United States: Marketers And Consumers – Watch Out For The Arbitration Fairness Act!

Last Updated: May 18 2015
Article by Damon W.D. Wright, Ari N. Rothman and Shahin O. Rothermel

Imagine this. You own a web-based business selling everything from nutritional supplements, to skin cream, to jewelry to consumers. Your website's registration page has a checkbox with text alongside it. In large font, the text says, "By purchasing a product and checking this box, you agree to the Terms of Use, including its mandatory arbitration and a class action waiver provisions. The hyperlinked Terms of Use explain the provisions in more depth.

All is good. You're selling products, your customers are happy, and you're making money.  One day, a process server knocks on your door. You've been served. A consumer class action complaint has been filed in court against your business. The complaint could allege that your advertising was deceptive, that your product was defective, or that your continuity re-billing is unlawful. You know the claims are frivolous but you also know that even frivolous class action litigation can be expensive.'

In 2015, there is good news. With the fact pattern above, a court will likely hold there can be no class action and the dispute must be decided through less-expensive arbitration.  Here's the bad news. A year from now this could all change. You could end up stuck in court defending an expensive class action lawsuit with every customer you've ever had as a potential class member.

Online marketers often implement binding arbitration provisions to limit their exposure to consumer class action lawsuits.  Senator Al Franken (f/k/a Stuart Smalley) and Congressman Hank Johnson want to change this.  The proposed Arbitration Fairness Act ("Act"), if passed, would ban those provisions and allow parties to agree to arbitration only after a dispute arises.  If the Act passes, marketers who now rely on mandatory arbitration provisions and class action waivers will face class action lawsuits in court.  This would up-end the Federal Arbitration Act ("FAA") and recent U.S. Supreme Court precedent.

The FAA, passed by Congress in 1925, provides for contractually based, compulsory, binding arbitration.  Under the FAA, if parties have validly agreed to arbitrate disputes that arise under a contract, the claims must be arbitrated rather than litigated in court. The FAA codified the public policy in favor of enforcing arbitration agreements, which typically provide for faster resolution and more relaxed procedural rules as compared to litigation in court. 

Online marketers and retailers use mandatory arbitration and class action waiver provisions to limit their exposure to expensive consumer and class action litigation.  The cost saving benefits of arbitration allow parties to quickly and quietly resolve disputes, rather than endure the length, costs, and risks of litigation in court.  Importantly, these provisions help to fend off plaintiffs' attorneys who pursue consumer class actions. 

No doubt, class action litigation can be expensive.  For example, in 2014, a consumer alleged that after drinking Red Bull over the years and despite the claim that Red Bull "gives you wings," he neither grew wings nor experienced enhanced athletic performance.  Although Red Bull could have defended, it chose the safer route, settled, and refunded $10 to any customer who had bought the drink, ultimately paying $13 million. This is not unusual. When facing a class action complaint, marketers often settle to avoid the length, costs and risks of litigation, even if there is a high probability that they could ultimately prevail.  Plaintiffs' lawyers know this, take advantage of this, and dislike mandatory arbitration provisions.  While class actions may help plaintiffs' lawyers in pursuit of large fee awards, arbitration is often a better, faster, and less-expensive forum for the actual parties to the dispute.  

In recent years, the U.S. Supreme Court has issued several pro-arbitration decisions.  With AT&T v. Concepcion in 2011, the Court upheld AT&T's arbitration and class action waiver provisions which prevented a customer from resolving claims in court or through class action.  In 2013 the Court decided American Express v. Italian Colors, upholding an arbitration agreement that barred plaintiffs from bringing a class action against American Express for alleged antitrust violations.  The plaintiffs' lawyers refrain in these and other cases is that the mandatory arbitration provisions should be unenforceable and class action should be allowed since the cost of proving an individual claim would far outweigh an individual recovery.  In case after case, however, courts have applied the FAA, emphasized that arbitration is a creature of contract, and enforced arbitration agreements according to their terms.

If enacted, the Arbitration Fairness Act would prohibit mandatory arbitration provisions in consumer disputes, as well as employment, antitrust, and civil rights cases.  The Act's supporters argue that consumers lack bargaining power when faced with a contract containing a mandatory arbitration provision and that these provisions allow companies to dodge liability and exposure for violating consumer protection laws.  Although the Act would not prohibit companies and customers from arbitrating consumer disputes, it would require that the decision to arbitrate be made through agreement by the parties after the dispute has arisen.  

The Arbitration Fairness Act has been introduced to Congress several times.  In the past, various trade and public policy organizations have lobbied for and against it.  The arguments against it are compelling because the benefits of mandatory arbitration are compelling. 

First, a single consumer could very well be worse off in court.  The court process is far from perfect, courts have complicated rules and overburdened dockets, and most cases are not suitable for class action treatment.  For a single consumer who must file a case in court, this likely means hiring a lawyer, incurring the added cost of litigation, and waiting several months, if not years, for trial, in the hope of one day obtaining relief.  By contrast, in arbitration, the rules are relaxed, the cost is less, and the pace is faster.  With more relaxed rules and a more efficient process, it is far easier for a consumer to represent themselves in an arbitration than in court.  To prohibit mandatory arbitration could actually limit access to justice.

Second, if the Arbitration Fairness Act passed, this would necessarily increase the price of consumer goods and services while providing a boon for consumer class action lawyers.  For companies facing class actions, there is strong incentive to settle for hundreds of thousands of dollars early on, rather than face millions of dollars in certain litigation expenses and potential worst-case exposure.  The cost of these settlements would necessarily be passed on to consumers.  In many instances, class action settlements also lead to big paydays for plaintiffs' lawyers but only minimal relief to class members.  Although the Act's supporters are motivated to help consumers, the Act could very well hurt consumers while lining plaintiffs' lawyers' pockets.

Third, the notion that the Arbitration Fairness Act's provision for post-dispute arbitration helps to ensure the availability of arbitration's benefits is misguided.  The reality is that parties are more likely to agree on matters pre-dispute than after a dispute has arisen.  Once a dispute has arisen, each party has an incentive to be strategic and prefer the forum that provides the best route to a win.  For an online marketer facing a claim by an individual consumer and no longer bound by a mandatory arbitration provision, the preferred forum could actually be court, since again the consumer may have to hire a lawyer, incur the added cost of litigation, and wait several months if not years in the hope of one day obtaining relief.  With the Arbitration Fairness Act, a consumer who actually prefers arbitration for any number of sensible reasons could instead be required to litigate and wait years for a decision in court.

The Arbitration Fairness Act may never pass.  If enacted, however, the Act would have a widespread impact on consumer transactions, prices, and the way marketers conduct business and analyze legal risks.  Given these stakes, online marketers would be wise to track the legislation and should be prepared to add their voice to the debate.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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