In Esparza v. KS Industries, L.P., 2017 WL 3276363 (2017), the Fifth District Court of Appeal recently clarified the arbitrability of certain claims brought under the Private Attorneys General Act (“PAGA”).  Previously, in Iskanian v. CLS Transp. Los Angeles, LLC, 59 Cal.4th 348 (2014), the California Supreme Court held that PAGA representative actions for civil penalties are not subject to arbitration (the “Iskanian rule”). This decision led to a spate of actions by plaintiffs who signed valid and enforceable arbitration agreements asserting only PAGA claims, in an attempt to circumvent arbitration. This has been a significant hurdle to many employers, who have been forced to defend PAGA-only actions in civil court, despite the fact that their employees signed valid and enforceable arbitration agreements. Esparza offers a potential carve out to Iskanian that employers should be aware of.

In Esparza, a former employee alleged violations of various Labor Code provisions and sought to recover on behalf of himself and other current and former employees under PAGA. The plaintiff did not solely seek civil penalties under the PAGA statute itself, but also sought to recover penalties in the form of allegedly unpaid wages pursuant to Labor Code section 558.  An appellate decision, Thurman v. Bayshore Transit, 203 Cal. App. 4th 1112 (2012), had held that the recovery of unpaid wages was actually part of the “civil penalty” provided under Section 558. The defendant filed a motion to compel arbitration of the employee’s claims to recover unpaid wages under Section 558. The plaintiff responded by arguing that PAGA claims cannot be arbitrated under the Iskanian rule. The trial court agreed and denied the motion to compel arbitration.

The defendant appealed.  In the appeal, the defense conceded that under the Iskanian rule, an employer cannot compel individual arbitration of a PAGA claim to the extent the claim seeks to recover “civil penalties,” where 75 percent of the recovered amount is allocated to the state.  However, the defense argued that, however one labels the recovery of unpaid wages under Section 558, the statute expressly provides that the recovered wages should go entirely to the employee who earned them and nothing to the state. Given that the basis for the California Supreme Court holding that PAGA claims were not subject to mandatory arbitration was that the actions are really brought on behalf of the state to recover penalties for the state, there was no reason why a lawsuit to recover individual employee wages would be covered by such reasoning. The Court agreed and found that the employee’s claim for unpaid wages under Labor Code section 558, although asserted as part of a PAGA claim, was “a private dispute arising out of his employment contract with [the employer].” The Court noted that “preventing arbitration of a claim for unpaid wages would interfere with the Federal Arbitration Act’s goal of promoting arbitration as a forum for private dispute resolution.” Therefore, the Court concluded that the plaintiff’s claims for individual recovery under Labor Code section 558 was subject to arbitration.

What is the significance of Esparza for employers?

Plaintiffs often assert a claim for unpaid wages under Labor Code section 558 under the PAGA statute. Going forward, if an employee has signed a valid and enforceable arbitration agreement and asserts a claim under Labor Code section 558 in a PAGA-only lawsuit, it may be subject to arbitration. Furthermore, if the plaintiff refuses to dismiss the claim, the general rule is that his arbitrable claims would be decided in arbitration first while his other PAGA claims would be stayed. If an employer obtained a favorable ruling in the arbitration, it would be able to argue that the plaintiff is not an aggrieved employee and, therefore, could not proceed with his claim for actual civil penalties under Section 558. At a minimum, this will pressure a plaintiff who wants to avoid individual arbitration to dismiss the Section 558 claim to recover wages.

Esparza is a prime example that the law regarding arbitration agreements in California is constantly in flux. Employers should make sure to review their arbitration agreements to ensure that they continue to comply with both California and federal law.