Tuesday, December 5, 2006
Arbitration Clause in Franchisee’s Contract With National Advertising Company Held Invalid
By TINA BAY, Staff Writer
An arbitration clause in an individual franchisee’s agreement with a large corporation was invalid because its provisional remedy and forum selection provisions favored the franchisor, the Ninth U.S. Circuit Court of Appeals ruled yesterday.
In a 7-4 en banc decision, the judges reversed a district court order dismissing a northern California woman’s lawsuit against a multi-million dollar company, which was based on the district judge’s finding that the arbitration clause in the parties’ franchise agreement was valid and enforceable.
The clause exhibited a lack of mutuality and was thus unconscionable, the court held, because it allowed the franchisor to pursue intellectual property claims in court while restricting all of the franchisee’s issues to arbitration, and designated Boston as the arbitral forum.
U.S. District Judge Martin J. Jenkins of the Northern District of California had found that because the franchisee, Connie A. Nagrampa, had signed the agreement with franchisor MailCoups, Inc., the contract’s arbitration clause was valid and her claims must be referred to the arbitral rather than judicial forum.
Under the August 1998 agreement, Nagrampa was required to establish and operate a direct mail coupon advertising franchise under the company’s “Super Coups” system, allegedly in exchange for receiving 41 percent annually in profits. At the time she signed the contract, Nagrampa was earning $100,000 annually as a sales manager for ValPak Direct Marketing Systems, where she had been working for four years.
MailCoups—whose parent company , Advo, had over $2 million in assets and over $1 billion in revenues at the time—provided the 30-page preprinted form contract, which contained an arbitration clause that reserved MailCoups’ right to protect its intellectual property in court and provided for arbitration proceedings to be held in Boston at the American Arbitration Association regional office closest to its headquarters.
In September 2000, Nagrampa unilaterally terminated the agreement after two years of operating her MailCoups franchise in Contra Costa County at a loss. She allegedly incurred over $180,000 in personal debt and had to pay more than $400,000 in fees to the franchisor, but did not receive the 41 percent in profits that the company had promised her.
Claiming Nagrampa owed it over $80,000 in fees, MailCoups initiated arbitration proceedings in December 2001, initially designating Los Angeles as the hearing location. After her attorney objected to the proceeding and refused to file a response to the arbitration, the AAA case manager notified the parties that the hearing would take place in Boston in accordance with the arbitration clause’s forum selection provision.
That location was later confirmed after MailCoups objected to the arbitrator’s suggestion that proceedings be relocated to Fresno as a more economical and convenient venue. After participating in a preliminary conference call and filing a discovery request and counterclaim close to the deadlines set by the arbitrator, Nagrampa withdrew from arbitration and sued the company in Contra Costa Superior Court.
Among her various claims was a cause of action challenging the validity and enforceability of the arbitration clause as violating the California Consumer Remedies Act. The clause was substantially one-sided, unconscionable, oppressive, outside her reasonable expectations and contained within an adhesion contract, the franchisee alleged.
Mail Coups removed the case to the U.S. District Court, where Jenkins applied California law and concluded MailCoups could bring a motion to compel arbitration in the District of Massachusetts.
A three-judge panel of the Ninth Circuit held that the issue of unconscionability should have been resolved by the arbitrator rather than the district judge. The en banc court, however, citing an intervening U.S. Supreme Court decision, said that because Nagrampa was attacking the validity of the arbitration clause, and not the agreement as a whole, the district court had jurisdiction.
Jenkins, however, reached the wrong decision, the court held in an opinion by Judge Kim McLane Wardlaw.
The judge said while Jenkins correctly found state law applicable, the conclusion he should have reached was that the arbitration clause was both procedurally and substantively unconscionable.
It was procedurally unconscionable because “Mail Coups had overwhelming bargaining power, drafted the contract, and presented it to Nagrampa on a take-it-or-leave-it basis,” she wrote.
Even though Nagrampa had signed and indicated she reviewed the contract, Wardlaw explained, “[t]he analysis of procedural unconscionability under California law focuses on the manner in which the contract or the disputed clause was presented and negotiated and the disparity in bargaining power, not on whether the party claiming procedural unconscionability should have known of the arbitral provision.”
Moreover, the judge noted, Nagrampa was a first-time franchise owner and apparently had no specialized education or training in the direct marketing industry even though she had been a sales manager for some years.
The clause was also substantively unconscionable because the forum selection and provisional remedy provisions exhibited a lack of mutuality.
“The parties’ bargaining positions were unequal, resulting in an oppressive contract of adhesion containing a forum selection clause that places venue in Boston, Massachusetts, only a few miles away from the MailCoups headquarters in Avon, but three thousand miles away from Nagrampa’s home,” Wardlaw said.
The arbitration clause was so permeated by substantive unconscionability that it cannot be cured by severing it from the contract, she concluded.
Chief Judge Mary M. Schroeder and Judges Stephen Reinhardt, Sidney R. Thomas, Susan P. Graber, Raymond C. Fisher and Ronald M. Gould joined in the opinion. Judge Richard R. Clifton concurred in the jurisdictional analysis, but argued in dissent that the arbitration clause was enforceable under California law.
Dissenting, Judge Diarmuid F. O’Scannlain contended that the Ninth Circuit lacked jurisdiction to hear Nagrampa’s appeal because she was attacking the contract as a whole and not just the arbitration clause in isolation. Accordingly, the judge said, the franchisee’s challenge should be heard by the arbitrator.
In a separate dissent, Judge Alex Kozinski argued that Nagrampa had waived her right to object to arbitration by dint of her participation in the proceedings, however minimal. He also called the decision a “paternalistic endeavor” that carried “seeds of great irony.”
“By invoking the unconscionability doctrine to protect ‘the little guy’ in this case, the majority has construed California franchise law in a way that will result in fewer opportunities for other ‘little guys’ in the future,” he wrote, explaining that only those who are economically on par with corporations are considered “sophisticated” enough to enter into enforceable arbitration agreements.
“The result is that fewer aspiring business owners—many of whom are minorities and first generation Americans—will find franchisors willing to offer them opportunities like the one MailCoups offered to Nagrampa,” the judge said.
Judge Richard Tallman joined both the O’Scannlain and Kozinski dissents.
The case is Nagrampa v. MailCoups, Inc., 03-15955.
Copyright 2006, Metropolitan News Company