Corporate Counsel – Who Holds the Attorney-Client Privilege?
A recent United States Court of Appeals for the Ninth Circuit decision clarified who holds the attorney-client privilege with respect to corporate counsel.
James Graf was a founder of, and ostensible consultant to, Employers Mutual, LLC, a Nevada corporation that purported to provide health care benefits coverage to more than 20,000 plan members. In reality, the company was part of an elaborate scheme to defraud the individuals and small businesses who purchased Employers Mutual health insurance plans. After a jury trial in Los Angeles, Graf was found guilty and sentenced to 300 months in prison, with 3 years of supervised release, ordered to pay a $2,300.00 special assessment, as well as restitution of $20,458,419.47. The judgment was affirmed on appeal. U.S. v. Graf (July 7, 2010) 2010 U.S. App. LEXIS 13860.
Graf was not listed as an employee, officer or director of Employers Mutual. He had been previously banned from insurance work in the State of California for misconduct in violation of state insurance laws. Graf made a series of misrepresentations to individuals and employers while ignoring the advice given by Employers Mutual’s attorneys that the marketing of the plans violated state and federal law. There were a series of other misdeeds committed by Graf. Employers Mutual collected about $14 million in payments while paying out something less than $2 million to medical providers.
Graf argued on appeal from his conviction that he was a joint holder of the attorney-client privilege and had never waived the privilege. He wanted to have the attorney’s testimony excluded at the time of trial. The trial court judge determined that Graf did not have a personal attorney-client relationship with the named attorneys to support his assertion of privilege over the relevant testimony because he had not sought personal legal advice from the corporate attorneys. Secondly, the trial court judge determined that Graf’s subjective belief that Employers Mutual attorneys represented him personally was insufficient to create a personal privilege because that belief was either unreasonable or was not manifested to those attorneys.
The federal courts apply an eight-part test to determine whether information is covered by an attorney-client privilege: (1) where legal advice of any kind is sought, (2) from a professional legal advisor in his capacity as such, (3) the communications relating to that purpose, (4) made in confidence, (5) by the client, (6) are at his insistence permanently protected, (7) from disclosure by himself or by the legal advisor, (8) unless the protection be waived. U.S. v. Martin (9th Cir. 2002) 278 F.3d 988, 999.
The Graf court rejected Graf’s assertions that he was a “functional employee” of Employers Mutual. The court then adopted for the first time and applied the Bevill test to determine whether Graf held a personal attorney-client privilege with respect to his communications with corporate attorneys. In re Bevill, Bresler & Schulman Asset Management Corp. (3rd Cir. 1986) 805 F.2d 120, 124.
Any privilege that exists as to a corporate officer’s role and functions within a corporation belongs to the corporation, not the officer. Under the Bevill test, individual corporate officers or employees seeking to assert a personal claim of attorney-client privilege must affirmatively show five factors:
- They must show they approached counsel for the purpose of seeking legal advice;
- They must demonstrate that when they approached counsel they made it clear that they were seeking legal advice in their individual rather than their representative capacities;
- They must demonstrate that the counsel saw fit to communicate with them in their individual capacities, knowing that a possible conflict could arise;
- They must prove that their conversations with counsel were confidential;
- They must show that the substance of their conversations with counsel did not concern matters within the company or the general affairs of the company.
Bevill at 123 – 125.
The holding in the Graf case is significant. Often several individuals meet with attorneys regarding the affairs of a business. At the outset of any initial meeting, prudent lawyers ask the parties to identify the attorney’s client. Conflicts are immediately sorted out. If there are subsequent meetings, prudent attorneys admonish non-clients of the non-existence as to attorney-client privileged communications.
A recent United States Court of Appeals for the Ninth Circuit decision clarified who holds the attorney-client privilege with respect to corporate counsel.
James Graf was a founder of, and ostensible consultant to, Employers Mutual, LLC, a Nevada corporation that purported to provide health care benefits coverage to more than 20,000 plan members. In reality, the company was part of an elaborate scheme to defraud the individuals and small businesses who purchased Employers Mutual health insurance plans. After a jury trial in Los Angeles, Graf was found guilty and sentenced to 300 months in prison, with 3 years of supervised release, ordered to pay a $2,300.00 special assessment, as well as restitution of $20,458,419.47. The judgment was affirmed on appeal. U.S. v. Graf (July 7, 2010) 2010 U.S. App. LEXIS 13860.
Graf was not listed as an employee, officer or director of Employers Mutual. He had been previously banned from insurance work in the State of California for misconduct in violation of state insurance laws. Graf made a series of misrepresentations to individuals and employers while ignoring the advice given by Employers Mutual’s attorneys that the marketing of the plans violated state and federal law. There were a series of other misdeeds committed by Graf. Employers Mutual collected about $14 million in payments while paying out something less than $2 million to medical providers.
Fitness for Duty Exams and the Americans With Disabilities Act. When Is a Fitness For Duty Exam Appropriate?
Oscar Brownfield was a police officer for the City of Yakima. He was injured in an off-duty car accident. When he returned to work he performed well for a period of time and then subsequently received a number of adverse performance reviews and warnings. While his primary treating physician provided a complete release for him to return to work, his physician did not opine whether Brownfield had any mental disorders that would adversely affect his ability to perform as a police officer. He was subsequently injured in another off-duty car accident. The police department ordered a “fitness for duty exam” on Brownfield. Brownfield believed that this violated the Americans With Disabilities Act.
The Americans With Disabilities Act provides that an employer may not require a medical examination to determine whether an employee is disabled “unless such examination or inquiry is shown to be job-related and consistent with business necessity.” The “business necessity” standard is “quite high and not to be confused with mere expediency.” Case law provides that “when health problems have had a substantial and injurious impact on an employee’s job performance, the employer can require the employee to undergo a physical examination designed to determine his or her ability to work.”
In Brownfield v. The City of Yakima (July 27, 2010) U.S. Court of Appeals for the Ninth Circuit, No. 09-35628, the court held for the first time that an employer may preemptively require a medical examination. The court acknowledged that it must guard against the potential for employer abuse of such fitness for duty exams. Employers may not use medical exams as a pretext to harass or fish for non-work-related medical issues and the attendant “unwanted exposure of the employee’s disability and the stigma it may carry.” Of particular significance however, is the court’s holding that, “the business necessity standard may be met even before an employee’s work performance declines if the employer is faced with significant evidence that could cause a reasonable person to inquire as to whether an employee is still capable of performing his job.” An employee’s behavior cannot be merely annoying or inefficient to justify an examination; rather, there must be genuine reason to doubt whether that employee can perform job-related functions.
Employment status questions continue to trouble employers, employees, independent contractors and the courts. The federal courts have attempted to clarify this issue in a recent Ninth Circuit Court of Appeal decision, Murray v. Principal Financial Group, Inc. (July 27, 2010) No. 09-16664.
Patricia Murray was a “career agent” for Principal Financial Group, Principal Life Insurance Company and Princor Financial Services Corporation. She sold Principal products and services including annuities, disability income, 401(k) plans and insurance. She sued Principal for sex discrimination in violation of Title VII of the Civil Rights Act of 1964. The only issue for the court was whether Murray was an employee or independent contractor. If Murray was an independent contractor, she had no standing to sue under Title VII. The court’s analysis turned on “the hiring party’s right to control the manner and means by which the product is accomplished.” The United States Supreme Court has articulated a 12-part test, first set forth in Nationwide Mutual Insurance Co. v. Darden (1992) 503 U.S. 318, 323:
(1) The skill required; (2) the source of the instrumentalities and tools; (3) the location of the work; (4) the duration of the relationship between the parties; (5) whether the hiring party has the right to assign additional projects to the hired party; (6) the extent of the hired party’s discretion over when and how long to work; (7) the method of payment; (8) the hired party’s role in hiring and paying assistants; (9) whether the work is part of the regular business of the hiring party; (10) whether the hiring party is in business; (11) the provision of employee benefits; and (12) the tax treatment of the hired party.
In Murray, the court held that Murray was an independent contractor. She was free to operate her business as she saw fit without day-to-day intrusions. She decided when and where to work. She maintained her own office where she paid rent. She scheduled her own time off and was not entitled to vacation or sick days. She was paid on a commission only basis and reported herself as self-employed to the IRS. She also sold products other than those offered by Principal.
It would be helpful for various federal and state agencies to agree on the criteria for determining the correct independent contractor – employee relationship. That probably won’t happen during our lifetime. The IRS, EDD, FTB, federal and state workers’ compensation, U.S. Department of Labor and California Labor Commissioner all use slightly different criteria. When in doubt, the better view is usually a default position of making the individual an employee.
July 6, 2010
Why Can’t Lawyers Give Clients Definitive Advice?
Recently, I was a panelist at an employment law seminar. An attendee at the seminar asked the panel a question that was particularly troubling to her company. She stated that she had consulted with several attorneys on an employment law issue and received widely contrasting advice. Why was it so difficult, she asked, to get a straight answer?
Good question.
Recent United States Supreme Court decisions in the past week or so will be helpful in understanding the response to the speaker’s question.
Magwood v. Patterson. Billy Joe Magwood was sentenced to death for murdering a county sheriff in 1979. A U.S. District Court conditionally granted Magwood writ of habeas corpus (Magwood wants to go free). Magwood was later resentenced to death a second time. He appealed again, and was granted conditional relief again. The U.S. Supreme Court held in a 5-4 decision that a federal habeas petition is not “second or successive” when a new judgment intervenes between it and a previous petition. Justice Kennedy wrote the dissent and was joined by Roberts, Bader-Ginsburg and Alito. Justice Thomas wrote the majority opinion. Justice Bryer wrote a concurring opinion which was joined by Stevens and Sotomayor.
Rent-A-Center v. Jackson. Jackson claims he was passed over for promotion until he complained to his Rent-A-Center store manager and HR and then promoted. Two months later, Jackson was fired. Jackson filed a complaint alleging racial discrimination and retaliation. He had signed an employment contract with Rent-A-Center providing for binding arbitration. Under the Federal Arbitration Act, the arbitrator has the authority to decide whether an arbitration agreement is valid. The U.S. Court of Appeals, 9th Circuit, held that the district court was required to determine whether the arbitration agreement was unconscionable, even when the parties to the contract have clearly and unmistakably assigned the “gateway” issue to the arbitrator for a decision. Justice Alito, in a 5-4 decision said the 9th Circuit got it wrong. Plaintiff Jackson challenged only the validity of the arbitration agreement as a whole, not the “delegation provision.” Justice Stevens wrote the dissent (joined by three others) stating in part that Jackson’s claim that the arbitration agreement is unconscionable undermines any suggestion that they “clearly and unmistakably” assented to submit the matter to an arbitrator. So Jackson claims the arbitration agreement is unenforceable because it is unconscionable, but the arbitrator (not a court) still gets to decide whether Jackson’s claim of unconscionably is correct.
Christian Legal Society Chapter of the University of California, Hastings College of the Law, aka, Hastings Christian Fellowship v. Martinez. Hastings extends official recognition to student groups who comply with the school’s nondiscrimination policy, which includes religion and sexual orientation. Student organizations requires acceptance of all students, regardless of beliefs. The Christian Legal Society requires student members to sign a “Statement of Faith” and to conduct their lives in accord with prescribed principles which include no sex outside of marriage and only between a man and a woman. Christian Legal Society sued Hastings alleging that its rules violate the U.S. Constitution. The District Court held for Hastings. The 9th Circuit agreed. The U.S. Supreme Court affirmed in a 5-4 decision.
Bilski et al. v. Kappos. This is a patent application case relating to an invention. The good news is that the Court was unanimous in its decision. Well, sort of. Three justices agreed with the full opinion. One justice did not concur with a portion of the opinion. Another justice did not concur with another portion of the opinion. Four other justices agreed with yet another concurring opinion. Another justice wrote a concurring opinion which was joined by one other justice except for one part. Patent attorneys now have clarity.
Free Enterprise Fund et al. v. Public Company Accounting Oversight Board et al. In this 5-4 decision the Court upheld the authority of the SEC to appoint (and remove) five members to the PCAOB.
Skilling v. United States. Jeffrey Skilling was a longtime Enron officer, including CEO when he resigned in August 2001. Shortly thereafter, Enron filed for bankruptcy. Skilling was charged with a scheme to deceive investors about Enron’s true financial performance by manipulating its publicly reported financial results and making false and misleading statements. He was charged with over 25 counts of securities fraud, wire fraud, making false representations to Enron’s auditors, and insider trading. Three weeks before Skilling’s trial, a co-defendant, Richard Causey, pled guilty. After a four-month trial, the jury found Skilling guilty of 19 counts, including the “honest-services-fraud” conspiracy charge, and not guilty of 9 insider-trading counts. The case was affirmed in part, vacated in part, and remanded. Seven justices agreed with one part of the majority opinion. Five justices agreed with a second part of the opinion. Six justices agreed with a third part of the majority opinion. One justice wrote a concurring opinion which was joined by one other justice, and another justice who joined only part of the concurring opinion. Another justice wrote a concurring opinion. Another justice wrote an opinion which concurred in part and dissented in part, joined by two other justices. Got it?
So what is the advice lawyers can provide clients trying to do the “right thing” and comply with the law? Just as reasonable people may differ on a solution to a problem, reasonable lawyers may differ on the application of facts to areas of law, particularly where areas of law are in flux or undecided by appellate courts. It is not unusual, then, for clients to receive conflicting advice from attorneys. Look at the close 5-4 decisions from justices in the U.S. Supreme Court and the myriad concurring opinions. We feel your pain. It’s our pain too.
Severance Agreements and Releases
June 14, 2010
Employers and employees frequently ask two questions when terminating employment of an employee: is an employer required to pay severance? If an employer does pay severance, is the employee required to sign a release?
Absent an agreement to the contrary, there is no legal requirement in California to pay severance pay to an employee who resigns or is terminated. Employers are required to pay all earned wages and accrued vacation on the last day of employment unless the employee resigns without notice (final paycheck is then due within 72 hours). If severance is paid, employers should consider the ramifications or precedent for other similarly situated employees. Does this create an implied promise to pay severance in the future? Is there disparate treatment for employees in protected classes (e.g., race, national origin, age, etc.)?
California Labor Code Section 206.5 precludes the enforceability of a release where wages are not in dispute. If an employer concedes that wages are owed, requiring an employee to sign a release is inappropriate. It is appropriate, however, to provide the terminating employee with a written recap or overview of gross earnings and deductions and, to request the employee to review the worksheet and sign an acknowledgement of the accuracy of the final paycheck. While there is no legal requirement for the employee to sign the acknowledgment, it gives the employee the opportunity to advise the employer of any mistakes, really the underlying reason for the form.
If an employer is paying severance, it is helpful to have objective criteria for determining the severance. For example, all employees who have worked more than 12 continuous months will receive one week severance for each year of employment up to a maximum number of “X” weeks’ severance. Severance is generally computed using base pay as of the last day of employment. Employers are free to require the execution of a release agreement (i.e., the employee promises not to sue the employer) in exchange for the severance payment.
Keep in mind, however, that if the employee is 40 years of age or more, an enforceable release for federal age discrimination statute will provide that the employee has a minimum of 21 days to consider the release and, if the release is signed, the employee has 7 days thereafter to revoke the release. Required statutory language encourages employees to obtain the advice of an attorney. The release thereby becomes an invitation to begin negotiation to obtain greater monetary compensation, paid COBRA, outplacement, retain company personal property (i.e., cell phone, laptop, etc.), letter of reference, promise not to contest unemployment insurance benefits and the like. Even when an employee is not 40 years of age, the “legalese” in the release document can be daunting which may, in turn, prompt employees to seek the advice of an attorney which again, may initiate the negotiation process. Therefore, thought should be given about when a release is truly appropriate.
There are two competing interests in deciding whether to require a release for severance compensation. The usual motivation for employers to pay severance is the company’s desire to lessen the financial hardship of an employee’s job loss. Employers almost always feel badly. On the other hand, company owners or directors are concerned about risk management. A fully executed, global release limits future legal and financial exposure. Sometimes it’s not easy to balance these competing interests.
Respect Your Elders: How California’s Elder Abuse Law May Undermine Contracts With Seniors
Respect Your Elders
How California’s Elder Abuse Law May Undermine Contracts with Seniors
California’s Elder Abuse and Dependent Adult Civil Protection Act is designed to protect senior citizens from unscrupulous people who would otherwise take advantage of their perceived vulnerability. However, a recent amendment to the Act may have unintended consequences for ordinary contracts with perfectly healthy senior citizens.
Effective January 1, 2009, the Act’s definition of elder abuse was expanded to include any situation in which a person “takes, secretes, appropriates, obtains, or retains the [property of an elder] and the person or entity knew or should have known that this conduct is likely to be harmful to the elder or dependent adult.” Welf. & Inst. Code, § 15610.30(b).
At first glance, this definition of elder abuse seems straightforward enough. After all, it covers the classic abuser—the callus family member, manipulative caregiver, or unscrupulous salesperson—who cons the classic victim—a vulnerable elder—out of his or her assets. But the devil, as always, is in the details.
The problem begins with the Act’s definition of an elder, which is any California resident who is “65 years of age or older.” Welf. & Inst. Code, § 15610.27. Read literally, any person age 65 or older—regardless of good health or mental capacity—has been abused if someone has taken his or her property and knew or should have known that this conduct is likely to be harmful. If a court agrees that elder abuse has taken place, the perceived abuser may be liable for punitive damages and the elder’s costs and attorneys’ fees, plus ordinary damages.
Under this standard, virtually any transaction involving someone age 65 or older—a loan, vehicle lease, purchase of real estate, or collection of a valid debt—could theoretically be considered abusive, even if the senior in question is a corporate executive. It seems unlikely that the Act was intended to reach quite this broadly, although the literal language of the Act is very broad.
The future may bring statutory amendments or published court opinions that better define the Act’s reach. In the meantime, people who do business with elders should be sure that each deal is fair to both sides. While this is a departure from the usual “look out for number one” approach to contracts, it should help minimize the risk of a later claim of elder abuse.
Free Speech in Employment
Employers and employees alike are increasingly troubled about employee “free speech” rights. When can employees, for example, post internet comments that may be inconsistent with employer values or worse, at odds with federal, state or local law?
A recent US Court of Appeals decision for the 9th Circuit sheds light on this important issue. In Rodriguez v. Maricopa County Community College District (May 20, 2010), Judge Kozinski ruled in favor of the district. A math professor sent three racially-charged emails over a distribution list maintained by the community college district. Plaintiffs, a certified class of the district’s Hispanic employees, sued the district, its governing board and two district administrators claiming that their failure to property respond to the professor’s emails created a hostile work environment in violation of Title VII and the Equal Protection Clause.
The Court recognized that the professor’s ideas fall outside the mainstream; his words sparked intense debate. “The Constitution embraces such a heated exchange of views, even (perhaps especially) when they concern sensitive topics like race, where the risk of conflict and insult is high.” The college campus setting is relevant where the pursuit of intellectual diversity is commonplace and indeed, encouraged. Academic freedom warrants judicial restraint. “We therefore doubt that a college professor’s expression on a matter of public concern, directed to the college community, could ever constitute unlawful harassment and justify the judicial intervention that plaintiffs seek.”
Rodriguez involves public employees. The First Amendment, which by virtue of the Due Process Clause of the 14th Amendment, applies to public employers. Rights under the Equal Protection Clause of the 14th Amendment arise only where there has been involvement of the state or of one acting under the color of its authority.
Private sector employment is not the same. Grinzi v. San Diego Hospice Corporation (2004) 120 Cal.App.4th 72, 81, holds that there is no “public policy” of First Amendment rights by private employers.
Guidelines for private employers:
Employees that use derogatory racial or ethnic epithets in the workplace that is sufficiently severe or pervasive to constitute employment discrimination is unlawful. Prohibition of the repetition, perpetuation, or continuation of these discriminatory practices is not prohibited prior restraint of speech.
Examples of good faith whistleblower protected speech:
- Sarbanes-Oxley Act
- Workplace discrimination under federal or state law.
- Regulatory violations or illegal activity;
- Submission of a false or fraudulent claim to the government for payment or other fraudulent records;
- Providing information or testimony in any inquiry or proceeding related to the Employee Retirement Income Security Act of 1974;
- Unsafe working conditions;
- Industrial injuries; and
- Patient abuse.
Employers may impose restrictions on employees relating to communication of confidential, proprietary and trade secret information, unlawful copyright use, invasion of privacy or forms of defamation that adversely affect an employer. Employers may decide, for example, that written policies set forth in employee handbooks, confidentiality agreements or specific policies (i.e., blogging, use of copyrighted works, etc.) are helpful. Employees may appreciate the guidance.
Start – Up Company Nightmare: Who Owns the Intellectual Property?
Start-up companies frequently begin operations on a shoe string budget or no budget at all. Founders normally focus on the area of business for which they feel most comfortable. In a software start-up company, someone writes the code, another handles sales & marketing, website development or “back office” requirements (i.e., legal, tax, accounting, etc). Typically, founders then issue equity interests in the business to themselves for the creation of the company (i.e., ideas, know-how, and work performed for the start-up).
A recent Ninth Circuit Court of Appeals decision, JustMed, Inc. v. Michael Byce (April 5, 2010, No. 07-35861) provides an example of common start-up pitfalls.
JustMed is a software technology company. Joel Just and Michael Byce are former brothers-in-law who together tried to develop technology for clearer speech for a digital audio larynx device. Byce worked on the project for 3 years, and then ceased work. Five years later, Joel and Ann Just then formed JustMed to continue project development. The company hired another software developer to write code. The code was not registered with the U.S. Copyright Office. The code contained common law copyright notices on the software and documentation. The other employee received stock in lieu of one-half of his half his salary. After a period of time, the employee resigned from JustMed. Byce was requested and agreed to return to complete development of the source code.
JustMed asserted that Byce was an employee; Byce said he was an independent contractor.
The characterization of employment status has serious consequences with respect to ownership of the source code. Under the “work for hire” doctrine, if Byce is an employee, JustMed owns the code. If Byce is an independent contractor, then Byce owns the code. The only way JustMed would obtain the code in the latter case is if Byce assigns the code to JustMed (undoubtedly for a handsome sum). The intellectual property constitutes the real value of the company.
Writings between the parties were wholly lacking: no employment agreement, independent contractor agreement, confidentiality agreement, non-disclosure agreement, software development agreement, shareholder agreement, W-4, or I-9. Nothing.
Joel Just documented Byce’s compensation eventually due to him in a personal notebook. The company did not keep any formal records. Byce was never issued a W-2; there were no taxes withheld, no workers’ compensation insurance and no unemployment insurance paid by the company.
For nine months, Byce worked from his home in another state virtually rewriting the code that was originally written. Byce set his own hours, worked when he wanted to work and communicated with Just by email. Byce was, however, included in a company profile brochure and had a company business card. His title was “Director of Research and Development” and “Director of Engineering.” Byce updated the company website and attended conferences, marketing meetings, and demonstrations on behalf of JustMed.
Because Byce was receiving no income, and Byce was running out of cash, JustMed eventually issued three paychecks representing one-half of his salary. The balance of the income owed to Byce would be issued in stock. Byce never cashed the checks.
Byce then learned of a potential merger or sale of the company. Byce became upset when he learned from reading company stock ledger accounts of the modest amount of stock he actually owned and how little he would be receiving as a result of a negotiated transaction. It’s always about the money. Byce made a serious mistake: he proceeded to delete all copies of the source code from JustMed’s computers. So much for good feelings between brothers-in-law. The next day, Byce raised the stock ownership disparity issue with Joel Just without telling Just of his misdeed.
The leverage Byce was seeking against Joel Just to negotiate greater equity in the company backfired.
JustMed filed legal action against Byce for misappropriation of a trade secret, conversion and breach of fiduciary duty. The principle issue was the characterization of Byce’s status as an employee or independent contractor. The trial court found in favor of JustMed. The Court of Appeals affirmed.
This was a close call. The Court of Appeals gave great weight to the fact that JustMed was a technology start-up company, conventional wisdom recognizing the haphazard procedures for conducting business out of the proverbial garage. The parties contemplated an employment relationship of “indefinite duration” which cuts in favor of finding Byce an employee. Byce’s predecessor was an employee; so Byce must be also.
Frankly, the decision makes little sense other than the court undoubtedly reached the correct result. Byce behaved badly and the court was not going to reward his misconduct with a finding of an independent contractor relationship where he owned the code. It would have been quite plausible, however, for a court to have concluded otherwise.
All of this could have been avoided with a modicum of planning from the outset.
This little tiff would have also thrown cold water on any potential negotiated transaction. A buyer does not want to get involved with brother-in-law disputes. The “take away” is not to avoid working with family members and particularly in-laws. No matter whom you work with and no matter how much you “trust” them, put your deal in writing. Founders of start-ups will pay a lot less in the long run than the litigation expenses that were inevitably incurred by Joel and Mike.
ARE ARBITRATION AGREEMENTS BETWEEN EMPLOYEE AND EMPLOYER REALLY A GOOD THING?
Arbitration agreements between employers and employees sometimes begin with something that looks like this:
Any action to enforce or interpret this Agreement, or to resolve disputes over this Agreement between the Company and you will be settled by arbitration in accordance with the rules of the [commercial provider or California Arbitration Act].
What most folks don’t realize is that judicial review of arbitration awards is very limited. A recent California Supreme Court case, however, has opened the door for potential appeals of arbitration decisions. Pearson Dental Supplies, Inc. v. Superior Court (S167169) was filed on April 26, 2010. The decision was 4-3 which means the result was no slam dunk.
The facts are not in dispute. Luis Turcios was hired as a janitor for Pearson Dental Supplies. After working for about 7 years, he was fired at age 67. He filed an age discrimination complaint with the Department of Fair Employment and Housing (“DFEH”). He was issued a “right to sue” letter. He filed a lawsuit in LA County Superior Court. After 5 ½ months of litigation and court hearings, Pearson then filed a motion to compel arbitration. The motion was granted. Four months later an arbitrator was selected. Pearson then filed a summary judgment motion contending that Turcios’s claims were “time barred” because he had not submitted the matter to arbitration within the one-year contractual provision set forth in the arbitration agreement.
Turcios lost. The arbitrator granted Pearson’s motion to dismiss Turcios’s claims.
Anyone who has practiced law (and even those that have not) knows that the arbitrator’s decision was unfair, illogical and dead wrong. The arbitrator refused to apply the “tolling” principle, which permits his claim to survive because he timely filed his complaint with DFEH and the court. Turcios’ claim was undeniably incorrectly determined to be time-barred.
Pearson filed a petition with the superior court to confirm the arbitration award. The trial court got it right and vacated the award.
Pearson appealed to the Court of Appeal which reversed the trial court.
Turcios appealed. The California Supreme Court reversed again and said the trial court judge had it right.
So what does all this mean?
It’s not easy to vacate an arbitration award. Applicable statutes and case law provide that an arbitration award may be vacated only in narrow circumstances:
- The award was procured by corruption, fraud or other undue means;
- Corruption in any of the arbitrators;
- The rights of such party were substantially prejudiced by misconduct of a neutral arbitrator;
- The arbitrators exceeded their powers and the award cannot be corrected without affecting the merits of the decision; or
- The rights of such party were substantially prejudiced by the refusal of the arbitrators to postpone the hearing upon sufficient cause or by the arbitrators refuse to hear evidence material to the controversy.
This means that there is no basis for appeal, for example, if the arbitrator “doesn’t get it” or fails to understand or follow the law. “It is well settled that ‘arbitrators do not exceed their powers merely because they assign an erroneous reason for their decision.’” Moncharsh v. Heily & Blasé (1992) 3 Cal.4th 1, 28. But the Moncharsh decision left a little wiggle room which provided that review may be necessary in some limited or exceptional circumstances to protect a party’s statutory rights.
Justice Carlos Moreno, writing for the majority held, “[W]hen … an employee subject to a mandatory employment-arbitration agreement is unable to obtain a hearing on the merits of his FEHA claims, or claims based on other unwaivable statutory rights, because of an arbitration award based on legal error, the trial court does not err in vacating the award.”
Justice Baxter and two of his colleagues (Justices Chin and Corrigan disagreed.
There is no dispute that the arbitrator incorrectly ruled that Turcios’s claims were time-barred. That is irrelevant. The parties bargained for arbitration. Absent corruption or fraud, the arbitration decision must stand.
Justice Baxter writes that the majority opinion is unsupported and unprecedented to “judicialize” the arbitration process. The majority decision misapplies relevant code sections, “so as to significantly undermine the strong public policy favoring arbitration as a fair, quick, and inexpensive means of resolving disputes.” The basis of the dissent rests on the parties’ contractual agreement to submit the dispute to arbitration. “Thus, an arbitration decision is final and conclusive because the parties have agreed that it be so.” (emphasis in original).
Justice Baxter recognizes that unless specifically required to act in conformity with rules of law, the arbitrators may base their decision upon broad principles of justice and equity. The dissent recognizes that there are a “vast number of statutory schemes that can be claimed to protect unwaivable rights, as well as the myriad ways in which legal error can be claimed to preclude or impair a hearing on the merits.” His concern is that the exceptions will swallow the rule.
What are some lessons learned?
The Pearson case started in April, 2006, when Turcios filed his claim with DFEH. The dispute was litigated in the superior court, by an arbitrator, back to the superior court, the court of appeals and 4 years later, the California Supreme Court rendered an opinion. Mr. Turcios now has the privilege of returning to arbitration for his “day in court.” So much for “fair, quick, and inexpensive means of resolving disputes.”
Arbitration decisions that are based upon unwaivable statutory rights may be appealed and the arbitration decision set aside. This means that arbitrators must provide written opinions explaining the factual and legal basis for their decisions. A simple award to one party or another will not be sufficient. The question then is whether the parties would be better served simply by paying the $355 filing fee for superior court and not getting involved in $5,000/day (or more) arbitration proceedings.
Finally, rest assured that plaintiff arbitration awards will surely raise unwaivable statutory rights not considered by the arbitrator in filing a motion to set aside unfavorable arbitration awards.