disfavored, as they can undermine an employer's rights under the federal statutes involved.
d. Mutuality. Are both parties required to arbitrate their claims, or only the employee? If only the employee is required to submit his or her claims to arbitration, courts will generally find a lack of mutuality.
e. Written Award and Judicial Review. The arbitration agreement should provide for a written arbitration award and some measure of judicial review. In addressing the issue of judicial review, the United States Supreme Court has stated that "'[a]lthough judicial scrutiny of arbitration awards necessarily is limited, such review is sufficient to ensure that arbitrators comply with the requirements of the statute at issue." Shearson/Am. Express Inc. v. McMahon, 482 U.S. 220, 232 (1987).
Keisha-Ann G. Gray is a partner in the labor and employment law department of Proskauer in New York and co-chair of the department's employment litigation and arbitration practice group. Proskauer Associate Elizabeth Spector assisted with this article.