California Court of Appeal holds arbitration clause in employment agreement unconscionable in light of breadth of clause, indefinite term of survival clause, and lack of mutuality as to third party beneficiaries

Becca Kutlow and Fred Norton

In Cook v. University of Southern California Cal. App. 5th 312, 340 (2024), reh’g denied (June 13, 2024) the California Court of Appeal, Second Appellate District, held that the arbitration clause in an employment agreement between an employee, Pamela Cook, and an employer, the University of Southern California, was unconscionable. This decision could have an important impact on future attempts to compel arbitration based on arbitration clauses in pre-existing agreements.  

Summary of Facts

In Cook, the Plaintiff, Pamela Cook, filed a complaint against defendants, University of Southern California (“USC”) and several individuals, asserting 18 causes of action which arose out of her employment with USC. These causes of action included allegations that USC failed to accommodate a variety of health-related time-off requests and subjected her to retaliatory harassment when she reported USC’s discrimination and failure to accommodate her disability. USC then filed a motion to compel all of Cook’s claims to arbitration, per the arbitration clause in the employment agreement. Cook opposed the motion. The trial court found that the arbitration agreement was unconscionable and denied the motion. USC appealed.  

Analysis Regarding Unconscionability

The California Court of Appeal affirmed the trial court’s finding. The court held that the arbitration clause had a high degree of substantive unconscionability, making it overall unconscionable, despite low procedural unconscionability. The court held that the arbitration clause was substantively unconscionable because: (1) the clause was overbroad; (2) the clause was indefinite; and (3) the clause lacked mutuality

First, the court found that the clause was overbroad because it applied to all claims of any kind between the parties, even if the claim was unrelated to plaintiff’s employment. Notably, the court seems to assume, without any analysis, that an arbitration clause that covers disputes other than those that arise from, or relate to, the contractual relationship, would be unconscionable. 

Second, the court found that the clause was indefinite in duration because it was subject to a survival clause which stated that the arbitration clause survived termination of employment and could only be revoked or modified in writing signed by the president of the university. The court again did not provide any analysis as to why the indefinite duration made the clause unconscionable. 

Finally, the court found that the clause lacked mutuality, even though it applied to both parties, because it required the plaintiff to arbitrate her claims against USC and its “related entities” but did not require the “related entities” to arbitrate claims against the plaintiff. The court found that this made the clause, in practical effect, “unjustifiably one-sided.”   USC argued that the mutuality rule is that there be a “modicum of bilaterality” and because both USC and Cook were bound by the arbitration clause, that should suffice.  The court disagreed, however, and explained that although a modicum of bilaterality is required, showing that the agreement has a modicum of bilaterality does not necessarily mean that the clause is conscionable.  The Court stated, “[t]he presence of a modicum of bilaterality will not save a clause that is, in practical effect, unjustifiably one-sided.” In so holding, the court suggested that having third party beneficiaries of an arbitration clause could be unconscionable if no reasonable justification could be offered for why the other party would agree to a one-way arbitration clause. 

Key Takeaways

The decision in Cook may create challenges to enforcement of arbitration clauses in California state court, as each of the features that seemed to trouble the Court of Appeal are fairly commonplace in a wide variety of agreements, and are normally enforceable under generally applicable principles of contract law.  For example, survival clauses for dispute resolution terms are common in both commercial contracts and employment agreements where the parties may have continuing obligations, such as confidentiality, after the relationship ends. The court in Cook did not provide enough analysis to allow parties to understand why the court felt that the indefinite nature of the survival clause was unconscionable, with the result that it is unclear how this holding may apply in future cases. The court’s overbreadth argument likewise seems to evidence an impermissible hostility towards arbitration. It is well settled that arbitration is an adequate alternative forum to court, and absent unfairness in the arbitral forum or rules, parties are free to choose it. There does not seem to be any reason to assume that it would be unfair to agree to arbitrate many claims, but fair to agree to arbitrate only a few. Last, it is a common practice to include in an arbitration agreement third parties, such as officers, directors, employees, and affiliates, who are also intended beneficiaries of the arbitration clause.  An arbitration agreement should not be found to lack bilaterality merely because it has such a feature, but parties seeking to enforce arbitration clauses with third party beneficiaries should be prepared to identify the mutual benefits of such clauses, such as avoiding piecemeal litigation when they are necessary parties to the dispute.