[authors: Alan S. Kaplinsky, Mark J. Levin]
Although much attention has been paid in the past few years to the enforceability of class action waivers in consumer arbitration agreements, a recent federal appeals court opinion is a stark reminder that there must be an enforceable "agreement" to arbitrate in the first place. This threshold contract issue can be particularly thorny in Internet transactions.
Plaintiffs in Schnabel v. Trilegiant Corp., decided on September 7, 2012, brought a class action alleging that the defendants, who marketed and sold online programs that offered discounts on goods and services in exchange for a membership fee, fraudulently induced them into paying for an online discount program. The defendants moved to compel individual arbitration, arguing that the plaintiffs' electronic agreement contained an arbitration provision with a class action waiver.
Affirming the district court's refusal to compel arbitration, the U.S. Court of Appeals for the Second Circuit found that no arbitration agreement was formed because the arbitration provision was not disclosed on the online enrollment page at the time of contract formation. (Although defendants argued that a click on the "terms and conditions" hyperlink on the enrollment page would have disclosed the arbitration provision, the Second Circuit held that the defendants waived that argument by not raising it in the district court.)
Moreover, although the arbitration provision was subsequently e-mailed to plaintiffs after they had enrolled in the program, the court held that even if plaintiffs had received that e-mail, it did not bind them to the arbitration provision. The Second Circuit rejected the defendants' argument that the plaintiffs were bound by the arbitration provision because they failed to cancel their membership after receiving the subsequent e-mail.
The court explained that "where the purported assent is largely passive, the contract-formation question will often turn on whether a reasonably prudent offeree would be on notice of the term at issue." It further explained that inquiry notice (i.e., "actual notice of circumstances sufficient to put a prudent man upon inquiry") turns on various factors such as the conspicuousness of the disclosure, the course of dealing between the parties, and industry practices. The Second Circuit concluded: "We do not think that an unsolicited email from an online consumer business puts recipients on inquiry notice of the terms enclosed in that email and those terms' relationship to a service in which the recipients had already enrolled, and that a failure to act affirmatively to cancel the membership will, alone, constitute assent." (Emphasis in original.)
Credit card companies, banks, and other consumer financial services companies often add arbitration provisions to their existing contracts through "change of terms" procedures. Typically, in the original agreement, the company expressly reserves the right to amend the agreement. The vast majority of courts have upheld such procedures. Unlike those cases, however, the enrollment agreement in Schnabel did not convey that separate, future terms would become part of the contract or that the future terms would be accepted if the contract was not cancelled. "Ultimately," the Second Circuit stated, "the touchstone of the analysis is whether reasonable people in the position of the parties would have known about the terms and the conduct that would be required to assent to them."
Schnabel underscores the importance of ensuring that the arbitration provision has a firm contractual foundation. Although the U.S. Supreme Court held in AT&T Mobility, LLC v. Concepcion that state unconscionability law is preempted by the Federal Arbitration Act, whether or not an "agreement" to arbitrate exists is generally a matter of state contract law. We routinely counsel financial services companies on the procedures for implementing arbitration programs contractually, both in original agreements and through change of terms procedures.
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