Consumers can't be forced to use nonexistent arbitration proceeding

Jackson v. Payday Financial, LLC, No. 12-2617 (7th Cir. Aug. 22, 2014)

The Seventh Circuit reversed the district court’s holding that it could not hear consumer claims against payday lenders doing business from a tribal location.

Martin Webb was an enrolled member of the Cheyenne River Sioux Tribe and owned/did business with the other defendant entities. Defendants made short-term loans using the internet, allegedly in violation of Illinois civil and criminal statutes. The district court held that the loan agreements required that all disputes be resolved through arbitration conducted by the Cheyenne River Sioux Tribe on the Cheyenne River Sioux Tribe Reservation, located within the geographic boundaries of South Dakota.

After further proceedings, the district court concluded that, although written tribal law was available to the public and thus to the consumers if they investigated, the arbitral mechanism detailed in the agreements didn’t exist. Thus, the court of appeals held, plaintiffs’ action shouldn’t have been dismissed because the arbitral mechanism specified in the agreement was illusory. The court of appeals also rejected defendants’ alternative argument that the loan documents require that any litigation be conducted by a tribal court on the Cheyenne River Sioux Tribe Reservation. Tribal courts “have a unique, limited jurisdiction that does not extend generally to the regulation of nontribal members whose actions do not implicate the sovereignty of the tribe or the regulation of tribal lands.” Because there was no colorable claim of tribal jurisdiction, exhaustion in tribal courts wasn’t required.

The defendants charged approximately 139% in interest each year; the $2,525 loans received by plaintiffs cost approximately $8,392. The loan agreements recite that they are “governed by the Indian Commerce Clause of the Constitution of the United States of America and the laws of the Cheyenne River Sioux Tribe” and are not subject “to the laws of any state.” Unless the plaintiff opts out within sixty days, any disputes arising from the agreement “will be resolved by Arbitration, which shall be conducted by the Cheyenne River Sioux Tribal Nation by an authorized representative in accordance with its consumer dispute rules and the terms of this Agreement.” Arbitration would be conducted by either “(i) a Tribal Elder, or (ii) a panel of three (3) members of the Tribal Council.” The consumer doesn’t have to pay fees or travel to the reservation but may participate by phone or video.

To the court of appeals, the case turned on whether the Tribe had an authorized arbitration mechanism available to the parties and whether the arbitrator and method of arbitration required under the contract was actually available. As plaintiffs argued, “[t]ribal leadership … have virtually no experience in handling claims made against defendants through private arbitration.” The district court found that “[t]he intrusion of the Cheyenne River Sioux Tribal Nation into the contractual arbitration provision appear[ed] to be merely an attempt to escape otherwise applicable limits on interest charges. As such, the promise of a meaningful and fairly conducted arbitration [wa]s a sham and an illusion.” The district court referenced a similar case, Inetianbor v. CashCall, Inc., 962 F. Supp. 2d 1303 (S.D. Fla. 2013), where the arbitrator selected was a tribal elder who wasn’t a lawyer, had no training in arbitration, was a co-member with Webb, and was the father of an employee of one of Webb’s companies. Arbitrators should be free of bias and conflict of interest. As the district court concluded, “No arbitration award could ever stand in the instant case if an arbitrator was similarly selected, nor could it satisfy the concept of a ‘method of arbitration’ available to both parties.” This kind of selection wasn’t a “method” in any reasonable sense of the word.

The arbitration clause was a specialized forum selection clause whose validity had to be analyzed under some sovereign's law. As a choice of law matter, the court of appeals looked to the choice of law clause in the loan agreements, which referred to the laws of the Tribe. Though there was no tribal precedent on forum selection clauses, tribal courts borrow from tribal law where necessary. So to federal law it was.

(In a footnote, the court noted a “more-than-colorable” argument that the choice of law clause shouldn’t be enforced and Illinois law ought to govern. According to the Illinois AG (amicus), the loan agreements violated Illinois public policy, which included a policy against “provisions requiring plaintiffs to adjudicate claims in a distant, inconvenient forum where, as in this case, the clause is embedded in contracts ‘involving unsophisticated consumers in small transactions in the marketplace without any real opportunity to consider [whether to accept the clause].’” Further, the plaintiffs noted that the contracts violated Illinois public policy against usury because they exceed the allowable interest rate under state law. Small consumer loans were exempted from this requirement if they complied with Illinois’s Consumer Installment Loan Act. But defendants weren’t entitled to this exemption because they weren’t licensed in the state and didn’t contend that they otherwise complied with the other consumer protections in the law, such as the protection against transfer of debt to an unlicensed owner. However, the court of appeals found it unnecessary to decide the issue, since the result was the same under anyone’s law.)

Under federal law, “[t]he presumptive validity of a forum selection clause can be overcome if the resisting party can show it is ‘unreasonable under the circumstances.’” This occurs if (1) the forum selection clause was the result of fraud, undue influence or overweening bargaining power; (2) if the selected forum is so “gravely difficult and inconvenient that [the complaining party] will for all practical purposes be deprived of its day in court[]”; or (3) if enforcement of the clauses would contravene a strong public policy of the forum in which the suit is brought, declared by statute or judicial decision.

Under this standard, enforcing the forum selection clause would be unreasonable. While the agreement provides for arbitration by “either (i) a Tribal Elder, or (ii) a panel of three (3) members of the Tribal Council,” the record clearly established that such a forum didn’t exist. The Tribe “does not authorize Arbitration,” it “does not involve itself in the hiring of … arbitrator[s],” and it does not have consumer dispute rules. “[A]n illusory forum is unreasonable.”

If the choice of law provision in the contract was invalid, Illinois law would then govern the validity of the choice of forum provision. Illinois also used the concept of reasonableness; the prima facie validity of a forum selection clause was defeated by the unreasonableness of this one. “[T]he clause was not the product of equal bargaining: It imposes on unsophisticated consumers a nonexistent forum for resolution of disputes in a location that is remote and inconvenient.” The usual criteria for evaluating a forum selection clause didn’t work well because they presupposed that the designated forum actually existed and was available to resolve the underlying dispute.

The related concept of unconscionability was helpful here: the choice of forum provision was both procedurally and substantively unconscionable, applying general law that was not preempted by the FAA. It was procedurally unconscionable because the Tribe lacked rules for conducting arbitrations or even for selecting arbitrators. Plus, the court of appeals agreed with amicus FTC that “[t]he inconsistent language in the loan contracts, specifying both exclusive Tribal Court jurisdiction and exclusive tribal arbitration without reconciling those provisions, also ma[de] it difficult for borrowers to understand exactly what form of dispute resolution they [we]re agreeing to.” Plus, defendants’ claims concerning the scope of tribal jurisdiction, as well as their invocation of an irrelevant constitutional provision, “may [have] induce[d] [the Plaintiffs] to believe, mistakenly, that they ha[d] no choice but to accede to resolution of their disputes on the Reservation.” Substantively, the dispute resolution mechanism set out in the loan agreements didn’t exist. “[T]here simply was no prospect ‘of a meaningful and fairly conducted arbitration’; instead, this aspect of the loan agreements ‘[wa]s a sham and an illusion.’”

The FAA didn’t preclude this conclusion. Defendants argued that the FAA preempted arbitrator bias arguments because arbitrator bias is a defense that applies only to arbitration. The court of appeals disagreed. “The arbitration clause here is void not simply because of a strong possibility of arbitrator bias, but because it provides that a decision is to be made under a process that is a sham from stem to stern.” The contract language indicated a process “conducted under the watchful eye of a legitimate governing tribal body,” but that was in fact impossible. “It hardly frustrates FAA provisions to void an arbitration clause on the ground that it contemplates a proceeding for which the entity responsible for conducting the proceeding has no rules, guidelines, or guarantees of fairness.” Likewise, there was no preemption of Illinois rules on unconscionability on the ground that they had a disproportionate impact on arbitration agreements; the court of appeals was just applying general forum selection rules.

The FAA also provides that a court can designate arbitrators if there’s a failure to name them, but that provision assumes that the only infirmity was the unavailability of a particular arbitrator or class of arbitrators. “Here, however, the likelihood of a biased arbitrator is but the tip of the iceberg.” The court couldn’t save the process by substituting an arbitrator in the absence of supervision by the Tribe or rules for arbitration. Substituting an arbitrator when the parties have agreed to arbitrate makes sense. But “[t]he contract at issue here contains a very atypical and carefully crafted arbitration clause designed to lull the loan consumer into believing that, although any dispute would be subject to an arbitration proceeding in a distant forum, that proceeding nevertheless would be under the aegis of a public body and conducted under procedural rules approved by that body.”  (Atypical, really?)  Parties can agree to arbitrate even if the initially designated arbitrator or the rules might change.  The “auspices of a public entity of tribal governance” was a basic part of the bargain, for which there was no substitute.  As a result of this unconscionability, the forum selection clause was unreasonable.

The court of appeals then rejected the defendants’ alternative argument that the forum selection clause required any litigation to be conducted in the courts of the Cheyenne River Sioux Tribe. I’m not going to go into detail on that part; here’s some interesting commentary from an Indian law perspective, focusing on the dangers the opinion poses for tribal sovereignty more generally.

economic loss doctrine doesn't bar New Jersey consumer fraud claim

Francis E. Parker Memorial Home, Inc. v. Georgia-Pacific LLC, --- F. Supp. 2d ----, 2013 WL 2177974 (D.N.J.)

Parker sued GP on behalf of a putative class alleging violations of the New Jersey Products Liability Act (PLA); breach of express warranty; and the New Jersey Consumer Fraud Act (CFA).  Parker alleged that GP misrepresented the quality of its exterior trim, PrimeTrim, which prematurely deteriorates and promotes the growth of mold, insects, etc. in the structures on which it’s installed.  GP allegedly knew this as early as 1998 and acknowledged it internally, but didn’t stop advertising the product for a wide range of uses without explaining that specially exacting installation was required.  GP allegedly rejected known design improvements due to their cost, while failing to test new versions of PrimeTrim and failing to test in actual installations despite the importance of such information.  GP’s allegedly false claims included that PrimeTrim: “offers up to four times more decay resistance than lumber[;]”“outperformed lumber through two years of direct exposure to sun, rain, and snow[;]” has “more than fifteen years with a track record of proven performance[;]” “[f]eatures superior moisture and decay resistance[;]” and was “proven in over four years of laboratory and field testing.” GP denied Parker’s warranty claim under its express warranty on the ground that the trim was misinstalled; Parker alleged that GP failed to provide adequate installation instructions, particularly omitting instructions on how to seal and prime site-cut ends despite knowing and intending that PrimeTrim would be cut to size on site.

Parker brought its claims on behalf of a damages class, with an economic loss damages subclass for property in which the PrimeTrim had been damaged but not other property.  The allegations relating to the subclass included that PrimeTrim’s failure typically began with its own deterioration, only later exposing other elements of the building to damage.

GP moved to dismiss the CFA claim as preempted/subsumed by the PLA.  The court denied the motion.  Economic losses due to harm to the product itself are recoverable under the CFA, whereas they are explicitly exempted from the PLA’s definition of harm to property: “physical damage to property, other than to the product itself.” A product liability action is “any claim or action brought by a claimant for harm caused by a product, irrespective of the theory underlying the claim, except actions for harm caused by breach of an express warranty.”

The Third Circuit has already examined the interaction between the PLA and the CLA in a case seeking failure to warn and design defect damages, plus a CFA claim for unconscionable consumer practices. Estate of Edward W. Knoster v. Ford Motor Co., 200 Fed. Appx. 106 (3d Cir. 2006). The court of appeals found no overlap.  The plaintiffs sought only economic damages resulting from the harm to the product itself, and the PLA excludes those damages from its definition of “harm,” so the CFA claim wasn’t a “product liability action”: “The PLA cannot subsume that which it explicitly excludes from its coverage.”

The New Jersey Supreme Court has said that, in order to overcome the presumption that the CFA applies to a covered activity, a court must be satisfied that there’s a direct and unavoidable conflict between application of the CFA and some other regulatory scheme, showing a legislative intent not to subject parties to multiple regulations that will work at cross purposes.  Lyle Real v. Radir Wheels, Inc., 198 N.J. 511 (2009).  A mere possibility of incompatibility is insufficient, given the importance of the CFA in combating fraud.

The court found that the CFA and PLA claims weren’t incompatible, at least not at this stage.  (Given the conclusion about “harm” here, how could they ever be as long as Parker restricted its economic damages claims to the value of the trim product itself?)  The degree to which consumers experienced damage to the PrimeTrim but not to adjacent materials was as yet unclear.  GP argued that the damage to the PrimeTrim would eventually cause rot to the adjacent structures, and “were damage to a class member's PrimeTrim to spread to adjacent property, the claims may arguably be in direct conflict.”  But there was no indication “that the Legislature intended to foreclose today's fraudbased remedies by providing a remedy for a tort-based harm which may or may not materialize in the future.” 

 

People who bought based on misrepresentations, but who hadn’t yet experienced harm to adjacent materials, “would have to sit on their rights and wait for the harm to spread to adjacent structures,” and that might bar relief altogether based on complications of notice inquiry/tolling the statute of limitations.  (I would think that if they didn’t have a complete cause of action today, the limitations period couldn’t run, but New Jersey is weird about limitations periods.)  Other cases have reasoned similarly, e.g., Rehberger v. Honeywell, No. 11–0085, 2011 U.S. Dist. LEXIS 19616 (M.D. Tenn. Feb. 2011) (“[T]he relevant harm was the plaintiff's decision to purchase the [product], which was caused by the defendant's alleged misrepresentations and omissions, not by the product. Indeed, this harm occurred before the plaintiff ever operated the [product]. Because the plaintiff has not asserted any ‘product liability’ claims, his claims are not subsumed by the PLA.”).

GP’s attack on Parker’s CFA standing was also premature.  Parker alleged that it bought the product at issue and suffered an injury in fact based on that purchase; its warranty claim was denied.  “Whether or not Parker will need to amend the pleading … to identify an adequate subclass representative is a question for another day.”

The court continued to find that Parker properly pled unlawful affirmative acts, knowing misrepresentations and unconscionable commercial practices under the CFA, but not regulatory violations.  GP argued that no misrepresentations were made to Parker, only to builders, subcontractors, and agents.  But Parker alleged misrepresentations within the 30-year express warranty, which was given to Parker; the allegations of misrepresentations to others were part of explaining why the product was defective and GP knew it.  Specificity isn’t required for specificity’s sake, but to put a defendant on notice of the precise misconduct with which it is charged, and the allegations here did so. 

Parker argued that the express warranty provided the crux of its CFA claim; the court didn’t reach whether lack of privity with regard to builders etc. would render the CFA inapplicable, but noted that the CFA explicitly covered both direct and indirect acts. Perth Amboy Iron Works, Inc. v. Am. Home Assur. Co., 226 N.J. Super. 200 (App. Div.1988), aff'd, 118 N.J. 249 (1990) (affirming the CFA's coverage of “acts of remote suppliers, including suppliers of component parts, whose products are passed on to a buyer and whose representations are made to or intended to be conveyed to the buyer”).

Parker also sufficiently alleged knowing concealment of a material fact with the intention that the consumer rely on the concealment. Actual reliance wasn’t required, only a causal nexus between an unlawful act and an ascertainable loss.  New Jersey implies a duty to disclose where that’s necessary to make a previous statement true. The complaint clearly alleged that GP knew of the defect and that “GP's senior sales personnel, over GP's own technical personnel's objections, actively sought to conceal these facts, continued to advertise to the contrary, and intentionally opted not to adopt available product improvements known to be effective, solely due to cost.”

GP then argued that its conduct didn’t qualify as an unconscionable commercial practice, one forbidden type of act in addition to fraud/deception/misrepresentation.  Unconscionability is an amorphous concept.  Breach of warranty isn’t per se unconscionable without substantial aggravating circumstances. Relevant factors include whether a supplier took advantage of a consumer’s inability to protect her interests; whether the price was grossly excessive compared to market prices; and whether the supplier made a misleading statement of opinion on which the consumer was likely to rely to her detriment.  This wasn’t clear before discovery, so the court denied the motion to dismiss.

However, the court found that Parker hadn’t properly pled a violation of the CFA due to regulatory violations; this kind of liability was strict. Rather than alleging violations of regulations promulgated pursuant to the CFA, Parker alleged that violations of other laws—here, the construction code—were actionable.

New Jersey courts have found CFA claims actionable when premised on violations of laws and rules independent of the CFA where the conduct evidenced unconscionable commercial practice. But a violation of the construction code in and of itself wasn’t actionable under the CFA.  And Parker only vaguely and generally asserted violations of parts of the code; this was inadequate.

Unusual 230 defense against virtual ownership claims

Evans v. Linden Research, Inc., 2012 WL 5877579 (N.D. Cal.)

The court partially granted a motion for class certification in this case about “property” in Second Life.  People buy and sell virtual items, including virtual land, in-game, using money (lindens) that can be bought for and exchanged into dollars.  Virtual land incurs monthly tier fees, similar to property taxes, paying for maintenance of the servers.  (Linden also takes a commission on participants’ sales of virtual items in-game.)  Linden does not run out of virtual land; “once Linden sells land to a participant, it continues to exist in Second Life and is not deleted or removed from the game.”  Plaintiffs were people who’d participated in Second Life, bought virtual items/land, had their accounts terminated or suspended by Linden, and weren’t compensated for the value of what they had. 

The question was what “ownership” meant.  Plaintiffs argued that Linden and defendant Rosedale (founder, former CEO, current board member) represented that Second Life participants would have an actual ownership interest in virtual land and other items.  Defendants argued that they meant that participants would have copyright in items they created.  Plaintiffs alleged that, to attract participants, Linden “made a calculated business decision to depart from the industry standard of denying that participants had any rights to virtual items, land and/or goods” and “globally represented to participants ... that their ownership rights and intellectual property rights to the virtual items, land and goods held in the participants' accounts would be preserved and recognized.”  Thus, for several years, the following statement appeared prominently on the Second Life homepage: “SECOND LIFE IS AN ONLINE, 3D VIRTUAL WORLD, IMAGINED, CREATED AND OWNED BY ITS RESIDENTS.”

However, sometime after 2007, following a dispute with an individual user regarding Linden's alleged confiscation of virtual property, Linden changed that statement to “SECOND LIFE IS AN ONLINE, 3D VIRTUAL WORLD, IMAGINED AND CREATED BY ITS RESIDENTS” and began to strip ownership rights from users.  In 2010, Linden modified its terms of service, for the first time stating that “[v]irtual land is in-world space that we license.”  Participants were not allowed to opt out of the new terms; if they didn’t accept, they couldn’t access their virtual land or items.

The court contrasted “actual ownership rights” in “a piece of the Second Life world” (what plaintiffs claimed to have) with “copyrights” (what defendants said they had).  Plaintiffs didn’t claim to own the physical servers, but did claim to own the “things” and “land” created by the code that ran on the servers, in the same way that one can own a domain name.  Thus, beyond IP rights, users owned their accounts and could treat them like property, including selling them and licensing them, whether in the game or through independent third parties such as eBay.  Defendants argued that the only real thing or property capable of being owned was the copyright, and users had a license to use Second Life computing resources.  If an account was closed, users still owned copyrights in whatever they created, and that provided the value proposition distinguishing Second Life from other games.  However, the bits making up a given copy on Linden’s servers were not themselves a user’s property.

Plaintiffs argued for certification of a main class of purchasers and sellers of virtual land/items and a subclass of people whose assets had been taken, frozen, or otherwise rendered unusable by Linden’s affirmative action (not just by having to agree to the amended ToS).  So the main class claims were predicated on the idea that defendants lured people into participating in Second Life by making ownership promises, and then later reneged, while the subclass claimed that defendants unlawfully converted members’ valuable property by closing their accounts without reimbursement.  For the main class, plaintiffs alleged violations of the CLRA, FAL, UCL, and California Auction Law, along with fraud in the inducement.  For the subclass, plaintiffs alleged conversion, intentional interference with contract/prospective economic advantage, and unjust enrichment.

Defendants argued that plaintiffs failed to show injury in fact sufficient to create constitutional standing for the main class.  For these claims, that meant they needed to show lost money or property due to the alleged misrepresentations that participants would own their virtual items/land.  But they didn’t describe any economic harm they suffered as the result of these misrepresentations.  At the end, they argued that they wouldn’t have bought the items at all or would have paid less for them if they’d known the truth.  Although the difference between the price a consumer would have paid had she known the truth and the price she actually did pay may constitute “injury in fact,” here plaintiffs failed to offer “a shred of evidence” that this was true in their case.  The only record testimony was from Donald Spencer, who testified:

[W]hen I started the game that—everything [Defendants] promoted was it was owned by the residents. If you created it it was yours. You owned it. It wasn't there for [anybody] else to take away from you ... [t]hat was one of the big draws for me and my friends to go there ... we could go in there and create as a group, you know, or even individually belonged to each one of us.

This wasn’t enough to show that he wouldn’t have bought or spent as much money for virtual land/items but for the misrepresentation.  Other possible evidence that plaintiffs didn’t present might have been about Second Life’s market share relative to its competitors before and after the “ownership” marketing campaign.  In addition, plaintiffs’ “inability to articulate a coherent remedial theory highlighted the absence of a concrete and non-conjectural injury.”  They asked for return of the entire price paid for land and tier fees paid to Linden, along with return of the transaction fees for item transfers.  But that’s not the proper measure if the harm was the extra price they paid because of the promise.

The court also found that plaintiffs failed to do more than recite the elements of a violation of the California Auction Law, and they didn’t show injury sufficient to confer standing under that law, which requires auctioneers to maintain various safeguards.

The court additionally found the main class definition overbroad and ascertainable—anyone who ever purchased or sold virtual land/items in Second Life.  Not everyone might have been subject to and injured by the alleged ownership misrepresentations.

The court then turned to the subclass, as to which defendants didn’t challenge standing.  On numerosity, the court looked at a random sample of 500 terminated accounts, in which 2 held virtual land at the time of termination (adding cases in which the terminated accounts had virtual items, lindens, or dollars would presumably increase the numbers).  From this sample, plaintiffs estimated that, of the 57,000 accounts Linden terminated, at least 228 held confiscated virtual land.  Defendants argued that plaintiffs only identified one person who bought virtual land under the pre-March 2010 ToS and then had it “confiscated” after, and that she was properly terminated for violating Second Life’s anti-fraud provisions.  But the problem wasn’t mandatory acceptance of the ToS, but rather account closures or suspensions, and the class could also include users whose items other than land (including lindens and dollars) were taken without compensation.  No matter what the reasons for termination were, plaintiffs alleged, Linden wrongfully confiscated the land, items, and currency in the accounts.  The sampling evidence therefore satisfied the numerosity requirement, “based on a common sense extrapolation of the numbers and considering the geographical dispersion of class members.”

As for commonality, the court identified several common questions: (1) whether the new TOS was unconscionable or otherwise unenforceable against Second Life users whose accounts Linden suspended or terminated; (2) whether subclass members have an “ownership” right in virtual land and virtual items; (3) and whether Linden has an obligation to reimburse them for virtual land, virtual items, or currency (either lindens or dollars) in a Linden-closed account.  The court rejected defendants’ alternate characterization that the primary issue was whether Linden wrongfully terminated any individual account.  The claims didn’t depend on whether an account was terminated for good cause.

Defendants made the intriguing argument that §230 provided them, essentially, a sword as well as a shield: that is, that if they confiscated valuable items in a user’s account because they terminated that user for violating Second Life conduct rules, then they were acting as an ISP to filter offensive conduct and were absolutely immune to non-IP claims.  Tentatively, I’d say that this doesn’t work, since the grant of ownership (if that’s what it was, on which I express no opinion) would operate as a separate source of rights—the claim isn’t based on the account closure (for which defendants should be immune under §230 for claims of consequential damages, harm to reputation, etc.) but rather on the stuff left in the account that Linden should have “returned.”  This seems to me not much different from an ISP contract for $10/month payable as $120 at the beginning of the contract; if the contract provides for early termination for bad behavior, but does not provide that the ISP gets to keep the whole $120 in case of such early termination, it doesn’t seem to me that §230 would bar a claim by the user to get the balance of her payment back.  It is the background law and the parties’ agreement, not the termination, that provides the basis of the claim/source of the wrong.  But perhaps Eric Goldman will disagree.

Anyway, the court didn’t get into the §230 weeds, but simply rejected defendants’ argument that the subclass claims would inherently devolve into individual adjudications. Whether §230 applied would itself likely present common questions of law, and such determinations could be made as to categories of reasons for account closure.  Thus, commonality was still present.

The putative class representatives who had their accounts suspended with valuables still in them also could satisfy the typicality requirement, though the putative class representatives who refused to log in and accept the new ToS couldn’t do so; the latter hadn’t lost valuables through Linden’s acts of account closure/termination/freezing.  Relatedly, defendants argued that named plaintiff Evans was inadequate as a representative because he had a demonstrated history of “abusive and obscene communications with other Second Life users and Linden personnel…. [H]is lewd, profane, violent, and threatening language toward other users has drawn over 100 abuse reports.”  Given this record of abusive and hostile conduct toward potential class members, the court was persuaded that there was a conflict of interest.  However, the adequacy of named plaintiff Hemingway was established, even though she loaned her computer to a friend, who then committed credit card fraud on Second Life.

The court then turned to the remaining certification requirements.  The court declined to allow certification under Rule 23(b)(1)(A) or (b)(2), despite plaintiffs’ claims for injunctive relief against enforcement of the ToS, since their primary goal was damages.  Nor was certification appropriate under Rule 23(b)(1)(B), since adjudication of their claims wouldn’t as a practical matter be dispositive of the interests of nonmembers—victory wouldn’t exhaust Linden’s resources.

But Rule 23(b)(3) was satisfied.  The court again rejected defendants’ claims that individualized inquiries into the reasons for account closure would be required.  “[A] predominant legal and factual inquiry is whether the TOS, which allows Linden to confiscate class members' virtual land and property, is unconscionable or otherwise unenforceable against Second Life users whose accounts Linden suspended or terminated,” and this was subject to classwide proof.  Also, classwide liability determinations should be possible using the dollar value of lindens and dollars, along with the price paid for virtual items and land; this would involve only ministerial review of transaction records.  The court didn’t accept this damage calculation method as a final ruling; it retained the possibility of modifying or decertifying the class as appropriate.

Defendants didn’t contest superiority, but they did contest ascertainability.  Given the clarification of the definition of the subclass, it should be easily ascertainable using Linden’s records.  If plaintiffs are correct that, even if subclass members’ accounts were validly terminated, Linden still owed them the value therein, then it should be possible to determine what was in those accounts.

Car title lender's arbitration agreement unenforceable as unconscionable

Brewer v. Missouri Title Loans, --- S.W.3d ----, 2012 WL 716878 (Mo.)

The state supreme court found that a class arbitration waiver in its contract was unconscionable and held that the remedy was to strike the entire arbitration agreement.  The Supreme Court vacated that opinion and remanded in light of Concepcion.  On remand, the court found that the presence and enforcement of the class arbitration waiver didn’t make the arbitration clause unconscionable, but, applying traditional Missouri contract law and looking at the agreement as a whole, the court found that Brewer demonstrated unconscionability in the formation of the agreement, appropriately remedied by revoking the arbitration clause.

Brewer borrowed $2215, secured by the title to her car, at an APR of 300%.  The contract, whose terms no consumer had ever successfully renegotiated, provided for resolution of any claim against the title company through binding individual arbitration.  The title company, however, reserved the right to go to court to repossess the car, or to use self-help.  Unlike the agreement in Concepcion, the agreement barred fee-shifting and didn’t provide a fee multiplier or guaranteed minimum recovery if the consumer were awarded more than the title company’s last offer.  “The cumulative real-world effect of the arbitration provisions in this case is that a consumer's minimum and maximum recovery from the title company are identical—$0.00—for no consumer ever has filed an individual claim for arbitration against the title company.”

Brewer made two payments of more than $1000, which reduced her loan principal by 6 cents.  She filed suit alleging violations of numerous statutes, including the state merchandising practices act.  The case then made its way through the courts solely on the class arbitration issue. 

On remand, the title company argued that the FAA wholly preempted Missouri’s common law of unconscionability, and that the availability of statutory attorney’s fees prevented a finding of unconscionability. The state supreme court summarized Concepcion as standing for the proposition that the FAA “generally does not permit a state to bar class action waivers by finding an arbitration agreement unconscionable on the basis of a class action waiver alone.”  Justice Scalia’s opinion for four Justices doesn’t say that the FAA preempts traditional state law defenses to contract formation, and Justice Thomas said that those defenses would still apply.  However, the rule of Concepcion is that they can’t be used in a way that would “hold otherwise valid arbitration agreements unenforceable for the sole reason that they bar class relief.”

Concepcion did not hold that all state law unconscionability defenses were preempted, only California’s essentially automatic Discover Bank rule, which conditioned the enforceability of consumer arbitration agreements on the availability of classwide arbitration, no matter how favorable the terms of the individual arbitration provisions were for consumers.  The majority specifically acknowledged that agreements to arbitrate could be invalidated by the saving clause for generally applicable contract defenses such as unconscionability, though not by defenses that apply only to arbitration.  Concepcion’s discussion of the fairness of AT&T’s arbitration provisions would have been superfluous if all state law unconscionability defenses had been preempted; its result is instead a case-by-case approach.  Justice Thomas’s concurrence said that the saving clause only saved defenses that result in “revocation” of a contract, instead of “invalidation” or “nonenforcement.”  Defenses that go to contract formation are fine, but public policy against arbitration isn’t a valid ground for declining to enforce an arbitration agreement.  But both the majority and the concurrence endorse a case by case analysis, asking whether state law defenses apply to the formation of the particular contract at issue.  After Concepcion, analysis no longer focuses on procedural and substantive unconscionability, but only goes to facts relating to unconscionability affecting the formation of a contract.

Here, the evidence supported the determination that the arbitration clause was unconscionable.  The entire agreement was non-negotiable and difficult for the average consumer to understand, and the title company was in a superior bargaining position.  The terms were extremely one-sided.  While AT&T shouldered the costs of arbitration and would double the attorneys’ fees if the customer recovered more than AT&T offered before arbitration, here the parties were to bear their own costs.  AT&T waived its right to seek reimbursement for attorneys’ fees accrued in defending a claim, but the title company here didn’t.  “The fact that no consumer ever has arbitrated a claim against the title company under these terms makes it clear that the agreement stands as a substantial obstacle not just to arbitration but also to the resolution of any consumer disputes against the title company.”

In addition, unlike the Concepcion plaintiffs, “Brewer presented expert testimony from three consumer lawyers who testified it was unlikely that a consumer could retain counsel to pursue individual claims.”  A claim like hers “would require significant expertise and discovery, and it would not be financially viable for an attorney because of the complicated nature of the case and the small damages at issue.”  The title company presented no contrary evidence from attorneys willing to take such cases other than on a rare pro bono/voluntary basis.  Concepcion makes clear that the unavailability of counsel isn’t alone sufficient to invalidate an individual arbitration requirement, but it’s still relevant.  California’s Discover Bank rule was flawed because it required class arbitration even if that disadvantaged consumers or was unnecessary to a consumer remedy, contrary to the purpose of the FAA.  “Because the purpose of the act is to ensure efficient dispute resolution, the analysis in Concepcion assumes the availability of a practical, viable means of individualized dispute resolution through arbitration.”  Here, the totality of the evidence demonstrated that no such means was available.

The title company argued that the availability of attorneys’ fees and punitive damages under the state merchandising act would make lawyers willing to handle claims like Brewer’s.  There are reported cases indicating that some lawyers are willing to handle cases brought under the federal truth in lending and fair debt collection practices acts.  But this was a totally theoretical position, and the specific and uncontradicted evidence was that lawyers were unlikely to take claims like Brewer’s on an individual basis.

Finally, the agreement didn’t provide for bilateral arbitration: the title company preserved its own right to go to court or use self-help.  “In the context of a title loan transaction, this is a particularly onerous provision because among the lender's chief remedies in the event of default is either judicial or self-help repossession.   The title company reserves its right to obtain its primary remedies through the court system while requiring Brewer to obtain her only meaningful remedy—monetary compensation for the alleged violation of consumer protection laws—through individual arbitration.”  This was in the context of an extremely high interest rate that also protected the company’s interests.  Though Brewer didn’t allege that the interest rate was itself illegal, it plainly showed that the agreement was “drafted to limit substantially the remedial options of often financially distressed consumers while allowing the title company substantial latitude in protecting its financial interests.”  Disparity in bargaining power plus disparity in remedial options constituted strong evidence of unconscionability.  “The title company requires Brewer to arbitrate all of her claims in the interests of efficient, streamlined dispute resolution.   However, when the title company's interests are at stake, the title company is free to discard the efficiencies of arbitration in favor of litigating a claim against Brewer.”

The court observed that average consumers are unlikely to understand the implications of such provisions, or reasonably expect the results.  The process here was very different from that in Concepcion, which provided an informal dispute resolution procedure and then easily obtainable arbitration, for which AT&T would pay all costs for any nonfrivolous claim.  There were relatively consumer-friendly procedures, allowing consumers almost a guarantee that they’d be made whole.  Nothing like that was offered here.  In terms of the purpose of the FAA of providing a prompt and informal dispute resolution method, the arbitration clause here itself was an obstacle to accomplishing that objective.  This is a contract no sensible person would make. 

Thus, the judgment finding the class arbitration waiver unconscionable was affirmed because the entire arbitration agreement is unconscionable and unenforceable.   It was reversed to the extent that it severed the class arbitration waiver and required an arbitrator to determine the propriety of class arbitration.

There were two dissents (one of which attracted the vote of a third justice).  The first dissent argued that, after Concepcion, only a contract that was as a whole unconscionable could be invalidated, not an unconscionable arbitration provision, and that a remand for further findings on this point was required.  The second dissent argued that Concepcion prohibited states from using contract defenses to inhibit the enforcement of agreements to arbitrate.  The majority wrongly struck down an arbitration clause “in an attempt to balance the scales between poor consumers and businesses,” a goal forbidden by the FAA.  The dissent argued that the majority used Justice Thomas’s concurrence “to combine the issues of substantive and procedural unconscionability and do away with the requirement that the contract be procedurally unconscionable.”  But, the dissent continued, the majority failed to show that Brewer’s defense went to the formation of the agreement; Missouri requires both procedural and substantive unconscionability.  There was no procedural unconscionability because Brewer didn’t prove the contract was non-negotiable: she didn’t testify that she personally tried to negotiate and failed, and she didn’t prove that she couldn’t go to some other lender and get a different contract.  Just because no consumer had ever negotiated a different contract didn’t prove it couldn’t be done.  And there was no evidence of coercive tactics.  Nor did Brewer prove she didn’t understand the contract.  Failure to read the whole thing is no defense; a reasonable consumer may expect an arbitration agreement. If she’d read it, she would have seen the class arbitration waiver in bold, capital letters, and notice of the arbitration provision in bold, capital letters immediately above the signature line.  (That consumers just don’t read contracts, especially not when there are explicit claims made by other material/salespeople, is one reason consumer protection laws generally don’t allow disclaimers/waivers in contracts to override false advertising claims; even given the FAA, I find it hard to justify ignoring this truism in assessing what was really happening between the parties.)

The dissent also argued that Brewer didn’t prove that the contract resulted from disparity in bargaining power.  She could have gone to competing companies offering the same service, and anyway an imbalance of power alone doesn’t support an unconscionability finding after Concepcion.  (When you say that A alone doesn’t support a finding of X, and B alone doesn’t support a finding of X, and C alone doesn’t, is that really an answer to the claim that A, B, and C together do support a finding of X?  Still, I understand why the dissent is saying this—“even if I’m wrong and A is present, if I’m right that B and C aren’t present then the title company still wins.”)

In addition, finding substantive unconscionability interferes with the parties’ right to contract for those terms.  It wasn’t fair to fault the title company for the need to use judicial process for repossessing cars, since arbitration can’t provide for a replevin right.  (It can’t?  Why not, in the same way that any arbitration must ultimately be backed by the possibility of judicial enforcement in case of defiance?)  “Allowing creditors to utilize the court process for repossession is intended to protect the consumer,” and consumer protection advocates criticize nonjudicial process.

The title company’s right to seek attorneys’ fees and high interest rate weren’t unconscionable; Brewer could have gone to at least 20 other companies to find better terms, and she did know she had alternatives.  Concepcion didn’t require consumer-favorable provisions or even equality of terms to avoid unconscionability. 

Courts can’t invalidate arbitration agreements even if, as a practical matter, that suppresses claims.  By resting its finding on the idea that consumers won’t pursue claims under the agreement as written, the majority created a contract defense that attacked only arbitration clauses and created a new “common law right” to an attorney.  This was inconsistent with the FAA, even if that result was bad for consumers.

Anyway, Missouri already had effective alternative remedies: the Missouri merchandising practices act allows a court to award a consumer attorneys' fees and punitive damages if appropriate.  (For this argument to work at all, the arbitration agreement has to allow the arbitrator to do the same things.  But the dissent doesn’t indicate that the agreement did so, though perhaps it did.)  Also, the fact that Brewer got counsel proved that she could get an attorney to handle her case.  (I believe this counts as equivocation about the meaning of “her case.”)

In the end, the dissent condemned the “newly created right to an attorney for consumer claims” and its additional “right to class arbitration proceedings,” resulting in a “right to void individual arbitration agreements altogether” as an open defiance of the FAA and Concepcion.  Brewer chose the title company from many other companies she could have approached, didn’t read the contract, and should be stuck with the terms.

Reality TV jurisprudence

Higgins v. Superior Court, --- Cal. Rptr. 3d ----, 2006 WL 1740931 (Cal. App. 2 Dist.)

Homeowners invited five orphaned siblings to live with them, then later expelled them after the home had been rebuilt to accommodate the siblings on Extreme Makeover: Home Edition. (This description of the episode "The Leomiti-Higgins family" describes the homeowners as "caring and generous," which must be an embarrassment for all concerned now.) The siblings sued the homeowners, the network, and the producers, alleging intentional and negligent misrepresentation, false advertising, and breach of contract. The network and producers tried to compel arbitration pursuant to a release agreement executed by the siblings (some of whom were minors) prior to the broadcast. The court found the arbitration clause unconscionable and thus unenforceable.

Though it would be easy to call this another in the line of California cases hostile to arbitration despite the FAA, these facts would probably support an unconscionability finding anywhere – the TV defendants presented the siblings, who’d recently lost their parents, with a dense agreement that hid the arbitration provisions in small print near the end under the heading “Miscellaneous.” The TV defendants then gave them only minutes to sign. Moreover, the reason they were interested in the siblings was their vulnerable situation, so the defendants had specific knowledge of factors likely to prevent real understanding or bargaining. The substantive provisions were extremely one-sided (in fact, the TV defendants didn’t bother to sign the agreement until after filing the motion to compel arbitration, showing how seriously they took it for themselves.)

43(b)log hook: the siblings alleged that the rebroadcast of the show, at a time when the siblings had already been kicked out of the new McMansion, was false advertising, or maybe put them in a false light; the opinion doesn't go into detail. Hard to believe the rebroadcast is commercial speech, even under Nike, but the court didn’t analyze the merits.