The Court holds that the FAA preempts certain state laws and rules that state courts must order arbitration under the FAA unless an exception applies.

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Southland Corp. v. Keating, 465 U.S. 1 (1984)
 

Relevant Facts: A group of franchisees came together as a class and sued Southland Corp., a franchisor of 7-Eleven convenience stores, in state court alleging fraud, misrepresentation, breach of contract, and violations of state franchise disclosure laws. Southland sought to compel arbitration based on an arbitration clause embedded in its franchise agreement, and was successful on all but the state franchise law claims. The state appellate court reversed in part, holding that to disallow the claims to proceed in arbitration would be in direct conflict with the FAA. The state supreme court disagreed with the appeals court and reversed, holding the state laws at issue specifically required judicial enforcement and refusal to compel arbitration on those claims did not conflict with the FAA.

 

Question Before The Court: Whether a state franchise statute conflicted with the FAA to the extent that it was preempted under the Supremacy Clause of the United States Constitution, and whether state courts have the requisite subject matter jurisdiction to grant motions to compel arbitration.

 

The Opinion: The Court reviewed this case, in part, to resolve a divide between enforcement of the arbitration clauses in state versus federal courts. The Court held that “[i]n enacting Section 2 of the FAA, Congress declared a national federal policy favoring arbitration and withdrew the power of states to require a judicial forum for the resolution of claims which the contracting parties agreed to resolve by arbitration. . .. the purpose of the Act was to assure those who desired arbitration and whose contract related to interstate commerce that their expectations would not be undermined by federal judges.”

 

The Court’s views here were based on the supposition that parties to a contract were sophisticated businessmen that had thoughtfully negotiated all the terms of their contract. It was on that premise that the Court determined Congress’ intent in passing the FAA was to “place arbitration agreements upon the same footing as other contracts.”

 

The Court declared that “Congress has mandated the enforcement of arbitration agreements,” and there are “only two limitations on the enforceability of arbitration provisions governed by the FAA: they must be part of a written maritime contract or contract ‘evidencing a transaction in commerce,’ and such clauses may be revoked [under the Section 2 “savings clause”] upon ‘such grounds as exist at law or in equity for the revocation of any contract.’” The majority found that the savings clause did not apply in this case as it is limited in its application only to “any general contract defense” that would serve to revoke all contracts anywhere (like fraud or undue influence). The savings clause does not include contract defenses that are only available under a particular state’s law. The Court expressed concern that upholding the state supreme court’s interpretation of the law would encourage and reward forum-shopping, and held that the state’s franchise disclosure law was preempted by the FAA under the Supremacy Clause.

 

The Court reasoned that “[s]ince the overwhelming proportion of civil litigation in this country is in the state courts, Congress could not have intended to limit the [FAA] to disputes subject only to federal court jurisdiction.” The Court in order to give the FAA its full effect, held that state courts do have the requisite jurisdiction to grant Motions to Compel Arbitration under Section 4 of the FAA and must do so unless the savings clause in Section 2 applies. This monumental assertion opened the door to all kinds of statutory claims being forced into arbitration. As Justice Stevens observed in his dissent, “the FAA was never meant to encroach upon individual states.” Yet, because the majority was “unwilling to attribute to Congress the intent . . . to create a right to enforce an arbitration contract and yet make the right dependent for its enforcement on the particular forum in which it is asserted” the effect of this ruling was to require state court judges to enforce arbitration clauses under the FAA at the expense their own state’s employee and consumer protections.

 

Justice Sandra Day O’Connor, in a separate dissent, focused on the majority’s emphatic resolution that specific performance should somehow be exclusive remedy for breaches of arbitration clauses—a declaration that modernly props up forced arbitration as much as anything. Justice O’Connor rightly observed that in 1925, “common law jurisdictions that enforced arbitration agreements did so in at least three different ways—through actions for damages, actions for specific enforcement, or by enforcing sanctions imposed by trade and commercial associations on members who violated arbitration agreements. In 1925, a forum allowing any one of these remedies would have been thought to recognize the ‘validity’ and ‘enforceability’ of arbitration clauses.” Were courts still permitted to award damages when a party objects to arbitration as an alternative to ordering all claims into secret, privately-paid proceedings, America’s arbitration landscape would look very different today.

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