California Court of Appeals split on whether manufacturers can enforce arbitration provisions in car sale contracts

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On April 4, 2023, the California Court of Appeal’s Second District affirmed the trial court’s ruling in Ochoa v. Ford Motor Company and related cases, denying Ford’s motion to compel arbitration in a Lemon Law lawsuit. In so doing, the Second District split from the Court of Appeal’s Third District’s 2020 holding Felisilda v. FCA US LLC holding manufacturers could enforce arbitration provisions in car sale contracts between dealers and customers.

All of the plaintiffs’ complaints subject to the Ochoa appeal alleged breach of warranty claims under the Song-Beverly and Magnuson-Moss Acts, commonly referred to as Lemon Law claims. Each of the underlying cases plaintiffs had entered into a pre-printed Retail Installment Sale Contract – Simple Finance Charge (with Arbitration Provision) (“RISC”) to purchase a Ford vehicle, manufactured by Ford Motor Company.

The Ochoa Court began its analysis by observing that each RISC was entered into between the customer and the dealer and that Ford Motor Company was not a party nor identified by name in the RISCs. The Court of Appeal further noted that the RISCs contained other add-ons the customer could buy and finance through the dealer, such as vehicle insurance and credit insurance from a third-party, and that while the contracts contemplate the purchase of service warranties and insurance contracts relating to the vehicle, they do not contain specific terms of any of those contracts, do not contain any terms of warranty coverage and expressly disclaim any warranty from the dealership with the qualification that the warranty disclaimer does not affect any warranty covering the vehicles that the manufacturer may provide.

The Ochoa Court focused on key language from the RISCs’ arbitration provision that “either you or we may choose to have any dispute between us, decided by arbitration, and not in court, or by jury trial” and that “any claim or dispute, whether in contract, tort, statute, or otherwise (including the interpretation and scope of this arbitration, provision, and the arbitrability of the claims or dispute), between you and us, or our employees agents, successors, or assigns, which arises out of or relates to your credit, application, purchase, or condition of this vehicle, this contract, or any resulting transaction or relationship (including any such relationship with third parties, who did not sign his contract), shall, at your or our election be resolved by neutral, binding arbitration, and not by a court action.)”

In each of the cases subject to the Ochoa appeal plaintiffs experienced problems with the transmissions of Ford Focus and Fiesta model vehicles. The cases were initially brought in 2015 and 2016 naming Ford Motor Company as a defendant but not suing the respective dealer parties to the sale contracts. While the arbitration provisions in RISCs are governed by the Federal Arbitration Act, the threshold issue of whether the vehicle manufacturer and customer formed a valid agreement to arbitrate their disputes is determined as a matter of California contract law.

As a non-signatory to the RISC, in order to enforce the arbitration provision, Ford would need establish one of three legal theories: equitable estoppel, third-party beneficiary, or undisclosed principle. The Ochoa court began its analysis of whether equitable estoppel applied by noting that in order for equitable estoppel to apply the causes of action against the non-signatory must be intimately founded in, and intertwined with, the underlying contract obligations. Ford argued that plaintiffs’ claims were intimately founded and intertwined with the underlying obligations of the sales contract because the contracts between plaintiffs and the dealers gave plaintiffs certain contractual rights that they were suing on, namely warranty claims against the manufacturer. The Ochoa court rejected that argument and in so doing split with the Third District’s holding in Felisilda that equitable estoppel required vehicle purchasers to arbitrate their claims against the manufacturer pursuant to the dealer sale contract containing the same form arbitration provision at issue in the Ochoa cases. The Felisilda court found that because the condition of the vehicle was the subject matter of the claims at issue, the claims were arbitrable under the RISC, that the RISC was the source of the warranties which the customers claimed had been violated, and that the customers had expressly agreed to arbitrate claims arising out of the condition of the vehicle, even against third-party, non-signatories to the RISC.

In disagreeing with the Third District’s analysis, the Ochoa court first observed that in Felisilda, as well as an Ochoa, it was plaintiffs and the dealer that agreed to arbitrate disputes between them about the condition of the vehicle, and that as a non-party to the contract, the manufacturer has no right to demand arbitration. The Ochoa court did comment that equitable estoppel would apply if the plaintiffs had sued the manufacturer based on the terms of the sale contract.

The Ochoa court further observed that a manufacturer’s vehicle warranty that accompanies the sale of a motor vehicle applies independently of any terms contained in the sale contract between the customer and the dealer. The Ochoa Court also disagreed with the Felisilda court’s interpretation of the contract broadly, calling for arbitration of claims against third-party non-signatories, noting the Ochoa that the language in the arbitration provision referring to the arbitrability of claims arising from contracts with third parties, applies to the subject matter of the claims, and not to claims against parties who did not sign the contract, further, noting that the contract says nothing about binding the customer to arbitrate with a universe of unnamed third parties.

The Ochoa court next found that none of the claims that issue in Felisilda or Ochoa alleged violations of the expressed terms of the sales contract, rather plaintiffs‘ claims were based on statutory obligations requiring the manufacturer to reimburse consumers or replace their vehicles when unable to repair im compliance with the warranties. Observing that none of the sales contracts included any warranty, nor any assurance of the quality of the vehicle sold, nor promise of repair, or other remedies in the event the vehicle manifested issues. Noting to the contrary, that the sales contracts expressly disclaim any warranty on the part of the dealers and that the substantive terms of the sales contracts relate only to the sale and financing of the vehicle, and stated that California law has long held that a manufacturer’s warranty obligations arise outside of the four corners of the sale contract between the dealer and its customer.

The Ochoa court next addressed Ford’s argument that it should be entitled to enforce the arbitration provision because it was a third-party beneficiary of the sale contract, holding that a third-party beneficiary can only enforce a contract if the contract is made expressly for his benefit, and that persons only incidental or remotely benefited from a contract do not qualify as a third party beneficiary. To show contracts and parties intended to benefit a third-party, it must be shown that: (1) the third-party would in fact benefit from the contract; (2) that a motivating purpose of the contract was to provide the benefit to the third-party and (3) permitting, the third-party to enforce the contract is consistent with the objectives and reasonable expectation of the parties to the contract.

Ford argued that it benefited from sales contracts for vehicles they manufactured because arbitration is an efficient means of dispute resolution. In holding that vehicle manufacturers are not third-party beneficiaries to a sale contract between the dealer and the customer the Ochoa court observed that nothing in the contract or arbitration provision offer any direct benefit to the manufacturer, noting that the benefits of the contract and the arbitration provisions therein are expressly limited to those persons who might rely on it to avoid proceeding in court, i.e. the purchaser, the dealer and the dealers employees agents, successors, or assigns, as expressly stated in the provision. The Ochoa court further observed that if the signatories to the contract had intended to benefit vehicle manufacturers, such a purpose could have been easily articulated in the arbitration provision, and that the arbitration provision expressly states that either you or we - the purpose, purchaser or dealer – may choose to have any dispute between us, decided by arbitration. In the concluding that manufactures are not third-party beneficiaries of a vehicle sales contract entitled to enforce the arbitration provision, the court held, it would be inconsistent with the reasonable expectations of the contracting parties where the arbitration provision twice specifically provides that the right of enforcement of the arbitration is for the purchaser and dealer only.

Finally in addressing Ford’s argument that it is entitled to provide, or enforce the arbitration provision based on an agency relationship between the manufacturer and the dealer, the Ochoa court noted there was no connection with the plaintiffs’ claims against the manufacturer and any alleged agency relationship between the manufacturer and the dealer, noting that while some of the plaintiffs’ complaints allege agency between the manufacture and the dealer, those agency allegations are specific to vehicle repairs, which does not create an agency relationship between manufacturers and the dealers as to the sales of vehicles to consumers. The Ochoa court further noted that Ford expressly reserved the right to dispute any such agency allegation at trial.

In rejecting Ford’s argument that plaintiffs’ fraudulent concealment allegations allege an agency relationship, giving rise to its right to enforce the RISC’s arbitration provision, the Ochoa court held that while Ford was alleged to have communicated some information about vehicle defects to the dealers there were no allegations in any of the subjects complaints that the dealers knew legally significant information which Ford allegedly concealed from plaintiffs. The Ochoa Court held that only an entity alleged to have full knowledge of the relevant facts allegedly concealed, knowledge that is superior and exclusive, would be the manufacturer.

The Ochoa Court further observed that even if plaintiff did adequately allege that the dealers acted as Ford agents and misrepresented the quality of vehicles prior to sell any such nexus with the sales contract, and that the right to compel arbitration would be lacking.

With California courts now split as to whether a manufacturer can rely on an arbitration provision in a retail vehicle sales contract to compel plaintiffs bringing warranty claims against manufacturers to arbitration, it is uncertain as to how trial courts will decide the arbitrability of such claims For the time being as there is conflicting authority from the court of appeal, this issue is ripe for appeal to the California Supreme Court. In the meantime it is likely that dealerships are less likely to be named as tagalong Defendants in lemon law lawsuits where plaintiffs’ attorneys generally view state courts as a more favorable form than arbitration. It is also anticipated the manufacturers may try and create a contractual relationship with and purchasers of its vehicles. For example, a delivery contract containing an arbitration provision. But at least for time being, In light of the Ochoa opinion, dealers can expect a decline in the number of lemon law lawsuits they are named in.