In Fuentes v. Empire Nissan, Inc., the California Supreme Court recently issued an opinion calling on courts to “closely scrutinize” arbitration agreements for substantive unconscionability where there is extreme procedural unconscionability, which renders the agreement difficult to read.
Fuentes marks a clarification of the framework to determine whether an arbitration agreement is void based on unconscionability. In the same case, the Court of Appeal had previously held—in a decision that has been law since 2023—that even if an arbitration agreement contains a high degree of procedural unconscionability, courts must still find substantive unconscionability in the agreement to render it void. Following a petition to review that decision, the Supreme Court reiterated the Court of Appeal’s point but remanded the case to the trial court with the following clarification:
Although procedural unconscionability alone does not invalidate a contract, its existence requires courts to closely scrutinize the substantive terms to ensure they are not manifestly unfair or one-sided.
Id. at 7 (internal quotations omitted). Driving this framework was the Court’s recognition that “[w]hen there is substantial procedural unconscionability, even a relatively low degree of substantive unconscionability may suffice to render the agreement unenforceable.” Id. at 6.
Background
The Fuentes plaintiff, a former employee of the defendant, signed an employment agreement that included an arbitration provision, mandating arbitration of essentially all employment-related claims, while requiring any modification of the agreement to be in writing signed by the company’s president. At some point after, the plaintiff signed two confidentiality agreements that prohibited the plaintiff from engaging in unfair competition and from disclosing the company’s confidential information and trade secrets. The confidentiality agreements expressly purported to supersede any and all prior agreements on those subjects and appeared to grant the company the right to sue the plaintiff for breach of contract.
After the defendant terminated the plaintiff’s employment, the plaintiff sued, and the company brought a motion to compel arbitration. The plaintiff opposed the motion, arguing, among other things, that the agreement was unconscionable. The trial court agreed with the plaintiff and denied the motion, finding that the agreement was barely legible and difficult to understand, tainting it with “a very high procedural unconscionability” that was also indicative of substantive unconscionability.
The Court of Appeal reversed the trial court’s decision, concluding that a determination that an arbitration agreement is illegible exclusively establishes procedural unconscionability, not substantive unconscionability.
The California Supreme Court generally agreed with the Court of Appeal but added that, where, as in Fuentes, an arbitration agreement presents a high degree of procedural unconscionability, courts must closely scrutinize the arbitration provision’s terms for unfairness or one-sidedness and construe any ambiguity against the drafting party.
The Court held that the Court of Appeal failed to apply this framework in addressing the underlying factual question in the case: whether the confidentiality agreements superseded the arbitration agreement and authorized the company to sue for confidentiality-related claims, such that the arbitration agreement could be deemed one-sided and thus substantively unconscionable. By relying on the presumption in favor of arbitration, the Court of Appeal implicitly—and erroneously—resolved the issue in favor of the employer. Accordingly, the Court remanded the case, directing the trial court to conduct further proceedings to scrutinize the agreements under the correct framework.
Three Takeaways
- Companies that regularly rely on agreements with arbitration provisions should consider seeking the assistance of counsel to review those provisions to determine whether they could be enforceable under the Court’s unconscionability framework. This should include a review of other agreements that might interact with those provisions.
- Drafters of arbitration provisions should attempt to resolve easily avoidable legibility issues, such as small font size, language density, overuse of “legalese,” and lack of appropriate headings.
- Failure to resolve a high degree of procedural unconscionability in an arbitration agreement could trigger closer scrutiny of arbitration terms for substantive unconscionability, which would not otherwise void the provision.
