Opinion
Nos. C-02-2700-SC, C-02-2701-SC, C-02-2702-SC (Consolidated)
October 17, 2002
JUDGMENT
In accordance with the Court's Order Granting Petitioners 1 Motion to Compel Arbitration, it is hereby ORDERED, ADJUDGED, and DECREED that:
Judgment shall be entered in this action compelling arbitration.
ORDER GRANTING PETITIONERS' MOTION TO COMPEL ARBITRATION
I. INTRODUCTION
This case turns on the validity of an arbitration clause in an allegedly illegal contract. Petitioners argue that the arbitration clause is binding. Respondents Contend that the arbitration clause is contained within an illegal contract cannot be enforceable. For the following reasons, this court finds that the arbitration clause is enforceable and grants Petitioners' motion to compel arbitration.
Plaintiffs Tom Lonesky and Lisa Hymer have stipulated to an agreement regarding Solar Planet's motion to compel arbitration. This motion concerns only the Tiptons' suit.
II. BACKGROUND
In May, 2000, respondents Bill and Casey Tipton signed a licensing agreement with petitioner Solar Planet and entered the tanning salon business. Under the agreement, the Tiptons were allowed to use Solar Planet's name and logo on their salon. They also received both training and business advice from Solar Planet. In addition, they were to receive the exclusive right, within the city of Walnut Creek, California, to use a certain brand of German-manufactured tanning beds. The license agreement included a statement that "any controversy among the parties involving the construction or application of any of the terms, covenants or conditions of this Agreement shall, upon written request of one Party . . . be submitted to binding arbitration." Complaint, Exhibit 1, page 7.
The Tiptons' salon was unsuccessful. Early in 2002, the salon closed and the Tiptons moved to North Carolina, where they now reside. Following their move, the Tiptons sued Solar Planet in Contra Costa County Superior Court. Their complaint raised causes of action for fraud, breach of written contract, negligent misrepresentation, breach of the implied covenant of good faith and fair dealing, and violation of California's franchise investment law.
After the Tiptons declined its request for arbitration, Solar Planet petitioned this court to compel arbitration. It argues that the arbitrability of the claim is governed by the Federal Arbitration Act (FAA) and that any challenge to the contract even one alleging that the entire contract, including the arbitration clause, is illegal — must be asserted in arbitration. The Tiptons counter that the case lacks a sufficient nexus to interstate commerce for the FAA to govern, and that, even if the FAA does govern, illegality of the entire contract renders the arbitration clause void.
III. LEGAL STANDARD
A. Applicability of the FAA
Section 2 of the FAA applies to any arbitration provision in a "contract evidencing a transaction involving commerce." 9 U.S.C. § 2. The Supreme Court has construed this language to invoke the full extent of Congress's power to regulate interstate commerce. Allied-Bruce Terminix Companies, Inc. v. Dobson, 513 U.S. 265, 277 (1995). As a result, issues arising out of an arbitration provision in a contract implicating interstate commerce must be resolved in accordance with § 2 of the FAA.
B. Arbitration Clauses in Allegedly Invalid Contracts
The FAA furthers a general policy of encouraging arbitration. Sweet Dreams Unlimited, Inc. v. Dial-A-Mattress Intern., Ltd., 1 F.3d 639, 640 (7th Cir. 1993). In accordance with this policy, the Supreme Court and the Ninth Circuit have held that only in narrow circumstances may the validity of a contract containing an arbitration clause be determined outside of arbitration.
If the validity of the arbitration clause itself is challenged, that challenge must be heard by the courts, and states are free to invalidate arbitration clauses under any rules generally applicable to other sorts of contracts. If, however, the challenge is to the contract as a whole, and not just to the arbitration clause, the challenge almost always must be resolved by the arbitrator. Prima Paint Corp. v. Flood Conklin Mfg. Co., 388 U.S. 395 (1967) (holding that a party is bound by an arbitration clause even if it alleges it was fraudulently induced to enter into the contract as a whole); Teledyne, Inc. v. Kone Corp., 892 F.2d 1404, 1410 (9th Cir. 1989) (cases must be arbitrated "unless there is a challenge to the arbitration provision which is separate and distinct from any challenge to the underlying contract") (emphasis in original); see Dobson, 513 U.S. at 281 (O'Connor, J. concurring)
The Ninth Circuit has interpreted Prima Paint to allow a court to consider a limited set of challenges to the entire contract. If the existence of the underlying contract is challenged — in other words, if a party claims that no contract ever existed — that challenge may be resolved by the courts. Three Valleys Municipal Water District v. E.F. Hutton Co., 925 F.2d 1136 (9th Cir. 1991) (holding that a party is not bound by an arbitration clause if that party did not enter into the original contract). This rule is quite narrow, however. The Three Valleys Municipal Water District court was concerned that a party might forge a contract and then force the other party, who never agreed to the contract in the first place, to arbitrate its validity.Id. at 1140. The court limited its holding to the narrow class of cases in which the parties never reached an agreement, and differentiated cases in which a party seeks to rescind or avoid a contract, stating that such challenges were appropriately resolved by the arbitrator. Id. ("we readPrima Paint as limited to challenges seeking to avoid or rescind a contract — not to challenges going to the very existence of a contract that a party claims never to have agreed to"). Accordingly, a challenge to a voidable contract falls to the arbitrator to resolve. Id.
IV. DISCUSSION
A. Applicability of the FAA
The Tiptons argue that the licensing agreement lacks a nexus to interstate commerce. This argument overlooks the limitations the licensing agreement purportedly imposed upon interstate commerce. The Tiptons contend that the licensing agreement was to prevent the sale of German-manufactured beds to any other entity in Walnut Creek. Such a provision restrains, and therefore has a direct nexus to, interstate commerce, and regulation of the contract falls within Congress's interstate commerce power.
B. Validity of the Arbitration Clause
In the 9th Circuit, an arbitration clause in a voidable contract remains valid; only if the contract never existed or if there is some defect in the formation of the arbitration clause itself will that clause be invalid. Prima Paint, 388 U.S. 395; Three Valleys Municipal Water District, 925 F.2d 1136. Here, however, the contract was voidable and not void, and the arbitration clause remains in force.
The Tiptons argue that this contract violated California franchise contract laws, and that in California any illegal contract is void. California Corporations Code § 31300, however, specifically provides that a franchisee who has signed an illegal franchise contract may sue for damages or, if the violation was willful, for rescission. The availability of the latter remedy clearly indicates that the entire contract cannot automatically be void; a party could not rescind a contract that never existed. Accordingly, the Tiptons' contract with Solar Planet, even if it was a franchise contract, was not void, and the arbitration clause remains enforceable.
By suing for breach of contract, the Tiptons also appear to have admitted the existence of the contract, in contradiction of their present argument that the entire contract was void from its inception.
V. CONCLUSION
For the foregoing reasons, this Court grants petitioner's motion to compel arbitration.