Rick Freeman Commentary One argument that is regularly made by lawyers who are attempting to compel arbitration is to ask the Court to reform the arbitration clause in some way, if the Court feels that the arbitration clause is so unfair or one-sided that it could be unconscionable. This is generally a difficult argument to rebut if you are the lawyer arguing the effect of the unfairness or one-sidedness of an arbitration provision. You argue: Judge, the cost of the arbitration is too high on my client. Don’t compel arbitration. The other lawyer argues in rebuttal: Judge if you think the cost is too high, my client, in the goodness of his or her heart, will pay the arbitration costs. That takes care of any unfairness. Just compel the arbitration. The same type of argument is made whatever unconscionable provision is alleged. The lawyer defending the arbitration clause tells the judge to remove or revise the offending clause – but to enforce the rest of the arbitration provision. In an interesting 2004 decision by the United States Court of Appeals for the Sixth Circuit, the Court ruled that it was PROPER for the District Court to reject an employer’s offer to pay the employee’s arbitration costs. The case is Tonya Cooper v. MRM Investment Company. Cooper was employed by MRM as a manager of an MRM owned restaurant. She alleged she was sexually harassed and constructively discharged. She filed suit under Title VII. MRM moved to compel arbitration pursuant to a pre-employment agreement. The District Court refused to compel the arbitration on several grounds, including that the cost of the arbitration was unduly high on the employee. The Court of Appeals, in a very detailed opinion, discussed all the grounds cited by the District Court and overturned all of the grounds except for the high cost. The Court of Appeals remanded the case to the District Court for an evidentiary hearing to determine the effect of the costs to be paid by the employee. A very interesting part of the opinion deals with an offer made by MRM to pay the arbitration costs of Cooper. The MRM lawyer told the District Court that, notwithstanding the arbitration provisions, MRM would pay ALL the costs of the arbitration, including the employee’s cost. The MRM lawyer then argued that any unfairness was removed. The Appeals Court ruled that the District Court’s decision to refuse to, in effect, re-write the arbitration provision was sound as a matter of federal public policy. The Court went on to state that: An employer will not be deterred from routinely inserting a deliberately illegal clause into the arbitration agreement it mandates for its employees if it knows that the worst penalty for such illegality is the severance of the clause after the employee has litigated the matter. Further, the Court cited a North Dakota case that refused to consider such an offer saying that accepting the defendant’s offer to pay all arbitration costs, contrary to the contract, would effectively allow the defendant to unilaterally modify the contract. In a footnote, the Appeals Court instructed the District Court, that on rehearing, the employee’s relevant costs were her out-of-pocket costs without reference to the possibility that she might later recoup some of them. The Court stated: Hence, the District Court shall consider neither the arbitrator’s possible award of fees and expenses to Cooper pursuant to the AAA Rules, nor MRM’s offer to pay Cooper’s arbitration costs. In summary, a Court should refuse to consider the argument made by the above lawyer who was attempting to compel arbitration. An arbitration provision cannot be written with unconscionable provisions which can then be waived when they are objected to as unconscionable.

Today, the Texas Supreme Court handed down an opinion on three certified questions from the Fifth Circuit which construes Section 5.077 of the Texas Property Code, which deals with accounting requirements the Code places on sellers of real property pursuant to executory contracts. Justice Medina wrote for the six-Justice majority, Justice Wainright wrote a concurring opinion, and three Justices dissented. Section 5.077(a) of the Property Code requires that a seller of real property under an executory contract provide the purchaser with an annual accounting statement for each year of the contract. Section 5.077(b) provides a list of items that must be included in the statement. Section 5.077(c) provides that a seller who fails to comply with 5.077(a) is liable to the purchaser for liquidated damages of $250.00 per day of noncompliance, as well as reasonable attorneys’ fees. The Fifth Circuit wanted to know if a seller was liable for liquidated damages under 5.077(c) when the seller timely provided an accounting statement, but that the statement did not included some of the information clearly required by 5.077(b). The majority here answered “no,” stating that since the liquidated damages provision only referred to 5.077(a), the requirement of an accounting, the seller who provides some kind of good faith effort to keep the purchaser apprised of their contractual relationship is not liable to the purchase under 5.077(c). The dissent notes that since Section 5.077(b) provides that certain mandatory accountings be included in the statement required by 5.077(a), a statement delivered purportedly pursuant to 5.077(a) is not in fact an accounting statement at all unless it fully complies with 5.077(b). Thus, according to the dissent, “In answering the first certified question, the Court “strictly” construes the statute to require fewer items than the statute itself says “must” be included. That is not a very strict construction. Nor does it comply with the legislative mandate that we give the entire statute effect.” Cause No. 04-1003 Arturo Flores, et al. v. Millennium Interests, Ltd., et al. Technorati Tags: litigation, Texas Supreme Court, law

Rick Freeman Commentary Following up on my article last week regarding the Olshan case – in which the San Antonio Court of Appeals found that the high cost of the required arbitration to be “shocking” and unconscionable and therefore the arbitration provision was unenforceable – I want to examine two appellate cases decided in 2004 that discuss substantive unconscionablity. In the first case, Pine Ridge Homes, Inc. v. Stone, the Dallas Court of Appeals evaluated the fairness of an arbitration provision in a contract involving the purchase of a house. In this case, the home purchasers, the Stones, paid $5,000 in earnest money and signed a contract to purchase a house from Pine Ridge Homes. The contract included an arbitration provision. Pine Ridge Homes refused to agree with the proposed mortgage company to include the statutorily required retainage provision. Because of this refusal the mortgage company refused to provide financing for the house. The Stones canceled the contract to purchase the house and requested that their $5,000 earnest money be returned. Pine Ridge Homes refused to return the money. The arbitration provision in question provided that the party who demanded arbitration had to pay all arbitration fees for both parties. The court examined the contract provisions and determined that Pine Ridge Homes had a remedy that did not require arbitration — keeping the earnest money. The Stones, on the other hand, had no remedy without going through arbitration. So the Stones would be required to pay the arbitration fees for both sides in any dispute they brought while Pine Ridge Homes could retain the earnest money and never pay any arbitration fees. Based on this one-sidedness, the appellate court ruled that the arbitration provision was so unfair and one-sided that it was unconscionable and therefore unenforceable. In the second case, In Re Johnny Luna, the Houston 1st Court of Appeals ruled that the arbitration provision in this employment setting was substantively unconscionable. In this case, Johnny Luna, the employee was required to sign an arbitration agreement in order to go to work for Poly America. The arbitration provision required that any and all job-related disputes be arbitrated. Luna was injured on the job and filed a workers compensation claim. Poly America then fired Luna. Luna filed suit alleging wrongful discharge and retaliation due to his filing a workers compensation claim. Poly America demanded arbitration. Luna objected on the basis that the cost to him of the arbitration was so high that it effectively prevented him from asserting his legal rights. In addition, Luna alleged that the arbitration agreement limited the remedies that he should have had under the Labor Code wrongful discharge and retaliation statute. First, the Court evaluated the substantive effect of each of Luna’s allegations individually. I recommend that you read the Court’s opinion for its discussion of the substantive effect of each of Luna’s individual allegations. The Court then evaluated the arbitration provisions when taken as a whole. The Court ruled that the arbitration agreement, when taken as a whole, was substantively unconscionable and therefore unenforceable because of the combination of its high costs to Luna and its limitation on the statutorily available remedies available to Luna. These two cases along with Olshan, when read together, provide a “road map” to those drafting arbitration agreements. Arbitration cannot be so expensive that it effectively defeats the ability of a party to litigate its claim. Arbitration costs cannot be placed completely on one party while allowing the other party a remedy that does not require arbitration. The arbitration provision should not significantly eliminate statutorily provided rights or remedies of a party, especially if some of the other “unfair” provisions are also contained in the arbitration provision. In other words, when considered as a whole, there needs to be some indicia of fairness and lack of one-sidedness in the arbitration provision. If there is some fairness in the arbitration provision, it is unlikely that the arbitration provision will be declared substantively unconscionable.

Today, a divided panel of the Third Court of Appeals issued an opinion in a case involving the deregulation of Texas’ retail electricity market. Justice Pemberton wrote for the majority, he and Justice Patterson; Justice Smith issued a dissenting opinion. Rather than try to summarize a detailed pair of opinions on a complex regulatory issue, I will simply quote Justice Pemberton’s summary of the case and the majority’s position: This case presents three sets of issues arising from Texas’s transition from a wholly regulated retail electricity market. First, we will consider the extent to which the Public Utility Commission had power to order electric utilities to refund alleged “over-mitigation” of their stranded costs, as determined from interim computer models, before the final 2004 true-up proceedings. Second, we will determine whether substantial evidence supports the Commission’s characterization of Nuclear Electric Insurance Limited (NEIL) account balances as generation-related rather than transmission-related. Third, we will address whether the Commission may set demand charges for large commercial customers greater than those it set before deregulation. Because we determine that the Commission exceeded its statutory authority in ordering refunds of “over-mitigated” stranded costs determined before the 2004 true-ups, we will reverse the portion of the district court’s judgment compelling such refunds and remand to the Commission for further proceedings. However, we will affirm the district court’s judgment affirming the Commission’s disposition of the issues concerning NEIL member accounts and demand charges. Justice Smith, in her dissent, summarizes as follows: While I join the majority in affirming the Commission’s handling of the member account balances with Nuclear Electric Insurance Limited and the demand charge issues, I strongly disagree that prior to 2004 the Commission lacked the authority to require AEP Texas Central Company to refund the excess earnings it had retained to accelerate the recovery of stranded costs when changed market circumstances eliminated the prospect of any stranded costs. I would hold that the Commission’s action is entitled to deference because (1) it was a reasonable method of meeting its statutory obligations of encouraging “full and fair competition among all providers of electricity” and preventing the overrecovery of stranded costs, see Tex. Util. Code Ann. §§ 39.001(b)(1), .262(a) (West Supp. 2004-05); and (2) it did not conflict with any express provision, or the overall intent, of PURA Chapter 39. See City of Austin v. Southwestern Bell Tel. Co., 92 S.W.3d 434, 441-42 (Tex. 2002) (we give weight to Commission’s interpretation of its own powers if it is reasonable and not inconsistent with statute); Southwestern Bell Telephone Co. v. Public Util. Comm’n, 863 S.W.2d 754, 758 (Tex. App.–Austin 1993, writ denied) (we defer to agency’s construction of statute that agency is charged with enforcing). Cause No. 03-03-00428-CV Cities of Corpus Christi, et al. v. Public Utility Commission of Texas, et al. The Court also issued a memorandum opinion in a juvenile delinquency case.