The defense of unclean hands defeats a motion for a preliminary injunction under Law 75 and force majeure does not apply to excuse the dealer’s anticipatory breach of contract

In Next Step v. Bromedicon,2014 TSPR 30, 190 D.P.R.__, the Supreme Court of Puerto Rico ratified the norm that equitable defenses, such as estoppel, laches, and unclean hands (“actos propios y manos sucias”), are affirmative defenses to a motion for a preliminary injunction under Law 75.

The case of Automatic Teller Machine Group Corp. v. Qualtex Corporation, 2014 WL 5024070 (TCA Aug. 29, 2014), cert. denied, (P.R. 2015),, aptly illustrates the application of the principle in Next Step and prior cases that a party who requests equitable relief must come to the court with clean hands. There, ATM Group, a Puerto Rico corporation dedicated to selling, leasing, and servicing ATM cash machines, sued Qualtex, a stateside corporation that provides electronic data processing services to the ATM machines and their customers and end-users. The parties signed a Distributor and Service Agreement in which, in relevant part, ATM Group was bound to use Qualtex’s data processing services exclusively during the duration of the agreement.

ATM Group sued Qualtex in local court under Law 75 for termination of the agreement and requested damages and injunctive relief. Plaintiff alleged that Qualtex terminated the agreement after plaintiff had “transferred” 131 ATM’s from Qualtex to National Link, a competitor of Qualtex that provides data processing services. ATM Group alleged that it was justified in breaching the exclusivity obligation in the distribution agreement because of alleged “force majeure” in which Cash Connect, a company that supplied cash to replenish the ATM machines, withdrew from the Puerto Rico market. This allegedly unforeseen market withdrawal had occurred at least 60 days before plaintiff unilaterally and without prior notice decided to convert the 131 machines to Qualtex’s competitor. Qualtex responded that the defense of unclean hands and exceptio non adimpleti contractus under Article 1077 of the Civil Code barred the request for a preliminary injunction because ATM Group repudiated the exclusivity provision and force majeure did not apply as plaintiff’s damages were of its own making.

After an evidentiary hearing, the trial court agreed with Qualtex and denied plaintiff’s motion for a preliminary injunction. The trial court held that plaintiff qualified prima facie as a Law 75 dealer, but that applying the factors in Next Step, the balance of the equities weighed against the granting of injunctive relief as plaintiff breached its contractual obligation before Qualtex terminated the agreement, the doctrine of unclean hands applied, and there was no force majeure.

The intermediate appellate court in a reasoned opinion denied certiorari, and plaintiff filed a cert. petition in the Supreme Court of Puerto Rico, which is pending to date.

Diana Pérez, CAB’s associate, and the undersigned as lead counsel, tried the case for Qualtex and are defending it in the appellate courts.

The Supreme Court of Puerto Rico grants certiorari to review important questions of contractual interpretation arising from an order granting a preliminary injunction under Law 75

The Court has decided to review another case granting a preliminary injunction under Law 75. In an earlier case, Next Step, the Court determined that a dealer had not clearly established the existence of an exclusive distribution agreement to claim a right to preliminary injunctive relief for impairment of contract under Law 75. In Caribe RX v. Grifols Inc. and Cardinal Health, Consolidated Nos. CC-2014-772, CC-2014-773, cert. granted, (P.R. Dec. 12, 2014), the main issue is similar: whether the Court of First Instance, San Juan Part (Hon. Giselle Romero, since then appointed to the intermediate local appellate court), abused its discretion in granting a Law 75 preliminary injunction.

After an evidentiary hearing and the posting of a bond of only $3,500, the trial court enjoined Grifols Inc., a global healthcare company, from selling and distributing any plasma-derived protein therapies for critical care patients in Puerto Rico through any distributor, hospital, or provider other than through plaintiff Caribe RX, a Puerto Rico distributor. The distribution agreement between Grifols and Caribe RX is expressly non-exclusive for certain products and expressly exclusive for others. The agreement has integration and completeness provisions that supersede prior verbal agreements and understandings. The intermediate court of appeals denied the petition for certiorari. See Caribe RX v. Grifols, Inc., 2014 WL 3831632 (TCA June 30, 2014).

Caribe RX claimed, and both the trial court and the intermediate appellate court agreed, that the parties had entered into a “verbal agreement”, before execution of the written agreement, in which Caribe RX would have exclusive full-line distribution rights in the future upon expiration of Grifols’ agreements with certain stateside resellers. This promise never materialized, and the parties knowingly, willingly and voluntarily signed the non-exclusive distribution agreement that expressly disavowed any such promise. The contract was renewed annually on the same terms and conditions. There was no claim in the action of fraudulent inducement of contract or any defect in the consent. No evidence was introduced at the hearing that Grifols had impaired the written agreement by selling to another distributor any of the products over which Caribe RX had written exclusive distribution rights. However, Caribe RX claimed that Grifols allegedly breached the verbal agreement by offering new products (over which it also claimed to have exclusivity and had never sold them before) to Cardinal Health for resale in Puerto Rico.

In the view of the lower courts, a verbal promise of exclusivity, especially when it is not rebutted by oral testimony, should have more weight than the clear and unambiguous terms of the valid non-exclusive contract. This is, of course, not the law. The lower courts appeared to side with Caribe RX for two reasons, first, because Caribe RX’s principal (who is also a lawyer) testified that the contract that he signed did not mean what it said and Grifols presented no witness at the hearings to rebut the lawyer’s account of the facts before execution of the contract (in effect, shifting to the respondent Grifols the ultimate burden of proof on a Law 75 claim). Second, the lower courts accepted Caribe RX’s argument that the Civil Code allows verbal evidence to find the “true intent” of the parties despite a clear and unambiguous written agreement.

The rationale of the lower courts clashes on its head with the holding in Marina Industrial v. Brown Boveri, where the Supreme Court of P.R. enforced an integration clause in an agreement governed by Law 75 to render inadmissible verbal evidence offered to modify or contradict the clear terms of a commercial agreement. The Grifols decision also raises an important question of public policy whether stateside investors, who are lured by government incentives and special laws providing significant tax advantages from transferring their wealth and fortunes to Puerto Rico, can reasonably expect to rely on our local courts to enforce the terms of clear and unambiguous written commercial contracts as the sole expression of the intent of the parties.

Giving effect to Marina Industrial, and the evidence presented at the hearings, the Court should conclude, after applying Next Step, that it was an abuse of discretion to grant a preliminary injunction in this case and remand for further proceedings.

Carla Loubriel, CAB’s associate and the undersigned, as lead counsel, tried the case for Grifols at the Court of First Instance and briefed the certiorari at the intermediate court of appeals.

What could be more straightforward? A mandatory arbitration clause in a written distribution agreement governed by Law 75 is enforceable despite the distributor’s alleged but unproven financial incapacity to arbitrate

A distributor of specialty pharmaceutical devices sued the manufacturer in Puerto Rico local court alleging wrongful termination and damages under Law 75. The case, Ryvelix Company v. Onset Dermatologics, Inc., 2014 WL 4924473 (D.P.R. Sept. 2014)(Cerezo, J.) got removed and defendant moved to compel arbitration pursuant to a mandatory arbitration clause in a distribution agreement requiring arbitration of “any dispute or difference.” The Law 75 claim fell within the scope of the arbitration provision.

We all should know by now the importance of federal arbitration policy to respect arbitration agreements as written and get cases out of court. So what could be the distributor’s objection to arbitration or to arbitration in New York City for that matter? For one thing, cost. Is it too costly for an allegedly financially-strapped distributor to arbitrate in a "difficult and inconvenient" forum such as New York City? The argument that arbitration may be prohibitively expensive and could deny a party access to justice finds support in dictum in Green Tree v. Randolph, 531 U.S. 79, 91 (2000). But wait, is it really less costly to litigate a case in Puerto Rico than to arbitrate in New York? The answer is, it depends, but that was legally irrelevant. The court determined that the distributor’s argument had no support in any evidence that in fact it could not afford to arbitrate. It did not end there. The distributor had another creative argument that the doctrine of rebuc sic standibus (unforeseen change of circumstances renders compliance extremely burdensome) justified excusing compliance with the arbitration provision because the principal breached the agreement. The court held that the doctrine did not apply because it is for the arbitrator to decide whether the principal had just cause to terminate the agreement. Absent proof that it was prohibitively costly to arbitrate, the doctrine did not facilitate excusing compliance with only the arbitration clause. Case dismissed without prejudice in favor of arbitration.

This case did not involve arbitration under the International Chamber of Commerce Rules which can make it very expensive to arbitrate given the administrative fees that apply depending on the amount of the claim. The larger the dollar amount of the claim the more fees the claimant would have to pay. By the fee structure of the ICC, those fees can run in the tens of thousands of dollars, not including the fees of the arbitrator. There is some authority in case law that upholds arbitration with the ICC despite the high cost to arbitrate. There is some reason for concern that the Ryvelix case may have opened the door in other situations to excuse a party from having to arbitrate if financial hardship can be established with admissible evidence.

Federal Court in Massachusetts grants to the Dunkin’ Donuts franchisor a preliminary injunction for trademark infringement and enjoins the Puerto Rico franchisees from prosecuting a subsequent federal action brought under Law 75

This case presents the interplay between federal trademark law and Law 75 and raises a jurisdictional conflict between federal courts in substantially similar cases. In Dunkin’ Donuts Franchised Restaurants LLC v. Wometco Donas Inc., 2014 WL 4542956 (D. Mass. Sept. 11, 2014), appeal pd'g, No. 14-2002 (CTA 1),the court enjoined the prosecution of a subsequently filed Law 75 federal case. The franchisor of Dunkin’ Donuts filed suit in federal court in Massachusetts for trademark infringement and breach of contract against Wometco, the franchisee of 18 stores in Puerto Rico. The complaint requested relief to enjoin the franchisees from trademark infringement and to enjoin the prosecution by franchisees of a related action for Law 75 termination damages pending in the federal court in Puerto Rico.

The crux of the case, and what provoked the termination of the franchise agreement and the resulting trademark infringement from continuing to operate the Dunkin’ retail stores without a valid license, was the franchisees’ failure to pay $190,000 in royalty and renewal fees. The franchisees alleged that termination of the franchise agreement was unjustified and violated Law 75. Defendants also alleged that the license agreement was amended by a prior verbal agreement that waived or excused collection of fees.

The court found that this argument was “not credible” and agreed with the licensor that the agreement had an integration clause that superseded any prior agreements. Thus, there was just cause under Law 75 for termination from the licensees’ breach of the payment obligation. The court concluded at the preliminary injunction stage that the termination was not arbitrary or capricious. Finding that there was irreparable harm from the licensor’s loss of control over its trademark caused by the licensees’ unauthorized use, the court granted the licensor’s request for a preliminary injunction, despite the fact that the relief would cause the closure of all Dunkin’ retail outlets in Puerto Rico.

Finally, the court exercised its discretion to enjoin prosecution of the subsequently filed and “substantially similar” federal case pending in Puerto Rico federal court (Cerezo, J.). The court noted that special circumstances would exist to warrant deviating from the first-filed federal rule where one party races to the courthouse and misleads the other or when the second lawsuit is substantially more convenient. “While Law 75 is not regularly interpreted in Massachusetts courtrooms, Puerto Rico courts have held that other jurisdictions “are fully capable of resolving claims brought under [it]” citing, BMJ Foods P.R., Inc. v. Metromedia Steakhouses Co., L.P., 562 F.Supp.2d 229, 234 (D.P.R.2008). Id. at 10. The court applied the relevant factors and held that there was no justification to depart from the first-filed rule. Thus, it enjoined the franchisees from prosecuting their Law 75 federal action in Puerto Rico.

Worth reading: the First Circuit finally takes a stance on the fraudulent joinder test

Fraudulent joinder is a term of art referring to the doctrine that allows district courts to disregard for removal purposes the presence of a diversity-defeating defendant in a complaint. The issue comes up almost routinely in Law 75 cases where the defendant, usually the principal in Law 75 or 21 cases, seeks to remove the case filed in local court to federal court and the dealer has joined as a co-defendant a diversity-defeating Puerto Rico distributor.

Is the standard of fraudulent joinder the same as for a Rule 12(b)(6) motion to dismiss? They are similar standards to be sure but not necessarily identical. Both tests present challenges to the insubstantiality of the local law claims against the diversity-defeating defendant. In Universal Truck v. Southworth-Milton, Inc., 2014 WL 4290458 (1st Cir. Sept. 2, 2014), the First Circuit concurred with the Seventh and Ninth Circuits and held that fraudulent joinder exists where "there is no reasonable possibility that the state's highest court would find that the complaint states a claim upon which relief may be granted against the non-diverse defendant."

This sounds like the familiar Rule 12(b)(6) standard but since the Seventh Circuit's decision requires the district court to construe all issues of fact and law in the defendant's favor, and the First Circuit remained silent, I am not so sure that the standards are identical. Let's leave that for another day.

A true conflict exists between federal and local courts on the validity of forum selection clauses in Law 75 contracts

A mandatory, as opposed to a permissive, forum selection selection clause requires litigation in the chosen forum. Generally, as a matter of federal law, mandatory forum selection agreements are prima facie valid and enforceable. In Bremen v. Zapata, 407 U.S. 1 (1972), the U.S. Supreme Court held, however, that whether a forum selection clause offends a forum state's public policy can be one of a number of grounds for invalidation. Since 1972, most courts have not taken Bremen at its word and have analyzed the facts and circumstances of each case to determine enforcement.

Law 75 has a provision that a forum selection clause mandating litigation outside of Puerto Rico is null and void as against public policy. Some other dealer-friendly states like California have similar provisions. This is the same section of Law 75 that also invalidates arbitration outside of Puerto Rico in favor of the home field advantage. One would think that the Federal Arbitration Act preempts Law 75 in that respect and that enforcement of the litigation forum selection prohibition is questionable, at best. Why should arbitration receive preferential treatment from a federal policy standpoint if there are also strong federal interests at stake that weigh in favor of validating forum selection clauses? The strong public policy favoring arbitration is to enforce private agreements on their terms and that same policy of respecting liberty of contract is present when enforcing forum selection clauses.

Most federal court decisions, of which Caribbean Restaurants v Burger King Corporation, 2014 WL 2465133 (D.P.R. June 3, 2014)(Perez-Gimenez, J) is the most recent, have enforced forum selection clauses in dealer's contracts governed by Law 75. Federal courts have reasoned that important federal interests of respecting liberty of contract and freedom of commerce outweigh parochial provisions in legislation like Law 75 requiring litigation of dealer disputes in home courts. Further, federal courts have predicted that the Supreme Court of Puerto Rico would, after a series of decisions adopting federal law on the enforcement of forum selection clauses, disregard the prohibition in Law 75 and give more weight to federal policy interests.

Wait. Is it so clear? An intermediate appellate court decision in Caribe RX v. Grifols Inc., 2014 WL 2527399 (TA April 14, 2014) bucks the trend and it does, in the most simplistic and superficial of holdings: Article 3-B of Law 75 means that the clause in the distributor agreement providing for litigation in North Carolina, U.S.A. is illegal and that's dispositive. Forget that federal courts over the past decade have held to the contrary, or that Puerto Rico's highest court has been predicted to validate such a clause in a Law 75 contract. No mention was made of those federal decisions on point.

Never mind that the distribution agreement in Grifols was valid, there was negotiation between sophisticated commercial parties, consent and valid consideration. No fraud or duress etc. Never mind either that North Carolina, the chosen forum in Grifols, predictably would have been led to apply Law 75's just cause requirement from its adoption and application of the Restatement of Conflict of Laws. The forum selected in Grifols was not a rogue foreign state. The Puerto Rico dealer did not have to litigate with Grifols in Iraq or Syria. This would not be Mr.Tom Hanks poised as Captain Phillips had he been contractually required to litigate in Somalia a case against his carrier-employer for his damages resulting from his abduction and torture on Somalia's coastline. It is after all North Carolina, U.S.A.

Is Grifols a one of its kind decision? Is the message that contracts in Puerto Rico should not be respected? If so, how can that result be reconciled with the strong, if not imperative, public policy in Puerto Rico's legislation enacted to attract foreign capital investment? How is the Grifols decision conducive for Puerto Rico to establish the "business friendly" environment that the Federal Reserve Bank of New York recommended in its report as one of the steps for Puerto Rico to climb out of our economic malaise? This Grifols ruling is under the radar screen but the repercussions for business interests in Puerto Rico are huge.

In the meantime, and subject matter jurisdiction permitting, who would blame the principal for choosing to litigate PR dealer disputes in the federal forum? Forum shopping takes a new twist in PR dealer contract cases involving choice of forum provisions.

Stay tuned. Maybe the PR legislature will listen and amend Law 75 or the PR Supreme Court will pay attention to take action when the proper case comes before it.

The author represented Grifols in the case.

Courts are mindful of commercial "reality" when deciding competing summary judgment motions in Law 75 cases

In Casco Sales v. John Deere, 2014 WL 4233241 (D.P.R. Aug. 26, 2014)(Gelpi, J.), the dealer sued the principal for constructive termination, impairment, and unjustified termination of contract under Law 75 and for fraudulent inducement or "dolo" to enter into a settlement agreement. Plaintiff Casco Sales had been the exclusive dealer in Puerto Rico of the John Deere construction equipment line for decades.

Supported by an expert report, Casco claimed damages of $1.6 million for five years of net profits and loss of goodwill if the termination occurred in March, 2013. Had the base period of the termination been in 2009, damages computed under Law 75 were $4.6 million. A steep decline in the construction industry and the demand for construction equipment over that recessionary five year period explain the discrepancy in the financial results and the significantly lower measure of damages.

Casco Sales alleged that John Deere had fraudulently induced it to settle a prior Law 75 federal case in 2009 based on representations in the settlement agreement that it would cooperate to grow sales and it breached those representations. Thus, recovery for fraud (dolo) includes all damages whether or not foreseeable, including the actual damages Casco Sales would have recovered under Law 75 had the case not settled with 2009 as the base period. It is a fraud claim under the Civil Code that is related to the success of a showing of impairment under Law 75.

What triggered the second lawsuit was that in March, 2013, John Deere notified the unilateral termination of the distributor agreement. John Deere alleged that failure to pay bills on time, failure to comply with new model qualification requirements, among other alleged breaches of contractual provisions, were just cause for termination.

The dealer's termination had a tormented history of its own. As noted, in 2009, Casco Sales sued John Deere in federal court for impairment of contract under Law 75 alleging that John Deere had unilaterally altered credit or sales terms and had been arbitrary in their business dealings. In 2009, the case settled and the parties resumed their business relationship. Three years later, and coincidentally after the three-year caducity period in Law 75 expired, in December 2012, John Deere refused to honor a substantial purchase order of $264,000 placed by Casco Sales for the sale of an excavator because it claimed that the dealer was not qualified to serve that machine. Yet, two months later, John Deere would have sold through Casco Sales a similar machine to one of its national accounts in Puerto Rico, although Casco Sales had not completed the same training requirements. Casco alleged that this refusal to deal affected its cash flow and the ability to pay bills in full and was an unjustified impairment and constructive termination of contract.

The Court denied the parties' competing motions for summary judgment finding genuine and material disputes of fact and citing the First Circuit's Welch case for the proposition that just cause generally involves issues of fact precluding summary judgment. Because the Court understood that the fraud claim under the Civil Code was tied to the success of the Law 75 impairment claim it also survived summary judgment.

The decision is notable for a few other points.

First, when it is alleged that the principal refuses to honor a purchase order without just cause, Law 75 activates the rebuttable presumption of lack of just cause. Thus, the principal has the burden of proof of justifying its decision to refuse to deal and the actual subsequent termination.

Second, the Court declined to accept Casco Sales' invitation to navigate unchartered waters and hold that Law 75 recognizes a right of action for constructive termination. In dicta, the Court opined that such a claim would require a court to legislate for it does not appear to be codified in the statute. The Court construed Casco Sales' constructive termination claim as "emphasizing" the extent or degree of the impairment.

Third, and perhaps most important when it comes to surviving an MSJ for alleged lack of timely payment, the Court held "...to ignore the possibility that John Deere’s refusal to honor the purchase order (in December 2012) may have impacted Casco’s ability to timely pay its debt (before the termination in March 2013) would ignore reality. This is yet another issue that turns on fact."

Casco Sales alleged that the dealer's contract in this case did not define payments on time as an essential obligation. The Court cited First Circuit precedent under Law 75 excusing the timeliness of payments where there has been some conduct attributable to the principal that has contributed to payment delays. The Court denied the parties' "substantial" and competing MSJ's.

This author represents Casco Sales in that case.

Is an automobile manufacturer obligated to reimburse sales and use taxes (IVU) levied on repair parts used by the dealer in warranty repairs and maintenance services?

The case at hand, Autogermana, Inc. v. BMW of North America, 2014 WL 2159557 (D.P.R. May 23, 2014)(BJM), involves interesting issues of contract interpretation in the context of claims for impairment of contract under Law 75. Does a refusal to reimburse the dealer for IVU taxes impair contractually-acquired rights, the litmus test for an impairment claim under Law 75? Navigating the waters of the Civil Code, the canons at issue include: “contract terms are clear when lucid enough to be understood in one sense alone…”; “where a contract is ambiguous or silent on an issue, the intent of the parties at the time of contracting controls”; “the terms of a contract should be read as a whole…”; and where a contract dispute centers on the intent of the parties, summary judgment is disfavored but not precluded.

In 2006, Puerto Rico enacted the IVU of 5.5% for the Commonwealth and 1.5% for the municipalities. Under a closing agreement with the Treasury, Autogermana, a BMW dealer, paid to the Treasury over $728,000 in back IVU taxes for parts used in repairs and maintenance services between 2006 and 2010. Autogermana reached a similar agreement with the Municipality of San Juan and paid over $74,000. While BMW reimbursed Autogermana for IVU taxes prospectively after 2010, it refused to reimburse it for the prior years. And a lot of money was at stake.

That’s where the contractual documents come into play and the Court found competing and conflicting inferences that preclude summary judgment. For the dealer’s benefit, the manufacturer’s reimbursement policies provide that dealers are entitled to recover reasonable and justified costs associated with warranty repairs. The Court found an ambiguity as to whether the parties intended to reimburse IVU taxes on parts used for repairs and maintenance. For the manufacturer’s benefit, the documents provide that dealers receive a 40% handling charge (reimbursement or payment) for parts and warranty repairs and this reasonably could be meant to include sales and use taxes; and the IVU was not contemplated as a specific reimbursable item. The solution? Let the jury decide.

For its part, BMW moved for summary judgment relying on a quasi-statute of limitations in the contract for submitting warranty claims within a specific time frame, provisions that the Court also found to be ambiguous. The Court found ambiguity as to when the 30 day deadline began to run to submit the claim. If it was from the date of actually incurring the expense, as opposed to the last repair, then a jury could reasonably find that the 30 day period was not a bar because the claim accrued in 2011 with the closing agreement and by then, BMW had been on notice of the claim. All motions for summary judgment were, therefore, denied.

Incorrect advice under Law 75 results in legal malpractice

It has been judicially settled that Law 75 contracts, unlike civil contracts with indefinite terms, are not terminable at will by the principal unless there is just cause. Because of public policy considerations, a Law 75 contract does not expire automatically at the end of its term, unless there is just cause to refuse to renew or terminate.

These legal precepts under Law 75, as well as the variable standards for legal malpractice claims depending on whether those turn on pre-litigation advice or malpractice in ongoing litigation (applying doctrine of a case within a case), causation, damages and insurance coverage, are at the heart of the controversy in Citrus World, Inc. v. Ferraiuoili et. al., 2014 WL 1007744 (D.P.R. March 14, 2014)(JAG/SCC)(granting in part and denying in part cross motions for summary judgment).

The imbroglio began when the principal Florida Natural, a producer of fresh orange juice, unilaterally cancelled the Puerto Rico distributor’s non-exclusive contract. Not surprisingly, the distributor Méndez & Co. sued Florida Natural in federal court for wrongful termination and damages under Law 75. During discovery, the principal explained that the agreement had expired on its terms, so essentially it believed there was no agreement in effect and had no obligation to continue the relationship. As a backup affirmative defense, the principal alleged that the distributor had breached certain marketing obligations (that provided just cause) but those obligations had not been part of the four corners of the contract. On this contractual interpretation issue, Méndez prevailed on partial summary judgment and successfully persuaded the Court (J. Fusté) to strike the just cause defense for it relied on extrinsic evidence. Without proof of just cause, the termination of a non-exclusive contract, the entry of partial summary judgment, and proof of actual damages, the case fell into mediation and promptly settled a few weeks before trial.

After the settlement, Florida Natural went after its trial lawyers and its insurer in the now pending federal malpractice case. There, Florida Natural waived the attorney client privilege to put at issue counsel’s communications and claimed that it terminated the non-exclusive agreement after relying on an incorrect opinion of counsel that it had expired on its own terms. While the Court (Sylvia Carreno, U.S. Magistrate Judge) agreed in her report that litigation counsel gave negligent advice about existing Puerto Rico law on that issue, it determined that there were issues of fact as to whether Florida Natural contributed to the negligence by terminating the agreement and if the firm’s incorrect legal advice proximately caused the damages. The court also ruled that litigation counsel had been negligent by not filing a compulsory counterclaim for collection of monies based on the incorrect belief that it required an independent basis of subject matter jurisdiction. As to the insurer, it denied the MSJ to the extent there is coverage under the policy for the legal fees incurred by Florida Natural in the underlying litigation, but there is no coverage for the fees incurred in the malpractice case unless otherwise required by the policy. The parties’ respective MSJ’s were granted in part and denied in part.

Say Cheese: is written corroboration needed for exclusivity?

In Distribuidora VW, Inc. v. Old Fashioned, Inc., 2014 WL 1309955 (D.P.R. March 31, 2014)(J, García-Gregory), plaintiff, a Puerto Rican cheese distributor, sued the defendant-principal, a Wisconsin cheese manufacturer, claiming improper termination of their 10 year-old relationship under the sales representative Law 21 and for breach of contract. The distributor had continued without a written agreement the business relationship that existed between the prior distributor and the manufacturer.

Defendant moved for summary judgment arguing that plaintiff could not prove exclusivity, an essential element of a Law 21 claim. Defendant’s primary argument was that the First Circuit’s decision in Garita Hotel v. Ponce Federal, 122 F. 3d. 88, 89 (1st Cir. 1997) compelled the conclusion that the Commerce Code required written corroboration of all the essential elements of a contract and there was no evidence to corroborate a written exclusivity appointment. Not so fast, retorted the District Court. Garita is “wrong”. Why? For one thing, according to the Commerce Code, commercial contracts are valid and binding regardless of “the form”, but the “testimony of witnesses shall not in itself be sufficient” to prove the existence of “a contract” unless it concurs with other evidence. It is the existence of the contract that cannot be admitted on the basis of oral testimony alone but must concur with other evidence. Citing Vila & Hmnos, 17 P.R. Trans. 987 (1986). If you read the plain language of Article 82 of the Commerce Code this strikes me as being right; that is, unless Garita was right.

While no one appeared to dispute the existence of a sales representation agreement from a course of dealings, including business records that must have corroborated the existence of an agreement, the Commerce Code did not require written corroboration of the exclusivity element or any other essential element of that verbal contract. “In a nutshell, after a contract is proven to exist with something more than just oral testimony, the contours of the contract’s scope may be mapped with whatever admissible evidence is available.” This brave holding tests the waters of First Circuit precedent on an issue of Puerto Rico substantive law and is admittedly a significant departure from what distribution law practitioners have understood or misunderstood for over two decades.

Further, the Court noted two legal permutations of exclusivity: where the defendant agreed not to appoint another agent or sell directly in the territory or the agent agreed to sell exclusively the products of the principal and no other competing product. Because the Court found a dispute of material fact as to whether there was an exclusive contract from a course of dealings as plaintiff was de facto the only distributor, the Court denied the motion for summary judgment. The Court determined that it was for the jury to give weight to any “smoking gun evidence”, if it existed, whether the principal “made an affirmative concession of exclusivity to the representative.” Finally, the Court dismissed the breach of contract claim because there was no evidence that the contract had a definite period; thus, was terminable at will.

Has the bar been raised for a distributor to prove exclusivity?

After it had been relatively clear in the jurisprudence that the traditional requirements for preliminary injunctive relief do not apply automatically in Law 75 cases, in light of the policies served by the Act, in Next Step Medical v. Bromedicon, CC-2012-0647 (Mar. 6, 2014), the Supreme Court of Puerto Rico accepted an invitation to settle once and for all the issue of the governing standards for preliminary injunctions in Law 75 cases.

There, the distributor Next Step sold and distributed medical equipment to hospitals in Puerto Rico, including those of the principal Bromedicon, without a formal written agreement. Claiming to be the only one and the exclusive distributor of Bromedicon in Puerto Rico, Next Step filed suit for impairment of contract under Law 75 when Bromedicon began to sell its products through another distributor. At Next Step’s insistence, Bromedicon had sent a letter to the trade that Next Step was an “authorized distributor.” There was no evidence corroborating exclusivity, except for the distributor’s contention that it had been de facto over the years the sole and exclusive distributor in Puerto Rico. The Court of First Instance denied a request for a preliminary injunction and the intermediate court of appeals denied certiorari. Undeterred, the dealer appealed.

The Supreme Court affirmed the order denying the preliminary injunction. After finding that this dealer qualified for protection under Law 75, the Court held that the statutory remedy of a preliminary injunction is not automatic, but rather the analysis requires a balance of the interests of all the parties and the public policy behind Law 75. The opinion is unexceptional for the part that it reiterates precedent that the classic standards for preliminary injunctions in civil cases are treated as guidelines and this should mean that a court could grant or deny a preliminary injunction in a Law 75 case when those factors are weighed with the other factors (e.g., policies and balance of interests in Law 75). What is exceptional about the case is that, although the plaintiff fit the bill of a Law 75 dealer, it failed to prove with “clear and convincing evidence” that it was an exclusive distributor. In the end, the dealer failed to prove likelihood of success for a preliminary injunction, one of the factors deserving the most weight in ordinary civil cases, and this doomed the dealer’s case.

What can also be inferred is that, without a clear and complete written exclusive distributor agreement, a distributor relying on verbal evidence or a course of dealings of de facto exclusivity will have to prove with “clear and convincing” evidence(evidencia clara y contundente in Spanish)of the principal’s agreement to grant exclusivity. It is not enough to prove the principal’s ratification of its appointment of the dealer as an authorized distributor. More will be required.

It is open to debate if the Court intended to create a new standard for the sufficiency or weight of the evidence in Law 75 impairment cases, beyond the preponderance of the evidence, or if a new standard does apply in the context of a request for extraordinary and equitable relief and there is no conclusive evidence of an exclusive written dealer agreement. The "clear and convincing" terminology will have repercussions in pending and future Law 75 cases.

One on one interview with Mr. José Arturo Alvarez, President of Méndez & Co. Inc., a leader in the distribution industry

The blog has a fresh focus. Besides analyzing legal developments, I will also report the perspective of business leaders in the distribution industry whose views should be important to comprehend the impact of government regulation and market realities in Puerto Rico. The goal is to convey the collective sentiment of business leaders and trade organizations whose views may be lost in the coverage afforded by traditional media.

This is the first of a series of periodic one on one chats with industry leaders in Puerto Rico about market conditions, challenges and opportunities that lie ahead for the distribution industry. The author’s first exclusive interview was with Mr. José Arturo Alvarez, President of Méndez & Co. Inc., a company founded in 1912 and one of the leading food, beer and liquor distributors in Puerto Rico.

RFC. How do you see the state of the distribution industry in Puerto Rico at the moment? JAA. “It is challenging and highly competitive. There is pressure to be more efficient and to reduce operating costs. I do not see significant growth in the demand for food products and the market is showing signs of decline. There are more supermarkets that are necessary to meet demand. Factors contributing to a slowdown in the industry include migration (there are less mouths to feed), high operational costs to run the business, a local government imposing more tax burdens, permits, regulations and oversight, and a generalized feeling of malaise in the population.”

RFC. What effect would the implementation of a value added tax (IVA) have in the distribution industry? JAA. “An IVA would impose on the distributor the obligation to collect the tax on the product at the port of entry and pay the tax to the authorities before the product is sold to the consumer. During the period of time it takes for the distributor to claim and receive a tax credit, the distributor ends up financing the sale to the tune of at least 7%. The effect is an increase in the distributor’s receivables and this has a negative impact on cash flow.”

RFC. There’s a lot of talk about the “furgonazo” e.g., the fee of roughly $70 imposed on each container shipped to our shores. What is your view about that? JAA. “This is a surcharge imposed supposedly to inspect containers in order to detect the illegal trafficking of weapons and drugs. Thing is, of the thousands of containers that are shipped to P.R. each year, only one that I am aware of has been found in violation and that was because the federal government alerted the local authorities. A federal court in part decided that it was unreasonable to collect a fee for containers that have never been inspected as well as for break bulk cargo. My view is that the surcharge is unreasonable as an added cost which at the end of the day is passed on down the chain to consumers and is ineffective for the intended purpose. This is another example of sunken or hidden costs that add to the cost of business and to the price for goods and services.”

RFC. There’s also litigation about the “patente nacional” or the tax imposed on gross receipts. Does this tax have a disproportionate impact on the retail and distribution sector and if so, why? JAA. “It does cause more impact to the food industry because the profit margins for food products are generally lower. Because the margins are low and the tax is imposed on gross receipts, I am aware of studies where businesses accounting for 40% of the volume in the food industry in P.R. will see their effective tax rates jump to over 80%. This will inevitably lead to more bankruptcies. While a court validated the constitutionality of the tax, the trial court determined that the Secretary of the Treasury had to regulate the practice of granting tax waivers. What the Secretary has done is to determine that businesses whose gross profits exceed 6.66% will not be able to claim any waivers. It remains to be seen if that’s arbitrary or not and if the “patente” itself is fair for our industry.”

RFC. How important is the federal assistance program subsidy (PAN) to the consumption of food products in P.R.? JAA. “Very important. Every year the federal Department of Agriculture transfers roughly $2 billion to the P.R. Department of the Family for appropriations to persons in need. 25% of the allocated amount can be used by consumers as cash to purchase items in supermarkets that are not strictly food. The 25% cash allocation should continue until 2017 but studies are underway to determine if the allocation serves the public good. It is not that the total subsidy will change; it is whether consumers will be able to use 25% in cash to purchase non-food items.”

RFC. There are critics who say that distributors are intermediaries that make products and services more expensive to consumers. What would you say to those critics in terms of the value that an efficient distributor can add the sale of products and services? JAA. “For distributors to remain in business, they have to provide relevant services. Those include: adequate warehousing, storage and inventory of products, support marketing and advertising efforts, distribute the product down the trade to the ultimate point of sale, make sure that there’s sufficient product in the shelves, rotate and inspect for damaged goods, assume those costs of merchandising, deal with our clients- the retailers, do collections etc. There’s a reason for why our customers continue to buy from us and use our services, and that is, we provide relevant services for them.”

RFC. What is the future of Law 75? JAA. “It has served distributors and the market well. I hope it continues in effect.”

RFC. How is Méndez & Co. prepared to meet the challenges that lie ahead? JAA. “First, by being more efficient and reduce costs. Second, by maximizing the use and capacity of our physical facilities. Third, by continuing to serve our lines well and look for new lines. For instance, there are a number of multinationals with direct sale and marketing operations in P.R. that I believe would be more efficient in our hands. Our structure allows us to maximize the distribution, logistics and reduce costs. Fourth, by being in the forefront to embrace new technologies so that our employees can provide utmost service.”

The tide is turning and our local civil courts are making great strides

Our local courts are making significant progress in the efficient administration of justice in civil cases. Speaking as a civil practitioner, I’ve been one to say and still do that the federal district court in Puerto Rico is efficient and produces consistently uniform and predictable outcomes. Despite the “specter” of a jury, a stateside or foreign defendant would invariably prefer to litigate in the federal court if it had a choice of forum. Our federal judiciary is top notch and judicial review in the First Circuit stands as a reliable safety net to correct legal errors in the court below. And, lifetime appointments are designed to guarantee judicial independence in the decision-making process.

But, over the last ten years, the federal bench in Puerto Rico has been swamped by multi-defendant criminal cases which, adding to budget constraints, have created a backlog in the resolution of civil cases. Dispositive motions in federal court may stand submitted for six months or more without a ruling. Dispositive motions are rarely heard for oral argument and the pretrial conference may be the only or the final resting place to argue motions. Jury trials are two or three years down the road, if not more. To be sure, experiences vary depending on the judge and the complexity of the case. There is an increasing pressure to mediate and settle cases or to consent to the jurisdiction of U.S. Magistrate Judges. That is fine to deal with heavy caseloads but may not be the best or most effective solution for a litigant that needs emergency relief to save its business.

Should a party needing emergency relief go to federal court or try our local courts? My “default or automatic setting” primarily for the defense had been a preference for the federal court at least in Law 75 cases. But if you represent a client who is a dealer in a Law 75 case or a sales representative in a Law 21 case, think twice, for the local courts may be your best option, even without the right to trial by jury. If a dealer needs emergency or equitable relief, the local court, specially in San Juan, may be your best option. The defendant could benefit from an expedited proceeding too.

The Court of First Instance in San Juan has two civil trial judges assigned solely to hear requests for equitable relief, such as injunctions, mandamus etc. These experienced civil judges have become specialized in matters that require urgent and immediate attention. There is no room for delay. Just this month, it is commendable that our local judiciary implemented an electronic filing system for the special emergency courts which should expedite the filings and make litigation more cost effective. Although the civil dockets of the judges in the emergency court are huge and they lack the resources that federal judges have with multiple law clerks and unlimited access to electronic research, the cases in these special civil local courts are being heard and resolved quickly. Dispositive motions are heard with oral arguments in which counsel for both sides are afforded an adequate opportunity to argue (not counted in minutes) and the judges are keen, prepared and ready to grill the lawyers on the facts and the law. The long-established practice endorsed by the Supreme Court of P.R. of lawyers drafting opinions and orders to assist the local court judges certainly helps to expedite resolution of disputes and make up for the limited resources that our local court judges have.

Local judges in these emergency or special civil local courts are getting things done and quickly with limited resources. There are still situations in Law 75 cases where no matter what a defendant would prefer the federal forum because there is a body of developed federal case law or there is a federal question in the pleadings.

Winds are changing. There is reason for defendants to rethink before removing a case to federal court. Our local courts can be the right forum selection for a fair, prompt, and cost effective resolution of commercial disputes.

An employee must abide by a trade secrets injunction but is free to compete and solicit his former employer’s clients

There have been few if any reported cases until now involving the recently-enacted Puerto Rico Law of Commercial and Trade Secrets. It is not difficult to discern that controversy is likely to arise at the intersection between non-competition agreements (especially in their absence) and confidentiality obligations created by the new trade secrets law.

As shown by American Paper Corporation v. Irizarry, 2013 WL 5522747 (TCA Aug. 9, 2013), confidentiality and non-competition agreements have ramifications in distribution cases. There, an employee of plaintiff American Paper, a Puerto Rico distributor of paper products, defected to form his own company to compete for the same business. Not thrilled by the prospect that the defendant–employee would make a living and form a company to compete, plaintiff sued the employee under Puerto Rico’s trade secret law and sought enforcement of a non-compete agreement.

The employer alleged that one of its most important customers transferred business to the employee’s new company. The trial court issued an order compelling defendant not to use or divulge plaintiff’s “trade secrets” which include contact persons of plaintiff’s clients, profit margins, and marketing strategies. As far as reaching out to bar defendant from using his knowledge or information to compete with the clientele, the trial court invalidated the non-competition agreement as a matter of Puerto Rico law.

Only plaintiff appealed the order invalidating the non-competition agreement. In granting certiorari and affirming the judgment below, the appellate court held that the non-compete obligation was overbroad for it was not restricted to commercial activities similar to his employer and was excessive in terms of the clients that could not be served. “Said another way, Mr. Irizarry could not make any type of solicitation or offering of service directly or indirectly to no one, that has been a client of the employer or is engaged in the paper distribution business.” (translation ours). Because the non-compete clause is legally incapable of being reformed by the court, the entire agreement was declared to be null and void.

The trial court’s injunction under Puerto Rico’s Trade Secrets Law and the appellate court's invalidation of the non-compete agreement can be reconciled. This case demonstrates that a non-compete agreement is severable from an obligation imposed by law or required by contract to preserve the confidentiality of trade secrets. A prohibition from using or divulging confidential information or trade secrets does not necessarily extend in scope to prohibit the employee from using his knowledge, information, or business acumen to compete or solicit business from his employer’s customers at least when there is no non-competition agreement or it is determined to be invalid.

During 2013, local intermediate appellate courts remained active in Law 75 cases

In Marchosky Kogan v. Antillas Marketing, 2013 WL 5522664 (TCA Aug. 20, 2013), the local appellate court affirmed the dismissal of a tortious interference and damages action finding just cause under Law 75 for termination of a sub-distribution agreement.

Plaintiff Marchosky, an individual, was a sub-distributor of Defendant Antillas Marketing, the defendant and the distributor-grantor. The principal Golden Omega Inc. had appointed Antillas as the exclusive distributor of Linoflax products in Puerto Rico. A google search of Linoflax USA reveals that Linoflax products are health and nutritional supplements. The sub-distributor filed suit in the Court of First Instance Humacao Part against the distributor and others (apparently not against the principal) alleging a breach of exclusive sub-distribution rights in a designated region. The claims sounded in tortious interference and damages for emotional distress. In the answer and counterclaim, Defendants denied the existence of an exclusive contract, asserted just cause, and that plaintiff’s acts breached Antilles’ agreement with its principal.

After a bench trial, the trial court found for defendants and dismissed both the complaint and the counterclaim for damages. The judge determined that there was an insufficient basis to pierce the corporate veil and no actionable claim existed under Law 75 as there was just cause and no evidence of actual damages. It is unclear from the opinion if the issue of just cause should have been decided without joinder of the principal as a party or if the distributor had standing as the grantor to allege just cause (sub silentio it did). Plaintiff appealed. The appellate court affirmed the dismissal of the action. The appellate court determined that the trial court had correctly found just cause for termination based on a breach of an essential contractual obligation or acts that adversely and substantially affected the principal’s or grantor’s interest in Puerto Rico.

The sub-distributor had encroached upon an exclusive territory of other resellers which affected the marketing activities of other distributors. The sub-distributor had also refused to collect and administer payments by certain customers within the assigned territory; issued post-dated checks; and made hiring decisions and negotiated prices with pharmacies without obtaining the distributor’s authorization. It is unclear if any of those actions breached an essential contractual obligation. After applying a deferential standard of review to factual determinations and judgments about the weight or credibility of the evidence, the court held that the totality of the circumstances established that plaintiff’s actions and omissions caused the defendant-grantor to suffer financial harm and cash flow problems which adversely affected the “good functioning of the business.”

An interesting and unusual case came up in Jimenez Ayala v. BC Services, Inc., 2013 WL 4073349 (TCA May 31, 2013). The case involves the issue whether a Law 75 counterclaim may be interposed to defeat a summary procedure to adjudicate an eviction action. There, BC Food Services signed Lease and Operating Business Agreements (“acuerdos de negocio en marcha”) to lease real property and operate the restaurant franchise of Bebo’s Café in Condado. Plaintiff paid money of what was ostensibly a royalty or license fee to use the mark or brand of Bebo’s Café. After expiration of the agreement, Plaintiff filed suit under Law 75 for injunctive relief to compel the lessor or franchisor to renew the agreements. The case settled by stipulation and a dismissal without prejudice. The stipulation required the lessee to pay back rent and commit to pay monthly rent in consideration for a renewal of the agreements. The lessor filed an eviction action when the lessee fell behind in its payments and invoked the summary procedure which does not legally permit any defenses other than proof of payment of rent. Lessee counterclaimed for wrongful termination under Law 75. The trial court in San Juan found for plaintiff and evicted defendant which appealed. On appeal, the lessee argued that the trial court erred when it failed to convert the action into an ordinary proceeding to adjudicate the Law 75 claim. The trial court found that the lessee breached the settlement agreement by issuing rent payments with insufficient funds. The appellate court affirmed and ruled that the Law 75 counterclaim would be decided in the ordinary course and was legally inadmissible to convert the summary eviction procedure into an ordinary action. The majority opinion did not decide any issues under Law 75.

One judge (Hon. Migdalia Fraticelli Torres) dissented. The dissent reasoned at length that the lease agreements were also license or franchise agreements that deserved special protection under Law 75. The dissent reasoned that, as a matter of public policy, the counterclaim under Law 75 should receive treatment as an ordinary action when joined in a summary eviction proceeding. The dissent emphasized that market conditions and the diminished value of rental properties required the lessee to renegotiate the monthly rent of $52,000 and that the lessor’s refusal to negotiate in good faith was not just cause for termination under Law 75. The claims, said the dissent, should have been consolidated and allowed both to proceed in the ordinary course.

In V. Suarez v. Bacardi Corporation, 2013 WL 4037215 (TCA June 25, 2013), cert. pending, the appellate court affirmed the trial court’s confirmation of a final partial arbitration award in favor of Bacardí and dismissal of the sub-distributor’s motion to vacate. A Panel of the AAA determined that contractual provisions for the computation of damages in the event of an unjustified termination of the sub-distribution agreement were valid and enforceable under Law 75 and did not have the effect of waiving any rights. The local appellate court ruled that there was no cause under the Federal Arbitration Act, which was the exclusive procedure, to set aside the award. The sub-distributor filed a petition for certiorari in the Puerto Rico Supreme Court. On related note, the U.S. Supreme Court denied certiorari of the Judgment of the First Circuit in Bacardí International Limited v. V. Suarez & Co., 719 F. 3d 1 (1st Cir. 2013) abstaining under Colorado River from deciding Bacardi’s parallel federal proceeding to confirm the award. Note: the author is lead counsel for Bacardi in these cases.