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The California Court of Appeal held that an arbitration agreement precluding the recovery of exemplary or punitive damages, prohibiting class-wide arbitration, and requiring arbitration of California franchisee claims in New York was substantively unconscionable and, when coupled with oppression and unfair surprise, unenforceable.
In McGuire v. CoolBrands Smoothies Franchise, LLC, No. H030202, 2007 WL 2381545 (Cal. Ct. App. Aug. 22, 2007), McGuire entered into a contract as a California franchisee of CoolBrands. The contract contained an arbitration agreement requiring that all controversies, disputes, or claims arising out of or related to the contract be subject to arbitration.
The arbitration agreement contained a prohibition on exemplary or punitive damages, an allowance for CoolBrands to recover its attorney and other professional fees in enforcing the agreement, a New York arbitration venue and choice of law provision, and a prohibition on class-wide arbitration. However, McGuire was also presented with a "California Appendix" before he signed the contract, which suggested that some or all of the above restrictions in the document might be unenforceable under California franchising laws.
Later, McGuire brought claims against CoolBrands for breach of the franchise contract, fraud, negligent misrepresentation, and other statutory violations. CoolBrands responded by petitioning to compel arbitration of the claims. McGuire opposed the petition, alleging that the contract was unconscionable and unenforceable under California law. Without comment, the trial court denied the petition to compel, and CoolBrands appealed.
The Court affirmed, holding that the restrictions within the franchising agreement were both procedurally and substantively unconscionable. Furthermore, the Court found that the unconscionable defects in the agreement were so numerous that unconscionability permeated the entire agreement and "warranted nonenforcement."
First, the Court found the arbitration agreement procedurally unconscionable. The Court acknowledged that the adhesive nature of the contract was not sufficient by itself to render it procedurally unconscionable. Rather, its adhesive nature plus the unfair surprise of enforcing provisions allegedly disclaimed as to McGuire in the "California Appendix" together warranted a finding of procedural unconscionability.
Next, the Court found the arbitration agreement substantively unconscionable. Noting that the provisions of the agreement seemed "ostensibly bilateral" and enforceable against both parties, the Court looked to the operation of the provisions, and found them to be unfairly one-sided against McGuire.
Specifically, the Court was troubled by the practical effects of the prohibition on exemplary and punitive damages, the ban on class arbitration, and the New York forum selection clause. According to the Court, the preclusion of exemplary and punitive damages was "likely to operate to the one-sided benefit of the franchisor and insulate it from full liability." The ban on class arbitration, according to the Court, would be one-sided because "any collective proceeding would involve multiple franchisees joining together against a single franchisor and not vice versa." Finally, the Court disapproved of the burden imposed on California franchisees "arbitrating claims concerning a California franchise in New York."
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