A first-filed case related to a Law 75 action stays in Texas with personal jurisdiction over the Puerto Rico franchisee

Case law reported during the past two years, including in Law 75 actions, proves that the party who wins the race to the courthouse normally stays in the chosen forum. The lesson to be learned is that in a contractual dispute under Law 75, unless the parties have agreed to negotiate and stay the filing of actions, the best adage is “sue first and talk later” especially in the absence of a choice of forum clause.

In Metromedia Steakhouses Company v. BMJ Foods Puerto Rico, 2008 WL 794533 (N.D.Tex. Mar. 26, 2008), a franchisor and operator of Ponderosa steakhouses in Puerto Rico sued a franchisee first in state court in Texas, and later transferred to federal court, for wrongful withholding of fees under the franchise agreement. The franchisee responded with a suit in Puerto Rico local court for breach of contract presumably under Law 75, a case later removed to federal court.

In defending a motion to transfer, the franchisee argued that the Texas case was not first-filed because the Texas court had not asserted jurisdiction over the action, an argument which the federal court in Texas rejected. The franchisee failed to offer any evidence to prove that relevant factors, such as the convenience of third-party witnesses, favored transferring the case to Puerto Rico. Despite Puerto Rico courts’ greater familiarity with Law 75, the court found that the balance of all the other factors weighed in favor of keeping the case in Texas.

The court also asserted specific personal jurisdiction over the Puerto Rico franchisee from negotiating the contracts in Texas, exchanging correspondence and maintaining a business relationship over 10 years with the Texas franchisor and from business visits to Texas.

First-filed action in Puerto Rico plays a strategic role to oppose successfully a motion for change of venue of a Law 75 case to Ohio courts

Plaintiff is a distributor of industrial safety products and operates a chain of retail outlets under the “Safety Zone” brand. Defendants are various Ohio corporations that manufacture, distribute, and operate retail stores under the “Lehigh Outfitters” brand. After various acquisitions, plaintiff became the successor in interest or assignee of an exclusive distribution agreement of Georgia Boot and Dickies products in Puerto Rico.

Defendants’ sales of products within the exclusive territory of Puerto Rico provoked a Puerto Rico distributor to file an action in federal court in Puerto Rico for impairment and termination damages under Law 75 and a claim for abuse of process under the Civil Code. New York Wiping and Industrial Product Company v. Rocky Brands, Inc., 2009 WL 2843336 (D.P.R. Aug. 31, 2009)(JAF).

One day later, defendants aggressively countered plaintiff’s lawsuit with a notice of termination of the agreement and a few days later with an action for trademark infringement and unfair business practices filed in Ohio state court and since removed to Ohio federal court.

In the Puerto Rico action, defendants moved for dismissal or transfer, and the court denied the motion. “Where the parties have filed two actions in separate districts, however, and the actions are nearly identical, the first-filed action is generally preferred in a choice of venue decision." The court noted an exception to the first-filed rule in special circumstances when one party misleads the other not to file suit in anticipation of negotiation, an exception which defendants relied upon. The court, however, found no basis to apply the rule or the exception as the two cases were not identical. Thus, defendants were unable to rebut the strong presumption under federal law favoring plaintiff’s choice of forum in Puerto Rico, noting that “[d]efendants' ownership and operation of retail businesses within Puerto Rico precludes the possibility of inconvenience in litigating here.” On another note, the court dismissed sua sponte and with prejudice plaintiff’s abuse of process claim presumably from the litigation in Ohio as unripe and conjectural.

Liberty of contract is paramount over Law 75 when it is the dealer's fault for not renewing the agreement

It is well-settled that Law 75 creates, as a matter of public policy, an indefinite dealer-principal relationship unless the principal proves just cause to end it. By the same token, a provision in a dealer’s contract stipulating an expiration date is unenforceable for the principal must also have just cause not to renew the agreement. In those circumstances, Law 75 prevails over the terms of the contract.

Are there instances where liberty of contract can be reconciled with Law 75’s interests to preserve the relationship indefinitely absent just cause? Yes, at least where the dealer is solely responsible for the termination, according to Nike International v Athletic Sales, Inc., 689 F. Supp. 1235 (D.P.R. 1988). There, the principal argued that the distribution agreement ended on its own terms when the dealer failed to comply with a clear and unambiguous provision requiring prior notice of intent to renew it before its expiration. The dealer argued that the provision in the agreement was unenforceable as contrary to public policy in Law 75 which requires just cause for the principal to refuse to renew the agreement when it expires. The court rejected the dealer’s argument, reasoning that the provision was not offensive either to Law 75 or the Civil Code as the termination of the relationship was exclusively the dealer’s fault for failing to follow the clear terms of the agreement to renew it. In an often-quoted phrase, the court held “…the legislature did not intend that Law 75 be a safe-haven for dealers to avoid the express terms of the contracts to which they willingly subscribed, as is the case of the renewal notice requirement found in the instant contract.”

Nike stands for the proposition that Law 75 does not invalidate mutual contractual provisions specifying the manner in which the dealer must notify its intent to continue the relationship. Thus, Law 75 penalizes the principal when it acts unilaterally or subjectively to terminate the relationship without just cause, but Law 75 is not implicated when the termination is the dealer’s fault.

Is a constructive termination actionable under Law 75?

Law 75 contemplates liability in three circumstances, one, when the principal terminates the relationship for lack of just cause, two, when the principal refuses to renew the relationship (in effect, a termination), and three, when the principal impairs the relationship. The difference between impairment and termination is significant as it influences the measure of damages.

The underpinning of impairment is a breach of contractually-acquired rights. This means that the relationship continues but some essential and material contractual right of the distributor has been prejudiced by the principal’s actions. The notion of termination, however, presupposes on its face a rupture in the relationship. Conceivably, an impairment could be a termination when the essence of the agreement vanishes from the unjustified act by the principal, such as the unilateral conversion of an exclusive agreement into a non-exclusive relationship. At least one appellate decision has held that some types of impairments, for example, a principal’s termination of an exclusivity provision, are constructive terminations. “Constructive” in the sense that an essential component of the agreement has been canceled, but the relationship continues albeit in an impaired or lesser form. In these situations, the distributor has been able to claim the full measure of Law 75 damages from a termination. The impairment component of damages comes in by reducing the compensation by the benefits realized by the distributor from sales of the lines or products that continue despite the termination of the exclusivity.

In a related context, the U.S. Supreme Court in Mac's Shell Service Inc. v. Shell Oil Products Co., a franchise termination case brought under the federal PMPA (originating in the First Circuit) granted certiorari to consider whether the PMPA contemplates a claim for constructive termination and constructive non-renewal. Oral argument will be heard in January, 2010.

Is constructive termination actionable under Law 75, and if so, the scope of what it means, are unanswered questions by the federal courts and the Puerto Rico Supreme Court.

Puerto Rico Law 75 and changes in control or ownership of the distributor without prior notice and consent of the supplier

It is customary to secure the supplier’s consent when a distributor sells its assets, including its distribution rights, to a successor distributor. It is equally customary for written distribution agreements to require the supplier’s consent for the distributor’s assignment or transfer of the agreement.

Better business practices to avoid litigation suggest giving notice to obtain the supplier’s consent when the distributor sells its assets. After all, the buyer-distributor will normally dish out valuable consideration for the transfer or the assignment of rights and obligations that include or implicate the supplier or manufacturer’s ownership interests or goodwill. And, the manufacturer, as the trademark holder, has legitimate interests to ensure that the new distributor meets all the requirements for the sale or service of its branded products. It is said that a Law 75 relationship is like a partnership. Imagine becoming a partner without the co-partner's consent. Thus, problems arise when a distributor transfers or assigns its rights, whatever those rights may be, and the new distributor assumes the risk of paying valuable consideration for those rights, without the manufacturer’s consent. The case law on the topic of changes in the distributor’s control is scarce. And, Law 75 suggests an answer to only part of the issue.

Section 278(a)-1 of Law 75 provides:
"For the purposes of this chapter and specifically for the effects of § 278a of this title:

(a) The violation or nonperformance by a dealer of any provision included in the dealer's contract to prevent or restrict changes in the capital structure of the dealer's business, or changes in the managerial control of said business, or the manner or form of financing the operation, or to prevent or restrict the free sale, transfer or encumbrance of any corporate action, participation, right or interest that any person could have in said distribution business, shall not be considered as being just cause unless the principal or grantor shows that such nonperformance may affect, or has truly and effectively affected the interests of such principal or grantor in an adverse or substantial manner in the development of the market, distribution of the merchandise or rendering of services."

While no Puerto Rico state or federal court has interpreted or otherwise applied Section 278a1(a) of Law 75, the manufacturer could argue and attempt to prove that the transfer or assignment of a distribution agreement to a third party (who is not an affiliate of or controlled by the existing distributor) without its consent affects its interests adversely and substantially allowing it to terminate the agreement.

What happens between the manufacturer and the new distributor or the successor after the sale has been consummated? Most certainly, the manufacturer should not be bound to continue the relationship automatically, without more, as case law holds that Law 75 is not a straightjacket for a distributor to impose its will over the manufacturer.

Based on cases dealing with analogous issues, a principal has an interest to pursue good faith negotiations with the new distributor based on reasonable expectations regarding essential elements of the dealership, and terminate the relationship for “just cause” if the parties reach a bona fide impasse. R.W. Intern. Corp. v. Welch Foods, Inc., 88 F.3d 49, 53 (1st Cir. 1996), is instructive. There, the First Circuit affirmed summary judgment in favor of the principal after the latter proved that the parties had reached a bona fide impasse on an essential modification to the terms of their ongoing contract (i.e., whether the successor distributor would continue to handle competing product lines) and terminated the successor distributor. The court reached this conclusion after quoting its earlier decision in the same case, in which it stated:

“[A] supplier has just cause to terminate if it has bargained in good faith but has not been able to reach an agreement as to price, credit, or some other essential element of the dealership. This would be true at least where, as here, the supplier's market in Puerto Rico was well established before the current dealer relationship and the supplier's action therefore is not aimed at reaping the good will or clientele established by the dealer.”  R.W. Intern. Corp., 88 F.3d 49, 53 (internal quotation marks omitted), citing, R.W. Int'l Corp. v. Welch Foods, Inc., 13 F.3d 478, 484 & n. 4 (1st Cir. 1994).

Lessons learned:

Distributors beware! Seek the manufacturer’s consent to ratify existing agreements or enter into new distribution agreements before paying any money for transfers or assignments of distribution rights. Principals beware! In some circumstances, doing business with a new distributor without a formal written agreement may implicate Law 75 issues, provoking contract negotiations and litigation. It goes without saying that timely and competent legal advice will avoid many potential problems.

Minimize the exposure to potential liability from Puerto Rico's relationship Laws 75 and 21

IN 2001, I WROTE “A NUTSHELL ON WAYS TO MINIMIZE THE EXPOSURE OF LIABILITY FROM PUERTO RICO’S DEALER PROTECTION STATUTES” PUBLISHED IN CARIBBEAN BUSINESS. SOME SUGGESTIONS MAY BE RELEVANT TODAY WHEN ADDRESSING LAW 75 ISSUES DURING CONTRACT NEGOTIATIONS OR LITIGATION. EXCERPTS FOLLOW.

General Observations

At least eighteen states and Puerto Rico have laws which protect dealers, distributors, and franchisees. In Puerto Rico, a supplier, franchisor or manufacturer (the “principal”), may not terminate, impair, or refuse to renew an agreement with a dealer, franchisee, or sales representative for the distribution of goods and services in Puerto Rico without “just cause”. The remedies include preliminary injunctive relief and damages (lost profits, goodwill, the value of capital investments and inventory etc.). These special laws, known as Law 75 (covering dealers), and Law 21 (protecting sales representatives) are remedial and have public policy implications. Regardless of how the parties characterize their business relationship, there is no enforceable way for a principal to escape coverage from those special laws by contractually opting-out in advance. Even a state choice of law clause in a written agreement will not be effective to make Law 75 (or 21) inoperative. See Caribbean Wholesalers v. JVC, Business Franchise Guide CCH at 10,470 (S.D.N.Y. 1994) (holding that a New York choice of law clause is null and void in a distribution contract governed by Law 75).

Practice Pointers

An option to avoid Law 75 or 21 altogether would be to establish an employment relationship. Generally, an employee lacks Law 75 (or Law 21) protection. Lugo v. Matthew Bender, 579 F. Supp. 638 (D.P.R. 1984). Another special law in Puerto Rico, No. 80, limits damages for a wrongful termination of employment to approximately one-month’s salary. To be sure, there are important corporate, labor, and tax law considerations which govern employment relationships (and increase the risks and costs of doing business in Puerto Rico), which do not apply to independent contractors. Laws 21 and 75 presume the existence of an independent contractor or partnership relationship.

Essential legal protections for suppliers or manufacturers when doing business with sales representatives or distributors in Puerto Rico, include, 1) a comprehensive written agreement with a definite term, 2) a non-exclusive relationship, 3) arbitration and reasonable choice of forum clauses, 4) appointment of a distributor or sales representative with “limited functions”, and 5) completeness and integration clauses.

The only time it would make sense for a principal not to have a new written sales representative agreement would be if commercial dealings arose before the effective date of Law 21 (the sales representative protection statute), that is, before December 5, 1990, and no Law 75 dealer relationship existed. Law 21 does not apply retroactively before its effective date. Nieves v. Dymax, 952 F.Supp. 57 (D.P.R. 1996)(holding that Law 21 did not apply retroactively to relationship that began in 1986 despite written agreement of 1995 that did not extinguish prior obligations). The same considerations apply to Law 75 which was enacted in 1964.

A strategy when drafting a written agreement may be to limit certain functions of the sales representative or dealer (as much as business considerations permit) and minimize potential liability if these laws do apply [And, define a methodology or formula to compute actual compensatory damages in the event of a termination or establish a set off procedure to deduct the principal’s value associated with its ownership rights in the line from the net profit, if any, earned by the distributor]. For example, a service mark licensor (Thrifty Rent-A-Car) was able to escape coverage from the distribution laws in Puerto Rico where the licensee did not have an obligation to distribute or resell products to customers and relied on the national advertising, goodwill, and reputation of the franchisor. See Velasco Rental v. Thrifty, 1990 CCH par. 21,073 at 9589 at (D.P.R. 1990). A principal may structure the promotion obligation of the licensee or dealer to require the payment of a fee to tap into the licensor’s mark, reputation, and goodwill. Another possibility is the elimination of quotas or sales goals (which normally are a quid pro quo of exclusivity). The licensee or dealer, however, should still use its best efforts to maximize sales of the products. The relationship should be on a purchase and sale basis (no commissions or compensation based on achievement of sales goals or quotas). A licensee or dealer should be prohibited from warehousing or distributing goods beyond the need to keep an adequate inventory for resale to customers in the stores (i.e., no resale to wholesalers or retailers).

A non-exclusive agreement is arguably outside the coverage of Law 21 (but protected by Law 75). The scope of the non-exclusivity should be clearly defined to mean that the supplier retains the right to sell directly in the territory, appoint other distributors, or sell through e-commerce.

Although a principal cannot refuse to renew a dealer’s contract (or sales representative agreement) after it expires without just cause, a reasonable contractual provision for pre-expiration notice of a renewal term is enforceable in the Law 75 context and binds the dealer. Nike v. Athletic Sales, Inc., 689 F. Supp. 1235 (D.P.R. 1988).

Quotas or sales goals must be reasonable. Language such as the one below may work as an admission that serves to avoid potential disputes over the reasonableness of quotas: “Given actual data and forecasts of market conditions in Puerto Rico, Sales Representative or Dealer recognizes that the minimum sales requirements in this Agreement are reasonable and adjust to the reality of the Puerto Rico market at this time.”

If litigation is imminent, the supplier should carefully consider the adage that “the best defense is a good offense.” Since the Constitution of Puerto Rico affords no right to trial by jury in civil cases, the supplier normally wants to avoid litigation with a disgruntled dealer or representative in the U.S. District Court of Puerto Rico which does guarantee it. The supplier may consider filing a claim in local court for collection of monies (if any are past due and owing) or declaratory judgment action against the resident dealer or representative. Because federal law prohibits a removal of the action to federal court if any of the defendants is a resident of the forum state, the dealer or representative will be unable to litigate a Law 75 or 21 claim with a jury in federal court even though the action could have been filed originally there.

[Note: Since 2001, there have been judicial decisions that may affect the observations described above. The author disclaims expressing any legal opinion on any issues without prior consultation and the establishment of an attorney-client relationship].

Legislature of Puerto Rico tackles a perceived problem of parallel imports potentially implicating the Law 75 interests of exclusive distributors

Judicial decisions have not conclusively put an end to litigation on whether (or when) an exclusive distributor would state a Law 75 claim for impairment (or for tortious interference) when its principal sells a product covered by the exclusive agreement to a third party (usually a stateside wholesaler or broker) who then sells the product for resale, consumption, or use by customers within Puerto Rico.

In P. of C. 1945 of August 27, 2009, the House of Representatives of Puerto Rico (Jimenez-Negron), drafted legislation to remedy what is perceived as a loophole in Law 75 caused when “foreign companies that are established in Puerto Rico bring products whose exclusivity is protected by distribution contracts registered (sic, protected) by Law 75” and these companies “profit from the efforts of persons that have exclusive rights…”.

The proposed legislation would amend the just cause protection in Article 2-A (b)(5) of Law 75 by establishing an additional presumption of lack of just cause “when the principal permits another client to establish in Puerto Rico the sale of a product that is protected by an exclusive agreement (translation ours).” The project was referred to the Commission for Economic Development, Planning, Commerce, Industry and Telecommunications.

Unclean hands and illegal activity won’t get you a preliminary injunction under Law 75

In Prime Wholesalers v. Fields Motorcars of Florida, 08-1640 (ADC), 2009 WL 2612519 (D.P.R. Aug. 17, 2009), Prime Wholesalers, a car retailer in Puerto Rico, sued Fields Motorcars, a Florida wholesaler, in federal court for alleged violation of Law 75. Prime moved for a preliminary injunction when Fields refused to continue selling it new BMW vehicles, which represented 90% of Prime's sales. During years of dealings, a car salesman of Fields sold new BMW cars to Prime in a scheme to deceive the manufacturer BMW that prohibited wholesalers from selling new cars to brokers or dealers except to end users. BMW NA had appointed a retailer Autogermana as the exclusive distributor in Puerto Rico (exclusive in the sense that only sold BMW vehicles). BMW NA later sought to stop the practice of unauthorized sales into the territory. Prime and Fields devised a scheme that induced BMW NA for years into believing that Fields sold the vehicles directly to customers, practices that the court found “outrageous.” Unauthorized sales by Fields to brokers or dealers would expose Fields to breach of contract in its agreement with BMW NA and a potential termination.

The court assumed, for argument, that Prime qualified as a Law 75 dealer. While Prime satisfied some of the threshold requirements to qualify for Law 75 protection, “Prime could have stopped purchasing vehicles from Fields anytime, with no negative consequences” and the court found this “extremely problematic” to qualify as a dealer.

The case turned on the court’s findings, after an evidentiary hearing, that Prime did not establish likelihood of success on the merits and irreparable harm. Fields argued that Prime could not prevail on a Law 75 claim because the underlying distribution agreement with Fields was contrary to law. The court held that an injunction would harm BMW NA’s contractual rights and would expose Fields to breach of contract so Prime could not prove likelihood of success of establishing lack of just cause. The court rejected in a footnote the argument that BMW NA's non-price restrictions violated the antitrust laws.

The court also held that Prime’s argument that 90% of its sales were derived from Fields was an economic injury which by itself was insufficient for a showing of irreparable harm. Reputation damages can also be redressed by a monetary award.

When it came to balancing the equities, the court was not too considerate either for Prime or Fields. The court found that the public interest would not favor an injunction for it “would promote and condone” both Prime’s “illicit activity” and Fields’ ”willful blindness.” A showing of Prime’s unclean hands was sufficient by itself to deny equitable injunctive relief as it did.

Editor’s note: Although a court’s findings at the preliminary injunction stage are not binding on the merits, the court’s opinion in Prime Wholesaler about a party’s inability to assert a Law 75 claim when it has participated in illicit activity has undertones that may, and should, influence the adjudication of merit issues under Law 75.

For instance, one issue that comes up frequently in Law 75 litigation is a dealer’s standing to claim actual damages for impairment or termination when it has underreported its income or overstated its expenses in the relevant tax returns or audited financial statements. Dealers have alleged that their actual damages under Law 75 are greater than the net income reported in their returns or audited statements. To be sure, there are legitimate instances where the dealer reports total company losses in its operations but is able to prove that the line was profitable. In that scenario it would not be necessarily inconsistent to claim actual damages when the company as a whole reported a loss. Courts have not been uniform when dealing with disparities between actual and “official” damages. Some courts admit the evidence under the premise that it is a credibility issue for the jury or trier of fact. This line of thinking holds that reporting a loss in the official business records does not prove that the dealer suffered no actual damages from a termination or impairment of a product line. While that may be so, it is difficult to ignore that a party may abuse the legal system as a tool to benefit from what is potentially fraudulent conduct. Other courts admit the evidence but report the dealer’s purported tax evasion to the authorities. But few, or none, disallow the claim under the notion that a party cannot recover from potentially illicit activity or should be estopped from asserting a claim under Law 75. Is it for the Legislature to add an unclean hands defense in Law 75 or for the courts to deal with this issue? The question is open for debate.

Would Law 75 apply to protect stateside or foreign distributors that resell merchandise or provide services to customers in Puerto Rico?

The answer is “probably not” from the mere act of selling, distributing or servicing products to customers in Puerto Rico.

Puerto Rico Law 75, Sec. 278(a), defines a dealer as the person in charge “in Puerto Rico” of the distribution of a given merchandise or service. In A. M. Capen’s v. American Trading, 202 F. 3d 469 (1st Cir. 2000), the First Circuit, after applying Puerto Rico law, held that the “in Puerto Rico” requirement of Law 75 meant that the dealer must be located in, be a resident of or be authorized to do business in Puerto Rico. There, a New Jersey corporation with its principal place of business in New Jersey claimed Law 75 protection from the termination of an exclusivity contract. The distributor alleged that taking orders from Puerto Rican customers, selling into the territory and having a sales agent make occasional visits to Puerto Rico qualified the distributor for Law 75 protection. However, the New Jersey distributor did not advertise in Puerto Rico, nor did it maintain a warehouse, showroom, assets, inventory, employees, office, address or telephone number in Puerto Rico. On these facts, the appellate court held that the New Jersey distributor did not operate in Puerto Rico to qualify for protection under Law 75 and reversed the finding of liability under Law 75.

A stateside or foreign distributor would not qualify for Law 75 protection merely because it has a contract with the principal that requires the sale and distribution of products in Puerto Rico. Occasional visits by a sales agent, standing alone, would not tilt the balance to qualify as a dealer. By the same token, the status of the distributor as a foreign or stateside corporation would not automatically exclude the application of Law 75, though the statute clearly applies only to entities “in Puerto Rico”. Depending on the circumstances, it appears from Capen's that a stateside or foreign corporation could qualify for protection if it becomes registered to do business in Puerto Rico or performs substantial operations in Puerto Rico with respect to the distribution relationship.

Parties could potentially minimize (but not altogether exclude Law 75 exposure) by: 1) entering into a Capen’s style distribution relationship with a stateside or foreign corporation that does not operate within and is not registered to do business in Puerto Rico, and 2) enter into a “limited functions” purchase and sale type of agreement.

Federal court denies dealer’s motion for a preliminary injunction under Law 75 after finding an adequate remedy at law and no irreparable harm

As of late, dealers have not fared well in federal court when requesting preliminary injunctions under Law 75. It is unusual, however, for a court to deny preliminary injunctive relief after concluding that the dealer showed a likelihood of success on the merits of its claims and the public interest favors the injunction. Beatty Caribbean v. Nova Chemicals, No. 08-2259, 2009 WL 2151303 (ADC-CVR)(Velez-Rive, U.S. Mag. Judge) (D.P.R. July 16, 2009) is such a case.

There, the agent complained that the principal impaired verbal agreements for the sale and distribution of chemical products by unilaterally reducing the commission percentage from 5% to 3% in violation of Laws 75 or 21. The principal counterclaimed that an asset purchase transaction did not change a previously existing sales representation agreement, and that the agent was a non-exclusive representative who lacked an actionable claim under Laws 75 and 21. After consenting to proceed with the Magistrate and holding a hearing, the court denied the request for a preliminary injunction.

While the court found that, prima facie, the principal had impaired a protected relationship by reducing the payment of commissions without just cause, the agent had failed to satisfy two of the traditional prerequisites for injunctive relief, namely, balancing of the equities and irreparable harm. The court cited, and applied, the traditional prerequisites for injunctive relief under Federal Rule 65, noting that the standards are “tempered” considering the public policy objectives behind Law 75. The court determined that it would not overlook the issue of irreparable harm, though cited case law suggesting that a plaintiff need not show irreparable harm under Law 75.

On the issue of irreparable harm, the agent testified that the reduction in commissions caused a 40% reduction in revenues, which the court determined was legally insufficient for finding irreparable harm. The court held that financial injury alone does not constitute irreparable harm and that damages are recoverable at law. The balance of the equities favored the principal, the court said, because an injunction would alter existing relationships with other dealers.

My editorial comment. While the principal has a good reason to rejoice for the outcome in that case, the order denying the preliminary injunction may be vulnerable to attack by interlocutory appeal. The abuse of discretion standard will not help affirm the opinion because the district court found that prima facie the agent was a dealer or sales representative and there was no just cause. So, two of the most important requirements were met. The court’s conclusion that irreparable harm is mandatory for a federal court to issue a preliminary injunction under FRCP 65 is correct and sound. Although not discussed, under Hanna v. Plummer, the federal procedural rules requiring a showing of irreparable harm preempt contrary state substantive law, but Law 75 does not prohibit considering the traditional factors for preliminary injunctive relief so the court did the right thing to evaluate that factor. Where I think there might be an issue is with the court’s finding that financial hardship and a 40% drop in revenues are insufficient for a showing of irreparable harm. So, at the end of the day, the standard on appeal to review the legal issue of irreparable harm may be plenary and who knows what can happen.

Is the federal court a more favorable forum for principals in Law 75 or Law 21 cases? Federal court enforces choice of law and forum selection clauses

Despite the possible disadvantages to defendants of trial by jury in federal civil cases (there is no right to trial by jury for ordinary civil cases in local Puerto Rico courts), many defendants opt to file first in federal court or remove to federal court cases filed against them in the local courts. A perception may exist that federal courts are more receptive or uniform in the resolution of cases by summary judgment than the local courts. With Daubert's requirements for the admission of expert testimony, one could argue that federal courts are more rigorous in their gatekeeping function to limit or exclude expert testimony in commercial cases than the local courts in bench trials generally are. The U.S. District Court of Puerto Rico and the First Circuit have also developed over decades a body of jurisprudence settling many Law 75 and Law 21 issues raised in diversity cases. For these reasons, a defendant may have reason to think that the federal court is a more favorable forum even considering the risk of trial by jury.

One example is Rodriguez Barril v. Conbraco Industries, 2009 WL 1940424 (D.P.R. June 30, 2009)(Garcia-Gregory, J.), where a sales representative filed a termination action against the principal under Law 21 in the local court. After defendant removed the case on grounds of diversity jurisdiction, plaintiff attacked with a motion for a preliminary injunction. Defendant responded with a motion to dismiss to enforce a forum selection clause selecting the law and courts of North Carolina. The court referred the motions to a U.S. Magistrate Judge (Velez-Rive) who recommended a dismissal of the action. After de novo review, the court agreed with the Magistrate and dismissed the action without prejudice. The court concluded that federal law favored the enforcement of forum selection clauses, the clause in the agreement was mandatory not permissive, and Law 21 did not proscribe the enforcement of forum selection clauses. As to the choice of law clause of North Carolina, to the exclusion of Puerto Rico law, the court concluded that “Plaintiff knew that these provisions would be enforced in the event of an alleged breach.” Note that the court did not have before it a Law 75 claim and the outcome may not necessarily be the same in that situation.

Lesson learned: choose carefully where to file or defend a Law 75 or Law 21 case depending on the legal issues at stake as the forum may determine the outcome.

“Hot topics” in Law 75 litigation

A few issues come up frequently during contractual negotiations or litigation and some are cutting-edge or even novel. These are my "top ten", but not in order:

1) Do retailers qualify for protection as Law 75 dealers, and for the retailers that might, what types of activities or services do they perform that make them qualify?
2) Is verbal evidence of an alleged exclusive distributorship admissible or barred by Puerto Rico substantive law or does the issue of admissibility depend on whether there is a clearly non-exclusive and integrated written agreement in effect?
3) What is the meaning and scope of exclusivity in Law 21(i.e., the Sales Representative Act)?
4) When is product diversion (sales outside the territory) just cause?
5) Is a principal responsible for market interference caused by third parties that sell product into an exclusive territory?
6) Does Puerto Rico Law 75 or the doctrine of tortious interference apply when title of the product passes outside Puerto Rico but the resale of the infringing product takes place within Puerto Rico?
7) In what circumstances would a sale of assets by the principal, including the distribution rights, constitute a justified market withdrawal?
8) Of course, there are many issues involving the methodology of damages, such as, when is recovery of goodwill appropriate, what should be the correct method to compute goodwill, and what should be the measure for recovery of lost profits?
9) Do the requirements for preliminary injunctive relief in the Federal Rules preempt Law 75 if read to allow a preliminary injunction without a showing of irreparable harm etc.?
10) Would the Federal Arbitration Act preempt Law 75 if an arbitration clause in a written distribution agreement includes a choice of law clause applying laws other than Puerto Rico?

There’s case law pre-2009, sometimes conflicting, on some of these issues, but stay tuned for future developments.

Distribution and Agency Agreements in Latin America: a comparative law analysis

Comparative law can be persuasive authority when necessary to interpret Puerto Rico’s dealer relationship statutes. In fact, Puerto Rico Law 75 was influenced by laws then existing in the Dominican Republic and certain common law jurisdictions. For a comparative law analysis of relationship statutes in certain Latin American countries, namely, Chile, Colombia, Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Nicaragua and Panama, see Hernan Pacheco, “A Comparative Study of Distribution and Agency…in Selected Latin American Jurisdictions”, ALI-ABA, March 18-20, 2009 (available in Westlaw) . Some of these countries have special laws similar to Law 75. In others, civil and commercial laws govern agency and distributor relationships without special legislation. There are many differences and similarities with Puerto Rico’s relationship statutes. Some jurisdictions require and define just cause for termination and have formulas for indemnification. In some of these countries, a distributor’s unauthorized disclosure of confidential information is statutory just cause. In Honduras, an unjustified termination allows recovery of five times the annual gross profit. In Colombia, the dealer’s compensation depends on the “efforts” of the agent to support the brand or service, and, for example, the dealer may receive 1/12th of the average of the commission, royalty, or profit obtained during the last three years for each year that the contract was in effect.

Swinging for the fences but striking out: requesting a preliminary injunction under Law 75 and not getting it may taint the outcome on the merits

I’ve written before that the traditional requirements for preliminary injunctive relief under FRCP 65 are mandatory and preempt Law 75 if read to allow the granting of a preliminary injunction without a showing of irreparable harm. It’s not an Erie issue, but a Hanna v. Plummer issue, which holds that the federal civil rules preempt state substantive law when in conflict.

It does not matter, ruled a U.S. Magistrate Judge in Penn Shoppe v. Montblanc North America, No. 08-1939(JAG/BJM)(April 1, 2009), for the supplier in that case met its burden of showing just cause for termination. In that case the line represented over 40% of the retailer’s business. After an evidentiary hearing, the Magistrate found that the retailer’s consistently late payments, purchases over the credit limit and bounced or postdated checks- practices that were not condoned by the supplier in the regular course of dealings-did not alter the established payment terms. In sum, the Magistrate concluded that the movant had not established a likelihood of success on the merits for a preliminary injunction under Law 75.

On July 31st, the court adopted the Magistrate's Report and Recommendation in its entirety.

About my comment that a denial of a preliminary injunction may taint the final outcome, my point is that parties should evaluate carefully the likelihood of success on the merits of their claims before moving for interim relief (attachments or injunctions). While it is true that a court's findings at the preliminary injunction stage are not binding on the merits, a court's conclusion on whether the requirement of likelihood of success has been met, unless reversed on appeal, may influence that court's disposition of the case especially in the context of a motion for summary judgment or after a bench trial.

Manufacturer’s offensive to enjoin an alleged exclusive distributor from using its trademark falls short on appeal when faced with a Law 75 claim

This case illustrates the risks of doing business in Puerto Rico without a formal written agreement defining the essential elements and scope of a distributorship. In Universal Manufacturing v. Ricardo Cruz Distributors, 2009 WL 728309 (TCA 27 Feb. 2009), a retailer of cleaning products sold under the brand name “Doctor Mecanico” sued the manufacturer and owner of the trademark in the local court for breach of an alleged verbal exclusive agreement under Law 75. The reseller alleged that the manufacturer impaired the relationship by selling the products to certain exclusive customers. While the manufacturer disputed the existence of exclusivity, it had authorized the retailer to sell the products to customers. Responding to the reseller’s motion for a preliminary injunction under Law 75, the manufacturer countered with an action for trademark infringement under Puerto Rico law. And, a local court of first instance (Bayamon Part) sided with the manufacturer and issued an injunction prohibiting the reseller from using the mark. The court of appeals reversed and remanded, holding that the lower court had failed to take into account the retailer’s prior commercial use of the mark and the competing interests and claims of the reseller for protection under Law 75.

Lower court legislates to create a blanket exclusion for sub-distributors from Law 75 protection

In a ruling that should come as a surprise to some, a lower court in Puerto Rico, in Autos Servicios Nissan Kia Inc. v. Motorambar, Inc. No. KAC2008-1390 (906)(San Juan Part, March 4, 2009)(Olivette Sagebien Raffo, J.), held that plaintiff, a sub-distributor of Nissan and Kia automobiles, did not qualify for protection as a Law 75 dealer because it had no distribution agreements with the manufacturers. In a ruling that could have far-reaching implications beyond the facts of the case, the court also held that defendant, the exclusive general distributor in Puerto Rico, who appointed the sub-distributor, was not a “principal” for purposes of being able to confer distribution rights under Law 75. The court found that Law 75’s definition of a “principal or grantor” as the person who enters into a dealer’s contract with a distributor “clearly did not apply” to a general distributor who grants distribution rights to a sub-distributor. The court then relied on Law 75’s legislative history to conclude that the intent was to provide a remedy against abusive practices of manufacturers who cancel unilaterally the distribution rights of distributors. According to this analysis, the principal can only be the manufacturer of a product or service. The case is still pending but the decision has not been appealed.

The lower court’s holding is difficult to reconcile with the plain language of Law 75, its remedial purpose, and with precedent not discussed by the lower court. In J. Soler Motors v. Kaiser Jeep Int’l, 108 D.P.R. 134 (D.P.R. 1978), the Supreme Court of Puerto Rico court rejected an argument that Law 75 does not protect a non-exclusive retailer of automobiles in a geographic region within the territory. The court recognized that “in the transfer of a product from the manufacturer to the consumer a number of intermediaries are involved in forming the chain of distribution.” (Translation ours). Construing the statutory definitions of a Law 75 dealer broadly and finding no provision excluding non-exclusive retailers, the court held that “Law 75 has the purpose of protecting the Puerto Rican intermediaries that represent a product or service in the different levels of the chain of distribution.” (Translation ours).

The lower court’s Motorambar’s blanket exclusion that Law 75 protects only the vertical relationships between a manufacturer and a distributor is questionable for it ignores that many other intermediaries participate in the chain of distribution, including sub-distributors, who may qualify for protection under Law 75.

Acquisitions and consolidations continue in the food distribution industry in Puerto Rico and are relevant to Law 75

Acquisitions and consolidations of businesses are relevant to lawyers and experts litigating Law 75 cases in Puerto Rico. When a successor distributor acquires a product line or the business from the prior distributor, the purchase price becomes relevant when the manufacturer or principal terminates or refuses to renew the agreement with the successor distributor. It is relevant because Law 75 allows recovery for loss of goodwill and one of the factors in the methodology to compute loss of goodwill is the market value of the line (and the sales price in an arms-length transaction is one of many relevant factors). Thus, distribution lawyers and experts alike, monitor developments in acquisitions as sales prices could be relevant to future litigation.

Not surprisingly, sales prices are rarely reported publicly. For example, El Nuevo Dia reported today that Encinal Inc., d/b/a Star Meat, a distributor of refrigerated and frozen food products, acquired for "an undetermined sum of money" the commodities and food service businesses of Packers Provision, a distributor in Puerto Rico. The businesses include the sale and distribution of meats, poultry, and seafood. As part of the transaction, V. Suarez, one of the largest food distributors in Puerto Rico, will "administer" sales of the branded lines to "traditional channels." (A separate issue is whether a sub-distributor of branded products that is not appointed by the manufacturer is protected by Law 75).

The three-year statute of limitations bars assertion of untimely Law 75 claim.

In Institute of Innovative Medicine v. Laboratorio Unidos de Bioquimica, 2009 WL 1312870 (D.P.R. March 24, 2009), the court granted summary judgment dismissing a Law 75 claim on grounds that it was time-barred by Law 75’s three-year statute of limitations governing impairment claims. The claim was filed more than three years after the alleged detrimental acts. The court’s holding follows settled doctrine in Controlex Corp. v. Klockner, 202 F. 3d 450 (1st Cir. 2000).

Puerto Rico’s restrictions against arbitration contained in Law 75 come up short of being declared preempted under the Federal Arbitration Act.

In National Flour Mills and Supply v. Orlando Santiago, 2009 WL 790011 (D.P.R. Mar. 16, 2009), plaintiff filed a declaratory judgment action seeking a declaration that arbitration provisions in the agreement are enforceable and that Puerto Rico’s statutory restrictions in Law 75 against arbitration are preempted by federal law. Law 75 codifies that a court in Puerto Rico has jurisdiction to determine the validity of an arbitration provision in a distribution contract and that such a clause is presumptively treated as one of adhesion. The court held that the dispute was not ripe because defendant had not refused to arbitrate. It also held that the declaratory judgment action was “advisory” for lack of a case or controversy as no local law prohibited or hindered the ability to arbitrate claims in the circumstances of the case. The case was then dismissed for lack of subject matter jurisdiction.

Removal and remand of Law 75 cases: is there “fraudulent joinder”?

The dilemma as to which court, federal or local, is the most appropriate venue for Law 75 or Law 21 cases continues in 2009.

In Interamerican Builders Agencies Co. v. Sta-Rite Industries, Inc., 602 F. Supp. 306 (D.P.R. Feb. 19, 2009), plaintiff, an exclusive distributor of industrial equipment, sued both the principal under Law 75 and the appointed distributors for tortious interference. After removal to federal court, the court allowed plaintiff’s motion to remand reasoning that, although the diversity defeating distributors were dispensable parties, plaintiff would be prejudiced by litigating in two different forums and the federal court has no significant interest in deciding issues of Law 75.Thus, the court remanded the case to local court to promote the efficient use of judicial resources.

Going the other way is Renaissance Marketing, Inc. v. Monitronics International, Inc., 606 F. Supp. 2d 201 (D.P.R. March 31, 2009). There, the court held that diversity-defeating Puerto Rico distributors were fraudulently joined as defendants to defeat removal jurisdiction. Plaintiff, an alleged exclusive distributor of alarm equipment services, joined the newly-appointed distributors as parties in the federal case despite the fact that a prior lawsuit for tortious interference against them had been filed in the local court. However, the federal complaint for declaratory judgment and breach of contract under Law 21 or Law 75 was directed solely against the principal. “Courts cannot allow a party to litigate simultaneously against the same defendants, in different suits, arising from the same facts.” The court then granted defendant’s motion to dismiss holding that a Texas forum selection clause was enforceable despite the strong public policy in Puerto Rico behind Laws 75 and 21.

Arbitration Panel awards $4.655 million in damages to terminated distributor

In one of the largest awards in Law 75 cases in Puerto Rico, a three-member arbitration panel, after holding evidentiary hearings in the matter of Mendez & Co. Inc. v Plumrose USA et. al., awarded our client, one of the leading groceries distributors in Puerto Rico, over $4.655 million in damages for lost profits, goodwill, pre and post-judgment interest, and expert witness and attorney's fees for an unjustified termination and impairment of an exclusive distributorship. The Panel had previously entered a Partial Award on liability against respondents finding that the manufacturer's purported reason for the termination, namely, that the agreeement had a fixed term and would not be renewed, was illegal as a matter of public policy under Law 75. The distributor's expert on damages was Reynaldo Quinones, CPA. The manufacturer's expert was Reynaldo Landa, CPA.

The dispute underscores the importance of seeking legal advice from local counsel when problems arise during the relationship, and timely documenting the alleged business reasons that may serve to support a defense of just cause for a termination.

The award was under review in the U.S. District Court for the District of Puerto Rico in Mendez v. Plumrose, Civ. No. 08-2166(ADC), on cross-motions to confirm and vacate the award. The court also had before it a motion for garnishment of assets pre-confirmation of the award. The motions were unresolved as the case settled on confidential terms.

Federal Court Excludes Plaintiff's Expert's Opinion on Law 75 Damages

In Carana Inc. v. Jovani Fashions, 2009 WL 1299569 (D.P.R. May 7, 2009), the federal court (Fuste, J.) granted mid-trial a manufacturer's motion in limine excluding, in part, plaintiff's expert's opinion on lost profits, lost inventory, and loss of goodwill in a case brought under Puerto Rico's Law 75, a statute protecting a dealer from an unjustified impairment, refusal to renew or termination of a dealer's contract. On the eve of trial, the manufacturer moved, under Daubert, to exclude the expert's opinion as unreliable or unhelpful to the jury. With scant judicial authority particularly on the issue of loss of goodwill beyond the plain meaning of the statute, the manufacturer argued, and the court agreed, that the expert's methodology on goodwill was unreliable because Jorge Rodriguez CPA did not consider the fact that the manufacturer created the goodwill of its brand and image worldwide from significant investments in advertising and promotion. On the issue of lost profits, the court also excluded an analysis of "normalization of earnings" first produced at trial during voir dire because it was not disclosed as part of the expert's report. It should be acknowledged that the author represented the manufacturer in that case.