Charles Schwab & Co. v. Financial Industry Regulatory Authority, Inc., No. C-12-518 EDL (N.D. Cal. 2012), provides a new analysis in the growing body of law addressing the circumstances under which waivers of class action in arbitration provisions are valid.   As we have posted on, the Supreme Court has addressed the question whether such state law can prohibit such waivers of class action treatment.  We have also posted on the question whether federal law could give way in the same way as state law.

Schwab v. FINRA approaches the question in the same way initially.  That is, the District Court recognized that

In AT&T Mobility, the Court held that the Federal Arbitration Act preempted California law striking down class arbitration waivers in consumer contracts as unconscionable as set forth in Discover Bank v. Superior Court, 36 Cal.4th 148 (2005). There, the California Supreme Court held that class waivers in consumer arbitration agreements are unconscionable if the waiver is contained in an adhesion contract, disputes between the parties are likely to involve small amounts of damages, and the party with inferior bargaining power alleges a deliberate scheme to defraud. The AT&T Mobility [Supreme] Court reasoned: “The overarching purpose of the FAA, evident in the text of §§ 2, 3, and 4, is to ensure the enforcement of arbitration agreements according to their terms so as to facilitate streamlined proceedings. Requiring the availability of classwide arbitration interferes with fundamental attributes of arbitration and thus creates a scheme inconsistent with the FAA.” AT&T Mobility, 131 S. Ct. at 1748.

Even since AT&T Mobility, the Court, in CompuCredit v. Greenwood, 132 S. Ct. 665 (2012), ruled that the FAA “establishes ‘a liberal federal policy favoring arbitration agreements.’ It requires courts to enforce agreements to arbitrate according to their terms. That is the case even when the claims at issue are federal statutory claims, unless the FAA’s mandate has been ‘overridden by a contrary congressional command.’” 132 S.Ct. at 669 (emphasis supplied).

As the District Court noted, the statute at issue in CompuCredit was silent as to whether claims under the Act could proceed in an arbitrable forum, so the FAA required the arbitration agreement to be enforced according to its terms.  In the case before it, however, the Court took the tack of reviewing not just the federal substantive law but the procedural law applicable to FINRA.  Said the Court, because of the SEC’s oversight, “FINRA Rules approved by the SEC are expressions of federal legislative power and have the force and effect of a federal regulation”.  So when FINRA regulated that firms could not insert class action waiver provisions in their arbitration agreements, “the FAA does not trump the FINRA rule”.  At a minimum, held the Court, the plaintiffs must exhaust their administrative remedies before suing.  The District Court acknowledged that there was uncertainty as to whether the exhaustion requirement was jurisdictional, but it ultimately concluded that it was. 

The Court also reviewed the three general grounds for avoiding an exhaustion requirement.  The District Court quoted McCarthy v. Madigan, 503 U.S. 140 (1992), as follows:

This Court’s precedents have recognized at least three broad sets of circumstances in which the interests of the individual weigh heavily against requiring administrative exhaustion. First, requiring resort to the administrative remedy may occasion undue prejudice to subsequent assertion of a court action. Such prejudice may result, for example, from an unreasonable or indefinite timeframe for administrative action.

Second, an administrative remedy may be inadequate “because of some doubt as to whether the agency was empowered to grant effective relief.” [citation omitted]  For example, an agency, as a preliminary matter, may be unable to consider whether to grant relief because it lacks institutional competence to resolve the particular type of issue presented, such as the constitutionality of a statute.

Third, an administrative remedy may be inadequate where the administrative body is shown to be biased or otherwise has predetermined the issue before it.