“Muddied waters” or not, Law 75 claims for termination of exclusive distributorship and tort damages are arbitrable

It is unremarkable that the Federal Arbitration Act enforces written arbitration agreements involving Law 75 claims. Unless the movant (the dealer) seeks to invoke the district court’s limited power to issue a Teradyne injunction in aid of arbitration, claims for injunctive relief fall in the hands of the arbitrator. Next Step Medical Co. v. Johnson & Johnson International, No. 09-2077 (1st Cir. Aug. 30, 2010) is one of those cases. What is peculiar about the case is the appeal from the District Court’s judgment dismissing with prejudice a tort claim for emotional distress as not viable in a contract action, despite a Magistrate’s prior recommendation that the entire action was arbitrable. Despite the First Circuit's statement that the district judge “muddied the waters” by dismissing the arbitrable claims with prejudice, the appellate court sanitized the Judgment and concluded that the dismissal with prejudice meant the claims could not be brought in court; but rather, the claims survived on the merits for arbitration. After a removal to federal court, a still born request for injunctive relief, the lost appeal, years of litigation, the dealer was forced to arbitrate as required by the clear and broad arbitration agreement.

First Circuit enforces forum selection clause in agreement protected by Law 21

Puerto Rico Law 21 protects sales representatives from unjustified actions by their principals, much like Law 75 protects dealers. Law 21 provides that, regardless of a contractual provision to the contrary, sales representation agreements covering the Puerto Rico territory shall be governed by Law 21 and no such agreement can be terminated without just cause.

The agreement in the case had both a choice of law clause providing for North Carolina law and a compulsory choice of forum provision for litigation in North Carolina. The principal terminated the agreement and, after removal of the dealer’s complaint to federal court, the district court enforced the choice of forum clause granting a Rule 12b6 motion and dismissed the action without prejudice.

In Barril v. Combraco Industries, No. 09-2163 slip op. (Sept. 8, 2010), the First Circuit affirmed. The court followed the federal standard in Bremen v. Zapata, 407 U.S. 1 (1972), and skirted the issue whether enforcement of a forum selection clause is procedural or substantive, noting that both Puerto Rico and North Carolina follow the Zapata standard. Appellant argued that enforcement of the clause, under Zapata’s fourth prong, was invalid because it contravened the strong public policy of the forum behind Law 21. The court disagreed. The court noted that Law 21 does not by its terms forbid the enforcement of a choice of forum clause, but only a choice of law clause insofar as it “would prevent Law 21’s substantive protections from being given effect.” (citation omitted). The court rejected the argument that North Carolina law precludes courts from giving effect to the laws of another state or territory, so that North Carolina courts are just as capable to enforce Law 21 to the extent that it otherwise applies despite the choice of law clause.


Author’s note: Combraco paves the way to enforce choice of law clauses of states other than Puerto Rico to the extent those laws otherwise apply. PR Law 21 presumptively governs the substantive aspects of the contract’s termination and resulting damages, but other substantive aspects governing other claims or the interpretation of the agreement would be governed by the chosen law when not offensive to Law 21. As to Law 21’s preemption, the analysis is circumscribed to contractual provisions that render Law 21’s substantive protections inoperative. That is, where an agreement permits termination without cause or disallows any recovery of compensatory damages to an exclusive sales representative there would be preemption under Law 21. Where the agreement is not contrary to express substantive provisions in Law 21 (or Law 75 for that matter) or when consistent with those laws, it is likely that the chosen law of another state will apply to govern the enforcement of those other provisions in the agreement. If the agreement were to be governed by Puerto Rico law, then the Civil Code, or other provisions of the Commerce Code, would oversee the enforcement of provisions not expressly governed by Laws 21 or 75. An example is the Supreme Court of Puerto Rico’s recent case holding that the enforcement of a non-compete provision in a franchise agreement (to which Law 75 applies on its face) is governed by the Civil Code as Law 75 is silent on the issue. With Combraco, it remains to be seen if there is a change in the body of federal cases enforcing forum selection clauses despite Law 75’s express prohibition and what weight will be given to Law 75 under Zapata. My prediction is that the strong federal law interest to enforce reasonable forum selection clauses under Zapata (and the Federal Arbitration Act when the clause requires arbitration outside Puerto Rico) will continue to continue to override Law 75’s public policy interests.